<PAGE> 1
FORM 10-Q
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
(Mark One)
X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended SEPTEMBER 30, 1999
OR
__ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from __________ to __________
Commission file number 000-23249
PRIORITY HEALTHCARE CORPORATION
(Exact name of registrant as specified in its charter)
INDIANA 35-1927379
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
285 WEST CENTRAL PARKWAY, SUITE 1704
ALTAMONTE SPRINGS, FLORIDA 32714
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (407) 869-7001
NO CHANGE
(Former name, former address and former fiscal year,
if changed since last report)
Indicate by check mark whether the Registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes X No
--- ---
As of October 12, 1999, the number of shares outstanding of each of the issuer's
classes of common stock were as follows:
Class A Common Stock - 5,498,830
Class B Common Stock - 16,373,479
<PAGE> 2
PART 1 - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS.
PRIORITY HEALTHCARE CORPORATION
CONSOLIDATED STATEMENTS OF EARNINGS
(000'S OMITTED, EXCEPT SHARE DATA)
(UNAUDITED)
<TABLE>
<CAPTION>
NINE-MONTH PERIOD ENDED THREE-MONTH PERIOD ENDED
SEPTEMBER 30, SEPTEMBER 30,
1999 1998 1999 1998
---------------------------------------------------------------
<S> <C> <C> <C> <C>
Net sales $300,320 $193,776 $115,117 $71,723
Cost of products sold 263,249 171,977 100,923 63,670
-------- -------- -------- -------
Gross profit 37,071 21,799 14,194 8,053
Selling, general and administrative expense 14,930 9,887 5,692 3,672
Depreciation and amortization 947 933 333 311
-------- -------- -------- -------
Earnings from operations 21,194 10,979 8,169 4,070
Interest income, net 2,133 640 1,519 334
-------- -------- -------- -------
Earnings before income taxes 23,327 11,619 9,688 4,404
Provision for income taxes 9,261 4,619 3,846 1,751
-------- -------- -------- -------
Net earnings $ 14,066 $ 7,000 $ 5,842 $ 2,653
======== ======== ======== =======
Earnings per share:
Basic $.70 $.37 $.27 $.14
Diluted $.68 $.37 $.26 $.14
Weighted average shares outstanding:
Basic 20,044,558 18,772,812 21,811,719 18,772,812
Diluted 20,600,894 18,868,414 22,444,948 18,897,654
</TABLE>
(See accompanying notes to consolidated financial statements.)
2
<PAGE> 3
PRIORITY HEALTHCARE CORPORATION
CONSOLIDATED BALANCE SHEETS
(000'S OMITTED, EXCEPT SHARE DATA)
<TABLE>
<CAPTION>
(UNAUDITED)
SEPTEMBER 30, DECEMBER 31,
1999 1998
------------------------------------
<S> <C> <C>
ASSETS:
Current assets:
Cash and cash equivalents $ 38,631 $ 2
Marketable securities 64,574 --
Accounts receivable, less allowance for doubtful accounts of
$1,163 and $778, respectively 76,650 56,825
Receivable from BWI 12,940 16,517
Finished goods inventory 24,105 24,387
Deferred income taxes 1,214 1,145
Other current assets 316 284
-------- --------
218,430 99,160
-------- --------
Fixed assets, at cost 4,145 3,279
Less: accumulated depreciation 1,882 1,459
-------- --------
2,263 1,820
-------- --------
Intangibles, net 9,985 6,539
-------- --------
Total assets $230,678 $107,519
======== ========
LIABILITIES AND SHAREHOLDERS' EQUITY:
Current liabilities:
Accounts payable $ 47,248 $ 33,857
Other current liabilities 8,039 3,428
-------- --------
55,287 37,285
-------- --------
Deferred income taxes 216 193
-------- --------
Shareholders' equity:
Preferred stock, no par value, 5,000,000 shares authorized, none
issued and outstanding -- --
Common stock
Class A, $0.01 par value, 15,000,000 shares authorized, (and split
adjusted) 5,622,676 and 15,321,429 issued and outstanding, respectively 56 153
Class B, $0.01 par value, 40,000,000 shares authorized, (and split
adjusted) 16,249,633 and 3,452,214 issued and outstanding, respectively 163 35
Additional paid in capital 150,937 52,859
Retained earnings 31,060 16,994
-------- --------
182,216 70,041
Less: Common stock in treasury (at cost), 284,290 shares in 1999
and none in 1998 7,041 --
-------- --------
Total shareholders' equity 175,175 70,041
-------- --------
Commitments and contingencies -- --
-------- --------
Total liabilities and shareholders' equity $230,678 $107,519
======== ========
</TABLE>
(See accompanying notes to consolidated financial statements.)
