<PAGE>
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(MARK ONE)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED
JUNE 30, 2000 OR
[ ] TRANSACTION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934.
FOR THE TRANSITION PERIOD FROM _________ TO _________.
COMMISSION FILE NUMBER
PENTEGRA DENTAL GROUP, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
<TABLE>
<S><C>
DELAWARE 76-0545043
(STATE OR OTHER JURISDICTION (I.R.S. EMPLOYER
OF INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)
2999 NORTH 44TH STREET, SUITE 650, PHOENIX, ARIZONA 85018
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE)
</TABLE>
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE (602) 952-1200
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 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 [ ]
The number of shares of Common Stock of the Registrant, par value $.001
per share, outstanding at August 10, 2000, was 10,307,998.
1
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FORM 10-Q REPORT INDEX
10-Q PART AND ITEM NO.
PART I - FINANCIAL INFORMATION PAGE
Item 1 - Consolidated Financial Statements (unaudited)
Consolidated Balance Sheets as of June 30, 2000 and
March 31, 2000......................................... 3
Consolidated Statements of Operations for the Three
Months Ended June 30, 2000, and June 30, 1999.......... 4
Consolidated Statement of Changes in Shareholders'
Equity as of June 30, 2000............................. 5
Consolidated Statements of Cash Flows for the Three
Months Ended June 30, 2000 and June 30, 1999........... 6
Notes to Consolidated Financial Statements ............ 7
Item 2 - Management's Discussion and Analysis of Financial
Condition and Results of Operations..................... 9
PART II - OTHER INFORMATION
Item 1 - Legal Proceedings..................................... 14
Item 2 - Change in Securities and use of Proceeds.............. 14
Item 3 - Defaults of Senior Securities......................... 14
Item 4 - Submission of Matters to a Vote of Security Holders... 14
Item 5 - Other Information..................................... 14
Item 6 - Exhibits and Reports on Form 8-K...................... 14
Signature...................................................... 15
2
<PAGE>
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
PENTEGRA DENTAL GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS)
<TABLE>
<CAPTION>
June 30, March 31,
2000 2000
-------------- -------------
(Unaudited)
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents $ 169 $ 553
Receivables from affiliated practices, net of allowance
for doubtful accounts of $2,153 and $3,269 respectively 2,553 2,966
Prepaid and other current assets 395 499
Notes receivable from Affiliated Practices - current, net 413 421
-------------- -------------
Total current assets 3,530 4,439
Property and equipment, net 5,480 6,886
Intangible assets, net 20,774 25,786
Notes receivable from Affiliated Practices, net 873 709
Other assets 81 86
-------------- -------------
Total assets $ 30,738 $ 37,906
============== =============
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Current portion of long term debt 1,343 492
Accounts payable and accrued liabilities 1,937 1,908
Accrued employment agreement 370 400
Current portion of capital leases 317 309
-------------- -------------
Total current liabilities 3,967 3,109
Long term debt, less current maturities 13,147 14,829
Capital lease liabilities 897 961
Commitment and contingencies
Shareholders' equity:
Common stock, $.001 par value 40,000,000 shares authorized, 10,820,783
issued 11 11
Additional paid-in capital 25,604 25,604
Accumulated deficit (11,940) (6,432)
Less: Treasury shares at cost 644,930 and 154,748 respectively (948) (176)
-------------- -------------
Total shareholders' equity 12,727 19,007
-------------- -------------
Total liabilities and shareholders' equity $ 30,738 $ 37,906
============== =============
</TABLE>
The accompanying notes are an integral part of the consolidated
financial statements.
3
<PAGE>
PENTEGRA DENTAL GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<TABLE>
<CAPTION>
Three Months Ended
June 30,
2000 1999
--------------- --------------
<S> <C> <C>
Net revenue $ 6,357 $ 12,449
Operating expenses:
Clinical salaries, wages and benefits 3,452 5,126
Dental supplies and lab fees 286 2,225
Rent 176 833
Advertising and marketing 33 269
General and administrative 1,817 1,005
Other operating expenses 192 1,554
Depreciation and amortization 5,583 532
--------------- --------------
Total operating expenses 11,539 11,544
Earnings (loss) from operations (5,182) 905
Interest expense 389 246
Interest income (54) (39)
Other income (9) -
--------------- --------------
Income (loss) before income taxes (5,508) 698
Income taxes - 279
--------------- --------------
Net (loss) income $ (5,508) $ 419
=============== ==============
Basic and diluted earnings (loss) per share $ (0.54) $ 0.05
=============== ==============
Weighted average number of share outstanding -
basic and diluted 10,175 9,103
=============== ==============
</TABLE>
The accompanying notes are an integral part of the consolidated
financial statements.
