UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
ANNUAL REPORT
PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 1999 COMMISSION FILE NUMBER
0-12050
SAFEGUARD HEALTH ENTERPRISES, INC.
(Exact name of registrant as specified in its charter)
DELAWARE 52-1528581
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
95 ENTERPRISE
ALISO VIEJO, CALIFORNIA 92656
(Address of principal executive offices) (Zip Code)
949.425.4300
(Registrant's telephone number, including area code)
949.425.4586
(Registrant's fax telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
NONE
Securities registered pursuant to Section 12(g) of the Act:
COMMON STOCK, $0.01 PAR VALUE
NONE
(Name of exchange on which listed)
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 [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [X]
The aggregate market value of the voting stock held by non-affiliates of the
registrant as of March 15, 2000, was $5,033,804.
The number of shares of the registrant's common stock outstanding as of March
31, 2000, was 4,747,498 (not including 3,247,788 shares held in treasury).
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SAFEGUARD HEALTH ENTERPRISES, INC.
1999 ANNUAL REPORT ON FORM 10-K
TABLE OF CONTENTS
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PART I 1
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ITEM 1. BUSINESS 1
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ITEM 2. PROPERTIES 18
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ITEM 3. LEGAL PROCEEDINGS 18
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ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS 18
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PART II 19
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ITEM 5. MARKET FOR THE REGISTRANT'S COMMON STOCK AND RELATED
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STOCKHOLDER MATTERS 19
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ITEM 6. SELECTED FINANCIAL DATA 20
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ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
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CONDITION AND RESULTS OF OPERATIONS 21
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ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK 26
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ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA 26
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ITEM 9. CHANGES IN AND DISAGREEMENTS WITH INDEPENDENT ACCOUNTANTS
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ON ACCOUNTING AND FINANCIAL DISCLOSURE 26
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PART III 26
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ITEM 10. DIRECTORS AND/OR EXECUTIVE OFFICERS OF THE COMPANY 26
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ITEM 11. EXECUTIVE COMPENSATION 30
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ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT 30
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ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS 33
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PART IV 33
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ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K 33
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SIGNATURES 34
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(i)
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PART I
ITEM 1. BUSINESS
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In addition to historical information, the description of business below
includes certain forward-looking statements regarding SafeGuard Health
Enterprises, Inc. (the "Company"), including statements about growth plans,
business strategies, future operating results and financial position, and
general economic and market events and trends. The Company's actual results of
operations for future periods could differ materially from the results indicated
in the forward-looking statements as a result of various events that cannot be
predicted at this time. Those possible events include an increase in
competition, changes in health care regulations, an increase in dental care
utilization rates, new technologies, an increase in the cost of dental care, the
inability to efficiently integrate the operations of acquired businesses, the
inability to realize the carrying value of certain assets of dental and
orthodontic practices, the inability to collect payments due under certain
long-term promissory notes, the inability to obtain waivers and/or maturity date
extensions from lenders, the inability to obtain regulatory approvals for the
conversions of debt to equity that were contemplated in the transaction
completed on March 1, 2000, and other risks and uncertainties as described below
under "RISK FACTORS." The following should be read in conjunction with the
Consolidated Financial Statements of the Company and Notes thereto.
(A) GENERAL DEVELOPMENT OF BUSINESS
The Company, a Delaware corporation, provides managed care dental plans,
indemnity dental plans, vision benefit plans, administrative services, and
preferred provider organization services. The Company conducts its business
through several subsidiaries, one of which is an insurance company that is
licensed in several states, and several of which are managed dental care plans
that are each licensed in the state in which it operates. The Company's
operations are primarily in California, Colorado, Florida, Missouri and Texas,
but it also operates in several other states.
The Company's predecessor, SafeGuard Health Plans, Inc., a California
corporation, (the "California Plan") commenced operations in 1974 as a nonprofit
corporation. The California Plan converted to for-profit status in December 1982
and is currently a subsidiary of the Company. The Company was incorporated in
California in November 1982 and acquired the California Plan in December 1982.
In August 1987 the Company reincorporated in Delaware. Unless the context
requires otherwise, all references to the "Company" or "SafeGuard" mean
SafeGuard Health Enterprises, Inc. and its subsidiaries.
The Company completed four acquisitions during the past several years, which
account for a significant portion of the Company's current operations. In
September 1992, the Company acquired a California life insurance company and
used this entity to begin offering indemnity dental plans to its customers. In
August 1996, the Company acquired a managed dental care company located in
Texas, which had approximately $12 million of annual revenue at the time of the
acquisition. In May 1997, the Company acquired a managed dental care company
located in Florida, which had approximately $7 million of annual revenue at the
time of the acquisition. In August 1997, the Company acquired another insurance
company, which had no active business but was licensed in several states in
which the Company was not previously licensed.
In October 1996 the Company implemented a strategic plan to sell all of the
general dental practices owned by the Company. Four of the general dental
practices were sold during 1996, and the remaining practices were sold during
the first nine months of 1997. All of the practices were sold for consideration
that consisted of long-term promissory notes. In September 1997 several of the
general dental practices were sold to a single purchaser (the "Purchaser") in
exchange for $8.0 million of long-term promissory notes. In April 1998 the
Company also sold all of its orthodontic practices to the Purchaser in exchange
for $15.0 million of long-term promissory notes. During 1997 and 1998, four of
the general dental practices that were sold to other entities were also
transferred to the Purchaser by those entities, in exchange for assumption of
the related promissory notes by the Purchaser. At the time of these transfers,
the total outstanding principal balance under the related promissory notes was
$1.9 million. During 1997 and 1998 the Company loaned a total of $1.6 million to
the Purchaser, which was used by the Purchaser for working capital purposes.
Due to uncertainty about the Purchaser's ability to meet its commitments under
the above-described promissory notes from sources other than the operations of
the discontinued dental and orthodontic practices, the Company has not treated
the sale transactions with the Purchaser as sales for accounting purposes.
Accordingly, the related promissory notes are not reflected in the Company's
consolidated financial statements. Instead, the historical cost of the net
assets of the related dental and orthodontic practices, less the amount of
payments received from the Purchaser, are reflected on the Company's balance
sheet under the caption "Assets of discontinued operations transferred under
contractual arrangements." The carrying value of the promissory notes related to
the dental practices that were transferred to the Purchaser by other purchasers
was reduced to the historical cost of the net assets of the related dental
practices. The historical cost of these net assets is also reflected on the
Company's balance sheet under the caption "Assets of discontinued operations
transferred under contractual arrangements." The working capital loans were
fully reserved at the time the loans were made by the Company.
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During 1999, the Company reached an oral agreement with the Purchaser and
another third party (the "New Purchaser"), under which all the promissory notes
issued to the Company by the Purchaser (the "Notes") would be liquidated. Under
this agreement, the Purchaser would convey the dental and orthodontic practices
that comprise the collateral for the Notes to the New Purchaser, in exchange for
proceeds that would be paid to the Company in satisfaction of the Notes. Based
on this agreement, the Company recorded a $6.5 million charge to earnings during
the nine months ended September 30, 1999, to reduce the carrying value of the
net assets of the related dental and orthodontic practices to their estimated
net realizable value. During March 2000, the Company entered into a definitive
agreement with respect to this transaction, which is currently pending
regulatory approval.
The Company's executive offices are located at 95 Enterprise, Aliso Viejo,
California 92656. Its telephone number is 949.425.4300 and its fax number is
949.425.4586.
DENTAL CARE MARKETPLACE
According to the United States Office of National Health Statistics, the total
expenditures for dental care in the United States grew from approximately $14
billion in 1980 to an estimated $48 billion in 1996. The United States Health
Care Financing Administration reports that expenditures for dental services
account for approximately 5% of total national health care expenditures.
According to the United States Department of Labor ("DOL"), the cost of dental
services has been rising at a rate higher than that for consumer goods as a
whole. The DOL statistics show that from 1982 to 1998, the consumer price index
for dental services for all urban consumers increased by 136%, while the index
for all items increased by 63%. As a result, the Company believes there has been
an increase in employers' interest in effectively managing dental care costs.
Employer-sponsored dental benefits are one of the most common employee benefits.
The National Association of Dental Plans ("NADP") estimates that approximately
147 million people, or approximately 55% of the total population of the United
States, were covered by some type of dental benefit plan at the end of 1997. The
NADP estimates that enrollment in managed dental care plans ("dental HMOs") has
grown from 18 million covered lives in 1994 to approximately 26 million covered
lives at the end of 1997. This compares to over 50 million Americans who were
enrolled in medical HMOs in 1997, according to the Group Health Association of
America. The Company believes that the relatively high growth rate for dental
HMOs is attributable to greater acceptance of managed care by employers and
employees, a significant price advantage over traditional indemnity dental
insurance plans, and greater acceptance of dental HMOs by dentists, resulting in
improved accessibility and convenience for members. At the end of 1997, members
of dental HMOs represented approximately 18% of the total population with dental
coverage, and approximately 10% of the total United States population.
According to the 1995 Foster Higgins Survey of Employee Sponsored Health Plans,
approximately 89% of employers with more than 500 employees offer some type of
dental coverage to employees, and approximately 79% of these employers offer a
stand-alone dental plan that is separate from other health care coverage offered
to employees. This survey also reported that only approximately 54% of employers
with less than 500 employees offer dental coverage to their employees. About 62%
of all employers who offer dental coverage offer stand-alone dental plans. The
Company believes that many employers in the small to mid-size range that do not
offer dental benefits would be willing to offering a cost-effective plan,
particularly if the employee pays a portion of the cost of the plan through
payroll deductions.
The dental HMO industry is characterized by participation of several large,
national insurance companies and numerous independent organizations. As of
December 31, 1996, the NADP estimated that there were over 150 dental HMO
companies in the United States, with no dominant market leader.
During the last two decades, the increase in the number of dentists in the
United States has exceeded the general population growth. According to the
American Dental Association ("ADA"), the number of practicing dentists per
100,000 individuals in the United States has increased from 53 in 1980 to 60 in
1991. In addition, the dental care industry is highly fragmented with
approximately 96% of all practicing dentists working in a one or two-dentist
office, according to the ADA. According to a survey of dental practices
published by Dental Economics in 1994, the median amount of employee payroll and
other overhead expenses incurred by solo and group dental practices was
approximately 60% of gross revenue. The significant increase in the number of
dentists per capita, the highly fragmented dental care industry, the high
proportion of overhead costs for dentists, and an improved level of overall
dental health in the United States, has created a highly competitive environment
among dentists. The Company believes there is a significant vacancy rate in the
average dentist's office in major metropolitan areas. These factors have
contributed to an increase in the willingness of qualified dentists to
participate in dental HMO and preferred provider organization networks, such as
those maintained by the Company, as dentists seek alternative methods of
increasing practice revenues.
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The average monthly cost of dental coverage is much lower than that of medical
coverage. The utilization rate for dental services is also more predictable than
that for medical services, and dental coverage generally does not cover
catastrophic risks. Dental care is provided almost exclusively on an outpatient
basis, and according to a 1990 ADA survey, general dentists perform over 81% of
all dental services. Dental benefit plans generally do not include coverage for
hospitalization, which is typically the most expensive component of medical
services.
Common features of dental indemnity plans include deductibles in varying
amounts, maximum annual benefits of less than $2,000 per person and significant
patient cost sharing. Patient cost sharing typically varies by the type of
dental procedure, ranging from no cost sharing for preventive procedures to 50%
cost-sharing for dentures and even greater cost sharing for orthodontic care.
The relatively high patient cost-sharing and the relatively predictable nature
of dental expenditures substantially limits the underwriting risk of a dental
plan when compared to the underwriting risk of a medical plan that covers
catastrophic illness and injuries. Furthermore, since most dental problems are
not life threatening and do not represent serious impairments to overall health,
there is a higher degree of patient cost sensitivity and discretion associated
with obtaining dental services. Many dental conditions also have a range of
appropriate courses of treatment, each of which has a different out-of-pocket
cost for patients. For example, a deteriorated amalgam filling may be replaced
with another amalgam filling (a low-cost alternative), a pin-retained crown
build-up (a more costly alternative), or a crown with associated periodontal
treatment (the most costly alternative). The level of coverage provided to the
patient can influence the type of services selected by the patient or rendered
by the dentist.
Under a traditional indemnity insurance plan, the insurer and the patient each
pays a portion of the fee charged by the dentist, depending upon the design of
the dental benefit plan. Under such an indemnity plan, dentists have little
incentive to deliver cost-effective treatments because they are compensated on a
fee-for-service basis. In contrast, under a dental HMO plan, each dentist is
typically reimbursed in the form of a fixed monthly payment for each member who
selects that dentist as his or her primary dental care provider (a "capitation"
payment). Under a dental HMO plan, each dentist also typically receives
co-payments from the patient for certain dental services that are not covered in
full by the capitation payments. The amounts of the capitation payments and the
co-payments are negotiated in advance by the dental HMO. The co-payment amounts
are generally designed to mitigate the level of utilization risk assumed by the
dentist, but are low enough to encourage the dentist to provide cost-effective
treatments. Fixed capitation payments that do not vary with the frequency of
services provided create an incentive for dentists to emphasize preventive care,
to control costs and to develop a long-term relationship with his patients.
Fixed capitation payments also substantially reduce the underwriting risk to the
Company associated with varying utilization of dental services.
(B) FINANCIAL INFORMATION ABOUT SEGMENTS
The Company operates in a single industry segment, the provision of dental care
benefit plans.
(C) NARRATIVE DESCRIPTION OF BUSINESS
GENERAL DESCRIPTION OF THE COMPANY
The Company provides dental benefit plans to government and private sector
employers, associations, and individuals. During the last several years the
Company has focused its marketing efforts on mid-sized and small employer
groups, typically with less than 1,000 employees. The Company currently has
contracts with approximately 5,000 employer or association groups and provides
dental benefits to approximately 900,000 covered individuals. Dental care is
provided to the covered individuals through a managed care network of
approximately 4,000 general dentists and specialty providers, and through a
preferred provider network of approximately 9,000 dentists.
Under the Company's dental HMO plans, its customers pay a monthly premium for
each subscriber enrolled in the plan, and the Company usually agrees to a
monthly rate that is fixed for a period of one or two years. The amount of the
monthly premium varies depending on the dental services covered, the amount of
the member co-payments that are required for certain types of dental services,
and the number of dependents enrolled by each subscriber. Each subscriber and
dependent is required to select a general dentist from the Company's managed
care provider network, and to receive all general dental services from that
dentist. Any referral to a specialist must be requested by the general dentist
and approved in advance by the Company, in order for the related service to be
covered under the dental HMO plan. Under dental HMO plans, subscribers and
dependents are not required to pay deductibles or file claim forms, and are not
subject to a maximum annual benefit.
Under the Company's indemnity dental plans, its customers also pay a monthly
premium for each subscriber enrolled in the plan, and the Company usually agrees
to a monthly rate that is fixed for a period of one or two years. The amount of
the monthly premium varies depending on the dental services covered, the amount
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of the annual deductible, the portion of the cost of dental services that is
paid by the subscriber or dependent, the maximum annual benefit amount, and the
number of dependents enrolled by each subscriber. Under indemnity dental plans,
subscribers are required to pay deductibles and co-payments that are typically
higher than the co-payments required under a dental HMO plan. However, under
indemnity dental plans, subscribers and dependents can choose to receive dental
services from any dentist of their choice.
The Company's goal is to be a leading dental benefits provider in each of the
geographic markets in which it operates. The Company's business is primarily in
California, Colorado, Florida, Missouri and Texas, but it also provides dental
HNO plans and indemnity dental plans in several other states. The Company offers
a comprehensive range of dental benefit plans that is based on a set of standard
plan designs that are available in each of the markets in which the Company
operates. By standardizing the dental plans offered, the Company believes it can
deliver a consistent product and a high level of customer service through the
consistent application of policies and procedures, and by streamlining
administrative functions. The standardized plans also allow employers to offer
substantially the same benefits in all states in which the Company is licensed
to operate. However, the Company also has the information technology and the
flexibility to deliver highly customized benefit plans, which are frequently
requested by large employer groups.
The Company uses multiple distribution methods to sell its products. The Company
has an internal sales force that primarily works with independent brokers, and
to a lesser extent, directly with small and mid-sized employer groups, to sell
the Company's benefit plans. The Company also works directly with large benefits
consulting firms, who are often engaged by large employers to assist in
selecting the best dental benefit plans for those employers. The Company also
offers its dental plans to medical HMOs, which in turn, include the Company's
dental plans in comprehensive medical plans offered by those medical HMOs. The
Company utilizes general agency relationships in certain markets, which
generally target small employers and individuals.
The Company is committed to providing quality dental care to its members through
a network of qualified, accessible dentists. By providing both dental HMO plans
and indemnity dental plans, the Company is able to maintain a competitive
network of providers by delivering patients to dentists under both types of
provider reimbursement. In addition, the Company also offers stand-alone
administrative services and preferred provider organization access products to
its customers, which deliver additional patient volume to its contracted
providers. The Company has provider relations representatives who maintain the
relationships with the network providers in each of the Company's significant
geographic markets. The local knowledge and expertise of these representatives
enables the Company to develop competitive provider networks that are convenient
for plan members, which is an important factor to employers in selecting a
dental HMO plan.
PRODUCTS
The Company operates in a single business segment, which is the provision of
dental benefit plans to employer groups, certain associations, and individuals.
The Company provides a broad range of plan designs, depending on the needs of
its customers. In addition to offering a range of benefit designs, the Company
can offer benefit plans with a restricted choice of providers, through its
managed care plans, or benefit plans with a wider choice of providers, through
its indemnity dental plans. Premium rates are adjusted to reflect the benefit
design, and whether the covered individuals can select any provider at the time
of service.
Dental HMO Plans. The Company offers a comprehensive range of dental HMO plans
under the names SafeGuard Health Plans and SafeGuard Dental Plans. Under a
dental HMO plan, as noted above, each subscriber and dependent is required to
select a general dentist from the Company's managed care provider network, and
to receive all general dental services from that dentist. Any referral to a
specialist must be requested by the general dentist and approved in advance by
the Company, in order for the related service to be covered under the dental HMO
plan. The general dentist selected by the member receives a monthly capitation
payment from the Company, which is designed to cover most of the total cost of
the dental services delivered to that member. The monthly capitation payment
does not vary with the nature or the extent of dental services provided to the
member, but is variable based on the particular benefit plan purchased by each
member. In exchange for the monthly capitation payments, the selected provider
is obligated to provide specific dental services to plan members, as required by
the members. In addition to the capitation payments, the provider receives
co-payments from the members for certain types of services, and receives
supplemental payments from the Company for certain types of services. When a
member requires the services of a specialist, the Company pays the cost of the
specialty services on a negotiated fee schedule basis, and to a lesser extent,
on a discounted fee-for-service basis.
Members covered under the Company's dental HMO plans are typically entitled to
receive certain basic dental procedures, such as examinations, x-rays, cleanings
and fillings, at no additional charge, other than, in some cases, a small per
office visit co-payment. The member co-payments required for more complicated
procedures provided by the primary care dentist, such as root canals and crowns,
vary based on the complexity of the service and benefit plan purchased by the
member. Most of the Company's dental HMO plans also cover services provided by
specialists in Company's provider network, including oral surgery, endodontics,
periodontics, orthodontics, and pedodontics. Any referral to a specialist must
be requested by the general dentist and approved in advance by the Company, in
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order for the related service to be covered under the dental HMO plan. The
Company's dental HMO plans also cover emergency out-of-area treatments that are
required when a member is temporarily outside the area served by his general
dentist.
Indemnity Dental Plans. The Company offers a comprehensive range of indemnity
dental plans in each of the geographic markets in which it operates. Under
indemnity dental plans, subscribers are required to pay deductibles and
co-payments that are typically higher than the co-payments required under a
dental HMO plan. Also, indemnity dental plans typically include a maximum annual
benefit, which is not typically included in a dental HMO plan. However, under
indemnity dental plans, subscribers and dependents can choose to receive dental
services from any dentist of their choice. Indemnity dental plans subject the
Company to more significant underwriting risks than dental HMO plans, due to
varying utilization rates of dental services.
Dual Option Products. The Company offers a "dual option" product to its
customers, which includes both a dental HMO plan and an indemnity dental plan.
As a result, each individual subscriber can choose whether to enroll in either
type of dental plan. By offering a dual option product, the Company can offer
its customers more flexibility, and can capture a larger portion of the total
dental benefits expenditures by each of its customers. This product also allows
the Company to offer indemnity coverage to employees of its customers who are
located outside the geographic area served by the Company's dental HMO provider
network. Certain states, such as Nevada and Oklahoma, require that dental HMO
plans be offered only as part of a dual option product and other states may do
so in the future. Dual option products are particularly attractive to customers
located in areas where the Company's dental HMO provider network is less
competitive and employees value the ability to receive services from the dentist
of their choice. The Company believes that offering dual option products to its
customers provides an opportunity to increase enrollment in its dental HMO plans
over time.
Preferred Provider Organizations. The Company's indemnity dental plans include
for an increased level of benefits in the event a member utilizes a dentist
participating in its preferred provider organization ("PPO") network. When a
subscriber receives services from a PPO dentist, the co-payment required is
substantially reduced, and annual deductible amounts are typically waived or
reduced. The dentists in the PPO network have agreed to provide dental benefits
to customers of the Company for a fee that is typically 30% less than the
dentist's usual and customary fee. The Company believes that offering an
indemnity dental plan with a PPO network is an attractive way to enter
geographic areas where few dentists have agreed to participate in dental HMO
plans. In such areas, participation in the PPO network can serve as a
transitional step for dentists, between the traditional fee-for-service system
of reimbursement to participation in a dental HMO network.
Other Dental Benefits Products. For self-insured employers, the Company offers
claims administration under an administrative services organization ("ASO")
arrangement, under which the Company does not assume the underwriting risk for
the benefits provided. The Company receives an administrative fee to process
claims and the underwriting risk is retained by the employer sponsoring the
self-insured plan. The Company also provides access to its PPO network for a
fixed monthly fee based on the number of potential patients covered by the
product. Under this product, the providers in the PPO network offer a reduced
fee schedule for services provided to participating patients. The Company makes
no payments to the providers in the PPO under this product. Currently, the
annual revenue from ASO arrangements and PPO network access products is not
material.
Vision Benefit Plans. The Company offers a vision benefit plan to employer
groups, which covers routine eye care in exchange for a fixed monthly premium.
Under the vision plan, subscribers can typically choose to receive services from
any provider in the network in exchange for co-payments that vary with the type
of service received. Currently, the annual revenue from vision benefit plans is
not material.
PROVIDER RELATIONS
The Company believes that a key element in its enrollment growth is a stable
panel of quality focused dentists in convenient locations. The Company also
requires that all dental HMO and PPO providers meet all of its quality
assessment program standards. The program includes current professional license
verification, current liability insurance, and a risk management review of the
dental facility to ensure that all OSHA and regulatory requirements are met, an
inspection of the office's sterilization practices, and a review of the
facilities location, including parking availability and handicap access. See
"QUALITY MANAGEMENT AND IMPROVEMENT."
The Company believes that dental providers on the Company's Dental HMO and PPO
panels are willing to provide their services at a lower capitated (fixed) rate
per month in exchange for the relatively steady, extended stream of revenue
generated by panel participation. Furthermore, this contractual revenue source
for the provider is free from the collection problems and administrative costs
sometimes associated with other forms of dental coverage. Thus, qualified
dentists and/or dental groups have generally been available and willing to
participate on the Company's panels and supplement their fee-for-service
practice.
The Company compensates each panel dental office on its Dental HMO plans on a
monthly capitation rate for each member who selects that office, regardless of
the amount or character of service provided during the month. The capitation
rate does not vary with the nature or extent of services utilized, however it is
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variable based upon plan design. The total amount paid to each dental office is
determined by the capitation rate per each client contract applicable thereto,
and the number of eligible members served by the participating dental office.
The Company provides additional compensation to its Dental HMO providers for
specified dental procedures. The Company believes that this compensation program
provides for a higher level of member and provider satisfaction through
increased compensation to the provider. For dentists who provide services to the
Company's insured members, compensation is based upon a percentage of the
provider's usual and customary fee based upon established tables of allowances
utilized by the Company in its claims paying processing systems. Benefits are
provided in accordance with percentages that are established for each member's
benefit program. Providers who participate in the Company's PPO program are
compensated at a fee which is less than the provider's usual and customary fee,
usually at a discount of up to 30 percent, or 30 percent off of the Company's
usual and customary fee for the area, whichever is less.
