SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
---------------
FORM 10-Q
[X] QUARTERLY REPORT UNDER SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the Quarterly Period Ended June 30, 1999
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from to
Commission file number 000-19392
DIANON SYSTEMS, INC.
(exact name of registrant as specified in its charter)
Delaware 06-1128081
(State of incorporation) (IRS Employer Identification No.)
200 Watson Blvd, Stratford, CT 06615
(Address of principal executive offices) (zip code)
Registrant's telephone number, including area code: (203) 381-4000
NOT APPLICABLE
(Former name, former address and former fiscal year,
if changed since last report)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports) and (2) has been subject to such filing
requirements for the past 90 days.
Yes /X/ No
The number of shares of registrant's Common Stock, $.01 par value, outstanding
on August 9, 1999 was 6,812,197 shares.
<PAGE>
DIANON SYSTEMS, INC.
AND SUBSIDIARIES
INDEX
Part I FINANCIAL INFORMATION PAGE NO.
- ---------------------------- --------
Item 1. FINANCIAL STATEMENTS
Balance Sheets as of
June 30, 1999 and December 31, 1998. 3
Statements of Operations for
the three month and six month periods ended
June 30, 1999 and 1998. 4
Statements of Stockholders'
Equity for the six months ended
June 30, 1999 and 1998. 5
Statements of Cash Flows for
the six months ended June 30, 1999 and 1998. 6
Notes to Financial Statements. 7-8
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS 9-13
Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES
ABOUT MARKET RISK 13
Part II OTHER INFORMATION
Item 6. EXHIBITS AND REPORTS ON FORM 8-K 14
Signatures 15
2
<PAGE>
<TABLE>
DIANON SYSTEMS, INC.
BALANCE SHEETS
<CAPTION>
JUNE 30, DECEMBER 31,
1999 1998
----------------------------
ASSETS (UNAUDITED)
CURRENT ASSETS:
<S> <C> <C>
Cash and cash equivalents $ 7,944,645 $12,126,076
Accounts receivable, net of allowances of $1,010,266
and $1,033,059, respectively 16,382,973 14,403,878
Prepaid expenses and employee advances 1,118,993 1,007,577
Inventory 1,035,385 981,647
Deferred income tax asset 919,959 1,047,118
----------------------------
Total current assets 27,401,955 29,566,296
----------------------------
PROPERTY AND EQUIPMENT, at cost
Laboratory and office equipment 11,479,683 10,367,848
Leasehold improvements 4,004,973 3,786,759
Less - accumulated depreciation and amortization (9,928,942) (8,620,122)
----------------------------
5,555,714 5,534,485
----------------------------
INTANGIBLE ASSETS, net of accumulated amortization of
$3,400,714 and $3,181,779, respectively 14,080,227 377,751
DEFERRED INCOME TAX ASSET 1,201,808 1,005,869
OTHER ASSETS 268,447 218,714
----------------------------
TOTAL ASSETS $48,508,151 $36,703,115
============================
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable $1,422,705 $ 1,260,620
Accrued employee compensation 1,303,523 576,335
Accrued KMD acquisition costs 1,434,415 --
Current portion of capitalized lease obligations 18,354 42,334
Other accrued expenses 3,243,214 3,360,087
----------------------------
Total current liabilities 7,422,211 5,239,376
----------------------------
LONG-TERM LIABILITIES:
Long-term note payable 6,000,000 --
Long-term portion of capitalized lease obligations 93,332 80,675
----------------------------
Total long-term liabilities 6,093,332 80,675
----------------------------
Total Liabilities 13,515,543 5,320,051
----------------------------
STOCKHOLDERS' EQUITY:
Common stock, par value $.01 per share, 20,000,000
shares authorized, 6,842,308 and 6,808,729 shares
issues and outstanding at June 30, 1999 and December 31,
1998, respectively 68,424 68,088
Additional paid-in capital 27,728,288 27,398,120
Accumulated earnings 7,518,692 5,697,710
Common stock held in treasury, at cost - 34,604 and
222,019 shares at June 30, 1999 and December 31, 1998,
respectively (322,796) (1,780,854)
----------------------------
Total stockholders' equity 34,992,608 31,383,064
----------------------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $48,508,151 $36,703,115
============================
The accompanying notes to consolidated financial statements
are an integral part of these balance sheets.
</TABLE>
3
<PAGE>
<TABLE>
DIANON SYSTEMS, INC.