4
<PAGE>
PENTEGRA DENTAL GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF CHANGES IN SHAREHOLDERS' EQUITY
(UNAUDITED)
(IN THOUSANDS)
<TABLE>
<CAPTION>
Additional Total
Common Stock Paid-In Accumulated Treasury Shareholders'
Shares Amount Capital Deficit Stock Equity
----------- ------------ ------------- -------------- ------------- ----------------
<S> <C> <C> <C> <C> <C> <C>
Balances, March 31, 2000 10,821 $ 11 $ 25,604 $ (6,432) $ (176) $ 19,007
Shares repurchased - - - - (772) (772)
Net loss - - - (5,508) - (5,508)
----------- --- -------- --- --------- ---- --------- ---- -------- ----- ----------
Balances, June 30, 2000 10,821 $ 11 $ 25,604 $ (11,940) $ (948) $ 12,727
=========== === ======== === ========= ==== ========= ==== ======== ===== ==========
</TABLE>
The accompanying notes are an integral part of the consolidated
financial statements.
5
<PAGE>
PENTEGRA DENTAL GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS CASH FLOWS
(UNAUDITED)
(IN THOUSANDS)
<TABLE>
<CAPTION>
Three Months Ended
June 30,
2000 1999
-------------- -------------
<S> <C> <C>
Net cash provided by (used in) operating activities $ (211) $ 1,060
Cash flows from investing activities:
Capital expenditures (44) (390)
Acquisitions of Affiliated Practices, net of cash acquired - (849)
Issuance of notes receivable (12) -
Repayment of notes receivable 16 27
-------------- -------------
Net cash used in investing activities (140) (1,212)
-------------- -------------
Cash flows from financing activities:
Repayment of long-term debt (133) -
Proceeds from line of credit - 500
-------------- -------------
Net cash provided by (used in) financing activities (133) 500
-------------- -------------
Net change in cash and cash equivalents (384) 348
Cash and cash equivalents, beginning of period 553 1,047
-------------- -------------
Cash and cash equivalents, end of period $ 169 $ 1,395
============== =============
Supplemental disclosures of cash flow information:
Convertible subordinated notes offset against receivables from
Affiliated Practices $ 540 $ -
Conversion of receivables from Affiliated Practices to notes receivables $ 999 $ -
Treasury stock acquired for payment of receivable from Affiliated
Practices and purchase of property and equipment $ 772 $ -
Notes payable offset against future membership fees $ 214 $ -
</TABLE>
The accompanying notes are an integral part of the consolidated
financial statements.
6
<PAGE>
PENTEGRA DENTAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
1. ORGANIZATION AND BASIS OF PRESENTATION
Pentegra Dental Group, Inc. (the "Company") provides practice management
services to dental practices throughout the United States. As of June 30, 2000,
the Company managed 95 affiliated practices ("Affiliated Practices") in 29
states.
The unaudited consolidated financial statements included herein have been
prepared by the Company, 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 disclosures
herein are adequate to make the information not misleading, but do not purport
to be a complete presentation inasmuch as all note disclosures required by
generally accepted accounting principles are not included. In the opinion of
management, the consolidated financial statements reflect all elimination
entries and normal adjustments that are necessary for a fair presentation of the
results for the interim periods ended June 30, 2000 and 1999.
Fiscal operating results for interim periods are not necessarily indicative of
the results for full years. It is suggested that these consolidated financial
statements be read in conjunction with the financial statements of Pentegra
Dental Group, Inc., 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 year ended March 31, 2000, as filed with the SEC.
RECENT EVENTS, LIQUIDITY AND MANAGEMENT PLANS
In the third and fourth quarter of fiscal 2000, the Company announced that it
would be implementing a new business strategy to change the current practice
management business focus to an e-business strategy. A name change of the
Company to "E-DENTIST.COM" was approved by the Board of Directors in April,
2000. The name change will be submitted to a shareholder vote at the August 25,
2000 Annual Shareholders' Meeting.
Management has begun the development of a Business-to-Business Web site
focusing on the following on-line services:
1. E-LEARNING - Live and on-line interactive learning
2. DENTAL CAREERS - Employment opportunities for both employers and
employees
3. PRACTICE SERVICES - Payroll, human resources, practice enhancement,
patient financing, etc.