The Company currently employs provider relations representatives in each local
office. All have extensive dental office management backgrounds and act as
consultants to assist our panel providers with the administration of the plan in
the day-to-day operation of their offices. Should a dental office terminate its
contract with the Company, if necessary a new provider will be recruited in a
timely manner to meet the needs of the members assigned to that office, and so
there will be no delay in the member's care. No individual dental office
provided service to more than 10 percent of the Company's members at December
31, 1999.
The Company's panel dental offices are free to contract with other dental plans
and both they and the Company can terminate the contract at any time upon 60
days prior written notice. In accordance with the contract, the Company may also
terminate the contract "for cause" upon 15 days prior written notice. The
Company may also, at anytime, change the terms, rates, benefits and conditions
of the various plans serviced by its providers with ten (10) days notice to the
provider. The Company's contracts with panel dental offices require them to
maintain their own professional liability insurance for a minimum of $200,000
per claim, and $600,000 per annual aggregate and to indemnify the Company for
claims arising from the dentist's acts or omissions.
At December 31, 1999, approximately 4,000 primary care and specialty care
dentists were participating panel providers on the Company's Dental HMO plans.
General dentists are required to render all basic dental care and refer members
to specialists only as required. Under its policy, the Company offers nearly all
specialty dental services, including oral surgery, endodontics, periodontics,
orthodontics, and pediatric dentistry. If the specialty care falls within the
Company's guidelines, all or a substantial portion of the specialists' fees are
paid by the Company. At December 31, 1999, the Company contracted with
approximately 9,000 primary care and specialty care dentists on the Company's
PPO panel.
MANAGEMENT INFORMATION SYSTEMS
During 1999, the Company continued to enhance its proprietary management
information system to better manage its operational resources and analysis of
data. These changes focused on reporting mechanisms to track regulatory
compliance and data interface with clients. The Company's goal is to continue to
enhance technologies to better equip the Company to compete while ultimately
reducing the Company's administrative expenses. The Company also continued its
development of various operating systems based upon software source code
purchased in 1996 for its business operations system, which are being adapted to
the specific needs of the Company. This software allows the Company to develop,
in-house, a system that is used to expand the Company's management information
system to all Company regional offices. This system takes advantage of the power
of personal computers in the workplace. The system provides a much easier and
more efficient interface using Windows-based screens. Individual users are able
to quickly customize data queries for their specific needs with results directed
to the screen, printer or downloaded into a word processor and/or spreadsheet.
One component of the ongoing modifications to the Company's primary business
application is the enhancement of the system that is used to manage billing,
collections, and accounts receivable activities (the "billing" system). The
Company made various modifications to its billing system during 1999, and is
currently making additional modifications, which are designed to improve the
Company's ability to manage its billing and accounts receivable functions.
The Company employs a personal computer network-based general ledger system
providing reporting and analysis tools which allows for the extraction and
download of data to word processors and spreadsheets for further analysis. The
Company also expanded the use of its electronic mail system to all its
locations. The Company has also upgraded its current network server systems to
handle the increased activity within the network. The Dental HMO plan, indemnity
and PPO plans, and electronic mail environments are now interconnected. With the
implementation of these new and upgraded systems, the entire network is tightly
integrated. These systems demonstrate the Company's proactive position in
automating its computer operations and allowing it to remain competitive in the
marketplace.
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QUALITY MANAGEMENT AND IMPROVEMENT
The Company's commitment to quality is supported throughout the organization.
The Company's Quality Improvement Program includes verification of provider
credentials and an assessment of the qualifications of dentists to become and/or
remain contracted providers. It also includes quality assessment of the provider
network, assessment of each dentist's compliance with Company standards,
analysis and measurement of network and provider performance, and continuous
improvement of contracting dentist performance through constructive and
continuous feedback.
Under the direction of the Company, contracting dental offices undergo regular
assessments to determine appropriateness of care and treatment outcomes. The
Company outsources the on-site office quality assessment review as part of the
Quality Improvement Program. By utilizing an objective outside source, the
Company is able to maintain a significant level of independence not always found
when employees conduct the on-site assessments. The Company also maintains a
credentialing committee that uses information provided by a certified
Credentialing Verification Organization ("CVO") to verify the provider's
licensing status, insurance, compliance with applicable federal and state
regulations, and other related processes with an objective approach for
consistency, effectiveness, and risk management review.
The Company contracts with an outside research firm to conduct regular member
satisfaction surveys. The surveys are designed to provide the Company with
valid and reliable information on members' satisfaction with dental care
services provided, the provider network and the Company's plan design and
customer service.
The Company maintains an accessibility monitoring program that tracks
appointment availability at contracting dentist offices. The Company conducts
quarterly mail surveys to monitor availability for new patient, recall, routine
and emergency appointments, and to measure the waiting time in the reception
area and operatory room. The results are correlated with the findings of the
on-site quality review, member satisfaction surveys, grievances, and appointment
availability documentation.
The Company conducts periodic review and assessment of all quality initiatives.
The quality improvement process includes providing feedback to the contracting
dentists and the Company, assisting in the development of corrective actions to
modify deficiencies, and verifying that corrective actions are implemented. To
accomplish this task, the Company employs a team concept, combining its Quality,
Member Services and Provider Relations departments, to benefit both its members
and its contracting dentists.
UTILIZATION REVIEW
The Company uses computerized analysis to monitor the categories, incidence and
frequency of dental care services provided to members. The analysis of provider
utilization and cost data enables the Company and its clients to determine the
type of procedures performed by contracted dental offices and ascertain the
savings to both clients and members compared to the cost of competitive dental
indemnity insurance coverage. The analyses are also used by the Company to
identify unusual patterns of dental care utilization or complaints which may
initiate a focused or comprehensive office quality assessment review.
The Company is also in the process of expanding the use of its indemnity claims
processing system to include utilization review and case management for its
indemnity insurance business. As part of the expansion of its indemnity
business, the Company is developing a claims reporting system that will
demonstrate cost savings for clients and members when contracting PPO dentists
are utilized. These reports will compare practice patterns that vary from
established norms, identify patient cost trends, provide detailed claims
experience, and case and claims management information. The Company will then be
able to compare utilization patterns among the dentists rendering services to
patients insured by the Company to determine whether such dentists are over or
under-utilizing the benefits provided. In the event that an unusual practice
pattern is ascertained, the Company will review its findings with the dentist on
a regular basis to reduce the potential for abuse.
MEMBER SERVICES
The Company maintains a comprehensive Member Services and Grievance Resolution
System designed to assist members with simple inquiries and resolution of
dissatisfactions. The Company consistently monitors service statistics to ensure
continued ability to exceed the members' expectations. Eighty percent of all
dissatisfactions (grievances) received concerning eligibility or professional
services are resolved completely within 48 hours. The Company makes every
attempt to resolve more complex situations within 5 working days, but no longer
than 30 days following the receipt of the grievance.
The Company's Grievance Monitoring Committee provides oversight of the grievance
process with particular attention paid to emerging patterns and trends, nature
and volume of complaints, financial implication for the disposition of
complaints, and quality of care issues. The monitoring process is enhanced
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through the involvement of the Quality Management and Public Policy Committees.
The Quality Management Committee, at quarterly scheduled meetings, reviews
grievances at the provider level and has the responsibility to make corrective
action recommendations to the Company's Board of Directors based upon grievance
volume, trends and/or patterns. The Public Policy Committee, at quarterly
scheduled meetings, reviews grievances based on volume and type of complaints,
emergent patterns and trends, and has the responsibility to make administrative,
policy or plan change recommendations to the Company's Board of Directors. Both
committees also review specific complaints that have exhausted the standard
grievance resolution process. All grievances receive a written disposition of
the resolution within 30 days of receipt of the grievance. The Company's
arbitration policy is designed as a final resort for members or providers that
are dissatisfied with the results of the appeals, Quality Management or Public
Policy processes. Arbitration may not be initiated until the grievance, Quality
Management, or Public Policy processes have been exhausted. The arbitration is
conducted according to the American Arbitration Association rules and
regulations.
The Company utilizes an automated call distribution ("ACD") system for customer
call management. The Company provides toll-free customer telephone service with
automated 24-hours per day, 7 days per week access. Automated service features
are available for simple inquires such as provider selection, identification
card requests, and eligibility verification. The Company also provides customer
service telephone support during regularly scheduled business hours. The
Company's call volume averages 45,000 calls per month, with approximately 30
percent handled via automated selection features. The ACD system has the
capability to prioritize customer calls, and provide service update standards
per guidelines reports on a predetermined basis. The Company strives to maintain
a predetermined service standard of answering all customer calls within a
specified time period, with an acceptable abandonment rate.
RISK MANAGEMENT
The Company has sufficient general and professional liability insurance coverage
to manage the ordinary exposure of operating its Dental HMO plan business and
its indemnity dental plans. Generally, the Company is indemnified against
professional liability claims by its independently contracted providers. In
addition, each dentist is required to maintain professional liability insurance
with specified minimums of coverage. The Company also maintains arbitration
provisions in its contracts with providers.
Considering the Company's exposure to future claims for failure to provide
coverage in addition to the secondary risk to professional liability claims, the
Company carries its own professional liability insurance coverage in the amount
of $10,000,000, which it views as being adequate. However, no guarantee is made
that sufficient general and/or professional liability insurance coverage will be
available to the Company at an acceptable cost.
CLIENTS AND CONTRACTS
Substantially all of the Company's 900,000 members at December 31, 1999,
participate through over 5,000 group plans paid for by governmental and private
sector employers, multiple-employer trusts and educational institutions or, to a
lesser extent, through individual plans. Significant clients served in 1999 by
the Company include the City of Dallas, City of Los Angeles, Southern California
Edison, County of Los Angeles, Dallas Independent School District, several
contracts with Boeing Corporation, Southern California Gas Company, and the
Joint Council #42 Welfare Trust. In the opinion of management, the loss of any
single client would not have a material adverse effect on the Company's
financial condition or results of operations.
The Company takes a proactive approach to better service its clients and
members. The Company maintains a multi-faceted plan to address the specific
needs of its clients by assigning a client services representative to all
clients. Each client services representative has dental care and field
experience. The Company's customer service complaint system also has been
enhanced by the Company's computer network which provides each representative
with full access to client, member and provider records. The Company's provider
network also benefits its multi-state clients.
Given the increasingly competitive nature of the dental care market, it is not
unusual for the Company to obtain a new client from competing indemnity insurers
or other dental HMO plans, or to lose an existing client to others. The Company
is also sensitive to the requirement that there be adequate levels of
compensation to its panel of participating providers so as to ensure that there
is an adequate panel of providers from which the client's members may select.
See "MARKETING" and "COMPETITION."
The Company's contracts generally provide for a defined dental benefit program
to be delivered to plan members for a period of one to two years at a fixed
monthly per-capita rate to the client. The contracts normally allow the client
the right to terminate on 60 days written notice of a deficiency in performance;
the Company has the right to extend the 60-day period to correct the deficiency.
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ACQUISITIONS
In 1996, the Company completed the acquisition of First American Dental
Benefits, Inc. ("First American"), a privately held managed dental care company
based in Dallas, Texas, for total consideration of approximately $23.6 million.
The purchase price included $20 million paid at closing and an aggregate of $3.6
million paid over three years pursuant to non-competition agreements with the
former owners of First American. First American had approximately $10 million of
annual revenue at the time of the acquisition. The acquisition of First American
was recorded using the purchase method of accounting, and its results of
operations are included in the Company's financial statements beginning on the
date of acquisition. First American was merged with the Company's Texas
subsidiary effective in August 1999.
In May 1997 the Company completed the acquisition of Advantage Dental
HealthPlans ("Advantage"), a privately held managed dental care company based in
Fort Lauderdale, Florida, for total consideration of approximately $10.0
million. The purchase price included $8.5 million paid at closing in the form of
a note payable to the seller and an aggregate of $1.5 million paid over two
years pursuant to a non-competition agreement with the former owner of
Advantage. Advantage had approximately $7 million of annual revenue at the time
of the acquisition. The acquisition of Advantage was recorded using the purchase
method of accounting, and its results of operations are included in the
Company's financial statements beginning on the date of acquisition.
In August 1997 the Company completed the acquisition of Consumers Life Insurance
Company of North Carolina ("Consumers"), a privately held dental insurance
company with licenses in sixteen states, for total consideration of
approximately $3.2 million. Consumers had no significant business at the time of
the acquisition, but it was licensed in several states in which the Company was
not previously licensed to offer indemnity dental plans. The acquisition was
recorded based on the purchase method of accounting, and accordingly, the
results of operations of Consumers are included in the accompanying financial
statements beginning on the date of the acquisition.
MARKETING
In the past, the Company's primary marketing strategy has been to contract with
large employer groups. While this strategy has served the Company well in the
past, several years ago the Company broadened its market strategy to seek out
and contract with employers with between 100 and 1,000 employees. While in the
past, the Company's Dental HMO plan had been offered as an alternative to the
primary dental insurance included in the employer's health care benefit program,
with the acquisition of the Company's indemnity insurance subsidiary, the
Company is now able to contract with the employer to provide both the Dental HMO
plan and the indemnity dental insurance program through one relationship. By
targeting the smaller and mid-sized employer groups described above, and by
offering both the Dental HMO and indemnity dental products to the employer, the
Company is able to obtain a higher per member per month rate than it could
previously by only offering its Dental HMO plan. Before submitting a proposal to
a prospective employer-client, the Company analyzes a demographic profile of the
potential new plan members, the current and desired dental benefit levels,
availability of adequate provider coverage and timely access, and other factors.
The Company markets its dental benefit plans through a network of independent
insurance agents and brokers and an employee sales force. This distribution
system is designed to reach group purchasers of all sizes in an efficient and
cost effective manner. The Company believes that its marketing strategy provides
it with a competitive advantage by enabling it to market to a wider range of
potential groups more effectively than companies relying upon a single
distribution system. The Company's sales force targets employers and groups,
which are more likely to contribute towards the cost of dental benefits for
their employees. In marketing to such groups, the Company's sales force focuses
on selling both the Dental HMO plan and an indemnity/PPO product. The Company
pays its sales force through a combination of salary and incentive compensation
based upon the number of members enrolled for new groups.
The Company's independent insurance agent and broker network focuses on offering
Dental HMO and indemnity/PPO products to medium and smaller sized employers
which may or may not contribute towards or offer dental benefit plans to their
employees. The Company believes that there are significant opportunities for the
Company to expand Dental HMO and indemnity coverage to medium and smaller sized
employers by expanding its network of independent brokers who can effectively
sell dental benefit programs to the medium and smaller sized market. Brokers and
agents typically do not market the Company's dental plans on an exclusive basis.
Brokers and agents generally receive a flat percentage of premium collected as
commission for the initial sale and for each renewal thereafter. Brokerage
commissions paid by the Company were 7.0 percent and 6.3 percent of premium
revenues for 1999 and 1998, respectively.
Once plan participation is to be made available to employees, the Company's
marketing efforts shift to the potential plan members. During a designated
annual open enrollment period, participants may elect the Company's dental plans
or opt for the other form(s) of dental benefits being offered, generally dental
indemnity insurance, either offered by the Company or another insurance carrier.
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Generally, participating employees can enroll into or drop out of the Company's
plans only during this enrollment period. Management believes that with most of
its group clients, an average of approximately 10 percent to 15 percent of
eligible employees select the Company's Dental HMO plan during the first open
enrollment period in which it is offered and that with smaller group clients, an
average of approximately 20 percent with voluntary plans select the Company's
Dental HMO plan, and an average of approximately 30 percent of eligible
employees with employer paid plans select the Company's Dental HMO plan during
the first open enrollment period in which it is offered.
In the situation where the Company is successful in selling its multi-choice
products to the employer, all employees are enrolled in one of the plan's
offered by the Company. The Company believes that the ability to offer a
multi-choice option program increases the amount of revenue generated from each
sale by providing the employer with the entire insurance program which may be
available to its employees. This has the effect of increasing the overall per
member per month rate paid by the employer for each employee since the per
member per month premium for the Company's indemnity dental program is
significantly higher than that which the Company charges for its Dental HMO
plans. This has the overall effect of increasing the revenue generated from each
dollar of expense associated with the selling of the Company's products.
The Company provides a vision plan known as Premier Vision Care Plan (the
"Premier Plan"). The Company developed the Premier Plan with the intention of
enhancing the vision care component of its benefit programs. The Premier Plan
also features a convenient open provider option that allows members to select
any optometrist under contract with the Company at the time they seek care. This
open panel option is underwritten by the Company's indemnity insurance
subsidiary in California. The entire Premier Plan is underwritten by this
subsidiary in all other states in which it is provided. No provider preselection
is required. There are no cards to mail or forms to present before receiving
care so members can enjoy immediate access. The Premier Plan also allows members
to obtain services from any vision care professional and receive reimbursement
from the Company according to a set schedule of benefits.
Smaller group employers find especially attractive the Company's ability to
offer one-stop shopping with its multi-choice dental package of indemnity dental
insurance and dental HMO plans, and its vision plans. The Company also maintains
a relationship with several Health Maintenance Organizations ("HMOs") to provide
dual choice indemnity and Dental HMO plans to segments of members enrolled in
the HMO.
INDEMNITY INSURANCE PLANS
As a result of its desire to respond to the changing marketplace, the Company
expanded its business to include indemnity dental plans. In September 1992, the
Company acquired a California domiciled life and health insurance company and
renamed it SafeHealth Life Insurance Company ("SafeHealth Life"). SafeHealth
Life is regulated by the California Department of Insurance and currently holds
a Certificate of Authority as a life, health and disability insurer in the
states of Arizona, California, Colorado, Illinois, Kansas, Maryland, Missouri,
Nevada, New Mexico, Ohio, Oregon, Texas, Utah and Wisconsin. In August 1997, the
Company also acquired a North Carolina domiciled life and health insurance
company known as Consumers Life Insurance Company of North Carolina,
redomesticated it to the State of Texas and renamed it SafeHealth Life Insurance
Company, Inc. ("SafeHealth, Inc."). SafeHealth, Inc. is licensed to transact the
business of a life, health and disability insurance carrier in the states of
Alabama, Arizona, Arkansas, Delaware, Florida, Georgia, Indiana, Kentucky,
Louisiana, Mississippi, North Carolina, Oklahoma, South Carolina, Tennessee,
Texas, and Virginia. No active insurance business was acquired in connection
with the acquisition of SafeHealth Inc. The Company completed the merger of
SafeHealth Inc. into and with SafeHealth Life during the third quarter of 1999.
SafeHealth Life has collaborated with other subsidiaries of the Company to
develop certain innovative marketing concepts with the intent of offering
consumers a multiple choice product consisting of a flexible indemnity plan, a
PPO plan, and a comprehensive Dental HMO plan in the states where it holds a
Certificate of Authority. The ability to offer fee-for-service dental plans
along with Dental HMO benefits, better serves new and existing clients. The
Company also offers a vision plan through SafeGuard in California, and
SafeHealth Life in Colorado, Illinois, Missouri, Nevada and Texas. SafeHealth
Life utilizes independent agents and brokers who specialize in the employee
benefits area and appreciate the ability of SafeHealth Life to custom design
plans as needed.
SafeHealth's client base includes small employer groups as well as governmental
agencies and political subdivisions. At the end of 1999, the number of insured
members covered by SafeHealth stood at 97,000. SafeHealth anticipates increasing
production of its multiple choice dental programs in other states in which it is
admitted to do business. SafeHealth is also offering group term life insurance,
the volume of which is currently insignificant.
In late 1996, the Company purchased an indemnity dental claims processing system
capable of auto-adjudicating a significant number of claims filed. In 1997, the
Company acquired the source code for its indemnity dental processing claim
system so as to allow the Company to better utilize the features of this system
so as to maximize the technological advantages that are available with this
system. This system and its modifications will allow the Company to expand its
indemnity dental programs without necessarily incurring significant additional
administrative expense.
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The ownership of an indemnity insurance company exposes the Company to risk for
over utilization and claims costs in excess of premium revenue. To minimize its
risks, the Company conducts thorough claims review and develops lag studies
through the computer system purchased by the Company for its indemnity insurance
business. The Company also engages an actuary to assist the Company in
developing its benefit programs, rates and payment schedules.
PREFERRED PROVIDER ORGANIZATION
Since 1993, SafeHealth Life has developed its PPO Network program in response to
the market demands to offer a more cost-effective alternative to traditional
indemnity insurance, and more freedom of choice than the Dental HMO
network/product alternatives. The PPO Network program was developed to
complement and also be used as a cost containment mechanism for current and
future indemnity dental plan clients. The negotiated fee arrangements enable the
Company to offer indemnity dental and SafeHealth PPO Network Plans that reduce
benefit costs for participating client groups and members. SafeHealth PPO
Network Plans are designed to encourage a greater level of participation from
participating network dentists due to lower levels of benefits for the
out-of-network option.
The Company also offers PPO Network Lease Services which offer the network as a
stand alone option for a per-member per-month fee. The Network Lease Service is
intended to be an option that is marketed to Health and Welfare Trusts,
Third-Party Administrators and Self-funded Employer Groups, again promoting the
cost containment features of the negotiated discounts. The Company assumes no
risk for clients that lease the PPO Network. At December 31, 1999, SafeHealth
had contracted with approximately 9,000 participating general and specialty
dentists in the markets in which it operates. The overall geographical
distribution of the dental network was developed to allow members easy access to
network dentists to take advantage of negotiated discounts. All participating
dentists have passed a strict qualification process and undergo annual quality
assessment reviews as part of ongoing compliance with network participation. The
Company continues to actively recruit dentists for its PPO plan, and intends to
increase the size of its PPO panel in the future.
The PPO Network offers savings to the Company in the form of lower dollar levels
of claims costs, and savings to the insured in lower out-of-pocket costs due to
the PPO Network contracted fees. Administrative review protocol that utilizes a
sophisticated case management system insures that the individual needs of a
member are matched to treatment plans. The necessity and appropriateness of the
treatment plans are continually monitored to assure a professional and
appropriate treatment conclusion. The combination of the waiver of deductibles,
negotiated provider fees and case management review system can result in
significant member and claim costs savings.
GEOGRAPHIC EXPANSION
The Company's strategy regarding geographic expansion is presently undergoing a
strategic review to identify and capitalize upon opportunities that may exist in
states in which the Company is not presently operating. In the past, the
Company's strategy generally has been to enter new states only after obtaining a
major contract, either by expanding the geographic scope of service to existing
clients, by entering into contracts with new clients, or by establishing
marketing agreements with other organizations. Geographic expansion is also
expected to be accomplished through acquisition of other Dental HMO or indemnity
insurance organizations. While the Company generally prefers not to expand into
new states until an adequate base of client business exists to help defray the
start-up costs of operations in those new states, the Company is currently
reviewing its strategic opportunities to provide Dental HMO and dental indemnity
benefits in other states and markets in which the Company does not presently
operate. A number of opportunities exist through strategic affiliations which
the Company may pursue in the future.
Once a decision to expand has been made, the Company usually establishes a local
office to provide sales, marketing and provider services support in the local
market. Basic administrative services are provided by the Company at its
regional offices. By using strategically located local offices and regional
support offices, the Company has better controlled administrative expenses
associated with new plan start-ups, and can more efficiently and effectively
service a greater number of members in each market.
GOVERNMENT REGULATION
Many states have laws establishing the requirements for, and regulating the
conduct of, the Company and other Dental HMO plans. Such laws vary from state to
state and they generally require a state license, frequently prescribe
requirements for contracts, establish minimum benefit levels, impose financial
tests and maintain standards for management and other personnel. There is
currently no regulation of the Company's plans at the federal level.
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Since some states will only license full service health plans, the Company
cannot enter those states except in conjunction with SafeHealth Life, its
indemnity insurance subsidiary, or with a full service HMO. Other states permit
only nonprofit corporations to become licensed as Dental HMO plans, again
limiting the Company's access. The heavily regulated nature of the Company's
industry imposes a variety of potential obstacles to management's plans for
further geographic expansion and could limit the Company's future growth. On the
other hand, this regulatory environment also governs the conduct and expansion
prospects of existing and new competitors, thereby providing a niche in the
marketplace for the Company.
The Company's Dental HMO plans are licensed and regulated by pertinent state
authorities. Among the areas regulated, although not necessarily by each state,
are the scope of benefits available to members, the content of all contracts
with clients, providers and others, tests of financial resources, including
maintenance of minimum stipulated financial reserves for the benefit of plan
members, procedures for review of quality assurance, enrollment requirements,
minimum loss ratios, "any willing provider" requirements which may limit the
Company's right to restrict the size of its provider network, the relationship
between the plan and its providers, procedures for resolving grievances, and the
manner in which premiums are determined or structured.
