<PAGE>
AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON JANUARY 23, 1998
REGISTRATION NO. 333-35759
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
------------------------
AMENDMENT NO. 4
TO
FORM S-1
REGISTRATION STATEMENT
UNDER
THE SECURITIES ACT OF 1933
------------------------
BMJ MEDICAL MANAGEMENT, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
------------------------
<TABLE>
<S> <C> <C>
DELAWARE 8099 65-0676079
(STATE OR OTHER JURISDICTION OF (PRIMARY STANDARD INDUSTRIAL (I.R.S. EMPLOYER
INCORPORATION OR ORGANIZATION) CLASSIFICATION CODE NUMBER) IDENTIFICATION NUMBER)
</TABLE>
------------------------
4800 NORTH FEDERAL HIGHWAY, SUITE 101E
BOCA RATON, FLORIDA 33431
(561) 391-1311
(ADDRESS, INCLUDING ZIP CODE, AND TELEPHONE NUMBER,
INCLUDING AREA CODE, OF REGISTRANT'S PRINCIPAL EXECUTIVE OFFICES)
------------------------
NARESH NAGPAL, M.D.
PRESIDENT AND CHIEF EXECUTIVE OFFICER
4800 NORTH FEDERAL HIGHWAY, SUITE 101E
BOCA RATON, FLORIDA 33431
(561) 391-1311
(NAME, ADDRESS, INCLUDING ZIP CODE, AND TELEPHONE NUMBER,
INCLUDING AREA CODE, OF AGENT FOR SERVICE)
------------------------
With copies to:
<TABLE>
<S> <C>
LAWRENCE G. GRAEV, ESQ. ROBERT ROSENMAN, ESQ.
O'SULLIVAN GRAEV & KARABELL, LLP CRAVATH, SWAINE & MOORE
30 ROCKEFELLER PLAZA 825 EIGHTH AVENUE
NEW YORK, NEW YORK 10112 NEW YORK, NEW YORK 10019
(212) 408-2400 (212) 474-1000
</TABLE>
------------------------
APPROXIMATE DATE OF COMMENCEMENT OF PROPOSED SALE TO THE PUBLIC: As soon as
practicable after this Registration Statement becomes effective.
If any of the securities being registered on this Form are to be offered on
a delayed or continuous basis pursuant to Rule 415 under the Securities Act of
1933, check the following box. / /
If this Form is filed to register additional securities for an offering
pursuant to Rule 462(b) under the Securities Act, please check the following box
and list the Securities Act registration statement number of the earlier
effective registration statement for the same offering. / /
If this Form is a post-effective amendment filed pursuant to Rule 462(c)
under the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering. / /
If this Form is a post-effective amendment filed pursuant to Rule 462(d)
under the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering. / /
If delivery of the prospectus is expected to be made pursuant to Rule 434,
please check the following box. / /
------------------------
THE REGISTRANT HEREBY AMENDS THIS REGISTRATION STATEMENT ON SUCH DATE OR
DATES AS MAY BE NECESSARY TO DELAY ITS EFFECTIVE DATE UNTIL THE REGISTRANT SHALL
FILE A FURTHER AMENDMENT WHICH SPECIFICALLY STATES THAT THIS REGISTRATION
STATEMENT SHALL THEREAFTER BECOME EFFECTIVE IN ACCORDANCE WITH SECTION 8(A) OF
THE SECURITIES ACT OR UNTIL THE REGISTRATION STATEMENT SHALL BECOME EFFECTIVE ON
SUCH DATE AS THE SECURITIES AND EXCHANGE COMMISSION, ACTING PURSUANT TO SAID
SECTION 8(A), MAY DETERMINE.
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
<PAGE>
INFORMATION CONTAINED HEREIN IS SUBJECT TO COMPLETION OR AMENDMENT. A
REGISTRATION STATEMENT RELATING TO THESE SECURITIES HAS BEEN FILED WITH THE
SECURITIES AND EXCHANGE COMMISSION. THESE SECURITIES MAY NOT BE SOLD NOR MAY
OFFERS TO BUY BE ACCEPTED PRIOR TO THE TIME THE REGISTRATION STATEMENT BECOMES
EFFECTIVE. THIS PROSPECTUS SHALL NOT CONSTITUTE AN OFFER TO SELL OR THE
SOLICITATION OF AN OFFER TO BUY NOR SHALL THERE BE ANY SALE OF THESE SECURITIES
IN ANY STATE IN WHICH SUCH OFFER, SOLICITATION OR SALE WOULD BE UNLAWFUL PRIOR
TO REGISTRATION OR QUALIFICATION UNDER THE SECURITIES LAWS OF ANY SUCH STATE.
SUBJECT TO COMPLETION, DATED JANUARY 23, 1998
PROSPECTUS
4,000,000 SHARES
[LOGO]
COMMON STOCK
All of the 4,000,000 shares of Common Stock offered hereby are being sold
by the Company. Prior to this offering, there has been no public market for the
Common Stock of the Company. It is currently estimated that the initial public
offering price will be between $9.00 and $11.00 per share. See 'Underwriting'
for a discussion of the factors to be considered in determining the initial
public offering price. The Common Stock has been approved for quotation on the
Nasdaq National Market ('Nasdaq') under the symbol BONS, subject to official
notice of issuance.
------------------
THE SHARES OFFERED HEREBY INVOLVE A HIGH DEGREE OF RISK.
SEE 'RISK FACTORS' COMMENCING ON PAGE 6.
------------------
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES
AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS
THE SECURITIES AND EXCHANGE COMMISSION OR ANY STATE SECURITIES
COMMISSION PASSED UPON THE ACCURACY OR ADEQUACY OF THIS PROSPECTUS.
ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE.
<TABLE>
<CAPTION>
PRICE TO UNDERWRITING PROCEEDS TO
PUBLIC DISCOUNT(1) COMPANY(2)
<S> <C> <C> <C>
Per Share............................................. $ $ $
Total (3)............................................. $ $ $
</TABLE>
(1) Does not include a $ non-accountable expense allowance to be
received by the Underwriters. See 'Underwriting' for indemnification
arrangements with the several Underwriters.
(2) Before deducting expenses payable by the Company estimated at $1.7 million.
(3) The Company has granted to the Underwriters a 30-day option to purchase up
to 600,000 additional shares of Common Stock solely to cover
over-allotments, if any. If all such shares are purchased, the total Price
to Public, Underwriting Discount and Proceeds to Company will be $ ,
$ and $ , respectively. See 'Underwriting.'
----------------------
The shares of Common Stock are offered by the several Underwriters subject
to prior sale, receipt and acceptance by them and subject to the right of the
Underwriters to reject any order in whole or in part and certain other
conditions. It is expected that certificates for such shares will be available
for delivery on or about , 1998, at the office of the agent of
Hambrecht & Quist LLC in New York, New York.
HAMBRECHT & QUIST
RAYMOND JAMES & ASSOCIATES, INC.
VOLPE BROWN WHELAN & COMPANY
, 1998
<PAGE>
ADDITIONAL INFORMATION
A Registration Statement on Form S-1 under the Securities Act of 1933, as
amended (the 'Securities Act'), including amendments thereto, relating to the
Common Stock offered hereby has been filed by the Company with the Securities
and Exchange Commission (the 'Commission'). This Prospectus does not contain all
of the information set forth in the Registration Statement and the exhibits and
schedules thereto. For further information with respect to the Company and the
Common Stock offered hereby, reference is made to such Registration Statement
and exhibits and schedules filed as a part thereof. A copy of the Registration
Statement may be inspected by anyone without charge at the Public Reference
Section of the Commission at Room 1024, Judiciary Plaza, 450 Fifth Street, N.W.,
Washington, D.C. 20549, and at the regional offices of the Commission located at
7 World Trade Center, Suite 1300, New York, New York 10048 and Northwest Atrium
Center, 500 West Madison Street, Suite 1400, Chicago, Illinois 60661. Copies of
all or any portion of the Registration Statement may be obtained from the Public
Reference Section of the Commission, 450 Fifth Street, N.W., Washington, D.C.
20549, upon payment of prescribed fees. The Commission maintains a WorldWide Web
site that contains reports, proxy and information statements and other
information regarding registrants that file electronically with the Commission.
Such reports, proxy and information statements and other information may be
found on the Commission's site address, http: //www.sec.gov. Copies of such
material also can be obtained from the Company upon request.
Statements made in this Prospectus as to the contents of any contract,
agreement or other document referred to are not necessarily complete. With
respect to each such contract, agreement or other document filed as an exhibit
to the Registration Statement, reference is made to the exhibit for a more
complete description of the matter involved, and each such statement shall be
deemed qualified in its entirety by such reference.
As a result of the Offering, the Company will become subject to the
information and periodic reporting requirements of the Securities Exchange Act,
as amended, and, in accordance therewith, will file periodic reports, proxy
statements and other information with the Commission. Such periodic reports,
proxy statements and other information will be available for inspection and
copying at the public reference facilities, regional offices and Web site
referred to above.
------------------------
Forward-Looking Statements. Certain statements contained in this
Prospectus, including statements regarding the anticipated development and
expansion of the Company's business, the intent, belief or current expectations
of the Company, its directors or its officers, primarily with respect to the
future operating performance of the Company and other statements contained
herein regarding matters that are not historical facts are 'forward-looking'
statements. Because such statements include risks and uncertainties, actual
results may differ materially from those expressed or implied by such
forward-looking statements. Factors that could cause actual results to differ
materially from those expressed or implied by such forward-looking statements
include, but are not limited to, the potential inability to affiliate with
physician practices, the potential termination of contractual relationships, the
potential inability of the Company to establish ancillary service facilities,
fluctuations in the volume of procedures performed by the practices' physicians,
changes in the reimbursement rates for those services, uncertainty about the
ability to collect the appropriate fees for services provided or ordered by the
practices' physicians, as well as other risks detailed in 'Risk Factors,'
'Management's Discussion and Analysis of Financial Condition and Results of
Operations' and 'Business.'
------------------------
CERTAIN PERSONS PARTICIPATING IN THIS OFFERING MAY ENGAGE IN TRANSACTIONS
THAT STABILIZE, MAINTAIN, OR OTHERWISE AFFECT THE PRICE OF THE COMMON STOCK,
INCLUDING BY ENTERING STABILIZING BIDS, EFFECTING SYNDICATE COVERING
TRANSACTIONS OR IMPOSING PENALTY BIDS. FOR A DESCRIPTION OF THESE ACTIVITIES,
SEE 'UNDERWRITING.'
2
<PAGE>
PROSPECTUS SUMMARY
The following summary is qualified in its entirety by the more detailed
information and financial statements including the notes thereto appearing
elsewhere in this Prospectus. Investors should carefully consider the
information set forth under the heading 'Risk Factors.' As used herein, the term
the 'Company' refers to BMJ Medical Management, Inc., a Delaware corporation;
the term 'Existing Practices' collectively refers to the 25 Practices that have
affiliated with the Company via management services agreements as of the date of
this Prospectus; and the term 'Practices' includes the Existing Practices and
other practices with which the Company may affiliate in the future. Unless
otherwise indicated, all information in this Prospectus (i) gives effect to a
5-for-7 reverse stock split of the Company's Common Stock to be effected
immediately prior to the Offering and (ii) assumes no exercise of the
Underwriters' over-allotment option.
THE COMPANY
The Company is principally a physician practice management company (a
'PPM') that provides management services to physician practices that focus on
musculoskeletal care, which involves the medical and surgical treatment of
conditions relating to bones, muscles, joints and related connective tissues.
The broad spectrum of musculoskeletal care offered by the physician practices
ranges from acute procedures, such as spine or other complex surgeries, to the
treatment of chronic conditions, such as arthritis and back pain. The management
services provided by the Company include physician practice and network
development, marketing, payor contracting and financial, administrative and
clinical information management. In addition, the Company, through its wholly
owned subsidiary, Orthopaedic Management Network, Inc. ('OMNI'), operates an
Independent Physician Association (the 'IPA') that negotiates and administers
payor contracts for the delivery of health care services by physicians and
physician practices that focus on musculoskeletal care on behalf of a specified
patient population. Since its formation in January 1996, the Company has
affiliated (the 'Affiliation Transactions') with 25 Existing Practices
comprising 117 doctors practicing in Arizona, California, Florida, Pennsylvania,
New Jersey and Texas by entering into management services agreements (the
'Management Services Agreements') and operates an IPA with 42 physicians in
Arizona.
The market for musculoskeletal care in the United States is significant and
growing. According to the American Academy of Orthopaedic Surgeons (the 'AAOS'),
total direct costs associated with the delivery of musculoskeletal care exceeded
$60 billion in 1988 and increased to approximately $72 billion in 1992. The
increase in expenditures can be attributed to various factors, including
improvements in medical technology, more active lifestyles which have resulted
in the growth of sports medicine and the overall aging of the population. In
1992, the 65-and-over age group represented approximately 12% of the U.S.
population, but accounted for more than half of all musculoskeletal care
expenditures. Historically, surgical and non-surgical orthopaedic specialists
have maintained separate practices; recently, however, musculoskeletal
physicians have begun to follow the consolidation trend seen elsewhere in the
health care industry.
The Company's goal is to develop the leading musculoskeletal network in
each of its markets by aligning the Company's interests with those of the
Practices' physicians. The Company has divided the United States into three
geographic regions, and selects specific markets based primarily on population
size, which must be large enough to support a viable musculoskeletal physician
network. The Company's strategy consists of (i) expanding into targeted new
markets by affiliating with leading musculoskeletal practices; (ii) continuing
to develop its existing markets by strengthening and expanding the Practices in
order to achieve significant local market presence; (iii) introducing ancillary
services to expand the breadth of care directly offered by the Practices'
physicians; and (iv) developing and implementing a disease management
information system to foster curative and palliative regimens, improve provider
and patient access to resources and technology and deliver cost-effective,
quality care.
Under the Management Services Agreements, the Company provides management,
administrative and development services to the Existing Practices, while the
Existing Practices retain, among other things, sole responsibility for all
aspects of the practice of medicine. The Company's revenues under the Management
Services Agreements are typically based on a specified percentage of Practice
revenues, generally 10% to 15%, rather than on a percentage of net operating
income. In addition, the Company typically assumes the Practices' clinic
overhead expenses and charges them back to the Practices at actual cost, and
receives two-thirds of savings
3
<PAGE>
realized through the Company's purchasing power. Pursuant to the Management
Services Agreements, the Company collects revenues on behalf of the Practices,
pays clinic overhead expenses and pays physician draws to the Practices. See
'Business--BMJ Operations.' The Company seeks to develop and maintain long-term
relationships with the Practices by providing physician performance incentives
through equity ownership in the Company, ensuring physician clinical autonomy
and participation in Practice governance and delivering national support
services on a regional basis. The Company believes that its affiliation model,
versus other existing models, provides less financial risk to the Company while
enhancing its relationships with the Practices' physicians.
In addition to a Management Services Agreement, the Company typically
enters into an asset purchase agreement (the 'Asset Purchase Agreement'), a
restricted stock agreement (the 'Restricted Stock Agreement') and a stockholder
noncompetition agreement (the 'Stockholder Noncompetition Agreement') with a
Practice that affiliates with the Company. Under the Asset Purchase Agreement,
the Company purchases from the Practice substantially all of those assets used
or generated by the Practice in the operation of the Practice. The Restricted
Stock Agreement governs the Common Stock issued by the Company to the physician
owners of the Practice as partial consideration for affiliating with the
Company. Under the Stockholder Noncompetition Agreement, the Practice's
physicians agree not to compete with or disclose confidential information about
the Company. See 'Business--Contractual Agreements with Practices.' The Company
will use approximately $9.4 million of the proceeds of this offering (the
'Offering') to repay outstanding notes issued to four Practices in Affiliation
Transactions. See 'The Company--Affiliation Transactions' and 'Use of Proceeds.'
THE OFFERING
<TABLE>
<S> <C>
Common Stock offered by the Company............................ 4,000,000 shares
Common Stock to be outstanding after the Offering.............. 16,163,133 shares(1)
Use of proceeds................................................ Repayment of debt and general corporate
purposes. See 'Use of Proceeds.'
Proposed Nasdaq National Market symbol......................... BONS
</TABLE>
- ------------------
(1) Excludes 1,135,046 shares of Common Stock issuable upon exercise of
outstanding options to purchase Common Stock with a weighted average
exercise price of $1.48 per share and 301,189 shares of Common Stock
issuable upon exercise of outstanding warrants to purchase Common Stock with
a weighted average exercise price of $4.62 per share. See 'Management' and
'Certain Transactions.'
4
<PAGE>
SUMMARY HISTORICAL AND PRO FORMA FINANCIAL INFORMATION
<TABLE>
<CAPTION>
PRO FORMA
AS
NINE MONTHS ADJUSTED(2)(3)
PRO FORMA ENDED NINE MONTHS
YEAR ENDED AS ADJUSTED(1)(2) SEPTEMBER 30, ENDED
DECEMBER 31, YEAR ENDED ------------------------ SEPTEMBER 30,
1996 DECEMBER 31, 1996 1996 1997 1997
------------ ----------------- ---------- ---------- ----------------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<S> <C> <C> <C> <C> <C>
STATEMENT OF INCOME DATA:
Practice revenues, net.................. $ 6,029 $94,145 $ 674 $ 38,325 $ 77,226
Less: amounts retained by physician
groups................................ (2,912) (33,392) (336) (17,878) (31,676)
------------ ------- ---------- ---------- -------
Management fee revenue.................. 3,117 60,753 338 20,447 45,550
Costs and expenses:
Medical support services.............. 2,844 50,571 343 17,934 36,219
General and administrative............ 1,299 1,299 675 5,962 5,962
Depreciation and amortization......... 737 14,491 83 4,489 11,226(4)
Interest expense (income), net........ (21) 256 (6) 922 296
------------ ------- ---------- ---------- -------
Total costs and expenses............ 4,859 66,617 1,095 29,307 53,703
------------ ------- ---------- ---------- -------
Loss before income taxes................ (1,742) (5,864) (757) (8,860) (8,153)
Income taxes............................ -- -- -- -- --
------------ ------- ---------- ---------- -------
Net loss................................ $ (1,742) $(5,864) $ (757) $ (8,860) $ (8,153)(4)
------------ ------- ---------- ---------- -------
------------ ------- ---------- ---------- -------
Net loss per common share:
Primary............................... $ (0.21) $ (0.32) $ (0.10) $ (1.02) $ (0.45)(4)
Diluted............................... $ (0.21) $ (0.32) $ (0.10) $ (1.02) $ (0.44)(4)
Weighted average number of common shares
outstanding:
Primary............................... 8,273 18,152 7,820 8,722 18,152
Diluted............................... 8,273 18,549 7,820 8,722 18,549
</TABLE>
<TABLE>
<CAPTION>
SEPTEMBER 30, 1997
------------------------------------------------
PRO FORMA
ACTUAL PRO FORMA(5) AS ADJUSTED(5)(6)
------- --------------- ------------------
(IN THOUSANDS, EXCEPT OPERATING DATA)
<S> <C> <C> <C>
BALANCE SHEET DATA:
Cash and cash equivalents........................................... $ 2,404 $ 3,363 $ 4,646
Working capital..................................................... 10,578 37 20,597
Total assets........................................................ 61,367 85,904 87,187
Long-term debt and capital lease obligation, less current portion... 16,480 18,491 4,051
Total stockholders' equity.......................................... 33,694 40,089 75,089
</TABLE>
<TABLE>
<CAPTION>
SEPTEMBER 30, 1997
DECEMBER 31, ----------------------
1996 ACTUAL PRO FORMA(5)
------------ ------ ------------
<S> <C> <C> <C>
OTHER OPERATING DATA:
Number of Practices....................................................... 3 22 25
Number of physicians...................................................... 34 106 117
</TABLE>
- ------------------
The unaudited pro forma financial information presented does not purport to
(i) represent what the results of operations or financial condition of the
Company would actually have been if the transactions reflected therein had in
fact occurred on the assumed dates or (ii) project the future results of
operations or financial condition of the Company.
(1) Gives effect to the Affiliation Transactions as if they had occurred on
January 1, 1996. See 'The Company,' 'Pro Forma Financial Information' and
'Management's Discussion and Analysis of Financial Condition and Results of
Operations.'
(2) Gives effect to the Offering as if it had occurred at January 1, 1996 at an
assumed initial public offering price of $10.00 per share and the receipt
and application of the estimated net proceeds therefrom. See 'Use of
Proceeds' and 'Capitalization.'
(3) Gives effect to the Affiliation Transactions completed in 1997 (the '1997
Affiliation Transactions') as if they had occurred on January 1, 1997. See
'The Company,' 'Pro Forma Financial Information' and 'Management's
Discussion and Analysis of Financial Condition and Results of Operations.'
(4) Does not reflect adjustments to the amortization of the Management Services
Agreements to give effect to revised estimated useful lives ranging from 7
to 25 years resulting from amendments to the Restricted Stock Agreements
that the Company will enter into with the Practices in 1998 to eliminate the
four year vesting provisions contained therein. The aggregate effect of
these adjustments, if they had occurred on January 1, 1997, would have been
to decrease amortization expense by $8.1 million, resulting in a reduction
of the net loss from $8.2 million (or $0.45 per share) to $16,000 (or $0.00
per share) for the nine months ended September 30, 1997.
(5) Gives effect to the 1997 Affiliation Transactions completed after September
30, 1997 as if such transactions had occurred on September 30, 1997. See
'The Company,' 'Management's Discussion and Analysis of Financial Condition
and Results of Operations,' 'Pro Forma Financial Information' and
'Capitalization.'
(6) Gives effect to the completion of this Offering at an assumed initial public
offering price of $10.00 per share and the receipt and application of the
estimated net proceeds therefrom as if such transactions had occurred on
September 30, 1997. See 'Use of Proceeds' and 'Capitalization.'
5
<PAGE>
RISK FACTORS
An investment in the Common Stock offered hereby involves a high degree of
risk. Prospective investors should carefully consider the following risk
factors, in addition to the other information contained in this Prospectus,
before purchasing the securities offered hereby. This Prospectus contains
forward-looking statements. Discussions containing such forward-looking
statements may be found in the material set forth below and under 'Management's
Discussion and Analysis of Financial Condition and Results of Operations' and
'Business,' as well as in the Prospectus generally. Prospective investors are
cautioned that any such forward-looking statements are not guarantees of future
performance and involve risks and uncertainties. Actual events or results may
differ materially from those discussed in the forward-looking statements as a
result of various factors, including, without limitation, the risk factors set
forth below and the matters set forth in this Prospectus generally.
Lack of Significant Combined Operating History. The Company was
incorporated in January 1996 and, prior to its affiliation with the first
Existing Practice in July 1996, had no history of operations or earnings. Before
affiliating with the Company, the Existing Practices operated as independent
entities, and there can be no assurance that the Company will be able to
integrate and manage profitably the assets and personnel of the Existing
Practices or of any other Practices. In addition, there can be no assurance that
the Company's affiliation with any Practice will not result in a loss of
patients or other unanticipated adverse consequences, any of these events could
have a material adverse effect on the Company. Prior to the Company's
acquisition of the IPA in October 1997, the Company had no history of operating
an IPA. There can be no assurance that the Company will be able to successfully
and profitably manage payor contracting on behalf of the IPA. Additionally,
there can be no assurance that the Company's affiliation with the IPA will not
result in the termination of the agreements pursuant to which the physicians
affiliated with the IPA provide services to enrollees of health care plans and
other specified patient populations (the 'IPA Provider Agreements') or other
unanticipated adverse consequences, any of which could have a material adverse
effect on the Company. The Company's strategy is predicated on its ability to
achieve significant consolidation of Practices and to sustain and enhance the
profitability of such Practices. There can be no assurance that the Company's
personnel, systems and infrastructure will be sufficient to achieve effective
and profitable management of the Practices under the Management Services
Agreements or to implement effectively the Company's strategies. See
'Business--Strategy' and 'Management.'
Dependence on the Practices and Physicians. The Company's revenues are
dependent on its affiliation through Management Services Agreements with the
Practices and on the success of the Practices, including the IPA. There can be
no assurance that the Practices will maintain successful operations, that they
will not terminate their Management Services Agreements or that key physicians
in a particular Practice will continue to affiliate with such Practice. On a pro
forma basis for the year ended December 31, 1996 and the nine months ended
September 30, 1997, the Company received approximately 19% and 21%,
respectively, of its total revenue from management fees paid by the Southern
California Orthopedic Institute Medical Group ('SCOI'). The termination of the
SCOI Management Services Agreement would have a material adverse effect on the
Company. For a further description of the Management Services Agreements,
including a description of their termination provisions and noncompetition
arrangements with the Practices' physicians, see 'Business--Contractual
Agreements with the Practices.' For a discussion of circumstances under which a
Management Services Agreement may be rendered unenforceable, see '--Government
Regulation.'
Some of the Existing Practices derive a significant portion of their
revenue from a limited number of physicians. The physicians are employees of the
Practices, not of the Company, and there can be no assurance that the Company or
the Existing Practices will maintain cooperative relationships with key members
of any such Practice. In addition, key members of a Practice could retire,
become disabled or otherwise become unable or unwilling to continue generating
revenues at the current level or practicing medicine with such Practice. The
loss by a Practice of one or more key members would have a material adverse
effect on the revenue of such Practice and on the Company. The Company has the
right under the Management Services Agreements to obtain and maintain life
insurance in the amount of $500,000 on the life of each licensed physician
employed by each Practice for the benefit of the Company. Nonetheless, the loss
of revenue by any Practice as a result of a physician's death could have a
material adverse effect on the Company. Additionally, although the Company has
entered into noncompetition agreements with each Practice and its respective
physicians, there can be no assurance as to the enforceability of such
noncompetition agreements.
6
<PAGE>
Rescission Rights. The Company has entered into a Management Services
Agreement with South Texas Spinal Clinic, P.A. ('STSC') which permits STSC and
the individual physicians to rescind the Affiliation Transaction on November 1,
2003. In addition, the Management Services Agreements for seven other Existing
Practices comprising 29 physicians contain provisions that permit such Existing
Practices to rescind their Affiliation Transactions on their respective seventh
anniversaries.
Risk of Termination. The Management Services Agreement may be terminated
by either party if the other party (a) files a petition in bankruptcy or other
similar events occur, or (b) defaults in any material respect in the performance
of any duty or obligation under the Management Services Agreement, which default
is not cured within a specified period after receipt of notice thereof or (c)
any of the representations and warranties made by such party in the Management
Services Agreement is materially untrue or misleading and such party fails to
correct such matter after receipt of written notice thereof. The Company also
has the right to terminate the Management Services Agreement in the event that
the Practice is excluded from participation in the Medicaid or Medicare program
for any reason. Either party may also terminate the Management Services
Agreement if such party determines that the structure of the Management Services
Agreement violates any state or federal laws or regulations existing at such
time and that an amendment to the Management Services Agreement will be unable
to correct such defect.
Risks Related to New Affiliations and Expansion. The Company is exposed to
significant growth-related risks because an essential element of its strategy is
to affiliate with and/or to merge affiliated musculoskeletal practices and to
expand the business of such practices. The Company's strategy also involves
assisting the Practices in recruiting physicians, expansion and development of
the IPA and, to the extent permitted by applicable law, contracting with or
establishing ancillary musculoskeletal facilities (the 'Ancillary Service
Facilities'), such as ambulatory surgery, physical therapy and magnetic
resonance imaging ('MRI') centers and mobile units, and contracting with
associated providers. Identifying appropriate physician group practices,
individual physicians and ancillary providers and facilities, and proposing,
negotiating and implementing economically attractive affiliations with such
practices, physicians and providers, as well as merging such practices, can be a
lengthy, complex and costly process. The failure of the Company to affiliate
with additional musculoskeletal practices or merge practices would have a
material adverse effect on the Company's ability to execute its expansion
strategy. Moreover, future affiliations or mergers, if any, may not contribute
to the Company's profitability or otherwise facilitate the successful
implementation of the Company's overall strategy. See 'Business--Strategy.'
The Company's expansion is also dependent upon factors such as the ability
of the Company and the Practices to (i) adapt the Company's arrangements with
the Practices to comply with current and future legal requirements, including
state prohibitions on fee-splitting and corporate practice of medicine, state
and federal limitations on physicians ordering ancillary services from, or
referring patients to, facilities with which such physicians have a financial
relationship, state and federal anti-kickback provisions and state regulation of
the business of insurance; (ii) obtain regulatory approval and certificates of
need, where necessary; and (iii) comply with licensing requirements applicable
to physicians and to facilities operated, and services offered, by physicians.
No assurance can be given that the application of current laws or changes in
legal requirements would not have a material adverse effect on the Company.
Moreover, the Company and the Practices may not be able to obtain and maintain
all necessary regulatory approvals or comply with all applicable laws,
regulations and licensing requirements. See '--Government Regulation' and
'Business--Government Regulation and Supervision.'
Since its inception, the Company's business has grown rapidly. Continued
rapid growth through affiliation and expansion could impair the Company's
ability to efficiently provide its management services to the Practices, to
adequately manage and supervise its employees and to effectively operate the
IPA. There can be no assurance that the Company will be able to expand its
infrastructure and management to achieve planned growth. In addition, the
Company may be unable to retain personnel or acquire other resources necessary
to service growth adequately. Moreover, the Company is still in the process of
integrating the Practices that have affiliated with the Company to date and no
assurance can be given that the Company will be successful in integrating all of
such Practices or any Practices that affiliate with the Company in the future.
Risks Associated with Ancillary Service Facilities. To date, the Company
has opened only one Ancillary Service Facility (a mobile MRI unit in San
Antonio, Texas). The Company is unable to predict whether it will be
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able to obtain the critical mass in any other particular market needed to
establish additional Ancillary Service Facilities and, if so, whether the
Company and/or the Practices will be able to consistently minimize costs and
maintain a sufficient volume of patient visits to the Ancillary Service
Facilities for such facilities to be profitable. Moreover, such facilities must
be structured and operated to comply with various federal and state laws. Future
judicial or regulatory interpretation could adversely affect such operations.
See '--Government Regulation.'
Dependence on Information Systems. No assurance can be given that the
Company will be able to enhance existing and/or implement new information
systems that can be integrated with the Practices' existing operational,
financial and clinical information gathering systems. In addition to their
integral role in helping the Practices realize operating efficiencies, such new
systems are critical to developing and implementing a disease management
information database. See 'Business--Strategy.' To develop its network, the
Company must continue to invest in and administer sophisticated management
information systems. The Company may experience unanticipated delays,
complications and expenses in implementing, integrating and operating such
systems. Furthermore, such systems may require modifications, improvements or
replacements as the Company expands and as new technologies become available.
Such modifications, improvements or replacements may require substantial
expenditures and may require interruptions in operations during periods of
implementation. Moreover, implementation of such systems is subject to the
availability of information technology and skilled personnel to assist the
Company in creating and implementing the system. The failure to successfully
implement and maintain operational, financial and clinical information systems
would have a material adverse effect on the Company. See 'Business--BMJ
Operations.'
Reductions in Third Party Reimbursements. The health care industry is
experiencing a trend toward cost containment as third party payors, such as
governmental programs (e.g., Medicare and Medicaid), private insurance plans and
managed care plans, seek to impose lower reimbursement and utilization rates and
to negotiate reduced capitated payment schedules with service providers. Further
reductions in payments to health care providers or other changes in
reimbursement for health care services could have a material adverse effect on
the Practices and/or the IPA and, as a result, on the Company. These reductions
could result from changes in current reimbursement rates or from a shift in
clinical protocols to non-surgical solutions for orthopaedic conditions. The
Company may not be able to successfully offset any or all of the payment
reductions that may occur.
The federal government has implemented, through the Medicare program, a
resource-based relative value scale ('RBRVS') payment methodology for heath care
provider services. RBRVS is a fee schedule that, except for certain geographical
and other adjustments, pays similarly situated health care providers the same
amount for the same services. The RBRVS is subject to annual increases or
decreases at the discretion of Congress or the federal Health Care Financing
Administration ('HCFA'). To date, the implementation of RBRVS has reduced
payment rates for certain of the procedures historically provided by the
Existing Practices. Furthermore, HCFA is required by law to recalibrate the
practice expense component of the RBRVS over the next four years in a way that
will have positive effects on payments to primary care providers but will
decrease payments for most services provided by specialists, including many
services provided by the Existing Practices. For the nine months ended September
30, 1997, the net practice revenue from Medicare constituted approximately 12%
of the aggregate net practice revenue of the Existing Practices. RBRVS types of
payment systems have also been adopted by certain private third party payors and
may become a predominant payment methodology. Wider implementation of such
programs would reduce payments from private third party payors, and could
indirectly reduce revenue to the Company.
Rates paid by private third party payors are based on established health
care provider and hospital charges and are generally higher than Medicare
payment rates. A change in the patient mix of any of the Practices that results
in a decrease in patients covered by private insurance could have a material
adverse effect on the Practices and, as a result, on the Company. See
'Business--Payor Mix of Existing Practices.'
Government Regulation. Existing and future federal and state regulation of
health care, including the relationships among health care providers such as
physicians and other clinicians, could have a material adverse effect on the
Company's financial condition and results of operations. While the Company
believes that its operations are conducted in material compliance with
applicable laws, it has not received or applied for a legal opinion from counsel
or from any federal or state judicial or regulatory authority to this effect,
and many aspects of the Company's business operations have not been the subject
of state or federal regulatory interpretation. The
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laws applicable to the Company are subject to evolving interpretations, and
therefore there can be no assurance that a review of the Company's or the
Practices' operations by federal or state judicial or regulatory authorities
would not result in a determination that the Company, or one of the Practices
has violated one or more provisions of federal or state law. Any such
determination could have a material adverse effect on the Company.
Expansion of the operations of the Company to certain jurisdictions may
require modification of the Company's form of relationship with the Practices,
which could have a material adverse effect on the Company. Furthermore, the
Company's ability to expand into, or to continue to operate within, certain
jurisdictions may depend on the Company's ability to modify its or the
Practices' operational structure to conform to such jurisdictions' regulatory
framework or to obtain necessary approvals, licenses and/or permits. Any
limitation on the Company's ability to expand could have a material adverse
effect on the Company. See 'Business--Government Regulation and Supervision.'
Physician Self-Referral Laws. The federal Self-Referral Law (also known
as the 'Stark Law') imposes restrictions on physicians' referrals for designated
health services reimbursable by Medicare to entities with which any such
physician (or an immediate family member of such physician) has a financial
relationship, whether through an ownership, debt or compensation arrangement. In
addition, a state cannot receive federal financial participation payment under
the Medicaid program for designated health services furnished to an individual
on the basis of a physician referral that would result in a denial of payments
under the Medicare program if Medicare covered the services to the same extent
and under the same terms and conditions as under the state Medicaid plan. Many
states, including several of the states in which the Company conducts business,
also have adopted self-referral laws. Unlike the Stark Law, however, many state
self-referral laws are not limited to Medicare or Medicaid reimbursed services.
In addition, state self-referral laws may apply to all health care services, not
just certain designated health services, and state self-referral laws may apply
only to ownership relationships and not to compensation relationships. State
workers' compensation laws also may contain self-referral prohibitions. Unless a
statutory or regulatory exception applies, if a physician has a financial
relationship in or with the Company, then that physician is prohibited from
referring patients for the furnishing of designated health services as defined
by federal law or other health care services within the scope of applicable
state law directly by any Ancillary Service Facilities owned (or possibly
managed) by the Company. Likewise, unless a statutory or regulatory exception
applies, if a physician has a financial relationship in or with a Practice, then
that physician is prohibited from referring patients for the furnishing of
designated health services as defined by federal law or other health care
services within the scope of applicable state law directly by the Practice or by
any Ancillary Service Facilities owned by the Practice. In addition, neither the
Company nor the physician is authorized to bill for services furnished to such
physician's patients by the Company or at Ancillary Service Facilities owned (or
possibly managed) by the Company where there is no exception available for the
physician's financial relationship with the Company. Likewise, neither the
Practice nor the physician is authorized to bill for services furnished to such
physician's patients by a Practice or at Ancillary Service Facilities owned by
the Practice where there is no exception available for the physician's financial
relationship with the Practice. The Stark Law and related state laws also impose
reporting and attestation requirements. Violations of these laws may result in
substantial civil penalties and exclusion from participation in Medicare and
Medicaid programs. State laws also may require a physician to disclose to
patients the nature of the physician's financial relationship with the Company
and any Ancillary Service Facilities prior to recommending the Company and any
Ancillary Service Facilities to that patient.
On January 9, 1998, HCFA published proposed regulations under the Stark
Law, which contain certain interpretations and clarifications relevant to the
Practices' operations in accordance with the Stark Law. Although the proposed
regulations do not yet have the effect of law, they provide guidance as to
HCFA's interpretation of the Stark Law. Therefore, the Company will be reviewing
the new guidance provided by the proposed regulations with the Practices to
determine if any changes in the Practices' operations may be appropriate. The
Company cannot assure that the Practices will implement such changes, if
appropriate, or will implement them correctly, or that the proposed regulations
will not be interpreted to prohibit relationships that the Company and the
Practices believe comply with the Stark Law, or that the final regulations or
future regulations, statutory amendments, or interpretations thereof, will not
further modify requirements for compliance with the Stark Law.
Fraud and Abuse. The anti-kickback provisions of the Social Security Act,
as well as anti-kickback laws adopted by many states, including the states in
which the Company conducts business, prohibit the solicitation, payment, receipt
or offering of any direct or indirect remuneration in return for, or as an
inducement for, certain referrals of patients for items or services covered by
health benefits programs. State laws governing workers' compensation may also
contain anti-kickback prohibitions. In addition, federal law and some state laws
impose significant penalties for false or improper billings. These anti-kickback
and false claims laws are commonly referred to as the fraud and abuse laws.
Violations of any of these laws may result in substantial civil or criminal
penalties, and, in the case of violations of federal laws, exclusion from
participation in the Medicare and Medicaid programs. Such exclusion and
penalties, if applied to the Company, its Ancillary Service Facilities or the
Practices, would have a material adverse effect on the Company. Further, the
application of these laws is subject to modification by statutory amendment or
promulgation of regulations and any such change could have a material adverse
effect on the Company. See 'Business--Government Regulation and Supervision.'
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State Regulation of the Practices. The laws of many states, including one
or more of the states in which the Company conducts business: (i) prohibit
business corporations, such as the Company, from practicing medicine or
exercising control over the medical judgments or decisions of physicians and
from engaging in certain financial arrangements involving the division of
professional fees earned by physicians (commonly referred to as
'fee-splitting'); (ii) require entities seeking to provide certain ancillary
services (including ambulatory surgery) to be licensed and/or to have obtained a
certificate of need related to the service; and (iii) require licensure or
certification of, and regulate provider networks that agree to provide or
arrange for the provision of certain health services to members of health care
plans. These laws and their interpretations vary from state to state and are
enforced by both the courts and regulatory authorities, each of which has broad
discretion. In particular, with regard to the corporate practice of medicine,
Texas and California have taken the position that control by a management
company over certain business aspects of a medical practice is effectively the
prohibited practice of medicine by the management company. In addition, recent
developments in Florida's fee-splitting law may have changed how management
arrangements may be structured there. The State of Florida Board of Medicine has
ruled that a management services fee based on a percentage of revenues violates
Florida's prohibition on fee splitting by licensed professionals. The Company
has included such percentage fees in all of its Management Services Agreements
with physicians in Florida. Thus, no assurance can be given that the Company's
Management Services Agreements based on such percentage fees will be
enforceable. To avoid this risk, the Company will seek to restructure such
agreements in Florida to comply with the order, but such modifications, or the
failure to obtain agreement on such modifications, could have a material adverse
effect on the Company's business, financial condition and results of operations.
Violations of state laws regulating the Practices could result in censure or
loss of license for the physician, civil or criminal penalties, or other
sanctions. The licensure or certificate of need laws of applicable states could
also preclude the Company from expanding its operated or managed services to
include certain ancillary services, which could have a material adverse effect
on the Company. In addition, a determination in any state that the Company is
engaged in the corporate practice of medicine, any unlawful fee-splitting
arrangement, or other practices in violation of these state laws could render
any Management Services Agreement or IPA Provider Agreement between the Company
and a Practice located in such state unenforceable or subject to modification,
which could have a material adverse effect on the Company. There can be no
assurance that regulatory authorities or other parties will not assert that the
Company or a Practice is engaged in the business of insurance or the corporate
practice of medicine in such states or that the management and administrative
fees paid to the Company by the Practices constitute unlawful fee-splitting or
the corporate practice of medicine. If such a claim were asserted successfully,
the Company could be subject to civil and criminal penalties and the Company or
the Practices could be required to restructure their contractual arrangements.
Such results or the inability of the Company or the Practices to restructure
their relationships to comply with such prohibitions could have a material
adverse effect on the Company's financial condition and results of operations.
See 'Business--Government Regulation and Supervision--State Law.'
In Texas, it is unlawful to provide 'staff leasing services' without a
license issued by the State. The Company has learned that the provision of
non-physician personnel to STSC in connection with the Management Services
Agreement between the Company and STSC is deemed staff leasing services subject
to licensure under Texas law (the 'Staff Leasing Law'). The Company filed an
application on October 14, 1997 for such license, but there can be no guaranty
that the State of Texas will approve the Company's application. Failure to
obtain a license to provide staff leasing services may result in civil or
criminal penalties, may prevent the Company from providing personnel to STSC and
may, therefore, have a material adverse effect on the Company. The Company was
notified on December 2, 1997 that a fine of $20,000 has been recommended to be
assessed against it as a result of its operations in violation of the Staff
Leasing Law between April 1, 1997 and November 30, 1997. The Company is
currently negotiating with the Texas regulators to decrease the fine. See
'Business--Government Regulation and Supervision--State Law--Texas Staff Leasing
Law.'
Antitrust Issues. Because the Practices remain separate legal entities,
they may be deemed competitors subject to a range of antitrust laws that
prohibit anti-competitive conduct, including price fixing, concerted refusals to
deal and division of market. The Company intends to comply with such state and
federal laws as may affect its development of integrated health care delivery
networks, but there can be no assurance that a review of the Company's business
by courts or regulatory authorities would not result in a determination that
could adversely affect the operation of the Company and the Practices.
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Numerous Reform Initiatives. In addition to extensive existing government
health care regulation, there are numerous initiatives on the federal and state
levels for comprehensive reforms affecting the payment for, and availability of,
health care services. These initiatives include reductions in Medicare and
Medicaid payments, trends in adopting managed care for Medicare, Medicaid and
workers' compensation patients, regulation of entities that provide managed
care, expansion of malpractice liability to entities that provide managed care,
and additional prohibitions related to financial relationships between health
care providers that are in a position to generate business for each other.
Certain of these health care proposals, if adopted, could have a material
adverse effect on the Company.
In the recently enacted Balanced Budget Act of 1997 (the '1997 Budget
Bill') and Health Insurance Portability and Accountability Act of 1996
('HIPAA'), Congress has responded to perceived fraud and abuse in the Medicare
and Medicaid programs. This legislation has fortified the government's
enforcement authority with increased resources and greater civil and criminal
penalties for offenses. It is anticipated that there will be further restrictive
legislative and regulatory measures to reduce fraud, waste and abuse in the
Medicare and Medicaid programs. There can be no assurance that any such
legislation will not have a material adverse impact on the Company. See
'--Reliance on Affiliation and Expansion,' '--Reductions in Third Party
Reimbursements' and 'Business--Government Regulation and Supervision.'
Changes in Workers' Compensation Market. Legislative reforms in some
states permit employers to designate health plans such as HMOs to cover workers'
compensation claimants. Because many health plans have the capacity to manage
health care for workers' compensation claimants, such legislation may intensify
competition in the market served by the Company. Within the past few years,
several states have experienced decreases in the number of workers' compensation
claims and the average cost per claim, both of which have been reflected in
workers' compensation insurance premium rate reductions in those states. The
Company believes that declines in workers' compensation costs in these states
are due principally to intensified efforts by payors to manage and control claim
costs, improved risk management by employers and legislative reforms. In Florida
(a state in which the Company does business), all workers' compensation services
must be provided under a managed care arrangement approved by Florida's Agency
for Health Care Administration. If declines in workers' compensation costs occur
in many states and persist over the long-term, they may have an adverse impact
on the Company's business and results of operations. A number of states,
including California and Pennsylvania (states in which the Company does
business), have regulations such as anti-kickback and self-referral laws that
are specific to the workers' compensation program. See 'Business--Payor
Contracting--Workers' Compensation' and 'Business--Government Regulation and
Supervision.'
Potential Risks of Managed Care Contracts. As more patients enter into
health care coverage arrangements with managed care payors, no assurance can be
given that the Company will be able to negotiate contracts on behalf of the
Practices with health maintenance organizations ('HMOs'), employer groups and
other private third party payors. The inability of the Company to enter into
such arrangements on behalf of the Practices, or unfavorable terms that may be
contained in such arrangements, could have a material adverse effect on the
Company.
The Company may seek to negotiate with third party payors on behalf of the
Practices and other physicians or group practices willing to permit the Company
to negotiate on their behalf. The Company anticipates that, in the future, the
payor contracts entered into on behalf of the Practices and any related network
physicians may include contracts based on capitated fee arrangements. Under some
of these types of contracts, a health care provider agrees either to accept a
predetermined dollar amount per member per month in exchange for undertaking to
provide all covered services to patients or to provide treatment on an episode
of care basis. Such health care providers bear the risk, generally subject to
certain loss limits, that the aggregate costs of providing medical services will
not exceed the predetermined amounts. Some agreements may also contain 'shared
risk' provisions under which the Practices may earn additional compensation
based on utilization control of institutional, ancillary and other services to
patients, and the Practices may be required to bear a portion of any loss in
connection with such 'shared risk' provisions. If patients or enrollees covered
by such contracts require more frequent or, in certain instances, more extensive
care than anticipated, there could be a material adverse effect on a Practice
and, therefore, on the Company. Revenue negotiated under risk-sharing or
capitated contracts could be insufficient to cover the costs of the health care
services provided. Any such reduction or elimination of earnings to the
Practices under such fee arrangements could have a material adverse effect on
the Company.
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No assurance can be given that the Company, the Practices or the IPA will
be able to establish or maintain satisfactory relationships with managed care
and other third party payors, many of which already have existing provider
structures in place and may not be able or willing to change their provider
networks. In addition, any significant loss of revenue by the Practices as a
result of the termination of third party payor contracts or otherwise would have
a material adverse effect on the Company. See 'Business--Government Regulation
and Supervision.'
Need for Additional Funds. The Company's expansion and affiliation
strategy will require substantial capital, and no assurance can be given that
the Company will be able to raise additional funds through debt financing or the
issuance of equity or debt securities. Sufficient funds may not be available on
terms acceptable to the Company, if at all. If equity securities are issued,
either to raise funds or in connection with future affiliations, dilution to the
Company's stockholders may result, and if additional funds are raised through
the incurrence of debt, the Company may become subject to restrictions on its
operation and finances. Such restrictions may have a material adverse effect on,
among other things, the Company's ability to pursue its affiliation and
expansion strategy. See 'Management's Discussion and Analysis of Financial
Condition and Results of Operations--Liquidity and Capital Resources.'
Risks Related to Intangible Assets. The Company has a significant amount
of intangible assets. As a result of the Affiliation Transactions, intangible
assets (net of accumulated amortization) of approximately $32.5 million have
been recorded on the Company's balance sheet as of September 30, 1997.
Affiliations that result in the recognition of intangible assets will cause
amortization expense to increase further. Although the Company's net unamortized
balance of intangible assets acquired and anticipated to be acquired was not
considered to be impaired as of September 30, 1997, any future determination
that a significant impairment has occurred would require the write-off of the
impaired portion of unamortized intangible assets, which could have a material
adverse effect on the Company's results of operations. See 'Management's
Discussion and Analysis of Financial Condition and Results of Operations.'
Risks Related to the IPA Provider Agreements. There can be no assurance
that the IPA will maintain successful operations, that agreements between the
IPA and payors ('IPA Payor Agreements') will not be terminated, that the IPA
will successfully enter into additional IPA Payor Agreements or that the IPA
Provider Agreements will not be terminated. Each IPA Provider Agreement now in
effect permits the physician member to terminate the agreement without cause
upon 90 days' written notice to the IPA. Because the IPA contracts with payors
to arrange for specialty provider services sufficient to furnish care as needed
to a specified patient population, termination of IPA Provider Agreements could
jeopardize the IPA's ability to satisfy its obligations under IPA Payor
Agreements, and may result in termination of those agreements. Any termination
of IPA Provider Agreements or IPA Payor Agreements could have a material adverse
effect on the Company.
Intense Competition. Competition for affiliation with additional
musculoskeletal physician practices is intense and may limit the availability of
suitable practices with which the Company may be able to affiliate. Several
companies with established operating histories and greater resources than the
Company, including multi-specialty companies, companies that specialize in
orthopedics, some hospitals, IPAs, clinics and HMOs, are pursuing activities
similar to those of the Company. The Company may not be able to compete
effectively with such competitors, additional competitors could enter the market
and such competition could make it more difficult and costly to affiliate with,
and provide management services to, musculoskeletal physician practices on terms
beneficial to the Company. The Company also believes that changes in
governmental and private reimbursement policies, among other factors, have
resulted in increased competition among providers of medical services. The
Practices face competition from several sources, including sole practitioners,
single and multi-specialty groups, hospitals and managed care organizations. The
Company's strategy includes the development of Ancillary Service Facilities.
Pursuit of this strategy will subject the Company to competition with other
providers of such facilities, some of which will have greater financial
resources and experience than the Company. There can be no assurance that the
Company or the Practices will be able to compete effectively in the markets they
serve. See 'Business--Competition.'
Dependence on Key Personnel. The Company is dependent upon the ability and
experience of its executive officers and key personnel, including Dr. Naresh
Nagpal, the Company's President and Chief Executive Officer, for the management
of the Company and the implementation of its business strategy. The Company
currently has an employment contract with Dr. Nagpal. Because of the difficulty
in finding an adequate
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replacement for Dr. Nagpal, the loss of his services, regardless of whether he
may choose to compete with the Company, or the Company's inability in the future
to attract and retain management and other key personnel could have a material
adverse effect on the Company. See 'Management--Employment Agreement.'
Exposure to Professional Liability. Due to the nature of its business, the
Company from time to time may become a defendant in medical malpractice
lawsuits, and may become subject to the attendant risk of substantial damage
awards. Direct claims, suits or complaints could be asserted against the Company
relating to services delivered by the Practices (including claims with regard to
services rendered by the Existing Practices prior to the Affiliation
Transactions). While the Company has attempted to address these risks by
maintaining malpractice and other types of insurance, with coverage limits of
$1,000,000 per individual claim and $3,000,000 in the aggregate, on behalf of
itself and the Existing Practices, there can be no assurance that any claim
asserted against the Company, any of the Existing Practices, or any other
Practice will be covered by, or will not exceed the coverage limits of,
applicable insurance. However, the Company may not be able to maintain insurance
in the future at a cost that is acceptable to the Company, or at all. A
successful malpractice claim against any of the Practices, even if covered by
insurance, or any claim made against the Company that is not fully covered by
insurance, could have a material adverse effect on the Company. See
'Business--Corporate Liability and Insurance.'
No Prior Market; Possible Volatility of Stock Price. Prior to this
Offering, there has been no public market for the Common Stock, and there can be
no assurance that an active public market for the Common Stock will develop or
continue after the Offering. The initial public offering price will be
determined by negotiations among the Company and Hambrecht & Quist LLC, Raymond
James & Associates, Inc. and Volpe Brown Whelan & Company, LLC and may not be
indicative of the market price for the Common Stock after the Offering. See
'Underwriting' for factors to be considered in determining the initial public
offering price. From time to time after the Offering, there may be significant
volatility in the market price of the Common Stock. Deviations in results of
operations from estimates of securities analysts, changes in general conditions
in the economy or the health care industry or other developments affecting the
Company or its competitors could cause the market price of the Common Stock to
fluctuate substantially. The equity markets have, on occasion, experienced
significant price and volume fluctuations that have affected the market prices
for many companies' securities and have often been unrelated to the operating
performance of these companies. Concern about the potential effects of health
care reform measures has contributed to the volatility of stock prices of
companies in health care and related industries and may similarly affect the
price of the Common Stock following the Offering. Any such fluctuations that
occur following completion of the Offering may adversely affect the market price
of the Common Stock.
Shares Eligible for Future Sale. The market price of the Common Stock of
the Company could be materially adversely affected by the sale of substantial
amounts of the Common Stock in the public market following the Offering. After
giving effect to the shares of Common Stock offered hereby, the Company will
have outstanding 16,163,133 shares of Common Stock. Of these shares, all of the
shares of Common Stock sold in the Offering will be freely tradeable without
restriction under the Securities Act, except for any shares purchased by
'affiliates,' as that term is defined under the Securities Act, of the Company.
The remaining 12,163,133 shares are 'restricted securities' within the meaning
of Rule 144 promulgated under the Securities Act. Of such shares, 4,834,074
became eligible for sale under Rule 144 in December 1997 and the remaining
7,329,059 shares will be eligible for sale under Rule 144 at various times in
1998, subject to the lock-up arrangements described in the following paragraph.
See 'Shares Eligible for Future Sale.'
The Company and the officers, directors and certain other stockholders of
the Company, who upon completion of the Offering will own in the aggregate
shares of Common Stock, have agreed that they will not, without the
prior written consent of Hambrecht & Quist LLC, issue, sell, offer, contract to
sell, make any short sale, pledge, issue or sell any option or contract to
purchase, purchase any option or contract to sell, grant any option, right or
warrant to purchase or otherwise transfer or dispose of any shares of Common
Stock, or securities exchangeable for or convertible into or exercisable for any
rights to purchase or acquire any shares of Common Stock during the 180-day
period following the date of this Prospectus, except that such stockholders may
transfer securities pursuant to bona fide gifts, provided such shares are
subject to the 180-day lock-up agreement, and the Company may issue, and grant
options to purchase, shares of Common Stock under its current stock option plan
and may issue shares of Common Stock in connection with affiliation
transactions.
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Certain holders of shares of Common Stock outstanding on the date of this
Prospectus have certain registration rights with respect to such shares and
additional shares that may be issued to such persons upon exercise of options
and warrants (subject to certain limitations on the number of shares such
holders are entitled to have registered under any registration statement),
although all such holders have agreed to refrain from selling their shares
during the lock-up period. In addition, the Company intends to register
approximately 2,000,000 shares of Common Stock reserved for issuance under the
BMJ Medical Management, Inc. 1996 Stock Option Plan (the 'Option Plan') as soon
as practicable after completion of the Offering. See 'Management' and
'Underwriting.'
Control by Existing Stockholders. Following the completion of the
Offering, the officers and directors of the Company and the physician owners of
the Existing Practices will beneficially own approximately 81% of the
outstanding shares of Common Stock. Following the Offering, such persons may
effectively be able to control the affairs of the Company, including the ability
to delay or prevent a change of control of the Company. See 'Principal
Stockholders.'
Potential Anti-Takeover Effects of Charter and By-laws Provisions; Possible
Issuances of Preferred Stock. Certain provisions of the Amended and Restated
Certificate of Incorporation (the 'Certificate of Incorporation') and by-laws
(the 'By-laws') of the Company that will become operative upon the closing of
this Offering may be deemed to have anti-takeover effects and may delay, deter
or prevent a change in control of the Company that a stockholder might consider
in his/her best interest. These provisions (i) classify the Company's Board of
Directors into three classes, each of which will serve for different three-year
periods; (ii) provide that only the Board of Directors or certain members
thereof or officers of the Company may call special meetings of the
stockholders; and (iii) authorize the issuance of 'blank check' preferred stock
having such designations, rights and preferences as may be determined from time
to time by the Board of Directors. See 'Description of Capital Stock.'
Immediate and Substantial Dilution. Purchasers of the Common Stock in this
Offering will incur immediate and substantial dilution in the net tangible book
value per share of Common Stock of $5.55 per share. See 'Dilution.'
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THE COMPANY
GENERAL
The Company was founded by Dr. Nagpal in January 1996. Since its inception,
the Company has expanded its network through Affiliation Transactions and
through the addition of physicians to its Existing Practices to reach a total of
25 Existing Practices comprising 117 physicians in six states as of the date of
this Prospectus.
In July 1996, the Company affiliated with its first Practice, Lehigh Valley
Bone, Muscle and Joint Group, LLC ('LVBMJ'), comprising five physicians. In
November 1996, the Company affiliated with STSC and SCOI, resulting in the
addition of a total of 29 physicians located in Texas and California. The
Company affiliated with Lauderdale Orthopaedic Surgeons ('LOS') and Tri-City
Orthopedic Surgery Medical Group, Inc. ('Tri-City') in April 1997, Fishman &
Stashak, M.D.'s, P.A. (d/b/a Gold Coast Orthopaedics) ('Gold Coast') in June
1997 and Sun Valley Orthopaedic Surgeons ('Sun Valley') in July 1997, resulting
in the addition of a total of 23 physicians. In September 1997, the Company
affiliated with Broward Institute of Orthopaedic Specialties, P.A. ('BIOS') and
Orthopaedic Surgery Associates, P.A. ('OSA'), resulting in the addition of a
total of 15 physicians. In addition to the foregoing Affiliation Transactions,
the Company has affiliated with 17 other Practices comprising 45 additional
physicians. In order to finance the Affiliation Transactions and provide for its
working capital needs, the Company has raised approximately $51.0 million
through a series of preferred stock and debt financings. See 'Risk Factors--Lack
of Significant Combined Operating History' and 'Certain Transactions.'
The Company was incorporated under the laws of Delaware in January 1996.
The Company's principal executive offices are located at 4800 North Federal
Highway, Suite 101E, Boca Raton, Florida 33431 and its telephone number is (561)
391-1311.
AFFILIATION TRANSACTIONS
The Company has divided the United States into the eastern, central and
western regions. Set forth below is a description of the Affiliation
Transactions that the Company has entered into in each region as of the date of
this Prospectus.
Eastern Region
Effective July 1, 1996, the Company entered into a Management Services
Agreement with LVBMJ in Bethlehem, Pennsylvania. Under the terms of the initial
Management Services Agreement between LVBMJ and the Company, the Company
received a fee equal to 50% of the net collected revenues of LVBMJ and became
responsible for all the clinic overhead expenses (medical support services).
Effective July 1, 1997, the Company and LVBMJ entered into an amended and
restated Management Services Agreement, (the 'LVBMJ Management Services
Agreement'). Under the terms of the LVBMJ Management Services Agreement, the
Company is entitled to receive a fee equal to 10% of net collections received
for professional services by the Practice during the period in question net of
refunds paid during such period ('Collections'), plus reimbursement of clinic
overhead expenses and 66-2/3% of the cost savings the Company is able to achieve
through its purchasing power. As consideration to LVBMJ for entering into the
LVBMJ Management Services Agreement, the Company issued an aggregate of 370,023
shares of Common Stock and options to purchase an aggregate of 21,429 shares of
Common Stock and additional consideration of $320,000 to the physician owners of
LVBMJ. The Company may be required to issue more shares of Common Stock to the
Practice in 1998 based on the Practice's actual Collections for a specified
twelve month period.
Effective April 1, 1997, the Company entered into a Management Services
Agreement (the 'LOS Management Services Agreement') with LOS located in Ft.
Lauderdale, Florida. As consideration to LOS for entering into the agreement,
the Company issued an aggregate of 329,259 shares of its Common Stock and paid
additional consideration of $512,514 to the LOS physicians. The Company may be
required to issue more shares of Common Stock to the Practice in 1998 based on
the Practice's actual Collections for a specified twelve month period. Under the
terms of the LOS Management Services Agreement, the Company is entitled to
receive a fee equal to (i) the aggregate of (A) 20% of net operating income (as
defined in the LOS Management Services Agreement) of the Practice, plus (B)
66-2/3% of the cost savings the Company is able to achieve through its
purchasing power. Notwithstanding the foregoing, during the first seven years of
the term of the LOS
15
<PAGE>
Management Services Agreement, the Company is entitled to receive a guaranteed
minimum annual management fee of $400,000. The Company also purchased certain
assets from LOS, including the assumption of two leases, for an aggregate
purchase price of $2,250,000 (subject to adjustment based upon the Company's
actual collection of the purchased accounts receivable).
Effective June 1, 1997, the Company entered into a Management Services
Agreement (the 'Gold Coast Management Services Agreement') with Gold Coast
located in West Palm Beach, Florida, pursuant to which the Company issued
179,010 shares of Common Stock and paid no additional consideration to the
physician owners of Gold Coast. The Company may be required to issue more shares
of Common Stock to the Practice in 1998 based on the Practice's actual
Collections for a specified twelve month period. Under the terms of the Gold
Coast Management Services Agreement, the Company is entitled to receive a fee
equal to the aggregate of (i) 15% of the Collections of the Practice plus
reimbursement of clinic overhead expenses, plus (ii) 66-2/3% of the cost savings
the Company is able to achieve through its purchasing power. Notwithstanding the
foregoing, during the first six years of the term of the Gold Coast Management
Services Agreement, the Company is entitled to receive a guaranteed minimum
annual management fee of $500,000. In connection with the Gold Coast Affiliation
Transaction, the Company also entered into an Asset Purchase Agreement,
effective as of June 1, 1997, pursuant to which the Company purchased certain
assets (including accounts receivable) from Gold Coast for an aggregate purchase
price of $2,976,577.
Effective August 1, 1997, the Company entered into a Management Services
Agreement (the 'BOS Management Services Agreement') with Broward Orthopedic
Specialists, Inc. ('BOS') located in Ft. Lauderdale, Florida, pursuant to which
the Company issued 446,977 shares of Common Stock and paid no additional
consideration to the physician owners of BOS. The Company may be required to
issue more shares of Common Stock to the Practice in 1998 based on the
Practice's actual Collections for a specified twelve month period. Under the
terms of the BOS Management Services Agreement, the Company is entitled to
receive a fee equal to the aggregate of (i) 15% of the Collections of the
Practice plus reimbursement of clinic overhead expenses, plus (ii) 66-2/3% of
the cost savings the Company is able to achieve through its purchasing power.
Notwithstanding the foregoing, during the first four years of the term of the
BOS Management Services Agreement, the Company is entitled to receive a
guaranteed minimum annual management fee of $810,000. In connection with the BOS
Affiliation Transaction, the Company also entered into Asset Purchase
Agreements, effective as of August 1, 1997, pursuant to which the Company
purchased certain assets (including accounts receivable) from BOS, Matthews,
Scott and Seavey for an aggregate purchase price of $4,222,498.
Effective August 1, 1997, the Company entered into a Management Services
Agreement (the 'PM&R Management Services Agreement') with Physical Medicine and
Rehabilitation Associates, Inc. ('PM&R'), located in Delray Beach, Florida,
pursuant to which the Company issued 90,659 shares of Common Stock and paid no
additional consideration to the physician owners of PM&R. Under the terms of the
PM&R Management Services Agreement, the Company is entitled to receive a fee
equal to the aggregate of (i) 10% of the Collections of the Practice plus
reimbursement of clinic overhead expenses, plus (ii) 66-2/3% of the cost savings
the Company is able to achieve through its purchasing power. Notwithstanding the
foregoing, during the first five years of the term of the PM&R Management
Services Agreement, the Company is entitled to receive a guaranteed minimum
annual management fee of $136,000. In connection with the PM&R Affiliation
Transaction, the Company also entered into an Asset Purchase Agreement,
effective as of August 1, 1997, pursuant to which the Company purchased certain
assets (including accounts receivable) from PM&R for an aggregate purchase price
of $830,700.
In October 1997, the Company entered into a Management Services Agreement
(the 'OSA Management Services Agreement') with OSA located in Boca Raton,
Florida, pursuant to which the Company issued 44,364 shares of Common Stock and
paid no additional consideration to the physician owners of OSA. The Company may
be required to issue more shares of Common Stock to OSA in 1998 and 1999 based
on the Practice's actual Collections. Under the terms of the OSA Management
Services Agreement, the Company is entitled to receive a fee equal to the
aggregate of (i) 12.5% of the Collections of the Practice plus reimbursement of
clinic overhead expenses, plus (ii) 66-2/3% of the cost savings the Company is
able to achieve through its purchasing power. Notwithstanding the foregoing,
during the first four years of the term of the OSA Management Services
Agreement, the Company is entitled to receive a guaranteed minimum annual
management fee of $799,000. In connection with the OSA Affiliation Transaction,
the Company also entered into an Asset Purchase Agreement, effective as of
September 1, 1997, pursuant to which the Company purchased certain assets
16
<PAGE>
(including accounts receivable) from OSA for an aggregate purchase price of
$6,773,951 and issued 177,455 shares of Common Stock to the physician owners of
OSA.
In October 1997, the Company entered into a Management Services Agreement
(the 'BIOS Management Services Agreement') with BIOS located in Hollywood,
Florida. As consideration to BIOS for entering into the agreement, the Company
issued an aggregate of 182,312 shares of its Common Stock and paid additional
consideration of $24,000 to the BIOS physicians. The Company may be required to
issue more shares of Common Stock to BIOS in 1998 based on BIOS's actual
Collections for a twelve month period. Under the terms of the BIOS Management
Services Agreement, the Company is entitled to receive a fee equal to the
aggregate of (i) 15% of net operating income (as defined in the BIOS Management
Services Agreement) of the Practice, plus (ii) 66-2/3% of the cost savings the
Company is able to achieve through its purchasing power. The Company also
purchased certain assets from BIOS for an aggregate purchase price of
$2,761,563.
In October 1997, the Company entered into a Management Services Agreement
(the 'LOAS Management Services Agreement') with Lighthouse Orthopaedic
Associates, P.A. ('LOAS') located in Lighthouse Point, Florida. As consideration
to LOAS for entering into the agreement, the Company issued an aggregate of
37,837 shares of its Common Stock and paid no additional consideration to the
LOAS physicians. The Company may be required to issue more shares of Common
Stock to the Practice in 1998 based on the Practice's actual Collections for a
twelve month period. Under the terms of the LOAS Management Services Agreement,
the Company is entitled to receive a fee equal to the aggregate of (i) 12.5% of
the Collections of the Practice plus reimbursement of clinic overhead expenses,
plus (ii) 66-2/3% of the cost savings the Company is able to achieve through its
purchasing power. Notwithstanding the foregoing, during the first four years of
the term of the LOAS Management Services Agreement, the Company is entitled to
receive a guaranteed minimum annual management fee of $535,000. In connection
with the LOAS Affiliation Transaction, the Company also entered into Asset
Purchase Agreements, effective as of September 1, 1997, pursuant to which the
Company purchased certain assets (including accounts receivable) from each of
LOAS, certain affiliates of LOAS and each of the physicians of LOAS, for an
aggregate purchase price of $3,899,930 and issued an aggregate of 156,383 shares
of Common Stock to the physician owners of LOAS.
In October 1997, the Company acquired all of the issued and outstanding
shares of common stock of Valley Sports Surgeons, Inc., a physician practice
management company located in Allentown, Pennsylvania ('VSI'), in exchange for
an aggregate of 359,464 shares of Common Stock. Pursuant to the terms of a
Management Services Agreement (the 'Valley Management Services Agreement'), VSI
currently manages Valley Sports & Arthritis Surgeons, P.C., an orthopedic
medical practice also located in Allentown, Pennsylvania ('VSAS'). Under the
terms of the Valley Management Services Agreement, the Company is entitled to
receive a fee equal to the aggregate of (i) 10% of the Collections of the
Practice plus reimbursement of clinic overhead expenses, plus (ii) 66-2/3% of
the cost savings the Company is able to achieve through its purchasing power.
Prior to the acquisition of the capital stock of VSI, the Company purchased
substantially all of the assets of VSAS used in connection with its medical
practice, including certain accounts receivable, for an aggregate purchase price
of $897,727.
Effective November 1, 1997, the Company entered into a Management Services
Agreement (the 'New Jersey Management Services Agreement') with New Jersey
Orthopedic Associates, P.A., a New Jersey professional association ('NJOA'),
located in Freehold, New Jersey, pursuant to which the Company issued 67,859
shares of Common Stock and paid additional consideration of $411,680 to the
physician owners of NJOA. Under the terms of the New Jersey Management Services
Agreement, the Company is entitled to receive a fee equal to the aggregate of
(i) 10% of the Collections of the Practice plus reimbursement of clinic overhead
expenses, plus (ii) 66-2/3% of the cost savings the Company is able to achieve
through its purchasing power. In connection with the NJOA Affiliation
Transaction, the Company entered into an Asset Purchase Agreement, effective
November 1, 1997, pursuant to which the Company purchased certain assets from
Orthopedic Associates of New Jersey, an affiliate of NJOA, for a purchase price
of $75,000. Additionally, NJOA and the Company entered into a Stockholders
Noncompetition Agreement and the Company paid consideration of $954,194 to the
physician owners of NJOA.
17
<PAGE>
Other Eastern Region Affiliations
Effective July 1, 1997, the Company entered into a Management Services
Agreement with Kramer & Maehrer, LLC, located in Bethlehem, Pennsylvania. In
order to enhance the Company's presence in the Ft. Lauderdale market, the
Company entered into Management Services Agreements with Jeffrey Beitler, M.D.,
P.A., located in Aventura, Florida, and Michael Abrahams, M.D., P.A., located in
Plantation, Florida, effective as of September 1, 1997 and August 1, 1997,
respectively. Under the terms of these Management Services Agreements, the
Company is entitled to receive a fee equal to the aggregate of (i) 10% (15% in
the case of Dr. Abrahams) of the Collections of the Practice plus reimbursement
of clinic overhead expenses, plus (ii) 66-2/3% of the cost savings the Company
is able to achieve through its purchasing power.
Central Region
The Company's initial Affiliation Transaction in the central region was
with STSC. The Company entered into a Management Services Agreement with STSC,
located in San Antonio, Texas, effective as of November 1, 1996, pursuant to
which the Company issued 768,929 shares of Common Stock and deferred
consideration of $915,835. Pursuant to the STSC Management Services Agreement,
the Company is entitled to receive a management fee equal to an aggregate of (i)
11-1/2% of Collections of the Practice (less certain lease payments) plus
reimbursement of clinic overhead expenses, plus (ii) 66-2/3% of the cost savings
the Company is able to achieve through its purchasing power. The Company also
entered into an asset purchase agreement with STSC, pursuant to which the
Company agreed to purchase certain assets (including accounts receivable) and
assume certain liabilities for a purchase price of (i) $1,703,826 (subject to
adjustment based upon the Company's actual collection of the purchased accounts
receivable), plus (ii) a future payment of $446,327.
Other Central Region Affiliations
Effective July 1, 1997, the Company entered into a Management Services
Agreement with Eradio Arrendondo, M.D., P.A., located in San Antonio, Texas.
Western Region
Effective November 1, 1996, the Company entered into a Management Services
Agreement (the 'SCOI Management Services Agreement') with SCOI, located in Van
Nuys, California, and, in connection therewith, the Company issued 2,857,140
shares of Common Stock to the physician owners and certain key employees of
SCOI. Under the SCOI Management Services Agreement, the Company is entitled to
receive a fee equal to the aggregate of (i) 10% of the Collections of the
Practice (if certain conditions are met) less certain equipment lease payments
plus reimbursement of clinic overhead expenses, plus (ii) 66-2/3% of the cost
savings the Company is able to achieve through its purchasing power.
Simultaneously with the execution and delivery of the SCOI Management Services
Agreement and pursuant to an Asset Purchase Agreement, the Company acquired
certain assets (including the outstanding accounts receivable), and assumed
certain liabilities, of SCOI for an aggregate purchase price of $5,930,897
(which included $4,448,000 of value of accounts receivable purchased).
In a subsequent transaction with the Center for Orthopedic Surgery, Inc.
('COSI'), an outpatient surgery center in Van Nuys, California owned by the SCOI
physicians, the Company issued 392,857 shares of Common Stock to the physician
owners of COSI as consideration for the execution of the Management Services
Agreement entered into between COSI and the Company (the 'COSI Management
Services Agreement').
The number of shares issued to the physicians in connection with each of
the SCOI and COSI Affiliation Transactions was subject to recalculation as of
November 1, 1997. As a result of such recalculation provisions, the Company
expects to issue approximately 887,000 additional shares of Common Stock to the
SCOI physicians.
To expand its network in the western region, effective April 1, 1997, the
Company entered into a Management Services Agreement (the 'Tri-City Management
Services Agreement') with Tri-City, located in Oceanside, California, pursuant
to which the Company issued 287,659 shares of Common Stock and paid $202,900 to
the physician owners of Tri-City. Under the terms of the Tri-City Management
Services Agreement, the Company is entitled to receive a fee equal to the
aggregate of (i) 10% of Collections of the Practice (less
18
<PAGE>
certain lease payments) plus reimbursement of clinic overhead expenses, plus
(ii) 66-2/3% of the cost savings the Company is able to achieve through its
purchasing power. In connection with the Tri-City Affiliation Transaction, the
Company also entered into three Asset Purchase Agreements with Tri-City or
affiliates thereof, all effective as of April 1, 1997, pursuant to which the
Company purchased certain assets (including accounts receivable) from such
parties for an aggregate purchase price of $745,300 ($519,000 of which is
subject to adjustment, based upon the Company's actual collection of the
purchased accounts receivable).
Effective July 1, 1997, the Company entered into a Management Services
Agreement (the 'Sun Valley Management Services Agreement') with Sun Valley
Orthopaedic Surgeons, an Arizona general partnership ('Sun Valley'), located in
Sun City, Arizona, pursuant to which the Company issued 112,719 shares of Common
Stock and paid no additional consideration to the physician owners of Sun
Valley. The Sun Valley Management Services Agreement requires the Company to pay
additional cash consideration to the physician owners of Sun Valley if the
current market value of the Company's Common Stock is not at least equal to a
specified price on the first anniversary of such agreement. Under the terms of
the Sun Valley Management Services Agreement, the Company is entitled to receive
a fee equal to the aggregate of (i) 10% of the Collections of the Practice plus
reimbursement of clinic overhead expenses, plus (ii) 66-2/3% of the cost savings
the Company is able to achieve through its purchasing power. In connection with
the Sun Valley Affiliation Transaction, the Company also entered into an Asset
Purchase Agreement, effective as of July 1, 1997, pursuant to which the Company
purchased certain assets (including accounts receivable) from Sun Valley for an
aggregate purchase price of $355,750.
Effective July 1, 1997, the Company entered into a Management Services
Agreement (the 'Stockdale Management Services Agreement') with Stockdale
Podiatry Group, Inc. ('Stockdale'), located in Bakersfield, California, pursuant
to which the Company issued 88,846 shares of Common Stock and paid additional
consideration of $300,435 to the physician owners of Stockdale. Under the terms
of the Stockdale Management Services Agreement, the Company is entitled to
receive a fee equal to the aggregate of (i) 10% of the Collections of the
Practice plus reimbursement of clinic overhead expenses, plus (ii) 66-2/3% of
the cost savings the Company is able to achieve through its purchasing power. In
connection with the Stockdale Affiliation Transaction, the Company also entered
into an Asset Purchase Agreement, effective as of August 1, 1997, pursuant to
which the Company purchased certain assets (including accounts receivable) from
Stockdale for an aggregate purchase price of $516,065.
Other Western Region Affiliations
Effective June 1, 1997 in order to enhance the Company's presence in the
Los Angeles market area, the Company entered into separate Management Services
Agreements with H. Leon Brooks, M.D. and Clive Segil, M.D., both located in Los
Angeles, California. In addition, effective July 1, 1997, in order to establish
a presence in the Lake Tahoe area, the Company entered into separate Management
Services Agreements with R.C. Watson, M.D., Inc., Swanson Orthopedic Medical
Corporation and Lake Tahoe Sports Medicine Center, all located in South Lake
Tahoe, California. In addition, effective July 1, 1997, the Company entered into
a Management Services Agreement with Robert O. Wilson, M.D. located in Sun City,
Arizona. Effective August 1, 1997 the Company entered into a Management Services
Agreement with John Zimmerman, M.D. located in Bakersfield, California. Under
the terms of each of these Management Services Agreements, the Company is
entitled to receive a fee equal to the aggregate of (ii) 10% of the Collections
of the Practice plus reimbursement of clinic overhead expenses, plus (ii)
66-2/3% of the cost savings the Company is able to achieve through its
purchasing power.
In October 1997, the Company acquired its IPA, Orthopaedic Management
Network, Inc., an Arizona corporation, in exchange for $63,000 in cash, the
assumption of $809,332 in accounts payable and accrued liabilities and the
issuance of 40,740 shares of Common Stock.
19
<PAGE>
USE OF PROCEEDS
The net proceeds to the Company from the sale of the 4,000,000 shares of
Common Stock offered hereby are estimated to be $35.7 million ($41.3 million if
the Underwriters' over-allotment option is exercised in full), based on an
assumed initial public offering price of $10.00 per share and after deducting
estimated underwriting discounts and expenses of the Offering. The Company
intends to use approximately $34.4 million of the net proceeds to repay certain
indebtedness and the remaining net proceeds for general corporate purposes,
including possible future affiliations.
The indebtedness being repaid consists of (i) approximately $12.2 million
(the 'HCFP Debt') outstanding under several loan and security agreements
(collectively, the 'HCFP Loan Agreements') between the Company and HCFP Funding,
Inc. ('HCFP Funding'), an affiliate of Health Care Financial Partners; (ii)
approximately $6.0 million of subordinated debt (the 'Comdisco Loan')
outstanding under a Subordinated Loan and Security Agreement (the 'Comdisco Loan
Agreement') between the Company and Comdisco, Inc. ('Comdisco'); (iii)
approximately $1.5 million of subordinated debt (the 'Cedar Loan') outstanding
under a Subordinated Loan and Security Agreement (the 'Cedar Loan Agreement')
between the Company and Cedar Equities, LLC ('Cedar'); (iv) approximately $3.4
million of subordinated debt due to certain stockholders ('the Stockholder
Debt'); (v) approximately $9.4 million of notes and obligations payable to
physician groups issued in connection with Affiliation Transactions (the
'Physician Notes'); and (vi) approximately $1.9 million of debt owed to Dr.
Nagpal (the 'Nagpal Debt'). See 'Certain Transactions.'
The HCFP Debt was incurred for working capital purposes and to finance
Affiliation Transactions, bears interest at rates ranging from 10 1/4% to 12%
per annum and matures from 1998 to 2000. The indebtedness under the Comdisco
Loan and the Cedar Loan was incurred to finance Affiliation Transactions, bears
interest at 14% per annum and matures on December 1 and December 31, 2000. The
Stockholder Debt was incurred to finance Affiliation Transactions, bears
interest at the prime rate plus 3.5% (12% at December 31, 1997) and matures on
January 1, 1999. The Physician Notes were issued in connection with Affiliation
Transactions, bear interest at rates ranging from 6% to 11% and mature between
March 1998 and October 1998. The Nagpal Debt was also incurred to finance
Affiliation Transactions, bears interest at 14% per annum and is payable on
demand.
Pending use of the remaining net proceeds for general corporate purposes,
the Company intends to invest such net proceeds in short-term, investment grade,
interest-bearing securities. The Company continues to review and evaluate
additional Practices for purposes of future Affiliation Transactions, but as of
the date of this Prospectus has not entered into agreements with any such
Practices.
