U.S. SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-Q
(MarkOne)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 or 15d) OF THE SECURITIES
EXCHANGE ACT OF 1934.
For the quarterly period ended September 30, 2000
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OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 or 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934.
For the transition period from to
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Commission file number 000-26749
NATIONAL MEDICAL HEALTH CARD SYSTEMS, INC.
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(Exact name of Registrant as Specified in Its Charter)
New York 11-2581812
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(State or Other Jurisdiction of (IRS Employer Identification No.)
Incorporation or Organization)
26 Harbor Park Drive, Port Washington, NY 11050
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(Address of Principal Executive Offices) (Zip Code)
Registrant's Telephone Number, Including Area Code (516) 626-0007
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Former Name, Former Address and Former Fiscal Year, if Changed Since Last
Report.
Indicate by check whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes X No
APPLICABLE ONLY TO ISSUERS INVOLVED IN BANKRUPTCY
PROCEEDINGS DURING THE PRECEDING FIVE YEARS:
Indicate by check mark whether the registrant has filed all documents and
reports required to be filed by Section 12, 13 or 15(d) of the Securities
Exchange Act of 1934 subsequent to the distribution of securities under a plan
confirmed by a court. Yes No
APPLICABLE ONLY TO CORPORATE ISSUERS:
The number of shares outstanding of each of the issuer's classes of common
equity, as of November 9, 2000 was 7,121,496 shares.
<PAGE>
NATIONAL MEDICAL HEALTH CARD SYSTEMS, INC. AND SUBSIDIARIES
INDEX
Page
PART I - FINANCIAL INFORMATION
Item 1 - FINANCIAL STATEMENTS: 3
CONSOLIDATED BALANCE SHEETS as of June 30, 2000 3
and September 30, 2000 (unaudited)
CONSOLIDATED STATEMENTS OF INCOME (unaudited) 4
for the three months ended September 30, 1999 and 2000
CONSOLIDATED STATEMENTS OF CASH FLOWS (unaudited) 5
for the three months ended September 30, 1999 and 2000
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 6
Item 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL 12
CONDITION AND RESULTS OF OPERATIONS
Item 3 - QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT 16
MARKET RISK
PART II - OTHER INFORMATION 17
Item 1 - LEGAL PROCEEDINGS 17
Item 2 - CHANGES IN SECURITIES AND USE OF PROCEEDS 18
Item 3 - DEFAULTS UPON SENIOR SECURITIES 18
Item 4 - SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS 18
Item 5 - OTHER INFORMATION 18
Item 6 - EXHIBITS AND REPORTS ON FORM 8-K 18
<PAGE>
<TABLE>
NATIONAL MEDICAL HEALTH CARD SYSTEMS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
<S> <C> <C>
June 30 September 30
ASSETS 2000 2000
CURRENT: ---- ----
(Unaudited)
Cash and cash equivalents (including cash equivalent investments $ 15,724,730 $ 8,133,288
of $11,181,583 and $5,043,862 and cash restricted as to its use of $1,130,000
and $2,724,000)
Accounts receivable, less allowance for possible losses of $726,551 and
$1,030,589 13,409,219 20,261,945
Rebates receivable 3,685,576 5,904,056
Due from affiliates 903,958 916,000
Deferred income tax 409,000 626,774
Other current assets 268,651 508,052
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TOTAL CURRENT ASSETS 34,401,134 36,350,115
Property, equipment and software development costs, net 6,424,170 7,034,645
Due from affiliates 3,486,996 3,569,130
Goodwill, net of accumulated amortization of $59,294 - 5,983,775
Other Assets 51,318 46,977
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$ 44,363,618 $52,984,642
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LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT:
Accounts payable and accrued expenses $ 27,430,684 $33,886,410
Current portion of capital lease obligations 456,437 467,157
Loans payable-current - 375,017
Due to officer/stockholder 60,000 170,380
Due to affiliates 311,767 305,653
Income taxes payable 11,991 321,265
Other current liabilities 100,036 392,908
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TOTAL CURRENT LIABILITIES 28,370,915 35,918,790
Capital lease obligations, less current portion 1,875,444 1,743,895
Loans payable-long term - 67,326
Deferred tax liability 692,000 705,397
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TOTAL LIABILITIES 30,938,359 38,435,408
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COMMITMENTS AND CONTINGENCIES
STOCKHOLDERS' EQUITY:
Preferred stock $.10 par value; 10,000,000 shares authorized, none outstanding - -
Common Stock, $.001 par value, 25,000,000 shares authorized, 6,912,496 and
7,312,496 shares issued 6,721,496 and 7,121,496 outstanding 6,913 7,313
Additional paid-in-capital 12,405,010 13,254,530
Retained earnings 2,096,203 2,337,533
Treasury stock at cost, 191,000 shares (743,767) (743,767)
Notes receivable - stockholders (339,100) (306,375)
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TOTAL STOCKHOLDERS' EQUITY 13,425,259 14,549,234
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$ 44,363,618 $52,984,642
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SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
</TABLE>
<PAGE>
<TABLE>
NATIONAL MEDICAL HEALTH CARD SYSTEMS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(UNAUDITED)
<S> <C> <C>
Three months ended
September 30
1999 2000
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Revenues $ 39,527,050 $57,008,206
Cost of claims 36,177,173 52,411,091
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Gross Profit 3,349,877 4,597,115
Selling, general and administrative expenses* 2,573,491 4,303,425
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Operating income 776,386 293,690
Other income, net 219,623 213,640
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Income before income taxes 996,009 507,330
Provision for income taxes 442,228 266,000
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Net Income $ 553,781 $ 241,330