The Company's indemnity insurance operations through SafeHealth Life are
regulated by the California Department of Insurance, and the Department of
Insurance of the other states in which SafeHealth Life is licensed to transact
insurance business. The Company's indemnity insurance operations through
SafeHealth Life, Inc. are regulated by the Texas Department of Insurance and the
Department of Insurance in the other states in which SafeHealth Life, Inc. is
licensed to transact business. These regulations include specific requirements
with regard to minimum capital and surplus, permitted investments, advertising,
policy forms and claims processing requirements. The Company's insurance
operations are also licensed to transact business in other states which
traditionally follow the compliance requirements of the insurance company's
domiciled state, while sometimes imposing minimal specific policy and deposit
requirements for the Company's operations in those states. Insurance companies
are heavily regulated and require significant cash deposits for capital and
surplus. The Company's ability to expand its insurance operations into states in
which it is not currently licensed is dependent for the most part on the
regulatory review process which is conducted by the Department of Insurance in
each state in which the Company is applying. Such reviews may take anywhere from
six to twenty-four months.
TRADEMARKS, SERVICEMARKS AND TRADENAMES
The Company has filed, received approval and has obtained renewal protection
from the United States Patent and Trademark office for certain trademarks and
tradenames for names and products used by the Company in its ordinary course of
business. The Company has received a trademark, service mark or tradename for
the following words and phrases used with and without distinctive logos
maintained by the Company:
o SafeGuard used with a distinctive logo depicting a modified smile
used in connection with its Dental HMO plans;
o SafeGuard Health Plans used in descriptive material to describe the
products offered by the Company;
o SafeGuard Dental Plans used to describe the various Dental HMO plans
offered by the Company;
o SafeHealth Life used with a descriptive logo depicting a modified
smile used by the Company to describe its indemnity insurance and PPO
products; and
o American Dental Corporation adjacent to a flag of the State of Texas
used in connection with its Dental HMO plans, the use of which ended in
1999.
Collectively, these trademarks, service marks and tradenames were first used in
commerce in 1984 and have been continuously used thereafter. In addition, the
Company has nearly completed and is about to receive trademark/service mark
protection from the United States Assistant Commissioner for Trademarks of its
distinctive logo depicting a smile that the Company is currently utilizing in
interstate commerce.
COMPETITION
The Company operates in a highly competitive environment with numerous
competitors wherever the Company conducts business. The Company's competitors
include large insurance companies that offer both Dental HMO benefits and
traditional dental indemnity insurance, HMOs that offer dental benefits,
self-funded employer-sponsored dental programs, dental PPOs, discounted
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fee-for-service dental plans and other local or regional companies which offer
dental benefit programs. Many of the Company's competitors are significantly
larger and have substantially greater financial and other resources, than the
Company.
The Company believes that key factors in selecting a particular dental benefits
company include the comprehensiveness and range of benefit plans offered, the
quality, accessibility and convenience of the plans' dental networks, the
responsiveness of customer service, and the premium rates charged. The Company's
competitors compete aggressively in all of the markets in which the Company
operates on all of these factors, including situations where the selection of a
dental plan is made through a competitive bidding process. Some markets in which
the Company operates also have intense price competition, which could occur in
all of the markets in which the Company operates in the future. The Company has
seen increasing competition from all competitive sectors and the Company
anticipates that this trend will continue in the future.
Larger, national indemnity insurance companies that offer both Dental HMO and
indemnity dental benefits may have a competitive advantage over independent
dental plans due to the availability of multiple product lines, established
business relationships, better name recognition and greater financial and
information system resources. The Company believes that it can effectively
compete with these insurance companies due to the comprehensiveness of its
management team and resources directed towards developing competitive dental
benefit plans at premium rates, which are generally lower than such large
national indemnity insurance companies. Some medical HMOs offer their own dental
benefit plans and others contract with independent Dental HMO plans for those
services. The Company believes that it can compete with HMOs that offer dental
benefit plans and the Company intends to continue to pursue opportunities to
form relationships with HMOs to offer dental benefit plans to HMO members.
Other than for technological expenses associated with the provision of Dental
HMO and indemnity dental benefit programs, the Company's business does not
require substantial amounts of capital. Other than government regulation and the
related operating costs of start-up, there are no significant barriers to new
companies entering into the market. There can be no assurance that the Company
will be able to compete successfully with new market entrants. Any such
additional competition could adversely impact the Company's revenues, net income
and growth prospects through fee reductions, loss of providers or clients,
and/or market share.
EMPLOYEES
At March 31, 2000, the Company had approximately 200 employees, of which
approximately 38 are office and clerical employees represented by a labor union.
The Company considers its relations with its employees to be good. The Company
provides typical employee benefits, including a portion of the cost of health
insurance, dental insurance, life insurance, and the opportunity to take
advantage of a 401(k) plan and a flexible spending account under Section 125 of
the Internal Revenue Code. Employees are eligible to participate in the 401(k)
plan upon completion of six months of service with the Company. Under the 401(k)
plan, an employee is allowed to contribute up to 20 percent of his or her gross
compensation each pay period to the plan. The Company may, at its option, make
an employer contribution to the plan, which would be allocated among the
employees in the plan in proportion to the contribution made by each employee.
The Company made no contributions to the 401(k) plan during the three years
ended December 31, 1999. Employees are fully vested in their contributions to
the 401(k) plan at all times.
RISK FACTORS
The Company's business and competitive environment involve numerous factors that
expose it to risk and uncertainty. Some risks relate to the managed dental care
industry in general and other risks relate to the Company specifically. As a
result of the risks and uncertainties described below, as well as other risks
described elsewhere in this report, there is no assurance that the Company will
be able to maintain its current market position or to return its operations to
profitability. Some of the risk factors described below have adversely affected
the Company's operating results in the past, and all of these risk factors could
affect its future operating results.
Waivers and/or Maturity Date Extensions from Lenders. As of December 31, 1999,
the Company was not in compliance with certain financial covenants contained in
the credit agreements related to its revolving line of credit and its senior
notes payable. As a result, the entire outstanding balance under these credit
agreements, which was $39.5 million at December 31, 1999, is due and payable
upon demand by the lenders. Pursuant to a transaction completed on March 1, 2000
(the "Transaction"), these lenders agreed not to demand or accept any payment
under the credit agreements, and not to take any enforcement actions of any kind
under the agreements until April 30, 2001. However, in the event the conversions
contemplated in the Transaction (see below for more discussion) are not
completed, the outstanding debt would still be due and payable on April 30,
2001. In this event, there can be no assurance that the Company will be able to
refinance this outstanding debt or to obtain waivers or extensions of the
maturity date from the lenders, in which case the Company's financial position
would be adversely affected to a significant degree. See "RECENT DEVELOPMENTS."
-13-
<PAGE>
Regulatory Approval for Debt Conversions. On March 1, 2000, the Company entered
into an agreement with both of its lenders and an investor group, under which
the investor group loaned $8 million to the Company. Under this agreement, the
investor group and the existing lenders agreed to convert the $8 million loan,
the outstanding balance of $7.0 million under the bank line of credit, and the
outstanding balance of $32.5 million under the senior notes to convertible
preferred stock, subject to regulatory approval. Although the Company believes
it is likely that these conversions will be approved by the applicable
regulators, there can be no assurance that regulatory approval for these
conversions will be obtained.
Recent Operating Losses. The Company incurred significant operating losses
during 1999 and 1998. The Company's ability to meet its financial obligations
and to continue its business depends upon a return of its operations to
profitability. Management's plans to continue as a going concern and to return
the Company to profitability include plans to increase premium rates, reduce
certain types of provider payments, reduce the number of its employees by
consolidating operations in one location, reduce the amount of office space
used, and reduce various other selling, general and administrative expenses.
Management's plans also include enhanced programs for customer retention,
increasing the efficiency of its provider network and streamlining operations
with a focus toward strengthening customer service. There can be no assurance
that management will be successful in implementing these plans.
Shareholder Litigation. In December 1999, a shareholder lawsuit against the
Company was filed, which alleges that the Company and certain of its officers
violated certain securities laws by issuing a series of alleged false and
misleading statements concerning the Company's publicly reported revenues and
earnings during a specified class period. The Company has directors and officers
liability insurance and intends to vigorously defend this litigation. In the
opinion of the Company's management, the ultimate outcome of this matter will
not have a material adverse effect on the Company's financial position or
results of operations.
Government Regulation. The dental care industry is subject to extensive federal,
state and local laws, rules and regulations. Each of the Company's operating
subsidiaries is subject to various requirements imposed by state laws and
regulations related to the operation of a managed dental care plan or a dental
insurance company, including the maintenance of a minimum amount of tangible net
worth by certain subsidiaries. There can be no assurance that the Company will
be able to continue to meet all these regulatory requirements. In addition,
dental care practice standards and related federal and state regulations could
change in the future.
Ability to Sell Dental and Orthodontic Practices and/or Promissory Notes.
General Dental Practices. On October 21, 1996, the Company implemented a
strategic plan to sell all of the general dental practices owned by the Company.
The assets sold consisted primarily of accounts receivable, supply inventories,
equipment and leasehold improvements. Through June 1997, the Company sold
fifteen general dental practices to purchasers in exchange for consideration
consisting of $9.5 million of long-term promissory notes. In September 1997,
the Company sold the remaining practices to Pacific Coast Dental, Inc.,
Associated Dental Services, Inc., and affiliated dentists (the "Purchasers" or
"PCD") in exchange for consideration consisting of $8.0 million of long-term
promissory notes.
During 1997 and 1998, of the fifteen practices previously sold to parties other
than PCD, four of these practice were conveyed to PCD in exchange for the
assumption of the promissory notes payable to the Company. At the time of the
conveyances of these practices to PCD, the related promissory notes had an
aggregate carrying value of $1.9 million on the Company's balance sheet, which
exceeded the historical cost of the net assets of the related dental practices
by $1.4 million.
Orthodontic Practices. On February 26, 1998, the Company announced the
discontinuance of its orthodontic practices. The assets of the orthodontic
practices consisted primarily of accounts receivable, supply inventory and
dental equipment. These assets were sold on April 1, 1998, pursuant to the terms
of the definitive Master Asset Purchase Agreement (the "Agreement") dated and
effective as of April 1, 1998, by and among the Company and PCD. The
orthodontic practices were sold for $15 million, represented by an 8 1/2%
30-year promissory note and secured by all current and future assets of PCD,
including those assets transferred under the Agreement. Among other provisions,
the Agreement includes a long-term commitment by PCD to continue to provide
orthodontic services to members of the Company's dental HMO plans.
During 1997 and 1998, the entities that purchased four other general dental
practices from the Company conveyed those practices to the Purchaser in exchange
for the assumption of the related promissory notes payable to the Company. At
the time of the conveyances of these practices to the Purchaser, the related
promissory notes had an aggregate outstanding principal balance of $1.9 million.
In connection with the sale of the general dental and orthodontic practices to
PCD, the Company committed to lend PCD certain amounts for working capital. As
of December 31, 1997 and 1998 the working capital loans to PCD amounted to $.8
million and $1.6 million, respectively, and the Company has no further
obligation to provide additional working capital loans.
-14-
<PAGE>
During 1999, the Company reached an oral agreement with PCD and another third
party (the "New Purchaser"), under which all the promissory notes issued to the
Company by PCD (the "Notes") would be liquidated. Under this agreement, PCD
would convey the dental and orthodontic practices that comprise the collateral
for the Notes to the New Purchaser, in exchange for proceeds that would be paid
to the Company in satisfaction of the Notes. Based on this agreement, the
Company recorded a $6.5 million charge to earnings during the nine months ended
September 30, 1999, to reduce the carrying value of the net assets of the
related dental and orthodontic practices to their estimated net realizable
value. During March 2000, the Company entered into a definitive agreement with
respect to this transaction, which is currently pending regulatory approval.
The failure of the Company to successfully complete the sale of these practices
and the liquidation of the related promissory notes from PCD could have a
material adverse affect on the financial position of the Company.
Contingent Liabilities. The Company is contingently liable for certain lease
obligations related to the dental and orthodontic practices sold by the Company
during 1996, 1997 and 1998. In addition, the Company is contingently liable for
certain obligations to complete the orthodontic treatment of patients of the
orthodontic practices sold by the Company. There can be no assurance that the
Company will not make payment under these contingent obligations in the future.
Risk of Acquisitions. The Company has completed two acquisitions of managed
dental care companies during the past few years. The Company recently integrated
the operations of these businesses with its existing business. There can be no
assurance that the integration of these operations into the Company will be
successful. In addition, successful completion of this integration could still
require significant amounts of management's time. A failure to successfully
complete this integration could have a material adverse effect on the Company's
financial results.
Possible Volatility of Stock Price. The Company's stock price is subject to
fluctuations. Stock price volatility can be caused by actual or anticipated
variations in operating results, announcements of new developments, actions of
competitors, developments in relationships with clients, and other events or
factors. Even a modest shortfall in the Company's operating results, compared to
the expectations of the investment community, can cause a significant decline in
the Company's stock price. The delisting of the Company's common stock from the
NASDAQ National Market, which occurred in September 1999, can also have a
negative impact on the Company's stock price, its trading volatility, and the
ability of stockholders to sell their shares of the Company's common stock.
Broad stock market fluctuations, which may be unrelated to the Company's
operating performance, could also have a negative effect on the Company's stock
price.
Competitive Market. The Company operates in a highly competitive industry. Its
ability to achieve profitability is affected by significant competition for
employer groups and for dental providers. There can be no assurance that the
Company will be able to compete successfully enough to achieve and maintain
profitability. Existing or new competitors could have a negative impact on the
Company's revenues, earnings and growth prospects. The Company expects the level
of competition to remain high.
Ability to Increase Revenue. The Company has increased its revenue in recent
years, except for 1999, primarily through acquisitions, increases in the volume
of its indemnity dental business, and the addition of vision coverage. Although
the Company intends to expand its business in the future, there can be no
assurance that the Company will be able to maintain its current level of revenue
or to increase it in the future. The ability of the Company to expand its
business will depend on a number of factors, including existing and emerging
competition and its ability to maintain effective control over dental care
costs, secure cost-effective contracts with dental providers, introduce new
technologies, and obtain sufficient working capital to support its growth.
Levels of Utilization and Dental Care Services. The Company's indemnity dental
plans are underwritten by a subsidiary that is a licensed insurance company.
These plans subject the Company to underwriting risks associated with changes in
the utilization of dental services by the insured subscribers. If the Company
does not accurately assess these underwriting risks, the premium rates charged
to its clients may not be sufficient to cover its dental care costs. This could
have a material adverse effect on the Company's operating results.
-15-
<PAGE>
In addition, dental care provided by specialists is made available to members
under many of the Company's dental HMO plans. The Company assumes responsibility
under such plans for such specialty care arrangements. The Company is
responsible for payments to specialists, usually on a discounted,
fee-for-service basis and not on a capitated basis. Accordingly, it retains the
risk for the payment of specialty dental care claims. If the utilization of
specialty dental care increases under outstanding dental HMO plans, operating
and financial results could be negatively impacted.
Effect of Adverse Economic Conditions. The Company's business could be
negatively affected by periods of general economic slowdown or recession which,
among other things, may be accompanied by layoffs by client organizations, which
could reduce the number of members enrolled and increase the pricing pressure
from clients and competitors.
Relationships with Dental Providers. The Company's success is dependent on
having a competitive network of quality dentists in each of the Company's
geographic markets. Generally, the Company and the network dentists enter into
non-exclusive contracts that may be terminated by either party with limited
notice. The Company's operating results could be negatively affected if it is
unable to establish and maintain contracts with an adequate number of quality
dentists in any market in which it operates. See "BUSINESS-PROVIDER RELATIONS."
Dependence on Key Personnel. The Company believes that its success is largely
dependent upon the abilities and experience of its senior management team. The
loss of the services of one or more of its senior executives could negatively
affect the Company's operating results.
KEY DEVELOPMENTS
On May 28, 1999, the Company restructured the credit agreement related to $32.5
million of outstanding debt under its unsecured senior notes. The senior notes,
which have a final maturity date of September 30, 2005, (the "Notes") were
modified to provide for an increase in the interest rate from 7.91% to 9.91%
effective on April 28, 1999. The interest rate decreased to 8.91% in June 1999,
due to the execution of a definitive agreement with an investor group regarding
a planned investment in the company (see more discussion of this below). Under
the restructured agreement, the interest rate would decrease to 7.91% upon the
occurrence of certain other events, which have not yet occurred. In connection
with the restructuring, the Company issued warrants to acquire 382,000 shares of
the Company's common stock to the holder of the Notes. The warrants are
exercisable any time between January 1, 2000, and December 31, 2003, at a price
of $4.51 per share. The warrants were cancelled in connection with the
transaction completed on March 1, 2000, as discussed below.
On May 28, 1999, the Company also restructured the credit agreement related to
its $8 million bank line of credit, under which $8 million was outstanding at
December 31, 1998. The restructured agreement extended the maturity date from
January 31, 1999 to January 28, 2000. The interest rate on the outstanding
balance is equal to the bank's prime rate plus 4%, effective on April 28, 1999.
The interest rate decreased to prime plus 3% in June 1999, due to the execution
of a definitive agreement with an investor group regarding a planned investment
in the company (see more discussion of this below). Under the restructured
agreement, the interest rate would decrease to prime plus 1.5% upon the
occurrence of certain other events, which have not yet occurred.
Additional collateral was provided to both the senior note holder and line of
credit lender under the restructured agreements. The Company also paid the
out-of-pocket attorneys' fees and costs incurred by both lenders through the
closing date, and the cost of certain consultants the lenders required the
Company to hire. The Company agreed to provide both lenders with monthly
consolidated financial statements and covenant compliance certificates, all
Securities and Exchange Commissions filings, and other financial documents as
they may reasonably request.
New provisions include a requirement for the Company to provide the lenders with
any notice of intent to audit from any regulatory agency, and copies of
correspondence from any regulatory agency and the Company's response thereto. In
addition, the Company is prohibited from declaring dividends or other
distributions, and may not incur any liens on the voting stock of any
subsidiaries of the Company. In the event the Company sells certain assets,
including the notes receivable related to the sale of dental offices, the
proceeds have to be paid to the holder of the Notes and the Company's line of
credit lender, in proportions specified in the restructured agreements. Various
other terms, covenants and provisions of the credit agreement, including various
financial covenants, were also revised. In consideration of the new agreement,
both lenders waived all existing defaults under the previous credit agreements.
As of September 30, 1999 and December 31, 1999 the Company was not in compliance
with these new restructured debt agreements.
On June 30, 1999, the Company entered into an agreement with an investor group
under which the investor group agreed to purchase $20 million of senior notes
and $20 million of convertible preferred stock from the Company. This
transaction was subject to regulatory approval, stockholder approval, and
various other conditions. In connection with this agreement, the Company filed
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<PAGE>
a Proxy Statement with the Securities and Exchange Commission on October 12,
1999. However, the agreement with the investor group was terminated in February
2000.
On March 1, 2000, the Company entered into an agreement with both of its lenders
and the same investor group, under which the investor group loaned $8 million to
the Company. Under this agreement, the investor group and the existing lenders
agreed to convert the $8 million loan, the outstanding balance of $7.0 million
under the bank line of credit, and the outstanding balance of $32.5 million
under the senior notes to convertible preferred stock, subject to regulatory
approval. Under this agreement, both lenders agreed not to demand or accept any
payment under the credit agreements, and not to take any enforcement actions of
any kind under the agreements until April 30, 2001.
During June 1999 the Company completed the sale of its former headquarters
office building for approximately $3.5 million, which was the carrying amount of
the building on the Company's balance sheet as of December 31, 1998. The
carrying amount of the building is reflected on the consolidated balance sheet
under the caption "Assets Held for Sale."
On September 1, 1999 trading in the Company's common stock was removed from the
NASDAQ National Market due to the Company's inability to meet the relevant
minimum net tangible worth requirement.
During 1999, the Company recorded a charge to earnings to establish a valuation
allowance against its deferred tax assets. The amount of the allowance is equal
to the total amount of its net deferred tax assets, which was $17.3 million at
December 31, 1999. The Company's deferred tax assets have been fully reserved
due to uncertainty about whether they will be realized in the future, primarily
due to operating losses incurred by the Company in 1998 and 1999 and the
existence of significant unused loss carryforwards.
During 1999, the Company reached an oral agreement with PCD and another third
party (the "New Purchaser"), under which the promissory notes issued to the
Company by PCD (the "Notes") would be liquidated. Under this agreement, PCD
would convey the dental practices that comprise the collateral for the Notes to
the New Purchaser, in exchange for proceeds that would be paid to the Company in
satisfaction of the Notes. Based on this oral agreement with PCD and the New
Purchaser, and other factors, the Company has determined that the value of the
related discontinued net assets has been impaired. Accordingly, the Company
recorded a loss of $6.5 million during the nine months ended September 30, 1999,
which is included in loss from operations of discontinued operations, to reduce
the carrying value of the assets being transferred to their estimated realizable
value. During March 2000, the Company entered into a definitive agreement with
respect to this transaction, which is currently pending regulatory approval.
The Company incurred a significant operating loss during 1999, in addition to
interest expense on outstanding debt, the write-down of notes receivable,
impairment of discontinued net assets transferred under contractual arrangements
and the valuation allowance against deferred tax assets. The Company borrowed an
additional $8 million in March 2000, and executed an agreement under which all
of its debt will be converted to equity upon regulatory approval. However,
there can be no assurance that the Company will be successful in returning to
profitability.
In December 1999, a shareholder lawsuit against the Company was filed, which
alleges that the Company and certain of its officers violated certain securities
laws by issuing a series of alleged false and misleading statements concerning
the Company's publicly reported revenues and earnings during a specified class
period. The Company has directors and officers liability insurance and intends
to vigorously defend this litigation. In the opinion of the Company's
management, the ultimate outcome of this matter will not have a material adverse
effect on the Company's financial position or results of operations.
The Company determined that as of December 31, 1999, the net worth of one of its
subsidiaries, SafeHealth Life Insurance Company, was below the required
regulatory minimum capital and surplus by approximately $4.5 million. A
significant portion of the proceeds from the Company's new loan entered into on
March 1, 2000, described above, was used to resolve this regulatory net worth
deficiency.
ITEM 2. PROPERTIES
- --------------------
During 1997, the Company entered into an agreement to lease office space
consisting of approximately 68,000 square feet in Aliso Viejo, California. The
Company moved its corporate headquarters and executive offices from its previous
location in Anaheim, California to Aliso Viejo, California during the third
quarter of 1998. The Company previously owned a 60,000 square foot building in
Anaheim, California, which it previously utilized as its corporate headquarters
and executive offices. The Company sold this building during the second quarter
of 1999. In addition, the Company leases offices in Phoenix, Arizona; Walnut
Creek, California; Denver, Colorado; Fort Lauderdale, Florida; St. Louis,
Missouri; and Austin, Dallas, and Houston, Texas. The Company leased all of the
office space used by its previously owned dental practices, which leases have
been assigned to the entities who purchased the dental practices, but for which
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<PAGE>
the Company remains secondarily liable. Those leases expire on dates ranging
through July 2005. In the opinion of management, the Company's facilities are
adequate for its current needs.
ITEM 3. LEGAL PROCEEDINGS
- ----------------------------
The Company is subject to various claims and legal actions in the ordinary
course of business. The Company believes all pending claims either are
adequately covered by insurance maintained by panel providers or the Company, or
will not have a material adverse effect on the Company's results of operations
or financial position. In December 1999, a shareholder lawsuit against the
Company was filed, which alleges that the Company and certain of its officers
violated certain securities laws by issuing a series of alleged false and
misleading statements concerning the Company's publicly reported revenues and
earnings during a specified class period. The Company has directors and officers
liability insurance and intends to vigorously defend this litigation. In the
opinion of the Company's management, the ultimate outcome of this matter will
not have a material adverse effect on the Company's financial position or
results of operations.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
- ---------------------------------------------------------------------
No matters were submitted to a vote of security holders during the quarter ended
December 31, 1999.
-18-
<PAGE>
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
- --------------------------------------------------------------------------------
(A) MARKET INFORMATION
The Company's common stock is traded on the National Quotation Bureau under the
symbol SFGD. The following table sets forth the high and low sale prices of the
Company's common stock each fiscal quarter, as reported by NASDAQ. The prices
shown represent inter-dealer prices, without retail mark-ups, mark-downs or
commissions, and do not necessarily represent actual transactions.
