FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2000
OR
[ ] 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 0-18902
Health Risk Management, Inc.
(Exact name of registrant as specified in its charter)
Minnesota 41-1407404
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
10900 Hampshire Avenue South, Minneapolis, Minnesota 55438
(Address of principal executive offices, Zip Code)
(612) 829-3500
(Registrant's telephone number, including area code)
------
(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 _______
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
The number of shares of Common Stock par value $.01 per share, outstanding on
August 12, 2000 was 4,661,801.
<PAGE>
HEALTH RISK MANAGEMENT, INC.
INDEX
Part I. Financial Information Page Number
Item 1. Financial Statements (Unaudited)
Consolidated Balance Sheets -- at June 30, 2000 and
December 31, 1999.........................................3
Consolidated Statements of Operations for the three months
ended June 30, 2000 and 1999and the six months ended
June 30, 2000 and 1999....................................4
Consolidated Statements of Cash Flows for the six months
ended June 30, 2000 and 1999..............................5
Notes to Consolidated Financial Statements...................6-11
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations..........12-16
Item 3. Quantitative and Qualitative Disclosures About
Market Risk..............................................16
Part II. Other Information
Item 1. Legal Proceedings....................................17
Item 4. Submission of Matters to a Vote of Security Holders..17
Item 6. Exhibits and Reports on Form 8-K.....................17
Signatures...............................................................18
Exhibit Index............................................................19
2
<PAGE>
PART I. ITEM 1. FINANCIAL INFORMATION
HEALTH RISK MANAGEMENT, INC.
CONSOLIDATED BALANCE SHEETS
(in thousands, except share data)
ASSETS
<TABLE>
<CAPTION>
June 30, December 31,
2000 1999
(Unaudited) (Note 1)
---------------- ----------------
<S> <C> <C>
Current assets:
Cash and cash equivalents $ 1,990 $ 10,577
Accounts receivable-net of allowance for doubtful accounts of $280
and $255 at June 30, 2000 and December 31, 1999, respectively 25,144 19,627
Deferred income taxes -- 700
Other 1,411 1,448
--------- ---------
Total current assets 28,545 32,352
Fixed maturity investments at fair value 6,683 6,675
Computer software costs, less accumulated amortization of $27,528 and
$23,612 at June 30, 2000 and December 31, 1999, respectively 25,851 26,180
Property and equipment, less accumulated depreciation of $18,382
and $16,631 at June 30, 2000 and December 31, 1999, respectively 11,987 11,078
Other assets 7,030 4,552
--------- ---------
$ 80,096 $ 80,837
========= =========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 7,417 $ 3,084
Medical services payable 18,874 22,506
Due to reinsurer -- 138
Accrued expenses 5,287 4,226
Unearned revenues 5,473 2,774
Current maturities of notes payable 7,920 6,825
Current portion of capitalized equipment leases 590 380
--------- ---------
Total current liabilities 45,561 39,933
Deferred income taxes -- 1,479
Long-term portion of notes payable -- 3,295
Long-term portion of capitalized equipment leases 1,328 529
Surplus note payable 2,500 2,500
Commitments and contingencies
Shareholders' equity:
Undesignated shares, $.01 par value, 9,700,000 authorized, none issued
Series A preferred shares, $.01 par value, 300,000 authorized, none issued
Common shares, $.01 par value, 20,000,000 authorized, 4,661,801 and
4,641,996 issued and outstanding at June 30, 2000 and December 31,
1999, respectively 47 46
Additional paid-in capital 32,313 32,192
Retained earnings (deficit) (1,362) 1,162
Accumulated other comprehensive loss:
Net unrealized loss on fixed maturity investments (291) (299)
--------- ---------
Total shareholders' equity 30,707 33,101
--------- ---------
$ 80,096 $ 80,837
========= =========
See accompanying notes.
</TABLE>
3
<PAGE>
HEALTH RISK MANAGEMENT, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
(in thousands, except per share data)
<TABLE>
<CAPTION>
Three Months Ended Six Months Ended
June 30, June 30,
----------------------------- -----------------------------
2000 1999 2000 1999
------------- ------------ ------------ ------------
<S> <C> <C> <C> <C>
Revenues:
Premiums-gross $ 46,898 $ 39,502 $ 91,688 $ 77,464
Ceding allowance -- 1,218 -- 2,457
Management service fees 9,666 12,486 20,156 24,389
QualityFIRST revenues 1,112 972 2,286 2,031
Investment income 223 273 510 552
------------- ------------ ------------ ------------
Total revenues 57,899 54,451 114,640 106,893
Less ceded premiums -- 19,293 -- 37,821
------------- ------------ ------------ ------------
Net revenues 57,899 35,158 114,640 69,072
Operating expenses:
Medical costs, net 39,978 16,734 76,761 32,378
Cost of services, net 16,244 13,841 31,681 26,985
Selling, marketing and administration, net 5,077 3,213 9,062 6,387
Interest expense 47 335 379 600
------------- ------------ ------------ ------------
Total operating expenses 61,346 34,123 117,883 66,350
------------- ------------ ------------ ------------
Income (loss) before income taxes (3,447) 1,035 (3,243) 2,722
Income tax expense (benefit) (819) 399 (719) 1,017
------------- ------------ ------------ ------------
Net income (loss) $ (2,628) $ 636 $ (2,524) $ 1,705
============= ============ ============ ============
Net income (loss) per share:
Basic $ (.56) $ .14 $ (.54) $ .37
============= ============ ============ ============
Diluted $ (.56) $ .14 $ (.54) $ .37
============= ============ ============ ============
Weighted average number of shares outstanding:
Basic 4,662 4,638 4,657 4,631
============= ============ ============ ============
Diluted 4,662 4,669 4,658 4,667
============= ============ ============ ============
</TABLE>
See accompanying notes.