DIVIDEND POLICY
The Company has never paid or declared dividends on the Common Stock and
does not anticipate paying any dividends on the Common Stock in the foreseeable
future. Under the terms of the HCFP Loan Agreements and the Debenture Purchase
Agreement (as defined) the Company is prohibited from declaring or paying any
cash dividend or making any distribution on any class of stock, except pursuant
to an employee repurchase plan or with the consent of its lenders. See
'Management's Discussion and Analysis of Financial Condition and Results of
Operations--Liquidity and Capital Resources' and 'Certain Transactions.'
20
<PAGE>
CAPITALIZATION
The following table sets forth the actual capitalization of the Company at
September 30, 1997, the pro forma capitalization of the Company at September 30,
1997 after giving effect to the Affiliation Transactions and the pro forma
capitalization as adjusted to give effect to the sale of the 4,000,000 shares of
Common Stock offered hereby (based on an assumed initial public offering price
of $10.00 per share and after deducting estimated underwriting discounts and
expenses of the Offering), the application of the net proceeds therefrom and the
automatic conversion of all outstanding shares of preferred stock into shares of
Common Stock. See 'Use of Proceeds' and 'Description of Capital Stock.' The
table should be read in conjunction with the Pro Forma Financial Information and
'Management's Discussion and Analysis of Financial Condition and Results of
Operations' and the historical financial statements of the Company and the
Existing Practices appearing elsewhere in this Prospectus.
<TABLE>
<CAPTION>
SEPTEMBER 30, 1997
------------------------------------
PRO FORMA
ACTUAL PRO FORMA AS ADJUSTED
-------- --------- -----------
(IN THOUSANDS)
<S> <C> <C> <C>
Short-term debt, including current portion of long-term debt and capital
lease obligation.......................................................... $ 3,102 $ 19,213 $ 15
-------- --------- -----------
-------- --------- -----------
Long-term debt and capital lease obligation, less current portion........... $ 16,480 $ 18,491 $ 4,051
Stockholders' equity:
Convertible preferred stock, $0.01 par value--9,233,049 shares authorized,
4,184,740 shares issued and outstanding; 4,184,740 shares authorized,
issued and outstanding pro forma; and no shares issued and outstanding
pro forma as adjusted.................................................. 42 42 --
Common stock, $0.001 par value--25,000,000 shares authorized; 7,177,481
shares issued and outstanding; 9,174,033 shares issued and outstanding
pro forma; and 16,163,133 shares issued and outstanding pro forma as
adjusted(1)............................................................ 7 9 16(2)
Additional paid-in capital................................................ 45,953 65,792 101,527
Deferred compensation..................................................... (1,706) (1,706) (1,706)
Accumulated deficit....................................................... (10,602) (24,048) (24,748)
-------- --------- -----------
Total stockholders' equity............................................. 33,694 40,089 75,089
-------- --------- -----------
Total capitalization.............................................. $ 50,174 $ 58,580 $ 79,140
-------- --------- -----------
-------- --------- -----------
</TABLE>
- ------------------
(1) Excludes 1,135,046 shares issuable upon exercise of outstanding options with
a weighted average exercise price of $1.48 per share and 301,189 shares of
Common Stock issuable upon exercise of outstanding warrants to purchase
Common Stock with a weighted average exercise price of $4.62 per share. See
'Management' and 'Certain Transactions.'
(2) Includes 2,989,100 shares of Common Stock issuable upon conversion of the
Preferred Stock upon consummation of the Offering and 887,000 shares of
Common Stock issuable to the SCOI physicians related to the recalculation
provisions contained in the SCOI and COSI Management Services Agreements.
See "The Company--Affiliation Transactions."
21
<PAGE>
DILUTION
As of September 30, 1997, the pro forma net tangible book value of the
Company was approximately $36,957,000 or approximately $3.04 per share. Pro
forma 'net tangible book value per share' represents the amount of the Company's
total pro forma tangible assets less the Company's total pro forma liabilities
divided by the number of shares of Common Stock outstanding, after giving effect
to the conversion of all outstanding shares of Preferred Stock (including
accrued dividends) into shares of Common Stock. After giving effect to the sale
of 4,000,000 shares of Common Stock offered by the Company hereby based on an
assumed initial public offering price of $10.00 per share and after deducting
estimated underwriting discounts and expenses of the Offering, the pro forma net
tangible book value of the Company at September 30, 1997 would have been
approximately $71,957,000 or approximately $4.45 per share of Common Stock,
representing an immediate increase in pro forma net tangible book value of $1.41
per share to existing stockholders and an immediate, substantial dilution of
$5.55 per share to persons purchasing shares of Common Stock offered hereby. The
following table illustrates this dilution:
<TABLE>
<S> <C> <C>
Assumed initial public offering price per share....................................... $10.00
Pro forma net tangible book value per share at September 30, 1997................... $3.04
Increase attributable to price paid by new investors per share...................... 1.41
-----
Pro forma net tangible book value per share after the Offering........................ 4.45
------
Dilution per share to new investors................................................... $ 5.55
------
------
</TABLE>
The following table sets forth, as of September 30, 1997, the pro forma
number of shares of Common Stock purchased from the Company, the total
consideration paid to the Company and the average price paid per share by
existing stockholders and purchasers of shares of Common Stock offered hereby,
after giving effect to (i) the sale of 4,000,000 shares of Common Stock offered
hereby based on an assumed initial public offering price of $10.00 per share,
before deducting estimated underwriting discounts and expenses of the Offering,
(ii) the conversion of all outstanding shares of Preferred Stock of the Company
into shares of Common Stock and (iii) the issuance of 887,000 shares of Common
Stock to the SCOI physicians relating to the recalculation provisions contained
in the SCOI and COSI Management Services Agreements. See "The
Company--Affiliation Transactions."
<TABLE>
<CAPTION>
SHARES PURCHASED TOTAL CONSIDERATION AVERAGE
--------------------- ----------------------- PRICE PER
NUMBER PERCENT AMOUNT PERCENT SHARE
---------- ------- ------------ ------- ---------
<S> <C> <C> <C> <C> <C>
Existing stockholders...................... 12,163,133 75.3% $ 62,964,000 61.2% $ 5.18
New investors.............................. 4,000,000 24.7 40,000,000 38.8 $ 10.00
---------- ------- ------------ -------
Total............................... 16,163,133 100.0% $102,964,000 100.0%
---------- ------- ------------ -------
---------- ------- ------------ -------
</TABLE>
The foregoing computations do not include the effect of the issuance of
1,135,046 shares of Common Stock issuable upon exercise of outstanding options
with a weighted average exercise price of $1.48 per share and 301,189 shares of
Common Stock issuable upon exercise of outstanding warrants with a weighted
average exercise price of $4.62 per share. To the extent such options and
warrants are exercised, there will be further dilution to the new investors. See
'Management' and 'Certain Transactions.'
22
<PAGE>
PRO FORMA FINANCIAL INFORMATION
The pro forma statement of operations for the nine months ended September
30, 1997 gives effect to (i) the 1997 Affiliation Transactions and (ii) receipt
and application of the estimated net proceeds from this Offering at an assumed
initial public offering price of $10.00 per share, as if each of such
transactions had occurred on January 1, 1996. The pro forma statement of
operations for the year ended December 31, 1996 gives effect to (i) the
Affiliation Transactions and (ii) the receipt and application of the estimated
net proceeds from this Offering, as if each of such transactions had occurred on
January 1, 1996. The pro forma balance sheet as of September 30, 1997 gives
effect to (i) the 1997 Affiliation Transactions occurring after September 30,
1997,(ii) the receipt and application of the estimated net proceeds from this
Offering and (iii) the conversion of all outstanding Preferred Stock and other
outstanding equity securities into Common Stock concurrently with the Offering
as if all of such transactions had occurred on September 30, 1997. The pro forma
financial information is based on the financial statements of the Company, after
giving effect to the assumptions and adjustments in the accompanying notes to
the pro forma financial information. Although such information is based on
preliminary allocations of the consideration paid in connection with the 1997
Affiliation Transactions, the Company does not expect that the final allocations
will be materially different from such preliminary allocations.
The pro forma financial information has been prepared by management based
on the historical financial statements of the Company and the Existing Practices
at and for the year ended December 31, 1996 and the nine months ended September
30, 1997, adjusted where necessary to reflect the Affiliation Transactions as if
the related Management Service Agreements had been in effect during the entire
periods presented. The pro forma financial information is presented for
illustrative purposes and does not purport to represent what the results of
operations or financial condition of the Company for the periods or at the dates
presented would have been if such transactions had been consummated as of such
dates and is not indicative of the results that may be obtained in the future.
BMJ MEDICAL MANAGEMENT, INC.
UNAUDITED PRO FORMA STATEMENT OF OPERATIONS
NINE MONTHS ENDED SEPTEMBER 30, 1997
<TABLE>
<CAPTION>
1997 AFFILIATIONS (A)
---------------------------------------------------------------------
THE GOLD SUN OTHER PRO FORMA
COMPANY(B) TRI- CITY LOS COAST VALLEY BIOS OSA AFFILIATIONS ADJUSTMENTS
---------- -------- ------ ------ ------ ------- ------ ------------ -----------
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Practice revenues, net........... $ 38,325 $1,240 $1,600 $1,609 $1,358 $ 5,333 $5,245 $ 22,516 $ --
Less: amounts retained by (6,513)(c)
physician groups................ (17,878) (702) (813) (1,005) (782) (2,874) (2,846) (11,594) (305)(d)
---------- -------- ------ ------ ------ ------- ------ ------ -----------
Management fee revenue........... 20,447 538 787 604 576 2,459 2,399 10,922 (6,818)
Costs and expenses:
Medical support services........ 17,934 538 787 604 576 2,459 2,399 10,922 --
General and administrative
(e)........................... 5,962 -- -- -- -- -- -- -- --
Depreciation and amortization... 4,489 -- -- -- -- -- -- -- 6,737(f)
Interest expense (income),
net........................... 922 -- -- -- -- -- -- -- 2,630(h)
---------- -------- ------ ------ ------ ------- ------ ------ -----------
Total costs and expenses...... 29,307 538 787 604 576 2,459 2,399 10,922 9,367
---------- -------- ------ ------ ------ ------- ------ ------ -----------
Loss before income taxes......... (8,860) -- -- -- -- -- -- -- (2,549)
---------- -------- ------ ------ ------ ------- ------ ------ -----------
Income taxes..................... -- -- -- -- -- -- -- -- --
---------- -------- ------ ------ ------ ------- ------ ------ -----------
Net loss......................... $ (8,860) $ -- $ -- $ -- $ -- $ -- $ -- $ -- $(2,549)
---------- -------- ------ ------ ------ ------- ------ ------ -----------
---------- -------- ------ ------ ------ ------- ------ ------ -----------
Net loss per common share:
Primary......................... $ (1.02)
Diluted......................... $ (1.02)
Weighted average number of common shares
outstanding:
Primary......................... 8,722
Diluted......................... 8,722
<CAPTION>
OFFERING PRO FORMA
PRO FORMA ADJUSTMENTS AS ADJUSTED
--------- ----------- -----------
<S> <C> <C> <C>
Practice revenues, net........... $ 77,226 $ -- $ 77,226
Less: amounts retained by
physician groups................ (31,676) -- (31,676)
--------- ----------- -----------
Management fee revenue........... 45,550 -- 45,550
Costs and expenses:
Medical support services........ 36,219 -- 36,219
General and administrative
(e)........................... 5,962 -- 5,962
Depreciation and amortization... 11,226 -- 11,226(g)
Interest expense (income),
net........................... 3,552 (3,256)(i) 296
--------- ----------- -----------
Total costs and expenses...... 56,959 (3,256) 53,703
--------- ----------- -----------
Loss before income taxes......... (11,409) 3,256 (8,153)
--------- ----------- -----------
Income taxes..................... -- -- --
--------- ----------- -----------
Net loss......................... $(11,409) $ 3,256 $ (8,153) (g)
--------- ----------- -----------
--------- ----------- -----------
Net loss per common share:
Primary......................... $ (0.45)(g)
Diluted......................... $ (0.44)(g)
Weighted average number of common
outstanding:
Primary......................... 18,152(j)
Diluted......................... 18,549(j)
</TABLE>
23
<PAGE>
BMJ MEDICAL MANAGEMENT, INC.
UNAUDITED PRO FORMA STATEMENT OF OPERATIONS
YEAR ENDED DECEMBER 31, 1996
<TABLE>
<CAPTION>
1997 AFFILIATIONS (A)
1996 AFFILIATIONS (A) ----------------------------------------------------------
THE -------------------------- GOLD SUN
COMPANY(B) LVBMJ SCOI STSC TRI-CITY LOS COAST VALLEY BIOS OSA
---------- ------ ------- ------- -------- ------- ------- ------- ------- -------
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Practice revenues, net...... $ 6,029 $1,540 $17,907 $ 6,027 $ 3,478 $ 6,365 $ 3,434 $ 2,468 $ 7,615 $ 8,470
Less: amounts retained by
physician groups........... (2,912) (716) (9,141) (4,399) (1,658) (4,055) (2,050) (1,384) (2,353) (2,656)
---------- ------ ------- ------- -------- ------- ------- ------- ------- -------
Management fee revenue...... 3,117 824 8,766 1,628 1,820 2,310 1,384 1,084 5,262 5,814
Costs and expenses:
Medical support services... 2,844 824 8,766 1,628 1,820 2,310 1,384 1,084 5,262 5,814
General and administrative
(e)...................... 1,299 -- -- -- -- -- -- -- -- --
Depreciation and
amortization............. 737 -- -- -- -- -- -- -- -- --
Interest expense (income),
net...................... (21) -- -- -- -- -- -- -- -- --
---------- ------ ------- ------- -------- ------- ------- ------- ------- -------
Total costs and
expenses................ 4,859 824 8,766 1,628 1,820 2,310 1,384 1,084 5,262 5,814
---------- ------ ------- ------- -------- ------- ------- ------- ------- -------
Loss before income taxes.... (1,742) -- -- -- -- -- -- -- -- --
Income taxes................ -- -- -- -- -- -- -- -- -- --
---------- ------ ------- ------- -------- ------- ------- ------- ------- -------
Net loss.................... $ (1,742) $ -- $ -- $ -- $ -- $ -- $ -- $ -- $ -- $ --
---------- ------ ------- ------- -------- ------- ------- ------- ------- -------
---------- ------ ------- ------- -------- ------- ------- ------- ------- -------
Net (loss) income per
common share:
Primary.................... $ (0.21)
Diluted.................... $ (0.21)
Weighted average number of common
shares outstanding:
Primary.................... 8,273
Diluted.................... 8,273
<CAPTION>
OTHER PRO FORMA OFFERING PRO FORMA
AFFILIATIONS ADJUSTMENTS PRO FORMA ADJUSTMENTS AS ADJUSTED
------------ ----------- ----------- ----------- -----------
<S> <C> <C> <C> <C> <C>
Practice revenues, net...... $ 30,812 $ -- $ 94,145 $ -- $ 94,145
Less: amounts retained by 8,372(c)
physician groups........... (11,977) 1,537(d) (33,392) -- (33,392)
------ ----------- ----------- ----------- -----------
Management fee revenue...... 18,835 9,909 60,753 -- 60,753
Costs and expenses:
Medical support services... 18,835 -- 50,571 -- 50,571
General and administrative
(e)...................... -- -- 1,299 -- 1,299
Depreciation and
amortization............. -- 13,754(f) 14,491 -- 14,491(g)
Interest expense (income),
net...................... -- 4,297(h) 4,276 (4,020)(i) 256
------ ----------- ----------- ----------- -----------
Total costs and
expenses................ 18,835 18,051 70,637 (4,020) 66,617
------ ----------- ----------- ----------- -----------
Loss before income taxes.... -- (8,142) (9,884) 4,020 (5,864)
Income taxes................ -- -- -- -- --
------ ----------- ----------- ----------- -----------
Net loss.................... $ -- $ (8,142) $ (9,884) $ 4,020 $ (5,864)(g)
------ ----------- ----------- ----------- -----------
------ ----------- ----------- ----------- -----------
Net (loss) income per
common share:
Primary.................... $ (0.32)(g)
Diluted.................... $ (0.32)(g)
Weighted average number of c
shares outstanding:
Primary.................... 18,152(j)
Diluted.................... 18,549(j)
</TABLE>
24
<PAGE>
NOTES TO PRO FORMA STATEMENTS OF OPERATIONS
Practice revenue represents the revenue of the Existing Practices and the
COSI ambulatory surgery center reported at the estimated realizable amounts from
patients, third party payors and others for services rendered, net of
contractual and other adjustments. Management fee revenue represents practice
revenue less amounts retained by the Existing Practices (consisting of amounts
retained by physician groups, principally compensation and fees paid to
physicians). Under each Management Services Agreement, the Company assumes
responsibility for the management of the non-medical operations of the Practice,
employs substantially all of the non-professional personnel utilized by the
Practice and may provide the Practice with the facilities and equipment used in
its medical practice.
The Emerging Issues Task Force of the Financial Accounting Standards Board
recently reached a consensus concerning certain matters relating to the PPM
industry with respect to consolidation of professional corporation revenues and
the accounting for business combinations. As an interim step before the
consensus, theCommission allowed PPMs to display the revenues and expenses of
managed physician practices in the statement of operations (the 'alternative
display' method) if the terms of the management agreement provided the PPM with
a 'net profits or equivalent interest'. It is the Company's understanding that
the Commission will not object to the continued use of the 'alternative display'
method in PPM financial statements for periods ending before December 15, 1998.
Thereafter, the alternative display method will no longer be accepted.
Consequently, for years ended after December 31, 1997, the Company will no
longer present physician groups' revenue less amounts retained by the physician
groups as management fee revenue in its statements of operations. The Company is
currently evaluating the impact that this consensus may have on its affiliation
strategy. The Company does not expect this consensus to have an impact on the
allocation of consideration to affiliations or the amortization life assigned to
intangible assets.
The Company's operating expenses consist of the expenses incurred in
fulfilling its obligations under the Management Services Agreements. These
expenses include medical support services (principally clinic overhead expenses
that would have been incurred by the Existing Practices, including
non-professional employee salaries, employee benefits, medical supplies,
malpractice insurance premiums, rent and other expenses related to clinic
operations) and general and administrative expenses (personnel and
administrative expenses in connection with maintaining a corporate office that
provides management, contracting, administrative, marketing and development
services to the Existing Practices). The Practices' operating expenses prior to
affiliation with the Company consist of the clinic overhead expenses, including
non-professional employee salaries, employee benefits, medical supplies,
malpractice insurance premiums, rent, depreciation and amortization and general
and administrative expenses related to clinic operations which have been
presented as medical support services.
(a) The 1996 Affiliations column presents historical information for
the portion of the year preceding the Practices' affiliation with the
Company recognizing that the Practices typically distribute any net income
to the physicians as compensation. In the pro forma statement of operations
for the year ended December 31, 1996, the 1997 Affiliations columns present
historical information of the 1997 Affiliation Transactions for the year
ended December 31, 1996, recognizing that the Practices typically
distribute any net income to the physicians as compensation. In the pro
forma statement of operations for the nine months ended September 30, 1997,
the 1997 Affiliations column presents historical information of the 1997
Affiliation Transactions for the portion of the year preceding the
Practices' affiliation with the Company recognizing that the Practices
typically distribute any net income to the physicians as compensation.
Physician compensation is presented as amounts retained by physician
groups.
25
<PAGE>
The Other Affiliations column presents the information from the following
practices:
NINE MONTHS ENDED SEPTEMBER 30, 1997
<TABLE>
<CAPTION>
PRACTICE AMOUNTS RETAINED MANAGEMENT MEDICAL
REVENUES, BY FEE SUPPORT
PRACTICE NET PHYSICIAN GROUPS REVENUE SERVICES
- ---------------------------------------------------------- --------- ----------------- ---------- --------
(IN THOUSANDS)
<S> <C> <C> <C> <C>
Tower Orthopedics......................................... $ 376 $ 150 $ 226 $ 226
Clive Segil, M.D.......................................... 285 100 185 185
R.C. Watson, M.D.......................................... 441 169 272 272
Swanson Orthopedics....................................... 316 126 190 190
Lake Tahoe Sports......................................... 270 89 181 181
San Antonio Bone & Joint.................................. 196 71 125 125
Stockdale Podiatry........................................ 1,008 397 611 611
John Zimmerman, M.D....................................... 338 141 197 197
Broward Orthopedic Specialists............................ 4,239 1,753 2,486 2,486
Jeffrey Beitler, M.D...................................... 340 157 183 183
Michael Abrahams, M.D..................................... 1,118 486 632 632
Physical Medicine and Rehabilitation...................... 835 468 367 367
Kramer & Maehrer, LLC..................................... 412 261 151 151
Lighthouse Orthopaedics................................... 5,661 3,032 2,629 2,629
Valley Sports & Arthritis Surgeons........................ 3,340 1,904 1,436 1,436
New Jersey Orthopedic Associates.......................... 2,110 1,224 886 886
Orthopaedic Management Network, Inc. (Omni IPA)........... 1,231 1,066 165 165
--------- -------- ---------- --------
Totals.................................................. $22,516 $11,594 $ 10,922 $ 10,922
--------- -------- ---------- --------
--------- -------- ---------- --------
</TABLE>
YEAR ENDED DECEMBER 31, 1996
<TABLE>
<CAPTION>
PRACTICE AMOUNTS RETAINED MANAGEMENT MEDICAL
REVENUES, BY FEE SUPPORT
PRACTICE NET PHYSICIAN GROUPS REVENUE SERVICES
- ---------------------------------------------------------- --------- ----------------- ---------- -------
(IN THOUSANDS)
<S> <C> <C> <C> <C>
Tower Orthopedics......................................... $ 536 $ 214 $ 322 $ 322
Clive Segil, M.D.......................................... 535 187 348 348
R.C. Watson, M.D.......................................... 610 244 366 366
Swanson Orthopedics....................................... 550 180 370 370
Lake Tahoe Sports......................................... 618 236 382 382
San Antonio Bone & Joint.................................. 464 167 297 297
Stockdale Podiatry........................................ 1,856 731 1,125 1,125
John Zimmerman, M.D....................................... 676 283 393 393
Broward Orthopedic Specialists............................ 6,407 2,044 4,363 4,363
Jeffrey Beitler, M.D...................................... 501 138 363 363
Michael Abrahams, M.D..................................... 1,398 587 811 811
Physical Medicine and Rehabilitation...................... 1,600 539 1,061 1,061
Kramer & Maehrer, LLC..................................... 749 474 275 275
Lighthouse Orthopaedics................................... 5,747 1,743 4,004 4,004
Valley Sports & Arthritis Surgeons........................ 4,687 1,663 3,024 3,024
New Jersey Orthopedic Associates.......................... 2,927 1,698 1,229 1,229
Orthopaedic Management Network, Inc. (Omni IPA)........... 951 849 102 102
--------- -------- ---------- -------
Totals.................................................. $30,812 $11,977 $ 18,835 $18,835
--------- -------- ---------- -------
--------- -------- ---------- -------
</TABLE>
(b) In the pro forma statement of operations for the year ended
December 31, 1996, the Company column includes the operations of the
Existing Practices that affiliated with the Company in 1996 from the date
of affiliation and all actual expenses related to corporate infrastructure,
which were primarily general and administrative expenses. In the pro forma
statement of operations for the nine months ended September 30, 1997, the
Company column includes all operations of the Existing Practices that
affiliated with the Company in 1996 and the operations of the Existing
Practices that affiliated with the Company in the first nine months of 1997
from the date of affiliation and all actual expenses related to corporate
infrastructure, which were primarily general and administrative expenses
and included $2.2 million of non-cash compensation expenses related to
stock options. See 'Management's Discussion and Analysis of Financial
Condition and Results of Operations.'
26
<PAGE>
(c) Reflects the impact of applying the provisions of the Management
Services Agreements relating to the portion of the management fees payable
to the Company that are based on a percentage of revenue.
<TABLE>
<CAPTION>
NINE MONTHS
YEAR ENDED ENDED
DECEMBER 31, SEPTEMBER 30,
PRACTICE 1996 1997
- ------------------------------------------------------------------------------------ ------------ -------------
(IN THOUSANDS)
-----------------------------
<S> <C> <C>
LVBMJ/Orthopaedic Associates of Bethlehem........................................... $ 154 $ 1,052
Southern California Orthopedic Institute............................................ 596 531
COSI................................................................................ -- 286
South Texas Spinal Clinic........................................................... 633 310
Tri-City Orthopedics................................................................ 348 124
Lauderdale Orthopaedic Surgeons..................................................... 637 160
Gold Cost Orthopedics............................................................... 515 241
Sun Valley Orthopaedics............................................................. 247 136
Tower Orthopedics................................................................... 53 37
Clive Segil, M.D.................................................................... 53 29
R.C. Watson, M.D.................................................................... 61 45
Swanson Orthopedics................................................................. 55 31
Lake Tahoe Sports................................................................... 62 27
San Antonio Bone & Joint............................................................ 53 23
Stockdale Podiatry.................................................................. 185 101
John Zimmerman, M.D................................................................. 68 34
Broward Orthopedic Specialists...................................................... 961 636
Jeffrey Beitler, M.D................................................................ 50 34
Michael Abrahams, M.D............................................................... 210 112
Physical Medicine and Rehabilitation................................................ 160 125
Kramer & Maehrer, LLC............................................................... 75 41
Broward Institute of Orthopaedic Specialties........................................ 609 427
Lighthouse Orthopaedics............................................................. 718 708
Orthopaedic Surgery Associates...................................................... 1,059 656
Valley Sports & Arthritis Surgeons.................................................. 469 334
New Jersey Orthopedic Associates.................................................... 293 211
Orthopaedic Management Network, Inc. (Omni IPA)..................................... 48 62
------------ -------------
Totals............................................................................ $8,372 $ 6,513
------------ -------------
------------ -------------
</TABLE>
(d) Reflects the impact of applying the provisions of the SCOI
Management Services Agreement and the amended and restated LVBMJ Management
Services Agreement relating to management fees payable to the Company
retroactively to January 1, 1996 and 1997 whereby the base management fees
are adjusted to 10% of net collected revenue.
(e) Excludes the impact of recording noncash compensation expense of
$12 million to $14 million relating to the recalculation provisions
contained in the SCOI and COSI Management Services Agreements to be
incurred in the fourth quarter of 1997 with respect to the 887,000 shares
issuable to the SCOI physicians as a result of such provisions. No other
Management Services Agreements contain or are expected to contain similar
recalculation provisions. See 'Management's Discussion and Analysis of
Financial Condition and Results of Operations--Results of
Operations--General and Administrative.'
27
<PAGE>
(f) Reflects increase in depreciation and amortization expense for
intangible assets and furniture, fixtures and equipment based upon the
Affiliation Transactions as if they had all occurred on January 1, 1996 and
January 1, 1997. The intangible assets related to all the affiliations
total approximately $37.2 million at September 30, 1997 and are being
amortized over four years. The adjustment by Practice is as follows (see
Note 2 to the financial statements for the allocation of consideration in
the Affiliation Transactions):
<TABLE>
<CAPTION>
NINE MONTHS
YEAR ENDED ENDED
DECEMBER 31, SEPTEMBER 30,
PRACTICE 1996 1997
- ------------------------------------------------------------------------------------ ------------ -------------
(IN THOUSANDS)
-----------------------------
<S> <C> <C>
LVBMJ/Orthopaedic Associates of Bethlehem........................................... $ 334 $ 87
Southern California Orthopedic Institute............................................ 1,541 (14)
COSI................................................................................ 371 93
South Texas Spinal Clinic........................................................... 805 0
Tri-City Orthopedics................................................................ 351 88
Lauderdale Orthopaedic Surgeons..................................................... 513 128
Gold Cost Orthopedics............................................................... 825 344
Sun Valley Orthopaedics............................................................. 398 199
Tower Orthopedics................................................................... 115 48
Clive Segil, M.D.................................................................... 105 44
R.C. Watson, M.D.................................................................... 109 55
Swanson Orthopedics................................................................. 128 64
Lake Tahoe Sports................................................................... 91 46
San Antonio Bone & Joint............................................................ 107 54
Stockdale Podiatry.................................................................. 265 133
John Zimmerman, M.D................................................................. 97 48
Broward Orthpedic Specialists....................................................... 1,555 907
Jeffrey Beitler, M.D................................................................ 77 51
Michael Abrahams, M.D............................................................... 222 129
Physical Medicine and Rehabilitation................................................ 287 167
Kramer & Maehrer, LLC............................................................... 108 54
Broward Institute of Orthopaedic Specialties........................................ 1,030 773
Lighthouse Orthopaedics............................................................. 1,114 836
Orthopaedic Surgery Associates...................................................... 1,740 1,305
Valley Sports & Arthritis Surgeons.................................................. 807 605
New Jersey Orthopedic Associates.................................................... 499 374
Orthopaedic Management Network, Inc. (Omni IPA)..................................... 160 119
------------ -------------
Totals............................................................................ $ 13,754 $ 6,737
------------ -------------
------------ -------------
</TABLE>
(g) Does not reflect adjustments to the amortization of the Management
Services Agreements to give effect to revised estimated useful lives
ranging from 7 to 25 years resulting from amendments to the Restricted
Stock Agreements that the Company will enter into with the Practices in
1998 to eliminate the four year vesting provisions contained therein. The
aggregate effect of these adjustments, if they had occurred on January 1,
1996 and January 1, 1997, respectively, would have been to decrease
amortization expense by $10.9 million for the twelve months ended December
31, 1996 and $8.1 million for the nine months ended September 30, 1997,
resulting in a change from a net loss of $5.9 million (or $0.32 per share)
to after tax net income of $3.1 million (or $0.17 per share) for the twelve
months ended December 31, 1996 and a reduction of the net loss from $8.2
million ($0.45 per share) to $16,000 (or $0.00 per share) for the nine
months ended September 30, 1997.
(h) To record interest expense on debt issued in connection with the
Affiliation Transactions as if such transactions had occurred on January 1,
1996 and January 1, 1997.
(i) To eliminate interest expense assuming repayment of all
outstanding senior and subordinated indebtedness (other than the
Debentures) with a portion of the net proceeds of the Offering, net of
estimated federal and state income taxes at a rate of approximately 38%.
See 'Use of Proceeds.'
(j) The pro forma as adjusted weighted average number of common shares
includes (i) all shares of Common Stock issued in the Affiliation
Transactions, (ii) the shares issuable in connection with the recalculation
provisions contained in the SCOI and COSI Management Services Agreements,
(iii) the conversion of all outstanding shares of Preferred Stock and (iv)
the 4,000,000 shares of Common Stock offered hereby.
28
<PAGE>
BMJ MEDICAL MANAGEMENT, INC.
UNAUDITED PRO FORMA BALANCE SHEET
SEPTEMBER 30, 1997
<TABLE>
<CAPTION>
AFFILIATION PRO FORMA
AND OTHER OFFERING AS
THE COMPANY ADJUSTMENTS PRO FORMA ADJUSTMENTS ADJUSTED(A)
----------- ----------- --------- ----------- ------------
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents.............. $ 2,404 $ 6,875(c) $ 3,363 $ 1,283(a) $ 4,646
(5,916)(b)
Accounts receivable.................... 19,325 4,047(b) 23,372 -- 23,372
Prepaid expenses and other current
assets............................... 42 584(b) 626 -- 626
----------- ----------- --------- ----------- ------------
Total current assets................. 21,771 5,590 27,361 1,283 28,644
Furniture, fixtures and equipment, net... 3,877 1,227(b) 5,104 -- 5,104
Management Services Agreements, net...... 32,485 17,720(b) 50,205 -- 50,205
Other assets............................. 3,234 -- 3,234 -- 3,234
----------- ----------- --------- ----------- ------------
Total assets......................... $61,367 $24,537 $85,904 $ 1,283 $ 87,187
----------- ----------- --------- ----------- ------------
----------- ----------- --------- ----------- ------------
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable....................... $ 299 $ -- $ 299 $ -- $ 299
Accrued expenses....................... 2,856 20(b) 2,876 -- 2,876
Accrued salaries and benefits.......... 946 -- 946 -- 946
Due to physician groups................ 3,990 -- 3,990 (79)(a) 3,911
Shareholder note payable............... 894 -- 894 (894)(a) --
Current portion of long-term debt and
capital lease obligations............ 2,208 9,986(b) 18,319 (18,304)(a) 15
6,125(c)
----------- ----------- --------- ----------- ------------
Total current liabilities............ 11,193 16,131 27,324 (19,277) 8,047
Long-term debt and capital lease
obligation, less current portion....... 16,480 750(c) 18,491 (14,440)(a) 4,051
1,261(b)
Stockholders' equity..................... 33,694 6,395(b) 40,089 35,000(a) 75,089
----------- ----------- --------- ----------- ------------
Total liabilities and stockholders'
equity............................. $61,367 $24,537 $85,904 $ 1,283 $ 87,187
----------- ----------- --------- ----------- ------------
----------- ----------- --------- ----------- ------------
</TABLE>
NOTES TO PRO FORMA BALANCE SHEET
(a) To reflect (i) the net proceeds from the sale of shares of Common Stock
in the Offering estimated to be approximately $35.7 million (after deducting
underwriting discounts and estimated Offering expenses) and the repayment of
$34.4 million of indebtedness consisting of (A) approximately $12.2 million of
HCFP Debt, including $700,000 for a success fee and payment for the exercise of
a put option due at the completion of the Offering; (B) approximately $6.0
million of the Comdisco Loan; (C) approximately $1.5 million of the Galtney
Loan; (D) approximately $1.9 million of the Nagpal Debt; (E) approximately $3.4
million of the Stockholder Debt; and (F) approximately $9.4 million of the
Physician Notes and (ii) the conversion of the Preferred Stock and all other
outstanding equity securities into Common Stock upon the closing of the
Offering.
(b) To record the historical basis of the assets acquired and liabilities
assumed by the Company in the Affiliation Transactions. In connection with the
Affiliation Transactions, the Company issued 1,109,970 shares of common stock,
paid cash of approximately $5.9 million and issued $11.3 million of the
Physician Notes. The accounts receivable were recorded at net realizable value
and the furniture, fixtures and equipment was recorded at fair market value. In
connection with the recording of intangible assets, primarily Management
Services Agreements, the Company analyzed the nature of each Practice with which
a Management Services Agreement was entered into, including the number of
physicians in each Practice, number of offices and ability to recruit additional
physicians, the Practice's relative market position, the length of time each
Practice had been in
29
<PAGE>
existence and the term and enforceability of the Management Services Agreement.
The Management Services Agreements are for a term of 40 years and typically
cannot be terminated by the Practice without cause, consisting primarily of
bankruptcy or material default. See Notes 1 and 2 to the financial statements.
The breakdown of the Affiliation Transactions in the aggregate resulted in
total consideration of $26.2 million, consisting of cash of $5.9 million, the
Physician Notes in the aggregate amount of $11.3 million and Common Stock of
$9.0 million. Of such total consideration, $20.4 million was allocated to
Management Services Agreements, $4.0 million was allocated to accounts
receivable, $.6 million was allocated to other current assets, and $1.2 million
was allocated to furniture, fixtures and equipment. See Note 2 to the financial
statements.
The Company believes that there is no material value allocable to the
employment and noncompete agreements entered into between the Existing Practices
and the individual physicians, because the primary economic beneficiaries of
these agreements are the Existing Practices, which are entities that the Company
does not legally control. The Company believes that the Existing Practices are
long-lived entities with an indeterminable life and that the physicians, patient
demographics and various contracts will be continuously replaced. The amounts
allocated to the Management Services Agreement are being amortized over four
years.
(c) To record $6.9 million raised after September 30, 1997. Of such amount,
$3.4 million was provided from the Stockholder Debt, $2.5 million was provided
from the additional HCFP debt and $1.0 million was provided from the additional
Comdisco debt.
30
<PAGE>
SELECTED FINANCIAL INFORMATION
The following selected financial data with respect to the Company's
statements of operations for the year ended December 31, 1996 and the nine
months ended September 30, 1997 and the balance sheet data at December 31, 1996
and September 30, 1997 have been derived from the financial statements of the
Company which have been audited by Ernst & Young LLP, independent certified
public accountants. The selected financial data presented below for the nine
months ended September 30, 1996 is unaudited and was prepared by management of
the Company on the same basis as the audited financial statements appearing
elsewhere in this Prospectus and, in the opinion of management of the Company,
include all adjustments necessary to present fairly the information set forth
therein. The results for the nine months ended September 30, 1997 are not
necessarily indicative of the results to be expected for the year ending
December 31, 1997 or future periods. The following data should be read in
conjunction with 'Management's Discussion and Analysis of Financial Condition
and Results of Operations' and the financial statements of the Company and the
related notes thereto included elsewhere in this Prospectus.
<TABLE>
<CAPTION>
NINE MONTHS ENDED
SEPTEMBER 30,
YEAR ENDED ------------------
DECEMBER 31, 1996 1996 1997
----------------- ------- -------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<S> <C> <C> <C>
STATEMENT OF INCOME DATA:
Practice revenues, net.......................................... $ 6,029 $ 674 $38,325
Less: amounts retained by physician groups...................... (2,912) (336) (17,878)
-------- ------- -------
Management fee revenue.......................................... 3,117 338 20,447
Costs and expenses:
Medical support services..................................... 2,844 343 17,934
General and administrative................................... 1,299 675 5,962
Depreciation and amortization................................ 737 83 4,489
Interest expense (income), net............................... (21) (6) 922
-------- ------- -------
Total costs and expenses................................... 4,859 1,095 29,307
Loss before income taxes........................................ (1,742) (757) (8,860)
Income taxes.................................................... -- -- --
-------- ------- -------
Net loss........................................................ $(1,742) $ (757) $(8,860)
-------- ------- -------
-------- ------- -------
Net loss per common share....................................... $ (0.21) $ (0.10) $ (1.02)
-------- ------- -------
-------- ------- -------
Weighted average number of common shares outstanding............ 8,273 7,820 8,722
-------- ------- -------
-------- ------- -------
</TABLE>
<TABLE>
<CAPTION>
DECEMBER 31, SEPTEMBER 30,
1996 1997
------------ -------------
(IN THOUSANDS, EXCEPT
OPERATING DATA)
<S> <C> <C>
BALANCE SHEET DATA:
Cash and cash equivalents................................................ $ 1,439 $ 2,404
Working capital.......................................................... 1,819 10,578
Total assets............................................................. 25,332 61,367
Long-term debt and capital lease obligation, less current portion........ 59 16,480
Total stockholders' equity............................................... 19,381 33,694
OTHER OPERATING DATA:
Number of Practices...................................................... 3 22
Number of physicians..................................................... 34 106
</TABLE>
31
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
The following discussion of the results of operations and financial
condition of the Company should be read in conjunction with the financial
statements and notes thereto of the Company included elsewhere in this
Prospectus. This Prospectus contains forward-looking statements. Discussions
containing such forward-looking statements may be found in the material set
forth below and under 'Business,' as well as in this Prospectus generally.
Prospective investors are cautioned that any such forward-looking statements are
not guarantees of future performance and involve risks and uncertainties. Actual
events or results may differ materially from those discussed in the
forward-looking statements as a result of various factors, including, without
limitation, the risk factors set forth under 'Risk Factors' and the matters set
forth in this Prospectus generally.
OVERVIEW
The Company is a PPM that provides management services to physician
practices and the COSI ambulatory surgery center that focus on musculoskeletal
care, which involves the medical and surgical treatment of conditions relating
to bones, muscles, joints and related connective tissues. The broad spectrum of
musculoskeletal care offered by the physician practices ranges from acute
procedures, such as spine or other complex surgeries, to the treatment of
chronic conditions, such as arthritis and back pain. As of the date of this
Prospectus, the Company has affiliated (the 'Affiliation Transactions') with 25
Existing Practices comprising 117 physicians practicing in Arizona, California,
Florida, Pennsylvania, New Jersey and Texas by entering into Management Services
Agreements. The Company was incorporated in Delaware in January 1996 and
affiliated with the first Existing Practice in July 1996. At December 31, 1996,
the Company had entered into Management Services Agreements with three Existing
Practices comprising 34 physicians at that time and 37 physicians as of the date
of this Prospectus. During the first eleven months of 1997, the Company entered
into additional Management Services Agreements with 22 Existing Practices,
comprising 80 physicians and acquired the IPA with 42 physicians in Arizona.
Generally, the total consideration paid to a Practice's physicians, once
the Practice has agreed to affiliate with the Company, is based on a multiple of
the Company's management fee plus the fair market value of the Practice's
furniture, fixtures and equipment and, subject to legal limitations regarding
Medicare and Medicaid receivables, the estimated net realizable value of its
outstanding accounts receivable. The consideration paid by the Company consists
of Common Stock, cash and the assumption of certain liabilities (principally
notes payable to financial institutions secured by receivables of the Practice,
which notes are repaid at the time the Affiliation Transaction is consummated).
In exchange for this consideration, the Practice enters into a 40-year
Management Services Agreement with the Company.
Practice revenue represents the revenue of the Existing Practices and the
COSI ambulatory surgery center reported at the estimated realizable amounts from
patients, third party payors and others for services rendered, net of
contractual and other adjustments. Management fee revenue represents Practice
revenue less amounts retained by the Existing Practices (consisting of amounts
retained by physician groups, principally compensation and fees paid to
physicians and other health care providers) which are paid to the physicians
pursuant to the Management Services Agreements. Under each Management Services
Agreement, the Company assumes responsibility for the management of the
non-medical operations of the Practice, employs substantially all of the
non-professional personnel utilized by the Practice and may provide the Practice
with the facilities and equipment used in its medical practice. For a more
detailed discussion of the rights and obligations of the parties to the
Management Services Agreements, see 'Business--Contractual Agreements With the
Practices--Management Services Agreement.'
The Company's management fee revenue consists of three components: (i)
percentage of the Practices' net collected revenue (generally ranging from 10%
to 15%), plus (ii) 100% of the non-physician affiliated practice expenses
(generally ranging from 45% to 55% of the Practices' net collected revenue),
plus (iii) 66 2/3% of the cost savings the Company is able to achieve through
its purchasing power (generally related to medical malpractice insurance,
property and liability insurance, group benefits and certain major medical
supplies). The portion of the management fee revenue that represents a
percentage of net collected revenue is dependent upon the Practices' revenue
which must be billed and collected. See 'The Company--Affiliation Transactions.'
The Company's operating expenses consist primarily of the expenses incurred
in fulfilling its obligations under the Management Services Agreements. These
expenses include medical support services (principally clinic overhead expenses
that would have been incurred by the Existing Practices, including
non-professional employee
32
<PAGE>
salaries, employee benefits, medical supplies, malpractice insurance premiums,
building and equipment rental and other expenses related to clinic operations)
and general and administrative expenses (personnel and administrative expenses
in connection with maintaining a corporate office function that provides
management, contracting, administrative, marketing and development services to
the Existing Practices).
As a result of the Company's rapid growth, costs and expenses exceeded
management fee revenue due to the start-up nature of the Company. The level of
these costs and expenses are expected to continue to increase as affiliations
with additional Practices are achieved and the Company adds to its management
infrastructure.
Following the Offering, the Company intends to change its fiscal year from
a calendar year to the twelve months ended March 31.
RESULTS OF OPERATIONS
The following table sets forth the percentages of the Existing Practices'
revenue represented by certain items reflected in the Company's consolidated
statements of operations. As a result of the Company's limited period of
existence and affiliation with the Existing Practices, the Company does not
believe that comparisons between periods and percentage relationships within the
periods set forth below are meaningful.
<TABLE>
<CAPTION>
NINE MONTHS
YEAR ENDED ENDED
DECEMBER 31, 1996 SEPTEMBER 30, 1997
----------------- ------------------
<S> <C> <C>
Practice revenues, net..................................................... 100.0% 100.0%
Less: amounts retained by physician groups................................. 48.3 46.6
------ ------
Management fee revenue..................................................... 51.7 53.4
Costs and expenses:
Medical support services................................................. 47.2 46.8
General and administrative............................................... 21.5 15.6
Depreciation and amortization............................................ 12.2 11.7
Interest expense (income), net........................................... (0.3) 2.4
------ ------
Total costs and expenses............................................... 80.6 76.5
------ ------
Loss before income taxes................................................... (28.9) (23.1)
Income taxes............................................................... -- --
------ ------
Net loss................................................................... (28.9)% (23.1)%
------ ------
------ ------
</TABLE>
Practice Revenues, Net. For the year ended December 31, 1996, net practice
revenue was $6.0 million, arising from Affiliation Transactions with LVBMJ on
July 1, 1996 and SCOI and STSC on November 1, 1996 ('the 1996 Affiliations').
For the nine months ended September 30, 1997, net practice revenue was $38.3
million arising from the 1996 Affiliations and affiliations with 19 additional
Practices comprising 69 physicians at April 1, 1997 (LOS and Tri-City), June 1,
1997 (Gold Coast and two additional Practices in Los Angeles, CA), July 1, 1997
(Sun Valley, three Practices in Lake Tahoe, CA, two Practices in Bakersfield,
CA, one Practice in Bethlehem, PA, and one in San Antonio, TX), August 1, 1997
(three additional Practices in Broward and Palm Beach counties in South Florida)
and September 1, 1997 (four Practices comprised of three in South Florida and
one in Allentown, PA).
Amounts Retained by Physician Groups. Amounts retained by physician groups
for the year ended December 31, 1996 was $2.9 million, consisting of
compensation and fees paid to physicians and other health care providers by the
Practices pursuant to Management Services Agreements entered into on July 1,
1996 and November 1, 1996. For the nine months ended September 30, 1997, amounts
retained by physician groups was $17.9 million, reflecting the effect of the
1996 Affiliations and affiliations with 16 additional Practices pursuant to
Management Services Agreements executed in the first nine months of 1997.
Management Fee Revenue. Management fee revenue for the year ended December
31, 1996 was $3.1 million as a result of the factors set forth above. For the
nine months ended September 30, 1997, management fee revenue was $20.4 million
as a result of the factors set forth above.
Medical Support Services. Medical support services, principally clinic
overhead expenses, was $2.8 million for the year ended December 31, 1996,
resulting from the 1996 Affiliations. For the nine months ended September 30,
1997, medical support services was $17.9 million, reflecting the 1996
Affiliations, plus the effect of 16 additional Management Services Agreements
executed in the first nine months of 1997.
33
<PAGE>
General and Administrative. General and administrative expenses for the
year ended December 31, 1996 was $1.3 million, reflecting the expenses incurred
in establishing a corporate office. These expenses consisted of labor costs,
group benefits, accounting, legal, rent and other expenses, substantially all of
which were incurred after July 1, 1996 (the date of the first Affiliation
Transaction). For the nine months ended September 30, 1997, general and
administrative expenses were $6.0 million, of which $5.3 million was incurred in
the last six months of the period, reflecting the Company's increased
development of corporate infrastructure to support the additional affiliations
as they occur, and $2.2 million of compensation expense, substantially all of
which was incurred in the last three months of the period, related to the
acceleration of the vesting of stock options granted to certain employees. While
the Company expects that general and administrative expenses will continue to
increase as more Practices affiliate with the Company, it also expects them to
continue to decline as a percentage of both practice revenue and management fee
revenue. However, the Company expects to issue approximately 887,000 additional
shares of Common Stock to the SCOI physicians effective as of December 31, 1997
as a result of the recalculation provisions contained in the SCOI and COSI
Management Services Agreements and record non-cash compensation expense in the
fourth quarter of 1997 ranging from $12 million to $14 million related to the
recalculation provisions as well as approximately $2.0 million of additional
compensation expense related to the accelerated stock options. See Note 2 to the
financial statements.
Depreciation and Amortization. Depreciation and amortization for the year
ended December 31, 1996 was $737,000, substantially all of which was incurred
after July 1, 1996. The depreciation expense relates to acquired furniture,
fixtures and equipment and the amortization relates to Management Services
Agreements. For the nine months ended September 30, 1997, depreciation and
amortization were $414,000 and $4.2 million, respectively, reflecting the
additional Affiliation Transactions entered into during the nine months. The
intangible assets related to the Management Services Agreements are being
amortized over four years as a result of the vesting provisions contained in the
Restricted Stock Agreements. The Company expects to enter into amendments to the
Restricted Stock Agreements to eliminate the vesting provisions related to the
shares of the Company's Common Stock issued in connection with the Affiliation
Transactions. At the time the amendments are executed, the Company expects to
revise the estimated useful lives of its Restricted Stock Agreements and
amortize the remaining balances of the Management Services Agreements over
periods ranging from 7 to 25 years. Consequently, the amortization expense
related to the 25 Existing Practices will decrease in the future; however, the
Company expects that depreciation and amortization expense levels will continue
to increase as additional Practices affiliate with the Company. The depreciation
and amortization expense, based on amortization periods ranging from 7 to 25
years, is expected to remain relatively constant as a percentage of both
practice revenue and management fee revenue. Although the Company's net
unamortized balance of intangible assets acquired ($32.5 million at September
30, 1997) is not considered to be impaired, any future determination that a
significant impairment has occurred would require the write-off of the impaired
portion of unamortized intangible assets, which could have a material adverse
effect on the Company's results of operations.
Net interest expense. Net interest expense for the nine months ended
September 30, 1997 was $922,000 compared to interest income of $21,000 for the
year ended December 31, 1996. The increase in interest expense was due primarily
to borrowings related to the Affiliation Transactions.
LIQUIDITY AND CAPITAL RESOURCES
At December 31, 1996 and September 30, 1997, the Company had $1.8 million
and $10.6 million, respectively, in working capital and $1.4 million and $2.4
million, respectively, in cash and cash equivalents. The Company's principal
sources of liquidity as of December 31, 1996 and September 30, 1997 consisted of
the cash and cash equivalents and net accounts receivable of $5.8 million and
$19.3 million, respectively.
The Company has financed its Affiliation Transactions, capital expenditures
and working capital needs since its inception through a combination of (i)
private placements of capital stock; (ii) borrowings from institutional lenders;
(iii) short-term borrowings from stockholders; and (iv) issuance of promissory
notes to certain physicians.
For the year ended December 31, 1996 and the nine months ended September
30, 1997, cash used in operations was $1.0 million and $3.2 million,
respectively, resulting primarily from net operating losses adjusted for
non-cash expenses.
34
<PAGE>
Cash used in investing activities for the year ended December 31, 1996 and
the nine months ended September 30, 1997 was $4.6 million and $20.6 million,
respectively, relating primarily to Affiliation Transactions resulting in
increases in accounts receivable, intangible assets and furniture, fixtures and
equipment.
Cash provided by financing activities for the year ended December 31, 1996
and the nine months ended September 30, 1997 was $7.1 million and $24.8 million,
respectively. For the year ended December 31, 1996, substantially all of the
cash provided resulted from proceeds from the issuance by the Company of two
series of Preferred Stock. For the nine months ended September 30, 1997, cash
provided by financing activities resulted primarily from $20.2 million in net
borrowings and $5.2 million in proceeds from the issuance of three series of
Preferred Stock.
Beginning in March 1997, the Company entered into the HCFP Loan Agreements
with HCFP Funding, secured by the accounts receivable acquired from Existing
Practices. The Company may borrow up to an aggregate of $17.0 million under HCFP
Loan Agreements, subject to a borrowing base of 85% of eligible accounts
receivable. Upon completion of the Offering, the Company will repay all
outstanding amounts under the HCFP Loan Agreements. See 'Use of Proceeds.'
Borrowings under the HCFP Loan Agreements bear interest at the prime rate plus
1.75% per annum. The HCFP Loan Agreements require the Company to maintain a
prescribed level of tangible net worth, place limitations on indebtedness,
liens, and investments and prohibit the payment of dividends.
On June 30, 1997, the Company entered into an additional HCFP Loan
Agreement secured by a pledge of all of the assets of the Company. The Company
may borrow up to $3.3 million under such agreement for Practice affiliations.
Borrowings under such agreement bear interest at the prime rate plus 3.5%.
Interest only is payable through December 31, 1997, at which time the loan
converts to a term loan repayable in 36 monthly installments. In addition, in
connection with such agreement the Company issued warrants to HCFP to purchase
28,570 shares of the Common Stock. The warrants contain put rights which give
the holder the right to receive payment, based on a minimum put price of $14 per
share, for the value of such warrants at January 15, 1998.
In August 1997 and November 1997, the Company borrowed an aggregate of $7.5
million under the Comdisco Loan Agreement and the Cedar Loan Agreement to fund
Practice affiliations. The Comdisco Loan and the Cedar Loan have three year
terms, bear interest at 14% per annum and are secured by a second lien on all of
the Company's tangible and intangible personal property. In connection with
these loans the Company issued warrants to purchase 160,000 and 40,000 shares of
Series E Preferred Stock to Comdisco and Cedar, respectively.
On September 9, 1997, the Company issued $4.0 million principal amount of
its 6% convertible debentures due 2000 (the 'Debentures') to fund Practice
affiliations. The Debentures are convertible into Common Stock. See 'Certain
Transactions.'
On October 14, 1997, the Company obtained short-term financing in the form
of a secured term note for $2.5 million payable to HCFP Funding to fund Practice
affiliations, secured by a lien on substantially all of the assets of the
Company. The loan bears interest at the prime rate plus 3.5% (12% at December
31, 1997). Interest only is payable through December 31, 1997 and the entire
principal sum is due and payable on January 1, 1999. In connection with this
loan agreement, the Company will pay HCFP Funding a fee in the amount of
$300,000 on the maturity date.
On October 15, 1997, the Company obtained short-term bridge financing in
the aggregate amount of $3.4 million from certain stockholders, including Dr.
Nagpal, to fund Practice affiliations. In connection with these loans, the
Company issued warrants to such stockholders to purchase an aggregate of 48,215
shares of Common Stock at an exercise price of $0.01 per share. Outstanding
loans bear interest at the prime rate plus 3.5% (12% at December 31, 1997). The
principal of and accrued interest on such loans are due and payable on January
1, 1999.
During October and November 1997, in connection with several Practice
affiliations, the Company issued the Physician Notes in the aggregate amount of
approximately $11.3 million. These outstanding promissory notes bear interest at
rates ranging from 6% to 11%. Approximately $1.9 million of the Physician Notes
was repaid on January 2, 1998. The remaining Physician Notes are due and payable
either on the date of the completion of the Offering or at various maturity
dates ranging from March 31, 1998 to October 31, 1998.
In December 1997, the Company entered into commitments totaling $2.4
million for construction of two ambulatory surgery centers.
35
<PAGE>
On January 2, 1998, the Company obtained short-term financing in the form
of a demand note from Dr. Nagpal in the amount of $1.0 million to repay certain
of the Physician Notes. In connection with this loan, the Company issued
warrants to Dr. Nagpal to purchase 14,286 shares of Common Stock at an exercise
price of $0.01 per share. The demand note bears interest at 8% per annum.
The Company's affiliation and expansion programs will require substantial
capital resources. In addition, the operations and expansion of the Practices,
including the addition of Ancillary Service Facilities, and of the IPA will
require ongoing capital expenditures. The financing of future affiliations and
business expansion is anticipated to be provided by a combination of the
proceeds of the Offering, borrowings under the HCFP Loan Agreements and cash
flows from operations. The Company believes that the combination of these
sources will be sufficient to meet its currently anticipated operating and
capital expenditure requirements and working capital needs through 1998. In
order to meet its affiliation and expansion goals as well as its long-term
liquidity needs, the Company expects to incur, from time to time, additional
short-term and long-term indebtedness and to issue additional debt and equity
securities, the availability and terms of which will depend upon market and
other conditions. See 'Risk Factors--Need for Additional Funds' and '--Risks
Related to Intangible Assets.'
REIMBURSEMENT RATES
The health care industry is experiencing a trend toward cost containment as
payors seek to improve lower reimbursement and utilization rates with providers.
Further reductions in payments to health care providers or other changes in
reimbursement for health care services could adversely affect the Practices with
which the Company is affiliated and adversely affect the Company's results of
operations.
36
<PAGE>
BUSINESS
GENERAL
The Company is principally a PPM that provides management services to
physician practices that focus on musculoskeletal care, which involves the
medical and surgical treatment of conditions relating to bones, muscles, joints
and related connective tissues. The broad spectrum of musculoskeletal care
offered by the physician practices ranges from acute procedures, such as spine
or other complex surgeries, to the treatment of chronic conditions, such as
arthritis and back pain. The management services provided by the Company include
physician practice and network development, marketing, payor contracting and
financial, administrative and clinical information management. As of the date of
this Prospectus, the Company has entered into Affiliation Transactions by
entering into Management Services Agreements with 25 Practices comprising 117
physicians practicing in Arizona, California, Florida, Pennsylvania, New Jersey
and Texas and owns and operates one IPA with 42 physicians in Arizona.
INDUSTRY OVERVIEW
The market for muscoloskeletal care in the United States is significant and
growing. According to the AAOS, total direct costs associated with the delivery
of musculoskeletal care exceeded $60 billion in 1988 and increased to
approximately $72 billion in 1992. The increase in expenditures can be
attributed to various factors, including improvements in medical technology,
more active lifestyles which have resulted in the growth of sports medicine and
the overall aging of the population. In 1992, the 65-and-over age group
represented approximately 12% of the U.S. population, but accounted for more
than half of all musculoskeletal care expenditures.
Musculoskeletal care is provided by a variety of medical and surgical
specialists. Although the orthopaedic surgeon is the primary musculoskeletal
provider, musculoskeletal care is also provided by physiatrists,
rheumatologists, podiatrists, occupational medicine physicians, rehabilitative
therapists, neurosurgeons and neurologists. In addition, there are a number of
subspecialties of orthopaedics, including adult reconstructive (joint
replacement) surgery, spinal care, sports medicine, foot and ankle care, hand
and upper extremity care, pediatrics and trauma care. The AAOS estimates that in
1995 there were approximately 23,000 orthopaedic surgeons, as well as
approximately 5,500 physiatrists, 3,500 rheumatologists, 3,000 occupational
medicine physicians, 4,900 neurosurgeons and 11,400 neurologists in the United
States.
Historically, most orthopaedic procedures have been performed on an
inpatient basis. Recently, however, there has been a trend towards handling
these procedures on an outpatient basis. The Company believes this trend may be
attributable to a number of factors: less invasive surgery with the arthroscope
and new anaesthetic techniques have significantly reduced post-operation trauma;
outpatient procedures are less costly and thus more desirable to both patients
and payors; outpatient settings represent a 'health environment' which promotes
wellness and improved patient attitudes; and outpatient settings foster
preventive team situations which minimize waste and improve efficiency. For
these reasons, the Company believes that the trend toward treatment in the
outpatient setting will continue to increase in the foreseeable future.
According to the AAOS, in 1996, the principal payors for musculoskeletal
care were Medicare and Medicaid at 27% (combined), managed care, including
discounted fee-for-service and capitation, at 26%, private pay (indemnity
insurers) at 23% and workers' compensation at 17%. Reflecting the emergence of
managed care, the percentage of payments by private payors declined from 39% in
1988 to 23% in 1996, while payments from managed care sources increased from 12%
to 26%. This shift from private pay to managed care reimbursement has added the
complexity of managing the clinical and administrative aspects of the
physicians' practices and increased the emphasis on managing practices more
efficiently.
Historically, surgical and non-surgical orthopaedic specialists have
maintained separate practices; recently, however, musculoskeletal physicians
have begun to follow the consolidation trend seen elsewhere in the health care
industry. The AAOS estimates that approximately 3% to 5% of all orthopaedic
practices have affiliated with PPMs as of February 1997. Consolidated practices
increasingly are utilizing a separate professional management company to handle
practice management functions such as staffing, information systems, managed
care contracting, leasing, purchasing and marketing, thereby enabling the
physicians to focus on providing high quality medical services. Several factors
have contributed to the trend toward affiliation with PPMs by
37
<PAGE>
musculoskeletal physicians. These factors include the increasing complexity of
managing a practice due, in part, to the increase in managed care contracting,
the need for cost-effective management of patient care, the economies of scale
achievable in such areas as administration, purchasing and marketing, the desire
to capture revenues from ancillary services and in-network referrals and the
growing importance of capital resources to acquire and maintain state-of-the-art
equipment, clinical facilities and management information systems.
STRATEGY
The Company's goal is to develop the leading musculoskeletal network in
each of its markets by aligning the Company's interests with those of the
Practices' physicians. Key components of the Company's strategy are:
Expand Into New Markets. The Company intends to expand into targeted new
markets by establishing relationships and affiliations with the most qualified
practices in such markets. The Company targets markets that have a large enough
population to support a viable musculoskeletal physician network. The Company
generally seeks to affiliate initially with platform practices in new markets.
Platform practices generally consist of at least five physicians who have the
demonstrated ability to grow in their market. Potential affiliation candidates
are evaluated on a variety of factors, including, but not limited to, physician
credentials and reputation, the practice's competitive market position,
specialty and subspecialty mix of physicians, historical financial performance,
growth potential, the local demographics potential and potential for development
of Ancillary Service Facilities.
Continue to Develop Existing Markets. The Company strengthens its market
positions by (i) providing uniform financial reporting systems to the Practices;
(ii) implementing uniform practice management systems to facilitate the
collection of financial and clinical data; (iii) investing in new clinical
equipment such as EMGs and bone densitometers; (iv) increasing the number of
physicians and diversifying the subspecialties in a Practice; (v) developing
satellite offices to accommodate increased patient flow; (vi) committing capital
to develop or acquire Ancillary Service Facilities; and (vii) expanding revenues
through additional payor contracting and focused marketing on a regional basis.
The Company believes these services will enable the physicians to devote more
time to the practice of medicine and the strategic development of their
practice, thereby increasing revenues and creating greater efficiencies in the
operation of each Practice.
Introduce Ancillary Service Facilities. Ancillary Service Facilities will
provide such services as ambulatory surgery, physical therapy and MRI services.
Once the Practices or a network in a particular market have achieved a
significant local presence, the Company plans to introduce Ancillary Service
Facilities by assisting the Practices in developing such facilities. The first
Ancillary Service Facility was opened in late 1997 (a mobile MRI unit in San
Antonio, Texas) and additional Ancillary Service Facilities are planned to be
opened in 1998 in other markets. In addition, the Company currently manages one
physician-owned ambulatory surgery center which was under development by the
physicians prior to their involvement with the Company and for which the Company
receives a 10% management fee. For a discussion of the applicability of the
Stark Law to the operation of the Ancillary Service Facilities, see
'Business--Governmental Regulation and Supervision--The Stark Self-Referral
Laws.'
Develop Disease Management and Clinical Information System. Following the
implementation of a uniform practice management system, the Company has a
two-step strategy for creating a disease management and clinical information
system. The Company is in the process of developing standard procedures for
gathering clinical and financial information, such as personal patient data,
physician and procedure identifier codes, payor class and amounts charged and
reimbursed. The Company's goal is to establish a non-patient identifiable
information database across all Practices pursuant to which efficiencies may be
achieved by gathering, interpreting and sharing clinical information,
standardizing referral patterns and treatment protocols within a physician
network and coordinating the needs of the patient population in any geographic
market. Utilization of the database is expected to result in an increased
ability to control and predict the cost of care for various patient diagnoses.
The Company believes that its network of musculoskeletal physicians with access
to reliable clinical outcome information will make the Company more attractive
to payors because the Company will be able to demonstrate cost-effective quality
care.
38
<PAGE>
BMJ OPERATIONS
Existing Practices. Since commencing operations in January 1996 through
the date of this Prospectus, the Company has affiliated with 25 Existing
Practices, comprising 117 physicians, in Arizona, California, Florida,
Pennsylvania, New Jersey and Texas, and owns and operates one IPA, comprising 42
physicians, in Phoenix, Arizona. Approximately 83% of the physicians at the
Managed Practices are orthopaedic surgeons.
The following table sets forth certain information concerning the Existing
Practices.
<TABLE>
<CAPTION>
ADDITIONAL PRACTICES
IN
NUMBER/SPECIALITIES MARKET SINCE
OF PHYSICIANS AFFILIATION
EFFECTIVE ------------------- NUMBER OF ---------------------
AFFILIATION AT OCTOBER 31, SATELLITE NUMBER OF NUMBER OF
REGION PRACTICE MARKET DATE 1997 OFFICES PRACTICES PHYSICIANS
- -------- ----------- --------------------- ---------- ------------------- --------- --------- ---------
<S> <C> <C> <C> <C> <C> <C> <C>
Eastern LVBMJ Bethlehem, PA 7/1/96 6 Orthopaedics 0 3 10
1 Physiatry
1 Spine surgery
LOS Ft. Lauderdale, FL 4/1/97 6 Orthopaedics 2 5 23
1 Podiatry
Gold Coast Palm Beach 6/1/97 5 Orthopaedics 0 2 13
County, FL
Central STSC San Antonio, TX 11/1/96 6 Orthopaedics 9 1 1
1 Physiatry
Western SCOI Los Angeles, CA 11/1/96 20 Orthopaedics 4 7 10*
2 Physiatry
Tri-City Oceanside, CA 4/1/97 7 Orthopaedics 0 0 0
Sun Valley Sun City, AZ 7/1/97 4 Orthopaedics 0 0 0**
</TABLE>
- ------------------
* Includes three doctors and three separate practices in South Lake Tahoe,
California.
** Does not include the IPA with 42 physicians in Phoenix, Arizona.
Regional Business Model. While health care has become an increasingly
significant national issue, it is still delivered on a local level. Therefore,
in order to execute its growth and operating strategies, the Company has divided
the United States into the eastern, central and western regions. The Company
believes that its regional business model benefits both the Company and the
Practices. Local management teams allow the Company to better understand the
specific characteristics of a region, such as the demographics, the payor mix,
the competitive landscape and the managed care environment, thus enabling the
Company to be more effective in marketing to patients and negotiating with third
party payors and suppliers. In addition, the regional management team is able to
develop and maintain long-term relationships with both the Practices' physicians
and local entities such as hospitals, managed care networks, suppliers and
non-musculoskeletal physician groups. The Company believes that due to its
regional business model, it is better equipped to develop relationships with
such local entities than PPMs with centralized business models.
A regional vice president is responsible for a management team that
supervises the development of each market within a region. The regional
management team coordinates market expansion initiatives and integration of
administrative services within the region. The regional team provides management
and network services related to the following: (i) integration and transition;
(ii) physician services including cost containment and operating efficiencies;
(iii) ancillary services development and management; (iv) physician recruitment
and professional development; (v) workers' compensation; and (vi) payor
contracting.
Affiliation Structure. The Company believes its affiliation model aligns
the interests of the Company and the Practices' physicians by (i) providing
equity ownership in the Company to the physicians; (ii) assuring that the
physicians and the Company share in the profits from the Ancillary Service
Facilities and Practice cost savings; (iii) focusing on revenue enhancement; and
(iv) reducing the amount of time the physicians must spend on administrative
matters, thereby enabling them to dedicate more of their efforts to the delivery
of health care services. Additionally, each Practice retains professional
autonomy and control over its medical practice through continued ownership and
participation in Practice governance.
The total consideration generally paid to a Practice's physicians, once the
Practice has agreed to affiliate with the Company, is based on a multiple of the
Company's management fee plus the fair market value of the
39
<PAGE>
Practice's assets, including furniture, fixtures and equipment and, subject to
legal limitations regarding Medicare and Medicaid receivables, the estimated net
realizable value of its accounts receivable. See 'Business--Contractual
Agreements with the Practices--Asset Purchase Agreement.' The multiple of the
Company's management fee is determined by reference to a number of factors,
including the geographic location of the Practice, the size and specialty mix of
the Practice, the Practice's competitive market position, the Practice's
historical financial performance and the potential for the development of
Ancillary Service Facilities. See '--Strategy--Expand into New Markets.' The
total consideration paid by the Company consists of Common Stock, cash and the
assumption of certain liabilities (principally notes payable to financial
institutions secured by receivables of the Practice, which notes are repaid at
the time the Affiliation Transaction is consummated). In exchange for this
consideration, the Practice enters into a 40-year Management Services Agreement
with the Company.
The revenue to the Company from a Practice is typically based on a
specified percentage (typically 10% to 15%) of the Practice's revenues (rather
than on a percentage of the net operating income of the Practice) plus
reimbursement of the Practice's overhead expenses and two-thirds of the cost
savings the Company is able to achieve through its purchasing power. See 'The
Company--Affiliation Transactions.' In addition, the Company will be responsible
for arranging the funding of Ancillary Service Facilities when appropriate and
will, subject to applicable laws, share appropriately in the profits from such
facilities.
Upon affiliating with a Practice, the Company assumes the management of
substantially all aspects of the Practice's operations other than the provision
of medical services. Pursuant to the Management Services Agreements, the Company
assists the Practices in the preparation of operating budgets and capital
project analyses, the coordination of group purchases of medical supplies and
insurance and the introduction of physician candidates. The Company provides the
full range of administrative services required for a Practice's day-to-day
non-medical operations, including management and monitoring of the Practice's
billing and collection, accounting, payroll, legal services, recordkeeping, cash
flow activity, physician recruiting, payor contracting and marketing.
Comprehensive administrative support should facilitate more effective billing
and collections, and, as the Company grows, economies of scale in effecting
purchases. In addition, the Company plans to integrate the Practices' management
information systems into a single system that will expand the financial and
clinical reporting capabilities of each of the Practices and facilitate the
analysis of data collected.
The Company believes that through its affiliation with Practices across
multiple markets it can achieve benefits in the aggregate purchasing of products
and services for the Practices. The Company believes that, in particular, it can
assist the Practices in reducing its purchasing expenses such as insurance,
medical equipment and clinical and administrative supplies. Pursuant to the
Management Services Agreements, the Company receives two-thirds of any such cost
savings.
Financial and Practice Management Systems. To date, the Company has
implemented an interconnected financial accounting system in the Practices. This
system allows the Company to analyze the financial aspects of the Practices from
a centralized location and ensure uniformity with respect to financial
classifications at the Practice level.
The Company receives daily cash receipts related to the collection of
patient accounts receivable and revenues. The Company utilizes these funds to
pay the clinic overhead expenses (medical support services) as they are incurred
and pays to the Practice a physician draw based upon a predetermined percentage
of estimated net collected revenue. Annually, the cash actually collected and
paid as physician draw, medical support services or management fee is reconciled
with the Practice and any over/under payments are settled.
The Company believes that the implementation of a uniform practice
management system will enable it to monitor the operations of the Practices in a
cost-effective manner, enhance utilization of the Practices, develop practice
protocols and provide the Company with a competitive advantage in negotiating
contracts with third party payors. The Company is currently reviewing various
practice management software programs and expects to select and implement such a
program within 12 to 18 months following completion of the Offering.
The Company believes that the implementation of the practice management
system, together with the integrated financial accounting system, will enable it
to gather data that will be the foundation for a disease management and clinical
information system. The Company intends to capture, retain and use such
information
40
<PAGE>
in accordance with applicable legal and ethical requirements regarding the
confidentiality of medical records. The Company further believes that such a
system will facilitate the collection of clinical information such as type of
injuries reported, patient characteristics and diagnoses of injuries, that will
improve provider and patient access to resources and technology, facilitate
quantitative analysis of outcome quality and cost and eventually allow for the
development of curative and palliative regimens based on such information. The
Company intends to obtain the informed, written consent of each patient for whom
information will be included in the database.
Staffing and Facilities. The Company employs most of the Practices'
non-professional personnel. These non-professional personnel, along with
additional personnel at the Company's headquarters, manage the day-to-day
non-medical operations of each of the Practices, including, among other things,
secretarial, bookkeeping, scheduling and other routine services. Under the
Management Services Agreements, the Company must generally provide facilities
and equipment to the Practices and, to this end, the Company assumes the
Practice's existing leases for the facilities and equipment and purchases the
assets, or a leasehold interest in the assets, utilized by the Practice.
DEVELOPMENT OF ANCILLARY SERVICE FACILITIES
Within each market, the Company plans to establish Ancillary Service
Facilities including, ambulatory surgery centers, physical therapy facilities
and MRI centers and mobile units. In order to establish such facilities, the
Company has designated professionals within each market to locate sites,
identify acquisition opportunities and otherwise arrange for the provision of
the ancillary services. Additionally, the Company's regional management teams
are responsible for marketing the Ancillary Service Facilities to payors and
referral sources and staffing, operating and financial management of the
facilities. For risks associated with the establishment of Ancillary Service
Facilities, see 'Risk Factors--Reliance on New Affiliations and Expansion.' For
a discussion of the applicability of the Stark Law to the operation of the
Ancillary Service Facilities, see 'Business--Governmental Regulation and
Supervision--The Stark Self-Referral Laws.'
PAYOR MIX OF EXISTING PRACTICES
The Company's Practices derive revenue from a broad mix of third party
payors. This payor mix is a result of a number of underlying trends in the
patient base of musculoskeletal specialists. A significant portion of
reimbursement to physicians in musculoskeletal practices is derived from
workers' compensation insurance programs, which generally pay higher
reimbursements per procedure than health insurance payors and are generally not
subject to co-payments and deductibles. The Company believes that reimbursement
from workers' compensation payors will continue to represent a substantial
portion of practice revenues because of broader definitions of work-related
injuries, the shift of medical costs from health insurance payors to workers'
compensation payors, aging of the work force, and the requirement that employers
pay the total cost of medical treatment for work-related injuries.
The following table sets forth the payor mix of the Existing Practices for
the nine months ended September 30, 1997:
<TABLE>
<CAPTION>
NINE MONTHS ENDED
SEPTEMBER 30, 1997
------------------
<S> <C>
Workers' compensation........................................... 27%
Medicare(1)..................................................... 17
Private payors and managed care(2).............................. 56
</TABLE>
- ------------------
(1) Includes 2% attributable to Medicaid.
(2) Includes managed care, substantially all of which is on a fee-for-service
basis.
Workers' Compensation. Workers' compensation is a state-mandated,
comprehensive insurance program that requires employers to fund medical
expenses, lost wages and other costs resulting from work-related injuries and
illnesses. Provider reimbursement methods vary on a state-by-state basis. A
majority of states have adopted fee schedules pursuant to which all health care
providers are uniformly reimbursed. The fee schedules are set by each state and
generally prescribe the maximum amounts that may be reimbursed for a designated
procedure. In
41
<PAGE>
most states without fee schedules, health care providers are reimbursed based on
usual, customary and reasonable fees charged in the state in which the services
are provided. In Florida (a state in which the Company does business), state law
mandates that all workers' compensation services be provided under a managed
care arrangement approved by Florida's Agency for Healthcare Administration.
Medicare. The federal government has implemented, through the Medicare
program, the RBRVS payment methodology for health care provider services. RBRVS
is a fee schedule that, except for certain geographical and other adjustments,
pays similarly situated health care providers the same amount for the same
services. The RBRVS is subject to annual increases or decreases at the
discretion of Congress or HCFA. To date, the implementation of RBRVS has reduced
payment rates for certain of the procedures historically provided by the
Existing Practices. Furthermore, it is expected that HCFA will be required by
law to recalibrate the practice expense component of the RBRVS over the next
four years in a way that will have positive effects on payments to primary care
providers, but will decrease payments for most services provided by specialists,
including many services provided by the Existing Practices.
Managed Care Payors. An increasing portion of the net revenue of the
Existing Practices is derived from managed care payors which make payments under
discounted fee-for-service and capitation arrangements. Although rates paid by
managed care payors are generally lower than commercial indemnity rates, managed
care payors can provide access to large patient volumes. To date, the Company
has not entered into any contracts on behalf of the Managed Practices with
managed care payors; however, the Company intends to seek to negotiate both
discounted fee-for-service and capitated contracts on behalf of the Practices.
Discounted fee-for-service contracts involve negotiated rates for specified
procedures and services. Under capitated arrangements, providers deliver health
care services to managed care enrollees and typically bear all or a portion of
the risk that the cost of such services may exceed capitated payments.
Private Payors. Rates paid by private third party payors are based on
established health care provider and hospital charges and are generally higher
than Medicare payment rates. Recently, RBRVS types of payment systems have been
adopted by certain private third party payors and may become a predominant
payment methodology. Wider implementation of such programs would reduce payments
from private third party payors, and could indirectly reduce revenue to the
Company.
CONTRACTUAL AGREEMENTS WITH THE PRACTICES
The Company has entered into Management Services Agreements and, in most
cases, Asset Purchase Agreements, Restricted Stock Agreements and Stockholder
Noncompetition Agreements (collectively, the 'Affiliation Agreements'), with
each of the Existing Practices, and intends to enter into Affiliation Agreements
with each additional Practice, to provide management, administrative and
development services. The following summary of the Affiliation Agreements is
intended to be a general summary of the form of the Affiliation Agreements. The
actual terms of the individual Affiliation Agreements, and other service
agreements into which the Company may enter in the future, may vary in certain
respects from the description below as a result of negotiations with the
individual Practices and the requirements of local regulations. The Management
Services Agreements and certain related agreements are filed as exhibits to the
registration statement of which this Prospectus forms a part. The following
summary is qualified in its entirety by reference to such exhibits. For a
discussion of circumstances under which a Management Services Agreement may be
rendered unenforceable, see 'Risk Factors--Government Regulation.'
Management Services Agreement. Under the Management Services Agreement,
the Practices are solely responsible for all aspects of the practice of medicine
and the Company has the primary responsibility for the business and
administrative aspects of the Practices. Pursuant to the Management Services
Agreements, the Company provides or arranges for various management,
administrative and development services relating to the day-to-day non-medical
operations of the Practices. Pursuant to the Management Services Agreements, the
Company acts as the exclusive manager and administrator of non-medical services
relating to the operation of the Practices. Subject to matters for which the
Practices maintain responsibility or which are governed by the Operations
Committee (as defined herein) of the Practices, the Company (i) bills patients,
insurance companies and other third party payors and collects, on behalf of the
Practices, the fees for medical and other services rendered, including goods and
supplies sold by the Practices; (ii) provides or arranges for, as necessary,
clerical,
42
<PAGE>
accounting, purchasing, payroll, legal, bookkeeping and computer services,
personnel, information management, preparation of certain tax returns, printing,
postage and duplication services and medical transcribing services; (iii)
supervises and maintains custody of substantially all files and records (medical
records of the Practices remain the property of the Practices); (iv) provides
facilities and equipment for the Practices; (v) prepares, in consultation with
the Operations Committee and the Practices, all operating and capital
expenditure budgets; (vi) orders and purchases inventory and medical supplies as
reasonably requested by the Practices; (vii) implements, in consultation with
the Operations Committee and the Practices, national and local public relations
or advertising programs; (viii) provides financial and business assistance in
the negotiation, establishment, supervision and maintenance of contracts and
relationships with managed care and other similar providers and payors; (ix)
recruits physician employees and other medical professionals on behalf of the
Practices; and (x) ensures that all medical and technical personnel have the
licenses, credentials, approvals and other certifications needed to perform
their respective duties.
Under the Management Services Agreements, the Practices retain the
responsibility for, among other things, providing professional services to
patients in compliance with the ethical standards, laws and regulations to which
they are subject. In addition, the Practices maintain exclusive control of all
aspects of the practice of medicine and the delivery of medical services.