4. COMMUNITY - Dental and professional idea communication in chat rooms
and message boards
5. PURCHASING - Dental supplies and equipment purchasing from major
suppliers to all dentists
The Company has developed a Web site and executed various channel partnership
agreements with other entities to help provide the on-line services. In early
May 2000, the Company launched the first generation Web site and expects to
increase its functionality. The current focus of functionality is concentrated
toward revenue generation for the Company. The Company anticipates a substantial
portion of the Web site will be completed and operational by December 2000.
As of June 30, 2000, the Company modified 28 of its Management Service
Agreements and intends to modify a substantial portion of the remaining
Management Services Agreements, to a shorter term (from 25-40 year terms) of
five years, and decrease and fix the future monthly management fees. The new
service agreement will modify the type of services the Company will provide each
Affiliated Practice. The modification of the terms include the
7
<PAGE>
following:
1. The payroll and payables process will cease. All practice expenses will
be paid by the dentist and not reimbursed. All employees will become
employees of the dentists and payroll will be processed at the practice
level.
2. Management fees will be 90% of fiscal year 2000 fees and fixed for
three years, drawn weekly at the agreed upon fixed amount.
3. All accounts receivable currently will be paid, either in cash or by
signing a three-year, interest bearing note at 10%.
4. Assets and other equipment will be transferred back to the doctors at
the end of the amended management service agreement term, at a nominal
value.
Based on the management service agreements modified as of June 30,
2000, the Company has recorded a loss due to impairment of approximately $5.0
million for the quarter ended June 30, 2000. Based on the proposed modifications
of the remaining management services agreements that must be accepted by both
the Company and Affiliated Practice, the Company has prepared an analysis to
determine the recoverability of the management service agreement intangible
asset and fixed assets grouped at the practice level for which there are
identifiable cash flows. The Company has prepared the analysis by calculating
the expected undiscounted future cash flows under the proposed amendments to the
management service agreements, less the carrying amount of the intangible asset
and fixed assets has determined that the majority of the intangible asset and
fixed assets will be impaired. The Company will recognize an impairment charge
when and if its proposed modifications are accepted by the Affiliated Practice.
The amount of the additional impairment is estimated to be approximately $15.0
million if substantially all of the remaining Affiliated Practices accept the
proposed modifications, and will be recorded in the period in which the
management service agreements are amended. The period effected is anticipated to
be the quarter ending September 30, 2000.
During fiscal 2000, the Company incurred a net loss of approximately $5.4
million and had an accumulated deficit of $6.4 million at March 31, 2000. In
addition, the Company used cash flow from operations of $628,000 during the
period ending March 31, 2000. During the quarter ended June 30, 2000, the
Company incurred a net loss of approximately $5.5 million, and has an
accumulated deficit of $11.9 million at June 30, 2000. In addition, the Company
used cash flow from operations of $211,000 during the quarter ended June 30,
2000.
At July 14, 2000, Bank One, Texas, NA extended the terms of the credit facility
through July 31, 2001, and the Company paid $250,000 in principal to the bank.
The Company is required to make additional principal payment to the bank for any
amount it collects from its notes receivable during each quarter. In addition,
at the end of each quarter, the bank may receive an additional $50,000 principal
payment if the Company's cash balance exceeds $750,000 and if the bank has not
received at least $350,000 in principal payments from note receivable
collections. No additional borrowings are permitted under the amendment.
As discussed above, the bank credit facility due date has been extended to July
31, 2001. Based upon its current strategy to enhance cash collections and reduce
costs, the Company projects to have sufficient funds to meet its operating
capital requirements through the fiscal year ending March 31, 2001; however,
there would not be sufficient cash flow to fund the credit agreement obligations
due July 31, 2001. Management believes it will be able to replace the credit
facility with other financing alternatives or refinance its current line of
credit. There is no assurance that other financing or refinancing of its current
line of credit will be available in sufficient cash, if at all, and there can be
no assurance that the related terms and conditions will be acceptable to the
Company. Failure of the Company to obtain such alternative financing or
refinancing of its current line of credit would have a material and adverse
effect on the Company's financial position.