4
<PAGE>
HEALTH RISK MANAGEMENT, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
(in thousands)
<TABLE>
<CAPTION>
Six Months Ended
June 30,
2000 1999
------------- -------------
<S> <C> <C>
Cash flows from operating activities:
Net income (loss) $ (2,524) $ 1,705
Adjustments to reconcile net income to net cash
used in operating activities:
Loss on disposal of equipment 14 --
Depreciation 1,807 1,850
Amortization 4,444 3,660
Provision for deferred income taxes (779) 1,003
Changes in operating assets and liabilities:
Accounts receivable (4,049) (1,680)
Other assets 568 327
Accounts payable 4,310 1,947
Medical services payable (10,339) (4,180)
Due to reinsurer (138) 553
Accrued expenses 146 4,018
Unearned revenues 2,699 2,984
------------- -------------
Net cash (used in) provided by operating activities (3,841) 11,887
Cash flows from investing activities:
Acquisition of net liabilities (assets), net of cash acquired 1,593 (7,734)
Computer software costs capitalized (3,587) (3,832)
Property and equipment purchased (309) (744)
Purchase of investments -- (234)
------------- -------------
Net cash used in investing activities (2,303) (12,544)
Cash flows from financing activities:
Proceeds from notes payable -- 4,000
Principal payments on notes payable (2,200) (996)
Principal payments on capital leases (248) (274)
Issuance of common shares 5 120
------------- -------------
Net cash (used in) provided by financing activities (2,443) 2,850
------------- -------------
(Decrease) increase in cash and cash equivalents (8,587) 2,493
Cash and cash equivalents at beginning of period 10,577 6,736
------------- -------------
Cash and cash equivalents at end of period $ 1,990 $ 9,229
============= =============
Supplemental disclosure:
Equipment and computer software acquired under capital leases $ 1,258 $ --
============= =============
See accompanying notes.
</TABLE>
5
<PAGE>
HEALTH RISK MANAGEMENT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. The accompanying unaudited condensed consolidated financial statements
have been prepared in accordance with accounting principles generally
accepted in the United States for interim financial information and
with the 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 accounting principles generally accepted in the United
States for complete financial statements. In the opinion of management,
all adjustments (consisting of normal recurring accruals) considered
necessary for a fair presentation have been included. Operating results
for the six and three month periods ended June 30, 2000 are not
necessarily indicative of the results that may be expected for the
year ended December 31, 2000.
The balance sheet at December 31, 1999 has been derived from the
audited financial statements at that date but does not include all of
the information and footnotes required by accounting principles
generally accepted in the United States for complete financial
statements.
For further information, refer to the consolidated financial statements
and footnotes thereto included in the Registrant Company and
Subsidiaries' transition report on Form 10-K of the six month
transition period ended December 31, 1999.
During the six months ended June 30, 2000, the Company experienced a
net decrease in cash and cash equivalents of $8,587,000. As discussed
in the Liquidity and Capital Resources section of Management's
Discussion and Analysis of Financial Condition and Results of
Operations, the Company believes that its current cash and the cash
flows to be generated from operations will be sufficient to finance the
Company's normal operations including the payment of medical claim
obligations. However, additional funding of the two new web-based
business initiatives in future quarters will be limited until external
financing can be obtained. It is expected that the new business will
then create positive cash flow back to the Company.
2. Uses of Estimates
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States requires management
to make estimates and assumptions that affect the amounts reported in
the consolidated financial statements and accompanying notes. The most
significant items include incurred but not yet reported claims included
in medical services payable, recoveries from providers included in
medical services payable, performance bonus accruals included in
accounts receivable and the deferred tax asset valuation allowance.
Such estimates and assumptions could change in the future as more
information becomes known, which could impact the amounts reported and
disclosed herein.
3. Computer software costs
<TABLE>
<CAPTION>
June 30,
2000 December 31,
(Unaudited) 1999
-------------------- --------------------
(in thousands)
<S> <C> <C>
Computer software costs consist of the following:
Care Management Software
Cost $ 21,570 $ 20,201
Less accumulated amortization 10,887 9,161
----------------- -----------------
Net book value 10,683 11,040
Claim Administration Software
</TABLE>
6
<PAGE>
<TABLE>
<CAPTION>
<S> <C> <C>
Cost 10,283 9,987
Less accumulated amortization 5,327 4,803
----------------- -----------------
Net book value 4,956 5,184
QualityFIRST(R)Software
Cost 21,526 19,604
Less accumulated amortization 11,314 9,648
----------------- -----------------
Net book value 10,212 9,956
----------------- -----------------
Computer software costs $ 25,851 $ 26,180
================= =================
</TABLE>
The Company capitalizes its internal-use software related to its Care
Management software and Claim Administration software in accordance
with the American Institute of Certified Public Accountants (AICPA)
Statement of Position (SOP) 98-1 "Accounting for Computer Software
Developed For or Obtained For Internal Use" (the SOP).
Effective October 1, 1999, the estimated remaining useful life of the
AutoPILOT Care Management software was reduced from seven years to
three years and no additional internal costs have been capitalized
since that date.
The Company capitalizes QualityFIRST(r) computer software costs in
accordance with Statement of Financial Accounting Standards (SFAS) No.
86, Accounting for the Costs of Computer Software to be Sold, Leased,
or Otherwise Marketed. The capitalized costs are amortized based on the
greater of the amount computed using (a) the ratio of current gross
revenues for the product to the total of current and anticipated future
gross revenues or (b) a straight-line basis over their estimated useful
lives, ranging from three to ten years.