<TABLE>
<CAPTION>
HIGH LOW
------ ------
<S> <C> <C>
Year ended December 31, 2000:
First Quarter.. . . . . . . . $ 3.50 $0.41
Year ended December 31, 1999:
First Quarter.. . . . . . . . $ 4.63 $2.50
Second Quarter. . . . . . . . 5.09 2.53
Third Quarter.. . . . . . . . 5.25 3.13
Fourth Quarter. . . . . . . . 4.00 0.38
Year ended December 31, 1998
First Quarter.. . . . . . . . $ 13.50 $8.25
Second Quarter. . . . . . . . 9.38 6.00
Third Quarter.. . . . . . . . 7.19 3.69
Fourth Quarter. . . . . . . . 5.50 3.31
</TABLE>
(B) HOLDERS
As of March 31, 2000, there were approximately 1,000 holders of the Company's
common stock, including 371 holders of record.
(C) DIVIDENDS
No cash dividends have been paid on the Company's common stock, and it is
expected that there will be no cash dividends paid during the foreseeable
future. The Company has agreed to pay no cash dividends as long as there is an
outstanding balance under the revolving line of credit or the senior notes
payable.
STOCKHOLDER RIGHTS PLAN
In March 1996, the board of directors of the Company declared a dividend of one
right to purchase a fraction of a share of its Series A Junior Participating
Preferred Stock, having rights, preferences, privileges and restrictions as
designated, and under certain circumstances, other securities, for each
outstanding share of the Company's common stock. The dividend was distributed to
stockholders of record at the close of business on April 12, 1996. The
description and terms of the Rights are set forth in a Rights Agreement, dated
as of March 22, 1996, between the Company and American Stock Transfer and Trust
Company, as Rights Agent, as amended.
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<PAGE>
ITEM 6. SELECTED FINANCIAL DATA
- -----------------------------------
The selected financial data in the following table has been derived from the
audited consolidated financial statements of the Company. This data should be
read in conjunction with such financial statements and notes thereto, and
Management's Discussion and Analysis of Financial Condition and Results of
Operations.
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
-------------------------------------------------
STATEMENT OF OPERATIONS DATA (IN THOUSANDS): 1999 1998 1997 1996 1995
--------- --------- -------- -------- -------
<S> <C> <C> <C> <C> <C>
Premium revenue $ 96,225 $ 97,449 $95,350 $72,709 $60,736
Health care services expense 67,559 66,020 65,702 54,534 45,285
Selling, general and administrative expense 37,041 36,259 25,103 16,292 13,451
Loss on impairment of assets (1) 24,576 2,397 -- -- --
--------- --------- -------- -------- -------
Operating income (loss) (32,951) (7,227) 4,545 1,883 2,000
Investment and other income 2,067 624 1,316 984 1,286
Interest expense (5,855) (4,311) (2,871) (485) --
--------- --------- -------- -------- -------
Income (loss) before income taxes and
discontinued operations (36,739) (10,914) 2,990 2,382 3,286
Income tax expense (benefit) (2) 10,934 (3,406) 1,371 980 1,251
--------- --------- -------- -------- -------
Income (loss) before discontinued operations (47,673) (7,508) 1,619 1,402 2,035
Income (loss) from discontinued operations
to be disposed of, net of income tax (3) (4,363) (2,430) (7,408) (852) 353
Income (loss) on disposal of orthodontic and
dental practices, net of income tax -- -- 296 1,678 --
Cumulative effect of change in accounting
principle, net of income tax -- -- -- 824 --
--------- --------- -------- -------- -------
Income (loss) from discontinued operations, net (4,363) (2,430) (7,112) 1,650 353
--------- --------- -------- -------- -------
Net income (loss) $(52,036) $ (9,938) $(5,493) $ 3,052 $ 2,388
========= ========= ======== ======== =======
Basic earnings (loss) per share:
Income (loss) from continuing operations $ (10.04) $ (1.58) $ 0.34 $ 0.30 $ 0.45
Income (loss) from discontinued operations (0.92) (0.51) (1.50) 0.17 0.08
Cumulative effect of change in accounting
Principle -- -- -- 0.17 --
--------- --------- -------- -------- -------
Earnings (loss) per basic share $ (10.96) $ (2.09) $ (1.16) $ 0.65 $ 0.53
========= ========= ======== ======== =======
Weighted average basic shares outstanding 4,747 4,747 4,723 4,711 4,523
Diluted earnings (loss) per share:
Income (loss) from continuing operations $ (10.04) $ (1.58) $ 0.33 $ 0.28 $ 0.43
Income (loss) from discontinued operations (0.92) (0.51) (1.45) 0.17 0.08
Cumulative effect of change in accounting
Principle -- -- -- 0.17 --
--------- --------- -------- -------- -------
Earnings (loss) per diluted share $ (10.96) $ (2.09) $ (1.12) $ 0.62 $ 0.51
========= ========= ======== ======== =======
Weighted average diluted shares outstanding 4,747 4,747 4,899 4,940 4,725
BALANCE SHEET DATA (IN THOUSANDS):
Cash and short-term investments $ 5,000 $ 3,370 $12,906 $ 9,807 $14,746
Current assets 9,099 11,847 25,800 27,622 23,576
Total assets 28,577 77,956 84,085 68,116 38,343
Current liabilities 17,129 24,521 20,193 11,633 5,941
Long-term debt 39,545 32,500 33,894 19,086 --
Stockholders' equity (deficit) (31,614) 19,766 29,615 35,200 31,929
<FN>
(1) The 1999 amount represents a reduction in the carrying value of intangible assets to their
estimated realizable value. The 1998 amount represents a reduction in the carrying value of
certain notes receivable and real estate to their estimated realizable values. See Note 6 to
the accompanying financial statements for more information.
(2) The 1999 amount primarily represents a charge to establish a valuation allowance against
deferred tax assets. See Note 9 to the accompanying financial statements for more
information.
(3) These amounts represent operating losses related to discontinued operations prior to the date
they were sold, subsequent expenses related to those operations, and subsequent reductions
in the carrying value of assets related to the sale of discontinued operations. See Note 3
to the accompanying financial statements for more information.
</TABLE>
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<PAGE>
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
- --------------------------------------------------------------------------------
OF OPERATIONS
- --------------
SAFE HARBOR STATEMENT UNDER THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995
The Private Securities Litigation Reform Act of 1995 (the "1995 Act") provides a
"safe harbor" for forward-looking statements, as long as those statements are
identified as forward-looking and are accompanied by meaningful cautionary
statements identifying important factors that could cause actual results to
differ materially from those discussed in the statement. The Company desires to
take advantage of these safe harbor provisions. The statements contained in this
Management's Discussion and Analysis of Financial Condition and Results of
Operations concerning expected growth, the outcome of business strategies,
future operating results and financial position, economic and market events and
trends, future premium levels, future dental health care expense levels, the
Company's ability to control health care, selling, general and administrative
expenses, items discussed under the heading "Year 2000" and all other statements
that are not historical facts, are forward looking statements. Words such as
expects, projects, anticipates, intends, plans, believes, seeks or estimates, or
variations of such words and similar expressions are also intended to identify
forward-looking statements. These forward-looking statements are subject to
significant uncertainties and contingencies, many of which are beyond the
control of the Company. Actual results may differ materially from those
projected in the forward-looking statements, which statements involve risks and
uncertainties. The Company's ability to expand its business is affected by
competition, not only in benefit program choices, but also the number of dental
plan competitors in the markets in which the Company operates. Certain large
employer groups and other purchasers of commercial dental health care services
continue to demand minimal premium rate increases, while limiting the number of
choices offered to employees. In addition, securing cost effective contracts
with dentists may become more difficult in part due to the increased competition
among dental plans for dentist contracts. Other risks include the Company's
potential inability to obtain waivers and/or extensions from its lenders,
whether or not the Company enters into any extraordinary transaction, changes in
the Company's operating or expansion strategy, or failure to consummate proposed
resale of dental offices and/or promissory notes. The Company's profitability
depends, in part, on its ability to maintain effective control over health care
costs, while providing members with quality dental care. Factors such as levels
of utilization of dental health care services, new technologies, specialists
costs, and numerous other external influences may effect the Company's operating
results. Any critical unresolved Year 2000 issues at the Company or its vendors
could have a material adverse effect on the Company's results of operations,
liquidity or financial condition. The Company's expectations for the future are
based on current information and evaluation of external influences. Changes in
any one factor could materially impact the Company's expectations relating to
premium rates, benefits plans offered, membership growth, the percentage of
health care expenses, and as a result, profitability and therefore, effect the
forward-looking statements which may be included in these reports. In addition,
past financial performance is not necessarily a reliable indicator of future
performance. An investor should not use historical performance alone to
anticipate future results or future period trends.
-21-
<PAGE>
SUMMARY OF RESULTS OF OPERATIONS
The following table shows the Company's results of operations as a percentage of
revenue, and is used in the year-to-year comparisons discussed below.
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
------------------------
1999 1998 1997
------- ------- ------
<S> <C> <C> <C>
Premium revenue 100.0% 100.0% 100.0%
Health care services expense 70.2 67.7 68.9
Selling, general and administrative expense 38.5 37.2 26.3
Loss on impairment of assets 25.5 2.5 --
------- ------- ------
Operating income (loss) (34.2) (7.4) 4.8
Investment and other income 2.1 0.6 1.4
Interest expense (6.1) (4.4) (3.0)
------- ------- ------
Income (loss) before income taxes and discontinued operations (38.2) (11.2) 3.2
Income tax expense (benefit) 11.4 (3.5) 1.4
------- ------- ------
Income (loss) before discontinued operations (49.6) (7.7) 1.8
Loss from discontinued operations (4.5) (2.5) (7.0)
------- ------- ------
Net loss (54.1)% (10.2)% (5.2)%
======= ======= ======
</TABLE>
1999 COMPARED TO 1998
Premium revenue decreased by $1.2 million, or 1.3%, from $97.4 million in 1998
to $96.2 million in 1999. The average membership for which the Company provided
dental coverage decreased by approximately 60,000 members, or 6.4%, from 943,000
members during 1998 to 883,000 during 1999. Premium revenue decreased by only
1.3% even though average membership decreased by 6.4%. This was primarily due to
a shift in the product mix toward indemnity plans, which have higher premium
rates than managed care plans, increases in premium rates, and a shift in the
product mix toward managed care plans with higher benefit levels and higher
premium rates.
Health care services expense increased by $1.6 million, or 2.3%, from $66.0
million in 1998 to $67.6 million in 1999. Health care services expense as a
percentage of premium revenue (the "loss ratio") increased from 67.7% in 1998 to
70.2% in 1999. This increase is primarily due to an increase in the loss ratio
for the managed care plans, which is due to an increase in specialist referral
claims and an increase in supplemental payments to capitated providers, both as
a percentage of managed care premium revenue. The increase in specialist
referral claims is primarily due to a shift in the managed care product mix
toward richer benefit plans that include coverage of more specialist services.
The increase in supplemental payments is due to the fact that the richer benefit
plans also cover more services for which general dentists receive supplemental
payments from the Company, in addition to the monthly capitation payments.
Selling, general and administrative ("SG&A") expenses increased by $782,000, or
2.2%, from $36.3 million in 1998 to $37.0 million in 1999. SG&A expenses as a
percentage of premium revenue increased from 37.2% in 1998 to 38.5% in 1999.
This increase is primarily due to increased expenses related to the Company's
new corporate offices, which were first occupied during the third quarter of
1998 (see Note 6 to the consolidated financial statements).
Loss on impairment of assets increased from $2.4 million in 1998 to $24.6
million in 1999. The loss on impairment in 1999 is primarily due to a reduction
in the carrying value of the goodwill and non-compete covenants related to the
acquisition of First American Dental Benefits, Inc. in 1996, and the acquisition
of Advantage Dental HealthPlans in 1997. The amount of the impairment loss was
determined in accordance with Accounting Principles Board Opinion No. 17, as
discussed in Note 6 to the accompanying consolidated financial statements.
Investment and other income increased by $1.4 million, or 231.3%, from $624,000
in 1998 to $2.1 million in 1999. This increase was primarily due to net realized
gains on the sale of investments of $1.2 million in 1999, compared to net
realized losses of $618,000 in 1998.
-22-
<PAGE>
Interest expense increased by $1.6 million, or 35.8%, from $4.3 million in 1998
to $5.9 million in 1999. This increase was primarily due to expenses incurred in
connection with restructuring the credit agreements related to the senior notes
payable and the revolving line of credit in May 1999. Those expenses consisted
of $1.0 million of consulting and legal fees and the issuance of stock warrants
with an estimated value of $320,000 to the holder of the senior notes payable.
The loss before income taxes and discontinued operations increased from $10.9
million, or 11.2% of premium revenue, in 1998, to $36.7 million, or 38.2% of
premium revenue, in 1999. This increase in the loss was primarily due to the
$24.6 million loss on impairment of assets, and an increase in the loss ratio
from 67.7% in 1998 to 70.2% in 1999. These factors were partially offset by an
increase in investment and other income from $624,000 in 1998 to $2.1 million in
1999.
Income tax expense was $10.9 million in 1999, compared to an income tax benefit
of $3.4 million in 1998. The income tax expense in 1999 primarily represents a
charge to earnings to establish a deferred tax asset valuation allowance that is
equal to the entire balance of the Company's net deferred tax assets. This
valuation allowance was established due to uncertainty about whether the
deferred tax assets will be realized in the future, primarily due to operating
losses incurred by the Company in 1999 and 1998 and the existence of significant
net operating loss carry-forwards. See Note 9 to the consolidated financial
statements for more information.
The loss from discontinued operations to be disposed of increased from $2.4
million in 1998 to $4.4 million in 1999. The loss in 1999 is due to a $6.5
million reduction (before income tax effect of $2.1 million) in the carrying
value of the net assets related to certain discontinued operations, which are
reflected under the caption "Assets of discontinued operations transferred under
contractual arrangements" on the consolidated balance sheet. During the second
quarter of 1999, the Company recorded a $6.5 million charge to earnings to
reduce the carrying value of these assets to their estimated realizable value.
1998 COMPARED TO 1997
The Company's revenues for twelve months ended December 31, 1998 increased 2.2%
from $95,350 to $97,449 on a membership decrease of 12.6%. The 1997 basis of
comparison, however, includes the acquisition of Advantage in May 1997. On a pro
forma basis, including the effect of the Advantage acquisition for the entire
year, revenues for the same period increased $202 on a membership decrease of
12.6%. Notwithstanding the membership losses, largely in the first quarter of
1998, the average revenue per member increased due to price increases
implemented by the Company and an increase in the volume of indemnity business,
which has significantly higher revenue per member than the dental HMO business.
Health care expenses increased 0.5% or $318 for the twelve months ended December
31, 1998. As a percent of revenues, health care expenses improved 1.2% from
68.9% of revenues for the twelve months ended December 31, 1997 to 67.7% for the
same period in 1998. Including the Advantage acquisition for twelve months of
1997, health care expenses for the period would have been $66,452 or 68.3% of
revenues. The comparison to 1998 then shows a decrease of $432 in health care
expenses and a decrease of 0.6% in health care expenses as a percentage of
revenues. The Company continues to improve the health care cost ratios in its
existing business, including the business provided by its recent acquisitions.
Selling, general and administrative expenses increased $11,156 or 44.4%.
Including the Advantage acquisition for all of 1997, such increase would be
$10,586. The increase experienced in 1998 is attributable to various factors,
including a charge for uncollectible accounts receivable, increases in the sales
and management staff and other infrastructure components to support anticipated
growth of the Company in the future, the cost of the Company's relocation of its
corporate headquarters from Anaheim, California to Aliso Viejo, California, and
the associated operating leases, the costs associated with the elimination of
various job functions at year-end, and the continuing increases in costs
associated with telecommunications and computer networks.
Other income decreased by 52.6%, or $692, for the twelve months ended December
31, 1998 from $1,316 in 1997 to $624. This is primarily due to capital losses on
the sale of investments in 1998.
Loss on impairment of assets in the amount of $2,397 for the twelve months ended
December 31, 1998 primarily represents a reduction in the carrying value of
certain promissory notes related to the sale of discontinued operations, and a
charge to reduce the book value of the old corporate head quarters building to
estimated net realizable value.
Interest expense increased $1,440 for the twelve months ended December 31, 1998
from $2,871 in 1997 to $4,311 in 1998, an increase of 50.2%. Such increase is a
result of the interest associated with the working capital credit facility which
was entered into in 1998 and the private placement long-term debt, which was
entered into during 1997.
-23-
<PAGE>
The net loss related to the discontinued orthodontic and general dental
practices for the twelve months ended December 31, 1998 was $2,430 versus a loss
of $7,112 for the same period in the prior year, a decrease of $4,682.
Net loss of $9,938 for the twelve months ended December 31, 1998 was an increase
of $4,445 over the loss of $5,493 reported for the same period a year ago. This
was primarily due to the increase in selling, general and administrative
expenses discussed above, which was partially offset by the decrease in the loss
from discontinued operations.
LIQUIDITY AND CAPITAL RESOURCES
Net cash used by operating activities was $492,000 during 1999, compared
to $1.7 million during 1998. Although the net loss increased from $9.9 million
in 1998 to $52.0 million in 1999, substantially all of the increase was due to
non-cash expenses. Net cash provided by investing activities was $1.9 million
during 1999, compared to $3.0 million during 1998. The Company sold certain
long-term assets in both 1999 and 1998, as shown on the accompanying statements
of cash flows, to meet it cash requirements in both years. Net cash used in
financing activities was $2.6 million during 1999, compared to $1.8 million
during 1998. The cash used in financing activities consisted primarily of debt
payments in both years.
The Company's total short-term and long-term debt decreased from $42.4 million
at December 31, 1998, to $39.8 million at December 31, 1999, due to payments of
$2.6 million during 1999. The payments included $1.6 million paid to the former
owners of acquired businesses in connection with non-competition agreements, and
a $1.0 million reduction in the balance outstanding under the revolving line of
credit. Outstanding debt at December 31, 1999 consists of $32.5 million of
senior notes payable, an outstanding balance of $7.0 million under a revolving
line of credit, and a $255,000 note payable to the former owner of an acquired
business in connection with a non-competition agreement.
In September 1997 the Company issued $32.5 million of unsecured senior notes
payable. The senior notes are payable in annual installments of $6.5 million on
each September 30, beginning in 2001, with a final maturity date of September
30, 2005. The interest rate on the notes was fixed at 8.91% at December 31,
1999.
In January 1998 the Company entered into an $8 million revolving line of credit
facility with a bank, under which $7.0 million was outstanding at December 31,
1999. The outstanding balance under the credit facility was payable in full on
January 29, 2000. The interest rate on the facility as of December 31, 1999, was
equal to the bank's prime rate plus 3.0 % (11.0% at December 31, 1999). The loan
is secured by all assets of the Company, including accounts receivable, property
and equipment, intangible assets, and a negative pledge on the stock of all the
Company's subsidiaries.
In May 1999 the Company executed restructured credit agreements with respect to
both the senior notes payable and the revolving line of credit facility. The
restructured agreements provide for changes in interest rates and modifications
to the financial covenants and reporting requirements, as well as required
principal repayments. In connection with the execution of the restructured
agreements, the Company obtained waivers for all prior and existing defaults and
events of default under the previous credit agreements through May 28, 1999. In
connection with the restructured agreements, the Company issued warrants to
purchase 382,000 shares of common stock for $4.51 per share to the holder of the
senior notes payable. The warrants are exercisable at any time from January 1,
2000 to December 31, 2003. Those warrants were cancelled in March 2000 in
connection with the transaction described below.
In connection with the restructured agreements related to both the senior notes
payable and the revolving line of credit facility, the Company is subject to
various loan covenant requirements. The Company was not in compliance with those
requirements as of December 31, 1999. However, the outstanding balances under
the senior notes payable and the revolving line of credit facility are
classified as long-term on the accompanying consolidated balance sheet, due to
the transaction completed on March 1, 2000, as discussed below. The Company
expects that all of its outstanding debt under the senior notes payable and the
revolving credit line will be converted to convertible preferred stock in 2000,
pursuant to the transaction described below.
On March 1, 2000, the Company entered into an agreement with an investor group
(the "Investors"), the holder of the senior notes payable (the "Senior Note
Holder"), and its revolving line of credit lender (the "Bank"). Under this
agreement, the Investors loaned $8.0 million to the Company in the form of notes
payable due April 30, 2001, which bear interest at 10% annually. The Investors,
the Senior Note Holder, and the Bank all agreed to convert the new $8.0 million
loan, the outstanding balance of $32.5 million under the senior notes payable,
and the outstanding balance of $7.0 million under the revolving line of credit,
to convertible preferred stock, subject to regulatory approval. Under this
agreement, both the Senior Note Holder and the Bank agreed not to demand or
accept any payment under the credit agreements, and not to take any enforcement
actions of any kind under the agreements until April 30, 2001.
The convertible preferred stock would not accrue dividends of any kind, and
would be convertible into an aggregate of 30.0 million shares of common stock of
the Company, at the option of the holder. The convertible preferred stock would
entitle the holder to one vote for each share of common stock into which the
-24-
<PAGE>
preferred stock is convertible, with respect to all matters voted on by the
common stockholders of the Company. As a result of this transaction, after
regulatory approval is obtained, the existing stockholders of the Company would
own approximately 13.7% of the common stock interests of the Company. Under this
agreement, the Company agreed to place new directors on its board of directors,
who represent the Investors, the Senior Note Holder and the Bank, and who,
collectively, constitute a majority of the board of directors.
As of December 31, 1999, the net worth of one of the Company's subsidiaries,
SafeHealth, was approximately $4.5 million below the minimum capital and surplus
required by the applicable state laws and regulations. Of the proceeds of the
$8.0 million borrowing on March 1, 2000, as discussed above, $5.0 million was
invested in SafeHealth to increase its net worth above the minimum amount of
capital and surplus required.
As of December 31, 1999, the Company's current liabilities exceeded its current
assets by $9.0 million. The Company believes this negative working capital
position is mitigated by the $8.0 million proceeds of a long-term borrowing
completed on March 1, 2000, as discussed above. The Company also intends to sell
certain long-term assets during the next several months, although there can be
no assurance that it will be successful in doing so. Management's plans to
continue the Company's operations as a going concern and to return the Company
to profitability include plans to increase premium rates, reduce certain types
of non-standard provider payments, reduce the number of its employees by
consolidating certain administrative functions in one location, reduce the
amount of office space used, and reduce various other selling, general and
administrative expenses. However, there can be no assurance that the Company's
actual results for future periods will meet current expectations. Based on these
factors and other relevant considerations, the Company's current expectation is
that it has an adequate amount of cash to operate its business for the
foreseeable future. Also, the Company believes it will be able to obtain
additional financing, if necessary, to support operations.
There can be no assurance that the Company will remain in compliance with
applicable regulatory financial requirements in the future, or that there will
be no other unforeseen events that could have a material adverse impact on the
Company's financial position and the adequacy of its cash balances. The Company
does not expect to have the financial resources to grow its business through
acquisition for the foreseeable future.
YEAR 2000 COMPLIANCE
The Year 2000 issue results from computer programs that use two digits rather
than four to define the applicable year. Any of the Company's computer programs
that have time-sensitive software, and that use two digits to define the
applicable year, may recognize a date using "00" as the year 1900 rather than
the year 2000. This could result in a system failure or miscalculations causing
a disruption of operations, including among other things, a temporary inability
to process transactions, send invoices, or engage in normal business activities.
The Company relies heavily upon information technology, including its primary
transaction processing systems, its telephones, its building access control
systems, heating and ventilation equipment, and other computerized systems, to
conduct its business. The Company also has numerous business relationships with
employer groups and other customers, dental health care providers, other
vendors, financial institutions, and other third parties, including state
regulators, who are reliant upon information technology to conduct their
businesses. There can be no assurance that none of these entities will
experience business disruptions related to the Year 2000 issue that could, in
turn, cause business disruptions for the Company.
The Company believes it has adequately modified its information systems so that
dates in the year 2000 are properly recognized by all of its significant
applications. As of March 31, 2000, the Company has experienced no significant
impact on its business related to the year 2000 issue, from either its own
information systems or those of third parties with which it does business.
