SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(MarkOne)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended . . . . . . . . . September 30, 2000
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from . . . . . . . . to. . . . . . . . . . . .
. . . . . . . . .
Commission file number . . . . . . . . . . . . . . . . . . . . . . 000-23005
INSPIRE INSURANCE SOLUTIONS, INC.
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(Exact name of registrant as specified in its charter)
TEXAS 75-2595937
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(State or other jurisdiction of incorporation (I.R.S. Employer
or organization) Identification No.)
300 BURNETT STREET, FORT WORTH, TX 76102-2799
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(Address of principal executive offices)
(Zip Code)
817-348-3900
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(Registrant's telephone number, including area code)
N/A
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(Former name, former address and former fiscal year,
if changed since last report)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes [X] No [ ]
APPLICABLE ONLY TO CORPORATE ISSUERS:
Indicate the number of shares outstanding of each of the issuer's classes
of common stock, as of October 31, 2000: 19,138,001
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INDEX
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PART I - FINANCIAL INFORMATION.................................................................... 1
Item 1. Financial Statements..................................................................... 1
Condensed Consolidated Balance Sheets as of September 30, 2000 (unaudited)
and December 31, 1999..................................................................... 1
Condensed Consolidated Statements of Operations (unaudited) for the
three months and nine months ended September 30, 2000 and 1999............................ 2
Condensed Consolidated Statements of Cash Flows (unaudited) for the nine
months ended September 30, 2000 and 1999.................................................. 3
Notes to Condensed Consolidated Financial Statements (unaudited).......................... 4
Independent Accountants' Report........................................................... 8
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations................................................... 9
Item 3. Quantitative and Qualitative Disclosures about Market Risk............................... 15
PART II - OTHER INFORMATION........................................................................ 15
Item 6. Exhibits and Reports on Form 8-K......................................................... 16
Signatures......................................................................................... 18
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PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
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INSPIRE INSURANCE SOLUTIONS, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
September 30, December 31,
2000 1999
---- ----
(unaudited)
ASSETS
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CURRENT ASSETS:
Cash and cash equivalents...................................................... $ 7,437,712 $ 899,032
Investments.................................................................... 5,942,694 16,774,703
Accounts receivable, net....................................................... 25,878,304 24,593,172
Unbilled receivables........................................................... 290,863 4,814,894
Income taxes receivable........................................................ 3,824,358 6,861,736
Deferred income taxes.......................................................... 5,545,334 5,753,743
Prepaid expenses and other current assets...................................... 2,749,172 1,881,424
----------- ------------
Total current assets..................................................... 51,668,437 61,578,704
Property and equipment, net (accumulated depreciation
2000 $20,232,634; 1999 $17,450,341) .............................................. 11,874,820 14,179,800
Intangibles and other assets........................................................ 52,541,817 56,269,846
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TOTAL .............................................................................. $ 116,085,074 $132,028,350
============= ============
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable............................................................... $ 1,515,804 $ 2,054,937
Accrued payroll and compensation............................................... 1,265,154 970,633
Other accrued expenses......................................................... 10,902,911 19,043,135
Unearned revenue............................................................... 2,475,540 1,777,580
Deferred compensation.......................................................... 806,659 1,325,583
------------- -----------
Total current liabilities................................................ 16,966,068 25,171,868
Deferred compensation............................................................... 372,791 380,175
Deferred income taxes............................................................... 309,910 2,005,629
CONTINGENCIES (NOTE 3)
SHAREHOLDERS' EQUITY:
Preferred stock, $1.00 par value; 1,000,000 shares
authorized, none issued and outstanding ..................................... -- --
Common stock, $.01 par value; 50,000,000 shares
authorized, 19,138,001 shares issued and outstanding
in 2000; 18,998,270 shares issued and outstanding in 1999.................... $ 191,380 $ 189,983
Additional paid-in capital..................................................... 113,729,020 $112,523,113
Accumulated deficit............................................................ (15,484,095) (8,242,418)
------------- ------------
Total shareholders' equity............................................... $ 98,436,305 $104,470,678
TOTAL............................................................................... $ 116,085,074 $132,028,350
============= ============
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See accompanying notes to condensed consolidated financial statements.
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INSPIRE INSURANCE SOLUTIONS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
Three months ended Nine months ended
September 30, September 30,
-------------------------- --------------------------
2000 1999 2000 1999
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REVENUES:
Outsourcing services..........................$ 25,289,323 $ 31,452,660 $ 90,121,597 $ 79,332,868
Software and software services................ 3,919,585 5,556,786 9,813,582 24,074,893
Other......................................... 216,817 342,652 884,398 1,576,093
------------ ------------ ------------ ------------
Total revenues........................... 29,425,725 37,352,098 100,819,577 104,983,854
------------ ------------ ------------ ------------
EXPENSES:
Cost of outsourcing services, net............ 22,134,076 24,642,329 72,467,166 56,496,799
Cost of software and software services, net.. 1,244,704 5,130,108 5,361,012 15,544,886
Cost of other revenues....................... 25,511 199,508 279,643 938,175
Selling, general and administrative.......... 2,616,928 5,587,138 9,019,023 14,012,460
Research and development, net................ 762,565 1,107,655 2,267,037 2,766,256
Severance expense............................ 53,194 35,949 1,482,484 264,035
Depreciation and amortization................ 2,029,893 2,399,352 6,350,668 7,036,084
Bad debt expense............................. 200,000 10,847,828 200,000 10,932,634
Litigation expense........................... 162,769 1,229,442 170,236 1,229,442
Intangible assets impairment................. 13,978,502 16,756,701 13,978,502 16,756,701
Other........................................ - 804,000 - 804,000
------------- ------------- ------------- -------------
Total expenses......................... 43,208,142 68,740,010 111,575,771 126,781,472
------------- ------------- ------------- -------------
OPERATING LOSS................................. (13,782,417) (31,387,912) (10,756,194) (21,797,618)
OTHER INCOME (EXPENSE):
Interest income.............................. 159,478 298,229 525,829 1,171,841
Interest expense............................. - (610) - (14,150)
------------- ------------- ------------- -------------
Total other income........................... 159,478 297,619 525,829 1,157,691
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LOSS BEFORE INCOME TAX......................... (13,622,939) (31,090,293) (10,230,365) (20,639,927)
INCOME TAX BENEFIT............................. 4,345,719 10,736,105 2,988,688 6,555,959
------------- ------------- ------------- -------------
NET LOSS.......................................$ (9,277,220) $ (20,354,188) $ (7,241,677) $ (14,083,968)
============= ============= ============= =============
NET LOSS PER SHARE (BASIC).....................$ (0.48) $ (1.07) $ (0.38) $ (0.74)
============= ============= ============= =============
NET LOSS PER SHARE (DILUTED).................. $ (0.48) $ (1.07) $ (0.38) $ (0.74)
============= ============= ============= =============
</TABLE>
See accompanying notes to condensed consolidated financial statements.
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INSPIRE INSURANCE SOLUTIONS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
Nine months ended
September 30,
-------------------------------
2000 1999
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OPERATING ACTIVITIES:
Net loss ................................................................... $ (7,241,677) $ (14,083,968)
Adjustments to reconcile net loss to net cash provided
by operating activities:
Depreciation and amortization.............................................. 6,350,668 7,036,084
Deferred income tax........................................................ (1,507,221) (5,532,845)
Bad debt expense........................................................... 200,000 10,847,828
Intangible assets impairment............................................... 13,978,502 16,756,701
Change in operating assets and liabilities:
Accounts receivable...................................................... (1,485,132) (12,357,471)
Unbilled receivables..................................................... 4,524,031 (1,867,503)
Prepaid expenses and other current assets................................ (709,664) (557,898)
Other assets............................................................. 201,722 (575,550)
Accounts payable......................................................... (539,133) 515,333
Accrued payroll and compensation......................................... 296,847 198,466
Other accrued expenses................................................... (9,384,154) 11,796,009
Unearned revenue......................................................... 697,960 2,811,590
Income taxes payable/receivable.......................................... 3,037,378 (6,246,315)
Deferred compensation.................................................... (88,484) 476,322
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Net cash provided by operating activities....................................... 8,331,643 9,216,783
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INVESTING ACTIVITIES:
Sales of investments......................................................... 10,832,009 3,686,180
Purchases of property and equipment,net...................................... (1,607,859) (3,710,578)
Capitalized research and development costs................................... (682,732) (1,230,408)
Deferred contract costs...................................................... (10,444,133) (23,493,933)
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Net cash used in investing activities........................................... (1,902,715) (24,748,739)
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FINANCING ACTIVITIES:
Proceeds from borrowings..................................................... -- 296,813
Repayment of borrowings...................................................... -- (383,402)
Proceeds from exercises under stock plans, net............................... 109,752 808,098
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Net cash provided by financing activities....................................... 109,752 721,509
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NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS............................ 6,538,680 (14,810,447)
CASH AND CASH EQUIVALENTS AT BEGINNING
OF PERIOD.................................................................... 899,032 27,599,967
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CASH AND CASH EQUIVALENTS AT END OF PERIOD...................................... $ 7,437,712 $ 12,789,520
============= =============
SUPPLEMENTAL CASH FLOW INFORMATION:
Interest paid................................................................ $ -- $ 14,150
============= =============
Income taxes paid (refunded), net .......................................... $ (4,517,583) $ 5,050,750
============= =============
</TABLE>
See accompanying notes to condensed consolidated financial statements.