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Earnings per common share:
Basic $ 0.09 $ 0.03
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Diluted $ 0.09 $ 0.03
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Weighted average number of common shares outstanding:
Basic 6,355,974 7,038,887
Diluted 6,355,974 7,038,887
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*Includes amounts charged by affiliates aggregating: $ 675,982 $ 959,299
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SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
</TABLE>
<PAGE>
<TABLE>
<S>
NATIONAL MEDICAL HEALTH CARD SYSTEMS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
<C>
Three months ended
September 30
1999 2000
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CASH FLOWS FROM OPERATING ACTIVITIES:
OPERATING ACTIVITIES:
Net income $ 553,781 $ 241,330
Depreciation and amortization 253,915 567,729
Bad debt expense and allowance for possible losses - 181,990
Compensation expense accrued to officer/stockholder 30,000 110,380
Deferred income taxes 459,000 (130,317)
Interest accrued on stockholders' loans - (6,375)
CHANGES IN ASSETS AND LIABILITIES:
(Increase) decrease in:
Accounts receivable (1,961,991) (2,933,428)
Other current assets (7,778) (94,533)
Rebates receivable (422,241) (47,113)
Due to/from affiliates 341,514 (100,290)
Other assets - 46,998
Increase (decrease) in:
Accounts payable and accrued expenses (358,506) (319,637)
Income taxes payable (668,045) 265,493
Other liabilities 38,606 45,151
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Net cash used in operating activities (1,741,745) (2,172,622)
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CASH FLOWS FROM INVESTING ACTIVITIES:
Capital expenditures (522,297) (850,352)
Acquisition of PAI, net of cash and cash equivalents - (4,487,006)
Repayment of note by stockholder 1,036,125 -
Interest received on notes from stockholders - 39,100
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Net cash provided by (used in) investing activities 513,828 (5,298,258)
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CASH FLOWS FROM FINANCING ACTIVITIES:
Sale of common stock net 9,538,037 -
Repayment of debt and capital lease obligations (3,375) (120,562)
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Net cash provided by (used in) financing activities 9,534,662 (120,562)
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Net increase (decrease) in cash and cash equivalents 8,306,745 (7,591,442)
Cash and cash equivalents, beginning of period 2,815,863 15,724,730
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Cash and cash equivalents, end of period $11,122,608 $8,133,288
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SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
</TABLE>
<PAGE>
NATIONAL MEDICAL HEALTH CARD SYSTEMS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
1. BASIS OF PRESENTATION
The unaudited consolidated financial statements include the accounts of National
Medical Health Card Systems, Inc. (the "Company") and its wholly owned
subsidiaries, Pharmacy Associates, Inc. ("PAI"), National Medical Health Card
IPA, Inc. ("IPA") and Specialty Pharmacy Care, Inc. ("Specialty"). Unless the
context otherwise requires, references herein to the "Company" refer to the
Company and its subsidiaries, PAI, IPA and Specialty, on a consolidated basis.
The results of operations and balance sheet of PAI have been included in the
consolidation as of July 20, 2000, the effective date of the acquisition. All
material intercompany balances and transactions have been eliminated in the
consolidation.
The accompanying unaudited consolidated financial statements have been prepared
by the Company in accordance with generally accepted accounting principles for
interim financial information and substantially in the form prescribed by the
Securities and Exchange Commission in instructions to Form 10-Q and Article 10
of Regulation S-X. Accordingly, they do not include all of the information and
footnotes required by generally accepted accounting principles for complete
financial statements. In the opinion of the Company's management, the September
30, 2000 and 1999 unaudited interim financial statements include all
adjustments, consisting of normal recurring adjustments, necessary for a fair
presentation of results for these interim periods. In the opinion of the
Company's management, the disclosures contained in this Form 10-Q are adequate
to make the information presented not misleading when read in conjunction with
the Notes to Consolidated Financial Statements included in the Company's Form
10-K, as amended, for the year ended June 30, 2000. The results of operations
for the three month period ended September 30, 2000 are not necessarily
indicative of the results to be expected for the full year or for any future
period.
Certain amounts in the prior period have been reclassified to conform to the
current period presentation.
2. BUSINESS ACQUISITIONS
On July 20, 2000, the Company acquired PAI, a regional prescription benefit
management company operating in Arkansas, Louisiana, and Mississippi. Under the
terms of the merger agreement, stockholders of PAI received an aggregate of $6
million in cash and 400,000 shares of the Company's common stock, which was
valued at $849,920 on the acquisition date. The acquisition was accounted for
under the purchase method of accounting and its results of operations were
included in the consolidated financial statements commencing with the
acquisition date. The excess of the acquisition costs over the fair value of
identifiable net assets acquired were $6,218,469, which consists of the
following components: (i) customer relationships valued at $131,000 which will
be amortized entirely over the current year, (ii) non-compete contracts valued
at $44,400 which will be amortized over five (5) years, and (iii) goodwill of
$6,043,069 which will be amortized over twenty (20) years. PAI stockholders may
also receive additional consideration of up to $2 million payable in a
combination of cash and common stock over a two-year period if certain financial
targets of PAI are met.