In order to increase its liquidity, the Company has developed the following
strategies; (i) suspension of its new practice affiliation program, (ii)
implement its revised eCommerce based strategic alternative described above,
(iii) implement more rigid credit policies with its Affiliated Practices, (iv)
consider terminating the services agreements of selected underperforming
Affiliated Practices, (v) reducing costs in the Company's corporate office, and
(v) raising additional capital. However, there can be no assurance that the
Company's strategy will be achieved.
8
<PAGE>
2. SIGNIFICANT ACCOUNTING POLICIES
EARNINGS PER SHARE
Earnings per share are computed based upon the weighted average number of shares
of Common Stock and Common Stock equivalents outstanding during each period.
Diluted earnings per share are not separately presented because such amounts
would be the same as amounts computed for basic earnings per share.
Outstanding options to purchase approximately 1,219,273 and 596,666 shares of
Common Stock at exercise prices above the market value of Common Stock were
excluded from the calculation of earnings per share for the three months ended
June 30, 2000 and 1999, respectively, because their effect would have been
antidilutive.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally accepted
accounting principles requires the use of estimates and assumptions by
management in determining the reported amounts of liabilities and disclosures of
contingent assets and liabilities at the date of the financial statements and
the reported amounts of expenses during the reporting period. Actual results
could differ from those estimates.
3. LEGAL PROCEEDINGS
In June 2000, the Company initiated proceedings against two practices in Texas
for their failure to pay management fees due. In response, these two practices
filed lawsuits in Harris County, Texas claiming breach of contract and State of
Texas securities violations. Management believes these claims are without merit
and is seeking dismissal of the lawsuits.
In December 1999, twelve former owners of certain dental practicies acquired by
the Company in March 1998 filed a lawsuit against the Company in 190th District
Court of Harris County, Texas. The lawsuit alleges that the Company committed a
breach of contract relating to services rendered in connection with the
management services aggreements. During the three month period ended June 30,
2000 ten of the twelve litigants settled their claims. The settlement require
the practices to pay $727,000 and return approximately 453,000 shares of Company
stock from their original consideration for the settlement of their accounts
receivable and purchase of their practice assets, and will pay a reduced
management fee until the expiration of their original five year employment term.
Subsequent to June 30, 2000 one of the two remaining litigants settled their
claim. The settlement requires the practice to pay $200,000 and return
approximately 36,000 shares of Company Stock from the original consideration for
the settlement of their accounts receivable and purchase of their assets, and
will pay a reduced management fee until the expiration of their original five
year employment term.
4. SUBSEQUENT EVENTS
In May 1999, two former employees of Omega Orthodontics, Inc. ("Omega") filed a
lawsuit against Omega in Superior Court of California for the County of Los
Angeles. One lawsuit alleged that certain members of Omega's management engaged
in conduct that could constitute sexual harassment. The second employee claim
alleged breach of an oral employment contract and certain claims of ownership
rights in Omega L.L.C., a shareholder of Pentegra. The Company believed that the
asserted claims are without merit. In July 2000, these suits were settled for an
immaterial amount.
At June 30, 2000, Pentegra owed a board member $100,000 plus accrued interest
related to an acquisition in connection with the Initial Public Offering in
March, 1998. The parties agreed to offset the amount owed to the board member
against future service fees to be earned during the current and two subsequent
fiscal years.
On August 9, 2000 the Company entered into an Asset Purchase Agreement with
Dexpo.com, Inc. The consideration for the purchased assets consists of 750,000
shares of Pentegra common stock with an additional 500,000 shares to be held in
escrow and paid contingent upon meeting certain performance criteria. The
Company expects this transaction to close before September 30, 2000.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
THE FOLLOWING DISCUSSION AND ANALYSIS CONTAINS CERTAIN FORWARD-LOOKING
STATEMENTS WITHIN THE MEANING OF THE PRIVATE SECURITIES LITIGATION REFORM ACT OF
1995. THESE STATEMENTS ARE BASED ON CURRENT PLANS AND EXPECTATIONS OF THE
COMPANY AND INVOLVE RISKS AND UNCERTAINTIES THAT COULD CAUSE ACTUAL FUTURE
ACTIVITIES AND RESULTS OF OPERATIONS TO BE MATERIALLY DIFFERENT FROM THAT SET
FORTH IN THE FORWARD-LOOKING STATEMENTS. IMPORTANT FACTORS THAT COULD CAUSE
ACTUAL RESULTS TO DIFFER INCLUDE, AMONG OTHERS, RISKS ASSOCIATED WITH
AFFILIATIONS, FLUCTUATIONS IN OPERATING RESULTS BECAUSE OF AFFILIATIONS AND
VARIATIONS IN STOCK PRICE, CHANGES IN GOVERNMENT REGULATIONS, COMPETITION, RISKS
OF OPERATIONS AND GROWTH OF EXISTING AND NEW AFFILIATED DENTAL PRACTICES, AND
RISKS DETAILED IN THE COMPANY'S SEC FILINGS.
