<PAGE> 1
AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON MAY 22, 1998.
REGISTRATION NO. 333-
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
------------------------
FORM S-4
REGISTRATION STATEMENT
UNDER THE SECURITIES ACT OF 1933
------------------------
ORTHALLIANCE, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
<TABLE>
<CAPTION>
DELAWARE 95-4632134
<S> <C>
(STATE OR OTHER JURISDICTION OF INCORPORATION OR ORGANIZATION) (I.R.S. EMPLOYER IDENTIFICATION NO.)
</TABLE>
8741
(PRIMARY STANDARD INDUSTRIAL CLASSIFICATION CODE NUMBER)
ORTHALLIANCE, INC.
23848 HAWTHORNE BOULEVARD, SUITE 200,
TORRANCE, CALIFORNIA 90505
(310) 791-5656
(ADDRESS, INCLUDING ZIP CODE, AND TELEPHONE NUMBER, INCLUDING AREA CODE, OF
REGISTRANT'S PRINCIPAL EXECUTIVE OFFICES)
------------------------
SAM WESTOVER
CHIEF EXECUTIVE OFFICER
ORTHALLIANCE, INC.
23848 HAWTHORNE BOULEVARD, SUITE 200
TORRANCE, CALIFORNIA 90505
(310) 791-5656
(NAME, ADDRESS, INCLUDING ZIP CODE, AND TELEPHONE NUMBER, INCLUDING AREA CODE,
OF AGENT FOR SERVICE)
------------------------
COPIES OF ALL CORRESPONDENCE TO:
PAUL A. QUIROS, ESQ.
KING & SPALDING
191 PEACHTREE STREET
ATLANTA, GEORGIA 30303
(404) 572-4600
(404) 572-5100 (FAX)
APPROXIMATE DATE OF COMMENCEMENT OF PROPOSED SALE TO THE PUBLIC: From time to
time after the effective date of this Registration Statement.
If the securities being registered on this form are being offered in
connection with the formation of a holding company and there is compliance with
General Instruction G, 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, 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. [ ]______
<PAGE> 2
<TABLE>
<CAPTION>
CALCULATION OF REGISTRATION FEE
==========================================================================================================================
TITLE OF
EACH CLASS OF PROPOSED PROPOSED
SECURITIES AMOUNT MAXIMUM MAXIMUM
TO BE TO BE OFFERING AGGREGATE AMOUNT OF
REGISTERED REGISTERED PRICE PER UNIT OFFERING PRICE(1) REGISTRATION FEE
- --------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Class A Common Stock, 3,000,000 $14.875 $44,625,000.00 $13,164.38
$.001 Par Value
==========================================================================================================================
</TABLE>
- ----------------
(1) Estimated pursuant to Rule 457(c) under the Securities Act of 1933 based
upon the average of the high and low sales prices of the Class A Common Stock as
reported on the Nasdaq National Market System on May 20, 1998, solely for the
purposes of calculating the registration fee.
--------------------
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 OF 1933 OR UNTIL THE REGISTRATION STATEMENT SHALL BECOME
EFFECTIVE ON SUCH DATE AS THE COMMISSION ACTING PURSUANT TO SAID SECTION 8(A)
MAY DETERMINE.
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
OFFER 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.
<PAGE> 3
SUBJECT TO COMPLETION, DATED MAY 22, 1998
PROSPECTUS
3,000,000 SHARES
[LOGO]
CLASS A COMMON STOCK
This Prospectus covers the offer and sale of up to 3,000,000 shares of
Class A Common Stock, par value $.001 per share ("Common Stock"), of
OrthAlliance, Inc. ("OrthAlliance" or the "Company"), which OrthAlliance may
issue from time to time in connection with future acquisitions of certain
operating assets of, or the stock of entities holding certain operating assets
of, certain orthodontic and pediatric dental practices (the "Acquisitions") in
accordance with Rule 415(a)(1)(viii) of Regulation C under the Securities Act of
1933, as amended (the "Securities Act"), or as otherwise permitted under the
Securities Act.
OrthAlliance expects that the terms upon which it may issue the shares
in connection with Acquisitions will be determined through negotiations with the
owners of the orthodontic and pediatric dental practices whose stock or assets
are to be acquired in such Acquisitions. OrthAlliance expects that the shares
issued will be valued at prices reasonably related to market prices for the
Common Stock prevailing either at the time an acquisition agreement is executed
or at the time an Acquisition is consummated.
If an Acquisition has a material financial effect upon the Company, the
Company will file a current report on Form 8-K or include in a quarterly report
on Form 10-Q or annual report on Form 10-K, or if it is not eligible to
incorporate such a report by reference, a post-effective amendment to the
Registration Statement of which this Prospectus forms a part, containing
information about the material Acquisition that would be material to subsequent
acquirors of Common Stock offered hereby.
OrthAlliance filed (i) a Registration Statement on Form S-1
(Registration No. 333-27143), as amended (the "S-1"), with the Securities and
Exchange Commission (the "Commission") relating to the Company's initial public
offering of 2,990,000 shares of Common Stock (the "IPO") that was declared
effective on August 21, 1997 and (ii) a Registration Statement on Form S-4
(Registration No. 333- 29435), as amended, with the Commission relating to the
acquisition of orthodontic practices by the Company subsequent to the filing of
the S-1 that was declared effective on August 22, 1997 (the "S-4 Registration
Statement"). As of May 18, 1998, 12,851,434 shares of Common Stock were issued
and outstanding. The Common Stock offered hereunder has been approved for
listing on The Nasdaq Stock Market's National Market (the "Nasdaq National
Market") under the symbol "ORAL."
All expenses of this offering (this "Offering") will be paid by
OrthAlliance. No underwriting discounts or commissions will be paid in
connection with the issuance of shares of Common Stock by OrthAlliance in
connection with Acquisitions, although referral fees may be paid with respect to
specific Acquisitions, including referral fees paid to certain directors of the
Company who are also
Allied Orthodontists (as defined below). Any person receiving a referral fee may
be deemed to be an
<PAGE> 4
Underwriter within the meaning of the Securities Act.
---------------
THE COMMON STOCK OFFERED HEREBY INVOLVES A HIGH DEGREE OF RISK. SEE
"RISK FACTORS" BEGINNING ON PAGE 9 FOR A DISCUSSION OF CERTAIN FACTORS THAT
SHOULD BE CONSIDERED BY PROSPECTIVE PURCHASERS OF THE COMMON STOCK OFFERED
HEREBY.
---------------
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.
-2-
<PAGE> 5
PROSPECTUS SUMMARY
On August 26, 1997, simultaneously with the closing of the IPO, 55
separate orthodontic practices (collectively, the "Founding Practices")
transferred certain operating assets to OrthAlliance in exchange for cash and
shares of Common Stock and OrthAlliance became a party to long-term management
or consulting services agreements with the Founding Practices. One of the
Founding Practices included a pediatric dental practice that also performed
orthodontic services. From August 26, 1997 to May 18, 1998, OrthAlliance
acquired certain operating assets of and entered into long-term management or
consulting services agreements with 28 orthodontic practices and 2 pediatric
dental practices (collectively, the "Additional Practices") in exchange for cash
and shares of Common Stock issued pursuant to the S-4 Registration Statement
(including the Founding Practices, the "Transfers"). Unless the context
indicates otherwise, certain references to Allied Orthodontists also include
Allied Dentists. Although OrthAlliance, through its wholly-owned subsidiary
PedoAlliance, Inc., intends to continue to seek affiliations with pediatric
dentists, the Company believes that affiliations with orthodontists will
continue to represent the majority of any additional affiliations.
As used herein, the term "Allied Practice" includes each of the
Founding Practices, the Additional Practices and any orthodontic or pediatric
dental practice with which the Company has entered or will enter into long-term
management or consulting services agreements. Unless otherwise indicated by the
context, references herein to practice management services, agreements or rights
include consulting and other similar arrangements, which the Company has or will
enter into with certain Allied Practices to comply with applicable regulations
regarding practice management in certain states. As used herein, the term
"Allied Orthodontists" refers to orthodontists affiliated with an Allied
Practice and the term "Allied Dentists" refers to pediatric dentists and
dentists affiliated with an Allied Practice.
THE COMPANY
OrthAlliance was organized to create a national provider of practice
management or consulting services to orthodontic practices in the United States.
On August 26, 1997, after the closing of the IPO, the Company commenced
operations and began to manage or consult with respect to certain of the
business aspects of the Founding Practices, thereby allowing the Allied
Orthodontists affiliated therewith to focus on delivering cost-effective, high
quality patient care, and to provide capital for the development and growth of
such Allied Practices. From August 26, 1997 to May 18, 1998, the Company
affiliated with 30 Additional Practices which included 28 orthodontic practices
and 2 pediatric dental practices. The Company affiliates with Allied Practices
pursuant to long-term management services agreements and generates revenues by
providing certain management, marketing and development services to Allied
Practices. OrthAlliance provides advice, training and capital to facilitate the
development and growth of the Allied Practices. The Allied Orthodontists and
Allied Dentists continue to make all treatment and clinical decisions with
respect to their patients and maintain their relationships with their patients.
OrthAlliance does not employ the Allied Orthodontists or Allied Dentists or own
or control their practices. The Company intends to continue to aggressively
expand its network of Allied Practices by acquiring certain operating assets of
and entering into long-term management services agreements with additional
orthodontic and pediatric dental practices throughout the United States (herein
sometimes referred to as the "affiliation" with other practices.) OrthAlliance
has two wholly-owned subsidiaries, PedoAlliance, Inc. ("PedoAlliance") and
OrthAlliance Finance, Inc. ("OA Finance"). PedoAlliance was formed in December
1997, to provide practice management or
-3-
<PAGE> 6
consulting services to pediatric dental practices. PedoAlliance had entered into
two agreements as of May 18, 1998. OA Finance was formed in October 1997, to
offer financing alternatives to the patients of the Allied Practices. At March
31, 1998, OA Finance had funded 28 loans to patients for a total value of
$79,000. Unless the context indicates otherwise, all references to OrthAlliance
or the Company shall include PedoAlliance and OA Finance.
As of May 18, 1998, the Company had affiliated with a total of 85
Allied Practices, which include 122 orthodontists operating 221 offices located
in 26 states and 4 pediatric dentists operating 3 offices located in 3 states.
Management believes that the Allied Practices are leading practices in their
markets, based on a variety of factors, including size, profitability,
historical growth and reputation for high quality care, both among local
consumers of orthodontic or pediatric dental services and within the orthodontic
or pediatric dental services industry.
The United States orthodontic industry is highly fragmented, with over
90% of the approximately 9,000 practicing orthodontists in the United States
operating as sole practitioners. Management believes that less than 5% of the
orthodontists currently practicing in the United States are affiliated with
publicly held practice management companies. The dental services industry, which
includes pediatric dentistry, is also highly fragmented. In 1997 approximately
3,600 pediatric dentists provided pediatric dental services with over 75%
operating as sole practitioners.
Management believes that the Company's operating strategy enables
Allied Practices to compete more effectively with and realize greater
profitability than traditional orthodontic or pediatric dental practices,
thereby inducing additional orthodontists and pediatric dentists to affiliate
with the Company. Key elements of the Company's operating strategy are:
- Emphasizing quality patient care by (i) relieving the Allied
Orthodontists and Allied Dentists from various time-consuming
administrative responsibilities, (ii) affiliating with high
quality practices conducted by orthodontists or pediatric
dentists who have completed accredited graduate training
programs in their respective fields, (iii) recommending
practice standards, procedures and protocols under the
direction of the Company's clinical advisory boards, one
composed of the Allied Orthodontists and one composed of the
Allied Dentists and (iv) preserving the independence of the
Allied Orthodontists and Allied Dentists to make decisions
with respect to the treatment of their patients and the
professional operations of the Allied Practices;
- Capitalizing on the best demonstrated practices of Allied
Orthodontists and Allied Dentists through identification and
promotion of successful practice-level strategies including,
but not limited to, treatment, delivery of patient care,
marketing, financing and cost control strategies and
recommending these strategies to the Allied Practices;
- Achieving operating efficiencies and economies of scale
through (i) the implementation of national purchasing
discounts for professional and clerical supplies and
equipment, and (ii) the reduction of certain expenses common
to all Allied Practices, including, but not limited to,
insurance and payroll; and
-4-
<PAGE> 7
- Working with each Allied Practice upon its request and after
market analysis to increase market penetration and expansion
through (i) local marketing programs, supported by demographic
and economic analysis, and (ii) patient payment plans designed
to enhance the affordability of orthodontic and pediatric
dental services.
The Company intends to implement a growth strategy focused on (i)
affiliating with additional orthodontic or pediatric dental practices that fit
the OrthAlliance model of high quality and strong financial performance; (ii)
expanding Allied Practices by providing capital, support and consultation for
satellite office expansion; (iii) assisting the Allied Practices with their
internal growth by increasing gross revenues through increased patient volume;
(iv) enhancing profitability through operational efficiencies made available to
the Allied Practices; and (v) preserving the independence of the Allied
Orthodontists and Allied Dentists to make decisions with respect to the
treatment of their patient and the professional operations of the Allied
Practices.
THE OFFERING
<TABLE>
<S> <C>
Common Stock offered by the
Company................................ 3,000,000 shares of Common Stock to be issued by the
Company in connection with Acquisitions in accordance with
Rule 415(a)(1)(viii) of the Securities Act.
Common Stock outstanding as
of May 18, 1998........................ 12,851,434 shares(1)
Class B Common Stock outstanding as
of the date of this Prospectus ........ 250,000 shares
Class B Common Stock........................ In connection with the merger of US Orthodontic Care, Inc.
("USOC") and Premier Orthodontic Group, Inc. ("Premier")
with and into OrthAlliance (the "Merger"), 250,000 shares of
Class B Common Stock were issued to the stockholders of
USOC and Premier as part of the merger consideration. The
stockholders of USOC and Premier were responsible for the
organization of the Company, and the Class B Common
Stock was created to allow the stockholders of USOC and
Premier to receive additional shares of Common Stock
provided that the market price of the Common Stock
appreciates to the various Conversion Prices described
below. No other shares of Class B Common Stock will be
authorized or issued. Holders of Class B Common Stock are
entitled to one vote per share and such shares are voted with
the Common Stock on all matters presented to the holders of
Common Stock. The shares of Class B Common Stock are
not transferable, except to the holder's spouse, parents,
siblings, lineal descendants, a trust for the benefit of any such
person or as determined by will or the laws of descent. See
</TABLE>
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<PAGE> 8
<TABLE>
<S> <C>
"Description of Capital Stock."
Conversion of Class B
Common Stock............................... Each share of Class B Common Stock shall automatically
convert into Common Stock (i) at the ratio of eight shares of
Common Stock for each share of Class B Common Stock
upon the attainment of certain average closing price
calculations for the Common Stock (the"Conversion Prices"),
as determined on the Nasdaq National Market, other
over-the-counter market or an exchange, as then applicable
(the "Trading Market"), or (ii) if not converted pursuant to
subparagraph (i) on or before August 21, 2003 (the "Final
Conversion Date"), at the ratio of one share of Common
Stock for each share of Class B Common Stock. The
maximum number of shares of Common Stock that may be
issued upon conversion of the Class B Common Stock is
2,000,000. The shares of Class B Common Stock convertible
pursuant to subparagraph (i) above will convert in five
increments of up to 50,000 shares of Class B Common Stock
(20% of the total number of shares of Class B Common Stock
issued) upon the attainment of each of the five specified
Conversion Prices. At each automatic conversion, each
holder of Class B Common Stock will be deemed to have
converted a pro rata share of such Class B Common Stock
then outstanding. The Conversion Prices were established at
premiums to the initial public offering price in the IPO of
$12.00 a share (the "Initial Price"). Each Conversion Price
will be deemed to have been achieved at the end of the
trading day on which the average closing price of the
Common Stock for the preceding 20 consecutive trading days
exceeds such Conversion Price. The closing prices will be
those reported on the Trading Market. The initial Conversion
Price is equal to 150% of the Initial Price and each of the
subsequent Conversion Prices is equal to 120% of the
preceding Conversion Price. Therefore, the five Conversion
Prices at which up to 50,000 shares of the outstanding Class
Common Stock shall be automatically converted to common
Stock are $18.00, $21.60, $25.92, $31.10 and 37.32,
respectively. In the event that there are any shares of Class B
Common Stock outstanding on the Final Conversion Date, all
such shares shall automatically convert into an equal number
of shares of Common Stock. The holders of the Class B
Common Stock may convert each share of Class B Common
Stock into one share of Common Stock at any time but on or
before the Final Conversion Date.
</TABLE>
-6-
<PAGE> 9
Nasdaq National
Market symbol............................... ORAL
- ----------------------
(1) Excludes 1,250,114 shares of Common Stock issuable pursuant to options
granted for the purchase of Common Stock under the Company's stock option plans
or issuable upon the exercise of outstanding warrants to purchase shares of
Common Stock. See "Management -- Stock Plans," "Certain Transactions" and
"Description of Capital Stock -- Warrants."
The preceding summary is qualified in its entirety by the more detailed
information and financial statements, including the notes thereto, appearing
elsewhere in this Prospectus. This Prospectus contains forward-looking
statements that involve risks and uncertainties. The Company's actual results
may differ materially from the results discussed in the forward-looking
statements. Factors that might cause such differences include, but are not
limited to, those discussed in "Risk Factors."
Unless otherwise indicated, the orthodontic industry information used in
this Prospectus is derived from the 1997 Journal of Clinical Orthodontists
Orthodontic Practice Study (the "JCO Study") and relates to 1997 unless
otherwise indicated. The information compiled in the JCO Study relates to
orthodontists who have completed accredited graduate orthodontic training
programs and does not include general dentists who also perform certain
orthodontic services. Unless otherwise indicated, the pediatric dentistry
industry information used in this Prospectus is derived from information
provided by the American Academy of Pediatric Dentistry.
-7-
<PAGE> 10
SUMMARY FINANCIAL DATA
(IN THOUSANDS, EXCEPT PER SHARE DATA)
The following information is derived from the audited and unaudited
financial statements of OrthAlliance included elsewhere in this Prospectus. This
information does not reflect the effects of this Offering.
<TABLE>
<CAPTION>
For the period from
For the Year Ended inception (October 21, 1996
December 31, 1997 to December 31, 1996)
-------------------- ---------------------------
<S> <C> <C>
STATEMENT OF OPERATIONS DATA:
Net revenue $ 18,081 $--
Total expenses (1) 18,246 --
Net Operating loss (165) --
-------- ---
Net loss $ (736) $--
Basic and diluted net loss per share $ (0.18) $--
Number of shares used in net loss per share calculation 4,026 --
<CAPTION>
As of December 31, As of December 31,
1997 1996
------------------ ------------------
<S> <C> <C>
BALANCE SHEET DATA:
Cash and cash equivalents $ 12,647 $--
Working capital 13,085 --
Total assets 44,363 --
Long-term debt -- --
Stockholders' equity 34,028 --
</TABLE>
- --------
(1) Includes a non-recurring organizer compensation expense of $3,392,000
incurred in connection with the IPO, which was paid to certain Allied Practices
and certain officers and consultants for their assistance in recruiting
orthodontists to the Company and in completing the IPO.
-8-
<PAGE> 11
<TABLE>
<CAPTION>
As of
March 31, 1998
--------------
<S> <C>
BALANCE SHEET DATA:
Cash and cash equivalents $ 3,907
Working capital 5,679
Total assets 57,105
Long-term debt --
Net stockholders' equity 45,643
</TABLE>
RISK FACTORS
An investment in the shares of Common Stock offered hereby involves a high
degree of risk. In addition to the other information contained in this
Prospectus, the following risk factors should be considered carefully in
evaluating the Company and its business before purchasing shares of Common Stock
offered hereby. This Prospectus contains forward-looking statements that involve
risks and uncertainties. Actual results could differ materially from those
discussed in the forward-looking statements as a result of certain factors,
including those set forth below and elsewhere in this Prospectus.
LIMITED COMBINED OPERATING HISTORY. OrthAlliance was founded in October
1996 and conducted no operations before the IPO in August 1997 other than in
connection with the IPO and affiliations with the Founding Practices. The
Founding Practices and Additional Allied Practices each operated as separate,
independent entities before affiliation with the Company and the Company has a
limited combined operating history. As a result, there can be no assurance that
management will be able to operate the Company successfully, manage the Allied
Practices' operations, achieve any cost savings or institute the necessary
systems and procedures to manage the Company on a profitable basis. The Company
may experience delays, complications and expenses in implementing, integrating
and operating its systems, any of which could have a material adverse effect on
the Company's business, financial condition and results of operations. The
inability of the Company to successfully integrate or operate the Allied
Practices could have a material adverse effect on the Company's business,
financial condition and results of operations and make it unlikely that the
Company's acquisition program will be successful. The Transfers and Acquisitions
include the assumption of certain liabilities, which could have a material
adverse effect on the Company's business, financial condition and results of
operations. See "Certain Transactions," "Management's Discussion and Analysis of
Financial Condition and Results of Operations" and "Management."
DEPENDENCE ON ALLIED ORTHODONTISTS AND ALLIED DENTISTS. The Company
receives fees for services provided to Allied Practices under management
services agreements, but does not employ orthodontists or pediatric dentists or
control or own the practices of its Allied Orthodontists or Allied Dentists. The
Company's revenue is dependent on revenue generated by the Allied Practices,
which in turn is largely dependent on the efforts of the Allied Orthodontists
and Allied Dentists and, therefore, the performance of Allied Orthodontists and
Allied Dentists is essential to the Company's success. The long-term management
services agreements with Allied Practices have 20 to 25 year terms, subject to
prior termination by either party for, among other things, a material default by
the other party or, in
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<PAGE> 12
certain cases, a change of control (as defined therein) applicable to the
Company. Any material loss of revenue by the Company's Allied Orthodontists or
Allied Dentists or termination of such long-term management services agreements
could have a material adverse effect on the Company's business, financial
condition and results of operations. The Company has entered into certain
agreements since the IPO that make the payment of the management fee after the
first two years contingent on various factors, including practice profitability
compared to acquisition consideration, timely reporting of information,
participation in practice improvement programs and orthodontist hours worked. If
these factors are satisfied and an Allied Practice is not required to pay
management fees to the Company, the Company would not receive any revenue from
such Allied Practice or Practices, which could have a material adverse effect on
the Company's business, financial condition and results of operations. If an
Allied Practice lacks sufficient funds to pay its operating expenses, the
Company is required to advance funds to pay such expenses. Advances are in the
form of a loan from the Company to the Allied Practice. Funding for such loans
is from the Company's working capital or funds available under its credit
facility. The Company may not have working capital or available credit to fund
such advances which would have a material adverse effect on the business,
financial condition and results of operations of the Company. See "Management's
Discussion and Analysis of Financial Condition and Results of Operations --
Overview" and "Business -- Agreements with Allied Practices and Allied
Orthodontists."
RISKS RELATED TO ADDITIONAL AFFILIATIONS AND GROWTH STRATEGY. One of the
Company's primary business strategies is to increase revenue and expand the
markets it serves beyond the Founding Practices and Additional Practices by
acquiring certain operating assets of and entering into long-term management
services agreements with additional orthodontic and pediatric dental practices.
Competition for such affiliations has increased significantly in recent years
and, as a result, there may be fewer candidates available for affiliation with
the Company. There can be no assurance that the Company will be able to identify
additional practices or contract with such practices on favorable terms.
Further, such arrangements involve a number of risks, including diversion of
management's attention, dependence on retaining, hiring and training key
personnel, and risks associated with the assumption of certain contingent legal
liabilities, some or all of which could have a material adverse effect on the
Company's business, financial condition and results of operations. In addition,
there can be no assurance that the Founding Practices, Additional Practices or
other Allied Practices will achieve anticipated revenues and earnings. To the
extent that the Company is unable to enter into affiliations with additional
orthodontic or pediatric dental practices, its ability to expand its operations
and increase its revenues to the degree desired would be reduced significantly
and would have a material adverse effect on the Company's business, financial
condition and results of operations. See "Business -- Operating Strategy" and "
- -- Growth Strategy."
RISKS RELATED TO THE COMPANY'S AFFILIATION STRATEGY. The Company intends to
finance future affiliations with cash, the issuance of shares of Common Stock or
the issuance of indebtedness as consideration. In the event that the Common
Stock does not maintain a sufficient market value, or potential acquisition
candidates are unwilling to accept Common Stock as partial consideration for
their practices, the Company may be required to use its cash resources, if
available, to initiate and maintain its acquisition program. If the Company
lacks sufficient cash resources to pursue acquisitions, its growth could be
limited unless it is able to obtain additional capital through debt or equity
financing. There can be no assurance that the Company will be able to obtain
such financing if and when it is needed or that, if available, such financing
can be obtained on favorable terms. The inability to obtain such financing could
have a material adverse effect on the Company's business, financial condition
and
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<PAGE> 13
results of operations. Furthermore, issuing shares of Common Stock as
consideration for (or in order to provide financing for) future acquisitions
could result in significant dilution to existing stockholders. See "Management's
Discussion and Analysis of Financial Condition and Results of Operations --
Liquidity and Capital Resources" and "Business -- Growth Strategy."
RISKS RELATED TO THE COMPANY'S ABILITY TO CONTINUE INTERNAL GROWTH. Certain
of the Founding Practices and Additional Practices have experienced significant
growth in the past, principally through growth of operations of existing offices
and the opening of new offices. There can be no assurance that the Company will
be able to expand its market presence in its current locations or successfully
enter other markets by providing financial resources to the Allied Practices
required for opening new offices. Such offices may incur substantial costs,
delays or other operational or financial problems. The ability of the Company to
continue its growth will depend on a number of factors, including the
availability of working capital to support such growth, existing and emerging
competition and the Company's ability to maintain profitability while facing
pricing pressures and rising overhead costs. The Company must also manage costs
in a changing regulatory environment, adapt its infrastructure and systems to
accommodate growth, and recruit and train additional qualified personnel. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations -- Liquidity and Capital Resources" and "Business -- Operating
Strategy" and " -- Growth Strategy."
RISKS RELATED TO CHANGES IN GOVERNMENT REGULATION. The orthodontic and
pediatric dental industries and orthodontic and pediatric dental practices are
regulated extensively at the state and federal levels. The Company will not
control the practice of orthodontics or pediatric dentistry by its Allied
Orthodontists and Allied Dentists as required by certain regulatory requirements
directly applicable to the orthodontists or pediatric dentists and their
practices. The laws of many states prohibit non-orthodontic or non-dental
entities (such as OrthAlliance) from practicing orthodontics or pediatric
dentistry, owning all or certain assets of a practice, employing orthodontists
or pediatric dentists or controlling the content of advertisements. The laws of
many states also prohibit orthodontists or pediatric dentists from paying any
portion of fees received for services in consideration for the referral of a
patient. In addition, many states impose limits on the tasks that may be
delegated to other staff members. There can be no assurance that any review of
the Company's business relationships by regulatory authorities or the courts
will not result in determinations that could adversely affect the operations of
the Company or that the regulatory environment will not change to restrict the
Company's existing or future operations. These laws and their interpretations
vary from state to state and are enforced by regulatory authorities with broad
discretion. There can be no assurance that the legality of the Company's
long-term management services agreements will not be successfully challenged or
that enforceability of the provisions thereof will not be limited. See "Business
- -- Agreements with Allied Practices and Allied Orthodontists and Allied
Dentists." The laws and regulations of certain states in which the Company may
seek to expand may require the Company to change the form of relationships
entered into with orthodontists or pediatric dentists in a manner which may
restrict the Company's operations in those states or may prevent the Company
from acquiring the assets of or managing or providing consulting services to
practices in those states. In addition, there can be no assurance that the laws
and regulations of states in which the Allied Practices presently maintain
operations will not change or be interpreted in the future to either restrict or
adversely affect the Company's relationships with Allied Orthodontists or Allied
Dentists in those states. See "Business -- Government Regulation."
Federal law prohibits the offer, payment, solicitation or receipt of any
form of remuneration in
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<PAGE> 14
return for, or in order to induce (i) the referral of a person for services,
(ii) the furnishing or arranging for the furnishing of items or services or
(iii) the purchase, lease or order or arranging or recommending purchasing,
leasing or ordering of any item, in each case, reimbursable under Medicare,
Medicaid or other federal and state health care programs. These provisions apply
to dental services covered under various government programs in which the
Company participates or may participate. The federal government has increased
scrutiny of joint ventures and other transactions among health care providers in
an effort to reduce potential fraud and abuse related to Medicare and Medicaid
costs. Many states have similar anti-kickback laws, and in many cases these laws
apply to all types of patients, not just Medicare and Medicaid beneficiaries.
The applicability of these federal and state laws to transactions in the health
care industry such as those to which the Company is or may be a party has not
been the subject of judicial interpretation. There can be no assurance that
judicial or administrative authorities will not find these provisions applicable
to the Company's operations, which could have a material adverse effect on the
Company's business and development.
Under current federal law, a physician or dentist or member of this
immediate family is prohibited from referring Medicare or Medicaid patients to
any entity providing "designated health services" in which the physician or
dentist has an ownership or investment interest, including the physician's or
dentist's own group practice, unless such practice satisfies the "group
practice" exception. The designated health services include the provision of
clinical laboratory services, radiology and other diagnostic services (including
ultrasound services), radiation therapy services, physical and occupational
therapy services, durable medical equipment, parenteral and enteral nutrients,
certain equipment and supplies, prosthetics, orthotics, outpatient prescription
drugs, home health services and inpatient and outpatient hospital services. A
number of states also have laws that prohibit referrals for certain services
such as x-rays by dentists if the dentist has certain enumerated financial
relationships with the entity receiving the referral, unless an exception
applies. Any future expansion of these prohibitions to other health services
could restrict the Company's ability to continue affiliations with Allied
Practices.
Certain of the Allied Practices providing pediatric dental services may
participate in Medicare and Medicaid programs. Noncompliance with, or violation
of, either the anti-kickback provisions or restrictions on referrals of
designated health services can result in exclusion from the Medicare and
Medicaid programs as well as civil and criminal penalties. Similar penalties
apply for violations of state law. While the Company intends to make every
effort to comply with all applicable law, any exclusions from Medicare, Medicaid
or other capitation programs could have a material adverse effect on the
business and results of operations of the Company.