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INSPIRE INSURANCE SOLUTIONS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
General - INSpire Insurance Solutions, Inc. ("INSpire" or the
"Company") is a provider of policy and claims administration solutions,
including outsourcing services and software products, to the Property and
Casualty insurance industry. The Company sells its products directly to the
customer. The majority of sales are in North America.
Unaudited Interim Consolidated Financial Statements - The accompanying
unaudited consolidated financial statements have been prepared in accordance
with accounting principles generally accepted in the United States of America
for interim financial information and the instructions to Form 10-Q and Article
10 of Regulation S-X. In the opinion of management, all adjustments (consisting
of normal recurring adjustments) necessary for a fair presentation of the
financial position, results of operations and cash flows for the periods
presented herein have been included. Results of operations for the periods
presented herein are not necessarily indicative of results of operations for any
subsequent quarter or the year ending December 31, 2000. The independent
accountants' review report of Deloitte & Touche LLP is included in Part I, Item
1 of this report.
The information included in this Form 10-Q should be read in
conjunction with the consolidated financial statements and notes thereto for the
year ended December 31, 1999 included in the Company's Form 10-K (File No.
000-23005).
Certain information and note disclosures normally included in
consolidated financial statements prepared in accordance with generally accepted
accounting principles have been condensed or omitted pursuant to the Securities
and Exchange Commission's rules and regulations.
Intangibles and Other Assets - Costs in excess of net assets acquired
are amortized over periods ranging from five to twenty years using the
straight-line method. Acquired software and other intangibles are amortized over
a period of three to ten years using the straight-line method. Deferred contract
costs are comprised of the incremental fees and direct costs associated with
long-term outsourcing service agreements and are amortized over the related
contract period of up to ten years using the straight-line method. The Company
periodically evaluates the carrying value of long lived assets to determine if
impairment exists based upon estimated undiscounted future cash flows. The
impairment, if any, is measured by the difference between net book value and
estimated discounted future cash flows, and is charged to expense in the period
identified.
Net Loss Per Share - Net loss per share of the Company is computed by
dividing net loss by the weighted average number of shares outstanding. Diluted
net loss per share considers the impact of potential common shares, unless the
inclusion of such shares would have an anti-dilutive effect. The weighted
average number of shares (basic) was 19,138,001 and 18,992,939 for the three
months ended September 30, 2000 and 1999, respectively and 19,102,813 and
18,907,489 for the nine months ended September 30, 2000 and 1999, respectively.
The weighted average number of shares (diluted) was 19,138,001 and 18,992,939
for the three months ended September 30, 2000 and 1999, respectively and
19,102,813 and 18,907,489 for the nine months ended September 30, 2000 and 1999,
respectively. The weighted average number of shares amounts have been adjusted
to reflect all stock splits in the form of stock dividends.
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Recently Issued Accounting Pronouncements
In June 1998, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards No. 133, "Accounting for Derivative
Instruments and Hedging Activities" ("SFAS 133"). SFAS 133, as amended by SFAS
No. 138, "Accounting for Derivative Instruments and Certain Hedging Activities -
an amendment to FASB Statement No. 133" ("SFAS 138"), is effective for fiscal
years beginning after June 15, 2000. SFAS 133 requires all derivative
instruments to be recorded on the balance sheet at their fair value. Changes in
the fair value of derivatives are recorded each period in current earnings or
other comprehensive income, depending on whether a derivative is designed as
part of a hedge transaction and, if it is, the type of hedge transaction. The
Company does not expect that the adoption of SFAS 133 and SFAS 138 will have a
material impact on its financial statements because the Company does not
currently hold any derivative instruments.
In December 1999, the Securities and Exchange Commission issued Staff
Accounting Bulletin 101, "Revenue Recognition in Financial Statements" ("SAB
101"). SAB 101 is effective for the Company's financial statements no later than
the fourth quarter of fiscal year 2000. Effective with the beginning of the
fourth quarter of 2000, the Company adopted SAB 101 and there was no impact on
the Company's financial position, results of operations or cash flows.
Additionally, there were no changes to the revenue recognition policies of the
Company.
2. RELATED PARTY TRANSACTIONS
The Company provides outsourcing services and software and software
services to The Millers Insurance Company ("Millers Insurance"), a shareholder
of the Company, The Millers Casualty Insurance Company ("Millers Casualty"), an
indirect 99.5% subsidiary of Millers Insurance, and Millers American Group, Inc.
("Millers American"), of which Millers Insurance is an indirect wholly-owned
subsidiary, under the terms of various agreements. On December 30, 1999, INSpire
and various Millers American subsidiaries entered into a five-year Master
Services Agreement that superceded existing outsourcing services agreements with
Millers Insurance and Millers Casualty. For the nine months ended September 30,
2000 and 1999, under such agreements, the Company earned total fees of
$18,995,000 and $19,775,000, respectively. On September 14, 2000, INSpire
received written notice from Millers American that Millers American will seek to
sell three lines of business and three other insurance relationship programs
will be terminated. These changes in Millers American's business will reduce
Millers American's need for policy administration, claims administration and
other services currently provided by INSpire. If the Company does not replace
these revenues or decrease expenses proportional to the decline in revenue, this
decrease in need will have a material adverse impact on the Company's results of
operations in the future. Millers American is also seeking to renegotiate the
terms of its agreement with INSpire. Although INSpire is under no obligation to
change the contract in any way, it is uncertain at this time what the impact
will be if the contract with Millers American is renegotiated.
On September 1, 1999, INSpire entered into an Asset and Employee
Transfer Agreement with Millers American (the "Phoenix Acquisition"), pursuant
to which INSpire agreed to acquire from Millers American for a purchase price of
$3,500,000 certain assets and employees used in the conduct of its policy and
claims administration with respect to its policies written by Phoenix Indemnity
Insurance Company ("Phoenix Indemnity"), a wholly-owned subsidiary of Millers
American. During the third quarter of 2000, INSpire received payments on the
Millers American receivable, net of the $3,500,000 purchase price payable by
INSpire to Millers American in connection with the Phoenix Acquisition. In
conjunction with this transaction INSpire entered into a Service Addendum to the
Company's Master Services Agreement with Millers American to provide certain
policy and claims administration services with respect to the Phoenix Indemnity
book of business for a period of ten years beginning September 1, 1999.
Effective January 1, 1998, the Company and Millers Insurance entered
into an agreement whereby the Company provides benefits administration services
to Millers Insurance and Millers Casualty for a monthly fee of $15,000. Total
fees earned under this agreement were $135,000 for each of the nine-month
periods ending September 30, 2000 and 1999. On September 12, 2000, Millers
American notified the Company that Millers American would terminate the benefit
services agreement on December 31, 2000.
There was a receivable due from Millers American of approximately
$5,472,000 and $4,200,000 as of September 30, 2000 and 1999, respectively. The
receivable of $5,472,000 due from Millers American represented 21% of the
Company's accounts receivable at September 30, 2000. Of the receivable due from
Millers American, 31% was over 60 days past due and 28% was over 90 days past
due. The receivable balance as of September 30, 2000 declined approximately
$4,881,000 from the receivable balance as of June 30, 2000 of approximately
$10,353,000 due to cash collections during the quarter ended September 30, 2000.
The Company is unable to ascertain with any degree of certainty whether the
Company will experience continued difficulties associated with the collection of
the past due receivable from Millers American, and the inability to collect the
receivable would have a material adverse effect on the Company's results of
operations, financial condition and cash flows.
The Company provides software and software services to InsureZone which
is 42% owned by Buena Vista Associates, a 12.6% shareholder of the Company. For
the nine-month period ended September 30, 2000, INSpire earned approximately
$355,000 in revenue for license fees and services performed. There was a
receivable due from InsureZone of approximately $357,000 as of September 30,
2000.
INSpire's headquarters is located in a building owned by a partnership
which is 50% owned by certain members of the Company's Board of Directors. For
the nine-month period ended September 30, 2000 and 1999, INSpire incurred
$776,000 and $577,000, respectively, of rental expense under this agreement.
3. CONTINGENCIES
In December 1997, the Company entered into a contract with Sul America
Cia Nacional de Seguros ("Sul America") to provide a license for WPC and other
software products, and software services for the implementation of such
products. In conjunction with this contract, the Company was required to arrange
a surety to provide Sul America with a performance bond in the amount of $3.7
million, the proceeds of which could be used in the event that INSpire did not
fulfill its obligations under the contract. The contract was segregated into
three phases of deliverables, two of which have been accepted and paid for in
the amount of $2.5 million by Sul America. In August 1999, Sul America
terminated its contract with the Company, and demanded payment under the
performance bond. Under its agreement to indemnify the surety against losses
under the performance bond allegedly caused by INSpire's default, the Company
arranged an irrevocable standby letter of credit in October 1999 with Bank of
America, N.A. in the amount of $3.7 million. On December 21, 1999, INSpire filed
a lawsuit in the 8th Civil Court of Rio de Janeiro (INSpire Insurance Solutions,
Inc. vs. Sul America Seguros S.A. and INA Seguradora S.A. (99.001.175.210-6))
requesting a preliminary injunction, which was granted in January 2000,
restricting the surety from paying $3.7 million to Sul America until a final
decision is rendered in the ordinary lawsuit to be filed. The case is now
entering the evidentiary phase. The Company intends to pursue collection of its
outstanding receivable balance of $1.2 million from Sul America and defend
itself against Sul America's claims that the Company failed to comply with the
terms of the contract. The ultimate outcome of this matter cannot presently be
determined.