The revenue to the Company from a Practice is typically based on a
specified percentage (typically 10-15%) of the Practice's revenues (rather than
on a percentage of the net operating income of the Practice) plus reimbursement
of the Practice's overhead expenses and two-thirds of cost savings that the
Company is able to achieve through its purchasing power. The Management Services
Agreements provide that each Practice will retain an amount equal to net
collections less the management fee earned by the Company, which includes the
authorized operating costs incurred. If the amount of such costs incurred and
paid by the Company exceeds the amount authorized, approval to reimburse the
Company for such excess must come from the Operations Committee. See 'The
Company--Affiliation Transactions.' The Company is required to pay up to 5% of
its annual management fee from a Practice for new fixed asset additions at such
Practice. In addition, the Company will be responsible for arranging the funding
of Ancillary Service Facilities when appropriate and will, subject to applicable
laws, share appropriately in the profits from such facilities.
Each Management Services Agreement has an initial term of 40 years, with
automatic extensions (unless at least six months' notice is given) of additional
five-year terms. The Management Services Agreement may be terminated by either
party if the other party (a) files a petition in bankruptcy or other similar
events occur, or (b) defaults in any material respect in the performance of any
duty or obligation under the Management Services Agreement, which default is not
cured within a specified period after receipt of notice thereof or (c) any of
the representations and warranties made by such party in the Management Services
Agreement is materially untrue or misleading and such party fails to correct
such matter after receipt of written notice thereof. The Company also has the
right to terminate the Management Services Agreement in the event that the
Practice is excluded from participation in the Medicaid or Medicare program for
any reason. Either party may also terminate the Management Services Agreement if
such party determines that the structure of the Management Services Agreement
violates any state or federal laws or regulations existing at such time and that
an amendment to the Management Services Agreement will be unable to correct such
defect.
Upon termination of the Management Services Agreement, neither party is
obligated to the other party except as set forth below. In the event of such
termination, the Company is required to complete, within four months after the
termination date, the annual settlement of the respective obligations of the
Company and Practice for the period prior to the termination date. Furthermore,
following any such termination, the Company must sell to the Practice all of the
Company's interest in the assets that are located in the offices of the Practice
and used in connection with the medical practice. The purchase price for all of
such assets will be agreed upon by the parties; however, if an agreement is not
reached, the purchase price will be determined by an independent appraisal.
Under the Management Services Agreement, the Company is typically entitled to
receive all of the revenues collected by the Practice during the 90-day period
following termination of the agreement.
The Company has entered into a Management Services Agreement with STSC that
permits STSC and the individual physicians to rescind the Affiliation
Transaction on November 1, 2003. Management Services Agreements for seven other
Existing Practices comprising 29 physicians contain provisions that permit such
43
<PAGE>
Existing Practices to rescind their Affiliation Transactions on their respective
seventh anniversaries. See 'Risk Factors--Rescission Rights.'
Under the Management Services Agreement, the Practice agrees generally not
to, at any time prior to the second anniversary of the termination of the
Management Services Agreement, compete with the Company by providing services to
other medical groups similar to those provided by the Company under the
Management Services Agreement or by entering into a management relationship with
another provider of non-professional management services that provides such
services to multiple physician groups. The Company and the Practice agree not to
disclose to third parties any confidential information relating to the other
party.
Asset Purchase Agreement. Subject to the terms and conditions of an asset
purchase agreement (the 'Asset Purchase Agreement'), the Company typically
purchases from the Practice all of those assets used by the Practice in the
operation of the medical practice, including medical equipment, furniture, trade
fixtures, office equipment, supplies, and, subject to legal limitations
regarding Medicare and Medicaid receivables, outstanding accounts receivable.
Pursuant to an assignment and assumption agreement entered into as a condition
to the Asset Purchase Agreement, the Company also acquires a leasehold interest
in certain assets leased by the Practice, including offices and equipment. The
Company also assumes certain liabilities related to any leased equipment and
leased offices. The purchase price paid by the Company under the Asset Purchase
Agreement is customarily determined by the parties after an appraisal of the
assets being acquired. Under the Asset Purchase Agreement, the Practice agrees
to indemnify the Company for any losses resulting from the operation of such
medical practice prior to the effectiveness of the affiliation of such Practice
with the Company.
Restricted Stock Agreement. The Company issues Common Stock to the
physician owners of the Practice as partial consideration for affiliating with
the Company. Such Common Stock is issued pursuant to the terms and conditions
set forth in a restricted stock agreement (the 'Restricted Stock Agreement'),
which terms generally include annual vesting of 25% of the Common Stock each
year in a four year period, a right of first refusal for the Company in the
event the physician decides to sell such Common Stock and the authority of the
Company's Board of Directors to prevent a physician's sale of such Common Stock
to a competitor of the Company. The Restricted Stock Agreement further provides
that the shares of Common Stock issued by the Company to the physicians remain
issued and outstanding regardless of whether such physicians remain with the
Practice, but the rights of the individual physicians to such shares (as opposed
to the right of the Practice) will vest equally over four years, with the
Practice retaining the right to utilize unvested shares to recruit new
physicians. Upon termination of the Management Services Agreement, the Company
has the right to repurchase all or any part of the Common Stock issued in the
Affiliation Transaction. If the Company elects to repurchase unvested shares,
the price per share is the original value of such Common Stock as set forth in
the Restricted Stock Agreement. If the Company elects to purchase vested shares,
the price per share is the then fair market value of the Common Stock. The
Company may also issue Common Stock to employed physicians and other key
personnel of the Practice pursuant to a Restricted Stock Agreement containing
substantially similar terms. The Company expects to enter into amendments tothe
Restricted Stock Agreements to eliminate the vesting provisions.
Stockholder Noncompetition Agreement. Under a non-competition agreement
(the 'Stockholder Non-
competition Agreement'), each physician owner and employed physician of the
Practice agrees not to (i) compete directly or indirectly with the Practice in
the provision of medical services or with the Company in the provision of
practice management services for a period of two years after termination of his
affiliation with the Practice and within a 25 mile radius of any of the
Practice's offices; or (ii) disclose any confidential information of the Company
or the Practice. Each physician further agrees to indemnify the Company and the
Practice for any damages they may suffer as a result of the physician's failure
to abide by the foregoing covenants. There can be no assurance as to the
enforceability of the Stockholder Noncompetition Agreements.
COMPETITION
The Company competes with many other entities to affiliate with
musculoskeletal practices. Several companies that have established operating
histories and greater resources than the Company are pursuing the acquisition of
the assets of both general and specialty practices and the management of such
practices. Other PPMs and some hospitals, clinics, HMOs and provider networks
engage in activities similar to those of the Company. There can be no assurance
that the Company will be able to compete effectively with such
44
<PAGE>
competitors, that additional competitors will not enter the market, or that such
competition will not make it more difficult to affiliate with, and to enter into
agreements to provide management services to, medical practices on terms
beneficial to the Company.
The Practices and the IPA will compete with local musculoskeletal care
service providers as well as some managed care organizations. The Company
believes that changes in governmental and private reimbursement policies and
other factors have resulted in increased competition for consumers of medical
services. The Company believes that the cost, accessibility and quality of
services provided are the principal factors that affect competition. There can
be no assurance that the Practices or the IPA will be able to compete
effectively in the markets that they serve. The inability of the Practices or
the IPA to compete effectively would have a material adverse effect on the
Company.
Further, the Practices and the IPA compete with other providers for
musculoskeletal managed care contracts. The Company believes that trends toward
managed care have resulted in increased competition for such contracts. Other
practices and management service organizations may have more experience than the
Practices, the IPA and the Company in obtaining such contracts. There can be no
assurance that the Company and the Practices will be able to successfully obtain
sufficient managed care contracts to compete effectively in the markets they
serve. The inability of the Practices to compete effectively for and obtain such
contracts could materially adversely affect the Company. See 'Risk
Factors--Intense Competition.'
GOVERNMENT REGULATION AND SUPERVISION
The delivery of health care services is regulated at both the federal and
state level. The laws applicable to the Company are subject to evolving
interpretations, and therefore there can be no assurance that a review of the
Company's operations by federal or state judicial or regulatory authorities
would not result in a determination that the Company, the IPA or one of the
Practices has violated one or more provisions of federal or state law. Any such
determination could have a material adverse effect on the Company.
Federal Law
Among the significant federal laws that apply to the Company's activities
are those that prohibit: (a) the filing of false or improper claims with a
federally funded health program; (b) unlawful inducements for the referral of
business reimbursable under most federally funded health programs; (c) fraud in
regard to payment or service in any health program; and (d) the billing for the
provision of certain Medicare or Medicaid covered items or services where such
items or services were provided based upon a referral to the providing entity by
a physician who has, or whose immediate family member has, a financial
relationship with that entity that does not fall within an applicable exception.
False and Other Improper Claims. Under numerous federal laws, including
the Federal False Claims Act (the 'False Claims Act'), the federal government is
authorized to impose criminal, civil and administrative penalties on any health
care provider that files a false claim for reimbursement from a federally funded
health program (such as Medicare or Medicaid). The False Claims Act provides for
a civil penalty of not less than $5,000 and not more than $10,000 per false
claim and between two to three times the amount of damages depending on the
facts and circumstances. The Medicare civil monetary penalty is now ten thousand
dollars ($10,000) per false item or service claimed. Recently enacted federal
legislation also imposes federal criminal penalties on persons who file false or
fraudulent claims with private insurers. While the criminal statutes are
generally reserved for instances of fraud, the civil and administrative penalty
statutes are being applied by the government in an increasingly broad range of
circumstances. Civil sanctions may be imposed if the claimant knew or should
have known that billing was improper. The government also has taken the position
that claiming reimbursement for services that are substandard is a violation of
these false claims statutes if the claimant knew or should have known that the
care was substandard or rendered under improper circumstances. Private persons
may bring civil actions to enforce the False Claims Act. Under certain lower
court decisions, claims derived from a violation of the Anti-Kickback Statute
(as defined herein) or the Stark Law have been deemed to be, or may under
certain circumstances be construed to be, false claims.
The Stark Self-Referral Law. The Stark Law prohibits a physician from
referring a patient for certain designated health services reimbursable by
Medicare to an entity with which the physician (or the physician's
45
<PAGE>
immediate family member) has a financial relationship, whether through
ownership, debt or compensation arrangements. In addition, a state cannot
receive federal financial participation payment under the Medicaid program for
designated health services furnished to an individual on the basis of a
physician referral that would result in a denial of payments under the Medicare
program if Medicare covered the services to the same extent and under the same
terms and conditions as under the state Medicaid plan. Designated health
services means clinical laboratory services, physical therapy services,
occupational therapy services, radiology (including magnetic resonance imaging,
computerized axial tomography scans and ultrasound services), radiation therapy
services and supplies, durable medical equipment and supplies, parenteral and
enteral nutrients, equipment, and supplies, prosthetics, orthotics, and
prosthetic devices, home health services and supplies, outpatient prescription
drugs, and inpatient and outpatient hospital services. Referrals for services
other than designated health services and the furnishing of physicians' services
that do not involve any designated health services are not subject to the Stark
Law. The term 'referral' under the Stark Law means more than merely recommending
a vendor for designated health services to a patient; referrals are defined to
include the request or establishment of a plan of care by a physician which
includes the provision of designated health services. Consequently, the ordering
of designated health services within a physician's medical group can constitute
a referral within the meaning of the Stark Law.
Further, unless an exception is met, both the health care entity that
furnishes the services and the physician who makes the referral are prohibited
from billing Medicare for services rendered to Medicare beneficiaries in
violation of the Stark Law. The Stark Law is a civil statute which does not
include criminal penalties. Violations of the Stark Law could result in
significant civil sanctions, including denial of payment, refunds of amounts
collected in violation of the statute and civil money penalties of up to fifteen
thousand dollars ($15,000) for each bill or claim for a service a person knows
or should know is a service for which payment may not be made. The Stark Law
also includes civil money penalties of up to one hundred thousand dollars
($100,000) for each arrangement or scheme which the physician or entity knows or
should know has a principal purpose of assuring referrals which, if directly
made, would violate the Stark Law proscription. Both penalty provisions also
provide for exclusion from the Medicare programs. The Stark Law also prohibits
federal financial participation in any payment by a state for services where
such payment would be prohibited by the Stark Law if rendered to a Medicare
beneficiary. The Stark Law also requires each entity that receives Medicare or
Medicaid payments for designated health services to report to HCFA (for
Medicare) or the state Medicaid agency all financial relationships with
referring physicians, with penalties of $10,000 per day for failing to report
such information appropriately, and requires group practices to provide an
attestation. Implementation of these reporting and attestation requirements has
been deferred pending adoption of regulations related to such requirements.
The Company currently does not directly provide any designated health
services as that term currently is defined under the Stark Law; however, one or
more of the Practices may provide designated health services within their
offices. Because the Company provides management services and managed care
contracting services to the Practices for a fee, there can be no assurance that
the Company will not be deemed to be providing designated health services within
each Practice. If the Company is held to be the provider of such designated
health services within each Practice, the Stark Law will require that the
arrangements between the Company and the physicians in each Practice that
provide designated health services be structured to meet a Stark Law exception.
Under this scenario, the physicians' ability to order designated health services
within the Practices and the ability of the Practices to bill Medicare or
Medicaid for such designated health services will be permissible only if the
financial arrangements under the Management Services Agreements or IPA Provider
Agreements entered into by the Company and the Practices meet certain exceptions
set forth in the Stark Law. The Company believes that the financial arrangements
under the Management Services Agreements or IPA Provider Agreements qualify for
applicable exceptions under the Stark Law; however, there can be no assurance
that a review by the courts or regulatory authorities would not result in a
contrary determination. Also, to the extent that the Company in the future owns,
manages or operates Ancillary Service Facilities that provide designated health
services, the Stark Law may require the arrangements for the Company's
acquisition of certain non-clinical assets of the Practices and its Management
Services Agreements or IPA Provider Agreements with each Practice to be
structured to meet Stark Law exceptions in order for the physicians within each
Practice to refer Medicare patients to the Ancillary Service Facilities for
designated health services.
It is also possible that, as a result of the Company's Management Services
Agreements and IPA Provider Agreements with the Practices, the physicians in the
Practices will be deemed to have indirect financial interests in Practices by
virtue of the physicians' ownership interests in the Company. Under such
interpretation of the Stark Law, the physicians' ability to order and bill for
designated health services provided within the Practices and the ability of the
Practices to bill Medicare or Medicaid for such designated health services will
be
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permissible only if an exception under the Stark Law is applicable. The current
Stark Law exception related to physicians' ownership interests in entities to
which they refer patients may be relevant to the physicians' ability to make
referrals for designated health services to any Ancillary Service Facilities
owned or managed by the Company in the future. The Company will not be in a
position to meet that exception related to investment interests until the
Company's stockholders' equity exceeds $75 million.
The Stark Law also governs the physicians' ability to refer patients for
designated health services within the Practices in light of the physicians'
ongoing compensation and ownership arrangements with such Practices. An
exception for in-office ancillary services requires that the Practices meet
certain structural and operational requirements on an ongoing basis in order to
bill for in-office ancillary designated health services rendered by employed or
contracted physicians.
A key feature of the in-office ancillary services exception is the Stark
Laws definition of a 'group practice.' On January 9, 1998, HCFA published
proposed regulations which, among other things, focus on the definition of
'group practice.' In the proposed regulations, among other things, HCFA has
provided or clarified that (i) a referral of a designated health service within
the group practice is a Stark-covered referral; (ii) generally, a group practice
must be a single legal entity, although professional corporations wholly-owned
by a single physician may own an interest in the entity; (iii) independent
contractors to the group practice are not group members, and therefore cannot
provide supervision services if application of the in-office ancillary services
exception is sought; (iv) the supervising group member generally must be in the
office suite; (v) distribution of income and allocation of expenses within the
group practice must be in accordance with methods that are determined prior to
the time the group practice has earned the income or incurred the costs and must
indicate that the group practice is a unified business, that is, the methods
must reflect centralized decision making, pooling of expenses and revenues, and
a distribution system that is not based on each satellite office operating as if
it were a separate enterprise; (vi) a group member's compensation cannot be
directly related to revenues generated by his or her own referrals, even if he
or she personally provided or supervised the referred service (although the
referring physician can share in overall profits related to such services);
(vii) the allocation of profits by sub-group is prohibited; (viii) the 'same
building' in which the unrelated service and the ancillary service must be
provided to comply with the requirements for application of the in-office
ancillary service exception excludes trailers and multiple addresses, or
buildings connected by tunnels or walkways; (ix) the group practice may have
more than one centralized facility for the provision of the group practice's
designated health services; (x) profits distribution within the group practice
cannot be based on reduced referrals (incentive plan payments); and (xi) with
regard to the requirement that a group physician provide to the group practice
substantially the full range of services that he or she routinely provides, only
the services provided in the discrete specialty area of services that the
physician provides for the group practice need be considered, even though the
physician might provide services in another area for another group practice on
different days. Although the proposed regulations do not yet have the effect of
law, they provide guidance as to HCFA's interpretation of the State Law.
Therefore, the Company will be reviewing the new guidance provided by the
proposed regulations with the Practices to determine if any changes in the
Practices' operations may be appropriate. The Company cannot assure that the
Practices will implement such changes, if appropriate, or will implement them
correctly, or that the proposed regulations will not be interpreted to prohibit
relationships that the Company and the Practices believe comply with the Stark
Law, or that the final regulations or future regulations, statutory amendments,
or interpretations thereof, will not further modify requirements for compliance
with the Stark Law.
In the recently enacted 1997 Budget Bill, Congress directed the Secretary
of the U.S. Department of Health and Human Services ('HHS') effective on or
about November 3, 1997, to issue advisory opinions as to whether a referral
relating to designated health services (other than clinical laboratory services)
is prohibited under the Stark Law. Regulations implementing the advisory opinion
process were adopted on January 9, 1998. An advisory opinion issued by the
Secretary will be binding as to the Secretary and the party or parties
requesting the opinion. The Company has no present intention to seek an advisory
opinion from HHS, HCFA or any other governmental authority regarding its current
operations, arrangements with physicians or the referral activities of
physicians in the Practices.
Federal Anti-Kickback Statute. A federal law commonly known as the
'Anti-Kickback Statute' prohibits the offer, solicitation, payment or receipt of
anything of value (direct or indirect, overt or covert, in cash or in kind)
which is intended to induce business for which payment may be made under a
federal health care program. A 'federal health care program' is any plan or
program that provides health benefits, whether directly, through
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insurance, or otherwise, which is funded directly, in whole or in part, by the
United States Government (e.g., Medicare, Medicaid, and CHAMPUS). Excluded from
the definition of federal health care program is the Federal Employee Health
Benefits Program. The type of remuneration covered by the Anti-Kickback Statute
is very broad. It includes not only kickbacks, bribes and rebates, but also
proscribes any such remuneration, whether made directly or indirectly, overtly
or covertly, in cash or in kind. Moreover, prohibited conduct includes not only
remuneration intended to induce referrals, but also remuneration intended to
induce the purchasing, leasing, arranging or ordering of any goods, facilities,
services, or items paid for by a federal health care program. The Anti-Kickback
Statute has been interpreted broadly by a number of courts to prohibit
remuneration that is offered or paid for otherwise legitimate purposes if one
purpose of the payment is to induce referrals. Even bona fide investment
interests in a health care provider may be questioned under the Anti-Kickback
Statute if the government concludes that the opportunity to invest was offered
as an inducement for referrals.
In part to address concerns regarding the implementation of the
Anti-Kickback Statute, in 1991 the federal government published regulations that
provide exceptions or 'safe harbors' for certain transactions that are deemed
not to violate the Anti-Kickback Statute. Among the safe harbors included in the
regulations are transactions involving the sale of physician practices,
management and personal services agreements and employee relationships. Congress
recently added a significant new statutory exception related to 'remuneration
between an organization and an individual or entity' if the organization is a
Medicare risk contracting organization or if the remuneration is provided
pursuant to a written agreement that places the individual or entity at
substantial financial risk for the cost or utilization of services. Regulations
implementing the foregoing statute have not yet been adopted, but are expected
to be enacted soon. The failure of an activity to qualify under a safe harbor
provision, while potentially leading to greater regulatory scrutiny, does not
render the activity automatically illegal under the Anti-Kickback Statute.
Conduct falling outside the safe harbors will be judged by government regulators
on a case-by-case basis based on the specific facts and circumstances.
Each offense under the Anti-Kickback Statute is classified as a felony and
is punishable by a criminal fine of up to twenty-five thousand dollars ($25,000)
and/or imprisonment of up to five (5) years; a civil money penalty of fifty
thousand dollars ($50,000) for each violation and/or civil damages of not more
than three times the total amount of remuneration offered, paid, solicited or
received may be imposed without regard to whether any portion of such
remuneration was for a lawful purpose. Both the offeror and the recipient of the
illegal remuneration are potentially liable. In addition, violators are subject
to civil exclusion from participation in the federal health care programs,
regardless of whether they also have been convicted under the criminal penalty
provisions or have been found liable under the civil monetary penalty provisions
of the Anti-Kickback Statute. Also, there is a risk that, in a civil lawsuit to
enforce a contract that contains a structure in violation of the Anti-Kickback
Statute, a court might conclude that the contract is unenforceable as against
public policy.
There are several aspects of the Company's relationships with the
physicians and the Practices to which the Anti-Kickback Statute may be relevant.
In some instances, for example, the government may construe some of the
Company's marketing and managed care contracting activities as arranging for the
referral of patients to the physicians with whom the Company has a Management
Services Agreement or IPA Provider Agreement. Further, any referral of patients
between physicians within the Practices and between the Practices could be
construed as a referral to which the Anti-Kickback Statute applies. Although
neither the investments in the Company by physicians nor the Management Services
Agreements or the IPA Provider Agreements between the Company and the Practices
qualify for protection under the statutory exception or the safe harbor
regulations described above, the Company does not believe that these activities
fall within the type of activities the Anti-Kickback Statute were intended to
prohibit. The Company also does not believe that referral activities within the
Practices violate the Anti-Kickback Statute. A determination that the Company
has violated the Anti-Kickback Statute would have a material adverse effect on
the Company.
As a component of the recently enacted HIPAA, Congress directed the
Secretary of the U.S. Department of Health and Human Services to issue advisory
opinions regarding compliance with the Anti-Kickback Statute. The advisory
opinion mechanism is authorized for a trial period, beginning six months after
the date of enactment, August 21, 1996. Advisory opinions are available
concerning what constitutes prohibited remuneration within the meaning of the
Anti-Kickback Statute, whether an arrangement satisfies the statutory exceptions
to the Anti-Kickback Statute, whether an arrangement meets a safe harbor, what
constitutes an illegal inducement to reduce or limit services to individuals
entitled to benefits covered by the Anti-Kickback Statute,
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and whether an activity constitutes grounds for the imposition of a civil or
criminal penalty under the applicable exclusion, civil money penalty and
criminal provisions. Advisory opinions, however, will not assess fair market
value for any goods, services or property or determine whether an individual is
a bona fide employee within the meaning of the Internal Revenue Code. The
statutory language makes clear that advisory opinions are available for both
proposed and existing arrangements. The failure of a party to seek an advisory
opinion, however, may not be introduced into evidence to prove that the party
intended to violate the Anti-Kickback Statute. The Company has not sought, and
has no present intention to seek an advisory opinion regarding any aspect of its
current operations or arrangements with physicians.
PIP Regulations. HCFA has issued final regulations (the 'PIP regulations')
covering the use of physician incentive plans ('PIPs') by HMOs and other managed
care contractors and subcontractors that contract to arrange for services to
Medicare or Medicaid beneficiaries ('Organizations'), potentially including the
Company. Any Organization that contracts with a physician group that places the
individual physician members of the group at substantial financial risk for the
provision of services that the group does not directly provide (e.g., a primary
care group takes risk but subcontracts with a specialty group to provide certain
services), must satisfy certain disclosure, survey and stop-loss requirements.
Under the PIP regulations, payments of any kind, direct or indirect, to induce
providers to reduce or limit covered or medically necessary services are
prohibited ('Prohibited Payments'). Further, where there are no Prohibited
Payments, but there is risk sharing among participating providers related to
utilization of services by their patients, the regulations contain three groups
of requirements: (i) requirements for physician incentive plans that place
physicians at 'substantial financial risk'; (ii) disclosure requirements for all
Organizations with PIPs; and (iii) requirements related to subcontracting
arrangements. In the case of substantial financial risk (defined in the
regulations according to several methods, but essentially risk in excess of 25%
of the maximum payments anticipated under a plan with less than 25,000 covered
lives), Organizations must conduct enrollee surveys and ensure that all
providers have specified stop-loss protection. The violation of the requirements
of the PIP regulations may result in a variety of sanctions, including
suspension of enrollment of new Medicaid or Medicare members, or a civil
monetary penalty of $25,000 for each determination of noncompliance. In
addition, because of the increasing public concerns regarding PIPs, the PIP
regulations may become the model for the industry as a whole. Although the
Company currently has no contracts that require compliance with the PIP
regulations, the new regulations, by limiting the amount of risk that may be
imposed upon physicians in certain arrangements, could affect the ability of the
Company to meaningfully reduce the costs of providing services.
Antitrust. Because the Practices that affiliate with the Company remain
separate legal entities, they may be deemed competitors subject to a range of
antitrust laws that prohibit anti-competitive conduct, including price fixing,
concerted refusals to deal and divisions of markets. In particular, the
antitrust laws have been interpreted by the Federal Trade Commission ('FTC') and
the United States Department of Justice ('DOJ') to prohibit joint negotiation by
competitors of price terms in the absence of financial risk that is shared among
the competitors, other financial integration or substantial clinical integration
among the competitors. The Company intends to comply with such state and federal
laws as may affect its development of, and contracting for, integrated health
care delivery networks (and in particular its IPA) and will utilize the DOJ and
FTC approved 'messenger model'--which avoids joint price negotiations--for those
agreements that do not involve sufficient financial or clinical integration.
Nevertheless, there can be no assurance that a review of the Company's business
by courts or regulatory authorities will not result in a determination that
could adversely affect the operation of the Company and the Practices.
State Law
State Self-Referral Laws. A number of states have enacted self-referral
laws that are similar in purpose to the Stark Law but which impose different
restrictions on referrals than the Stark Law. These various state self-referral
laws have different requirements. Some states, for example, only prohibit
referrals when the physician's financial relationship with a health care
provider is based upon an investment interest. Other state laws apply only to a
limited number of designated health services or, alternatively, to all health
care services furnished by a provider. Some states do not prohibit referrals at
all, but require only that a patient be informed of the financial relationship
before the referral is made.
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The following provides a brief review of the self-referral laws in each of
the states in which the Company does business:
Arizona law requires that physicians, when making referrals to an entity
they own that is not part of their group practice, disclose to patients (i) that
the physician has a direct financial interest in the separate diagnostic or
treatment agency or non-routine goods or services that such patient is being
prescribed, and (ii) that the prescribed treatment, goods or services are
available on a competitive basis from other agencies.
California's principal self-referral law applies to all payors and provides
that it is unlawful to refer a person for certain defined categories of services
(including laboratory, physical therapy, physical rehabilitation and diagnostic
imaging) to an entity in which or with which the referring person has a
financial interest (broadly defined). Several exceptions apply, including an
exception for group practices and for referrals to certain publicly traded
entities. Any financial interest by a physician in a health related facility
providing the listed services must be disclosed to the state as a condition of
licensure. The California self-referral statute also requires all physicians to
make disclosure to patients in the event of any referral to a service in which
the physician or his or her family has a significant beneficial interest (even
if such service is not one of the covered services affected by the self-referral
prohibition). In the context of a group practice, the patient disclosure
requirement may be met by providing a written disclosure to each patient or
posting a notice in a common area. Disclosure to the state of physician referral
interests is also a condition of payment under the California Medi-Cal
(Medicaid) program. California also has a separate self-referral law with
respect to care that is covered under workers' compensation insurance, although
the scope of the prohibition, the list of covered services, and the exceptions
provided are virtually identical to those contained in the state's all-payor
self-referral law summarized above.
Florida's Patient Self-Referral Act of 1992 prohibits health care
providers, including physicians, from referring a patient for the provision of
designated health care services, and in some circumstances any health care
services, to an entity in which the health care provider has an investment
interest, unless an exception, such as for referrals within a group practice,
applies.
New Jersey statutes and regulations contain a general prohibition against
self-referrals of a patient to any 'health care service' in which the
practitioner or his or her immediate family has a significant beneficial
interest. This self-referral prohibition is, however, subject to certain
exceptions, including an exception for referrals to a referring physician's own
'medical office' for services billed directly by and in the name of the
referring physician. In general, the Company is aware that significant portions
of New Jersey regulations addressing the issues of self-referral, anti-kickback,
fee splitting and corporate practice of medicine are currently in the process of
being developed and revised by appropriate agencies for possible publication as
proposed rules.
In Pennsylvania, there is no comprehensive self-referral prohibition,
although Pennsylvania does require disclosure to patients where a financial
interest exists in the entity or with the person to which a referral is made.
For providers treating Medicaid patients, Pennsylvania Medicaid regulations
contain a limited self-referral ban, prohibiting, without exceptions, referrals
to an independent laboratory, pharmacy, radiology or ancillary medical service
in which the referring practitioner has an ownership interest. Finally,
Pennsylvania's workers' compensation statute also prohibits the referral of
workers' compensation patients from a provider to a person or an entity with
which the provider has a financial relationship. The Pennsylvania's workers'
compensation self-referral law applies all of the exceptions, including the
group practice exception, applicable under the federal Stark Law.
Texas law does not have a specific self-referral law.
Failure to comply with the foregoing laws may result in loss of licensure,
which would be imposed against the physicians in the Practices, or other civil
or criminal penalties, which may be imposed against the physicians in the
Practices, or against the Company in its capacity as billing agent for the
physicians (pursuant to the Management Services Agreements) or in the event the
Company becomes or is deemed to be a provider of health care services subject to
the various self-referral laws, or if the Company becomes or is deemed to be in
a position to make or influence referrals to the Practices. In addition, any
determination that any Management Services Agreement violates any of the
foregoing laws may result in such agreement being unenforceable. Additional
risks under state self-referral laws could arise, however, to the extent that
the Company or the Practices undertake to
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own, manage or operate any Ancillary Service Facilities to which the physicians
within the Practices may wish to refer patients.
State Anti-Kickback Laws. Many states have laws that prohibit payment of
kickbacks in return for the referral of patients. Some of these laws apply only
to services reimbursable under state Medicaid programs. However, a number of
these laws apply to all health care services in the state, regardless of the
source of payment for the service. Some state laws governing workers'
compensation and other insurance also include an anti-kickback prohibition.
The following provides a brief review of the anti-kickback laws of the
states in which the Company does business:
In Arizona, the state's Professions and Occupations statute declares it
unprofessional conduct for a physician to divide fees for professional services
with another health care provider or health care institution. Arizona's Medicaid
statute also includes a broad general anti-kickback proscription.
California has a general, all-payor anti-kickback statute which prohibits
the offer or acceptance of any compensation by a licensed provider as
compensation or inducement for referring patients, clients or customers.
Significantly, however, this statute also provides that payments for services
other than the referral of patients based on a percentage of gross revenue (or
other similar type of contractual arrangement) is not unlawful if the
consideration is commensurate with the value of the services furnished.
Prohibitions against receiving remuneration for patient referrals also exist
elsewhere in the California statutes, including the state Medicaid statute, the
workers' compensation statute, and the insurance code.
Florida's patient brokering law prohibits any person, including health care
providers, from offering or paying, soliciting or receiving, any commission,
bonus, rebate, kickback, or bribe, or from engaging in any split-fee
arrangement, in return for referring patients. Exceptions include payment
arrangements that are not prohibited by the federal Anti-Kickback law, and
financial arrangements within a group practice. Florida law contains a number of
similar anti-kickback prohibitions. For example, Florida law governing medical
practice provides that licensed physicians are subject to disciplinary action
for these kinds of activities, and Florida's Medicaid statute prohibits similar
activities, but as applied to items and services reimbursed by Medicaid.
New Jersey's professional licensure statutes and regulations prohibit
payment and the receipt of payments for referrals of patients and for
recommending purchasing or prescribing any medical product or other device or
appliance. In addition, under New Jersey's Medicaid statute, criminal penalties
are imposed for any provider or other person who solicits, offers or receives
any kickback, rebate or bribe in connection with the furnishing of Medicaid
items or services. In general, the Company is aware that significant portions of
New Jersey regulations addressing the issues of self-referral, anti-kickback,
fee splitting, and corporate practice of medicine are currently in the process
of being developed and revised by appropriate agencies for possible publication
as proposed rules.
In Pennsylvania, the criminal code provides a general anti-kickback
prohibition, which defines the crime of insurance fraud to include a health care
provider's giving of anything of value in consideration of a referral with
respect to services subject to insurance benefits or claims. Substantially
similar anti-kickback prohibitions are also contained in Pennsylvania's statute
and regulations dealing with providers who participate in the Pennsylvania
Medicaid program or who are paid under the state's workers' compensation
program.
Texas anti-kickback law applies to remuneration or compensation for
referrals made between a licensed provider and an unlicensed person or entity,
but it permits any activity that complies with the federal anti-Kickback Statute
or any regulations promulgated thereunder. In addition, the medical practice
standards in Texas prohibit physicians from paying any person for soliciting or
securing referrals.
Failure to comply with the foregoing laws may result in loss of licensure,
which would be imposed against the physicians in the Practices, or other civil
or criminal penalties, which may be imposed against the physicians in the
Practices, or against the Company in its capacity as billing agent for the
physicians (pursuant to the Management Services Agreements) or in the event the
Company becomes or is deemed to be a provider of health care services subject to
the various anti-kickback laws, or if the Company becomes or is deemed to be in
a position to make or influence referrals to the Practices. In addition, any
determination that any Management Services Agreement violates any of the
foregoing laws may result in such Agreement being unenforceable. The
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laws in most states regarding kickbacks have been subjected to limited judicial
and regulatory interpretation and therefore, no assurances can be given that the
Company's activities will be found to be in compliance. Noncompliance with such
laws could have a material adverse effect upon the Company and subject it and
the Practices' physicians to penalties and sanctions.
Fee-Splitting Laws. Many states prohibit a physician from splitting with a
referral source the fees generated from physician services. Other states have a
broader prohibition against any division of a physician's fees, regardless of
whether the other party is a referral source. Some states have laws that
specifically address payments for services rendered to physicians based on a
percentage of revenues from the physician's practice.
The following provides a brief review of the fee-splitting laws in each of
the states where the Company does business:
Arizona does not explicitly prohibit the sharing of fees between physicians
and non-professionals (e.g., a management company). However, as noted above,
Arizona does declare it unprofessional conduct for a physician to divide fees
for professional services with another health care provider or health care
institution in return for a patient referral.
As noted above in the discussion of California's anti-kickback provisions,
California explicitly permits payment for services (other than the referral of
patients) based on a 'percentage of gross revenue or similar type of contractual
arrangement,' provided that the consideration is commensurate with the value of
the services furnished. However, even if a contractual arrangement does not
involve unlawful fee splitting, the arrangement nonetheless could be deemed to
constitute an arrangement involving payment for referrals under the state anti-
kickback laws.
On November 3, 1997, the State of Florida Board of Medicine ruled that
percentage-based management services fees violate Florida's prohibition on fee
splitting by licensed professionals. The Company has included such percentage
fees in all of its Management Services Agreements with physicians in Florida.
Thus, no assurance can be given that the Company's Management Services
Agreements based on such percentage fees will be enforceable. To avoid this
risk, the Company will seek to restructure such agreements in Florida to comply
with the order, but such modifications, or the failure to obtain agreement on
such modifications, could have a material adverse effect on the Company.
New Jersey does not explicitly prohibit the sharing of fees between
physicians and nonprofessionals, but such fee sharing may be a factor in the
determination as to whether New Jersey's corporate practice of medicine doctrine
has been violated. In general, the Company is aware that significant portions of
New Jersey regulations addressing the issues of self-referral, anti-kickback,
fee splitting, and corporate practice of medicine are currently in the process
of being developed and revised by appropriate agencies for possible publication
as proposed rules.
Pennsylvania does not explicitly prohibit the sharing of fees between
physicians and nonprofessionals, but such fee sharing may be a factor in the
determination as to whether Pennsylvania's corporate practice of medicine
doctrine has been violated.
In Texas, judicial interpretation of the state's corporate practice of
medicine doctrine in Texas has suggested that payments of a percentage of
profits from a physician's medical practice to a management company is a factor
indicative of the corporate practice of medicine.
The Company is reimbursed by physicians in the Practices on whose behalf
the Company provides management services. There can be no certainty that, if
challenged, the Company and the Practices will be found to be in compliance with
each state's fee-splitting (or related corporate practice) laws. Failure to
comply with the foregoing laws may result in loss of licensure, which would be
imposed against the physicians in the Practices, or other civil or criminal
penalties, which may be imposed against the physicians in the Practices, or
against the Company in its capacity as agent for the physicians (pursuant to the
Management Services Agreements) or in the event the Company becomes or is deemed
to be a provider of health care services subject to the various fee-splitting
laws, or if the Company becomes or is deemed to be in a position to make or
influence referrals to the Practices. A determination in any state that the
Company is engaged in any unlawful fee-splitting arrangement could render any
Management Services Agreement or IPA Provider Agreement between the Company and
a
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Practice located in such state unenforceable or subject to modification in a
manner materially adverse to the Company.
Corporate Practice of Medicine. The laws of many states prohibit business
corporations, including the Company, from employing physicians, exercising
control over the medical judgments or decisions of physicians and from engaging
in certain financial arrangements, such as fee-splitting with physicians. These
laws and their interpretations vary from state to state and are enforced by both
the courts and regulatory authorities, each with broad discretion. Some states
interpret the 'practice of medicine' broadly to include activities of
corporations such as the Company that have an indirect impact on the practice of
medicine, even where the physician rendering the medical services is not an
employee of the corporation and the corporation exercises no discretion with
respect to the diagnosis or treatment of a particular patient.
The following provides a brief review of the corporate practice of medicine
doctrine as applied in each of the states in which the Company does business:
Although Arizona case law dated 1967 suggests a long-standing proscription
against the practice of medicine by corporate entities, there are no reported
cases or Arizona Attorney General opinions of this proscription in recent years.
In addition, Arizona's professional corporation statute permits up to forty-nine
percent (49%) ownership of professional medical corporations by non-physicians.
The prohibition on the corporate practice of medicine in California is
reflected both in statute and in case law. In California, a management contract
can be interpreted as unlawfully violating the prohibition on the corporate
practice of medicine if it concedes too much power to the management company.
Examples of such power would be the ability of the management company to select
office sites, require payment to the management company of a substantial
percentage of the practice's gross income, require adherence to design
specifications for practice offices, require approval of goods and supplies used
by the practice, or other matters which singly or in combination may interfere
with the ability of the physician to exercise independent professional judgment.
The Company also is aware that the California Medical Association has developed
guidelines for physicians on the extent to which a management company can
exercise decision-making over a physician practice.
The Florida Board of Medicine has ruled that Florida law does not prohibit
licensed physicians from engaging in the practice of medicine as employees of
business entities, such as business corporations or limited liability companies,
as long as the physicians maintain control over medical decision-making.
New Jersey regulations specify permitted practice forms for physicians and
provide examples of relationships a medical practice may enter into with
non-professional entities for space, equipment and management services. These
regulations require that the physicians retain control of the professional
medical aspects of the practice, as well as control over fee schedules and
certain other functions. In general, the Company is aware that significant
portions of New Jersey regulations addressing the issues of self-referral,
anti-kickback, fee splitting, and corporate practice of medicine are currently
in the process of being developed and revised by appropriate agencies for
possible publication as proposed rules.
Pennsylvania's corporate practice of medicine doctrine permits only
licensed professionals and entities owned solely by such professionals to
practice medicine, not business corporations or similar entities. Although there
are no regulations or case law regarding management services agreements with
professionals, the Company believes Pennsylvania will require the professionals
to maintain control of their practices.
Texas' physician licensure statute contains a broad prohibition against the
'aiding or abetting, directly or indirectly,' of the corporate practice of
medicine. Further, judicial interpretation in Texas of the state's corporate
practice doctrine has suggested that payments of a percentage of profits from a
physician's medical practice to a management company is a factor indicative of
the corporate practice of medicine.
The Company's practice management structure, which the Company believes is
consistent with standard practices for PPMs, uses an operations committee (the
'Operations Committee') of six members, three of whom are designated by each of
the Company and the Practice. Among other things, the Operations Committee
approves a budget, medical group costs, costs and expenses that exceed the
budget, the acquisition and replacement of equipment and the integration of new
technologies. In addition, the Company's explicit approval
53
<PAGE>
is required for implementation or acquisition of new technologies or medical
equipment if the costs of such equipment or technology exceeds 5% of the
management fee. Company approval is also required for all new offices and new
ancillary services. If a new medical office is not profitable, the Company may,
in its sole discretion, close the new office. Finally, a change in control of
the Practice requires the consent of the Company (not to be unreasonably
withheld). While these provisions in the Company's Management Services
Agreements are designed to give the Company control over certain business
transactions by the Practices, which explicitly retain their professional
independence, the Management Services Agreements give the Company either control
over or require the agreement of the Company and the Practices with respect to
certain matters that might be viewed as indicia of the corporate practice of
medicine. While the Company is not given any control over clinical care
decisions, its control or substantial influence over other decisions may be
deemed to be great enough to constitute the corporate practice of medicine.
The Company's intent is not to exercise any responsibility on behalf of the
Practices' physicians that interferes with the physicians' independent patient
care and professional judgments. However, as noted, the laws and legal doctrines
relating to the corporate practice of medicine have been subjected to only
limited judicial and regulatory interpretation and there can be no assurance
that, if challenged, the Company would be considered to be in compliance with
all such laws and doctrines. A determination in any state that the Company is
engaged in the corporate practice of medicine could render any Management
Services Agreement or IPA Provider Agreement between the Company and a Practice
located in such state unenforceable or subject to modification in a manner
materially adverse to the Company.
The Company hires certain ancillary health personnel (nurses and
technicians) and leases their services back to the Practices in a manner that it
believes accords with applicable Medicare billing requirements. The Company's
ability to hire such ancillary personnel is subject to various state
regulations. The Company believes that its structure in this area is common
among PPMs. Should such state corporate practice laws be interpreted to prohibit
such hiring by the Company, the Company will be required to revise its
relationship with such ancillary personnel, and the relationship of the
ancillary personnel to the Practice would also have to be modified. Such
modification in the forgoing relationships could have a material adverse effect
on the Company.
Texas Staff Leasing Law. The Texas Staff Leasing Law requires any person
offering 'staff leasing services' to obtain a license from the Texas Department
of Licensing and Regulation. The Company leases certain non-physician personnel
to STSC as part of the management services provided by the Company to STSC.
After the Company commenced operations in Texas, the Company first learned that
it may be required to obtain a license under the Staff Leasing Law. (It had not
been clear from the statute that the Company would be required to obtain such a
license.) Upon inquiry, regulators in Texas confirmed that the Staff Leasing Law
applies to the operations of the Company, and the Company promptly filed an
application to be licensed under the Staff Leasing Law on October 14, 1997. The
Staff Leasing Law provides that the Attorney General may seek injunctive relief
and that violation is a Class A misdemeanor. Administrative remedies for
operating without a license include denial of a subsequent application for
licensure and a fine of up to $50,000 per violation. The Company was notified on
December 2, 1997 that a fine of $20,000 has been recommended to be assessed
against it as a result of its operations in violation of the Staff Leasing Law
between April 1, 1997 and November 30, 1997. The Company is currently
negotiating with the Department of Licensing and Regulation to decrease the
fine. See 'Risk Factors--Government Regulation--State Regulation of the
Practices.'
Licensure and Certificate of Need Laws. Certain of the ancillary services
that the Company anticipates providing or managing on behalf of the Practices
are now or may in the future be subject to licensure or certificate of need laws
in various states. There can be no assurance that the Company or the Practices
will be able to obtain such licenses or certificates of need approval to the
extent required for the particular ancillary service. Failure to obtain such
licenses or certificates of need could have a material adverse effect on the
Company.
Insurance Laws. Laws in all states regulate the business of insurance and
the operation of HMOs. Many states also regulate the establishment and operation
of networks of health care providers. While these laws do not generally apply to
companies that provide management services to networks of physicians, they have
been construed in some states to apply to such companies and there can be no
assurance that regulatory authorities of the states in which the Company
operates would not apply these laws to require licensure of the Company's
54
<PAGE>
operations as an insurer, as an HMO or as a provider network. The Company
believes that its proposed operations are in compliance with these laws in the
states in which it currently does business, but there can be no assurance that
future interpretations of insurance and health care network laws by regulatory
authorities in these states or in the states into which the Company may expand
will not require licensure or a restructuring of some or all of the Company's
operations. See 'Risk Factors--Government Regulation.'
The National Association of Insurance Commissioners ('NAIC') in 1995
endorsed a policy proposing the state regulation of risk assumption by
physicians. The policy proposes prohibiting physicians from entering into
capitated payment or other risk sharing contracts except through HMOs or
insurance companies. Several states have adopted regulations implementing the
NAIC policy in some form. In states where such regulations have been adopted,
practices are precluded from entering into capitated contracts directly with
employers, individuals and benefit plans unless they qualify to do business as
HMOs or insurance companies. The Existing Practices currently provide services
under very few capitated payment contracts. The Company intends to limit the
number of capitated payments or other risk-sharing arrangements into which it
enters on its own behalf or on behalf of the Practices. The Company expects to
make such arrangements only with HMOs or insurance companies. In addition, in
December 1996, the NAIC issued a white paper entitled 'Regulation of Health Risk
Bearing Entities,' which sets forth issues to be considered by state insurance
regulators when considering new regulations, and encourages that a uniform body
of regulation be adopted by the states. Certain states have enacted statutes or
adopted regulations affecting risk assumption in the health care industry. In
some states, including California, these statutes and regulations subject any
physician or physician network engaged in risk-based contracting, even if
through HMOs and insurance companies, to applicable insurance laws and
regulations, which may include, among other things, laws and regulations
providing for minimum capital requirements and other safety and soundness
requirements. The Company believes that additional regulation at the state level
will be forthcoming in response to the NAIC initiatives.
The IPA that is owned by the Company operates as a specialty physician
network in Arizona, and contracts directly or indirectly with licensed HMOs or
insurance companies to arrange for the provision of specialty orthopedic
physician services on behalf of enrollees of the HMOs or insurance companies. In
return, the IPA accepts a fee from the relevant payor, which fee the IPA passes
along to the participating physician provider, less the IPA's fee (generally
13%) to compensate the IPA for its services. The two IPA Payor Agreements
currently in place with the IPA involve 'capitation' fees--a fixed per month per
enrollee fee for all designated orthopedic services. Arizona law does not permit
a provider network to enter into such agreement directly with enrollees, unions,
employers or other patient group on behalf of their members or employees, as
applicable; the direct acceptance of risk by such a network, under Arizona law,
would constitute the 'business of insurance' subject to licensure and regulation
by the Arizona Department of Insurance. However, where the capitation or other
risk-based payment is accepted by a provider network as a 'downstream' risk from
a licensed HMO or insurance company, the Arizona Department of Insurance has
indicated that such risk contracting would not subject the Company to licensure
or regulation by the Department. However, there can be no assurance that the
laws governing the business of insurance in Arizona will not be revised or
interpreted in a manner that would prohibit operation of the IPA under either
the IPA Payor Agreements or the IPA Provider Agreements, and in such event, the
Company would be required to modify or terminate its relationships with payors
or providers in Arizona. Such modification or termination could have a material
adverse effect on the Company.
FEDERAL AND STATE INITIATIVES
Fraud and Abuse. In the recently enacted 1997 Budget Bill and HIPAA,
Congress has responded to perceived fraud and abuse in the Medicare and Medicaid
programs. This legislation has fortified the government's enforcement authority
with increased resources and greater civil and criminal penalties for offenses.
It is anticipated that there will be further restrictive legislative and
regulatory measures to reduce fraud, waste and abuse in the Medicare and
Medicaid programs. There can be no assurance that any such legislation will not
have a material impact on the Company.
Health Care Reform. As a result of the continued escalation of health care
costs and the inability of many individuals to obtain insurance, numerous
proposals have been or may be introduced in Congress and state legislatures
relating to health care reform. There can be no assurance as to the ultimate
content, timing or effect
55
<PAGE>
of any health care reform legislation, nor is it possible at this time to
estimate the impact of potential legislation, which may be material, on the
Company.
Confidentiality of Patient Records. The confidentiality of patient records
and the circumstances under which such records may be released is subject to
substantial regulation under state and federal laws and regulations. To protect
patient confidentiality, data entries to the Company's databases delete any
patient identifiers, including name, address, hospital and physician. Further,
the Company obtains the informed, written consent of the patient to use or
disclose patient information where the Company believes that such consent is
necessary or appropriate. The Company believes that its procedures comply with
the laws and regulations regarding the collection of patient data in
substantially all jurisdictions, but regulations governing patient
confidentiality rights are evolving rapidly and are often difficult to apply.
Additional legislation governing the dissemination of medical record information
has been proposed at both the state and federal level. Furthermore, the Health
Insurance Portability and Accountability Act of 1996 requires the Secretary of
Health and Human Services to recommend legislation or promulgate regulations
governing privacy standards for individually identifiable health information and
creates a federal criminal offense for knowing disclosure or misuse of such
information. These statutes and regulations may require holders of such
information to implement security measures that may be of substantial cost to
the Company. There can be no assurance that changes to state or federal laws
would not materially restrict the ability of the Company to obtain patient
information originating from records.
EMPLOYEES
As of December 31, 1997, the Company had approximately 845 employees, of
whom 26 are located at the Company's headquarters, seven are located in the
regional offices and 812 are located at the Existing Practices. The Company
believes that its relations with its employees are satisfactory.
PROPERTIES
The Company has a five-year lease for its headquarters in Boca Raton,
Florida, which provides for annual lease payments of approximately $63,000. In
addition, in connection with the Affiliation Transactions, the Company assumed
leases for the facilities utilized by the respective Existing Practices for
aggregate annual lease payments of approximately $1.5 million as of September
30, 1997. For additional information, see 'Certain Transactions.'
LEGAL PROCEEDINGS
On August 15, 1997, an action entitled John Finlay v. Bone, Muscle & Joint,
Inc., was filed. In this action, which is currently pending in the United States
District Court for the Southern District of Texas, plaintiff has asserted claims
for breach of contract arising out of an alleged employment agreement and
alleged non-qualified stock option agreement between plaintiff and the Company.
Plaintiff's complaint seeks compensatory damages of approximately $135,000
pursuant to the alleged employment agreement as well as 16,071 shares of the
Company's Common Stock pursuant to the alleged non-qualified stock option
agreement. The Company believes that each of plaintiff's claims is without
merit, and it intends to defend against the action vigorously.
On September 3, 1997, an action entitled Robert P. Lehmann, M.D., et al. v.
Bone, Muscle & Joint, Inc., et al., was filed. In this action, which is
currently pending in the United States District Court for the Southern District
of Texas, plaintiffs have asserted claims for breach of contract, common law
fraud and promissory estoppel arising out of an alleged restricted stock
purchase agreement between plaintiffs and the Company. Plaintiffs' amended
complaint seeks unspecified compensatory and exemplary damages as well as
specific performance for delivery of 117,860 shares of the Company's Common
Stock. The Company believes that each of the plaintiffs' claims is without
merit, and it intends to defend against the action vigorously.
The Company is subject to legal proceedings in the ordinary course of its
business. The Company does not believe that any such legal proceedings will have
a material adverse effect on the Company, although there can be no assurance to
this effect. In addition, the Company may become subject to certain pending
claims as the result of successor liability in connection with the assumption of
certain liabilities of the Practices; nevertheless,
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<PAGE>
the Company believes that the ultimate resolution of such additional claims will
not have a material adverse effect on the Company. See 'Risk Factors--Exposure
to Professional Liability.'
CORPORATE LIABILITY AND INSURANCE
The provision of medical services entails an inherent risk of professional
malpractice and other similar claims. However, the Company does not influence or
control the practice of medicine by physicians or have responsibility for
compliance with certain regulatory and other requirements directly applicable to
physicians and physician groups. As a result of the relationship between the
Company and the Practices, the Company may become subject to some medical
malpractice actions under various theories. There can be no assurance that
claims, suits or complaints relating to services and products provided by the
Practices will not be asserted against the Company in the future. The Company
maintains medical professional liability insurance and general liability
insurance and believes that such insurance will extend to professional liability
claims that may be asserted against employees of the Company that work on-site
at Practice locations. In addition, pursuant to the Management Services
Agreements, the Practices are required to maintain comprehensive professional
liability insurance. The availability and cost of such insurance has been
affected by various factors, many of which are beyond the control of the Company
and the Practices. The cost of such insurance to the Company and the Practices
may have a material adverse effect on the Company. In addition, successful
malpractice or other claims asserted against the Practices or the Company that
exceed applicable policy limits would have a material adverse effect on the
Company. See 'Risk Factors--Exposure to Professional Liability.'
57
<PAGE>
MANAGEMENT
DIRECTORS, EXECUTIVE OFFICERS AND OTHER KEY EMPLOYEES
The following table sets forth certain information concerning the
directors, executive officers and other key employees of the Company:
<TABLE>
<CAPTION>
NAME AGE POSITION
- ---------------------------------------------------- --- ----------------------------------------------------
<S> <C> <C>
Naresh Nagpal, M.D. ................................ 48 President, Chief Executive Officer and Director
David H. Fater...................................... 50 Executive Vice President, Chief Financial Officer
and Director
David K. Ellwanger.................................. 40 Senior Vice President of Operations
Sheldon Lutz........................................ 54 Senior Vice President of Corporate Development
Tony Anderson....................................... 39 Treasurer
Lawrence S. Burke................................... 31 Controller
Sherry Pulliam...................................... 42 Director of Financial Operations and Assistant
Treasurer
Glenn Cozen......................................... 43 Vice President of Development, Western Region
Joanna Robben....................................... 37 Vice President of Development, Central Region
Keith Bolton........................................ 35 Vice President of Ancillary Services
Beth Landel......................................... 33 Vice President of Ancillary Services
Lee Bodendorfer..................................... 47 Vice President of Operations, Eastern Region
Randolph Farber..................................... 38 Vice President of Operations, Western Region
Randal J. Farwell................................... 37 Vice President of Development, Eastern Region
Brent E. Mellecker.................................. 35 Vice President of Development, Central Region
Andrea Serrate...................................... 43 Vice President of Operations, Southwest Region
Georges Daou(2)..................................... 36 Director
Stewart G. Eidelson, M.D............................ 47 Director
James M. Fox, M.D.(1)............................... 55 Director
Ann H. Lamont(1).................................... 41 Director
Donald J. Lothrop(2)................................ 38 Director
</TABLE>
- ------------------
(1) Member of the Compensation Committee.
(2) Member of the Audit Committee.
Upon consummation of the Offering, the Company's Board of Directors will be
classified into three classes which consist of, as nearly as practicable, an
equal number of directors. The members of each class will serve staggered
three-year terms. Messrs. Eidelson and Fox will be Class I directors, Mr. Fater
and Ms. Lamont will be Class II directors and Messrs. Nagpal, Daou and Lothrop
will be Class III directors. Nominees for director will be divided among the
three classes upon their election or appointment. The terms of Class I, Class II
and Class III directors expire at the annual meeting of stockholders to be held
in 1999, 2000 and 2001, respectively. See 'Description of Capital Stock--Certain
Provisions of the Company's Certificate of Incorporation and By-laws--
Classified Board of Directors.'
Naresh Nagpal, M.D. became President and Chief Executive Officer and a
director in March 1996. From September 1993 to August 1996, Dr. Nagpal served on
the board of directors of InPhyNet Medical Management Inc. ('IMMI'), a PPM. From
September 1993 to August 1995, Dr. Nagpal was the Senior Executive Vice
President and Chief Operating Officer of IMMI. From January 1985 to August 1993,
Dr. Nagpal was President of Acute Care Specialists, Inc. and its related
companies which are PPMs that provide services to several hospitals and
physicians. Dr. Nagpal was the Chairman of the Department of Emergency Medicine
at Barberton Citizens Hospital in Barberton, Ohio from January to June of 1992
and Chairman of the Department of Emergency Medicine at Audobon Regional Medical
Center in Louisville, Kentucky from July to December of 1992.
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<PAGE>
David H. Fater became Executive Vice President and Chief Financial Officer
in February 1997 and a director in April 1997. From June 1995 to January 1997,
Mr. Fater was the Executive Vice President and Chief Financial Officer of
Community Care of America, Inc. From January 1993 to April 1995, Mr. Fater was
the Executive Vice President and Chief Financial Officer of Coastal Physician
Group, Inc. ('Coastal'). Prior to that, Mr. Fater was a partner at Ernst &
Young, LLP.
In connection with Mr. Fater's position at Coastal, in May 1995 he was
named as one of several defendants in a stockholder class-action lawsuit filed
in the United States District Court for the Middle District of North Carolina,
Friedland v. Coastal Healthcare. The complaint, as amended, alleges that the
defendants violated federal securities laws through misrepresentations and
omissions of material facts concerning the Company's operations and financial
condition. The defendants have filed an answer to the complaint, denying the
principal allegations contained therein.
David 'Deke' K. Ellwanger became Senior Vice President of Operations in
July 1997. From July 1994 to July 1997, Mr. Ellwanger was the Vice President of
Managed Care for MedPartners/InPhyNet Medical Management Inc. From August 1985
to June 1994, Mr. Ellwanger worked for Aetna Health Plans/PARTNERS National
Health Plans managing various HMO's and HMO acquisitions.
Sheldon Lutz became Senior Vice President of Corporate Development in
November 1997. From February 1992 until 1997, Mr. Lutz was the Vice President of
Development for Columbia/HCA Healthcare Corporation responsible for acquisitions
and joint ventures and development of a marketwide joint venture model.
Tony Anderson became Treasurer in May 1997. From May 1995 to April 1997,
Mr. Anderson was the Vice President and Chief Financial Officer of Florida
Physician Services. From September 1993 to April 1995, he was Vice President and
Director of Internal Audit for Coastal. From February 1989 to August 1993, Mr.
Anderson was Controller for AKZO Coatings, Inc.
Lawrence S. Burke became Controller in January 1998. From January 1997 to
October 1997 Mr. Burke was the Assistant Corporate Controller for IVAX
Corporation. From August 1994 to December 1996, he was Controller for BCT
International, Inc. From August 1991 to July 1994 Mr. Burke was an auditor with
Kenneth Leventhal & Company.
Sherry Pulliam became Director of Financial Operations and Assistant
Treasurer in November 1996. From February 1985 to December 1995, Ms. Pulliam
functioned in several different positions for Coastal such as, Financial
Operations Manager (from June 1994 to December 1995), Assistant Treasurer (from
July 1993 to May 1994), Vice President of Mergers and Acquisitions (from April
1992 to June 1993) and Vice President and Controller for Coastal Emergency
Services, Inc., the largest subsidiary of Coastal (from May 1988 to March 1992).
From March 1996 to October 1996 Ms. Pulliam was engaged as a Consultant in
Corporate Development for Community Care of America, Inc.
Glenn Cozen joined the Company in March 1997 and is the Vice President of
Development in the Western Region. Since November 1986, Mr. Cozen has been the
Chief Financial Officer at SCOI.
Joanna Robben joined the Company in June 1997 and is a Vice President of
Development in the Central Region. From 1995 to May 1997, Ms. Robben was Vice
President of Network Strategy & Management and Executive Director of Government
Programs for CIGNA Healthcare. From 1990 to 1995 Ms. Robben worked with First
Health Strategies, Inc. (formerly ALTA Health Strategies, Inc.), most recently
as Vice President, Provider Networks. From 1985 to 1990, Ms. Robben was
Director, Network Marketing for Partners National Health Plans. Ms. Robben is
also a registered physical therapist in private practice from 1982 to 1994.
Keith Bolton became Vice President of Ancillary Services in April 1997. Mr.
Bolton was the Vice President of Corporate Development from April 1995 to March
1997, for Onecare Health Industries, Inc. From July 1993 to March 1995, he was
the Regional Vice President for Surgical Health Corporation. From March 1992 to
June 1993, Mr. Bolton was the President and Chief Executive Officer of Southern
California Surgery Centers, a small consulting firm.
Beth A. Landel became Vice President of Ancillary Services in July 1997.
From June 1995 to July 1997,
Ms. Landel was with HealthSouth Corporation where she was a Regional Director of
Corporate Development for the State of Florida and Maryland through Maine. From
May 1994 to June 1995, Ms. Landel was with Surgical Health Corporation and
Physicians Health Corporation, a PPM, as Regional Marketing and Managed Care
59
<PAGE>
Manager for the State of Florida. From August 1992 to May 1994, Ms. Landel was
Director of Managed Care for Wellington Regional Medical Center, an acute
hospital in the Universal Health Services system.
Lee Bodendorfer joined the Company in April 1997 and is the Vice President
of Operations in the Eastern Region. Mr. Bodendorfer was the Executive Vice
President of Intellex Medical Management Systems, Inc. from February 1995 to
April 1997. From October 1993 to February 1995, he acted as Regional Practice
Administrator for Columbia/HCA. From June 1989 to October 1993, Mr. Bodendorfer
was the Managing Director for Melbourne Neurologic, P.A., a neurosurgical and
neurological group medical practice ('Melbourne'). During this period he also
served as President and Board Chairman for Partners in Rehabilitation, Inc., an
industrial rehabilitation and chronic pain management company and an affiliate
of Melbourne. During this time he also served as General Manager of South
Brevard Imaging, Ltd., a limited partnership MRI.
Randolph Farber joined the Company in September 1997 and is the Vice
President of Operations in the Western Region. From 1994 to 1997, Mr. Farber was
an Executive Director for American Oncology Resources. From 1993 to 1994, Mr.
Farber was Assistant Vice President, Provider Relations for Lifeguard Group
Health Care. From 1982 to 1993, Mr. Farber was the Assistant Director, Provider
Relations for CIGNA Healthplans of California.
Randal J. Farwell joined the Company in December 1996 and is the Vice
President of Development for the Eastern Region. From February 1996 to December
1996, Mr. Farwell was the Vice President of Marketing for PhyMatrix Corporation.
He was Vice President of Development for MedPartners from March 1995 to February
1996. From August 1993 to March 1995, Mr. Farwell was the Executive Director of
Marketing and Network Development for Florida Specialty Care Network, Ltd. Prior
to that, Mr. Farwell was the Director of Advertising and Promotions for Industry
Publishers Inc., a southern Florida medical business publication.
Brent E. Mellecker joined the Company in April 1997 and is a Vice President
of Development for the Central Region. From June 1995 to March 1997, Mr.
Mellecker was Vice President of Sales and Marketing for Combined Orthopaedic
Specialists. He was a Practice Consultant at Health Directions from December
1993 to June 1995. Prior to that, Mr. Mellecker was the Director of Business
Development at Same Day Surgery.
Andrea Seratte joined the Company in February 1997 and is the Vice
President of Operations for the Southwest Region. From February 1995 to March
1997, Ms. Seratte was the sole proprietor of SHARP Consulting, a healthcare
consulting firm. From September 1993 to February 1995, Ms. Seratte was the Vice
president of Operations for the Rehab Managed Care division of NovaCare, a
managed care company. From March 1993 to September 1993, she was the Vice
President of Finance for the Hospital Division of NovaCare.
Georges Daou became a director in September 1997. Mr. Daou is a founder of
DAOU Systems, Inc. and has served as Chairman of the Board and Chief Executive
Officer of such company since 1987. Mr. Daou sits on the boards of various
healthcare and community organizations, including the College of Healthcare
Management Executives and the Healthcare Information Managers Association.
Stewart G. Eidelson, M.D. became a director in October 1997. Dr. Eidelson
is a shareholder of, and since 1990 has been an orthopaedic surgeon at, OSA.
James M. Fox, M.D. became a director in November 1996. Dr. Fox was a
founding partner of, and since 1992 has been an orthopaedic surgeon at, SCOI.
Ann H. Lamont became a director in May 1996. Ms. Lamont is a managing
member of each of the general partner of Oak Investment Partners VI, Limited
Partnership ('Oak Partners') and Oak VI Affiliates Fund, Limited Partnership
('Oak VI'). Since September 1983, Ms. Lamont has been a general partner or
managing member of the general partner of four other venture capital
partnerships affiliated with Oak Partners and Oak VI. Ms. Lamont currently
serves as a director on the board of ViroPharma, Incorporated.
Donald J. Lothrop became a director in May 1996. Since July 1994, Mr.
Lothrop has been a General Partner of Delphi Ventures, a privately held venture
capital firm. From January 1991 to July 1994, Mr. Lothrop was a Partner at
Marquette Venture Partners, Inc., a privately held venture capital partnership.
Mr. Lothrop currently serves as a director on the boards of Accordant Health
Services, Inc., Affiliated Research Centers, Inc., EXOGEN, Inc., Kelson
Physician Partners, Inc., Pacific Dental Benefits, Presidium Inc. and PriCare,
Inc.
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<PAGE>
NATIONAL PHYSICIAN ADVISORY BOARD
The Company has established a National Physician Advisory Board (the
'Advisory Board') which will provide oversight of certain matters including
responsibility for all patient care and clinical issues. The Advisory Board will
also have responsibility for providing guidance to the Company regarding the
development of its disease management system and protocols as well as all
professional issues. The Advisory Board will consist of seven to nine
musculoskeletal physicians from various parts of the country, including
physicians who are not affiliated with the Company.
The initial members of the Advisory Board are:
<TABLE>
<CAPTION>
PHYSICIAN PRACTICE
- ----------------------------------------------------------------------------------- --------
<S> <C>
James Esch, M.D.................................................................... Tri-City
Gilbert R. Meadows, M.D............................................................ STSC
Ranjan Sachdev, M.D................................................................ LVBMJ
Martin Silverstein, M.D............................................................ LOS
Donald Wiss, M.D................................................................... SCOI
</TABLE>
DIRECTOR COMPENSATION AND COMMITTEES
The directors currently receive $10,000 annual compensation for their
service on the Board of Directors, $2,000 for each meeting attended in person
and $1,000 for each meeting attended telephonically and are reimbursed for their
out-of-pocket expenses. Under the Company's Option Plan, non-employee directors
are eligible to receive option grants. See '--Stock Option Plan.'
The Board of Directors currently includes a Compensation Committee composed
of two directors, Ms. Lamont and Dr. Fox, and an Audit Committee composed of two
directors, Messrs. Daou and Lothrop. The Compensation Committee determines
compensation for executive officers of the Company and administers the Company's
Option Plan. The Audit Committee reviews the scope and results of audits and
internal accounting controls and all other tasks performed by the independent
public accountants of the Company.
COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION
Prior to the establishment of the Compensation Committee in February 1997,
the Board of Directors determined the compensation payable to the Company's
executive officers. Stock options have been granted to employees of the Company
and, at the end of fiscal 1996, the Board of Directors approved an incentive
bonus for Dr. Nagpal.
EXECUTIVE COMPENSATION
The following table sets forth certain information concerning the
compensation paid by the Company to the President and Chief Executive Officer of
the Company during the fiscal year ended December 31, 1996 (the only executive
officer of the Company during such year) and to the President and Chief
Executive Officer and the Executive Vice President and Chief Financial Officer
of the Company during the fiscal year ended December 31, 1997.
SUMMARY COMPENSATION TABLE
<TABLE>
<CAPTION>
LONG-TERM
COMPENSATION
ANNUAL COMPENSATION AWARDS
---------------------------------- ------------
OTHER SECURITIES
FISCAL ANNUAL UNDERLYING ALL OTHER
NAME AND PRINCIPAL POSITION YEAR SALARY BONUS COMPENSATION OPTIONS/SARS COMPENSATION
- --------------------------------- ----------- ------- ------- ------------ ------------ ------------
($) ($) ($) (#) ($)
<S> <C> <C> <C> <C> <C> <C>
Naresh Nagpal, M.D. ............. 1996 225,000 67,500 -- -- --
President and Chief Executive 1997 300,000 90,000 -- -- --
Officer
David H. Fater .................. 1997 194,615 50,000 -- -- --
Executive Vice President and
Chief Financial Officer
</TABLE>
61
<PAGE>
OPTION GRANTS
There were no options granted to the President and Chief Executive Officer
during the fiscal years ended December 31, 1996 and 1997, and options to
purchase 100,000 shares of Common Stock were granted to the Executive Vice
President and Chief Financial Officer during the fiscal year ended December 31,
1997.
STOCK OPTION PLAN
In order to attract and motivate employees, consultants and directors to
use their best efforts on behalf of the Company, the Company may, pursuant to
its Option Plan, grant to its employees, consultants, and directors options to
purchase an aggregate of 2,000,000 shares of Common Stock (subject to adjustment
in certain circumstances). If any options expire or are canceled or terminated
without being exercised, the Company may, in accordance with the terms of the
Option Plan, grant additional options with respect to those shares of Common
Stock underlying the unexercised portion of such expired, canceled or terminated
options.
The Option Plan may be administered by the Board of Directors or by a
committee of the Board of the Directors (the 'Committee,' and references to the
Committee shall mean the Board of Directors, if a committee is not appointed).
Grants of Common Stock may consist of (i) options intended to qualify as
incentive stock options ('ISOs') or (ii) nonqualified stock options that are not
intended so to qualify ('NSOs'). Except as set forth below, the term of any such
option is ten years. Options may be granted to any employees (including officers
and directors) of the Company, members of the Board of Directors who are not
employees, and consultants and advisers who perform services to the Company or
any of its subsidiaries.
The option price of any ISO granted under the Option Plan will not be less
than the fair market value of the underlying shares of Common Stock on the date
of grant; provided that the price of an ISO granted to a person who owns more
than 10% of the total combined voting power of all classes of stock of the
Company must be at least equal to 110% of the fair market value of Common Stock
on the date of grant and, in such case, the ISO's term may not exceed five
years. The option price of an NSO will be determined by the Committee in its
sole discretion, and may be greater than, equal to or less than the fair market
value of the underlying shares of Common Stock on the date of grant; provided
that, subsequent to the initial public offering of the Company's Common Stock,
the price of the underlying shares may not be less than fair market value. A
grantee may pay the option price (i) in cash, (ii) by delivering shares of
Common Stock already owned by the grantee or vested options held by the grantee,
which, in either case, have a fair market value on the date of exercise equal to
the option price or (iii) by any combination of (i) and (ii) above. With respect
to any options, the Committee may impose such vesting and other conditions as
the Committee may deem appropriate, all of which terms and conditions must be
set forth in an option agreement between the Company and the grantee. Options
may be exercised by the grantee at any time during his employment or retention
by the Company or any subsidiary thereof and within a specified period after
termination of the grantee's employment or retention.
In the event of a change of control (as defined in the Option Plan), all
grantees will be afforded an opportunity to exercise the portion of their
respective options that are then vested and exercisable. Thereafter, any
unexercised and any unvested portion of all outstanding options will be
automatically terminated.
All options issued under the Option Plan will be granted subject to any
applicable federal, state and local withholding requirements. At the time of
exercise, the grantee must remit to the Company an amount sufficient to satisfy
the total amount of any such taxes required to be withheld by the Company with
respect to such exercised options.
The Board of Directors may amend or terminate the Option Plan at any time;
provided that, under certain circumstances the approval of the stockholders of
the Company may be required. As of December 31, 1997, the Company has granted
options under the Option Plan to purchase an aggregate of 1,240,046 shares of
Common Stock, of which 7,143 have been exercised, 64,285have been canceled and
70,760 were issued to physicians. The Option Plan will terminate on May 6, 2006,
unless earlier terminated by the Board of Directors or extended by the Board of
Directors with the approval of the stockholders.
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EMPLOYMENT AGREEMENT
The Company has entered into an employment agreement dated as of May 6,
1996, as amended, with Dr. Nagpal (the 'Nagpal Employment Agreement'). Base
compensation under the Nagpal Employment Agreement is $300,000 per year, subject
to increase by the Board of Directors. In addition, the Board of Directors may
award an annual bonus to Dr. Nagpal in an amount of up to 30% of his base salary
based on the attainment of certain benchmarks. The Company may terminate Dr.
Nagpal's employment at any time and for any reason; provided that, if his
employment is terminated without cause (as defined in such agreement) or as a
result of his becoming permanently disabled, the Company must pay Dr. Nagpal a
severance amount determined in accordance with a formula contained in the
agreement.
Under the Nagpal Employment Agreement, Dr. Nagpal is prohibited from
directly or indirectly competing with the Company during the term of his
employment with the Company and for an additional year thereafter or as long as
the Company is making severance payments to him, however, there can be no
assurance as to the enforceability of such Agreement. The restraint on
competition by Dr. Nagpal is geographically limited to any state in the United
States in which the Company or any of its subsidiaries conducts business or
specifically plans to conduct business at the time of the termination of his
employment with the Company. Under the terms of the Nagpal Employment Agreement,
Dr. Nagpal acknowledges that any proprietary information (as defined in such
agreement) that he may develop is the sole property of the Company and agrees
not to disclose to, or use for the benefit of, any person or entity (other than
the Company) any of such proprietary information whether or not developed by
him.
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<PAGE>
CERTAIN TRANSACTIONS
In connection with its initial capitalization, the Company sold shares of
Common Stock and Series A Convertible Preferred Stock (the 'Series A Preferred
Stock') to each of the following persons and entities at a per share purchase
price of $0.014 and $1.00, respectively: (a) Oak Partners purchased 104,700 and
325,733 shares of Common Stock and Series A Preferred Stock, respectively; (b)
Oak VI purchased 2,445 and 7,600 shares of Common Stock and Series A Preferred
Stock, respectively; (c) Delphi Ventures purchased 105,250 and 327,438 shares of
Common Stock and Series A Preferred Stock, respectively; (d) Delphi
BioInvestments III, L.P. ('Delphi BioInvestments') purchased 1,895 and 5,895
shares of Common Stock and Series A Preferred Stock, respectively; (e) Dr.
Nagpal purchased 607,145 and 333,333 shares of Common Stock and Series A
Preferred Stock, respectively and (f) Scheer & Co. purchased 17,855 shares of
Common Stock. Upon consummation of the Offering, each outstanding share of
Series A Preferred Stock will automatically convert into .7143 shares of Common
Stock.
During the period beginning November 1996 and ending in March 1997, the
Company raised additional working capital funds by issuing additional shares of
preferred stock. On November 12, 1996, the Company issued an aggregate of
2,000,001 shares of Series B Convertible Preferred Stock, $0.01 par value (the
'Series B Preferred Stock'), to the following persons and entities in the
following amounts: Oak Partners, 651,467 shares; Oak VI, 15,200 shares; Delphi
Ventures, 654,877 shares; Delphi BioInvestments, 11,790 shares; and Dr. Nagpal,
666,667 shares. The investors paid an aggregate purchase price of $6,000,003 for
the Series B Preferred Stock. Upon consummation of the Offering, each
outstanding share of Series B Preferred Stock will automatically convert into
.7143 shares of Common Stock. An additional $764,997 was raised by the Company
from the issuance of an aggregate of 254,999 shares of Series C Convertible
Preferred Stock, $0.01 par value (the 'Series C Preferred Stock'), on January
22, 1997 and March 12, 1997 to certain of the SCOI physicians (including Dr.
Fox, one of the Company's directors), key employees and legal counsel of SCOI,
an employee of the Company, CGJR Health Care Private Equities, L.P., CGJR II,
L.P. and CGJR/MF III, L.P. Upon consummation of the Offering, each outstanding
share of Series C Preferred Stock will automatically convert into .7143 shares
of Common Stock. On January 14, 1997, the Company obtained short-term loans in
the aggregate amount of $999,999 from Delphi Ventures, Delphi BioInvestments,
Oak Partners, Oak VI and Dr. Nagpal. In connection with such loans, the Company
issued warrants to the lenders to purchase an aggregate of 23,810 shares of
Common Stock, which warrants may be exercised at any time, in whole or in part,
prior to January 14, 2002 at an exercise price of $4.20 per share. The Company
borrowed an additional $866,667 (of which $130,000 has been repaid) from Dr.
Nagpal on January 10, 1997 and January 14, 1997. Each of the foregoing loans
bears interest at 14% per annum. On June 19, 1997, pursuant to a letter
agreement, the Company issued an aggregate of 188,072 shares of Series D
Convertible Preferred Stock, $0.01 par value (the 'Series D Preferred Stock'),
to Oak VI, Oak Partners, Delphi Ventures, Delphi BioInvestments, and Dr. Nagpal
in exchange for the cancellation of promissory notes in the aggregate principal
amount of $999,999, plus accrued interest, previously issued by the Company to
secure loans made by such investors to the Company. Upon consummation of the
Offering, each outstanding share of Series D Preferred Stock will automatically
convert into .7143 shares of Common Stock.
On June 19, 1997, pursuant to a letter agreement, the Company issued an
aggregate of 533,335 shares of Series E Convertible Preferred Stock, $0.01 par
value (the 'Series E Preferred Stock'), to Oak VI, Oak Partners, Delphi
Ventures, Delphi BioInvestments, Dr. Nagpal, CGJR Health Care, CGJR II, and
CGJR/MF. The investors paid an aggregate purchase price of $3,200,010 for the
Series E Preferred Stock. Upon consummation of the Offering, each outstanding
share of Series E Preferred Stock will automatically convert into .7143 shares
of Common Stock.
From March 1997 to November 1997, the Company entered into the HCFP Loan
Agreements with HCFP Funding. Each of the HCFP Loan Agreements is in the nature
of a revolving line of credit, with each such loan to be made against a
borrowing base equal to 85% of the qualified accounts receivable generated by
the subject Practice. Each HCFP Loan had an initial term of two years, subject
to renewals of one-year periods upon the mutual agreement of the parties, and
bears interest at the Base Rate (defined as 1.75% above the prime rate
designated by Fleet National Bank of Connecticut, N.A.), subject to increase
upon the occurrence of an event of default. In addition, upon the occurrence and
during the continuance of an event of default, the Company is prohibited from
declaring or paying cash dividends on its Common Stock. As security for
repayment of the
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<PAGE>
HCFP Loans, the Company granted HCFP Funding a first priority lien and security
interest in its accounts receivable.
On June 30, 1997, the Company issued a secured term note in the aggregate
principal amount of $3,250,000 to HCFP Funding (the 'June HCFP Note'), which
bears interest at the Base Rate (defined as the prime rate designated by Fleet
National Bank of Connecticut plus 3.5%) (the 'Fleet Base Rate'), subject to
increase upon the occurrence of an event of default, with interest payable on
the last business day of each month for the first six months commencing July 31,
1997 through December 31, 1997. Commencing on January 31, 1998, the Company is
required to make 36 equal monthly installments of principal, plus accrued
interest at the Base Rate. The June HCFP Note is secured by a lien on
substantially all of the assets of the Company and $1.5 million of the Company's
obligations under the June HCFP Note are guaranteed by Dr. Nagpal, Delphi
Ventures III, L.P., Delphi BioInvestments III, L.P., Oak Investment Partners VI,
L.P. and Oak VI Affiliates Fund, L.P. In connection with such guarantees, the
Company issued warrants to purchase an aggregate of 9,525 shares of Common Stock
to such guarantors. In connection with the HCFP Note, the Company issued
warrants to purchase 28,570 shares (subject to increase) of Common Stock to HCFP
Funding at an exercise price of $0.01 per share. The warrants contain put rights
which give the holder the right to receive payment, based on a minimum put price
of $14.00 per share, for the value of such warrants at January 15, 1998.