The Company entered into an employment agreement with the former president of
PAI. In addition, substantially all of the former employees of PAI were hired by
the Company.
The Company assumed all the assets and liabilities of PAI, as of July 20, 2000,
including two outstanding loans as follows: (i) a note payable to a bank with a
principal balance as of September 30, 2000 of $90,116. Such note is payable in
monthly installments in the amount of $2,432, including interest at the rate of
7.75% and principal through July 2004. Repayment of such note is secured by two
automobiles; and (ii) a loan representing prepaid rebates from its rebate
administrator with a principal balance as of September 30, 2000 of $352,227,
payable with interest at the rate of 8.5% in four quarterly payments of $94,261
commencing December 31, 2000 and ending September 30, 2001.
The summarized unaudited pro forma results of operations set forth below for the
three months ended September 30, 1999 and September 30, 2000 assume the PAI
acquisition had occurred as of the beginning of each of these periods.
Three Months Ended September 30
1999 2000
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Revenues $54,494,110 $60,439,605
Net income $ 598,435 $ 280,799
Net income per common share:
Basic $ 0.09 $ 0.04
Diluted $ 0.09 $ 0.04
Pro forma weighted average number of
common shares outstanding:
Basic 6,755,974 7,121,496
Diluted 6,755,974 7,121,496
Pro forma adjusted net income per common share, including acquisitions, may not
be indicative of actual results, primarily because pro forma earnings include
historical results of operations of the acquired entity and does not reflect any
cost savings or potential sales erosion that may result from the Company's
integration efforts.
3. PUBLIC OFFERING
The registration statement for the Company's Public Offering became effective on
July 28, 1999 ("the Public Offering"). The Company consummated the Public
Offering on August 2, 1999 and issued 1,600,000 shares of common stock at an
offering price of $7.50 per share. The Company granted the underwriters of the
Public Offering 200,000 warrants for nominal consideration. The warrants entitle
the underwriters to purchase 200,000 shares of common stock from the Company at
$9.00 per share. The warrants are exercisable for four years commencing on July
29, 2000. In addition, the underwriters were granted an overallotment option by
the Company to buy 300,000 shares of common stock at $7.50 per share exercisable
by September 11, 1999. The underwriters did not exercise this option. Concurrent
with the Public Offering, Mr. Brodsky, the Company's Chairman of the Board of
Directors and Chief Executive Officer ("Mr. Brodsky"), sold 400,000 shares of
common stock from his holdings at $7.50 per share. The Company received proceeds
of $12,883,100 representing payment for the sale of the 1,600,000 shares, plus
73% of the proceeds from the sale of the 400,000 shares by Mr. Brodsky for
repayment of $1,992,900 of indebtedness owed by Mr. Brodsky and affiliates to
the Company. Such proceeds were net of underwriting discounts and commissions, a
non-accountable expense allowance and a financial advisory fee paid to the
underwriters plus certain fees and expenses paid by the Company.
4. STOCK OPTIONS
During the three months ended September 30, 2000, the Company granted incentive
options to employees under the 1999 Stock Option Plan (the "Plan") to purchase
up to 7,670 shares of common stock at $7.50 per share. These options vest over a
three-year period commencing upon the completion of one year of employment with
the Company, and terminate after five years. As of September 30, 2000 an
aggregate of 658,989 options have been granted under the Plan.
5. EARNINGS PER SHARE
Outstanding options and warrants issued by the Company are excluded from the
calculation of diluted earnings per share for the three months ended September
30, 1999 and 2000 as their effect is antidilutive.
6. ACCOUNTS PAYABLE AND ACCRUED EXPENSES
Accounts payable and accrued expenses consist of the following:
June 30 September 30
2000 2000
---- ----
Claims payable $22,571,928 $26,815,097
Rebates payable to sponsors 3,565,258 5,625,156
Other payables 1,293,498 1,446,157
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$27,430,684 $33,886,410
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7. RELATED PARTY TRANSACTIONS
Certain costs paid to affiliates were capitalized as software development costs.
For the three months ended September 30, 2000, the amount charged by affiliates
and capitalized was approximately $167,000.
The Company purchased furniture and fixtures from an affiliate during the three
months ended September 30, 2000 for approximately $239,000. The price of some of
these assets included a 20% purchasing and handling fee.
For the periods presented, certain general, administrative and other expenses
reflected in the financial statements include allocations of certain corporate
expenses from affiliates which take into consideration personnel, estimates of
the time spent to provide services or other appropriate bases. These allocations
include services and expenses for general management, information systems
maintenance, financial consulting, employee benefits administration, legal
communications and other miscellaneous services.
Management believes the foregoing allocations were made on a reasonable basis.
Although these allocations do not necessarily represent the costs which would
have been or may be incurred by the Company on the stand-alone basis, management
believes that any variance in costs would not be material.
General and administrative expenses related to transactions with affiliates
included in the statement of income are:
<TABLE>
<S> <C> <C>
Three months ended September 30
1999 2000
---- ----
Software maintenance and related services $ 226,748 $ 335,892
Management and consulting fees 223,304 306,623
Administrative and bookkeeping services and supplies 132,930 206,909
Rent and utilities 93,000 109,875
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$ 675,982 $ 959,299
</TABLE>
8. MAJOR CUSTOMERS AND PHARMACIES
For the three months ended September 30, 1999, approximately 54% of the revenues
were from three plan sponsors administering multiple plans. For the three months
ended September 30, 2000, approximately 19% of the consolidated revenues were
from one plan sponsor administering multiple plans. Amounts due from this
sponsor at September 30, 2000 approximated $2,903,000.