3
<PAGE> 4
PRIORITY HEALTHCARE CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(000'S OMITTED)
(UNAUDITED)
<TABLE>
<CAPTION>
NINE-MONTH PERIOD ENDED
SEPTEMBER 30,
1999 1998
----------------------------
<S> <C> <C>
Cash flow from operating activities:
Net income $ 14,066 $ 7,000
Adjustments to reconcile net income to net cash provided
by operating activities:
Depreciation and amortization 947 933
Loss on disposal of fixed assets 25 --
Deferred income taxes (46) --
Change in assets and liabilities, net of acquisitions:
Accounts receivable (19,701) (5,597)
Finished goods inventory 811 4,836
Trade accounts payable 13,295 7,637
Other current assets and liabilities 4,579 314
-------- --------
Net cash provided by operating activities 13,976 15,123
-------- --------
Cash flow from investing activities:
Purchase of marketable securities (64,574) --
Purchase of fixed assets (882) (624)
Acquisition of businesses (4,536) --
-------- --------
Net cash used by investing activities (69,992) (624)
-------- --------
Cash flow from financing activities:
Net change in amounts due to/from BWI 3,577 (15,075)
Repayment of subordinated note payable to BWI -- (6,000)
Proceeds from stock option exercises and related tax benefit 2,036 --
Net proceeds from secondary stock offering 96,073 --
Payment for purchase of treasury stock (7,041) --
Payments on long-term obligations -- (272)
-------- --------
Net cash provided (used) by financing activities 94,645 (21,347)
-------- --------
Net increase (decrease) in cash 38,629 (6,848)
Cash and cash equivalents at beginning of period 2 9,484
-------- --------
Cash and cash equivalents at end of period $ 38,631 $ 2,636
======== ========
Supplemental cash flow information:
Interest paid $ -- $ 351
Income taxes paid $ 5,385 $ 4,619
</TABLE>
(See accompanying notes to consolidated financial statements.)
4
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PRIORITY HEALTHCARE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
1. The accompanying consolidated financial statements have been prepared by
the Company without audit. Certain information and footnote disclosures,
including significant accounting policies, normally included in financial
statements prepared in accordance with generally accepted accounting
principles have been condensed or omitted. The Company believes that the
financial statements for the three and nine month periods ended September
30, 1999 and 1998 include all necessary adjustments for fair presentation.
Results for any interim period may not be indicative of the results for the
entire year.
2. On April 7, 1999, the Company announced that the Board of Directors
authorized a 3-for-2 stock split of the Company's Common Stock to be
effected as a stock dividend to all shareholders of record at the close of
business on April 20, 1999, the Record Date. Shareholders on the Record
Date received a stock dividend of one share for each two shares held. The
stock dividend was paid on May 4, 1999. Holders of the Class A Common Stock
received Class A shares in the split and holders of Class B Common Stock
received Class B shares. Cash was paid in lieu of fractional shares. The
amounts presented herein give effect to the stock split as if it had
occurred at the beginning of all periods presented.