Pursuant to a Stock Purchase Agreement dated as of July 31, 1997, the
Company issued 166,667 shares of Series E Preferred Stock to HIS Ventures, LLC
for an aggregate purchase price of $1,000,000. Upon the consummation of the
Offering, each outstanding share of Series E Preferred Stock will automatically
convert into .7143 shares of Common Stock.
On August 1, 1997, the Company entered into the Comdisco Loan Agreement
pursuant to which Comdisco made the Comdisco Loan to the Company in the
principal amount of $5,000,000. The Comdisco Loan Agreement was subsequently
amended on November 14, 1997, to increase the amount of the Comdisco Loan to an
aggregate of $6,000,000. To secure its obligations to Comdisco under the
Comdisco Loan Agreement, the Company granted to Comdisco a secured lien on all
of the Company's tangible and intangible personal property. The Comdisco Loan
and the liens granted to Comdisco (the 'Comdisco Liens') are subordinated in all
respects to the current and future indebtedness of the Company owing to HCFP
Funding. The Comdisco Liens rank pari passu with the liens granted to Cedar. The
Comdisco Loan initially bears interest at 15% per annum. The Comdisco Loan may
be prepaid, in whole or in part, at any time, by the Company without penalty or
premium. Within 45 days of the effective date of an initial public offering of
the capital stock of the Company, the Company is obligated to prepay the
Comdisco Loan in full. The Comdisco Loan matures December 31, 2000. The Comdisco
Loan Agreement prohibits the Company from making or declaring any cash dividends
or making any distributions of any class of capital stock of the Company, except
pursuant to an employee repurchase plan or with the consent of Comdisco.
Further, in connection with the Comdisco Loan, the Company issued to Comdisco
warrants to purchase up to 150,000 shares of the Company's Series E Preferred
Stock at a price per share equal to $6.00; provided, however, that because an
initial public offering of the Company's capital stock was not consummated on or
prior to December 31, 1997, the number of shares of Series E Preferred Stock
issuable upon exercise of the warrant increased to 160,000. Upon the completion
of the Company's initial public offering, such warrant becomes exercisable for
114,286 shares of Common Stock. In addition, pursuant to a Stock Purchase
Agreement dated as of August 18, 1997, the Company issued 41,667 shares of
Series E Preferred Stock to Comdisco for an aggregate purchase price of
$250,000. Upon the consummation of the Offering, each outstanding share of
Series E Preferred Stock will automatically convert into .7143 shares of Common
Stock.
On August 1, 1997, the Company entered into an agreement (the 'Master Lease
Agreement') with Comdisco pursuant to which Comdisco agreed to purchase and
lease certain equipment to the Company on the terms and conditions contained in
the Master Lease Agreement. In connection with the Master Lease Agreement, the
Company issued to Comdisco a warrant to purchase up to 5,000 shares of the
Company's Series E Preferred Stock at a price per share equal to $6.00. In
November 1997, the Master Lease Agreement was increased and an additional 10,000
warrants were issued for the purchase of Series E Preferred Stock at a price per
share equal to $6.00. Upon the completion of the Company's initial public
offering, such warrants become exercisable for 10,714 shares of Common Stock.
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<PAGE>
On August 22, 1997, the Company entered into the Cedar Loan Agreement with
Galtney Corporate Services, Inc. which subsequently assigned to Cedar the loan
in the principal amount of $1,500,000. To secure its obligations under the Cedar
Loan Agreement, the Company granted to Cedar a secured lien on all of the
Company's tangible and intangible personal property. The Cedar Loan and the
liens granted to Cedar ('Cedar Liens') are subordinated in all respects to the
current and future indebtedness of the Company owing to HCFP Funding. The Cedar
Liens rank pari passu with the liens granted to Comdisco. The Cedar Loan bears
interest at 15% per annum. The Cedar Loan may be prepaid, in whole or in part,
at any time, by the Company without penalty or premium. Within 45 days of the
effective date of an initial public offering of the capital stock of the
Company, the Company is obligated to prepay the Cedar Loan in full. The Cedar
Loan matures December 31, 2000. The Cedar Loan Agreement prohibits the Company
from making or declaring any cash dividends or making any distributions of any
class of capital stock of the Company, except pursuant to an employee dividends
repurchase plan or with the consent of Cedar. Pursuant to the terms of the Cedar
Loan Agreement, the outstanding amount of the Cedar Loan is convertible into
shares of Preferred Stock of the Company at the option of Cedar after the
Company completes a sale and issuance of any shares of its Preferred Stock in
connection with an equity financing (an 'Equity Financing') at any time after
the earlier to occur of (i) a payment default under the Cedar Loan Agreement or
(ii) the failure of the Company to consummate an initial public offering of its
capital stock prior to December 31, 1997. Further, in connection with the Cedar
Loan, the Company issued to Cedar a warrant to purchase up to 37,500 shares of
the Company's Series E Preferred Stock at a price per share equal to $6.00;
provided, however, that because an initial public offering of the Company's
capital stock was not consummated on or prior to December 31, 1997, the number
of shares of Series E Preferred Stock issuable upon exercise of the warrant
increased to 40,000. Upon the completion of the Company's initial public
offering, such warrant becomes exercisable for 28,571 shares of Common Stock.
On September 9, 1997, the Company issued and sold $4,000,000 in aggregate
principal amount of its subordinated convertible debentures due August 31, 2000
(the 'Debentures') pursuant to the Convertible Debenture Purchase Agreement,
dated as of September 9, 1997 (the 'Debenture Purchase Agreement'). The
Debentures were purchased by Dr. Nagpal, Delphi Ventures, Delphi BioInvestments,
Oak Partners, Oak VI and Health Care Services-BMJ, LLC and H&Q Serv*is Ventures,
L.P., affiliates of Hambrecht & Quist, LLC. Pursuant to the terms of the
Debenture Purchase Agreement, the Debentures are subordinated in right of
payment to all indebtedness owing by the Company to HCFP Funding, the Comdisco
Loan and the Galtney Loan. The Debentures bear interest at 6% per annum and are
payable semi-annually. The unpaid principal amount of the Debentures is due on
August 31, 2000.
Except in very limited instances, the Company may not prepay the Debentures
prior to September 9, 1999. The Debentures are subject to prepayment at the
option of the holders of the Debentures upon the consummation of (i) a sale of
all or substantially all of the assets of the Company; (ii) a sale or transfer
of all or a majority of the outstanding Common Stock of the Company in any one
transaction or series of related transactions; or (iii) a merger or
consolidation of the Company with or into another entity. The Debentures are
convertible at any time at the option of the holders thereof into shares of
Common Stock at a conversion price equal to $10.08 per share. Pursuant to the
terms of the Debenture Purchase Agreement, the holders of the Debentures have
rights of first offer on future issuances of capital stock of the Company or
other securities convertible into capital stock of the Company. The Debenture
Purchase Agreement places limitations on indebtedness and liens and prohibits
the payment of dividends.
On October 14, 1997, the Company issued a secured term note in the
principal amount of $2,500,000 to HCFP Funding (the 'October HCFP Note'), which
bears interest at the Fleet Base Rate, subject to increase upon the occurrence
of an event of default, with interest payable on the last business day of each
quarter through December 31, 1998. The entire principal sum is due and payable
on January 1, 1999. Pursuant to the terms of the October HCFP Note, the Company
is also obligated to pay a fee in the amount of $300,000 to HCFP Funding on the
maturity date. The October HCFP Note is secured by a lien on substantially all
of the assets of the Company.
On October 15, 1997, the Company issued promissory notes (the 'October
Notes') in the aggregate principal amount of $3,375,000 to Dr. Nagpal, Delphi
Ventures, Delphi BioInvestments, Oak Partners, Oak IV and Dr. Fox (collectively,
the 'October Note Holders'). The October Notes bear interest at the Fleet Base
Rate, subject to increase upon the occurrence of an event of default. The entire
principal sum is due and payable on
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January 1, 1999. In connection with the October Notes, the Company issued
warrants to purchase 48,215 shares of Common Stock to the October Note Holders.
The warrants may be exercised at any time, in whole or in part, at an exercise
price of $0.01 per share and expire on October 15, 2002. The warrants contain
customary antidilution provisions. The Commission is of the view that the
failure to register the October Notes and the warrants issued in connection
therewith under the Securities Act was a technical violation of Section 5
thereof, giving rise to rescission rights on the part of the October Note
Holders. The Company intends to repay the October Notes out of the proceeds of
the Offering and, accordingly, has not recorded any additional contingent
liability with respect to the October Notes in light of the Commission's
position. See 'Use of Proceeds.'
On November 21, 1997, the Company issued warrants to purchase 23,214 shares
of Common Stock to Dr. Nagpal at an exercise price of $0.01 per share.
On January 2, 1998, the Company obtained short-term financing in the form
of a demand note from Dr. Nagpal in the amount of $1.0 million to repay certain
of the Physician Notes. In connection with this loan, the Company issued
warrants to Dr. Nagpal to purchase 14,286 shares of Common Stock at an exercise
price of $0.01 per share. The demand note bears interest at 8% per annum.
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PRINCIPAL STOCKHOLDERS
The following table sets forth certain information as of December 31, 1997
regarding the beneficial ownership of the Common Stock of the Company as of the
date of this Prospectus and as adjusted to reflect the sale of the shares of
Common Stock offered hereby with respect to (i) each person known by the Company
to own beneficially more than 5% of the outstanding shares of Common Stock; (ii)
each of the Company's directors; and (iii) all directors and officers as a
group. Unless otherwise indicated, the address for each stockholder is c/o BMJ
Medical Management, Inc., 4800 North Federal Highway, Suite 101E, Boca Raton,
Florida 33431.
<TABLE>
<CAPTION>
SHARES BENEFICIALLY SHARES BENEFICIALLY
OWNED OWNED
PRIOR TO OFFERING(1) AFTER OFFERING(1)
-------------------- ----------------------
NAME OF BENEFICIAL OWNER NUMBER PERCENT NUMBER PERCENT
- ------------------------------------------------------------------ --------- ------- --------- -------
<S> <C> <C> <C> <C>
Delphi Ventures III, L.P.(2) ..................................... 132,540 1.44% 1,010,650(3) 6.24%
3000 Sand Hill Road, Building One, Suite 135,
Menlo Park, California 94025
Oak Investment Partners VI, L.P.(4) .............................. 132,540 1.44 1,010,650(5) 6.24
One Gorham Island
Westport, Connecticut 06880
Naresh Nagpal, M.D................................................ 753,075(6) 8.14 1,631,190(6)(7) 10.04
David H. Fater.................................................... 100,000 1.09 100,000 *
Georges Daou...................................................... 17,855(8) * 17,855(8) *
Stewart G. Eidelson, M.D.......................................... 10,020(9) * 10,020(9) *
James M. Fox, M.D.(10)............................................ 421,592 4.59 433,288(11) 2.68
Ann H. Lamont(4).................................................. 132,540(12) 1.44 1,010,650(5) 6.24
Donald J. Lothrop(2).............................................. 132,540(13) 1.44 1,010,650(3) 6.24
All officers and directors as a group (7 persons) (14)............ 1,567,622 16.81 4,213,653 25.83
</TABLE>
- ------------------
* Less than one percent.
(1) Applicable percentage of ownership is based on 9,174,033 shares of Common
Stock outstanding as of December 31, 1997 and 16,163,133 shares of Common
Stock outstanding upon consummation of the Offering. Beneficial ownership
is determined in accordance with the rules of the Commission and includes
voting and investment power with respect to securities. Securities subject
to options or warrants currently exercisable or exercisable within 60 days
of November 15, 1997 are deemed outstanding for purposes of computing the
percentage ownership of the person holding such options or warrants, but
are not deemed outstanding for purposes of computing the percentage
ownership of any other person. Except for shares held jointly with a
person's spouse or subject to applicable community property laws, or as
indicated in the footnotes to this table, each stockholder identified in
the table possesses sole voting and investment power with respect to all
shares of Common Stock shown as beneficially owned by such stockholder.
(2) Includes (i) 1,895 shares of Common Stock owned by Delphi BioInvestments
and (ii) warrants to purchase 24,945 shares of Common Stock owned by the
stockholder and warrants to purchase 450 shares of Common Stock owned by
Delphi BioInvestments.
(3) Includes 1,207,616 shares of Preferred Stock owned by the stockholder and
21,741 shares of Preferred Stock owned by Delphi BioInvestments which
automatically convert into 862,585 and 15,530 shares of Common Stock,
respectively, upon completion of the Offering.
(4) Includes (i) 2,445 shares of Common Stock owned by Oak VI and (ii) warrants
to purchase 24,820 shares of Common Stock owned by the stockholder and
warrants to purchase 580 shares of Common Stock owned by Oak VI.
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<PAGE>
(5) Includes 1,201,329 shares of Preferred Stock owned by the stockholder and
28,029 shares of Preferred Stock owned by Oak VI all of which automatically
convert into 858,090 and 20,020 shares of Common Stock, respectively, upon
completion of the Offering.
(6) Includes (i) 13,395 shares of Common Stock reserved for issuance upon
exercise of presently-exercisable stock options and (ii) warrants to
purchase 62,895 shares of Common Stock. Dr. Nagpal's shares are held in two
trusts for his children, the Prianker Nagpal Family Trust and the Zubin
Nagpal Family Trust. Dr. Nagpal is the grantor of each trust and Dr.
Nagpal's wife is the sole trustee of each trust.
(7) Includes 1,229,358 shares of Preferred Stock owned by the stockholder which
automatically convert into 878,115 shares of Common Stock upon completion
of the Offering.
(8) Consists of 17,855 Common Stock options which vest immediately.
(9) Consists of 10,020 shares of Common Stock issued pursuant to a Management
Services Agreement.
(10) Includes warrants to purchase 5,355 shares of Common Stock owned by the
stockholder.
(11) Includes 16,375 shares of Preferred Stock owned by the stockholder which
automatically convert into 11,696 shares of Common Stock upon completion of
the Offering.
(12) Ms. Lamont, a director of the Company, is a managing member of each of the
general partner of Oak Investment and Oak VI. As such, Ms. Lamont may be
deemed to have an indirect pecuniary interest (within the meaning of Rule
16a-1 under the Exchange Act), in an indeterminate portion of the shares
beneficially owned by Oak Investment and Oak VI. All of the shares
indicated as owned by Ms. Lamont are owned beneficially by Oak Investment
and Oak VI and are included because of the affiliation of Ms. Lamont with
each of the partnerships. Ms. Lamont disclaims beneficial ownership of
these shares to the extent permitted under Rule 13d-3 under the Exchange
Act.
(13) Mr. Lothrop, a director of the Company, is a General Partner of Delphi
Ventures. As such, Mr. Lothrop may be deemed to have an indirect pecuniary
interest (within the meaning of Rule 16a-1 under the Exchange Act), in an
indeterminate portion of the shares beneficially owned by Delphi Ventures
and Delphi BioInvestments. All of the shares indicated as owned by Mr.
Lothrop are owned beneficially by Delphi Ventures and Delphi BioInvestments
and are included because of the affiliation of Mr. Lothrop with each of the
partnerships. Mr. Lothrop disclaims beneficial ownership of these shares to
the extent permitted under Rule 13d-3 under the Exchange Act.
(14) Includes beneficial ownership of an aggregate of 265,080 shares of Common
Stock and warrants to purchase Common Stock prior to the Offering and an
aggregate of 2,021,305 shares of Common Stock and warrants to purchase
Common Stock after the Offering attributable to the affiliation of Ms.
Lamont and Mr. Lothrop with the entities described in footnotes (11) and
(12) above.
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DESCRIPTION OF CAPITAL STOCK
Upon the consummation of the Offering, the authorized capital stock of the
Company will consist of (i) 35,000,000 shares of Common Stock and (ii)
10,000,000 shares of preferred stock, par value $0.01 per share (the 'Preferred
Stock'), which are subject to future issuance as determined by the Board of
Directors of the Corporation.
COMMON STOCK
Holders of Common Stock are entitled to one vote per share on all matters
on which the holders of Common Stock are entitled to vote and do not have any
cumulative voting rights. Holders of Common Stock are entitled to receive such
dividends as may from time to time be declared by the Board of Directors of the
Company out of funds legally available therefor. Holders of Common Stock have no
preemptive, conversion, redemption or sinking fund rights. In the event of a
liquidation, dissolution or winding-up of the Company, holders of Common Stock
are entitled to share ratably in the assets of the Company, if any, remaining
after the payment of all debts and liabilities of the Company and the
liquidation preference of any outstanding class or series of preferred stock.
The outstanding shares of Common Stock are, and the shares of Common Stock
offered by the Company hereby when issued will be, fully paid and nonassessable.
The rights, preferences and privileges of holders of Common Stock are subject to
the Preferred Stock currently outstanding and any series of Preferred Stock
which the Company may issue in the future.
Prior to the Offering, there has been no public market for the Common
Stock. The Common Stock has been approved for quotation on Nasdaq under the
symbol BONS, subject to official notice of issuance. The transfer agent and
registrar for the Common Stock is Chase Mellon Shareholder Services.
PREFERRED STOCK
As of November 1, 1997, the Company had five classes of authorized
Preferred Stock: (i) the Series A Preferred Stock; (ii) the Series B Preferred
Stock; (iii) the Series C Preferred Stock; (iv) the Series D Preferred Stock,
and (v) the Series E Preferred Stock. Each holder of Preferred Stock has the
right, at such holder's option, to convert any of his Preferred Stock into
Common Stock at the conversion price set forth in the Certificate of
Incorporation. Upon consummation of the Offering, each outstanding share of
Preferred Stock automatically converts into .7143 shares of Common Stock without
any action on the part of the holders of such stock. Upon such conversion, the
holders of Preferred Stock are not entitled to payment of any accrued but unpaid
dividends.
The Board of Directors is authorized to provide for the issuance of
Preferred Stock in one or more series and to fix the number of shares
constituting any such series, the voting powers, designations, preferences and
relative, participating, optional or other special rights and qualifications,
limitations or restrictions thereof, including the dividend rights, redemption
privileges, conversion rights and liquidation preferences of the shares
constituting any series, without any further vote or action by the stockholders
of the Company. The issuance of Preferred Stock by the Board of Directors could
adversely affect the rights of holders of Common Stock. For example, the
issuance of Preferred Stock could result in a series of securities outstanding
that would have preferences over the Common Stock with respect to dividends and
in liquidation and that could (upon conversion or otherwise) enjoy all of the
rights appurtenant to Common Stock.
The authority possessed by the Board of Directors to issue Preferred Stock
could potentially be used to discourage attempts by others to obtain control of
the Company through merger, tender offer, proxy, consent or otherwise by making
such attempts more difficult to achieve or more costly. The Board of Directors
may issue Preferred Stock without stockholder approval and with voting and
conversion rights which could adversely affect the voting power of holders of
Common Stock. There are no agreements or understandings for the issuance of
Preferred Stock, and the Board of Directors has no present intent to issue
Preferred Stock.
70
<PAGE>
CERTAIN PROVISIONS OF THE COMPANY'S CERTIFICATE OF INCORPORATION AND BY-LAWS
Certain provisions of the Certificate of Incorporation and By-laws of the
Company summarized below may be deemed to have an anti-takeover effect and may
delay, defer or prevent a tender offer or takeover attempt that a stockholder
might consider in its best interest, including an attempt that might result in
the receipt of a premium over the market price for the shares held by
stockholders.
Classified Board of Directors
The Certificate of Incorporation provides for the Board of Directors to be
divided into three classes of directors serving staggered three-year terms. As a
result, approximately one-third of the Board of Directors will be elected each
year. Moreover, under Delaware Law, in the case of a corporation having a
classified board, stockholders may remove a director only for cause. This
provision, when coupled with the provision of the By-laws authorizing only the
Board of Directors to fill vacant directorships, will preclude a stockholder
from removing incumbent directors without cause and simultaneously gaining
control of the Board of Directors by filling the vacancies created by such
removal with its own nominees.
Special Meeting of Stockholders
The Certificate of Incorporation provides that special meetings of
stockholders of the Company may be called only by the Board of Directors, the
Chairman of the Board of Directors or the Chief Executive Officer. This
provision will make it more difficult for stockholders to take actions opposed
by the Board of Directors.
STOCKHOLDERS AGREEMENT
The Company entered into a Second Amended and Restated Stockholders
Agreement dated as of November 22, 1996, as amended (the 'Stockholders
Agreement'), with certain of its stockholders, including Oak Partners, Oak VI,
Delphi Ventures, Delphi BioInvestments, Dr. Nagpal and the SCOI physicians.
Under the Stockholders Agreement, the stockholders party thereto agreed to vote
their shares to appoint to the Company's Board of Directors certain designees of
such stockholders. The stockholders (other than the SCOI physicians) also have
the following rights and obligations under the Stockholders Agreement: (i) a
right of first refusal with respect to issuances of the Company's capital stock
or securities convertible into capital stock; and (ii) transfer restrictions.
Under the terms of the Stockholders Agreement, 500,000 shares of Common Stock
Dr. Nagpal received on May 6, 1996 are subject to vesting over a 40-month
period; however, the vesting schedule is subject to acceleration in the
following circumstances: (i) termination of Dr. Nagpal's employment without
cause after December 31, 1996 but prior to January 1, 1998, 112,500 additional
shares vest; (ii) termination of Dr. Nagpal's employment without cause after
December 31, 1997 but prior to January 1, 1999, an additional 75,000 shares
vest; (iii) termination of Dr. Nagpal's employment as a result of his death or
permanent disability, 150,000 additional shares vest; (iv) simultaneously with
the effectiveness of a registration statement filed under the Securities Act,
50% of the remaining unvested stock vests; and (v) simultaneously with any sale
of a majority of the capital stock or at least 50% of the assets of the Company,
all of the remaining unvested stock vests. In the event of the termination of
Dr. Nagpal's employment with the Company for any reason, the Company has the
right to repurchase from Dr. Nagpal all of the shares of unvested stock at a
purchase price equal to $0.01 per share. The Stockholders Agreement terminates
upon consummation of the Offering.
REGISTRATION RIGHTS
The beneficial owners of 3,733,750 shares of Common Stock have the right to
request that the Company effect the registration of any or all of such shares or
to include any or all of such shares in any registration statement to be filed
by the Company relating to the registration of Common Stock under the Securities
Act (other than registration statements on Form S-4 or Form S-8). Upon such
request, the Company is required to file a registration statement covering such
shares or to include such shares in such registration statement, as applicable,
except that, in the case of a requested registration, the Company is not
obligated to file any registration statement initiated pursuant to a request by
any such owner within 180 days of a prior registration by the Company and the
Company's obligations to effect any such registration is subject to other
limitations.
71
<PAGE>
WARRANTS
In connection with various financing transactions entered into by the
Company to finance Affiliation Transactions and provide working capital, the
Company issued to certain of its lenders warrants to purchase shares of Common
Stock or warrants to purchase shares of Series E Preferred Stock. For a
description of such transactions and such warrants, see 'Certain Transactions.'
DIRECTORS' LIABILITY
The Certificate of Incorporation contains provisions that eliminate the
personal liability of its directors for monetary damages resulting from breaches
of their fiduciary duty other than liability for breaches of the duty of
loyalty, acts or omissions not in good faith or which involve intentional
misconduct or a knowing violation of law, violations under Section 174 of the
DGCL or any transaction from which the director derived an improper personal
benefit. The Company's By-laws contain provisions requiring the indemnification
of the Company's directors and officers to the fullest extent permitted by
Section 145 of the DGCL, including circumstances in which indemnification is
otherwise discretionary. The Company believes that these provisions are
necessary to attract and retain qualified persons as directors and officers.
72
<PAGE>
SHARES ELIGIBLE FOR FUTURE SALE
After giving effect to the shares of Common Stock offered hereby, the
Company will have outstanding 16,163,133 shares of Common Stock. Of these
shares, all of the shares of Common Stock sold in the Offering will be freely
tradeable without restriction under the Securities Act, except for any shares
purchased by 'affiliates,' as that term is defined under the Securities Act, of
the Company. The remaining 12,163,133 shares are 'restricted securities' within
the meaning of Rule 144. Of such shares, 4,834,074 became eligible for sale
under Rule 144 in December 1997 and the remaining 7,329,059 shares will be
eligible for sale under Rule 144 at various times in 1998, subject to the lockup
arrangements described in the following paragraph.
The Company, its directors and officers and certain other stockholders of
the Company, who upon completion of the Offering will own in the aggregate
shares of Common Stock, have agreed that they will not, without the
prior written consent of Hambrecht & Quist LLC, issue, sell, offer, contract to
sell, make any short sale, pledge, issue or sell any option or contract to
purchase, purchase any option or contract to sell, grant any option, right or
warrant to purchase or otherwise transfer or dispose of any shares of Common
Stock, or securities exhangeable for or convertible into or exercisable for any
rights to purchase or acquire any shares of Common Stock during the 180-day
period following the date of this Prospectus, except that such stockholders may
transfer securities pursuant to bona fide gifts, provided such shares are
subject to the 180-day lock-up agreement and the Company may issue, and grant
options to purchase, shares of Common Stock under its current stock option plan
and may issue shares of Common Stock, in connection with certain affiliation
transactions. See 'Underwriting.'
In general, under Rule 144 as currently in effect, a person (or persons
whose shares are aggregated), including any person who may be deemed to be an
'affiliate' of the Company, is entitled to sell within any three month period
'restricted' shares beneficially owned by him or her in an amount that does not
exceed the greater of (i) 1% of the then outstanding shares of Common Stock or
(ii) the average weekly trading volume in shares of Common Stock during the four
calendar weeks preceding such sale, provided that at least one year has elapsed
since such shares were acquired from the Company or an affiliate of the Company.
Sales are also subject to certain requirements as to the manner of sale, notice
and the availability of current public information regarding the Company.
However, a person who has not been an 'affiliate' of the Company at any time
within three months prior to the sale is entitled to sell his or her shares
without regard to the volume limitations or other requirements of Rule 144,
provided that at least two years have elapsed since such shares were acquired
from the Company or an affiliate of the Company.
In general, under Rule 701 as currently in effect, any employee, officer,
director, consultant or advisor of the Company who purchased shares from the
Company pursuant to a written compensatory benefit plan or written contract
relating to compensation is eligible to resell such shares 90 days after the
effective date of the Offering in reliance upon Rule 144, but without the
requirement to comply with certain restrictions contained in such rule. Shares
of Common Stock obtained pursuant to Rule 701 may be sold by non-affiliates
without regard to the holding period, volume limitations, or information or
notice requirements of Rule 144, and by affiliates without regard to the holding
period requirements.
The Company intends to file a registration statement on Form S-8 under the
Securities Act to register all shares of Common Stock issuable under its Option
Plan, as well as certain of the shares of Common Stock previously issued under
its Option Plan. This registration statement is expected to be filed as soon as
practicable after the date of this Prospectus and is expected to become
effective immediately upon filing. Shares of Common Stock covered by this
registration statement will be eligible for sale in the pubic market after the
effective date of such registration statement, subject to Rule 144 limitations
applicable to affiliates of the Company. See 'Management Stock Option Plan.'
The Company has granted registration rights to certain of its stockholders.
See 'Description of Capital Stock--Registration Rights.'
Prior to the Offering, there has been no public market for the Common Stock
and it is impossible to predict with certainty the effect, if any, that market
sales of shares or the availability of such shares for sale will have on the
market price of the Common Stock. Nevertheless, sales of substantial amounts of
Common Stock in the public market may have an adverse impact on such market
price and could impair the Company's ability to raise capital through the sale
of its equity securities.
73
<PAGE>
UNDERWRITING
Subject to the terms and conditions of the Underwriting Agreement, the
Underwriters named below, through their Representatives, Hambrecht & Quist LLC,
Raymond James & Associates, Inc. and Volpe Brown Whelan & Company, LLC have
severally agreed to purchase from the Company the following respective number of
shares of Common Stock:
<TABLE>
<CAPTION>
NUMBER
UNDERWRITER OF SHARES
- ------------------------------------------------------------------------------------------- ---------
<S> <C>
Hambrecht & Quist LLC......................................................................
Raymond James & Associates, Inc............................................................
Volpe Brown Whelan & Company, LLC..........................................................
---------
Total................................................................................. 4,000,000
---------
---------
</TABLE>
The Underwriting Agreement provides that the obligations of the
Underwriters are subject to certain conditions precedent, including the absence
of any material adverse change in the Company's business and the receipt of
certain certificates, opinions and letters from the Company, its counsel and
independent auditors. The nature of the Underwriters' obligation is such that
they are committed to purchase all shares of Common Stock offered hereby if any
of such shares are purchased.
The Underwriters propose to offer the shares of Common Stock directly to
the public at the initial public offering price set forth on the cover page of
this Prospectus and to certain dealers at such price less a concession not in
excess of $ per share. The Underwriters may allow, and such dealers
may reallow, a concession not in excess of $ per share to certain
other dealers. After the initial public offering of the shares, the offering
price and other selling terms may be changed by the Representatives of the
Underwriters. The Representatives have informed the Company that the
Underwriters do not intend to conform sales to accounts over which they exercise
discretionary authority.
The Company has granted to the Underwriters an option, exercisable no later
than 30 days after the date of this Prospectus, to purchase up to 600,000
additional shares of Common Stock at the initial public offering price, less the
underwriting discount, set forth on the cover page of this Prospectus. To the
extent that the Underwriters exercise this option, each of the Underwriters will
have a firm commitment to purchase approximately the same percentage thereof
which the number of shares of Common Stock to be purchased by it shown in the
above table bears to the total number of shares of Common Stock offered hereby.
The Company will be obligated, pursuant to the option, to sell shares to the
Underwriters to the extent the option is exercised. The Underwriters may
exercise such option only to cover over-allotments made in connection with the
sale of Common Stock offered hereby.
The offering of the shares is made for delivery when, as and if accepted by
the Underwriters and subject to prior sale and to withdrawal, cancellation or
modification of the offering without notice. The Underwriters reserve the right
to reject an order for the purchase of shares in whole or in part.
The Company has agreed to indemnify the Underwriters against certain
liabilities, including liabilities under the Securities Act, and to contribute
to payments the Underwriters may be required to make in respect thereof.
The Company has agreed to pay the Underwriters a non-accountable expense
allowance of $ upon completion of the Offering.
Certain stockholders of the Company, including the executive officers and
directors, who will own in the aggregate shares of Common Stock after
the Offering, have agreed that they will not, without prior
74
<PAGE>
written consent of Hambrecht & Quist LLC, directly or indirectly, sell, offer,
contract to sell, transfer the economic risk of ownership in, make any short
sale, pledge or otherwise dispose of any shares of Common Stock or any
securities convertible into or exchangeable or exercisable for or any other
rights to purchase or acquire Common Stock beneficially owned by them during the
180-day period following the date of this Prospectus other than transfers
pursuant to bona fide gifts, provided such shares are subject to the 180-day
lock-up agreement. In addition, the Company has agreed that, without the prior
written consent of Hambrecht & Quist LLC on behalf of the Underwriters, the
Company will not, directly or indirectly, sell, offer, contract to sell, make
any short sale, pledge, sell any option or contract to purchase, purchase any
option or contract to sell, grant any option, right or warrant to purchase or
otherwise transfer or dispose of any shares of Common Stock or any securities
convertible into or exchangeable or exercisable for or any rights to purchase or
acquire Common Stock, or enter into any swap or other agreement that transfers,
in whole or in part, any of the economic consequences or ownership of Common
Stock, during the 180-day period following the date of this Prospectus, except
that the Company may issue, and grant options to purchase, shares of Common
Stock under its current stock option plan and may issue shares of Common Stock
in connection with certain affiliation transactions. Sales of such shares in the
future could adversely affect the market price of the Common Stock. Hambrecht &
Quist LLC may, in its sole discretion, release any of the shares subject to the
lock-up agreements at any time without notice.
At the request of the Company, the Underwriters have reserved up to
shares of Common Stock for sale at the initial public offering price to
directors, officers, employees and persons with business relationships with the
Company, as well as others associated with such persons. The number of shares of
Common Stock available for sale to the general public will be reduced to the
extent such persons purchase the reserved shares. Any reserved shares not so
purchased will be offered by the Underwriters on the same basis as all other
shares offered hereby.
Prior to the Offering, there has been no public market for the Common
Stock. The initial public offering price for the Common Stock will be determined
by negotiation between the Company and the Representatives. Among the factors to
be considered in determining the initial public offering price are prevailing
market and economic conditions, revenues and earnings of the Company, market
valuations of other companies engaged in activities similar to the Company,
estimates of the business potential and prospects of the Company, the present
state of the Company's business operations, the Company's management and other
factors deemed relevant.
Certain persons participating in this offering may overallot or effect
transactions which stabilize, maintain or otherwise affect the market price of
the Common Stock at levels above those which might otherwise prevail in the open
market, including by entering stabilizing bids, effecting syndicate covering
transactions or imposing penalty bids. A stabilizing bid means the placing of
any bid or effecting of any purchase, for the purpose of pegging, fixing or
maintaining the price of the Common Stock. A syndicate covering transaction
means the placing of any bid on behalf of the underwriting syndicate or the
effecting of any purchase to reduce a short position created in connection with
the offering. A penalty bid means an arrangement that permits the Underwriters
to reclaim a selling concession from a syndicate member in connection with the
offering when shares of Common Stock sold by the syndicate member are purchased
in syndicate covering transactions. Such transaction may be effected on the
Nasdaq Stock Market, in the over-the-counter market, or otherwise. Such
stabilizing, if commenced, may be discontinued at any time.
On September 9, 1997, Health Care Services-BMJ, LLC and H&Q Serv*is
Ventures, L.P., affiliates of Hambrecht & Quist LLC, purchased $2.5 million
aggregate principal amount of the Company's Debentures as part of a financing in
which the Company sold $4.0 million aggregate principal amount of Debentures to
seven investors. See 'Certain Transactions.'
75
<PAGE>
LEGAL MATTERS
The validity of the Common Stock offered hereby will be passed upon by
O'Sullivan Graev & Karabell, LLP, New York, New York. Certain legal matters will
be passed upon for the Underwriters by Cravath, Swaine & Moore, New York, New
York.
EXPERTS
The financial statements of the following entities appearing in this
Prospectus have been audited by Ernst & Young LLP, independent certified public
accountants, as set forth in their reports thereon also appearing elsewhere in
this Prospectus:
BMJ Medical Management, Inc.
Orthopaedic Associates of Bethlehem, Inc.
Southern California Orthopedic Institute Medical Group
South Texas Spinal Clinic, P.A.
Tri-City Orthopedic Surgery Medical Group, Inc.
Lauderdale Orthopaedic Surgeons
Fishman and Stashak, M.D.'s, P.A. d/b/a Gold Coast Orthopedics
Sun Valley Orthopaedic Surgeons
Orthopaedic Surgery Associates, P.A.
Broward Institute of Orthopedic Specialties, P.A.
Such financial statements have been included herein in reliance upon such
reports given upon the authority of such firm as experts in accounting and
auditing.
76
<PAGE>
INDEX TO FINANCIAL STATEMENTS
CONTENTS
<TABLE>
<S> <C>
FINANCIAL STATEMENTS OF BMJ MEDICAL MANAGEMENT, INC.
Report of Independent Certified Public Accountants........................................................ F-3
Balance Sheets at December 31, 1996 and September 30, 1997................................................ F-4
Statements of Operations for the Year Ended December 31, 1996 and the Nine Months Ended
September 30, 1996 (Unaudited) and 1997................................................................. F-5
Statements of Stockholders' Equity for the Year Ended December 31, 1996 and the Nine Months Ended
September 30, 1997...................................................................................... F-6
Statements of Cash Flows for the Year Ended December 31, 1996 and the Nine Months Ended September 30, 1996
(Unaudited) and 1997.................................................................................... F-7
Notes to Financial Statements............................................................................. F-8
The following financial statements are presented to provide supplemental historical financial information
about the significant physician practices with which BMJ Medical Management, Inc. (the Company) has
entered into affiliation transactions since its inception. The Company does not own or control these
practices. These financial statements should not be viewed as indicative of the future operating
performance of the Company.
FINANCIAL STATEMENTS OF ORTHOPAEDIC ASSOCIATES OF BETHLEHEM, INC.
Report of Independent Auditors............................................................................ F-28
Balance Sheets at December 31, 1994 and 1995 and June 30, 1996............................................ F-29
Statements of Operations for the Years Ended December 31, 1994 and 1995 and the Six Months Ended June 30,
1996.................................................................................................... F-30
Statements of Stockholders' Equity for the Years Ended December 31, 1994 and 1995 and
the Six Months Ended June 30, 1996...................................................................... F-31
Statements of Cash Flows for the Years Ended December 31, 1994 and 1995 and the Six Months Ended June 30,
1996.................................................................................................... F-32
Notes to Financial Statements............................................................................. F-33
FINANCIAL STATEMENTS OF SOUTHERN CALIFORNIA ORTHOPEDIC INSTITUTE MEDICAL GROUP
Report of Independent Auditors............................................................................ F-37
Balance Sheets at December 31, 1995 and October 31, 1996.................................................. F-38
Statements of Operations and Changes in Partners' Capital for the Years Ended December 31, 1994 and 1995
and the Ten Months Ended October 31, 1996............................................................... F-39
Statements of Cash Flows for the Years Ended December 31, 1994 and 1995 and the Ten Months Ended October
31, 1996................................................................................................ F-40
Notes to Financial Statements............................................................................. F-41
FINANCIAL STATEMENTS OF SOUTH TEXAS SPINAL CLINIC, P.A.
Report of Independent Auditors............................................................................ F-46
Balance Sheets at December 31, 1994 and 1995 and October 31, 1996......................................... F-47
Statements of Operations for the Years Ended December 31, 1994 and 1995 and the Ten Months Ended October
31, 1996................................................................................................ F-48
Statements of Stockholders' Equity for the Years Ended December 31, 1994 and 1995 and
the Ten Months Ended October 31, 1996................................................................... F-49
Statements of Cash Flows for the Years Ended December 31, 1994 and 1995 and the Ten Months Ended October
31, 1996................................................................................................ F-50
Notes to Financial Statements............................................................................. F-51
</TABLE>
F-1
<PAGE>
INDEX TO FINANCIAL STATEMENTS--(CONTINUED)
<TABLE>
<S> <C>
FINANCIAL STATEMENTS OF TRI-CITY ORTHOPEDIC SURGERY MEDICAL GROUP, INC.
Report of Independent Certified Public Accountants........................................................ F-54
Balance Sheets at December 31, 1995 and 1996.............................................................. F-55
Statements of Operations for the Years Ended December 31, 1995 and 1996................................... F-56
Statements of Stockholders' Equity for the Years Ended December 31, 1995 and 1996......................... F-57
Statements of Cash Flows for the Years Ended December 31, 1995 and 1996................................... F-58
Notes to Financial Statements............................................................................. F-59
FINANCIAL STATEMENTS OF LAUDERDALE ORTHOPAEDIC SURGEONS
Report of Independent Certified Public Accountants........................................................ F-63
Balance Sheets at December 31, 1995 and 1996.............................................................. F-64
Statements of Income and Change in Partners' Capital for the Years Ended December 31, 1995 and 1996....... F-65
Statements of Cash Flows for the Years Ended December 31, 1995 and 1996................................... F-66
Notes to Financial Statements............................................................................. F-67
FINANCIAL STATEMENTS OF FISHMAN AND STASHAK, M.D.'S, P.A. D/B/A GOLD COAST ORTHOPEDICS
Report of Independent Certified Public Accountants........................................................ F-71
Balance Sheets at December 31, 1995 and 1996.............................................................. F-72
Statements of Income for the Years Ended December 31, 1995 and 1996....................................... F-73
Statements of Stockholders' Equity for the Years Ended December 31, 1995 and 1996......................... F-74
Statements of Cash Flows for the Years Ended December 31, 1995 and 1996................................... F-75
Notes to Financial Statements............................................................................. F-76
FINANCIAL STATEMENTS OF SUN VALLEY ORTHOPAEDIC SURGEONS
Report of Independent Certified Public Accountants........................................................ F-80
Balance Sheet at December 31, 1996........................................................................ F-81
Statement of Operations and Changes in Partners' Capital for the Year Ended
December 31, 1996....................................................................................... F-82
Statement of Cash Flows for the Year Ended December 31, 1996.............................................. F-83
Notes to Financial Statements............................................................................. F-84
FINANCIAL STATEMENTS OF ORTHOPAEDIC SURGERY ASSOCIATES, P.A.
Report of Independent Certified Public Accountants........................................................ F-87
Balance Sheet at December 31, 1996........................................................................ F-88
Statement of Income for the Year Ended December 31, 1996.................................................. F-89
Statement of Stockholders' Equity for the Year Ended December 31, 1996.................................... F-90
Statement of Cash Flows for the Year Ended December 31, 1996.............................................. F-91
Notes to Financial Statements............................................................................. F-92
FINANCIAL STATEMENTS OF BROWARD INSTITUTE OF ORTHOPAEDIC SPECIALTIES, P.A.
Report of Independent Certified Public Accountants........................................................ F-96
Balance Sheet at December 31, 1996........................................................................ F-97
Statement of Income for the Year Ended December 31, 1996.................................................. F-98
Statement of Stockholders' Equity for the Year Ended December 31, 1996.................................... F-99
Statement of Cash Flows for the Year Ended December 31, 1996.............................................. F-100
Notes to Financial Statements............................................................................. F-101
</TABLE>
F-2
<PAGE>
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
The Board of Directors
BMJ Medical Management, Inc.
We have audited the accompanying balance sheets of BMJ Medical Management Inc.,
(the Company) as of December 31, 1996 and September 30, 1997, and the related
statements of operations, stockholders' equity, and cash flows for the year
ended December 31, 1996 and the nine month period ended September 30, 1997.
These financial statements are the responsibility of the Company's management.
Our responsibility is to express an opinion on these financial statements based
on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of BMJ Medical Management, Inc. at
December 31, 1996 and September 30, 1997, and the results of its operations and
its cash flows for the year ended December 31, 1996 and the nine month period
ended September 30, 1997, in conformity with generally accepted accounting
principles.
ERNST & YOUNG, LLP
West Palm Beach, Florida
November 11, 1997, except
for the 5th paragraph of Note 1,
as to which the date is December 23, 1997
F-3
<PAGE>
BMJ MEDICAL MANAGEMENT, INC.
BALANCE SHEETS
<TABLE>
<CAPTION>
DECEMBER 31, SEPTEMBER 30,
1996 1997
------------ -------------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents........................................................ $ 1,439,000 $ 2,404,000
Accounts receivable.............................................................. 5,817,000 19,325,000
Due from physician groups........................................................ 426,000 --
Prepaid expenses and other current assets........................................ 29,000 42,000
------------ -------------
Total current assets........................................................ 7,711,000 21,771,000
Furniture, fixtures and equipment, net............................................. 2,142,000 3,877,000
Management services agreements, net of accumulated amortization of $663,000 at
December 31, 1996 and $4,716,000 at September 30, 1997........................... 15,447,000 32,485,000
Other assets....................................................................... 32,000 3,234,000
------------ -------------
Total assets....................................................................... $ 25,332,000 $ 61,367,000
------------ -------------
------------ -------------
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable................................................................. $ 149,000 $ 299,000
Accrued expenses................................................................. 366,000 2,856,000
Accrued salaries and benefits.................................................... 383,000 946,000
Due to physician groups.......................................................... 4,936,000 3,990,000
Shareholder notes payable........................................................ 40,000 894,000
Current portion of long-term debt and capital lease obligations.................. 18,000 2,208,000
------------ -------------
Total current liabilities................................................... 5,892,000 11,193,000
Long-term debt and capital lease obligations, less current portion................. 59,000 16,480,000
Commitments and contingencies
Stockholders' equity:
Convertible preferred stock...................................................... 30,000 42,000
Common stock, $0.001 par value--15,000,000 shares authorized, 4,786,782 shares
issued and outstanding at December 31, 1996; 25,000,000 shares authorized,
7,177,481 shares issued and outstanding at September 30, 1997................. 5,000 7,000
Additional paid-in capital....................................................... 21,088,000 45,953,000
Deferred compensation............................................................ -- (1,706,000)
Accumulated deficit................................................................ (1,742,000) (10,602,000)
------------ -------------
Total stockholders' equity......................................................... 19,381,000 33,694,000
------------ -------------
Total liabilities and stockholders' equity......................................... $ 25,332,000 $ 61,367,000
------------ -------------
------------ -------------
</TABLE>
See accompanying notes.
F-4
<PAGE>
BMJ MEDICAL MANAGEMENT, INC.
STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
NINE MONTHS
YEAR ENDED ENDED SEPTEMBER 30,
DECEMBER 31, ------------------------------
1996 1996 1997
----------- ------------ ------------
(UNAUDITED)
<S> <C> <C> <C>
Practice revenues, net................................... $ 6,029,000 $ 674,000 $ 38,325,000
Less: amounts retained by physician groups............... (2,912,000) (336,000) (17,878,000)
----------- ------------ ------------
Management fee revenue................................... 3,117,000 338,000 20,447,000
Costs and expenses:
Medical support services............................... 2,844,000 343,000 17,934,000
General and administrative............................. 1,299,000 675,000 5,962,000
Depreciation and amortization.......................... 737,000 83,000 4,489,000
Interest expense (income), net......................... (21,000) (6,000) 922,000
----------- ------------ ------------
Total costs and expenses............................ 4,859,000 1,095,000 29,307,000
----------- ------------ ------------
Net loss................................................. $(1,742,000) $ (757,000) $ (8,860,000)
----------- ------------ ------------
----------- ------------ ------------
Net loss per share..................................... $ (0.21) $ (0.10) $ (1.02)
----------- ------------ ------------
----------- ------------ ------------
Weighted average number of common shares outstanding..... 8,273,000 7,820,000 8,722,000
----------- ------------ ------------
----------- ------------ ------------
</TABLE>
See accompanying notes.
F-5
<PAGE>
BMJ MEDICAL MANAGEMENT, INC.
STATEMENT OF STOCKHOLDERS' EQUITY
<TABLE>
<CAPTION>
NUMBER SERIES A SERIES B SERIES C SERIES D SERIES E ADDITIONAL
OF PREFERRED PREFERRED PREFERRED PREFERRED PREFERRED COMMON PAID-IN
SHARES STOCK STOCK STOCK STOCK STOCK STOCK CAPITAL
---------- --------- --------- --------- --------- --------- ------- -----------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Balance at inception (January
16, 1996)...................... $ -- $ -- $ -- $ -- $ -- $ -- $ --
Initial issuance of convertible
preferred stock................ 3,000,000 10,000 20,000 -- -- -- -- 6,970,000
Issuance of common stock........ 839,285 -- -- -- -- -- 1,000 11,000
Issuance of common stock
in connection with
practice affiliation
agreements .................... 3,947,497 -- -- -- -- -- 4,000 14,107,000
Net loss........................ -- -- -- -- -- -- --
--------- --------- --------- --------- --------- ------- -----------
Balance at December 31, 1996.... 10,000 20,000 -- -- -- 5,000 21,088,000
Issuance of convertible
preferred
stock.......................... 846,245 -- -- 3,000 2,000 7,000 -- 6,237,000
Issuance of common stock in
connection with practice
affiliation agreements......... 2,313,913 -- -- -- -- -- 2,000 13,751,000
Issuance of common stock in
exchange for services.......... 69,643 -- -- -- -- -- -- 292,000
Issuance of options to purchase
common stock................... -- -- -- -- -- -- 3,871,000
Issuance of stock purchase
warrants for 181,546 shares of
common stock................... -- -- -- -- -- -- 714,000
Exercise of stock options....... 7,145
Net loss........................ -- -- -- -- -- -- --
--------- --------- --------- --------- --------- ------- -----------
Balance at September 30, 1997... $10,000 $20,000 $ 3,000 $ 2,000 $ 7,000 $7,000 $45,953,000
--------- --------- --------- --------- --------- ------- -----------
--------- --------- --------- --------- --------- ------- -----------
<CAPTION>
DEFERRED ACCUMULATED
COMPENSATION DEFICIT TOTAL
------------ ------------ -----------
<S> <<C> <C> <C>
Balance at inception (January
16, 1996)...................... $ -- $ -- $ --
Initial issuance of convertible
preferred stock................ -- -- 7,000,000
Issuance of common stock........ -- -- 12,000
Issuance of common stock
in connection with
practice affiliation
agreements .................... -- -- 14,111,000
Net loss........................ -- (1,742,000) (1,742,000)
------------ ------------ -----------
Balance at December 31, 1996.... -- (1,742,000) 19,381,000
Issuance of convertible
preferred
stock.......................... -- -- 6,249,000
Issuance of common stock in
connection with practice
affiliation agreements......... -- -- 13,753,000
Issuance of common stock in
exchange for services.......... -- -- 292,000
Issuance of options to purchase
common stock................... (1,706,000) -- 2,165,000
Issuance of stock purchase
warrants for 181,546 shares of
common stock................... -- -- 714,000
Exercise of stock options.......
Net loss........................ -- (8,860,000) (8,860,000)
------------ ------------ -----------
Balance at September 30, 1997... $(1,706,000) $(10,602,000) $33,694,000
------------ ------------ -----------
------------ ------------ -----------
</TABLE>
See accompanying notes.
F-6
<PAGE>
BMJ MEDICAL MANAGEMENT, INC.
STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
NINE MONTHS
YEAR ENDED ENDED SEPTEMBER 30,
DECEMBER 31, -------------------------
1996 1996 1997
------------ ----------- -----------
(UNAUDITED)
<S> <C> <C> <C>
OPERATING ACTIVITIES
Net loss............................................................... $ (1,742,000) $ (757,000) $(8,860,000)
Adjustments to reconcile net loss to net cash used in operating
activities:
Depreciation......................................................... 74,000 5,000 414,000
Amortization of management services agreements and deferred financing
costs............................................................. 663,000 78,000 4,196,000
Interest expense converted to preferred stock........................ -- -- 34,000
Compensation expense related to issuance of common stock options..... -- -- 2,165,000
Changes in operating assets and liabilities:
Accounts receivable............................................... (449,000) -- (4,733,000)
Due from physician groups......................................... (426,000) (415,000) 426,000
Prepaid expenses and other current assets......................... 2,000 (27,000) 24,000
Accounts payable.................................................. 149,000 119,000 150,000
Accrued expenses.................................................. 366,000 211,000 2,090,000
Accrued salaries and benefits..................................... 383,000 120,000 855,000
------------ ---------- -----------
Net cash used in operating activities.................................. (980,000) (666,000) (3,239,000)
INVESTING ACTIVITIES
Purchases of furniture, fixtures and equipment......................... (697,000) (93,000) (559,000)
Payments for management services agreements............................ (206,000) -- (7,455,000)
Payments for deferred offering costs................................... -- -- (1,924,000)
Cash used for acquisition of non-cash assets of affiliated practices... (3,707,000) -- (10,406,000)
Payments for deposits and other assets................................. (22,000) -- (280,000)
------------ ---------- -----------
Net cash used in investing activities.................................. (4,632,000) (93,000) (20,624,000)
FINANCING ACTIVITIES
Proceeds from issuance of preferred stock.............................. 7,000,000 1,000,000 5,215,000
Proceeds from debt issuance............................................ -- -- 18,339,000
Payments on stockholder notes payable.................................. -- -- (130,000)
Proceeds from issuance of stockholder notes payable.................... 40,000 40,000 1,984,000
Proceeds from issuance of common stock................................. 11,000 12,000 --
Payment on capital lease............................................... -- -- (11,000)
Amounts due to physician groups........................................ -- -- (569,000)
------------ ---------- -----------
Net cash provided by financing activities.............................. 7,051,000 1,052,000 24,828,000
------------ ---------- -----------
Net increase in cash and cash equivalents.............................. 1,439,000 293,000 965,000
Cash and cash equivalents at beginning of period....................... -- -- 1,439,000
------------ ---------- -----------
Cash and cash equivalents at end of period............................. $ 1,439,000 $ 293,000 $ 2,404,000
------------ ---------- -----------
------------ ---------- -----------
SUPPLEMENTAL CASH FLOW INFORMATION
Interest paid.......................................................... $ 9,000 $ 4,000 $ 633,000
------------ ---------- -----------
------------ ---------- -----------
Value of stock issued upon execution of management services
agreements........................................................... $ 14,111,000 $ 405,000 $13,753,000
------------ ---------- -----------
------------ ---------- -----------
Note issued upon execution of management services agreements........... $ -- $ -- $ 284,000
------------ ---------- -----------
------------ ---------- -----------
Noncash transactions from practice affiliations including accounts
receivable, management services agreements and due to/from
physicians........................................................... $ 4,905,000 $ 806,000 $ 93,000
------------ ---------- -----------
------------ ---------- -----------
Equipment under capital lease obligations.............................. $ 77,000 $ -- $ --
------------ ---------- -----------
------------ ---------- -----------
Short-term loans converted to preferred stock.......................... $ -- $ -- $ 1,000,000
------------ ---------- -----------
------------ ---------- -----------
Deferred financing cost related to the issuance of warrants............ $ -- $ -- $ 714,000
------------ ---------- -----------
------------ ---------- -----------
Deferred financing cost related to accrued liabilities................. $ -- $ -- $ 400,000
------------ ---------- -----------
------------ ---------- -----------
Common stock issued in payment of accrued salaries..................... $ -- $ -- $ 292,000
------------ ---------- -----------
------------ ---------- -----------
</TABLE>
See accompanying notes.
F-7
<PAGE>
BMJ MEDICAL MANAGEMENT, INC.
NOTES TO FINANCIAL STATEMENTS
SEPTEMBER 30, 1997
(INFORMATION PERTAINING TO SEPTEMBER 30, 1996 AND TO THE
NINE MONTHS ENDED SEPTEMBER 30, 1996 IS UNAUDITED)
1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
GENERAL
BMJ Medical Management, Inc. (the Company), a Delaware corporation, is
engaged in operating and managing physician groups focusing exclusively on
musculoskeletal disease management, including ancillary services such as
ambulatory surgery centers, magnetic resonance imaging and rehabilitative
therapy. The Company manages physician groups under long-term management
services agreements (Management Services Agreements) with affiliated physician
groups located in various states. The Company may also acquire certain assets
under Asset Purchase Agreements, primarily accounts receivable, and furniture,
fixtures and equipment from these groups. The cost of these assets is determined
based on their appraised or net realizable value. The Company was incorporated
in Delaware in January 1996.
Under the Management Services Agreements, the Company provides a full range
of administrative services required for a physician group's day-to-day
nonmedical operations and employs substantially all of the nonmedical personnel
utilized by the group. The nonclinical services provided include, but are not
limited to, practice administration, practice support, data processing, business
office management including billing and collecting, marketing, accounting, the
provision of office space and equipment and the arrangement of group purchasing
discounts for medical and nonmedical supplies. The Company also assists the
physician group in the recruitment of additional physicians and negotiates
managed care contracts which must be approved by the group.
The terms of the Management Services Agreements are 40 years and
automatically renew for successive 5-year periods thereafter unless terminated
by one of the parties. As compensation for services provided by the Company, the
Company generally receives a percentage of the group's net collected revenue,
reimbursement of all nonmedical expenses of the practice incurred by the Company
in supporting the group, 66 2/3% of the cost savings the Company is able to
achieve through its purchasing power and a percentage of the profits from new
ancillary services.
The laws of many states, including some of the states in which the Company
presently has Management Services Agreements, prohibit business corporations
from practicing medicine or exercising control over the medical judgments or
decisions of physicians and from engaging in certain financial arrangements with
physicians. The Company intends that, pursuant to the Management Services
Agreements, it will not exercise any responsibility on behalf of affiliated
physicians that could be construed as affecting the practice of medicine.
Accordingly, the Company believes that its operations do not violate applicable
state laws relating to the corporate practice of medicine.
On December 23, 1997, the Board of Directors approved a five-for-seven
reverse stock split of the Company's common stock. All common share and per
share data presented herein give effect to such changes. Concurrent with the
consummation of the Company's initial public offering, the Company's certificate
of incorporation will be amended to increase the Company's authorized common
stock from 25,000,000 shares to 35,000,000 shares.
BASIS OF PRESENTATION
The Company does not consolidate the operating results and accounts of the
physician groups since it does not own or control the groups it manages. The
Company believes that the Management Services Agreements provide it with the
preponderance of the net profits of the medical services furnished by the
groups. Consequently, the Company presents physician groups' revenue less
amounts retained by the physician groups as management fee revenue in the
accompanying statements of operations ('display method').
F-8
<PAGE>
BMJ MEDICAL MANAGEMENT, INC.
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES--(CONTINUED)
On November 20, 1997, the Emerging Issues Task Force (EITF) of the
Financial Accounting Standards Board reached a consensus concerning certain
matters relating to the physician practice management industry with respect to
the requirements which must be met to consolidate a managed professional
corporation and the accounting for business combinations involving professional
corporations. In accordance with the EITF's guidance, the Company will
discontinue use of the 'display method' to report revenues from management
contracts in financial statements for periods ending after December 15, 1998.
Thus, after December 15, 1998, fees from management contracts will be reported
as a single line item in the Company's statement of operations.
PRACTICE REVENUES, NET
Practice revenues, net, represent the gross revenue earned from patients by
the physician groups and one ambulatory surgery center, net of contractual and
other adjustments and uncollectible amounts. Contractual adjustments typically
result from differences between the physician groups' established rates for
services and the amounts paid by government sponsored health care programs and
other insurers.
There are no material claims, disputes, or other unsettled matters that
exist to management's knowledge concerning third-party reimbursements. In
addition, management believes there are no retroactive adjustments that would be
material to the financial statements. The Company estimates that approximately
15% and 17% of practice revenues, net, were received under government sponsored
health care programs (principally, the Medicare and Medicaid programs) during
the year ended December 31, 1996 and the nine months ended September 30, 1997,
respectively. The physician groups have numerous agreements with managed care
and other organizations to provide physician services based on negotiated fee
schedules.
Laws and regulations governing the Medicare and Medicaid programs are
complex and subject to interpretation. The Company believes that it is in
compliance with all applicable laws and regulations and is not aware of any
pending or threatened investigations involving allegations of potential
wrongdoing. While no such regulatory inquiries have been made, compliance with
such laws and regulations can be subject to future government review and
interpretation as well as significant regulatory action including fines,
penalties, and exclusion from the Medicare and Medicaid programs.
MANAGEMENT FEE REVENUE
Management fee revenue represents practice and ambulatory surgery center
net revenue less amounts retained by the physician groups.
The Company's management fee revenue is comprised of three components: (i)
percentage of the physician groups' net collected revenue (generally ranging
from 10%-15%), plus (ii) 100% of the non-physician affiliated practice expenses
(generally ranging from 45%-55% of the physician groups' net collected revenue),
plus (iii) 66 2/3% of the cost savings the Company is able to achieve through
its purchasing power (generally related to medical malpractice insurance,
property and liability insurance, group benefits and certain major medical
supplies). The portion of the management fee revenue that represents a
percentage of net collected revenue is dependent upon the physician groups'
revenue which must be billed and collected.
F-9
<PAGE>
BMJ MEDICAL MANAGEMENT, INC.
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES--(CONTINUED)
Management fee revenue included in the accompanying statements of
operations is comprised of the following:
<TABLE>
<CAPTION>
NINE MONTHS
YEAR ENDED ENDED SEPTEMBER 30,
DECEMBER 31, ---------------------------
1996 1996 1997
------------ ------------ -----------
(UNAUDITED)
<S> <C> <C> <C>
Component based upon percentage of physician
groups' net collected revenues.................. $1,079,000 $338,000 $ 3,547,000
Reimbursement of non-physician affiliated practice
expenses........................................ 2,038,000 -- 16,900,000
------------ ------------ -----------
Management fee revenue............................ $3,117,000 $338,000 $20,447,000
------------ ------------ -----------
------------ ------------ -----------
</TABLE>
For the year ended December 31, 1996, three affiliated practices; Southern
California Orthopedic Institute Medical Group (SCOI), South Texas Spinal Clinic,
P.A. (STSC) and Lehigh Valley Bone, Muscle and Joint Group, LLC (LVBMJ)
comprised approximately 52%, 23%, and 25%, respectively, of management fee
revenue. For the nine months ended September 30, 1997, SCOI, STSC and Lauderdale
Orthopaedic Surgeons (LOS) comprised approximately 42%, 13%, and 11%,
respectively, of management fee revenue.
COSTS AND EXPENSES
Medical support services represent costs incurred by the Company relative
to the operations of the physician groups including non-physician personnel
salaries and benefits, medical supplies, malpractice insurance premiums,
building and equipment rental expense, general and administrative expenses,
supplies, maintenance and repairs, insurance, utilities and other indirect
expenses.
General and administrative expenses primarily represent the salaries of
corporate headquarters personnel, rent, travel, and other administrative
expenses.
CASH AND CASH EQUIVALENTS
Cash in excess of daily requirements invested in short-term investments
with maturities of three months or less is considered to be cash equivalents for
financial statement purposes. Deposits in banks may exceed the amount of
insurance provided on such deposits. The Company performs reviews of the credit
worthiness of its depository banks. The Company has not experienced any losses
on its deposits of cash.
ACCOUNTS RECEIVABLE
Accounts receivable principally represent receivables purchased from the
medical groups for medical services provided by the physician groups. Risk of
collection is borne by the physician groups and any amounts paid by the Company
for accounts receivable that are uncollected are reimbursed to the Company by
the physician groups.
FURNITURE, FIXTURES AND EQUIPMENT
Furniture, fixtures and equipment are stated at cost. Depreciation is
calculated using the straight-line method over the estimated useful lives of the
assets which range from three to seven years. Routine maintenance and repairs
are charged to expense as incurred and major renovations or improvements are
capitalized.
MANAGEMENT SERVICES AGREEMENTS
Management Services Agreements include consideration (cash, common stock or
other consideration) paid to the physician groups for entering into Management
Services Agreements, legal and accounting fees and other similar transaction
costs. The Management Services Agreements are for a term of 40 years and eight
agreements are subject to rescission by a physician group on the seventh
anniversary. Under the terms of the related
F-10
<PAGE>
BMJ MEDICAL MANAGEMENT, INC.
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES--(CONTINUED)
Restricted Stock Agreements, if a physician leaves the practice within four
years the common stock issued is returned to the applicable practice. Therefore,
the Company amortizes the costs of entering into Management Services Agreements
over four years. The Company intends to amend its Restricted Stock Agreements
during the first quarter of 1998 to eliminate the four-year vesting provisions.
As a result, the Company will adjust the amortization of the Management Services
Agreements to their estimated useful lives which range from 7 to 25 years. Had
these revisions and the related Affiliation Transactions and Management Service
Agreements been reflected as of January 1, 1996 and January 1, 1997 in the
accompanying financial statements as of January 1, 1996 and January 1, 1997,
amortization expense would have decreased by approximately $491,000 and
$3,280,000 for the year ended December 31, 1996 and the nine months ended
September 30, 1997, respectively. Shares issued to physician practices that are
subject to performance criteria are accounted for as compensation.
The Company periodically reviews its intangible assets to assess
recoverability and a charge will be recognized in the statement of operations if
a permanent impairment is determined to have occurred. Recoverability of
intangibles is determined based on undiscounted future operating cash flows from
the related business unit or activity. The amount of impairment, if any, would
be measured based on discounted future operating cash flows using a discount
rate reflecting the Company's average cost of funds. The assessment of the
recoverability of intangible assets will be affected if estimated future
operating cash flows are not achieved. The Company does not believe that any
impairment has occurred at December 31, 1996 or September 30, 1997.
DUE TO/FROM PHYSICIAN GROUPS
Due from physician groups consists of non-interest bearing short-term
advances due to the Company.
Due to physician groups represents cash consideration related to the
Management Services Agreements that is payable without interest at the earlier
of the consummation of an Initial Public Offering of the Company's common stock
or the one year anniversary of the execution of the Management Services
Agreements as well as amounts due to the physician groups related to the ongoing
monthly purchases of accounts receivable.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts in the financial statements and
accompanying notes. Actual results could differ from those estimates.
INTERIM FINANCIAL STATEMENTS
The interim financial statements as of September 30, 1996 and for the nine
month period then ended and the related disclosures are unaudited. In the
opinion of management, these statements have been prepared on the same basis as
the audited financial statements and include all normal and recurring
adjustments necessary for a fair presentation of the Company's financial
position, results of operations and cash flows. The results of operations for
the nine months ended September 30, 1997 are not necessarily indicative of the
results of operations that may be expected for the entire year ending December
31, 1997.
ACCOUNTING FOR STOCK BASED COMPENSATION
The Company grants stock options for a fixed number of shares to employees
primarily with an exercise price equal to the fair value of the shares on the
date of grant. The Company accounts for these stock option grants in accordance
with Accounting Principles Board (APB) Opinion No. 25, Accounting for Stock
Issued to Employees, and accordingly, generally recognizes no compensation
expense for stock options granted at fair value. The Company recognizes
compensation expense for stock options granted with an exercise price below the
fair value of the shares on the date of grant.
Under the Company's stock option plans, the Company may grant stock options
for a fixed number of shares to independent consultants and contractors
primarily with an exercise price equal to the fair value of the shares on the
date of grant. The Company accounts for these stock option grants using the fair
value method of
F-11
<PAGE>
BMJ MEDICAL MANAGEMENT, INC.
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES--(CONTINUED)
FASB Statement No. 123 Accounting for Stock-Based Compensation. The fair value
for these options is estimated at the date of grant using a stock option pricing
model and recognized as compensation cost.
NET LOSS PER SHARE
For the year ended December 31, 1996, and the nine months ended September
30, 1996 and 1997, pursuant to the Securities and Exchange Commission's Staff
Accounting Bulletins, common shares and common equivalent shares issued at
prices below the estimated public offering price during the 12 months
immediately preceding the date of the proposed initial filing of the
registration statement, using the treasury stock method, have been included in
the calculation of common shares and common share equivalents as if they were
outstanding for all periods presented even when the effect is antidilutive.
In February 1997, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standards (SFAS) No. 128, Earnings per Share.
SFAS No. 128, which applies to entities with publicly held common stock,
simplifies the standards for computing earnings per share previously required in
APB Opinion No. 15, Earnings per Share, and makes them comparable to
international earnings per share standards. SFAS No. 128 is effective for
financial statements issued for periods ending after December 15, 1997,
including interim periods; earlier adoption is not permitted. Management is
currently reviewing the provisions of SFAS No. 128, and does not believe that
adoption of this new accounting pronouncement will have a material impact on the
calculation and presentation of earnings per share due to the antidilutive
effect of the Company's common stock equivalents.
FINANCIAL INSTRUMENTS
The carrying amount of financial instruments including cash and cash
equivalents, accounts receivable, and accounts payable approximate fair value as
of December 31, 1996 and September 30, 1997. The carrying amounts of the
Company's borrowings approximate their fair value due to the recent issuance of
such borrowings which represents current market value.
2. PRACTICE AFFILIATIONS
Effective July 1, 1996, the Company entered into an affiliation transaction
with Lehigh Valley Bone, Muscle and Joint Group, L.L.C. a Pennsylvania limited
liability company (LVBMJ), under which the Company would receive as a management
fee 50% of the net collected revenues of LVBMJ and would be responsible for all
the clinic overhead expenses (medical support services). In connection with this
transaction, on July 1, 1996, the Company issued 321,429 shares of common stock
recorded at $1.26 per share. This agreement was amended on July 1, 1997. Under
the terms of the Amended and Restated Management Services Agreement between
LVBMJ and the Company, effective July 1, 1997 (the LVBMJ Management Services
Agreement), the Company paid $320,000 in cash, issued an additional 48,594
shares of common stock (effective July 1, 1997) recorded at $7.56 per share
representing total stock consideration of $772,367 in connection with this
transaction. Effective July 1, 1997, the Company and LVBMJ amended and restated
their agreement to adjust the management fee to 10% of net collected revenues
plus reimbursement of clinic overhead expenses. The aggregate consideration of
$1,106,916, including transaction costs of $14,549, has been allocated as
follows: furniture, fixtures and equipment--$50,000, and Management Services
Agreement--$1,056,916. The LVBMJ Management Services Agreement provides that the
Company may be required to issue more shares of common stock as additional
consideration during 1998. The total number of shares to be issued will depend
on actual collections of the practice during a specified twelve month period.
The value of any subsequently issued shares will increase the cost of the LVBMJ
Management Services Agreement.
On November 22, 1996, the Company entered into an Asset Purchase Agreement
in exchange for $5,930,897 in cash and a Management Services Agreement,
effective November 1, 1996, (SCOI Management Services Agreement) with Southern
California Orthopedic Institute Medical Group, California general partnership
(SCOI), in exchange for the issuance of 2,857,140 shares of common stock
recorded at $3.78 per
F-12
<PAGE>
BMJ MEDICAL MANAGEMENT, INC.
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
2. PRACTICE AFFILIATIONS--(CONTINUED)
share, representing consideration of $10,800,000. The SCOI Management Services
Agreement calls for management fees to be earned by the Company equal to 3 1/3%
of the net collected revenues until certain conditions are met at which time the
management fee will increase to 6 2/3% of net collected revenues until the
filing of a preliminary prospectus for the initial public offering of the
Company's common stock with the Securities and Exchange Commission at which time
the management fee will increase to 10% of the net collected revenues. For the
period from November 1, 1996 through September 30, 1997, the Company recognized
management fees for SCOI of 3 1/3% of net collected revenues. The number of
shares issued in connection with this transaction which exceed 2,142,857, are
subject to recalculation effective November 1, 1997 and payable at a future date
upon review of the calculation by the SCOI physicians. On April 1, 1997, the
Company entered into a Management Services Agreement with the Center for
Orthopedic Surgery, Inc., a California corporation (COSI), owned by SCOI
physicians, in exchange for 392,857 shares of common stock recorded at $3.78 per
share, representing consideration of $1,485,000. The number of shares issued in
connection with this transaction are also subject to recalculation at the later
of the SCOI recalculation or January 1, 1998. The aggregate consideration of
$18,336,999, including transaction costs of $121,102, has been allocated as
follows: net accounts receivable--$4,448,000, furniture, fixtures and
equipment--$1,441,920, supplies--$30,897, deposits--$10,080 and Management
Services Agreements--$12,406,102. In accordance with the recalculation
provisions, the Company expects to issue approximately 887,000 additional shares
of common stock to SCOI physicians for both the SCOI and COSI recalculations,
the exact amount of which will be determined in the fourth quarter of 1997.
These shares and 714,286 of the original 2,857,140 shares issued in November
1996 in connection with the SCOI transaction represent consideration based upon
performance and will be accounted for as non-cash compensation expense.
Accordingly, the Company will incur a charge to earnings in the fourth quarter
of 1997 ranging from $12,000,000 to $14,000,000 relating to the resolution of
this contingency and the final settlement of the recalculation provisions.
On December 23, 1996, the Company entered into an Asset Purchase Agreement
and a Management Services Agreement, effective November 1, 1996, (STSC
Management Services Agreement) with South Texas Spinal Clinic, P.A., a Texas
professional association (STSC), in exchange for the issuance of 768,929 shares
of common stock recorded at $3.78 per share, representing consideration of
$2,906,553 and cash of $3,065,990. The aggregate consideration of $6,014,009,
including transaction costs of $41,466 has been allocated as follows: net
accounts receivable--$1,703,826, furniture, fixtures and equipment--$425,000,
supplies--$21,328 and Management Services Agreement--$3,863,855. The STSC
Management Services Agreement permits STSC and individual physicians to rescind
the Affiliation Transaction on November 1, 2003. In the event of a rescission of
the transaction, the transaction will be unwound, with the assets (other than
the accounts receivable) acquired by the Company being returned to STSC, and the
purchase price paid therefore being returned to the Company. In addition, the
physician owners and the employed physicians, if any, who received common stock
of the Company in connection with the transaction will be required to return 50%
of such capital stock to the Company.
Effective April 1, 1997, the Company entered into an Asset Purchase
Agreement and a Management Services Agreement (Tri-City Management Services
Agreement) with Tri-City Orthopedic Surgery Medical Group, Inc., a California
corporation (Tri-City), and two of its affiliates in exchange for $948,200 in
cash, the issuance of 287,659 shares of common stock recorded at $3.78 per
share, representing consideration of $1,087,352. The aggregate consideration of
$2,088,861, including transaction costs of $53,309, has been allocated as
follows: net accounts receivable--$519,000, furniture, fixtures and
equipment--$167,590, Management Services Agreement--$1,402,271.
Effective April 1, 1997, the Company entered into an Asset Purchase
Agreement and a Management Services Agreement (LOS Management Services
Agreement) with Lauderdale Orthopaedic Surgeons, a Florida partnership, in
exchange for $2,698,359 in cash and the issuance of 329,259 shares of common
stock recorded at $3.78 per share, representing consideration of $1,244,598. The
aggregate consideration of $4,154,824, including
F-13
<PAGE>
BMJ MEDICAL MANAGEMENT, INC.
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
2. PRACTICE AFFILIATIONS--(CONTINUED)
transaction costs of $211,867, has been allocated as follows: accounts
receivable--$2,000,000, furniture, fixtures and equipment--$103,915 Management
Services Agreement--$2,050,909.
Effective June 1, 1997, the Company entered into an Asset Purchase
Agreement and a Management Services Agreement (GCO Management Services
Agreement) with Fishman and Stashak, M.D.'s, P.A. (GCO), a Florida professional
association, (d/b/a Gold Coast Orthopedics), Clive Segil, M.D. (Segil), a
California professional corporation, and H. Leon Brooks, M.D. (Brooks), a
California professional corporation, in exchange for an aggregate amount of
$3,769,172 in cash, the issuance of 281,789 shares of common stock recorded at
$6.93 per share, representing consideration of $1,952,796. The aggregate
consideration of $6,092,016, including transaction costs of $370,048, has been
allocated as follows: accounts receivable--$1,759,000, furniture, fixtures and
equipment--$194,150, supplies--$3,650 and Management Services
Agreement--$4,135,216. The GCO agreement provides that the Company may be
required to issue more shares of common stock as additional consideration during
1998. The total number of shares to be issued will depend on actual collections
of the practice during a specified twelve month period. The value of any
subsequently issued shares will be allocated to the Management Service
Agreements.
Effective July 1, 1997, the Company entered into three separate Asset
Purchase Agreements and Management Services Agreements with Swanson Orthopedic
Medical Corporation, a professional corporation, Randy C. Watson, M.D., a
professional corporation and Lake Tahoe Sports Medicine Center, a medical
corporation, all located in South Lake Tahoe, California, in exchange for an
aggregate amount of $986,000 in cash and the issuance of 107,648 shares of
common stock recorded at $7.56 per share, representing consideration of
$813,824. The aggregate consideration of $2,064,780, including transaction costs
of $264,956, has been allocated as follows: accounts receivable--$726,000,
furniture, fixtures and equipment--$67,200, supplies--$10,000, and Management
Services Agreement--$1,261,580.
Effective July 1, 1997, the Company entered into two separate Asset
Purchase Agreements and Management Services Agreements with Sun Valley
Orthopaedic Surgeons, an Arizona general partnership (Sun Valley) and Robert O.
Wilson, M.D., P.C., an Arizona professional corporation, both located in Sun
City, Arizona, in exchange for an aggregate amount of $616,125 in cash and the
issuance of 141,332 shares of common stock recorded at $7.56 per share,
representing consideration of $1,068,471. Sun Valley has the right to receive
additional consideration if the fair market value of the Company's common stock,
as determined on July 1, 1998, is less than $9.10. The additional consideration
would be determined by multiplying the per share dollar amount below $9.10 by
36,318 shares and would be payable in full in cash no later than July 31, 1998.
The aggregate consideration of $2,075,553, including transaction costs of
$121,478, has been allocated as follows: accounts receivable--$457,000,
furniture, fixtures and equipment--$67,500, supplies--$7,000, deposits--$4,564,
and Management Services Agreement--$1,539,489 (including the additional
consideration of $269,479).
Effective July 1, 1997, the Company entered into two separate Asset
Purchase Agreements and Management Services Agreements with Stockdale Podiatry
Group, Inc., a California professional corporation, and John C. Zimmerman,
D.P.M., both located in Bakersfield, California, in exchange for an aggregate
amount of $1,032,842 in cash, a contractual obligation to pay John C. Zimmerman,
M.D. $78,858 in cash at a future specified date and the issuance of 121,066
shares of common stock recorded at $7.56 per share, representing consideration
of $915,263. The aggregate consideration of $2,111,337, including transaction
costs of $84,374, has been allocated as follows: accounts receivable--$637,200,
furniture, fixtures and equipment--$85,207, supplies--$10,000, and Management
Services Agreement--$1,378,930.
Effective July 1, 1997, the Company entered into an Asset Purchase
Agreement and a Management Services Agreement (Kramer Management Services
Agreement) with Kramer & Maehrer, L.L.C., a Pennsylvania limited liability
company, in exchange for $45,981 in cash and the issuance of 51,857 shares of
common stock recorded at $7.56 per share, representing consideration of
$392,040. The aggregate consideration of $441,047, including transaction costs
of $3,026, has been allocated as follows: furniture, fixtures and
equipment--$45,981, Management Services Agreement--$395,066.
F-14
<PAGE>
BMJ MEDICAL MANAGEMENT, INC.
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
2. PRACTICE AFFILIATIONS--(CONTINUED)
Effective July 1, 1997, the Company entered into an Asset Purchase
Agreement and a Management Services Agreement (SAB Management Services
Agreement) with San Antonio Bone and Joint Clinic, P.A., a Texas professional
association, in exchange for an aggregate amount of $288,978 in cash and the
issuance of 27,306 shares of common stock recorded at $7.56 per share,
representing consideration of $206,437. The aggregate consideration of $557,236,
including transaction costs of $61,821, has been allocated as follows: accounts
receivable--$92,289, furniture, fixtures and equipment--$175,801,
supplies--$649, and Management Services Agreement--$288,497.
Effective August 1, 1997, the Company entered into an Asset Purchase
Agreement and a Management Services Agreement (PM & R Management Services
Agreement) with Physical Medicine and Rehabilitation Associates, Inc., a Florida
corporation, in exchange for $830,166 in cash and the issuance of 90,659 shares
of common stock recorded at $7.56 per share, representing consideration of
$685,384. The aggregate consideration of $1,651,063, including transaction costs
of $135,513, has been allocated as follows: accounts receivable--$465,000,
furniture, fixtures and equipment--$165,000, deposits--$5,166, and Management
Services Agreement--$1,015,897.
Effective August 1, 1997, the Company entered into separate Asset Purchase
Agreements with Broward Orthopaedic Specialists, Inc., a Florida corporation
(Broward), Terence Matthews, M.D. P.A., Wylie Scott, M.D. P.A. and Mitchell S.
Seavey, M.D. and a Management Services Agreement with Broward (Broward
Management Services Agreement), in exchange for $3,938,996 in cash, a promissory
note issued to Dr. Seavey for $283,502 and the issuance of 446,977 shares of
common stock recorded at $7.56 per share, representing consideration of
$3,379,147. The aggregate consideration of $8,015,174, including transaction
costs of $413,529, has been allocated as follows: accounts
receivable--$1,685,000, furniture, fixtures and equipment--$420,000 and
Management Services Agreement--$5,910,174.
Effective August 1, 1997, the Company entered into an Asset Purchase
Agreement and a Management Services Agreement (Abrahams Management Services
Agreement) with Michael A. Abrahams, M.D. P.A., a Florida professional
association, in exchange for $620,004 in cash and the issuance of 68,131 shares
of common stock recorded at $7.56 per share, representing consideration of
$515,074. The aggregate consideration of $1,181,694, including transaction costs
of $46,616, has been allocated as follows: accounts receivable--$285,000,
furniture, fixtures and equipment--$47,500, and Management Services
Agreement--$849,194.