On March 8, 1999, a lawsuit was filed in the United States District
Court - Northern District Court of California by California Family Foods, LLC
and Myers & Charter, Inc. ("California Family") (California Family Foods, LLC
and Myers & Charter, Inc. vs. Millers Mutual Fire Insurance Company ("Millers
Mutual") and INSpire Insurance Solutions, Inc., et. al. (S99-0445(MLS) (PAN)).
California Family is seeking approximately $1 million in damages for bad faith
and contract damages, plus a claim for unspecified punitive damages. Although
the outcome of this matter cannot presently be determined, INSpire believes that
it would be entitled to indemnification for this matter from Millers Mutual
under the Master Services Agreement between the parties and believes that the
outcome of this lawsuit will not have a material adverse effect on the Company's
business, financial condition, cash flows or results of operations.
On December 3, 1999, a shareholder class action lawsuit was filed in
the United States District Court for the Northern District of Texas on behalf of
all purchasers of the Company's Common Stock during the period between January
28, 1998 and October 14, 1999 (Southland Securities Corporation et. al. v.
Inspire Insurance Solutions, Inc. et. al. (7-99CV-243-R)). The named defendants
include the Company, certain officers and directors of the Company, and Millers
Insurance. The complaint alleges violations under Sections 10(b) and 20(a) of
the Securities Exchange Act of 1934 and Rule 10b-5 promulgated thereunder by
making false and misleading statements and failing to disclose material facts
necessary in order to make the statements made, in light of the circumstances
under which they were made, not misleading. The plaintiff seeks monetary damages
and interest. Two additional shareholder class action lawsuits, nearly identical
to the one described above, have been filed against the Company in the United
States District Court for the Northern District of Texas: Larry Altobell and
Lawrence J. Miller et. al. v. Inspire Insurance Solutions, Inc. et. al.
(7-99CV-248-R) filed on December 16, 1999, and Stacy B. and Rhonda K. Lofton et.
al. v. Inspire Insurance Solutions, Inc. et. al. (7-00CV-001-R) filed on January
3, 2000. The lawsuits were filed in the Wichita Falls Division. They have been
consolidated, lead plaintiffs and counsel have been appointed and the
consolidation action has been transferred to the Fort Worth Division. The
Company intends to defend these suits vigorously in all aspects. The Company,
together with the other defendants, has filed a motion to dismiss that is
pending before the court. All parties are currently in the process of discussing
mediation of the matter, which should occur during the first quarter of 2001.
The ultimate outcome of this matter cannot presently be determined.
In February 2000, a complaint was filed against INSpire, in the United
States District Court for the District of New Jersey-Newark No. 00-803. The
Plaintiff, Cover-All Systems, Inc. ("CSI"), is a developer, owner and licensor
of computer software programs. The complaint alleges that INSpire breached a
Software License & Support Services Agreement ("the Agreement"), entered into in
October 1997. CSI seeks damages in excess of $1.5 million for unpaid support
payments claimed to be owed by the Company. INSpire has filed an Answer and has
alleged a counterclaim against CSI for breach of the Agreement and its duty of
good faith and fair dealing and is seeking recovery for an amount of $2.5
million that the Company previously paid to CSI. The discovery phase of the
lawsuit is almost complete. The ultimate outcome of this matter cannot presently
be determined.
On March 2, 2000, the Company filed an arbitration claim against The
Doctor's Company with the American Arbitration Association to collect $1,546,095
as the amount due to the Company under a License Agreement, Implementation
Support Agreement and Accelerated Enhancement Plan Agreement. On March 21, 2000,
The Doctor's Company submitted a claim for breach of contract against the
Company with the American Arbitration Association and filed suit against the
Company in the Superior Court of the State of California to compel arbitration
in California. On August 30, 2000, the Court denied the petition to compel
arbitration in California. The Doctor's Company arbitration claim alleges that
as a result of the Company's failure to meet obligations under its agreements
and that The Doctor's Company is entitled to the return of $912,507 previously
paid to the Company plus direct costs and consequential damages. In August 2000,
the American Arbitration Association consolidated the arbitration proceeding
filed by The Doctor's Company with the arbitration proceeding commenced by the
Company. The American Arbitration Association has determined that the hearing
locale will be in Fort Worth, Texas. A panel of arbitrators has been selected.
The Company intends to pursue collection of its outstanding receivable balance
and to vigorously defend itself against the claim asserted by The Doctor's
Company. The ultimate outcome of this matter cannot presently be determined.
On June 13, 2000, a lawsuit was filed in the Superior Court of the
State of California for the County of San Diego by Western Family Insurance
Company, Inc. ("Western Family") (Western Family Insurance Company, Inc. vs.
Arrowhead General Insurance Agency, Inc., et. al. (GIC749525)). Western Family
is seeking approximately $4.0 million in damages for alleged breach of contract,
negligence, breach of fiduciary duty and express indemnity, plus a claim for
unspecified punitive damages. The allegations of this lawsuit are based on an
agency agreement by and between Arrowhead General Insurance Agency, Inc,
("Arrowhead") and Western Family and a claims management agreement by and
between Arrow Claims Management, Inc. (a subsidiary of Arrowhead) and Western
Family, each entered into in September 1996. INSpire purchased certain assets of
Arrowhead and the stock of Arrow Claims Management, Inc. in December 1998.
Although the outcome of this matter cannot presently be determined, INSpire
believes that it is entitled to indemnification for this matter from Arrowhead
based on a Guaranty Agreement, Outsourcing Agreement and Stock Purchase
Agreement between the parties and believes that the outcome of this lawsuit will
not have a material adverse effect on the Company's business, financial
condition, cash flows or results of operations.
On July 18, 2000, a lawsuit was filed in the Superior Court of the
State of California for the County of San Diego by Juan M. Alvarado and Irene
Alvarado ("Alvarado") (Alvarado et. al. vs. Clarendon National Insurance
Company, et. al. (GIC750651)). Alvarado is seeking $3.0 million in damages plus
punitive damages in this bad faith lawsuit involving an alleged denial of a
claim by Arrow Claims Management, Inc. and the subsequent handling of the claim.
Although the outcome of this matter cannot presently be determined, INSpire
believes that it is entitled to indemnification for this matter from Arrowhead
based on a Guaranty Agreement, Outsourcing Agreement and Stock Purchase
Agreement between the parties and believes that the outcome of this lawsuit will
not have a material adverse effect on the Company's business, financial
condition, cash flows or results of operations.
On August 22, 2000, a cross complaint was filed in the Superior Court
of the State of California for the County of Los Angeles by Clarendon National
Insurance Company ("Clarendon") (Clarendon National Insurance Company v. Nora
Sauceda, Louis Sauceda, David Garcia, Arrow Claims Management, Inc., et. al.
(BC199918)). Clarendon is seeking $3.0 million in reimbursement for a settlement
of a bad faith lawsuit for a claim denied and allegedly mishandled by Arrow
Claims Management, Inc. The allegations of this lawsuit are based on an agency
agreement by and between Arrowhead and Clarendon and a claims management
agreement by and between Arrow Claims Management, Inc. (a subsidiary of
Arrowhead) and Clarendon. INSpire purchased certain assets of Arrowhead and the
stock of Arrow Claims Management, Inc. in December 1998. Although the outcome of
this matter cannot presently be determined, INSpire believes that it is entitled
to indemnification for this matter from Arrowhead based on a Guaranty Agreement,
Outsourcing Agreement and Stock Purchase Agreement between the parties and
believes that the outcome of this lawsuit will not have a material adverse
effect on the Company's business, financial condition, cash flows or results of
operations.
From time to time the Company is involved in other lawsuits that it
considers to be in the ordinary course of business. The Company is not aware of
any other legal proceedings that it expects would have a material adverse effect
on the Company's business, financial condition, cash flows or results of
operations.