9
<PAGE>
OVERVIEW
The Company provides practice management services to fee-for-service dental
practices in the United States. On March 30, 1998, the Company acquired
simultaneously with the closing of its initial public offering ("IPO"),
substantially all of the tangible and intangible assets, and assumed the
liabilities, of the 51 Founding affiliated practices. The Company also began to
provide practice management services to professional corporations or
associations owned by the dentist-owners of those affiliated practices (one of
which split into two separate dental practices immediately after the IPO)
pursuant to long-term management service agreements entered into at the time of
the Affiliations.
The expenses incurred by the Company in fulfilling its obligations under the
management service agreements will be generally of the same nature as the
operating costs and expenses that would have otherwise been incurred by the
affiliated practices, including salaries, wages and benefits of practice
personnel (excluding dentists and certain other licensed dental care
professionals), dental supplies and office supplies used in administering their
practices and the office (general and administrative) expenses of their
practices. In addition to the operating costs and expenses discussed above, the
Company incurs personnel and administrative expenses in connection with
maintaining a corporate office, which provides management, practice
enhancements, administrative and business development services.
RECENT EVENTS, LIQUIDITY AND MANAGEMENT PLANS
In the third and fourth quarter of fiscal 2000, the Company announced that it
would be implementing a new business strategy to change the current practice
management business focus to an e-business strategy. A name change of the
Company to "E-DENTIST.COM" was approved by the Board of Directors in April,
2000. The name change will be submitted to a shareholder vote at the August 25,
2000 Annual Shareholders' Meeting.
Management has begun the development of a Business-to-Business Web site
focussing on the following on-line services:
1. E-LEARNING - Live and on-line interactive learning
2. DENTAL CAREERS - Employment opportunities for both employers and
employees
3. PRACTICE SERVICES - Payroll, human resources, practice enhancement,
patient financing, etc.
4. COMMUNITY - Dental and professional idea communication in chat rooms
and message boards
5. PURCHASING - Dental supplies and equipment purchasing from major
suppliers to all dentists
The Company has developed a Web site and executed various channel partnership
agreements with other entities to help provide the on-line services. In early
May 2000, the Company launched the first generation Web site and expects to
increase its functionality. The current focus of functionality is concentrated
toward revenue generation for the Company. The Company anticipates a substantial
portion of the Web site will be completed and operational by December 2000.
As of June 30, 2000, the Company had modified 28 of its Management Service
Agreements and intends to modify a substantial portion of the remaining
Management Services Agreements, to a shorter term (from 25-40 year terms) of
five years, and decrease and fix the future monthly management fees. The new
service agreement will modify the type of services the Company will provide each
Affiliated Practice. The modification of the terms include the
10
<PAGE>
following:
1. The payroll and payables process will cease. All practice expenses will
be paid by the dentist and not reimbursed. All employees will become
employees of the dentists and payroll will be processed at the practice
level.
2. Management fees will be 90% of fiscal year 2000 fees and fixed for
three years, drawn weekly at the agreed upon fixed amount.
3. All accounts receivable currently will be paid, either in cash or by
signing a three-year, interest bearing note at 10%.
4. Assets and other equipment will be transferred back to the doctors at
the end of the amended management service agreement term, at a nominal
value.