-25-
<PAGE>
IMPACT OF INFLATION
The Company's operations are potentially impacted by inflation, which can affect
premium rates, health care services expense, and selling, general and
administrative expenses. The Company expects that its earnings will be
positively impacted by inflation in premium rates, because premium rates for
dental benefit plans in general have been increasing due to inflation in recent
years. The Company expects that its earnings will be negatively impacted by
inflation in health care costs, because fees charged by dentists and other
dental providers have been increasing due to inflation in recent years. The
impact of inflation on the Company's health care expenses is mitigated to some
extent by the fact that 45-50% of total health care services expense consists of
capitation payments to providers. In addition, most of the Company's selling,
general and administrative expenses are impacted by general inflation in the
economy.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
- ---------------------------------------------------------------------------
The Company is not subject to a material amount of risk related to changes in
interest rates or foreign currency exchange rates.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
- ---------------------------------------------------------
The Consolidated Financial Statements and the related Notes and Schedules
thereto filed as part of this 1999 Annual Report on Form 10-K are listed on the
accompanying Index to Financial Statements on page F-1.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH INDEPENDENT ACCOUNTANTS ON ACCOUNTING
- --------------------------------------------------------------------------------
AND FINANCIAL DISCLOSURE
- --------------------------
During the two most recent fiscal years, there have been no changes in the
Company's independent auditors or disagreements with such auditors on accounting
principles or financial statement disclosures.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
- -------------------------------------------------------------------
The current directors and executive officers of the Company are as follows:
<TABLE>
<CAPTION>
Name Age Position
- --------------------------- ---- --------------------------------------------------------------
<S> <C> <C>
James E. Buncher 63 Chief Executive Officer, President and Director
Ronald I. Brendzel, J.D. 50 Senior Vice President, General Counsel, Secretary and Director
Carlos Ferrera 36 Vice President - Operations
Dennis L. Gates, C.P.A. 44 Senior Vice President, Chief Financial Officer and Director
Herb J. Kaufman, D.D.S. 48 Senior Vice President and Chief Dental Officer
Kenneth E. Keating 36 Vice President - Sales and Marketing
Barbara Lucci 40 Vice President - Corporate Services
Julie Vega 47 Vice President - Provider Relations
Steven J. Baileys, D.D.S. 46 Chairman of the Board of Directors
Jack R. Anderson 75 Director (1)
Leslie B. Daniels 53 Director (1)
<FN>
(1) Member of Compensation and Stock Option Committee, and Audit Committee.
</TABLE>
Three of the six directors of the Company became directors on March 1, 2000, in
connection with the transaction that occurred on March 1, 2000 (see Recent
Developments for more discussion of this transaction). One board position is
currently vacant and the person to be appointed to that position will be the
designee of the Senior Note Holder and the Bank, pursuant to the March 1, 2000
transaction. Officers of the Company are elected annually and serve at the
pleasure of the board of directors, subject to all rights, if any, under certain
contracts of employment.
Mr. Buncher has been President and Chief Executive Officer of the Company, and a
director of the Company, since March 2000. Prior to that, he has been a private
investor since September 1997. Mr. Buncher was also President and Chief
Executive Officer of Community Dental Services, Inc., a corporation operating
dental practices in California, from October 1997 until July 1998. Mr. Buncher
was President of Health Plans Group of Value Health, Inc., a national specialty
managed care company, from September 1995 to September 1997. He served as
Chairman, President and Chief Executive Officer of Community Care Network, Inc.,
a Value Health subsidiary, from August 1992 to September 1997, when Value Health
was acquired by a third party and Mr. Buncher resigned his positions with that
company. Mr. Buncher currently serves on the board of directors of Horizon
Health Corporation.
-26-
<PAGE>
Mr. Brendzel has been Senior Vice President, General Counsel, Secretary and a
director of the Company since 1989. He was Chief Financial Officer from April
1988 to May 1996, Vice President - Corporate Development from August 1980 until
April 1986, and held various executive and administrative positions from 1978
until 1980. Mr. Brendzel is a member of the California State Bar and is licensed
to practice law in the state of California. He is also a member of the
Knox-Keene Health Care Service Plan Advisory Committee, which assists the
California Department of Corporations in regulating managed care health plans.
Mr. Brendzel is also a former member of the Texas Health Maintenance
Organization Solvency Surveillance Committee, which assists the Texas Department
of Insurance in regulating health maintenance organizations. Mr. Brendzel is the
brother-in-law of Dr. Baileys.
Mr. Gates has been Senior Vice President and Chief Financial Officer since
November 1999, and has been a director of the Company since March 2000. From
June 1995 to February 1999, he served as Chief Financial Officer, then
Treasurer, of Sheridan Healthcare, Inc., a physician practice management
company. From June 1994 to May 1995, he served as Vice President - Finance of
the California Health Plan Division of FHP International, Inc. From November
1988 to June 1994, he served as Vice President - Finance, Secretary and
Treasurer of TakeCare, Inc., a health maintenance organization company.
Mr. Ferrera has been Vice President - Operations since February 2000. He served
as Vice President - Information Technologies from October 1997 to February 2000.
Mr. Ferrara served as Vice President - SafeHealth Life Insurance Operations
from October 1995, when he joined the Company, to October 1997. From March 1988
to October 1995, Mr. Ferrera was Director of Provider Relations and Product
Consultant for CIGNA Dental Health. Prior to that, he was a Staff Sergeant in
the United States Air Force.
Dr. Kaufman has been Senior Vice President and Chief Dental Officer of the
Company since January 1997. From January 1995 to January 1997, he was National
Dental Director for CIGNA. From January 1996 to January 1997, Dr. Kaufman was
Chief Executive Officer of CIGNA Dental Health of Arizona, Inc. Prior to that he
was Regional Dental Director for the western region of CIGNA from February 1990
to January 1995. Prior thereto, Dr. Kaufman was CIGNA's Dental Director for the
State of Arizona from April 1989 to February 1990. From September 1984 to April
1989, he was Dental Director and Dental Department Chair for CIGNA Healthcare of
Arizona, Inc. Dr. Kaufman was in private dental practice from August 1979 to
August 1984. Prior thereto, Dr. Kaufman was a general dentist in the United
States Air Force from July 1976 to June 1979. Dr. Kaufman is licensed to
practice dentistry in the States of Arizona and California. He is a member of
the American Dental Association, Arizona Dental Association, and California
Dental Association. He serves on the dental advisory board for Procter and
Gamble, Health Services Advisory Group, and on the adjunct faculty at Northern
Arizona University.
Mr. Keating has been Vice President - Sales and Marketing since February 2000.
He was the Western Regional Vice President of the Company from October 1997 to
February 2000. He was Vice President-Imprimis and Guards Office Operations for
the Company from October 1995 until October 1997. He was Vice
President-SafeHealth Life Operations from August 1995, when he joined the
Company, until October 1995. From March 1987 to July 1995, Mr. Keating served in
various executive capacities for CIGNA Dental Health, including Director of
Sales and Account Services, Director of Network Development and Director of
Staff Model Operations.
Ms. Lucci has been Vice President - Corporate Services since February 2000. She
served as Director of Corporate Services and Human Resources from January 1996
to February 2000. From March 1994, when she joined the Company, to January
1996, Ms. Lucci was a Broker Specialist and Sales and Marketing Administrator.
From February 1988 to March 1994, Ms. Lucci served as Vice President - Franchise
Real Estate Administration of Conroy's, Inc. From March 1985 to February 1988,
Ms. Lucci was Vice President - Administration and Assistant Operations Officer
for Dr. Howard M. Stein Dental Groups.
Ms. Vega has been Vice President - Provider Relations since February 2000. She
served the Company as Executive Director of the Los Angeles market from November
1997 to February 2000. Prior to that, she was Director - Orthodontic Programs
from October 1995, when she joined the Company, to October 1997. From March 1992
to October 1995, Ms. Vega was a Provider Relations Manager for CIGNA Dental
Health.
Dr. Baileys has been Chairman of the Board of Directors since September 1995. He
served as President of the Company from 1981 until March 1997 and Chief
Executive Officer from May 1995 to February 2000. He was Chief Operating Officer
from 1981 to May 1995. From 1975 until 1981, Dr. Baileys served in a variety of
executive and administrative capacities with the Company. Dr. Baileys is
licensed to practice dentistry in the State of California. He is a member of the
Southern California chapter of the Young Presidents' Organization.
-27-
<PAGE>
Mr. Anderson has been President of Calver Corporation, a health care consulting
and investment firm, and a private investor, since 1982. Mr. Anderson currently
serves on the board of directors of PacificCare Health Systems, Inc., Horizon
Health Corporation and Genesis Health Ventures, Inc.
Mr. Daniels was a founder of CAI Partners, an investment firm, in 1989 and has
been a principal of that entity since then. Mr. Daniels has substantial
experience investing as a principal in the health care industry. Over the last
20 years, Mr. Daniels has invested in numerous start-up, venture capital and
buyout transactions in various sectors across the health care spectrum,
including health maintenance organizations, hospitals, nursing homes, cancer
treatment centers, psychiatric and substance abuse services, generic drugs,
pre-clinical and clinical contract research organizations and pharmacy benefit
companies. Mr. Daniels is currently a director of Pharmakinetics Laboratories,
Inc. He was a past Chairman of Zenith Laboratories, Inc. and has been a director
of Ivax Corp., Comprecare, Inc. and MIM Corp.
-28-
<PAGE>
ITEM 11. EXECUTIVE COMPENSATION
- ----------------------------------
The following table discloses compensation paid to the Company's Chief Executive
Officer as of December 31, 1999, the other four most highly-paid executive
officers as of December 31, 1999 who received total compensation in excess of
$100,000 during the year ended December 31, 1999, and the current Chief
Executive Officer and Chief Financial Officer, who recently joined the Company
(the "Named Executive Officers"). The compensation disclosed is for the three
years ended December 31, 1999.
<TABLE>
<CAPTION>
LONG-TERM
COMPENSATION
AWARDS
-------
ANNUAL COMPENSATION LIFE STOCK
--------------------------- INSURANCE OPTIONS
NAME PRINCIPAL POSITION YEAR SALARY BONUS PREMIUMS GRANTED
- ----------------------------- ---------------------- -------- -------- ------- -------- -------
<S> <C> <C> <C> <C> <C> <C>
James E. Buncher President and Chief 1999 $ -- $ -- $ -- --
Executive Officer (1) 1998 -- -- -- --
1997 -- -- -- --
Steven J. Baileys, D.D.S. Chairman of the Board 1999 400,000 -- 1,260 --
of Directors and Chief 1998 400,000 -- 1,260 70,000
Executive Officer (2) 1997 400,000 -- 1,260 50,000
John E. Cox President and Chief 1999 275,000 -- -- --
Operating Officer (3) 1998 275,000 -- -- 25,000
1997 258,221 -- -- 25,000
Ronald I. Brendzel, J.D. Senior Vice President, 1999 185,000 -- 900 --
General Counsel and 1998 185,000 -- 900 5,000
Secretary 1997 185,000 -- 900 5,000
Dennis L. Gates Senior Vice President 1999 33,333 -- -- 50,000
and Chief Financial 1998 -- -- -- --
Officer (4) 1997 -- -- -- --
Herb J. Kaufman, D.D.S. Senior Vice President 1999 170,000 -- 249 --
and Chief Dental 1998 165,530 -- 249 7,500
Officer (5) 1997 153,907 -- 249 25,000
Kenneth E. Keating Western Regional 1999 150,000 -- -- --
Vice President (6) 1998 150,000 -- -- 5,000
1997 150,000 -- -- 2,500
<FN>
(1) Mr. Buncher joined the Company in March 2000. His current annual salary is $225,000.
(2) Dr. Baileys resigned his position as Chief Executive Officer in March 2000. He remains the Chairman
of the Board of Directors.
(3) Mr. Cox left the Company in March 2000.
(4) Mr. Gates joined the Company in November 1999. His current annual salary is $209,000.
(5) Dr. Kaufman joined the Company in January 1997.
(6) Mr. Keating became Vice President - Sales and Marketing in February 2000.
</TABLE>
The Company has employment agreements with Drs. Baileys and Kaufman, and Mr.
Brendzel. The employment agreements with Dr. Baileys and Mr. Brendzel
expire on May 31, 2000, and provide for annual salaries of $400,000
and $185,000, respectively. The employment agreement with Dr. Kaufman
expires on January 5, 2002, and provides for an annual salary of $170,000. The
Company may terminate any of the agreements for cause. Each executive may
terminate his agreement for any reason. In the event that more than 50% of the
Company's outstanding common stock is purchased by an entity that is not an
existing stockholder, and newly elected directors constitute a majority of the
Company's Board of Directors, then each executive, at his option, may terminate
his employment agreement. In this event, the Company would be obligated to pay
each of Dr. Baileys and Mr. Brendzel an amount equal to three times
each employee's current annual salary and bonus, and would be obligated to pay
Dr. Kaufman an amount equal to his current annual salary and bonus. The Company
would also be obligated to continue providing employee benefits to each
executive through the termination date of the employment agreement. Dr. Baileys
and Mr. Brendzel have each agreed that no acceleration or vesting of any rights
or benefits under his employment agreement related to a change of control of the
Company, including severance payments, shall occur as a result of the
-29-
<PAGE>
transaction that occurred on March 1, 2000 (see Recent Developments). Mr. Cox
has entered into a separate employment termination agreement, which also
included such a waiver.
STOCK OPTION GRANTS DURING THE YEAR ENDED DECEMBER 31, 1999
Stock options granted to the Named Executive Officers during the year ended
December 31, 1999 were as follows.
<TABLE>
<CAPTION>
INDIVIDUAL STOCK OPTION GRANTS
- ---------------------------------------------------------
% OF TOTAL POTENTIAL REALIZABLE VALUE
NUMBER OF OPTIONS AT ASSUMED ANNUAL RATES OF
SHARE GRANTED EXERCISE STOCK PRICE APPRECIATION
UNDERLYING TO PRICE FOR OPTION TERM
OPTIONS EMPLOYEES PER EXPIRATION------------------
NAME GRANTED IN 1999 SHARE DATE 5% 10%
- --------------------------- ------- ------- ----- ------ -------- --------
<S> <C> <C> <C> <C> <C> <C>
James E. Buncher -- -- $ -- -- $ -- $ --
Steven J. Baileys, D.D.S. -- -- -- -- -- --
John E. Cox -- -- -- -- -- --
Ronald I. Brendzel, J.D. -- -- -- -- -- --
Dennis L. Gates 50,000 90.9% 3.75 Oct 2009 117,918 298,827
Herb J. Kaufman, D.D.S. -- -- -- -- -- --
Kenneth E. Keating -- -- -- -- -- --
</TABLE>
STOCK OPTION EXERCISES AND YEAR-END STOCK OPTION VALUES
There were no stock options exercised by any of the Named Executive Officers
during the year ended December 31, 1999. Stock options held by the Named
Executive Officers at December 31, 1999 are shown in the following table. None
of the stock options held by the Named Executive Officers had an exercise price
that was less than the market price of the common stock as of December 31, 1999.
There were no stock appreciation rights outstanding as of December 31, 1999.
<TABLE>
<CAPTION>
STOCK OPTIONS EXERCISED NUMBER OF SECURITIES VALUE OF UNEXERCISED
----------------------------- UNDERLYING UNEXERCISED IN-THE-MONEY OPTIONS
SHARES OPTIONS AT FISCAL YEAR-END AT FISCAL YEAR-END
ACQUIRED VALUE -------------------------- ----------------------------
NAME ON EXERCISE REALIZED EXERCISABLE UNEXERCISABLE EXERCISABLE UNEXERCISABLE
- ---------------------------- ---------------- ----------- ----------- ------------- ------------- -------------
<S> <C> <C> <C> <C> <C> <C>
James E. Buncher -- -- -- -- $ -- $ --
Steven J. Baileys, D.D.S. -- -- 256,667 63,333 -- --
John E. Cox (1) -- -- 100,000 25,000 -- --
Ronald I. Brendzel, J.D. -- -- 40,000 5,000 -- --
Dennis L. Gates -- -- -- 50,000 -- --
Herb J. Kaufman, D.D.S. -- -- 19,167 13,333 -- --
Kenneth E. Keating -- -- 10,833 4,167 -- --
<FN>
(1) Mr. Cox left the Company in March 2000.
</TABLE>
-30-
<PAGE>
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
- --------------------------------------------------------------------------------
The following table shows the number of shares of common stock beneficially
owned by each director, each Named Executive Officer and all current directors
and officers as a group as of March 1, 2000. The number of shares held includes
shares underlying stock options that are exercisable within 60 days of March 1,
2000. The named person has sole voting and investment power with respect to all
shares of common stock listed, except where indicated otherwise.
<TABLE>
<CAPTION>
NUMBER OF SHARES
BENEFICIALLY % OF TOTAL SHARES
OFFICER OR DIRECTOR OWNED (1) OUTSTANDING
- ---------------------------------------------- --------------- ------------------
<S> <C> <C>
James E. Buncher 25,000 *
Ronald I. Brendzel, J.D. (2) 154,906 3.2
John E. Cox 10,000 *
Dennis L. Gates -- *
Herb J. Kaufman, D.D.S. (3) 30,102 *
Kenneth E. Keating (4) 13,333 *
Steven J. Baileys, D.D.S. (5) 2,020,433 40.7%
Jack R. Anderson 283,000 6.0
Leslie B. Daniels 37,155 *
All directors and officers as a group (9 persons) 2,573,929 50.9%
<FN>
* Indicates less than one percent (1%).
(1) Includes options that are exercisable within 60 days of March 1, 2000. Some
of the stockholders included in this table reside in states having community
property laws under which the spouse of a stockholder in whose name securities
are registered may be entitled to share in the management of their community
property which may include the right to vote or dispose of such shares.
(2) Includes options to purchase 43,333 shares of common stock.
(3) Includes options to purchase 30,000 shares of common stock.
(4) Represents options to purchase 13,333 shares of common stock.
(5) Includes options to purchase 221,667 shares of common stock, 700,767 shares
of common stock owned by the Baileys Family Trust, 303,000 shares of common
stock held in various trusts for relatives of Dr. Baileys, for all of which Dr.
Baileys is trustee and for which Dr. Baileys has sole power to vote the
securities, and 150,000 shares of common stock held by the Alvin and Geraldine
Baileys Foundation, for which Dr. Baileys is an officer and director and for
which Dr. Baileys has shared power to vote the securities. Dr. Baileys
disclaims beneficial ownership of any of the shares in the trusts or the
foundation referenced above.
</TABLE>
-31-
<PAGE>
PRINCIPAL STOCKHOLDERS
The following table shows the number of shares of common stock beneficially
owned by all entities who, to the Company's knowledge, owned 5% or more of the
total outstanding common stock of the Company as of March 31, 2000, except as
indicated otherwise. The named person has sole voting and investment power with
respect to all shares of common stock listed, except as indicated otherwise. For
purposes of this Annual Report on Form 10-K, beneficial ownership of securities
is defined in accordance with the rules and regulations of the Securities and
Exchange Commission and generally means the power to vote or dispose of
securities regardless of any economic interest therein.
<TABLE>
<CAPTION>
NUMBER OF SHARES
BENEFICIALLY % OF TOTAL SHARES
STOCKHOLDER OWNED (1) OUTSTANDING
- ---------------------------------- -------------- -----------------
<S> <C> <C>
Steven J. Baileys, D.D.S. (2) 2,020,433 40.7%
Baileys Family Trust (3) 700,767 14.8
The Burton Partnership (4) 521,300 11.0
Jack R. Anderson (5) 283,000 6.0
Dimensional Fund Advisors, Inc. (6) 265,800 5.6
FMR Corp. (7) 256,500 5.4
All principal stockholders 3,347,033 67.4
<FN>
(1) Includes options that are exercisable within 60 days of March 1, 2000. Some of the stockholders
included in this table reside in states having community property laws under which the spouse of a
stockholder in whose name securities are registered may be entitled to share in the management of their
community property which may include the right to vote or dispose of such shares.
(2) The address of Steven J. Baileys, D.D.S., who is Chairman of the Board of Directors of the
Company, is 95 Enterprise, Aliso Viejo, California 92656. The amount includes options to purchase 221,667
shares of common stock, 700,767 shares of common stock owned by the Baileys Family Trust, 303,000 shares
of common stock held in various trusts for relatives of Dr. Baileys, for all of which Dr. Baileys is
trustee and for which Dr. Baileys has sole power to vote the securities, and 150,000 shares of common
stock held by the Alvin and Geraldine Baileys Foundation, for which Dr. Baileys is an officer and director
and for which Dr. Baileys has shared power to vote the securities. Dr. Baileys disclaims beneficial
ownership of any of the shares in the trusts or the foundation referenced above.
(3) The address of the Baileys Family Trust, of which Steven J. Baileys, D.D.S., is Trustee, is P.O.
Box 9109, Newport Beach, California 92658. The shares indicated do not include 303,000 shares of common
stock held in various trusts for relatives of Dr. Baileys, or 150,000 shares of common stock held by the
Alvin and Geraldine Baileys Foundation.
(4) The address of The Burton Partnership is P.O. Box 4643, Jackson, Wyoming 83001. A Schedule 13D was
filed with the Securities and Exchange Commission on December 8, 1999, with respect to the shares
indicated.
(5) The address of Jack R. Anderson is 14755 Preston Road, Suite 515, Dallas, Texas 75240. A Schedule
13D/A was filed with the Securities and Exchange Commission on February 16, 2000, with respect to the
shares indicated.
(6) The address of Dimensional Fund Advisors, Inc. ("Dimensional") is 1299 Ocean Avenue, 11th Floor,
Santa Monica, California 90401. Dimensional serves as an investment advisor or manager to certain
investment companies, trusts and accounts, which are the owners of the shares of common stock indicated in
the table above. In its role as investment advisor or manager, Dimensional possesses voting and/or
investment power over the shares of common stock indicated above. Dimensional disclaims beneficial
ownership of such shares of common stock. A Schedule 13G was filed with the Securities and Exchange
Commission on February 3, 2000, with respect to the shares indicated.
(7) The address of FMR Corp. ("Fidelity") is 82 Devonshire Street, Boston, Massachussetts 02109.
Fidelity acts as investment advisor to Fidelity Low-Priced Stock Fund (the "Fund"), which owns the shares
of common stock indicated above. Fidelity does not have the power to vote or direct the voting of the
shares of common stock indicated above, which power resides with the Board of Trustees of the Fund.
Fidelity carries out the voting of the shares of common stock indicated above under written guidelines
established by the Board of Trustees of the Fund. Edward C. Johnson 3rd, chairman of Fidelity, Fidelity,
and the Fund each has sole power to dispose of the shares indicated above. A Schedule 13G was filed with
the Securities and Exchange Commission on February 14, 2000, with respect to the shares indicated.
</TABLE>
-32-
<PAGE>
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
- -------------------------------------------------------------
None.
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
- --------------------------------------------------------------------------------
(A) FINANCIAL STATEMENTS, FINANCIAL STATEMENT SCHEDULES, AND EXHIBITS
The consolidated financial statements and financial statement schedule of
SafeGuard Health Enterprises, Inc. filed as part of this 1999 Annual Report on
Form 10-K are listed in the accompanying Index to Financial Statements on Page
F-1. An "Exhibit Index" is included in this 1999 Annual Report on Form 10-K
beginning on Page E-1. All Exhibits are either attached hereto or are on file
with the Securities and Exchange Commission.
(B) REPORTS ON FORM 8-K
A Report on Form 8-K was filed with the Securities and Exchange Commission (the
"SEC") on October 8, 1999, to report that the Company had executed a second
amendment to the definitive agreement (the "Agreement") with an investor group
led by CAI Partners and Company and Jack R. Anderson. Under the Agreement, which
was filed as an exhibit to a Form 8-K filed with the SEC on August 13, 1999, the
investor group agreed to invest $40 million into the Company.
A Report on Form 8-K was filed with the SEC on November 16, 1999. This Form 8-K
reported that the Company had announced that it believes its revenues, and
therefore, its earnings, for the quarter and nine months ended September 30,
1999, which were previously announced on October 21, 1999, were overstated by a
material amount. The Company also reported that it expected to restate its
annual financial statements for the years ended December 31, 1998 and 1997, and
certain quarterly periods therein to correct the accounting treatment of
transactions related to discontinued dental office operations, and as such, the
1998 and 1997 annual financial statements and the independent auditors' report
thereon should not be relied upon. The Company has filed a Form 10-K/A for the
year ended December 31, 1998, which includes restated financial statements for
the years ended December 31, 1998 and 1997, and the independent auditors' report
thereon.
A Report on Form 8-K was filed with the SEC on March 16, 2000, to report that
the Company entered into an agreement with both of its lenders and an investor
group, under which the investor group loaned $8 million to the Company. Under
this agreement, the investor group and the existing lenders agreed to convert
the $8 million loan, the outstanding balance of $7.0 million under the bank line
of credit, and the outstanding balance of $32.5 million under the senior notes
to convertible preferred stock, subject to regulatory approval. Under this
agreement, both lenders agreed not to demand or accept any payment under the
credit agreements, and not to take any enforcement actions of any kind under the
agreements until April 30, 2001.