3. A reconciliation of the basic and diluted weighted average shares
outstanding is as follows for the three and nine month periods ended
September 30, 1999 and 1998:
(In Thousands) 1999 1998
---- ----
Nine-month period ended September 30:
Weighted average number of Class A and Class B
Common shares outstanding used as the denominator
in the basic earnings per share calculation 20,045 18,773
Additional shares assuming exercise of dilutive
stock options 556 95
------ ------
Weighted average number of Class A and Class B
Common and equivalent shares used as the denominator
in the diluted earnings per share calculation 20,601 18,868
====== ======
Three-month period ended September 30:
Weighted average number of Class A and Class B
Common shares outstanding used as the denominator
in the basic earnings per share calculation 21,812 18,773
Additional shares assuming exercise of dilutive
stock options 633 125
------ ------
Weighted average number of Class A and Class B
Common and equivalent shares used as the denominator
in the diluted earnings per share calculation 22,445 18,898
====== ======
4. On April 12, 1999, the Company completed an acquisition of the majority of
the operating assets of Pharmacy Plus, Ltd., a specialty pharmacy in
Philadelphia, Pennsylvania, that primarily provides injectable
biopharmaceuticals. The acquisition was accounted for using the purchase
method of accounting and the results of operations are included in the
consolidated financial statements subsequent to the date of acquisition.
The
5
<PAGE> 6
total purchase price for the Pharmacy Plus assets was approximately $3.5
million, which included approximately $450,000 for inventory and fixed
assets and resulted in approximately $3.1 million of goodwill. No
indebtedness was assumed. The results of operations of Pharmacy Plus would
not have been material to the results of the Company for the periods
presented in these financial statements.
On September 2, 1999, the Company completed an acquisition of the majority
of the operating assets of Monitors Unlimited, Inc., a distributor in the
oral surgery market. The acquisition was accounted for using the purchase
method of accounting and the results of operations are included in the
consolidated financial statements subsequent to the date of acquisition.
The total purchase price for the Monitors Unlimited assets was
approximately $1.0 million, which included approximately $245,000 for
inventory and accounts receivable, approximately $95,000 in assumed
accounts payable debt, and resulted in approximately $850,000 of goodwill.
Additionally, contingent on related sales volume during the third quarter
of 2000, up to $200,000 of the Company's Class B Common Stock may be
payable to the sellers of Monitors Unlimited. The stock is now being held
in escrow. The results of operations of Monitors Unlimited would not have
been material to the results of the Company for the periods presented in
these financial statements.
5. In June and July of 1999, the Company sold an aggregate of 2,990,000 shares
of Class B Common Stock in a secondary public offering (the "Offering") for
$32.30 per share after underwriting discount but before expenses of the
Offering. The net proceeds of approximately $96.1 million are being used
for working capital and general corporate purposes, including potential
acquisitions.
6. In accordance with provisions of Statement of Financial Accounting Standard
No. 115, "Accounting for Certain Investments in Debt and Equity
Securities," the Company has classified all of its investments in
marketable securities as available-for-sale. These investments are stated
at fair value, with any unrealized holding gains or losses, net of tax,
included as a component of shareholders' equity until realized. The cost of
debt securities classified as available-for-sale is adjusted for
amortization of premiums and accretion of discounts to maturity. Interest
income is included as a component of current earnings. Investments with an
original maturity of 90 days or less are included as cash equivalents.
At September 30, 1999 all of the Company's investments in marketable
securities were investment-grade government and corporate debt instruments.
These investments had a fair value of approximately $98.4 million (which
includes approximately $33.9 million classified as cash equivalents), which
approximates their amortized cost. There were no unrealized holding gains
or losses at September 30, 1999 and all investments mature within one year
from that date. No investments were disposed of during the three or nine
month periods ended September 30, 1999 and there were no realized gains or
losses recorded in earnings for those periods. The Company had no
investment in marketable securities at December 31, 1998.
7. IV-1, Inc. ("IV-1") and IV-One Services, Inc. ("IV-One Services") have been
named as defendants in a second amended counterclaim filed by Amgen, Inc.
("Amgen") on May 14, 1996, in the Circuit Court of the Eighteenth Judicial
District of Seminole County, Florida. Amgen has asserted that these
entities tortiously interfered with a license agreement (the "License
Agreement") between Amgen and Ortho Pharmaceutical Corporation ("Ortho").