Effective September 1, 1997, the Company entered into an Asset Purchase
Agreement and a Management Services Agreement (Beitler Management Services
Agreement) with Jeffrey Beitler, M.D. P.A., a Florida professional corporation,
in exchange for $275,000 in cash and the issuance of 26,066 shares of common
stock recorded at $8.40 per share, representing consideration of $218,952. The
aggregate consideration of $513,952, including transaction costs of $20,000, has
been allocated as follows: accounts receivable--$200,000, furniture, fixtures
and equipment--$35,000, and Management Services Agreement--$278,952.
In October 1997, the Company entered into an Asset Purchase Agreement and a
Management Services Agreement (OSA Management Services Agreement) with
Orthopaedic Surgery Associates, P.A., a Florida professional corporation (OSA)
in exchange for $4,396,250 in cash, issuance of a promissory note for
$2,377,701, bearing interest at 8.5%, and the issuance of 221,819 shares of
common stock recorded at $8.40 per share, representing consideration of
$1,863,276. The aggregate consideration of $9,059,944, including transaction
costs of $422,717, has been allocated as follows: accounts
receivable--$2,000,000, furniture, fixtures and equipment--$500,000, and
Management Services Agreement--$6,559,944.
In October 1997, the Company entered into an Asset Purchase Agreement and a
Management Services Agreement (LOM Management Services Agreement) with
Lighthouse Orthopaedic Management Group, Inc (LOM), a Florida corporation, in
exchange for the issuance of promissory notes for $3,899,930, bearing interest
at 8.5% and the issuance of 194,220 shares of common stock recorded at $8.40 per
share, representing
F-15
<PAGE>
BMJ MEDICAL MANAGEMENT, INC.
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
2. PRACTICE AFFILIATIONS--(CONTINUED)
consideration of $1,631,448. The aggregate consideration of $5,808,421,
including transaction costs of $277,043, has been allocated as follows: accounts
receivable--$1,300,000 furniture, fixtures, and equipment--$250,000, and
Management Services Agreement--$4,258,421.
In October 1997, the Company entered into an Asset Purchase Agreement and a
Management Services Agreement (BIOS Management Services Agreement) with Broward
Institute of Orthopaedic Specialties, P.A., a Florida professional association
(BIOS), in exchange for $119,311 in cash, the issuance of promissory notes for
$3,396,252, bearing interest at 8%, and the issuance of 182,312 shares of common
stock recorded at $8.40 per share, representing consideration of $1,531,422. The
aggregate consideration of $5,076,985, including transaction costs of $30,000,
has been allocated as follows: advances--$800,000, furniture, fixtures, and
equipment--$281,197, supplies--$61,189, deposits--$37,966 and Managements
Services Agreement--$3,896,633.
In October 1997, the Company entered into a Management Services Agreement
(Valley Management Services Agreement) with Valley Sports & Arthritis Surgeons,
P.C., a Pennsylvania professional corporation (Valley), in exchange for a
promissory note of $897,727, bearing interest at 8.5% and the issuance of
359,464 shares of common stock recorded at $8.40 per share, representing
consideration of $3,019,501. The aggregate consideration of $3,917,228 has been
allocated as follows: accounts receivable--$630,000, furniture, fixtures, and
equipment--$120,833, supplies--$35,000, and Managements Services
Agreement--$3,131,395.
In October 1997, the Company acquired Orthopaedic Management Network, Inc.,
an Arizona corporation, in exchange for $63,000 in cash, the assumption of
$809,332 in accounts payable and accrued liabilities and the issuance of 40,740
shares of common stock recorded at $8.40 per share, representing consideration
of $342,216. The aggregate purchase price of $1,214,548 has been allocated to
certain assets and liabilities including a Management Services
Agreement--$638,183.
Effective November 1, 1997, the Company entered into a Management Services
Agreement with New Jersey Orthopedic Associates, P.A., a New Jersey professional
association. Additionally, the Company entered into an Asset Purchase Agreement
with Orthopedic Associates of New Jersey, a New Jersey professional association.
The aggregate consideration consisted of $1,029,194 in cash, issuance of a
promissory note for $411,680, bearing interest at 8.0%, and the issuance of
67,859 shares of common stock recorded at $8.40 per share, representing
consideration of $570,012. The aggregate consideration of $2,010,886 has been
allocated as follows: furniture, fixtures and equipment--$75,000, and Management
Services Agreement--$1,935,886.
The Management Services Agreements are subject to termination in the event
of (i) bankruptcy of the Company or the medical practice; (ii) default in any
material respect in the performance of either parties' obligations under the
Management Services Agreement; (iii) representations and warranties made by
either party are untrue or misleading in any material respect; (iv) the medical
practice is excluded from the Medicare or Medicaid programs; or (v) either party
determines that the structure of the Management Services Agreement violates any
state or federal laws or regulations existing at such time and that an amendment
to the Management Services Agreement will be unable to correct such defect. Upon
termination of the Management Services Agreement, the transaction will be
unwound with the assets (other than accounts receivable) acquired by the Company
being returned to the physician group and the purchase price paid, therefore,
being returned to the Company.
F-16
<PAGE>
BMJ MEDICAL MANAGEMENT, INC.
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
2. PRACTICE AFFILIATIONS--(CONTINUED)
The cost to enter into the Management Services Agreements and acquire the
assets, including transaction costs, was as follows:
<TABLE>
<CAPTION>
DECEMBER 31, SEPTEMBER 30,
1996 1997
------------ -------------
<S> <C> <C>
Cost of acquiring the Management Services Agreements........... $ 16,110,000 $ 37,201,000
Accounts receivable............................................ 6,152,000 14,977,000
Furniture, fixtures and equipment.............................. 1,867,000 3,492,000
Other.......................................................... 62,000 103,000
------------ -------------
Total................................................... $ 24,191,000 $ 55,773,000
------------ -------------
------------ -------------
</TABLE>
3. FURNITURE, FIXTURES AND EQUIPMENT
Furniture, fixtures and equipment consist of the following:
<TABLE>
<CAPTION>
DECEMBER 31, SEPTEMBER 30,
1996 1997
------------ -------------
<S> <C> <C>
Office, computer, and telephone equipment....................... $ 999,000 $ 2,105,000
Medical equipment............................................... 659,000 1,265,000
Furniture and fixtures.......................................... 558,000 806,000
Construction-in-progress, ambulatory surgery centers............ -- 189,000
Less: accumulated depreciation.................................. 74,000 488,000
------------ -------------
Furniture, fixtures and equipment, net.......................... $2,142,000 $ 3,877,000
------------ -------------
------------ -------------
</TABLE>
4. AMOUNTS DUE TO PHYSICIAN GROUPS
Amounts due to physician groups at December 31, 1996 and September 30, 1997
consists of the following:
<TABLE>
<CAPTION>
DECEMBER 31, SEPTEMBER 30,
1996 1997
------------- -------------
<S> <C> <C>
Amounts due for patient receivables, net........................ $ 1,064,000 $ 1,241,000
Amounts due as consideration for management services agreements,
excluding promissory notes, due upon closing of initial public
offering...................................................... 3,872,000 2,749,000
------------- -------------
$ 4,936,000 $ 3,990,000
------------- -------------
------------- -------------
</TABLE>
5. PROFESSIONAL LIABILITY
The Company and its affiliated physician practices are insured with respect
to medical malpractice risks on either an occurrence-rate or a claims-made
basis. Management is not aware of any claims against it or its affiliated
physician practices which might have a material impact on the Company's
financial position or results of operations.
6. LEASES
The Company is obligated under operating and capital lease agreements for
offices and certain equipment which have terms ranging from three to ten years
and are considered reimbursable to the Company under the terms of the
Agreements. In some circumstances, these lease arrangements are with entities
owned or controlled
F-17
<PAGE>
BMJ MEDICAL MANAGEMENT, INC.
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
6. LEASES--(CONTINUED)
by physician stockholders. Future minimum payments under noncancelable capital
and operating leases with lease terms in excess of one year at September 30,
1997, are summarized as follows:
<TABLE>
<CAPTION>
CAPITAL
OPERATING EQUIPMENT
LEASES LEASES
---------- ---------
<S> <C> <C>
1998................................................................ $1,485,000 $20,750
1999................................................................ 1,305,000 20,750
2000................................................................ 1,077,000 20,750
2001................................................................ 947,000 20,750
2002................................................................ 568,000 1,700
Thereafter.......................................................... 3,477,000 --
---------- ---------
Total minimum lease obligations..................................... $8,859,000 84,700
----------
----------
Less amount representing interest................................... 19,000
---------
Present value of minimum lease obligations.......................... $65,700
---------
---------
</TABLE>
Rent expense for the year ended December 31, 1996 and the nine months ended
September 30, 1996 and 1997 under all operating leases was approximately
$602,000, $90,000 and $1,333,000, respectively.
The Company has assumed leases between the affiliated medical practices and
entities controlled by equity owners in the related practices. Amounts charged
to expense for these leases were $193,000 for the year ended December 31, 1996,
$73,000 and $894,000 for the nine months ended September 30, 1996 and 1997,
respectively. The commitments under these leases are included above.
On August 1, 1997, in connection with a $5,000,000 loan (see Note 10) the
Company entered into an agreement (the Master Lease Agreement) with the lender
pursuant to which the lender agreed to purchase and lease certain equipment to
the Company on the terms and conditions contained in the Master Lease Agreement.
No transactions have occurred with respect to the Master Lease Agreement. In
connection with the Master Lease Agreement, the Company issued to the lender a
warrant to purchase up to 5,000 shares of the Company's Series E Preferred Stock
at a price per share equal to $6.00. This warrant is exercisable for a period of
7 years or 3 years from the effective date of the Company's initial public
offering, whichever is longer. The fair value per share for this warrant based
on the Black-Scholes valuation method is $4.29 using the assumptions described
in Note 7 and the actual life of the warrant. In November 1997, the Master Lease
Agreement was increased and an additional 10,000 warrants were issued for the
purchase of Series E Preferred Stock at a price per share equal to $6.00.
7. STOCK OPTION PLAN
On May 6, 1996, and subsequently amended on May 30, 1997, the Company's
Board of Directors approved the 1996 Stock Option Plan (the Option Plan), which
provides for the granting of options to purchase up to 1,250,000 shares of the
Company's common stock. Both incentive stock options and nonqualified stock
options may be issued under the provisions of the Option Plan. Employees of the
Company and any future subsidiaries, members of the Board of Directors,
independent consultants and contractors and the physicians employed by the
medical groups with which the Company is affiliated through the Agreements are
eligible to participate in the Option Plan, which will terminate no later than
May 6, 2006. The granting and vesting of options under the Option Plan are
authorized by the Company's Board of Directors or a committee of the Board of
Directors. Under the terms of the Option Plan, incentive stock options vest pro
rata over four years, except for options covering 10,715 shares which vest at
the completion of an initial public offering of the Company's common stock and
have an exercise price of $0.49 per share, and expire ten years from the date of
grant. None of the incentive stock options were exercisable as of December 31,
1996.
F-18
<PAGE>
BMJ MEDICAL MANAGEMENT, INC.
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
7. STOCK OPTION PLAN--(CONTINUED)
During 1997, the Company granted stock options to employees at exercise
prices ranging from $0.01 to $2.80 per share. In accordance with the provisions
of the option plan, the options vest over a four year period. During August
1997, the Company modified the vesting terms of the options relating to 328,571
shares of common stock such that these options vested immediately. Total
compensation expense related to the granting of options for the nine months
ended September 30, 1997, based on a fair value ranging from $3.78 to $8.40 per
share, amounted to $2,165,000 of which approximately $1,900,000 resulted from
the acceleration of the vesting provisions.
Pro forma information regarding net income and earnings per share has been
determined as if the Company had accounted for its employee stock options under
the fair value method of FASB Statement No. 123, Accounting for Stock-Based
Compensation. The fair value for these options was estimated at the date of
grant using a Black-Scholes option pricing model with the following
weighted-average assumptions for 1996 and the nine months ended September 30,
1997: risk-free interest rate of 6%; dividend yield of 0%; volatility factor of
the expected market price of the Company's common stock of .68; and a
weighted-average expected option life of four years.
The Black-Scholes option valuation model was developed for use in
estimating the fair value of traded options which have no vesting restrictions
and are fully transferable. In addition, option valuation models require the
input of highly subjective assumptions including the expected stock price
volatility. Because the Company's employee stock options have characteristics
significantly different from those of traded options, and because changes in the
subjective input assumptions can materially affect the fair value estimate, in
management's opinion, the existing models do not necessarily provide a reliable
single measure of the fair value of its employee stock options.
Information regarding these option plans is as follows:
<TABLE>
<CAPTION>
WEIGHTED
NUMBER AVERAGE
OF EXERCISE
SHARES PRICE
--------- --------
<S> <C> <C>
Options outstanding at inception...................................... -- $ --
Granted............................................................. 110,715 0.27
Exercised........................................................... -- --
Canceled............................................................ -- --
---------
Options outstanding at December 31, 1996.............................. 110,715 0.27
Granted............................................................. 841,430 0.59
Exercised........................................................... (7,143) 0.01
Canceled............................................................ (64,285) 0.39
---------
Options outstanding at September 30, 1997............................. 880,713 $ 0.55
--------- --------
--------- --------
Exercisable at December 31, 1996...................................... --
---------
---------
Exercisable at September 30, 1997..................................... 334,820
---------
---------
Reserved for future option grants at September 30, 1997............... 297,855
---------
---------
Weighted average fair value of options granted during 1996............ $ 2.20
--------
--------
Weighted average fair value of options granted during 1997............ $ 4.62
--------
--------
</TABLE>
F-19
<PAGE>
BMJ MEDICAL MANAGEMENT, INC.
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
7. STOCK OPTION PLAN--(CONTINUED)
The following table sets forth information about stock options outstanding
at September 30, 1997:
<TABLE>
<CAPTION>
WEIGHTED
AVERAGE WEIGHTED
NUMBER OUTSTANDING REMAINING AVERAGE NUMBER EXERCISABLE
RANGE OF EXERCISE AS OF SEPTEMBER CONTRACTUAL EXERCISE AS OF SEPTEMBER
PRICES 30, 1997 LIFE PRICE 30, 1997
- ------------------ ------------------ ----------- ----------- ------------------
<S> <C> <C> <C> <C>
$0.01 ....... 110,715 9.0 $0.01 108,035
$0.35-$0.84....... 759,285 9.6 $0.62 226,785
$2.80 ....... 10,715 9.9 $2.80 --
------------------ --- ----------- ----------
$0.01-$2.80 880,715 9.5 $0.55 334,820
------------------ ----------
------------------ ----------
</TABLE>
The pro forma effects of adopting SFAS No. 123's fair value based method
for the nine months ended September 30, 1996 and the year ended December 31,
1996 were not materially different from the corresponding APB Opinion No. 25
intrinsic value methodology because the options granted in 1996 were primarily
issued near year end and the fair value of the Company's stock, was $3.78 as of
December 31, 1996. Accordingly, pro forma stock-based compensation in 1996 is
substantially less than would result from a full year's compensation expense
amortization and a higher valuation of the common stock. The effects of applying
SFAS No. 123 during 1996 and the nine month period ended September 30, 1997 are
not likely to be representative of the effects on pro forma net income for
future years because the vesting of options will cause additional incremental
expense to be recognized in future periods. Effects of applying SFAS No. 123
during the year ended December 31, 1996 is not materially different from the APB
No. 25 methodology. The Company's pro forma information for the nine months
ended September 30, 1997 follows:
<TABLE>
<S> <C>
Pro forma net loss.......................................... $9,278,000
----------
----------
Pro forma net loss per share................................ $ 1.04
----------
----------
</TABLE>
Additionally, the FASB has added to its agenda a project regarding certain
APB No. 25 issues, including such things as incorporating the SFAS No. 123 grant
date definition into APB No. 25, readdressing the criteria under broad-based
plans qualifying for noncompensatory accounting and defining what constitutes
employees. The resolution of these issues could result in modification in the
Company's accounting for stock-based compensation arrangements.
Shares of common stock reserved for future issuance at September 30, 1997
is as follows:
<TABLE>
<S> <C>
Options..................................................... 1,178,572
Convertible preferred stock................................. 2,989,100
Warrants.................................................... 181,545
Convertible debentures...................................... 396,825
----------
4,746,042
----------
----------
</TABLE>
F-20
<PAGE>
BMJ MEDICAL MANAGEMENT, INC.
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
8. STOCKHOLDERS' EQUITY
Stockholders' equity consists of the following:
<TABLE>
<CAPTION>
DECEMBER SEPTEMBER
31, 30,
1996 1997
----------- ------------
<S> <C> <C>
Convertible preferred stock--Series A, $0.01 par value--999,999 shares
authorized, issued and outstanding..................................... $ 10,000 $ 10,000
Convertible preferred stock--Series B, $0.01 par value--2,000,001 shares
authorized, issued and outstanding..................................... 20,000 20,000
Convertible preferred stock--Series C, $0.01 par value--254,999 shares
authorized, issued and outstanding..................................... -- 3,000
Convertible preferred stock--Series D, $0.01 par value--189,000 shares
authorized, 188,072 shares issued and outstanding...................... -- 2,000
Convertible preferred stock--Series E, $0.01 par value--1,300,025 shares
authorized, 741,669 shares issued and outstanding...................... -- 7,000
Convertible preferred stock--Series A-1, B-1, D-1 and E-1, $0.01 par
value--4,489,025 shares authorized; none issued and outstanding........ -- --
Common stock, $0.001 par value--15,000,000 shares authorized; 4,786,782
shares issued and outstanding at December 31, 1996, 25,000,000 shares
authorized; 7,177,481 shares issued and oustanding at September 30,
1997................................................................... 5,000 7,000
Additional paid-in capital............................................... 21,088,000 45,953,000
Deferred compensation.................................................... -- (1,706,000)
Accumulated deficit...................................................... (1,742,000) (10,602,000)
----------- ------------
$19,381,000 $ 33,694,000
----------- ------------
----------- ------------
</TABLE>
On May 6, 1996, the Company issued 839,285 shares of $.001 par value common
stock for cash consideration of $0.014 per share, which resulted in proceeds to
the Company of approximately $12,000.
On May 6, 1996, the Company issued 999,999 shares of Series A convertible
preferred stock with a par value of $0.01 for $1.00 per share, which resulted in
proceeds to the Company of $999,999. On November 12, 1996, the Company issued
2,000,001 shares of Series B convertible preferred stock with a par value of
$0.01 for $3.00 per share, which resulted in proceeds to the Company of
$6,000,003.
On January 29, 1997 and March 12, 1997, the Company raised approximately
$765,000 in connection with the issuance of an aggregate of 254,999 shares of
Series C convertible preferred stock, with a par value of $0.01 per share.
On June 19, 1997, the Company issued 188,072 shares of Series D convertible
preferred stock with a par value of $0.01 for $5.50 per share as repayment of a
$1,000,000 loan plus accrued interest that had been made to the Company by
certain stockholders on January 14, 1997. In connection with the original loan,
the stockholders received warrants to purchase 23,810 shares of the Company's
common stock at a price of $4.20 per share, exercisable through January 14,
2002, resulting in deferred financing costs of approximately $2,400 based on the
Black-Scholes valuation method. The unamortized portion of this amount was
charged to interest expense when the loan was converted.
On June 19, July 31 and August 18, 1997, the Company issued an aggregate of
741,669 shares of Series E convertible preferred stock with a par value of $0.01
for $6.00 per share in exchange for $4,450,000.
All classes of convertible preferred stock have the right to share in any
dividends declared and paid or set aside for the common stock of the Company,
pro rata, in accordance with the number of shares of common stock into which
such shares of preferred stock are then convertible; liquidation preference of
the original issuance price per share; and voting rights equal to the number of
shares of common stock into which the preferred stock is then convertible. All
classes of preferred shares are convertible into common shares at a ratio of 7:5
and are
F-21
<PAGE>
BMJ MEDICAL MANAGEMENT, INC.
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
8. STOCKHOLDERS' EQUITY--(CONTINUED)
automatically convertible upon the occurrence of a fully underwritten public
offering of shares of the Company's common stock. Upon such automatic
conversion, the holders of the convertible preferred stock are not entitled to
payment of any accrued but unpaid dividends. As more fully described in Note 10,
certain of the Company's debt agreements prohibit the Company from declaring or
paying dividends.
The Company is a party to a stockholders agreement dated as of November 22,
1996 (the Stockholders Agreement), with its President, certain stockholders and
the SCOI physicians. Under the Stockholders Agreement, the stockholders agreed
to vote their shares to appoint to the Company's board of directors certain
designees of such stockholders. The stockholders (other than the SCOI
physicians) also have the right of first refusal with respect to issuances of
the Company's capital stock or securities convertible into capital stock and are
subject to various restrictions on transfers of the Company's securities. Under
the terms of the Stockholders Agreement, 500,000 shares of the common stock that
the Company's President acquired for cash on May 6, 1996, are subject to vesting
over a 40-month period subject to acceleration in certain circumstances. In the
event of the termination of the President's employment with the Company for any
reason, the Company has the right to repurchase from the President all of the
shares of unvested stock at a purchase price equal to $0.01 per share. The
Stockholders Agreement terminates at the completion of an initial public
offering of the Company's common stock.
9. INCOME TAXES
The Company accounts for income taxes under FASB Statement No. 109,
Accounting for Income Taxes. Deferred income tax assets and liabilities are
determined based upon differences between the financial reporting and tax bases
of assets and liabilities and are measured using the enacted tax rates and laws
that will be in effect when the differences are expected to reverse.
Deferred income taxes reflect the net tax effects of temporary differences
between the carrying amount of assets and liabilities for financial reporting
purposes and the amounts used for income tax purposes. Significant components of
the Company's net deferred tax assets are as follows:
<TABLE>
<CAPTION>
DECEMBER 31, SEPTEMBER 30,
1996 1997
------------ -------------------
<S> <C> <C>
Deferred tax assets:
Net operating loss carryforwards........................ $ 319,000 $ 1,899,000
Accrued compensation.................................... 174,000 876,000
Amortization of intangible assets....................... 188,000 1,347,000
Deferred revenue........................................ -- 120,000
Other................................................... -- 30,000
------------ -------------------
Deferred tax assets....................................... 681,000 4,272,000
Less valuation allowance.................................. 670,000 4,079,000
------------ -------------------
Total deferred tax assets................................. 11,000 193,000
Deferred tax liabilities:
Tax over book depreciation.............................. (11,000) (193,000)
------------ -------------------
Total deferred tax liabilities............................ (11,000) (193,000)
------------ -------------------
Net deferred taxes........................................ $ -- $ --
------------ -------------------
------------ -------------------
</TABLE>
SFAS No. 109 requires a valuation allowance to reduce the deferred tax
assets reported if, based on the weight of the evidence, it is more likely than
not that some portion or all of the deferred tax assets will not be realized.
After consideration of all the evidence, both positive and negative, management
has determined that a $670,000 and $4,079,000 valuation allowance at December
31, 1996 and September 30, 1997, respectively, is necessary to reduce the
deferred tax assets to the amount that will more than likely not be realized.
The change in
F-22
<PAGE>
BMJ MEDICAL MANAGEMENT, INC.
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
9. INCOME TAXES--(CONTINUED)
the valuation allowance for the current period is $3,409,000. On November 11,
1996, the Company had an ownership change as defined by Internal Revenue code
section 382 which caused the utilization of the net operating loss and tax
credits, at that time, to be limited to approximately $415,000 per year relating
to approximately $690,000 of the net operating losses at December 31, 1996. At
December 31, 1996 and September 30, 1997, the Company has available net
operating loss carryforwards of $826,000 and $4,917,000, which expire in the
years 2011 and 2012, respectively.
The reconciliation of income tax computed at the U.S. federal statutory
rate to income tax expense is as follows:
<TABLE>
<CAPTION>
NINE MONTHS ENDED
YEAR ENDED SEPTEMBER 30,
DECEMBER 31, --------------------------
1996 1996 1997
----------------- ----------- -----------
(UNAUDITED)
<S> <C> <C> <C>
Tax at U.S. statutory rate.......................................... (34.00%) (34.00%) (34.00%)
State taxes, net of federal benefit................................. (4.60%) (2.82%) (4.54%)
Non-deductible items................................................ 0.16% 0.25% 0.06%
Change in valuation allowance....................................... 38.44% 38.92% 38.48%
Other............................................................... -- (2.35%) --
------- ----------- -----------
0.00% 0.00% 0.00%
------- ----------- -----------
------- ----------- -----------
</TABLE>
10. BORROWINGS
Borrowings consist of the following:
<TABLE>
<CAPTION>
SEPTEMBER
DECEMBER 31, 30,
1996 1997
------------ ------------
<S> <C> <C>
Borrowing under senior revolving lines of credit................ $ -- $ 4,589,000
Senior secured term note, payable in monthly installments of
$90,000 through December 2000, plus interest at prime plus
3.5% (12% at September 30, 1997).............................. -- 3,250,000
Subordinated debt, payable in monthly installments of $229,000
through December 2000, including interest at 14% until January
1, 1998, increasing to 15% thereafter......................... -- 6,500,000
Subordinated convertible debentures, due August 31, 2000, plus
interest, payable semiannually at 6%.......................... -- 4,000,000
Promissory notes to physician due January 31, 1999, plus
interest at 9%................................................ -- 283,000
Shareholder notes payable....................................... 40,000 894,000
Obligation under capital lease.................................. 77,000 66,000
------------ ------------
117,000 19,582,000
Less current portion............................................ 58,000 3,102,000
------------ ------------
$ 59,000 $ 16,480,000
------------ ------------
------------ ------------
</TABLE>
In January 1997, the Company obtained short-term loans in the aggregate
amount of $999,999 from certain stockholders, including its President. In
connection with such loans, the Company issued warrants to such stockholders to
purchase an aggregate of 23,810 shares of Common Stock at an exercise price of
$4.20 per share, and are immediately exercisable for a period of five years. The
fair value of the warrants based on the Black-Scholes valuation method is $2.30
per share using the assumptions described in Note 7 and the actual life of the
warrant. In June 1997, such loans and related accrued interest were converted
into 188,072 shares of Series D Preferred Stock. Also, in January 1997, the
Company issued two promissory notes to the Company's
F-23
<PAGE>
BMJ MEDICAL MANAGEMENT, INC.
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
10. BORROWINGS--(CONTINUED)
President totaling $867,000. The notes bear interest at a rate of 14% and are
due on December 31, 1997. At September 30, 1997, the balance outstanding was
$894,000, plus accrued interest of $92,000.
From March 1997 to September 30, 1997, the Company entered into a series of
credit agreements with its senior lender secured by the accounts receivable
acquired from each of the affiliated physician groups. The Company may borrow up
to an aggregate limit of $14,000,000, subject to a borrowing base of 85% of
eligible accounts receivable. Outstanding loans bear interest at the prime rate
plus 1.75% (10 1/4% at September 30, 1997) and mature at various dates ranging
from March 1999 to July 1999. The credit agreements require the Company to
maintain a prescribed level of tangible net worth and place limitations on
indebtedness, liens and investments, and prohibit the payment of dividends. At
September 30, 1997, $4,589,000 was outstanding under these agreements, the
maximum allowable under the borrowing base restriction. In October 1997, the
Company entered into additional credit agreements with its senior lender to
increase its aggregate borrowing limit to $17,000,000, subject to the same
terms. The $3,000,000 increase in the credit agreement matures in October 1999.
On June 30, 1997, the Company obtained a senior credit facility to fund
practice affiliations with its senior lender secured by a lien on substantially
all of the assets of the Company. The Company may borrow up to $3,250,000 for
practice affiliations, of which $3,250,000 is outstanding as of September 30,
1997. The loan bears interest at the prime rate plus 3.5% (12% at September 30,
1997). Interest only is payable through December 31, 1997, at which time the
loan converts to a term loan repayable in 36 monthly installments. In addition,
in September 1997 the Company issued the senior lender warrants to purchase
28,570 shares of the Company's common stock for nominal cash consideration. The
warrants contain put rights which give the holders the right to receive payment,
based on a minimum put price of $14 per share, for the value of these stock
warrants at the earlier of the effective date of the Company's initial public
offering or January 15, 1998. The warrants are exercisable for 10 years. Under
this facility, $1,500,000 of the Company's obligations are guaranteed by the
Company's President and other stockholders, and in connection therewith the
Company issued warrants to purchase an aggregate of 9,525 shares of common stock
for nominal cash consideration which are exercisable for a period of five years.
The fair value per warrant based on the Black-Scholes valuation method is $8.39
per share using the assumptions described in Note 7 and the actual life of the
warrant.
On August 1, 1997 and August 22, 1997, the Company entered into
subordinated loan agreements, with two different lenders, in the principal
amounts of $5,000,000 (the $5 million loan) and $1,500,000 (the $1.5 million
loan). The loans are secured by liens on all of the Company's tangible and
intangible personal property. The loans mature on December 31, 2000, however,
within 45 days subsequent to the effective date of an initial public offering of
the Company's common stock, the Company is obligated to prepay the loans in
full. These loans and the liens granted to the respective lenders are
subordinated in all respects to the current and future indebtedness of the
Company under the senior credit facility described above. The loans initially
bear interest at 14% per annum, provided, however, that if an initial public
offering of the Company's capital stock is not consummated on or prior to
December 31, 1997, the loans will, commencing January 1, 1998, bear interest at
15% per annum.
In connection with the $5 million and $1.5 million loans the Company issued
warrants to purchase up to 125,000 and 37,500 shares, respectively, of the
Company's Series E Preferred Stock at a price per share equal to $6.00;
provided, however, if an initial public offering of the Company's stock is not
consummated on or prior to December 31, 1997, the number of shares of Series E
Preferred Stock issuable upon exercise of the warrants increases to 133,333 and
40,000, respectively. These warrants are immediately exercisable for a period of
10 years or 5 years, respectively from the effective date of the Company's
initial public offering whichever is earlier. The fair value per warrant based
on the Black-Scholes valuation method is $3.77 per share using the assumptions
described in Note 7 and the actual life of the warrant. In addition, pursuant to
stock purchase agreements dated as of July 31, 1997 and August 18, 1997, the
Company issued 166,667 and 41,667 shares, respectively, of Series E Preferred
Stock to the lenders for an aggregate purchase price of $1,250,000.
The $1.5 million loan is convertible into shares of preferred stock of the
Company at the option of the lender after the Company completes a sale and
issuance of any shares of its preferred stock in connection with an equity
F-24
<PAGE>
BMJ MEDICAL MANAGEMENT, INC.
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
10. BORROWINGS--(CONTINUED)
financing at any time after the earlier to occur of (i) a payment default under
the loan agreement or (ii) the failure of the Company to consummate an initial
public offering of its capital stock prior to December 31, 1997. The conversion
price will be equal to the purchase price per share paid by the purchasers in
such equity financings.
On September 9, 1997, the Company issued and sold $4,000,000 in aggregate
principal amount of its subordinated convertible debentures due August 31, 2000
(the 'Debentures') pursuant to the Convertible Debenture Purchase Agreement,
dated as of September 9, 1997 (the 'Debenture Purchase Agreement'). The
Debentures were purchased by the Company's President, certain stockholders and
certain of the Company's underwriters. Pursuant to the terms of the Debenture
Purchase Agreement, the Debentures are subordinated in right of payment to all
indebtedness of the Company under the loans described above. The Debentures bear
interest at 6% per annum and are payable semi-annually. The unpaid principal
amount of the Debentures is due on August 31, 2000.
Except in very limited instances, the Company may not prepay the Debentures
prior to September 9, 1999. The Debentures are subject to prepayment at the
option of the holders of the Debentures upon the consummation of (i) a sale of
all or substantially all of the assets of the Company; (ii) a sale or transfer
of all or a majority of the outstanding common stock of the Company in any one
transaction or series of related transactions: or (iii) a merger or
consolidation of the Company with or into another entity. The Debentures are
convertible at any time at the option of the holders thereof into shares of
common stock at an initial conversion price equal to $10.08 per share subject to
reduction in the event that the Company sells its common stock for a price less
than $10.08 per share. Should such sale occur, the initial conversion price will
be reduced to the lower sale price. Pursuant to the terms of the Debenture
Purchase Agreement, the holders of the Debentures have rights of first offer on
future issuances of capital stock of the Company or other securities convertible
into capital stock of the Company (except with respect to a public offering of
shares of the Company's common stock). The Debenture Purchase Agreement places
limitations on indebtedness and liens and prohibits the payment of dividends.
On October 14, 1997, the Company obtained short-term financing in the form
of a secured term note from its senior lender, to fund practice affiliations in
an aggregate amount of $2,500,000. The note is secured by a lien on
substantially all of the assets of the Company. Outstanding loans bear interest
at the prime rate plus 3.5% (12% at October 31, 1997). Interest only is payable
through December 31, 1997 and the entire principal amount is due and payable on
January 10, 1998. In connection with this loan agreement, the Company will pay
to the lender a fee in the amount of $300,000 on the maturity date which was
recorded on October 14, 1997 as debt-issuance cost and is being amortized over
the term of the debt.
On October 15, 1997, the Company obtained short-term bridge financing in
the aggregate amount of $3,375,000 from certain stockholders, including its
President, to fund practice affiliations. In connection with these loans, the
Company issued warrants to such stockholders to purchase an aggregate of 48,215
shares of Common Stock at an exercise price of $0.01 per share which are
immediately exercisable for a period of 5 years. The fair value per warrant
based on the Black-Scholes valuation method is $8.39 per share using the
assumptions described in Note 7 and the actual life of the warrant. Outstanding
loans bear interest at the prime rate plus 3.5%. (12% at October 31, 1997). The
principal amounts and accrued interest are due and payable on January 10, 1998.
During October and November 1997, in connection with several practice
affiliations, the Company issued promissory notes that in the aggregate total
$11,314,197 (Physician Notes). These outstanding promissory notes bear interest
ranging from 6% to 11%. Substantially all of these promissory notes are due and
payable either on the date of the Company's completion of an initial public
offering or at various maturity dates ranging from December 31, 1997 to March
31, 1998.
Under the terms of all the credit agreements and credit facilities with the
senior lender, the subordinated loan agreements and the subordinated convertible
debentures, the Company is prohibited from declaring or paying any cash dividend
or making any distribution on any class of stock, except pursuant to an employee
repurchase plan or with the consent of the lender.
F-25
<PAGE>
BMJ MEDICAL MANAGEMENT, INC.
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
10. BORROWINGS--(CONTINUED)
Unaudited Information
On November 14, 1997, the Company entered into an additional subordinated
loan agreement in the principal amount of $1,000,000 (the $1 million loan) with
the lender of the $5 million loan. The $1 million loan is due on December 1,
2000 and contains the same terms as the $5 million loan. A warrant to purchase
25,000 shares of the Company's Series E Preferred Stock, that increases to
26,667 shares if an initial public offering of the Company's stock is not
consummated on or prior to December 31, 1997, was issued to the lender. The
warrant is immediately exercisable, at an exercise price of $.01 per share, for
a period of five years. The fair value of the warrant based on the Black-Scholes
valuation method is $4.82 per share using the assumptions described in Note 7
and the actual life of the warrant at an exercise price of $.01 per share. The
warrant is immediately exercisable for a period of 5 years. The fair value of
the warrant based on the Black-Scholes valuation method is $8.39 per share using
the assumptions described in Note 7 and the actual life of the warrant.
On November 21, 1997, the Company issued to its President a warrant to
purchase 23,214 shares of common stock at an exercise price of $.01 per share.
The warrant is exercisable for a period of five years. The fair value of the
warrant based on the Black-Scholes valuation method is $8.39 per share using the
assumptions described in Note 7 and the actual life of the warrant.
On January 2, 1998, the Company obtained short-term financing in the form
of a demand note from its President in the amount of $1.0 million to repay
certain of the Physician Notes. In connection with this loan, the Company issued
a warrant to the President to purchase 14,286 shares of common stock at an
exercise price of $0.01 per share. The demand note bears interest at 8% per
annum. The fair value of the warrants based on the Black-Scholes valuation
method is $8.39 per share using the assumptions described in Note 7 and the
actual life of the warrant. The warrant is immediately exercisable for a period
of 5 years.
11. COMMITMENTS AND CONTINGENCIES
The Company has an employment agreement dated as of May 6, 1996, as
amended, with its President (the Employment Agreement). Base compensation under
the Employment Agreement is $300,000 per year, subject to increase by the Board
of Directors. In addition, the Board of Directors may award an annual bonus to
the President in an amount of up to 30% of his base salary based on the
attainment of certain benchmarks. The Company may terminate the President's
employment at any time and for any reason; provided that, if his employment is
terminated without cause (as defined in such agreement) or as a result of his
becoming permanently disabled, the Company must pay the President a severance
amount determined in accordance with a formula contained in the agreement.
The Company is a defendant in an action entitled John Finlay v. Bone,
Muscle & Joint, Inc., which is currently pending in the United States District
Court for the Southern District of Texas. The action asserts claims for breach
of contract arising out of an alleged employment agreement and alleged
non-qualified stock option agreement. The action seeks compensatory damages
pursuant to the alleged employment agreement as well as specific performance for
the delivery of 16,071 shares of the Company's common stock. The Company
believes that the ultimate resolution of this matter will not have a material
impact on the Company's financial position, results of operations or cash flows.
The Company is a defendant in an action entitled Robert P. Lehmann, M.D. et
al. v. Bone, Muscle & Joint, Inc., et al. which has been filed in the United
States District Court for the Southern District of Texas. The action asserts
claims for breach of contract, common law fraud and promissory estoppel arising
from an alleged restricted stock purchase agreement. The action seeks
compensatory and exemplary damages as well as specific performance for the
delivery of 117,860 shares of the common stock. The Company believes that the
ultimate resolution of this matter will not have a material impact on the
Company's financial position, results of operations or cash flows.
The Company is subject to legal proceedings in the ordinary course of its
business including certain claims resulting from the result of successor
liability in connection with the assumption of certain liabilities of the
F-26
<PAGE>
BMJ MEDICAL MANAGEMENT, INC.
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
11. COMMITMENTS AND CONTINGENCIES--(CONTINUED)
physician practices. The Company does not believe that any of such legal
proceedings, after consideration of professional and other liability insurance,
will have a material adverse effect on the Company's financial position, results
of operations or cash flows.
12. CERTAIN RISKS AND UNCERTAINTIES
As explained in Notes 2 and 10, the Company affiliated with five additional
physician practices subsequent to September 30, 1997. In connection with these
affiliation transactions, the Company issued promissory notes to certain
physicians aggregating approximately $11,314,000 and borrowed approximately
$5,875,000 from certain stockholders and its senior lender. These notes and
borrowings are due in varying amounts from December 31, 1997 through March 31,
1998.
On September 16, 1997, the Company filed a registration statement with the
Securities and Exchange Commission to offer 4,000,000 authorized and unissued
shares of Common Stock to the public. The proceeds of this offering are
anticipated to be used to repay the indebtedness when it matures. In the event
the offering is not completed, management of the Company has developed a plan
which will enable it to meet its obligations as they come due. This plan
includes the following:
(i) $3,900,000 of the indebtedness due to certain stockholders will be
converted into additional shares of preferred stock:
(ii) The senior lender has agreed to postpone payment of the
$2,800,000 note (including the $300,000 fee due at maturity) until January
1, 1999 for a quarterly financing fee of $300,000;
(iii) Commitments have been obtained from certain stockholders to
provide additional capital sufficient to pay the physician notes as they
mature;
(iv) Additional borrowing capacity has been obtained in the aggregate
amount of approximately $1,650,000 and,
(v) Curtailment of development activities including a restructuring of
operational activities.
In addition, the Company continues to pursue negotiations to obtain
additional debt or equity capital and believes it has obtained sufficient
financing commitments through January 1, 1999.
Unaudited Information
In December 1997, the Company entered into commitments totaling $2.4
million for construction of two ambulatory surgery centers.
F-27
<PAGE>
REPORT OF INDEPENDENT AUDITORS
The Board of Directors
Orthopaedic Associates of Bethlehem, Inc.
We have audited the accompanying balance sheets of Orthopaedic Associates of
Bethlehem, Inc. (OAB) as of December 31, 1994 and 1995 and June 30, 1996 and the
related statements of operations, stockholders' equity, and cash flows for the
years ended December 31, 1994 and 1995 and for the six months ended June 30,
1996. These financial statements are the responsibility of OAB's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of OAB at December 31, 1994 and
1995 and June 30, 1996 and the results of its operations and cash flows for the
years ended December 31, 1994 and 1995, and the six months ended June 30, 1996
in conformity with generally accepted accounting principles.
ERNST & YOUNG, LLP
Philadelphia, Pennsylvania
May 28, 1997, except for Note 13,
as to which the date is August 14, 1997
F-28
<PAGE>
ORTHOPAEDIC ASSOCIATES OF BETHLEHEM, INC.
BALANCE SHEETS
<TABLE>
<CAPTION>
DECEMBER 31,
-------------------- JUNE 30,
1994 1995 1996
-------- -------- --------
<S> <C> <C> <C>
ASSETS
Current assets:
Cash....................................................................... $ 47,854 $ 3,698 $119,572
Accounts receivable, net................................................... 366,831 377,416 412,186
Other current assets....................................................... 131,411 160,354 110,934
-------- -------- --------
Total current assets......................................................... 546,096 541,468 642,692
Deferred tax asset........................................................... 15,000 54,100 16,800
Furniture and equipment, net................................................. 172,391 153,908 132,963
Other assets................................................................. 190,014 190,014 190,014
-------- -------- --------
Total assets................................................................. $923,501 $939,490 $982,469
-------- -------- --------
-------- -------- --------
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Note payable............................................................... $ -- $173,000 $203,000
Capital lease obligations, current portion................................. 33,989 36,332 37,101
Accounts payable........................................................... 29,027 66,158 48,780
Accrued expenses........................................................... 125,383 44,684 45,166
Deferred tax liability, current portion.................................... 135,000 171,200 169,000
-------- -------- --------
Total current liabilities.................................................... 323,399 491,374 503,047
Capital lease obligation, noncurrent portion................................. 114,225 78,068 59,591
Commitments and contingencies
Stockholders' equity:
Common stock, $1 par value, 30,000 shares authorized; 4,166 shares
issued.................................................................. 4,166 4,166 4,166
Additional paid-in capital................................................. 112,079 112,079 112,079
Retained earnings.......................................................... 369,632 375,364 425,147
Treasury stock, 1996 and 1995--833 shares at cost.......................... -- (121,561) (121,561)
-------- -------- --------
Total stockholders' equity................................................... 485,877 370,048 419,831
-------- -------- --------
Total liabilities and stockholders' equity................................... $923,501 $939,490 $982,469
-------- -------- --------
-------- -------- --------
</TABLE>
See accompanying notes.
F-29
<PAGE>
ORTHOPAEDIC ASSOCIATES OF BETHLEHEM, INC.
STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31, SIX MONTHS
------------------------ ENDED
1994 1995 JUNE 30, 1996
---------- ---------- -------------
<S> <C> <C> <C>
Practice revenues, net................................................. $2,527,957 $2,992,950 $ 1,540,205
Other income........................................................... 34,342 47,372 87,779
---------- ---------- -------------
Total revenues......................................................... 2,562,299 3,040,322 1,627,984
Costs and expenses:
Physician and other provider services................................ 1,553,725 1,639,675 720,358
Medical support services............................................. 893,595 1,012,713 577,503
Depreciation and amortization........................................ 42,183 42,049 20,945
Interest............................................................. 11,122 11,848 11,767
Rent................................................................. 28,575 39,353 66,602
Rent-related party................................................... 291,852 291,852 145,926
---------- ---------- -------------
Total costs and expenses............................................... 2,821,052 3,037,490 1,543,101
---------- ---------- -------------
(Loss) income before income taxes...................................... (258,753) 2,832 84,883
Income tax benefit (expense)........................................... 100,900 2,900 (35,100)
---------- ---------- -------------
Net (loss) income...................................................... $ (157,853) $ 5,732 $ 49,783
---------- ---------- -------------
---------- ---------- -------------
</TABLE>
See accompanying notes.
F-30
<PAGE>
ORTHOPAEDIC ASSOCIATES OF BETHLEHEM, INC.
STATEMENTS OF STOCKHOLDERS' EQUITY
<TABLE>
<CAPTION>
ADDITIONAL
COMMON PAID-IN RETAINED TREASURY
STOCK CAPITAL EARNINGS STOCK TOTAL
------ ---------- --------- --------- ---------
<S> <C> <C> <C> <C> <C>
Balance, December 31, 1993.......................... $3,333 $ 49,167 $ 527,485 $ -- $ 579,985
Issuance of common stock.......................... 833 62,912 -- -- 63,745
Net loss.......................................... -- -- (157,853) -- (157,853)
------ ---------- --------- --------- ---------
Balance, December 31, 1994.......................... 4,166 112,079 369,632 -- 485,877
Net income........................................ -- -- 5,732 -- 5,732
Treasury stock acquired........................... -- -- -- (121,561) (121,561)
------ ---------- --------- --------- ---------
Balance, December 31, 1995.......................... 4,166 112,079 375,364 (121,561) 370,048
Net income........................................ -- -- 49,783 -- 49,783
------ ---------- --------- --------- ---------
Balance, June 30, 1996.............................. $4,166 $ 112,079 $ 425,147 $(121,561) $ 419,831
------ ---------- --------- --------- ---------
------ ---------- --------- --------- ---------
</TABLE>
See accompanying notes.
F-31
<PAGE>
ORTHOPAEDIC ASSOCIATES OF BETHLEHEM, INC.
STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
YEAR ENDED SIX MONTHS
DECEMBER 31, ENDED
---------------------- JUNE 30,
1994 1995 1996
--------- --------- ----------
<S> <C> <C> <C>
OPERATING ACTIVITIES:
Net (loss) income.......................................................... $(157,853) $ 5,732 $ 49,783
Adjustments to reconcile net (loss) income to net cash
(used in) provided by operating activities:
Depreciation and amortization............................................ 42,183 42,049 20,945
Loss on disposal of equipment............................................ 5,115 -- --
Provision for deferred taxes............................................. (100,900) (2,900) 35,100
Changes in operating assets and liabilities:
Receivables........................................................... 78,537 (10,585) (34,770)
Other assets.......................................................... 7,357 (28,943) 49,420
Accounts payable...................................................... 17,787 37,131 (17,378)
Accrued expenses...................................................... 76,954 (80,699) 482
--------- --------- ----------
Net cash (used in) provided by operating activities........................ (30,820) (38,215) 103,582
INVESTING ACTIVITIES:
Purchases of furniture and equipment, net.................................. (23,898) (23,566) --
Collection of advances to shareholders..................................... 68,950 -- --
--------- --------- ----------
Net cash provided by (used in) investing activities........................ 45,052 (23,566) --
FINANCING ACTIVITIES:
Issuance of common stock................................................... 63,745 -- --
Purchase of treasury stock................................................. -- (121,561) --
Borrowings on line of credit............................................... -- 173,000 30,000
Payment on capital lease................................................... (31,786) (33,814) (17,708)
--------- --------- ----------
Net cash provided by financing activities.................................. 31,959 17,625 12,292
--------- --------- ----------
Net increase (decrease) in cash............................................ 46,191 (44,156) 115,874
Cash, beginning of period.................................................. 1,663 47,854 3,698
--------- --------- ----------
Cash, end of period........................................................ $ 47,854 $ 3,698 $119,572
--------- --------- ----------
--------- --------- ----------
SUPPLEMENTARY DISCLOSURES:
Interest paid.............................................................. $ 11,122 $ 11,848 $ 11,767
Income taxes paid.......................................................... $ -- $ -- $ --
</TABLE>
See accompanying notes.
F-32
<PAGE>
ORTHOPAEDIC ASSOCIATES OF BETHLEHEM, INC.
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1994 AND 1995
AND JUNE 30, 1996
1. DESCRIPTION OF THE BUSINESS
Orthopaedic Associates of Bethlehem, Inc. (OAB) is an orthopedic physician
practice which serves the Bethlehem, Pennsylvania area. OAB was organized as a
professional corporation under the laws of the Commonwealth of Pennsylvania (See
Note 13). All of OAB's issued and outstanding stock are owned by its practicing
orthopedic physicians.
The financial statements of OAB have been prepared as supplemental
information about the affiliated practices to which BMJ Medical Management, Inc.
(BMJ) provides management services. OAB previously operated as a separate
corporation.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Practice Revenues, Net
Practice revenues, net is recorded as services are rendered at established
rates net of provision for bad debts and contractual adjustments. Contractual
adjustments arise due to the terms of certain reimbursement and managed care
contracts. Such adjustments represent the difference between charges at
established rates and estimated amounts to be reimbursed to OAB and are
recognized when the services are rendered.
Revenues from the Medicare and Medicaid programs accounted for
approximately 35% and 5%, respectively, of OAB's net operating revenues. Laws
and regulations governing the Medicare and Medicaid programs are complex and
subject to interpretation. OAB believes that it is in compliance with all
applicable laws and regulations and is not aware of any pending or threatened
investigations involving allegations of potential wrongdoing. While no such
regulatory inquiries have been made, compliance with such laws and regulations
can be subject to future government review and interpretation as well as
significant regulatory action including fines, penalties, and exclusion from the
Medicare and Medicaid programs.
Furniture and Equipment
Furniture and equipment are stated at cost, less accumulated depreciation,
and are depreciated using the straight-line method over the estimated useful
lives of the assets, ranging from 5 to 7 years. Equipment under capital lease
obligations is amortized on the straight-line method over the shorter period of
the lease term or the estimated useful life of the equipment. Such amortization
is included in depreciation and amortization in the financial statements.
Concentration of Credit Risk
OAB grants credit without collateral to its patients, most of whom are
local residents and are insured under third-party payor agreements. Management
believes credit risk associated with accounts receivable is minimal.
Use of Estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the amounts reported in the financial statements and
accompanying notes. Actual results could differ from those estimates.
Costs and Expenses
Physician and other provider services costs are comprised primarily of
compensation and fees paid to physician and other health care providers.
Medical support services costs include all indirect costs associated with
the management and operations of the practice and all direct costs associated
with medical supplies and pharmaceuticals expenses.
F-33
<PAGE>
ORTHOPAEDIC ASSOCIATES OF BETHLEHEM, INC.
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
3. ACCOUNTS RECEIVABLE, NET
Accounts receivable, net consist of the following:
<TABLE>
<CAPTION>
DECEMBER 31,
-------------------- JUNE 30,
1994 1995 1996
-------- -------- --------
<S> <C> <C> <C>
Accounts receivable................................................ $619,647 $671,558 $717,865
Less allowances for contractual adjustments and uncollectibles..... 252,816 294,142 305,679
-------- -------- --------
Accounts receivable, net........................................... $366,831 $377,416 $412,186
-------- -------- --------
-------- -------- --------
</TABLE>
4. FURNITURE AND EQUIPMENT
Furniture and equipment consist of the following:
<TABLE>
<CAPTION>
DECEMBER 31,
-------------------- JUNE 30,
1994 1995 1996
-------- -------- --------
<S> <C> <C> <C>
Furniture and equipment............................................ $229,438 $253,003 $253,003
Furniture and equipment--capital leases............................ 180,000 180,000 180,000
-------- -------- --------
409,438 433,003 433,003
Less: Accumulated depreciation..................................... 201,047 207,095 210,040
Accumulated amortization...................................... 36,000 72,000 90,000
-------- -------- --------
$172,391 $153,908 $132,963
-------- -------- --------
-------- -------- --------
</TABLE>
5. OTHER ASSETS
Other assets consist of the amount advanced by OAB to three shareholders
for the purchase of life insurance. OAB is not the beneficiary of these
policies; however, the proceeds have been assigned to OAB to the extent of these
premiums paid. No interest is accrued on these loans.
6. NOTES PAYABLE
OAB has an unsecured $250,000 line of credit arrangement with a bank. At
June 30, 1996 and December 31, 1995, $203,000 and $173,000, respectively, was
outstanding under the line of credit. Interest is payable monthly at a variable
rate of interest (8.25% and 8.50% at June 30, 1996 and December 31, 1995,
respectively). Principal is payable upon demand. Repayment of the line of credit
is unconditionally guaranteed by the stockholders of OAB.
7. CAPITAL LEASE
OAB has a capital lease obligation, collateralized by the leased equipment,
with scheduled payments as of June 30, 1996 as follows:
<TABLE>
<S> <C>
1996........................................................................................ $21,024
1997........................................................................................ 42,048
1998........................................................................................ 42,048
---------
105,120
Less amount representing interest........................................................... (8,428)
---------
$96,692
---------
---------
</TABLE>
F-34
<PAGE>
ORTHOPAEDIC ASSOCIATES OF BETHLEHEM, INC.
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
8. RELATED PARTY TRANSACTIONS
A. Lease Agreement
In June 1989, OAB entered into a ten-year sublease lease agreement with
Shoenersville Road Realty for the rental of office space. Under the lease
agreement OAB has the option to lease the office space for an additional term of
ten years. Rental payments required under the lease are subject to a fair market
rental value adjustment. The partners of Shoenersville Road Realty are also the
stockholders of OAB. Rental expense totaled $145,926 for the six months ended
June 30, 1996 and $291,852 for both of the years ended December 31, 1995 and
1994.
Future minimum rental payments under this operating lease as of June 30,
1996 are as follows:
<TABLE>
<S> <C>
1996........................................................................................ $145,926
1997........................................................................................ 291,852
1998........................................................................................ 291,852
1999........................................................................................ 145,926
---------
$875,556
---------
---------
</TABLE>
B. Stock Redemption
In 1995, OAB agreed to pay one of its physician stockholders $121,561 for
833 shares of common stock. This redemption represented approximately 20% of the
then outstanding shares and 20% of the stockholders' equity at the date of the
redemption.
9. INCOME TAXES
Significant components of deferred tax assets and liabilities are as
follows:
<TABLE>
<CAPTION>
DECEMBER 31,
---------------------- JUNE 30,
1994 1995 1996
--------- --------- ---------
<S> <C> <C> <C>
Deferred tax liabilities:
Cash to accrual adjustment............................................... $ 263,100 $ 269,700 $ 254,400
--------- --------- ---------
--------- --------- ---------
Deferred tax assets:
Net operating loss carryforwards......................................... $ 26,500 $ 66,700 $ 29,400
Cash to accrual adjustment............................................... 116,600 85,900 72,800
--------- --------- ---------
Total deferred tax assets.................................................. $ 143,100 $ 152,600 $ 102,200
--------- --------- ---------
--------- --------- ---------
Net deferred taxes......................................................... $(120,000) $(117,100) $(152,200)
--------- --------- ---------
--------- --------- ---------
</TABLE>
Significant components of income tax (expense) benefit attributable to
continuing operations are as follows:
<TABLE>
<CAPTION>
YEAR ENDED
DECEMBER 31, SIX MONTHS
------------------ ENDED
1994 1995 JUNE 30, 1996
-------- ------ -------------
<S> <C> <C> <C>
Current............................................................ $ -- $ -- $ --
Deferred........................................................... 100,900 2,900 (35,100)
-------- ------ -------------
Income tax (expense) benefit....................................... $100,900 $2,900 $ (35,100)
-------- ------ -------------
-------- ------ -------------
</TABLE>
OAB's tax rate differs from the expected tax rate due principally to state
income taxes. State income tax (expense) benefits were $11,000, $4,400 and
$(5,400) for the years ended December 31, 1994 and 1995 and the six months ended
June 30, 1996, respectively.
F-35
<PAGE>
ORTHOPAEDIC ASSOCIATES OF BETHLEHEM, INC.
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
9. INCOME TAXES--(CONTINUED)
For the six months ended June 30, 1996 OAB has estimated income tax
(expense) benefit and net deferred taxes assuming that they have utilized
$78,000 and $65,000 in operating loss carryforwards for federal and state income
reporting purposes. At June 30, 1996 OAB has available federal and state
operating loss carryforwards of $73,000 and $60,000, respectively, which expire
in 2010 and 1998, respectively.
10. BENEFIT PLANS
OAB sponsors a defined contribution profit-sharing plan covering all
employees who meet prescribed eligibility requirements. Expenses amounted to
$165,000 and $129,000 in 1995 and 1994, respectively. This plan was terminated
effective December 31, 1995.
Effective January 1, 1996, OAB established a 401(k) plan for which OAB
matches a percentage of employee contributions. Expenses for the 401(k) plan
amounted to $25,818 for the six months ended June 30, 1996.
11. CONTINGENCIES
OAB is involved in various legal proceedings in the ordinary course of
business. OAB does not believe that the disposition of such legal proceedings
and disputes will have a material adverse effect on the financial position and
results of operation of OAB.
12. MALPRACTICE INSURANCE
OAB maintains professional liability coverage on behalf of its physicians
on an occurrence basis.
13. SUBSEQUENT EVENTS
Effective July 1, 1996, the physician stockholders of OAB transferred
substantially all operations of OAB to Lehigh Valley Bone, Muscle and Joint
Group, LLC (LVBMJ). LVBMJ is a limited liability company owned by the physician
stockholders of OAB, formed specifically to operate the transferred medical
practice. Additionally, on July 1, 1996, OAB changed its legal structure from a
professional corporation to a general purpose corporation and continues to
perform limited medical advisory services.
Effective July 1, 1996, the Company entered into an Affiliation Transaction
with LVBMJ. Under the terms of the Amended and Restated Management Services
Agreement between LVBMJ and the Company effective July 1, 1997 (the LVBMJ
Management Services Agreement), BMJ issued an aggregate of 370,023 shares of
common stock and options to purchase 21,429 shares of common stock.
On September 5, 1997, OAB sold to BMJ (a related party) its furniture and
equipment and transferred its rights and interest under equipment and office
space leases for $254,000. Proceeds of the sale were used to repay OAB's line of
credit. Based on the collection of accounts receivable balances and the
realization of other assets available, OAB has discharged substantially all its
other remaining liabilities. OAB has distributed substantially all of its
remaining stockholders' equity in the form of dividends and compensation.
F-36
<PAGE>
REPORT OF INDEPENDENT AUDITORS
The Board of Directors
Southern California Orthopedic Institute Medical Group,
a California General Partnership
We have audited the accompanying balance sheets of Southern California
Orthopedic Institute Medical Group, a California General Partnership (SCOI) as
of December 31, 1995 and October 31, 1996, and the related statements of
operations and changes in partners' capital, and cash flows for each of the two
years in the period ended December 31, 1995 and for the ten months ended October
31, 1996. These financial statements are the responsibility of SCOI's
management. Our responsibility is to express an opinion on these financial
statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of SCOI at December 31, 1995 and
October 31, 1996, and the results of its operations and its cash flows for each
of the two years in the period ended December 31, 1995 and for the ten months
ended October 31, 1996 in conformity with generally accepted accounting
principles.
ERNST & YOUNG, LLP
Los Angeles, California
May 23, 1997
F-37
<PAGE>
SOUTHERN CALIFORNIA ORTHOPEDIC INSTITUTE MEDICAL GROUP,
A CALIFORNIA GENERAL PARTNERSHIP
BALANCE SHEETS
<TABLE>
<CAPTION>
DECEMBER 31, OCTOBER 31,
1995 1996
------------ -----------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents............................................................ $ 251,345 $ 720,158
Patient accounts receivable, net................................................... 4,558,438 4,778,825
Due from partners and affiliates, net.............................................. 41,231 --
Prepaid expenses and other current assets.......................................... 140,523 266,826
------------ -----------
Total current assets................................................................. 4,991,537 5,765,809
Furniture, fixtures and equipment, net 709,814 586,997
Other assets......................................................................... 337,038 310,080
------------ -----------
Total assets......................................................................... $6,038,389 $ 6,662,886
------------ -----------
------------ -----------
LIABILITIES AND PARTNERS' CAPITAL
Current liabilities:
Accounts payable................................................................... $ 120,398 $ 125,022
Due to partners and affiliates, net................................................ -- 284,773
Accrued expenses and other current liabilities..................................... 287,204 284,229
Current portion of long-term debt.................................................. 228,627 --
Deferred income.................................................................... 85,090 85,090
------------ -----------
Total current liabilities............................................................ 721,319 779,114
Deferred income...................................................................... 219,820 134,733
Accrued malpractice insurance claims................................................. 1,500,000 1,917,000
------------ -----------
2,441,139 2,830,847
Commitments and contingencies
Partners' capital.................................................................... 3,597,250 3,832,039
------------ -----------
Total liabilities and partners' capital.............................................. $6,038,389 $ 6,662,886
------------ -----------
------------ -----------
</TABLE>
See accompanying notes.
F-38
<PAGE>
SOUTHERN CALIFORNIA ORTHOPEDIC INSTITUTE MEDICAL GROUP,
A CALIFORNIA GENERAL PARTNERSHIP
STATEMENTS OF OPERATIONS AND CHANGES IN PARTNERS' CAPITAL
<TABLE>
<CAPTION>
TEN MONTHS
YEAR ENDED DECEMBER 31, ENDED
-------------------------- OCTOBER 31,
1994 1995 1996
----------- ----------- -----------
<S> <C> <C> <C>
Practice revenues, net.............................................. $19,230,632 $20,025,718 $17,907,084
Other income........................................................ 149,318 153,923 162,512
----------- ----------- -----------
Total revenues...................................................... 19,379,950 20,179,641 18,069,596
Costs and expenses:
Physician and other provider services............................. 10,008,410 11,307,996 9,069,544
Medical support services.......................................... 7,406,706 7,621,997 6,846,899
Depreciation...................................................... 313,595 308,826 253,500
Interest.......................................................... 70,511 39,126 8,462
Rent.............................................................. 275,077 261,906 204,511
Rent--related party............................................... 1,615,678 1,666,243 1,451,891
----------- ----------- -----------
Total costs and expenses............................................ 19,689,977 21,206,094 17,834,807
----------- ----------- -----------
Net (loss) income................................................... (310,027) (1,026,453) 234,789
Beginning partners' capital......................................... 4,739,090 4,429,063 3,597,250
Capital contributions............................................... -- 194,640 --
----------- ----------- -----------
Ending partners' capital............................................ $ 4,429,063 $ 3,597,250 $ 3,832,039
----------- ----------- -----------
----------- ----------- -----------
</TABLE>
See accompanying notes.
F-39
<PAGE>
SOUTHERN CALIFORNIA ORTHOPEDIC INSTITUTE MEDICAL GROUP,
A CALIFORNIA GENERAL PARTNERSHIP
STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
TEN MONTHS
YEAR ENDED DECEMBER 31, ENDED
-------------------------- OCTOBER 31,
1994 1995 1996
----------- ----------- -----------
<S> <C> <C> <C>
OPERATING ACTIVITIES:
Net (loss) income................................................... $ (310,027) $(1,026,453) $ 234,789
Adjustments to reconcile net (loss) income to net cash provided by
(used in) operating activities:
Depreciation...................................................... 313,595 308,826 253,500
Amortization of deferred income................................... -- (93,432) (85,087)
Changes in operating assets and liabilities:
Patient accounts receivable.................................... (142,784) 287,667 (220,387)
Prepaid expenses and other assets.............................. (58,197) (17,215) (99,345)
Accounts payable............................................... 1,262 (85,930) 4,624
Accrued expenses and other current liabilities................. 441,688 518,480 414,025
----------- ----------- -----------
Net cash provided by (used in) operating activities................. 245,537 (108,057) 502,119
INVESTING ACTIVITIES:
Changes in due to/from partners and affiliates...................... 166,056 (171,832) 326,004
Purchases of furniture, fixtures and equipment...................... (85,220) (39,331) (130,683)
----------- ----------- -----------
Net cash provided by (used in) investing activities................. 80,836 (211,163) 195,321
FINANCING ACTIVITIES:
Payments on long-term debt.......................................... (287,386) (316,503) (228,627)
Proceeds received for covenant not to compete....................... -- 398,342 --
Capital contributions............................................... -- 194,640 --
----------- ----------- -----------
Net cash (used in) provided by financing activities................. (287,386) 276,479 (228,627)
----------- ----------- -----------
Net increase (decrease) in cash and cash equivalents................ 38,987 (42,741) 468,813
Cash and cash equivalents at beginning of period.................... 255,099 294,086 251,345
----------- ----------- -----------
Cash and cash equivalents at end of period.......................... $ 294,086 $ 251,345 $ 720,158
----------- ----------- -----------
----------- ----------- -----------
</TABLE>
See accompanying notes.
F-40
<PAGE>
SOUTHERN CALIFORNIA ORTHOPEDIC INSTITUTE MEDICAL GROUP,
A CALIFORNIA GENERAL PARTNERSHIP
NOTES TO FINANCIAL STATEMENTS
OCTOBER 31, 1996
1. DESCRIPTION OF THE BUSINESS
Southern California Orthopedic Institute Medical Group, a California
General Partnership (SCOI), is an orthopedic physician practice which serves
patients in Southern California. SCOI is organized as a general partnership
comprising individuals and professional corporations under the laws of the State
of California.
On November 1, 1996, SCOI agreed in principle to sell substantially all of
its assets (primarily patient accounts receivable and furniture, fixtures and
equipment) to BMJ Medical Management, Inc. (BMJ) and concurrent therewith
entered into a management services agreement (see Note 12 'Subsequent Event').
The financial statements of SCOI have been prepared as supplemental
information about the affiliated practices to which BMJ provides management
services. SCOI previously operated as a separate partnership.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Revenue Recognition
Practice revenues, net consist of fees for services provided by the medical
group under contracts with health maintenance organizations and for services
rendered to patients covered under Medicare, Medi-Cal and private insurance.
Revenue is reported on the accrual basis in the period in which services are
provided at the amounts expected to be realized from Medicare, Medi-Cal, managed
care and other insurance programs.
Laws and regulations governing the Medicare and Medi-Cal programs are
complex and subject to interpretation. SCOI believes that it is in compliance
with all applicable laws and regulations and is not aware of any pending or
threatened investigations involving allegations of potential wrongdoing. While
no such regulatory inquiries have been made, compliance with such laws and
regulations can be subject to future government review and interpretation as
well as significant regulatory action including fines, penalties, and exclusion
from the Medicare and Medi-Cal programs.
Costs and Expenses
Physician and other provider services costs primarily comprise compensation
and fees paid to physicians and other health care providers and include medical
supplies and pharmaceutical expenses.
Medical support services costs include all indirect costs associated with
the management and operations of the practice.
Furniture, Fixtures and Equipment
Furniture, fixtures and equipment, including leasehold improvements, are
stated at cost, and are depreciated using the straight-line method over the
estimated useful lives of the assets, ranging from five to seven years.
Health and Dental Insurance
SCOI maintains a self-insured medical and dental plan for its employees.
Unpaid claims accruals, including claims incurred but not reported, are based on
the estimated ultimate cost of settlement, including claim settlement expense,
in accordance with SCOI's past experience. SCOI has a stop-loss insurance
contract to cover employee health claims in excess of an annual aggregate limit
based on monthly aggregate factors determined by the insurance company and the
number of employees covered ($430,062; $349,894, and $250,304 for the years
ended December 31, 1994 and 1995 and the ten months ended October 31, 1996,
respectively). Effective October 1, 1996, SCOI purchased commercial coverage for
employee health claims. At December 31, 1995 and October 31, 1996, SCOI did not
have significant claims outstanding.
F-41
<PAGE>
SOUTHERN CALIFORNIA ORTHOPEDIC INSTITUTE MEDICAL GROUP,
A CALIFORNIA GENERAL PARTNERSHIP
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES--(CONTINUED)
Cash Equivalents
Cash equivalents include money market funds and certificates of deposit
with a maturity of three months or less when purchased.
Allocations to Partners
Income and distributions to physician partners are made based upon a
formula as defined in Schedule 4.1 of the SCOI partnership agreement. The
formula generally allocates income based on net cash collections attributable to
each physician partner, net of allocated and direct expenses. Notwithstanding
the formula, physician partners receive a guaranteed minimum based on a
percentage of total collections. Distributions to partners totaling $7,575,129,
$9,745,019 and $7,692,077 for the two years ended December 31, 1995 and the ten
months ended October 31, 1996, respectively, were included in physician and
other provider services in the statements of operations and changes in partners'
capital.
Use of Estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenue and expenses during the reporting
period. Actual results could differ from those estimates.
Financial Instruments
The carrying amounts of financial instruments as reported in the
accompanying balance sheets approximate their fair value primarily due to the
short-term nature of such financial instruments.
Concentrations of Credit Risk
Financial instruments which potentially subject SCOI to concentrations of
credit risk consist primarily of cash and cash equivalents and accounts
receivable. Concentration of credit risk with respect to accounts receivable are
limited, except with respect to programs under contract with the federal and
state governments, due to the large number of payors comprising SCOI's customer
base. As of October 31, 1996, SCOI had no significant concentrations of credit
risk.
3. ACCOUNTS RECEIVABLE
Accounts receivable consist of the following at:
<TABLE>
<CAPTION>
DECEMBER 31, OCTOBER 31,
1995 1996
------------ -----------
<S> <C> <C>
Gross patient accounts receivable.......................................... $7,723,438 $ 8,099,825
Less allowances for contractual adjustments and uncollectible accounts..... 3,165,000 3,321,000
------------ -----------
$4,558,438 $ 4,778,825
------------ -----------
------------ -----------
</TABLE>
F-42
<PAGE>
SOUTHERN CALIFORNIA ORTHOPEDIC INSTITUTE MEDICAL GROUP,
A CALIFORNIA GENERAL PARTNERSHIP
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
4. FURNITURE, FIXTURES AND EQUIPMENT
Furniture, fixtures and equipment consist of the following at:
<TABLE>
<CAPTION>
DECEMBER 31, OCTOBER 31,
1995 1996
------------ -----------
<S> <C> <C>
Furniture, fixtures and equipment.......................................... $2,193,237 $ 2,137,488
Less accumulated depreciation.............................................. 1,483,423 1,550,491
------------ -----------
$ 709,814 $ 586,997
------------ -----------
------------ -----------
</TABLE>
5. LONG-TERM DEBT
Long-term debt comprises two loans for the purchase of furniture, fixtures
and equipment. The loans bear interest at 9.69% and are payable in 60 monthly
installments of $29,627 with final maturity in August 1996. The loans were
secured by SCOI's property and equipment.
Interest costs paid during the years ended December 31, 1994 and 1995 and
the ten months ended October 31, 1996, totaled $70,511, $39,126, and $8,462,
respectively.
6. LEASE COMMITMENTS
SCOI leases various equipment, clinic and office space under non-cancelable
operating leases expiring between 1997 and 2006 with related and independent
parties (see Note 11 'Related Parties'). Certain leases contain renewal options
and annual escalation clauses. Obligations under equipment and facility leases
with unrelated parties were assumed by BMJ in connection with the sale of SCOI's
assets on November 1, 1996 (see Note 12 'Subsequent Event'). At October 31,
1996, future minimum lease payments are as follows:
<TABLE>
<S> <C>
1997..................................................................................... $1,805,636
1998..................................................................................... 1,790,849
1999..................................................................................... 1,718,358
2000..................................................................................... 1,599,342
2001..................................................................................... 1,599,342
Therafter................................................................................ 8,297,649
------------
Total minimum lease payments............................................................. $16,811,176
------------
------------
</TABLE>
7. INCOME TAXES
SCOI is organized as a partnership under the Internal Revenue Code and
applicable California Franchise Tax Code. As a result, in lieu of corporate
income tax, SCOI's taxable income is passed through to the partners and taxed at
the partner level. Accordingly, no provision or liability for income tax has
been reflected in the financial statements.
8. BENEFIT PLANS
SCOI sponsors a defined contribution plan (the Plan) for employees who meet
the minimum length of service and age requirements. The Plan was adopted on
January 1, 1996. Eligible employees may contribute up to 19% of their
compensation in the Plan year. SCOI may, at its discretion, match a portion of
employee contributions up to 4% of an employee's compensation. SCOI is
responsible for the administration of the Plan as the Plan administrator and
trustee. SCOI's contributions totaled $9,831 for the ten months ended October
1996.
F-43
<PAGE>
SOUTHERN CALIFORNIA ORTHOPEDIC INSTITUTE MEDICAL GROUP,
A CALIFORNIA GENERAL PARTNERSHIP
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
9. CONTINGENCIES
SCOI is involved in various legal proceedings in the ordinary course of
business. SCOI does not believe that the disposition of such legal proceedings
and disputes will have a material adverse effect on the financial position and
results of operations of SCOI.
SCOI procures professional liability coverage on behalf of its physicians
on a claims made basis up to $1,000,000 per claim and $3,000,000 annual
aggregate per physician. The insurance contracts specify that coverage is
available only during the term of each insurance contract and cover only those
claims reported while the policies are in force. An estimate of losses for
incurred but unreported claims is recorded based upon historical experience.
Management of SCOI intends to renew the existing claims made policy annually and
expects to be able to obtain such coverage. If coverage is not renewed, SCOI
intends to purchase extended reporting period endorsements to provide
professional liability coverage for losses incurred prior to, but reported
subsequent to, the termination of the claims made policies. SCOI's policy has
been renewed through December 31, 1997.
10. DEFERRED INCOME
In July 1992, SCOI sold its rehabilitation and therapy business to
HealthSouth Rehabilitation Center of Van Nuys Limited Partnership (HealthSouth)
for cash. In connection with the sale, the Partnership and its physicians
entered into a covenant-not-to-compete for seven years ending July 31, 1999 for
$700,000, payable in 84 equal monthly installments. Consideration received is
recorded as revenue over the term of the agreement. On January 20, 1995,
HealthSouth elected to prepay its remaining obligations under the covenant
totaling $390,000. This amount has been recorded as deferred income on SCOI's
balance sheets and is amortized over the remaining term of the covenant.
11. RELATED PARTIES
Due to partners and affiliates includes undistributed guaranteed payments
totaling $162,699 and $475,000 at December 31, 1995 and October 31, 1996,
respectively. SCOI has notes receivable from several partners for capital
contributions. Such notes bear interest at prime rate plus one percent and
totaled $191,618 and $102,810, at December 31, 1995 and October 31, 1996,
respectively. SCOI also made advances to the Center for Orthopedic Surgery, Inc.
(COSI), an affiliated organization owned by certain physician partners. COSI is
an outpatient surgery center due to begin operations in May 1997. Amounts
outstanding at December 31, 1995 and October 31, 1996 were $12,312 and $87,417,
respectively.
SCOI leases its main facility and office space under a non-cancelable
operating lease from FDP Development, Inc. (FDP), an affiliate owned by the
partners of SCOI. The lease expires in July 2006 and provides for annual
adjustments based on the increases in the Consumer Price Index. Rental costs
paid to FDP totaled $1,615,678, $1,666,243, and $1,451,891, for the years ended
December 31, 1994 and 1995, and the ten months ended October 31, 1996,
respectively. SCOI maintains a security deposit with FDP in the amount of
$300,000 at December 31, 1995 and October 31, 1996.
12. SUBSEQUENT EVENTS
On November 1, 1996, SCOI sold its patient accounts receivable balances,
furniture, fixtures and equipment, and other minor assets to BMJ, a Delaware
corporation engaged in operating and financing physician groups focused
exclusively on musculoskeletal disease management. The carrying value of the
patient accounts receivable balances and property and equipment was $4,778,825
and $583,755, respectively. BMJ also assumed certain equipment and office lease
obligations with total future minimum lease payments of $553,460 at November 1,
1996, which are in turn subleased to SCOI. Total consideration for the sale was
$5,930,897 based on a preliminary estimate of the carrying values of the assets
sold at October 31, 1996, and is subject to purchase
F-44
<PAGE>
SOUTHERN CALIFORNIA ORTHOPEDIC INSTITUTE MEDICAL GROUP,
A CALIFORNIA GENERAL PARTNERSHIP
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
12. SUBSEQUENT EVENTS--(CONTINUED)
price adjustments. $3,706,897 (the sales price of property and equipment and 50%
of the estimated carrying value of the receivable balances) was received in
cash. The balance of the consideration is based on actual collections of the
receivable balances and is due upon the earlier of an initial offering of BMJ's
common stock or November 1, 1997. SCOI realized a gain of $858,165 on the sale
of property and equipment.
Concurrent with the sale, SCOI entered into a 40 year management services
agreement (the Agreement) with BMJ on November 1, 1996. After the initial term,
the Agreement renews automatically for successive additional five year terms,
unless terminated by either party with 6 months written notice. As an incentive
for entering into the Agreement, the physician owners of the Company received
2,857,143 common shares in BMJ with an estimated fair value of $1,400,000. At
the earlier of an initial public offering of BMJ's common shares or November 1,
1998, the number of shares will be adjusted in accordance with a prescribed
formula based in part on SCOI's net cash collections in relation to other
medical groups managed by BMJ. Under the Agreement, BMJ will provide financial
management, information systems, marketing and public relations, risk
management, and administrative support for claims processing, utilization review
and quality control services. As compensation for these services, SCOI will
reimburse BMJ for the costs of such services in addition to a management fee
based on a percentage of collections of patient revenues generated after
November 1, 1996 (reduced by the medical equipment master lease payments) and
66-2/3% of professional practice cost savings as defined in the Agreement.
F-45
<PAGE>
REPORT OF INDEPENDENT AUDITORS
The Board of Directors
South Texas Spinal Clinic, P.A.
We have audited the accompanying balance sheets of South Texas Spinal Clinic,
P.A. (STSC) as of December 31, 1994 and 1995 and October 31, 1996, and the
related statements of operations, stockholders' equity, and cash flows for the
years ended December 31, 1994 and 1995 and the ten months ended October 31,
1996. These financial statements are the responsibility of STSC's management.
Our responsibility is to express an opinion on these financial statements based
on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of STSC at December 31, 1994 and
1995 and the ten months ended October 31, 1996 in conformity with generally
accepted accounting principles.
ERNST & YOUNG, LLP
San Antonio, Texas
June 5, 1997
F-46
<PAGE>
SOUTH TEXAS SPINAL CLINIC, P.A.
BALANCE SHEETS
<TABLE>
<CAPTION>
DECEMBER 31,
-------------------------- OCTOBER 31,
1994 1995 1996
----------- ----------- -----------
<S> <C> <C> <C>
ASSETS
Current assets:
Cash.............................................................. $ 56,205 $ 41,642 $ 430,452
Accounts receivable, net.......................................... 2,497,993 2,535,945 1,688,980
Prepaid expenses and other current assets......................... 18,680 23,705 21,809
----------- ----------- -----------
Total current assets................................................ 2,572,878 2,601,292 2,141,241
Furniture, fixtures, and equipment, net............................. 554,099 476,263 416,047
Other assets........................................................ 31,016 55,200 32,925
----------- ----------- -----------
Total assets........................................................ $ 3,157,993 $ 3,132,755 $ 2,590,213
----------- ----------- -----------
----------- ----------- -----------
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Current portion of long-term debt................................. $ 125,000 $ 125,000 $ 104,166
Capital lease obligation, current portion......................... -- 3,153 3,464
Accounts payable.................................................. 132,733 91,904 515,287
Accounts payable--related party................................... -- 5,372 --
Accrued expenses and other current liabilities.................... 11,531 13,312 17,490
----------- ----------- -----------
Total current liabilities........................................... 269,264 238,741 640,407
Long-term debt, less current portion................................ 208,333 83,333 --
Capital lease obligation, less current portion...................... -- 6,442 3,530
Stockholders' equity:
Common stock, no par; 100,000 shares authorized; 2,500 shares
issued and outstanding......................................... 1,000 1,000 1,000
Retained earnings................................................. 2,679,396 2,803,239 1,945,276
----------- ----------- -----------
Total stockholders' equity.......................................... 2,680,396 2,804,239 1,946,276
----------- ----------- -----------
Total liabilities and stockholders' equity.......................... $ 3,157,993 $ 3,132,755 $ 2,590,213
----------- ----------- -----------
----------- ----------- -----------
</TABLE>
See accompanying notes.
