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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-K/A
[X]ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE
ACT OF 1934 [FEE REQUIRED]
FOR THE FISCAL YEAR ENDED DECEMBER 31, 1995
OR
[_]TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934 [NO FEE REQUIRED]
COMMISSION FILE NUMBER 1-13074
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STERLING HEALTHCARE GROUP, INC.
6855 SOUTH RED ROAD, SUITE 400,
CORAL GABLES, FLORIDA 33143
(305) 665-1911
INCORPORATED IN I.R.S. EMPLOYER
FLORIDA IDENTIFICATION NO.
65-0337205
SECURITIES REGISTERED PURSUANT TO SECTION 12(B) OF THE ACT: None
SECURITIES REGISTERED PURSUANT TO SECTION 12(G) OF THE ACT: Common Stock,
par value $.0001 per share
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days. Yes [X] No [_]
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to
the best of registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [X]
Based on the closing sales price of $14 7/8 as of March 22, 1996, the
aggregate market value of common stock held by non-affiliates of the
registrant was $58,980,535.
The number of shares of Common Stock outstanding of the registrant was
7,947,477 as of March 22, 1996.
DOCUMENTS INCORPORATED BY REFERENCE:
(1) PROXY STATEMENT FOR ANNUAL MEETING OF SHAREHOLDERS ON MAY 31, 1996 PART
III
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STERLING HEALTHCARE GROUP, INC.
FORM 10-K
FISCAL YEAR ENDED DECEMBER 31, 1995
TABLE OF CONTENTS
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PAGE
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<S> <C> <C>
PART I
Item 1. Business............................................................................... 1
Item 2. Properties............................................................................. 9
Item 3. Legal Proceedings...................................................................... 10
Item 4. Submission of Matters to a Vote of Security-Holders.................................... 10
PART II
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters.................. 10
Item 6. Selected Financial Data................................................................ 11
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations.. 14
Item 8. Financial Statements and Supplementary Data............................................ 18
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure... 18
PART III
Item 10. Directors and Executive Officers of the Registrant..................................... 18
Item 11. Executive Compensation................................................................. 19
Item 12. Security Ownership of Certain Beneficial Owners and Management......................... 19
Item 13. Certain Relationships and Related Transactions......................................... 19
PART IV
Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K....................... 19
Signatures...................................................................................... 24
Financial Statements and Schedule............................................................... F-1
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PART I
ITEM 1. BUSINESS.
GENERAL
Sterling Healthcare Group, Inc. (the "Company") is a physician practice
management company engaged in the business of providing contract management
and support services primarily to hospital-based emergency departments. The
Company recruits physicians and contracts for their services to provide
staffing of emergency departments. In addition, the Company assists its
hospital clients in such areas as physician scheduling, operational support,
quality assurance and departmental accreditation and provides such
administrative services as billing and record keeping with regard to
reimbursement. During 1994, the Company began to expand its hospital-based
services to include the management of anesthesiology departments, correctional
institutional health facilities and rural health care clinics and began to
acquire and manage primary care and physical therapy practices. As of March
22, 1996, the Company provided physician practice management services on a
contract basis to 90 hospital-based emergency departments, one anesthesiology
department and two correctional institutional health facilities in 19 states.
The Company currently contracts with approximately 1,000 affiliated
physicians, who provide medical care to approximately 1.2 million patients
annually. In addition, the Company owns six primary care physician practices,
manages 23 primary care physician practices and owns two physical therapy
practices.
Since its inception in 1987, the Company has experienced rapid internal and
external growth. Net operating revenue increased from $15.7 million in 1990 to
$115.7 million in 1995. Of this increase, approximately 55% resulted primarily
from the addition of new emergency department management contracts and
increases in net operating revenues from existing contracts. The remaining
growth has been due primarily to the acquisition of emergency department
management companies and the strategic acquisition of related businesses.
The Company transacts business directly and indirectly through various
wholly-owned subsidiary corporations. References in this Report to the Company
include such subsidiary corporations.
THE MERGER
The Company was incorporated as Frost Hanna Halpryn Capital Group, Inc.
("FHH") under Florida law in June 1992. In May 1994, Sterling Miami, Inc.
(f/k/a Sterling Health Care Group, Inc.) and Sterling Healthcare, Inc.
(collectively, "Sterling"), the predecessors in interest to the Company's
operations, consummated a business combination with FHH, which at the time was
a publicly held "blank check company," resulting in Sterling Miami, Inc. and
Sterling Sub Texas, Inc. (the assignee of substantially all of the assets and
liabilities of Sterling Healthcare, Inc.) becoming wholly-owned subsidiaries
of FHH (the "Merger"). Under the terms of the Merger, FHH, among other things,
issued a total of 2,321,500 shares of its common stock ("Common Stock")
(representing approximately 51.5% of the Common Stock outstanding immediately
subsequent to the Merger) in exchange for all of the outstanding shares of
common stock of Sterling, and FHH changed its name to Sterling Healthcare
Group, Inc. The Merger has been accounted for as a capital transaction which
is equivalent to the issuance of stock by Sterling for the net monetary assets
of FHH accompanied by a recapitalization of Sterling. See Note 1 of Notes to
Consolidated Financial Statements of the Company.