The above-described reports on Form 8-K are hereby incorporated by reference in
this 1999 Annual Report on Form 10-K for the year ended December 31, 1999.
-33-
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, the registrant has duly caused this report to be signed on its
behalf by the undersigned, thereunto duly authorized.
SAFEGUARD HEALTH ENTERPRISES, INC.
By: /s/ James E. Buncher Date: April 14, 2000
-------------------------- -------------------------
James E. Buncher
President and Chief Executive Officer
(Principal Executive Officer)
By: /s/ Dennis L. Gates Date: April 14, 2000
------------------------- -------------------------
Dennis L. Gates
Senior Vice President, Chief Financial
Officer and Director
(Principal Accounting fficer)
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed below by the following persons on behalf of the registrant and
in the capacities and on the dates indicated.
By: /s/ James E. Buncher Date: April 14, 2000
--------------------------------- -------------------------
James E. Buncher
President, Chif Executive Officer
and Director
By: /s/ Steven J. Baileys Date: April 14, 2000
--------------------------------- -------------------------
Steven J. Baileys, D.D.S.
Chairman of the Board of Directors
By: /s/ Ronald I. Brendzel Date: April 14, 2000
--------------------------------- -------------------------
Ronald I. Brendzel, J.D.
Senior Vice President, General Counsel,
Secretary and Director
By: /s/ Dennis L. Gates Date: April 14, 2000
--------------------------------- -------------------------
Dennis L. Gates
Senior Vice President, Chief Financial
Officer and Director
By: /s/ Jack R. Anderson Date: April 14, 2000
--------------------------------- -------------------------
Jack R. Anderson
Director
By: /s/ Leslie B. Daniels Date: April 14, 2000
--------------------------------- -------------------------
Leslie B. Daniels
Director
-34-
<PAGE>
<TABLE>
<CAPTION>
EXHIBIT INDEX
EXHIBIT
NUMBER DESCRIPTION
- ------ ---------------------------------------------------------------------------------------
<S> <C>
2.1 Plans of Acquisition (8)
3.1 Articles of Incorporation (4)
3.2 Bylaws (4)
10.1 1984 Stock Option Plan (3)
10.2 Stock Option Plan Amendment (1)
10.3 Stock Option Plan Amendment (5)
10.4 Stock Option Plan Amendment (6)
10.5 Amended Stock Option Plan (10)
10.6 Corporation Grant Deed, dated December 21, 1984, relating to a property located at 505
North Euclid Avenue, Anaheim, California (2)
10.7 Employment Agreement, as Amended, dated May 25, 1995, between Steven J. Baileys,
D.D.S. and the Company (7)
10.8 Employment Agreement, as Amended, dated May 25, 1995, between Ronald I. Brendzel
and the Company (7)
10.9 Employment Agreement dated May 25, 1995, between John E. Cox and the Company (7)
10.10 Form of Rights Agreement, dated as of March 22, 1996, between the Company and
American Stock Transfer and Trust Company, as Rights Agent (7)
10.11 Employment Agreement dated January 5, 1997, between Herb J. Kaufman, D.D.S. and
the Company (10)
10.12 Credit Agreement dated September 25, 1996, between Bank of America National Trust
and Savings Association and the Company (9)
10.13 Stock Purchase Agreement between Consumers Life Insurance Company and SafeGuard
Health Enterprises, Inc. dated March 6, 1997 (11)
10.14 Purchase Agreement between Associated Dental Services, Inc. and Guards Dental, Inc.
dated August 1, 1997 (11)
10.15 Purchase agreement between Pacific Coast Dental, Inc. and Guards Dental, Inc. dated
August 1, 1997 (11)
10.16 Form of Note Purchase Agreement dated as of September 30, 1997, and form of
Promissory Note (12)
10.17 Form of Master Asset Purchase Agreement effective as of April 1, 1998, and Form of
Promissory Note without exhibits (13)
10.18 Default Forbearance Agreement and Irrevocable Power of Attorney (14)
10.19 Credit Agreement dated January 29, 1998, between Silicon Valley Bank and the
Company (15)
10.20 First Waiver and Amendment to Note Purchase Agreement (16)
10.21 Amended and Restated Loan and Security Agreement (16)
10.22 Debenture and Note Purchase Agreement (17)
10.23 Stockholder Agreement (17)
10.24 First Amendment to Debenture and Note Purchase Agreement (18)
10.25 Second Amendment to Debenture and Note Purchase Agreement (18)
10.26 Term Sheet Agreement dated as of March 1, 2000 (19)
21.1 Subsidiaries of the Company
23.1 Independent Auditor's Consent
27.1 Financial Data Schedule
<FN>
_________________________________________
(1) Incorporated by reference herein to the exhibit of the same number filed as an exhibit to the
Company's Registration Statement on Form S- filed on September 12, 1983 (File No. 2-86472).
(2) Incorporated by reference herein to the exhibit of the same number filed as an exhibit to the
Company's Registration Statement on Form S-1 filed on August 22, 1985 (File No. 2-99663).
(3) Incorporated by reference herein to the exhibit of the same number filed as an exhibit to the
Company's Registration Statement on Form S-1 filed on July 3, 1984 (File No. 2-92013).
(4) Incorporated by reference herein to the exhibit of the same number filed as an exhibit to the
Company's Annual Report of Form 10-K for the period ended December 31, 1987.
(5) Incorporated by reference herein to the exhibit of the same number filed as an exhibit to the
Company's Annual Report of Form 10-K for the period ended December 31, 1989.
(6) Incorporated by reference herein to the exhibit of the same number filed as an exhibit to the
Company's Annual Report of Form 10-K for the period ended December 31, 1992.
E-1
<PAGE>
(7) Incorporated by reference herein to the exhibit of the same number filed as an exhibit to the
Company's Annual Report of Form 10-K for the period ended December 31, 1995.
(8) Incorporated by reference herein to Exhibit D filed as an exhibit to the Company's Report on Form
8-K dated September 27, 1996.
(9) Incorporated by reference herein to Exhibit E filed as an exhibit to the Company's Report on Form
8-K dated September 27, 1996.
(10) Incorporated by reference herein to the exhibit of the same number filed as an exhibit to the
Company's Annual Report on Form 10-K for the period ended December 31, 1996.
(11) Incorporated by reference to the exhibit of the same number filed as an exhibit to the Company's
quarterly statement on Form 10-Q for the period ended June 30, 1997.
(12) Incorporated by reference herein to Exhibit 99.1 filed as an exhibit to the Company's Report on
Form 8-K dated October 7, 1997.
(13) Incorporated by reference herein to Exhibit F filed as an exhibit to the Company's Report on
Form 8-K dated April 1, 1998. 14 Referenced, disclosed and filed as an exhibit to the Company's
Annual Report on Form 10-K for the period ended December 31, 1998.
(14) Incorporated by reference and disclosed and filed as an exhibit to the Company's Annual Report
on Form 10-K for the period ended December 31, 1998.
(15) Incorporated by reference and disclosed in the Company's Quarterly Report on Form 10-Q for the
period ended September 30, 1998 and filed as an exhibit to the Company's Annual Report on Form
10-K for the period ended December 31, 1998.
(16) Incorporated by reference and disclosed and filed as an exhibit to the Company's Report on Form
8-K dated as of June 4, 1999.
(17) Incorporated by reference and disclosed and filed as an exhibit to the Company's Report on Form
8-K dated as of June 30, 1999.
(18) Incorporated by reference and disclosed and filed as an exhibit to the Company's Report on Form
8-K dated as of October 5, 1999.
(19) Incorporated by reference and disclosed and filed as an exhibit to the Company's Report on Form
8-K dated as of March 16, 2000.
</TABLE>
E-2
<PAGE>
SAFEGUARD HEALTH ENTERPRISES, INC. AND SUBSIDIARIES
INDEX TO FINANCIAL STATEMENTS
Page
----
Independent Auditors' Report F-2
Financial Statements
Consolidated Balance Sheets F-3
Consolidated Statements of Operations F-4
Consolidated Statements of Stockholders' Equity (deficit) F-5
Consolidated Statements of Cash Flows F-6
Notes to Consolidated Financial Statements F-7 to F-24
Financial Statement Schedule
Schedule II - Valuation and Qualifying Accounts S-1
F-1
<PAGE>
INDEPENDENT AUDITORS' REPORT
To the Board of Directors and Shareholders of SafeGuard Health Enterprises,
Inc.:
We have audited the accompanying consolidated balance sheets of SafeGuard Health
Enterprises, Inc. and subsidiaries (the "Company") as of December 31, 1999 and
1998, and the related consolidated statements of operations, stockholders'
equity (deficit), and cash flows for each of the three years in the period ended
December 31, 1999. Our audits also included the financial statement schedule for
the years ended December 31, 1999, 1998 and 1997, included in the Index at Item
14(a)(2). These consolidated financial statements and financial statement
schedule are the responsibility of the Company's management. Our responsibility
is to express an opinion on the financial statements and financial statement
schedule based on our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United States of America. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, such consolidated financial statements present fairly, in all
material respects, the financial position of SafeGuard Health Enterprises, Inc.
and subsidiaries as of December 31, 1999 and 1998, and the results of their
operations and their cash flows for each of the three years in the period ended
December 31, 1999, in conformity with accounting principles generally accepted
in the United States of America. Also, in our opinion, such consolidated
financial statement schedule, when considered in relation to the basic
consolidated financial statements taken as a whole, presents fairly, in all
material respects, the information set forth therein.
DELOITTE & TOUCHE LLP
Costa Mesa, California
April 13, 2000
F-2
<PAGE>
<TABLE>
<CAPTION>
SAFEGUARD HEALTH ENTERPRISES, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
AS OF DECEMBER 31, 1999 AND 1998
(IN THOUSANDS, EXCEPT PER SHARE DATA)
1999 1998
--------- ---------
ASSETS
<S> <C> <C>
Current assets:
Cash and cash equivalents $ 1,639 $ 2,978
Investments available-for-sale, at estimated fair value 3,361 392
Accounts receivable, net of allowances of $1,054 in 1999 and $1,942 in 1998 2,978 3,345
Assets held for sale -- 3,562
Income taxes receivable 480 485
Prepaid expenses and other current assets 641 1,017
Deferred income taxes -- 67
--------- ---------
Total current assets 9,099 11,846
Property and equipment, net of accumulated depreciation 4,816 6,105
Restricted cash ($360 in 1999 and $278 in 1998) and
investments available for sale, at estimated fair value 3,454 6,298
Investments available-for-sale, at estimated fair value 515 772
Notes receivable, net of allowances of $3,839 in 1999 and $2,020 in 1998 3,505 3,523
Assets of discontinued operations transferred under contractual arrangements 2,500 8,950
Intangible assets, net of accumulated amortization of $58 in 1999 and $3,622 in 1998 4,437 31,807
Deferred income taxes -- 8,415
Other assets 251 240
--------- ---------
Total assets $ 28,577 $ 77,956
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)
Current liabilities:
Accounts payable $ 5,771 $ 4,918
Other accrued expenses 3,691 5,129
Short-term debt 255 9,894
Claims payable and claims incurred but not reported 6,437 3,558
Deferred revenue 1,975 1,022
--------- ---------
Total current liabilities 18,129 24,521
Long-term debt 39,545 32,500
Other long-term liabilities 2,517 1,169
Commitments and contingencies (Note 10) -- --
Stockholders' equity (deficit):
Preferred stock - $.01 par value; 1,000,000 shares authorized;
no shares issued or outstanding -- --
Common stock - $.01 par value; 30,000,000 shares authorized;
4,747,000 shares issued and outstanding in 1999 and 1998 21,829 21,509
Retained earnings (accumulated deficit) (35,302) 16,734
Accumulated other comprehensive income (loss) (18) (354)
Treasury stock, at cost (18,123) (18,123)
--------- ---------
Total stockholders' equity (deficit) (31,614) 19,766
--------- ---------
Total liabilities and stockholders' equity (deficit) $ 28,577 $ 77,956
========= =========
</TABLE>
See accompanying Notes to Consolidated Financial Statements.
F-3
<PAGE>
<TABLE>
<CAPTION>
SAFEGUARD HEALTH ENTERPRISES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997
(IN THOUSANDS, EXCEPT PER SHARE DATA)
1999 1998 1997
--------- --------- --------
<S> <C> <C> <C>
Premium revenue $ 96,225 $ 97,449 $95,350
Health care services expense 67,559 66,020 65,702
Selling, general and administrative expense 37,041 36,259 25,103
Loss on impairment of assets 24,576 2,397 --
--------- --------- --------
Operating income (loss) (32,951) (7,227) 4,545
Investment and other income 2,067 624 1,316
Interest expense (5,855) (4,311) (2,871)
--------- --------- --------
Income (loss) before income taxes and discontinued operations (36,739) (10,914) 2,990
Income tax expense (benefit) 10,934 (3,406) 1,371
--------- --------- --------
Income (loss) before discontinued operations (47,673) (7,508) 1,619
Discontinued operations:
Loss from operations to be disposed of (net of income tax
benefit of $2,087 in 1999, $1,554 in 1998 and $4,736 in 1997) (4,363) (2,430) (7,408)
Income on disposal of orthodontic and dental
practices (net of income tax expense of $189 in 1997) -- -- 296
--------- --------- --------
Loss from discontinued operations (4,363) (2,430) (7,112)
--------- --------- --------
Net loss $(52,036) $ (9,938) $(5,493)
========= ========= ========
Basic earnings (loss) per share:
Income (loss) from continuing operations $ (10.04) $ (1.58) $ 0.34
Loss from discontinued operations (0.92) (0.51) (1.50)
--------- --------- --------
Net loss $ (10.96) $ (2.09) $ (1.16)
========= ========= ========
Weighted average basic shares outstanding 4,747 4,747 4,723
Diluted earnings (loss) per share:
Income (loss) from continuing operations $ (10.04) $ (1.58) $ 0.33
Loss from discontinued operations (0.92) (0.51) (1.45)
--------- --------- --------
Net loss $ (10.96) $ (2.09) $ (1.12)
========= ========= ========
Weighted average diluted shares outstanding 4,747 4,747 4,899
</TABLE>
See accompanying Notes to Consolidated Financial Statements.
F-4
<PAGE>
<TABLE>
<CAPTION>
SAFEGUARD HEALTH ENTERPRISES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)
YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997
(IN THOUSANDS, EXCEPT PER SHARE DATA)
ACCUMULATED
OTHER
NUMBER OF SHARES COMPREHENSIVE
----------------- COMMON RETAINED (LOSS) TREASURY
COMMON TREASURY STOCK EARNINGS INCOME STOCK TOTAL
------ --------- ------- ---------- -------- --------- ---------
<S> <C> <C> <C> <C> <C> <C> <C>
Balances, January 1, 1997 7,991 (3,275) $21,255 $ 32,165 $ (97) $(18,123) $ 35,200
Comprehensive income (loss):
Net loss -- -- -- (5,493) -- -- (5,493)
Net unrealized holding losses
arising during the year -- -- -- -- (357) -- (357)
Less reclassification adjustment for
net gains included in net loss -- -- -- -- 11 -- 11
------ --------- ------- ---------- -------- --------- ---------
Net unrealized loss on investment
securities available-for-sale, net
of tax benefit of $221 -- -- -- -- (346) -- (346)
------ --------- ------- ---------- -------- --------- ---------
Total comprehensive income (loss) -- -- -- (5,493) (346) -- (5,839)
Exercise of stock options, net of
tax benefit of $121 31 -- 254 -- -- -- 254
------ --------- ------- ---------- -------- --------- ---------
Balances, December 31, 1997 8,022 (3,275) 21,509 26,672 (443) (18,123) 29,615
Comprehensive income (loss):
Net loss -- -- -- (9,938) -- -- (9,938)
Net unrealized holding losses
arising during the year -- -- -- -- (161) -- (161)
Less reclassification adjustment for
net gains included in net loss -- -- -- -- 250 -- 250
------ --------- ------- ---------- -------- --------- ---------
Net unrealized gain on investment
securities available-for-sale, net
of tax of $57 -- -- -- -- 89 -- 89
------ --------- ------- ---------- -------- --------- ---------
Total comprehensive income (loss) -- -- -- (9,938) 89 -- (9,849)
------ --------- ------- ---------- -------- --------- ---------
Balances, December 31, 1998 8,022 (3,275) 21,509 16,734 (354) (18,123) 19,766
Comprehensive income (loss):
Net loss -- -- -- (52,036) -- -- (52,036)
Net unrealized holding losses
arising during the year -- -- -- -- (135) -- (135)
Less reclassification adjustment for
net gains included in net loss -- -- -- -- 471 -- 471
------ --------- ------- ---------- -------- --------- ---------
Net unrealized gain on investment
securities available-for-sale, net
of tax of $226 -- -- -- -- 336 -- 336
------ --------- ------- ---------- -------- --------- ---------
Total comprehensive income (loss) -- -- -- (52,036) 336 -- (51,700)
Issuance of stock warrants -- -- 320 -- -- -- 320
------ --------- ------- ---------- -------- --------- ---------
Balances, December 31, 1999 8,022 (3,275) $21,829 $ (35,302) $ (18) $(18,123) $(31,614)
====== ========= ======= ========== ======== ========= =========
</TABLE>
F-5
<PAGE>
<TABLE>
<CAPTION>
SAFEGUARD HEALTH ENTERPRISES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997
(IN THOUSANDS, EXCEPT PER SHARE DATA)
1999 1998 1997
--------- --------- ---------
<S> <C> <C> <C>
Cash flows from operating activities:
Net loss $(52,036) $ (9,938) $ (5,493)
Adjustments to reconcile net loss to net
cash provided by (used in) operating activities:
Loss from discontinued operations 4,363 2,430 7,408
Gain on disposal of discontinued operations -- -- (296)
Loss on impairment of assets 24,576 2,397 --
Depreciation and amortization 3,832 3,505 2,284
Write-off of deferred loan costs 1,954 -- --
Deferred income taxes 10,569 (2,349) (1,380)
Changes in operating assets and liabilities, net
of effects of acquisition:
Accounts receivable 367 912 (105)
Income taxes receivable 5 (353) (88)
Prepaid expenses and other current assets 365 449 (299)
Accounts payable and accrued expenses 1,599 4,003 134
Deferred revenue 953 (155) 625
Claims payable and claims incurred but not reported 2,879 (73) 801
--------- --------- ---------
Net cash (used in) provided by continuing operations (574) 828 3,591
Net cash used in discontinued operations -- (2,779) (5,183)
--------- --------- ---------
Net cash used in operating activities (574) (1,951) (1,592)
Cash flows from investing activities:
Purchase of investments available-for-sale (13,267) (10,169) (9,386)
Proceeds from sales/maturity of investments available for sale 13,815 11,319 9,903
Purchase of investments held-to-maturity -- -- (8,104)
Proceeds from maturity of investments held-to-maturity -- 4,906 5,063
Purchases of property and equipment (1,220) (2,357) (2,118)
Proceeds from sale of property and equipment 3,500 -- --
Payments received on notes receivable 518 92 265
Issuance of notes receivable (500) (750) --
Cash paid for business acquired, net of cash acquired -- -- (1,203)
Additions to intangibles and other assets (969) -- (2,109)
--------- --------- ---------
Net cash provided by (used in) continuing operations 1,877 3,041 (7,689)
Net cash used in discontinued operations -- -- (684)
--------- --------- ---------
Net cash provided by (used in) investing activities 1,877 3,041 (8,373)
Cash flows from financing activities:
Borrowings on long-term debt -- 8,000 40,500
Payments on notes payable and long-term debt (2,594) (9,692) (27,692)
Proceeds from exercise of stock options -- -- 133
Payments on accrued compensation agreement (48) (72) (30)
--------- --------- ---------
Net cash (used in) provided by financing activities (2,642) (1,764) 12,911
--------- --------- ---------
Net increase (decrease) in cash (1,339) (674) 2,946
Cash and cash equivalents at beginning of year 3,256 3,652 706
--------- --------- ---------
Cash and cash equivalents at end of year $ 1,639 $ 2,978 $ 3,652
========= ========= =========
</TABLE>
See accompanying Notes to Consolidated Financial Statements.
F-6
<PAGE>
SAFEGUARD HEALTH ENTERPRISES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE1. ORGANIZATION AND SIGNIFICANT ACCOUNTING POLICIES
- ------------------------------------------------------------
SafeGuard Health Enterprises, Inc., a Delaware corporation (the "Company"),
provides managed care dental benefit plans, indemnity dental insurance plans,
and other related products to customers in several states. The Company is a
holding company that conducts its operations through several subsidiaries, one
of which is an insurance company that is licensed in several states, and the
rest of which are licensed as managed dental care plans in the states in which
they operate. The Company provides dental benefits to approximately 900,000
individuals through a managed care network of contracted dentists and a
preferred provider organization of contracted dentists. The Company was founded
as a non-for-profit entity in California in 1974, and was converted to a
for-profit entity in 1982. The Company acquired a licensed insurance company in
1992, a Texas-based managed dental care company in 1996, another licensed
insurance company in 1997, and a Florida-based managed dental care company in
1997. The two licensed insurance companies were merged in 1999. The Company's
financial statements were prepared in accordance with accounting principles
generally accepted in the United States of America.
The accompanying financial statements have been prepared on a going concern
basis, which contemplates the realization of assets and the satisfaction of
liabilities in the normal course of business. The Company's financial statements
do not include any adjustments relating to the recoverability and classification
of recorded asset amounts or the amounts and classification of liabilities that
might be necessary should the Company be unable to continue as a going concern.
As shown in the financial statements, during the years ended December 31, 1999
and 1998, the Company incurred net losses of $52.0 million and $9.9 million,
respectively, and net cash used by operating activities was $492,000 and $1.7
million, respectively. As of December 31, 1999 and 1998, the Company's current
liabilities exceeded its current assets by $9.0 million and $12.7 million,
respectively. As of December 31, 1999, the Company was in violation of certain
financial covenants related to the credit agreements with its two major lenders.
In addition, the net worth of one of the Company's regulated subsidiaries was
$4.5 million below the minimum regulatory requirement, prior to completion of
the transaction on March 1, 2000, as discussed in Note 14.
As of December 31, 1999, the Company's current liabilities exceeded its current
assets by $9.0 million. The Company believes this negative working capital
position is mitigated by the $8.0 million proceeds of a long-term borrowing
completed on March 1, 2000, as discussed above. The Company also intends to sell
certain long-term assets during the next several months, although there can be
no assurance that it will be successful in doing so.
Management believes that the Company's continuation as a going concern is
dependent upon its ability to generate sufficient cash flow to meet its
obligations on a timely basis, to comply with the terms and covenants of its
financing agreements, to obtain additional financing as may be required, and
ultimately to attain profitable operations. As further discussed in Note 14, on
March 1, 2000 the Company entered into an agreement with its primary lenders and
an investor group. Under this agreement all the Company's debt is expected to
be converted to equity, and the Company was able to use a portion of the
proceeds of the $8 million loan to resolve the minimum net worth deficiency
noted above. This transaction is pending shareholder and regulatory approval.
Also in connection with this agreement, the Company obtained a new chief
executive officer and certain new directors. Management's plans to continue as a
going concern and to return the Company to profitability include plans to
increase premium rates, reduce certain types of non-standard provider payments,
reduce the number of its employees by consolidating certain administrative
functions in one location, reduce the amount of office space used, and reduce
various other selling, general and administrative expenses. Management's plans
also include enhanced programs for customer retention, increasing the efficiency
of its provider network and streamlining operations with a focus toward
strengthening customer service. Management believes that the results of its
plans, and with the agreement reached on March 1, 2000 discussed above, that the
Company will be able to meets its ongoing obligations on a timely basis and
return to profitable operations. The Company also believes it will be able to
obtain additional financing, if nessessary, to support operations.
BASIS OF CONSOLIDATION
The consolidated financial statements include all the accounts of the Company
and its subsidiaries. Significant intercompany accounts and transactions have
been eliminated in consolidation.
RESTRICTED DEPOSITS AND MINIMUM NET WORTH REQUIREMENTS
Several of the Company's subsidiaries are subject to state regulations that
require them to maintain restricted deposits in the form of cash or investments.
As of December 31, 1999 and 1998, the Company had total restricted deposits of
$3.5 million and $6.3 million, respectively. In addition, some of those
F-7
<PAGE>
subsidiaries are required to maintain minimum amounts of tangible net worth.