F-47
<PAGE>
SOUTH TEXAS SPINAL CLINIC, P.A.
STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
TEN MONTHS
YEAR ENDED ENDED
DECEMBER 31, OCTOBER 31,
------------------------ ------------
1994 1995 1996
---------- ---------- ------------
<S> <C> <C> <C>
Practice revenues, net..................................... $6,973,761 $7,748,203 $6,027,164
Costs and expenses:
Physician and other provider services.................... 4,681,361 5,578,510 5,257,398
Medical support services................................. 971,812 1,060,037 1,073,446
Depreciation............................................. 88,065 90,012 74,914
Interest................................................. 36,956 27,529 13,375
Rent..................................................... 125,770 150,168 118,491
Rent-related party....................................... 711,892 718,104 347,503
---------- ---------- ------------
Total costs and expenses................................... 6,615,856 7,624,360 6,885,127
---------- ---------- ------------
Net income (loss).......................................... $ 357,905 $ 123,843 $ (857,963)
---------- ---------- ------------
---------- ---------- ------------
</TABLE>
See accompanying notes.
F-48
<PAGE>
SOUTH TEXAS SPINAL CLINIC, P.A.
STATEMENTS OF STOCKHOLDERS' EQUITY
<TABLE>
<CAPTION>
COMMON STOCK
-------------------
NUMBER ADDITIONAL RETAINED
OF SHARES AMOUNT PAID-IN EARNINGS TOTAL
--------- ------ ---------- ---------- ----------
<S> <C> <C> <C> <C> <C>
Balance at December 31, 1993......................... 2,500 $1,000 $ -- $2,321,491 $2,322,491
Repurchase and retirement of common stock.......... -- -- -- -- --
Issuance of common stock........................... -- -- -- -- --
Net income......................................... -- -- -- 357,905 357,905
--------- ------ ---------- ---------- ----------
Balance at December 31, 1994......................... 2,500 1,000 -- 2,679,396 2,680,396
Repurchase and retirement of common stock.......... -- -- -- -- --
Issuance of common stock........................... -- -- -- -- --
Net income......................................... -- -- -- 123,843 123,843
--------- ------ ---------- ---------- ----------
Balance at December 31, 1995......................... 2,500 1,000 -- 2,803,239 2,804,239
Repurchase and retirement of common stock.......... -- -- -- -- --
Issuance of common stock........................... -- -- -- -- --
Net loss........................................... -- -- -- (857,963) (857,963)
--------- ------ ---------- ---------- ----------
Balance at October 31, 1996.......................... 2,500 $1,000 $ -- $1,945,276 $1,946,276
--------- ------ ---------- ---------- ----------
--------- ------ ---------- ---------- ----------
</TABLE>
See accompanying notes.
F-49
<PAGE>
SOUTH TEXAS SPINAL CLINIC, P.A.
STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
TEN MONTHS
YEAR ENDED ENDED
DECEMBER 31, OCTOBER 31,
---------------------- ------------
1994 1995 1996
--------- --------- ------------
<S> <C> <C> <C>
OPERATING ACTIVITIES
Net income (loss)........................................................ $ 357,905 $ 123,843 $ (857,963)
Adjustments to reconcile net income (loss) to net cash provided by
operating activities:
Depreciation........................................................... 88,065 90,012 74,914
Changes in operating assets and liabilities:
Accounts receivable................................................. (214,029) (37,952) 846,965
Deferred charges and other assets................................... (52,734) (29,209) 24,171
Accounts payable.................................................... 96,391 (40,829) 423,383
Accrued expenses and other liabilities.............................. 4,363 7,153 (1,194)
--------- --------- ------------
Net cash provided by operating activities................................ 279,961 113,018 510,276
INVESTING ACTIVITIES
Purchases of property and equipment...................................... (5,608) (12,176) (14,698)
Property and equipment under capital lease............................... -- 9,595 (2,601)
--------- --------- ------------
Net cash used in investing activities.................................... (5,608) (2,581) (17,299)
FINANCING ACTIVITY
Payments on notes payable to banks....................................... (245,000) (125,000) (104,167)
--------- --------- ------------
Net cash used in financing activity...................................... (245,000) (125,000) (104,167)
--------- --------- ------------
Net increase (decrease) in cash.......................................... 29,353 (14,563) 388,810
Cash and cash equivalents at beginning of year........................... 26,852 56,205 41,642
--------- --------- ------------
Cash and cash equivalents at end of year................................. $ 56,205 $ 41,642 $ 430,452
--------- --------- ------------
--------- --------- ------------
</TABLE>
See accompanying notes.
F-50
<PAGE>
SOUTH TEXAS SPINAL CLINIC, P.A.
STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
TEN MONTHS
YEAR ENDED ENDED
DECEMBER 31, OCTOBER 31,
---------------------- ------------
1994 1995 1996
--------- --------- ------------
<S> <C> <C> <C>
OPERATING ACTIVITIES
Net income (loss)........................................................ $ 357,905 $ 123,843 $ (857,963)
Adjustments to reconcile net income (loss) to net cash provided by
operating activities:
Depreciation........................................................... 88,065 90,012 74,914
Changes in operating assets and liabilities:
Accounts receivable................................................. (214,029) (37,952) 846,965
Deferred charges and other assets................................... (52,734) (29,209) 24,171
Accounts payable.................................................... 96,391 (40,829) 423,383
Accrued expenses and other liabilities.............................. 4,363 7,153 (1,194)
--------- --------- ------------
Net cash provided by operating activities................................ 279,961 113,018 510,276
INVESTING ACTIVITIES
Purchases of property and equipment...................................... (5,608) (12,176) (14,698)
Property and equipment under capital lease............................... -- 9,595 (2,601)
--------- --------- ------------
Net cash used in investing activities.................................... (5,608) (2,581) (17,299)
FINANCING ACTIVITY
Payments on notes payable to banks....................................... (245,000) (125,000) (104,167)
--------- --------- ------------
Net cash used in financing activity...................................... (245,000) (125,000) (104,167)
--------- --------- ------------
Net increase (decrease) in cash.......................................... 29,353 (14,563) 388,810
Cash and cash equivalents at beginning of year........................... 26,852 56,205 41,642
--------- --------- ------------
Cash and cash equivalents at end of year................................. $ 56,205 $ 41,642 $ 430,452
--------- --------- ------------
--------- --------- ------------
</TABLE>
See accompanying notes.
F-50
<PAGE>
SOUTH TEXAS SPINAL CLINIC, P.A.
NOTES TO FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 1994 AND 1995 AND
TEN MONTHS ENDED OCTOBER 31, 1996
1. DESCRIPTION OF THE BUSINESS
South Texas Spinal Clinic, P.A. (STSC) is an orthopedic physician practice
which services San Antonio, Texas, and the surrounding communities. STSC is
organized as a professional corporation (S corporation) under the laws of the
state of Texas.
Effective November 1, 1996, STSC entered into an agreement to sell
substantially all of the assets of STSC and enter into a management services
agreement with BMJ Medical Management, Inc. (BMJ).
The financial statements of STSC have been prepared as supplemental
information about the affiliated practices to which BMJ provides management
services. STSC previously operated as a separate professional association.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Revenue Recognition
Revenue is recorded at estimated net amounts to be received from
third-party payors and others for services rendered.
Laws and regulations governing the Medicare program are complex and subject
to interpretation. STSC believes that it is in compliance with all applicable
laws and regulations and is not aware of any pending or threatened
investigations involving allegations of potential wrongdoing. While no such
regulatory inquiries have been made, compliance with such laws and regulations
can be subject to future government review and interpretation as well as
significant regulatory action including fines, penalties, and exclusion from the
Medicare program.
Furniture, Fixtures, and Equipment
Furniture, fixtures, and equipment are stated at cost, less accumulated
depreciation, and are depreciated using the straight-line method over the
estimated useful lives of the assets, ranging from five (5) to twenty (20)
years.
Use of Estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities as of the date of the financial
statements and the reported amounts of revenue and expenses during the reporting
period. Actual results could differ from those estimates.
Presentation of Expenses
Physician and other provider services costs are composed primarily of
compensation and fees paid to physician and other health care providers and
include medical supplies and pharmaceutical expenses.
Medical support services costs include all indirect costs associated with
the management and operations of the practice.
F-51
<PAGE>
SOUTH TEXAS SPINAL CLINIC, P.A.
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
3. ACCOUNTS RECEIVABLE AND NET REVENUE
Accounts receivable consists of the following:
<TABLE>
<CAPTION>
DECEMBER 31, OCTOBER 31,
------------------------ -----------
1994 1995 1996
---------- ---------- -----------
<S> <C> <C> <C>
Gross patient accounts receivable........................... $3,122,491 $3,169,931 $ 2,711,718
Less allowances for contractual adjustments and
uncollectibles............................................ 624,498 633,986 1,022,738
---------- ---------- -----------
$2,497,993 $2,535,945 $ 1,688,980
---------- ---------- -----------
---------- ---------- -----------
Net revenue consists of the following:
<CAPTION>
DECEMBER 31, OCTOBER 31,
------------------------ -----------
1994 1995 1996
---------- ---------- -----------
<S> <C> <C> <C>
Gross patient revenue....................................... $8,717,201 $9,685,260 $10,045,273
Less contractual adjustments and uncollectibles............. 1,743,440 1,937,052 4,018,109
---------- ---------- -----------
$6,973,761 $7,748,208 $ 6,027,164
---------- ---------- -----------
---------- ---------- -----------
</TABLE>
4. FURNITURE, FIXTURES, AND EQUIPMENT
Furniture, fixtures, and equipment consist of the following:
<TABLE>
<CAPTION>
DECEMBER 31, OCTOBER 31,
-------------------- -----------
1994 1995 1996
-------- -------- -----------
<S> <C> <C> <C>
Furniture, fixtures, and equipment................................. $674,272 $676,117 $ 690,815
Equipment under capital leases..................................... -- 10,330 10,330
-------- -------- -----------
674,272 686,447 701,145
Less accumulated depreciation and amortization..................... 120,173 210,184 285,098
-------- -------- -----------
$554,099 $476,263 $ 416,047
-------- -------- -----------
-------- -------- -----------
</TABLE>
5. NOTES PAYABLE
Notes payable consists of the following:
<TABLE>
<CAPTION>
DECEMBER 31, OCTOBER 31,
-------------------- -----------
1994 1995 1996
-------- -------- -----------
<S> <C> <C> <C>
Note payable to bank with maturity date of August 26, 1997, with a
variable interest rate based upon the Prime rate as described in
the note agreement at each monthly payment date. (effective rate
of 8.5%, 9.5% and 9.25%, at December 31, 1994 and 1995 and
October 31, 1996, respectively).................................. $333,333 $208,333 $ 104,166
Less current maturities............................................ 125,000 125,000 104,166
-------- -------- -----------
$208,333 $ 83,333 $ --
-------- -------- -----------
-------- -------- -----------
</TABLE>
The note payable to the bank is collateralized by the assets of STSC. The
note payable requires STSC to comply with certain covenants. Actual interest
payments were $36,956, $27,246, and $12,583 during the years ended December 31,
1994, 1995, and the ten months ended October 31, 1996, respectively.
6. LEASE COMMITMENTS
STSC leases various equipment, clinic and office space, and office
buildings under operating leases and certain computer and medical equipment
under capital leases. Rent expenses charged to operations totaled approximately
$837,662, $868,272, and $460,623 during the years ended December 31, 1994, 1995,
and the ten months ended October 31, 1996, respectively.
F-52
<PAGE>
SOUTH TEXAS SPINAL CLINIC, P.A.
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
6. LEASE COMMITMENTS--(CONTINUED)
The lease commitments for the two months ending December 31, 1996 and for
the next five years ending December 31 are as follows:
<TABLE>
<CAPTION>
OPERATING CAPITAL LEASES CAPITAL LEASES
LEASES PRINCIPAL INTEREST
--------- -------------- --------------
<S> <C> <C> <C>
1996......................................................... $ 77,778 $ 550 $129
1997......................................................... 471,963 3,526 547
1998......................................................... 442,126 2,916 138
1999......................................................... 419,015 -- --
2000......................................................... 402,237 -- --
2001......................................................... 388,524 -- --
</TABLE>
7. INCOME TAXES
STSC has historically not incurred significant tax liabilities for federal
income taxes. STSC has been organized as an S corporation and, accordingly,
income tax liabilities are the responsibility of the respective owners.
8. BENEFIT PLANS
STSC maintains a defined contribution plan for employees who meet the
minimum length of service and age requirements. Under the plan, STSC makes
contributions equal to 50% up to a maximum of 5% of the employee's contribution.
STSC is responsible for the administration of the plan as the plan administrator
and trustee. STSC's contributions totaled $216,660, $21,329, and $15,177 in the
years ended December 31, 1994, 1995, and the ten-month period ended October 31,
1996, respectively.
9. CONTINGENCIES
STSC is involved in various legal proceedings in the ordinary course of
business. STSC does not believe that the disposition of such legal proceedings
and disputes will have a material adverse effect on the financial position and
results of operations of STSC.
STSC procures professional liability coverage on behalf of its physicians
on a claims-made basis. The insurance contracts specify that coverage is
available only during the term of each insurance contract. Management of STSC
intends to renew the existing claims-made policy annually and expects to be able
to obtain such coverage. Whenever coverage is not renewed, STSC purchases an
extended reporting period endorsement to provide professional liability coverage
for losses incurred prior to, but reported subsequent to, the termination of the
claims-made policies.
10. RELATED PARTY TRANSACTIONS
STSC leases office space from Meadows Enterprises, an entity under common
ownership. Monthly rental expense is $29,498. Rental expenses for the periods
ending December 31, 1994, December 31, 1995, and October 31, 1996 were $294,842,
$361,104, and $311,653, respectively.
Meadows, Dennis, Denno, G.P., an entity under common ownership, provides
certain furniture, fixtures, and equipment for use in STSC's operations. STSC
pays rents to Meadows, Dennis, Denno, G.P. in excess of fair market value. Total
payments made during the years ended December 31, 1994, 1995, and the ten-month
period ended October 31, 1996 were $417,050, $357,000, and $35,850,
respectively.
F-53
<PAGE>
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
Board of Directors
Tri-City Orthopedic Surgery
Medical Group, Inc.
We have audited the accompanying balance sheets of Tri-City Orthopedic Surgery
Medical Group, Inc. (Tri-City) as of December 31, 1995 and 1996, and the related
statements of operations, stockholders' equity (deficit), and cash flows for the
years then ended. These financial statements are the responsibility of
Tri-City's management. Our responsibility is to express an opinion on these
financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Tri-City at December 31, 1995
and 1996, and the results of its operations and its cash flows for the years
then ended in conformity with generally accepted accounting principles.
ERNST & YOUNG, LLP
West Palm Beach, Florida
May 17, 1997
F-54
<PAGE>
TRI-CITY ORTHOPEDIC SURGERY
MEDICAL GROUP, INC.
BALANCE SHEETS
<TABLE>
<CAPTION>
DECEMBER 31,
--------------------
1995 1996
-------- --------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents............................................................... $ 65,569 $ --
Accounts receivable, net................................................................ 544,056 538,503
Prepaid expenses and other current assets............................................... 31,520 30,976
-------- --------
Total current assets...................................................................... 641,145 569,479
Furniture, fixtures and equipment, net.................................................... 182,010 160,418
-------- --------
Total assets.............................................................................. $823,155 $729,897
-------- --------
-------- --------
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable........................................................................ $ 50,703 $ 56,967
Accrued shareholders' salaries.......................................................... 245,398 182,159
Accrued expenses and other current liabilities.......................................... 183,404 222,960
Current portion of notes payable........................................................ 32,369 19,150
Deferred income taxes................................................................... 98,546 83,324
-------- --------
Total current liabilities................................................................. 610,420 564,560
Notes payable, less current portion....................................................... 22,058 2,908
Stockholders' equity:
Common stock, $10 par value--2,500 shares authorized, 360 shares issued and outstanding
in 1995 and 1996..................................................................... 3,600 3,600
Retained earnings....................................................................... 187,077 158,829
-------- --------
Total stockholders' equity................................................................ 190,677 162,429
-------- --------
Total liabilities and stockholders' equity................................................ $823,155 $729,897
-------- --------
-------- --------
</TABLE>
See accompanying notes
F-55
<PAGE>
TRI-CITY ORTHOPEDIC SURGERY
MEDICAL GROUP, INC.
STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
YEAR ENDED
DECEMBER 31,
----------------------------
1995 1996
----------- -----------
<S> <C> <C>
Practice revenues, net........................................................ $ 3,643,823 $ 3,477,532
Costs and expenses:
Physician and other provider services....................................... 2,084,397 1,701,682
Medical support services.................................................... 1,546,366 1,460,504
Depreciation................................................................ 39,604 31,867
Interest.................................................................... 4,827 2,884
Rent--related party......................................................... 323,959 324,065
----------- -----------
Total costs and expenses...................................................... 3,999,153 3,521,002
----------- -----------
Loss before income taxes.................................................... (355,330) (43,470)
Income tax benefit.......................................................... 150,005 15,222
----------- -----------
Net loss...................................................................... $ (205,325) $ (28,248)
----------- -----------
----------- -----------
</TABLE>
See accompanying notes.
F-56
<PAGE>
TRI-CITY ORTHOPEDIC SURGERY
MEDICAL GROUP, INC.
STATEMENT OF STOCKHOLDERS' EQUITY
<TABLE>
<CAPTION>
COMMON STOCK
-------------------- TOTAL
NUMBER RETAINED STOCKHOLDERS'
OF SHARES AMOUNT EARNINGS EQUITY
---------- ------ --------- -------------
<S> <C> <C> <C> <C>
Balance at January 1, 1995...................................... 360 $3,600 $ 392,402 $ 396,002
Net loss...................................................... -- -- (205,325) (205,325)
--- ------ --------- -------------
Balance at December 31, 1995.................................... 360 3,600 187,077 190,677
Net loss...................................................... -- -- (28,248) (28,248)
--- ------ --------- -------------
Balance at December 31, 1996.................................... 360 3,600 158,829 162,429
--- ------ --------- -------------
--- ------ --------- -------------
</TABLE>
See accompanying notes.
F-57
<PAGE>
TRI-CITY ORTHOPEDIC SURGERY
MEDICAL GROUP, INC.
STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
YEAR ENDED
DECEMBER 31,
--------------------
1995 1996
--------- --------
<S> <C> <C>
OPERATING ACTIVITIES:
Net loss................................................................................... $(205,325) $(28,248)
Adjustments to reconcile net loss to net cash provided by (used in) operating activities:
Depreciation............................................................................. 39,604 31,867
Income tax benefit....................................................................... (150,005) (15,222)
Changes in operating assets and liabilities:
Accounts receivable................................................................... 351,843 5,553
Prepaid expenses and other current assets............................................. (5,921) 544
Accounts payable...................................................................... 1,664 6,264
Accrued expenses and other current liabilities........................................ 43,761 (23,683)
--------- --------
Net cash provided by (used in) operating activities........................................ 75,621 (22,925)
INVESTING ACTIVITY:
Purchases of furniture, fixtures and equipment............................................. (11,288) (10,275)
--------- --------
Net cash used in investing activity........................................................ (11,288) (10,275)
FINANCING ACTIVITIES:
Payments on notes payable.................................................................. (30,178) (32,369)
--------- --------
Net cash used in financing activities...................................................... (30,178) (32,369)
--------- --------
Net increase (decrease) in cash and
cash equivalents......................................................................... 34,155 (65,569)
Cash and cash equivalents at beginning of year............................................. 31,414 65,569
--------- --------
Cash and cash equivalents at end of year................................................... $ 65,569 $ --
--------- --------
--------- --------
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid for interest..................................................................... $ 4,827 $ 2,884
--------- --------
--------- --------
</TABLE>
See accompanying notes.
F-58
<PAGE>
TRI-CITY ORTHOPEDIC SURGERY
MEDICAL GROUP, INC.
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1995 AND 1996
1. DESCRIPTION OF THE BUSINESS
Tri-City Orthopedic Surgery Medical Group, Inc. (Tri-City) was incorporated
as a C corporation on October 26, 1972 under the laws of the State of
California. Tri-City specializes in providing orthopedic medical and surgical
services and related medical and ancillary services in San Diego County.
Tri-City receives payment for patient services from the federal government
primarily under the Medicare program, state governments under their respective
Medicaid programs, health maintenance organizations, preferred provider
organizations and other private insurers, and directly from patients.
On April 1, 1997, Tri-City entered into a management services agreement
with BMJ Medical Management, Inc. (BMJ) and agreed to sell substantially all of
its assets.
The financial statements of Tri-City have been prepared as supplemental
information about the affiliated practices to which BMJ provides management
services. Tri-City previously operated as a separate corporation.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Revenue Recognition
Revenue is recorded at estimated net amounts to be received from third
party payors and others for services rendered.
Laws and regulations governing the Medicare and Medi-Cal programs are
complex and subject to interpretation. Tri-City believes that it is in
compliance with all applicable laws and regulations and is not aware of any
pending or threatened investigations involving allegations of potential
wrongdoing. While no such regulatory inquiries have been made, compliance with
such laws and regulations can be subject to future government review and
interpretation as well as significant regulatory action including fines,
penalties, and exclusion from the Medicare and Medi-Cal programs.
Furniture, Fixtures and Equipment
Furniture, fixtures and equipment are stated at cost, less accumulated
depreciation, and are depreciated using the straight-line method over the
estimated useful lives of the assets, ranging from five to ten years.
Income Taxes
Tri-City accounts for income taxes under FASB Statement No. 109, Accounting
for Income Taxes. Deferred income tax assets and liabilities are determined
based upon differences between financial reporting and tax losses of assets and
liabilities and are measured using the enacted tax rates that will be in effect
when the differences are expected to reverse.
Use of Estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements. Estimates also affect the reported amounts of revenue and expenses
during the reporting period. Actual results could differ from those estimates.
Costs and Expenses
Physician and other provider services costs are comprised primarily of
compensation and fees paid to physicians and other health care providers.
F-59
<PAGE>
TRI-CITY ORTHOPEDIC SURGERY
MEDICAL GROUP, INC.
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES--(CONTINUED)
Medical support services costs include all indirect costs associated with
the management and operations of the practice and all direct costs associated
with medical supplies and pharmaceutical expenses.
3. ACCOUNTS RECEIVABLE
Accounts receivable consist of the following:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
-----------------------
1995 1996
-------- --------
<S> <C> <C>
Gross patient accounts receivable............................................... $942,225 $889,189
Less allowances for contractual adjustments and uncollectibles.................. 398,169 350,686
-------- --------
$544,056 $538,503
-------- --------
-------- --------
</TABLE>
4. FURNITURE, FIXTURES AND EQUIPMENT
Furniture, fixtures and equipment consist of the following:
<TABLE>
<CAPTION>
DECEMBER 31,
--------------------
1995 1996
-------- --------
<S> <C> <C>
Furniture, fixtures and equipment............................................... $211,229 $221,403
Automobiles..................................................................... 224,819 224,819
Leasehold improvements.......................................................... 15,331 15,432
-------- --------
451,379 461,654
Less accumulated depreciation and amortization.................................. 269,369 301,236
-------- --------
$182,010 $160,418
-------- --------
-------- --------
</TABLE>
5. NOTES PAYABLE
Notes payable consist of the following:
<TABLE>
<CAPTION>
DECEMBER 31,
------------------
1995 1996
------- -------
<S> <C> <C>
Bank promissory note, secured by an automobile, bearing interest at 4.90%,
principal and interest payable monthly at $734.50 through April 9, 1998......... $19,396 $11,354
Bank promissory note, secured by an automobile, bearing interest at 7.75%,
principal and interest payable monthly at $2,182.44 through May 31, 1997........ 35,031 10,704
------- -------
54,427 22,058
Less current portion.............................................................. 32,369 19,150
------- -------
$22,058 $ 2,908
------- -------
------- -------
</TABLE>
F-60
<PAGE>
TRI-CITY ORTHOPEDIC SURGERY
MEDICAL GROUP, INC.
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
5. NOTES PAYABLE--(CONTINUED)
At December 31, 1996, annual principal payments on notes payable are as
follows:
<TABLE>
<S> <C>
1997............................................................................... $19,150
1998............................................................................... 2,908
-------
$22,058
-------
-------
</TABLE>
On December 23, 1996, Tri-City entered into an unsecured line of credit
arrangement with a bank which matures on March 30, 1998. The line of credit
permits borrowings up to $150,000 and is guaranteed by the shareholders of
Tri-City. Interest on the line of credit is payable monthly at prime plus 1%,
with the entire principal due at maturity. As of December 31, 1996, Tri-City had
not drawn against the line of credit. On January 3, 1997 and January 17, 1997,
Tri-City drew $100,000 and $50,000, respectively, on the line of credit.
6. LEASE COMMITMENTS
Tri-City leases various equipment, clinic and office space under operating
leases with a related party, Tri-City Orthopedic Building Partners (TCOBP), on a
month to month basis. Rent expense charged to operations totaled approximately
$324,000 during both 1995 and 1996.
Tri-City also leases an office building under a noncancelable lease with
TCOBP with future minimum rental commitments at December 31, 1996 as follows:
<TABLE>
<S> <C>
1997............................................................................ $ 228,936
1998............................................................................ 228,000
1999............................................................................ 228,000
2000............................................................................ 228,000
2001............................................................................ 228,000
Thereafter...................................................................... 3,021,000
----------
$4,161,936
----------
----------
</TABLE>
7. INCOME TAXES
The components of the income tax provision (benefit) are as follows:
<TABLE>
<CAPTION>
DECEMBER 31,
---------------------
1995 1996
--------- --------
<S> <C> <C>
Current........................................................................ $ -- $ --
Deferred....................................................................... (150,005) (15,222)
--------- --------
Total.......................................................................... $(150,005) $(15,222)
--------- --------
--------- --------
</TABLE>
F-61
<PAGE>
TRI-CITY ORTHOPEDIC SURGERY
MEDICAL GROUP, INC.
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
7. INCOME TAXES--(CONTINUED)
Deferred income taxes reflected the net tax effects of temporary
differences between the carrying amount of assets and liabilities for financial
reporting purposes and the amounts used for income tax purposes. Significant
components of Tri-City's net deferred income taxes are as follows:
<TABLE>
<CAPTION>
DECEMBER 31,
---------------------
1995 1996
--------- --------
<S> <C> <C>
Deferred tax assets:
Depreciation................................................................. $ 241 $ 1,978
Charitable contributions..................................................... 2,304 2,943
NOL carryforward............................................................. 7,477 3,371
--------- --------
Deferred tax assets.......................................................... 10,022 8,292
Less valuation allowance..................................................... -- --
--------- --------
Total deferred tax assets...................................................... 10,022 8,292
Deferred tax liabilities:
Net cash to accrual conversion................................................. (108,568) (91,616)
--------- --------
Total deferred tax liabilities................................................. (108,568) (91,616)
--------- --------
Total net deferred taxes....................................................... $ (98,546) $(83,324)
--------- --------
--------- --------
</TABLE>
At December 31, 1996, Tri-City has available net operating loss
carryforwards of $8,212, which expire in the years 2009 and 2011.
8. BENEFIT PLANS
Tri-City maintains a defined contribution plan under the provisions of
Section 401(k) of the Internal Revenue Code. Employees who meet the minimum
length of service and age requirements are eligible for participation. Tri-City
is responsible for the administration of the plan as the plan administrator and
trustee. Under the provisions of the plan, contributions by Tri-City are
discretionary. Tri-City did not make any contributions to the plan in 1995 or
1996.
9. CONTINGENCIES
Tri-City procures professional liability coverage on behalf of its
physicians on a claims made basis. The insurance contracts specify that coverage
is available only during the term of each insurance contract and cover only
those claims reported while the policies are in force. An estimate of losses for
incurred but unreported claims is recorded based upon historical experience.
Management of Tri-City intends to renew the existing claims made policy annually
and expects to be able to obtain such coverage. If coverage is not renewed,
Tri-City intends to purchase extended reporting period endorsements to provide
professional liability coverage for losses incurred prior to, but reported
subsequent to, the termination of the claims made policies.
10. SUBSEQUENT EVENT
In March 1997, Tri-City issued 60 shares of common stock to an orthopedic
physician who joined the practice.
F-62
<PAGE>
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
Partners
Lauderdale Orthopaedic Surgeons
We have audited the accompanying balance sheets of Lauderdale Orthopaedic
Surgeons (LOS) as of December 31, 1995 and 1996, and the related statements of
income and changes in partners' capital, and cash flows for the years then
ended. These financial statements are the responsibility of LOS' management. Our
responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of LOS at December 31, 1995 and
1996, and the results of its operations and its cash flows for the years then
ended in conformity with generally accepted accounting principles.
ERNST & YOUNG, LLP
West Palm Beach, Florida
May 21, 1997
F-63
<PAGE>
LAUDERDALE ORTHOPAEDIC SURGEONS
BALANCE SHEETS
<TABLE>
<CAPTION>
DECEMBER 31,
------------------------
1995 1996
---------- ----------
<S> <C> <C>
ASSETS
Current assets:
Cash................................................................................ $ 35,426 $ 108,900
Investments available for sale...................................................... 55,929 77,796
Accounts receivable, net............................................................ 2,134,318 2,354,577
Prepaid expenses and other current assets........................................... 30,214 25,650
---------- ----------
Total current assets.................................................................. 2,255,887 2,566,923
Furniture, fixtures and equipment, net................................................ 177,058 143,695
Other assets.......................................................................... 877 585
---------- ----------
Total assets.......................................................................... $2,433,822 $2,711,203
---------- ----------
---------- ----------
LIABILITIES AND PARTNERS' CAPITAL
Current liabilities:
Patients refunds.................................................................... $ 402,073 $ 471,328
Accounts payable.................................................................... 138,328 78,645
Accrued expenses and other current liabilities...................................... 344,285 295,831
Current portion of long-term debt................................................... 100,000 100,000
---------- ----------
Total current liabilities............................................................. 984,686 945,804
Long-term debt, less current portion.................................................. 150,000 50,000
Commitments and contingencies.........................................................
Partners' capital..................................................................... 1,299,136 1,715,399
---------- ----------
Total liabilities and partners' capital............................................... $2,433,822 $2,711,203
---------- ----------
---------- ----------
</TABLE>
See accompanying notes.
F-64
<PAGE>
LAUDERDALE ORTHOPAEDIC SURGEONS
STATEMENTS OF INCOME AND CHANGES IN PARTNERS' CAPITAL
<TABLE>
<CAPTION>
YEAR ENDED
DECEMBER 31,
--------------------------
1995 1996
---------- ----------
<S> <C> <C>
Practice revenues, net.......................................................... $5,980,594 $6,365,320
Other income.................................................................... 11,610 39,555
---------- ----------
Total revenue................................................................... 5,992,204 6,404,875
Costs and expenses:
Physician and other provider services......................................... 3,458,807 3,696,522
Medical support services...................................................... 1,606,300 1,771,864
Medical support services--related party....................................... 100,015 96,761
Depreciation.................................................................. 68,279 58,930
Interest...................................................................... 30,666 18,253
Rent.......................................................................... 135,042 151,053
Rent--related party........................................................... 206,000 212,867
---------- ----------
Total costs and expenses........................................................ 5,605,109 6,006,250
---------- ----------
Net income...................................................................... 387,095 398,625
---------- ----------
Partners' capital, beginning of year............................................ 894,995 1,299,136
Increase in unrealized gain on available for sale investments................... 17,046 17,638
---------- ----------
Partners' capital, end of year.................................................. $1,299,136 $1,715,399
---------- ----------
---------- ----------
</TABLE>
See accompanying notes.
F-65
<PAGE>
LAUDERDALE ORTHOPAEDIC SURGEONS
STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
YEAR ENDED
DECEMBER 31,
---------------------
1995 1996
--------- ---------
<S> <C> <C>
OPERATING ACTIVITIES:
Net income................................................................................ $ 387,095 $ 398,625
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation............................................................................ 68,279 58,930
Changes in operating assets and liabilities:
Accounts receivable.................................................................. (794,618) (220,259)
Prepaid expenses and other current assets............................................ (2,557) 4,564
Patients refunds..................................................................... 402,073 69,255
Accounts payable..................................................................... 35,895 (59,683)
Accrued expenses and other current
liabilities........................................................................ 45,950 (48,452)
--------- ---------
Net cash provided by operating activities................................................. 142,117 202,980
INVESTING ACTIVITIES:
Purchases of furniture, fixtures and equipment............................................ (7,174) (25,274)
Purchases of investments available for sale............................................... (7,605) (4,232)
--------- ---------
Net cash used in investing activities..................................................... (14,779) (29,506)
FINANCING ACTIVITIES
Payments on note payable to bank.......................................................... (100,000) (100,000)
--------- ---------
Net cash used in financing activities..................................................... (100,000) (100,000)
--------- ---------
Net increase in cash...................................................................... 27,338 73,474
Cash at beginning of year................................................................. 8,088 35,426
--------- ---------
Cash at end of year....................................................................... $ 35,426 $ 108,900
--------- ---------
--------- ---------
</TABLE>
See accompanying notes.
F-66
<PAGE>
LAUDERDALE ORTHOPAEDIC SURGEONS
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1995 AND 1996
1. DESCRIPTION OF THE BUSINESS
Lauderdale Orthopaedic Surgeons (LOS) is an orthopedic physician practice
which serves patients in Broward County, Florida. LOS is organized as a
partnership under the laws of the state of Florida.
On April 1, 1997, LOS agreed in principle to a management services
agreement with BMJ Medical Management, Inc. (BMJ) and agreed to sell
substantially all of its assets.
The financial statements of LOS have been prepared as supplemental
information about the affiliated practices to which BMJ provides management
services. LOS previously operated as a separate partnership.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Revenue Recognition
Revenue is recorded at estimated net amounts to be received from third
party payors and others for services rendered.
Laws and regulations governing the Medicare program are complex and subject
to interpretation. LOS believes that it is in compliance with all applicable
laws and regulations and is not aware of any pending or threatened
investigations involving allegations of potential wrongdoing. While no such
regulatory inquiries have been made, compliance with such laws and regulations
can be subject to future government review and interpretation as well as
significant regulatory action including fines, penalties, and exclusion from the
Medicare program.
Investments Available for Sale
Investments available for sale are carried at fair market value, with
resulting unrealized holding gains and losses reported as a separate component
of partners' capital. Realized gains and losses and declines in value judged to
be other-than-temporary on investments available for sale are included in other
income. The cost of securities sold is based on the specific identification
method. Interest and dividends on investments classified as available-for-sale
are included in other income.
Concentration of Credit Risk
LOS grants credit without collateral to its patients, most of whom are
local residents and are insured under third-party payor agreements. Management
believes credit risk associated with accounts receivable is minimal.
Furniture, Fixtures and Equipment
Furniture, fixtures and equipment, including leasehold improvements, are
stated at cost, less accumulated depreciation, and are depreciated using the
straight line method over the estimated useful lives of the assets, ranging from
5 to 20 years.
Use of Estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenue and expenses during the reporting
period. Actual results could differ from those estimates.
F-67
<PAGE>
LAUDERDALE ORTHOPAEDIC SURGEONS
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES--(CONTINUED)
Costs and Expenses
Physician and other provider services costs are comprised primarily of
compensation and fees paid to physicians and other health care providers.
Medical support services costs include all indirect costs associated with
the management and operations of the practice and all direct costs associated
with medical supplies and pharmaceutical expenses.
Financial Instruments
The carrying amounts of financial instruments as reported in the
accompanying balance sheets approximate their fair value primarily due to the
short-term nature of such financial instruments.
3. INVESTMENTS AVAILABLE FOR SALE
Investments available for sale consist of the following:
<TABLE>
<CAPTION>
GROSS
UNREALIZED FAIR
COST GAINS VALUE
------- ---------- -------
<S> <C> <C> <C>
December 31, 1995:
Corporate equities.................................................. $31,273 $ 24,656 $55,929
------- ---------- -------
------- ---------- -------
December 31, 1996:
Corporate equities.................................................. $35,505 $ 42,291 $77,796
------- ---------- -------
------- ---------- -------
</TABLE>
In accordance with Statement of Financial Accounting Standard No. 115,
Accounting for Certain Investments in Debt and Equity Securities, unrealized
holding gains on available-for-sale securities of $24,656 and $42,291 are
included as a separate component of partners' capital at December 31, 1995 and
1996, respectively.
Gross realized gains and losses from the sale of investments available for
sale were not material for the years ended December 31, 1995 and 1996.
4. ACCOUNTS RECEIVABLE
Accounts receivable consist of the following:
<TABLE>
<CAPTION>
DECEMBER 31,
--------------------------
1995 1996
----------- -----------
<S> <C> <C>
Gross patient accounts receivable........................... $ 4,662,946 $ 5,300,172
Less allowances for contractual adjustments and
uncollectibles............................................ 2,528,628 2,945,595
----------- -----------
$ 2,134,318 $ 2,354,577
----------- -----------
----------- -----------
</TABLE>
F-68
<PAGE>
LAUDERDALE ORTHOPAEDIC SURGEONS
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
5. FURNITURE, FIXTURES AND EQUIPMENT
Furniture, fixtures and equipment consist of the following:
<TABLE>
<CAPTION>
DECEMBER 31,
----------------------
1995 1996
--------- ---------
<S> <C> <C>
Furniture, fixtures and equipment............................... $ 487,241 $ 462,847
Leasehold improvements.......................................... 522,678 527,179
Less accumulated depreciation and amortization.................. 832,861 846,331
--------- ---------
$ 177,058 $ 143,695
--------- ---------
--------- ---------
</TABLE>
6. LONG TERM DEBT
Long term debt consists of a note payable to a bank bearing interest at the
bank's prime lending rate plus 1.25% (9.75% and 9.5% as of December 31, 1995 and
1996, respectively), with monthly payments of $8,333 plus interest, maturing
June 30, 1998. Maturities of the note are $100,000 for 1997 and $50,000 for
1998. The note is secured by substantially all of the assets of LOS and is
guaranteed by three of the partners. The note was paid in full in May 1997. LOS
paid approximately $31,000 and $18,000 of interest in 1995 and 1996,
respectively.
7. LEASE COMMITMENTS
LOS leases various equipment, clinic and office space under operating
leases. Future minimum rental commitments under noncancelable operating leases
(with an initial or remaining term in excess of one year) at December 31, 1996
are approximately as follows (including leases with related parties):
<TABLE>
<CAPTION>
YEARS ENDING
DECEMBER 31,
------------
<S> <C>
1997........................................................ $ 335,000
1998........................................................ 296,000
1999........................................................ 218,000
2000........................................................ 218,000
2001........................................................ 145,000
------------
$1,212,000
------------
------------
</TABLE>
8. INCOME TAXES
LOS was formed as a partnership under the Federal Internal Revenue Code. As
a result, in lieu of corporate income tax, LOS' taxable income is passed through
to the partners and taxed at the partner level. Accordingly, no provision or
liability for income tax has been reflected in the financial statements.
9. CONTINGENCIES
LOS procures professional liability coverage on behalf of its physicians on
a claims made basis. The insurance contracts specify that coverage is available
only during the term of each insurance contract and cover only those claims
reported while the policies are in force. An estimate of losses for incurred but
unreported claims is recorded based upon historical experience. Management of
LOS intends to renew the existing claims made policy annually and expects to be
able to obtain such coverage. If coverage is not renewed, LOS intends to
purchase extended reporting period endorsements to provide professional
liability coverage for losses incurred prior to, but reported subsequent to, the
termination of the claims made policies.
F-69
<PAGE>
LAUDERDALE ORTHOPAEDIC SURGEONS
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
10. RELATED PARTY TRANSACTIONS
LOS leases medical office space from an entity controlled by one of the
partners. The lease expires in 2001 and contains renewal options. Rent expense
incurred under the lease was approximately $206,000 and $213,000 for the years
ended December 31, 1995 and 1996, respectively.
Under the terms of a management agreement, LOS incurs expenses to an entity
controlled by the partners for diagnostic equipment rental and other overhead
charges. Expenses incurred under this contract were approximately $100,000 and
$97,000 for the years ended December 31, 1995 and 1996, respectively.
F-70
<PAGE>
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
Board of Directors
Fishman and Stashak, M.D.'s, P.A.
d/b/a Gold Coast Orthopedics
We have audited the accompanying balance sheets of Fishman and Stashak, M.D.'s,
P.A. d/b/a Gold Coast Orthopedics (Gold Coast) as of December 31, 1995 and 1996,
and the related statements of income, stockholders' equity, and cash flows for
the years then ended. These financial statements are the responsibility of Gold
Coast's management. Our responsibility is to express an opinion on these
financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Gold Coast at December 31, 1995
and 1996, and the results of its operations and its cash flows for the years
then ended in conformity with generally accepted accounting principles.
ERNST & YOUNG, LLP
West Palm Beach, Florida
July 9, 1997
F-71
<PAGE>
FISHMAN AND STASHAK, M.D.'S, P.A.
D/B/A GOLD COAST ORTHOPEDICS
BALANCE SHEETS
<TABLE>
<CAPTION>
DECEMBER 31,
------------------------
1995 1996
---------- ----------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents........................................................... $ -- $ --
Accounts receivable, net............................................................ 1,586,752 1,756,545
Advance to stockholder.............................................................. 4,606 --
Prepaid expenses.................................................................... 43,606 74,748
---------- ----------
Total current assets.................................................................. 1,634,964 1,831,293
Furniture, fixtures and equipment, net................................................ 171,194 141,298
---------- ----------
Total assets.......................................................................... $1,806,158 $1,972,591
---------- ----------
---------- ----------
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable.................................................................... $ 24,935 $ 33,605
Accrued consulting fee.............................................................. -- --
Due to BMJ Medical Management, Inc.................................................. -- --
Due to stockholder.................................................................. 18,893 --
Accrued compensation................................................................ 130,732 101,209
Accrued professional liability insurance............................................ 130,271 166,131
Accrued profit sharing plan contribution............................................ 50,000 --
Current portion of long-term debt................................................... 141,118 146,080
---------- ----------
Total current liabilities............................................................. 495,949 447,025
Long-term debt........................................................................ 279,232 230,357
Stockholders' equity:
Common stock, $1 par value--1,000 shares authorized, 600 shares issued and
outstanding
in 1995, 1996 and 1997........................................................... 600 600
Retained earnings................................................................... 1,030,377 1,294,609
---------- ----------
Total stockholders' equity............................................................ 1,030,977 1,295,209
---------- ----------
Total liabilities and stockholders' equity............................................ $1,806,158 $1,972,591
---------- ----------
---------- ----------
</TABLE>
See accompanying notes.
F-72
<PAGE>
FISHMAN AND STASHAK, M.D.'S, P.A.
D/B/A GOLD COAST ORTHOPEDICS
STATEMENTS OF INCOME
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
------------------------
1995 1996
---------- ----------
<S> <C> <C>
Practice revenues, net................................................................ $3,236,573 $3,433,831
Costs and expenses:
Physician and other provider services............................................... 1,414,343 1,785,478
Medical support services............................................................ 1,290,412 1,204,912
Management service fee.............................................................. -- --
Depreciation........................................................................ 40,823 33,163
Interest............................................................................ 44,821 30,940
Rent................................................................................ 121,454 115,106
---------- ----------
Total costs and expenses.............................................................. 2,911,853 3,169,599
---------- ----------
Net income............................................................................ $ 324,720 $ 264,232
---------- ----------
---------- ----------
</TABLE>
See accompanying notes.
F-73
<PAGE>
FISHMAN AND STASHAK, M.D.'S, P.A.
D/B/A GOLD COAST ORTHOPEDICS
STATEMENTS OF STOCKHOLDERS' EQUITY
<TABLE>
<CAPTION>
COMMON STOCK
------------------- TOTAL
NUMBER RETAINED STOCKHOLDERS'
OF SHARES AMOUNT EARNINGS EQUITY
--------- ------ ---------- -------------
<S> <C> <C> <C> <C>
Balance at January 1, 1995...................................... 600 $600 $ 705,657 $ 706,257
Net income.................................................... -- -- 324,720 324,720
--------- ------ ---------- -------------
Balance at December 31, 1995.................................... 600 600 1,030,377 1,030,977
Net income.................................................... -- -- 264,232 264,232
--------- ------ ---------- -------------
Balance at December 31, 1996.................................... 600 $600 $1,294,609 $ 1,295,209
--------- ------ ---------- -------------
--------- ------ ---------- -------------
</TABLE>
See accompanying notes.
F-74
<PAGE>
FISHMAN AND STASHAK, M.D.'S, P.A.
D/B/A GOLD COAST ORTHOPEDICS
STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
YEAR ENDED
DECEMBER 31,
---------------------
1995 1996
--------- ---------
<S> <C> <C>
OPERATING ACTIVITIES
Net income................................................................................. $ 324,720 $ 264,232
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation............................................................................. 40,823 33,163
Bonus paid with note payable............................................................. 200,000 --
Changes in operating assets and liabilities:
Accounts receivable................................................................... (179,258) (169,793)
Prepaid expenses...................................................................... (38,835) (31,142)
Accounts payable...................................................................... (32,127) 8,670
Accrued consulting fee................................................................ -- --
Due to BMJ Medical Management, Inc. .................................................. -- --
Accrued compensation.................................................................. 119,270 (29,523)
Accrued professional liability insurance.............................................. (157,201) 35,860
Accrued profit sharing plan contribution.............................................. 50,000 (50,000)
--------- ---------
Net cash provided by operating activities.................................................. 327,392 61,467
INVESTING ACTIVITIES
Advance to stockholder..................................................................... (8,000) --
Payments received on advance to stockholder................................................ 3,394 4,606
Purchases of furniture, fixtures and equipment............................................. (73,269) (3,267)
--------- ---------
Net cash (used in) provided by investing activities........................................ (77,875) 1,339
FINANCING ACTIVITIES
Distributions to stockholders.............................................................. -- --
Payments on due to stockholder............................................................. (75,000) (100,893)
Proceeds of loan from stockholder.......................................................... 82,000
Proceeds of related party advance.......................................................... 55,000
Payments on related party advance.......................................................... (55,000)
Proceeds from long-term debt............................................................... 100,000 157,500
Payments on long-term debt................................................................. (274,517) (201,413)
--------- ---------
Net cash used in financing activities...................................................... (249,517) (62,806)
--------- ---------
Net change in cash and cash equivalents.................................................... -- --
Cash and cash equivalents at beginning of period........................................... -- --
--------- ---------
Cash and cash equivalents at end of period................................................. $ -- $ --
--------- ---------
--------- ---------
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
Cash paid for interest..................................................................... $ 46,932 $ 30,940
--------- ---------
--------- ---------
</TABLE>
See accompanying notes.
F-75
<PAGE>
FISHMAN AND STASHAK, M.D.'S, P.A.
D/B/A GOLD COAST ORTHOPEDICS
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1996 AND JUNE 30, 1997 (UNAUDITED)
1. DESCRIPTION OF THE BUSINESS
Fishman and Stashak, M.D.'s, P.A. d/b/a Gold Coast Orthopedics (Gold Coast)
was organized on April 16, 1990 under the laws of the State of Florida. Gold
Coast specializes in providing orthopedic medical and surgical services and
related medical and ancillary services in Palm Beach County. Gold Coast receives
payment for patient services primarily from private insurers, health maintenance
organizations, preferred provider organizations, the federal government
primarily under the Medicare program, state governments under their respective
Medicaid programs, and directly from patients.
Effective June 1, 1997, Gold Coast and BMJ Medical Management, Inc. (BMJ)
executed a Management Services Agreement (the Agreement). The Agreement provides
that BMJ will be the exclusive provider of all management and administrative
services utilized by Gold Coast through June 1, 2037, in exchange for a
management fee based on 15% of Gold Coast's net collected revenue.
In July 1997, Gold Coast entered into an Asset Purchase Agreement with BMJ
whereby Gold Coast sold all of its accounts receivable, diagnostic and
therapeutic medical equipment, and office equipment to BMJ for approximately
$2.9 million. Furthermore, BMJ will pay Gold Coast for amounts received in
excess of $950,000 on Gold Coast's June 1, 1997 accounts receivable through June
30, 1998.
The financial statements of Gold Coast have been prepared as supplemental
information about the affiliated practices to which BMJ provides management
services. Gold Coast previously operated as a separate professional association.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Cash and Cash Equivalents
Gold Coast considers highly liquid investments with original maturities of
three months or less to be cash equivalents.
Concentration of Credit Risk
Gold Coast grants credit without collateral to its patients, most of whom
are local residents that are insured under third-party payor agreements.
Management believes the credit risk associated with accounts receivable is
minimal.
Furniture, Fixtures and Equipment
Furniture, fixtures and equipment are stated at cost, less accumulated
depreciation, and are depreciated using the straight-line method over the
estimated useful lives of the assets, ranging from four to fifteen years.
Financial Instruments
The fair value of Gold Coast's financial instruments (primarily long-term
debt) are estimated using discounted cash flow analyses, based on Gold Coast's
current incremental borrowing rates for similar types of borrowing arrangements.
The carrying amounts of financial instruments as reported in the accompanying
balance sheets approximate their fair value.
Revenue Recognition
Revenue is recorded at estimated net amounts to be received from
third-party payors and others for services rendered.
Revenues from the Medicare program accounted for approximately 10% of Gold
Coast's net practice revenues, net for the years ended December 31, 1995 and
1996. Laws and regulations governing the Medicare program are complex and
subject to interpretation. Gold Coast believes that it is in compliance with all
applicable laws and regulations and is not aware of any pending or threatened
investigations involving allegations of potential wrongdoing. While no such
regulatory inquiries have been made, compliance with such laws and regulations
can be subject to future government review and interpretation as well as
significant regulatory action including fines, penalties, and exclusion from the
Medicare program.
F-76
<PAGE>
FISHMAN AND STASHAK, M.D.'S, P.A.
D/B/A GOLD COAST ORTHOPEDICS
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES--(CONTINUED)
Costs and Expenses
Physician and other provider services costs are comprised primarily of
compensation and fees paid to physicians and other health care providers.
Medical support services costs include all indirect costs associated with
the management and operations of the practice and all direct costs associated
with medical supplies and pharmaceutical expenses.
Income Taxes
Gold Coast is taxed under the provisions of Subchapter S of the Internal
Revenue Code, which generally provides that in lieu of corporate taxes, the
stockholders shall be taxed on Gold Coast's taxable income in accordance with
their ownership interests. As a result, the accompanying financial statements
include no provision for income taxes.
Use of Estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities as of the date of the financial
statements and the reported amounts of revenue and expenses during the reporting
period. Actual results could differ from those estimates.
3. ACCOUNTS RECEIVABLE
Accounts receivable consist of the following:
<TABLE>
<CAPTION>
DECEMBER 31,
------------------------
1995 1996
---------- ----------
<S> <C> <C>
Gross patient accounts receivable............................. $3,783,563 $3,992,148
Less allowances for contractual adjustments and
uncollectibles.............................................. 2,196,811 2,235,603
---------- ----------
$1,586,752 $1,756,545
---------- ----------
---------- ----------
</TABLE>
4. FURNITURE, FIXTURES AND EQUIPMENT
Furniture, fixtures and equipment consist of the following:
<TABLE>
<CAPTION>
DECEMBER 31,
--------------------
1995 1996
-------- --------
<S> <C> <C>
Furniture and fixtures............................................ $ 91,924 $ 91,924
Equipment......................................................... 138,918 141,940
Automobiles....................................................... 10,441 10,441
Leasehold improvements............................................ 96,489 96,489
-------- --------
337,772 340,794
Less accumulated depreciation and amortization.................... 166,578 199,496
-------- --------
$171,194 $141,298
-------- --------
-------- --------
</TABLE>
F-77
<PAGE>
FISHMAN AND STASHAK, M.D.'S, P.A.
D/B/A GOLD COAST ORTHOPEDICS
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
5. LONG-TERM DEBT
Long-Term debt is comprised of the following:
<TABLE>
<CAPTION>
DECEMBER 31,
----------------------
1995 1996
---------- ----------
<S> <C> <C>
$350,000 promissory note payable to a bank, bearing interest at a fixed rate of
8.50%, principal and interest payable monthly through December 1998, secured
by substantially all of the assets of Gold Coast.............................. $ 286,514 $ 199,373
$142,988 promissory note payable to a bank, bearing interest at a fixed rate of
9.75%, principal and interest payable monthly through November 1998, secured
by substantially all of the assets of Gold Coast.............................. 115,654 79,859
$100,000 revolving line-of-credit arrangement with a bank, bearing interest at
prime plus 1% (9.25% at December 31, 1996), interest payable monthly,
principal due in 24 monthly installments commencing thirty days following the
cancellation of the arrangement, secured by substantially all of the assets of
Gold Coast, the arrangement requires Gold Coast to maintain its primary
operating account at the bank................................................. -- 97,205
$200,000 noninterest bearing promissory note payable to a former stockholder,
principal due in monthly installments through January 1996, secured by the
accounts receivable of Gold Coast, guaranteed by the stockholders of Gold
Coast......................................................................... 18,182 --
---------- ----------
420,350 376,437
Less current portion............................................................ 141,118 146,080
---------- ----------
$ 279,232 $ 230,357
---------- ----------
---------- ----------
</TABLE>
At December 31, 1996, annual principal payments on long-term debt are as
follows:
<TABLE>
<S> <C>
1997.......................................................... $146,080
1998.......................................................... 133,152
Thereafter.................................................... 97,205
--------
$376,437
--------
--------
</TABLE>
In July 1997, Gold Coast repaid the outstanding balance on the revolving
line-of-credit arrangement.
6. DUE TO STOCKHOLDER
The President of Gold Coast, who is also a 50% stockholder, advanced
approximately $94,000 to Gold Coast prior to January 1, 1994. The amount was
payable to the stockholder on demand, was unsecured and bore interest at 8%.
Gold Coast repaid approximately $75,000 and $19,000 in 1995 and 1996,
respectively.
The Treasurer of Gold Coast, who is also a 50% stockholder, made unsecured
advances totaling approximately $82,000 to Gold Coast during 1996 which bore
interest at 6.25% and were due on demand. Gold Coast repaid these advances
during 1996.
7. LEASE COMMITMENTS
Gold Coast leases office space under a noncancelable operating lease, which
contains an escalation clause. Rent expense charged to operations totalled
approximately $95,000 during both 1995 and 1996.
F-78
<PAGE>
FISHMAN AND STASHAK, M.D.'S, P.A.
D/B/A GOLD COAST ORTHOPEDICS
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
7. LEASE COMMITMENTS--(CONTINUED)
Future minimum rental commitments at December 31, 1996 are as follows:
<TABLE>
<S> <C>
1997.......................................................... $ 94,714
1998.......................................................... 94,714
1999.......................................................... 94,714
2000.......................................................... 94,714
2001.......................................................... 94,714
Thereafter.................................................... 426,213
--------
$899,783
--------
--------
</TABLE>
8. RELATED PARTY TRANSACTIONS
In February 1995, a physician employee and then stockholder of Gold Coast
terminated his employment with Gold Coast. In connection with this termination,
Gold Coast agreed to pay the physician a final bonus of $200,000, pursuant to
the physician's employment agreement. This bonus is included in physician and
other provider services expense in the 1995 statement of income and was paid
over an eleven-month period pursuant to a noninterest bearing promissory note.
At December 31, 1995, approximately $18,000 of this note was outstanding and the
balance was repaid in full during 1996.
9. BENEFIT PLANS
Gold Coast maintains a defined contribution plan under the provisions of
Section 401(k) of the Internal Revenue Code. Employees who meet the minimum
length of service and age requirements are eligible for participation. Gold
Coast is responsible for the administration of the plan as the plan
administrator and trustee. Under the provisions of the plan, contributions by
Gold Coast are discretionary. Gold Coast made contributions of $50,000 and
$45,000 to the plan in 1995 and 1996, respectively.
10. CONTINGENCIES
Gold Coast is involved in various legal proceedings in the ordinary course
of business. Gold Coast does not believe that the disposition of such legal
proceedings and disputes will have a material adverse effect on the financial
position or results of operations of Gold Coast. Gold Coast procures
professional liability coverage on behalf of its physicians on a claims-made
basis. The insurance contracts specify that coverage is available only during
the term of each insurance contract and cover only those claims reported while
the policies are in force. An estimate of losses for incurred but unreported
claims is recorded based upon historical experience. Management of Gold Coast
intends to renew the existing claims-made policy annually and expects to be able
to obtain such coverage.
F-79
<PAGE>
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
Partners
Sun Valley Orthopaedic Surgeons,
an Arizona General Partnership
We have audited the accompanying balance sheet of Sun Valley Orthopaedic
Surgeons, an Arizona General Partnership (Sun Valley) as of December 31, 1996,
and the related statements of operations and changes in partners' capital and
cash flows for the year then ended. These financial statements are the
responsibility of Sun Valley's management. Our responsibility is to express an
opinion on these financial statements based on our audit.
We conducted our audit in accordance with generally accepted auditing standards.
Those standards require that we plan and perform the audit to obtain reasonable
assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audit provides a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Sun Valley at December 31,
1996, and the results of its operations and its cash flows for the year then
ended in conformity with generally accepted accounting principles.
ERNST & YOUNG, LLP
Orlando, Florida
July 18, 1997
F-80
<PAGE>
SUN VALLEY ORTHOPAEDIC SURGEONS,
AN ARIZONA GENERAL PARTNERSHIP
BALANCE SHEET
<TABLE>
<CAPTION>
DECEMBER 31,
1996
------------
<S> <C>
ASSETS
Current assets:
Cash.............................................................................................. $137,982
Accounts receivable, net.......................................................................... 512,267
Due from related parties.......................................................................... 183,062
Inventories....................................................................................... 9,500
Prepaid expenses and other current assets......................................................... 24,949
------------
Total current assets................................................................................ 867,760
Furniture, fixtures and equipment, net.............................................................. 34,935
Other assets........................................................................................ 7,515
Due from related parties............................................................................ 48,781
------------
Total assets........................................................................................ $958,991
------------
------------
LIABILITIES AND PARTNERS' CAPITAL
Current liabilities:
Accounts payable.................................................................................. $ 23,665
Accrued expenses and other current liabilities.................................................... 14,273
Due to bank under line of credit.................................................................. 100,000
------------
Total current liabilities........................................................................... 137,938
Due to related parties.............................................................................. 31,174
Commitments and contingencies.......................................................................
Partners' capital................................................................................... 789,879
------------
Total liabilities and partners' capital............................................................. $958,991
------------
------------
</TABLE>
See accompanying notes.
F-81
<PAGE>
SUN VALLEY ORTHOPAEDIC SURGEONS,
AN ARIZONA GENERAL PARTNERSHIP
STATEMENT OF OPERATIONS AND CHANGES IN PARTNERS' CAPITAL
<TABLE>
<CAPTION>
YEAR ENDED
DECEMBER 31,
1996
------------
<S> <C>
Practice revenues,net............................................................................... $2,467,989
Other revenue....................................................................................... 22,798
Other revenue from related party.................................................................... 12,005
------------
Total revenue....................................................................................... 2,502,792
Costs and expenses:
Physician and other provider services............................................................. 1,456,127
Medical support services.......................................................................... 1,044,879
Depreciation...................................................................................... 26,912
Interest.......................................................................................... 10,873
Other............................................................................................. 1,452
------------
Total costs and expenses............................................................................ 2,540,243
------------
Net loss............................................................................................ (37,451)
Beginning partners' capital......................................................................... 827,330
------------
Ending partners' capital............................................................................ $ 789,879
------------
------------
</TABLE>
See accompanying notes.
F-82
<PAGE>
SUN VALLEY ORTHOPAEDIC SURGEONS,
AN ARIZONA GENERAL PARTNERSHIP
STATEMENT OF CASH FLOWS
<TABLE>
<CAPTION>
YEAR ENDED
DECEMBER 31,
1996
------------
<S> <C>
OPERATING ACTIVITIES
Net loss............................................................................................ $ (37,451)
Adjustments to reconcile net loss to net cash provided by (used in) operating activities:
Depreciation...................................................................................... 26,912
Changes in operating assets and liabilities:
Accounts receivable, net....................................................................... 14,298
Due from related parties....................................................................... 18,518
Inventories.................................................................................... (500)
Prepaid expenses and other current assets...................................................... (8,658)
Accounts payable............................................................................... 2,393
Accrued expenses and other current liabilities................................................. 819
------------
Net cash provided by (used in) operating activities................................................. 16,331
INVESTING ACTIVITIES
Purchases of furniture, fixtures and equipment...................................................... (7,404)
Repayments of amounts due from partners and affiliates.............................................. 48,492
------------
Net cash provided by investing activities........................................................... 41,088
FINANCING ACTIVITIES
Amounts received on line of credit.................................................................. 25,000
Repayments of line of credit........................................................................ (44,000)
Repayments of amounts due to related parties........................................................ (39,500)
------------
Net cash (used in) provided by financing activities................................................. (58,500)
------------
(Decrease) increase in cash......................................................................... (1,081)
Cash, beginning of period........................................................................... 139,063
------------
Cash, end of period................................................................................. $ 137,982
------------
------------
SUPPLEMENTAL CASH FLOWS INFORMATION
Interest paid....................................................................................... $ 10,873
------------
------------
</TABLE>
See accompanying notes.
F-83
<PAGE>
SUN VALLEY ORTHOPAEDIC SURGEONS,
AN ARIZONA GENERAL PARTNERSHIP
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1996
1. DESCRIPTION OF THE BUSINESS
Sun Valley Orthopaedic Surgeons, an Arizona General Partnership, (Sun
Valley) is a general partnership of individual physicians and an Arizona
professional corporation, and is engaged in the business of providing orthopedic
medical and surgical services and related medical and ancillary services to
patients in Maricopa County, Arizona. Sun Valley is organized as a general
partnership under the laws of the State of Arizona.
On July 1, 1997, Sun Valley agreed in principle to sell substantially all
of its assets to and enter into a management services agreement with BMJ Medical
Management, Inc. (BMJ).
The financial statements of Sun Valley have been prepared as supplemental
information about the affiliated practices to which BMJ provides management
services. Sun Valley previously operated as a separate partnership.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Net Patient Service Revenue
Practice revenues, net are reported at the estimated realizable amounts due
from patients, third-party payors and others for medical services rendered.
During 1996, approximately 60% of practice revenues, net were received under
Medicare and Medicare-related programs.
Laws and regulations governing the Medicare program are complex and subject
to interpretation. Sun Valley believes that it is in compliance with all
applicable laws and regulations and is not aware of any pending or threatened
investigations involving allegations of potential wrongdoing. While no such
regulatory inquiries have been made, compliance with such laws and regulations
can be subjecct to future government review and interpretation as well as
significant regulatory action including fines, penalties, and exclusion from the
Medicare program.
Inventories
Inventories, which consist of medical and office supplies are stated at
current cost, which approximates market value, utilizing the first-in, first-out
method.
Concentration of Credit Risk
Sun Valley grants credit without collateral to its patients, most of whom
are local residents, who are insured under third-party payor agreements.
Management believes the credit risk associated with accounts receivable is
minimal.
Furniture, Fixtures and Equipment
Furniture, fixtures and equipment, including leasehold improvements, are
stated at cost, less accumulated depreciation, and are depreciated using the
straight-line method over the estimated useful lives of the assets, ranging from
5 to 10 years.
Use of Estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenue and expenses during the reporting
period. Actual results could differ from those estimates.
F-84
<PAGE>
SUN VALLEY ORTHOPAEDIC SURGEONS,
AN ARIZONA GENERAL PARTNERSHIP
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES--(CONTINUED)
Costs and Expenses
Physician and other provider services costs are comprised primarily of
compensation and fees paid to physicians and other health care providers.
Medical support services costs include all indirect costs associated with
the management and operations of the practice and all direct costs associated
with medical supplies and pharmaceutical expenses.
3. ACCOUNTS RECEIVABLE
Accounts receivable consists of the following as of December 31, 1996:
<TABLE>
<S> <C>
Gross patient accounts receivable.......................................................... $ 613,880
Less allowances for contractual adjustments and uncollectibles............................. 101,613
---------
$ 512,267
---------
---------
</TABLE>
4. FURNITURE, FIXTURES AND EQUIPMENT
Furniture, fixtures and equipment consists of the following as of December
31, 1996:
<TABLE>
<S> <C>
Furniture, fixtures and equipment.......................................................... $ 176,784
Leasehold improvements..................................................................... 40,025
Less accumulated depreciation.............................................................. 181,874
---------
$ 34,935
---------
---------
</TABLE>
5. LINE OF CREDIT
As of December 31, 1996, Sun Valley has a line of credit with a bank in the
amount of $100,000. The line of credit bears interest at the bank's prime rate
plus 1.5% (the bank's prime rate was 8.5% at December 31, 1996). Sun Valley paid
approximately $11,000 in interest during 1996. There was no unused amount
available under the line-of-credit as of December 31, 1996.
6. LEASE COMMITMENTS
Sun Valley leases various equipment, clinic and office space under
operating leases. Future minimum rental commitments under noncancelable
operating leases (with an initial or remaining term in excess of one year) at
December 31, 1996 are as follows:
<TABLE>
<S> <C>
Year ending December 31,
1997...................................................................................... $152,961
1998...................................................................................... 153,626
1999...................................................................................... 70,364
2000...................................................................................... 41,296
--------
$418,247
--------
--------
</TABLE>
F-85
<PAGE>
SUN VALLEY ORTHOPAEDIC SURGEONS,
AN ARIZONA GENERAL PARTNERSHIP
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
7. INCOME TAXES
Sun Valley is organized as a partnership pursuant to Subchapter K of the
Internal Revenue Code. As a result, in lieu of corporate income tax, Sun
Valley's taxable income is passed through to the partners and taxed at the
partner level. Accordingly, no provision or liability for income tax has been
reflected in the financial statements.
8. CONTINGENCIES
Sun Valley is a general partnership organized under the laws of the State
of Arizona. Each of the individual physicians in Sun Valley is personally
responsible for and has obtained insurance coverage for professional liability.
Accordingly, no provision or liability for incurred but not reported claims has
been reflected in the financial statements of Sun Valley.
9. RELATED PARTY TRANSACTIONS
As of December 31, 1996, one physician partner had been paid $135,743 in
excess of the amounts due to him for the physician services provided. This
amount is included in due from related parties as of December 31, 1996.
Sun Valley has advanced amounts to a professional corporation that
specializes in osteoporosis and epidurals that is wholly-owned by a physician
partner. Interest on the advance accrues at 8%. As of December 31, 1996, the
amount due Sun Valley, including accrued interest, is $43,485. Sun Valley
recorded interest income for the year ended December 31, 1996 in the amount of
$12,000.
F-86
<PAGE>
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
Board of Directors
Orthopaedic Surgery Associates, P.A.
We have audited the accompanying balance sheet of Orthopaedic Surgery
Associates, P.A. (OSA) as of December 31, 1996, and the related statements of
income, stockholders' equity, and cash flows for the year then ended. These
financial statements are the responsibility of OSA's management. Our
responsibility is to express an opinion on these financial statements based on
our audit.
We conducted our audit in accordance with generally accepted auditing standards.
Those standards require that we plan and perform the audit to obtain reasonable
assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audit provides a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Orthopaedic Surgery Associates,
P.A. at December 31, 1996, and the results of its operations and its cash flows
for the year then ended in conformity with generally accepted accounting
principles.
ERNST & YOUNG, LLP
West Palm Beach, Florida
October 10, 1997
F-87
<PAGE>
ORTHOPAEDIC SURGERY ASSOCIATES, P.A.
BALANCE SHEETS
<TABLE>
<CAPTION>
DECEMBER 31, SEPTEMBER 30,
1996 1997
------------ -------------
(UNAUDITED)
<S> <C> <C>
ASSETS
Current assets:
Cash.............................................................................. $ 26,590 $ --
Accounts receivable, net.......................................................... 1,382,082 1,503,826
Prepaid expenses.................................................................. 34,216 61,305
------------ -------------
Total current assets................................................................ 1,442,888 1,565,131
Furniture, fixtures and equipment, net.............................................. 1,792,079 1,712,627
Loan receivable--OSA Investments, PA, net of discount of $265,176 and $255,232 as
of September 30, 1997.......................................................... 64,488 74,432
Other............................................................................... 5,000 5,000
------------ -------------
Total assets........................................................................ $3,304,455 $ 3,357,190
------------ -------------
------------ -------------
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accrued expenses.................................................................. $ 150,427 $ 108,370
Due to BMJ Medical Management, Inc................................................ -- 55,893
Note payable...................................................................... 500,000 500,000
Current portion of capital lease obligations...................................... 66,901 72,465
------------ -------------
Total current liabilities........................................................... 717,328 736,728
Long-term capital lease obligations, less current portion........................... 1,318,957 1,263,889
Stockholders' equity:
Common stock, $1 par value--500 shares authorized, issued and outstanding......... 500 500
Additional paid-in capital........................................................ 1,090,450 1,090,450
Retained earnings................................................................. 177,220 265,623
------------ -------------
Total stockholders' equity.......................................................... 1,268,170 1,356,573
------------ -------------
Total liabilities and stockholders' equity.......................................... $3,304,455 $ 3,357,190
------------ -------------
------------ -------------
</TABLE>
See accompanying notes.
F-88
<PAGE>
ORTHOPAEDIC SURGERY ASSOCIATES, P.A.
STATEMENTS OF INCOME
<TABLE>
<CAPTION>
NINE MONTHS ENDED
SEPTEMBER 30,
YEAR ENDED ------------------------
DECEMBER 31, 1996 1996 1997
----------------- ---------- ----------
(UNAUDITED)
<S> <C> <C> <C>
Practice revenues, net............................................ $ 7,520,949 $6,210,772 $7,356,636
Other income...................................................... 12,107 12,107 89,284
----------------- ---------- ----------
Total revenue..................................................... 7,533,056 6,222,879 7,445,920
Costs and expenses:
Physician and other provider services........................... 3,175,685 2,532,582 2,417,162
Medical support services........................................ 3,489,020 2,824,749 4,297,136
Management service fee.......................................... -- -- 55,893
Depreciation.................................................... 90,369 62,892 97,234
Interest........................................................ 91,458 22,433 123,216
Rent............................................................ 244,128 219,055 366,876
Amortization of discount on loan receivable..................... 265,176 265,176 --
----------------- ---------- ----------
Total costs and expenses.......................................... 7,355,836 5,926,887 7,357,517
----------------- ---------- ----------
Net income........................................................ $ 177,220 $ 295,992 $ 88,403
----------------- ---------- ----------
----------------- ---------- ----------
</TABLE>
See accompanying notes.
F-89
<PAGE>
ORTHOPAEDIC SURGERY ASSOCIATES, P.A.
STATEMENTS OF STOCKHOLDERS' EQUITY
<TABLE>
<CAPTION>
COMMON STOCK
------------------- ADDITIONAL TOTAL
NUMBER PAID-IN RETAINED STOCKHOLDERS'
OF SHARES AMOUNT CAPITAL EARNINGS EQUITY
--------- ------ ---------- ---------- --------------
<S> <C> <C> <C> <C> <C>
Balance at January 1, 1996....................... 500 $500 $ -- $ -- $500
Contribution of capital........................ -- -- 1,090,450 -- 1,090,450
Net income..................................... -- -- -- 177,220 177,220
--- ------ ---------- ---------- --------------
Balance at December 31, 1996..................... 500 $500 $1,090,450 $ 177,220 $1,268,170
Net income (Unaudited)........................... -- -- -- 88,403 88,403
--- ------ ---------- ---------- --------------
Balance at September 30, 1997 (Unaudited)........ 500 $500 $1,090,450 $ 265,623 $1,356,573
--- ------ ---------- ---------- --------------
--- ------ ---------- ---------- --------------
</TABLE>
See accompanying notes.
F-90
<PAGE>
ORTHOPAEDIC SURGERY ASSOCIATES, P.A.
STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
NINE MONTHS ENDED
YEAR ENDED SEPTEMBER 30,
DECEMBER 31, ------------------------
1996 1996 1997
------------ ----------- ---------
(UNAUDITED)
<S> <C> <C> <C>
OPERATING ACTIVITIES
Net income............................................................. $ 177,220 $ 295,992 $ 88,403
Adjustments to reconcile net income to net cash provided by
(used in) operating activities:
Amortization of discount on loan receivable.......................... 265,176 265,176 --
Depreciation......................................................... 90,369 62,892 97,234
Changes in operating assets and liabilities:
Accounts receivable............................................... (1,382,082) (1,715,768) (121,744)
Prepaid expenses.................................................. (39,216) (34,768) (27,089)
Due to BMJ Medical Management, Inc................................ -- -- 55,893
Accrued liabilities............................................... 998,864 1,107,034 (42,057)
------------ ----------- ---------
Net cash provided by (used in) operating activities.................... 110,331 (24,442) 50,640
INVESTING ACTIVITIES
Purchases of furniture, fixtures and equipment......................... (277,649) (117,594) (17,782)
Loan receivable........................................................ (306,592) (329,664) (9,944)
------------ ----------- ---------
Net cash used in investing activities.................................. (584,241) (447,258) (27,726)
FINANCING ACTIVITIES
Contribution of capital................................................ 500 500 --
Proceeds from borrowing under notes payable............................ 500,000 500,000 --
Payments on capital leases payable..................................... -- -- (49,504)
------------ ----------- ---------
Net cash provided by (used in) financing activities.................... 500,500 500,500 (49,504)
------------ ----------- ---------
Net increase (decrease) in cash........................................ 26,590 28,800 (26,590)
Cash at beginning of period............................................ -- -- 26,590
------------ ----------- ---------
Cash at end of period.................................................. $ 26,590 $ 28,800 --
------------ ----------- ---------
------------ ----------- ---------
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
Cash paid for interest................................................. $ 91,458 $ 22,433 $ 123,216
------------ ----------- ---------
------------ ----------- ---------
Noncash transactions:
Equipment under capital lease obligations.............................. $ 1,331,000 $ 1,318,813 $ --
------------ ----------- ---------
------------ ----------- ---------
Equipment financed by loan payable-related party....................... $ 250,650 $ 150,650 $ --
------------ ----------- ---------
------------ ----------- ---------
Conversion of debt to equity........................................... $ 1,090,450 $ 1,090,450 $ --
------------ ----------- ---------
------------ ----------- ---------
</TABLE>
See accompanying notes.
F-91
<PAGE>
ORTHOPAEDIC SURGERY ASSOCIATES, P.A.
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1996
1. DESCRIPTION OF THE BUSINESS
Orthopaedic Surgery Associates, P.A. (OSA) was organized under the laws of
the State of Florida and specializes in providing orthopedic medical and
surgical services and related medical and ancillary services in Palm Beach
County, Florida. OSA receives payment for patient services primarily from
private insurers, health maintenance organizations, preferred provider
organizations, the federal government primarily under the Medicare program,
state governments under their respective Medicaid programs, and directly from
patients.
On October 16, 1997, certain assets and liabilities of OSA were acquired by
BMJ Medical Management, Inc. (BMJ) in exchange for 221,819 shares of BMJ common
stock, cash of $4,496,250 and a promissory note for $2,450,465. In connection
therewith, OSA entered into a 40-year management service agreement with BMJ,
whereby BMJ will provide substantially all nonmedical services to the practice
in exchange for a management fee based on 12.5% of OSA's net collected revenue.
On March 1, 1997, OSA changed its name to Orthopaedic Surgery Associates,
Inc.
The financial statements of OSA have been prepared as supplemental
information about the affiliated practices to which BMJ provides management
services. OSA previously operated as a separate professional association.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation
OSA's accounting records are maintained on the basis of cash receipts and
cash disbursements for income-tax purposes. The accompanying financial
statements have been prepared on the accrual basis and thus reflect accounts
receivable, prepaid expenses, and liabilities that are not recorded in the
accounting records.
Concentration of Credit Risk
OSA grants credit without collateral to its patients, most of whom are
local residents and are insured under third-party payor agreements. Management
believes credit risk associated with accounts receivable is minimal.
Furniture,Fixtures and Equipment
Furniture, fixtures and equipment are stated at cost, less accumulated
depreciation, and are depreciated using the straight-line method over the
estimated useful lives of the assets, ranging from 5 to 40 years. Amortization
expense for assets under capital leases is included in accumulated depreciation.
Financial Instruments
The fair value of OSA's financial instruments (primarily long and
short-term capital lease obligations and debt) are estimated using discount cash
flow analyses, based on OSA's current incremental borrowing rates for similar
types of borrowing arrangements. The carrying amounts of financial instruments
as reported in the accompanying balance sheet approximate their fair value.
Revenue Recognition
Practice revenues, net are based on established billing rates, less
allowances for contractual adjustments for patients covered by Medicare,
Medicaid and various other discount arrangements. Payments received under these
programs and arrangements, which generally are based on predetermined rates, are
generally less than OSA's customary charges, and the differences are recorded as
contractual adjustments or policy discounts at the time the related service is
rendered.
Laws and regulations governing the Medicare and Medicaid programs are
complex and subject to interpretation. Compliance with such laws and regulations
can be subject to future government review and interpretation as well as
significant regulatory action, including fines, penalties, and exclusion from
the Medicare and Medicaid programs. OSA believes that it is in compliance with
all applicable laws and regulations. OSA is not aware of any pending or
threatened investigations involving allegations of potential wrongdoing.
F-92
<PAGE>
ORTHOPAEDIC SURGERY ASSOCIATES, P.A.
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES--(CONTINUED)
Costs and Expenses
Physician and other provider services costs are comprised primarily of
compensation and fees paid to physicians and other health care providers.
Income Taxes
OSA is taxed under the provisions of Subchapter S of the Internal Revenue
Code (IRC), which generally provides that in lieu of corporate taxes, the
stockholders shall be taxed on OSA's taxable income in accordance with their
ownership interests. As a result, the accompanying financial statements include
no provision for income taxes.
Use of Estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities as of the date of the financial
statements and the reported amounts of revenue and expenses during the reporting
period. Actual results could differ from those estimates.
Interim Financial Statements
The interim financial statements as of September 30, 1997 and for the nine
months ended September 30, 1997 and 1996 are unaudited. In the opinion of
management, these statements have been prepared on the same basis as the audited
financial statements and include all normal and recurring adjustments necessary
for a fair presentation of OSA's financial position, results of operations and
cash flows. The interim data disclosed in these notes to the financial
statements is also unaudited. The results of operations for the nine months
ended September 30, 1997 are not necessarily indicative of the results of
operations that may be expected for the entire year ending December 31, 1997.