INCOME STATEMENTS
FOR THE THREE MONTH AND SIX MONTH PERIODS ENDED
JUNE 30, 1999 and 1998
(UNAUDITED)
<CAPTION>
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
1999 1998 1999 1998
--------------- ----------------- -------------- ----------------
<S> <C> <C> <C> <C>
Net revenues $19,053,229 $15,218,586 $34,909,950 $30,300,059
Cost of goods 10,896,372 8,641,424 20,083,974 17,100,451
--------------- ----------------- -------------- ----------------
GROSS PROFIT 8,156,857 6,577,162 14,825,976 13,199,608
Selling, general and administrative expenses 6,321,954 5,258,882 11,494,026 10,540,378
Amortization of intangible assets 171,377 63,050 218,934 123,108
Research & development expenses 109,502 162,659 228,226 328,023
--------------- ----------------- -------------- ----------------
INCOME FROM OPERATIONS 1,554,024 1,092,571 2,884,790 2,208,099
Interest income, net 66,726 148,980 228,000 331,240
--------------- ----------------- -------------- ----------------
INCOME BEFORE PROVISION FOR
INCOME TAXES 1,620,750 1,241,551 3,112,790 2,539,339
Provision for income taxes 672,611 533,868 1,291,808 1,091,916
--------------- ----------------- -------------- ----------------
NET INCOME $948,139 $707,683 $1,820,982 $1,447,423
=============== ================= ============== ================
EARNINGS PER SHARE
BASIC .14 .11 .27 .22
DILUTED .14 .10 .27 .21
WEIGHTED AVERAGE SHARES OUTSTANDING
BASIC 6,703,221 6,733,507 6,618,489 6,678,814
DILUTED 6,960,567 7,020,617 6,838,514 6,999,372
Supplemental Financial Information:
EBITDA $2,391,519 $1,803,974 $4,414,678 $3,650,343
EBITDA as a % of Sales 12.5% 11.9% 12.6% 12.0%
The accompanying notes to consolidated financial statements are
an integral part of these statements.
</TABLE>
4
<PAGE>
<TABLE>
DIANON SYSTEMS, INC.
STATEMENTS OF STOCKHOLDERS' EQUITY
FOR THE SIX MONTHS ENDED JUNE 30, 1999 AND 1998
(UNAUDITED)
<CAPTION>
Additional Common Stock
Common Stock Paid-In Retained Acquired for Treasury
Amount Shares Capital Earnings Shares Amount
--------------- ---------- ---------------- -------------- --------------------------- --
<S> <C> <C> <C> <C> <C> <C>
BALANCE, December 31, 1997 6,791,320 $67,914 $27,880,223 $2,743,380 (197,617) ($1,645,273)
Stock options exercised 37,170 371 197,995 -- -- --
Employee stock purchase plan -- -- (412,050) -- 108,546 903,711
Stock grants 17,050 171 166,067 -- -- --
Net income -- -- -- 1,447,423 -- --
============= ============ =============== =============== ============= ===============
BALANCE, June 30, 1998 6,845,540 $68,456 $27,832,235 $4,190,803 (89,071) ($741,562)
============= ============ =============== =============== ============= ===============
BALANCE, December 31, 1998 6,808,729 $68,088 $27,398,120 $5,697,710 (222,019) ($1,780,854)
Stock options exercised 1,288 13 6,551 -- -- --
Issuance of common stock 79,981 800 700,516 -- 222,019 1,780,854
Employee stock purchase plan -- -- (3,550) -- 896 7,546
Stock grants 2,310 23 19,901 -- -- --
Common stock acquired for treasury -- -- -- -- (85,500) (724,092)
Retired shares (50,000) (500) (393,250) -- 50,000 393,750
Net income -- -- -- 1,820,982 -- --
============= ============ =============== =============== ============= ===============
BALANCE, June 30, 1999 6,842,308 $68,424 $27,728,288 $7,518,692 (34,604) ($322,796)
============= ============ =============== =============== ============= ===============
</TABLE>
DIANON SYSTEMS, INC.
STATEMENTS OF STOCKHOLDERS' EQUITY
FOR THE SIX MONTHS ENDED JUNE 30, 1999 AND 1998
(UNAUDITED)
(CONTINUED)
Total
---------------
BALANCE, December 31, 1997 $29,046,244
Stock options exercised 198,366
Employee stock purchase plan 491,661
Stock grants 166,238
Net income 1,447,423
===============
BALANCE, June 30, 1998 $31,349,932
===============
BALANCE, December 31, 1998 $31,383,064
Stock options exercised 6,564
Issuance of common stock 2,482,170
Employee stock purchase plan 3,996
Stock grants 19,924
Common stock acquired for treasury (724,092)
Retired shares --
Net income 1,820,982
===============
BALANCE, June 30, 1999 $34,992,608
===============
The accompanying notes to consolidated financial statements
are an integral part of these statements.