On October 19, 2000, The Robert Plan Corporation ("Robert Plan")
provided written notice to the Company of a number of alleged breaches by the
Company of its obligations under the Policy and Claims Services Agreement
("PCSA"), including the alleged failure of the Company to complete the
implementation of the Company's technology and conversion of data by the
specified deadline and failure to achieve and maintain service levels required
by the PCSA. Robert Plan advised the Company that in the event the enumerated
breaches were not cured by the specified cure period provided in the PCSA,
Robert Plan intended to terminate the PCSA and pursue the exercise of its rights
and remedies under the PCSA. Following the receipt of this letter, the Company
contacted Robert Plan in an effort to address the concerns raised by Robert Plan
with the objective of maintaining the PCSA and the related business
relationship. By letter dated November 14, 2000, Robert Plan has informed the
Company that it has rescinded its notification of the claimed breaches. The
Company and Robert Plan intend to jointly work towards resolving the issues
enumerated by Robert Plan in its October 19, 2000 default letter. While Robert
Plan has rescinded the notification of breach contained in the October 19
default letter, it has reserved its rights to declare a future breach of the
PCSA if the Company should fail to sufficiently address the concerns raised by
Robert Plan. As such, the failure of the Company to address these concerns could
result in a future default letter and attempt by Robert Plan to terminate the
PCSA, which could have a material adverse effect on the Company's financial
position and results from future operations.
4. INTANGIBLE ASSETS IMPAIRMENT
The Company recognized an impairment charge in August 2000 of
approximately $14,000,000 for certain intangible and other assets associated
with the Island Insurance policy and claims outsourcing agreement and the
Pacific Service Center. The impairment was measured by the difference between
the net book value of the intangible and other assets and estimated discounted
future cash flows, and was charged to expense. The impairment charge was
necessitated by the termination of the Island Insurance policy and claims
outsourcing agreement and the closing of the Company's Pacific Service Center.
<PAGE>
INDEPENDENT ACCOUNTANTS' REPORT
Board of Directors and Shareholders
INSpire Insurance Solutions, Inc.
Fort Worth, Texas
We have reviewed the accompanying condensed consolidated balance sheet
of INSpire Insurance Solutions, Inc. and subsidiary (the "Company") as of
September 30, 2000, and the related condensed consolidated statements of
operations and cash flows for the three-month and nine-month periods ended
September 30, 2000 and 1999 and cash flows for the nine-month periods ended
September 30, 2000 and 1999. These financial statements are the responsibility
of the Company's management.
We conducted our review in accordance with standards established by the
American Institute of Certified Public Accountants. A review of interim
financial information consists principally of applying analytical procedures to
financial data and of making inquiries of persons responsible for financial and
accounting matters. It is substantially less in scope than an audit conducted in
accordance with generally accepted auditing standards, the objective of which is
the expression of an opinion regarding the financial statements taken as a
whole. Accordingly, we do not express such an opinion.
Based on our review, we are not aware of any material modifications
that should be made to such condensed consolidated financial statements for them
to be in conformity with accounting principles generally accepted in the United
States of America.
We have previously audited, in accordance with auditing standards
generally accepted in the United States of America, the consolidated balance
sheet of INSpire Insurance Solutions, Inc. and subsidiary as of December 31,
1999, and the related consolidated statements of operations, shareholders'
equity and cash flows for the year then ended (not presented herein); and in our
report dated February 25, 2000, we expressed an unqualified opinion on those
consolidated financial statements. In our opinion, the information set forth in
the accompanying condensed consolidated balance sheet as of December 31, 1999 is
fairly stated, in all material respects, in relation to the condensed
consolidated financial statements from which it has been derived.
DELOITTE & TOUCHE LLP
Fort Worth, Texas
November 16, 2000
<PAGE>
ITEM 2.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Results of Operations
The following table sets forth, with respect to the Company and for the
periods indicated, the percentage of total revenues represented by certain
revenue, expense and income items:
<TABLE>
<CAPTION>
Three months ended Nine months ended
September 30, September 30,
---------------------- ---------------------
2000 1999 2000 1999
--------- -------- --------- --------
<S> <C> <C> <C> <C>
REVENUES:
Outsourcing services ............................. 85.9% 84.2% 89.4% 75.6%
Software and software services ................... 13.3 14.9 9.7 22.9
Other ............................................ 0.8 0.9 0.9 1.5
------- ------ ------- --------
Total revenues............................... 100.0 100.0 100.0 100.0
------- ------ ------- --------
EXPENSES:
Cost of outsourcing services, net................. 75.2 66.0 71.9 53.8
Cost of software and software services............ 4.2 13.7 5.3 14.8
Cost of other revenues............................ 0.1 0.5 0.3 0.9
Selling, general and administrative............... 8.9 15.0 8.9 13.3
Research and development, net..................... 2.6 3.0 2.2 2.6
Severance expense................................. 0.2 0.1 1.5 0.3
Depreciation and amortization..................... 6.9 6.4 6.3 6.7
Bad debt expense.................................. 0.7 29.0 0.2 10.4
Litigation expense................................ 0.5 3.3 0.2 1.2
Intangible assets impairment expense.............. 47.5 44.9 13.9 16.0
Other expense..................................... -- 2.1 -- 0.8
------- ------ ------- --------
Total expenses............................... 146.8 184.0 110.7 120.8
------- ------ ------- --------
OPERATING LOSS...................................... (46.8) (84.0) (10.7) (20.8)
OTHER INCOME ....................................... 0.5 0.8 0.5 1.1
------- ------ ------- --------
LOSS BEFORE INCOME TAX.............................. (46.3) (83.2) (10.2) (19.7)
INCOME TAX BENEFIT.................................. 14.8 28.7 3.0 6.3
------- ------ ------- --------
NET LOSS............................................ (31.5)% (54.5)% (7.2)% (13.4)%
======= ====== ======== ========
</TABLE>
Significant Developments
On October 19, 2000, The Robert Plan Corporation ("Robert Plan")
provided written notice to the Company of a number of alleged breaches by the
Company of its obligations under the Policy and Claims Services Agreement
("PCSA"), including the alleged failure of the Company to complete the
implementation of the Company's technology and conversion of data by the
specified deadline and failure to achieve and maintain service levels required
by the PCSA. Robert Plan advised the Company that in the event the enumerated
breaches were not cured by the specified cure period provided in the PCSA,
Robert Plan intended to terminate the PCSA and pursue the exercise of its rights
and remedies under the PCSA. Following the receipt of this letter, the Company
contacted Robert Plan in an effort to address the concerns raised by Robert Plan
with the objective of maintaining the PCSA and the related business
relationship. By letter dated November 14, 2000, Robert Plan has informed the
Company that it has rescinded its notification of the claimed breaches. The
Company and Robert Plan intend to jointly work towards resolving the issues
enumerated by Robert Plan in its October 19, 2000 default letter. While Robert
Plan has rescinded the notification of breach contained in the October 19
default letter, it has reserved its rights to declare a future breach of the
PCSA if the Company should fail to sufficiently address the concerns raised by
Robert Plan. As such, the failure of the Company to address these concerns could
result in a future default letter and attempt by Robert Plan to terminate the
PCSA, which could have a material adverse effect on the Company's financial
position and results from future operations.
During August 2000, the Company and Island Insurance terminated the
existing policy and claims outsourcing agreement (the "Island Agreement"). The
companies also executed transitional software license and services agreements.
Under the terms of these agreements, the Company recognized $1.5 million in
license fee revenue and approximately $500,000 for programming services provided
in the third quarter. As a result of these agreements, INSpire recorded
approximately $14.0 million of impairment charges related to intangible and
other assets associated with the Island Insurance policy and claims outsourcing
agreement and the closing of the Company's Pacific Service Center, which will
result in a decrease of future outsourcing revenues. For the nine months ended
September 30, 2000, the Company had $7.5 million of outsourcing services revenue
associated with the Island Agreement that will no longer continue.
On September 14, 2000, INSpire received written notice from Millers
American that Millers American will seek to sell three lines of business and
three other insurance program relationships will be terminated. These changes in
Millers American's business will reduce Millers American's need for policy
administration, claims administration and other services currently provided by
INSpire. If the Company does not replace these revenues or decrease expenses
proportional to the decline in revenue, this decrease in need will have a
material adverse impact on the Company's results of operations in the future.
Millers American is also seeking to renegotiate the terms of its agreement with
INSpire. Although INSpire is under no obligation to change the contract in any
way, it is uncertain at this time what the impact will be if the contract with
Millers American is renegotiated.
Comparison of the Three Months Ended September 30, 2000 and 1999
Revenues. Total revenues were $29.4 million for the three months ended
September 30, 2000 compared to $37.4 million for the three months ended
September 30, 1999, a decrease of $8.0 million or 21%. Revenues for the three
months ended September 30, 2000 include approximately $2.0 million in one-time
payments associated with the termination of the Island Agreement, discussed
above. Outsourcing services revenues were $25.3 million for the three months
ended September 30, 2000 compared to $31.5 million for the three months ended
September 30, 1999, a decrease of $6.2 million or 20%. The decrease in
outsourcing services revenue is due primarily to the termination of the policy
and claims outsourcing agreement with Island Insurance and contractual service
rate decreases on two contracts. On September 14, 2000, INSpire received written
notice from Millers American that Millers American will seek to sell three lines
of business and three other insurance relationship programs will be terminated.
These changes in Millers American's business will reduce Millers American's need
for policy administration, claims administration and other services currently
provided by INSpire. If the Company does not replace these revenues or decrease
expenses proportional to the decline in revenue, this decrease in need will have
a material adverse impact on the Company's results from operations. Millers
American is also seeking to renegotiate the terms of its agreement with INSpire.