4. Net Income (Loss) Per Share
The following table sets forth the computation of basic and diluted
earnings per share for the three months ended June 30, and the six
months ended June 30 (in thousands, except per share data):
<TABLE>
<CAPTION>
Three Months Ended Six Months Ended
June 30, June 30,
------------------------------- --------------------------------
2000 1999 2000 1999
------------- ------------- ------------- -------------
<S> <C> <C> <C> <C>
Numerator:
Net income (loss) $ (2,628) $ 636 $ (2,524) $ 1,705
============= ============= ============= =============
Denominator:
Weighted-average shares-basic 4,662 4,638 4,657 4,631
Effect of dilutive stock options -- 31 1 36
------------- ------------- ------------- -------------
Weighted-average shares-diluted 4,662 4,669 4,658 4,667
============= ============= ============= =============
Net income (loss) per share:
Basic $ (.56) $ .14 $ (.54) $ .37
============= ============= ============= =============
Diluted $ (.56) $ .14 $ (.54) $ .37
============= ============= ============= =============
</TABLE>
5. Comprehensive Income (Loss)
The comprehensive income (loss) for the Company for the three months
ended June 30 and the six months ended June 30, were as follows (in
thousands):
7
<PAGE>
<TABLE>
<CAPTION>
Three Months Ended Six Months Ended
June 30, June 30,
------------------------------- ------------------------------
2000 1999 2000 1999
-------------- ------------- ------------- -------------
<S> <C> <C> <C> <C>
Net income (loss) $ (2,628) $ 636 $ (2,524) $ 1,705
Change in net unrealized loss on
fixed maturity investments (18) (217) 8 (208)
-------------- ------------- ------------- -------------
Comprehensive income $ (2,646) $ 419 $ (2,516) $ 1,497
============== ============= ============= =============
</TABLE>
6. Investments
The amortized cost and fair value of available for sale fixed maturity
investments consisted of the following (in thousands):
<TABLE>
<CAPTION>
June 30, 2000
-------------
Gross Gross
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
--------------- -------------------- --------------------- ----------------
<S> <C> <C> <C> <C>
U.S. Treasury securities $ 4,941 $ -- $ 253 $ 4,688
Corporate bonds 2,033 -- 38 1,995
------- ------- ------- -------
$ 6,974 $ -- $ 291 $ 6,683
======= ======= ======= =======
</TABLE>
<TABLE>
<CAPTION>
December 31, 1999
-----------------
Gross Gross
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
--------------- -------------------- --------------------- ----------------
<S> <C> <C> <C> <C>
U.S. Treasury securities $ 4,941 $ -- $ 264 $ 4,677
Corporate bonds 2,033 -- 35 1,998
------- ------- ------- -------
$ 6,974 $ -- $ 299 $ 6,675
======= ======= ======= =======
</TABLE>
8
<PAGE>
All fixed maturity investments are due within five years as of June 30, 2000.
Actual maturities may differ from contractual maturities because the borrowers
may have the right to prepay such obligations without prepayment penalties.
There were no sales of fixed maturity investments during the six months ended
June 30, 2000 and June 30, 1999.
At June 30, 2000 U.S. Treasury Securities with a book value of $100,000 were on
deposit with the Commonwealth of Pennsylvania Insurance Department to satisfy
regulatory requirements.
The net unrealized loss on fixed maturity investments included in shareholder's
equity consisted of the following (in thousands):
<TABLE>
<CAPTION>
June 30, 2000 December 31, 1999
---------------------- ----------------------
<S> <C> <C>
Gross unrealized loss on fixed
maturity investments $ (291) $ (299)
Adjustment for net deferred
tax benefit, net of valuation allowance -- --
---------------------- ----------------------
Net unrealized loss on fixed
maturity investments $ (291) $ (299)
====================== ======================
</TABLE>
7. Acquisitions/Reinsurance Agreements
On January 27, 1999, the Company completed the acquisition of Oxford Health
Plans (PA), Inc., now named HRM Health Plans (PA), Inc. (the Plan or HRMPA), a
wholly-owned subsidiary of Oxford Health Plans, Inc. In the nine months prior to
the acquisition, the Company managed the medical assistance component of the
Plan under terms of a contract with Oxford Health Plans, Inc.(OHPI). The Company
provided health plan management services and assumed the medical cost risk of
the medical assistance recipients in and around Philadelphia, Pennsylvania.
9
<PAGE>
As a result of the acquisition, the Company retained a $2,500,000 surplus note
payable to OHPI. The note is classified as long-term due to the fact that the
principal and interest on the note are payable only upon the Plan's receipt of
prior approval from the Insurance Commissioner of the Commonwealth of
Pennsylvania. The Plan is also restricted from paying dividends in excess of
prior year net income or 10% of net worth without prior approval from the
Insurance Commissioner. No dividends were paid during the six months ended June
30, 2000 and June 30, 1999. See Note 11, Subsequent Events.
For the period April 16, 1998 to December 31, 1998 the Company maintained a
reinsurance contract to control exposure to potential medical losses arising
from large risks. To the extent that the reinsurer does not meet its obligations
assumed under the reinsurance contract, the Company remains primarily liable.
Amounts recoverable under terms of this reinsurance contract as of June 30, 2000
and December 31, 1999 were $6,910,000 and are included in accounts receivable on
the consolidated balance sheet. During the quarter ended June 30, 2000, the
Company filed its final claim under terms of the reinsurance contract. The claim
is currently under audit by the reinsurer.