5
<PAGE>
<TABLE>
DIANON SYSTEMS, INC.
STATEMENTS OF CASH FLOWS
FOR THE SIX MONTHS ENDED JUNE 30, 1999 and 1998
(UNAUDITED)
<CAPTION>
JUNE 30
1999 1998
------------------ -------------------
CASH FLOWS FROM OPERATING ACTIVITIES:
<S> <C> <C>
Net income $1,820,982 $1,447,423
Adjustments to reconcile net income to net
cash provided by (used in) operations -
Non-cash charges
Depreciation and amortization 1,529,947 1,442,243
Stock compensation expense 19,924 166,238
Changes in other current assets and liabilities
Increase (decrease) in accounts payable and accrued liabilities 1,277,479 (3,349,733)
(Increase) decrease in accounts receivable (1,629,233) 506,552
(Increase) in prepaid expenses and employee advances (102,495) (215,253)
(Increase) decrease in inventory (43,988) 44,905
(Increase) in other assets (118,513) (184,356)
------------------ -------------------
Net cash provided by (used in) operating activities 2,754,103 (141,981)
------------------ -------------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Acquisition of KMD assets, net (13,740,082) --
Capital expenditures (934,084) (836,162)
Acquisition of PRL assets, net -- (359,590)
Purchase of other intangibles (20,000) --
Proceeds from the sale of fixed assets 1,316 --
------------------ -------------------
Net cash (used in) investing activities (14,692,850) (1,195,752)
----------------- -------------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Net borrowings (repayments) of note payable 6,000,000 --
New issuance of common stock 701,316 --
Net reduction of common stock from treasury 1,056,762 --
Employee stock purchase plan 3,996 491,661
Stock options exercised 6,564 198,366
Borrowings (repayments) of capitalized lease obligations (11,322) 12,460
------------------ -------------------
Net cash provided by financing activities 7,757,316 702,487
------------------ -------------------
Net (decrease) in cash and cash equivalents (4,181,431) (635,246)
CASH AND CASH EQUIVALENTS, beginning of period 12,126,076 12,401,062
================= -------------------
CASH AND CASH EQUIVALENTS, end of period $7,944,645 $11,765,816
================== ===================
Supplemental cash flow disclosures:
Cash paid during the period:
Interest $75,917 $20,004
Income Taxes 1,766,618 1,778,990
The accompanying notes to consolidated financial statements are
an integral part of these statements.
6
<PAGE>
</TABLE>
DIANON SYSTEMS, INC.
NOTES TO FINANCIAL STATEMENTS
1. The Company - The consolidated financial statements as of and for the
three months and six months ended June 30, 1999 and 1998 have been
prepared by DIANON Systems, Inc. (the "Company") without audit. In the
opinion of management, all adjustments necessary to present fairly the
financial position, results of operations and cash flows for such periods
have been made, and the interim accounting policies followed are in
conformity with generally accepted accounting principles and are
consistent with those applied for annual periods as described in the
Company's annual report for the year ended December 31, 1998, previously
filed on Form 10-K with the Securities and Exchange Commission (the
"Annual Report").
Certain information and footnote disclosures normally included in
financial statements prepared in accordance with generally accepted
accounting principles have been omitted. It is suggested that these
consolidated financial statements be read in conjunction with the
financial statements included in the Company's Annual Report for the year
ended December 31, 1998. The results of operations for the three months
and six months ended June 30, 1999 and 1998 are not necessarily indicative
of the operating results for the full years.
2. Acquisition - Effective February 1, 1998, the Company acquired certain
assets of a pathology laboratory in Tampa, Florida ("Pathologists
Reference Laboratory" or "PRL"). The acquisition price was approximately
$558,000 (including acquisition costs), of which $359,590 was paid through
March 31, 1998 and the balance was satisfied through the assumption of
certain liabilities. The purchase price was primarily allocated to trade
receivables ($265,000) and customer lists ($164,000), and the acquisition
has been accounted for pursuant to the purchase method of accounting. Pro
forma net revenues for the three months ended March 31, 1998, adjusted as
if the acquisition had occurred January 1, 1998, approximate $15.5
million. Pro forma consolidated net income and earnings per share would
not differ materially from the reported amounts.
Acquisition - Effective May 1, 1999, the Company acquired substantially
all the assets of an outpatient OB/Gyn laboratory with locations in
Woodbury and New City, New York ("Kyto Meridien Diagnostics, L.L.C." or
"KMD"). The acquisition price was approximately $13.7 million and was
financed through a combination of available cash and drawdowns of the
Company's credit line, as well as through the issuance of Common Stock.