Although INSpire is under no obligation to change the contract in any way, it is
uncertain at this time what the impact will be if the contract with Millers
American is renegotiated. For the three months ended September 30, 2000, the
Company had outsourcing services revenues of $5.7 million from Millers American,
and in light of the foregoing, uncertainty exists as to the future amount of
outsourcing services revenues that the Company can expect to receive from
Millers American. Software and software services revenues were $3.9 million for
the three months ended September 30, 2000 compared to $5.6 million for the three
months ended September 30, 1999, a decrease of $1.7 million or 30%. The decrease
in software and software services revenues is primarily attributable to the
decision the Company made in December 1999 to discontinue efforts directed
toward increasing licensed software packages and services in order to focus on
its outsourcing business. As a result of this decision there was no revenue
earned during the third quarter of 2000 related to the installation of Windows
into Property & Casualty System "WPC". This decrease in software and software
services revenue was partially offset due to the one-time $1.5 million license
fee revenue from the Island Agreement and license fees earned on the sale of
other software products.
Cost of Revenues. Cost of revenues, which is comprised mainly of
personnel costs, was $23.4 million for the three months ended September 30, 2000
compared to $30.0 million for the three months ended September 30, 1999, a
decrease of $6.6 million or 22%. Cost of outsourcing services was $22.1 million
for the three months ended September 30, 2000 compared to $24.6 million for the
three months ended September 30, 1999, a decrease of $2.5 million or 10%. This
decrease is primarily attributable to a decrease in equipment and data
processing costs as a result of the termination of the Island Agreement. Cost of
outsourcing services as a percentage of outsourcing services revenues increased
to 88% for the three months ended September 30, 2000 from 78% for the three
months ended September 30, 1999. This increase is primarily a result of the
contractual service rate decreases without a proportional decrease in the costs
incurred to provide outsourcing services under these contracts. Cost of software
and software services was $1.2 million for the three months ended September 30,
2000 compared to $5.1 million for the three months ended September 30, 1999, a
decrease of $3.9 million or 76%. This decrease is primarily attributable to the
decision to discontinue efforts directed toward increasing licensed software
packages and services resulting in there being no in-process installations of
WPC in the third quarter of 2000. Cost of software and software services as a
percentage of software and software services revenues decreased to 32% for the
three months ended September 30, 2000 from 92% for the three months ended
September 30, 1999. Margins in the third quarter of 2000 were positively
impacted by a $1.7 million increase of license fee revenue compared to the third
quarter of 1999, with no associated increase in costs.
Selling, General and Administrative. Selling, general and
administrative expenses were $2.6 million for the three months ended September
30, 2000 compared to $5.6 million for the three months ended September 30, 1999,
a decrease of $3.0 million or 54%. Selling, general and administrative expenses
as a percentage of total revenues decreased to 9% for the three months ended
September 30, 2000 from 15% for the three months ended September 30, 1999. This
decrease is due to the reduction of executive and administrative staff and a
decrease in travel, advertising and professional fees.
Research and Development. Research and development expense was $763,000
for the three months ended September 30, 2000 compared to $1.1 million for the
three months ended September 30, 1999, a decrease of $337,000 or 31%. This
decline is primarily due to a reduction of staff and consultants. Research and
development expense for the three months ended September 30, 2000 and 1999 is
net of capitalized software development costs of approximately $281,000 and
$294,000, respectively.
Depreciation and Amortization. Depreciation and amortization expense
was $2.0 million for the three months ended September 30, 2000 compared to $2.4
million for the three months ended September 30, 1999, a decrease of
approximately $400,000 or 17%. This decline is primarily due to the impairment
of intangible and other assets associated with the Island Agreement and the
closing of the Pacific Service Center in the third quarter of 2000.
Unusual Operating Expenses. Unusual operating expenses totaled $14.4
million for the quarter ended September 30, 2000 compared to $29.6 million for
the quarter ended September 30, 1999. During the third quarter 2000 the Company
recognized $14.4 million in charges primarily related to the termination of the
Island Insurance policy and claims outsourcing agreement. Unusual operating
expenses consist of: (i) $200,000 to increase the allowance for bad debts, (ii)
$163,000 of litigation expense and (iii) $14.0 million for the impairment of
intangible assets. During the comparable quarter of the prior year the Company
recognized $29.6 million in charges primarily related to the Company's
assessment of the recoverability of assets associated with its software
business. These charges consist of: (i) $10.8 million to increase the allowance
for bad debts, (ii) $1.2 million of litigation expense, (iii) $16.8 million for
the impairment of intangible assets and (iv) $804,000 in other charges.
Bad Debt Expense. In the normal course of business, INSpire provides
software, software services and outsourcing services in advance of receiving
payment for such products and services. Customers are invoiced in accordance
with the terms of their contracts with the Company. During the quarter ended
September 30, 2000, management assessed those accounts with significant past due
balances and recognized $200,000 of bad debt expense in response to that
assessment. During the same quarter of 1999, management took action relative to
specific software installation contracts that had significant past due balances
and ceased further work, pending resolution of the balances due under the terms
of the contracts. In response to this action the Company recognized $10.8
million of bad debt expense. The Company continues to vigorously pursue
collection of these accounts. However, management assessed the likelihood as
probable that these amounts would be uncollectible.
Litigation Expense. During the third quarter of 2000, the Company
incurred litigation expenses of $163,000 to defend lawsuits filed against the
Company. Litigation expenses of $1.2 million incurred during the third quarter
of 1999 included expenses associated with the collection of accounts receivable,
as well as penalties or settlements to be paid in connection with various
matters.
Intangible Asset Impairment. The Company recognized an impairment
charge in August 2000 of approximately $14.0 million for certain intangible and
other assets associated with the Island Insurance policy and claims outsourcing
agreement and the Pacific Service Center. The impairment charge was necessitated
by the termination of the Island Insurance policy and claims outsourcing
agreement and closing of the Pacific Service Center. During the third quarter of
1999 the Company recognized an impairment charge of $16.8 million for certain
intangible assets, including a substantial portion of the goodwill and software
acquired in the purchases of Strategic Data Systems, Inc. in March 1997 and
Paragon Interface, Inc. in April 1998, the software license associated with the
Company's agreement with Cover-All Systems, Inc. entered into in October 1997
and internally capitalized software development costs. The impairment was
necessitated by the Company's determination that future expected sales and cash
flows from the Company's software operations would be significantly lower than
previously expected.
Other Operating Expenses. Other operating expenses of $804,000 incurred
during the third quarter of 1999 represented the accrual of future payment
obligations under operating leases for fixed assets no longer in use by the
Company.
Other Income. Other income, consisting principally of investment
income, decreased to $159,000 for the three months ended September 30, 2000 from
$298,000 for the three months ended September 30, 1999. The decrease of
$139,000, or 47%, is due to a decrease in investments, primarily as a result of
liquidating these investments to fund operations and deferred contract costs.
Net Loss. Net loss was $9.3 million, or $.48 per diluted share ($.48
per basic share), for the three months ended September 30, 2000 compared to net
loss of $20.4 million, or $1.07 per diluted share ($1.07 per basic share), for
the three months ended September 30, 1999. Excluding the impact resulting from
the $14.0 million of impairment charges discussed above, net income would have
been approximately $200,000 or $.01 per diluted share ($.01 per basic share) for
the three months ended September 30, 2000. Excluding the impact resulting from
the $29.6 million nonrecurring operating expenses discussed above, net loss for
the three months ended September 30, 1999 would have been $871,000 or $.05 per
diluted share ($.05 per basic share).
Comparison of the Nine Months Ended September 30, 2000 and 1999
Revenues. Total revenues were $100.8 million for the nine months ended
September 30, 2000 compared to $105.0 million for the nine months ended
September 30, 1999, a decrease of $4.2 million or 4%. Revenues for the nine
months ended September 30, 2000 include approximately $2.0 million in one-time
payments associated with the termination of the Island Agreement, discussed
above. Outsourcing services revenues were $90.1 million for the nine months
ended September 30, 2000 compared to $79.3 million for the nine months ended
September 30, 1999, an increase of $10.8 million or 14%. The increase in
outsourcing services revenue compared to the same period of 1999 is due
primarily to revenue earned on three significant outsourcing agreements,
including the Island Agreement, that commenced during 1999. During August 2000,
the Company and Island Insurance terminated the existing policy and claims
outsourcing agreement. On September 14, 2000, INSpire received written notice
from Millers American that Millers American will seek to sell three lines of
business and three other insurance relationship programs will be terminated.
These changes in Millers American's business will reduce Millers American's need
for policy administration, claims administration and other services currently
provided by INSpire. If the Company does not replace these revenues or decrease
expenses proportional to the decline in revenue, this decrease in need will have
a material adverse impact on the Company's results from operations. Millers
American is also seeking to renegotiate the terms of its agreement with INSpire.