For the three months ended September 30, 1999 and 2000, approximately 41% and
34% of the cost of claims were from two pharmacy chains. Amounts payable to
these two pharmacy chains at September 30, 2000 were approximately $7,843,000.
9. LITIGATION
On February 9, 1999, the Company was informed by counsel that an action was
brought against it by the West Contra Costa Unified School District and an
individual plaintiff in the State of California. The case was subsequently
removed to Federal court. The complaint alleges, among other things, that the
parties entered into a contract in November 1996, for services to be provided by
the Company and, subsequently, the Company unilaterally terminated the contract
on December 16, 1996. The complaint further alleges that this termination was in
violation of the terms of the contract and one or more statutory provisions;
that the termination resulted in the school district incurring approximately
$150,000 in additional costs due to its having to enter into a fee for service
arrangement with the Company in order to continue providing prescription
benefits to its plan members; and that, due to the wrongful termination of the
contract, the school district was forced to secure a replacement for the
benefits and the services that were to have been provided under the contract
with the Company. In connection with this last circumstance, the complaint
alleges that the school district incurred approximately $400,000 in additional
expenses. The complaint also seeks treble damages. If treble damages were
allowable in this case and a judgment were to be entered against the Company,
the Company would be liable for damages in excess of $1,500,000. The Company is
currently in the process of assessing Plaintiff's alleged damages based upon
documents produced in the discovery phase and is presently involved in the
deposition phase. The Company intends to pursue a dispositive motion after it
has analyzed the materials produced from the discovery and deposition phases. On
November 8, 2000, the court set a trial date of June 18, 2001. The Company
denies the allegations and intends to vigorously defend this action. In the
opinion of management, the outcome of this litigation will not have a material
adverse effect on the Company's financial position or its results of operations.
On October 23, 2000, the Company was served with a complaint filed by Allcare
Health Management Systems, Inc. ("Allcare") in the United States District Court
for the Northern District of Texas, alleging that the Company and numerous other
defendants infringe certain patent rights allegedly owned by Allcare. The
complaint seeks unspecified damages and injunctive relief. Although the Company
has not had an opportunity to analyze all of the issues fully, management
believes that the allegations of the complaint are without merit; the Company
denies such allegations and intends to vigorously defend the action. Further,
the Company has an agreement with one of its software licensors (the
"Licensor"), requiring the Licensor to indemnify the Company with respect to
intellectual property claims concerning the licensed product. The Company has
notified the Licensor of this action.
Notwithstanding the foregoing, because of the uncertainties of litigation, no
assurances can be given as to the outcome of the Allcare litigation. In the
event that the Company were not to prevail in this litigation, management
believes that the Company would be indemnified by the Licensor. Allcare has
settled with numerous defendants in a previous related litigation. However, in
the event that the Company were not to prevail in this litigation, and in the
event that the Company were unable to receive indemnification from the Licensor,
the Company could be required to pay significant damages to Allcare and could be
enjoined from further use of its technology as it presently exists. Although a
negative outcome in the Allcare litigation would have a material adverse effect
on the Company's business, operating results and financial condition, the
Company believes that, if it is held that the Company's system infringes
Allcare's patent rights, the Company would attempt to obtain software to replace
the infringing system or would attempt to negotiate with Allcare to utilize its
system, although no assurances can be given that the Company would be successful
in these attempts. At the present time, the Company cannot assess the possible
cost of designing and implementing a new system or obtaining rights from
Allcare.
10. RECENTLY ISSUED ACCOUNTING STANDARDS
In December 1999, the Securities and Exchange Commission ("SEC") issued Staff
Accounting Bulletin 101, "Revenue Recognition in Financial Statements." In June
2000, the SEC delayed the required implementation date to the fourth quarter of
fiscal years beginning after December 15, 1999. The Company does not expect the
implementation of SAB 101 to have a material effect on its results of operations
and financial position.
11. SUPPLEMENTAL CASH FLOW INFORMATION
During the three months ended September 30, 1999 and September 30, 2000, the
Company paid $1,879 and $59,368 in interest and $651,273 and $130,826 in income
taxes, respectively. In a non-cash transaction, the Company issued 400,000
shares of its common stock valued at $849,920 as part of the acquisition of PAI.
<PAGE>
NATIONAL MEDICAL HEALTH CARD SYSTEMS, INC. AND SUBSIDIARIES
ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
RESULTS OF OPERATIONS
THREE MONTHS ENDED SEPTEMBER 30, 2000 COMPARED TO THREE MONTHS ENDED
SEPTEMBER 30, 1999
Revenues increased $17.5 million, or approximately 44%, from $39.5 million for
the three months ended September 30, 1999, to $57.0 million for the three months
ended September 30, 2000. $12.9 million, or 74%, of the increase was due to the
inclusion of revenues from PAI subsequent to July 20, 2000. $1.5 million of the
remaining $4.6 million increase was due to revenues related to new sponsors or
new services offered. The majority of the balance of the year-over-year
increase, or $2.3 million, was due primarily to other existing sponsors as a
result of several factors including higher charges relating to increased cost of
pharmaceuticals, new drugs, plan participant growth, and an increase in the
average number of claims per plan participant. One other factor influencing the
increase was a one-time net reduction in revenues of $821,000 during the three
months ended September 30, 1999. This reduction arose when the Company settled
certain fees due from a major sponsor as consideration for a new two-year
arrangement with this sponsor.