In addition, there are certain regulatory risks associated with the
Company's role in negotiating and administering managed care and capitation
contracts on behalf of its Allied Dentists. The application of state insurance
laws to reimbursement arrangements other than various types of fee-for-service
arrangements is an unsettled area of law and is subject to interpretation by
regulators with broad discretion. As the Company's Allied Practices providing
pediatric dental services contract with third-party payors, including
self-insured plans, for certain non-fee-for-service arrangements, such Allied
Practices may become subject to state insurance laws. In the event that the
Company or such Allied Practices are determined to be engaged in the business of
insurance, such parties could be required either to seek licensure as an
insurance company or to change the form of their relationships with third-party
payors and may become subject to regulatory enforcement actions. In such event,
the Company's business, operations and financial results may be adversely
affected.
-12-
<PAGE> 15
RISKS RELATED TO FUTURE HEALTH CARE REFORM. The United States Congress has
considered various health care reform proposals, including comprehensive
revisions to the current health care system. It is uncertain what legislative
proposals will be adopted in the future or what actions federal or state
legislatures or third-party payors may take in anticipation of or in response to
any health care reform proposals or legislation. Health care reform legislation
adopted by Congress could have a material adverse effect on the operations of
the Company, and changes in the health care industry, such as the growth of
managed care organizations and provider networks, may result in lower payment
levels for the services of the Allied Orthodontists or Allied Dentists.
DEPENDENCE ON ENFORCEABILITY OF OPERATIVE AGREEMENTS. The Company requires
Allied Practices and certain of their orthodontists or pediatric dentists to
execute three agreements (collectively, the "Operative Agreements"): (i) a
purchase and sale agreement, stock purchase and sale agreement or agreement and
plan of reorganization by and between the Allied Practice and OrthAlliance; (ii)
a long-term management services agreement by and between the Allied Practice and
OrthAlliance; and (iii) employment agreements by and between the Allied Practice
and certain of its orthodontists or pediatric dentists. The consummation of the
Acquisitions and the viability of the Company are dependent on the initial and
continuing enforceability of the Operative Agreements. While OrthAlliance has
attempted to structure the Operative Agreements in accordance with applicable
law, there can be no assurance that the enforceability of certain non-compete
and other provisions will not be successfully challenged. Further, because each
of the employment agreements is between the Allied Orthodontist or Allied
Dentist and the Allied Practice, there can be no assurance that the parties
thereto will not terminate or amend the terms and conditions of such employment
agreements. See "Business -- Agreements with Allied Practices and Allied
Orthodontists and Allied Dentists."
DEPENDENCE ON KEY PERSONNEL. The success of the Company is dependent upon
the continued services of the Company's senior management, including Sam
Westover, Chief Executive Officer, and Robert S. Chilton, Chief Financial
Officer. The loss of the services of Messrs. Westover or Chilton or other
Company senior management could have a material adverse effect on the Company's
business, financial condition and results of operations. See "Management."
RISKS RELATED TO COMPETITION. The business of providing orthodontic and
pediatric dental services is highly competitive in each market in which the
Company operates. Each of the Company's Allied Orthodontists and Allied Dentists
faces competition from other orthodontists, pediatric dentists or general
dentists in the communities served, some of whom have more established practices
in the market. The Company is aware of several other companies currently
developing, consolidating and managing orthodontic practices throughout much of
the United States, and the Company may encounter substantial competition from
those entities, as well as new market entrants. Other competitors involved in
managing multiple practices may have greater marketing, financial and other
resources and more established operations than the Company. The Company expects
that the level of competition with regional or national management concerns will
remain high in the future, which could limit the Company's ability to maintain
or increase its market share or maintain or increase gross margins, either of
which could have a material adverse effect on the Company's business, financial
condition and results of operations. See "Business -- Competition."
LIABILITY RISKS ASSOCIATED WITH PROVIDING ORTHODONTIC OR PEDIATRIC DENTAL
SERVICES. Each of the Allied Orthodontists or Allied Dentists provides
orthodontic or pediatric dental services to the public and may be exposed to the
risk of professional liability and other claims. Claims relating to
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<PAGE> 16
orthodontic or pediatric dental treatment, temporomandibular joint
syndrome-related claims and claims for failure to diagnose periodontal disease,
if successful, could result in substantial damage awards to the claimants which
may exceed the limits of any applicable insurance coverage of the Allied
Practice and, potentially, the Company as an affiliate of the Allied Practice.
The Company does not engage in the practice of orthodontics or pediatric
dentistry, and, as a result, cannot purchase malpractice insurance. Each of the
Allied Practices or the Company on its behalf is required to maintain certain
levels of general liability and each Allied Practice is required to maintain
malpractice insurance. The Company will not control the practice of orthodontics
or pediatric dentistry by its Allied Orthodontists or Allied Dentists or the
compliance with regulatory and other requirements directly applicable to the
Allied Orthodontists or Allied Dentists and the Allied Practices. Although the
Company maintains liability insurance for itself and is named as an additional
insured party on the liability insurance policies of the Allied Orthodontists or
Allied Dentists (where permitted by insurers and applicable state law),
successful malpractice claims against the Company or the Allied Orthodontists or
Allied Dentists could have a material adverse effect on the Company's business,
financial condition and results of operations. In addition, there can be no
assurance that claims not covered by the Company's insurance (e.g., claims for
punitive damages) will not arise. See "Business -- Litigation and Insurance."
Claims against the Company, the Allied Practices and/or the Allied Orthodontists
or Allied Dentists, regardless of their merit or eventual outcome, may also have
a material adverse effect on the Company's ability to attract patients to Allied
Practices or expand its business. Further, because insurance policies must be
renewed annually, there can be no assurance that the Company, the Allied
Practices and/or the Allied Orthodontists or Allied Dentists, will be able to
obtain liability insurance coverage in the future on acceptable terms, if at
all.
CONTROL BY EXISTING MANAGEMENT AND STOCKHOLDERS. As of the date of this
Prospectus, the Allied Orthodontists, Allied Dentists, the executive officers
and directors of the Company and entities affiliated with such persons
beneficially own approximately 72% of the outstanding shares of Common Stock and
are able to exercise control over the Company's affairs. These stockholders
acting together will be able to elect the Board of Directors of the Company and
approve or disapprove any matter submitted to a vote of stockholders, including
amendments to the Company's Amended and Restated Certificate of Incorporation
(the "Certificate"), mergers, share exchanges, the sale of all or substantially
all of the Company's assets, going private transactions or other fundamental
corporate transactions. See "Principal Stockholders" and "Description of Capital
Stock."
In addition, certain Allied Orthodontists, officers, directors and existing
stockholders of the Company own an aggregate of 250,000 shares of the Class B
Common Stock. Each such share is entitled to one vote per share and is entitled
to vote with the Common Stock on all matters submitted to a vote of the
Company's stockholders. The Class B Common Stock will automatically convert into
shares of Common Stock at a ratio of eight shares of Common Stock for each share
of Class B Common Stock upon the attainment of the Conversion Prices. Attainment
of all of the Conversion Prices will result in conversion of the Class B Common
Stock into a maximum of 2,000,000 shares of Common Stock, further increasing the
control over the Company's affairs by the holders of such shares. If all of the
Class B Common Stock is converted into the maximum number of shares of Common
Stock possible, through the achievement of all of the Conversion Prices on or
before the Final Conversion Date, the Allied Orthodontists, the officers and
directors of the Company and entities affiliated with such persons would
beneficially own approximately 75% of the outstanding shares of Common Stock and
Class B Common Stock (assuming no other issuances of capital stock). If the
Conversion Prices are not achieved prior to the Final Conversion Date, all
outstanding shares of Class
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<PAGE> 17
B Common Stock will convert to shares of Common Stock at a ratio of one share
for one share on such date. See "Description of Capital Stock -- Common Stock
and Class B Common Stock."
SHARES ELIGIBLE FOR FUTURE SALE. All of the shares of Common Stock being
sold in this Offering and sold to the public pursuant to the IPO (2,990,000) and
issued pursuant to the S-4 Registration Statement (2,183,089) will be or are
freely tradeable unless acquired by affiliates of the Company. The market price
of the Common Stock could be adversely affected by the sale of substantial
amounts of Common Stock of the Company in the public market by the holders of
such shares. Upon the closing of the IPO, the owners of the Founding Practices
received, in the aggregate, 5,882,985 shares of Common Stock as a portion of the
consideration for the affiliation of their orthodontic practices with the
Company. These shares of Common Stock received by the owners of the Founding
Practices are not registered; however, holders of such shares have certain
incidental registration rights pursuant to the purchase and sale agreements and
agreements and plans of reorganization between OrthAlliance and the Founding
Practices, whereby the Company must use its reasonable efforts to register such
shares under certain circumstances during the twenty-four months following the
closing of the Transfers relating thereto. See "Description of Capital Stock --
Registration Rights." Certain other stockholders of OrthAlliance were issued, in
the aggregate, an additional 1,750,000 shares of Common Stock and 250,000 shares
of Class B Common Stock. See "Certain Transactions." None of the 1,750,000
shares of Common Stock were acquired in transactions registered under the
Securities Act and, accordingly, such shares may not be sold except in
transactions registered under the Securities Act or pursuant to an exemption
from registration thereunder. The 250,000 shares of Class B Common Stock are not
transferable, except to the holder's spouse, parents, siblings, lineal
descendants, a trust for the benefit of any such person or as determined by will
or the laws of descent.
The Company, all of the owners of the Founding Practices, and the executive
officers, directors and 5% or greater shareholders of the Company are restricted
from offering or selling shares of Common Stock received in connection with the
Merger and the Transfers relating to the Founding Practices until August 21,
1998 (the "Lock-up Period") without the prior written consent of J.C. Bradford &
Co. and Oppenheimer & Co., Inc., as representatives of the underwriters (the
"Representatives"), except in connection with acquisitions or the exercise of
warrants or options granted under the Company's stock option plans. After the
Lock-up Period, all of such shares may be sold in accordance with Rule 144
promulgated under the Securities Act of 1933, as amended (the "Securities Act"),
subject to the volume, holding period and other limitations of Rule 144.
The shares issued from time to time in this Offering generally will be
freely tradable upon issuance to persons not deemed to be affiliates of the
Company, unless the Company contractually restricts the sale or other transfer
of such shares.
NO PRIOR PUBLIC MARKET; POSSIBLE VOLATILITY OF STOCK PRICE. Prior to the
IPO, there was no public market for the Common Stock. The Common Stock is listed
for quotation on the Nasdaq National Market, however, there can be no assurance
that a regular trading market for the Common Stock will be sustained. The IPO
price was determined by negotiation among the Company and the Representatives
and may bear no relationship to the market price of the Common Stock after the
IPO date. The market price of the Common Stock could be subject to significant
fluctuations in response to variations in quarterly operating results and other
factors. In addition, the stock market in recent years has experienced extreme
price and volume fluctuations that often have been unrelated or disproportionate
to the operating performance of companies. Factors such as actual or anticipated
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<PAGE> 18
operating results, growth rates, changes in estimates by analysts, market
conditions in the industry, announcements by competitors, regulatory actions and
general economic conditions will vary over time. As a result of the foregoing,
the Company's operating results and prospects periodically may be below the
expectations of public market analysts and investors. Any such event would
likely result in a material adverse effect on the price of the Common Stock.
ABSENCE OF DIVIDENDS. Except for the payment of $13.8 million cash
consideration paid to the Founding Practices in connection with the Transfers
relating thereto, which was recorded as a cash dividend, the Company has never
paid any cash dividends and does not anticipate paying cash dividends on its
Common Stock or Class B Common Stock in the foreseeable future. See "Dividend
Policy."
ANTI-TAKEOVER EFFECT OF CERTAIN PROVISIONS. Certain provisions of
OrthAlliance's Certificate, Bylaws and the Delaware General Corporation Law
("DGCL") could delay or impede the removal of incumbent directors and could make
a merger, tender offer or proxy contest involving the Company more difficult, or
could discourage a third party from attempting to acquire control of the
Company, even if such events would benefit the interests of the stockholders. In
particular, OrthAlliance's Certificate provides for a "staggered" Board of
Directors in three classes, which could have the effect of delaying a change in
control of the Company. In addition, although OrthAlliance has no current plans
to issue any preferred stock, the Certificate authorizes the Board of Directors
to issue "blank check" preferred stock of the Company, in one or more series,
without stockholder approval of the issuance and upon such terms and conditions,
and having such rights, privileges and preferences, as the Board of Directors
may determine. See "Description of Capital Stock -- Preferred Stock" and
"Certain Provisions of the Certificate, Bylaws and Delaware Law." Certain of the
Company's senior management personnel have entered into employment agreements
with the Company which contain "change in control" provisions. The "change in
control" provisions may hinder, delay, deter or prevent a tender offer, proxy
contest or other attempted takeover because covered employees terminated within
12 months of a change in control would be paid an amount equal to three times
(i) their existing annual base compensation and (ii) the maximum possible cash
bonus. In addition, the Company must pay any accrued salary, benefits or
reimbursements to such employee. See "Management -- Employment Agreements." The
Service Agreements entered into with the Allied Orthodontists provide that such
agreements may be terminated by the Allied Practices pursuant to a change of
control, defined therein, which does not include transactions approved by the
Company's Board of Directors. OrthAlliance is also subject to Section 203 of the
DGCL which prohibits a publicly held Delaware corporation from engaging in a
"business combination" (as defined in Section 203 of the DGCL) with an
"interested stockholder" (defined in Section 203 of the DGCL, generally, as a
person owning 15% or more of the Company's outstanding voting stock) for a
period of three years after the date of the transaction in which such person
became an interested stockholder, unless certain conditions are met.
THE COMPANY
OrthAlliance was organized to create a national provider of practice
management services to orthodontic practices in the United States. The Company
also provides such services to pediatric dental practices in the United States.
Premier and USOC, predecessors to OrthAlliance, were formed in 1996
independently of each other to acquire certain operating assets of and to enter
into long-term management services agreements with orthodontic practices. The
management of Premier and USOC determined to combine the two companies to form
OrthAlliance. Prior to the closing of the IPO,
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<PAGE> 19
Premier and USOC merged with and into OrthAlliance and pursuant thereto the
Company succeeded to the rights of Premier and USOC under the agreements with
the Founding Practices and acquired all tangible and intangible assets and
liabilities of Premier and USOC. Following the IPO, OrthAlliance has acquired
certain operating assets of and entered into long-term management agreements
with Additional Practices. See "Certain Transactions" and Note 1 to Notes to the
Financial Statements of the Company.
Simultaneously with and as a condition to the closing of the IPO,
OrthAlliance acquired, by transfer pursuant to Staff Accounting Bulletin No. 48
"Transfers of Nonmonetary Assets by Promoters or Shareholders" ("SAB 48"),
certain operating assets or the stock of entities holding certain operating
assets of, the 55 separate Founding Practices in exchange for cash and shares of
Common Stock and entered into long-term management or consulting services
agreements with the Founding Practices. Following the IPO, OrthAlliance has
acquired certain operating assets of and entered into long-term management
agreements with Additional Practices which have been accounted for as asset
acquisitions at fair market value. See "Business -- Agreements with Allied
Practices and Allied Orthodontists." In Transfers or Acquisitions requiring
stock acquisitions, the Company generally acquires the stock of the entity (the
"Original Entity") through which the applicable Allied Practice previously
operated and generated revenues. Before the Company's acquisition of the
Original Entity, the stockholder(s) of the Original Entity form a new entity
(the "New Entity") through which the Allied Practice provides orthodontic or
pediatric dental services and which holds all assets that the Company is unable
to own pursuant to applicable state law or which the Company does not desire to
acquire from the Allied Practice. At the time of transfer of the stock of the
Original Entity to OrthAlliance, the Original Entity holds the operating assets
of the Original Entity that the Company is permitted to own.
The aggregate consideration paid by the Company to the Founding Practices
was approximately $84.4 million, composed of 5,882,985 shares of Common Stock
and approximately $13.8 million in cash. Cash proceeds from the IPO were used to
pay the cash portion of the consideration. The aggregate consideration paid by
the Company to Additional Practices affiliating with the Company after the IPO
was approximately $42.3 million, composed of 2,183,089 shares of Common Stock
and approximately $15.6 million in cash. See "Certain Transactions," "Business
- -- Agreements with Allied Practices and Allied Orthodontists or Allied
Dentists," and the Unaudited Pro Forma Combined Balance Sheet and the notes
thereto.
The Company plans to use the shares of Common Stock from this Offering to
make future Acquisitions. The aggregate consideration to be paid by the Company
with respect to future Acquisitions will generally be payable in cash and with
shares of Common Stock issued in this Offering. Shares of Common Stock issued in
connection with future Acquisitions will be valued at prices reasonably related
to market price for the Common Stock prevailing either at the time an
acquisition agreement is executed or at the time a future Acquisition is
consummated.
The Company maintains its principal executive office at 23848 Hawthorne
Boulevard, Suite 200, Torrance, California 90505, and its telephone number is
(310) 791-5656.
MARKET INFORMATION AND RELATED STOCKHOLDER MATTERS
The Common Stock is traded on The Nasdaq National Market ("Nasdaq")
under the symbol "ORAL." There is no established public trading market for the
Class B Common Stock. No transfers are
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<PAGE> 20
permitted of Class B Common Stock, except to the Class B stockholder's spouse,
parents, siblings, lineal descendants, trusts for the benefit of any such
individual or as determined by laws of descent or wills. The high and low prices
of the Company's Class A Common Stock as reported on Nasdaq during each quarter
from August 21, 1997 are shown below:
<TABLE>
<CAPTION>
1997 High Low
- ---- ---- ---
<S> <C> <C>
Third Quarter 15 3/8 13 1/2
Fourth Quarter 15 1/2 8 1/2
1998
- ----
First Quarter 14 10 1/4
</TABLE>
At May 18, 1998, the last reported sale price of the Common Stock was $
15.00 per share and there were approximately 181 record holders of Common Stock
and 52 record holders of Class B Common Stock.
Recent Sales of Unregistered Securities.
On August 26, 1997, simultaneously with the closing of the IPO, the 55
Founding Practices received 5,882,985 shares of unregistered Common Stock as
partial consideration for certain assets or stock of such Founding Practices
pursuant to the exemption set forth in Section 4(2) of the 1933 Act regarding
non-public offerings.
On August 26, 1997, pursuant to the Merger between the Company, USOC
and Premier, the Company issued 1,750,000 shares of unregistered Common Stock
and 250,000 shares of unregistered Class B Common Stock as consideration to the
shareholders of USOC and Premier in reliance on the exemption set forth in
Section 4(2) of the 1933 Act regarding non-public offerings.
Pursuant to the S-1, the Company offered and sold to the Representative
2,990,000 shares of Common Stock in the IPO for an aggregate offering price of
$35,880,000. As of March 31, 1998, the amount of expenses incurred by the
Company in connection with the issuance and distribution of the Common Stock in
the IPO for underwriting discounts and commissions, finders fees, expenses paid
to or for underwriters was approximately $2,511,600. The net proceeds received
by the Company after deducting the above expenses was approximately $31,137,400.
The Company used the net proceeds from the IPO as follows:
<TABLE>
<S> <C>
Dividend to Founding Practices $ 13,759,266
Payment of Debt Assumed in Merger $ 4,407,812
Acquisition of Allied Practices $ 12,970,322
------------
$ 31,137,400
</TABLE>
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<PAGE> 21
Of the $4,407,812 used of payment for assumed debt, $271,461 was paid
to Sam Westover (President, Chief Executive Officer and Director), $172,647 was
paid to Paul H. Hayase (Senior Vice President - Human Resources, General Counsel
and Secretary), $162,877 was paid to J. Dalton Gerlach (Senior Vice President -
Development) and $250,000 was paid to Jonathan E. Wilfong (Chairman of the
Board) for consulting services related to the IPO.
Of the $13,759,266 used for payment of the dividend to the 55 Founding
Practices, $280,403 was paid to Douglas D. Durbin (Director), $107,432 was paid
to Randall A. Schmidt (Director) and $582,857 was paid to Randall K. Bennett
(Director).
As of March 31, 1998, the funds generated from the IPO had been used as
set forth above and there was no remaining unused balance.
Except for the payment of approximately $13.8 million cash
consideration to the Founding Practices in connection with the Transfers
relating thereto, which is recorded as a cash dividend, the Company has never
declared or paid dividends on its Common Stock or Class B Common Stock. Prior to
the Transfers or Acquisitions, the Allied Practices, some of which are sole
proprietorships, C corporations or S corporations, made distributions of
earnings to their owners and stockholders, as applicable. The Company expects
that future earnings, if any, will be retained for the growth and development of
the Company's business and, accordingly, the Company does not anticipate that
any dividends will be declared or paid on the Common Stock for the foreseeable
future. The declaration, payment and amount of future dividends, if any, will
depend upon the future earnings, results of operations, financial position and
capital requirements of the Company, among other factors. In addition, the
Company's Credit Facility (as defined below) limits the payment of dividends.
See "Management's Discussion and Analysis of Financial Condition and Results of
Operations -- Liquidity and Capital Resources."
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<PAGE> 22
CAPITALIZATION
The following table sets forth the current portion of long-term debt
and the total capitalization of the Company as of December 31, 1997 and 1996.
This table should be read in conjunction with "Management's Discussion and
Analysis of Financial Condition and Results of Operations" and the OrthAlliance
financial statements and notes thereto included in this Prospectus.
<TABLE>
<CAPTION>
As of As of
December 31, December 31,
1997 1996
-------------------------------
<S> <C> <C>
Current portion of long-term debt $ -- $ --
Long-term debt less current portion -- --
Stockholders' equity: 11 --
Class A Common Stock, $.001 par value, 20,000,000
shares authorized, 11,486,761 shares and 1 share issued and
outstanding at December 31, 1997 and 1996, respectively
Class B Common Stock, $.001 par value, 250,000 -- --
authorized, 250,000 and zero shares issued and outstanding
at December 31, 1997 and 1996, respectively
Additional paid-in capital 45,149 --
Retained deficit (11,132) --
-------- -----
Total stockholders' equity 34,028 --
-------- -----
Total capitalization $ 34,028 --
</TABLE>
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<PAGE> 23
SELECTED FINANCIAL DATA
(IN THOUSANDS, EXCEPT PER SHARE DATA)
The following information is derived from the audited and unaudited
financial statements of OrthAlliance included elsewhere in this Prospectus. This
information does not reflect the effect of this Offering.
<TABLE>
<CAPTION>
For the period from For the three months
For the Year Ended inception (October 21, 1996 ended
December 31, 1997 to December 31, 1996) March 31, 1998
----------------- --------------------- --------------
<S> <C> <C> <C>
STATEMENT OF OPERATIONS DATA:
Net revenue $ 18,081 $ -- $14,650
Total expenses 18,246 -- 11,855
Operating income/(loss) (165) -- 2,795
-------- ----- -------
Net income/(loss) $ (736) $ -- $ 1,621
Net income/(loss) per share $ (0.18) $ -- $ 0.13
Number of shares used in net 4,026 -- 12,482
income/(loss) per share calculation
<CAPTION>
As of December 31, As of December 31, As of March 31,
1997 1996 1998
---- ---- ----
<S> <C> <C> <C>
BALANCE SHEET DATA:
Cash and cash equivalents $ 12,647 $ -- $ 3,907
Working capital 13,085 -- 5,679
Total assets 44,363 -- 57,105
Long-term debt -- -- --
Stockholders' equity 34,028 -- 45,643
</TABLE>
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<PAGE> 24
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Certain statements in this Prospectus under the captions "The Company",
"Business" and "Management's Discussion and Analysis of Financial Condition and
Results of Operations" and elsewhere herein constitute "forward-looking
statements" within the meaning of Section 27A of the Securities Act and Section
21E of the Securities Exchange Act of 1934, as amended (the "Exchange Act").
Those statements include statements regarding the intent, belief or current
expectations of the Company and members of its management team. Management
cautions that any such forward-looking statements are not guarantees of future
performance and involve risks and uncertainties, and that actual results may
differ materially from those contemplated by such forward-looking statements.
Important factors currently known to management that could cause actual results
to differ materially from those in forward-looking statements are set forth in
the Safe Harbor Compliance Statements included as Exhibit 99.1 to the Company's
Form 10-K for the year ended December 31, 1997, and are hereby incorporated
herein by reference. The Company undertakes no obligation to update or revise
forward-looking statements to reflect changed assumptions, the occurrence of
unanticipated events or changes to future operating results over time.
The following discussion should be read in conjunction with the
accompanying Consolidated Statements of Operations and notes thereto for the
year ended December 31, 1997.
GENERAL
The Company began providing certain practice management services to
Allied Practices in the United States on August 26, 1997. The initial 55 Allied
Practices included 82 Allied Orthodontists operating 147 offices in 16 states.
At May 18, 1998, the Company had affiliated with 30 additional practices,
including 40 additional orthodontists operating out of 74 locations and 4
pediatric dentists operating out of 3 locations. Four of these new locations
were new satellite offices to existing Allied Practices which were created as
part of the Company's strategy to grow the revenue potential of Allied Practices
though expansion into new markets. The Company anticipates that future growth
will come from entering into long-term management contracts with existing
non-affiliated practices, satellite expansion of Allied Practices and operating
efficiencies.
The Company earns revenue by providing certain services to the Allied
Practices pursuant to long-term service agreements or consulting agreements
(collectively, "Management Agreements") with Allied Practices. The Company
provides certain management or consulting services to each Allied Practice and
assumes substantially all operating expenses, except for compensation to Allied
Orthodontists and Allied Dentists and other employees that the Company cannot
employ according to applicable state laws. In exchange for assuming these
expenses and providing services, the Company records revenues in amounts equal
to the assumed expenses plus a service fee or consulting fee, as described
below. OrthAlliance provides advice, training and capital for development and
growth of the Allied Practices and does not own or control the Allied Practices.
The Allied Orthodontists and Allied Dentists continue to make all treatment and
clinical decisions and maintain their relationships with their patients. In
general, the Management Agreements provide for the recognition of fees to the
Company based on a negotiated percentage of the "Adjusted Patient Revenue" of
Allied Practices. The timing of the payment of such service fees is based upon
cash collected. Adjusted Patient Revenue is net patient
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revenue, as determined under generally accepted accounting principles, including
adjustments for contractual allowances and other discounts, plus an adjustment
for uncollectible accounts. Patient revenue is recognized as services are
performed. For orthodontic services, approximately 20% of the orthodontic
contract revenue is recognized at the time of initial treatment. The balance of
the contract revenue is realized evenly over the remaining treatment period. The
20% estimated revenue at the initial treatment date is based on the estimated
costs incurred by the practice at that time as compared to the total costs of
providing the contracted services and is consistent with industry standards. The
percentage includes the estimated costs of diagnosis and treatment plan
development, initial treatment by orthodontic personnel, orthodontic supplies,
and associated administrative services. For pediatric dental services, revenue
is recognized at the time the service to the patient is performed and costs are
allocated based on the type of service provided to the patient at the time such
service is provided.
The service fee is earned and paid monthly to the Company by each
Allied Practice using one of three different fee structures set forth in the
Management Agreements:
(i) a designated percentage of Adjusted Patient Revenue, ranging from
14% to 17%, subject to an annual adjustment based upon improvements in the
Allied Practice's operating margin in the most recent calendar year as
compared with the immediately preceding calendar year. No annual adjustment
will be made which would result in reducing the designated percentage below
the percentage applicable during the first year of the Management
Agreement. Operating margin is defined as the percentage determined by
dividing operating profit by Adjusted Patient Revenue. Operating profit is
equal to Adjusted Patient Revenue less operating expenses, excluding the
service fee and such expenses associated with the Allied Practices which
the Company is prohibited from incurring, primarily consisting of
orthodontist or pediatric dentist compensation. The average designated
percentage is 16.9% for the Allied Practices subject to this fee structure.
(ii) a designated percentage ranging from 13.5% to 17% of Adjusted
Patient Revenue with a potential annual adjustment of 25% of the increase
in operating margin (as defined in subparagraph (i) above) in a calendar
year as compared to the preceding calendar year multiplied by the Adjusted
Patient Revenue for the current calendar year. The supplemental fee for
improvement in operating margin, if applicable, is paid in a lump sum
payment upon final determination of the Allied Practice's operating margin
for the calendar year. The average designated percentage is 16.7% for the
Allied Practices subject to this fee structure. In some cases, the Allied
Orthodontist or Allied Dentist must guarantee a minimum level of service
fees to be paid by the Allied Practice for a portion of the term of the
agreement ranging from one to 25 years. The period covered by the minimum
service fee varies by agreement, but ranges from one to 25 years.
(iii) a fixed dollar fee with annual fixed percentage increases for
each year of the term of the Management Agreement.
The Company has entered into agreements with certain Allied Practices to
make the payment of such service fees after the first two years contingent on
various factors, including practice profitability compared to acquisition
consideration, timely reporting of information, participation in practice
improvement programs and orthodontist hours worked. If these contingencies are
satisfied, the Company would not receive any revenue from the Allied Practice
subject to such arrangement.
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<PAGE> 26
Expenses reported by the Company include certain of the expenses to operate
the orthodontic and pediatric dental offices and all of the expenses of any
corporate offices, facilities or functions. Therefore, salaries and benefits
include the wages, benefits, taxes or other employment costs for all employees
of the Company, including practice office staff, business office staff and
management personnel. Rent includes facility expenses for both practice offices
and corporate offices. Advertising and marketing includes practice activities to
attract new patients and corporate activities to attract new orthodontists and
pediatric dentists to join the Company. General and administrative expenses
include professional services, such as legal and accounting, utilities,
advertising, marketing, insurance, telephone, license fees, office supplies and
shipping expenses. Practice supplies include only those expenses required by the
Allied Orthodontist or Allied Dentist to provide treatment to patients.
RESULTS OF OPERATIONS
The audited financial statements of the Company for the year ended December
31, 1997 reflect a net loss of $736,000 on revenues of $18,081,000. This
reflects the results of operations for the period August 26, 1997 to December
31, 1997. Excluding the impact of the non-recurring compensation expense in the
amount of $3,392,000, the Company recognized income before income taxes of
$105,000. The Company began operations in 1997; therefore, the presentation of
prior period information is not applicable.
The unaudited financial statements of the Company for the three months
ended March 31, 1998 reflect net income of $1,621,000 on revenues of
$14,650,000.
The following table sets forth the percentage of certain items in relation
to net revenues.