Effective for the period January 1, 1999 to December 31, 1999, the Company had a
50% quota share reinsurance agreement under which the reinsurer assumed 50% of
the Medicaid medical cost risk and certain non-medical expenses in exchange for
50% of the related Medicaid premium. Under this agreement, the Company received
a $5,000,000 ceding allowance from the reinsurer. The ceding allowance was
realized in relation to profits ceded to the reinsurer. The Company realized
$1,218,000 in the three month period ended June 30, 1999 and $2,457,000 in the
six month period ended June 30, 1999 of the ceding allowance. There were no
amounts recoverable under terms of this reinsurance contract as of June 30,
2000. Amounts ceded under the contract premiums, medical costs and expenses for
the three and six month periods ended June 30, 1999 were $19,293,000,
$16,254,000, $1,634,000 and $37,821,000, $31,464,000, $3,569,000, respectively.
In January 2000, the Company, through its subsidiary HRMPA, acquired from
Hamilton HealthCenter, Inc. all of the outstanding stock of Pennsylvania
HealthMATE, Inc., an 18,000 voluntary member health plan serving the Medicaid
population in a six (6) county area. HRMPA assumed ownership of HealthMATE by
assuming liabilities in excess of assets of approximately $3,400,000. The
$3,400,000 has been recorded as goodwill and will be amortized on a straight
line basis over 10 years. It is included in other assets on the consolidated
balance sheet. The revenue from HealthMATE is expected to exceed $32,000,000
annually.
On June 29, 2000, effective July 1, 2000, the Company entered into a 33% quota
share reinsurance agreement under which the reinsurer has assumed 33% of the
Medicaid medical cost risk and certain non-medical expenses in exchange for 33%
of the related Medicaid premium. Under this agreement, on July 6, 2000, the
Company received a $4,000,000 ceding allowance from the reinsurer. The ceding
allowance will be realized in relation to profits ceded to the reinsurer. The
$4,000,000 has been recorded as accounts receivable and unearned revenues as of
June 30, 2000, in the consolidated balance sheet.
8. Notes Payable
The Company did not meet certain bank covenants under bank loan agreements
during the quarters ended March 31, 2000 and June 30, 2000. Subsequent to June
30, 2000, the Company received a waiver for the covenant violations for these
two quarters. In that the Company has not obtained waivers for future quarters,
$820,000 of the long-term portion of the notes payable has been classified as
current maturities of notes payable in the consolidated balance sheet as of June
30, 2000.
9. Income Taxes
The effective tax benefit for the three and six month periods ended June 30,
2000, was less than the statutory rate because the Company was not able to
recognize deferred tax assets in excess of deferred tax liabilities in that the
utilization of such assets is not reasonably assured.
10
<PAGE>
10. Reclassification
Certain items in the financial statements for the three months ended June 30,
1999 have been reclassified to conform to the 2000 presentations.
11. Subsequent Events
In August 2000, a settlement and Release Agreement (Agreement) was reached
regarding a dispute over amounts the Plan allegedly owed to a previous provider.
Under terms of the Agreement, the Plan agreed to pay the provider $500,000. This
obligation has been included in accrued expenses in the consolidated balance
sheet as of June 30, 2000, and in selling, marketing and administration, net, in
the consolidated statement of operations for the three and six month periods
ended June 30, 2000. The plan incurred approximately $450,000 in legal expenses
related to the dispute during the quarter. The expenses have also been included
in selling, marketing and administration, net.
In August 2000, the Plan and the Company reached agreement with OHPI on all post
acquisition accounting transactions. Under terms of the agreement, the Company
will acquire the existing $2,500,000 surplus note owed by the Plan to OHPI for
$900,000 in the form of a promissory note bearing interest due March 31, 2001.
The Plan agrees to remit $1,100,000 to OHPI for post acquisition accounting
transactions payable no later than March 31, 2001. The net settlement gain of
$1,600,000 on the surplus note will be recognized in the quarter ended September
30, 2000.
12. Segment Reporting
Reportable segment information is as follows (in thousands):
<TABLE>
<CAPTION>
Risk
Management QualityFIRST (HMO)
Six months ended June 30, 2000: Services Unit Unit Unit Total
---------------- ----------------- --------------- --------------
<S> <C> <C> <C> <C>
Revenues from external clients $20,156 $2,286 $91,688 $114,130
Intersegment revenues(1) 12,657 571 -- 13,228
Investment income(2) 82 -- 428 510
Interest expense(3) 465 110 (196) 379
Depreciation expense 1,623 73 111 1,807
Amortization expense 2,628 1,675 141 4,444
Segment pretax profit (loss)(4) (3,535) (1,155) 1,447 (3,243)
Segment assets(4) 39,781 10,911 29,404 80,096
Purchases of property and equipment
and computer software 4,174 1,922 227 6,323
</TABLE>
11
<PAGE>
<TABLE>
<CAPTION>
Risk
Management QualityFIRST (HMO)
Six months ended June 30, 1999: Services Unit Unit Unit Total
---------------- ----------------- --------------- --------------
<S> <C> <C> <C> <C>
Revenues from external clients $24,389 $2,031 $42,100 $68,520
Intersegment revenues(1) 13,378 622 -- 14,000
Investment income(2) 49 -- 503 552
Interest expense(3) 412 98 90 600
Depreciation expense 1,671 78 101 1,850
Amortization expense 2,208 1,452 -- 3,660
Segment pretax profit (4) 3,977 (698) (557) 2,722
Segment assets(4) 46,291 11,033 31,245 88,569
Purchases of property and equipment
and computer software 2,823 1,638 973 5,434
</TABLE>
12
<PAGE>
(1) Intersegment Management Services Unit revenues represent the amounts
charged to the Risk (HMO) Unit under terms of an administrative
services agreement. The revenue is eliminated in consolidation.