Pursuant to this agreement, Amgen licensed Ortho to sell EPO for use in the
treatment of non-dialysis patients, while Amgen reserved the exclusive
right to sell EPO for use in the treatment of dialysis patients. Amgen has
asserted that, prior to the purchase of IV-1 and IV-One Services by the
Company, these entities induced Ortho to sell EPO to them for resale in the
dialysis market in contravention of the License Agreement. Amgen has also
alleged that IV-1 and IV-One Services were involved in a civil conspiracy
to circumvent the terms of the License Agreement to allow the resale of EPO
to the dialysis market. Furthermore, Amgen has asserted unfair competition
claims against IV-1, including that IV-1 manufactured and distributed
unapproved prefilled syringes of EPO and another product manufactured by
Amgen in container systems unapproved by Amgen. Amgen did not specify a
time frame for the acts complained of in the civil conspiracy and unfair
competition allegations. In each count, Amgen has demanded an unspecified
amount of compensatory damages, including costs and interest.
6
<PAGE> 7
The Company believes that the sellers of IV-1, IV-One Services and Charise
Charles, Ltd., Inc. ("Charise Charles") are contractually obligated to
provide legal defense and to indemnify the Company for losses and
liabilities with respect to this litigation, to the extent that the alleged
acts occurred prior to the purchase of such entities by the Company. To
date, the sellers have provided the legal defense for IV-1 and IV-One
Services in the litigation. Indemnification from the sellers of IV-1 and
IV-One Services is limited to no more than $1.5 million and indemnification
from the sellers of Charise Charles is limited to no more than $2.0
million. The Company does not expect the Amgen litigation to be material to
the Company's results of operations, financial condition or cash flows;
however, no assurance can be given that this litigation will not have a
material adverse effect on the Company's business, financial condition and
results of operations. As of September 30, 1999, approximately $161,000 of
charges have been incurred on behalf of the sellers for claims for
indemnification. In addition, Amgen is the Company's largest supplier.
Consequently, this litigation presents the risk of adversely affecting the
Company's business relationship with Amgen, which could have a material
adverse effect on the Company.
The Company is also subject to ordinary and routine litigation incidental
to its business, none of which is material to the Company's results of
operations, financial condition, or cash flows.
On November 14, 1995, an investigator for the Food and Drug Administration
(the "FDA"), accompanied by an inspector from the State of Florida Board of
Pharmacy, inspected the Company's pharmacy in Altamonte Springs, Florida.
At the end of the inspection, the FDA investigator issued an FDA Form-483,
which is the form used by FDA investigators to identify any observed or
suspected noncompliance with the laws administered by the agency. The FDA
Form-483 identified the facility as a pharmacy/repackager and listed three
observations related to certain requirements that the FDA typically imposes
on manufacturers of sterile products. The Company advised the FDA in
December 1995 that the Company believes it is not, within the statutory or
regulatory meaning of these terms, a repackager or a manufacturer. A second
inspection of the same facility occurred on June 26, 1997, in which the FDA
investigator was again accompanied by Florida pharmacy authorities. The FDA
investigator issued a substantially identical FDA Form-483 at the end of
that inspection. The Florida State Board of Pharmacy did not issue any
deficiencies regarding the operations of the Altamonte Springs pharmacy in
either of these inspections.
On March 16, 1992, the FDA issued a Compliance Policy Guide (CPG 460.200),
which explains the criteria the FDA uses to distinguish between pharmacy
operations that are properly regulated under state law and drug
manufacturing regulated by the FDA. The Company's response to the FDA in
December 1995 cited this CPG and explained the Company's contention that,
according to the FDA's own criteria, the facility is a pharmacy properly
regulated under state and local laws.
On November 21, 1997, the President signed into law the FDA Modernization
Act of 1997, which, among a number of other items, adds a new section on
pharmacy compounding to the Federal Food, Drug and Cosmetic Act. In this
provision, Congress clarified a gray area by explicitly identifying the
circumstances in which pharmacies may compound drugs without the need for
filing a New Drug Application, observing the FDA's Good Manufacturing
Practice regulations or complying with certain other specific Federal Food,
Drug and Cosmetic Act requirements. Congress provided that the term
"compounding" does not include mixing or reconstituting that is done in
accordance with directions contained in approved labeling provided by the
manufacturer of the product. The Company believes that, as a result of this
amendment, so long as it follows the manufacturer's approved labeling in
each case, and prepares drugs only for identified individual patients using
licensed practitioners, the Company's activities should be regulated by the
Florida State Board of Pharmacy and not be subjected by the FDA to a full
New Drug Application requirement demonstrating the basic safety and
effectiveness of the drugs.