<TABLE>
<CAPTION>
Year ended Quarter Ended
December 31, 1997 March 31, 1998
<S> <C> <C>
Net Revenue.............................................. 100.0% 100.0%
Direct Expenses:
Employee costs ..................................... 31.9 30.7
Practice supplies .................................. 9.3 9.1
Rent ............................................... 9.7 9.0
Depreciation and amortization ...................... 1.4 3.3
General and administrative ......................... 29.9 28.9
Non-recurring organizer compensation expense........ 18.8 --
----- -----
Total operating expenses ........................... 101.0 81.0
Operating profit ........................................ (1.0) 19.0
Interest income, net .................................... 1.5 0.6
----- -----
Income before income taxes .............................. 0.5 19.6
Provision for income taxes .............................. 4.6 8.7
----- -----
Net income/(loss) or gain................................ (4.1%) 10.9%
===== =====
</TABLE>
Three Months Ended March 31, 1998
NET REVENUE. The Company began operations on August 26, 1997 and therefore
comparisons with the quarter ended March 31, 1997 are not meaningful. Net
revenue reported by the Company is
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derived by applying the appropriate management fee percentage against Adjusted
Patient Revenue, and adding the reimbursement from the Allied Practices of
practice expenses paid by the Company. In addition, the Company does include in
revenue the amortization of certain prepaid revenue balances that were acquired
from the Allied Practices. Prepaid revenue is recognized as an Allied
Orthodontist provides the services that were prepaid by patients before the
Allied Practice affiliated with the Company.
DIRECT EXPENSES. Direct expenses include clinical expenses paid and
corporate expenses incurred during the quarter. All expense categories are
consistent with management's expectations based upon expense information
provided by the Allied Practices prior to affiliation with the Company. Direct
expenses as a percentage to net revenue are consistent with levels seen within
the industry.
DEPRECIATION AND AMORTIZATION. Depreciation and amortization expense
relates to the depreciation of capital assets and the amortization of intangible
assets acquired resulting from new practice affiliations. Service agreement
intangibles are amortized over the expected period to be benefited, not to
exceed the term of the Management Agreements, which is 20 to 25 years.
Depreciation and amortization expense increased in the first quarter of 1998
compared with the fourth quarter of 1997 due to the additional service agreement
intangible assets amortization associated with new practice affiliations
completed in the first quarter. Total depreciation and amortization expense of
$486,000 is consistent with management's expectations based upon the number and
size of the affiliations completed.
INTEREST INCOME. This represents interest earned on excess cash balances
invested primarily in short-term money market accounts, loans to affiliated
practices and loans to patients through OA Finance. Earnings on invested excess
cash declined during the quarter as excess cash balances were used to pay the
consideration or practice affiliations.
INTEREST EXPENSE. This represents interest incurred on borrowings under the
Credit Facility (as defined below).
Year ended December 31, 1997
NET REVENUE. The Company began operations on August 26, 1997 and therefore
annual revenues reported include only the revenue generated from operations
during the period from August 26, 1997 to December 31, 1997. Adjusted Patient
Revenue during this period was $22,975,000, of which 89.1% was generated by the
55 Founding Practices that affiliated with the Company in connection with the
IPO. The remaining 10.9% was generated by Allied Practices that affiliated with
the Company subsequent to the completion of the IPO. Net Revenue reported by the
Company is derived by applying the appropriate management fee percentage against
Adjusted Patient Revenue, and adding the reimbursement from the Allied Practices
of practice expenses paid by the Company. In addition, the Company includes in
revenue the amortization of certain prepaid revenue balances that were acquired
from the 55 Founding Practices. The amortization recognizes that the
orthodontist provided the services that were prepaid by patients prior to the
Allied Practice becoming affiliated with the Company. From August 26 to December
31, 1997, the Company recognized $453,000 of amortized prepaid revenue into net
revenue. As of December 31, 1997, $1,609,000 of prepaid patient revenue acquired
from the 55 Founding Practices remained unamortized on the Company's balance
sheet. Management expects to amortize most of this balance into revenue during
1998 as the patients receive orthodontic services.
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<PAGE> 28
OPERATING EXPENSES. The amounts reported for operating expenses represent
the amounts incurred from August 26, 1997 to December 31, 1997. All of the
expense categories are consistent with management's expectations based upon
expense information provided by the Allied Practices prior to affiliation with
the Company. Operating expenses as a percentage to revenue are consistent with
levels seen within the industry.
DEPRECIATION AND AMORTIZATION. Depreciation and amortization expense
primarily relates to the depreciation of capital assets and the amortization of
excess cost over the fair value of net assets acquired (goodwill) and certain
other intangibles. The Company's policy is to amortize goodwill over the
expected period to be benefited, not to exceed the term of the Management
Agreements. For the period August 26, 1997 to December 31, 1997, depreciation
and amortization expense was $245,000.
NON-RECURRING ORGANIZER COMPENSATION EXPENSE. Prior to the completion of
the IPO, USOC and Premier merged with and into the Company, and the Company
succeeded to the rights and obligations of both USOC and Premier. Certain
compensation expenses were incurred by USOC and Premier during the period from
inception (October 21, 1996) through August 26, 1997 in connection with the IPO.
In the second quarter of 1997, the Company issued warrants to owners of certain
Allied Practices, and certain officers and consultants for their assistance in
recruiting orthodontists to the Company and in completing the IPO. In addition,
pursuant to the merger, warrants held by Jonathan Wilfong and Robert Garces to
purchase a total of 225,000 shares of USOC stock converted into warrants to
purchase an equal number of shares of Common Stock. The Company recorded
compensation expense of $3,392,000 related to these warrants during 1997.
INTEREST INCOME. Net interest income for the period August 26, 1997 to
December 31, 1997 was $270,000. This represents interest earned on excess cash
balances invested primarily in short-term money market accounts.
PROVISION FOR INCOME TAXES. Provision for income taxes for 1997 was
$841,000. A reconciliation of the provision for income taxes for the year ending
December 31, 1997 to the amount computed at the Federal statutory rate is
included in Note 13 of Notes to Consolidated Financial Statements. The Company's
effective income tax rate for the year was higher than the statutory rate
primarily due to the nondeductibility for income tax purposes of the organizer
compensation expense and amortization of goodwill.
QUARTERLY OPERATING RESULTS
The Company's unaudited quarterly operating information for 1997 and 1998
is shown in the following table. The Company began operations in the third
quarter of 1997, but the Company recognized non-recurring organizer expense
related to warrants, described above, in the second and third quarter. The
fourth quarter represents the only quarter presented when the Company was fully
operational during the entire quarter.
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<PAGE> 29
<TABLE>
<CAPTION>
Quarters ended
1997 1998
---- ----
March 31 June 30 Sept. 30 Dec. 31 March 31
<S> <C> <C> <C> <C> <C>
Total Revenues $-- $ -- $ 4,054,000 $14,027,000 $14,650,000
Net Operating Income/(Loss) -- (2,476,000) (35,000) 2,346,000 2,795,000
Net Income/(Loss) -- (1,935,000) (322,000) 1,521,000 1,621,000
Basic Earnings/(Loss) Per $-- $ N/A $ (0.07) $ 0.13 $ 0.13
Share
</TABLE>
SEASONALITY
Most patients who seek orthodontic treatment are children, although the
number of adults seeking treatment has been increasing in recent years.
Pediatric dental services are also provided to children. Based upon information
provided by the Allied Practices, and based upon the results of operations in
1997, the Company expects an increase in new patient volume during the summer
months when children are not in school. The Company also expects the lowest
volume of patient starts during the Christmas holiday season when children are
on vacation and when many of the Allied Practices are closed. With respect to
orthodontic services, because the Company recognizes 20% of all patients
contracts as revenue in the month treatment begins, the Company expects higher
patient revenue in the third quarter and lower patient revenue in the fourth
quarter. With respect to pediatric dental services, because the Company
recognizes revenue when services are performed by Allied Dentists, the Company
expects higher patient revenue in the third quarter and lower patient revenue in
the fourth quarter. Accordingly, the Company should see an increase or decrease
in service fee revenue during these periods.
LIQUIDITY AND CAPITAL RESOURCES
Pursuant to the IPO, the Company offered and sold to the
Representatives 2,600,000 shares of Common Stock at $12.00 per share.
Concurrently with the closing of the IPO, the underwriters exercised their
over-allotment option for an additional 390,000 shares of Common Stock. The IPO
and exercise of the over-allotment option generated, net of underwriting
discounts and commissions, approximately $33.4 million in cash proceeds for the
Company. The Company used these funds to pay some of the expenses for the IPO,
to pay a dividend to the owners of the 55 Founding Practices ($13.8 million), to
fund the acquisition of certain operating assets of, or the stock of entities
holding certain operating assets of Additional Allied Practices, to pay debt
assumed from Allied Practices as part of the affiliation process, and for
working capital requirements.
As of March 31, 1998, the Company had a working capital balance of
approximately $5.7 million compared to $13.3 million as of December 31, 1997.
The decline in working capital since December 31, 1997 is primarily attributable
to the investment in new practice affiliations during the quarter. The Company
continues to anticipate the primary uses of capital will include additional
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<PAGE> 30
affiliation with orthodontic practices, certain costs related to the development
of satellite offices and funding the working capital needs of the Company and
the Allied Practices. The Management Agreements provide for advances by the
Company to the Allied Practices for working capital requirements and other
purposes. Such loans generally bear interest at prime plus one percent and are
repayable over varying periods of time not to exceed five years. It is
anticipated that the foregoing capital expenditures will be funded from the
Company's cash flow from operations, existing working capital and borrowings
under the Credit Facility. During the three months ended March 31, 1998, the
Company expended approximately $8.9 million of cash for the acquisition of
certain net assets of and the affiliation with new Allied Practices. The Company
anticipates the primary uses of capital will include additional affiliations
with orthodontic and pediatric dental practices, certain costs related to the
development of satellite offices, and funding the working capital needs of the
Company and Allied Practices.
On December 30, 1997, the Company entered into a credit agreement with
First Union National Bank to provide a $25 million revolving line of credit (the
"Credit Facility"). The interest on borrowings accrues at either the bank's
prime rate or LIBOR, plus a margin between 0.25% and 1.875%. Amounts borrowed
are secured by security interests in certain of the Company's assets, including
accounts receivable, Management Agreements and capital stock of the Company's
subsidiaries. As of December 31, 1997, no borrowings were outstanding under the
Credit Facility and the Company was in compliance with all applicable covenants.
The Credit Facility terminates on December 30, 2000, but includes two one year
renewal options, subject to lender's approval.
As of March 31, 1998, the Company has taken advances against the Credit
Facility totaling $2,000,000. These borrowings were used, along with other
capital resources, for practice affiliations and to support the working capital
requirements of the Company. The Company expects to take additional advances
from the Credit Facility in the near-term to satisfy working capital
requirements.
The working capital requirements and capital resources needed to
continue the Company's acquisition and development efforts will be funded
through a combination of cash flows provided by ongoing operations, the Credit
Facility and proceeds remaining from the IPO. Management believes that these
sources of capital will be sufficient to meet the Company's funding requirements
for the next twelve months. The Company may choose to issue debt or equity
securities to meet its future long-term capital needs as management deems
appropriate.
Since the completion of the IPO and as of May 18, 1998, the Company has
acquired certain operating assets of, or the stock in entities that held certain
operating assets of, 30 Additional Practices. The total consideration paid for
these Additional Practices was $42.3 million, of which $15.6 million was paid in
cash and the balance through the issuance of 2,183,089 shares of Common Stock
pursuant to the S-4 Registration Statement.
The Company continually purchases the patient accounts receivable
generated by each Allied Practice and records these receivables on the Company's
balance sheet. The receivables are recorded at net realizable value on the date
of purchase. Any subsequent uncollectible account is written off by the Company
and the Allied Practice revenue is reduced accordingly. The impact on the
Company from such write-offs is the loss of management fees because practice
revenue is reduced. These accounts receivable should generate funds required for
(i) the expenses incurred by the Company to manage and administer the Allied
Practices, (ii) service fees, and (iii) salaries for other employees of the
Allied
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<PAGE> 31
Practices, with the balance due to the Allied Orthodontists or Allied Dentists
owning the Allied Practices.
The Management Agreements provide for advances by the Company to the
Allied Practices for working capital requirements and other purposes. Loans for
such advances generally bear interest at the prime rate plus one percent and are
repayable over varying periods of time not to exceed five years. As of March 31,
1998, the Company had advanced approximately $629,000 to the Allied Practices.
YEAR 2000 COMPLIANCE
The Company has reviewed the systems utilized by the corporate office
in all areas of office automation, including payroll, payables, general ledger
and data management. In all cases the systems are already in full compliance
with Year 2000 requirements or the developers of the systems have a Year 2000
compliant version available. The corporate office intends to upgrade any
remaining systems that are not already in compliance, with a compliant version
before the end of 1998. The cost to upgrade these systems is minimal since the
upgrades are provided by the developers under the maintenance agreements already
in place.
The Company has not performed an evaluation of the practice management
systems installed in each of its Allied Practice offices. Therefore, the Company
is not aware which systems are currently Year 2000 compliant. The Company does
have a plan to evaluate the practice management systems for Year 2000 compliance
before the end of 1998. Since the Company is not aware which systems are
currently Year 2000 compliant, the Company is not aware of the costs associated
with upgrading the practice management systems to Year 2000 compliance. However,
any costs incurred by the Company to complete a systems upgrade would be
reimbursed to the Company by each Allied Practice.
BUSINESS
GENERAL
OrthAlliance was organized to create a national provider of practice
management or consulting services to orthodontic practices in the United States.
The Company also provides such services to pediatric dental practices. The
Company manages or provides consulting services with respect to certain of the
business aspects of the Allied Practices (subject to applicable state law),
thereby allowing the Allied Orthodontists or Allied Dentists to focus on
delivering cost-effective, high quality patient care, and provides capital for
the development and growth of such practices. The Company affiliates with Allied
Practices pursuant to Management Agreements and generates revenues by providing
certain management, consulting, marketing and development services to Allied
Practices. OrthAlliance provides advice, training and capital to facilitate the
development and growth of the Allied Practices. The Allied Orthodontists and
Allied Dentists continue to make all treatment and clinical decisions with
respect to their patients and maintain their relationships with their patients.
OrthAlliance does not employ the Allied Orthodontists or Allied Dentists or own
or control their practices. The Company intends to expand its network of Allied
Practices by acquiring certain operating assets of and entering into long-term
management services agreements with additional orthodontic or pediatric dental
practices throughout the United States.
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<PAGE> 32
The Company entered into definitive agreements, consummated
simultaneously with the closing of the IPO, to acquire (by transfer pursuant to
SAB 48) certain operating assets of or the stock of certain entities holding the
assets of, and entered into Management Agreements with, 55 Founding Practices,
which included 82 orthodontists operating 147 offices located in 16 states. From
the IPO to May 18, 1998, the Company acquired certain operating assets of or the
stock of certain entities holding the assets of, and entered into Management
Agreements with, 30 additional Allied Practices, which included 40 orthodontists
operating 74 offices in 10 states and 4 pediatric dentists operating 3 offices
in 2 states. Management believes that the Allied Practices are leading practices
in their markets and were selected based upon a variety of factors, including
size, profitability, historical growth and reputation for high quality care,
among local consumers of orthodontic or pediatric dental services and within the
orthodontic and pediatric dental services industry. Some of the Allied Practices
have been referred to the Company by certain Allied Orthodontists who receive
fees or options for such referrals. Management intends to capitalize on the
reputations and relationships of the Allied Practices and their Allied
Orthodontists or Allied Dentists to assist the Company in affiliating with
additional orthodontic or pediatric dental practices.
Management believes that the Company's management, marketing,
recruiting and growth strategies, as made available to the Allied Practices,
will maximize the Company's revenues. Each Allied Orthodontist and Allied
Dentist will be a member of the Company's Clinical Advisory Board for such
group. The two Clinical Advisory Boards advise management on a broad range of
issues, including treatment, risk management, quality assurance, managed care,
product evaluation, professional resources and marketing. The members also
recommend professional standards for both treatment quality and delivery of
patient care.
SERVICES OF THE COMPANY. Pursuant to the OrthAlliance model, the
Company provides or will provide fee-based management services to Allied
Practices thereby allowing Allied Orthodontists and Allied Dentists to
concentrate on providing cost effective, high quality patient care. The Company
does not practice orthodontics or dentistry, but generally acquires certain
operating assets of an orthodontic or pediatric dental practice, employs the
employees (except Allied Orthodontists and Allied Dentists, and where applicable
law requires, hygienists and dental assistants), and enters into Management
Agreements with the Allied Practices. The Allied Orthodontists or Allied
Dentists retain ownership and control of their Allied Practices and control of
patient treatment and relationships. Where state law allows and upon request by
an Allied Practice, the Company leases equipment or office space to the Allied
Practices and employs orthodontic or dental assistants for the Allied Practices.
Each Allied Practice, in its sole discretion, determines the fees to be charged
for services provided to its patients based upon market conditions in the
service area and other factors deemed appropriate by the Allied Practice.
The Company generates revenues by providing or making available to the
Allied Practices certain management or consulting services to the Allied
Practices, including billing and collections, cash management, purchasing,
payroll processing, advertising and marketing, financial reporting and analysis,
productivity reporting and analysis, training, associate recruiting and capital
for satellite office development and acquisitions. Management believes, based on
its experience with the Founding Practices and data available to it, that the
Company's emphasis on high quality patient care and its business, marketing,
technological and practice-growth support systems will continue to appeal to
orthodontists and pediatric dentists inclined to affiliate with the Company.
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<PAGE> 33
THE ORTHODONTIC INDUSTRY
Orthodontics, the art and science of correcting the misalignment of
teeth, historically has been one of the most profitable specialties in
dentistry. The field of orthodontics has evolved greatly since the turn of the
century, a process which management believes will continue. Orthodontic research
and education have aided the development of new materials and techniques of
orthodontic treatment, including the use of computers to help solve complex
cases. In 1997, orthodontists in the United States conducted examinations of
nearly 2.5 million potential new patients and initiated treatment for
approximately 1.6 million patients. The typical orthodontist initiated treatment
for approximately 170 patients in 1997 and maintained approximately 400 active
cases.
The primary target market for orthodontic treatment is children ages 8
to 18. In 1997, approximately 81%, or 1.3 million, of all patients treated were
children. The U.S. Census Bureau estimates that as of July 1, 1996, there were
approximately 37.6 million children and adolescents between the ages of 10 and
19. Management believes that as many as 80% of these children and adolescents
could benefit from orthodontic treatment, presenting an attractive opportunity
for the Company. In addition to the traditional juvenile market, the adult
market has been a rapidly growing market for orthodontic services. Management
believes the market for adults has grown rapidly over the last 15 years as a
result of several factors. Adults today are more conscious about their
appearance, which may be improved by orthodontic treatment they may not have
received as children. Moreover, many adults today are more willing to undergo
orthodontic treatment in light of the development of new orthodontic materials
and techniques that allow the orthodontist largely to conceal the bands and
brackets used during treatment because they match the color of the teeth. Based
on statistics obtained from the JCO Study, management believes that the adult
market for orthodontic services remains untapped, as the number of adults who
need or may want orthodontic treatment substantially exceeds the number of
patients currently seeking treatment. In 1997, standard case fees averaged
approximately $3,600 for children and $3,900 for adults.
Currently, there are approximately 9,000 practicing orthodontists in
the United States, nearly all of whom have graduated from accredited graduate
programs of orthodontics. The industry is highly fragmented, with approximately
90% of the practicing orthodontists acting as sole practitioners and the balance
practicing in multiple-doctor practices (generally two orthodontists) or in
groups affiliated with competitors of the Company. The training and
qualification of an orthodontist is extremely rigorous. Generally, a dentist
must graduate in the top 10% of his or her class at an accredited graduate
school of dentistry, pass national and state board examinations, and complete an
accredited graduate orthodontic program to become an orthodontist. These
programs typically are structured as two- or three-year programs. Each year
about 200 new orthodontists graduate from accredited orthodontic programs.
THE PEDIATRIC DENTAL INDUSTRY
Pediatric dentistry is an age-defined specialty that provides both
primary and comprehensive preventative and therapeutic oral health care for
infants and children through adolescence, including those with special health
care needs. Pediatric dentists provide primary and specialty care in offices as
well as in hospital and other institutional sites and, when indicated, in
conjunction with other dental and medical disciplines. There are approximately
3,600 professional active pediatric dentists in the United States. Pediatric
dentists must complete a specialty degree program which is typically two to
three
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<PAGE> 34
years in length. Approximately 160 students are admitted each year to pediatric
dental specialty training programs.
The U.S. Bureau of the Census projects that between 1993 and 2020 there
will be an increase of 8.1 million children under the age of 15. Furthermore,
the number of practicing pediatric dentists has decreased from approximately
3,900 in 1990 to approximately 3,600 in 1997. The number of spaces available in
pediatric dental training programs has decreased from approximately 200 in 1990
to 160 in 1997. Accordingly, the Company believes that there will be an
increased demand for the services of pediatric dentists.
Based upon the 1993 Cost Survey conducted by the American Academy of
Pediatric Dentistry, approximately 75% of pediatric dentists are solo
practitioners. According to that same survey, the 1993 average gross income of a
pediatric dental practice was approximately $525,000, with average net income of
approximately $198,000.
OPERATING STRATEGY
Management believes that the Company's operating strategy will enable
Allied Practices to compete more effectively and realize greater profitability
than other orthodontic or pediatric dental practices, thereby providing an
inducement for additional orthodontists and pediatric dentists to affiliate with
the Company. Key elements of the Company's operating strategy include:
EMPHASIZING QUALITY PATIENT CARE. Management believes that the services
and support it provides its Allied Orthodontists and Allied Dentists will impact
the level of patient care by increasing the Allied Orthodontists' and Allied
Dentists' time to concentrate on patient care. Management believes that the
primary hindrances to consistent delivery of quality patient care are (i) the
discrepancy in qualifications among practicing orthodontists and pediatric
dentists and (ii) the amount of time each orthodontist or pediatric dentist
spends on patient care. The qualifications of providers of orthodontic services
vary from general dentists who have taken weekend courses in orthodontics to
graduates of accredited three-year programs. Nearly all Allied Orthodontists
affiliated with the Allied Practices are graduates of accredited orthodontic
programs. Nearly all Allied Dentists have completed specialty degree programs.
In addition, the Company has established two clinical care advisory committees
consisting of either Allied Orthodontists or Allied Dentists who meet, or will
meet, periodically to formulate practice management programs and to consult with
each other on current treatments, techniques and issues. Furthermore, recent
orthodontic and pediatric dental graduates recruited by the Company will be
required (in most cases) to complete a mentoring program pursuant to which such
graduates will provide treatment under the supervision and guidance of an
experienced Allied Orthodontist or Allied Dentist for a period of time to refine
their skills before assuming primary responsibility for patient care at a
satellite office of an Allied Practice.
CAPITALIZING ON THE BEST DEMONSTRATED PRACTICES. The Company believes
that one of its most valuable practice management services will be its ability
to identify practice-level strategies that have proven successful for individual
Allied Practices and share this information among other Allied Practices.
Management will routinely evaluate the policies and procedures of the Allied
Practices, including such critical areas as treatment quality, delivery of
patient care, practice-building, marketing, patient financing programs and
expense control. The Company will make available to Allied Orthodontists and
Allied Dentists comparative operating and financial data to enable Allied
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Orthodontists and Allied Dentists to detect areas of their practices that could
be improved. The Company provides its own analysis of such operating and
financial data and recommend changes to improve performance. The Company expects
that a primary means of identifying and implementing solutions to particular
practice issues will be to consult with Allied Practices that have had
demonstrated success in a certain area. The Company generally will seek to
facilitate communication among Allied Practices through periodic conferences and
meetings and, ultimately, through a proprietary intranet system.
ACHIEVING OPERATING EFFICIENCIES AND ECONOMIES OF SCALE. The Company
has implemented a variety of operating procedures and systems to improve the
productivity and profitability of each practice which becomes an Allied Practice
and to achieve economies of scale. The Company has implemented centralized
payroll processing and national group purchasing contracts. The Company plans to
recommend and implement, with the Allied Practice's consent, appropriate credit
and collection policies to accommodate specific needs of the target market of
each Allied Practice. Management believes that, in certain cases, patient flow
and work flow could be enhanced by physical improvements in designs to
facilities, which should result in an increase in the number of patients seen
and an increase in productivity. If such physical improvement in design is
likely to be supported by an adequate return on investment, an Allied Practice
and the Company may undertake such design changes. Operating efficiencies and
economies will be instituted after consultation with the Allied Orthodontists or
Allied Dentists on a per market or per Allied Practice need basis after thorough
analysis, including review of work flow, patient flow, aged accounts receivable
history, facilities, employee work load and productivity, and employee and
patient satisfaction.
INCREASING THE AFFORDABILITY OF ORTHODONTIC CARE THROUGH FLEXIBLE
PAYMENT PLANS. Upon request, the Company will assist Allied Practices in
developing and implementing payment plans designed to make orthodontic services
more affordable to prospective patients, thereby making orthodontic services
available to a larger segment of the population in their respective markets.
Many Allied Orthodontists have historically received a down payment of
approximately 20% of the total cost of services, which is typical in the
orthodontics industry and is based on the costs incurred by an orthodontic
practice at the time treatment is initiated. Recognizing that orthodontic
services are largely discretionary and that a significant down payment is often
a deterrent to prospective patients, the Company believes that flexible payment
plans are an effective means of increasing patient volume. Allied Dentists do
not typically require down payments but payment plans may be utilized with
respect to expensive procedures either not covered or not adequately covered by
a patient's insurance or managed care organization. Management believes that the
markets in which Allied Practices are located are different and payment plans
should be tailored to respond to the various market demands and opportunities.
The Company will make general recommendations to all Allied Practices with
respect to instituting flexible payment plans and will develop and implement
market-tailored plans upon the request of individual Allied Practices. In
addition, the Company, through its financial services subsidiary, will provide
the working capital necessary for the Allied Practices to implement flexible
payment plans which may result in the reduction or elimination of down payments.
STIMULATING DEMAND IN LOCAL MARKETS THROUGH AGGRESSIVE MARKETING. In
consultation with and upon approval of the Allied Practices, the Company intends
to develop and implement aggressive and innovative marketing plans to augment
each Allied Practice's referral and other marketing systems. Management believes
that the orthodontic industry has not taken advantage of the gains that can be
achieved through strategic direct marketing and intends to, upon request of an
Allied
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<PAGE> 36
Practice, assist in the implementation of aggressive direct marketing campaigns.
In addition, certain of the Allied Practices have developed referral systems
with local dentists, to achieve above-average practice revenues and growth. Upon
the request of an Allied Practice and in appropriate markets, the Company will
attempt to reach potential patients through print, local television and radio
advertising.
GROWTH STRATEGY
Management believes the continued growth of the Allied Practices and
the financial support for the development of new Allied Practices are key
components of the future success of the Company. To increase the Company's
revenues and profits and gain market share, management intends to initiate a
growth strategy designed to increase the number of Allied Practices and Allied
Orthodontists and Allied Dentists over time. Management's expansion strategy
includes:
AFFILIATIONS WITH ALLIED PRACTICES. Management believes that the
Company's target market for affiliations includes approximately half of the
orthodontic practices in the United States (approximately 4,500 practices) and
approximately half of the pediatric dental practices in the United States
(approximately 1,800 practices), because these practices fit the OrthAlliance
model of high quality and opportunity for revenue and earnings growth.
Management believes that affiliation will be an attractive option for many
orthodontists and pediatric dentists because the Company intends to (i) provide
the capital to open and integrate new offices into existing Allied Practices,
(ii) identify and recruit qualified associate orthodontists or pediatric
dentists for the Allied Practices, (iii) design and offer business and clinical
systems for each Allied Practice, (iv) with the approval of the Allied
Orthodontist or Allied Dentist, hire the necessary business and non-professional
personnel for each new Allied Practice, (v) help increase each Allied Practice's
market share and the number of new patients seen by recommending successful
marketing and advertising strategies, and (vi) reduce the time Allied
Orthodontists and Allied Dentists spend on administrative and business related
tasks, allowing them to focus on delivering quality patient care. The shares of
Common Stock registered pursuant to this Offering will be used in connection
with future affiliations with Allied Practices.
DEVELOPING SATELLITE OFFICES. Where management determines market demand
will support practice expansion, the Company will assist Allied Practices in
developing satellite offices to be integrated into Allied Practices to increase
market share and revenues. The Company intends to provide capital for practice
expansion, market research, site selection, office design and marketing support
for satellite office development. Management believes the Company's recruiting
strategy complements growth through the addition of satellite offices.
Experienced associate and recently graduated orthodontists or pediatric
dentists, who have completed a mentoring program, would be well suited to assume
primary responsibility for patient care at newly-established satellite offices.
See "-- Allied Practice Operations and Locations."
INTERNAL GROWTH THROUGH IMPROVED OPERATING EFFICIENCIES. A fundamental
element of management's growth strategy is internal Allied Practice growth
through improving each practice's operating efficiencies. The Company intends to
offer a variety of operating procedures and systems to improve the productivity
and profitability of the Allied Practices. The Company's operating systems and
strategies, together with its recruiting, training, marketing and business
management services should allow Allied Orthodontists and Allied Dentists to
focus their attention on providing patient care, resulting in increased patient
flow and enhanced revenues. The Company has implemented or plans to implement
payroll processing, financial reporting and analysis and national group
purchasing
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<PAGE> 37
discounted contracts and intends to implement appropriate credit and collection
policies which accommodate specific needs of the general target markets of each
Allied Practice. Operating efficiencies and economies will be instituted on a
per market or per Allied Practice need basis after thorough analysis, including
review of work flow, patient flow, aged accounts receivable history, facilities,
employee work load and productivity, employee satisfaction and patient
satisfaction.
ALLIED PRACTICE OPERATIONS AND LOCATIONS
PAYMENT PLAN; CASE FEES. For orthodontic services, at the initial
treatment, the patient signs a contract outlining the terms of the treatment,
including the anticipated length of treatment and the total fees. Each Allied
Orthodontist determines the appropriate fee to charge for services to patients
based upon market conditions in the area served by that Allied Orthodontist.
Generally, the amount of fees charged by the Allied Orthodontists are
independent of the patient's source of payment. The number of required monthly
payments is estimated at the beginning of the case and generally corresponds to
the anticipated number of months of treatment. Depending on the patient's credit
history, the down payment will range from a substantial down payment to no down
payment. Patients are typically required to pay equal monthly installments
although each Allied Practice will offer a payment plan tailored to its market
and patients.