Cost of claims increased $16.2 million, or approximately 45%, from $36.2 million
for the three months ended September 30, 1999, to $52.4 million for the three
months ended September 30, 2000. PAI accounted for $12.1 million, or 75%, of the
increase. As a percentage of revenues, cost of claims increased slightly from
91.5% to 91.9% for the three months ended September 30, 1999 and September 30,
2000, respectively. The increase in cost of claims as a percent of revenues on a
consolidated basis, was primarily due to PAI, which had costs equal to 93.5% of
revenues, which increased the overall average cost of claims. PAI is in the
process of adopting some of the Company's pricing policies, which should help to
decrease the overall percentage. The percentage for the three months ended
September 30, 1999 was also favorably impacted by a $736,000 reduction in
rebates payable, which reduces cost of claims, which arose when the Company
reevaluated its liabilities to a plan sponsor.
Gross profit increased from $3.4 million for the three months ended September
30, 1999 to $4.6 million for the three months ended September 30, 2000, a $1.2
million, or 37% increase. Approximately two thirds of the increase in gross
profit was related to the inclusion of PAI. The majority of the remaining
increase was the result of the increase in revenues offset by the increase in
costs of claims.
<PAGE>
Selling, general, and administrative expenses, which include amounts charged by
affiliates, increased $1.7 million, or approximately 67%, from $2.6 million for
the three months ended September 30, 1999, to $4.3 million for the three months
ended September 30, 2000. PAI's expenses accounted for $0.7 million, or
approximately 40%, of the increase. Goodwill amortization represented $0.1
million of the increase. The balance of the growth in these expenses was
principally related to three areas: (i) an approximate $530,000 increase in
expenditures related to increases in compensation and benefits, primarily
associated with new employees, and increased sales and marketing expenditures;
(ii) an approximate $200,000 increase in depreciation and amortization expenses
related to increased hardware procurement and software development; and (iii) a
$150,000 increase in the bad debt expense accrual as the Company determined it
should increase its reserves based on an assessment of its receivables aging.
General and administrative expenses charged by affiliates increased
approximately $283,000, or 42% year-over-year, from $676,000 to $959,000 for the
three months ended September 30, 1999 and September 30, 2000 respectively. The
majority of the increase relates to increased information technology services
and additional administrative support services and supplies to support the
continued expansion of the business.
Other income did not change substantially from $220,000 for the three months
ended September 30, 1999 to $214,000 for the three months ended September 30,
2000. A $42,000 increase in interest income earned during the three months ended
September 30, 2000 was offset by a $48,000 increase in interest expense from a
capital lease for computer hardware and related software.
The effective tax rate increased from 44% to 52% during the three months ended
September 30, 1999 and 2000, respectively. This was primarily due to the
nondeductibility of the goodwill amortization.
LIQUIDITY AND CAPITAL RESOURCES
The Company's primary cash requirements are for capital expenditures and
operating expenses, including cost of pharmaceuticals, software and hardware
upgrades and the funding of accounts receivable. The Company also requires cash
for potential acquisitions of other prescription benefit management companies or
related services. As of September 30, 2000, the Company had working capital of
$0.4 million as compared to $6.0 million as of June 30, 2000. The primary reason
for this change in working capital was the $6.0 million of cash used as the
initial consideration for the PAI acquisition.
Net cash used in operating activities was $2.2 million for the three months
ended September 30, 2000, as compared to $1.7 million for the three months ended
September 30, 1999. The majority of the cash used in operating activities during
the three months ended September 30, 2000 was related to increased accounts
receivables of $2.9 million.
Historically, the timing of the Company's accounts receivable and accounts
payable has generally been a net source of cash from operating activities. This
is the result of the terms of trade in place with plan sponsors on the one hand,
and the Company's pharmacy network on the other hand. These terms generally lead
to the Company's payments to participating pharmacies being slower than its
corresponding collections from plan sponsors. The Company believes that this
situation is not unusual in the prescription benefit management industry and
expects to operate on similar terms for the foreseeable future. However, there
can be no assurance that such terms of trade will continue in the future and, if
they were to change materially, the Company could require additional working
capital financing. There can be no assurance that such financing could be
obtained at rates or on terms acceptable to the Company, if at all.
Net cash used in investing activities was $5.3 million for the three months
ended September 30, 2000. The net cash outlay for PAI was $4.5 million,
representing the initial payment of $6.0 million plus $0.2 million of due
diligence related expenses less PAI's cash balance at July 20, 2000 of $1.7
million. In addition, there was $0.9 million of capital asset additions during
the period. Net cash used in financing activities was $121,000 for the three
months ended September 30, 2000, reflecting repayments against capital leases.
This compares to $10.7 million provided by financing activities for the three
months ended September 30, 1999, reflecting the cash received from the Public
Offering described herein.