Intersegment QualityFIRST Unit revenues represents amounts charged by
the QualityFIRST Unit to the Management Services Unit ($136,000 and
$248,000 for the six months ended June 30, 2000 and 1999, respectively)
and the Risk (HMO) unit ($435,000 and $374,000 for the six months ended
June 30, 2000 and 1999, respectively) for use of the QualityFIRST(r)
software. The revenue is based upon covered members or employees and is
eliminated in consolidation.
(2) Investment income earned on fixed maturity investments is recorded in
the Risk (HMO) Unit. All other investment income is recorded in the
Management Services Unit.
(3) Interest expense on the surplus note payable is recorded in the Risk
(HMO) Unit. The remaining interest expense has been allocated between
the Management Services Unit and the QualityFIRST unit based upon
segment assets.
(4) Corporate amounts have been allocated back to the respective business
units based upon estimated resource usage.
(5) Included in the Management Services Unit are equipment and computer
software acquired under capital leases of $1,258,000 and acquisition of
property and equipment of $913,000. The Risk (HMO) Unit purchases relate
to the acquisition of HealthMATE as described in Note 7.
13
<PAGE>
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations.
Overview
The Company's revenues consist primarily of Medicaid premiums for providing
administrative services while assuming all the medical cost risk, management
service fees for health plan management and QualityFIRST revenues for software
licenses and subscription fees.
The Company's operating expenses are comprised of medical costs, net (consisting
primarily of the net medical costs after the ceded portion of medical services
and reinsurance, net of recoveries), its cost of services, net (consisting
primarily of net costs after ceded portions of compensation of personnel,
including nurses and physicians, telephone expenses, depreciation and
amortization, rent, costs related to the Company's computer operations, costs
related to customer service, and costs related to development of new services),
and selling, marketing and administration expenses, net (consisting primarily of
the net costs after ceded portions of sales commissions, advertising, sales
account management personnel, bad debts, administration, professional services,
insurance, compensation and depreciation). The medical costs, cost of services
and selling, marketing and administration expenses are affected to varying
degrees by the 50% quota share agreement related to the Medicaid block of
business which was effective January 1, 1999 through December 31, 1999 (for
further discussion of the 50% quota share agreement, see note 7 of the financial
statements enclosed).
A significant portion of the Company's revenue is from the Risk Business Unit
which owns two plans serving Medicaid members. This business is subject to
regulatory risks such as rate setting, reporting, net worth requirements,
government agendas and the general health of the membership served. Service
utilization for contracted charges payable to providers of care, pharmacies,
vendors, etc. are highly variable and as such estimates are used to estimate
charges incurred but not yet received. The medical loss for the Plan continues
to be highly subjective. The Plan has, during the three months ended June 30,
2000, entered into settlement agreements with providers to finalize any
liabilities prior to the calendar year 2000 so as to bring closure to estimated
charges. The settlement agreement process continued in the third quarter.
The HMO has estimated receivables from insurance policies for aggregate coverage
of excessive medical costs that may result in adjustments in the future. The
Company's HMO had a 50% quota share agreement whereby 50% of premiums,
investments, medical costs and certain administrative cost were ceded to an
insurance company until a certain policy period has passed or there was a
recapture as allowed under the policy. Effective January 1, 2000, the Company's
HMO recaptured the business ceded effective January 2000 for a recapture fee of
$300,000 which was accrued at December 31, 1999.
Accounts receivable, at times, may include performance bonus accruals which when
billed, may result in amounts greater than the accrual or less than the accrual
because considerable time may pass between the accrual of the revenue and the
actual billing of the performance bonus. The affected parties then require time
to prove up the final calculations.
The Company adopted SOP 98-I on July 1, 1999 which resulted in lowering the
amount capitalized for internally developed computer software related to its
Care Management (AutoPILOT) and Claim Administration systems by approximately
$500,000 per quarter based on the year ended June 30, 1999 analysis. This
resulted in additional expense in the periods subsequent to June 30, 1999. Also,
with the decision that the Company's Care Management system will be web-based
versus web-enabled, the Company shortened the estimated useful life on AutoPILOT
from 7 years to 3 years and this resulted in approximately $250,000 additional
expenses in the quarter ended December 31, 1999 and each quarter thereafter for
these years unless it is impaired or replaced before that time. In addition, no
additional software costs will be capitalized related to AutoPILOT. Costs
capitalized during the quarter ended June 30, 2000, within Care Management
Software were for the development of the Company's new Care Management system.
14
<PAGE>
Results of Operations
The following table sets forth certain consolidated financial data as a
percentage of revenues for the three and six months ended June 30, 2000 and
1999.
<TABLE>
<CAPTION>
Three Months Six Months
Ended Ended
June 30, June 30,
2000 1999 2000 1999
---- ---- ---- ----
<S> <C> <C> <C> <C>
Total revenues 100% 100% 100% 100%
==== ==== ==== ====
Operating expenses:
Medical costs, net 85%(1) 83%(1) 84%(1) 82%(1)
Cost of services, net 28(2) 39(2) 28(2) 39(2)
Selling, marketing and administration, net 8(2) 9(2) 8(2) 9(2)
Interest expense *(2) 1(2) *(2) 1(2)
------ ----- ---- ----
Total operating expenses 106(2) 97(2) 103(2) 96
------ ----- ---- ----
Income (loss) before income taxes -6 3 -3 4
Income tax expense (benefit) -1 1 -1 2
------ ----- ---- ----
Net income (loss) -5 2% -2 2
====== ===== ==== ====
</TABLE>
(1) Computed as a % of HMO premiums, net (gross premiums less ceded premiums).