If the treatment period exceeds the period originally estimated by the
orthodontist, the patient and the Allied Orthodontist will determine whether
payment for additional treatment will be required. If the treatment is completed
prior to the scheduled completion date, the patient is required to pay the
remaining balance of the contract. If a patient terminates the treatment prior
to the completion of the treatment period, the patient is required to pay the
balance due for services rendered to date.
Other payment plans with lower monthly payments are available for
patients who have insurance coverage for the treatment. Approximately 40% of the
patients treated at the Allied Practices have some form of orthodontic insurance
coverage. Payments for patients with insurance may be lower, depending upon the
amount of the fee paid on behalf of the patient by insurance policies. For
patients with insurance coverage, the portion of the fee not covered by
insurance is paid by the patient and is not waived or discounted by the Allied
Practice.
For pediatric dental services, the patient is responsible for the
payment of fees upon the completion of the services or the Allied Dentist
applies for reimbursement from the patient's insurance carrier or managed care
organization. In a few instances, Allied Dentists may utilize payment plans with
respect to expensive procedures either not covered or not adequately covered by
a patient's insurance or managed care organization.
INFORMATION SYSTEMS ("IS"). The Company plans to implement a
comprehensive IS strategy over the next several years. The Company will
implement a communications and data transmission program utilizing a proprietary
intranet system and commercially available integration technology. Typically, an
orthodontic practice utilizes two types of systems. The first system is the
accounting and general ledger system and the second is the production system.
The accounting and general ledger system will be implemented promptly upon the
Allied Practice's affiliation with the Company. The production system, which
provides patient and practice management functions, will take more time to
implement. While it is the Company's stated objective to protect the computer
system and applications
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<PAGE> 38
investment of each Allied Practice, management intends to use a combination of
integration and interface technologies to tie together the disparate systems.
PURCHASING. The Company plans to coordinate quantity discounts of
equipment, office furniture, inventory and supplies for the Allied Practices in
order to reduce per unit costs. In addition, the Company will negotiate
arrangements with other suppliers, such as casualty insurance carriers, that
should provide cost savings to the Allied Practices.
LOCATIONS. As of May 18, 1998, the Company provided management services
to Allied Practices at the following locations:
<TABLE>
<CAPTION>
Number of Number of Number of
State Orthodontists or Dentists (1) Offices Cities
----------------------------- ------- ------
<S> <C> <C> <C>
Alabama.......................4 7 5
Arizona.......................9 8 5
California...................21 33 28
Colorado......................5 3 2
Florida......................23 37 27
Georgia......................24 53 34
Hawaii........................2 5 5
Illinois......................1 1 1
Indiana.......................9 15 13
Kentucky......................2 6 6
Massachusetts.................1 1 1
Michigan......................1 1 1
Minnesota.....................2 2 2
Mississippi...................5 7 7
New York......................1 1 1
Ohio..........................1 3 3
Oregon........................1 3 3
Pennsylvania..................2 3 3
South Carolina................3 5 5
South Dakota..................2 7 5
Tennessee.....................6 6 6
Texas.........................4 9 9
Utah..........................2 2 2
Virginia......................2 2 2
Washington....................1 3 3
Wyoming.......................1 1 1
--- --- ---
Total.......................135 224 180
</TABLE>
- -------------------
(1) Nine Allied Orthodontists operate in two states.
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<PAGE> 39
AGREEMENTS WITH ALLIED PRACTICES AND ALLIED ORTHODONTISTS OR ALLIED DENTISTS
Each Allied Practice has entered into, and each additional Allied
Practice will enter into, three material agreements: (i) an acquisition
agreement, which may be in the form of a purchase and sale agreement whereby
OrthAlliance acquires certain of the assets, or stock of an entity holding
certain assets of, the Allied Practice, or an agreement and plan of
reorganization, whereby the Allied Practice transfers certain assets to
OrthAlliance; (ii) either a service agreement or a consulting agreement
(depending upon the applicable state regulatory requirements), whereby
OrthAlliance agrees to provide management or consulting services to the Allied
Practice; and (iii) an employment agreement between the Allied Practice and each
related Allied Orthodontist or Allied Dentist who is an equity holder in the
Allied Practice or who provides orthodontic or pediatric dental services through
such practice for more than ten days each month.
ACQUISITION AGREEMENTS. The Company acquired by transfer (in accordance
with SAB 48) certain operating assets or stock of each Founding Practice
pursuant to an asset purchase and sale agreement, an agreement and plan of
reorganization or a stock purchase and sale agreement. Each additional
affiliation with an Allied Practice has or will be accounted for as an asset
acquisition at fair market value. Each asset purchase and sale agreement
generally provides for the sale by the Allied Practice of its equipment,
licenses (to the extent assignable by law), inventory, accounts receivable,
furniture and other personal property, or some combination thereof based on
applicable state laws or regulations, in exchange for consideration based on the
Allied Practice's Adjusted Patient Revenue. Up to 50% of the aggregate purchase
price to be paid for assets transferred to the Company is generally payable in
cash, as determined by each Allied Practice, with the remainder payable in
shares of Common Stock. The aggregate consideration paid at May 18, 1998 by the
Company totals approximately $ 42.3 million. Certain liabilities, including
patient prepayments, of the Allied Practices have been assumed totaling
$405,000.
SERVICE AGREEMENTS. The parties to each service agreement include the
Company and the Allied Practice, which typically is a professional corporation
or association owned by a related Allied Orthodontist or Allied Dentist. Each
service agreement generally requires the Company to perform or make available
the following services: provide and maintain specified furnishings and
equipment; provide necessary employees (except orthodontists or pediatric
dentists and, where applicable law requires, hygienists and dental assistants);
establish appropriate business systems; purchase and maintain inventory; perform
payroll and accounting functions; provide billing and collection services with
respect to patients, insurance companies, and third-party payors; arrange
certain legal services not related to malpractice litigation; design and execute
a marketing plan; advise with respect to new office locations; and manage and
organize the Allied Practice's files and records, including patient records
where permitted by applicable law. If the Allied Practice lacks sufficient funds
to pay its current expenses, the Company is also required to advance funds to
the Allied Practice for the purpose of paying such expenses. In exchange for
performing the services described above, the Company receives a management fee
based on one of the three fee structures described in Management's Discussion
and Analysis of Financial Condition and Results of Operations -- Overview. The
Company has entered into agreements with certain Allied Orthodontists to make
the payment of such fees after the first two years contingent on various
factors, including practice profitability compared to acquisition consideration,
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<PAGE> 40
timely reporting of information, participation in practice improvement programs
and orthodontist hours worked.
The term of each service agreement is 20 to 25 years, subject to prior
termination by either party in the event the other party becomes subject to
voluntary or involuntary bankruptcy proceedings or materially breaches the
agreement, subject to a cure period. In addition, certain of the service
agreements provide that the Allied Practices may terminate the service
agreements upon the occurrence of a change of control of OrthAlliance (as
defined therein, which does not include a transaction approved by the Company's
Board of Directors). Upon the expiration or termination of the service
agreement, the Allied Practice may, and in certain circumstances must,
repurchase for cash (at book value) certain assets, including all equipment, and
assume certain liabilities of the Company related to the Allied Practice.
Each service agreement is generally not assignable by either party
thereto without the written consent of the other party; however, the Company may
assign the service agreement without consent to any entity under common control
with the Company. The Company and the Allied Practice agree to indemnify each
other for costs and expenses incurred by such other party that are caused
directly or indirectly by, as the case may be, the Company's or the Allied
Practice's intentional or negligent acts or omissions. In the case of the Allied
Practice's obligation to indemnify the Company, such obligation also applies to
intentional or negligent acts and omissions occurring prior to the date of the
service agreement. As of May 18, 1998, the Company had entered into service
agreements with 33 Allied Practices.
CONSULTING AGREEMENTS. Certain provisions of the consulting agreement
are substantially similar to the service agreement, including provisions
relating to the Company's obligation to loan funds to the Allied Practice in the
event the Allied Practice is unable to pay its current expenses, termination of
the consulting agreement, repurchase of assets and assumption of liabilities by
the Allied Practice upon expiration or termination, assignment, and
indemnification.
The services provided or made available by the Company to the Allied
Practice under each consulting agreement generally include consulting with
respect to equipment and office needs; preparing staffing models appropriate for
an Allied Practice; advising and training with respect to business systems;
purchasing and maintaining inventory; advising with respect to and providing or
arranging accounting and bookkeeping services; advising with respect to
developing a marketing plan; assessing the financial feasibility of establishing
new offices; providing billing and collection services; and assisting the Allied
Practice in organizing and developing filing and recording systems. In exchange
for such services, the Company receives a consulting fee based on one of the
three fee structures described in Management's Discussion and Analysis of
Financial Condition and Results of Operations -- Overview. As of May 18, 1998,
the Company had entered into consulting agreements with 52 Allied Practices.
Pursuant to both the service agreements and consulting agreements, the
Allied Orthodontists and Allied Dentist maintain full control over and ownership
of their orthodontic practices, determine which personnel will be affiliated
with the Allied Practices and set their own standards of practice to promote
quality care. The Company does not engage in the practice of orthodontics or
dentistry. Each Allied Orthodontist or Allied Dentist is responsible for
compliance of his or her Allied Practice with state and local regulations
applicable to the practice of orthodontics or pediatric dentistry and with
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<PAGE> 41
licensing or certification requirements. Each Allied Practice, in its sole
discretion, determines how to market its services and the fees to be charged for
services provided to patients based upon market conditions in the service area
and other factors deemed appropriate by the Allied Practice. Each Allied
Practice executes payor contracts and each Allied Orthodontist or Allied Dentist
acquires and pays for malpractice insurance coverage.
EMPLOYMENT AGREEMENTS. Each Allied Orthodontist or Allied Dentist who
is or becomes an equity holder in an Allied Practice or who provides orthodontic
or pediatric dental services through an Allied Practice for more than 10 days a
month is required to execute an employment agreement with the Allied Practice.
Each employment agreement generally provides that the Allied Orthodontist or
Allied Dentist will perform professional services for the Allied Practice for a
period of five years, subject to prior termination, (i) for cause by the Allied
Practice (which generally means death, incapacity, willful misconduct,
conviction for a felony, or chronic alcoholism or drug addiction), (ii) by the
Allied Orthodontist or Allied Dentist in the event of a material breach by the
Allied Practice, and (iii) by the Allied Orthodontist or Allied Dentist in the
event of the Company's bankruptcy. The Allied Orthodontist or Allied Dentist
agrees that following termination or expiration of the employment agreement, he
or she will not compete for a period of two years in the market in which the
Allied Practice operates an office and will limit the methods of advertising in
the area in which an Allied Practice is located.
GOVERNMENT REGULATION
GENERAL. The fields of orthodontics and pediatric dentistry are highly
regulated, and there can be no assurance that the regulatory environment in
which the Company operates will not change significantly in the future. In
general, regulation of healthcare companies is increasing. Every state imposes
licensing requirements on individual orthodontists and pediatric dentists and on
facilities operated by and services rendered by orthodontists or pediatric
dentists. In addition, federal and state laws regulate health maintenance
organizations and other managed care organizations for which orthodontists or
pediatric dentists may be providers. In connection with the entry into new
markets, the Company, Allied Practices and Allied Orthodontists or Allied
Dentists may become subject to compliance with additional regulations.
The operations of the Allied Practices must meet federal, state and
local regulatory standards in the areas of safety and health. Historically,
compliance with those standards has not had any material adverse effect on the
operations of the Allied Practices. Based on its familiarity with the historical
operations of the Allied Practices and the activities of the Company's Allied
Orthodontists and Allied Dentists, management believes that the Allied Practices
are in compliance in all material respects with all applicable federal, state
and local laws and regulations relating to safety and health.
STATE LEGISLATION. The laws of several states prohibit orthodontists
from splitting fees with non-orthodontists. Furthermore, many states prohibit
nonorthodontic entities from practicing orthodontics, employing orthodontists,
or in some circumstances, employing orthodontic assistants. The laws of some
states prohibit advertising orthodontic services under a trade or corporate name
and require that all advertising be in the name of the orthodontist. A number of
states also regulate the content of advertisement of orthodontic services and
the use of promotional gift items. A number of states limit the ability of a
non-licensed dentist or non-orthodontist to own equipment or offices used in an
orthodontic practice. Some of these states allow leasing of equipment and office
space to an
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<PAGE> 42
orthodontic practice, under a bona-fide lease, if the equipment and office
remain in the complete care and custody of the orthodontist. Management
believes, based on its familiarity with the historical operations of the
Founding Practices, the activities of the Company's Allied Orthodontists and
applicable regulations, that the Company's current and planned activities do not
constitute the prohibited practices contemplated by these statutes and
regulations. There can be no assurance, however, that future interpretations of
such laws, or the enactment of more stringent laws, will not require structural
and organizational modifications of the Company's initial relationships with its
Allied Orthodontists or the operation of the Allied Practices. In addition,
statutes in some states could restrict expansion of Company operations in those
jurisdictions. The Company either enters into a Service Agreement or Consulting
Agreement depending upon applicable state regulations.
REGULATORY COMPLIANCE. The Company monitors developments in laws and
regulations relating to the practice of orthodontics and dentistry. The Company
may be required to modify its agreements, operations and marketing strategies
from time to time in response to changes in the business and regulatory
environment. The Company intends to structure all of its agreements, operations
and marketing materially in accordance with applicable law, although there can
be no assurance that its arrangements will not be successfully challenged or
that required changes may not materially affect the Company's business,
financial condition and results of operations.
Federal law prohibits the offer, payment, solicitation or receipt of
any form of remuneration in return for, or in order to induce (i) the referral
of a person for services, (ii) the furnishing or arranging for the furnishing of
items or services or (iii) the purchase, lease or order or arranging or
recommending purchasing, leasing or ordering of any item, in each case,
reimbursable under Medicare, Medicaid or other federal and state health care
programs. These provisions apply to dental services covered under various
government programs in which the Company participates or may participate. The
federal government has increased scrutiny of joint ventures and other
transactions among health care providers in an effort to reduce potential fraud
and abuse related to Medicare and Medicaid costs. Many states have similar
anti-kickback laws, and in many cases these laws apply to all types of patients,
not just Medicare and Medicaid beneficiaries. The applicability of these federal
and state laws to transactions in the health care industry such as those to
which the Company is or may be a party has not been the subject of judicial
interpretation. There can be no assurance that judicial or administrative
authorities will not find these provisions applicable to the Company's
operations, which could have a material adverse effect on the Company's business
and development.
Under current federal law, a physician or dentist or member of this
immediate family is prohibited from referring Medicare or Medicaid patients to
any entity providing "designated health services" in which the physician or
dentist has an ownership or investment interest, including the physician's or
dentist's own group practice, unless such practice satisfies the "group
practice" exception. The designated health services include the provision of
clinical laboratory services, radiology and other diagnostic services (including
ultrasound services), radiation therapy services, physical and occupational
therapy services, durable medical equipment, parenteral and enteral nutrients,
certain equipment and supplies, prosthetics, orthotics, outpatient prescription
drugs, home health services and inpatient and outpatient hospital services. A
number of states also have laws that prohibit referrals for certain services
such as x-rays by dentists if the dentist has certain enumerated financial
relationships with the entity receiving the referral, unless an exception
applies. Any future expansion of these prohibitions to other health services
could restrict the Company's ability to continue affiliations with Allied
Practices.
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<PAGE> 43
Certain of the Allied Practices providing pediatric dental services may
participate in Medicare and Medicaid programs. Noncompliance with, or violation
of, either the anti-kickback provisions or restrictions on referrals of
designated health services can result in exclusion from the Medicare and
Medicaid programs as well as civil and criminal penalties. Similar penalties
apply for violations of state law. While the Company intends to make every
effort to comply with all applicable law, any exclusions from Medicare, Medicaid
or other capitation programs could have a material adverse effect on the
business and results of operations of the Company.
In addition, there are certain regulatory risks associated with the
Company's role in negotiating and administering managed care and capitation
contracts on behalf of its Allied Dentists. The application of state insurance
laws to reimbursement arrangements other than various types of fee-for-service
arrangements is an unsettled area of law and is subject to interpretation by
regulators with broad discretion. As the Company's Allied Practices providing
pediatric dental services contract with third-party payors, including
self-insured plans, for certain non-fee-for-service arrangements, such Allied
Practices may become subject to state insurance laws. In the event that the
Company or such Allied Practices are determined to be engaged in the business of
insurance, such parties could be required either to seek licensure as an
insurance company or to change the form of their relationships with third-party
payors and may become subject to regulatory enforcement actions. In such event,
the Company's business, operations and financial results may be adversely
affected.
COMPETITION
The business of providing orthodontic or pediatric dental services is
highly competitive in each market in which the Allied Practices and other
practices operate. Allied Practices compete with orthodontists or pediatric
dentists who maintain single offices or operate a single satellite office, as
well as with orthodontists or pediatric dentists that maintain group practices
or operate in multiple offices. Allied Practices also compete with general
dentists who provide certain orthodontic or pediatric dental services, some of
whom have more established practices. The provision of orthodontic or pediatric
dental services by such dentists has increased in recent years. There can be no
assurance that the Company or the Allied Practices will be able to compete
effectively within their markets.
The Company faces substantial competition from other entities as it
seeks to affiliate with additional orthodontic or pediatric dental practices.
The Company is aware of several practice management companies that are focused
in the area of orthodontics. Additional entities may enter this market and
compete with the Company. Certain of these competitors have greater financial or
other resources than the Company.
EMPLOYEES
As of May 18, 1998, OrthAlliance employed an aggregate of approximately
950 persons, including 905 full-time employees. None of the Company's employees
are represented by a collective bargaining agreement. OrthAlliance considers its
relationship with its employees to be good.
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<PAGE> 44
PROPERTIES
The Company leases approximately 4,200 square feet of office space in
Torrance, California for its headquarters. In addition, the Company leases
office space for certain Allied Practices with aggregate monthly payments of
approximately $505,000. See Notes to Consolidated Financial Statements.
INTELLECTUAL PROPERTY
The Company's intent to use application for the service mark
"OrthAlliance" has been allowed by the U.S. Patent and Trademark Office
("Trademark Office"). The trademark registration should be issued after the
Trademark Office accepts the Company's Statement of Use, which the Company has
filed. Management intends to continue to utilize the service mark, as allowed by
applicable law, in the Company's marketing and advertising campaigns and in
connection with the Company's services.
LITIGATION AND INSURANCE
The Company does not have any pending litigation that if adversely
determined would have a material adverse effect on the Company. The Allied
Practices provide orthodontic or pediatric dental services to the public and are
exposed to the risk of professional liability and other claims. Such claims, if
successful, could result in substantial damage awards to the claimants that may
exceed the limits of any applicable insurance coverage. Although the Company
does not control the practice of orthodontics by the Allied Practices, it could
be asserted that the Company should be held liable for malpractice of an Allied
Orthodontist or Allied Dentist.
The Company maintains general liability insurance for itself and on
behalf of the Allied Practices and it is anticipated that, where permitted by
applicable law and insurers, the Company will be named as an additional insured
under the policies of the Allied Practices. There can be no assurance that any
claims against the Company or any of the Allied Practices will not be
successful, or if successful, will not exceed the limits of available insurance
coverage or that such coverage will continue to be available at acceptable
rates.
MANAGEMENT
DIRECTORS AND EXECUTIVE OFFICERS
The following table sets forth certain information with respect to the
directors and executive officers of the Company.
<TABLE>
<CAPTION>
NAME AGE POSITION WITH THE COMPANY
<S> <C> <C>
Sam Westover................................ 42 President, Chief Executive Officer and
Director
Robert S. Chilton........................... 40 Chief Financial Officer
Paul H. Hayase.............................. 43 Senior Vice President -- Human
Resources, General Counsel and
Secretary
</TABLE>
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<PAGE> 45
<TABLE>
<S> <C> <C>
Randall K. Bennett, D.D.S., M.S............. 42 Director
Douglas D. Durbin, D.M.D., M.S.D............ 43 Director
U. Bertram Ellis, Jr........................ 44 Director
Craig L. McKnight........................... 47 Director
Randall A. Schmidt, D.D.S., M.S.D........... 41 Director
W. Dennis Summers........................... 49 Director
Jonathan E. Wilfong......................... 49 Chairman of the Board of Directors
</TABLE>
Sam Westover has served as a director, President and Chief Executive
Officer of OrthAlliance since October 1996. From August 1993 until July 1996,
Mr. Westover served as President and Chief Executive Officer of Systemed Inc., a
pharmacy benefit management company, where he also served as a director from
July 1992 until February 1997. From January 1993 until August 1993, Mr. Westover
served as Senior Vice President, Chief Financial Officer and Treasurer of
Wellpoint Health Networks Inc., a health insurance company. Prior to joining
Wellpoint, Mr. Westover served as Chief Financial Officer and Senior Vice
President, Corporate Financial Services of Blue Cross of California, a position
to which he was named in May 1990.
Robert S. Chilton has served as Chief Financial Officer of OrthAlliance
since May 1997. From April 1994 until May 1997, Mr. Chilton served as Vice
President/Controller of E & S Ring Management Corporation, a real estate
management firm. Mr. Chilton was Controller of Karl Storz Endoscopy-America,
Inc., a medical device manufacturer and distributor, from October 1987 until
April 1994. Mr. Chilton is a Certified Public Accountant, and from February 1985
to October 1987 was employed by KPMG Peat Marwick.
Paul H. Hayase has served as Senior Vice President -- Human Resources,
General Counsel and Secretary of OrthAlliance since October 1996. From August
1995 until January 1997, Mr. Hayase served as Vice President -- Human Resources,
General Counsel and Secretary of Systemed Inc. Mr. Hayase served as Senior
Counsel of Ralphs Grocery Company, a supermarket chain in California, from
November 1993 to August 1995. From January 1985 to November 1993, Mr. Hayase
served as Senior Vice President, General Counsel of Knapp Communications
Corporation, a magazine publishing company.
Randall K. Bennett, D.D.S., M.S. has served as a director of
OrthAlliance since its inception in October 1996. Dr. Bennett has practiced
orthodontics in Salt Lake City, Utah since 1989 and he practiced in Beverly
Hills, California from 1988 to 1989. Dr. Bennett graduated from Loma Linda
University in 1988 with an M.S. degree in orthodontics and from the University
of Alberta in 1981 with a D.D.S. degree.
Douglas D. Durbin, D.M.D., M.S. has been a director of OrthAlliance
since the completion of the IPO in August 1997. Dr. Durbin has served as
President of The Kentucky Center for Orthodontics and its predecessors, since
1983. Dr. Durbin is a member of the American Association of Orthodontists,
American Dental Association and Kentucky Association of Orthodontists, a
Diplomate of the American Board of Orthodontics and has served as President,
Treasurer and Secretary of the Bluegrass Dental Society. Dr. Durbin graduated
from the University of Kentucky College of Dentistry with a D.M.D. degree in
1978 and received his M.S.D. and Certificate in Orthodontics from the University
of Kentucky College of Dentistry in 1983.
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U. Bertram Ellis, Jr. has a director of OrthAlliance since the
completion of the IPO in August 1997. Since 1996, Mr. Ellis has served as
Chairman of the Board and Chief Executive Officer of iXL Holdings, Inc., an
interactive services company. Since April 1996, Mr. Ellis has served as
President, Chief Executive Officer and Chief Operating Officer of Broadcast
Development Corporation, a television broadcast consulting company. Mr. Ellis
founded and served as President and Chief Executive Officer of Ellis
Communications, Inc., a broadcast group of 15 television and radio stations from
1993 to April 1996. From 1992 to 1993, Mr. Ellis was President and Chief
Executive Officer of American Innovations, Inc., a manufacturer of hairbows that
filed a petition pursuant to Chapter 11 of the U.S. Bankruptcy Code in 1993.
From 1986 until 1992, Mr. Ellis served as President, Chief Executive Officer and
Chief Operating Officer for Act III Broadcasting, a broadcast group of eight
Fox-affiliate stations. Mr. Ellis serves as a director of iXL Holdings, NOVA
Information Systems, Inc., Endeavor Technologies, Inc., First Union National
Bank of Georgia, Ames Scullin & O'Haire and Upper Chattahoochee Riverkeeper.
Craig L. McKnight has been a director of OrthAlliance since the
completion of the IPO in August 1997. Since March 1995, Mr. McKnight has served
as Executive Vice President of Magellan Health Services ("Magellan"), a
specialty managed care company, which was previously known as Charter Medical
Corporation. Since October 1995 Mr. McKnight has also served as Chief Financial
Officer of Magellan. From June 1994 to March 1995, Mr. McKnight was responsible
for the Health Care Practice of Coopers & Lybrand, L.L.P. in Philadelphia,
Pennsylvania, and, prior thereto, was responsible for the Health Care Practice
of Coopers & Lybrand, L.L.P. in California.
Randall A. Schmidt, D.D.S., M.S.D. has been a director of OrthAlliance
since the completion of the IPO in August 1997. Dr. Schmidt has been in the
practice of orthodontics since 1983 in northwest Indiana, where he is a co-owner
of Orthodontic Affiliates, P.C. Dr. Schmidt is a member of the American
Association of Orthodontists, American Dental Association and Indiana Society of
Orthodontists. Dr. Schmidt graduated from Indiana University in 1981 with a
D.D.S. degree and received his M.S.D. and Certificate in Orthodontics from
Indiana University in 1983.
W. Dennis Summers has been a director of OrthAlliance since the
completion of the IPO in August 1997. Since 1984, Mr. Summers has served as a
principal of Roberts, Isaf & Summers, P.C. (and its predecessor firms), a law
firm located in Atlanta, Georgia. Mr. Summers specializes in corporate and
business matters.
Jonathan E. Wilfong has served as Chairman of the Board of Directors of
OrthAlliance since May 1997. Mr. Wilfong served as an executive consultant to
OrthAlliance from its inception until September 30, 1997 and served as a
consultant to USOC, a predecessor to OrthAlliance, from June 1996 to August
1997. Mr. Wilfong is the founder and a principal of Newfound Capital Associates,
an investment banking advisory firm founded in 1996 that specializes in advising
high growth businesses on capital formation strategies and acquisition
transactions. Mr. Wilfong is a Certified Public Accountant, and from 1983 to
1996 was a partner with Price Waterhouse LLP in Atlanta, Georgia and Greenville,
South Carolina.
BOARD OF DIRECTORS
The Company's Board of Directors is divided into three classes which
consist, as nearly as practicable, of one-third of the total number of directors
serving on the Board of Directors. The Board
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of Directors may have up to nine members and is currently composed of eight
members. The members of each class serve staggered three-year terms following
the initial terms of such classes. The initial terms of Class I, Class II and
Class III directors expire at the annual stockholders' meetings in 1998, 1999
and 2000, respectively. Dr. Durbin and Mr. Summers are members of Class I and
have been nominated for reelection at the 1998 Annual Meeting of Stockholders to
be held on June 5, 1998 (the "1998 Annual Meeting"); Drs. Bennett and Schmidt
and Mr. Ellis are members of Class II; and Messrs. Westover, McKnight and
Wilfong are members of Class III.
BOARD COMMITTEES
The Board of Directors has established an Executive Committee, a
Nominating Committee, an Audit Committee and a Compensation Committee. Messrs.
Westover and Wilfong and Drs. Bennett and Durbin serve on the Executive
Committee. Messrs. Summers, Westover and Wilfong serve on the Nominating
Committee. Messrs. McKnight, Summers and Wilfong serve on the Audit Committee
and the Compensation Committee. The Executive Committee is authorized by the
Board of Directors to take all action which may be delegated by the Board of
Directors under the DGCL. The Nominating Committee recommends candidates for
election to the Company's Board of Directors, examines the performance of
incumbent Directors and makes recommendations concerning the retention of such
Directors. The Audit Committee recommends the annual appointment of the
Company's auditors, with whom the Audit Committee reviews the scope of audit and
non-audit assignments and related fees, accounting principles used by the
Company in financial reporting and the adequacy of the Company's internal
control procedures. The Compensation Committee administers the Company's 1997
Employee Stock Option Plan (the "Employee Plan"), 1997 Non-Employee Director
Stock Plan (the "Director Plan") (if amendments are approved by the Company's
stockholders at the 1998 Annual Meeting) and the 1997 Orthodontist Stock Option
Plan (the "Orthodontist Plan") (if approved by the Company's stockholders at the
1998 Annual Meeting). See "Stock Plans -- Administration of the Stock Plans."
The Compensation Committee also has the responsibility for reviewing and
approving salaries, bonuses, and other compensation and benefits of executive
officers, and advising management regarding benefits and other terms and
conditions of compensation.
DIRECTOR COMPENSATION
Members of the Board of Directors are reimbursed for their
out-of-pocket expenses incurred in connection with attendance at each Board and
committee meeting but otherwise serve without cash compensation. Pursuant to the
Director Plan, the Company granted effective upon the IPO to each Non-Employee
Director (as defined in Rule 16b-3 promulgated under the Exchange Act) options
to purchase 5,000 shares of Common Stock at an exercise price of $12.00 per
share. If the Company's stockholders approve the amendments to the Director Plan
at the 1998 Annual Meeting, the Compensation Committee (composed for this
purpose of solely Non-Employee Directors) will determine grants to directors
(which will not be limited to Non-Employee Directors), including, without
limitation, number of options, exercise price and vesting schedules.
EXECUTIVE COMPENSATION
OrthAlliance was incorporated in October 1996 and did not conduct any
operations prior to that time. During fiscal 1997, the President and Chief
Executive Officer and the three other most highly compensated executive officers
who received annualized compensation in excess of $100,000 were,
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respectively, Messrs. Westover, Hethcox, Hayase and Chilton. Their annualized
base salaries for 1997 were $250,000, $185,000, $165,000 and $135,000,
respectively. Mr. Hethcox resigned from the Company effective January 31, 1998.
See "-- Employment Agreements."