Approximately $12.9 million was paid to the sellers through June 30, 1999,
and the balance will be paid through cash and assumption of certain
liabilities. The purchase price was primarily allocated to customer lists
($7.5 million), goodwill ($6.4 million), lab and office equipment
($400,000), and client receivables ($400,000), partially offset by accrued
liabilities ($930,000, of which $270,000 has been paid as of June 30,
1999). The acquisition has been accounted for pursuant to the purchase
method of accounting. Pro forma net revenues for the three months and six
months ended June 30, 1999 and 1998, adjusted as if the acquisition had
occurred January 1, 1999, approximate $20.0 million and $18.0 million, and
$38.5 million and $37.6 million respectively. Pro forma consolidated net
income and earnings per share would not differ materially from the
reported amounts.
3. Earnings per share - Basic earnings per share have been computed based on
the weighted average number of common shares outstanding during each year.
Diluted earnings per share have been computed based on the weighted
average number of common shares and common equivalent shares outstanding
during each year. Common equivalent shares outstanding include the common
equivalent shares calculated for warrants and stock options under the
treasury stock method. Below is a reconciliation of the numerators and
denominators of the basic and diluted EPS computations for the quarterly
periods ended March 31 and June 30 and the six months ended June 30, for
both 1999 and 1998:
7
<PAGE>
<TABLE>
1999
-------------------------------------------------
1st Quarter 2nd Quarter Six Months
<S> <C> <C> <C>
BASIC EARNINGS PER SHARE
Weighted-average number of
common shares outstanding 6,533,757 6,703,221 6,618,489
DILUTED EFFECT OF:
Stock options 182,704 257,346 220,025
---------- ---------- ----------
DILUTED EARNINGS PER SHARE
Weighted-average number of
common shares outstanding 6,716,461 6,960,567 6,838,514
------------- ------------ ----------
NET INCOME $872,843 $948,139 $1,820,982
------------- ------------ -----------
BASIC EARNINGS PER SHARE $0.13 $0.14 $0.27
------------- ------------ ------------
DILUTED EARNINGS PER SHARE $0.13 $0.14 $0.27
------------- ------------ ------------
1998
-------------------------------------------------
1st Quarter 2nd Quarter Six Months
BASIC EARNINGS PER SHARE
Weighted-average number of
common shares outstanding 6,624,120 6,733,507 6,678,814
DILUTED EFFECT OF:
Stock options 354,006 287,110 320,558
---------- ---------- ----------
DILUTED EARNINGS PER SHARE
Weighted-average number of
common shares outstanding 6,978,126 7,020,617 6,999,372
----------- ---------- ----------
NET INCOME $739,740 $707,683 $1,447,423
---------- ---------- -----------
BASIC EARNINGS PER SHARE $0.11 $0.11 $0.22
------------- ------------ ------------
DILUTED EARNINGS PER SHARE $0.11 $0.10 $0.21
------------- ------------ ------------
</TABLE>
Options to purchase 50,317 shares of common stock at prices ranging from $9.00
and $12.25 per share were outstanding as of June 30, 1999 but were not included
in the computation of diluted earnings per share because the options' exercise
price was greater than the average market price of common shares.
8
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
THREE MONTHS AND SIX MONTHS ENDED JUNE 30, 1999 AND 1998
(UNAUDITED)
The descriptive analysis contained herein compares the financial results of the
three months and six months ended June 30, 1999 ("Second Quarter-1999" and "Six
Months-1999", respectively) to the three months and six months ended June 30,
1998 ("Second Quarter-1998" and "Six Months-1998", respectively).
The Company's results of operations in the Second Quarter-1999 and Six
Months-1999 reflect favorable volume and mix increases in certain product lines,
continued reductions in selling, general, administrative and other operating
expenses, and the acquisition of Kyto Meridien Diagnostics, L.L.C. ("KMD").
RESULTS OF OPERATIONS
O NET REVENUES
Net revenues increased 25% to $19.1 million in the Second Quarter-1999 from
$15.2 million in the Second Quarter-1998, and 15% to $34.9 million in the Six
Months-1999 from $30.3 million in the Six Months-1998. These increases reflect
the acquisition of KMD on May 1, 1999, as well as volume and mix increases in
certain product lines, and the successful negotiation and introduction in 1999
of several capitated contracts.