Although INSpire is under no obligation to change the contract in any way, it is
uncertain at this time what the impact will be if the contract with Millers
American is renegotiated. For the nine months ended September 30, 2000, the
Company had outsourcing services revenues of $19.0 million from Millers
American, and in light of the foregoing, uncertainty exists as to the future
amount of outsourcing services revenues that the Company can expect to receive
from Millers American. Software and software services revenues were $9.8 million
for the nine months ended September 30, 2000 compared to $24.1 million for the
nine months ended September 30, 1999, a decrease of $14.3 million or 59%. The
decrease in software and software services revenues is primarily attributable to
the decision the Company made in December 1999 to discontinue efforts directed
toward increasing licensed software packages and services in order to focus on
its outsourcing business resulting in fewer in-process installations of WPC
during the nine months ended September 30, 2000. This decrease in software and
software services revenue was partially offset due to the one-time $1.5 million
license fee revenue from the Island Agreement and license fees earned on the
sale of other software products.
Cost of Revenues. Cost of revenues, which is comprised mainly of
personnel costs, was $78.1 million for the nine months ended September 30, 2000
compared to $73.0 million for the nine months ended September 30, 1999, an
increase of $5.1 million or 7%. Cost of outsourcing services was $72.5 million
for the nine months ended September 30, 2000 compared to $56.5 million for the
nine months ended September 30, 1999, an increase of $16.0 million or 28%. This
increase is a result of increased staffing and equipment costs. Cost of
outsourcing services as a percentage of outsourcing services revenues increased
to 80% for the nine months ended September 30, 2000 from 71% for the nine months
ended September 30, 1999. This increase is a result of lower operating margins
during the initial phases of the new outsourcing contracts and contractual
service rate decreases without a proportional decrease in the costs incurred to
provide outsourcing services under these contracts. Cost of software and
software services was $5.4 million for the nine months ended September 30, 2000
compared to $15.5 million for the nine months ended September 30, 1999, a
decrease of $10.1 million or 65%. This decrease is primarily attributable to the
decision to discontinue efforts directed toward increasing licensed software
packages and services resulting in fewer in-process installations of WPC and
other software productivity tools during the nine months ended September 30,
2000. Cost of software and software services as a percentage of software and
software services revenues decreased to 55% for the nine months ended September
30, 2000 from 65% for the nine months ended September 30, 1999, as a result of
the change in the software revenue mix described above.
Selling, General and Administrative. Selling, general and
administrative expenses were $9.0 million for the nine months ended September
30, 2000 compared to $14.0 million for the nine months ended September 30, 1999,
a decrease of $5.0 million or 36%. Selling, general and administrative expenses
as a percentage of total revenues decreased to 9% for the nine months ended
September 30, 2000 from 13% for the nine months ended September 30, 1999. This
decrease is due to the reduction of executive and administrative staff, and a
decrease in travel, advertising and professional fees.
Research and Development. Research and development expense was $2.3
million for the nine months ended September 30, 2000 compared to $2.8 million
for the nine months ended September 30, 1999, a decrease of approximately
$500,000 or 18%. This decline is primarily due to a reduction of staff and
consultants. Research and development expense for the nine months ended
September 30, 2000 and 1999 is net of capitalized software development costs of
approximately $683,000 and $1.2 million, respectively.
Depreciation and Amortization. Depreciation and amortization expense
was approximately $6.4 million for the nine months ended September 30, 2000
compared to $7.0 million for the nine months ended September 30, 1999, a
decrease of approximately $600,000 or 9%. This decline is primarily due to the
impairment of intangible and other assets associated with the Island Agreement
and the closing of the Pacific Service Center.
Unusual Operating Expenses. Unusual operating expenses totaled $15.7
million for the nine months ended September 30, 2000 compared to $29.6 million
for the nine months ended September 30, 1999. During the nine months ended
September 30, 2000 the Company recognized $15.7 million in charges primarily
related to the termination of the Island Agreement and the separation of former
CEO, F. George Dunham, III from the Company. Unusual operating expenses consist
of: (i) $200,000 to increase the allowance for bad debts, (ii) $170,000 of
litigation expense, (iii) $14.0 million for the impairment of intangible assets
and (iv) $1.3 million of separation payments and related expenses of former CEO,
F. George Dunham III. During the comparable period of the prior year the Company
recognized $29.6 million in charges primarily related to the Company's
assessment of the recoverability of assets associated with its software
business. These charges consist of: (i) $10.8 million to increase the allowance
for bad debts, (ii) $1.2 million of litigation expense, (iii) $16.8 million for
the impairment of intangible assets and (iv) $804,000 in other charges.
Bad Debt Expense. In the normal course of business, INSpire provides
software, software services and outsourcing services in advance of receiving
payment for such products and services. Customers are invoiced in accordance
with the terms of their contracts with the Company. During the nine months ended
September 30, 2000, management assessed those accounts with significant past due
balances and recognized $200,000 of bad debt expense in response to that
assessment. During the same nine months of 1999, management took action relative
to specific software installation contracts that had significant past due
balances and ceased further work, pending resolution of the balances due under
the terms of the contracts. In response to this action the Company recognized
$10.8 million of bad debt expense. The Company continues to vigorously pursue
collection of these accounts. However, management assessed the likelihood as
probable that these amounts would be uncollectible.
Litigation Expense. During the nine months ended September 30, 2000,
the Company incurred litigation expenses of approximately $170,000 to defend
lawsuits filed against the Company. Litigation expense of $1.2 million incurred
during the nine months ended September 30, 1999 included expenses associated
with the collection of accounts receivable, as well as penalties or settlements
to be paid in connection with various matters.
Intangible Asset Impairment. The Company recognized an impairment
charge in August 2000 of approximately $14.0 million for certain intangible and
other assets associated with the Island Insurance policy and claims outsourcing
agreement and the Pacific Service Center. The impairment charge was necessitated
by the termination of the Island Agreement and the closing of the Pacific
Service Center. During September 1999 the Company recognized an impairment
charge of $16.8 million for certain intangible assets, including a substantial
portion of the goodwill and software acquired in the purchases of Strategic Data
Systems, Inc. in March 1997 and Paragon Interface, Inc. in April 1998, the
software license associated with the Company's agreement with Cover-All Systems,
Inc. entered into in October 1997, and internally capitalized software
development costs. The impairment was necessitated by the Company's
determination that future expected sales and cash flows from the Company's
software operations would be significantly lower than previously expected.
Other Operating Expenses. Other operating expenses of $804,000 incurred
during the nine months ended September 30, 1999 represented the accrual of
future payment obligations under operating leases for fixed assets no longer in
use by the Company.
Other Income. Other income, consisting principally of investment
income, decreased to $526,000 for the nine months ended September 30, 2000 from
$1.2 million for the nine months ended September 30, 1999. The decrease of
$674,000, or 56%, is due to a decrease in investments, primarily as a result of
liquidating these investments to fund operations and deferred contract costs.
Net Loss. Net loss was $7.2 million, or $.38 per diluted share ($.38
per basic share), for the nine months ended September 30, 2000 compared to net
loss of $14.1 million, or $.74 per diluted share ($.74 per basic share), for the
nine months ended September 30, 1999. Excluding the impact resulting from the
$14.0 million of impairment charges and $1.3 million charge, which relates to
the separation payments and related expenses of the former CEO, discussed above,
net income would have been approximately $3.0 million or $.16 per diluted share
($.16 per basic share) for the nine months ended September 30, 2000. Excluding
the impact resulting from the $29.6 million nonrecurring operating expenses
discussed above, net income for the nine months ended September 30, 1999 would
have been $5.4 million or $.27 per diluted share ($.27 per basic share).
Liquidity and Capital Resources
Cash, cash equivalents and investments totaled $13.4 million as of
September 30, 2000 compared to $17.7 million as of December 31, 1999, a decrease
of $4.3 million. The decrease is primarily attributable to (i) $10.4 million of
cash used for contract acquisitions and deferred contract costs, (ii) $1.7
million of cash used for purchases of property and equipment and (iii) $683,000
of cash used for capitalized research and development costs which were offset by
$8.3 million of net cash provided by operating activities.
The Company incurred negative net cash flows due to contract implementation
costs, declining revenues without a proportional decrease in expenses and
delayed collections on significant receivable balances. The Company may
experience material declines in future revenues due to the expected decline in
the Company's outsourcing business with Millers American and the termination of
the Island Agreeement. If the Company is unable to replace its declining
revenues, or to proportionately reduce its expenses, or continues to experience
delays in collection of receivables, the Company's liquidity will be adversely
affected. At our current rate of cash utilization, the Company has eight months
of cash on hand. The Company intends to seek outside financing to address its
potential cash needs. The Company's liquidity difficulties could increase with
the loss of any additional client such as the Robert Plan, as discussed in
"Significant Developments." There can be no assurance that the Company can
successfully manage its current liquidity requirements or obtain any such
additional financing.
Recently Issued Accounting Pronouncements
In June 1998, the Financial Accounting Standards Board ("FASB") issued
SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities"
("SFAS 133"). SFAS 133, as amended by SFAS No. 138, "Accounting for Derivative
Instruments and Certain Hedging Activities - an amendment of FASB Statement No.
133" ("SFAS 138"), is effective for fiscal years beginning after June 15, 2000.