MARKET OVERVIEW
The Company believes that hospital emergency departments play a central role
in determining levels of admissions and profitability as well as in
establishing a hospital's reputation in the community. However, the ability of
hospitals to provide high quality health care services, including emergency
care services, has been adversely affected by recent trends in the U.S. health
care industry. Continuing cost-containment pressures are causing hospitals to
seek new ways to provide high quality services in a cost-effective manner. In
addition, hospitals face numerous problems in managing their emergency
departments, including difficulties in recruiting, evaluating, scheduling and
retaining emergency physicians. Hospital emergency departments also continue
to
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experience increasing patient volumes, a shortage of board certified emergency
physicians and extensive use for routine primary care, particularly at night
and on weekends. According to the American Hospital Association, the average
number of patient visits per day per emergency department increased to 49 in
1993 from 36 in 1983. These and other factors have led many hospitals to
outsource emergency care services. Although the trend to outsource management
services has been most apparent in emergency departments, the principles of
physician practice management are also being applied to other hospital-based
practice areas, such as radiology and anesthesiology, as well as to primary
care physician group practices.
The Company estimates that revenue derived from providing physician services
to emergency departments in U.S. hospitals exceeded $15 billion in 1993.
Published reports indicate that in 1992 there were more than 6,500 hospitals
in the United States with approximately 5,200 emergency departments, and that
approximately one-half of the estimated 3,000 emergency departments that used
physician practice management organizations contracted with local physician
groups that managed less than ten emergency departments. The Company believes
that these groups are encountering increasing difficulty in meeting the record
keeping requirements and other administrative burdens imposed by health care
industry developments and in responding to the pressures to control costs
imposed by capitated and other risk shifting payment systems. As a result, the
Company believes that there are significant consolidation opportunities within
this market segment.
Changes in the U.S. health care industry also are eroding the traditional
relationship between private practitioner physicians and their patients. The
increasing use of capitated and other fixed payment systems that shift
financial risk from payors to providers has led to intense cost containment
pressure. Additionally, increasing administrative burdens, together with
declining per-patient revenues resulting from managed care and uncertainty
regarding the impact of health care reform, have led many physicians to
affiliate themselves with physician practice management organizations. These
organizations provide capital resources, information and reimbursement systems
and practice management expertise.
BUSINESS STRATEGY
The Company's strategy is to achieve continued market penetration and growth
by (i) adding new clients, (ii) acquiring additional hospital-based physician
practice management companies, (iii) expanding the range of services offered
to the Company's clients and (iv) acquiring and managing primary care and
other medical practices to support and generate client relationships.
Expand Client Base. The Company competes for new contracts based on its
expertise in managing emergency and other hospital departments and its ability
to recruit and retain quality physicians and to provide a broad range of
support services. Through comprehensive marketing programs, the Company seeks
to obtain new clients both by contracting with hospitals and correctional
institutional health facilities that previously managed their own emergency
and anesthesiology departments and by replacing existing management companies.
Since June 1994, the Company increased its number of clients by 25 through
these marketing efforts.
Acquire Hospital-Based Physician Practice Management Companies. The Company
intends to continue to pursue the growth of its core business through
acquisition of local and regional hospital-based physician practice management
companies, many of which are faced with increasing pressure to provide systems
and services that require the resources of a larger organization. Since June
1994, the Company has consummated eight acquisitions, which have added 32
hospital clients, net.
Broaden Range of Services to Clients. The Company intends to expand the
range of management services it provides to its clients. The Company targets
the management of anesthesiology, radiology and physical therapy departments
as well as hospital-based rural health care clinics, which provide in-hospital
primary care to patients in rural areas. Since June 1994, the Company has
entered into contracts to provide management services to one anesthesiology
department and two hospital-based rural health clinics.
Acquire and Manage Primary Care Practices. The Company intends to acquire
and manage primary care physician practices to support existing and generate
new clients while enabling the Company to realize additional
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earnings. The Company targets the acquisition of primary care physician
practices (i) that have relationships with the Company's existing clients to
enhance those relationships and (ii) in new markets where the Company believes
the relationships of such acquired physician practices can assist it in
obtaining new clients. Since June 1994, the Company has acquired 14 and
entered into contracts to manage 23 primary care physician practices in five
states. Six of its primary care physician practices were sold in December
1995, and, during the fourth quarter of 1995, the Company discontinued its
operations at two other primary care physician practices. Ultimately, the
Company intends to provide a broad range of physician practice management
services in its markets to deliver health care more efficiently and to
position the Company to enter into contractual arrangements for managed care.