O COST OF SALES
Cost of sales, which consists primarily of payroll, laboratory supplies, outside
services, logistics and depreciation expense, increased to $10.9 million in the
Second Quarter-1999 from $8.6 million in the Second Quarter-1998, and to $20.1
million for the Six Months-1999 from $17.1 million for the Six Months-1998. As a
percentage of revenues, cost of sales were 57% for both second quarter periods
and 58% and 56% for the six month periods 1999 and 1998, respectively.
For the second quarters 1999 and 1998, while percentages remained the same,
salaries and wages increased to $4.8 million in 1999 from $3.6 million in 1998,
primarily reflecting the acquisition of KMD. Overhead expenses (including
building rent, utilities, and depreciation) increased to $2.7 million in 1999
from $2.4 million in 1998. Logistics expenses increased to $1.6 million from
$1.4 million in 1999 and 1998, respectively and lab supplies increased to $1.7
million from $1.3 million for the corresponding periods.
For the six month periods ended June 1999 and 1998, salaries and wages increased
to $8.5 million in 1999 from $6.9 million in 1998, again reflecting the
acquisition of KMD. Overhead expenses increased to $5.5 million in 1999 from
$4.8 million in 1998, primarily relating to acquisitions in February 1998 and
May 1999, respectively. Logistics expenses increased to $3.0 million in 1999
from $2.9 million in 1998, while cost of lab supplies increased to $3.1 million
in 1999 from $2.5 million in 1998.
O GROSS PROFIT
Gross profit totaled $8.2 million in Second Quarter-1999 versus $6.6 million in
Second Quarter-1998, reflecting a gross profit margin of 43% for both periods.
Gross profit for the Six Months-1999 totaled $14.8 million versus $13.2 million
in the prior year, representing margins of 43% and 44%, respectively. The
increases in gross profits are a direct result of increased revenues.
The clinical laboratory industry, which includes both clinical chemistry and
anatomic pathology, has seen steady and continuing downward pressure on prices
exerted by both government and private third-party payers. Over time, Congress
has reduced the national cap on Medicare laboratory fee schedules (under which
the Company's clinical chemistry services are reimbursed) to 74% of the national
median. The President's fiscal year 2000 budget proposes to reduce this cap even
further to 72% of the national median. In addition, the Balanced Budget Act of
1997 ("BBA") freezes fee schedule payments for the 1998-2002 period. Payment for
services such as those provided by the Company
9
<PAGE>
also is and will likely continue to be affected by periodic reevaluations made
by payers concerning which services to reimburse or cease reimbursing.
On June 29, 1999, President Clinton announced a plan to strengthen and modernize
Medicare. The plan would update lab fee schedule payments for the 2003-2009
period at the rate of growth in the consumer price index ("CPI") minus one
percentage point. It also would eliminate beneficiary cost sharing for all
Medicare covered screening and preventative services, including lab procedures
such as pap smears, but would reinstate the 20 percent beneficiary copayment for
all other lab services. Furthermore, the President's plan would make the
Medicare program more competitive through the use of more market-oriented
purchasing, including competitive bidding. Congress is likely to consider
Medicare reform legislation, such as the President's Medicare proposal this
fall. Changes in government and other third-party payor reimbursement which may
result from the enactment of this health care reform or of deficit reduction or
balanced budget legislation are difficult to predict; however, they likely will
continue the downward pressure on prices and make the market for clinical
laboratory services more competitive.
With respect to the Company's anatomic pathology services, which are not
reimbursed under the Medicare laboratory fee schedules, the Medicare fees also
generally declined with the implementation of the resource-based relative value
scale ("RBRVS") system which went into effect in 1992 and was fully phased in by
the end of 1996. In 1998, HCFA recalculated physician practice expenses, a key
component of the RBRVS, to reflect resource consumption rather than historical
charge data. The resulting new practice expense values are being phased in over
the period 1999 to 2002. While the actual impact on the Company's Medicare
pathology revenues depends on the mix of pathology services furnished, HCFA
originally estimated that the new system would decrease the Medicare revenue for
pathologists 13% once it is fully phased-in at the end of the four-year period.