Substantially all of the Company's cash and investments as of December 31, 1999
were required to meet those minimum net worth requirements, and therefore, the
Company had no material amount of cash or investments that was available for
other corporate purposes.
FAIR VALUE OF FINANCIAL INSTRUMENTS
The accompanying consolidated balance sheet includes the following financial
instruments: cash, investments, accounts receivable, notes receivable, accounts
payable and accrued expenses, and short-term and long-term debt. All of these
financial instruments, except for notes receivable and long-term debt, are
current assets or current liabilities. Because the current assets are expected
to be realized and the current liabilities are expected to be paid within a
short period of time, the carrying amount of these financial instruments
approximates fair value. The notes receivable, which are long-term, have been
written down to the Company's estimate of net realizable value, which
approximates fair value. Long-term debt is stated at the amount originally
loaned to the Company. Due to the transaction discussed in Note 14, the fair
value of the Company's long-term debt cannot be determined.
INTANGIBLE ASSETS
Intangible assets at December 31, 1999 consist of goodwill and a non-competition
covenant related to the acquisition of a managed dental care company in 1996.
Goodwill represents the excess of the purchase price of the acquired company
over the fair value of the net assets acquired, and which is being amortized on
a straight-line basis over 40 years. The Company's accounting policy is to
amortize intangible assets over their estimated useful lives. The Company has
estimated that its goodwill has a useful life of 40 years from the date of
acquisition of the related entity. See Note 6 for the Company's policy for
assessing recoverability of goodwill and a discussion of a charge to earnings
during 1999 for impairment of goodwill.
RECOGNITION OF REVENUE AND HEALTH CARE EXPENSE
Premium revenue is recognized in the period during which dental coverage is
provided to the related individuals. Payments received from customers in advance
of the period of coverage are reflected on the accompanying balance sheet as
deferred revenue. Health care services expense is recognized in the period in
which the services are delivered. The estimated liability for claims incurred
but not reported is based primarily on the average historical lag time between
the date of service and the date the related claim is submitted to the Company,
as well as the recent trend in the aggregate amount of incurred claims per
covered individual. Since the liability for incurred but not reported claims is
necessarily an actuarial estimate, the amount of claims eventually submitted for
services provided prior to the balance sheet date could differ significantly
from the estimated liability.
USE OF ESTIMATES IN FINANCIAL STATEMENTS
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities, the disclosure of
contingent assets and liabilities, and the reported amounts of revenues and
expenses. Actual results could differ from those estimates.
EARNINGS (LOSS) PER SHARE
Earnings (loss) per share are presented in accordance with Statement of
Financial Accounting Standards ("SFAS") No. 128, Earnings Per Share. Basic
earnings (loss) per share are based on the weighted average common shares
outstanding, excluding the effect of any potentially dilutive securities.
Diluted earnings (loss) per share are based on the weighted average common
shares outstanding, including the effect of all potentially dilutive securities.
During the three years ended December 31, 1999, the potentially dilutive
securities consisted entirely of stock options. Due to the net losses incurred
in 1999 and 1998, the outstanding stock options would have an anti-dilutive
effect on diluted earnings (loss) per share. Accordingly, the stock options are
excluded from the calculation of the diluted loss per share for 1999 and 1998.
The weighted average diluted shares outstanding were computed as follows (in
thousands):
F-8
<PAGE>
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
-------------------
1999 1998 1997
----- ----- -----
<S> <C> <C> <C>
Weighted average basic shares outstanding 4,747 4,747 4,723
Effect of dilutive stock options outstanding -- -- 176
----- ----- -----
Weighted average dilutive shares outstanding 4,747 4,747 4,899
===== ===== =====
</TABLE>
SUPPLEMENTARY CASH FLOW INFORMATION
Supplementary information related to the accompanying consolidated statements of
cash flows is as follows (in thousands):
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
------------------------
1999 1998 1997
------ ------ --------
<S> <C> <C> <C>
Supplemental disclosure of non-cash activities:
Tax benefit from exercise of stock options $ -- $ -- $ 121
Supplementary information:
Cash paid during the year for:
Interest $4,189 $4,008 $ 2,872
Purchase of businesses acquired (Notes 1 and 3):
Fair value of assets acquired $ -- $ -- $17,342
Less: cash acquired -- -- (5,455)
Less: note payable issued -- -- (9,500)
Less: liabilities assumed -- -- (1,184)
------ ------ --------
Cash paid for business acquired $ -- $ -- $ 1,203
====== ====== ========
</TABLE>
RECENT ACCOUNTING PRONOUNCEMENTS
In June 1998 the FASB issued SFAS No. 133, Accounting for Derivative Instruments
and Hedging Activities, which was amended by SFAS No. 137, which was issued in
June 1999. SFAS No. 133, as amended, will become effective for fiscal quarters
beginning after June 15, 2000. SFAS No. 133 requires an entity to reflect all
derivative instruments on its balance sheet as assets or liabilities, based on
the fair value of the instruments. The adoption of SFAS No. 133 is not expected
to have a significant effect on the Company's financial statements.
RECLASSIFICATION
Certain amounts in the prior years financial statements have been reclassified
to conform to the current year presentation.
NOTE 2. ACQUISITIONS
- ----------------------
In May 1997 the Company acquired all the outstanding stock of Advantage Dental
HealthPlans ("Advantage"), a privately-held managed dental care company based in
Fort Lauderdale, Florida. The total acquisition cost included $10 million of
consideration for the stock, plus $2.3 million of assumed liabilities, less
$800,000 of cash acquired. The $10 million purchase price was financed primarily
through an $8.5 million note payable to the seller. The acquisition was recorded
based on the purchase method of accounting, and accordingly, the results of
operations of Advantage are included in the accompanying financial statements
beginning on the date of the acquisition. The total acquisition cost exceeded
the fair value of the net assets acquired by $9.2 million, which was recorded as
goodwill.
In August 1997 the Company acquired all the outstanding stock of Consumers Life
Insurance Company of North Carolina ("Consumers"), a privately-held dental
insurance company with licenses in sixteen states. The total consideration for
the stock was $3.2 million. The acquisition was recorded based on the purchase
method of accounting, and accordingly, the results of operations of Consumers
are included in the accompanying financial statements beginning on the date of
the acquisition.
F-9
<PAGE>
NOTE 3. DISCONTINUED OPERATIONS
- ----------------------------------
SALE OF DISCONTINUED OPERATIONS
In October 1996 the Company implemented a strategic plan to sell all of the
general dental practices owned by the Company. Four of the general dental
practices were sold during 1996, and the remaining practices were sold during
the first nine months of 1997. The assets of the general dental practices sold
consisted primarily of accounts receivable, supply inventories, equipment and
leasehold improvements. The Company provided certain administrative services to
the purchasers of some of the practices until 1998, when the Company
discontinued the provision of these services.
On February 26, 1998, the Company announced the discontinuance of its
orthodontic practices. In April 1998 the Company sold all of its orthodontic
practices in a single transaction for consideration consisting of a $15.0
million 30-year promissory note, which was secured by all the assets of the
purchasers, including the assets sold in the transaction. The assets of the
orthodontic practices sold consisted primarily of accounts receivable, supply
inventory, leasehold improvements and dental equipment.
The operating results of the discontinued dental and orthodontic practices are
included in the accompanying consolidated statement of operations under the
caption "Loss from operations to be disposed of." Net revenue of the
discontinued operations, which is reflected under the caption "Loss from
operations to be disposed of," was $1.9 million and $12.8 million during the
years ended December 31, 1998 and 1997, respectively.
ACCOUNTING TREATMENT OF CERTAIN SALE TRANSACTIONS
Several of the discontinued dental practices were sold to a single purchaser
(the "Purchaser") during the three months ended September 30, 1997 in exchange
for $8.0 million of long-term promissory notes. In April 1998 the Company sold
all of its orthodontic practices to the Purchaser in exchange for $15.0 million
of long-term promissory notes. During 1997 and 1998, the entities that purchased
four other general dental practices from the Company conveyed those practices to
the Purchaser in exchange for the assumption of the related promissory notes
payable to the Company. At the time of the conveyances of these practices to the
Purchaser, the related promissory notes had an aggregate outstanding principal
balance of $1.9 million. During 1997 and 1998, the Company loaned a total of
$1.6 million to the Purchaser, which was used for working capital purposes by
the Purchaser.
Because management concluded that the Purchaser did not have sufficient
resources to repay the promissory notes from sources other than the operations
of the purchased practices, the Company did not treat the sale transactions with
the Purchaser as sales for accounting purposes. Accordingly, the related
promissory notes and the working capital loans are not reflected in the
accompanying financial statements. Instead, the historical cost of the net
assets of the related general dental and orthodontic practices, less the
interest payments received from the Purchaser, is reflected on the Company's
balance sheet under the caption "Assets of discontinued operations transferred
under contractual arrangements." The Company's financial statements do not
reflect any gains on these sale transactions, and do not reflect any interest
income on the related promissory notes. In addition, the carrying value of the
promissory notes related to the four practices that were transferred to the
Purchaser was reduced to the historical cost of the net assets of the related
dental practices. This reduction is included in "Loss from operations to be
disposed of" on the accompanying statements of operations. These assets are also
reflected on the Company's balance sheet under the caption "Assets of
discontinued operations transferred under contractual arrangements." The working
capital loans were treated as expenses at the time the loans were made, which is
included in "Loss from operations to be disposed of" on the accompanying
statements of operations. This accounting treatment more appropriately reflects
the economic substance of the transactions, as distinct from the legal form of
the transactions. An impairment charge was recognized in 1999 (see Note 6).
NOTE 4. INVESTMENTS
- ---------------------
In accordance with SFAS No. 115, Accounting for Certain Investments in Debt and
Equity Securities, the Company has classified its investment portfolio into
"available-for-sale" and "held-to-maturity" categories. Investments classified
as available-for-sale are carried at fair value and unrealized gains and losses,
net of applicable income taxes, are reported in a separate caption of
stockholders' equity. Investments classified as held-to-maturity are carried at
amortized cost. At December 31, 1999, the Company had net unrealized losses of
$18,000, which is reflected in stockholders' equity under the caption
"Accumulated other comprehensive income (loss)."
Gross realized gains on sales of investment securities were $2,051,000,
$815,000, and $155,000 for the years ended December 31, 1999, 1998 and 1997,
respectively. Gross realized losses on sales of investment securities were
$851,000, $1,225,000, and $173,000 for the years ended December 31, 1999, 1998
and 1997, respectively. The historical cost of specific securities sold is used
to compute the gain or loss on the sale of investments.
F-10
<PAGE>
During 1998 the Company transferred approximately $4.2 million of securities,
representing all of its held-to-maturity investments, to the available-for-sale
category. This amount represented the amortized cost of the securities at the
date of transfer. The estimated fair value of those securities was approximately
$4.4 million, resulting in a net unrealized gain of $0.1 million (net of tax of
$0.1 million), which was reflected as an increase in "Accumulated other
comprehensive income (loss)." This change in classification was due to a change
in management's intent with respect to these securities. Due to operating losses
during 1998, which were not anticipated when the investments were purchased,
management determined that the Company needed the flexibility to respond to
changes in interest rates and to take advantage of changes in the availability
of and the yield on alternative investments. Therefore, the classification of
these securities was changed to available-for-sale.
The Company's investments as of December 31, 1999 are summarized below (in
thousands). The estimated fair value of investments is based on quoted market
prices.
<TABLE>
<CAPTION>
COST/ GROSS GROSS ESTIMATED
AMORTIZED UNREALIZED UNREALIZED FAIR
COST GAINS LOSSES VALUE
---------- ----------- ------------ ----------
<S> <C> <C> <C> <C>
Classified as available-for-sale:
U.S. government and its agencies $ 5,489 $ -- $ (31) $ 5,458
State obligations 541 5 -- 546
Municipal obligations 448 7 -- 455
Mutual funds and other 510 1 -- 511
---------- ----------- ------------ ----------
Total available-for-sale $ 6,988 $ 13 $ (31) $ 6,970
========== =========== ============ ==========
</TABLE>
The maturity dates of the Company's investments as of December 31, 1999, are
summarized below (in thousands):
<TABLE>
<CAPTION>
COST/
AMORTIZED ESTIMATED
COST FAIR VALUE
------ -----------
<S> <C> <C>
Classified as available-for-sale:
Due in 2000 $3,923 $ 3,919
Due in 2001 through 2004 2,350 2,322
Due in 2005 through 2009 623 632
Due after 2009 92 97
------ -----------
Total available-for-sale $6,988 $ 6,970
====== ===========
</TABLE>
The Company's investments as of December 31, 1998 are summarized below (in
thousands). The estimated fair value of investments is based on quoted market
prices.
<TABLE>
<CAPTION>
COST/ GROSS GROSS ESTIMATED
AMORTIZED UNREALIZED UNREALIZED FAIR
COST GAINS LOSSES VALUE
---------- ----------- ------------ ----------
<S> <C> <C> <C> <C>
Classified as available-for-sale:
U.S. government and its agencies $ 3,538 $ 100 $ -- $ 3,638
State obligations 674 32 -- 706
Corporate bonds 376 -- (57) 319
Equity securities 2,715 -- (665) 2,050
Municipal obligations 448 23 -- 471
---------- ----------- ------------ ----------
Total available-for-sale $ 7,751 $ 155 $ (722) $ 7,184
========== =========== ============ ==========
</TABLE>
F-11
<PAGE>
NOTE 5. PROPERTY AND EQUIPMENT
- ----------------------------------
Property and equipment is recorded at cost. Depreciation and amortization are
calculated using the straight-line method over the estimated useful lives of the
assets as follows: buildings - 30 years; leasehold improvements - 5 to 25 years;
furniture, fixtures and other equipment - 3 to 10 years. The cost of maintenance
and repairs is expensed as incurred, while significant improvements that extend
the estimated useful life of an asset are capitalized. Upon the sale or other
retirement of assets, the cost of any such assets and the related accumulated
depreciation are removed from the books and any resulting gain or loss is
recognized. The Company's property and equipment consists of the following (in
thousands):
<TABLE>
<CAPTION>
DECEMBER 31, DECEMBER 31,
1999 1998
-------------- --------------
<S> <C> <C>
Buildings and improvements $ 165 $ 165
Leasehold improvements 860 520
Furniture, fixtures and other equipment 10,000 9,203
-------------- --------------
Total, at cost 11,025 9,888
Less - accumulated depreciation and amortization (6,209) (3,783)
-------------- --------------
Total, net of accumulated depreciation and amortization $ 4,816 $ 6,105
============== ==============
</TABLE>
NOTE 6. IMPAIRMENT OF ASSETS
- --------------------------------
INTANGIBLE ASSETS
Management reviews for impairment of intangible assets that are used in the
Company's operations on a periodic basis in accordance with accounting
Principles Board Opinion No.17 ("APB No.17"). Management deems a group of assets
to be impaired if estimated discounted future cash flows are less than the
carrying amount of the assets. Estimates of future cash flows are based on
management's best estimates of anticipated operating results over the remaining
useful life of the assets.
During 1999, the Company recognized impairment losses of $24.6 million based on
estimated discounted cash flows to be generated by each of the Company's
intangible assets. The impairment was recognized for the goodwill and
non-compete covenant related to the acquisition of First American Dental
Benefits, Inc. in September 1996 ( $14.7 million ), the goodwill and
non-compete covenant related to the acquisition of Advantage in May 1997
($9.3 million), and the insurance license acquisition costs related to the
acquisitions of two insurance companies in 1997 and 1992 ($0.6 million).
F-12
<PAGE>
ASSETS OF DISCONTINUED OPERATIONS TRANSFERRED UNDER CONTRACTUAL ARRANGEMENTS
"Assets of discontinued operations transferred under contractual arrangements"
consists of the historical cost of the net assets of certain general dental
practices and certain orthodontic practices that were sold by the Company in
1998 and 1997 (see Note 3). During 1999, the Company reached an oral agreement
with the purchaser of those practices (the "Purchaser") and another third party
(the "New Purchaser"), under which the related promissory notes payable to the
Company (the "Notes") would be liquidated. Under this agreement, the Purchaser
would convey the dental and orthodontic practices that comprise the collateral
for the Notes to the New Purchaser, in exchange for proceeds that would be paid
to the Company in satisfaction of the Notes. Based on this agreement, the
Company recorded a $4.4 million charge to earnings (net of income tax benefit of
$2.1 million) during 1999, to reduce the carrying value of "Assets of
discontinued operations transferred under contractual arrangements" to their
estimated realizable value. During March 2000 the Company entered into a
definitive agreement with respect to this transaction, which is currently
pending regulatory approval.
NOTES RECEIVABLE
During the fourth quarter of 1998, the Company, in an effort to liquidate
assets, offered to reduce the principal amount of the notes due from certain
parties to whom it had sold dental practices (other than the Purchaser discussed
in Note 3) in exchange for current cash payment in satisfaction of the notes.
Accordingly, the Company provided a reserve of $1.8 million at December 31, 1998
to reflect the impact of its decision to actively pursue liquidation of the
notes receivable.
REAL ESTATE
During the third quarter of 1998, the Company moved its corporate office from a
building owned by the Company in Anaheim, California to leased office space in
Aliso Viejo, California. As a result, the Company made the decision in 1998 to
sell the Anaheim building and certain other assets related to it, including the
land and various building improvements. During the first quarter of 1999, the
Company received a written offer to purchase these assets from the Company.
Based on this offer, and as required by SFAS No. 121, the Company recorded an
impairment loss of $569,000, and accrued closing expenses of $188,000, in the
fourth quarter of 1998. The book value of the building and related assets was
$3.6 million at December 31, 1998, which is reflected on the accompanying
balance sheet under the caption "Assets held for sale." In May 1999, the Company
sold the building for $3.5 million, including $3.0 million in cash and a
promissory note for $500,000. The promissory note bears interest at 10%,
requires monthly interest payments, and matures in May 2000.
NOTE 7. CLAIMS PAYABLE AND CLAIMS INCURRED BUT NOT REPORTED
- --------------------------------------------------------------------
The Company is responsible for paying claims submitted by dentists for services
provided to patients who have purchased dental coverage from the Company. Claims
payable consists of claims submitted by the dentists but not yet paid by the
Company. Claims incurred but not reported is an estimate of the claims that
were incurred prior to the balance sheet date, but which have not yet been
submitted to the Company as of the balance sheet date. The estimate of claims
incurred but not reported is based primarily on the average historical lag time
between the date of service and the date the related claim is submitted to the
Company, as well as the recent trend in the aggregate amount of incurred claims
per covered individual. Since the liability for incurred but not reported claims
is necessarily an actuarial estimate, the amount of claims eventually submitted
for services provided prior to the balance sheet date could differ significantly
from the estimated liability.
Indemnity claims are related to services delivered to individuals covered by the
Company's indemnity insurance plans. Specialist referral claims are related to
specialist services delivered to individuals covered by the Company's managed
care plans. Supplemental claims are related to primary care dental services
delivered to individuals covered by the Company's managed care plans. The
activity in the liability for each type of claim is shown below (in thousands).
The activity in the liability for supplemental payments is not shown for 1998
and 1997 because it was not material in those years.
F-13
<PAGE>
<TABLE>
<CAPTION>
SPECIALIST
INDEMNITY REFERRAL SUPPLEMENTAL
CLAIMS CLAIMS PAYMENTS TOTAL
--------- -------- ---------- ---------
<S> <C> <C> <C> <C>
Balance at January 1, 1997 $ 2,120 $ 1,010 $ 3,130
Incurred claims related to:
Current year - 1997 18,100 8,126 26,226
Prior years (13) (22) (35)
Paid claims related to:
Current year - 1997 (15,950) (6,645) (22,595)
Prior years (2,107) (988) (3,095)
--------- -------- ---------
Balance at December 31, 1997 2,150 1,481 3,631
Incurred claims related to:
Current year - 1998 16,909 7,251 24,160
Prior years 794 (338) 456
Paid claims related to:
Current year - 1998 (14,636) (5,966) (20,602)
Prior years (2,944) (1,143) (4,087)
--------- -------- ---------
Balance at December 31, 1998 $ 2,273 $ 1,285 $ 3,558
========= ======== =========
Balance at January 1, 1999 $ 2,273 $ 1,285 $ 400 $ 3,958
Incurred claims related to:
Current year - 1999 18,722 8,292 6,730 33,744
Prior years 186 (517) 42 (289)
Paid claims related to:
Current year - 1999 (14,497) (6,932) (5,879) (27,308)
Prior years (2,459) (767) (442) (3,668)
--------- -------- ---------- ---------
Balance at December 31, 1999 $ 4,225 $ 1,361 $ 851 $ 6,437
========= ======== ========== =========
</TABLE>
The liability for claims payable and claims incurred but not reported is
adjusted each period to reflect any differences between claims actually paid and
previous estimates of the liability. During each of the years ended December 31,
1999, 1998, and 1997, the adjustments to the liability to reflect these
differences, which are reflected in the above table, were not material.
NOTE 8. NOTES PAYABLE AND LONG-TERM DEBT
- ----------------------------------------------
Notes payable and long-term debt consisted of the following (in thousands):
<TABLE>
<CAPTION>
DECEMBER 31, DECEMBER 31,
1999 1998
-------------- --------------
<S> <C> <C>
Bank line of credit $ 7,045 $ 8,000
Senior notes payable 32,500 32,500
Other note payable 255 1,894
-------------- --------------
Total debt 39,800 42,394
Less - current portion (255) (9,894)
-------------- --------------
Long-term debt $ 39,545 $ 32,500
============== ==============
</TABLE>
In September 1997 the Company issued $32.5 million of unsecured senior notes
payable. The senior notes are payable in annual installments of $6.5 million on
each September 30, beginning in 2001, with a final maturity date of September
30, 2005. The interest rate on the notes was fixed at 8.91% at December 31,
1999.
F-14
<PAGE>
In January 1998 the Company entered into an $8 million revolving line of credit
facility with a bank, under which $7.0 million was outstanding at December 31,
1999. The outstanding balance under the credit facility is payable in full on
January 29, 2000. The interest rate on the facility as of December 31, 1999, was
equal to the bank's prime rate plus 3.0 % (11.0% at December 31, 1999). The loan
is secured by all assets of the Company, including accounts receivable, real
estate, other fixed assets, intangible assets, and a negative pledge on the
stock of all the Company's subsidiaries.
In May 1999 the Company executed restructured credit agreements with respect to
both the senior notes payable and the revolving line of credit facility. The
restructured agreements provide for changes in interest rates and modifications
to the financial covenants and reporting requirements, as well as required
principal repayments. In connection with the execution of the restructured
agreements, the Company obtained waivers for all prior and existing defaults and
events of default under the previous credit agreements through May 28, 1999. In
connection with the restructured agreements, the Company issued warrants to
purchase 382,000 shares of common stock for $4.51 per share to the holder of the
senior notes payable. The Company estimated that the fair value of these
warrants was $320,000, based on an option-pricing model. Accordingly, this
amount was charged to interest expense and credited to stockholders' equity
during 1999. The warrants are exercisable at any time from January 1, 2000 to
December 31, 2003. The warrants were cancelled in connection with the
transaction completed on March 1, 2000 (see Note 14).
In connection with the restructured senior notes payable and the revolving line
of credit facility, the Company is subject to various loan covenant
requirements. The Company was not in compliance with those requirements as of
December 31, 1999. However, the outstanding balances under the senior notes
payable and the revolving line of credit facility are classified as long-term on
the accompanying consolidated balance sheet, due to the transaction completed on
March 1, 2000 (see Note 14). The Company expects that all of the outstanding
debt under the senior notes payable and the revolving credit facility will be
converted to convertible preferred stock in 2000, pursuant to the transaction
discussed in Note 14.
NOTE 9. INCOME TAXES
- -----------------------
The Company's accounting for income taxes is in accordance with SFAS No. 109,
Accounting for Income Taxes. SFAS No. 109 requires the recognition of deferred
tax liabilities and assets for the expected future tax consequences of events
that have been recognized in the Company's financial statements or tax returns.
The measurement of deferred tax liabilities and assets is based on existing tax
laws. SFAS No. 109 also requires an entity to record a valuation allowance
related to deferred tax assets in the event that available evidence indicates
that the future tax benefits related to the deferred tax assets may not be
realized. A valuation allowance is required when it is more likely than not that
the deferred tax assets will not be realized.