SFAS 133 requires that all derivative instruments be recorded on the balance
sheet at their fair value. Changes in the fair value of derivatives are recorded
each period in current earnings or other comprehensive income, depending on
whether a derivative is designed as part of a hedge transaction and, if it is,
the type of hedge transaction. The Company does not expect that the adoption of
SFAS 133 and SFAS 138 will have a material impact on its financial statements
because the Company does not currently hold any derivative instruments.
In December 1999, the Securities and Exchange Commission issued Staff
Accounting Bulletin 101, "Revenue Recognition in Financial Statements" ("SAB
101"). SAB 101 is effective for the Company's financial statements no later than
the fourth quarter of fiscal year 2000. Effective with the beginning of the
fourth quarter of 2000, the Company adopted SAB 101 and there was no impact on
the Company's financial position, results of operations or cash flows.
Additionally, there were no changes to the revenue recognition policies of the
Company.
Disclosure Regarding Forward-Looking Statements
This Report on Form 10-Q contains or may contain forward-looking
statements within the meaning of Section 27A of the Securities Act of 1933, as
amended, and Section 21E of the Securities Exchange Act of 1934, as amended. All
statements made in this report, other than statements of historical fact,
including but not limited to statements made under "Management's Discussion and
Analysis of Financial Condition and Results of Operations" that relate to future
results and operations of the Company, and which may be indicated by words such
as "anticipate," "believe," "estimate," "expect," "intend" and similar
expressions, are forward-looking statements. Actual results could differ
materially from those contemplated by the forward-looking statements as a result
of certain factors, including but not limited to difficulties associated with
growth, the Company's dependence on major customers and limited operating
history, technological change, competitive factors and pricing pressures,
product development risks, changes in legal and regulatory requirements, and
general economic conditions. Such statements reflect the current views of the
Company with respect to future events and are subject to these and other risks,
uncertainties and assumptions relating to the operations, results of operations,
growth strategy and liquidity of the Company. All subsequent written and oral
forward-looking statements attributable to the Company or person acting on its
behalf are expressly qualified in their entirety by this paragraph.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
There have been no quantitative or qualitative changes with respect to
market risk exposure during the three months ended September 30, 2000.
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS.
In December 1997, the Company entered into a contract with Sul America
Cia Nacional de Seguros ("Sul America") to provide a license for WPC and other
software products, and software services for the implementation of such
products. In conjunction with this contract, the Company was required to arrange
a surety to provide Sul America with a performance bond in the amount of $3.7
million, the proceeds of which could be used in the event that INSpire did not
fulfill its obligations under the contract. The contract was segregated into
three phases of deliverables, two of which have been accepted and paid for in
the amount of $2.5 million by Sul America. In August 1999, Sul America
terminated its contract with the Company, and demanded payment under the
performance bond. Under its agreement to indemnify the surety against losses
under the performance bond allegedly caused by INSpire's default, the Company
arranged an irrevocable standby letter of credit in October 1999 with Bank of
America, N.A. in the amount of $3.7 million. On December 21, 1999, INSpire filed
a lawsuit in the 8th Civil Court of Rio de Janeiro (INSpire Insurance Solutions,
Inc. vs. Sul America Seguros S.A. and INA Seguradora S.A. (99.001.175.210-6))
requesting a preliminary injunction, which was granted in January 2000,
restricting the surety from paying $3.7 million to Sul America until a final
decision is rendered in the ordinary lawsuit to be filed. The case is now
entering the evidentiary phase. The Company intends to pursue collection of its
outstanding receivable balance of $1.2 million from Sul America and defend
itself against Sul America's claims that the Company failed to comply with the
terms of the contract. The ultimate outcome of this matter cannot presently be
determined.
On March 8, 1999, a lawsuit was filed in the United States District
Court - Northern District Court of California by California Family Foods, LLC
and Myers & Charter, Inc. ("California Family") (California Family Foods, LLC
and Myers & Charter, Inc. vs. Millers Mutual Fire Insurance Company ("Millers
Mutual") and INSpire Insurance Solutions, Inc., et. al. (S99-0445(MLS) (PAN)).
California Family is seeking approximately $1 million in damages for bad faith
and contract damages, plus a claim for unspecified punitive damages. Although
the outcome of this matter cannot presently be determined, INSpire believes that
it would be entitled to indemnification for this matter from Millers Mutual
under the Master Services Agreement between the parties and believes that the
outcome of this lawsuit will not have a material adverse effect on the Company's
business, financial condition, cash flows or results of operations.
On December 3, 1999, a shareholder class action lawsuit was filed in
the United States District Court for the Northern District of Texas on behalf of
all purchasers of the Company's Common Stock during the period between January
28, 1998 and October 14, 1999 (Southland Securities Corporation et. al. v.
Inspire Insurance Solutions, Inc. et. al. (7-99CV-243-R)). The named defendants
include the Company, certain officers and directors of the Company, and Millers
Insurance. The complaint alleges violations under Sections 10(b) and 20(a) of
the Securities Exchange Act of 1934 and Rule 10b-5 promulgated thereunder by
making false and misleading statements and failing to disclose material facts
necessary in order to make the statements made, in light of the circumstances
under which they were made, not misleading. The plaintiff seeks monetary damages
and interest. Two additional shareholder class action lawsuits, nearly identical
to the one described above, have been filed against the Company in the United
States District Court for the Northern District of Texas: Larry Altobell and
Lawrence J. Miller et. al. v. Inspire Insurance Solutions, Inc. et. al.
(7-99CV-248-R) filed on December 16, 1999, and Stacy B. and Rhonda K. Lofton et.
al. v. Inspire Insurance Solutions, Inc. et. al. (7-00CV-001-R) filed on January
3, 2000. The lawsuits were filed in the Wichita Falls Division. They have been
consolidated, lead plaintiffs and counsel have been appointed and the
consolidation action has been transferred to the Fort Worth Division. All
parties are currently in the process of discussing mediation of the matter,
which should occur during the first quarter of 2000. The Company intends to
defend these suits vigorously in all aspects. The Company, together with the
other defendants, has filed a motion to dismiss that is pending before the
court. The ultimate outcome of this matter cannot presently be determined.
In February 2000, a complaint was filed against INSpire, in the United
States District Court for the District of New Jersey-Newark No. 00-803. The
Plaintiff, Cover-All Systems, Inc. ("CSI"), is a developer, owner and licensor
of computer software programs. The complaint alleges that INSpire breached a
Software License & Support Services Agreement ("the Agreement") entered into in
October 1997. CSI seeks damages in excess of $1.5 million for unpaid support
payments claimed to be owed by the Company. INSpire has filed an Answer and has
alleged a counterclaim against CSI for breach of the Agreement and its duty of
good faith and fair dealing and is seeking recovery for an amount of $2.5
million that the Company previously paid to CSI. The discovery phase of the
lawsuit is almost complete. The ultimate outcome of this matter cannot presently
be determined.
On March 2, 2000 the Company filed an arbitration claim against The
Doctor's Company with the American Arbitration Association to collect $1,546,095
as the amount due to the Company under a License Agreement, Implementation
Support Agreement and Accelerated Enhancement Plan Agreement. On March 21, 2000,
The Doctor's Company submitted a claim for breach of contract against the
Company with the American Arbitration Association and filed suit against the
Company in the Superior Court of the State of California to compel arbitration
in California. On August 30, 2000, the Court denied the petition to compel
arbitration in California. The Doctor's Company arbitration claim alleges that
as a result of the Company's failure to meet obligations under its agreements
and that The Doctor's Company is entitled to the return of $912,507 previously
paid to the Company plus direct costs and consequential damages. In August 2000,
the American Arbitration Association consolidated the arbitration proceeding
filed by The Doctor's Company with the arbitration proceeding commenced by the
Company. The American Arbitration Association has determined that the hearing
locale will be in Fort Worth, Texas. A panel of arbitrators has been selected.
The Company intends to pursue collection of its outstanding receivable balance
and to vigorously defend the claim asserted by The Doctor's Company. The
ultimate outcome of this matter cannot presently be determined.
On June 13, 2000, a lawsuit was filed in the Superior Court of the
State of California for the County of San Diego by Western Family Insurance
Company, Inc. ("Western Family") (Western Family Insurance Company, Inc. vs.
Arrowhead General Insurance Agency, Inc., et. al. (GIC749525)). Western Family
is seeking approximately $4.0 million in damages for alleged breach of contract,
negligence, breach of fiduciary duty and express indemnity, plus a claim for
unspecified punitive damages. The allegations of this lawsuit are based on an
agency agreement by and between Arrowhead General Insurance Agency, Inc.
("Arrowhead") and Western Family and a claims management agreement by and
between Arrow Claims Management, Inc. (a subsidiary of Arrowhead) and Western
Family, each entered into in September 1996. INSpire purchased certain assets of
Arrowhead and the stock of Arrow Claims Management, Inc. in December 1998.
Although the outcome of this matter cannot presently be determined, INSpire
believes that it is entitled to indemnification for this matter from Arrowhead
based on a Guaranty Agreement, Outsourcing Agreement and Stock Purchase
Agreement between the parties and believes that the outcome of this lawsuit will
not have a material adverse effect on the Company's business, financial
condition, cash flows or results of operations.