On July 22, 1999, HCFA published its proposed Medicare physician fee schedule
regulation for the year 2000. Subsequent to receiving comments, a final rule
will be published in the fall of 1999. This proposed rule includes several
changes in the payment methodology for physician services. Of most significance
to pathology services, however, the proposal identified (but did not at this
time propose) a possible modification in methodology specific to pathology. In
1998 HCFA created a separate practice expense pool for all services where the
physician work RVUs are equal to zero. Reimbursement of pathology services was
negatively affected by placement of such services in this pool. HCFA now has
received comments requesting that these services be taken out of this special
pool and be treated like the vast majority of codes. If HCFA does remove codes
from the zero work RVU pool in the final rule this fall, it will be done in a
uniform manner across families or categories of codes, rather than allowing
individual services to be placed in or out of the "zero work RVU" practice
expense pool depending on which method yields the highest RVUs. HCFA predicts
that the additional impact on total allowed charges of removing selected
pathology codes from the zero work pool would be an eight percent (8%) increase
in revenue. The actual impact on the Company's Medicare pathology revenues, if
such a change were to be adopted, would depend on the mix of pathology services
furnished, but could partially mitigate the negative affect the recalculation of
physician practice expenses and resulting RBRVS fee schedule changes would
otherwise continue to have on the Company's average unit price. Other than these
adjustments, the Company does not expect the proposed Medicare physician fee
schedule for the year 2000 will be likely to have a material impact on gross
revenues.
Under the Balanced Budget Act, HCFA is required to recalculate the malpractice
expense component of the RBRVS to make it resource-based, effective January 1,
2000. With the implementation of resource-based malpractice relative value units
("RVUs") and full implementation of resource-based practice expense RVUs in
2002, all physician fee schedule RVUs will be resource-based. The current
malpractice RVUs are charge-based from Medicare claims data accumulated in 1989.
The proposed resource-based malpractice RVUs are based on actual malpractice
premium data and current Medicare payment data on allowed services and charges,
RVUs, and specialty payment percentages. Because malpractice expenses are the
least significant component of the RBRVS formula (representing about 3.2 percent
of the Medicare payment amount), the implementation of resource-based
malpractice expense is not expected to make a significant difference in
reimbursement amounts.
In addition, HCFA has proposed prohibiting independent labs from billing for the
technical component ("TC") of physician pathology services furnished to Medicare
beneficiaries who are hospital inpatients. Under the proposed revision,
independent labs would still be able to bill and be paid for the TC of physician
pathology services provided to beneficiaries who are hospital outpatients or who
are in other settings, but for the TC of services provided to a hospital
inpatient, the independent lab would have to make arrangements with the hospital
in order to receive payment.
10
<PAGE>
The Company's Form 10-K for the year ended December 31, 1998, previously filed
with the Securities and Exchange Commission, contains additional information
regarding the complex area of reimbursement.
O SELLING, GENERAL AND ADMINISTRATIVE EXPENSES
For the Second Quarters 1999 and 1998, selling, general and administrative
expenses increased to $6.3 million in 1999 from $5.3 million in 1998. While
absolute expenses increased, they decreased as a percentage of sales to 33% in
the Second Quarter-1999 from 35% in the Second Quarter-1998.
For the six-month periods ended June 1999 and 1998, selling, general and
administrative expenses increased to $11.5 million in 1999 from $10.5 million in
1998. Again, although expenses increased, they decreased as a percentage of
sales to 33% in the Six Months-1999 from 35% in the Six Months-1998.
The expense increases in the second quarter and the six month periods ended June
1999 versus corresponding periods in 1998 were primarily due to higher
commissions associated with obtaining new sales; and from increased risk
management, medical and other insurance costs due to the acquisition of
additional facilities and employees.
O AMORTIZATION OF INTANGIBLE ASSETS
Amortization of intangible assets increased to $171,000 in the Second
Quarter-1999 from $63,000 in the Second Quarter-1998, and to $219,000 in the Six
Months-1999 from $123,000 in the Six Months-1998. These increases were
associated with the acquisition of KMD.
O RESEARCH AND DEVELOPMENT EXPENSES
Research and development expenses decreased to $110,000 in the Second
Quarter-1999 from $163,000 in the Second Quarter-1998, and to $228,000 for the
Six Months-1999 from $328,000 for the Six Months-1998. This reduction reflects
the evolution of certain developmental test costs from R&D into cost of sales as
those tests have been brought to market and reimbursement rates are currently
being established.
O INCOME FROM OPERATIONS
Income from operations increased to $1.6 million in the Second Quarter-1999 from
$1.1 million in the Second Quarter-1998, and to $2.9 million for the Six
Months-1999 from $2.2 million for the Six Months-1998. The increase in operating
income reflects the increase in sales.
O PROVISION FOR INCOME TAXES
The provision for income taxes reflects a 41.5% and 43.0% effective tax rate in
Second Quarter-1999 and Second Quarter-1998, respectively, totaling $673,000 and
$534,000. The lower effective tax rate is due to reduced miscellaneous and state
taxes. The provision totaled $1.3 million and $1.1 million for the Six
Months-1999 and Six Months-1998, respectively, also reflecting rates of 41.5%
and 43.0%.