Based on the management service agreements modified as of June 30, 2000, the
Company has recorded a loss due to impairment of approximately $5.0 million for
the quarter ended June 30, 2000. Based on the proposed modifications of the
remaining management services agreements which were not complete prior to June
30, 2000, the Company has prepared an analysis to determine the recoverability
of the management service agreement intangible asset and fixed assets grouped at
the practice level for which there are identifiable cash flows for the remaining
unmodified contracts. The Company has prepared the analysis by calculating the
expected undiscounted future cash flows under the proposed amendments to the
management service agreements, less the carrying amount of the intangible asset
and fixed assets and has determined that the majority of the intangible asset
and fixed assets will be impaired. The Company will recognize an impairment
charge when and if its proposed modifications are accepted by the Affiliated
Practice for the remaining unmodified contracts. The amount of the additional
impairment is estimated to be approximately $15.0 million if substantially all
of the remaining Affiliated Practices accept the proposed modifications, and
will be recorded in the period in which the management service agreements are
amended. The period effected is anticipated to be the quarter ending September
30, 2000.
During fiscal 2000, the Company incurred a net loss of approximately $5.4
million and had an accumulated deficit of $6.4 million at March 31, 2000. In
addition, the Company used cash flow from operations of $628,000 during the
period ending March 31, 2000. During the quarter ended June 30, 2000, the
Company incurred a net loss of approximately $5.5 million, and has an
accumulated deficit of $11.9 million at June 30, 2000. In addition, the Company
used cash flow from operations of $211,000 during the quarter ended June 30,
2000.
At July 14, 2000, Bank One, Texas, NA extended the terms of the credit facility
through July 31, 2001, and the Company paid $250,000 in principal to the bank.
The Company is required to make additional principal payment to the bank for any
amount it collects from its notes receivable during each quarter. In addition,
at the end of each quarter, the bank may receive an additional $50,000 principal
payment if the Company's cash balance exceeds $750,000 and if the bank has not
received at least $350,000 in principal payments from note receivable
collections. No additional borrowings are permitted under the amendment.
As discussed above, the bank credit facility due date has been extended to July
31, 2001. Based upon its current strategy to enhance cash collections and reduce
costs, the Company projects to have sufficient funds to meet its operating
capital requirements through the fiscal year ending March 31, 2001; however,
there would not be sufficient cash flow to fund the credit agreement obligations
due July 31, 2001. Management believes it will be able to replace the credit
facility with other financing alternatives or refinance its current line of
credit. There is no assurance that other financing or refinancing of its current
line of credit will be available in sufficient cash, if at all, and there can be
no assurance that the related terms and conditions will be acceptable to the
Company. Failure of the Company to obtain such alternative financing or
refinancing of its current line of credit would have a material and adverse
effect on the Company's financial position.
In order to increase its liquidity, the Company has developed the following
strategies; (i) suspension of its new practice affiliation program, (ii)
implement its revised eCommerce based strategic alternative described above,
(iii) implement more rigid credit policies with its Affiliated Practices, (iv)
consider terminating the services agreements of selected underperforming
Affiliated Practices, (v) reducing costs in the Company's corporate office, and
(v) raising additional capital. However, there can be no assurance that the
Company's strategy will be achieved.
11
<PAGE>
RESULTS OF OPERATIONS (UNAUDITED)
Following completion of the IPO on March 30, 1998, the Company began operations
effective April 1, 1998. Management service fee recognition and related expenses
began April 1, 1998, and the Company began managing 51 dental practices in 18
states. At June 30, 2000, the Company managed 95 practices in 29 states.
COMPONENTS OF REVENUES AND EXPENSES
Under the terms of the original management services agreement with an affiliated
practice, the Company serves as the exclusive manager and administrator of all
non-dental services relating to the operation of an affiliated practice. The
obligations of the Company include assuming responsibility for the operating
expenses incurred in connection with managing the dental centers. These expenses
include salaries, wages and related costs of non-dental personnel, dental
supplies and laboratory fees, rental and lease expenses, promotion and marketing
costs, management information systems and other operating expenses incurred at
the affiliated practices. In addition, the Company incurs general and
administrative expenses related to the financial and administrative management
of dental operations, insurance, training and development and other typical
corporate expenditures. As compensation for its services under the typical
services agreement and subject to applicable law, the Company is paid a
management fee comprised of two components: (1) the costs incurred by it on
behalf of the affiliated practice, and (2) a management fee either fixed in
amount, an amount usually approximating 35% of the affiliated practice's
operating profit, before dentist compensation or 15% of the Affiliated
practice's collected gross revenue ("Service Fee"). Therefore, net revenues
represent amounts earned by the Company under the terms of its management
services agreements with the Affiliated Practices, which generally equate to the
sum of the Service Fees and the operating expenses that the affiliated practices
paid to the Company under the service agreements.