(2) Computed as a % of net revenues.
* Less than 1% on a rounded basis
Revenues: Total revenues prior to the reduction for ceded premiums increased
$3,448,000 (6%) for the quarter ended June 30, 2000 compared to the same period
in 1999 (from $54,451,000 to $57,899,000) and increased $7,747,000 (7%) for the
six months ended June 30, 2000 compared to the same period in 1999 (from
$106,893,000 to $114,640,000). These increases are primarily attributable to the
acquisition of HealthMATE in January 2000 (see note 7 of the financial
statements enclosed) offset by lower revenues from management service fees.
Management service fees were impacted by a net decrease in the number of covered
participants enrolled in the Company's management services.
Following is a breakout of net revenues:
Three Months Ended
June 30,
----------------------------------------
2000 1999
---- ----
Premiums - gross $46,898,000 $ 39,502,000
Ceding allowance -- 1,218,000
Management service fees 9,666,000 12,486,000
QualityFIRST revenues 1,112,000 972,000
Investment income 223,000 273,000
----------- ------------
Total revenues 57,899,000 54,451,000
Less ceded premiums -- (19,293,000)
----------- ------------
Net revenues $57,899,000 $ 35,158,000
=========== ============
15
<PAGE>
Six Months Ended
June 30,
----------------------------------------
2000 1999
---- ----
Premiums - gross $91,688,000 $ 77,464,000
Ceding allowance -- 2,457,000
Management service fees 20,156,000 24,389,000
QualityFIRST revenues 2,286,000 2,031,000
Investment income 510,000 552,000
----------- -------------
Total revenues 114,640,000 106,893,000
Less ceded premiums -- (37,821,000)
----------- -------------
Net revenues $114,640,000 $ 69,072,000
=========== =============
Premiums - gross are from HMO operations. The premiums-gross increased 19% or
$7,396,000, for the quarter ended June 30, 2000 compared to the same period in
1999 (increasing from $39,502,000 to $46,898,000) and increased 18% or
$14,224,000, for the six months ended June 30, 2000 compared to the same period
in 1999 (increasing from $77,464,000 to $91,688,000). The increase was the
result of the acquisition of HealthMATE as discussed above, membership category
changes and rate adjustments effective January 2000. Total revenues include the
ceding allowance, and net revenues reflect the premiums that are ceded under the
reinsurance agreement for the quarter and six months ended June 30, 1999.
The management services revenue decreased 23% or $2,820,000, for the quarter
ended June 30, 2000 compared to the same period in 1999 (decreasing from
$12,486,000 to $9,666,000) and decreased 17% or $4,233,000, for the six months
ended June 30, 2000 compared to the same period in 1999 (decreasing from
$24,389,000 to $20,156,000) which was the result of the loss of an insurance
company, bankruptcy of a health plan, and other decreases in total covered
members.
Revenues from QualityFIRST(R) increased 14% or $140,000 for the quarter ended
June 30, 2000 compared to the same period in 1999 (increasing from $972,000 to
$1,112,000) and increased 13% or $255,000, for the six months ended June 30,
2000 compared to the same period in 1999 (increasing from $2,031,000 to
$2,286,000). The increases were the result of an increased number of clients and
expansion of systems with existing clients.
Investment income decreased 18% or $50,000 for the quarter ended June 30, 2000
compared to the same period in 1999 (decreasing from $273,000 to $223,000) and
decreased 8% or $42,000, for the six months ended June 30, 2000 compared to the
same period in 1999 (decreasing from $552,000 to $510,000). This decrease is the
result of reduced levels of short-term and long-term investments in the periods
offset by any increases in interest rates earned.
Medical Costs, Net: Medical costs, net of amounts ceded, for the HMO increased
139% or $23,244,000 for the quarter ended June 30, 2000 and increased 137% or
$44,383,000 for the six months ended June 30, 2000 compared to the same periods
in 1999 due mainly to the ceding arrangement that began in 1999 and ended at the
beginning of 2000. As a percentage of net HMO premiums, net medical costs was
85.2% for the quarter ended June, 2000 compared to 82.8% for the same period in
1999 and 83.7% for the six months ended June 30, 2000 compared to 81.7% for the
same period in 1999. These increased percentages are the result of the net
impact of premium rate increases effective January 1, 2000 and an increase in
the estimate for provider recoveries offset by increased pharmacy costs and
changes in membership mix into higher cost categories.
Cost of Services, Net: Cost of services, net of amounts ceded, increased 17% or
$2,403,000 for the quarter ending June 30, 2000 compared to the same period in
1999 (increasing from $13,841,000 to $16,244,000) and increased 17% or
$4,696,000 for the six months ending June 30, 2000 compared to the same period
in 1999 (increasing from $26,985,000 to $31,681,000). The increases were
primarily due to the ceding arrangement that began in 1999 and ended at the
beginning of 2000, increased payroll and expenses related to the HMO acquisition
and implementing management services for additional covered lives. As a
percentage of net revenues, the cost of service, net of amounts ceded, was 28.1%
in the quarter ending June 30, 2000 compared to 39.4% for the same period in
1999 and 27.6% in the six months ending June 30, 2000 compared to 39.1% for the
same period in 1999.