During fiscal year 2000, the Company entered into three capital lease
transactions for hardware and software. The purchase price of these capital
assets was $2,537,730. One hardware lease is for a term of 57 months with
monthly payments of $40,322. Another hardware lease is for a term of 60 months
with monthly payments of $3,245. The software lease is for a term of 33 months
with monthly payments of $13,662. The Company assumed all the assets and
liabilities of PAI, as of July 20, 2000, including two outstanding loans as
follows: (i) a note payable to a bank with a principal balance as of September
30, 2000 of $90,116. Such note is payable in monthly installments in the amount
of $2,432, including interest at the rate of 7.75% and principal through July
2004. Repayment of such note is secured by two automobiles; and (ii) a loan
representing prepaid rebates from its rebate administrator with a principal
balance as of September 30, 2000 of $352,227, payable with interest at the rate
of 8.5% in four quarterly payments of $94,261 commencing December 31, 2000 and
ending September 30, 2001.
In February 1998, the Company entered into an agreement with an unaffiliated
third party for computer software products and professional services. The
agreement required the Company to pay an initial license fee. In addition, if
certain milestones are met based on the number of processed claims, as defined
in the agreement, the initial license fee increases in specified increments. To
date, one such milestone has been met. The agreement also provides for the
annual payment of a fee for maintenance and updating services equal to 18% of
the initial license fee, as defined. It is anticipated that, based on internal
growth and the PAI acquisition, at least one additional milestone, and perhaps
two, will be met during calendar year 2001. Depending upon circumstances the
financial impact to the Company could be up to $250,000. See "Legal
Proceedings".
The Company anticipates that current cash positions, after the PAI acquisition
and the repayment of certain affiliate and shareholder debt, together with
anticipated cash flow from operations, will be sufficient to satisfy the
Company's contemplated cash requirements for at least 24 months. This is based
upon current levels of capital expenditures and anticipated operating results
for the next 24 months. However, it is one of the Company's stated goals to
acquire other prescription benefit management companies. This will require cash.
Depending on the Company's evaluation of future acquisitions, additional cash
may be required. Therefore, revolving credit lines for acquisitions and/or
operations and debt financing are being evaluated as backups to anticipated cash
needs. In the event that the Company's plans change or its assumptions prove to
be inaccurate or the proceeds of the Public Offering otherwise prove to be
insufficient to fund operations and acquisitions, the Company could be required
to seek additional financing sooner than anticipated.
RECENTLY ISSUED ACCOUNTING STANDARDS
In December 1999, the Securities and Exchange Commission ("SEC") issued Staff
Accounting Bulletin 101, "Revenue Recognition in Financial Statements." In June
2000, the SEC delayed the required implementation date to the fourth quarter of
fiscal years beginning after December 15, 1999. The Company does not expect the
implementation of SAB 101 to have a material effect on its results of operations
and financial position.
OTHER MATTERS
Inflation
Management does not believe that inflation has had a material adverse impact on
the Company's net income.
FORWARD-LOOKING STATEMENTS
This report contains or may contain forward-looking statements within the
meaning of Section 21E of the Securities Exchange Act of 1934 including
statements of the Company's and management's expectations, intentions, plans and
beliefs, including those contained in or implied by "Management's Discussion and
Analysis of Financial Condition and Results of Operations" and the Notes to
Consolidated Financial Statements. These forward-looking statements, as defined
in Section 21E of the Securities Exchange Act of 1934, are dependent on certain
events, risks and uncertainties that may be outside the Company's control. These
forward-looking statements may include statements of management's plans and
objectives for the Company's future operations and statements of future economic
performance; the Company's capital budget and future capital requirements, and
the Company's meeting its future capital needs; and the assumptions described in
this report underlying such forward-looking statements. Actual results and
developments could differ materially from those expressed in or implied by such
statements due to a number of factors, including, without limitation, those
described in the context of such forward-looking statements, and the factors set
forth in the Company's Form 10-K, as amended. All subsequent written and oral
forward-looking statements attributable to the Company or persons acting on its
behalf are expressly qualified in their entirety by this section.
ITEM 3 - Quantitative and Qualitative Disclosures
about Market Risk
Not applicable.
<PAGE>
NATIONAL MEDICAL HEALTH CARD SYSTEMS, INC. AND SUBSIDIARIES
PART II - OTHER INFORMATION
Item 1 - Legal Proceedings
On February 9, 1999, the Company was informed by counsel that an action was
brought against it by the West Contra Costa Unified School District and an
individual plaintiff in the State of California. The case was subsequently
removed to Federal court. The complaint alleges, among other things, that the
parties entered into a contract in November 1996, for services to be provided by
the Company and, subsequently, the Company unilaterally terminated the contract
on December 16, 1996. The complaint further alleges that this termination was in
violation of the terms of the contract and one or more statutory provisions;
that the termination resulted in the school district incurring approximately
$150,000 in additional costs due to its having to enter into a fee for service
arrangement with the Company in order to continue providing prescription
benefits to its plan members; and that, due to the wrongful termination of the
contract, the school district was forced to secure a replacement for the
benefits and the services that were to have been provided under the contract
with the Company. In connection with this last circumstance, the complaint
alleges that the school district incurred approximately $400,000 in additional
expenses. The complaint also seeks treble damages. If treble damages were
allowable in this case and a judgment were to be entered against the Company,
the Company would be liable for damages in excess of $1,500,000. The Company is
currently in the process of assessing Plaintiff's alleged damages based upon
documents produced in the discovery phase and is presently involved in the
deposition phase. The Company intends to pursue a dispositive motion after it
has analyzed the materials produced from the discovery and deposition phases. On
November 8, 2000, the court set a trial date of June 18, 2001. The Company
denies the allegations and intends to vigorously defend this action. In the
opinion of management, the outcome of this litigation will not have a material
adverse effect on the Company's financial position or its results of operations.