The Company is embarking upon a new strategy focusing on eCommerce in dentistry.
Prior to the transition toward eCommerce, Pentegra processed all payments to
vendors and employed the team members of Affiliated Practices. The expected
modified Management Service Agreements will cause the team members to cease
working as employees for Pentegra Dental Group, Inc., and they will become
employees of the individual Affiliated Practices. In addition, processing of
payments to practice vendors will be performed at the practice level, by
practice employees. Pentegra will no longer be reimbursed for expenses paid on
the practices' behalf. As a result, the components of Net Revenues will change
and Net Revenues will decrease significantly with the new proposed management
service agreements.
NET REVENUE
Net revenue generated for the three months ended June 30, 2000 and 1999 were
approximately $6.4 million and $12.4 million, respectively. The decrease in net
revenue is because the Company modified 28 Management Service Agreements during
the three months ended June 30, 2000.
OPERATING EXPENSES
The Company incurred operating expenses of approximately $11.5 million for the
three months ended June 30, 2000 and 1999, respectively. Operating expenses
consisted primarily of salaries, wages and benefits, dental supplies and
laboratory fees, rent, advertising and marketing, depreciation and amortization,
and general and administrative expenses.
General and administrative expenses consist of the corporate expenses of the
Company. These corporate expenses include salaries, wages and benefits, rent,
bad debt expenses, consulting fees, travel (primarily related to practice
development), office costs and other general corporate expenses. For the three
months ended June 30, 2000, general and administrative expenses were
approximately $1.8 million, which represented 28.6% of net revenues. For the
three months ended June 30, 1999, general and administrative expenses were
approximately $1.0 million, representing about 8.1% of net revenues. General and
administrative expenses increased as a percentage of net revenues primarily due
to the reduction in recorded net revenues related to the shifting of account
payables and payroll to the dental practices. Additionally, there was an
increase in bad debt expenses of approximately $270,000, and professional fees
of approximately $150,000 for the quarter ended June 30, 2000 over the same
quarter in 1999.
INCOME TAX EXPENSE
Income tax expense for the three months ended June 30, 2000 and 1999 totaled $0
and $279,000, or 0% and 40%, respectively, of income (loss) before income taxes.
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For the three months ended June 30, 2000, the Company recorded a valuation
allowance for its entire deferred tax asset of $1.6 million because it concluded
it is not likely it would be able to recognize the tax asset due to the lack of
operating history of its implementation of the e-business plan, modification of
its management service agreements and maturity of its line of credit on July 31,
2001. At June 30, 2000, the Company has a net deferred tax asset of $4.8 million
with a corresponding valuation allowance. The Company also has $6.1 million of
available deductions related to the increase in tax basis of the assets acquired
in the Affiliations.
LIQUIDITY AND CAPITAL RESOURCES
At June 30, 2000 the Company had a working capital deficit of approximately
$400,000. Current assets included approximately $169,000 in cash and $2.6
million in net accounts receivable, due from Affiliated Practices. At June 30,
2000 current liabilities consisted of approximately $1.9 million in accounts
payable and accrued liabilities. Included in the current portion of long term
debt is approximately $900,000 of anticipated payments on the line of credit.
On June 1, 1998 the Company closed a revolving bank credit facility with Bank
One, Texas, N.A., which provided the Company with a revolving line of credit of
up to $15.0 million, to be used for general corporate purposes including
financing of acquisitions, capital expenditures and working capital. The credit
facility is collateralized by liens on certain of the Company's assets,
including its rights under the management service agreements and accounts
receivable. The credit facility contains restrictions on the incurrence of
additional indebtedness and payment of dividends on the Common Stock.
Additionally, compliance with certain financial covenants is required and the
lender has approval rights with respect with acquisitions exceeding certain
limits. At June 30, 2000, $10.1 million was outstanding under the revolving line
of credit.
At July 14, 2000, Bank One, Texas, NA extended the terms of the credit facility
through July 31, 2001, and the Company paid $250,000 in principal to the bank.