If the Company is correct and its operations are limited to those engaged
in by pharmacies, there should be no material adverse effect from the FDA
Form-483s because the Company believes it is currently in compliance in all
material respects with applicable state and local laws. If the Company is
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<PAGE> 8
deemed to be a sterile product manufacturer or a sterile product
repackager, it would be subject to additional regulatory requirements. If
for some reason the FDA or other legal authorities decide that the Company
must file for approval of a New Drug Application, such an event could have
a material adverse effect on the Company.
There can be no assurance that future legislation, future rulemaking, or
active enforcement by the FDA of a determination that the Company is a drug
manufacturer will not have a material adverse effect on the business of the
Company.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS.
Forward Looking Statements.
Certain statements included in this quarterly report, which are not
historical facts, are forward looking statements. Such forward looking
statements are made pursuant to the safe harbor provisions of the Private
Securities Litigation Reform Act of 1995. These forward looking statements
represent our expectations or beliefs and involve certain risks and
uncertainties including, but not limited to, changes in interest rates,
competitive pressures, changes in customer mix, changes in third party
reimbursement rates, financial stability of major customers, changes in
government regulations or the interpretation of these regulations, asserted
and unasserted claims, and our ability and the ability of the entities with
which we transact business to modify or redesign computer systems to work
properly in the year 2000, which could cause actual results to differ from
those in the forward looking statements. The forward looking statements by
their nature involve substantial risks and uncertainties, certain of which
are beyond our control, and actual results may differ materially depending
on a variety of important factors.
General.
We typically are reimbursed for products and services provided by Priority
Healthcare Pharmacy by third-party payors, primarily private insurers and
managed care organizations. Sales derived from agreements with managed care
organizations generally are made pursuant to established rates negotiated
periodically. We typically are reimbursed for products provided by Priority
Healthcare Distribution directly by oncology practices, renal dialysis
centers and other healthcare providers and pricing is negotiated directly
with the providers. The higher level of specialized services provided by
Priority Healthcare Pharmacy generates higher margins than Priority
Healthcare Distribution. As a result, sales from pharmacy services have a
proportionately greater impact on our earnings than sales from our lower
margin distribution services.
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Results of Operations.
The following table sets forth for the periods indicated, the percentages
of total revenues represented by the respective financial items:
<TABLE>
<CAPTION>
NINE-MONTH THREE-MONTH
PERIOD ENDED PERIOD ENDED
SEPTEMBER 30, SEPTEMBER 30,
1999 1998 1999 1998
-----------------------------------
<S> <C> <C> <C> <C>
Net sales 100.0% 100.0% 100.0% 100.0%
Cost of products sold 87.7 88.8 87.7 88.8
----- ----- ----- -----
Gross profit 12.3 11.2 12.3 11.2
Selling, general and administrative expense 5.0 5.1 4.9 5.1
Depreciation and amortization .3 .5 .3 .4
----- ----- ----- -----
Earnings from operations 7.1 5.7 7.1 5.7
Interest income, net .7 .3 1.3 .5
----- ----- ----- -----
Earnings before income taxes 7.8 6.0 8.4 6.1
Provision for income taxes 3.1 2.4 3.3 2.4
----- ----- ----- -----
Net earnings 4.7% 3.6% 5.1% 3.7%
===== ===== ===== =====
</TABLE>
Net sales increased to $300.3 million in the first nine months of 1999 from
$193.8 million in the first nine months of 1998, an increase of 55%. Net
sales increased to $115.1 million in the three months ended September 30,
1999, from $71.7 million in the three months ended September 30, 1998, an
increase of 61%. The growth primarily reflected the addition of new
customers, new product introductions, additional sales to existing
customers, the acquisition of Pharmacy Plus, Ltd. and inflationary price
increases.