O NET INTEREST INCOME
Net interest income decreased to $67,000 in the Second Quarter-1999 from
$149,000 in the Second Quarter-1998, and to $228,000 in the Six Months-1999 from
$331,000 for the prior year, due to lower income received on less cash invested,
and the beginning of interest payments on borrowings drawn from the Company's
line of credit.
O NET INCOME
For the Second Quarters 1999 and 1998, net income increased 34% to $948,000 in
1999 from $708,000 in 1998. Basic earnings per share increased to $0.14 per
share in 1999 from $0.11 per share in 1998, while diluted earnings per share
increased to $0.14 per share in 1999 from $0.10 per share in 1998.
11
<PAGE>
For the six-month periods ended June 1999 and 1998, net income increased 26% to
$1.8 million in 1999 from $1.4 million in 1998. Basic earnings per share
increased to $0.27 in 1999 from $0.22 per share in 1998, while diluted earnings
per share increased to $0.27 in 1999 from $0.21 in 1998.
LIQUIDITY AND CAPITAL RESOURCES
At June 30, 1999, the Company had total cash and cash equivalents of $7.9
million, substantially all of which was invested in a fund holding U.S. Treasury
securities with maturities of less than three months. The $4.2 million decrease
in cash during the Second Quarter-1999 is due primarily to the acquisition of
KMD. Working capital was $20.1 million and $24.3 million as of June 30, 1999 and
December 31, 1998, respectively, and the current ratios were 3.7:1 and 5.6:1,
respectively.
Accounts receivable (net of allowances) totaled $16.4 million as of June 30,
1999 representing approximately 78 days of sales outstanding, compared to $14.1
million or 79 days as of March 31, 1999 and $14.4 million or 82 days as of
December 31, 1998. Days sales outstanding ("DSO") as of June 30, 1998
approximated 85 days. The decrease in DSO compared to the prior year related to
improved Company billing and collection processes, resulting largely from
enhancements in our billing and communications systems.
Capital expenditures during the Second Quarter-1999 and Six Months-1999 totaled
$574,000 and $934,000, respectively, while the acquisition of the KMD assets
represented a cash outlay of $10.5 million in the Second Quarter-1999.
Effective February 17, 1998, the Company entered into a three-year, $15 million
line of credit agreement with a bank. The agreement includes various provisions
regarding borrowings under the facility, including those related to financial
covenants. As of June 30, 1999, $6.0 million had been drawn down against this
line for the acquisition of KMD.
As of June 30, 1999, the Company holds 34,604 shares of Common Stock in
treasury. In October 1998, the Company's Board of Directors authorized the
repurchase of up to an additional 1.5 million shares of the Company's Common
Stock, on the open market or in a private transaction, subject to total
expenditures for share repurchases limited to an additional $10.0 million, for a
total authorization of approximately 1.7 million shares and $12.0 million in
total expenditures. The remaining authorized repurchases as of June 30, 1999 are
approximately 1.4 million shares and $9.1 million in total expenditures. During
the second quarter and first six months of 1999, the Company purchased 31,500
and 85,500 shares at an average price of $9.12 and $8.47, respectively.
The Company believes that cash flows from operations and available cash and cash
equivalents are adequate to fund the Company's operations for the foreseeable
future.
YEAR 2000 ISSUE
The Year 2000 issue is the result of computer programs being written using two
digits rather than four to define the applicable year. As a result, any of the
Company's computer programs that have time-sensitive software may recognize a
date using "00" as the year 1900, rather than the year 2000. Such a recognition
error could result in a system failure or miscalculations causing disruptions of
operations, including among other things, a temporary inability to process
transactions, issue bills, or engage in similar normal business activities.
The Company believes all of its computer hardware and software is currently Year
2000 compliant. The remedial measures necessary to address the Company's Year
2000 issues were not material and required minimal resources to resolve (less
than $50,000). Currently, 100% of the Company's software has been remediated,
unit tested, and implemented. The Company used internal resources to reprogram,
or replace, test, and implement the software for Year 2000 modifications.
In addition, the Company has queried its important customers, suppliers and
vendors to assess their Year 2000 readiness, and has found no significant
problems. As to customers, the most significant exposure is that associated with
the federal government's Medicare and Medicaid programs and with major insurance
companies. These customers in aggregate represent a material portion of the
Company's revenues and corresponding cash flow. As to suppliers and
12
<PAGE>
vendors, the most significant exposure is that associated with air
transportation (substantially all specimens are flown in overnight and the
resulting reports overnighted back to the customer) and laboratory supplies. To
date, the Company is not aware of any problems that would materially impact
results of operations, liquidity or capital resources. However, the Company has
no means of ensuring that these customers, suppliers and vendors will be Year
2000 compliant. The inability of those parties to complete their Year 2000
resolution process could materially impact the Company. As discussed above, the
Company is unaware of any Year 2000 issues related to air transportation.