The Company is required to make additional principal payment to the bank for any
amount it collects from its notes receivables during each quarter. In addition,
at each quarter, the bank may receive an additional $50,000 principal payment if
the Company's cash balance exceeds $750,000 and if the bank has not received at
least $350,000 in principal payments from note receivable collections. The
Company has prepared financial projections for the periods through fiscal year
ended March 31, 2001, and believes they will be in compliance with the financial
covenants. No additional borrowings are permitted under the amendment.
As discussed above, the bank credit facility due date has been extended to July
31, 2000. Currently, management projects the Company does not have financial
cash flow from operations to meet this payment. Management believes it will be
able to replace the credit facility with other financing alternatives or
refinance its current line of credit. There is no assurance that other financing
will be available in sufficient amounts, if at all, and there can be no
assurance that the related terms and conditions will be acceptable to the
Company. Failure of the Company to obtain such alternative financing would have
a material and adverse effect on the Company's financial position.
Cash used in investing activities for the three months ended June 30, 2000 and
1999 included approximately $44,000 and $390,000, respectively, for purchases of
capital equipment and $0 and $849,000 million, respectively, for the purchase of
intangibles associated with new practice affiliations.
Cash used in financing activities for the three-month period ended June 30, 2000
included payments on the Company's long term debt and capital leases of
$133,000. Cash generated from financing activities for the three-month period
ended June 30, 1999 was draws on the revolving line of credit of $500,000.
SUBSEQUENT EVENTS
In May 1999, two former employees of Omega Orthodontics, Inc. ("Omega") filed a
lawsuit against Omega in Superior Court of California for the County of Los
Angeles. One lawsuit alleged that certain members of Omega's management engaged
in conduct that could constitute sexual harassment. The second employee claim
alleged breach of an oral employment contract and certain claims of ownership
rights in Omega L.L.C., a shareholder of Pentegra. The Company believed that the
asserted claims are without merit. In July 2000, these suits were settled for an
immaterial amount.
At June 30, 2000, Pentegra owed a board member $100,000 plus accrued interest
related to an acquisition in connection with the Initial Public Offering in
March, 1998. The parties agreed to offset the amount owed to the board member
against future service fees to be earned during the current and two subsequent
fiscal years.
On August 9, 2000 the Company entered into an Asset Purchase Agreement with
Dexpo.com, Inc. The consideration for the purchased assets consists of 750,000
shares of Pentegra common stock with an additional 500,000 shares to be held in
escrow and paid contingent upon meeting certain performance criteria. The
Company expects this transaction to close before September 30, 2000.
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PART II
ITEM 1. LEGAL PROCEEDINGS
In June 2000, the Company initiated proceedings against two practices in Texas
for their failure to pay management fees due. In response, these two practices
filed lawsuits in Harris County, Texas claiming breach of contract and State of
Texas securities violations. Management believes these claims are without merit
and is seeking dismissal of the lawsuits.
In December 1999, twelve former owners of certain dental practices acquired by
the Company in March 1998 filed a lawsuit against the Company in 190th District
Court of Harris County, Texas. The lawsuit alleges that the Company committed a
breach of contract relating to services rendered in connection with the
management services agreements. During the three month period ended June 30,
2000, ten of the twelve litigants settled their claims. The settlement required
the practices to pay $727,000 and return approximately 453,000 shares of Company
stock from their original consideration for the settlement of their accounts
receivable and purchase of their practice assets and will pay a reduced
management fee until the expiration of their original five year employment term.
Subsequent to June 30, 2000, one of the two remaining litigants settled their
claim. The settlement requires the practice to pay $200,000 and return
approximately 36,000 shares of Company stock from the original consideration for
the settlement of their accounts receivable and purchase of their practice
assets, and will pay a reduced management fee until the expiration of their
original five year employment term.
ITEM 2. CHANGE IN SECURITIES AND USE OF PROCEEDS - none
ITEM 3. DEFAULTS OF SENIOR SECURITIES - none
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS - none
ITEM 5. OTHER INFORMATION - none
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
27.1 Financial Data Schedule.
(b) Reports on Form 8-K
None
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SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant, Pentegra Dental Group, Inc., has duly caused this report to be
signed on its behalf by the undersigned, thereunto duly authorized.
PENTEGRA DENTAL GROUP, INC.
Dated: August 14, 2000
/s/ Sam H. Carr
-----------------------------------
By: Sam H. Carr
Sr. Vice President - Chief Financial Officer
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