Gross profit increased to $37.1 million in the first nine months of 1999
from $21.8 million in the first nine months of 1998, an increase of 70%.
Gross profit as a percentage of net sales increased in the first nine
months of 1999 to 12.3% from 11.2% in the first nine months of 1998. Gross
profit increased to $14.2 million in the three months ended September 30,
1999, from $8.1 million in the three months ended September 30, 1998, an
increase of 76%. Gross profit as a percentage of net sales increased in the
three months ended September 30, 1999, to 12.3% from 11.2% in the three
months ended September 30, 1998. The increase in gross profit reflected
increased sales by both Priority Healthcare Pharmacy and Priority
Healthcare Distribution and the acquisition of Pharmacy Plus. The increase
in gross profit as a percentage of net sales was primarily attributed to
the change in sales mix, as Priority Healthcare Pharmacy experienced
increased sales, which generate higher gross margins than Priority
Healthcare Distribution sales. Competition continues to exert pressure on
margins, particularly those of Priority Healthcare Distribution.
Selling, general and administrative ("SGA") expense increased to $14.9
million in the first nine months of 1999 from $9.9 million in the first
nine months of 1998, an increase of 51%. SGA expense as a percentage of net
sales decreased to 5.0% in the first nine months of 1999 from 5.1% in the
first nine months of 1998. SGA expense increased to $5.7 million in the
three months ended September 30, 1999, from $3.7 million in the three
months ended September 30, 1998, an increase of 55%. SGA expense as a
percentage of net sales decreased to 4.9% in the three months ended
September 30, 1999 from 5.1% in the three months ended September 30, 1998.
The increases in SGA expense reflected the growth in our business and the
acquisition of Pharmacy Plus. The decreases in SGA expense as a percentage
of net sales resulted from the spreading of fixed costs over a larger sales
base. Management continually monitors SGA expense and remains focused on
controlling these increases through improved technology and efficient asset
management.
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Depreciation and amortization ("D&A") increased to $947,000 in the first
nine months of 1999 from $933,000 in the first nine months of 1998, an
increase of 1.5%. D&A increased to $333,000 in the three months ended
September 30, 1999, from $311,000 in the three months ended September 30,
1998, an increase of 7.1%. The increases in D&A were primarily the result
of depreciation of new equipment, particularly management information
systems, offset, in part, by a decrease in amortization of intangible
assets that became fully amortized.
Interest income, net, increased to $2.1 million in the first nine months of
1999 from $640,000 in the first nine months of 1998. Interest income, net,
increased to $1.5 million in the three months ended September 30, 1999 from
$334,000 in the three months ended September 30, 1998. In the first nine
months of 1999, interest income of $1.6 million was primarily related to
amounts earned by investing excess cash and funds received from the June
and July 1999 secondary public offering of our Class B Common Stock (the
"Secondary Offering") in overnight repurchase agreements with major
financial institutions and in marketable securities, and interest income of
$544,000 was related to loaning funds to Bindley Western Industries, Inc.
("BWI"). In the three months ended September 30, 1999, interest income of
$1.4 million was primarily related to amounts earned by investing excess
cash and funds received from the Secondary Offering in overnight repurchase
agreements with major financial institutions and in marketable securities,
and interest income of $167,000 was related to loaning funds to BWI. In the
first nine months of 1998, interest income of $276,000 and $716,000 were
primarily related to amounts earned by investing funds received from the
October 1997 initial public offering of our Class B Common Stock (the
"IPO") in overnight repurchase agreements with a major financial
institution and loaning funds to BWI, respectively. In the three months
ended September 30, 1998 interest income of $90,000 and $360,000 were
primarily related to amounts earned by investing funds received from the
IPO in overnight repurchase agreements with a major financial institution
and loaning funds to BWI, respectively. This interest income was partially
offset by interest expense of $326,000 in the first nine months of 1998 and
$108,000 in the three months ended September 30, 1998 for interest due on
the subordinated note issued to BWI on March 31, 1997. The subordinated
note issued to BWI was paid on September 30, 1998. The interest income on
the loans to BWI was calculated by applying BWI's average incremental
borrowing rate to the average outstanding balances. The average outstanding
loans to BWI were $13.2 million in the first nine months of 1999 and $14.9
million in the first nine months of 1998. The average outstanding loans to
BWI were $12.9 million in the three months ended September 30, 1999 and
$22.5 million in the three months ended September 30, 1998. BWI's average
incremental borrowing rate was 5.2% in the first nine months of 1999 and
6.4% in the first nine months of 1998. BWI's average incremental borrowing
rate was 5.1% in the three months ended September 30, 1999 and 6.4% in the
three months ended September 30, 1998.