EMPLOYMENT AGREEMENTS
The Company entered into employment agreements with Messrs. Westover,
Hethcox and Hayase providing for annual base salaries of $250,000, $185,000 and
$165,000, respectively, with each person being eligible for a cash bonus of up
to 30% of his base salary (the "Employment Agreements"). Additionally, the
Employment Agreements provided for the grant of options for the purchase of
Common Stock to each of Messrs. Westover, Hethcox and Hayase for 300,000,
100,000 and 75,000 shares of Common Stock, respectively, and such options vested
(i) 20% upon the closing of the IPO and (ii) 20% per year on the first through
the fourth anniversary dates of the effective date of the IPO. These options
expire ten years from the date of grant and are exercisable at the initial
public offering price in the IPO. Each Employment Agreement is for an initial
term of five years with an automatic renewal for successive one year terms
unless prior notice of termination is provided. The Company may terminate an
Employment Agreement (i) for cause, (ii) without cause upon 30 days prior
notice, or (iii) upon death or disability of the employee. The employee may
terminate the Employment Agreement within 120 days after a constructive
termination (as defined therein). If the employee is terminated by the Company
without cause or the employee terminates the Employment Agreement within 120
days following a constructive termination, the Company is required to pay such
employee a lump sum severance equal to two times the applicable annual base
salary. Each Employment Agreement contains a provision that if the employee is
terminated within a twelve-month period following a change in control of the
Company (as defined therein), the Company will pay such employee three times the
sum of (i) the employee's annual base compensation and (ii) the maximum possible
cash bonus for such year. In addition, upon a change in control, the Company
will pay the employee any accrued salary, benefits or reimbursements and the
employee's options will fully vest and become immediately exercisable for the
longer of (i) 90 days from the change in control or (ii) the time period
specified in the stock plan. Each agreement prohibits the employee from
competing with the Company for a period of two years following termination of
employment. Mr. Hethcox resigned effective January 31, 1998 and his Employment
Agreement was terminated. See "Certain Transactions."
The Company has entered into a letter agreement with Mr. Chilton
providing for an annual base salary of $135,000, and a cash bonus of up to 30%
of his annualized base salary. Additionally, the Company has granted Mr. Chilton
an option for the purchase of 50,000 shares of Common Stock, with a vesting
schedule consistent with the vesting schedule for Messrs. Westover and Hayase
discussed above.
All options for the purchase of Common Stock granted to executives
discussed above have an exercise price of $12.00 a share.
STOCK PLANS
OrthAlliance has adopted the Employee Plan, Director Plan and
Orthodontist Plan (collectively, the "Stock Plans"). The Company has registered
the shares of Common Stock issuable upon exercise of options granted under the
Employee Plan and such shares will be eligible for resale in the public
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<PAGE> 49
market, subject to applicable rules and regulations of the Securities Act. The
Company intends to register the shares of Common Stock issuable upon exercise of
options granted under the Orthodontist Plan, if such plan is approved at the
1998 Annual Meeting, as soon as practicable after the 1998 Annual Meeting. Such
shares will then be eligible for resale in the public market, subject to
applicable rules and regulations of the Securities Act.
1997 EMPLOYEE STOCK OPTION PLAN. The Board of Directors adopted and the
stockholder approved the Employee Plan. Awards under the Employee Plan are
determined by the Compensation Committee and granted to officers and employees
of the Company in the form of non-qualified or incentive stock options. The
Employee Plan may be terminated by the Board of Directors at any time.
A total of 1,000,000 shares of Common Stock are reserved for issuance
pursuant to the Employee Plan, subject to certain anti-dilution provisions. If
the Company's stockholders approve an amendment to the Employee Plan at the 1998
Annual Meeting, a total of 1,500,000 shares of Common Stock will be reserved for
issuance pursuant to the Employee Plan, subject to certain anti-dilution
provisions. At March 31, 1998, options for the purchase of 674,500 shares of
Common Stock have been granted to certain officers and employees. All options
expire ten years from the date of grant.
See "Management -- Employment Agreements."
1997 NON-EMPLOYEE DIRECTOR STOCK PLAN. The Board of Directors adopted
and the stockholder approved the Director Plan. Awards under this plan were to
be granted to the Company's Non-Employee Directors.
A total of 200,000 shares of Common Stock were reserved for issuance to
the Non-Employee Directors pursuant to the Director Plan. Each person who was
elected or appointed as an Non-Employee Director will be granted a
nondiscretionary option to purchase 5,000 shares of Common Stock at the time of
his or her election or appointment. Commencing in 1998, each person who
continued to serve as an Non-Employee Director following the annual meeting was
to receive a nondiscretionary option to purchase 5,000 shares of Common Stock.
Options granted pursuant to this plan are non-qualified stock options, and will
expire ten years from the date of grant. The exercise price of such options was
equal to the average closing bid price for the five trading days before the
Company's annual meeting of stockholders for the annual grants and for the five
trading days before election or appointment for the initial grants. Options
previously issued to Non-Employee Directors become exercisable on the first
anniversary of the date of grant.
The Board has adopted and recommended that the Company's stockholders
approve at the 1998 Annual Meeting amendments to the Director Plan to change the
class of persons eligible to participate in the Director Plan from Non-Employee
Directors to all directors of the Company and give the Compensation Committee
authority and discretion to administer the Director Plan rather than providing
for the automatic formula grants described above. For the purposes of the grants
pursuant to the Director Plan as amended, the Compensation Committee will
consist solely of Non-Employee Directors. All other provisions of the Director
Plan will remain unchanged.
1997 ORTHODONTIST STOCK OPTION PLAN. If the Orthodontist Plan is
approved by the Company's stockholders at the 1998 Annual Meeting, it will be
administered by the Compensation Committee. The Compensation Committee will have
the power to determine the Allied Orthodontists and Allied Dentists to whom
options to purchase shares of Common Stock will be granted, the number
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of shares of Common Stock subject to each option and such other matters as are
specified in the Orthodontist Plan. To the extent not inconsistent with the
provisions of the Orthodontist Plan, the Compensation Committee may give an
option holder an election to surrender an option in exchange for the grant of a
new option, and shall have the authority to amend or modify an outstanding stock
option agreement or to waive any provision thereof, provided that the option
holder consents to such action. The Compensation Committee establishes the
exercise period for each option grant, which period may not exceed five years.
The class of persons eligible to participate in the Orthodontist Plan
shall consist of certain Allied Orthodontists or Allied Dentists if the
Compensation Committee determines, in its sole discretion, that such Allied
Orthodontist or Allied Dentist recruited or referred an orthodontist or
pediatric dentist to the Company and such orthodontist or dentist consummates a
business combination with the Company or a subsidiary whereby such orthodontist
or dentist becomes an Allied Orthodontist or Allied Dentist.
An aggregate of 100,000 shares of Common Stock will be reserved for
issuance upon the exercise of options under the Orthodontist Plan. As of March
31, 1998, 16,992 shares of Common Stock were reserved for issuance upon exercise
of options previously granted under the Orthodontist Plan (subject to
stockholder approval) and 83,008 shares of Common Stock remained available for
options yet to be granted under the Orthodontist Plan. At March 31, 1998, one
Allied Orthodontist had been granted options to purchase 16,992 shares of Common
Stock under the Orthodontist Plan. All options under the Orthodontist Plan are
non-qualified stock options. The exercise price of the Common Stock subject to
each option shall be the same as the Closing Stock Price (as hereinafter
defined) used for the Allied Orthodontist or Allied Dentist that the participant
in the Orthodontist Plan recruited or referred to the Company. The "Closing
Stock Price" shall mean the price used to determine the number of shares of
Common Stock that a recruited or referred Allied Orthodontist or Allied Dentist
received upon the closing of the affiliation of such Allied Orthodontist or
Allied Dentist with the Company.
ADMINISTRATION OF THE STOCK PLANS. If the Company's stockholders approve
the amendments to the Director Plan and approve the Orthodontist Plan, the Stock
Plans will be administered by the Compensation Committee of the Board of
Directors. The Compensation Committee will determine the persons to whom, and
the times at which, awards are granted, the types of awards granted, certain
amendments to the plan (as permitted) and all other related terms and conditions
of the awards, subject to the terms, conditions and limitations set forth
therein. Under the Employee Plan, the Compensation Committee must consist of at
least two directors, and with respect to grants of options or awards to any
persons subject to Section 16 of the Exchange Act, the Compensation Committee
must consist of at least two directors who are Non-Employee Directors under Rule
16b-3.
LIMITATION OF LIABILITY AND INDEMNIFICATION OF DIRECTORS AND OFFICERS
The Company's Certificate provides that no director of the Company shall
be liable for breach of fiduciary duty as a director except for (i) any breach
of the director's duty of loyalty to the Company or its stockholders; (ii) acts
or omissions not in good faith or which involve intentional misconduct or a
knowing violation of the law; (iii) for willful or negligent violations of
certain provisions of the DGCL imposing certain requirements with respect to
stock repurchases, redemptions and dividends; or (iv) any transaction from which
the director derived an improper personal benefit.
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Under Section 145 of the Delaware General Corporation Law (the "DGCL"), a
corporation may indemnify any of its directors and officers against expenses
(including attorneys' fees), judgments, fines and amounts paid in settlement
actually and reasonably incurred by such person in connection with a threatened,
pending or completed action, suit or proceeding brought against such officer or
director by reason of the fact that he or she is or was a director or officer
(i) if any such person acted in good faith and in a manner reasonably believed
to be in or not opposed to the best interests of the corporation and (ii) in
connection with any criminal action or proceeding if such person had no
reasonable cause to believe such conduct was unlawful. In actions brought by or
in the right of the corporation, however, Section 145 provides that no
indemnification may be made in respect of any claim, issue or matter as to which
such person shall have been adjudged to be liable for negligence or misconduct
in the performance of such person's duty to the corporation unless, and only to
the extent that, the Court of Chancery of the State of Delaware or the court in
which such action or suit was brought shall determine upon application that,
despite the adjudication of liability but in review of all the circumstances of
the case, such person is fairly and reasonably entitled to indemnity for such
expenses which the Court of Chancery or such other court shall deem proper.
Pursuant to the Company's Certificate and Bylaws, the Company is obligated
to indemnify each of its directors and officers to the fullest extent permitted
by the DGCL. In addition, the Bylaws obligate the Company to purchase and
maintain insurance on behalf of any director or officer of the Company against
any liability asserted against and incurred by such director or officer, whether
or not the Company would have the power to indemnify such officer or director
against such liability under the provisions of the DGCL.
COMPENSATION COMMITTEE INTERLOCKS
The Company had no Compensation Committee prior to May 1997. Prior
thereto, the Board of Directors of the Company, and of USOC and Premier,
respectively, determined executive compensation.
The current members of the Compensation Committee are Messrs. McKnight,
Summers and Wilfong. Dr. Bennett resigned from the committee effective April 30,
1998. Mr. McKnight is not and has not been an officer or employee of the Company
or any of its subsidiaries. Dr. Bennett became a part-time employee of the
Company effective February 20, 1998, as Co-Chair of the Clinical Advisory
Committee to assist in the development of the Company's practice improvement
programs and training materials and such other projects as the Company may
request from time to time. USOC, a predecessor of the Company, entered into a
consulting agreement with Newfound Capital Associates ("Newfound") and
Newfound's president, Mr. Wilfong. The Company succeeded to the rights and
obligations of USOC with respect to this agreement upon the Merger and Mr.
Wilfong entered into a separate consulting agreement with the Company whereby
Mr. Wilfong agreed to provide financial and general business services to the
Company in return for consulting fees of $300,000. Mr. Wilfong received $250,000
from the proceeds of the IPO for such services. In addition to the consulting
fees, the Company granted Mr. Wilfong a warrant to purchase 150,000 shares of
Common Stock at an exercise price of $12.00 per share. A warrant granted to Mr.
Wilfong to purchase 168,750 shares of USOC's common stock was converted in such
merger to a warrant to purchase 168,750 shares of Common Stock at $11.16 a
share. Both warrants are exercisable for five (5) years from August 21, 1997.
Mr. Wilfong's consulting agreements terminated on September 30, 1997.
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CERTAIN TRANSACTIONS
The Company was created as a shell corporation to be activated in
connection with the IPO. In the Merger, the outstanding capital stock of USOC
and Premier automatically converted into an aggregate of 1,750,000 shares of
Common Stock and 250,000 shares of Class B Common Stock. The stockholders of
USOC and Premier received 70% and 30%, respectively, of the Common Stock and
Class B Common Stock issued as consideration in the Merger.
As shareholders of USOC, Mr. Wilfong and Drs. Schmidt and Durbin,
directors of the Company, and Dr. Pickron, a beneficial owner of more than 5% of
the Common Stock, received in the Merger 111,512, 18,833, 7,434 and 557,170
shares of Common Stock, respectively, and 15,930, 3,043, 1,062 and 79,596 shares
of Class B Common Stock, respectively. Each share of Class B Common Stock
automatically converts into 8 shares of Common Stock upon the attainment of
certain average closing price calculations for the Common Stock, as determined
on the Nasdaq National Market, in 5 increments of 20% each. If not converted on
or before August 21, 2003, each share of Class B Common Stock automatically
converts into 1 share of Common Stock.
As shareholders of Premier, Mr. Westover, a director and President and
Chief Executive Officer of the Company, Mr. Hayase, Senior Vice President -
Human Resources and General Counsel of the Company, and Dr. Bennett, a director
of the Company, received in the Merger 145,814, 20,704 and 104,110 shares of
Common Stock, respectively, and 33,000, 6,000 and 24,000 shares of Class B
Common Stock, respectively.
Effective August 21, 1997, the Company entered into an Employment
Agreement with Mr. Hethcox (Chief Operating Officer) providing for an annual
base salary of $185,000. In connection with his employment, the Company granted
to Mr. Hethcox a warrant to purchase 50,000 shares of Common Stock, with an
exercise price of $0.01 a share, exercisable for 5 years from August 21, 1997.
Mr. Hethcox terminated his employment with the Company effective January 31,
1998. With respect to such termination, the Company and Mr. Hethcox entered into
a letter agreement dated January 14, 1998 which provided for payment to Mr.
Hethcox of his base salary through January 31, 1998 and a severance payment of
$250,000 on January 31, 1998. The letter agreement amended Mr. Hethcox's stock
option agreement to extend the exercise period for options vested on the
termination date until January 31, 1999 and to provide for accelerated vesting
with respect to 20,000 shares of Common Stock and expiration of the exercise
period for such shares on July 31, 1998.
In January 1997, Premier Orthodontic Ventures, LLC ("POV LLC") loaned
approximately $1.01 million to Premier, and in connection with the Merger, the
promissory note evidencing this debt obligation (the "Premier Note") became the
obligation of OrthAlliance. POV LLC received, out of proceeds of the IPO, an
aggregate of approximately $1.06 million, which included repayment of the
principal amount of the Premier Note and accrued interest of approximately
$50,000. In addition, Premier succeeded to the obligations of POV LLC with
regards to certain letter agreements entered into with each of Messrs. Westover
and Hayase and Mr. Gerlach (Senior Vice President - Development) which provided
that OrthAlliance, as the successor to Premier, was required to pay such persons
consulting fees of approximately $271,461, $172,647 and $162,877, respectively,
upon the closing of the IPO.
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Simultaneously with and as a condition to the closing of the IPO, the
Company closed the acquisitions of certain operating assets of, or the stock of
entities holding certain assets of, 55 separate Founding Practices in exchange
for cash and shares of Common Stock (the "Acquisitions"). Drs. Bennett, Durbin
and Schmidt, all of whom are directors of the Company, and Dr. Pickron, a
beneficial owner of more than 5% of the Common Stock, received 194,286, 93,468,
170,100 and 332,834 shares of Common Stock, respectively, and $582,857,
$280,403, $107,432 and $998,501 in cash, respectively, as a result of the
Acquisitions.
In 1997, the Company paid Dr. Schmidt, a director of the Company,
$106,320 in consulting fees for identifying and performing due diligence on
additional orthodontic practices which may affiliate with the Company. As of
March 31, 1998, the Company had paid Dr. Schmidt $157,694 under a similar
consulting arrangement. For referring orthodontists to the Company, Dr. Schmidt
received warrants to purchase 31,600 shares of Common Stock exercisable for five
years from the Offering at an exercise price of $12.00 per share. Dr. Schmidt
received immediately exercisable options to purchase 5,210, 11,145 and 637
shares of Common Stock under the Orthodontist Plan at exercise prices of $12.00,
$13.025 and $12.6875 per share, respectively. Under the Employee Plan, Dr.
Schmidt received options to purchase 50,000 shares of Common Stock at an
exercise price of $12.00 per share, of which options to purchase 20,000 shares
are currently exercisable.
On September 9, 1997, the Company loaned $114,927 to Orthodontic
Affiliates, P.C. ("OA") of which Dr. Schmidt is a 50% owner. Interest on the
loan accrues at the prime rate plus 1% and the term of the loan is 36 months.
The loan reflects indebtedness of OA assumed by the Company in the Acquisitions.
At May 18, 1998, principal in the amount of $92,574 was outstanding.
In 1997, the Company entered into a consulting agreement and, in the
Merger, succeeded to the rights and obligations of USOC with respect to an
existing consulting agreement with Mr. Wilfong as described above in
"Compensation Committee Interlocks and Insider Participation."
PRINCIPAL STOCKHOLDERS
The following table sets forth certain information as of the date of this
Prospectus regarding the beneficial ownership of the Common Stock and Class B
Common Stock by (i) each person who is known by the Company to be the beneficial
owner of more than five percent (5%) of the outstanding shares of the Common
Stock or Class B Common Stock, (ii) each director and named executive officer of
the Company and (iii) all directors and executive officers of the Company as a
group.
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<PAGE> 54
<TABLE>
<CAPTION>
NUMBER OF PERCENT OF
NUMBER OF SHARES OF CLASS CLASS B
SHARES OF PERCENT OF B COMMON COMMON
COMMON STOCK COMMON STOCK STOCK STOCK
BENEFICIALLY BENEFICIALLY BENEFICIALLY BENEFICIALLY
OWNED (1) OWNED OWNED (1) OWNED
--------- ----- --------- -----
NAME OF BENEFICIAL OWNER
- ------------------------
<S> <C> <C> <C> <C>
Sam Westover (2) 205,814 1.6% 33,000 13.2%
Robert S. Chilton (3) 10,000 * ---- ----
Paul H. Hayase (4) 35,704 * 6,000 2.4%
Randall K. Bennett, D.D.S., M.S. 318,396 2.6% 24,000 9.6%
Douglas D. Durbin, D.M.D., M.S.D. 100,902 * 1,062 *
U. Bertram Ellis, Jr. ---- ---- ---- ----
Craig L. McKnight ---- ---- ---- ----
Randall A. Schmidt, D.D.S., M.S.D. (5) 266,004 2.1% 3,043 1.2%
W. Dennis Summers ---- ---- ---- ----
Jonathan E. Wilfong (6) 429,262 3.4% 13,930 5.6%
Robert N. Pickron, D.D.S. (7) 972,180 7.8% 91,632 36.7%
All executive officers & directors as a group 1,457,082 11.7% 83,035 33.2%
(11 persons)
</TABLE>
- ----------------------------
* Less than 1.0%.
(1) Based on an aggregate of 12,472,950 shares of Common Stock and 250,000
shares of Class B Common Stock issued and outstanding as of March 31,
1998. Includes shares of Common Stock that may be acquired upon the
exercise of stock options and warrants exercisable within 60 days. Each
share of Class B Common Stock automatically converts into 8 shares of
Common Stock upon the attainment of certain average closing price
calculations for the Common Stock in 5 increments of 20% each. If not
converted on or before August 21, 2003, each share of Class B Common
Stock automatically converts into 1 share of Common Stock. Each person
named above has sole voting and dispositive power with respect to all
shares listed opposite such person's name, except as otherwise noted.
The address of all persons listed, except Mr. Wilfong and Dr. Pickron,
is 23848 Hawthorne Boulevard, Suite 200, Torrance, California 90505.
(2) Includes 60,000 shares of Common Stock purchasable upon exercise of
stock options that are currently exercisable or exercisable within 60
days pursuant to the Employee Plan.
(3) Includes 10,000 shares of Common Stock purchasable upon exercise of
stock options that are currently exercisable or exercisable within 60
days pursuant to the Employee Plan.
(4) Includes 15,000 shares of Common Stock purchasable upon exercise of
stock options that are currently exercisable or exercisable within 60
days pursuant to the Employee Plan.
(5) Includes 20,000 shares of Common Stock and 16,992 shares of Common
Stock purchasable upon exercise of stock options that are currently
exercisable or exercisable within 60 days pursuant to the Employee Plan
and Orthodontist Plan, respectively. Includes 2,468 shares of Common
Stock and 353 shares of Class B Common Stock held by a profit sharing
plan for Dr. Schmidt's benefit and 31,600 shares of Common Stock
subject to warrants that are currently exercisable. (Includes warrants
to purchase 20,000 shares of Common Stock held by Dr. Schmidt's minor
children. Dr. Schmidt disclaims beneficial ownership of the shares of
Common Stock subject to these warrants).
(6) The business address of Mr. Wilfong is 536 Manor Ridge Drive, N.W.,
Atlanta, Georgia 30305. Includes 318,750 shares of Common Stock subject
to warrants that are currently exercisable.
(7) The business address of Dr. Pickron is 3294 Medlock Bridge Road,
Building A, Norcross, Georgia 30092. Includes an aggregate of 84,252
shares of Common Stock and 12,036 shares of Class B Common Stock held
in separate trusts by a third party trustee for the benefit of each of
Dr. Pickron's children and a niece. Dr. Pickron disclaims beneficial
ownership of the shares of Common Stock held in such trusts.
DESCRIPTION OF CAPITAL STOCK
The following summary is based upon OrthAlliance's Certificate and
Bylaws, which are included as exhibits to the Registration Statement of which
this Prospectus forms a part. The following discussion is qualified in its
entirety by reference to such exhibits.
AUTHORIZED AND OUTSTANDING CAPITAL STOCK
Pursuant to the Certificate, the Company has authority to issue
90,250,000 shares of capital stock, consisting of 70,000,000 shares of Common
Stock, par value $.001 per share, 250,000 shares of
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Class B Common Stock, par value $.001 per share, and the Board of Directors of
the Company has authority (without action by the stockholders) to issue
20,000,000 shares of preferred stock, par value $.001 per share, in one or more
classes or series and to determine the voting rights, preferences as to
dividends and in liquidation, and conversion and other rights of each such
series (the "Preferred Stock"). As of May 14, 1998, there were 12,185,028 shares
of Common Stock and 250,000 shares of Class B Common Stock issued and
outstanding. The Company has no current plans to issue any shares of Preferred
Stock.
The rights of the holders of Common Stock and Class B Common Stock
discussed below are subject to such rights as the Board of Directors may
hereafter confer on the holders of Preferred Stock; accordingly, rights
conferred on holders of Preferred Stock that may be issued in the future under
the Certificate may have a material adverse effect on the rights of holders of
Common Stock and Class B Common Stock.
COMMON STOCK AND CLASS B COMMON STOCK
The Common Stock and the Class B Common Stock and the rights, powers
and limitations thereof are identical, except as described below.
VOTING RIGHTS. Each holder of shares of Common Stock and Class B Common
Stock shall be entitled to attend all special and annual meetings of the
stockholders of the Company and, share-for-share and without regard to class,
together with the holders of all other classes of stock entitled to attend such
meetings, to cast one vote for each outstanding share of Common Stock or Class B
Common Stock so held upon any matter properly considered and acted upon by the
stockholders, voting together as a single class, except as otherwise required by
law.
LIQUIDATION RIGHTS. In the event of any dissolution, liquidation, or
winding up of the Company, whether voluntary or involuntary, the holders of the
Common Stock and holders of any class or series of stock entitled to participate
therewith as to the distribution of assets (including the Class B Common Stock),
shall be entitled to participate in the distribution of any assets of the
Company remaining after the Company shall have paid, or provided for payment of,
all debts and liabilities of the Company and after the Company shall have paid,
or set aside for payment, to the holders of any class of stock having preference
over the Common Stock and the Class B Common Stock in the event of dissolution,
liquidation or winding up, the full preferential amounts, if any, to which they
are entitled.
DIVIDENDS. Dividends may be paid on the Common Stock and the Class B
Common Stock and on any class or series of stock entitled to participate
therewith as to dividends, but only when and as declared by the Board of
Directors. Holders of Common Stock and Class B Common Stock will participate as
one class with respect to any dividends declared and paid on the Common Stock.
OTHER RIGHTS. The Certificate does not give holders of Common Stock
preemptive or other subscription or conversion rights. Shares of Class B Common
Stock are subject to the conversion provisions described below. The shares of
Class B Common Stock are not transferable, except to a holder's spouse, parents,
siblings, lineal descendants, a trust for the benefit of any such persons or as
determined by will or the laws of descent.
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CONVERSION RIGHTS OF CLASS B COMMON STOCK. At any time following 180
days after the effective date of the IPO, each share of Class B Common Stock
shall automatically convert into Common Stock (i) at the ratio of eight shares
of Common Stock for each share of Class B Common Stock upon the attainment of
the Conversion Prices or (ii) if not converted pursuant to subparagraph (i), on
a one-for-one basis upon the Final Conversion.
DATE. The shares of Class B Common Stock convertible pursuant to
subparagraph (i) above will convert in five increments of up to 50,000 shares of
Class B Common Stock (20% of the total number of shares of Class B Common Stock
issued) upon the attainment of each of the five specified Conversion Prices.
Upon each such conversion, each holder of Class B Common Stock will be deemed to
have converted a pro rata share of such Class B Common Stock then outstanding.
The Conversion Prices shall be established at premiums to the IPO price, and
will be deemed to have been achieved at the end of the trading day on which the
average closing price of the Common Stock for the preceding 20 consecutive
trading days exceeds such Conversion Price. The closing prices will be those
reported on the Trading Market. The initial Conversion Price is equal to 150% of
the IPO price, and each of the subsequent Conversion Prices is equal to 120% of
the preceding Conversion Price. Therefore, the five Conversion Prices at which
up to 50,000 shares of the outstanding Class B Common Stock shall be
automatically converted to Common Stock are $18.00, $21.60, $25.92, $31.10 and
$37.32, respectively. If any Conversion Prices are attained within 180 days
after the effective date of the IPO, the portion of shares of Class B Common
Stock that would have otherwise converted, shall automatically convert into
Common Stock on the 181st day after the effective date of the IPO. Upon each
conversion, all fractional shares shall be paid in cash based upon the 20
consecutive trading day average closing price. In the event that there are any
shares of Class B Common Stock outstanding on the Final Conversion Date, all
such shares shall automatically convert into an equal number of shares of Common
Stock. The holders of the Class B Common Stock may convert each share of Class B
Common Stock into one share of Common Stock at any time after 180 days from the
date of this Prospectus but prior to the Final Conversion Date.
PREFERRED STOCK
The Certificate authorizes the Board of Directors, from time to time
and without any stockholder action or approval, to provide for the issuance of
up to 20,000,000 shares of Preferred Stock, in one or more series, and to fix
the relative rights and preferences of the shares, including voting powers,
dividend rights, liquidation preferences, redemption rights and conversion
privileges. As of the date hereof, the Board of Directors has not provided for
the issuance of any series of such Preferred Stock, and there are no agreements
or understandings for the issuance of any such Preferred Stock. Because of its
broad discretion with respect to the creation and issuance of Preferred Stock
without stockholder approval, the Board of Directors could adversely affect the
voting power of the holders of Common Stock and Class B Common Stock and, by
issuing shares of Preferred Stock with certain voting, conversion and/or
redemption rights, could discourage any attempt to obtain control of the
Company.
WARRANTS
Warrants for the purchase of 543,622 shares of Common Stock were issued
and are outstanding. The exercise price per share pursuant to each of the
warrants is equal to (i) the IPO price, (ii) the IPO price net of underwriting
discount, or (iii) the higher of the IPO price or
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the closing bid price on the first trading day. For a more detailed discussion
of such warrants, see "Certain Transactions."
REGISTRATION RIGHTS
The Founding Practices received shares of Common Stock upon the closing
of the Transfers pursuant to the terms and conditions of the acquisition
agreements between OrthAlliance and each Founding Practice. Such agreements set
forth certain incidental registration rights for the Founding Practices, whereby
the Company is obligated to use reasonable efforts to register shares issued as
consideration to a Founding Practice if the Company initiates a public offering
and files a registration statement in connection therewith anytime within 24
months of the closing of the acquisition of the operating assets or capital
stock of the Founding Practice; provided, however, that such registration rights
are subject to any terms, conditions or limitations required by any underwriter
retained by the Company in connection with such underwritten public offering,
and such registration rights may not be exercised in connection with a
registration statement filed by the Company in connection with the registration
of shares issued pursuant to (i) an employee stock purchase or option plan or
(ii) any acquisition or proposed acquisition by the Company. Each Founding
Practice shall bear its proportionate share of underwriters' commissions and
discounts, and shall bear the costs and fees of attorneys and accountants it
retains.
The holders of shares of Common Stock issued upon the exercise of the
warrants issued to Mr. Wilfong, Mr. Garces and J. C. Bradford & Co. have
associated incidental registration rights pursuant to which the Company is
obligated to use reasonable efforts to register such shares if the Company
initiates a public offering and files a registration statement in connection
therewith after the date of this Prospectus, excluding the registration of
shares issued pursuant to (i) an employee stock purchase or option plan or (ii)
any acquisition or proposed acquisition by the Company. The fees and costs of
any registration of the Common Stock issued pursuant to the warrants will be
borne by the Company. In addition, the registration rights associated with the
warrant held by J.C. Bradford & Co. provides that J.C. Bradford & Co. will have
priority over the other holders of incidental registration rights so that not
less than fifty percent of the shares registered pursuant to the exercise of
incidental registration rights by holders of the Company's Common Stock shall be
shares registered by J.C. Bradford & Co., up to all of such shares held.
CERTAIN PROVISIONS OF THE CERTIFICATE, BYLAWS AND DELAWARE LAW
CLASSIFICATION OF BOARD OF DIRECTORS. The Certificate and the Bylaws of
the Company divide the Board of Directors into three classes, designated Class
I, Class II and Class III, respectively, each class to be as nearly equal in
number as possible. The terms of Class I, Class II and Class III directors will
expire at the 1998, 1999 and 2000 annual meetings of stockholders, respectively,
and in all cases directors elected will serve until their respective successors
are elected and qualified. At each annual meeting of stockholders, directors
will be elected to succeed those in the class whose terms then expire, with each
director so elected to serve for a term expiring at the third succeeding annual
meeting of stockholders after such director's election, and until the director's
successor is elected and qualified. Thus, directors elected stand for election
only once in three years.
ADDITIONAL DIRECTORSHIPS, VACANCIES AND REMOVAL OF DIRECTORS. The
Bylaws of the Company provide that the Board of Directors shall consist of up to
nine members. The Certificate and
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the Bylaws authorize the Board of Directors to create additional directorships
and abolish any vacant directorships. Newly-created directorships and vacancies
may be filled by a majority of directors then in office to hold office until the
next annual meeting of stockholders, and until their successors shall be elected
and qualified. In addition, in accordance with the DGCL provisions pertaining to
a company whose Board of Directors is classified, the Company's Certificate and
Bylaws provide that directors may be removed only for cause by vote of the
holders of a majority of the shares entitled to vote at an election of
directors.