3. FURNITURE, FIXTURES AND EQUIPMENT
Furniture, fixtures and equipment consist of the following at December 31,
1996:
<TABLE>
<S> <C>
Assets under capital leases:
Land...................................................... $ 372,300
Building and leasehold improvements....................... 1,119,350
Furniture, fixtures and office equipment.................. 39,905
Medical equipment......................................... 142,985
----------
1,674,540
----------
----------
Owned assets:
Building and leasehold improvements....................... 96,657
Furniture, fixtures and offfice equipment................. 45,997
Medical equipment......................................... 62,437
----------
1,879,631
Less accumulated depreciation............................... (87,552)
----------
$1,792,079
----------
----------
</TABLE>
4. NOTE PAYABLE
The note payable is a $500,000 line of credit which was due on August 22,
1997 bearing interest at the prime rate, 8.5% at December 31, 1996. The line of
credit is secured by substantially all of the assets of OSA. Effective August
22, 1997, OSA extended the $500,000 line of credit maturity date to November 22,
1997.
In October 1997, OSA repaid the outstanding balance on the line of credit.
F-93
<PAGE>
ORTHOPAEDIC SURGERY ASSOCIATES, P.A.
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
5. COMMITMENTS AND CONTINGENCIES
OSA has employment agreements with four physician-stockholders which
provide for, among other things, various insurance coverages and base pay for
one physician-stockholder. Future payments required to be made to physicians
approximate $360,000 in 1997 and $100,000 in 1998, subject to certain
adjustments. Management cannot estimate future adjustments under these
provisions.
Effective July 1, 1997, OSA entered into an employment agreement with a
physician for the payment of a base salary. Future payments required to be made
to the physician approximate: 1997--$80,000, 1998-- $160,000, 1999--$160,000,
2000--$80,000, subject to certain adjustments. Management cannot estimate the
number of hours of service to be performed during the contract term, future
adjustments under these provisions. Effective August 1, 1997, OSA entered into a
12-month physician employment agreement for the payment of $200 for each
documented hour of service performed on behalf of OSA. Management cannot
estimate future adjustments under these provisions. These contracts are for
various time periods and may be terminated by mutual agreement or upon the
occurrence of other specified events such as death and disability.
OSA leases office space and equipment under noncancelable operating leases,
two of which contain an escalation clause. Rent expense charged to operations
totaled approximately $244,000 during 1996.
Future minimum rental commitments under noncancelable operating leases at
December 31, 1996 are as follows:
<TABLE>
<S> <C>
1997............................................................................ $ 215,839
1998............................................................................ 218,890
1999............................................................................ 229,835
2000............................................................................ 241,327
2001............................................................................ 223,833
----------
$1,129,724
----------
----------
</TABLE>
Future minimum capital lease obligations at December 31, 1996 are as
follows:
<TABLE>
<S> <C>
1997............................................................................ $ 187,918
1998............................................................................ 189,916
1999............................................................................ 186,691
2000............................................................................ 176,073
2001............................................................................ 160,363
Thereafter...................................................................... 1,583,399
----------
2,484,360
Interest........................................................................ (1,098,502)
Less current amount............................................................. (66,901)
----------
$1,318,957
----------
----------
</TABLE>
Effective June 1996, OSA entered into a medical office building capital
lease with OSA Investments, PA, (OSAI), a related party. The lease payment is
equal to OSAI's mortgage payment for the building and the term of the lease is
concurrent with the mortgage term.
Effective August 1, 1997, OSA entered into an equipment lease for $228,000
for a 12-month period.
OSA procures professional liability coverage on behalf of its physicians on
a claims made basis. The insurance contracts specify that coverage is available
only during the term of each insurance contract and cover only those claims
reported while the policies are in force. An estimate of losses for incurred but
unreported claims is recorded based upon historical experience. Management of
OSA intends to renew the existing claims made policy annually and expects to be
able to obtain such coverage. If coverage is not renewed, OSA intends to
F-94
<PAGE>
ORTHOPAEDIC SURGERY ASSOCIATES, P.A.
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
5. COMMITMENTS AND CONTINGENCIES--(CONTINUED)
purchase extended reporting period endorsements to provide professional
liability coverage for losses incurred prior to, but reported subsequent to, the
termination of the claims made policies.
OSA is involved in litigation regarding a medical malpractice dispute.
Legal counsel and management are unable to reasonably predict the ultimate
outcome of the dispute at this time; however, the estimated range of potential
loss is $200,000 to $2,000,000. At the time the claim was made, OSA had
malpractice insurance coverage of $500,000. OSA has not recorded any liability
related to this matter.
6. PROFIT SHARING PLAN
OSA maintains a profit sharing plan (the Plan) under the provisions of
Section 401(k) of the IRC. Employees who meet the minimum length of service and
age requirements are eligible for participation. OSA is responsible for the
administration of the Plan as the plan administrator and OSA's stockholders are
trustees. Under the provisions of the Plan, contributions by OSA are
discretionary. OSA made contributions of approximately $83,000 to the Plan in
1996.
7. LOAN RECEIVABLE - OSA INVESTMENTS, P.A.
During 1996 OSA recorded a loan receivable from OSAI for $329,664. The loan
receivable is non-interest bearing and is expected to be repaid from the
proceeds of the future sale of the medical office building owned by OSAI and
leased to OSA. The loan has been discounted to reflect an imputed interest rate
of 8% per annum over the life of the lease, which is 20 years.
8. SUBSEQUENT EVENTS
In October 1997, OSA declared and distributed stockholders' distributions
of approximately $1,000,000.
F-95
<PAGE>
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
Board of Directors
Broward Institute of Orthopaedic
Specialties, P.A.
We have audited the accompanying balance sheet of Broward Institute of
Orthopaedic Specialties, P.A. (BIOS) as of December 31, 1996, and the related
statements of income, stockholders' equity, and cash flows for the year then
ended. These financial statements are the responsibility of BIOS' management.
Our responsibility is to express an opinion on these financial statements based
on our audit.
We conducted our audit in accordance with generally accepted auditing standards.
Those standards require that we plan and perform the audit to obtain reasonable
assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audit provides a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Broward Institute of
Orthopaedic Specialties, P.A. at December 31, 1996, and the results of its
operations and its cash flows for the year then ended in conformity with
generally accepted accounting principles.
ERNST & YOUNG, LLP
West Palm Beach, Florida
September 5, 1997
F-96
<PAGE>
BROWARD INSTITUTE OF ORTHOPAEDIC SPECIALTIES, P.A.
BALANCE SHEETS
<TABLE>
<CAPTION>
DECEMBER 31, SEPTEMBER 30,
1996 1997
------------ -------------
(UNAUDITED)
<S> <C> <C>
ASSETS
Current assets:
Cash.............................................................................. $ 428,530 $ 260,236
Accounts receivable, net.......................................................... 1,875,907 2,233,546
Prepaid expenses.................................................................. 41,845 7,822
------------ -------------
Total current assets................................................................ 2,346,282 2,501,604
Furniture, fixtures and equipment, net.............................................. 49,301 141,690
Other, net.......................................................................... 13,338 11,453
------------ -------------
Total assets........................................................................ $2,408,921 $ 2,654,747
------------ -------------
------------ -------------
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable.................................................................. $ 187,555 $ 102,304
Due to stockholders............................................................... 80,000 --
Accrued liabilities............................................................... 619,197 131,412
Current portion of notes payable.................................................. 267,000 305,117
------------ -------------
Total current liabilities........................................................... 1,153,752 538,833
Notes payable, less current portion................................................. 249,871 --
Stockholders' equity:
Common stock, $0.01 par value--1,000 shares authorized,
80 shares issued and outstanding............................................. 1 1
Additional paid-in capital........................................................ 23,999 23,999
Retained earnings................................................................. 981,298 2,091,914
------------ -------------
Total stockholders' equity.......................................................... 1,005,298 2,115,914
------------ -------------
Total liabilities and stockholders' equity.......................................... $2,408,921 $ 2,654,747
------------ -------------
------------ -------------
</TABLE>
See accompanying notes.
F-97
<PAGE>
BROWARD INSTITUTE OF ORTHOPAEDIC SPECIALTIES, P.A.
STATEMENTS OF INCOME
<TABLE>
<CAPTION>
NINE MONTHS ENDED
YEAR ENDED SEPTEMBER 30,
DECEMBER 31, ------------------------
1996 1996 1997
------------ ---------- ----------
(UNAUDITED)
<S> <C> <C> <C>
Practice revenues, net................................................. $8,325,413 $6,435,529 $6,538,068
Other income........................................................... 37,164 34,486 16,528
------------ ---------- ----------
Total revenue.......................................................... 8,362,577 6,470,015 6,554,596
Costs and expenses:
Physician and other provider services................................ 3,823,617 3,081,265 2,467,566
Medical support services............................................. 3,892,487 2,513,944 2,589,578
Depreciation and amortization........................................ 13,259 7,774 8,346
Interest............................................................. 68,129 52,001 24,958
Rent................................................................. 397,094 287,361 353,532
------------ ---------- ----------
Total costs and expenses............................................... 8,194,586 6,342,345 5,443,980
------------ ---------- ----------
Net income............................................................. $ 167,991 $ 127,670 $1,110,616
------------ ---------- ----------
------------ ---------- ----------
</TABLE>
See accompanying notes.
F-98
<PAGE>
BROWARD INSTITUTE OF ORTHOPAEDIC SPECIALTIES, P.A.
STATEMENT OF STOCKHOLDERS' EQUITY
<TABLE>
<CAPTION>
COMMON STOCK
------------------- ADDITIONAL TOTAL
NUMBER PAID IN RETAINED STOCKHOLDERS'
OF SHARES AMOUNT CAPITAL EARNINGS EQUITY
--------- ------ ---------- ---------- --------------
<S> <C> <C> <C> <C> <C>
Balance at December 31, 1995........................ 80 $1 $ 23,999 $ 813,307 $ 837,307
Net income.......................................... -- -- -- 167,991 167,991
-- --
---------- ---------- --------------
Balance at December 31, 1996........................ 80 $1 $ 23,999 $ 981,298 $1,005,298
Net income (Unaudited).............................. -- -- -- 1,110,616 1,110,616
-- --
---------- ---------- --------------
Balance at September 30, 1997 (Unaudited)........... 80 $1 $ 23,999 $2,091,914 $2,115,914
-- --
-- --
---------- ---------- --------------
---------- ---------- --------------
</TABLE>
See accompanying notes.
F-99
<PAGE>
BROWARD INSTITUTE OF ORTHOPAEDIC SPECIALTIES, P.A.
STATEMENT OF CASH FLOWS
<TABLE>
<CAPTION>
YEAR ENDED NINE MONTHS ENDED
DECEMBER 31, SEPTEMBER 30,
------------ --------------------------
1996 1996 1997
------------ ---------- ------------
<S> <C> <C> <C>
OPERATING ACTIVITIES
Net income............................................................. $ 167,991 $ 127,670 $1,110,616
Adjustments to reconcile net income to net cash provided by operating
activites:
Depreciation......................................................... 9,297 4,803 5,377
Amortization......................................................... 3,962 2,971 2,969
Changes in operating assets and liabilities:
Accounts receivable............................................... (411,504) (437,792) (357,639)
Deposits.......................................................... (3,435) 3,057 30,588
Accounts payable.................................................. 114,599 78,271 (85,251)
Accrued expenses.................................................. 220,303 (170,751) (487,785)
------------ ---------- ------------
Net cash provided by (used in) operating activities.................... 101,213 (50,269) 218,875
INVESTING ACTIVITIES
Purchases of furniture, fixtures and equipment......................... (31,210) (31,210) (95,415)
------------ ---------- ------------
Net cash used in investing activities.................................. (31,210) (31,210) (95,415)
FINANCING ACTIVITIES
Payments on borrowings from stockholder debt........................... -- (80,000) --
Additional borrowings on notes payable................................. (167,139) 129,250 (291,754)
------------ ---------- ------------
Net cash provided by (used in) financing activities.................... (167,139) 49,250 (291,754)
------------ ---------- ------------
Net decrease in cash................................................... (97,136) (32,229) (168,294)
Cash at beginning of period............................................ 525,666 525,666 428,530
------------ ---------- ------------
Cash at end of period.................................................. $ 428,530 $ 493,437 $ 260,236
------------ ---------- ------------
------------ ---------- ------------
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
Cash paid for interest................................................. $ 68,127 $ 52,001 $ 24,958
------------ ---------- ------------
------------ ---------- ------------
</TABLE>
See accompanying notes.
F-100
<PAGE>
BROWARD INSTITUTE OF ORTHOPEDIC SPECIALTIES, P.A.
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1996
1. DESCRIPTION OF THE BUSINESS
Broward Institute of Orthopedic Specialties, P.A. (BIOS) was organized
under the laws of the State of Florida and specializes in providing orthopedic
medical and surgical services and related medical and ancillary services in
Broward County. BIOS receives payment for patient services primarily from
private insurers, health maintenance organizations, preferred provider
organizations, the federal government primarily under the Medicare program,
state governments under their respective Medicaid programs, and directly from
patients.
On October 31, 1997, certain assets and liabilities of BIOS were acquired
by BMJ Medical Management, Inc. (BMJ) in exchange for 182,312 shares of BMJ
common stock, cash of $119,311 and promissory notes for $3,396,252. In
connection therewith, BIOS entered into a 40-year management services agreement
with BMJ, whereby BMJ will provide substantially all nonmedical services to the
practice.
The financial statements of BIOS have been prepared as supplemental
information about the affiliated practices to which BMJ provides management
services. BIOS previously operated as a separate professional association.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation
BIOS' accounting records are maintained on the basis of cash receipts and
cash disbursments for income-tax purposes. The accompanying financial statements
have been prepared on the accrual basis and thus reflect accounts receiveable,
prepaid expenses, and liabilities that are not recorded in the accounting
records.
Concentration of Credit Risk
BIOS grants credit without collateral to its patients, most of whom are
local residents and are insured under third-party payor agreements. Management
believes credit risk associated with accounts receivable is minimal.
Furniture, Fixtures and Equipment
Furniture, fixtures and equipment are stated at cost, less accumulated
depreciation, and are depreciated using the straight-line method over the
estimated useful lives of the assets, ranging from five to seven years.
Financial Instruments
The fair value of BIOS' financial instruments (primarily long and
short-term debt) are estimated using discounted cash flow analyses, based on
BIOS' current incremental borrowing rates for similar types of borrowing
arrangements. The carrying amounts of financial instruments as reported in the
accompanying balance sheet approximate their fair value.
Revenue Recognition
Practice revenues, net are based on established billing rates, less
allowances for contractual adjustments for patients covered by Medicare,
Medicaid and various other discount arrangements. Payments received under these
programs and arrangements, which generally are based on predetermined rates, are
less than BIOS' customary charges, and the differences are recorded as
contractual adjustments or policy discounts at the time the related service is
rendered.
Laws and regulations governing the Medicare and Medicaid programs are
complex and subject to interpretation. Compliance with such laws and regulations
can be subject to future government review and interpretation as well as
significant regulatory action including fines, penalties, and exclusion from the
Medicare
F-101
<PAGE>
BROWARD INSTITUTE OF ORTHOPEDIC SPECIALTIES, P.A.
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1996
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES--(CONTINUED)
and Medicaid programs. BIOS believes that it is in compliance with all
applicable laws and regulations. BIOS is not aware of any pending or threatened
investigations involving allegations of potential wrongdoing.
Costs and Expenses
Physician and other provider services costs are comprised primarily of
compensation and fees paid to phyisicians and other health care providers.
Income Taxes
BIOS is taxed under the provisions of Subchapter S of the Internal Revenue
Code, which generally provides that in lieu of corporate taxes, the stockholders
shall be taxed on BIOS' taxable income in accordance with their ownership
interests. As a result, the accompanying financial statements include no
provision for income taxes.
Use of Estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates that affect
the reported amounts of assets and liabilities and disclosure of contingent
assets and liabilities as of the date of the financial statements and the
reported amounts of revenue and expenses during the reporting period. Actual
results could differ from the estimates.
Interim Financial Statements
The interim financial statements as of September 30, 1997 and for the nine
months ended September 30, 1997 and 1996 are unaudited. In the opinion of
management, these statements have been prepared on the same basis as the audited
financial statements and include all normal and recurring adjustments necessary
for a fair presentation of BIOS financial position, results of operations and
cash flows. The interim data disclosed in these notes to the financial
statements is also unaudited. The results of operations for the nine months
ended September 30, 1997 are not necessarily indicative of the results of
operations that may be expected for the entire year ending December 31, 1997.
3. FURNITURE, FIXTURES AND EQUIPMENT
Furniture, fixtures and equipment consist of the following at December 31,
1996:
<TABLE>
<S> <C>
Furniture and fixtures............................................................. $25,203
Equipments......................................................................... 33,934
-------
Less accumulated depreciation...................................................... 59,137
(9,836)
-------
$49,301
-------
-------
</TABLE>
F-102
<PAGE>
BROWARD INSTITUTE OF ORTHOPEDIC SPECIALTIES, P.A.
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1996
4. NOTES PAYABLE
Notes payable consits of the following at December 31, 1996:
<TABLE>
<S> <C>
$800,000 promissory note payable, bearing interest at a variable rate of prime
plus .25% (8.75% at December 31, 1996), principal payments of $267,000 during
each of the first two years and interest payable monthly through October 1999,
secured by substantially all of the assets of BIOS.............................. $516,871
Less current portion.............................................................. (267,000)
--------
$249,871
--------
--------
</TABLE>
On July 9, 1997, BIOS borrowed $25,740 under a promissory note with a bank,
at a variable interest rate of prime plus .25%, interest payable monthly,
principal due November 1, 1999, secured by substantially all of the assets of
BIOS.
5. DUE TO STOCKHOLDERS
The stockholders of BIOS, advanced $80,000 to BIOS prior to January 1,
1996, due on demand, unsecured and bearing interest at 8%. BIOS repaid $80,000
in 1997.
6. LEASE COMMITMENT
BIOS leases office space and equipment under non-cancelable operating
leases, two of which contain an escalation clause. Rent expense charged to
operation totaled approximately $397,000 during 1996.
Furniture minimum rental commitments at December 31, 1996 are as follows:
<TABLE>
<S> <C>
1997.............................................................................. $ 94,714
1998.............................................................................. 94,714
1999.............................................................................. 94,714
2000.............................................................................. 94,714
2001.............................................................................. 94,714
Thereafter........................................................................ 424,213
--------
$899,783
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</TABLE>
7. BENEFIT PLANS
BIOS maintains a defined contribution plan under the provisions of Section
401(k) of the Internal Revenue Code. Employees who meet the minimum length of
service and age requirements are eligible for participation. BIOS is responsible
for the administration of the plan as the plan administrator and BIOS'
stockholders are trustees of the plan. Under the provision of the plan,
contributions by BIOS are discretionary. BIOS made no contributions to the plan
in 1996.
8. COMMITMENTS AND CONTINGENCIES
BIOS features professional liability coverage on behalf of its physicians
on a claims made basis. The insurance contracts specify that coverage is
available only during the term of each insurance contract and cover only those
claims reported while the policies are in force. An estimate of losses of
incurred but unreported claims is recorded based upon historical experience.
Management of BIOS intends to renew the existing claims made policy annually and
expects to be able to obtain such coverage. If coverage is not renewed, BIOS
intends to purchase extended reporting period endorsements to provide
professional liability coverage for losses incurred prior to, but reported
subsequent to, the termination of the claims made policies.
F-103
<PAGE>
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NO DEALER, SALESPERSON OR ANY OTHER PERSON HAS BEEN AUTHORIZED TO
GIVE ANY INFORMATION OR TO MAKE ANY REPRESENTATIONS OTHER THAN THOSE
CONTAINED IN THIS PROSPECTUS IN CONNECTION WITH THE OFFER MADE BY THIS
PROSPECTUS AND, IF GIVEN OR MADE, SUCH INFORMATION OR REPRESENTATIONS MUST
NOT BE RELIED UPON AS HAVING BEEN AUTHORIZED BY THE COMPANY OR ANY OF THE
UNDERWRITERS. NEITHER THE DELIVERY OF THIS PROSPECTUS NOR ANY SALE MADE
HEREUNDER SHALL, UNDER ANY CIRCUMSTANCES, CREATE ANY IMPLICATION THAT
THERE HAS BEEN NO CHANGE IN THE AFFAIRS OF THE COMPANY SINCE THE DATES AS
OF WHICH INFORMATION IS GIVEN IN THIS PROSPECTUS. THIS PROSPECTUS DOES NOT
CONSTITUTE AN OFFER OR SOLICITATION BY ANYONE IN ANY JURISDICTION IN WHICH
SUCH OFFER OR SOLICITATION IS NOT AUTHORIZED OR IN WHICH THE PERSON MAKING
SUCH OFFER OR SOLICITATION IS NOT QUALIFIED TO DO SO OR TO ANY PERSON TO
WHOM IT IS UNLAWFUL TO MAKE SUCH OFFER OR SOLICITATION.
------------------
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE
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<S> <C>
Additional Information........................ 2
Prospectus Summary............................ 3
Risk Factors.................................. 6
The Company................................... 15
Use of Proceeds............................... 20
Dividend Policy............................... 20
Capitalization................................ 21
Dilution...................................... 22
Pro Forma Financial Information............... 23
Selected Financial Information................ 31
Management's Discussion and Analysis of
Financial Condition and Results of
Operations.................................. 32
Business...................................... 37
Management.................................... 58
Certain Transactions.......................... 64
Principal Stockholders........................ 68
Description of Capital Stock.................. 70
Shares Eligible for Future Sale............... 73
Underwriting.................................. 74
Legal Matters................................. 76
Experts....................................... 76
Index to Financial Statements................. F-1
</TABLE>
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UNTIL , 1998 (25 DAYS AFTER THE DATE OF THIS
PROSPECTUS), ALL DEALERS EFFECTING TRANSACTIONS IN THE COMMON STOCK,
WHETHER OR NOT PARTICIPATING IN THIS DISTRIBUTION, MAY BE REQUIRED TO
DELIVER A PROSPECTUS. THIS DELIVERY REQUIREMENT IS IN ADDITION TO THE
OBLIGATION OF DEALERS TO DELIVER A PROSPECTUS WHEN ACTING AS UNDERWRITERS
AND WITH RESPECT TO THEIR UNSOLD ALLOTMENTS OR SUBSCRIPTIONS.
------------------------------------------------------------
------------------------------------------------------------
------------------------------------------------------------
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4,000,000 SHARES
[logo]
COMMON STOCK
-----------------------
PROSPECTUS
-----------------------
HAMBRECHT & QUIST
RAYMOND JAMES &
ASSOCIATES, INC.
VOLPE BROWN WHELAN & COMPANY
, 1998
------------------------------------------------------------
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<PAGE>
PART II
INFORMATION NOT REQUIRED IN PROSPECTUS
ITEM 13. OTHER EXPENSES OF ISSUANCE AND DISTRIBUTION.
The following table sets forth the various expenses in connection with the
sale and distribution of the securities being registered, other than
underwriting discounts and commissions. All of the amounts shown are estimated
except the Securities and Exchange Commission registration fee, the National
Association of Security Dealers, Inc. filing fee and the Nasdaq National Market
listing fee.
<TABLE>
<S> <C>
SEC registration fee................................................................................ $ 15,682
NASD filing fee..................................................................................... 5,675
Nasdaq National Market listing fee.................................................................. 50,000
Blue sky fees and expenses.......................................................................... 1,000
Printing and engraving expenses..................................................................... 350,000
Legal fees and expenses............................................................................. 675,000
Accounting fees and expenses........................................................................ 500,000
Transfer agent and registrar fees................................................................... 15,000
Miscellaneous....................................................................................... 87,643
----------
Total.......................................................................................... $1,700,000
----------
----------
</TABLE>
- ------------------
* To be provided by amendment.
ITEM 14. INDEMNIFICATION OF DIRECTORS AND OFFICERS.
Pursuant to Section 102(b)(7) of the Delaware General Corporation Law (the
'DGCL'), Article VI of the BMJ Medical Management, Inc. (the 'Company' or the
'Registrant') Restated Certificate of Incorporation (the 'Certificate of
Incorporation') (filed as Exhibit 3.1 to this Registration Statement) eliminates
the liability of the Company's directors to the Company or its stockholders,
except for liabilities related to breach of duty of loyalty, actions not in good
faith and certain other liabilities.
Section 145 of the DGCL provides for indemnification by the Company of its
directors and officers. In addition, Article IX, Section 1 of the Company's
By-laws (filed as Exhibit 3.2 to this Registration Statement) requires the
Company to indemnify any current or former director or officer to the fullest
extent permitted by the DGCL. In addition, the Company has entered into
indemnity agreements with its directors (a form of which is filed as Exhibit
10.1 to this Registration Statement) which obligate the Company to indemnify
such directors to the fullest extent permitted by the DGCL. The Company also
maintains officers' and directors' liability insurance, which insures against
liabilities that officers and directors of the Company may incur in such
capacities.
Reference is made to the form of Underwriting Agreement filed as Exhibit
1.1 to this Registration Statement, which provides for indemnification of the
directors and officers of the Company signing the Registration Statement and
certain controlling persons of the Company against certain liabilities,
including those arising under the Securities Act, in certain instances by the
Underwriters.
ITEM 15. RECENT SALES OF UNREGISTERED SECURITIES.
Since May 1996, the Company has issued unregistered securities to investors
and to physicians and certain other individuals in connection with the
affiliation transactions with the medical practices (the 'Affiliation
Transactions'). Each such issuance was made in reliance upon the exemption from
the registration requirements of the Securities Act of 1933, as amended,
contained in Section 4(2) of the Securities Act or Rule 701 promulgated under
the Securities Act on the basis that such transactions did not involve a public
offering.
II-1
<PAGE>
ITEM 15. RECENT SALES OF UNREGISTERED SECURITIES.--(CONTINUED)
1. On May 6, 1996, pursuant to a Stock Purchase Agreement, the Company
issued an aggregate of 1,175,000 shares of Common Stock, $0.001 par value per
share (the 'Common Stock') and 999,999 shares of the Company's Series A
Convertible Preferred Stock, $0.01 par value (the 'Series A Preferred Stock'),
for an aggregate purchase price of $1,011,749 to Naresh Nagpal, M.D. ('Dr.
Nagpal'), Oak VI Affiliates Fund, Limited Partnership ('Oak VI'), Oak Investment
Partners VI, Limited Partnership ('Oak Partners'), Delphi Ventures III, L.P.
('Delphi Ventures'), Delphi BioInvestments III, L.P. ('Delphi BioInvestments')
and Scheer & Company, Inc. ('Scheer').
2. On June 1, 1996, pursuant to the terms of an Incentive Stock Option
Agreement, the Company granted Scott Cielewich an option to purchase 35,715
shares of Common Stock, with an exercise price of $0.01 per share.
3. On June 10, 1996, pursuant to an Incentive Stock Option Agreement, the
Company granted Caridad LaPlace an option to purchase 3,570 shares of Common
Stock with an exercise price of $0.01 per share.
4. On July 1, 1996, the Company issued 321,430 shares of Common Stock
pursuant to a Management Services Agreement and Restricted Stock Agreements to
Lehigh Valley Bone, Muscle and Joint ('LVBMJ') and the following physicians
affiliated with LVBMJ: Thomas Sauer, M.D., Ranjan Sachdev, M.D., Joseph
Garbarino, M.D., John Williams, M.D. and Peter W. Kozicky, M.D.
5. On September 23, 1996, pursuant to an Incentive Stock Option Agreement,
the Company granted Ronald Garey an option to purchase 21,430 shares of Common
Stock with an exercise price of $0.35 per share.
6. On November 1, 1996, pursuant to an Incentive Stock Option Agreement,
the Company granted Deborah Flytuta an option to purchase 3,570 shares of Common
Stock with an exercise price of $0.35 per share.
7. On November 4, 1996, pursuant to an Incentive Stock Option Agreement,
the Company granted Sherry Pulliam an option to purchase 17,855 shares of Common
Stock with an exercise price of $0.35 per share.
8. On November 12, 1996, pursuant to a Stock Purchase Agreement, the
Company issued 2,000,001 shares of its Series B Convertible Preferred Stock,
$0.01 par value (the 'Series B Preferred Stock'), for an aggregate purchase
price of $6,000,003 to Dr. Nagpal, Oak VI, Oak Partners, Delphi Ventures, and
Delphi BioInvestments.
9. On November 22, 1996, pursuant to a Management Services Agreement and
Restricted Stock Agreements, the Company issued 2,857,140 shares of Common Stock
to the following physicians (or their respective corporations) and employees
affiliated with Southern California Orthopedic Institute Medical Group ('SCOI'):
Pamela Westlin, Glenn Cozen, James M. Fox, M.D., Inc., the Friedman Family
Trust, Wilson Del Pizzo, M.D., Inc., Stephen Snyder, M.D., Richard Ferkel, M.D.,
Todd Moldawer, M.D., Gregory Hanker, M.D., Herbert Dennis Huddleston, M.D.,
Inc., A. Elizabeth Bloze, M.D., Todd Molnar, M.D., Trevor P. Lynch, M.D., a
medical corporation, Saul M. Bernstein, M.D., Inc., Steven Schopler, M.D.,
Ronald Karzel, M.D., Hrair Darakjian, M.D., Jonathan Jaivan, M.D., Donald Wiss,
M.D., Patricia McKeever, M.D., and David Auerbach, M.D.
10. On December 2, 1996, pursuant to an Incentive Stock Option Agreement,
the Company granted Randal Farwell an option to purchase 28,570 shares of Common
Stock with an exercise price of $0.49 per share.
11. On December 23, 1996, the Company issued 768,929 shares of Common Stock
to physicians affiliated with South Texas Spinal Clinic ('STSC') in accordance
with the terms of a Management Services Agreement and Restricted Stock
Agreements.
12. On January 1, 1997, pursuant to a Non-qualified Stock Option Agreement,
the Company granted Dr. Nagpal an option to purchase 107,145 shares of Common
Stock with an exercise price of $0.01 per share.
13. On January 1, 1997, pursuant to an Incentive Stock Option Agreement,
the Company granted G. Steven Ensinger an option to purchase 17,855 shares of
Common Stock with an exercise price of $0.49 per share.
14. On January 2, 1997, the Company issued 7,145 shares of Common Stock to
Scott Cielewich upon exercise of the vested portion of his option (which was
granted on June 1, 1996).
II-2
<PAGE>
ITEM 15. RECENT SALES OF UNREGISTERED SECURITIES.--(CONTINUED)
15. On January 14, 1997, the Company issued warrants to purchase an
aggregate of 23,810 shares of Common Stock at an exercise price of $4.20 per
share to Dr. Nagpal, Delphi BioInvestments, Delphi Ventures, Oak VI and Oak
Partners in connection with a bridge loan from such persons to the Company.
16. On January 29, 1997, pursuant to a Stock Purchase Agreement, the
Company issued 183,332 shares of Series C Convertible Preferred Stock, $0.01 par
value (the 'Series C Preferred Stock'), for an aggregate purchase price of
$549,996 to certain of the SCOI physicians, Glenn Cozen and the Saphier and
Heller Retirement Trust.
17. On January 30, 1997, pursuant to an Incentive Stock Option Agreement,
the Company granted Pamela Westlin an option to purchase 15,715 shares of Common
Stock with an exercise price of $0.49 per share.
18. On January 30, 1997, pursuant to an Incentive Stock Option Agreement,
the Company granted Cindy Lesonsky an option to purchase 5,715 shares of Common
Stock with an exercise price of $0.49 per share.
19. On February 1, 1997, pursuant to an Incentive Stock Option Agreement,
the Company granted David Fater an option to purchase 100,000 shares of Common
Stock with an exercise price of $0.49 per share.
20. On February 1, 1997, pursuant to an Incentive Stock Option Agreement,
the Company granted Andrea Seratte an option to purchase 28,570 shares of Common
Stock with an exercise price of $0.49 per share.
21. On March 1, 1997, pursuant to an Incentive Stock Option Agreement, the
Company granted Glenn Cozen an option to purchase 53,570 shares of Common Stock
with an exercise price of $0.49 per share.
22. On March 7, 1997, pursuant to an Incentive Stock Option Agreement, the
Company granted Caridad LaPlace an option to purchase 1,430 shares of Common
Stock with an exercise price of $0.70 per share.
23. On March 12, 1997, pursuant to an Incentive Stock Option Agreement, the
Company granted Robert Cox an option to purchase 28,570 shares of Common Stock
with an exercise price of $0.70 per share.
24. On March 12, 1997, pursuant to a Stock Purchase Agreement, the Company
issued an aggregate of 71,667 shares of Series C Preferred Stock for an
aggregate purchase price of $215,001 to the following persons and entities:
Andrea Seratte, CGJR Health Care Services Private Equities, L.P. ('CGJR Health
Care'), CGJR II, L.P. ('CGJR II'), and CGJR MF/III, L.P. ('CGJR/MF').
25. On April 1, 1997, the Company issued 392,857 shares of Common Stock to
the SCOI physicians who collectively own Center for Orthopedic Surgery, Inc.
('COSI').
26. On April 1, 1997, pursuant to an Incentive Stock Option Agreement, the
Company granted Brent Mellecker an option to purchase 28,570 shares of Common
Stock with an exercise price of $0.70 per share.
27. On April 1, 1997, the Company issued 287,659 shares of Common Stock to
the following physicians affiliated with Tri-City Orthopaedic Surgery Medical
Group, Inc. ('Tri-City'): Neville Alleyne, M.D., James Esch, M.D., James
Helgager, M.D., Norman Kane, M.D., Richard Muir, M.D., Leonard Ozerkis, M.D.,
and Jacob Sharp, M.D.
28. On April 14, 1997, pursuant to an Incentive Stock Option Agreement, the
Company granted Keith Bolton an option to purchase 35,715 shares of Common Stock
with an exercise price of $0.70 per share.
29. On April 14, 1997, pursuant to an Incentive Stock Option Agreement, the
Company granted Lee Bodendorfer an option to purchase 21,430 shares of Common
Stock with an exercise price of $0.70 per share.
30. On April 15, 1997, pursuant to an Incentive Stock Option Agreement, the
Company granted Pamela Montgomery an option to purchase 14,285 shares of Common
Stock with an exercise price of $0.70 per share.
31. On April 30, 1997, pursuant to an Incentive Stock Option Agreement, the
Company granted M. Anthony Anderson an option to purchase 17,855 shares of
Common Stock with an exercise price of $0.70 per share.
32. On May 1, 1997, pursuant to an Incentive Stock Option Agreement, the
Company granted Meg Finnegan an option to purchase 14,285 shares of Common Stock
with an exercise price of $0.70 per share.
II-3
<PAGE>
ITEM 15. RECENT SALES OF UNREGISTERED SECURITIES.--(CONTINUED)
33. On May 1, 1997, pursuant to an Incentive Stock Option Agreement, the
Company granted Norman Lapin an option to purchase 28,570 shares of Common Stock
with an exercise price of $0.70 per share.
34. On May 6, 1997 pursuant to a Management Services Agreement and
Restricted Stock Agreements, the Company issued an aggregate of 352,394 shares
of Common Stock. Such stock was issued in accordance with the following: (a) an
aggregate of 329,259 shares to the following physicians affiliated with
Lauderdale Orthopaedic Surgeons ('LOS'): Martin Silverstein, M.D., Michael
Weiss, M.D., Michael Ruddy, M.D., Raul Aparicio, M.D., Verano Hermida, M.D. and
Paul Greenman, D.P.M., Practice Solutions, (b) an aggregate of 19,725 shares to
LOS' broker and attorney and (c) 3,410 shares to LOS' accountant, Kenneth A.
Ortner, P.A.
35. On May 6, 1997, pursuant to Restricted Stock Agreements, the Company
issued 3,570 shares of Common Stock to each of the following physicians
affiliated with LOS: Martin Silverstein, M.D., Michael Weiss, M.D., Michael
Ruddy, M.D., and Raul Aparicio, M.D.
36. On June 1, 1997, pursuant to an Incentive Stock Option Agreement, the
Company granted Sandra Britton an option to purchase 4,285 shares of Common
Stock with an exercise price of $0.70 per share.
37. On June 1, 1997, the Company issued 42,640 shares of Common Stock to
Clive Segil, M.D., under the terms of a Management Services Agreement and
Restricted Stock Agreement.
38. On June 1, 1997, pursuant to a Management Services Agreement and
Restricted Stock Agreement, the Company issued 60,140 shares of Common Stock to
H. Leon Brooks, M.D, a sole practitioner.
39. On June 1, 1997, pursuant to a Non-qualified Stock Option Agreement,
the Company granted James Hofmann, M.D. an option to purchase 14,285 shares of
Common Stock with an exercise price of $0.35 per share.
40. On June 1, 1997, pursuant to a Non-qualified Stock Option Agreement,
the Company granted Christopher Dankmeyer, M.D. an option to purchase 7,145
shares of Common Stock with an exercise price of $0.35 per share.
41. On June 2, 1997, pursuant to an Incentive Stock Option Agreement, the
Company granted Dana Reynolds an option to purchase 21,430 shares of Common
Stock with an exercise price of $0.70 per share.
42. On June 19, 1997, pursuant to a Stock Purchase Agreement, the Company
issued 188,072 shares of Series D Convertible Preferred Stock, $0.01 par value
(the 'Series D Preferred Stock') to Oak VI, Oak Partners, Delphi Ventures,
Delphi BioInvestments and Dr. Nagpal in exchange for promissory notes in the
principal amount of $999,999 plus accrued interest previously delivered by the
Company to the foregoing.
43. On June 19, 1997, the Company issued an aggregate of 533,335 shares of
its Series E Convertible Preferred Stock, $0.01 par value (the 'Series E
Preferred Stock'), for an aggregate purchase price of $3,200,010 to Dr. Nagpal,
Oak VI, Oak Partners, Delphi Ventures, Delphi BioInvestments, CGJR Health Care,
CGJR II and CGJR/MF.
44. On June 23, 1997, pursuant to an Incentive Stock Option Agreement, the
Company granted Joanna Robben an option to purchase 53,570 shares of Common
Stock with an exercise price of $0.70 per share.
45. On June 30, 1997, the Company issued warrants to purchase 28,570 shares
of Common Stock to HCFP Funding, Inc. ('HCFP Funding') in connection with a
senior secured loan in the aggregate principal amount of $3,250,000 from HCFP
Funding to the Company and issued warrants to purchase an aggregate of 9,525
shares of Common Stock to the following persons in connection with the guarantee
of the loan by such persons: Dr. Nagpal, Delphi Ventures, Delphi BioInvestments,
Oak Partners and Oak VI.
46. On July 1, 1997, pursuant to an Incentive Stock Option Agreement, the
Company granted Denise Truese an option to purchase 3,570 shares of Common Stock
with an exercise price of $0.70 per share.
47. On July 1, 1997, the Company issued 32,220 shares of Common Stock to
John Zimmerman, D.P.M. under the terms of a Management Services Agreement and
Restricted Stock Agreement.
II-4
<PAGE>
ITEM 15. RECENT SALES OF UNREGISTERED SECURITIES.--(CONTINUED)
48. On July 1, 1997, the Company issued 69,645 shares of Common Stock to
Dr. Nagpal upon conversion of his 1996 accrued compensation and cash bonus for
the fiscal year ended December 31, 1996, payable by the Company to him.
49. On July 1, 1997, the Company issued a total of 107,650 shares of Common
Stock to Randy C. Watson, M.D., Keith R. Swanson, M.D. and Stephen P. Abelow,
M.D., who are affiliated with Surgical Associates of Lake Tahoe, L.P. under the
terms of three Management Services Agreements and three Restricted Stock
Agreements.
50. On July 1, 1997, pursuant to the terms of a Management Services
Agreement and Restricted Stock Agreements, the Company issued an aggregate of
88,846 shares of Common Stock to the following physicians affiliated with
Stockdale Podiatry Group, Inc.: Michelle Kraft, D.P.M., Lee Marek, D.P.M., Mark
L. Hamilton, D.P.M. and Mark F. Miller, D.P.M.
51. On July 1, 1997, pursuant to an Incentive Stock Option Agreement, the
Company granted Irene Skau an option to purchase 714 shares of Common Stock with
an exercise price of $1.68 per share.
52. On July 1, 1997, pursuant to an Incentive Stock Option Agreement, the
Company granted Mary Valdez an option to purchase 714 shares of Common Stock
with an exercise price of $1.68 per share.
53. On July 1, 1997, pursuant to an Incentive Stock Option Agreement, the
Company granted Tamara Adinolfi an option to purchase 714 shares of Common Stock
with an exercise price of $1.68 per share.
54. On July 3, 1997, pursuant to a Management Services Agreement and
Restricted Stock Agreements, the Company issued 186,354 shares of Common Stock
to the following physicians, one broker and one attorney affiliated with Fishman
& Stashak, M.D.'s, P.A. (dba Gold Coast Orthopedics), Eric S. Fishman, M.D.,
Gerald T. Stashak, M.D., Mark A. Rubenstein, M.D., Chaim Arlosoroff, M.D., David
J. Menkhaus and Les S. Alt.
55. On July 8, 1997, pursuant to an Incentive Stock Option Agreement, the
Company granted Nancy Strayer an option to purchase 7,145 shares of Common Stock
with an exercise price of $0.70 per share.
56. On July 14, 1997, pursuant to an Incentive Stock Option Agreement, the
Company granted David Ellwanger an option to purchase 89,285 shares of Common
Stock with an exercise price of $0.70 per share.
57. On July 21, 1997, pursuant to an Incentive Stock Option Agreement, the
Company granted Beth Landel an option to purchase 25,000 shares of Common Stock
with an exercise price of $0.70 per share.
58. On July 21, 1997, pursuant to a Non-Qualified Stock Option Agreement,
the Company granted Scott Kazden, M.D. an option to purchase 14,285 shares of
Common Stock with an exercise price of $0.70 per share.
59. On July 22, 1997, pursuant to a Non-Qualified Stock Option Agreement,
the Company granted Scott Dunn an option to purchase 7,143 shares of Common
Stock with an exercise price of $0.70 per share.
60. On July 24, 1997, pursuant to an Incentive Stock Option Agreement, the
Company granted David Coffler an option to purchase 5,715 shares of Common Stock
with an exercise price of $0.70 per share.
61. On July 31, 1997, the Company issued 166,667 shares of Series E
Preferred Stock to Cedar Ventures, LLC (f/k/a HIS Ventures, LLC), an affiliate
of Galtney Corporate Services, Inc. ('Galtney'), for an aggregate purchase price
of $1,000,000.
62. On August 1, 1997, pursuant to an Incentive Stock Option Agreement, the
Company granted Randy Farber an option to purchase 21,430 shares of Common Stock
with an exercise price of $0.70 per share.
63. On August 1, 1997, pursuant to an Incentive Stock Option Agreement, the
Company granted Steven Ensinger an option to purchase 10,715 shares of Common
Stock with an exercise price of $0.84 per share.
64. On August 1, 1997, the Company issued 28,615 shares of Common Stock to
Robert Wilson, M.D. under the terms of a Management Services Agreement and
Restricted Stock Agreement.
65. On August 1, 1997, the Company issued warrants to purchase an aggregate
of 92,855 shares of Series E Preferred Stock, to Comdisco, Inc. ('Comdisco') in
connection with the execution of a (i) Master Lease
II-5
<PAGE>
ITEM 15. RECENT SALES OF UNREGISTERED SECURITIES.--(CONTINUED)
Agreement and (ii) Subordinated Loan and Security Agreement pursuant to which
Comdisco made a subordinated loan to the Company in the aggregate principal
amount of $5,000,000.
66. On August 1, 1997, the Company issued 112,719 shares of Common Stock to
the following physicians affiliated with Sun Valley Orthopaedic Surgeons under
the terms of a Management Services Agreement and Restricted Stock Agreements:
Jon Gelsey, M.D., Martin Sterusky, M.D. and Robert Waldrip, M.D.
67. On August 4, 1997, pursuant to an Incentive Stock Option Agreement, the
Company granted Helen Arnzen an option to purchase 3,570 shares of Common Stock
with an exercise price of $0.70 per share.
68. On August 18, 1997, pursuant to a Stock Purchase Agreement, the Company
issued 41,667 shares of Series E Preferred Stock to Comdisco for an aggregate
purchase price of $250,000.
69. On August 21, 1997, pursuant to an Incentive Stock Option Agreement,
the Company granted Lisa Arnold an option to purchase 3,570 shares of Common
Stock with an exercise price of $0.84 per share.
70. On August 21, 1997, pursuant to an Incentive Stock Option Agreement,
the Company granted Marc Guthart an option to purchase 5,000 shares of Common
Stock with an exercise price of $0.84 per share.
71. On August 22, 1997, the Company issued warrants to purchase an
aggregate of 37,500 shares of Series E Preferred Stock to Galtney in connection
with a Subordinated Loan from Galtney to the Company.
72. On August 26, 1997, pursuant to a Management Services Agreement and
Restricted Stock Agreements, the Company issued 469,225 shares of Common Stock
to the following physicians, one attorney and one broker affiliated with Broward
Orthopedic Specialists, Inc.: Kalman Blumberg, M.D., Michael Reilly, M.D., Alan
Routman, M.D., Jeffrey Cantor, M.D., John Fernandez, M.D., Terence Matthews,
M.D., Steven Naide, M.D., Mitchell Seavey, M.D., David Menkhaus and Les Alt.
73. On August 26, 1997, pursuant to an Incentive Stock Option Agreement,
the Company granted Andrew Heeman an option to purchase 3,570 shares of Common
Stock with an exercise price of $2.80 per share.
74. On September 1, 1997, pursuant to an Incentive Stock Option Agreement,
the Company granted Rick Pakan an option to purchase 7,143 shares of Common
Stock with an exercise price of $3.15 per share.
75. On September 1, 1997, pursuant to an Incentive Stock Option Agreement,
the Company granted Sheldon Lutz an option to purchase 62,500 shares of Common
Stock with an exercise price of $4.69 per share.
76. On September 1, 1997, pursuant to an Incentive Stock Option Agreement,
the Company granted Billie Remsa an option to purchase 4,285 shares of Common
Stock with an exercise price of $3.15 per share.
77. On September 1, 1997, pursuant to an Incentive Stock Option Agreement,
the Company granted Jim Foley an option to purchase 5,714 shares of Common Stock
with an exercise price of $3.15 per share.
78. On September 1, 1997, pursuant to an Incentive Stock Option Agreement,
the Company granted Melissa Reed an option to purchase 3,571 shares of Common
Stock with an exercise price of $2.80 per share.
79. On September 4, 1997, the Company issued 27,305 shares of Common Stock
to Eradio Arredondo, M.D. under the terms of a Management Services Agreement and
Restricted Stock Agreement.
80. On September 5, 1997, the Company issued 51,855 shares of Common Stock
to Kramer & Maehrer, LLC under the terms of a Management Services Agreement and
Restricted Stock Agreement.
81. On September 9, 1997, pursuant to an Amended and Restated Management
Services Agreement and Restricted Stock Agreements, the Company issued 48,595
shares of Common Stock to the following physicians affiliated with LVBMJ: Thomas
Sauer, M.D., Ranjan Sachdev, M.D., Joseph Garbarino, M.D., John Williams, M.D.
and Peter W. Kozicky, M.D.
82. On September 9, 1997, the Company issued and sold $4,000,000 in
aggregate principal amount of its subordinated convertible debentures due 2000
to the following: Dr. Nagpal, Delphi Ventures, Delphi BioInvestments, Oak
Partners, Oak VI, and Health Care Services-BMJ, LLC and HGQ Serv*is Ventures,
L.P.
II-6
<PAGE>
ITEM 15. RECENT SALES OF UNREGISTERED SECURITIES.--(CONTINUED)
affiliates of Hambrecht & Quist, LLC. which are convertible into shares of
Common Stock at an initial conversion price equal to $10.08 per share.
83. On September 9, 1997, pursuant to an Incentive Stock Option Agreement,
the Company granted Georges Daou, director, an option to purchase 35,714 shares
of Common Stock with an exercise price of $2.80 per share.
84. On September 9, 1997, pursuant to an Incentive Stock Option Agreement,
the Company granted Greg Wood an option to purchase 3,571 shares of Common Stock
with an exercise price of $2.80 per share.
85. On September 11, 1997, the Company issued 26,065 shares of Common Stock
to Jeffrey Beitler, M.D. under the terms of a Management Services Agreement and
Restricted Stock Agreement.
86. On September 12, 1997, pursuant to the terms of a Management Services
Agreement and Restricted Stock Agreements, the Company issued an aggregate of
93,380 shares of Common Stock to the following physicians, one attorney and one
broker affiliated with Physical Medicine and Rehabilitation Associates, Inc.:
Marc Levinson, M.D., Joseph Alshon, M.D., Daniel Picard, M.D., Jonathan Tarrash,
M.D., Max Gilbert, M.D., Les S. Alt and David J. Menkhaus.
87. On September 17, 1997, the Company issued 69,836 shares of Common Stock
to Michael Abrahams, M.D. under the terms of a Management Services Agreement and
Restricted Stock Agreement.
88. On October 1, 1997, pursuant to an Incentive Stock Option Agreement,
the Company granted Gary DiBlasio an option to purchase 3,571 shares of Common
Stock with an exercise price of $4.69 per share.
89. On October 1, 1997, pursuant to an Incentive Stock Option Agreement,
the Company granted Mayra Ridder an option to purchase 7,143 shares of Common
Stock with an exercise price of $4.69 per share.
90. On October 1, 1997, pursuant to an Incentive Stock Option Agreement,
the Company granted Roel Gonzalez an option to purchase 1,785 shares of Common
Stock with an exercise price of $4.69 per share.
91. On October 3, 1997, pursuant to the terms of a Restricted Stock
Agreement, the Company issued an aggregate of 359,464 shares of Common Stock to
the following physicians affiliated with Valley Sports and Arthritis Surgeons:
George Arangio, M.D., Thomas DiBenedetto, M.D., Neal Stansbury, M.D., David
Sussman, M.D. and Prodromos Ververeli, M.D.
92. On October 10, 1997, pursuant to the terms of Restricted Stock
Agreements, the Company issued an aggregate of 40,740 shares of Common Stock to
the following physicians affiliated with Orthopaedic Management Network, Inc.:
Gustavo Armendariz, M.D., Philip Bowman, M.D., Roberto Carreon, M.D., Thomas
Carter, M.D., Richard Collins, M.D., Dennis Crandall, M.D., Jody Daggett, M.D.,
Richard Daley, J.D., Jack Davis, M.D., Sherwood Duhon, M.D., Thomas Erickson,
M.D., Norman Fee, M.D., Jonathan Fox, M.D., Charles Gauntt, M.D., Lawrence
Green, M.D., Mark Greenfield, M.D., Dan Heller, M.D., Peter Herwick, M.D.,
Robert Johnson, M.D., Robert Kasa, M.D., Douglas Kelly, M.D., Stuart Kozinn,
M.D., Richard Lane, M.D., John Mahon, M.D., Bruce Mallin, M.D., Bert McKinnon,
M.D., Stephen Milliner, M.D., Gerald Moczynski, M.D., Neil Motzkin, M.D., Paul
Palmer, M.D., William Quinlan, M.D., Vincent Russo, M.D., Ronald Sandler, M.D.,
Saul Schreiber, M.D., Irwin Shapiro, M.D., Victor Tseng, M.D., Larry Verhulst,
M.D., John Whisler, M.D., Robert White, M.D., Ralph Wilson, M.D., Mark Zachary,
M.D. and Jon Zoltan, M.D.
93. On October 15, 1997, pursuant to the terms of a Note Agreement, as
amended, the Company issued warrants to purchase an aggregate of 48,215 shares
of the Company's Common Stock to the following: Dr. Nagpal, Delphi Ventures,
Delphi Bio Investments, Oak Partners, Oak VI and Dr. Fox.
94. On October 16, 1997, pursuant to the terms of a Management Services
Agreement and Restricted Stock Agreements, the Company issued an aggregate of
256,693 shares of Common Stock to the following physicians, one attorney and two
brokers affiliated with OSA: Dr. Eidelson, John VanHouten, M.D., Robert Zann,
M.D., Eric Shapiro, M.D., Edgar Handal, M.D., Brandon Luskin, M.D., Les S. Alt,
David J. Menkhaus and Jeffrey L. Cohen.
95. On October 16, 1997, pursuant to a Non-Qualified Stock Option
Agreement, the Company granted Edgar Handal, M.D. an option to purchase 10,154
shares of Common Stock with an exercise price of $3.15 per share.
II-7
<PAGE>
ITEM 15. RECENT SALES OF UNREGISTERED SECURITIES.--(CONTINUED)
96. On October 16, 1997, pursuant to a Non-Qualified Stock Option
Agreement, the Company granted Brandon Luskin, M.D. an option to purchase 3,877
shares of Common Stock with an exercise price of $3.15 per share.
97. On October 27, 1997, pursuant to an Incentive Stock Option Agreement,
the Company granted Rena Coady an option to purchase 5,714 shares of Common
Stock with an exercise price of $2.80 per share.
98. On October 28, 1997, pursuant to a Non-Qualified Stock Option
Agreement, the Company granted George Kolettis, M.D. an option to purchase
17,442 shares of Common Stock with an exercise price of $3.15 per share.
99. On October 28, 1997, pursuant to the terms of a Management Services
Agreement and Restricted Stock Agreements, the Company issued an aggregate of
210,055 shares of Common Stock to the following physicians, one attorney and one
broker affiliated with LOAS: Bruce Young, M.D., Dominic Kleinhenz, M.D., William
McKay, M.D., George Kolettis, M.D., Thomas Goberville, M.D., Les S. Alt and
David J. Menkhaus.
100. On October 31, 1997, pursuant to the terms of a Management Services
Agreement and Restricted stock Agreements, the Company issued an aggregate of
182,312 shares of Common Stock to the following physicians and one professional
associate affiliated with BIOS: David A. Krant, M.D., Jeffrey B. Worth, M.D.,
Jeffrey A. Crastnopol, M.D., Marc Z. Hammerman, M.D., Gary B. Schwartz, M.D.,
Marshall E. Stauber, M.D., Thomas A. Hoffeld, M.D., Phillip E. Greenbarg, M.D.,
and Peed, Koros, Finkelstein & Crain, P.A.
101. On November 1, 1997, the Company issued warrants to purchase 10,000
shares of Series E Preferred Stock to Comdisco.
102. On November 10, 1997, pursuant to an Incentive Stock Option Agreement,
the Company granted Stefanie Frank an option to purchase 4,285 shares of Common
Stock with an exercise price of $3.85 per share.
103. On November 14, 1997, the Company issued warrants to purchase 25,000
shares of Series E Preferred Stock to Comdisco.
104. On November 21, 1997, pursuant to an Incentive Stock Option Agreement,
the Company granted Stewart Edelson, M.D., director, an option to purchase
35,714 shares of Common Stock with an exercise price of $4.69 per share.
105. On November 21, 1997, pursuant to an Incentive Stock Option Agreement,
the Company granted Jim Douglas an option to purchase 7,143 shares of Common
Stock with an exercise price of $4.69 per share.
106. On November 21, 1997, the Company issued warrants to purchase 23,214
shares of Common Stock to Dr. Nagpal.
107. On November 26, 1997, pursuant to the terms of a Management Services
Agreement and a Restricted Stock Agreement, the Company issued an aggregate of
67,859 shares of Common Stock to the following physicians affiliated with NJOA:
Cary Skolnick, M.D., Manuael T. Banzon, M.D. and Gregg S. Berkowitz, M.D.
108. On December 1, 1997, pursuant to an Incentive Stock Option Agreement,
the Company granted Jim Foley an option to purchase 12,143 shares of Common
Stock with an exercise price of $4.90 per share.
109. On December 1, 1997, pursuant to a Non-Qualified Stock Option
Agreement, the Company granted Gabriel Nabil, consultant, an option to purchase
1,785 shares of Common Stock with an exercise price of $4.90 per share.
110. On December 1, 1997, pursuant to a Non-Qualified Stock Option
Agreement, the Company granted Zoltan Jan, consultant, an option to purchase
7,143 shares of Common Stock with an exercise price of $4.90 per share.
111. On January 2, 1998, the Company issued warrants to purchase 14,286
shares of Common Stock to Dr. Nagpal.
II-8
<PAGE>
ITEM 16. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES.
(a) Exhibits
<TABLE>
<CAPTION>
EXHIBIT NO. DESCRIPTION OF EXHIBIT
- ----------- -------------------------------------------------------------------------------------------------
<S> <C> <C>
*1.1 -- Form of Underwriting Agreement.
*3.1 -- Form of Amended and Restated Certificate of Incorporation of the Registrant.
*3.2 -- By-laws of the Registrant.
*4.1 -- Bone, Muscle and Joint, Inc. 1996 Stock Option Plan.
*5 -- Opinion of O'Sullivan Graev & Karabell, LLP (including the consent of such firm) regarding
legality of securities being offered.
*10.1 -- Stock Purchase Agreement dated as of May 6, 1996 among the Company, Dr. Nagpal, Oak VI, Oak
Partners, Delphi Ventures and Delphi BioInvestments.
*10.2 -- Stock Purchase Agreement dated November 12, 1996 among the Company, Dr. Nagpal, Oak VI, Oak
Partners, Delphi Ventures, and Delphi BioInvestments.
*10.3 -- Stock Purchase Agreement dated January 29, 1997 among the Company, certain physicians affiliated
with SCOI, Glenn Cozen and the Saphier and Heller Law Corporation Retirement Trust.
*10.4 -- Stock Purchase Agreement dated March 12, 1997, among the Company, Andrea Seratte, CGJR Health
Care, CGJR II and CGJR/MF.
*10.5 -- Stock Purchase Agreement dated June 19, 1997, among the Company, Dr. Nagpal, Oak VI, Oak
Partners, Delphi Ventures, Delphi BioInvestments, CGJR Health Care, CGJR II and CGJR/MF.
*10.6 -- Stock Purchase Agreement dated July 31, 1997, between the Company and Cedar Ventures, LLC (f/k/a
HIS Ventures, LLC).
*10.7 -- Stock Purchase Agreement dated August 18, 1997, between the Company and Comdisco.
*10.8 -- Second Term Note dated June 30, 1997, issued by the Company to HCFP Funding.
*10.9 -- Form of Loan and Security Agreement dated March 28, 1997, between the Company and HCFP Funding.
*10.10 -- Subordinated Loan and Security Agreement dated as of August 1, 1997, as amended, between the
Company and Comdisco.
*10.11 -- Master Lease Agreement dated August 1, 1997 between Comdisco and the Company.
*10.12 -- Subordinated Loan and Security Agreement dated as of August 22, 1997 between the Company and
Galtney.
**10.13 -- Convertible Debenture Purchase Agreement dated as of September 9, 1997 among the Company, Dr.
Nagpal, Delphi Ventures, Delphi BioInvestments, Oak VI, Oak Partners, Health Care Services--BMJ,
LLC and HGQ Serv*is Ventures, L.P.
*10.14 -- 8% Promissory Note in the aggregate principal amount of $700,000 issued by the Company and
payable to the order of Dr. Nagpal, dated January 10, 1997.
*10.15 -- 8% Promissory Note in the aggregate principal amount of $167,000 issued by the Company and
payable to the order of Dr. Nagpal, dated January 10, 1997.
*10.16 -- Second Amended and Restated Stockholders Agreement, dated as of November 22, 1996, among the
Company, Dr. Nagpal, Delphi Ventures, Delphi BioInvestments, Oak Partners, Oak VI, Scheer and the
stockholders named therein.
*10.17 -- Employment Agreement between the Company and Dr. Nagpal, dated May 6, 1996.
*10.18 -- Amended and Restated Management Services Agreement, effective as of July 1, 1997, among the
Company, LVBMJ amd certain physicians affiliated with LVBMJ.
*10.19 -- Asset Purchase Agreement, effective as of July 1, 1997, between the Company and OAB.
*10.20 -- Amended and Restated Restricted Stock Agreement, dated as of September 9, 1997, among the
Company, LVBMJ and certain physicians affiliated with LVBMJ.
*10.21 -- Management Services Agreement, effective as of November 1, 1996, as amended, between the Company
and STSC.
*10.22 -- Asset Purchase Agreement, dated as of November 1, 1996, between the Company and STSC.
</TABLE>
II-9
<PAGE>
ITEM 16. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES.--(CONTINUED)
<TABLE>
<CAPTION>
EXHIBIT NO. DESCRIPTION OF EXHIBIT
- ----------- -------------------------------------------------------------------------------------------------
<S> <C> <C>
*10.23 -- Restricted Stock Agreement, dated as of December 23, 1996, between the Company, STSC and certain
physicians affiliated with STSC.
*10.24 -- Stockholder Non-Competition Agreement, dated as of December 23, 1996, among the Company, STSC and
the STSC physicians.
*10.25 -- Management Services Agreement, effective as of April 1, 1997, as amended, among the Company,
Tri-City and the indemnifying persons identified therein.
*10.26 -- Asset Purchase Agreement, dated as of April 1, 1997, between the Company and Tri-City.
*10.27 -- Restricted Stock Agreement, dated as of April 1, 1997, as amended, among the Company, Tri-City
and certain physicians affiliated with Tri-City.
*10.28 -- Stockholder Non-Competition Agreement, dated as of April 1, 1997, among the Company, Tri-City and
certain physicians affiliated with Tri-City.
*10.29 -- Management Services Agreement, effective as of November 1, 1996, as amended, between the Company
and SCOI.
*10.30 -- Asset Purchase Agreement, effective as of November 1, 1996, between the Company and SCOI.
*10.31 -- Restricted Stock Agreement, effective as of November 1, 1996, as amended, among the Company,
SCOI, certain physicians affiliated with SCOI, Delphi Ventures, Delphi BioInvestments, Oak VI and
Oak Partners.
*10.32 -- Stockholder Non-Competition Agreement, effective November 1, 1996, among the Company, SCOI and
certain physicians affiliated with SCOI.
*10.33 -- Management Services Agreement, effective April 1, 1997, as amended, among the Company, LOS and
certain physicians affiliated with LOS.
*10.34 -- Asset Purchase Agreement, effective as of April 1, 1997, between the Company and LOS.
*10.35 -- Restricted Stock Agreement, dated as of May 6, 1997, as amended, among the Company, LOS and
certain physicians affiliated with LOS.
*10.36 -- Stockholder Non-Competition Agreement effective as of April 1, 1997, among the Company, LOS and
certain physicians affiliated with LOS.
*10.37 -- Management Services Agreement, effective as of July 1, 1997, as amended, among the Company, Sun
Valley and the indemnifying persons thereto.
*10.38 -- Asset Purchase Agreement, effective as of July 1, 1997, between the Company and Sun Valley.
*10.39 -- Restricted Stock Agreement, dated as of July 1, 1997, among the Company, Sun Valley and certain
physicians affiliated with Sun Valley.
*10.40 -- Stockholder Non-Competition Agreement, dated as of July 1, 1997, among the Company, Sun Valley
and certain physicians affiliated with Sun Valley.
*10.41 -- Management Services Agreement, effective as of June 1, 1997, as amended, among the Company, Gold
Coast and the physicians affiliated with Gold Coast.
*10.42 -- Asset Purchase Agreement, effective as of June 1, 1997, as amended, between the Company and Gold
Coast.
*10.43 -- Restricted Stock Agreement, effective June 1, 1997, as amended, among the Company and certain
physicians affiliated with Gold Coast.
*10.44 -- Stockholder Non-Competition Agreement, dated August 8, 1997, among the Company and certain
physicians affiliated with Gold Coast.
*10.45 -- Amendatory Agreement dated as of July 3, 1997, between the Company and Gold Coast.
*10.46 -- Note Purchase Agreement dated as of October 15, 1997, among the Company, Dr. Nagpal, Dr. Fox,
Delphi Ventures, Delphi Bio Investments, Oak Partners and Oak VI.
*10.47 -- Management Services Agreement, effective as of September 1, 1997, between the Company and OSA.
*10.48 -- Asset Purchase Agreement, effective as of September 1, 1997, between the Company and OSA.
</TABLE>
II-10
<PAGE>
ITEM 16. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES.--(CONTINUED)
<TABLE>
<CAPTION>
EXHIBIT NO. DESCRIPTION OF EXHIBIT
- ----------- -------------------------------------------------------------------------------------------------
<S> <C> <C>
*10.49 -- Restricted Stock Agreement dated as of October 16, 1997, among the Company, OSA and certain
physicians affiliated with OSA.
*10.50 -- Stockholder Non-Competition Agreement dated as of October 16, 1997, among the Company and certain
physicians affiliated with OSA.
*10.51 -- Management Services Agreement, effective as of September 1, 1997, as amended, between the Company
and BIOS.
*10.52 -- Asset Purchase Agreement, effective as of September 1, 1997, between the Company and BIOS.
*10.53 -- Restricted Stock Agreement dated as of October 31, 1997, among the Company, BIOS and certain
physicians affiliated with BIOS.
*10.54 -- Stockholder Non-Competition Agreement dated as of October 31, 1997, among the Company and certain
physicians affiliated with BIOS.
*10.55 -- Management Services Agreement effective as of September 1, 1997, between the Company and LOAS.
*10.56 -- Asset Purchase Agreements effective as of September 1, 1997, between the Company and certain
affiliates of LOAS.
*10.57 -- Restricted Stock Agreement dated as of October 28, 1997, among the Company, LOAS and certain
physicians affiliated with LOAS.
*10.58 -- Amended and Restated Practice Management Services Agreement dated as of September 26, 1997, among
the Company and certain physicians affiliated with Orthopaedic Management Network, Inc.
*10.59 -- Restricted Stock Agreement dated as of September 26, 1997, among the Company and certain
physicians affiliated with Orthopaedic Management Network, Inc.
*10.60 -- Agreement and Plan of Reorganization and Merger dated as of October 6, 1997, among the Company,
OMNI Acquisition Corporation, Orthopaedic Management Network, Inc. and the shareholders'
representative named therein.
*10.61 -- Tri-Party Agreement dated as of December 31, 1996, between the Company and SCOI.
*10.62 -- Management Services Agreement effective as of September 1, 1997, among the Company, VSI and VSAS.
*10.63 -- Asset Purchase Agreement effective as of October 3, 1997, between the Company and VSI.
*10.64 -- Restricted Stock Agreement dated as of October 3, 1997, among the Company, VSI and certain
physicians affiliated with VSI.
*10.65 -- Stockholder Non-Competition Agreement dated as of October 3, 1997, among the Company and certain
physicians affiliated with VSAS.
*10.66 -- Stock Purchase Agreement dated as of October 3, 1997, among the Company, VSI and the stockholders
listed therein.
*10.67 -- Registration Rights Agreement dated as of August 1, 1997, among the Company, Comdisco and
Galtney.
*10.68 -- Registration Rights Agreement dated as of September 9, 1997, among the Company, Health Care
Services-BMJ, LLC and H&Q Serv*is Ventures L.P.
*10.69 -- Registration Rights Agreement dated as of September 15, 1997, between the Company and Healthcare
Financial Partners, Inc.
*10.70 -- Third Amended and Restate Registration Rights Agreement dated as of September 30, 1997, among the
Company, Dr. Nagpal, Delphi Ventures III, L.P., Delphi Bioinvestments III, L.P., Oak Investment
Partners VI, Limited Partnership, Oak VI Affiliated Fund, Limited Partnership, L.P., CGJR Health
Care Services Private Equities, L.P., CGJR II, L.P., CGJR/MF III, L.P. and HIS Ventures, LLC.
*10.71 -- Management Services Agreement effective as of November 1, 1997, between the Company and NJOA.
*10.72 -- Asset Purchase Agreement effective November 1, 1997, between the Company and Orthopedic
Associates of New Jersey, an affiliate of NJOA.
</TABLE>
II-11
<PAGE>
ITEM 16. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES.--(CONTINUED)
<TABLE>
<CAPTION>
EXHIBIT NO. DESCRIPTION OF EXHIBIT
- ----------- -------------------------------------------------------------------------------------------------
<S> <C> <C>
*10.73 -- Restricted Stock Agreement dated as of November 26, 1997, between the Company and certain
physicians affiliated with NJOA.
*10.74 -- Stockholder Non-Compeitition Agreement dated as of November 26, 1997, among the Company and
certain physicians affiliated with NJOA.
*11.1 -- Schedule of Calculation of Earnings Per Share.
**21 -- List of Subsidiaries.
*23.1 -- Consent of O'Sullivan Graev & Karabell, LLP (to be included as part of its opinion to be filed as
Exhibit 5 hereto).
**23.2 -- Consent of Ernst & Young LLP, independent certified public accountants.
*24 -- Powers of Attorney.
*27 -- Financial Data Schedule.
</TABLE>
- ------------------------
* Previously filed.
** Filed herewith.
(b) Financial Statement Schedules
All schedules are omitted because they are inapplicable or the
requested information is shown in the consolidated financial statements
or related notes.
ITEM 17. UNDERTAKINGS.
The Registrant hereby undertakes to provide to the Underwriters at the
closing specified in the Underwriting Agreement certificates in such
denominations and registered in such names as required by the Underwriters to
permit prompt delivery to each purchaser.
Insofar as indemnification for liabilities arising under the Securities Act
may be permitted to directors, officers and controlling persons of the
Registrant pursuant to the DGCL, the Certificate of Incorporation and By-laws,
or otherwise, the Registrant has been advised that in the opinion of the
Commission such indemnification is against public policy as expressed in the
Securities Act, and is, therefore, unenforceable. In the event that a claim for
indemnification against such liabilities (other than payment by the Registrant
of expenses incurred or paid by a director, officer or controlling person of the
Registrant in the successful defense of any action, suit or proceeding) is
asserted by such director, officer or controlling person in connection with the
securities being registered, the Registrant will, unless in the opinion of its
counsel the matter has been settled by controlling precedent, submit to a court
of appropriate jurisdiction the question whether such indemnification by it is
against public policy as expressed in the Securities Act and will be governed by
the final adjudication of such issue.
The Registrant hereby undertakes that:
(1) For purposes of determining any liability under the Securities
Act, the information omitted from the form of prospectus filed as part of
this registration statement in reliance upon Rule 430A and contained in the
form of prospectus filed by the Registrant pursuant to Rule 424(b)(1) or
(4) or 497(h) under the Securities Act shall be deemed to be part of this
registration statement as of the time it was declared effective.
(2) For the purpose of determining any liability under the Securities
Act, each post-effective amendment that contains a form of prospectus shall
be deemed to be a new registration statement relating to the securities
offered therein, and the offering of such securities at that time shall be
deemed to be the initial bona fide offering thereof.
II-12
<PAGE>
SIGNATURES
PURSUANT TO THE REQUIREMENTS OF THE SECURITIES ACT OF 1933, THE REGISTRANT
HAS DULY CAUSED THIS AMENDMENT NO. 4 TO THE REGISTRATION STATEMENT TO BE SIGNED
ON ITS BEHALF BY THE UNDERSIGNED, THEREUNTO DULY AUTHORIZED, IN THE CITY OF BOCA
RATON, STATE OF FLORIDA ON THE 23RD DAY OF JANUARY, 1998.
BMJ MEDICAL MANAGEMENT, INC.
By: /s/ NARESH NAGPAL
----------------------------------
NAME: NARESH NAGPAL, M.D.
TITLE: President and Chief
Executive Officer
PURSUANT TO THE REQUIREMENTS OF THE SECURITIES ACT OF 1933, THIS AMENDMENT
NO. 4 TO THE REGISTRATION STATEMENT HAS BEEN SIGNED ON THE 23RD DAY OF JANUARY,
1998, BY THE FOLLOWING PERSONS IN THE CAPACITIES INDICATED:
<TABLE>
<CAPTION>
SIGNATURE TITLE
- ------------------------------------------ -------------------------------------------
<S> <C> <C>
/s/ NARESH NAGPAL President, Chief Executive Officer and
- ------------------------------------------ Director (Principal Executive Officer)
Naresh Nagpal, M.D.
/s/ DAVID H. FATER Executive Vice President, Chief Financial
- ------------------------------------------ Officer and Director (Principal Financial
David H. Fater and Accounting Officer)
Director
- ------------------------------------------
Georges Daou
* Director
- ------------------------------------------
Stewart G. Eidelson, M.D.
* Director
- ------------------------------------------
Ann H. Lamont
* Director
- ------------------------------------------
Donald J. Lothrop
* Director
- ------------------------------------------
James M. Fox, M.D.
*By: /s/ DAVID H. FATER
--------------------------------------
DAVID H. FATER, ATTORNEY-IN-FACT
</TABLE>
II-13
<PAGE>
EXHIBIT INDEX
<TABLE>
<CAPTION>
SEQUENTIAL
EXHIBIT NO. DESCRIPTION PAGE NO.
- ----------- --------------------------------------------------------------------------------------------- -----------
<S> <C> <C> <C>
*1.1 -- Form of Underwriting Agreement.
*3.1 -- Form of Amended and Restated Certificate of Incorporation of the Registrant.
*3.2 -- By-laws of the Registrant.
*4.1 -- Bone, Muscle and Joint, Inc. 1996 Stock Option Plan.
*5 -- Opinion of O'Sullivan Graev & Karabell, LLP (including the consent of such firm)
regarding legality of securities being offered.
*10.1 -- Stock Purchase Agreement dated as of May 6, 1996 among the Company, Dr. Nagpal, Oak VI,
Oak Partners, Delphi Ventures and Delphi BioInvestments.
*10.2 -- Stock Purchase Agreement dated November 12, 1996 among the Company, Dr. Nagpal, Oak VI,
Oak Partners, Delphi Ventures, and Delphi BioInvestments.
*10.3 -- Stock Purchase Agreement dated January 29, 1997 among the Company, certain physicians
affiliated with SCOI, Glenn Cozen and the Saphier and Heller Law Corporation Retirement
Trust.
*10.4 -- Stock Purchase Agreement dated March 12, 1997, among the Company, Andrea Seratte, CGJR
Health Care, CGJR II and CGJR/MF.
*10.5 -- Stock Purchase Agreement dated June 19, 1997, among the Company, Dr. Nagpal, Oak VI,
Oak Partners, Delphi Ventures, Delphi BioInvestments, CGJR Health Care, CGJR II and
CGJR/MF.
*10.6 -- Stock Purchase Agreement dated July 31, 1997, between the Company and HIS Ventures,
LLC.
*10.7 -- Stock Purchase Agreement dated August 18, 1997, between the Company and Comdisco.
*10.8 -- Second Term Note dated June 30, 1997, issued by the Company to HCFP Funding.
*10.9 -- Form of Loan and Security Agreement dated March 28, 1997, between the Company and HCFP
Funding.
*10.10 -- Subordinated Loan and Security Agreement dated as of August 1, 1997, as amended,
between the Company and Comdisco.
*10.11 -- Master Lease Agreement dated August 1, 1997 between Comdisco and the Company.
*10.12 -- Subordinated Loan and Security Agreement dated as of August 22, 1997 between the
Company and Galtney.
**10.13 -- Convertible Debenture Purchase Agreement dated as of September 9, 1997 among the
Company, Dr. Nagpal, Delphi Ventures, Delphi BioInvestments, Oak VI, Oak Partners,
Health Care Services--BMJ, LLC and HGQ Serv*is Ventures, L.P.
*10.14 -- 8% Promissory Note in the aggregate principal amount of $700,000 issued by the Company
and payable to the order of Dr. Nagpal, dated January 10, 1997.
*10.15 -- 8% Promissory Note in the aggregate principal amount of $167,000 issued by the Company
and payable to the order of Dr. Nagpal, dated January 10, 1997.
*10.16 -- Second Amended and Restated Stockholders Agreement, dated as of November 22, 1996,
among the Company, Dr. Nagpal, Delphi Ventures, Delphi BioInvestments, Oak Partners,
Oak VI, Scheer and the stockholders named therein.
*10.17 -- Employment Agreement between the Company and Dr. Nagpal, dated May 6, 1996.
*10.18 -- Amended and Restated Management Services Agreement, effective as of July 1, 1997, among
the Company, LVBMJ and certain physicians affiliated with LVBMJ.
*10.19 -- Asset Purchase Agreement, effective as of July 1, 1997, between the Company and OAB.
*10.20 -- Amended and Restated Restricted Stock Agreement, dated as of September 9, 1997, among
the Company, LVBMJ and certain physicians affiliated with LVBMJ.
*10.21 -- Management Services Agreement, effective as of November 1, 1996, as amended, between
the Company and STSC.
*10.22 -- Asset Purchase Agreement, dated as of November 1, 1996, between the Company and STSC.
*10.23 -- Restricted Stock Agreement, dated as of December 23, 1996, between the Company, STSC
and certain physicians affiliated with STSC.
*10.24 -- Stockholder Non-Competition Agreement, dated as of December 23, 1996, among the
Company, STSC and the STSC physicians.
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
SEQUENTIAL
EXHIBIT NO. DESCRIPTION PAGE NO.
- ----------- --------------------------------------------------------------------------------------------- -----------
<S> <C> <C> <C>
*10.25 -- Management Services Agreement, effective as of April 1, 1997, as amended, among the
Company, Tri-City and the indemnifying persons identified therein.
*10.26 -- Asset Purchase Agreement, dated as of April 1, 1997, between the Company and Tri-City.
*10.27 -- Restricted Stock Agreement, dated as of April 1, 1997, as amended, among the Company,
Tri-City and certain physicians affiliated with Tri-City.
*10.28 -- Stockholder Non-Competition Agreement, dated as of April 1, 1997, among the Company,
Tri-City and certain physicians affiliated with Tri-City.
*10.29 -- Management Services Agreement, effective as of November 1, 1996, as amended, between
the Company and SCOI.
*10.30 -- Asset Purchase Agreement, effective as of November 1, 1996, between the Company and
SCOI.
*10.31 -- Restricted Stock Agreement, effective as of November 1, 1996, as amended, among the
Company, SCOI, certain physicians affiliated with SCOI, Delphi Ventures, Delphi
BioInvestments, Oak VI and Oak Partners.
*10.32 -- Stockholder Non-Competition Agreement, effective November 1, 1996, among the Company,
SCOI and certain physicians affiliated with SCOI.
*10.33 -- Management Services Agreement, effective April 1, 1997, as amended, among the Company,
LOS and certain physicians affiliated with LOS.
*10.34 -- Asset Purchase Agreement, effective as of April 1, 1997, between the Company and LOS.
*10.35 -- Restricted Stock Agreement, dated as of May 6, 1997, as amended, among the Company, LOS
and certain physicians affiliated with LOS.
*10.36 -- Stockholder Non-Competition Agreement effective as of April 1, 1997, among the Company,
LOS and certain physicians affiliated with LOS.
*10.37 -- Management Services Agreement, effective as of July 1, 1997, as amended, among the
Company, Sun Valley and the indemnifying persons thereto.
*10.38 -- Asset Purchase Agreement, effective as of July 1, 1997, between the Company and Sun
Valley.
*10.39 -- Restricted Stock Agreement, dated as of July 1, 1997, among the Company, Sun Valley and
certain physicians affiliated with Sun Valley.
*10.40 -- Stockholder Non-Competition Agreement, dated as of July 1, 1997, among the Company, Sun
Valley and certain physicians affiliated with Sun Valley.
*10.41 -- Management Services Agreement, effective as of June 1, 1997, as amended, among the
Company, Gold Coast and the physicians affiliated with Gold Coast.
*10.42 -- Asset Purchase Agreement, effective as of June 1, 1997, as amended, between the Company
and Gold Coast.