Through December 31, 1998, we participated in the consolidated federal and
state income tax returns filed by BWI. BWI charged federal and state income
tax expense to us as if we filed our own separate federal and state income
tax returns. The provision for income taxes represented 39.7% of earnings
before income taxes for the first nine months of 1999 and 1998 and the
three months ended September 30, 1999 and 1998.
Liquidity - Capital Resources.
Net cash provided by operating activities. Our operations generated $14.0
million in cash during the first nine months of 1999. Accounts receivable,
net of acquisitions, increased $19.7 million during the first nine months
of 1999, primarily to support the increase in sales and the extension of
credit terms to meet competitive conditions. Inventory, net of
acquisitions, decreased $811,000 during the first nine months of 1999,
primarily due to management monitoring the inventory levels. Trade accounts
payable, net of acquisitions, increased $13.3 million and partially reduced
the cash required to support the increase in accounts receivable. This
increase was attributable to the timing of payments and the credit terms
negotiated with vendors. Other current assets and liabilities increased
$4.6 million primarily due to the increase in income taxes payable.
Depreciation and amortization totaled $947,000 during the first nine months
of 1999.
Net cash used by investing activities. We purchased $64.6 million of
marketable securities with a portion of the funds received from the
Secondary Offering. Effective April 12, 1999, we acquired the majority of
the
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<PAGE> 11
operating assets of Pharmacy Plus, Ltd., a specialty pharmacy in
Philadelphia, Pennsylvania, for $3.5 million and effective September 2,
1999, we acquired the majority of the operating assets of Monitors
Unlimited, Inc., a distributor in the oral surgery market, for $1.0
million. Capital expenditures during the first nine months of 1999 totaled
$882,000. We expect that capital expenditures during the last three months
of 1999 will be approximately $450,000 and during 2000 will be
approximately $1.0 million. We anticipate that these expenditures will
relate primarily to the purchase of computer hardware and software,
telecommunications equipment, and furniture and equipment for a new
corporate facility. We expect to complete the move to our new corporate
facility in November of 1999.
Net cash provided by financing activities. In June and July 1999 we
received $96.1 million from our Secondary Offering. We have also advanced
excess cash to BWI on an interest-bearing basis under the terms of a $25.0
million Revolving Credit Promissory Note which is effective through
December 31, 1999, at which time all outstanding amounts are due in full.
During the first nine months of 1999, our receivable from BWI decreased by
$3.6 million. During the first nine months of 1999, we also received
proceeds of $2.0 million, including the income tax benefit, from stock
option exercises. During the first nine months of 1999, we also purchased
treasury stock for $7.0 million.
Our principal capital requirements have been to fund working capital needs
to support internal growth, for acquisitions and for capital expenditures.
Our principal working capital needs are for inventory and accounts
receivable. Management controls inventory levels in order to minimize
carrying costs and maximize purchasing opportunities. We sell inventory to
our customers on various payment terms. This requires significant working
capital to finance inventory purchases and entails accounts receivable
exposure in the event any of our major customers encounter financial
difficulties. Although we monitor closely the creditworthiness of our major
customers, we cannot assure you that we will not incur some collection loss
on major customer accounts receivable in the future.
We believe that the net proceeds from the Secondary Offering, cash from
operations, repayment by BWI of advances made to it and availability under
our line of credit will be sufficient to meet our working capital needs for
at least two years.
Year 2000 Compliance.