ADVANCE NOTICE REQUIREMENTS FOR STOCKHOLDER PROPOSALS AND DIRECTOR
NOMINATIONS. The Bylaws require an advance notice procedure for the nomination,
other than by or at the direction of the Board of Directors or the Nominating
Committee thereof, of candidates for election as directors (the "Nomination
Procedure"), as well as for other stockholder proposals to be considered at
annual stockholders' meetings. Notice to the Company from a stockholder who
proposes to nominate a person at a meeting for election as a director generally
must be given not less than 120 nor more than 150 days prior to the anniversary
of the date notice of the annual meeting of stockholders was given in the
preceding year and must contain: (i) the name and record address of the
stockholder who intends to make the nomination; (ii) the name, age and residence
address of the nominee; (iii) the principal occupation or employment of the
nominee; (iv) the class, series and number of shares held of record,
beneficially and by proxy, by the stockholder and the nominee as of the record
date of such meeting (if such record date is publicly available) and as of the
date of such notice; and (v) such other information relating to the nominee
proposed by such stockholder as is required to be included if the Company is
then subject to Regulation 14A under the Securities Exchange Act of 1934,
including the written consent of each nominee to be named in the proxy statement
and to serve as a director of the Company if so elected. The presiding officer
of the meeting may refuse to acknowledge the nomination of any person not made
in compliance with the Nomination Procedure. Similar advance notice must be
given of any other proposed business which a stockholder proposes to bring
before an annual meeting of stockholders. Such notice must contain (i) a brief
description of the business desired to be brought before the meeting and the
reasons for conducting such business at the meeting, (ii) the name and record
address of the stockholder proposing such business, (iii) the class, series and
number of shares of the Company's stock which are held of record, beneficially
and by proxy by the stockholder as of the record date of such meeting (if such
record date is publicly available) and as of the date of such notice, (iv) a
description of all arrangements or understandings between the stockholder and
any other person or persons (naming such person or persons) in connection with
the proposing of such business by the stockholder, and (v) any material interest
of the stockholder in such business. The purpose of requiring advance notice is
to afford the Board of Directors an opportunity to consider the qualifications
of the proposed nominees or the merits of other stockholder proposals and, to
the extent deemed necessary or desirable by the Board of Directors, to inform
stockholders about those matters. Although the advance notice provisions do not
give the Board of Directors any power to approve or disapprove of stockholder
nominations or proposals for action by the Company, they may have the effect of
precluding a contest for the election of directors or the consideration of
stockholder proposals if the procedures established by the Bylaws are not
followed and the effect of discouraging or deterring a third party from
conducting a solicitation of proxies to elect its own slate of directors or to
approve its own proposals, without regard to whether consideration of such
nominees or proposals might be harmful or beneficial to the Company and its
stockholders.
STATUTORY BUSINESS COMBINATION PROVISION. Section 203 of the DGCL
prevents an "interested stockholder" (defined in Section 203, generally, as a
person owning 15% or more of a corporation's
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outstanding voting stock) from engaging in a "business combination" (as defined
in Section 203) with a publicly-held Delaware corporation for three years
following the date such person became an interested stockholder unless (i)
before such person became an interested stockholder, the board of directors of
the corporation approved the transaction in which the interested stockholder
became an interested stockholder or approved the business combination; (ii) upon
consummation of the transaction that resulted in the interested stockholder's
becoming an interested stockholder, the interested stockholder owns at least 85%
of the voting stock of the corporation outstanding at the time the transaction
commenced (excluding stock held by directors who are also officers of the
corporation and by employee stock plans that do not provide employees with the
right to determine confidentially whether shares held subject to the plan will
be tendered in a tender or exchange offer); or (iii) following the transaction
in which such person became an interested stockholder, the business combination
is approved by the board of directors of the corporation and authorized at a
meeting of stockholders by the affirmative vote of the holders of two-thirds of
the outstanding voting stock of the corporation not owned by the interested
stockholder.
ANTI-TAKEOVER EFFECTS. The foregoing provisions of the Certificate and
Bylaws and DGCL could discourage potential acquisition proposals and could delay
or prevent a change in control of the Company. These provisions are intended to
enhance the continuity and stability of the Board of Directors and the policies
formulated by the Board of Directors and to discourage certain types of
transactions that may involve an actual or threatened change in control of the
Company. These provisions are also designed to reduce the vulnerability of the
Company to an unsolicited acquisition proposal and to discourage certain tactics
that may be used in proxy fights. However, such provisions may discourage third
parties from making tender offers for the Company's shares. As a result, the
market price of the Common Stock may not benefit from any premium that might
occur in anticipation of a potential or actual change in control. Such
provisions also may have the effect of preventing changes in the management of
the Company.
TRANSFER AGENT AND REGISTRAR
The transfer agent and registrar for the Common Stock is NorWest
Shareowner Services.
SHARES ELIGIBLE FOR FUTURE SALE
Prior to the IPO, there was no public market for securities of the
Company. No prediction can be made as to the effect, if any, that market sales
of shares of Common Stock or the availability of shares of Common Stock for sale
will have on the market price prevailing from time to time. Sales of substantial
amounts of Common Stock of the Company in the public market after the
restrictions described below lapse could adversely affect the prevailing market
price and the ability of the Company to raise equity capital in the future.
Upon completion of the IPO, the Company had 10,232,985 shares of Common
Stock and 250,000 shares of Class B Common Stock outstanding. Of these shares,
the 2,990,000 shares of Common Stock sold in the IPO were freely tradeable
without restriction or limitation under the Securities Act, except for shares
purchased by "affiliates" of the Company as that term is defined in Rule 144
under the Securities Act (which may generally be sold only in compliance with
Rule 144). As of May 18, 1998, the Company had 2,183,089 shares outstanding
which were issued pursuant to the S- 4 Registration Statement are freely
tradeable without restriction unless held by affiliates.
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The shares of Common Stock issuable pursuant to this Offering (up to
3,000,000 shares) will be freely tradable after their issuance by persons not
affiliated with the Company, unless the Company contractually restricts their
sale.
The Founding Practices received 5,882,985 shares of Common Stock upon
the closing of the Transfers relating thereto in consideration for certain
assets of the Founding Practices and entering into Management Agreements. Such
shares have incidental registration rights pursuant to the purchase and sale
agreements between the Founding Practices and OrthAlliance, whereby the Company
is obligated to use reasonable efforts to register shares issued as
consideration to a Founding Practice if the Company undertakes a public offering
and files a registration statement in connection therewith any time within 24
months of the closing of the acquisition of the operating assets of the Founding
Practice; provided, however, that such registration rights are subject to any
terms, conditions and limitations required by any underwriter retained by the
Company in connection with such underwritten public offering, and such
registration rights may not be exercised in connection with registration
statements filed by the Company in connection with the registration of shares
issued pursuant to (i) employee stock purchase or option plans or (ii) any
acquisition or proposed acquisition by the Company.
The shares of Common Stock received by the Founding Practices, the
1,750,000 shares of Common Stock issued pursuant to the Merger and the 250,000
issued and outstanding shares of Class B Common Stock (and Common Stock into
which such shares of Class B Common Stock may be converted) are deemed
"restricted shares" under Rule 144 since they were originally issued and sold by
the Company in private transactions in reliance upon exemptions from the
registration provisions of the Securities Act. The holders of restricted shares
who are not "affiliates" will not be eligible to sell such shares pursuant to
Rule 144 until the expiration of at least one year from the date such restricted
shares were acquired. Additional restrictions on transferability apply to shares
of Class B Common Stock. See "Description of Capital Stock -- Common Stock."
In general, under Rule 144 as currently in effect, a person (or persons
whose shares are aggregated), including persons deemed to be affiliates, whose
restricted shares have been fully paid for and held for at least one year from
the date of issuance by the Company may sell such securities in brokers'
transactions or directly to market makers, provided the number of shares sold in
any three-month period does not exceed the greater of 1% of the then outstanding
shares of Common Stock or the average weekly trading volume of the Common Stock
in the public market during the four calendar weeks preceding the filing of the
seller's Form 144. Sales under Rule 144 are also subject to the availability of
current public information concerning the Company. After two years have elapsed
from the date of issuance of restricted shares by the Company, such shares
generally may be sold without limitation by persons who have not been affiliates
of the Company for at least three months.
All of the Founding Practices and the Company's officers, directors and
five percent (5%) or greater stockholders entered into lock-up agreements (the
"Lock-up Agreements") generally providing that for a period of 365 days after
the effective date of the IPO, they will not, except for the exercise of stock
options pursuant to the Stock Plans, directly or indirectly, offer, sell, loan,
pledge or otherwise dispose of, or grant any options or other rights with
respect to, any shares of Common Stock or any securities that are convertible
into or exchangeable or exercisable for Common Stock owned by them without the
prior written consent of J.C. Bradford & Co. Similarly, the Company has agreed
generally that, for a period of 365 days after the effective date of the IPO, it
will not, directly or indirectly, issue, offer, sell, grant options to purchase
or otherwise dispose of any of its equity securities or any other
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securities convertible into or exchangeable or exercisable for its Common Stock
or any other equity security, except that the Company may grant stock options
under the Stock Plans and issue shares of Common Stock upon the exercise of
options previously granted.
In addition to the restricted shares outstanding upon completion of the
IPO and the Founding Practices' Transfers, all of the approximately 543,622
shares of Common Stock that may be acquired upon the exercise of warrants
(including the Bradford Warrant) will be deemed restricted securities and may be
eligible for resale pursuant to Rule 144. Shares issuable upon the exercise of
such warrants have associated incidental registration rights pursuant to which
the Company is obligated to use reasonable efforts to register such shares if
the Company undertakes an underwritten public offering and files a registration
statement in connection therewith after the date of the prospectus related to
the IPO, excluding the registration of shares issued pursuant to (i) an employee
stock purchase or option plan or (ii) any acquisition or proposed acquisition by
the Company.
The Company filed registration statements on Form S-8 to register all
shares of Common Stock issuable under the Employee Plan and Director Plan. If
the stockholders approve the Orthodontist Plan, the Company will register all
shares of Common Stock issuable pursuant to such plan on Form S- 8 as soon as
practicable after such approval. Shares covered by such registration statements
are eligible for sale in the public market after the effective date of such
registration statements and following the expiration of the Lock-up Agreements,
subject to Rule 144 limitations applicable to affiliates of the Company. See
"Management -- Stock Plans."
PLAN OF DISTRIBUTION
THE COMPANY
This Prospectus covers the offer and sale of up to 3,000,000 shares of
Common Stock, which the Company may issue from time to time in connection with
the future acquisitions of certain operating assets of, or the stock of entities
holding certain operating assets of, orthodontic or pedodontic practices in
accordance with Rule 415(a)(1)(viii) of Regulation C under the Securities Act or
as otherwise permitted under the Securities Act.
The Company expects that the terms upon which it may issue the shares
of Common Stock in connection with Acquisitions will be determined through
negotiations with the owners of the orthodontic or pediatric dental practices
whose stock or assets are to be acquired. The Company expects that the shares
that are issued in connection with future Acquisitions will be valued at prices
reasonably related to market prices for the Common Stock prevailing either at
the time an acquisition agreement is executed or at the time a future
Acquisition is consummated.
GENERAL
All expenses of this Offering will be paid by the Company. No
underwriting discounts or commissions will be paid in connection with the
issuance of shares of Common Stock by the Company in business combination
transactions, although referral fees may be paid to certain Allied Orthodontists
or Allied Dentists with respect to specific acquisitions. Any person receiving a
referral fee may be deemed to be an Underwriter within the meaning of the
Securities Act. The shares of Common Stock offered hereunder have been approved
for listing on the Nasdaq National Market.
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LEGAL MATTERS
Certain legal matters with respect to the validity of the shares of
Common stock are being passed upon for the Company by King & Spalding, Atlanta,
Georgia, special securities counsel to the Company.
EXPERTS
The financial statements and schedule of OrthAlliance, Inc. as of
December 31, 1997 and 1996 included in this Prospectus and elsewhere in the
Registration Statement have been audited by Arthur Andersen LLP, independent
public accountants, as indicated in their reports with respect thereto and are
included herein in reliance upon the authority of said firm as experts in giving
said reports.
ADDITIONAL INFORMATION
The Company has filed with the Commission a Registration Statement, on
Form S-4 (together with all exhibits, schedules and amendments relating thereto,
the "Registration Statement") under the Securities Act with respect to the
Common Stock offered hereby. This Prospectus, which is a part of the
Registration Statement, 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, reference is
hereby made to the Registration Statement and the exhibits and schedules filed
as a part thereof. Statements contained in this Prospectus concerning the
provisions or contents of any contract, agreement or any other document referred
to herein are not necessarily complete. With respect to each such contract,
agreement or document filed as an exhibit to the Registration Statement,
reference is made to such exhibit for a more complete description of the matters
involved, and each statement shall be deemed qualified in its entirety by such
reference to the copy of the applicable document filed with the Commission. The
Registration Statement, including the exhibits and schedules thereto, may be
inspected 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 following Regional Offices of the Commission: New York Regional Office, 7
World Trade Center, 13th Floor, New York, New York 10048; and Chicago Regional
Office, 500 West Madison Street, Suite 1400, Chicago, Illinois 60661. Copies of
the Registration Statement and the exhibits and schedules thereto can be
obtained from the Public Reference Section of the Commission upon payment of
prescribed fees. The Registration Statement, including the exhibits and
schedules thereto, is also available on the Commission's Web site at
http://www.sec.gov. The Common Stock is approved for listing on the Nasdaq
National Market. Periodic reports, proxy material and other information
concerning the Company, when filed, may be inspected at the offices of the
Nasdaq Operations, 1735 K Street, N.W., Washington, D.C.
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INDEX TO FINANCIAL STATEMENTS
<TABLE>
<S> <C>
OrthAlliance, Inc.
Report of Independent Public Accountants.......................................................F-2
Balance Sheets as of December 31, 1997 and December 31, 1996...................................F-3
Statements of Operations For the Year Ended December 31, 1997 and
for the Period From Inception (October 21, 1996) to
December 31, 1996...........................................................................F-5
Statements of Cash Flows For the Year Ended December 31, 1997 and
for the Period From Inception (October 21, 1996) to
December 31, 1996...........................................................................F-6
Statements of Changes in Stockholder's Equity for the Period From
Inception (October 21, 1996) to December 31, 1996 and for the
year ended December 31, 1997................................................................F-8
Notes to Financial Statements..................................................................F-9
Report of Independent Public Accountants......................................................F-23
Schedule II...................................................................................F-24
Condensed Consolidated Balance Sheets as of December 31, 1997
and March 31, 1998 (unaudited).............................................................F-25
Condensed Consolidated Statement of Operations for the three months
ended March 31, 1997 and March 31, 1998 (unaudited)........................................F-27
Condensed Consolidated Statement of Cash Flows for the three months
ended March 31, 1997 and March 31, 1998 (unaudited)........................................F-28
Notes to Condensed Consolidated Financial Statements..........................................F-30
</TABLE>
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<PAGE> 64
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Board of Directors and Shareholders of OrthAlliance, Inc.:
We have audited the accompanying consolidated balance sheets of OrthAlliance,
Inc. (a Delaware Corporation) and subsidiaries as of December 31, 1997 and 1996,
and the related consolidated statements of operations, stockholders' equity and
cash flows for the year ended December 31, 1997 and for the period from
inception (October 21, 1996) to December 31, 1996. 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 OrthAlliance, Inc. and
subsidiaries as of December 31, 1997 and 1996, and the results of their
operations and their cash flows for the year ended December 31, 1997 and for the
period from inception (October 21, 1996) to December 31, 1996 in conformity with
generally accepted accounting principles.
/s/ Arthur Andersen LLP
ARTHUR ANDERSEN LLP
Los Angeles, California
February 27, 1998
F-2
<PAGE> 65
ORTHALLIANCE, INC.
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
As of As of
December 31, December 31,
1997 1996
----------- ------------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents $12,647,000 $ --
Patient receivables, net of allowances of $242,000 and $0 4,470,000 --
Unbilled patient receivables, net of allowances of $293,000 and $0 2,642,000 --
Amounts due from Allied Practices 2,489,000 --
Current deferred tax assets 984,000 --
Other current assets 67,000 --
----------- -------
Total current assets 23,299,000 --
Property and equipment, net 3,214,000 --
Notes receivable from Allied Practices 2,010,000 --
Non-current deferred tax assets 4,209,000 --
Intangible assets, net 11,313,000 --
Other, net 318,000 --
----------- -------
Total assets $44,363,000 $ --
=========== =======
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable and other accrued liabilities $ 3,024,000 $ --
Patient prepayments 2,710,000 --
Liabilities assumed from Allied Practices 410,000 --
Income taxes payable 1,308,000 --
Current deferred tax liabilities 1,672,000 --
Amounts due to Allied Practices 1,090,000 --
----------- -------
</TABLE>
F-3
<PAGE> 66
<TABLE>
<S> <C> <C>
Total current liabilities 10,214,000 --
------------ ------
Non-current deferred tax liabilities 121,000 --
------------ ------
Total liabilities 10,335,000 --
------------ ------
Commitments and Contingencies
Stockholders' equity:
Class A Common Stock, $.001 par value, 20,000,000 shares authorized, 11,000 --
11,486,761 shares and 1 share issued and outstanding at December 31,
1997 and 1996, respectively
Class B Common Stock, $.001 par value, 250,000 authorized, 250,000 -- --
and zero shares issued and outstanding at December 31, 1997 and 1996,
respectively
Additional paid-in capital 45,149,000 --
Retained deficit (11,132,000) --
------------ ------
Total stockholders' equity 34,028,000 --
------------ ------
Total liabilities and stockholders' equity $ 44,363,000 $ --
============ ======
</TABLE>
The accompanying notes are an integral part of these
consolidated balance sheets.
F-4
<PAGE> 67
ORTHALLIANCE, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
For the period
from Inception
For the year ended (October 21, 1996) to
December 31, 1997 December 31, 1996
----------------- -----------------
<S> <C> <C>
Net revenues $ 18,081,000 $--
Costs and expenses:
Salaries and benefits 5,771,000 --
Orthodontic supplies 1,684,000 --
Rent 1,751,000 --
Depreciation and amortization 245,000 --
General and administrative 5,403,000 --
Non-recurring organizer compensation expense 3,392,000 --
------------ ---
Total operating expenses 18,246,000 --
Net operating loss (165,000) --
Interest income 270,000 --
Income before income taxes 105,000 --
Provision from income taxes 841,000 --
------------ ---
Net loss $ (736,000) $--
============ ===
Basic and diluted net loss per share $ (0.18) $--
============ ===
Number of shares used in calculating net loss per share 4,026,313 1
============ ===
</TABLE>
The accompanying notes are an integral part of these consolidated
financial statements.
F-5
<PAGE> 68
ORTHALLIANCE, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
For the period
from Inception
For the year ended (October 21, 1996) to
December 31, 1997 December 31, 1996
----------------- -----------------
<S> <C> <C>
Cash flows from operating activities:
Net loss $ (736,000) $ --
Adjustments to reconcile net loss to net cash provided
by operating activities:
Depreciation and amortization 245,000 --
Deferred tax benefit (467,000) --
Organizer compensation warrants 2,435,000 --
Changes in assets and liabilities, excluding
effects of acquisitions:
Increase in patient receivables (261,000) --
Increase in due from Allied Practices (2,489,000) --
Increase in other assets (37,000) --
Increase in accounts payable and accrued liabilities 126,000 --
Increase in due to Allied Practices 1,090,000 --
Increase in patient prepayments 243,000 --
Increase in income taxes payable 1,307,000 --
------------ -----
Net cash provided by operating activities 1,456,000 --
------------ -----
Cash flows from investing activities:
Payment for new practice affiliations (2,061,000) --
Capital expenditures (71,000) --
Acquisition of other assets (30,000) --
------------ -----
Net cash used in investing activities (2,162,000) --
Cash flows from financing activities:
Proceeds from issuance of common stock 31,137,000 --
Proceeds from issuance of warrants 1,000 --
</TABLE>
F-6
<PAGE> 69
<TABLE>
<S> <C> <C>
Dividend paid to shareholders of founding Allied (13,759,000) --
Practices
Bank overdraft 859,000 --
Payment of deferred financing costs (288,000) --
Repayment of long-term debt (4,597,000) --
Net cash provided by financing activities 13,353,000 --
Net increase in cash and cash equivalents $ 12,647,000 $ --
============ ====
Cash and cash equivalents at beginning of period $ -- $ --
Cash and cash equivalents at end of periods $ 12,647,000 $ --
============ ====
Supplemental cash flow information:
Interest paid $ 42,000 $ --
Noncash investing and financing activities
Acquisition of businesses:
Fair value of assets acquired $ 25,370,000 --
Less: Issuance of common stock (14,720,000) --
Elimination of predecessor's retained deficit 2,945,000 --
Less: Cash paid 2,063,000 --
------------ ----
Liabilities assumed $(11,532,000) $ --
============ ====
</TABLE>
The accompanying notes are an integral part of these
consolidated financial statements.
F-7
<PAGE> 70
ORTHALLIANCE, INC.
STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY
FOR THE PERIOD FROM INCEPTION (OCTOBER 21, 1996) TO DECEMBER 31, 1996
AND FOR THE YEAR ENDED DECEMBER 31, 1997
<TABLE>
<CAPTION>
Shareholders' Class A Class B Additional Retained Total
Equity Common Stock Common Stock Paid-In Earnings
Shares Amount Shares Amount
<S> <C> <C> <C> <C> <C> <C> <C>
Balances at October
21, 1996 1 $ -- $ -- $ -- $ -- $ -- $ --
Balances at
December 31, 1996 1 $ -- $ -- $ -- $ -- $ -- $ --
Initial public offering
of common stock 2,990,000 3,000 -- -- 30,398,000 -- 30,401,000
Transfers of certain
assets and liabilities
by founders 7,632,984 7,000 250,000 -- 1,435,000 3,363,000 4,805,000
Dividend to
shareholders of
founding Allied
Practices -- -- -- -- -- (13,759,000) (13,759,000)
Issuance of common
stock for intangible
assets 863,776 1,000 -- -- 10,278,000 -- 10,279,000
Issuance of warrants -- -- -- -- 3,038,000 -- 3,038,000
Net loss -- -- -- -- -- (736,000) (736,000)
Balances at
December 31, 1997 11,486,761 $11,000 250,000 $ -- $45,149,000 (11,132,000) $ 34,028,000
</TABLE>
The accompanying notes are an integral part of these consolidated
financial statements.
F-8
<PAGE> 71
ORTHALLIANCE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1997
1. BUSINESS AND ORGANIZATION
a. ORGANIZATION
OrthAlliance, Inc. ("OrthAlliance" or the "Company") (formerly known as Premier
Orthodontic Holdings, Inc.), a Delaware corporation, was founded in October,
1996 to provide practice management and consulting services (collectively
"management services") to orthodontic practices in the United States.
Effective prior to the closing of the initial public offering (the "Offering" or
"IPO"), Premier Orthodontic Group, Inc. ("Premier") and US Orthodontic Care,
Inc. ("USOC") merged with and into OrthAlliance. In the merger, the outstanding
common stock of USOC and Premier converted into an aggregate of 1,750,000 shares
of Class A Common Stock ("Common Stock") and 250,000 shares of Class B Common
Stock ("Class B Common Stock"). Each share of USOC common stock converted into
0.496 shares of Common Stock and 0.071 shares of Class B Common Stock. Each
share of Premier common stock converted into 5,250 shares of Common Stock and
750 shares of Class B Common Stock. The USOC and Premier stockholders received
an aggregate of 1,225,000 and 525,000 shares of Common Stock and 175,000 and
75,000 shares of Class B Common Stock, respectively.
On August 26, 1997, OrthAlliance acquired (the "Acquisitions") simultaneously
with the closing of the IPO of its Class A Common Stock, certain operating
assets of or the stock of entities holding certain tangible and intangible
assets, and assumed certain liabilities of 55 orthodontic practices
(collectively, the "Founding Practices") in exchange for 5,882,984 shares of
Common Stock and $13,800,000 in cash. The underwriters exercised an
overallotment option to purchase an additional 390,000 shares of Common Stock,
thereby increasing the number of shares of Common Stock offered in the IPO from
2,600,000 to 2,990,000. The net proceeds of the shares of Common Stock issued in
the IPO were $31,137,000. Other expenses incurred by the Company related to the
Offering totaled approximately $2,200,000 and these were recognized by Premier
and USOC prior to the merger. The Acquisitions have been accounted for in
accordance with the Securities and Exchange Commission's Staff Accounting
Bulletin No. 48.
b. AGREEMENTS WITH ALLIED PRACTICES
The Company is party to management service agreements with orthodontic practices
which include the Founding Practices as well as practices that have become
affiliated with the Company subsequent to the IPO ("Allied Practices"). These
are either "Service Agreements" or "Consulting Agreements". The type of
management service agreement is determined by the Company and each Allied
Practice based primarily on applicable state laws and regulations. The types of
management service agreements are as follows:
F-9
<PAGE> 72
Service Agreements
The parties to each Service Agreement include the Company and the Allied
Practice, which typically is a professional corporation or association owned by
the related orthodontist. Each Service Agreement generally requires the Company
to perform the following services for the Allied Practices: provide and maintain
specified furnishings and equipment; provide necessary employees (except
orthodontists and where applicable law requires, hygienists and dental
assistants); establish appropriate business systems; purchase and maintain
inventory; perform payroll and accounting functions; provide billing and
collection services with respect to patients, insurance companies, and
third-party payors; arrange certain legal services not related to malpractice
litigation; design and execute a marketing plan; advise with respect to new
office locations; and manage and organize the Allied Practices' files and
records, including patient records where permitted by applicable law. If the
Allied Practice lacks sufficient funds to pay its current expenses, the Company
is also required to advance funds to the Allied Practice for the purpose of
paying such expenses. In exchange for performing the services described above,
the Company receives a management fee based on one of the three fee structures
described below.
The term of each Service Agreement is 20 to 25 years, subject to prior
termination by either party in the event the other party becomes subject to
voluntary or involuntary bankruptcy proceedings or materially breaches the
agreement, subject to a cure period. In addition, the Allied Practices may
terminate the Service Agreements upon the occurrence of a change of control of
OrthAlliance (as defined therein, which does not include a transaction approved
by the Company's Board of Directors). Upon the expiration or termination of the
Service Agreement, the Allied Practice may, and in certain circumstances must,
repurchase for cash (at book value) certain assets, including all equipment, and
assume certain liabilities of the Company related to the Allied Practice.
Service Agreements are generally not assignable by either party thereto without
the written consent of the other party; however, the Company may assign the
Service Agreement without the Allied Practice's consent to any entity under
common control with the Company. The Company and the Allied Practice agree to
indemnify each other for costs and expenses incurred by such other party that
are caused directly or indirectly by, as the case may be, the Company's or the
Allied Practice's intentional or negligent acts or omissions. In the case of the
Allied Practice's obligation to indemnify the Company, such obligation also
applies to intentional or negligent acts and omissions occurring prior to the
date of the Service Agreement.
Consulting Agreements
The parties to each Consulting Agreement include the Company and the Allied
Practice. Certain provisions of the Consulting Agreement are substantially
similar to the Service Agreement, including provisions relating to the Company's
obligation to loan funds to the Allied Practice in the event the Allied Practice
is unable to pay its current expenses, termination of the Consulting Agreement,
repurchase of assets and assumption of liabilities by the Allied Practice upon
expiration or termination, assignment, and indemnification.
The services provided by the Company to the Allied Practice under each
Consulting Agreement generally include consulting with respect to equipment and
office needs; preparing staffing models
F-10
<PAGE> 73
appropriate for an Allied Practice; advising and training with respect to
business systems; purchasing and maintaining inventory; advising with respect to
and providing or arranging accounting and bookkeeping services; advising with
respect to developing a marketing plan; assessing the financial feasibility of
establishing new offices; providing billing and collection services; and
assisting the Allied Practice in organizing and developing filing and recording
systems. In exchange for such services, the Company receives a consulting fee
based on one of the three fee structures described below.
c. CALCULATION OF MANAGEMENT FEES
The management fee is calculated pursuant to the Service and Consulting
Agreements monthly to the Company by each Allied Practice based upon the
practice's adjusted patient revenue calculated on the accrual basis. There are
three economic models by which the management fee may be calculated under the
two management service agreements discussed above which are as follows:
(i) a designated percentage of adjusted patient revenue, ranging from 14%
to 17%, subject to an annual adjustment based upon improvements in the
Allied Practice's operating margin in the most recent fiscal period as
compared with the immediately preceding fiscal period. No annual
adjustment shall be made which would result in reducing the designated
percentage applicable during the first year of the management
agreement. Operating margin is defined as the percentage determined by
dividing operating profit by adjusted patient revenue. Adjusted patient
revenue under the agreement is net patient revenue as determined under
generally accepted accounting principles, including adjustments for
contractual allowances and other discounts, plus an adjustment for
uncollectible accounts. Operating profit is equal to adjusted patient
revenue less operating expenses, excluding the management fee and such
expenses associated with the Allied Practices which the Company is
prohibited from incurring, primarily consisting of orthodontist
compensation.
(ii) a designated percentage ranging from 13.5% to 17% of adjusted patient
revenue with a potential annual adjustment of 25% of the increase in
operating margin (as defined above) in a fiscal year as compared to the
preceding fiscal year multiplied by the adjusted patient revenue for
the current fiscal year. The supplemental fee, if applicable, is paid
as a lump sum payment upon final determination of the improvement in
the Allied Practice's operating margin as compared to the prior fiscal
year period.
(iii) a fixed dollar fee with annual established fixed increases for each
year of the management agreement.
d. RECEIVABLES FROM ALLIED PRACTICES
The difference in the timing of the recognition of adjusted patient revenue and
the collection of cash related thereto results in unbilled receivables or
patient prepayments. Unbilled patient receivables represent the earned revenue
in excess of billings to patients as of the end of each period. Patient
prepayments represent collections from patients or their insurance companies
which are received in advance of the performance of the related services.