*10.43 -- Restricted Stock Agreement, effective June 1, 1997, as amended, among the Company and
certain physicians affiliated with Gold Coast.
*10.44 -- Stockholder Non-Competition Agreement, dated August 8, 1997, among the Company and
certain physicians affiliated with Gold Coast.
*10.45 -- Amendatory Agreement dated as of July 3, 1997, between the Company and Gold Coast.
*10.46 -- Note Purchase Agreement dated as of October 15, 1997, among the Company, Dr. Nagpal,
Dr. Fox, Delphi Ventures, Delphi Bio Investments, Oak Partners and Oak VI.
*10.47 -- Management Services Agreement, effective as of September 1, 1997, between the Company
and OSA.
*10.48 -- Asset Purchase Agreement, effective as of September 1, 1997, between the Company and
OSA.
*10.49 -- Restricted Stock Agreement,dated as of October 16, 1997, among the Company, OSA and
certain physicians affiliated with OSA.
*10.50 -- Stockholder Non-Competition Agreement dated as of October 16, 1997, among the Company
and certain physicians affiliated with OSA.
*10.51 -- Management Services Agreement, effective as of September 1, 1997, as amended, between
the Company and BIOS.
*10.52 -- Asset Purchase Agreement, effective as of September 1, 1997, between the Company and
BIOS.
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
SEQUENTIAL
EXHIBIT NO. DESCRIPTION PAGE NO.
- ----------- --------------------------------------------------------------------------------------------- -----------
<S> <C> <C> <C>
*10.53 -- Restricted Stock Agreement dated as of October 31, 1997, among the Company, BIOS and
certain physicians affiliated with BIOS.
*10.54 -- Stockholder Non-Competition Agreement dated as of October 31, 1997, among the Company
and certain physicians affiliated with BIOS.
*10.55 -- Management Services Agreement effective as of September 1, 1997, between the Company
and LOAS.
*10.56 -- Asset Purchase Agreements effective as of September 1, 1997, between the Company and
certain affiliates of LOAS.
*10.57 -- Restricted Stock Agreement dated as of October 28, 1997, among the Company, LOAS and
certain physicians affiliated with LOAS.
*10.58 -- Form of Amended and Restated Practice Management Services Agreement dated as of
September 26, 1997, among the Company and certain physicians affiliated with
Orthopaedic Management Network, Inc.
*10.59 -- Restricted Stock Agreement dated as of September 26, 1997, among the Company and
certain physicians affiliated with Orthopaedic Management Network, Inc.
*10.60 -- Agreement and Plan of Reorganization and Merger dated as of October 6, 1997, among the
Company, OMNI Acquisition Corporation, Orthopaedic Management Network, Inc. and the
shareholders' representative named therein.
*10.61 -- Tri-Party Agreement dated as of December 31, 1996, between the Company and SCOI.
*10.62 -- Management Services Agreement effective as of September 1, 1997, among the Company, VSI
and VSAS.
*10.63 -- Asset Purchase Agreement effective as of October 3, 1997, between the Company and VSI.
*10.64 -- Restricted Stock Agreement dated as of October 3, 1997, among the Company, VSI and
certain affiliated with VSI.
*10.65 -- Stockholder Non-Competition Agreement dated as of October 3, 1997, among the Company
and certain physicians affiliated with VSAS.
*10.66 -- Stock Purchase Agreement dated as of August 3, 1997, among the Company, VSI and the
stockholders listed therein.
*10.67 -- Registration Rights Agreement dated as of August 1, 1997, among the Company, Comdisco
and Galtney.
*10.68 -- Registration Rights Agreement dated as of September 9, 1997, among the Company, Health
Care Services-BMJ, LLC and H&Q Serv*is Ventures L.P.
*10.69 -- Registration Rights Agreement dated as of September 15, 1997, between the Company and
Healthcare Financial Partners, Inc.
*10.70 -- Third Amended and Restate Registration Rights Agreement dated as of September 30, 1997,
among the Company, Dr. Nagpal, Delphi Ventures III, L.P., Delphi Bioinvestments III,
L.P., Oak Investment Partners VI, Limited Partnership, Oak VI Affiliated Fund, Limited
Partnership, L.P., CGJR Health Care Services Private Equities, L.P., CGJR II, L.P.,
CGJR/MF III, L.P. and HIS Ventures, LLC.
*10.71 -- Management Services Agreement effective as of November 1, 1997, between the Company and
NJOA.
*10.72 -- Asset Purchase Agreement effective November 1, 1997, between the Company and Orthopedic
Associates of New Jersey, an affiliate of NJOA.
*10.73 -- Restricted Stock Agreement dated as of November 26, 1997, between the Company and
certain physicians affiliated with NJOA.
*10.74 -- Stockholder Non-Competition Agreement dated as of November 26, 1997, among the Company
and certain physicians affiliated with NJOA.
*11.1 -- Schedule of Calculation of Earnings Per Share.
**21 -- List of Subsidiaries.
*23.1 -- Consent of O'Sullivan Graev & Karabell, LLP (to be included as part of its opinion to
be filed as Exhibit 5 hereto).
**23.2 -- Consent of Ernst & Young LLP, independent certified public accountants.
*24 -- Powers of Attorney.
*27 -- Financial Data Schedule.
</TABLE>
- ------------------------
* Previously filed.
** Filed herewith.
<PAGE>
EXECUTION COPY
================================================================================
------------------------------
CONVERTIBLE DEBENTURE
PURCHASE AGREEMENT
------------------------------
Dated as of September 9, 1997
================================================================================
<PAGE>
TABLE OF CONTENTS
Page
----
Terms of Purchase; Payment Terms .......................................... 1
1.1 Sale and Purchase ............................................... 1
1.2 Terms of the Debentures ......................................... 1
1.3 Closing ......................................................... 2
2. Representations and Warranties of the Company ......................... 2
2.1 Organization, Good Standing and Qualification ................... 3
2.2 Corporate Power ................................................. 3
2.3 Capitalization and Voting Rights ................................ 3
2.4 Authorization ................................................... 4
2.5 Title to Properties and Assets, Liens, etc ...................... 4
2.6 Certain Contracts or Arrangements ............................... 5
2.7 Compliance with Other Instruments, None Burdensome. etc ......... 5
2.8 Litigation, etc ................................................. 6
2.9 Securities Act .................................................. 6
2.10 Financial Statements; Changes ................................... 6
2.11 Licenses, Accreditation and Regulatory Matters .................. 6
3. Representations and Warranties of Purchasers and Transfer
Restrictions ........................................................ 7
3.1 Representations and Warranties by Each Purchaser ................ 7
3.2 Legends ......................................................... 8
3.3 Removal of Legend and Transfer Restrictions ..................... 9
4. Conditions to Closings ................................................ 9
4.1 Conditions to Obligations of the Purchasers ..................... 9
4.2 Conditions to Obligations of the Company ....................... 10
5. Financial Covenants .................................................. 11
5.1 Indebtedness ................................................... 11
5.2 Liens .......................................................... 12
5.3 Distributions or Redemptions ................................... 13
6. Operating and Reporting Covenants .................................... 13
6.1 Financial Statements; Meetings ................................. 13
6.2 Conduct of Business, Etc ....................................... 14
6.3 Affiliated Transactions ........................................ 14
6.4 Merger, Consolidation, Reorganization, Sale of Assets,
Acquisition .................................................. 15
6.5 No Amendments to Charter Documents ............................. 15
6.6 Restrictions on Other Agreements ............................... 15
6.7 Stay, Extension and Usury Laws ................................. 15
6.8 Right of Participation in Financings ........................... 16
(i)
<PAGE>
Page
----
7. Conversion ........................................................... 16
7.1 Optional Conversion ............................................ 16
7.2 Procedures ..................................................... 17
7.3 Conversion Price Adjustments ................................... 17
7.4 Other Adjustments .............................................. 20
7.5 Mergers and Other Reorganizations .............................. 21
8. Events of Default; Remedies .......................................... 21
8.1 Events of Default .............................................. 21
8.2 Remedies on Default, Etc. ...................................... 23
9. Intercreditor Matters ................................................ 23
9.1 Subordination to Payment ....................................... 23
9.2 Bankruptcy or Liquidation ...................................... 23
9.3 Payment Default on Senior Debt ................................. 24
9.4 Non-Payment Default on Senior Debt ............................. 24
9.5 Limitation on the Exercise of Certain Rights ................... 24
9.6 Subrogation .................................................... 24
9.7 Absolute Obligation ............................................ 25
9.8 Conversion ..................................................... 25
10. Miscellaneous ........................................................ 25
10.1 Waivers and Amendments ......................................... 25
10.2 Governing Law .................................................. 25
10.3 Survival ....................................................... 26
10.4 Successors and Assigns ......................................... 26
10.5 Entire Agreement ............................................... 26
10.6 Notices, etc .................................................. 26
10.7 Separability ................................................... 26
10.8 Finder's Fees .................................................. 26
10.9 Expenses and Fees .............................................. 27
10.10 Titles and Subtitles ........................................... 27
10.11 Counterparts ................................................... 27
10.12 Delays or Omissions ............................................ 27
(ii)
<PAGE>
THIS CONVERTIBLE DEBENTURE PURCHASE AGREEMENT is entered into as of
September 9, 1997, among Bone, Muscle and Joint, Inc., a Delaware corporation
(the "Company"), and each of the undersigned purchasers of Subordinated
Convertible Debentures of the Company (collectively the "Purchasers" and each
individually, a "Purchaser") listed in Exhibit A hereto.
In consideration of the mutual promises, covenants and conditions
hereinafter set forth, the parties hereto mutually agree as follows:
1. Terms of Purchase; Payment Terms.
1.1 Sale and Purchase. Subject to the terms and conditions herein
set forth, the Company shall issue and sell to each of the Purchasers, and each
Purchaser shall purchase from the Company a subordinated convertible debenture
due August 31, 2000 in substantially the form attached hereto as Exhibit B (a
"Debenture" and collectively, the "Debentures") in the principal amount set
forth opposite the name of such Purchaser in Exhibit A hereto for a purchase
price equal to 100% of the principal amount thereof (the "Purchase Price"). The
Debentures, which will aggregate to $4,000,000 in principal amount, will be
dated the date of issuance thereof, mature on August 31, 2000 (the "Maturity
Date"), bear interest and be payable as set forth in Section 1.2 hereof and be
convertible as set forth in Section 7 hereof.
1.2 Terms of the Debentures.
(a) Interest. The Debentures shall bear interest on the unpaid
principal amount thereof from the date of issuance thereof through the Maturity
Date at the rate of six (6%) per annum (the "Interest"). The Interest shall be
computed on the basis of a 360-day year and the actual number of days elapsed,
and be payable on each December 31 and June 30 for the respective six-month
periods ending on each such date, commencing on December 31, 1997, and upon any
other payment or conversion of any principal amount of the Debentures.
(b) Default Interest. In the event that any amount payable in
respect of the Debentures is not paid within fifteen (15) days of when due and
payable (whether at stated maturity, by acceleration or otherwise), the
principal amount of the Debentures, together with all unpaid Interest thereon
shall, notwithstanding anything herein to the contrary and until payment on the
Debentures has been brought current, thereafter bear interest at a rate of ten
percent (10%) per annum, compounded semi-annually.
(c) Principal Payments. Subject to prior prepayment,
acceleration or conversion pursuant to the terms of this Agreement and
prepayments authorized under Section 1.2(f), the Company shall pay the principal
balance of the Debentures, without setoff, deduction or counterclaim, together
in each case with all accrued interest thereon on August 31, 2000.
<PAGE>
(d) Conversion. The Debentures shall be convertible at the
option of a majority in interest of the Purchasers into shares of Common Stock,
$0.001 par value per share ("Common Stock") of the Company, all in accordance
with, on the terms and during the periods set forth in Section 7 hereof. No
conversion of the Debentures shall be permitted except as provided in Section 7
hereof.
(e) Payments on the Debentures. All payments of principal and
interest on the Debentures shall be made by the Company in lawful money of the
United States of America in immediately available funds not later than 12:00
p.m., New York City time, on the date such payment is due, or, if such date is
not a business day, then on the next succeeding business day, at the address of
the Purchasers stated in Exhibit A hereto or, if not so stated, at such other
addresses of which the Company shall have received written notice or, at the
Company's or the Purchaser's election, by crediting the Purchaser's account at a
bank designated by the Purchaser in writing to the Company.
(f) Prepayment. Subject to the Purchaser's rights of conversion
pursuant to the terms of Section 7 hereof, the outstanding principal amount of
the Debentures may be prepaid, in whole but not in part, by the Company at any
time following the second anniversary of the date hereof (the "Second
Anniversary") upon thirty (30) days prior written notice to the Purchasers;
provided, however, that the Company may prepay the Debentures prior to the
Second Anniversary if prior to such date the Company shall have completed an
initial public offering for its Common Stock, such Common Stock shall be listed
on a nationally recognized exchange or the NASDAQ National Market (an "IPO") and
the closing price for such Common Stock shall have been at least 200% of the
initial Conversion Price for twenty (20) out of thirty (30) consecutive trading
days. The Debentures shall be subject to prepayment, at the option of the
Purchasers, upon the consummation of: (i) the sale of all or substantially all
of the assets of the Company; (ii) the sale or transfer of all or a majority of
the outstanding Common Stock of the Company in any one transaction or series of
related transactions; or (iii) the merger or consolidation of the Company with
or into another corporation or entity (other than a wholly-owned subsidiary or
in connection with an acquisition permitted under the terms of this Agreement)
(each of the foregoing, a "Liquidity Event").
1.3 Closing. A closing (the "Closing") of the sale and purchase of
the Debentures shall take place at such location, date and time and in such
manner as shall be mutually agreed upon by the Company and the Purchasers (the
"Closing Date"). At the Closing, the Company will deliver the Debentures being
acquired by each Purchaser against payment of the full Purchase Price therefor
by or on behalf of each Purchaser to the Company by certified or bank cashier's
check or wire transfer of immediately available funds.
2. Representations and Warranties of the Company. The Company hereby
represents and warrants to each of the Purchasers, except as set forth in an
exceptions letter (the "Exceptions Letter") furnished to the Purchasers, as
follows:
2
<PAGE>
2.1 Organization, Good Standing and Qualification. The Company is a
corporation duly organized, validly existing and in good standing under the laws
of the State of Delaware, has all requisite corporate power and authority to own
and operate its properties and assets and to carry on its business as now
conducted, and except as set forth in the Exceptions Letter, does not control,
directly or indirectly, or have an interest in, any other corporation,
association or business entity. The Company is duly qualified to transact
business and is in good standing in each jurisdiction in which the failure to so
qualify would have a material adverse effect on its business or properties. The
Company has made available to counsel for the Purchasers true and complete
copies of the Certificate of Incorporation and the By-laws of the Company, as
amended to date.
2.2 Corporate Power. The Company has all requisite legal and
corporate power to enter into this Agreement and that certain Registration
Rights Agreement of even date herewith among the Company and the Purchasers in
the form of Exhibit C hereto (the "Rights Agreement"), to sell the Debentures
hereunder and to carry out and perform its obligations under the terms of this
Agreement and the Rights Agreement.
2.3 Capitalization and Voting Rights. The authorized capital of the
Company consists of:
(a) Preferred Stock. (i) 8,633,049 shares of preferred stock of
which (A) 999,999 shares are designated Series A Convertible Preferred Stock,
all of which are issued and outstanding; (B) 999,999 shares of which are
designated Series A-1 Convertible Preferred Stock, all of which are reserved for
issuance upon conversion of the Series A Convertible Preferred Stock; (C)
2,000,001 shares are designated Series B Convertible Preferred Stock, all of
which are issued and outstanding; (D) 2,000,001 shares of which are designated
Series B-1 Convertible Preferred Stock, all of which are reserved for issuance
upon conversion of the Series B Convertible Preferred Stock; (E) 254,999 shares
are designated Series C Convertible Preferred Stock, all of which are issued and
outstanding; (F) 189,000 shares are designated Series D Convertible Preferred
Stock, of which 188,072 are issued and outstanding; (G) 189,000 shares of which
are designated Series D-1 Convertible Preferred Stock, all of which are reserved
for issuance upon conversion of the Series D Convertible Preferred Stock, (H)
1,000,025 shares are designated Series E Convertible Preferred Stock, of which
741,669 are issued and outstanding; and (1) 1,000,025 shares of which are
designated Series E-1 Convertible Preferred Stock, all of which are reserved for
issuance upon conversion of the Series E Convertible Preferred Stock. The
rights, preferences, and privileges of the Preferred Stock are as stated in the
Company's Certificate of Incorporation. Without limiting the generality of the
foregoing, all of the outstanding Preferred Stock is currently convertible on a
one-for-one basis into Common Stock and shall be subject to automatic conversion
upon the consummation by the Company of an IPO.
(b) Common Stock. 20,000,000 shares of Common Stock, of which
no more than 10,500,000 shares are issued and outstanding on the date hereof.
3
<PAGE>
(c) Valid Issuance. All the issued and outstanding shares of
Common Stock and Preferred Stock have been duly authorized and are validly
issued, fully paid and nonassessable and were issued in material compliance with
all applicable federal and state securities laws.
(d) Options and Convertible Securities. Except as set forth in
the Exception Letter, there are no outstanding preemptive or other rights,
plans, options, warrants, conversion rights, or agreements for the purchase or
acquisition from the Company of any shares of its capital stock, except for (i)
the conversion privileges of the outstanding Preferred Stock and (ii) 2,000,000
shares of Common Stock reserved for issuance upon the exercise of outstanding
options granted under the Company's 1996 Stock Option Plan. Except as set forth
in the Exceptions Letter, the Company is not a party or subject to any agreement
or understanding, and, to the Company's knowledge, there is no agreement or
understanding between any persons and/or entities, which affects or relates to
the voting or giving of written consents with respect to any security or by a
director of ompany.
2.4 Authorization.
(a) All corporate action on the part of the Company, its
officers, directors and stockholders necessary for (i) the sale and issuance of
the Debentures pursuant hereto, (ii) the issuance of the shares of Common Stock
issuable upon conversion of the Debentures (the "Common Shares") and (iii) the
execution, performance and delivery by the Company of this Agreement and the
Rights Agreement have been taken or will be taken prior to the Closing
hereunder. This Agreement and the Rights Agreement are valid and binding
obligations of the Company enforceable against it in accordance with their terms
except as limited by applicable bankruptcy, insolvency, reorganization,
moratorium or other laws of general application relating to or affecting
enforcement of creditor's rights and rules or laws concerning equitable
remedies.
(b) The Debentures and the Common Shares, when issued in
compliance with the provisions of this Agreement, will be validly issued, fully
paid and nonassessable, and will be free of any liens or encumbrances; provided,
however, that the Debentures and the Common Shares may be subject to
restrictions on transfer under state and/or federal securities laws as set forth
herein or otherwise required by such laws at the time a transfer is proposed.
The Company has reserved for issuance the Common Shares.
(c) No stockholder of the Company has any right of first
refusal, any preemptive rights or any anti-dilution protection in connection
with the issuance and sale of the Debentures or the issuance of the Common
Shares, which has not been fully waived.
2.5 Title to Properties and Assets, Liens, etc. Except as set forth
in the Exceptions Letter, the Company has good and marketable title to its
properties and assets and good title to all its leasehold estates, in each case
subject to no mortgage, pledge, lien, encumbrance or charge, other than or
resulting from taxes which have not yet become delinquent and liens and
encumbrances which do not in any case materially detract from the
4
<PAGE>
value of the property subject thereto or materially impair the operations of
the Company and which have not arisen otherwise than in the ordinary course of
business.
2.6 Certain Contracts or Arrangements. Except for the agreements
and contracts set forth in the Exceptions Letter and those entered into by the
Company in connection with an affiliation transaction with a physician practice
group (a "PSC") (each an "Affiliation Transaction"), the Company is not a party
to (i) any agreement or contract which is not in the ordinary course of business
of the Company requiring payment by or to the Company of an amount in excess of
$50,000; (ii) any contract or agreement regarding the provision of medical
services by the Company to patients, including, without limitation, agreements
with hospitals, physicians, HMOs, PPOs, third party payors, IPAs, PHOs, MSOs,
employers, labor unions, clinics, Medicare intermediaries and Medicaid
intermediaries; or (iii) or contracts or agreements (written or oral), including
any letters of intent, with any Health Care Providers (as defined herein).
None of the Company, or to the best knowledge of the Company, any
company, physician, nurse, technician or other health care provider on behalf of
any physician practice managed by the Company (each, a "Health care Provider"
and collectively, the "Health Care Providers"), (i) has any liability for
renegotiation of government contracts or subcontracts, (ii) has been suspended
or debarred from bidding on contracts or subcontracts with any federal, state or
local agency or governmental authority, (iii) has been audited or investigated
by any such agency or authority with respect to contracts entered into or goods
and services provided by the Company or (iv) has had a contract terminated by
any such agency or authority for default or failure to perform in accordance
with applicable standards.
2.7 Compliance with Other Instruments, None Burdensome. etc. The
Company is not in violation of its charter documents, as amended, or any
material default under any mortgage, indenture, contract, agreement, instrument,
judgment, decree or order by which the Company is bound or to which its
properties are subject or, to the Company's knowledge, any statute, rule, or
regulation applicable to the Company, except for any violation that would not
materially adversely affect the business, assets, liabilities, financial
condition, operations or prospects of the Company. After giving effect to any
consents obtained by the Company from its stockholders and lenders, if
necessary, the execution, delivery and performance of and compliance with this
Agreement and the Rights Agreement and the transactions provided for herein and
therein will not result in any such violation, be in conflict with or constitute
a default under any of the foregoing and will not result in the creation of any
mortgage, pledge, lien, encumbrance or charge upon any of the properties or
assets of the Company pursuant to any of the foregoing. Except as set forth in
the Exceptions Letter, to the best of the Company's knowledge, all instruments,
licenses, contracts, leases or other agreements (collectively "Contracts") to
which the Company is a party are valid and binding and in full force and effect
in all respects, and the Company has not been notified by any party thereto of
any such party's intention or desire to terminate or modify any of such
Contracts, or of any claim or threat that the Company has breached any of such
Contracts.
5
<PAGE>
2.8 Litigation, etc. There are no actions, suits, proceedings or
governmental investigations (including, without limitation, any malpractice
claims, Department of Professional Regulation or Board of Medicine (or
equivalent) action, suit, notice of intent, arbitration or other proceeding)
pending or, to the Company's knowledge, threatened against the Company, any
officer, director or key employee of the Company, or to the Company's actual
knowledge, any Health Care Provider, nor, to the Company's knowledge, is there
any basis therefor, which, in any case, would result in any material adverse
change in the business, prospects, affairs or operations of the Company, or in
any impairment of the right or ability of the Company to carry on its business,
or in any liability on the part of the Company, and none which questions the
validity of this Agreement or the Rights Agreement or any action taken or to be
taken in connection herewith or therewith. The Company is not a party or subject
to any writ, order, decree or judgment, and there is no action, suit or
proceeding currently pending, that the Company has originated.
2.9 Securities Act. Subject to the accuracy of the Purchasers'
representations in Section 4 hereof, the offer, sale and issuance of the
Debentures in conformity with the terms of this Agreement and the issuance of
the Common Shares upon conversion of the Debentures and the issuance of any
presently outstanding securities of the Company constitute transactions exempt
from the registration requirements of Section 5 of the Securities Act of 1933,
as amended (the "Securities Act").
2.10 Financial Statements; Changes. The Company has delivered to
each Purchaser drafts of audited balance sheets of the Company at December 31,
1996 and statements of operations, stockholders' equity (deficiency) and cash
flows for the fiscal year ended December 31, 1996 (the "Audited Financial
Statements"). The Company has also delivered to each Purchaser certain unaudited
balance sheet data as at June 30, 1997, and certain statement of operations data
for the six months then ended (collectively, the "Interim Financial
Statements"). The Audited Financial Statements and the Interim Financial
Statements are complete and correct in all material respects and have been
prepared in accordance with generally accepted accounting principles, and fairly
present the financial position of the Company at the date thereof and the
results of operations, stockholders' equity and cash flows of the Company for
the periods covered thereby. Since June 30, 1997, there has not been, except as
specifically set forth in the Exceptions Letter, any material change in the
assets, liabilities, financial condition or operations of the Company, other
than changes in the ordinary course of business, none of which individually or
in the aggregate has had a material adverse effect on such assets, liabilities,
financial condition or operations of the Company, or to the knowledge of the
Company, any other event or condition of any character that has materially and
adversely affected, or threatened to materially or adversely affect, the results
of operations, financial condition or business of the Company.
2.11 Licenses, Accreditation and Regulatory Matters. Each of the
Company and, to the best knowledge of the Company, each PSC with which the
Company has entered into a management services agreement holds all licenses
which are needed or required by law with respect to their respective businesses,
operations and facilities as presently conducted ("Licenses"), the failure of
which to have would have a material adverse effect on the Company. To the best
knowledge of the Company, all such Licenses are in full force and
6
<PAGE>
effect, and each of the Company and the PSCs is in compliance in all material
respects with all conditions and requirements of the Licenses and with all
laws, rules and regulations relating thereto, the failure with which to comply
could have a material adverse effect in the business, prospects, affairs or
operations of the Company. Neither the Company nor, to the best knowledge of
the Company, the PSCs nor their respective employees or shareholders have
committed a violation of the Medicare and Medicaid fraud and abuse provisions
of the Social Security Act or have violated the terms of any third party payor
contracts to which they are a party. Except as set forth in the Exceptions
Letter, any and all past litigation concerning such licenses, certificates of
need and regulatory approvals, and all claims and causes of action raised
therein, have been finally adjudicated. No such license, certificate of need
or regulatory approval has been revoked, conditioned (except as may be
customary) or restricted, and no action (equitable, legal or administrative),
arbitration or other process is pending, or to the best knowledge of the
Company, threatened, which in any way challenges the validity of or seeks to
revoke, condition or restrict any such license, certificate of need, or
regulatory approval. To the best knowledge of the Company, each PSC has been
duly organized and operated in all material respects as a professional service
corporation or entity in compliance with the laws, rules and regulations of
its jurisdiction of organization, the failure with which to comply could have
a material adverse effect in the business, prospects, affairs or operations of
the Company.
3. Representations and Warranties of Purchasers and Transfer
Restrictions.
3.1 Representations and Warranties by Each Purchaser. Each
Purchaser represents and warrants to the Company as follows (the Company is
entering into this Agreement with each Purchaser in reliance upon each such
Purchaser's representations to the Company set forth below, which by such
Purchaser's execution of this Agreement such Purchaser hereby confirms):
(a) The Debentures and the Common Shares issuable upon
conversion thereof to be acquired by such Purchaser are being acquired by such
Purchaser for such Purchaser's own account, not as a nominee or agent, and not
with a view to the sale or other disposition of any part thereof. Such Purchaser
has no present intention of selling, granting any participation in, or otherwise
disposing of such Debentures or Common Shares or any interest therein.
(b) The Purchaser understands that the Debentures and the
Common Shares have not been registered under the Securities Act or under state
securities laws in reliance upon exemptions from the registration and prospectus
delivery requirements of the Securities Act pursuant to Section 4(2) of the
Securities Act and Regulation D thereunder and in reliance upon certain
exemptions from the registration requirements of applicable state securities
laws. The Company has no present intention of registering the Debentures or the
Common Shares. The Purchaser must therefore bear the economic risk of such
investment indefinitely, unless a subsequent disposition thereof is registered
under the Securities Act and applicable state securities law or is exempt from
registration.
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(c) Each Purchaser represents that: (i) such Purchaser is an
"accredited investor" as defined in Rule 501(a) of Regulation D under the
Securities Act; (ii) such Purchaser has such knowledge and experience in
financial and business matters as to be capable of evaluating the merits and
risks of its prospective investment in the Debentures and the Common Shares
issuable upon conversion thereof; (iii) such Purchaser has received all the
information it has requested from the Company and considers necessary or
appropriate for deciding whether to purchase the Debentures and the Common
Shares issuable upon conversion thereof; (iv) such Purchaser is able, without
materially impairing its financial condition, to hold the Debentures and the
Common Shares issuable upon conversion thereof for an indefinite period of time
and to suffer a complete loss of its investment; and (v) such Purchaser
understands and has fully considered for purposes of this investment the risks
of this investment and understands that: (1) the Company is an enterprise with
limited financial and operating history, (2) the Debentures and the Common
Shares issuable upon conversion thereof represent an extremely speculative
investment which involves a high degree of risk of loss; and (3) there are
substantial restrictions on the transferability of, and there may be no public
market for the Debentures and the Common Shares issuable upon conversion
thereof, and, accordingly, it may not be possible for the Purchaser to liquidate
its investment in the Debentures and the Common Shares issuable upon conversion
thereof.
(d) The Purchaser has the full right, power and authority to
enter into and perform the Purchaser's obligations under this Agreement and the
Rights Agreement, and this Agreement and the Rights Agreement constitute valid
and binding obligations of the Purchaser enforceable against the Purchaser in
accordance with their terms except as limited by applicable bankruptcy,
insolvency, reorganization, moratorium or other laws of general application
relating to or affecting enforcement of creditors' rights and rules or laws
concerning equitable remedies. No consent, approval or authorization of or
designation, declaration or filing with any governmental authority on the part
of the Purchaser is required in connection with the valid execution and delivery
of this Agreement or the Rights Agreement.
3.2 Legends. Each Debenture and each certificate representing the
Common Shares may be endorsed with the following legends (or any legends
substantially to the same effect):
(a) THE SECURITIES REPRESENTED HEREBY HAVE NOT BEEN REGISTERED
UNDER THE SECURITIES ACT OF 1933, AS AMENDED (THE "ACT"), OR UNDER THE
SECURITIES LAWS OF CERTAIN STATES. THESE SECURITIES ARE SUBJECT TO RESTRICTIONS
ON TRANSFERABILITY AND RESALE AND MAY NOT BE TRANSFERRED OR RESOLD EXCEPT AS
PERMITTED UNDER THE ACT AND APPLICABLE STATE SECURITIES LAWS, PURSUANT TO
REGISTRATION OR EXEMPTION THEREFROM. INVESTORS SHOULD BE AWARE THAT THEY MAY BE
REQUIRED TO BEAR THE FINANCIAL RISKS OF THIS INVESTMENT FOR AN INDEFINITE PERIOD
OF TIME. THE ISSUER OF THESE SECURITIES MAY REQUIRE AN OPINION OF COUNSEL IN
FORM AND SUBSTANCE SATISFACTORY TO THE ISSUER TO THE EFFECT THAT ANY
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PROPOSED TRANSFER OR RESALE IS IN COMPLIANCE WITH THE ACT AND ANY APPLICABLE
STATE SECURITIES LAWS.
(b) Any other legends as the Company may reasonably deem to be
required by applicable state securities laws.
In order to ensure and enforce compliance with the restrictions imposed
by applicable law and those referred to in the foregoing legends, or elsewhere
herein, the Company may issue appropriate "stop transfer" instructions to its
transfer agent, if any, with respect to any certificate or other instrument
representing any Debentures or Common Shares, or, if the Company transfers its
own securities, that it may make appropriate notations to the same effect in the
Company's records.
3.3 Removal of Legend and Transfer Restrictions. Any legend
endorsed on a certificate pursuant to Section 3.2 and the stop transfer
instructions or notations with respect to such Debentures or Common Shares shall
be removed, and the Company shall issue a certificate without such legend to the
holder thereof, if such Debentures or Common Shares are registered under the
Securities Act (and a prospectus meeting the requirements of Section 10 of the
Securities Act is available) and are registered under applicable state
securities law, if such legend and instructions may be properly removed under
the terms of Rule 144 promulgated under the Securities Act and under any
applicable state securities law or if such holder provides the Company with an
opinion of counsel for such holder, reasonably satisfactory to legal counsel for
the Company, to the effect that any resale, transfer or assignment of such
Debentures or Common Shares may be made without registration.
4. Conditions to Closings.
4.1 Conditions to Obligations of the Purchasers. The obligation of
each Purchaser to purchase Debentures is subject to the fulfillment on or prior
to the Closing Date of the following conditions, any of which may be waived by
the Purchasers:
(a) Representations and Warranties Correct; Performance of
Obligations. The representations and warranties made by the Company in Section 2
shall be true and complete in all material respects (i) on the date hereof
(except where explicitly made as of a different date) and (ii) on the Closing
Date with the same force and effect as if they had been made on and as of the
Closing Date (except where explicitly made as of a different date); neither the
Company's business, its assets or its conditions shall have experienced any
adverse change prior to the Closing Date; and the Company shall have performed
all obligations and conditions herein required to be performed or observed by it
on or prior to the Closing Date.
(b) Opinion of Company's Counsel. The Purchasers shall have
received from O'Sullivan, Graev & Karabell, LLP, an opinion, dated the Closing
Date, substantially the same, in form and content, as set forth in Exhibit D
hereto.
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(c) Consents and Waivers. The Company shall have obtained any
and all consents (including all governmental or regulatory consents, approvals
or authorizations required in connection with the valid execution and delivery
of this Agreement or the Rights Agreement), permits and waivers necessary or
appropriate for consummation of the transactions provided for in this Agreement
or the Rights Agreement.
(d) Legal Investment. At the time of the Closing, the purchase
of the Debentures by the Purchasers hereunder shall be legally permitted by all
laws and regulations to which the Purchasers and the Company are subject.
(e) Rights Agreement. The Company and each Purchaser and the
other parties required as signatories thereto shall have executed and delivered
the Rights Agreement.
(f) Co-Investment. The Company shall have obtained $4,000,000
in gross proceeds from the sale and issuance of $4,000,000 in principal amount
of subordinated convertible debentures having the same terms as the Debentures
from all of the Purchasers hereunder.
(g) Compliance Certificate. The Company shall have delivered to
the Purchasers a certificate, executed on behalf of the Company by its Chief
Executive Officer, dated the Closing Date, certifying to the fulfillment of the
conditions specified in this Section 4.1.
(h) Proceedings and Documents. All corporate and other
proceedings in connection with the transactions contemplated at the Closing
hereby and all documents and instruments incident to such transactions shall be
reasonably satisfactory in substance and form to the Purchasers and their
special counsel, and the Purchasers and their special counsel shall have
received all such counterpart originals or certified or other copies of such
documents as they may reasonably request.
4.2 Conditions to Obligations of the Company. The Company's
obligation to sell and issue the Debentures is subject to the fulfillment on or
prior to the Closing Date of the following conditions, any of which may be
waived by the Company:
(a) Representations and Warranties. The representations and
warranties made by each Purchaser in Section 3 hereof shall be true and complete
in all material respects (i) on the date hereof and (ii) on the Closing Date
with the same force and effect as if they had been made on and as of the Closing
Date.
(b) Incorporation of Conditions. The conditions set forth in
subsections (c) and (d) of Section 4.1 above shall have been fulfilled.
5. Financial Covenants. The Company (which term shall be deemed to
include, for purposes of this Section 5, any subsidiary or subsidiaries of the
Company) shall comply
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with the following covenants, from the date hereof and for so long as any of
the Debentures remains outstanding.
5.1 Indebtedness. The Company will not directly or indirectly,
incur, create, assume, become or be liable in any manner with respect to, or
permit to exist, any Indebtedness or liability, except: (a) Indebtedness under
the Debentures and any other Indebtedness owed by the Company to the Purchasers;
(b) Indebtedness as described in Schedule 5.1(b); (c) Indebtedness with respect
to trade obligations (including trade payables) and other normal accruals,
including taxes, assessments and other governmental charges, arising in the
ordinary course of business and not yet due and payable, or which are being
contested in good faith by appropriate proceedings, and then only to the extent
the amount thereof has been set aside on the Company's books; (d) Indebtedness
incurred for purchase money obligations and capital leases, so long as: (i) the
pertinent assets are acquired for use in the ordinary course of the Company's
business; and (ii) either the Indebtedness secured thereby does not exceed the
fair market value of such assets or the purchase price thereof if such assets
are acquired directly from the manufacturer or an authorized dealer thereof; (e)
Indebtedness described in Schedule 5.1(e) and current and future Indebtedness
owed to a commercial bank or other commercial lending institution on
commercially reasonable terms and conditions and approved by a majority of the
directors of the Company's Board of Directors (the "Senior Debt"); (f)
Indebtedness in respect of guarantees by the Company to a third party, to the
extent that any such guarantee secures Indebtedness of the Company which is
specifically permitted to be incurred or to remain outstanding under the
provisions of this Section 5.1; (g) Indebtedness incurred in connection with any
Affiliation Transaction; and (k) refinancing of any Indebtedness permitted
hereunder so long as such refinancings comply with the other provisions of this
Agreement and do not result in a material change in the nature of the
Indebtedness being refinanced.
For purposes of this Agreement, the term "Indebtedness" shall mean with
respect to any person or entity, (i) any liability, contingent or otherwise, of
such person or entity (A) for borrowed money (whether or not recourse of the
lender is to the whole of the assets of such person or entity or only to a
portion thereof), (B) evidenced by a note, debenture or similar instrument
(including a purchase money obligation) given in connection with the acquisition
of any property or assets, (C) for any letter of credit or performance bond in
favor of such person or entity, (D) for the payment of money relating to a
capitalized lease obligation, or (E) any liability, contingent or otherwise, of
such person or entity to any other person or entity for any purchase price
associated with any acquisition of assets, business or otherwise (including any
deferred purchase price, assumption of Indebtedness, noncompetition payments or
other forms of consideration); (ii) any liability of others of the kind
described in the preceding clause (i), which the person or entity has guaranteed
or which is otherwise its legal liability, contingent or otherwise; (iii) any
obligation secured by a Lien (as hereinafter defined) to which the property or
assets of such person or entity are subject, whether or not the obligations
secured thereby shall have been assumed by or shall otherwise be such person's
or entity's legal liability; (iv) all other items (except items of capital
stock, capital or paid-in surplus or retained earnings) which in accordance with
generally accepted accounting principles, would be included as a liability on
the balance sheet of such person or entity on the date of determination; and (v)
any and all deferrals, renewals,
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extensions or refinancing of, or amendments, modifications of supplements to,
any liability of the kind described in any of the preceding clauses (i), (ii),
(iii) or (iv).
5.2 Liens. The Company will not, directly or indirectly, create, incur,
assume or suffer to exist any Lien (as defined below) of any nature whatsoever
on any of its assets (including any leasehold interests in property used by the
Company) or ownership interests now or hereafter owned, other than:
(a) Liens securing the payment of taxes and other government
charges, either not yet due or the validity of which is being contested in good
faith by appropriate proceedings, and as to which the Company shall have set
aside on its books adequate reserves to the extent required by generally
accepted accounting principles and provided that, in any event, payment of any
such tax, assessment, charge, levy or claim shall be made before any of the
Company's property shall be seized and sold in satisfaction thereof;
(b) Liens securing Indebtedness permitted under Sections
5.1(b), 5.1(d) and 5.1(e) above or any refinancing of such Indebtedness
permitted under Section 5.1(h);
(c) Deposits under worker's compensation, unemployment
insurance and social security laws;
(d) Restrictions, easements, and minor irregularities in title
which do not and will not materially interfere with the occupation, use and
enjoyment of the properties of the Company in the normal course of business as
presently conducted or materially impair the value of such assets for the
purpose of such business;
(e) Liens imposed by law, such as mechanics', materialmen's,
landlords', warehousemen's, and carriers' Liens and other similar Liens,
securing obligations incurred in the ordinary course of business which are not
past due or which are being contested in good faith by appropriate proceedings
and for which appropriate reserves have been established;
(f) Liens, deposits or pledges to secure the performance of
bids, tenders, contracts (other than contracts for the payment of indebtedness),
leases (to the extent permitted under the terms of this Agreement), public or
statutory obligations, surety, stay, appeal, indemnity, performance or other
similar bonds, or other similar obligations arising in the ordinary course of
business;
(g) Judgment and other similar Liens arising in connection
with court proceedings, provided that the execution or other enforcement of such
Liens is effectively stayed and the claims secured thereby are being actively
contested in good faith and by appropriate proceedings; and
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(h) Liens against the fee interest in real property leased by
the Company which are securing obligations of the owner of such property.
For purposes of this Agreement, the term "Lien" shall mean any interest
in, or claim against, property relating to an obligation owed to, or claim by, a
person or entity other than the owner of the property, whether such interest is
based on the common law, statute or contract, and including but not limited to
any security interest lien arising from a mortgage, encumbrance, pledge,
conditional sale or trust receipt or a lease, consignment or bailment for
security purposes, any rights of first refusal, charges, claims, liabilities,
limitations, conditions, restrictions or other adverse claims. For the purposes
of this Agreement, the Company shall be deemed to be the owner of any property
which it has acquired or holds subject to a conditional sale agreement,
financing lease or other arrangement pursuant to which title to the property has
been retained by or vested in some other person or entity for security purposes
and such retention or vesting shall be deemed to be a Lien.
5.3 Distributions or Redemptions. Except as otherwise expressly
authorized or permitted by this Agreement, the Company will not: (i) make any
distributions of cash, property or securities of the Company with respect to any
of its capital stock; or (ii) directly or indirectly redeem, purchase, or
otherwise acquire for consideration any shares of its capital stock (other than
repurchases of capital stock pursuant to the terms of any restricted stock or
management services agreements).
6. Operating and Reporting Covenants. The Company (which term shall be
deemed to include, for purposes of this Section 6, any subsidiary or
subsidiaries of the Company) shall comply with the following covenants for so
long as any of the Debentures remain outstanding.
6.1 Financial Statements; Meetings. The Company shall maintain
a system of accounts from which financial statements prepared in accordance with
generally accepted accounting principles consistently applied can be derived,
keep full and complete financial records and furnish to each of the Purchasers
the following reports: (a) within 90 days after the end of each fiscal year, a
copy of the consolidated balance sheet of the Company as at the end of such
year, together with statements of operations and cash flow of the Company for
such year, audited by independent public accountants of recognized national
standing reasonably satisfactory to the Purchasers, prepared in accordance with
generally accepted accounting principles consistently applied, and including in
comparative form the corresponding figures for the prior fiscal period; (b)
within 45 days after the end of each calendar quarter, an unaudited consolidated
balance sheet of the Company as at the end of such quarter, and unaudited
statements of operations and cash flow for the Company for such quarter and for
the year to date, and including in comparative form the corresponding figures
for the prior fiscal period; (c) within 30 days after the end of each month, an
unaudited consolidated balance sheet of the Company as at the end of such month
and unaudited statements of operations for the Company for such month and for
the year to date; (d) promptly after the same are available, copies of any proxy
statements, financial statements and reports that the Company shall send or make
available generally to any of its securityholders or file with the Security and
Exchange Commission or other regulatory
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authority; (e) in connection with the annual and quarterly financial statements
delivered pursuant to clauses (a) and (b) above, a certification from the Chief
Financial Officer of the Company if there exists any default or Event of Default
under this Agreement, or any set of facts or circumstances which, with the
giving of notice and/or the passage of time, could constitute such a default or
Event of Default and stating the relevant facts and the related consequences and
what actions the Company proposes to remedy them; and (f) such other financial
information as the Purchasers may reasonably request. Prior to the consummation
of a Qualified IPO, each Purchaser who holds more than $1,000,000 in principal
amount of the Debentures shall be entitled to prior notice of, and to have a
representative participate in, all of the Company's Board of Directors meetings.
The Company shall reimburse all out-of-pocket expenses incurred by any such
representatives in connection with their participation.
6.2 Conduct of Business, Etc. The Company will continue to
engage principally in the business now conducted by the Company or a business or
businesses similar thereto or reasonably compatible therewith. The Company shall
pay and discharge all lawful taxes, assessments and governmental charges or
levies imposed upon it or its property before the same shall become in default,
as well as all lawful claims for labor, materials and supplies which, if not
paid when due, might become a lien or charge upon its property or any part
thereof; provided, however, that the Company shall not be required to pay and
discharge any such tax, assessment, charge, levy or claim so long as the
validity thereof is being contested by it in good faith by appropriate
proceedings and an adequate reserve therefor has been established. The Company
will keep its insurable properties insured, upon reasonable business terms,
against liability, errors and omissions, and the perils of casualty, fire,
business interruption, and extended coverage in amounts of coverage
substantially similar to those customarily maintained by companies in the same
or similar business, and of similar size, as the Company. The Company will also
maintain with such insurers insurance against other hazards and risks and
liability to persons and property to the extent and in the manner customary for
companies engaged in the same or similar business, and of similar size.
6.3 Affiliated Transactions. Except as otherwise permitted
under this Agreement, the Company will not engage in any transactions with, or
make any payments or distributions (excluding management compensation permitted
by Section 6.4) to or for the benefit of, any officer or key employee of the
Company or persons or entities controlling, controlled by, under common control
with the Company unless such transaction shall be conducted on an arm's-length
basis, shall be on terms and conditions no less favorable to the Company than
could be obtained from nonrelated persons and shall be approved by the
independent directors of the Board of Directors after full disclosure of the
terms thereof.
6.4 Merger, Consolidation, Reorganization, Sale of Assets,
Acquisition. Prior to the consummation of an initial public offering raising at
least $24 Million in gross proceeds for the Company (a "Qualified IPO"), the
Company will not without the prior written consent of the Purchasers (which
consent will not be unreasonably withheld): (a) sell, lease or otherwise dispose
of (whether in one transaction or a series of related transactions) all or
substantially all of its assets; or (b) merge with or into or consolidate with
another corporation, partnership or other entity (other than: (i) with a
wholly-owned subsidiary; (ii)
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in connection with an acquisition of a physician practice; or (iii) a merger
between a yet to be formed subsidiary of Bone, Muscle and Joint, Inc. and
Orthopaedic Management Network, Inc.).
6.5 No Amendments to Charter Documents. The Company will not
make any material amendment or modification to, or waiver of any of the terms
of, the Company's Certificate of Incorporation, which would conflict with or
impair any of the rights or privileges granted to the Purchasers.
6.6 Restrictions on Other Agreements. The Company will not
enter into any agreement with any party which by its express terms: (a)
restricts the payments due the holders of the Debentures; or (b) otherwise
conflicts with or impairs any of the express rights or privileges granted to the
Purchasers hereunder.
6.7 Stay, Extension and Usury Laws. For so long as any of the
Debentures remain outstanding, the Company covenants (to the extent that it may
lawfully do so) that it will not at any time insist upon, plead, or in any
manner whatsoever claim or take the benefit or advantage of, any stay, extension
or usury law wherever enacted, now or at any time hereafter in force, which may
affect the covenants or the performance of this Agreement; and the Company (to
the extent that it may lawfully do so) hereby expressly waives all benefit or
advantage of any such law, and covenants that it will not, by resort to any such
law, hinder, delay or impede the execution of any power herein granted to the
Purchasers, but will suffer and permit the execution of every such power as
though no such law has been enacted.
Notwithstanding anything herein or in the Debentures which may be to
the contrary, in no event, contingency, or circumstances whatsoever shall the
interest or any amount deemed to be interest payable by the Company hereunder
with respect to the Debentures exceed the maximum amount permitted by applicable
law and, to the extent that any payments in excess of such permitted amount are
finally determined to have been received by the Purchasers, such excess shall be
considered payments in respect of the principal of the Debentures, and, if the
principal of the Debentures has been paid in full, shall be refunded to the
Company. All sums paid or agreed to be paid to any Purchaser for the use,
forbearance, or detention of the Debentures shall, to the extent permitted by
law, be amortized, prorated, allocated, and spread throughout the entire term of
the Debentures.
6.8 Right of Participation in Financings. The Company
covenants and agrees that it will not sell or issue any shares of its capital
stock, or bonds, certificates of indebtedness, debentures or other securities
convertible into or exchangeable for its capital stock, or options, warrants or
rights carrying any rights to purchase its capital stock or convertible or
exchangeable securities (other than pursuant to (a) bona fide registered public
offerings which are generally available to any investors on non-negotiated
terms, (b) stock or option grants to directors, officers, employees, consultants
or agents of the Company pursuant to bona fide issuances under the Company's
employee, director, consultant and agent stock purchase, stock option or other
employee benefit plans, (c) any transactions involving the acquisition by the
Company of physician practices in which the holders of the
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Common Stock of the Company immediately prior to any such transaction shall
continue to hold a majority of the outstanding Common Stock of the Company
(after giving effect to the exercise of any options, warrants or other rights to
acquire Common Stock or the conversion or exercise of any securities convertible
into or exchangeable for Common Stock which are issued in such transaction)
immediately after such transaction, or (d) Common Stock or warrants issued in
connection with any equipment leasing or financing arrangements with third
parties) unless a written offer is first submitted to the Purchasers identifying
the terms of the proposed sale, and offering to each of the Purchasers the
opportunity to purchase their proportionate share of such securities (subject to
increase for overallotment if some Purchasers do not fully exercise their
rights) on terms and conditions, including price, not less favorable to the
Purchasers than those on which the Company proposes to sell such securities to a
third party. Each Purchaser's "proportionate share" of such securities shall be
based on the ratio which the shares of the Common Stock of the Company owned or
obtainable by such Purchaser upon conversion of any Debentures owned by it bears
to all the issued and outstanding shares of the Common Stock of the Company,
calculated in each case on a fully-diluted basis to include shares of the Common
Stock issuable upon the exercise of any stock options or warrants then
outstanding and upon conversion or exchange of any convertible or exchangeable
securities then outstanding. Any offer to the Purchasers herewith shall remain
open and irrevocable for a period of 30 days. Any securities so offered to the
Purchasers which are not purchased pursuant to such offer may be sold to a third
party on terms and conditions, including price, not more favorable to the third
party than those set forth in such offer at any time within 90 days following
the date of such offer, but may not be sold to any other person or after such
90-day period without renewed compliance with this Section 6.8. In the event
that subsequent to any offer to the Purchasers hereunder, the Company proposes
to amend the terms and conditions offered to any third parties during such
90-day period, it may do so provided that it first provides the Purchasers with
the opportunity to purchase their proportionate share of the offered securities
on such amended terms and conditions on at least fifteen (15) business days
written notice prior to the date on which the securities are to be offered on
such amended terms and conditions to such third parties.
7. Conversion.
7.1 Optional Conversion. Each Debenture shall be convertible,
at the option of the holder thereof, at any time after the date of issuance of
such share, into such number of fully paid and nonassessable shares of Common
Stock as is determined by dividing the original principal amount of such
Debenture by the Conversion Price at the time in effect. The initial Conversion
Price per share shall be $7.20 per share; provided, however, that the Conversion
Price shall be subject to adjustment as set forth in Sections 7.3, 7.4 and 7.5
below.
7.2 Procedures. In connection with the conversion of
Debentures under this Section 7, the Company shall pay to the Purchasers, in
cash, all accrued but unpaid Interest on the Debentures through the date of such
conversion and each Purchaser shall surrender all of its Debentures, marked
canceled, and acknowledged by the Purchasers to be paid-in-full, to the Company
at the Company's principal office in exchange for the shares of
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Common Stock and interest payments described above. Upon delivery of the
Debentures to the Company, marked canceled, the Purchasers shall be deemed to be
shareholders in the Company holding their respective shares of Common Stock. The
Company shall make such filings as are required and obtain all necessary
consents and approvals necessary to consummate such conversion, including, if
applicable, all necessary filings and approvals under Title II of the Hart-
Scott-Rodino Antitrust Improvements Act of 1976, as amended. The Company shall
take all other action that the Purchasers may reasonably request to evidence and
effectuate the Purchasers becoming shareholders holding shares of Common Stock
in the Company. The Company will comply with all applicable state "blue sky" or
securities laws in connection with the issuance and sale of the Debentures, any
of the securities into which the Debentures may be converted and the other
securities issued by the Company.
7.3 Conversion Price Adjustments. The Conversion Price shall be
subject to adjustment from time to time as follows:
(a) Special Adjustments. Notwithstanding anything herein to the
contrary: (i) if the Company consummates an IPO and the Conversion Price
then in effect is greater than the per share offering price in such IPO,
(after giving effect to any other adjustments hereunder effected in
connection with such IPO), the Conversion Price shall be adjusted to such
per share offering price; and (ii) if the Company issues any Common Stock,
options, warrants or other securities convertible into or exercisable for
Common Stock prior to the completion of a Qualified IPO and such issuance
would result in an adjustment to the Conversion Price then in effect under
Section 7.3(c) or (d) hereof then, notwithstanding the provisions of
Section 7.3(c) or (d), the Conversion Price shall be reduced to the issue
price of any such Common Stock (for adjustments otherwise subject to
Section 7.3(c)) or the Net Aggregate Consideration per share of Common
Stock (for adjustments otherwise subject to Section 7.3(d)), it being the
intention of the parties that prior to the completion of a Qualified IPO,
the anti-dilution provisions of this clause (iii) hereof shall afford the
holders of the Debentures with "full-ratchet" anti-dilution protection.
(b) Stock Dividends, Subdivisions and Combinations. Upon the
issuance of additional shares of Common Stock as a dividend or other
distribution on outstanding Common Stock, the subdivision of outstanding
shares of Common Stock into a greater number of shares of Common Stock, or
the combination of outstanding shares of Common Stock into a smaller number
of shares of the Common Stock, the Conversion Price shall, simultaneously
with the happening of such dividend, subdivision or split be adjusted by
multiplying the then effective Conversion Price by a fraction, the
numerator of which shall be the number of shares of Common Stock
outstanding immediately prior to such event and the denominator of which
shall be the number of shares of Common Stock outstanding immediately after
such event. An adjustment made pursuant to this Section 7.3(b) shall be
given effect, upon payment of such a dividend or distribution, as of the
record date for the determination of stockholders entitled to receive such
dividend or distribution (on a retroactive basis)
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and in the case of a subdivision or combination shall become effective
immediately as of the effective date thereof.
(c) Sale of Common Stock. In the event the Company shall at any
time, or from time to time, issue, sell or exchange any shares of Common
Stock (excluding (i) capital stock issued to officers, employees or
directors of, or consultants to, the Company, pursuant to any agreement,
plan or arrangement approved by the Board of Directors of the Company, (ii)
options to purchase or rights to subscribe for such capital stock, or
securities by their terms convertible into or exchangeable for such capital
stock, or options to purchase or rights to subscribe for such convertible
or exchangeable securities, or capital stock issued to physician(s) or
employees of a physician practice group in connection with the execution
and delivery of a management services agreement between such physician(s)
or such physician practice group and the Company or (iii) any shares issued
upon conversion, exercise or exchange of any securities outstanding on the
date hereof and disclosed in Section 2.3 (the "Excluded Stock"), but
including shares held in the Company's treasury), for a consideration per
share less than the Conversion Price in effect immediately prior to the
issuance, sale or exchange of such shares, then, and thereafter
successively upon each such issuance, sale or exchange, the Conversion
Price in effect immediately prior to the issuance, sale or exchange of such
shares shall forthwith be reduced to an amount determined by multiplying
such Conversion Price by a fraction:
(A) the numerator of which shall be (i) the number of shares of
Common Stock of all classes outstanding immediately prior to the
issuance of such additional shares of Common Stock (excluding treasury
shares but including all shares of Common Stock issuable upon
conversion or exercise of any outstanding preferred stock, options,
warrants, rights or convertible securities (including the Convertible
Debentures)), plus (ii) the number of shares of Common Stock which the
net aggregate consideration received by the Company for the total
number of such additional shares of Common Stock so issued would
purchase at the Conversion Price (prior to adjustment), and
(B) the denominator of which shall be (i) the number of shares
of Common Stock of all classes outstanding immediately prior to the
issuance of such additional shares of Common Stock (excluding treasury
shares but including all shares of Common Stock issuable upon
conversion or exercise of any outstanding preferred stock, options,
warrants, rights or convertible securities (including the Convertible
Debentures)), plus (ii) the number of such additional shares of Common
Stock so issued.
(d) Sale of Options, Rights or Convertible Securities. In the event
the Company shall at any time or from time to time, issue options, warrants
or rights to subscribe for shares of Common Stock, or issue any securities
convertible into or exchangeable for shares of Common Stock (other than
Excluded Stock), for a consideration per share (determined by dividing the
Net Aggregate Consideration (as determined below) by the aggregate number
of shares of Common Stock that would
18
<PAGE>
be issued if all such options, warrants, rights or convertible securities
were exercised or converted to the fullest extent permitted by their terms)
less than the Conversion Price in effect immediately prior to the issuance
of such options or rights or convertible or exchangeable securities, the
Conversion Price in effect immediately prior to the issuance of such
options, warrants or rights or securities shall be reduced to an amount
determined by multiplying such Conversion Price by a fraction:
(A) the numerator of which shall be (i) the number of shares of
Common Stock of all classes outstanding immediately prior to the
issuance of such options, rights or convertible securities (excluding
treasury shares but including all shares of Common Stock issuable upon
conversion or exercise of any outstanding preferred stock, options,
warrants, rights or convertible securities (including the Convertible
Debentures), plus (ii) the number of shares of Common Stock which the
total amount of consideration received by the Company for the issuance
of such options, warrants, rights or convertible securities plus the
minimum amount set forth in the terms of such security as payable to
the Company upon the exercise or conversion thereof (the "Net Aggregate
Consideration") would purchase at the Conversion Price prior to
adjustment, and
(B) the denominator of which shall be (i) the number of shares
of Common Stock of all classes outstanding immediately prior to the
issuance of such options, warrants, rights or convertible securities
(excluding treasury shares but including all shares of Common Stock
issuable upon conversion or exercise of any outstanding preferred
stock, options, warrants, rights or convertible securities (including
the Convertible Debentures)), plus (ii) the aggregate number of shares
of Common Stock that would be issued if all such options, warrants,
rights or convertible securities were exercised or converted.
(e) Expiration or Change in Price. If the consideration per share
provided for in any options or rights to subscribe for shares of Common
Stock or any securities exchangeable for or convertible into shares of
Common Stock, changes at any time, the Conversion Price in effect at the
time of such change shall be readjusted to the Conversion Price which would
have been in effect at such time had such options or convertible securities
provided for such changed consideration per share (determined) as provided
in Section 7.1 hereof), at the time initially granted, issued or sold;
provided, that such adjustment of the Conversion Price will be made only as
and to the extent that the Conversion Price effective upon such adjustment
remains less than or equal to the Conversion Price that would be in effect
if such options, rights or securities had not been issued. No adjustment of
the Conversion Price shall be made under this Section 7 upon the issuance
of any additional shares of Common Stock which are issued pursuant to the
exercise of any warrants, options or other subscription or purchase rights
or pursuant to the exercise of any conversion or exchange rights in any
convertible securities if an adjustment shall previously have been made
upon the issuance of such warrants, options or other rights. Any
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<PAGE>
adjustment of the Conversion Price shall be disregarded if, as, and when
the rights to acquire shares of Common Stock upon exercise or conversion of
the warrants, options, rights or convertible securities which gave rise to
such adjustment expire or are canceled without having been exercised, so
that the Conversion Price effective immediately upon such cancellation or
expiration shall be equal to the Conversion Price in effect at the time of
the issuance of the expired or cancelled warrants, options, rights or
convertible securities, with such additional adjustments as would have been
made to that Conversion Price had the expired or cancelled warrants,
options, rights or convertible securities not been issued.
(f) Notices. In each case of an adjustment or readjustment of the
Conversion Price, the Company will furnish each holder of Convertible
Debentures or any Convertible Debentures with a certificate, prepared by
the chief financial officer of the Company, showing such adjustment or
readjustment, and stating in detail the facts upon which such adjustment or
readjustment is based.
7.4 Other Adjustments. In the event the Company shall make or
issue, or fix a record date for the determination of holders of Common Stock
entitled to receive, a dividend or other distribution payable in securities of
the Company other than shares of Common Stock, then and in each such event
lawful and adequate provision shall be made so that the holders of Convertible
Debentures shall receive upon conversion thereof in addition to the number of
shares of Common Stock receivable thereupon, the number of securities of the
Company which they would have received had their Convertible Debentures been
converted into Common Stock on the date of such event and had they thereafter,
during the period from the date of such event to and including the date of such
conversion, retained such securities receivable by them as aforesaid during such
period, giving application to all adjustments called for during such period
under this Section 7 as applied to such distributed securities.
If the Common Stock issuable upon the conversion of the Convertible
Debentures shall be changed into the same or different number of shares of any
class or classes of stock, whether by reclassification or otherwise (other than
a subdivision or combination of shares or stock dividend provided for above, or
a reorganization, merger, consolidation or sale of assets provided for elsewhere
in this Section 7), then and in each such event the holder of each share of
Convertible Debentures shall have the right thereafter to convert such share
into the kind and amount of shares of stock and other securities and property
receivable upon such reorganization, reclassification or other change, by
holders of the number of shares of Common Stock into which such shares of
Convertible Debentures might have been converted immediately prior to such
reorganization, reclassification or change, all subject to further adjustment as
provided herein.
7.5 Mergers and Other Reorganizations. If at any time or from time
to time there shall be a capital reorganization of the Common Stock (other than
a subdivision, combination, reclassification or exchange of shares provided for
elsewhere in this Section 7) or a merger or consolidation of the Company with or
into another Company or the sale of all or substantially all of the Company's
properties and assets to any other person, then, as a
20
<PAGE>
part of and as a condition to the effectiveness of such reorganization, merger,
consolidation or sale, (a) the Company shall provide the holders of the
Convertible Debentures with at least thirty (30) days prior written notice of
such transaction, and (b) lawful and adequate provision shall be made so that
the holders of the Convertible Debentures shall thereafter be entitled to
receive upon conversion of the Debentures the number of shares of stock or other
securities or property of the Company or of the successor Company resulting from
such merger or consolidation or sale, to which a holder of Common Stock
deliverable upon conversion would have been entitled on such capital
reorganization, merger, consolidation, or sale. In any such case, appropriate
provisions shall be made with respect to the rights of the holders of the
Convertible Debentures after the reorganization, merger, consolidation or sale
to the end that the provisions of this Section 7 (including without limitation
provisions for adjustment of the Conversion Price and the number of shares
purchasable upon conversion of the Convertible Debentures) shall thereafter be
applicable, as nearly as may be, with respect to any shares of stock, securities
or assets to be deliverable thereafter upon the conversion of the Convertible
Debentures.
8. Events of Default; Remedies.
8.1 Events of Default. In each case of the happening of the
following events while any of the Debentures are outstanding (each of which is
herein sometimes referred to as an "Event of Default"):
(a) if a default occurs in the payment of any premium,
installment of the principal of, interest on, or other obligation with respect
to, the Debentures, whether at the due date thereof or upon acceleration
thereof, and, solely in the case of any such default in the payment of interest,
charges, fees or expenses, such default continues for more than five (5) days
after the due date thereof;
(b) if any material representation or warranty made herein or
in any agreement executed in connection with, or in any schedule, certificate,
financial statement or other instrument furnished in connection with, this
Agreement shall prove to have been false or misleading when made in any material
respect;
(c) if a default occurs in the due observance or performance of
any covenant, condition or agreement on the part of the Company to be observed
or performed pursuant to the provisions of this Agreement and such default
remains uncured for thirty (30) days after the occurrence thereof, or for such
longer period if the default cannot reasonably be cured within such 30-day
period and the Company is diligently pursuing cure of the default, but in no
event for a period greater than 90 days after written notice thereof has been
delivered by the Purchasers to the Company, provided, however, that if such
default cannot be remedied, then such default shall be deemed to be an Event of
Default as of the date of the occurrence thereof;
(d) if a default occurs with respect to any other Indebtedness
of the Company for borrowed money in an aggregate amount in excess of $500,000
and such default is not remedied or waived within thirty (30) days of the date
thereof;
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<PAGE>
(e) if the Company shall (i) discontinue its business, (ii)
apply for or consent to the appointment of a receiver, trustee, custodian or
liquidator of it or any of its property, (iii) admit in writing its inability to
pay its debts as they mature, (iv) make a general assignment for the benefit of
creditors, or (v) file a voluntary petition in bankruptcy, or a petition or an
answer seeking reorganization or an arrangement with creditors, or to take
advantage of any bankruptcy, reorganization, insolvency, readjustment of debt,
dissolution or liquidation laws or statutes, or an answer admitting the material
allegations of a petition filed against it in any proceeding under any such law,
or if corporate action shall be taken for the purpose of effecting any of the
foregoing;
(f) there shall be filed against the Company an involuntary
petition seeking reorganization of the Company or the appointment of a receiver,
trustee, custodian or liquidator of the Company or a substantial part of its
assets, or an involuntary petition under any bankruptcy, reorganization or
insolvency law of any jurisdiction, whether now or hereafter in effect (any of
the foregoing petitions being hereinafter referred to as an "Involuntary
Petition");
(g) if final judgment(s) from a court of competent jurisdiction
for the payment of money in excess of an aggregate of $500,000 shall be rendered
against the Company and the same shall remain unstayed or undischarged for a
period of thirty (30) consecutive days, during which time execution shall not be
effectively stayed;
(h) if there occurs any attachment of any property of the
Company in an amount exceeding $500,000, which shall not be discharged or bonded
within thirty (30) days of the date of such attachment;
(i) if any of the Company's management services agreements
which during any fiscal year generated fees constituting 20% or more of the
Company's revenues shall be terminated; or
(j) Naresh Nagpal, M.D. shall cease to be and act as President
and Chief Executive Officer of the Company on a full-time basis prior to the
consummation of an initial public offering by the Company;
then, and upon each and every such Event of Default thereafter, and during the
continuance of any Event of Default, at the election of the Purchasers, the
Debentures shall immediately become due and payable, both as to principal and
interest, without presentment, demand, or protest, all of which are hereby
expressly waived, anything contained herein or in the Debentures to the contrary
notwithstanding (except in the case of an Event of Default under subsections (f)
or (g) of this Section, in which event such Debentures shall automatically
become due and payable). In the event of an acceleration of the Debentures as a
result of the filing of an Involuntary Petition as specified in subsection (f)
of this Section, such acceleration shall be rescinded, and the Company's rights
hereunder reinstated, if, within sixty (60) days following the filing of such
Involuntary Petition, such Involuntary Petition shall have been dismissed or
stayed, and there shall exist no other Event of Default under this Agreement.
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<PAGE>
8.2 Remedies on Default, Etc. In case any one or more Events of
Default shall occur and be continuing, the Purchasers may proceed to protect and
enforce their rights by an action at law, suit in equity or other appropriate
proceeding, whether for the specific performance of any agreement contained in
this Agreement or the Debentures, or for an injunction against a violation of
any of the terms hereof or thereof or in and of the exercise of any power
granted hereby or thereby or by law. No right conferred upon the Purchasers
hereby or the Debentures shall be exclusive of any other right referred to
herein or therein or now or hereafter available at law, in equity, by statute or
otherwise.
9. Intercreditor Matters.
9.1 Subordination to Payment. Notwithstanding anything in this
Agreement, in the Debentures or in any of the other documents and instruments
executed and, or, delivered pursuant thereto or in connection therewith to the
contrary, the Debentures shall be subordinate and junior in right of payment to
the Senior Debt of the Company to the extent and in the manner set forth in this
Section 9. Except as specifically provided for otherwise in this Section 9,
payments on account of the Debentures may be made by the Company and such
payments may be received and retained by the Purchasers as and when due.
9.2 Bankruptcy or Liquidation. Upon the event of: (a) any
insolvency or bankruptcy proceedings, or any receivership, liquidation,
reorganization or other similar proceedings with respect to the Company; (b) any
proceedings for voluntary liquidation, dissolution or other winding up of the
Company (whether or not involving insolvency or bankruptcy proceedings); or (c)
any distribution, division or application, partial or complete, voluntary or
involuntary, by operation of law or otherwise, of all or substantially all of
the property, assets or business of the Company or the proceeds thereof to or
for any creditor or creditors other than in the ordinary course of business
(including without limitation any marshalling of assets), all Senior Debt shall
be paid in full in cash (or other property acceptable to the holders of Senior
Debt in their sole determination) before any payment or distribution, direct or
indirect, whether in cash, securities, property or otherwise, shall thereafter
be made on the Debentures; provided, however, that this provision shall not
preclude the Purchasers from (i) exercising their conversion rights under
Section 7 hereof and receiving the Common Shares issuable upon such conversion,
or (ii) exchanging the Debentures for other securities which are subordinated in
right of payment to the Senior Debt on terms which are no more favorable to the
Purchasers than the terms of this Section 9.
9.3 Payment Default on Senior Debt. Except as specifically provided
otherwise in Section 9.8 hereof, during the continuance of any default (without
regard to any applicable grace or cure periods) in the payment of any sums
(principal, interest or otherwise) due and payable on any Senior Debt (whether
as a result of a periodic payment, maturity, acceleration or a mandatory
prepayment), no payment on the Debentures, direct or indirect, whether in cash,
securities, property or otherwise, shall be made after written notice of the
foregoing default is given to the Company and the Purchasers, unless and until
the default under such Senior Debt shall have been cured in full or arrangements
for such cure, which are accepted in writing by the holder of such Senior Debt,
shall have been made.
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<PAGE>
9.4 Non-Payment Default on Senior Debt. Upon the occurrence of a
default on any Senior Debt (without regard to any applicable grace or cure
periods), other than a default described in Section 9.2 or 9.3 above, no payment
on Debentures, direct or indirect, whether in cash, property, securities or
otherwise shall be made from the date that written notice of the foregoing
default is given to the Company and the Purchasers and for a period of 90 days
thereafter, unless and until the default under such Senior Debt shall have been
cured in full or arrangements for such cure, which are accepted in writing by
the holder of such Senior Debt, shall have been made provided; however, that:
(i) no more than two (2) payment blockage periods may be declared hereunder in
any 365-day period; and (ii) no default may be cited as the basis for two (2)
separate payment blockages in any 365-day period.
9.5 Limitation on the Exercise of Certain Rights. The Purchasers
agree that, upon written notice to it from any holder of Senior Debt specifying
such holder's name and address, they will not thereafter, without at least one
day's prior written notice to the holder of such Senior Debt, make any request
or demand for, accelerate or bring any action with respect to, the payment of
the Debentures.
9.6 Subrogation. Upon the payment in full of all Senior Debt, the
Purchasers shall be subrogated to the rights of the holders of Senior Debt to
receive payments or distributions of assets of the Company made on the Senior
Debt until all of the obligations or the Debentures shall be paid in full.
Except as may be otherwise ordered by a court with respect to the payments
contemplated under Section 9.2 hereof, no payments or distributions to the
holders of the Senior Debt of cash, property, securities or otherwise (including
any amounts paid on account of the Debentures which are subsequently paid over
to or held in trust for the benefit of the holders of any Senior Debt) shall, as
between the Company, the Purchasers and the Company's other creditors, be deemed
to be a payment by the Company on account of the Debentures. The provisions of
this Section 9 are intended solely to define the relative rights of the
Purchasers, on the one hand, and the holders of Senior Debt, on the other hand,
vis a vis the Company.
9.7 Absolute Obligation. Nothing contained in this Section 9 is
intended to or shall impair, as among the Company, its creditors other than
holders of Senior Debt and the Purchasers, the obligation of the Company, which
is absolute and unconditional, to pay to the Purchasers any and all sums
outstanding under the Debentures as and when the same shall become due and
payable in accordance with the terms thereof. Nor is anything contained in this
Section 9 intended to: (a) affect the relative rights of the Purchasers and
creditors of the Company other than the holders of Senior Debt; or (b) prevent
the Purchasers from exercising all remedies otherwise permitted by applicable
law upon default, subject to the limitations set forth in Section 9.5 hereof and
to the rights under this Section 9 of the holders of Senior Debt with respect to
cash, property or securities of the Company received upon the exercise of any
such remedy. The failure of the Company to make any payment on the Debentures by
reason of any provision of this Section 9 shall not be construed as preventing
the occurrence of an Event of Default under Section 8.
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<PAGE>
9.8 Conversion. Nothing contained in this Section 9 shall be deemed
to prohibit the rights of the Purchasers to convert the Debentures pursuant to
Section 7 hereof and to receive the Common Shares issuable upon such conversion.
10. Miscellaneous.
10.1 Waivers and Amendments. With the written consent of the record
or beneficial holders of more than a majority in principal amount of the then
outstanding Debentures, (i) the obligations of the Company and the rights of the
holders of the Debentures under this Agreement may be waived (either generally
or in a particular instance, either retroactively or prospectively and either
for a specified period of time or indefinitely), and (ii) the Company, when
authorized by resolution of its Board of Directors, may enter into a
supplementary agreement for the purpose of adding any provisions to or changing
in any manner or eliminating any of the provisions of this Agreement; provided,
however, that no such waiver or supplemental agreement shall reduce the
aforesaid percentage of Debenture holders of which are required to consent to
any waiver or supplemental agreement without the consent of the record or
beneficial holders of all of the Debentures. Upon the effectuation of each such
waiver, amendment or modification, the Company shall promptly give written
notice thereof to the record holders of the Debentures who have not previously
consented thereto in writing. Neither this Agreement nor any provision hereof
may be changed, waived, discharged or terminated orally, but only by a statement
in writing signed by the party against which enforcement of the change, waiver,
discharge or termination is sought, except to the extent provided in this
Section 10. 1.
10.2 Governing Law. This Agreement shall be construed under and
governed by the internal laws of the State of New York without regard to its
conflict of laws provisions.
10.3 Survival. The representations, warranties, covenants and
agreements made herein shall survive the execution of this Agreement and the
Closing.
10.4 Successors and Assigns. Except as otherwise expressly provided
herein, the provisions hereof shall inure to the benefit of, and be binding
upon, the successors, assigns, heirs, executors and administrators of the
parties hereto. The Company may not assign this Agreement.
10.5 Entire Agreement. This Agreement, the exhibits to this
Agreement, the Exceptions Letter, the prospective subscriber questionnaires
completed and signed by the Purchasers, and the Rights Agreement constitute the
full and entire understanding and agreement between the parties with regard to
the subject matter hereof and thereof and supersede and replace any prior or
concurrent agreements, understanding or representations between the Company and
any Purchaser.
10.6 Notices, etc. All notices required or permitted hereunder
shall be in writing and shall be sent via facsimile, overnight courier service
or mailed by first class mail. postage prepaid, addressed or sent (a) if to a
Purchaser, at the address or facsimile
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<PAGE>
number of the Purchaser set forth below such party's name in Exhibit A hereto,
or at such other address or number as the Purchaser shall have furnished to the
Company in writing, or (b) if to the Company at 4800 North Federal Highway,
Suite 104-D Boca Raton, FL 33431, or at such other address or number as the
Company shall have furnished to the Purchasers in writing, with a copy to
Laurence G. Graev, Esq., O'Sullivan Graev & Karabell, LLP, 41st Floor, 30
Rockefeller Plaza, New York, NY 100112.
10.7 Separability. In case any provision of this Agreement shall be
declared invalid, illegal or unenforceable, the validity, legality and
enforceability of the remaining provisions shall not in any way be affected or
impaired thereby.
10.8 Finder's Fees.
(a) The Company (i) represents and warrants that it has
retained no finder or broker in connection with the transactions contemplated by
this Agreement and (ii) hereby agrees to indemnify and to hold the Purchasers
harmless of and from any liability for any commission or compensation in the
nature of a finder's fee to any broker or other person or firm (and the costs
and expenses of defending against such liability or asserted liability) for
which the Company, or any of its employees or representatives, are responsible.
(b) Each Purchaser (i) represents and warrants that it has
retained no finder or broker in connection with the transactions contemplated by
this Agreement and (ii) hereby agrees to indemnify and to hold the Company and
the other Purchasers harmless of and from any liability for any commission or
compensation in the nature of a finder's fee to any broker or other person or
firm (and the costs and expenses of defending against such liability or asserted
liability) for which the Purchaser, or any of the Purchaser's employees or
representatives, are responsible.
10.9 Expenses and Fees. The Company shall bear all of the expenses
and legal fees incurred with respect to this Agreement and the transactions
contemplated hereby, including all legal fees and disbursements of Purchasers'
counsel, as well as any costs incurred by the Purchasers in connection with the
performance, enforcement and amendment of the terms hereof.
10.10 Titles and Subtitles. The titles of the paragraphs and
subparagraphs of this Agreement are for convenience of reference only and are
not to be considered in construing this Agreement.
10.11 Counterparts. This Agreement may be executed in any number
of counterparts, each of which shall be an original, but all of which together
shall constitute one instrument.
10.12 Delays or Omissions. No delay or omission to exercise any
right, power or remedy accruing to any Purchaser, upon any breach or default of
the Company under this Agreement, shall impair any such right, power or remedy,
nor shall it be construed to be a waiver of any such breach or default, or any
acquiescence therein, or of or
26
<PAGE>
in any similar breach or default thereafter occurring, nor shall any waiver of
any single breach or default be deemed a waiver of any other breach or default
theretofore or thereafter occurring. It is further agreed that any waiver,
permit, consent or approval of any kind or character on a Purchaser's part of
any breach or default under this Agreement, or any waiver on a Purchaser's part
of any provisions or conditions of this Agreement must be in writing and shall
be effective only to the extent specifically set forth in such writing and that
all remedies, either under this Agreement, or by law or otherwise afforded to a
Purchaser, shall be cumulative and not alternative.
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<PAGE>
IN WITNESS WHEREOF, the parties have executed this Agreement as of the
day and year finL above written.
"COMPANY"
BONE, MUSCLE AND JOINT, INC.
By: /s/ David H Fater
--------------------------------
Its: EVP and Chief Financial Officer
-------------------------------
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Exhibit 21
Subsidiaries
Jurisdiction of
Name of Subsidiary Incorporation or Organization
- ------------------ -----------------------------
1. BMJ of Lake Tahoe, Inc. Delaware
2. BMJ of Bethlehem, Inc. Delaware
3. BMJ of North Broward, Inc. Delaware
4. BMJ Capital Corp. Delaware
5. BMJ of Bakersfield, Inc. Delaware
6. Orthopaedic Management Network, Inc. Arizona
7. BMJ of Chandler, Inc. Delaware
8. BMJ of Glendale, Inc. Delaware
9. BMJ IPA of Florida, Inc. Delaware
10. BMJ of San Antonio, Inc. Delaware
11. Valley Sports Surgeons, Inc. Pennsylvania
<PAGE>
CONSENT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
We consent to the reference to our firm under the captions "Experts" and
"Selected Financial Data" and to the use of our reports as follows in Amendment
No. 4 to the Registration Statement on Form S-1 (File No. 333-35759) and
related Prospectus of BMJ Medical Management, Inc. dated January 23, 1998.
Report on Finacial Statements Date of Report
- --------------------------------------------------------------------------------
BMJ Medical Management, Inc. November 11, 1997,
except for the 5th
paragraph of Note 1,
as to which the date
is December 23, 1997
Orthopaedic Associates of Bethlehem, Inc. May 28, 1997, except
for Note 13, as to
which the date is
August 14, 1997
Southern California Orthopedic Institute Medical May 23, 1997
Group, a California General Partnership
South Texas Spinal Clinic, P.A. June 5, 1997
Tri-City Orthopedic Surgery Medical Group, Inc. May 17, 1997
Lauderdale Orthopaedic Surgeons May 21, 1997
Fishman and Stashak, M.D.'s, P.A. d/b/a/ Gold Coast July 9, 1997
Orthopedics
Sun Valley Orthopaedic Surgeons, an Arizona General July 18, 1997
Partnership
Orthopaedic Surgery Associates, P.A. October 10, 1997
Broward Institute of Orthopaedic Specialties, P.A. September 5, 1997
/s/ Ernst & Young LLP
West Palm Beach, Florida
January 20, 1998