16
<PAGE>
Selling, Marketing and Administration, Net: Selling, marketing and
administration, net of amounts ceded, increased 58% or $1,864,000 for the
quarter ended June 30, 2000 compared to the same period in 1999 (increasing from
$3,213,000 to $5,077,000) and increased 42% or $2,675,000 for the six months
ending June 30, 2000 compared to the same period in 1999 (increasing from
$6,387,000 to $9,062,000). The increases were due primarily to the ceding
arrangement that began in 1999 and ended at the beginning of 2000, settlement of
a provider dispute in August 2000 (see note 11 to the financials enclosed),
network development in the HealthMATE service area, development costs related to
the two new business initiatives, additions or decreases to staff, travel,
commission, bad debts, insurance, training programs and other expenses. This
expense as a percentage of net revenues was 8.8% and 9.1% for the quarter ended
June 30, 2000 compared to the same period in 19991999 and 7.9% in the six months
ending June 30, 2000 compared to 9.2% for the same period in 1999.
Interest Expense: Interest expense decreased 86% or $288,000 for the quarter
ended June 30, 2000 compared to the same period in 1999 (decreasing from
$335,000 to $47,000) and decreased 37% or $221,000 for the six months ending
June 30, 2000 compared to the same period in 1999 (decreasing from $600,000 to
$379,000). In fiscal 1999, additional loans were obtained to acquire the HMO. In
the quarter ended June 30, 2000, the Company reversed interest accrued on the
surplus note to Oxford Health Plans, Inc. in the amount of $303,000.
Income Taxes: Income tax expense decreased in the quarter ended June 30, 2000
from the same period a year ago by $1,218,000, or 305% (from a tax expense of
$399,000 to a tax benefit of $819,000) and decreased in the six months ended
June 30, 2000 from the same period a year ago by $1,736,000, or 171% (from a tax
expense of $1,017,000 to a tax benefit of $719,000) primarily due to
fluctuations in levels of income or loss before income taxes. The net income or
loss has been reported as fully taxed in the periods at the federal tax rate of
34% with the effective tax rate varying due to state income taxes, expired
NOL's, nondeductible expenses and the excess of deferred tax assets over
deferred tax liabilities. See note 9 of the financial statements enclosed.
Liquidity and Capital Resources
The Company's cash flow used in operations was $3,841,000 and provided from
operations was $11,887,000 for the six months ended June 30, 2000 and 1999,
respectively. In 2000, cash used in operations exceeded the net loss primarily
due to net changes in operating assets and liabilities including the medical
services payable in excess of non-cash charges such as depreciation and
amortization and deferred income taxes. In 1999, cash flow from operations
exceeded net income primarily due to non-cash charges such as depreciation and
amortization, deferred income taxes, and net changes in operating assets and
liabilities including the medical services payable.
Cash of $1,593,000 was provided by net liabilities, net of cash, from companies
acquired in the six months ended June 30, 2000 and cash of $7,734,000, net of
cash acquired, was used in the six months ended June 30, 1999 to purchase Oxford
Health Plans (PA), Inc., now named HRM Health Plans (PA), Inc., on January 27,
1999. Cash has been used to invest in software and program enhancements
($3,587,000 and $3,832,000 for the six months ended June 30, 2000 and 1999,
respectively). The Company also used cash to acquire property and equipment
($309,000 and $744,000 for the six months ended June 30, 2000 and 1999,
respectively). Cash of $234,000 was used in the six months ended June 30, 1999
from the purchase of fixed maturity investments. The Company expects to continue
to acquire property and equipment and enhance software and products.
HRM also used approximately $2,448,000 and $1,270,000 for the six months ended
June 30, 2000 and 1999, respectively, to repay principal on notes payable and
capital leases. The Company borrowed $4,000,000 in the first quarter of calendar
1999. The Company received cash proceeds of $5,000 and $120,000 for the six
months ended June 30, 2000 and 1999, respectively, from stock option exercises
for common stock by current or former employees and directors.
The Company had a working capital deficit of $17,016,000 and $7,581,000 at June
30, 2000 and December 31, 1999, respectively. The medical services payables
reduced working capital by $18,074,000 and $22,506,000 at June 30, 2000 and
December 31, 1999, respectively. The Company has fixed maturity investments of
$6,683,000 and $6,675,000 available at June 30, 2000 and December 31, 1999,
respectively, to be used to pay medical services payables, if the need arises.
The Company has a net operating loss carryforward of approximately $30,000,000
for income tax purposes at December 31, 1999, which can be used to reduce
17
<PAGE>
taxable income and cash flow necessary to pay taxes. The Company changed its tax
accounting treatment to one of capitalizing computer software costs versus
expensing them when incurred. This change should protect carry forward net
operating loss (NOLs) for tax purposes going forward.
The Company believes that its current cash and the cash flows to be generated
from operations, together with credit facilities which the Company has obtained,
will be sufficient to finance the Company's anticipated normal operations in
calendar year 2000, but, on a near-term basis, additional financing of the two
new web-based business initiatives needs to be obtained. The Company anticipates
raising a minimum of $8,000,000 of external financing in future quarters in the
form of cash or accounts payable obligations converted into convertible
debentures. The two new web-based business plans will require on-going support
from the Company until external financing is obtained. For the quarters ended
March 31, 2000 and June 30, 2000, the Company has received a waiver from the
bank for the net income bank covenant under the bank loan agreements. All debt
to the bank has been recorded as a current liability as of June 30, 2000. The
quarter ended June 30, 2000, included approximately $1,000,000 of expenses
related to the new web-based business initiatives. Investment in future quarters
will be limited until they are financed, and it is expected that the new
business will then create positive cash flow back to the Company.
The Company has a term loan and revolving loan (principal balance of $5,020,000
and $2,900,000, respectively, as of June 30, 2000) with its bank and a revolving
credit facility expiring January 30, 2001, under which the Company has no
additional funds available under the facility at June 30, 2000. The revolving
credit and term loan are secured by liens on the assets of the Company.