On October 23, 2000, the Company was served with a complaint filed by Allcare
Health Management Systems, Inc. ("Allcare") in the United States District Court
for the Northern District of Texas, alleging that the Company and numerous other
defendants infringe certain patent rights allegedly owned by Allcare. The
complaint seeks unspecified damages and injunctive relief. Although the Company
has not had an opportunity to analyze all of the issues fully, management
believes that the allegations of the complaint are without merit; the Company
denies such allegations and intends to vigorously defend the action. Further,
the Company has an agreement with one of its software licensors (the
"Licensor"), requiring the Licensor to indemnify the Company with respect to
intellectual property claims concerning the licensed product. The Company has
notified the Licensor of this action.
Notwithstanding the foregoing, because of the uncertainties of litigation, no
assurances can be given as to the outcome of the Allcare litigation. In the
event that the Company was not to prevail in this litigation, management
believes that the Company would be indemnified by the Licensor. Allcare has
settled with numerous defendants in a previous related litigation. However, in
the event that the Company were not to prevail in this litigation, and in the
event that the Company were unable to receive indemnification from the Licensor,
the Company could be required to pay significant damages to Allcare and could be
enjoined from further use of its technology as it presently exists. Although a
negative outcome in the Allcare litigation would have a material adverse effect
on the Company's business, operating results and financial condition, the
Company believes that, if it is held that the Company's system infringes
Allcare's patent rights, the Company would attempt to obtain software to replace
the infringing system or would attempt to negotiate with Allcare to utilize its
system, although no assurances can be given that the Company would be successful
in these attempts. At the present time, the Company cannot assess the possible
cost of designing and implementing a new system or obtaining rights from
Allcare.
Item 2 - Changes in Securities and Use of Proceeds
During the three months ended September 30, 2000, the Company granted incentive
options to employees under the 1999 Stock Option Plan (the "Plan") to purchase
up to 7,670 shares of common stock at $7.50 per share. These options vest over a
three-year period commencing upon the completion of one year of employment with
the Company and terminate after five years. At September 30, 2000 an aggregate
of 658,989 options have been granted under the Plan.
Pursuant to the terms of the Agreement and Plan of Merger between the Company
and PAI, the Company issued 400,000 shares of unregistered common stock of the
Company to certain PAI shareholders. The stock issued to the PAI shareholders
was valued at $849,920.
Item 3 - Defaults Upon Senior Securities
None.
Item 4 - Submission of Matters to a Vote of Security Holders
None.
Item 5 - Other Information
None.
Item 6 - Exhibits and Reports on Form 8-K
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<S>
<C> <C>
EXHIBIT DESCRIPTION OF EXHIBIT
NUMBER
3.1 Restated Certificate of Incorporation of Health Card(1)
3.2 Certificate of Amendment, filed May 25, 1999, to Certificate of Incorporation of Health Card(1)
3.3 Restated Certificate of Incorporation of Health Card, as amended(2)
3.4 Amended and Restated By-Laws of Health Card(1)
4.1 Form of Specimen Common Stock Certificate(1)
4.2 Form of Warrant Agreement, including form of Representatives' Warrants(1)
10.1 Mail Service Provider Agreement, dated July 1, 1996, between Health Card and Thrift Drug, Inc. d/b/a
Express Pharmacy Services(1)
10.2 Amendment to Mail Service Provider Agreement, dated January 1, 1997, between Health Card and
Thrift Drug, Inc. d/b/a Express Pharmacy Services(1)
10.3 Software License Agreement and Professional Service Agreement, dated February 18, 1998, between
Health Card and Prospective Health, Inc.(1)
10.4 1999 Stock Option Plan(1)
10.5 Employee Covenant Agreement, dated June 15, 1998, between Health Card and Mary Casale(1)
10.6 Letter, dated February 1, 2000, from Mary Casale to Bert E. Brodsky(4)
10.7 Stock Option Agreement, dated February 1, 2000, between Health Card and Mary Casale(4)
10.8 Letter, dated November 30, 1998, from Health Card to Marjorie O'Malley(1)
10.9 Employee Covenant Agreement, dated December 7, 1998, between Health Card and Marjorie O'Malley(1)
10.10 Stock Option Agreement, dated December 7, 1998, between Bert Brodsky and Marjorie O'Malley(1)
10.11 Letter, dated February 1, 2000, from Marjorie O'Malley to Bert E. Brodsky(4)
10.12 Stock Option Agreement, dated February 1, 2000, between Health Card and Marjorie O'Malley(4)
10.13 Letter, dated November 3, 1998, from Health Card to John Ciufo(1)
10.14 Confidentiality and Non-Disclosure Agreement, dated November 19, 1998, between Health Card and
John Ciufo(1)