The Company's federal and state income tax expense (benefit) is as follows (in
thousands):
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
----------------------------
1999 1998 1997
-------- -------- --------
<S> <C> <C> <C>
Income tax expense (benefit) from continuing operations:
Currently payable - Federal $ 648 $ (31) $ 1,585
State 358 11 407
Deferred - Federal 6,613 (2,667) (483)
State 3,318 (719) (138)
-------- -------- --------
Income tax expense (benefit) from continuing operations 10,934 (3,406) 1,371
Income tax expense (benefit) from discontinued operations (2,087) (1,554) (4,547)
-------- -------- --------
Total income tax expense (benefit) $ 8,847 $(4,960) $(3,176)
======== ======== ========
</TABLE>
F-15
<PAGE>
A reconciliation of the expected federal income tax expense (benefit) based on
the statutory rate to the actual income tax expense (benefit) on income (loss)
from continuing operations is as follows (in thousands):
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
------------------------------------------------------
1999 1998 1997
------------------ ----------------- ---------------
AMOUNT % AMOUNT % AMOUNT %
--------- ------- -------- ------- -------- -----
<S> <C> <C> <C> <C> <C> <C>
Expected federal income tax
expense (benefit) $(12,491) (34.0)% $(3,820) (35.0)% $ 1,047 35.0%
State income tax expense (benefit),
net of effect on federal tax 1,903 5.2 (497) (4.5) 158 5.3
Tax-exempt income (17) (0.1) (19) (0.2) (35) (1.2)
Goodwill and impairments 8,190 22.3 254 2.3 186 6.2
Transaction loss -- -- 670 6.1 -- --
Other 468 1.3 6 0.1 15 0.5
Valuation allowance 12,881 35.1 -- -- -- --
--------- ------- -------- ------- -------- -----
Actual income tax
expense (benefit) $ 10,934 29.8% $(3,406) (31.2)% $ 1,371 45.8%
========= ======= ======== ======= ======== =====
</TABLE>
Deferred tax assets are related to the following (in thousands):
<TABLE>
<CAPTION>
DECEMBER 31,
------------------
1999 1998
--------- -------
<S> <C> <C>
Current deferred tax assets (liabilities):
Claims payable and incurred but not reported claims $ -- $ 459
State income taxes (18) (501)
Amortization of prepaid expense (188) (23)
Accrued expenses 429 --
Other 279 132
--------- -------
Total current deferred tax assets 502 67
Valuation allowance (502) --
--------- -------
Net current deferred tax assets $ -- $ 67
========= =======
Long-term deferred tax assets (liabilities):
Reserve for revenue adjustments and note impairment $ 2,683 $1,697
Net operating loss carry-forward 4,994 2,253
Gain on sale of dental offices 6,696 5,200
Depreciation and amortization 2,373 (875)
Other 18 140
--------- -------
Total long-term deferred tax assets 16,764 8,415
Valuation allowance (16,764) --
--------- -------
Net current deferred tax assets $ -- $8,415
========= =======
</TABLE>
During 1999 the Company recorded a charge to earnings to establish a valuation
allowance against its deferred tax assets. The amount of the allowance is equal
to the total amount of its deferred tax assets, which was $17.3 million at
December 31, 1999. The Company's deferred tax assets have been fully reserved
due to uncertainty about whether they will be realized in the future, primarily
due to operating losses incurred by the Company in 1998 and 1999 and the
existence of significant net operating loss carry-forwards. As of December 31,
1999, the Company had net operating loss carry-forwards for federal and state
tax purposes of approximately $12.5 million and $8.2 million, which begin to
expire in 2018 and 2003, respectively.
F-16
<PAGE>
NOTE 10. COMMITMENTS AND CONTINGENCIES
- ------------------------------------------
LEASE COMMITMENTS
The Company leases several administrative offices, computer equipment and
furniture under operating leases. Rental expense under these operating leases
was $3,823,000, $1,501,000, and $1,217,000 in 1999, 1998 and 1997, respectively.
Future minimum rental payments required under non-cancelable operating leases
with a remaining term in excess of one year as of December 31, 1999, are as
follows (in thousands):
YEAR ENDING
DECEMBER 31, AMOUNT
---------------- -------------
2000 $ 3,811
2001 2,907
2002 2,719
2003 2,341
2004 1,983
Thereafter 4,289
EMPLOYMENT AGREEMENT COMMITMENTS
The Company has employment agreements with certain executive officers of the
Company. Future minimum payments under these employment agreements are as
follows (in thousands):
YEAR ENDING
DECEMBER 31, AMOUNT
---------------- -------------
2000 $ 528
2001 170
LITIGATION
The Company is a defendant in various lawsuits arising in the normal course of
business. In the opinion of management, the ultimate outcome of existing
litigation will not have a material effect on the Company's consolidated
financial position or results of operations. In December 1999, a shareholder
lawsuit against the Company was filed, which alleges that the Company and
certain of its officers violated certain securities laws by issuing a series of
alleged false and misleading statements concerning the Company's publicly
reported revenues and earnings during a specified class period. The Company has
directors and officers liability insurance and intends to vigorously defend this
litigation. In the opinion of the Company's management, the ultimate outcome of
this matter will not have a material adverse effect on the Company's financial
position or results of operations.
CONTINGENT LEASE OBLIGATIONS
The Company sold all of its general dental practices and its orthodontic
practices during 1996, 1997 and 1998, as discussed in Note 3. In connection with
the sale of those practices, all the purchasers of those practices agreed to
make all the remaining lease payments related to the dental offices used by
those practices. However, the Company remains secondarily liable for the lease
payments in the event that the purchasers of those practices fail to make those
payments. At December 31, 1999, the aggregate contingent liability of the
Company related to all of these leases was approximately $8 million
over the terms of the various lease agreements. However, as of December 31,
1999, management has not been notified of any defaults that would materially
affect the Company's financial position.
EMPLOYEE RETIREMENT PLAN
The Company maintains a retirement plan under Section 401(k) of the Internal
Revenue Code (the "Plan"). Under the Plan, employees are permitted to make
contributions to a retirement account through payroll deductions from pre-tax
earnings. Employees are fully vested in contributions made from payroll
deductions. In addition, the Company may, at its discretion, make additional
contributions to the Plan. The Company made no contributions to the Plan in
1999, 1998 or 1997.
F-17
<PAGE>
BUSINESS SEGMENT INFORMATION
The Company is engaged in the provision of dental benefit plans to employers,
associations and individuals. The operation of the general dental practices and
the orthodontic practices has been discontinued. The last of the discontinued
operations were divested effective April 1, 1998. Following the April 1, 1998
divestiture, the Company's sole line of business is providing dental benefits to
employer groups, associations and individuals.
NOTE 11. CAPITAL STOCK
- -------------------------
STOCK REPURCHASES
As of December 31, 1999, the Company had 3,274,788 shares of treasury stock,
which were acquired by the Company for an aggregate of $18.1 million. The board
of directors of the Company has authorized management to repurchase an
additional 691,800 shares of the Company's common stock in either open market or
private transactions.
STOCK OPTION PLAN
The Company has a stock option plan (the "Plan") that authorizes the granting of
both incentive and non-qualified stock options to purchase an aggregate of
1,700,000 shares of common stock. Either incentive or non-qualified stock
options may be granted to executive officers and other employees of the Company.
As of December 31, 1999, all stock options granted to employees were incentive
stock options. Non-qualified stock options may be granted to non-employee
directors of the Company. Under the Plan, the exercise price of any stock option
granted must be at least equal to the market value of the Company's common stock
on the date the option is granted. The Plan is administered by the Compensation
and Stock Option Committee of the board of directors of the Company.
SFAS No. 123, Accounting for Stock-Based Compensation, provides a choice of two
different methods of accounting for stock options granted to employees. SFAS No.
123 encourages, but does not require, entities to recognize compensation expense
equal to the fair value of employee stock options granted. Under this method of
accounting, the fair value of a stock option is measured at the grant date, and
compensation expense is recognized over period in which the stock option becomes
exercisable. Alternatively, an entity may choose to use the accounting method
described in Accounting Principles Board Opinion No. 25, Accounting for Stock
Issued to Employees ("APB No. 25"). Under APB No. 25, no compensation expense is
recognized as long as the exercise price of each stock option is at least equal
to the market price of the underlying stock at the time of the grant. If an
entity chooses to use the accounting method described in APB No. 25, SFAS No.
123 requires that the pro forma effect of using the fair value method of
accounting on its net income be disclosed in a note to the financial statements.
The Company has chosen to use the accounting method described in APB No. 25.
The following is a summary of activity in stock options:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
------------------------------
1999 1998 1997
--------- -------- ---------
<S> <C> <C> <C>
Outstanding at beginning of year 769,800 638,017 510,817
Stock options granted 55,000 184,000 168,000
Stock options exercised -- -- (30,666)
Stock options canceled (69,500) (52,217) (10,134)
--------- -------- ---------
Outstanding at end of year 755,300 769,800 638,017
========= ======== =========
Exercisable at end of year 551,000 455,066 363,228
Weighted average exercise price of options granted $ 3.72 $ 9.11 $ 12.59
Weighted average exercise price of options exercised -- -- 4.35
Weighted average exercise price of options canceled 12.70 12.45 14.59
Weighted average exercise price of options outstanding 9.88 10.58 11.13
Weighted average exercise price of options exercisable 10.39 10.10 9.17
</TABLE>
F-18
<PAGE>
The following is a summary of stock options outstanding at December 31, 1999:
<TABLE>
<CAPTION>
RANGE OF OPTIONS WEIGHTED WEIGHTED SHARES WEIGHTED
EXERCISE OUTSTANDING AVERAGE AVERAGE EXERCISABLE AVERAGE
PRICE 12/31/99 REMAINING LIFE EXERCISE PRICE 12/31/99 EXERCISE PRICE
- --------------- ------------ --------------- -------------- --------- ---------------
<S> <C> <C> <C> <C> <C>
$ 3.44 - 5.00 196,000 4.01 $ 4.38 130,333 $ 4.61
7.25 - 10.04 216,000 6.94 9.53 123,333 9.48
10.25 - 13.06 226,900 5.98 11.29 189,267 11.19
15.75 - 15.75 50,400 6.22 15.75 50,400 15.75
17.33 - 20.75 66,000 6.67 18.08 57,667 18.09
--------- --------
Total 755,300 5.80 $ 9.88 551,000 $ 10.39
============ =========
</TABLE>
The weighted average fair value of stock options granted during 1999, 1998, and
1997, was $2.73, $5.93, and $4.56 per share, respectively. In accordance with
SFAS No. 123, the following table shows the pro forma effect of using the fair
value method of accounting for stock options (in thousands, except for per share
amounts):
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
------------------------------
1999 1998 1997
--------- --------- --------
<S> <C> <C> <C>
Net loss, as reported $(52,036) $ (9,938) $(5,493)
Pro forma net loss (52,360) (10,325) (5,846)
Loss per share, as reported (10.96) (2.09) (1.12)
Pro forma loss per share (11.03) (2.18) (1.19)
</TABLE>
SFAS No. 123 requires a public entity to estimate the fair value of stock-based
compensation by using an option-pricing model that takes into account certain
facts and assumptions. The facts and assumptions that must be taken into account
are the exercise price, the expected life of the option, the current stock
price, the expected volatility of the stock price, the expected dividends on the
stock, and the risk-free interest rate. The option-pricing models commonly used
were developed to estimate the fair value of freely tradable, fully transferable
options without vesting restrictions, which significantly differ from the stock
options granted by the Company. The Company estimated the fair value of each
stock option as of the date of grant by using the Black-Scholes option-pricing
model. The facts and assumptions used to determine the fair value of stock
options granted were an average expected life of four years, expected volatility
of 97% in 1999, 50% in 1998, and 38% in 1997, no expected dividends, and a
risk-free interest rate of approximately 6%. The assumptions regarding the
expected life of the options and the expected volatility of the stock price are
subjective, and these assumptions greatly affect the estimated fair value
amounts.
NOTE 12. INVESTMENT AND OTHER INCOME
- -----------------------------------------
Investment and other income consists of the following (in thousands):
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
------------------------
1999 1998 1997
------- ------ -------
<S> <C> <C> <C>
Net realized gains (losses) on sale of investments $1,200 $(410) $ (18)
Interest income 932 268 1,326
Other, net (65) 766 8
------- ------ -------
Total investment and other income $2,067 $ 624 $1,316
======= ====== =======
</TABLE>
F-19
<PAGE>
Note13. UNAUDITED SELECTED QUARTERLY INFORMATION
- ----------------------------------------------------
RESTATEMENT
Subsequent to the issuance of the Company's financial statements for the
quarters ended March 31, 1999 and June 30, 1999, the Company determined that it
had overstated its revenue and earnings for those two quarters, and that various
other amounts in the balance sheets and statements of operations including
accounts receivables, deferred income taxes, and deferred revenue as stated
below required modification. As a result, the financial statements for the
quarters ended March 31, 1999, and June 30, 1999 have been restated to properly
state such amounts. The restated amounts are reflected in the unaudited
quarterly results of operations shown below.
F-20
<PAGE>
QUARTERLY RESULTS OF OPERATIONS
Unaudited quarterly results of operations for the years ended December 31, 1999
and 1998 are shown below (in thousands, except per share data). The unaudited
quarterly results should be read in conjunction with the accompanying audited
financial statements.
<TABLE>
<CAPTION>
MARCH 31, 1999 JUNE 30, 1999
------------------------ ------------------------
AS AS
PREVIOUSLY AS PREVIOUSLY AS
REPORTED RESTATED REPORTED RESTATED
------------ ---------- ------------ ----------
<S> <C> <C> <C> <C>
Cash $ 1,251 $ 1,553 $ 3,085 $ 3,508
Investments available-for-sale 2,774 2,774 2,715 2,715
Accounts receivable 6,344 4,339 4,917 3,598
Notes receivable 10,878 -- 3,052 --
Income taxes receivable 77 355 4,076 3,386
Deferred income taxes 6,447 67 6,478 67
Assets held for sale 3,562 3,562 -- --
Other current assets 747 658 653 508
------------ ---------- ------------ ----------
Total current assets 32,080 13,308 24,976 13,782
Property and equipment 6,150 5,664 6,384 5,363
Restricted cash and investments 4,484 4,484 4,099 4,099
Investments available-for-sale 1,776 1,776 2,255 2,255
Notes receivable 4,161 4,081 4,161 4,575
Assets of discontinued operations
transferred under contractual arrangements -- 8,950 -- 3,599
Intangible assets 31,370 31,361 30,932 31,885
Deferred income taxes 539 8,189 539 8,220
Other assets 240 286 237 284
------------ ---------- ------------ ----------
Total assets $ 80,800 $ 78,099 $ 73,583 $ 74,062
============ ========== ============ ==========
Accounts payable $ 10,300 $ 4,110 $ 11,919 $ 6,315
Accrued expenses -- 6,151 -- 5,766
Short-term debt 9,695 9,695 7,598 7,598
Income taxes payable 493 -- 69 --
Claims payable and claims incurred
but not reported 3,858 4,104 4,224 4,715
Deferred revenue 739 1,000 1,158 1,680
------------ ---------- ------------ ----------
Total current liabilities 25,085 25,060 24,968 26,074
Long-term debt 32,500 32,500 32,500 32,500
Other long-term liabilities 302 1,259 293 1,303
Common stock 21,509 21,509 21,509 21,509
Retained earnings 19,507 15,874 12,461 10,824
Accumulated other comprehensive
income (loss) 20 20 (25) (25)
Treasury stock, at cost (18,123) (18,123) (18,123) (18,123)
------------ ---------- ------------ ----------
Total stockholders' equity 22,913 19,280 15,822 14,185
------------ ---------- ------------ ----------
Total liabilities and stockholders' equity $ 80,800 $ 78,099 $ 73,583 $ 74,062
============ ========== ============ ==========
</TABLE>
F-21
<PAGE>
<TABLE>
<CAPTION>
1999
------------------------------------------------------------------------
FIRST QUARTER SECOND QUARTER
------------------------ -----------------------
AS AS
PREVIOUSLY AS PREVIOUSLY AS THIRD FOURTH
REPORTED RESTATED REPORTED RESTATED QUARTER QUARTER
------------ ---------- ------------ ---------- --------- ---------
<S> <C> <C> <C> <C> <C> <C>
Premium revenue $ 24,755 $ 23,863 $ 25,050 $ 23,989 $ 24,065 $ 24,308
Health care services expense 16,442 16,518 16,509 16,718 17,074 17,249
Selling, general and administrative 7,712 9,111 9,339 9,332 10,144 8,454
Loss on impairment of
assets -- -- -- -- 24,576 --
------------ ---------- ------------ ---------- --------- ---------
Operating income (loss) 601 (1,766) (798) (2,061) (27,729) (1,395)
Investment and other income 1,552 1,503 789 437 (147) 274
Interest expense (947) (947) (1,102) (1,102) (2,801) (1,005)
Loss on impairment of assets -- -- (10,355) -- -- --
------------ ---------- ------------ ---------- --------- ---------
Income (loss) before income taxes 1,207 (1,210) (11,466) (2,726) (30,677) (2,126)
Income tax expense (benefit) 422 (350) (4,420) (940) 12,224 --
------------ ---------- ------------ ---------- --------- ---------
Income (loss) before
discontinued operations 785 (860) (7,046) (1,786) (42,901) (2,126)
Loss from operations to be disposed of -- -- -- (3,264) (1,099) --
------------ ---------- ------------ ---------- --------- ---------
Net income (loss) $ 785 $ (860) $ (7,046) $ (5,050) $(44,000) $ (2,126)
============ ========== ============ ========== ========= =========
Basic and diluted earnings (loss) per share:
Income (loss) from continuing
operations $ 0.17 $ (0.18) $ (1.48) $ (0.38) $ (9.04) $ (0.45)
Income (loss) from discontinued
operations -- -- -- (0.69) (0.23) --
------------ ---------- ------------ ---------- --------- ---------
Net income (loss) $ 0.17 $ (0.18) $ (1.48) $ (1.07) $ (9.27) $ (0.45)
============ ========== ============ ========== ========= =========
Weighted average basic shares
outstanding 4,747 4,747 4,747 4,747 4,747 4,747
</TABLE>
F-22
<PAGE>
<TABLE>
<CAPTION>
1998
------------------------------------------
FIRST SECOND THIRD FOURTH
QUARTER QUARTER QUARTER QUARTER
--------- --------- --------- ---------
<S> <C> <C> <C> <C>
Premium revenue $ 24,396 $ 24,440 $ 23,504 $ 25,109
Health care services expense 16,431 16,288 16,539 16,762
Selling, general and administrative 7,300 7,172 7,920 13,867
--------- --------- --------- ---------
Operating income (loss) 665 980 (955) (5,520)
Investment and other income 766 (35) (948) 841
Interest expense (922) (973) (1,020) (1,396)
Loss on impairment of assets -- -- -- (2,397)
--------- --------- --------- ---------
Income (loss) before income taxes 509 (28) (2,923) (8,472)
Income tax expense (benefit) 233 25 (988) (2,676)
--------- --------- --------- ---------
Income (loss) before
discontinued operations 276 (53) (1,935) (5,796)
Income (loss) from discontinued
operations (742) (1,566) (122) --
Income (loss) on disposal of
orthodontic and dental practices -- -- -- --
--------- --------- --------- ---------
Net income (loss) $ (466) $ (1,619) $ (2,057) $ (5,796)
========= ========= ========= =========
Basic earnings (loss) per share:
Income (loss) from continuing
operations $ 0.06 $ (0.01) $ (0.41) $ (1.22)
Income (loss) from discontinued
operations (0.16) (0.33) (0.02) --
--------- --------- --------- ---------
Net income (loss) $ (0.10) $ (0.34) $ (0.43) $ (1.22)
========= ========= ========= =========
Weighted average basic shares
outstanding 4,747 4,747 4,747 4,747
Diluted earnings (loss) per share:
Income (loss) from continuing
operations $ 0.06 $ (0.01) $ (0.41) $ (1.22)
Income (loss) from discontinued
operations (0.16) (0.33) (0.02) --
--------- --------- --------- ---------
Net income (loss) $ (0.10) $ (0.34) $ (0.43) $ (1.22)
========= ========= ========= =========
Weighted average diluted shares
outstanding 4,820 4,747 4,747 4,747
</TABLE>
FOURTH QUARTER ADJUSTMENTS
During the fourth quarter of 1998, the Company determined that certain aged
accounts receivable balances were uncollectible, and accordingly, recorded an
$3.5 million increase in its reserves for doubtful accounts during the quarter
ended December 31, 1998.
F-23
<PAGE>
RECLASSIFICATIONS
Certain amounts in the financial statements for the quarters ended March 31,
1999 and June 30, 1999 have been reclassified to conform to the presentation
used in the financial statements for the year ended December 31, 1999.
NOTE 14. SUBSEQUENT EVENT
- ----------------------------
On March 1, 2000, the Company entered into an agreement with an investor group
(the "Investors"), the holder of the senior notes payable (the "Senior Note
Holder"), and its revolving line of credit lender (the "Bank"). Under this
agreement, the Investors loaned $8.0 million to the Company in the form of notes
payable due April 30, 2001, which bear interest at 10% annually. The Investors,
the Senior Note Holder, and the Bank agreed to convert the new $8.0 million
loan, the outstanding balance of $32.5 million under the senior notes payable,
and the outstanding balance of $7.0 million under the revolving line of credit
to convertible preferred stock, subject to regulatory approval. Under this
agreement, both the Senior Note Holder and the Bank agreed not to demand or
accept any payment under the credit agreements, and not to take any enforcement
actions of any kind under the agreements until April 30, 2001.
The convertible preferred stock would not accrue dividends of any kind, and
would be convertible into common stock at the option of the holder. The
convertible preferred stock would entitle the holder to one vote for each share
of common stock into which the preferred stock is convertible, with respect to
all matters voted on by the common stockholders of the Company. As a result of
this transaction, after regulatory approval is obtained, the existing
stockholders of the Company would own approximately 14% of the common stock
interests of the Company. Under this agreement, the Company agreed to place new
directors on its board of directors, who represent the Investors, the Senior
Note Holder and the Bank, and who constitute a majority of the board of
directors. The conversion of the Company's outstanding debt to convertible
preferred stock, as described above, is currently pending regulatory approval.
F-24
<PAGE>
<TABLE>
<CAPTION>
SAFEGUARD HEALTH ENTERPRISES, INC. AND SUBSIDIARIES
SCHEDULE II
VALUATION AND QUALIFYING ACCOUNTS
YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997
(IN THOUSANDS)
BALANCE AT CHARGED TO CHARGED TO BALANCE AT
BEGINNING COST AND OTHER END
OF YEAR EXPENSES ACCOUNTS WRITE-OFFS OF YEAR
-------- --------- --------- ------------ --------
<S> <C> <C> <C> <C> <C>
YEAR ENDED DECEMBER 31, 1997:
Allowance for doubtful accounts:
Accounts receivable $ 531 $ 1,058 $ -- $ (528) $ 1,061
Long-term notes receivable $ -- $ 2,205 $ -- $ -- $ 2,205
YEAR ENDED DECEMBER 31, 1998:
Allowance for doubtful accounts:
Accounts receivable $ 1,061 $ 1,733 $ -- $ (851) $ 1,942
Long-term notes receivable $ 2,205 $ 833 $ -- $ (1,018) $ 2,020
YEAR ENDED DECEMBER 31, 1999:
Allowance for doubtful accounts:
Accounts receivable $ 1,942 $ 481 $ -- $ (1,369) $ 1,054
Long-term notes receivable $ 2,020 $ 1,819 $ -- $ -- $ 3,839
</TABLE>
F-25
<PAGE>
<TABLE> <S> <C>
<ARTICLE> 5
<MULTIPLIER> 1000
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-START> JAN-01-1999
<PERIOD-END> DEC-31-1999
<CASH> 1639
<SECURITIES> 3361
<RECEIVABLES> 4032
<ALLOWANCES> 1054
<INVENTORY> 0
<CURRENT-ASSETS> 9099
<PP&E> 11025
<DEPRECIATION> 6209
<TOTAL-ASSETS> 28577
<CURRENT-LIABILITIES> 18129
<BONDS> 32500
0
0
<COMMON> 21829
<OTHER-SE> (53443)
<TOTAL-LIABILITY-AND-EQUITY> (31614)
<SALES> 0
<TOTAL-REVENUES> 98292
<CGS> 0
<TOTAL-COSTS> 67559
<OTHER-EXPENSES> 59317
<LOSS-PROVISION> 2300
<INTEREST-EXPENSE> 5855
<INCOME-PRETAX> (36739)
<INCOME-TAX> 10934
<INCOME-CONTINUING> (47673)
<DISCONTINUED> (4363)
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (52036)
<EPS-BASIC> (10.04)
<EPS-DILUTED> (10.96)
</TABLE>