After the transfer of certain assets and certain liabilities of an Allied
Practice to the Company, the Company continues to purchase patient accounts
receivable generated by the Allied Practice and records
F-11
<PAGE> 74
these receivables on the balance sheet of OrthAlliance. The receivable is
recorded at net realizable value on the date of purchase. Any subsequent
uncollectible account is written off by OrthAlliance and the Allied Practice
revenue is reduced accordingly. The impact on the Company from such write offs
is the loss of management revenue because practice revenue is reduced. All of
the accounts receivable are assigned to the Company, which generates the funds
required for (i) the expenses incurred by the Company to manage and administer
the Allied Practice, (ii) the management fees, and (iii) salaries for other
employees of the Allied Practices with the balance due the affiliated
orthodontist.
e. OPERATING EXPENSES OF ALLIED PRACTICES
Certain operating expenses of the Allied Practices are the responsibility of
OrthAlliance. The Company is responsible for the payment of all operating
expenses incurred by the practice as required to operate an orthodontic office,
except for compensation to affiliated orthodontists and other expenses of the
Allied Practices that the Company is prohibited from employing.
These expenses include the following:
- - Salaries, benefits, payroll taxes, workers compensation, health insurance and
other benefit plans, and other direct expenses of all employees of
OrthAlliance at each practice office, excluding those costs associated with
orthodontists and any other classification of employee which OrthAlliance is
prohibited from employing by applicable state laws or regulations
- - Direct costs of all employees or consultants that provide services to each
practice office except for Affiliated Orthodontists and other employees of
the Allied Practices that the Company is prohibited from employing.
- - Dental and office supplies as permitted by applicable state laws or
regulations
- - Lease or rent payments as permitted by state laws or regulations, utilities,
telephone and maintenance expenses for practice facilities
- - Property taxes on OrthAlliance assets located at Allied Practice offices
- - Property, casualty, liability and malpractice insurance premiums
- - Orthodontists recruiting expenses
- - Interest on advances to practice bank accounts
- - Advertising and other marketing expenses attributable to the promotion of
practice offices
All of the above expenses are paid directly to the third party provider of the
goods or services indicated. All of the above items are incurred by
OrthAlliance. Such expenses are classified together with similar expenses of the
Company in the consolidated income statement. In exchange for incurring these
expenses and providing management services, the Company records revenue in
amounts equal to those incurred expenses plus a management fee based on varying
percentages of the adjusted patient revenues of the Allied Practices. See Note
13.
F-12
<PAGE> 75
The Allied Practices retain the responsibility for the payment of any and all
direct employment expenses, including benefits, for any orthodontist or other
employee that OrthAlliance is prohibited from employing by applicable state laws
or regulations. In addition, the Allied Practices retain the responsibility for
the payment of continuing education expenses, seminars, professional licenses,
professional membership dues and all other expenses of any orthodontist.
f. NEW ORTHODONTIST AFFILIATIONS
From August 26, 1997 to December 31, 1997, the Company entered into agreements
with 11 Allied Practices to provide management services and acquire certain
operating assets for a total consideration (including acquisition costs) of
$12,396,000. This consideration consisted of 863,776 shares of Common Stock with
an aggregate value at various acquisition dates of $10,333,000 and payment of
$2,063,000 in cash. The Company also assumed $1,390,000 in debt related to the
assets acquired.
These Allied Practices operate 31 locations in seven states. The allocation of
the purchase price to net assets acquired is based on preliminary estimates of
fair value and therefore may be revised at a later date upon the completion of
an appraisal of assets acquired.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
a. 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 revenues and expenses during the reporting period.
Actual results could differ from those estimates.
b. CASH AND CASH EQUIVALENTS
The Company considers all highly-liquid investments with a maturity of three
months or less at the date of purchase to be cash equivalents. All cash
equivalents are recorded at cost which approximates fair value.
c. PROPERTY AND EQUIPMENT, NET
Property and equipment is recorded at cost. Routine maintenance and repairs are
expensed when incurred, while costs of improvements and renewals are
capitalized. Depreciation of property and equipment is calculated using the
straight-line method over the estimated useful lives of the assets as follows:
<TABLE>
<S> <C>
Furniture and equipment 5- 7 years
Leasehold improvements shorter of 3-10 years
or the related lease term
</TABLE>
F-13
<PAGE> 76
The Company's acquisitions involve the purchase of tangible and intangible
assets and the assumption of certain liabilities of the Allied Practices. The
Company allocates the purchase price to the tangible assets acquired and
liabilities assumed based on estimated fair market values. In connection with
each acquisition, the Company enters into long-term service agreements with the
Allied Practices. The service agreements are for terms of 20 to 25 years and can
be terminated by either party only with cause, which is primarily bankruptcy or
material default. Each service agreement intangible is being amortized using a
straight-line method over its term.
The Company continually evaluates whether events and circumstances have occurred
that indicate the remaining useful life of the intangible assets may warrant
revision or that the remaining balance of the intangible assets may not be
recoverable. As of December 31, 1997, there were no events or circumstances to
indicate that any portion of the recorded net intangible assets may not be
recoverable.
Accumulated amortization of the intangible assets at December 31, 1997 was
$105,000.
e. OTHER, NET
Other, net consist mainly of deferred costs. These are amortized on a
straight-line item basis over the expected period to be benefited (principally 3
to 25 years).
f. INCOME TAXES
The Company accounts for income taxes in accordance with Statement of Financial
Accounting Standards ("SFAS") No. 109, "Accounting for Income Taxes," which
requires recognition of deferred tax assets and liabilities for expected future
tax consequences of events that have been recognized in the financial statements
or tax returns. Under this method, deferred tax assets and liabilities are
determined based on the differences between the financial statement carrying
amounts and the tax bases of such assets and liabilities using enacted tax rates
and laws in effect in the years in which the differences are expected to
reverse.
g. FAIR VALUE OF FINANCIAL INSTRUMENTS
As of December 31, 1997, the carrying amounts of the Company's financial
instruments, which include cash and cash equivalents, notes receivable from
Allied Practices, accounts payable and accrued liabilities, and liabilities
assumed from Allied Practices are recorded at cost, which approximates fair
value.
h. NEW ACCOUNTING PRONOUNCEMENTS
The Emerging Issues Task Force of the Financial Accounting Standards Board has
recently issued its Consensus Opinion 97-2 ("EITF 97-2"). EITF 97-2 addresses
certain specific matters pertaining to the physician, dentistry and veterinary
practice management industries. EITF 97-2 will be effective for the Company for
its year ending December 31, 1998. EITF 97-2 addresses the ability of certain
practice management companies to consolidate the results of certain practices
with which it has an existing contractual relationship. The Company currently
does not consolidate the operations of the orthodontic practices that it
manages. The guidance in EITF 97-2 will not change the Company's accounting
F-14
<PAGE> 77
method because the Company's arrangements with its Allied Practices do not meet
the requirements for consolidation as set forth in EITF 97-2.
3. PROPERTY AND EQUIPMENT, NET
Property and equipment, net, consisted of the following as of December 31:
<TABLE>
<CAPTION>
1997 1996
----------- ----
<S> <C> <C>
Furniture and fixtures ...... $ 3,361,000 $ --
Office equipment ............ 2,565,000 --
Leasehold improvements ...... 1,174,000 --
----------- ----
7,100,000 --
Less accumulated depreciation (3,886,000) --
----------- ----
$ 3,214,000 $ --
=========== ====
</TABLE>
4. NOTES RECEIVABLE FROM ALLIED PRACTICES
Certain Allied Practices have signed promissory notes due to the Company.
Generally, principal and interest payments are due monthly, with interest
accruing at prime plus 1%. These notes are unsecured but have been personally
guaranteed by the respective orthodontists. The term of these notes range from
three to five years. As of December 31, 1997, the prime interest rate was 8.5%.
5. ACCOUNTS PAYABLE AND OTHER ACCRUED LIABILITIES
Accounts payable and other accrued liabilities consisted of the following as of
December 31:
<TABLE>
<CAPTION>
1997 1996
---------- ----
<S> <C> <C>
Bank overdrafts ............... $ 859,000 $ --
Accounts payable, Other accrued
liabilities ................ 1,565,000 --
Litigation reserve ............ 600,000 --
---------- ----
$3,024,000 $ --
========== ====
</TABLE>
The litigation reserve was established by the Company as a result of the
increased possibility for legal action by one or more state governments
challenging the compliance of the Management Agreements with state and local law
or regulations. Management believes the reserve is adequate to cover any
potential costs to defend such legal actions.
6. LIABILITIES ASSUMED FROM ALLIED PRACTICES
Liabilities assumed from Allied Practices consist of various obligations assumed
from certain Allied Practices which will be repaid within one year from
affiliation. These unsecured obligations bear interest at rates ranging from 10%
to 18%. The Company settles these liabilities as soon as possible after
assumption.
F-15
<PAGE> 78
7. REVOLVING CREDIT FACILITY
On December 30, 1997, the Company entered into a $25.0 million revolving credit
facility (the "Revolving Credit Facility") with First Union, N.A. The Revolving
Credit Facility expires in December 2000, although it is subject to two,
one-year renewals upon the mutual acceptance of the Company and the bank.
The Company's receivables and its service agreements with the Allied Practices
collateralize the Revolving Credit Facility. Under the terms of the Revolving
Credit Facility, the Company is required to maintain certain consolidated
financial ratios and minimum consolidated net worth amounts. The Revolving
Credit Facility also prohibits the Company from incurring certain additional
indebtedness, limits certain future acquisitions to $2,000,000 per practice and
to $75,000,000 during the term without lender approval, and restricts capital
expenditures and cash dividends. At December 31, 1997, the Company was in
compliance with all financial covenants of the Revolving Credit Facility.
The Revolving Credit Facility requires payment of interest at variable rates
(bank's prime rate plus up to 0.5% or LIBOR plus up to 1.5%) depending upon the
Company's Leverage Ratio as defined in the Revolving Credit Facility. In
addition, the Company is charged a commitment fee of up to 0.375%.
At December 31, 1997, no amounts were outstanding under the Revolving Credit
Facility.
8. CLASS B COMMON STOCK
Each share of Class B Common Stock will automatically convert into eight shares
of Common Stock upon the attainment of certain conversion prices. Twenty percent
of the Class B Common Stock shares will convert at each of the following
conversion prices: $18.00, $21.60, $25.92, $31.10, and $37.32. The conversion
will be effected when the average Common Stock closing price for 20 consecutive
trading days exceeds the threshold. Any Class B Common Stock shares not
converted to Common Stock, because the necessary conversion prices were not
attained, will automatically convert to one share of Common Stock upon the sixth
anniversary of the IPO. Class B Common Stock shares are not transferable, except
to a holder's direct relatives or as determined by will or the laws of descent.
The holders of Class B Common Stock enjoy the same share-for-share voting rights
with holders of the Common Stock, with whom they vote as a single class.
9. PREFERRED STOCK
The Company is authorized to issue up to 20 million shares of preferred stock.
The Board of Directors, from time to time and without any stockholder action or
approval, may fix the relative rights and preferences of the preferred shares,
including voting powers, dividend rights, liquidation preferences, redemption
rights and conversion privileges. No preferred stock was outstanding as of
December 31, 1997.
10. STOCK OPTIONS AND WARRANTS
The Company has three stock option plans, the 1997 Employee Stock Option Plan
("Employee Plan"), the 1997 Non-Employee Director Stock Plan ("Non-Employee
Plan") and the 1997 Orthodontist Stock Option Plan ("Orthodontist Plan"). The
Orthodontist Plan is subject to shareholder approval. In addition,
F-16
<PAGE> 79
the Company issued warrants to certain executives in 1997. Options may be
granted as incentive or nonqualified stock options. The Company accounts for the
Employee Plan and the Non-Employee Plan under APB Opinion No. 25, under which no
cost has been recognized.
The Company may grant options to purchase up to 1,000,000 shares of Common Stock
under the Employee Plan, 200,000 shares of Common Stock under the Non-Employee
Plan and 100,000 shares of Common Stock under the Orthodontist Plan. The Company
has granted 629,500 shares of Common Stock under the Employee Plan, 15,000 under
the Non-Employee Plan and 5,210 shares of Common Stock under the Orthodontist
Plan as of December 31, 1997. The options are issued with exercise prices equal
to the Company's stock price at the date of grant. Options granted under the
Employee Plan vest over one to five years; are exercisable in whole or in
installments; and expire ten years from date of grant. Options granted under the
Non-Employee Plan vest over one year; are exercisable in whole or in
installments; and also expire ten years from date of grant. All options issued
in 1997 remained unexercised at December 31, 1997. The weighted average exercise
price for options granted in 1997 is $12.10 per share.
In accordance with Statement of Financial Accounting Standards No. 123
"Accounting for Stock-Based Compensation" ("SFAS 123"), the fair value of option
grants is estimated using the Black-Scholes option pricing model for pro forma
footnote purposes. The following assumptions were used in 1997: dividend yield -
0%; risk free interest rate - 5.7% - 6.5%; expected option life - 10 years;
expected volatility - 49%.
As permitted by SFAS 123, the Company has chosen to continue accounting for
stock options at their intrinsic value. Accordingly, no compensation expense has
been recognized for its stock option compensation plans. Had the fair value
method of accounting been applied to the Company's stock option plans, the
tax-effected impact would be as follow:
<TABLE>
1997 1996
<S> <C> <C> <C>
Net loss: As reported $ (736,000) $ --
Pro forma (1,558,000) --
Basic EPS: As reported (0.18) --
Pro forma (.039) --
</TABLE>
This pro forma impact only takes into account options granted in 1997 and is
likely to increase in future years as additional options are granted and
amortized ratably over the vesting period.
The Company also issued warrants to purchase 593,622 shares of Common Stock in
1997 with exercise prices ranging from $0.01 to $14.38. The weighted average
fair value of the warrants granted was $4.74. The vesting period for those
warrants range from immediate to one year. These warrants expire five years from
date of grant and their weighted average exercise price is $11.01 per warrant.
Certain of such warrants have associated incidental registration rights pursuant
to which the Company is obligated to use reasonable efforts to register the
share of Common Stock issued pursuant to the exercise of each warrant if the
Company initiates a public offering and files a registration statement in
connection therewith,
F-17
<PAGE> 80
excluding the registration of shares issued pursuant to an employee stock
purchase or option plan or an acquisition or proposed acquisition by the
Company.
11. LEASES
The Company leases office space for the use of the Allied Practices and
corporate offices under operating leases, which have current expiration terms at
various dates through 2015. Certain of these leases have renewal options for
specified periods subsequent to their current terms. The annual lease payments
under the lease agreements have provisions for annual increases based on the
Consumer Price Index or other amounts specified within the lease agreements.
Future minimum lease payments on operating leases at December 31, 1997 are as
follows:
<TABLE>
<S> <C>
1998 $1,819,000
1999 1,513,000
2000 1,332,000
2001 954,000
2002 643,000
Thereafter 2,926,000
----------
$9,187,000
==========
</TABLE>
12. COMMITMENTS AND CONTINGENCIES
The Company may be subject to certain government regulation at the federal and
state levels. To comply with certain regulatory requirements, the Company does
not control the practice of the orthodontists, or control or employ the
orthodontists. There can be no assurance that the legality of any long-term
management services agreements that have been entered into will not be
successfully challenged. There also can be no assurance that the laws and
regulations of states in which the Company maintains operations will not change
or be interpreted in the future to restrict or further restrict the Company's
relationship with the orthodontists.
Orthodontists may be subject to legal liability suits while under management or
consulting services agreements with the Company. The Company may also, in the
normal course of business, become a defendant or plaintiff in various lawsuits.
Although a successful claim for which the Company is not fully insured could
have a material effect on the Company's financial condition, management is of
the opinion that it maintains insurance at levels sufficient to insure itself
against the normal risk of operations.
F-18
<PAGE> 81
13. NET REVENUE
Net revenue is comprised of the following:
<TABLE>
<CAPTION>
1997 1996
----------- ----
<S> <C> <C>
Management fee income $ 3,875,000 $ --
Reimbursed practice operating expenses 13,753,000 --
Amortization of acquired deferred revenue 453,000 --
----------- ----
$18,081,000 $ --
=========== ====
</TABLE>
14. INCOME TAXES
The provision for income taxes is comprised of the following:
<TABLE>
<CAPTION>
1997 1996
----------- ----
<S> <C> <C>
Federal - current $ 1,086,000 $ --
Federal - deferred (386,000) --
----------- ----
$ 700,000 $ --
=========== ====
State - current $ 222,000 $ --
State - deferred (81,000) --
----------- ----
$ 141,000 $ --
=========== ====
</TABLE>
A reconciliation of the provision for income taxes to the amount computed at the
Federal statutory rate is as follows:
<TABLE>
<CAPTION>
1997
----
<S> <C>
Federal income tax at statutory rate ........ 34%
Effect of disallowed expense ................ 2
Effect of amortization of goodwill .......... 34
Non-deductible warrant expense .............. 615
State taxes, net of Federal benefit ......... 88
Other ....................................... 33
---
806%
===
</TABLE>
F-19
<PAGE> 82
The tax effect of temporary differences that give rise to significant portions
of the deferred tax assets and deferred tax liabilities at December 31 are as
follows:
<TABLE>
<CAPTION>
1997 1996
----------- ----
<S> <C> <C>
Current deferred tax assets:
Warrant expense $ 211,000 $ --
Unearned revenue 773,000 --
----------- ----
984,000 --
Non-current deferred tax assets:
Benefit of IRC Section 351 Gain on transferred assets 2,552,000 --
Start-up costs amortization 1,281,000 --
Net operating loss 174,000 --
Other 202,000 --
----------- ----
4,209,000 --
Total deferred tax assets $ 5,193,000 $ --
=========== ====
Current deferred tax liabilities:
Patient receivables $(1,672,000) $ --
Non-current deferred tax liabilities:
Expansion costs (83,000) --
Other (38,000) --
----------- ----
(121,000) --
Total deferred tax liabilities $(1,793,000) $ --
=========== ====
</TABLE>
As part of the acquisition of the Allied Practices, the Company received assets
and liabilities from the founding Allied Practices which had not been subject to
income taxes. The basis of these assets and liabilities for income tax purposes
exceeded the basis for financial reporting purposes by $8,761,000 as of August
25, 1997. Deferred tax assets and liabilities were recorded on the opening
balance sheet to account for these differences.
15. EARNINGS PER SHARE
The Company adopted SFAS No. 128, Earnings per Share ("SFAS 128") effective
December 15, 1997. Prior period earnings per share information has been restated
to follow the method prescribed by SFAS 128.
Basic earnings per share of Common Stock is computed by dividing the net loss
for the year by the weighted average number of shares of Common Stock
outstanding during the year. Diluted earnings per
F-20
<PAGE> 83
share of Common Stock is the same as basic earnings per share as the Company has
reported a net loss for 1997.
Securities, including those issuable pursuant to the conversion of Class B
Common Stock to Common Stock, that could potentially dilute EPS in the future,
that have not been included in the computation of diluted EPS because to do so
would have been anti-dilutive for the period presented, or because the
contingencies have not been met at December 31, 1997, consisted of the
following:
<TABLE>
<S> <C>
Common Stock shares issuable in the future pursuant to
options and warrants outstanding at December 31, 1997 1,243,332
Common Stock shares issuable in the future for conversion of
Class B Common Stock shares 2,000,000
---------
3,243,332
=========
</TABLE>
16. RELATED PARTY TRANSACTIONS
For the year ended December 31, 1997, the Company entered into the following
related party transactions:
i) Paid a $300,000 consulting fee to a director, Mr. Wilfong, who provided
financial and general business services in connection with the IPO
pursuant to a consulting agreement. Pursuant to this consulting
agreement and in addition to the consulting fee, the Company granted
Mr. Wilfong a warrant to purchase 150,000 shares of its Common Stock
exercisable at $12.00 per share.
Pursuant to the merger with USOC, a warrant granted to Mr. Wilfong by
USOC to purchase 168,750 shares of USOC's common stock was converted to
a warrant to purchase an equal number of shares of OrthAlliance's
Common Stock at an exercise price of $11.16 per share.
The Company recorded a non-recurring organizer compensation expense of
$1,297,000 during the year ended December 31, 1997 related to these
warrants.
ii) In connection with the IPO, certain Allied Orthodontists were
instrumental in recruiting new Allied Practices and received warrants
to purchase an aggregate of 90,000 shares of OrthAlliance Common Stock.
Of these, 31,600 were granted to an allied orthodontist who is also a
director. All of these warrants have an exercise price of $12.00 per
share.
The Company recorded a non-recurring organizer compensation expense of
$366,000 during the year ended December 31, 1997 related to these
warrants.
iii) Referral Commissions for recruiting new Allied Practices of
approximately $106,000 were paid to an Allied Orthodontist who is also
a director. These consisted of approximately $41,000 in cash and
options to purchase 5,210 shares of Common Stock valued at
approximately $65,000.
F-21
<PAGE> 84
iv) Referral Commissions for recruiting new Allied Practices of
approximately $91,000 were paid in cash to certain allied
orthodontists.
17. SUBSEQUENT EVENTS - NEW ORTHODONTIC AFFILIATIONS
Subsequent to December 31, 1997, 10 practices affiliated with the Company which
included 13 allied orthodontists. The 10 Allied Practices operate in 30
locations and generated historical patient revenue over the prior 12 months of
approximately $15.9 million (unaudited). Prior patient revenue is not
necessarily indicative of the level of revenue that such Allied Practices may be
expected to generate in the future. The Company has entered into agreements with
certain of these practices to determine management fees beginning in the third
year of the agreements based on various factors, including relative practice
profitability compared to acquisition consideration, timely reporting of
information, participation in practice improvement programs and orthodontist
hours worked.
PedoAlliance, Inc. ("PedoAlliance"), a wholly-owned subsidiary of the Company,
was incorporated on December 19, 1997 to provide practice management or
consulting services to pediatric dental practices ("Allied Pediatric Practices")
located throughout the United States. PedoAlliance intends to manage the
business aspects of Allied Pediatric Practices, thereby allowing the pediatric
dentists ("Allied Pediatric Dentist") to focus on delivering cost-effective,
high quality patient care, and provides capital for the development and growth
of such pediatric dental practices. As of December 31, 1997, PedoAlliance had
not yet allied with any pediatric dental practices.
OrthAlliance Finance, Inc. ("OA Finance"), a wholly-owned subsidiary of the
Company, was incorporated on October 7, 1997 to offer financing alternatives to
the patients of Allied Practices. As of December 31, 1997, OA Finance had not
yet funded any loans to prospective patients.
F-22
<PAGE> 85
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Board of Directors and Shareholders of OrthAlliance, Inc.:
We have audited in accordance with generally accepted auditing standards, the
consolidated financial statements of OrthAlliance, Inc. and subsidiaries
included in this Form 10-K and have issued our report thereon dated February 27,
1998. Our audits were made for the purpose of forming an opinion on the basic
financial statements taken as a whole. The schedule identified as "Schedule II -
Valuation and Qualifying Accounts" is the responsibility of the Company's
management and is presented for purposes of complying with the Securities and
Exchange Commission's rules and is not part of the basic consolidated financial
statements. This schedule has been subjected to the auditing procedures applied
in the audits of the basic consolidated financial statements and, in our
opinion, fairly states in all material respects the financial data to be set
forth therein in relation to the basic financial statements taken as a whole.
/s/ Arthur Andersen LLP
ARTHUR ANDERSEN LLP
Los Angeles, California
February 27, 1998
F-23
<PAGE> 86
ORTHALLIANCE, INC.
SCHEDULE II - VALUATION AND QUALIFYING ACCOUNTS
<TABLE>
<CAPTION>
Additions
Balance at charged to Balance at
beginning of costs and Other end of
Description period expenses Retirements Charges(A) period
- ----------- ------ -------- ----------- ---------- ------
<S> <C> <C> <C> <C> <C>
Reserves and allowances
deducted from asset accounts:
Allowance for uncollectible
accounts receivable:
Year ended
December 31, 1997 $ -- $18,000 $ -- $517,000 $535,000
</TABLE>
(A) Amount was recognized at the time that the Allied Practices transferred
certain of their assets and liabilities to the Company.
F-24
<PAGE> 87
ORTHALLIANCE, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(UNAUDITED)
<TABLE>
<CAPTION>
AS OF AS OF
MARCH 31, DECEMBER 31,
1998 1997
----------- -----------
<S> <C> <C>
ASSETS:
Current assets:
Cash and Cash and cash equivalents $ 3,907,000 $12,647,000
Patient receivables, net of allowances of $270,000 and $242,000 5,038,000 4,470,000
Unbilled patient receivables, net of allowances of $304,000 and $293,000 2,740,000 2,642,000
Amounts due from Allied Practices 4,053,000 2,489,000
Current deferred tax assets 984,000 984,000
Other current assets 298,000 67,000
----------- -----------
Total current assets 17,020,000 23,299,000
Property and equipment, net 4,502,000 3,214,000
Notes receivables from Allied Practices 2,290,000 2,010,000
Non-current deferred tax assets 4,209,000 4,209,000
Intangible assets, net 28,802,000 11,313,000
Other, net 282,000 318,000
----------- -----------
Total Assets $57,105,000 $44,363,000
=========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable and other accrued liabilities $ 2,055,000 $ 3,024,000
Patient prepayments 2,913,000 2,710,000
Liabilities assumed from Allied Practices 283,000 410,000
Line of Credit borrowings 2,000,000 --
Income taxes payable 542,000 1,308,000
</TABLE>
F-25
<PAGE> 88
<TABLE>
<S> <C> <C>
Current deferred tax liabilities 1,672,000 1,672,000
Amounts due to Allied Practices 1,876,000 1,090,000
------------ ------------
Total current liabilities 11,341,000 10,214,000
------------ ------------
Non-current deferred tax liabilities 121,000 121,000
------------ ------------
Total liabilities 11,462,000 10,335,000
------------ ------------
Commitments and Contingencies
Stockholders' equity:
Class A Common Stock, $.001 par value, 20,000,000 shares 12,000 11,000
authorized, 12,472,950 shares and 11,486,761 shares issued
and outstanding at March 31, 1998 and December 31, 1997,
respectively
Class B Common Stock, $.001 par value, 250,000 shares -- --
authorized, 250,000 shares issued and outstanding at March
31, 1998 and December 31, 1997, respectively
Additional paid-in capital 55,195,000 45,149,000
Accumulated deficit (9,564,000) (11,132,000)
------------ ------------
Total stockholders' equity 45,643,000 34,028,000
------------ ------------
Total liabilities and stockholders' equity $ 57,105,000 $ 44,363,000
============ ============
</TABLE>
The accompanying notes are an integral part of these condensed
consolidated balance sheets.
F-26
<PAGE> 89
ORTHALLIANCE, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
<TABLE>
<CAPTION>
THREE MONTHS ENDED THREE MONTHS ENDED
MARCH 31, 1998 MARCH 31, 1997
------------------ ------------------
<S> <C> <C>
Net revenue $14,650,000 $ --
Direct expenses:
Salaries and benefits 4,495,000 --
Orthodontic supplies 1,334,000 --
Rent 1,312,000 --
----------- ----
Total 7,141,000 --
Depreciation and amortization 486,000 --
General and administrative 4,228,000 --
----------- ----
Total expenses 11,855,000 --
Net operating income 2,795,000 --
Interest expense (7,000) --
Interest income 104,000 --
----------- ----
Income before income taxes 2,892,000 --
Provision for income taxes 1,271,000 --
----------- ----
Net Income $ 1,621,000 $ --
=========== ====
Basic and diluted net income per share $ 0.13 --
Number of shares used in calculating basic net
income per share 12,472,525 1
=========== ====
Number of shares used in calculating diluted net
income per share 12,482,450 1
=========== ====
</TABLE>
The accompanying notes are an integral part of these condensed
consolidated financial statements.
F-27
<PAGE> 90
ORTHALLIANCE, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
<TABLE>
<CAPTION>
THREE MONTHS ENDED THREE MONTHS ENDED
MARCH 31, 1998 MARCH 31, 1997
------------------ ------------------
<S> <C> <C>
Cash flows from operating activities:
Net income $ 1,621,000 $ --
Adjustments to reconcile net income to net cash provided
by operating activities:
Depreciation and amortization 486,000 --
Changes in assets and liabilities, excluding effects of
acquisitions:
Decrease in patient receivables 95,000 --
Increase in due from Allied Practices (1,553,000) --
Increase in other assets (231,000) --
Decrease in accounts payable and accrued liabilities (321,000) --
Increase in due to Allied Practices 786,000 --
Increase in patient prepayments 203,000 --
Decrease in income taxes payable (766,000) --
---------- ----
Net cash provided by operating activities 320,000 --
---------- ----
Cash flows from investing activities:
Payment for new practice affiliations (8,868,000) --
Loans to Allied Orthodontists (338,000) --
Purchase of loans from Allied Practices (79,000) --
Principal payments on loans 73,000 --
Capital expenditures (293,000) --
---------- ----
Net cash used in investing activities (9,505,000) --
---------- ----
</TABLE>
F-28
<PAGE> 91
<TABLE>
<S> <C> <C>
Cash flows from financing activities:
Reduction in bank overdraft (648,000) --
Borrowing on line of credit 2,000,000 --
Reduction in assumed liabilities (907,000) --
------------ ----
Net cash provided by financing activities 445,000 --
------------ ----
Net decrease in cash and cash equivalents $ (8,740,000) $ --
============ ====
Cash and cash equivalents at beginning of period $ 12,647,000 $ --
Cash and cash equivalents at end of period $ 3,907,000 $ --
============ ====
Supplemental cash flow information:
Interest paid $ 7,000 $ --
Taxes paid $ 2,037,000 $ --
Noncash investing and financing activities
Acquisition of businesses:
Fair value of assets acquired $ 19,695,000 --
Less: Issuance of common stock (10,047,000) --
Less: Cash paid (8,868,000) --
------------ ----
Liabilities assumed $ 780,000 $ --
============ ====
</TABLE>
The accompanying notes are an integral part of these condensed
consolidated financial statements.
F-29
<PAGE> 92
ORTHALLIANCE, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
1. BUSINESS AND ORGANIZATION
Organization
OrthAlliance, Inc. ("OrthAlliance" or the "Company") (formerly known
as Premier Orthodontic Holdings, Inc.), a Delaware corporation, was founded in
October, 1996 to provide practice management and consulting services
(collectively "management services") to orthodontic practices in the United
States.