The year 2000 will pose a unique set of challenges to those industries that
rely on information technology. As a result of the methods employed by
early programmers, many software applications and operational programs may
be unable to distinguish the year 2000 from the year 1900. If not
effectively addressed, this problem could result in the production of
inaccurate data, or, in the worst cases, the inability of the systems to
continue to function altogether. We, and other companies in the same
business, are vulnerable to this problem because of our dependence on
distribution and communications systems.
Since December 31, 1996, we have replaced all of our hardware and software
systems for reasons other than year 2000 compliance; we have spent
approximately $990,000 for these systems. The hardware systems have been
successfully tested for year 2000 compliance. In May 1998, we initiated the
process of preparing our software applications to make them year 2000
compliant. Two of the three main software packages that we use were tested
for year 2000 compliance during 1998 and the third software package was
upgraded and tested during 1999. We believe these software systems are now
year 2000 compliant. The total costs relating to the upgrade of our
software programs was approximately $75,000. Funds for these payments were
generated from operations. In addition, we have upgraded and tested the
recently acquired software and hardware systems of Pharmacy Plus. We
believe the systems are now year 2000 compliant. The total costs relating
to the upgrade was approximately $15,000.
We believe that the payments required to bring our systems into compliance
have not and will not have a material adverse effect on us. However, the
year 2000 problem is widespread and complex and can potentially affect any
computer process. As a result, we cannot assure you that the year 2000
compliance can be achieved without additional unanticipated expenditures
and uncertainties that might affect future financial results.
11
<PAGE> 12
Also, to operate our business, we rely on governmental agencies, utility
companies, telecommunications companies, shipping companies, suppliers and
other third party service providers over which we have little control. Our
ability to conduct our business is dependent upon the ability of these
third parties to avoid year 2000 related disruptions. We are in the process
of contacting our third party service providers about their year 2000
readiness and to date the majority of these third parties have assured us
they are year 2000 compliant. The failure of our key third party service
providers, customers, suppliers or third party payors to adequately address
their year 2000 issues could result in a material adverse effect on our
business, financial condition or results of operations.
We have not to date developed any contingency plans, because these plans
will depend on any negative responses from our third party service
providers.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
One area of exposure to market risk as it relates to future earnings
consists of changes in interest rates on our loans to BWI. Our interest
income on these loans is determined based on BWI's average incremental
borrowing rate (a variable rate) with its third-party lender. A decrease in
interest rates would adversely affect our operating results and cash flow
available to fund operations and expansion. Based on the average loan
balance for the first nine months of 1999, a decrease of 10% in BWI's
average incremental borrowing rate would result in an approximately $69,000
annual decrease in interest income. Conversely, a 10% increase in BWI's
average incremental borrowing rate would result in an approximately $69,000
annual increase in interest income.
At September 30, 1999 our exposure to market risk also includes exposure to
a decline in the market value of our investments in marketable debt
securities as a result of potential changes in interest rates. Market risk
was estimated as the potential decrease in fair value resulting from a
hypothetical 10% increase in interest rates on securities included in our
portfolio, and given the short term maturities of all of our investments in
interest-sensitive securities, this hypothetical fair value was not
materially different from the period end carrying value.
12
<PAGE> 13
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS.
The information set forth in Note 7 to the Notes to Consolidated Financial
Statements (unaudited) set forth elsewhere in this Report is incorporated herein
by reference.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS.
(d) Use of Proceeds
The Company's Registration Statement on Form S-1 (File No. 333-34463) was
declared effective on October 23, 1997. There has been no change in the Use of
Proceeds since that reported in the Company's Form 10-Q for the quarter ended
June 30, 1999.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
(a) Exhibits
Exhibit 27 Financial Data Schedule (filed herewith)
(b) Reports on Form 8-K
None.
13
<PAGE> 14
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
November 10, 1999 PRIORITY HEALTHCARE CORPORATION
BY: /s/ Donald J. Perfetto
----------------------------
Donald J. Perfetto
Executive Vice President and Chief
Financial Officer
(Principal Financial Officer and
Duly Authorized Officer)
14
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