During the quarter ended March 31, 2000, the Company acquired approximately
$32,000,000 of annual premium in its risk business unit by assuming
approximately $3,500,000 of liabilities in excess of cash and other assets.
These excess liabilities will impact the net worth of the HMO entity, but it is
believed that the HMO's net worth, the earnings of the HMO and a quota share
insurance arrangement, will allow the HMO to meet state statutory net worth
requirements. The acquisition has been immediately profitable to the Company,
because the Company has been able to leverage its equipment, systems and
employees in the Medicaid business in the same state.
Forward Looking Statements
Forward looking statements in this report reflected as expectations, plans,
anticipations, prospects or future estimates are subject to the risks and the
uncertainties present in the Company's business and the competitive healthcare
marketplace including, but not limited to clients and vendors commonly
experiencing mergers or acquisitions, use of estimates for incurred but not yet
reported claims including medical services payable, use of estimates of bonus
accruals including accounts receivable, reconciliations, volume fluctuations,
provider relations and contracting, participant enrollment fluctuations, changes
in member mix or utilization levels, fixed price contracts, contract disputes,
contract modifications, contract renewals and non-renewals, regulatory issues
and requirements, various business reasons for delaying contract closings, and
the operational challenges of matching case volume with optimum staffing, having
fully trained staff, having computer and telephonic supported operations and
managing turnover of key employees and outsourced services to performance
standards. While occurrences of these risks, and others periodically detailed in
the Company's SEC reports, cannot be predicted exactly, such occurrences can be
expected to have an impact on the Company's anticipated level of revenue growth
or profitability.
ITEM 3.
Quantitative and Qualitative Disclosure About Market Risk
There have been no material changes in the Company's interest rate market risk
disclosures since December 31, 1999. For further information, refer to Item 7A
in the Company's Transition Report on Form 10-K for the six months ended
December 31, 1999.
18
<PAGE>
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
A suit brought against the Company in April 1999 in United States District Court
for the District of Illinois, as previously reported, and an additional suit
filed in May 2000 in the United States District Court for the District of
Minnesota to prevent the Company from holding its annual meeting, were settled
in May 2000 by the company and the plaintiffs (Chiplease, Inc., Banco
Panamericano, Inc., Leslie Jasbine and Leon A. Greenblatt, III) entering into a
Standstill Agreement whereby the plaintiffs, who at the time beneficially owned
an aggregate of 675,500 shares of Company stock, (1) are entitled to nominate a
person as a director on the Company's board of directors who is acceptable to
and elected by the board and such plaintiffs so nominated Andrew A. Jahelka who
was elected to the board; (2) may increase their aggregate beneficial ownership
of the Company stock to 1,165,000 shares without triggering provisions of the
Company's shareholder rights plan; (3) agree to vote their shares as may be
directed by a majority of the Company's independent directors; and (4) dismissed
all litigation against the Company commenced by them. For additional information
regarding the settlement, see Exhibit 10.1 to this Form 10-Q.
A dispute, previously reported, with a provider, that was submitted to
arbitration in September 1999 was settled by the Company and the provider in
August 2000. Under terms of the settlement, the Plan agreed to pay the provider
$500,000. This obligation has been included in accrued expenses in the
consolidated balance sheet as of June 30, 2000, and in selling, marketing and
administration, net, in the consolidated statement of operations for the three
and six month periods ended June 30, 2000. The plan incurred approximately
$450,000 in legal expenses related to the dispute during the quarter. The
expenses have also been included in selling, marketing and administration, net.
Item 4. Submission of Matters to a Vote of Security Holders
(a) The Annual Meeting of the Company's shareholders was held on
Monday, May 22, 2000.
(b) Proxies for the Annual Meeting were solicited pursuant to
Regulation 14A under the Securities Exchange Act of 1934,
there was no solicitation in opposition to management's
nominees as listed in the proxy statement, and all such
nominees were elected.
(c) At the Annual Meeting the following matter was voted upon:
(i) The following persons were elected as Class B Directors
for a three-year term:
Nominee Votes For Votes Withheld
Marlene Travis 2,990,638 1,405,825
Vance Kenneth Travis 2,995,238 1,401,225
The terms of office for the following directors continued
after the Meeting: Gary T. McIlroy, M.D., Gary L. Damkoehler, Raymond G.
Schultze, M.D., Robert L. Montgomery and Andrew A. Jahelka.
(ii) By a vote of 2,469,652 shares in favor, with 1,920,411
shares against, 6,400 shares abstaining and no broker nonvotes, the shareholders
approved the selection of Ernst & Young, LLP as independent auditors for the
current fiscal year.
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibit 27 -- Financial Data Schedule
(filed in electronic format only)
(b) No reports on Form 8-K were filed during the three months ended
June 30, 2000.
19
<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.
Health Risk Management, Inc.
Dated: August 21, 2000 By: /s/Gary T. McIlroy
Gary T. McIlroy, M.D.
Chief Executive Officer
Dated: August 21, 2000 By: /s/Thomas P. Clark
Thomas P. Clark
Chief Financial Officer
20
<PAGE>
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
EXHIBIT INDEX
to
FORM 10-Q
For Quarter Ended June 30, 2000
HEALTH RISK MANAGEMENT, INC.
(SEC File No. 0-18902)
Exhibit
Number Exhibit Description
------ -------------------
10.1 Standstill Agreement, dated May 19, 2000, among Health Risk
Management, Inc., Chiplease, Inc., Banco Panamericano, Inc.,
Leslie Jabine and Leon A. Greenblatt, III.
10.2 Fourth Amendment to the Credit Agreement between Health Risk
Management, Inc. and U.S. National Bank dated April 10, 2000.
27 Financial Data Schedule (filed in electronic format only)
21