10.15 Stock Option Agreement, dated December 7, 1998, between Bert Brodsky and John Ciufo(1)
10.16 Stock Option Agreement, dated August 3, 1999, between Health Card and John Ciufo(4)
10.17 Letter, dated February 1, 2000, from John Ciufo to Bert E. Brodsky(4)
10.18 Stock Option Agreement, dated February 1, 2000, between Health Card and John Ciufo(4)
10.19 Employee Covenant Agreement, dated June 16, 1998, between Health Card and Ken Hammond(1)
10.20 Stock Option Agreement, dated August 3, 1999, between Health Card and Ken Hammond(4)
10.21 Employee Covenant Agreement, dated June 1, 1998, between Health Card and Linda Portney(1)
10.22 Employment Agreement, dated March 27, 2000, between Health Card and David Gershen(4)
10.23 Stock Option Agreement, dated May 1, 2000, between Health Card and David Gershen(4)
10.24 Employment Agreement, dated May 3, 2000, between Health Card and James Bigl(4)
10.25 Stock Option Agreement, dated June 12, 2000, between Health Card and James Bigl(4)
10.26 Stock Option Agreement, dated August 3, 1999, between Health Card and Kenneth J. Daley(4)
10.27 Stock Option Agreement, dated August 3, 1999, between Health Card and Gerald Angowitz(4)
10.28 Stock Option Agreement, dated August 3, 1999, between Health Card and Richard J. Strauss, M.D.(4)
10.29 Lease, dated January 1, 1996, between Sandata, Inc. and Health Card(1)
10.30 Assignment, dated November 1, 1996, from Sandata, Inc., to BFS Realty, LLC(1)
10.31 First Amendment to BFS Realty, LLC Lease, dated June 1, 1998, between BFS Realty, LLC and Health Card(1)
10.32 Second Amendment to BFS Realty, LLC Lease, dated April 1, 1999, between BFS Realty, LLC and Health Card(1)
10.33 Lease, dated August 10, 1998, between 61 Manor Haven Boulevard, LLC and Health Card(1)
10.34 Promissory Note, dated July 1, 1997, made payable by Bert Brodsky to the order of Health Card in the
original principal amount of $1,000,000(1)
10.35 Letter, dated June 3, 1999, from Bert Brodsky to Health Card(1)
10.36 Promissory Note, dated July 1, 1997, made payable by Gerald Shapiro to the order of Health Card in the
original principal amount of $300,000(1)
10.37 Letter, dated June 3, 1999, from Gerald Shapiro to Health Card(1)
10.38 Promissory Note, dated June 1, 1998, made payable by P.W. Capital, LLC to the order of Health Card in the
original principal amount of $4,254,785(1)
10.39 Agreement of Guaranty, dated June 1, 1998, by Bert E. Brodsky in favor of Health Card(1)
10.40 Demand Promissory Note, dated January 2, 1999, made payable by P.W. Capital, LLC to the order of Health
Card, in the original principal amount of $90,100(1)
10.41 Promissory Note, dated July 31, 2000, made payable by P.W. Capital, LLC to the order of Health Card,
in the amount of $3,890,940(4)
10.42 Consulting Agreement, dated April 14, 1994, between P.W. Medical Management, Inc. and Health Card(1)
10.43 Assignment, dated July 1, 1996, between P.W. Medical Management, Inc. and P.W. Capital Corp.(1)
10.44 Letter, dated June 8, 1999, from P.W. Capital Corp. to Health Card(1)
10.45 Letter, dated June 9, 1999, from Bert E. Brodsky to Health Card(1)
10.46 Letter, dated June 8, 1999, from the Bert E. Brodsky Revocable Trust to Health Card(1)
10.47 Letter agreement, dated June 30, 1999, between the Bert E. Brodsky Revocable Trust and Health Card(1)
10.48 Employment Agreement, dated July 1, 1999, between Health Card and Bert E. Brodsky(1)
10.49 Letter, dated June 8, 1999, from Bert E. Brodsky to Health Card(1)
10.50 Form of Lock-up Agreement(1)
10.51 Acquisition and Merger Agreement, dated as of June 27, 2000, between Health Card and Pharmacy Associates,
Inc.(3)
10.52 Lease Agreement, dated March 4, 1996, between Pharmacy Associates, Inc. and Executive Park Partnership(4)
10.53 Amendment to Lease, dated November 2, 1998, between Pharmacy Associates, Inc. and Executive Park
Partnership(4)
10.54 Amendment to Lease, dated November 19, 1998, between Pharmacy Associates, Inc. and Executive Park
Partnership(4)
10.55 Lease Agreement, dated July 8, 1999, between Pharmacy Associates, Inc. and Executive Park Partnership(4)
----------------------
</TABLE>
(1) Denotes document filed as an exhibit to Health Card's Registration
Statement on Form S-1 (Registration Number: 333-72209) and incorporated
herein by reference. (2) Denotes documentation filed as an Exhibit to
Health Card's Report on Form 10-K for the fiscal year ended June 30, 1999.
(3) Denotes document filed as an exhibit to Health Card's Form 8-K for an
event dated July 20, 2000 and incorporated herein by reference. (4) Denotes
documentation filed as an Exhibit to Health Card's Report on Form 10-K, as
amended, for the fiscal year ended June 30, 2000.
See Form 8-K filed with the Securities and Exchange Commission on August 3,
2000.
Exhibit 27 - Financial Data Schedule (Electronic Filing Only)
<PAGE>
SIGNATURES
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.
NATIONAL MEDICAL HEALTH CARD SYSTEMS, INC.
(Registrant)
Date: November 14, 2000 By: /s/ Bert E. Brodsky
------------------------------- ------------------------
Bert E. Brodsky
Chairman of the Board
and Chief Executive Officer