Accordingly, the Company has not developed a contingency plan in the event its
vendors for air transportation are not Year 2000 compliant. The Company will
strive to maintain liquidity, through its credit line and cash position, to
mitigate any cash flow risks associated with the aforementioned Year 2000
exposures.
While the Company believes all of its computer hardware and software is
currently Year 2000 compliant, if any of its systems are noncompliant there
could be a material impact on the operations of the Company.
RISK FACTORS; FORWARD LOOKING STATEMENTS
The Management's Discussion and Analysis contains forward looking statements
regarding the Company's future plans, objectives, and expected performance.
These statements are based on assumptions that the Company believes are
reasonable, but are subject to a wide range of risks and uncertainties, and a
number of factors could cause the Company's actual results to differ materially
from those expressed in the forward-looking statements referred to above. These
factors include, among others, the uncertainties in reimbursement rates and
reimbursement coverage of various tests sold by the Company to beneficiaries of
the Medicare program; the possibility of being deemed to be not in compliance
with Federal or state regulatory requirements; the uncertainties relating to the
ability of the Company to convince physicians and/or managed care organizations
to use the Company as a provider of anatomic pathology testing services; the
ability of the Company to maintain superior quality relative to its competitors;
the ability of the Company to maintain its hospital-based business in light of
the competitive pressures and changes occurring in hospital healthcare delivery;
the uncertainties relating to states erecting barriers to the performance of
national anatomic national laboratories, together with the competitive pressures
from small specialized laboratories and well established local pathologists; and
the uncertainties which would arise if integrated delivery systems closed to
outside providers emerged as the dominant form of health care delivery.
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company is not subject to market risk with respect to its cash and cash
equivalents since substantially all amounts are invested in a fund holding U.S.
Treasury securities with maturities of less than three months.
13
<PAGE>
PART II OTHER INFORMATION
Item 6 Exhibits and Reports on Form 8-K
(a) Exhibits:
(10.1) Asset Purchase Agreement dated as of April 7, 1999 among DIANON
Systems, Inc., Kyto Meridien Diagnostics, L.L.C., Kyto Diagnostics,
L.P., Meridian Diagnostics Labs, Inc., A. Bruce Shapiro and Ralph M.
Richart, M.D.*
(10.2) Registration Rights Agreement dated as of May 1, 1999
between DIANON Systems Inc. and Kyto Meridien Diagnostics, L.L.C.*
(10.3) Consulting Agreement dated May 1, 1999 by and between DIANON Systems,
Inc. and A. Bruce Shapiro*
(10.4) Employment Agreement dated May 1, 1999 by and between DIANON Systems,
Inc. and Ralph Mr. Richart, M.D.*
(10.5) Employment Agreement dated May 1, 1999 by and between DIANON Systems,
Inc. and Beth Phillips*
(10.6) Employment Agreement dated May 1, 1999 by and between DIANON Systems,
Inc. and Dana Shapiro*
(11.1) Statement regarding computation of per share earnings is not required
because the relevant computation can be determined from the material
contained in the Financial Statements included herein.*
(23) Auditors consent*
(27.1) Financial Data Schedule (filed herewith)
(99.1) Press Release*
(99.2) KMD financial statements for the year ending December 31, 1998*
* Incorporated by reference to the Company's Form 8-K filed with the Commission
on May 5, 1999.
(b) Reports:
One Form 8-K Current Report was filed with the Commission on May 5, 1999.
Items reported were as follows:
Item 2. Acquisition or Disposition of Assets
The purchase by the Company of substantially all of the assets of
Kyto Meridien Diagnostics, L.L.C.
Item 7. Financial Statements and Exhibits
A pro forma condensed balance sheet as of December 31, 1998.
A pro forma condensed statement of operations for the year ended December
31, 1998.
14
<PAGE>
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
DIANON Systems, Inc.
August 9, 1999 /s/ KEVIN C. JOHNSON
--------------------
By:Kevin C. Johnson
President and
Chief Executive Officer
(Principal Executive
Officer)
August 9, 1999 /s/ DAVID R. SCHREIBER
----------------------
By:David R. Schreiber
Senior Vice President,
Finance and
Chief Financial Officer
(Principal Financial
Officer and
Principal Accounting
Officer)
15
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