Effective prior to the closing of the initial public offering (the
"Offering" or IPO"), Premier Orthodontic Group, Inc. ("Premier") and US
Orthodontic Care, Inc. ("USOC") merged with and into OrthAlliance. In the
merger, the outstanding common stock of USOC and Premier converted into an
aggregate of 1,750,000 shares of Class Common Stock ("Common Stock") and 250,000
shares of Class B Common Stock ("Class B Common Stock"). Each share of USOC
common stock converted into 0.496 shares of Common Stock and 0.071 shares of
Class B Common Stock. Each share of Premier common stock converted into 5,250
shares of Common Stock and 750 shares of Class B Common Stock. The USOC and
Premier stockholders received an aggregate of 1,225,000 and 525,000 shares of
Common Stock and 175,000 and 75,000 shares of Class B Common Stock,
respectively.
On August 26, 1997, OrthAlliance acquired the (the "Acquisitions")
simultaneously with the closing of the IPO of its Class A Common Stock, certain
operating assets of or the stock of entities holding certain tangible and
intangible assets, and assumed certain liabilities of 55 orthodontic practices
(collectively, the "Founding Practices") in exchange for 5,882,984 shares of
Common Stock and $13,800,000 in cash. The underwriters exercised an over
allotment option to purchase an additional 390,000 shares of Common Stock,
thereby increasing the number of shares of Common Stock offered in the IPO from
2,600,000 to 2,990,000. The net proceeds of the shares of Common Stock issued in
the IPO (after deducting the underwriting discounts and commission) were
$33,368,400. Other expenses incurred by the Company related to the Offering
totaled approximately $2,200,000 and these were recognized by Premier and USOC
prior to the merger. The Acquisitions have been accounted for in accordance with
the Securities and Exchange Commission's Staff Accounting Bulletin No. 48.
Basis of Presentation.
The condensed consolidated financial statements included herein have
been prepared by the Company without audit, pursuant to the rules and
regulations of the Securities and Exchange Commission (the "SEC"). Pursuant to
such regulations, certain information and footnote disclosures normally included
in financial statements prepared in accordance with generally accepted
accounting principles have been condensed or omitted. The company believes the
presentation and disclosure herein are adequate to make the information not
misleading. The financial statements reflect all elimination entries and normal
adjustments that are necessary for a fair presentation of the results for the
interim period ended March 31, 1998.
F-30
<PAGE> 93
Operating results for interim periods are not necessarily indicative of
the results for full years. These consolidated condensed financial statements
should be read in conjunction with the Financial Statements of OrthAlliance and
related notes thereto, and management's discussion and analysis related thereto,
all of which are included in the Company's Annual Report on Form 10-K for the
fiscal year ended December 31, 1997, No. 000-22975, (the "Annual Report").
In the opinion of Company management, the accompanying consolidated
financial statements include the accounts of the Company and all adjustments
necessary to present fairly the Company's financial position at March 31, 1998
and December 31, 1997, and its results of operations and cash flows for the
three months ended March 31, 1998 and March 31, 1997.
2. NEW ORTHODONTIST AFFILIATIONS
From January 1, 1998 to March 31, 1998, the Company entered into
agreements with seven Allied Practices which included 13 additional
orthodontists for a total consideration (including acquisition costs) of
$19,695,000. This consideration consisted of 940,829 shares of Common Stock with
an aggregated value at various acquisition costs of $10,047,000 and payment of
$8,868,000 cash. The Company also assumed $780,000 in debt related to assets
acquired. These orthodontists operated out of 30 locations and generated patient
revenue of approximately $15.9 million during a 12 month period immediately
preceding the date of affiliation. Prior patient revenue is not necessarily
indicative of the level of revenue these practices may be expected to generate
in the future. The Company has entered into agreements with certain of these
Allied Practices to make the payment of management fees after the first two
years contingent on various factors, including relative practice profitability,
acquisition consideration, timely reporting of information, participation in
practice improvement programs and orthodontist hours worked.
3. ORTHALLIANCE FINANCE, INC.
On October 7, 1997, the Company created a wholly owned subsidiary
OrthAlliance Finance, Inc., a Delaware corporation ("OA Finance"). OA Finance
has established a patient financing program for approved patients of Allied
Practices, and purchases loans made by Allied Practices to these patients. OA
Finance either pays the Allied Practices approximately 20% of the total
discounted consideration that it is paying for the loan, upon receipt of the
appropriate loan documentation, and pays the balance, with interest, over
approximately 24 months. Alternatively, 100% of the discounted consideration is
paid at the option of the Allied Practice. As of March 31, 1998, OA Finance
purchased 28 loans for a total value of $79,000.
4. SUBSEQUENT EVENTS
Subsequent to march 31, 1998, seven practices affiliated with the
Company which included 10 orthodontists. All of these orthodontists operate from
established practices that affiliated with the company since March 31, 1998. The
seven practices that affiliated with the Company since March 31, 1998 operate 12
locations and generated historical patient revenue over the prior 12 months of
approximately $6.5 million (unaudited). Prior patient revenue is not necessarily
indicative of the level of revenue that these practices may be expected to
generate in the future. The Company has entered an agreement with a certain
Allied Practice to make the payment of such management fees after the first two
years contingent on various factors, including relative practice profitability,
acquisition
F-31
<PAGE> 94
consideration, timely reporting of information, participation in practice
improvement programs and orthodontist hours worked.
<PAGE> 95
NO DEALER, SALESPERSON OR OTHER PERSON HAS BEEN AUTHORIZED TO GIVE ANY
INFORMATION OR TO MAKE ANY REPRESENTATION IN CONNECTION WITH THE OFFERING OTHER
THAN THOSE CONTAINED IN THIS PROSPECTUS, AND, IF GIVEN OR MADE, SUCH INFORMATION
OR REPRESENTATION MUST NOT BE RELIED UPON AS HAVING BEEN AUTHORIZED BY THE
COMPANY. THIS PROSPECTUS DOES NOT CONSTITUTE AN OFFER TO SELL OR A SOLICITATION
OF AN OFFER TO BUY THE SHARES OF COMMON STOCK OFFERED HEREBY 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. 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 DATE HEREOF OR THAT THE INFORMATION CONTAINED
HEREIN IS CORRECT AS OF ANY TIME SUBSEQUENT TO THE DATE HEREOF.
TABLE OF CONTENTS
Prospectus Summary 3
Risk Factors 9
The Company 16
Market Information and Related
Stockholder Matters 17
Capitalization 20
Selected Financial Data 21
Management's Discussion and Analysis
of Financial Condition and Results
of Operations 22
Business 29
Management 42
Certain Transactions 50
Principal Stockholders 51
Description of Capital Stock 52
Shares Eligible for Future Sale 57
Plan of Distribution 59
Legal Matters 60
Experts. 60
Additional Information 60
Index to Financial Statements F-1
3,000,000 SHARES
[ORTHALLIANCE LOGO]
COMMON STOCK
PROSPECTUS
MAY 22, 1998
<PAGE> 96
PART II
INFORMATION NOT REQUIRED IN PROSPECTUS
ITEM 20. INDEMNIFICATION OF DIRECTORS AND OFFICERS.
Under Section 145 of the Delaware General Corporation Law (the "DGCL"),
a corporation may indemnify any of its directors and officers against expenses
(including attorneys' fees), judgments, fines and amounts paid in settlement
actually and reasonably incurred by such person in connection with a threatened,
pending or completed action, suit or proceeding brought against him by reason of
the fact that he is or was a director or officer (i) if any such person acted in
good faith and in a manner reasonably believed to be in or not opposed to the
best interests of the corporation and (ii) in connection with any criminal
action or proceeding if such person had no reasonable cause to believe such
conduct was unlawful. In actions brought by or in the right of the corporation,
however, Section 145 provides that no indemnification may be made in respect of
any claim, issue or matter as to which such person shall have been adjudged to
be liable for negligence or misconduct in the performance of such person's duty
to the corporation unless, and only to the extent that, the Court of Chancery of
the State of Delaware or the court in which such action or suit was brought
shall determine upon application that, despite the adjudication of liability but
in review of all the circumstances of the case, such person is fairly and
reasonably entitled to indemnity for such expenses which the Court of Chancery
or such other court shall deem proper.
The Certificate provides that no director of the Company shall be
liable for breach of fiduciary duty as a director except for (i) any breach of
the director's duty of loyalty to the Company or its stockholders; (ii) acts or
omissions not in good faith or which involve intentional misconduct or a knowing
violation of the law; (iii) for willful or negligent violations of certain
provisions of the DGCL imposing certain requirements with respect to stock
repurchases, redemptions and dividends; or (iv) any transaction from which the
director derived an improper personal benefit. Pursuant to the Company's
Certificate and Bylaws, the Company is obligated to indemnify each of its
directors and officers to the fullest extent permitted by the DGCL. In addition,
the Bylaws allow the Company to purchase and maintain insurance on behalf of any
director or officer of the Company against any liability asserted against and
incurred by such director or officer, whether or not the Company would have the
power to indemnify such officer or director against such liability under the
provisions of the DGCL.
The Company obtained insurance which provides general coverage for its
directors and executive officers in amounts determined to be adequate. In
addition, the Company obtained insurance coverage for its directors and
executive officers with respect to the IPO.
II-1
<PAGE> 97
ITEM 21. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES.
(a) Exhibits
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION
<S> <C>
3.1 Amended and Restated Certificate of Incorporation of the
Company (incorporated by reference to Exhibit 3.1 of the
Company's Registration Statement on Form S-1, Registration No.
333-27143, as amended).
3.2 Amended and Restated Bylaws of the Company (incorporated by
reference to Exhibit 3.2 of the Company's Registration
Statement on Form S-1 Registration No. 333-27143, as amended).
4.1 Specimen Class A Common Stock Certificate (incorporated by
reference to Exhibit 4.1 of the Company's Registration
Statement on Form S-1, Registration No. 333-27143, as
amended).
4.2 Amended and Restated Certificate of Incorporation of the
Company, including, without limitation Section 4 (incorporated
by reference to Exhibit 3.1 of the Company's Registration
Statement on Form S-1, Registration No. 333-27143, as
amended).
4.3 Amended and Restated Bylaws of the Company (incorporated by
reference to Exhibit 3.2 of the Company's Registration
Statement on Form S-1 Registration No. 333-27143, as amended).
4.4 Incidental Registration Rights for certain Allied Orthodontist
as set forth in the Form of Purchase and Sale Agreement
(incorporated by reference to Exhibit 10.2 of the Company's
Annual Report of form 10-K for the year ended December 31,
1997), the Form of Stock Purchase and Sale Agreement
(incorporated by reference to Exhibit 10.3 of the Company's
Annual Report On Form 10-K for the year ended December 31,
1997) and the Form of Agreement and Plan of Reorganization
(incorporated by reference to Exhibit 10.5 of the Company's
Annual Report on Form 10-K for the year ended December 31,
1997)
5.1 Opinion of King & Spalding regarding legality.
10.1 Agreement and Plan of Merger between the Company, USOC and
Premier (incorporated by reference to Exhibit 2.1 of the
Company's Registration Statement on Form S-1, Registration No.
333-27143, as amended).
10.2 Form of Purchase and Sale Agreement between the Company and
Allied Practices (incorporated by reference to Exhibit 2.2 of
the Company's Registration Statement on Form S-1, Registration
No. 333-27143, as amended).
</TABLE>
II-2
<PAGE> 98
<TABLE>
<S> <C>
10.3 Form of Stock Purchase and Sale Agreement between the Company
and Stockholders of the initial Allied Practices (incorporated
by reference to Exhibit 2.4 of the Company's Registration
Statement on Form S-1, Registration No. 333-27143, as
amended).
10.4 Form of Stock Purchase and Sale Agreement between the Company
and the Stockholders of the Allied Practices (incorporated by
reference to Exhibit 10.4 of the Company's Annual Report on
Form 10-K for the year ended December 31, 1997).
10.5 Form of Agreement and Plan of Reorganization between the
Company, Allied Practices and the Stockholders of the Allied
Practices (incorporated by reference to Exhibit 2.3 of the
Company's Registration Statement on Form S-1, Registration No.
333-27143, as amended).
10.6 Form of Service Agreement between the Company and Allied
Practices (Fixed Percentage Fee) (incorporated by reference to
Exhibit 10.1 of the Company's Registration Statement on Form
S-1, Registration No. 333-27143, as amended).
10.7 Form of Service Agreement between Company and Allied Practices
(Variable Percentage Fee) (incorporated by reference to
Exhibit 10.2 of the Company's Registration Statement on Form
S-1, Registration No. 333-27143, as amended).
10.8 Form of Consulting and Business Services Agreement between the
Company and Allied Practices (Variable Percentage
Fee)(incorporated by reference to Exhibit 10.3 of the
Company's Registration Statement on Form S-1, Registration No.
333-27143, as amended).
10.9 Form of Consulting and Business Services Agreement between the
Company and Allied Practices (Fixed Percentage Fee)
(incorporated by reference to Exhibit 10.4 of the Company's
Registration Statement on Form S-1, Registration No.
333-27143, as amended).
10.10 Form of Consulting and Business Services Agreement between the
Company and Allied Practices (Fixed Dollar Fee) (incorporated
by reference to Exhibit 10.5 of the Company's Registration
Statement on Form S-1, Registration No. 333-27143, as
amended).
10.11 1997 Non-Employee Director Stock Plan (incorporated by
reference to Exhibit 10.6 of the Company's Registration
Statement on Form S-1, Registration No. 333-27143).
10.12 Amended and Restated 1997 Employee Stock Option Plan
(incorporated by reference to Exhibit 10.7 of the Company's
Registration Statement on Form S-1, Registration No.
333-27143).
10.13 1997 Orthodontist Stock Option Plan (incorporated by reference
to Exhibit 10.13 of the Company's Annual Report on Form 10-K
for the year ended December 31, 1997).
</TABLE>
II-3
<PAGE> 99
<TABLE>
<S> <C>
10.14 Employment Agreement between the Company and Sam Westover
(incorporated by reference to Exhibit 10.8 of the Company's
Registration Statement on Form S-1, Registration No.
333-27143).
10.15 Letter Agreement between the Company and Robert S. Chilton
(incorporated by reference to Exhibit 10.11 of the Company's
Registration Statement on Form S-1, Registration No.
333-27143, as amended).
10.16 Credit Agreement dated December 30, 1997 between the Company
and First Union National Bank (incorporated by reference to
Exhibit 10.16 of the Company's Annual Report on Form 10-K for
the year ended December 31, 1997).
10.17 Form of Company Practice Improvement Program Guarantee
(incorporated by reference to Exhibit 10.17 of the Company's
Annual Report on Form 10-K for the year ended December 31,
1997).
21.1 Subsidiaries of the Registrant.
23.1 Consent of Arthur Andersen LLP.
23.2 Consent of King & Spalding (contained in Exhibit 5.1)
27.1 Financial Data Schedule (for SEC use only).
99.1 Safe Harbor Compliance Statement.
</TABLE>
(b) Financial Statement Schedules
All schedules are omitted since the required information is not present
in amounts sufficient to require submission of the schedule, or because the
information required is included in the financial statements and notes hereto.
ITEM 22. UNDERTAKINGS.
Insofar as indemnification for liabilities arising under the Securities
Act of may be permitted to directors, officers and controlling persons of the
Registrant pursuant to the foregoing provisions or otherwise, the Registrant has
been advised that in the opinion of the Securities and Exchange 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 the 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.
II-4
<PAGE> 100
The undersigned 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 the 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.
3. To file, during any period in which offers or sales are being made,
a post-effective amendment to this registration statement:
(i) To include any prospectus required by Section 10(a)(3) of the
Securities Act of 1933;
(ii) To reflect in the prospectus any facts or events arising after
the effective date of the registration statement (or the most
recent post-effective amendment thereof) which, individually
or in the aggregate, represent a fundamental change in the
information set forth in the registration statement.
Notwithstanding the foregoing, any increase or decrease in
volume of securities offered (if the total dollar value of
securities offered would not exceed that which was registered)
and any deviation from the low or high and of the estimated
maximum offering range may be reflected in the form of
prospectus filed with the Commission pursuant to Rule 424(b)
if, in the aggregate, the changes in volume and price
represent no more than 20 percent change in the maximum
aggregate offering price set forth in the "Calculation of
Registration Fee" table in the effective registration
statement.
(iii) To include any material information with respect to the plan
of distribution not previously disclosed in the registration
statement or any material change to such information in the
registration statement.
4. To remove from registration by means of a post-effective amendment
any of the securities being registered which remain unsold at the termination of
the offering.
5. Prior to any public reoffering of the securities registered
hereunder through use of a prospectus which is a part of this registration
statement, by any person or party who is deemed to be an underwriter within the
meaning of Rule 145(c), the issuer undertakes that such reoffering prospectus
will contain the information called for by the applicable registration form with
respect to reofferings by persons who may be deemed underwriters, in addition to
the information called for by the other items of the applicable form.
6. Every prospectus: (i) that is filed pursuant to the paragraph
immediately preceding, or (ii) that purports to meet the requirements of Section
10(a)(3) of the Act and is used in connection with an offering of securities
subject to Rule 415, will be filed as a part of an amendment to the registration
II-5
<PAGE> 101
statement and will not be used until such amendment is effective, and that, for
purposes of determining any liability under the Securities Act, each such
post-effective amendment 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.
7. The undersigned registrant hereby undertakes to respond to requests
for information that is incorporated by reference into the prospectus pursuant
to Item 4, 10(b), 11, or 13 of this form, within one business day of receipt of
such request, and to send the incorporated documents by first class mail or
other equally prompt means. This includes information contained in documents
filed subsequent to the effective date of the registration statement through the
date of responding to the request.
8. The undersigned registrant hereby undertakes to supply by means of a
post-effective amendment all information concerning a transaction, and the
company being acquired involved therein, that was not the subject of and
included in the registration statement when it become effective.
II-6
<PAGE> 102
SIGNATURES
Pursuant to the requirements of the Securities Act of 1933, as amended,
the registrant has duly caused this Registration Statement to be signed on its
behalf by the undersigned, thereunto duly authorized, in the City of Torrance,
State of California, on May 20, 1998.
ORTHALLIANCE, INC.
By: /s/ SAM WESTOVER
-----------------------------------------
Sam Westover
President and Chief Executive Officer
Pursuant to the requirements of the Securities Act of 1933, as amended,
this Registration Statement has been signed below by the following persons in
the capacities and on the dates indicated. Each person whose signature to this
Registration Statement appears below hereby constitutes and appoints Sam
Westover and Jonathan E. Wilfong, and each of them, as his true and lawful
attorney-in-fact and agent, with full power of substitution, to sign on his or
her behalf individually and in any and all capacities and to perform any acts
necessary to be done in order to file all amendments and post-effective
amendments to this Registration Statement and any registration statement
relating to the same Offering as this Registration Statement that is to be
effective upon filing pursuant to Rule 462(b) under the Securities Act, and any
and all instruments or documents filed as part of or in connection with this
Registration Statement, the amendments thereto or a related registration
statement pursuant to Rule 462(b), and each of the undersigned does hereby
ratify and confirm all that said attorney-in-fact and agent, or his substitutes,
may do or cause to be done by virtue hereof.
<TABLE>
<CAPTION>
NAME TITLE DATE
<S> <C> <C>
/s/ SAM WESTOVER Chief Executive Officer, May 20, 1998
- ---------------------------- President and Director
Sam Westover (principal executive officer)
/s/ ROBERT S. CHILTON Chief Financial Officer May 20, 1998
- ---------------------------- (principal financial and
Robert S. Chilton accounting officer)
/s/ JONATHAN E. WILFONG Director May 20, 1998
- ----------------------------
Jonathan E. Wilfong
/s/ RANDALL K. BENNETT Director May 20, 1998
- ----------------------------
Randall K. Bennett
/s/ RANDALL A. SCHMIDT Director May 20, 1998
- ----------------------------
Randall A. Schmidt
/s/ DOUGLAS D. DURBIN Director May 20, 1998
- ----------------------------
Douglas D. Durbin
Director
- ----------------------------
Craig L. McKnight
Director
- ----------------------------
U. Bertram Ellis, Jr.
Director
- ----------------------------
W. Dennis Summers
</TABLE>
II-7
<PAGE> 103
EXHIBIT INDEX
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION
<S> <C>
3.1 Amended and Restated Certificate of Incorporation of the
Company (incorporated by reference to Exhibit 3.1 of the
Company's Registration Statement on Form S-1, Registration No.
333-27143, as amended).
3.2 Amended and Restated Bylaws of the Company (incorporated by
reference to Exhibit 3.2 of the Company's Registration
Statement on Form S-1 Registration No. 333-27143, as amended).
4.1 Specimen Class A Common Stock Certificate (incorporated by
reference to Exhibit 4.1 of the Company's Registration
Statement on Form S-1, Registration No. 333-27143, as
amended).
4.2 Amended and Restated Certificate of Incorporation of the
Company, including, without limitation Section 4 (incorporated
by reference to Exhibit 3.1 of the Company's Registration
Statement on Form S-1, Registration No. 333-27143, as
amended).
4.3 Amended and Restated Bylaws of the Company (incorporated by
reference to Exhibit 3.2 of the Company's Registration
Statement on Form S-1 Registration No. 333-27143, as amended).
4.4 Incidental Registration Rights for certain Allied Orthodontist
as set forth in the Form of Purchase and Sale Agreement
(incorporated by reference to Exhibit 10.2 of the Company's
Annual Report of form 10-K for the year ended December 31,
1997), the Form of Stock Purchase and Sale Agreement
(incorporated by reference to Exhibit 10.3 of the Company's
Annual Report on Form 10-K for the year ended December 31,
1997) and the Form of Agreement and Plan of Reorganization
(incorporated by reference to Exhibit 10.5 of the Company's
Annual Report on Form 10-K for the year ended December 31,
1997)
5.1 Opinion of King & Spalding regarding legality.
10.1 Agreement and Plan of Merger between the Company, USOC and
Premier (incorporated by reference to Exhibit 2.1 of the
Company's Registration Statement on Form S-1, Registration No.
333-27143, as amended).
10.2 Form of Purchase and Sale Agreement between the Company and
Allied Practices (incorporated by reference to Exhibit 2.2 of
the Company's Registration Statement on Form S-1, Registration
No. 333-27143, as amended).
10.3 Form of Stock Purchase and Sale Agreement between the Company
and Stockholders of the initial Allied Practices (incorporated
by reference to Exhibit 2.4 of the Company's Registration
Statement on Form S-1, Registration No. 333-27143, as
amended).
</TABLE>
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<PAGE> 104
<TABLE>
<S> <C>
10.4 Form of Stock Purchase and Sale Agreement between the Company
and the Stockholders of the Allied Practices (incorporated by
reference to Exhibit 10.4 of the Company's Annual Report on
Form 10-K for the year ended December 31, 1997).
10.5 Form of Agreement and Plan of Reorganization between the
Company, Allied Practices and the Stockholders of the Allied
Practices (incorporated by reference to Exhibit 2.3 of the
Company's Registration Statement on Form S-1, Registration No.
333-27143, as amended).
10.6 Form of Service Agreement between the Company and Allied
Practices (Fixed Percentage Fee) (incorporated by reference to
Exhibit 10.1 of the Company's Registration Statement on Form
S-1, Registration No. 333-27143, as amended).
10.7 Form of Service Agreement between Company and Allied Practices
(Variable Percentage Fee) (incorporated by reference to
Exhibit 10.2 of the Company's Registration Statement on Form
S-1, Registration No. 333-27143, as amended).
10.8 Form of Consulting and Business Services Agreement between the
Company and Allied Practices (Variable Percentage
Fee)(incorporated by reference to Exhibit 10.3 of the
Company's Registration Statement on Form S-1, Registration No.
333-27143, as amended).
10.9 Form of Consulting and Business Services Agreement between the
Company and Allied Practices (Fixed Percentage Fee)
(incorporated by reference to Exhibit 10.4 of the Company's
Registration Statement on Form S-1, Registration No.
333-27143, as amended).
10.10 Form of Consulting and Business Services Agreement between the
Company and Allied Practices (Fixed Dollar Fee) (incorporated
by reference to Exhibit 10.5 of the Company's Registration
Statement on Form S-1, Registration No. 333-27143, as
amended).
10.11 1997 Non-Employee Director Stock Plan (incorporated by
reference to Exhibit 10.6 of the Company's Registration
Statement on Form S-1, Registration No. 333-27143).
10.12 Amended and Restated 1997 Employee Stock Option Plan
(incorporated by reference to Exhibit 10.7 of the Company's
Registration Statement on Form S-1, Registration No.
333-27143).
10.13 1997 Orthodontist Stock Option Plan (incorporated by reference
to Exhibit 10.13 of the Company's Annual Report on Form 10-K
for the year ended December 31, 1997).
10.14 Employment Agreement between the Company and Sam Westover
(incorporated by reference to Exhibit 10.8 of the Company's
Registration Statement on Form S-1, Registration No.
333-27143).
</TABLE>
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<PAGE> 105
<TABLE>
<S> <C>
10.15 Letter Agreement between the Company and Robert S. Chilton
(incorporated by reference to Exhibit 10.11 of the Company's
Registration Statement on Form S-1, Registration No.
333-27143, as amended).
10.16 Credit Agreement dated December 30, 1997 between the Company
and First Union National Bank (incorporated by reference to
Exhibit 10.16 of the Company's Annual Report on Form 10-K for
the year ended December 31, 1997).
10.17 Form of Company Practice Improvement Program Guarantee
(incorporated by reference to Exhibit 10.17 of the Company's
Annual Report on Form 10-K for the year ended December 31,
1997).
21.1 Subsidiaries of the Registrant.
23.1 Consent of Arthur Andersen LLP.
23.2 Consent of King & Spalding (contained in Exhibit 5.1)
27.1 Financial Data Schedule (for SEC use only).
99.1 Safe Harbor Compliance Statement.
</TABLE>
E-3
<PAGE> 1
EXHIBIT 5.1
KING & SPALDING
191 PEACHTREE STREET
ATLANTA, GEORGIA 30303-1763
TELEPHONE: 404/572-4600
FACSIMILE: 404/572-5100
DIRECT DIAL: DIRECT FAX:
404/572-4600 404/572-5100
May __, 1998
OrthAlliance, Inc.
23848 Hawthorne Boulevard
Suite 200
Torrance, California 90505
Ladies and Gentlemen:
We have acted as counsel to OrthAlliance, Inc. (the "Company") in
connection with the filing of a Registration Statement on Form S-4 (Registration
No. 333-_______) under the Securities Act of 1933, as amended, covering the
offering of up to 3,000,000 shares of the Company's Class A Common Stock, $.001
par value per share (the "Shares"). In connection therewith, we have examined
such corporate records, certificates of public officials and other documents and
records as we have considered necessary or proper for the purpose of this
opinion.
This opinion is limited by and is in accordance with, the January 1,
1992, edition of the Interpretative Standards applicable to Legal Opinions to
Third Parties in Corporate Transactions adopted by the Legal Opinion Committee
of the Corporate and Banking Law Section of the State Bar of Georgia.
Based on the foregoing, and having regard to legal considerations which
we deem relevant, we are of the opinion that the Shares, when issued and
delivered as described in the Registration Statement, will be legally issued,
fully paid and nonassessable.
We hereby consent to the filing of this opinion as an exhibit to the
Registration Statement and to the reference to our firm under the caption "Legal
Matters" in the Prospectus contained in the Registration Statement.
Very truly yours,
/s/ King & Spalding
-------------------
E-4
<PAGE> 1
EXHIBIT 21.1
EXHIBIT 21.1
SUBSIDIARIES OF REGISTRANT
OrthAlliance Finance, Inc. - Delaware
PedoAlliance, Inc. - Delaware
E-5
<PAGE> 1
EXHIBIT 23.1
CONSENT OF INDEPENDENT PUBLIC ACCOUNTANTS
As independent public accountants, we hereby consent to the
incorporation by reference in this registration statement of our reports dated
February 27, 1998 included in OrthAlliance, Inc.'s Form 10-K for the year ended
December 31, 1997, and to all references to our Firm included in this
registration statement.
/s/ Arthur Andersen LLP
Arthur Andersen LLP
Los Angeles, California
May 20, 1998
E-6
<TABLE> <S> <C>
<ARTICLE> 5
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-01-1998
<PERIOD-END> MAR-31-1998
<CASH> 3,907,000
<SECURITIES> 0
<RECEIVABLES> 8,352,000
<ALLOWANCES> (574,000)
<INVENTORY> 0
<CURRENT-ASSETS> 17,020,000
<PP&E> 8,637,000
<DEPRECIATION> (4,135,000)
<TOTAL-ASSETS> 57,105,000
<CURRENT-LIABILITIES> 11,341,000
<BONDS> 0
0
0
<COMMON> 12,000
<OTHER-SE> 45,643,000
<TOTAL-LIABILITY-AND-EQUITY> 57,105,000
<SALES> 0
<TOTAL-REVENUES> 14,650,000
<CGS> 0
<TOTAL-COSTS> 0
<OTHER-EXPENSES> 11,855,000
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 7,000
<INCOME-PRETAX> 2,892,000
<INCOME-TAX> 1,271,000
<INCOME-CONTINUING> 1,621,000
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 1,621,000
<EPS-PRIMARY> .13
<EPS-DILUTED> .13
</TABLE>
<PAGE> 1
EXHIBIT 99.1
SAFE HARBOR COMPLIANCE STATEMENT
The Company believes that the following could cause actual results to
differ materially from those in forward-looking statements set forth in this
Registration Statement.
1. The Company's ability to grow through affiliations with additional
orthodontic and pediatric dental practices.
2. The Company's ability to identify suitable affiliation candidates and
to profitably manage or successfully integrate new Allied Practices
with the Company and its existing Allied Practices.
3. The level of competition in the orthodontic and pediatric dental
practice management industries.
4. Regulatory development and changes in the United States healthcare
system and dental and orthodontic professions that may affect the
profitability of the Company or the enforceability of the Company's
operative agreements with its Allied Practices and Allied
Orthodontists.
5. The Company's dependence on revenues generated by the Allied
Orthodontists of the Allied Practices.
6. The Company's ability to secure capital, and the related cost of such
capital, needed to fund the future growth of the Company through
affiliations with orthodontic and pediatric dental practices as well as
internal growth.
7. The Company's ability to staff the Allied Practices with appropriate
qualified personnel.
8. The continued availability to the Company of adequate insurance.
9. The Allied Practices' reputation for delivering high-quality patient
care and their ability to attract and retain patients.
The foregoing factors should not be construed as exhaustive or as an
admission regarding the adequacy of disclosures previously made by the Company.
All capitalized terms used in this Exhibit 99.1 not otherwise defined herein
have the same meanings as prescribed to such terms in the Registration
Statement.
E-7