On July 18, 2000, a lawsuit was filed in the Superior Court of the
State of California for the County of San Diego by Juan M. Alvarado and Irene
Alvarado ("Alvarado") (Alvarado et. al. vs. Clarendon National Insurance
Company, et. al. (GIC750651)). Alvarado is seeking $3.0 million in damages plus
punitive damages in this bad faith lawsuit involving an alleged denial of a
claim by Arrow Claims Management, Inc. and the subsequent handling of the claim.
Although the outcome of this matter cannot presently be determined, INSpire
believes that it is entitled to indemnification for this matter from Arrowhead
based on a Guaranty Agreement, Outsourcing Agreement and Stock Purchase
Agreement between the parties and believes that the outcome of this lawsuit will
not have a material adverse effect on the Company's business, financial
condition, cash flows or results of operations.
On August 22, 2000, a cross complaint was filed in the Superior Court
of the State of California for the County of Los Angeles by Clarendon National
Insurance Company ("Clarendon") (Clarendon National Insurance Company v. Nora
Sauceda, Louis Sauceda, David Garcia, Arrow Claims Management, Inc., et. al.
(BC199918)). Clarendon is seeking $3.0 million in reimbursement for a settlement
of a bad faith lawsuit for a claim denied and allegedly mishandled by Arrow
Claims Management, Inc. The allegations of this lawsuit are based on an agency
agreement by and between Arrowhead and Clarendon and a claims management
agreement by and between Arrow Claims Management, Inc. (a subsidiary of
Arrowhead) and Clarendon. INSpire purchased certain assets of Arrowhead and the
stock of Arrow Claims Management, Inc. in December 1998. Although the outcome of
this matter cannot presently be determined, INSpire believes that it is entitled
to indemnification for this matter from Arrowhead based on a Guaranty Agreement,
Outsourcing Agreement and Stock Purchase Agreement between the parties and
believes that the outcome of this lawsuit will not have a material adverse
effect on the Company's business, financial condition, cash flows or results of
operations.
From time to time the Company is involved in other lawsuits that it
considers to be in the ordinary course of business. The Company is not aware of
any other legal proceedings that it expects would have a material adverse effect
on the Company's business, financial condition, cash flows or results of
operations.
On October 19, 2000, The Robert Plan Corporation ("Robert Plan")
provided written notice to the Company of a number of alleged breaches by the
Company of its obligations under the Policy and Claims Services Agreement
("PCSA"), including the alleged failure of the Company to complete the
implementation of the Company's technology and conversion of data by the
specified deadline and failure to achieve and maintain service levels required
by the PCSA. Robert Plan advised the Company that in the event the enumerated
breaches were not cured by the specified cure period provided in the PCSA,
Robert Plan intended to terminate the PCSA and pursue the exercise of its rights
and remedies under the PCSA. Following the receipt of this letter, the Company
contacted Robert Plan in an effort to address the concerns raised by Robert Plan
with the objective of maintaining the PCSA and the related business
relationship. By letter dated November 14, 2000, Robert Plan has informed the
Company that it has rescinded its notification of the claimed breaches. The
Company and Robert Plan intend to jointly work towards resolving the issues
enumerated by Robert Plan in its October 19, 2000 default letter. While Robert
Plan has rescinded the notification of breach contained in the October 19
default letter, it has reserved its rights to declare a future breach of the
PCSA if the Company should fail to sufficiently address the concerns raised by
Robert Plan. As such, the failure of the Company to address these concerns could
result in a future default letter and attempt by Robert Plan to terminate the
PCSA, which could have a material adverse effect on the Company's financial
position and results from future operations.
ITEM 5. OTHER INFORMATION
On August 29, 2000, Mr. John F. Pergande was named to succeed R. Earl
Cox, III as Chief Executive Officer and Chairman of the Board of INSpire. Mr.
Cox will remain a member of the INSpire Board of Directors and Jeffrey W.
Robinson will continue as President, Chief Operations Officer and Director. Mr.
Pergande is also managing director of Buena Vista Associates (BVA), which holds
approximately 12.6% of the Company's outstanding common stock. Mr. Pergande is
also Chairman of InsureZone, a customer of the Company, which is approximately
42% owned by BVA. Prior to founding BVA, Mr. Pergande was Chairman and Chief
Financial Officer of Pyramid Services, a developer of insurance claims
processing software.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
(a) The following exhibits are filed as part of this Form 10-Q:
3.1 Restated Articles of Incorporation of the Company and
Articles of Amendment No. 1 thereto (Incorporated by
reference to Exhibit 3.1 of the Company's Registration
Statement on Form S-1, Registration No. 333-31173).
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. 333-31173).
3.3 Form of First Amendment to the Bylaws of the Company
(Incorporated by reference to Exhibit 3.3 of the Company's
Form 10-Q for the three months ended March 31, 1999 filed on
May 14, 1999).
3.4 Form of Second Amendment to the Bylaws of the Company
(Incorporated by reference to Exhibit 3.3 of the Company's
Form 8-K filed on March, 27 2000).
4.1 Specimen Certificate for shares of Common Stock of the
Company (Incorporated by reference to Exhibit 4.1 of the
Company's Registration Statement on Form S-1, Registration
No. 333-31173).
4.2 Form of Rights Agreement, by and between the Company and
U.S. Trust Company of Texas, N.A. dated as of July 30, 1997
(Incorporated by reference to Exhibit 4.2 of the Company's
Registration Statement on Form S-1, Registration No.
333-31173).
4.3 Form of First Amendment to Rights Agreement (Incorporated by
reference to Exhibit 4.3 of the Company's Form 10-Q for the
three months ended March 31, 1999 filed on May 14, 1999).
10.1 Employment agreement dated April 1, 2000 by and between the
Company and Jeffrey W. Robinson (Incorporated by reference
to Exhibit 10 of the Company's Form 10-Q for the three
months ended March 31, 2000 filed on May 12, 2000).
10.2 Employment Agreement dated July 1, 2000 by and between the
Company and Gordon L. Gaar (Incorporated by reference to
Exhibit 10.2 of the Company's Form 10-Q for the three months
ended June 30, 2000 filed on August 14, 2000).
10.3 Separation Agreement dated May 7, 2000 by and between the
Company and F. George Dunham, III (Incorporated by reference
to Exhibit 10.3 of the Company's Form 10-Q for the three
months ended June 30, 2000 filed on August 14, 2000).
11.1 Statement regarding Computation of Per Share Earnings.
15.1 Letter Re: Unaudited Interim Financial Information.
27.1 Financial Data Schedule (EDGAR version only).
(b) The Company did not file any reports on Form 8-K during the three
months ended September 30, 2000.
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, as
amended, the registrant has duly caused this report to be signed on its behalf
by the undersigned thereunto duly authorized.
Date: November 16, 2000
INSPIRE INSURANCE SOLUTIONS, INC.
/s/ JOHN F. PERGANDE
---------------------------------
John F. Pergande
Chief Executive Officer, Chairman,
Director and Principal Financial
Officer
<PAGE>
INDEX TO EXHIBITS
EXHIBIT
NUMBER DESCRIPTION
3.1 Restated Articles of Incorporation of the Company and Articles of
Amendment No. 1 thereto (Incorporated by reference to Exhibit 3.1 of
the Company's Registration Statement on Form S-1, Registration No.
333-31173).
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. 333-31173).
3.3 Form of First Amendment to the Bylaws of the Company (Incorporated by
reference to Exhibit 3.3 of the Company's Form 10-Q for the three
months ended March 31, 1999 filed on May 14, 1999).
3.4 Form of Second Amendment to the Bylaws of the Company (Incorporated by
reference to Exhibit 3.3 of the Company's Form 8-K filed on March 27,
2000).
4.1 Specimen Certificate for shares of Common Stock of the Company
(Incorporated by reference to Exhibit 4.1 of the Company's
Registration Statement on Form S-1, Registration No. 333-31173).
4.2 Form of Rights Agreement, by and between the Company and U.S. Trust
Company of Texas, N.A. dated as of July 30, 1997 (Incorporated by
reference to Exhibit 4.2 of the Company's Registration Statement on
Form S-1, Registration No. 333-31173).
4.3 Form of First Amendment to Rights Agreement (Incorporated by reference
to Exhibit 4.3 of the Company's Form 10-Q for the three months ended
March 31, 1999 filed on May 14, 1999).
10.1 Employment Agreement dated April 1, 2000 by and between the Company
and Jeffrey W. Robinson (Incorporated by reference to Exhibit 10 of
the Company's Form 10-Q for the three months ended March 31, 2000
filed on May 12, 2000).
10.2 Employment Agreement dated July 1, 2000 by and between the Company and
Gordon L. Gaar (Incorporated by reference to Exhibit 10.2 of the
Company's Form 10-Q for the three months ended June 30, 2000 filed on
August 14, 2000).
10.3 Separation Agreement dated May 7, 2000 by and between the Company and
F. George Dunham, III (Incorporated by reference to Exhibit 10.3 of
the Company's Form 10-Q for the three months ended June 30, 2000 filed
on August 14, 2000).
11.1 Statement regarding Computation of Per Share Earnings.
15.1 Letter Re: Unaudited Interim Financial Information.
27.1 Financial Data Schedule (EDGAR version only).