RECENT ACQUISITIONS
The Company has increased its market share and competitive position through
the completion of 16 acquisitions since June 1994 (but see discussion below of
a disposition). The Company believes that its improved capital position and
its ability to utilize its stock as an acquisition currency, both of which
resulted from the Merger, have contributed to the success of its acquisition
program. The Company routinely evaluates acquisition opportunities and is in
varying degrees of discussions regarding such acquisitions. Since June 1994,
the Company has completed the following material acquisitions:
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LAST FULL
FISCAL YEAR
REVENUE
DATE OF PRIOR TO
ACQUISITION COMPANY BUSINESS ACQUISITION
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(IN MILLIONS)
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September Professional Emergency Hospital Emergency Room $10.8
1995 Physicians, P.A. Management
January Medical Networks, Inc. Hospital Emergency Room 17.6
1995 Management; Primary Care
Practices
January Skylark Outpatient Clinic 1.3
1995 Primary Care Practice
November Physician Services, Inc. Medical Management 4.8
1994 and Brightstar Consulting Firm; Publisher
Communications, Inc. of Life in Medicine magazine
November Health Care Systems of Primary Care Practices 2.8
1994 Melbourne, Florida, Inc.
(see below)
July 1994 Regional Emergency Hospital Emergency Room 7.9
Services, Inc. Management
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See Note 3 of Notes to Consolidated Financial Statements of the Company.
On December 29, 1995, the Company sold its six primary care clinics located
in Melbourne, Brevard County, Florida and, during the fourth quarter of 1995,
the Company discontinued its operations at two other primary care physician
practices.
PHYSICIAN PRACTICE MANAGEMENT SERVICES
The Company provides physician practice management services to emergency and
other departments of hospitals as well as to primary care physician practices
(whether owned or independent), and to state correctional facilities. These
physician practice management services include a comprehensive array of
operational, administrative and financial functions designed to alleviate the
numerous problems faced by health care providers in managing their emergency
and other departments while providing high quality care in a cost-effective
manner.
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Hospital-Based Management Services
General. As of March 22, 1996, the Company provided physician practice
management services to 90 hospital-based emergency departments, one hospital-
based anesthesiology department and two correctional institutional health
facilities in 19 states. The Company currently contracts with approximately
1,000 affiliated physicians. The Company typically contracts to provide all
necessary physician coverage for hospital departments on a 24-hour, 365-day
basis. The Company identifies and recruits physicians as candidates for
admission to a client's medical staff and coordinates the on-going scheduling
of staff physicians, who provide clinical coverage in the area of emergency
medicine and, in one hospital, anesthesiology. The Company also provides an
on-site medical director for the hospital's emergency department, who works
directly with the hospital medical staff and administration in such areas as
quality assurance, risk management and departmental accreditation.
The Company currently has seven regional offices which assist in the
performance of administrative functions and such physician practice management
services as the contracting of physicians, staffing and administration. To
perform these services, the Company's local or regional offices are generally
staffed with a manager, a consulting medical officer and an administrative
staff consisting of one or more persons responsible for physician recruitment,
credentialling and scheduling. Hospital-based management services represented
98.5% and 89.1% of the Company's net operating revenue in 1994 and 1995,
respectively.
Physician Recruiting. Recruiting physicians is an essential service provided
by the Company to its hospital clients. According to the American College of
Emergency Physicians, approximately 20,000 board certified emergency
department physicians are available and 25,000 such physicians are needed. The
Company's physician recruitment methods include the use of its in-house search
firm and certain third party search firms, direct contact with residency
programs, mail solicitations, medical journal advertising, telemarketing and
the use of personal contacts. The Company has developed a proprietary computer
data base, which is periodically updated, to identify physicians who might be
available as independent contractors for the Company. In addition, the Company
acquires information related to physician recruitment and related
opportunities through its medical management consulting division and the
publication of Life In Medicine, a trade magazine published by the Company for
medical residents, fellows and new physicians.
Affiliating with the Company offers physicians the opportunity to minimize
their administrative burden and concentrate on the practice of medicine. The
Company believes that many physicians enjoy the relative freedom from the
business aspects of the practice of medicine, including the development of a
patient base, the financing of a practice and the complexity associated with
billing and collection procedures, that results from affiliation with the
Company. As a provider of contract management services across a broad
geographic spectrum, the Company can offer a physician substantial flexibility
in terms of geographic location, type of facility and opportunities for
relocation. The physician also tends to gain greater individual control over
the number and scheduling of hours worked. Physicians under contract with the
Company also have the option of conveniently obtaining professional liability
insurance with somewhat more favorable terms than might otherwise be
available.
The Company offers a continuing medical education ("CME") program to
affiliated and non-affiliated physicians and allied health care professionals
at facilities under contract with the Company and other interested physicians
working in related specialties. By offering educational programs which focus
on state-of-the-art clinical, management and interpersonal skills, the Company
endeavors to attract physicians, enhance the practice of medicine and produce
better patient outcomes. The Company believes it is the only publicly traded
physician practice management corporation accredited by the Accreditation
Council for Continuing Medical Education to provide conferences and
educational materials to physicians for continuing medical education CME
credit.
Management Information Systems. The Company has developed proprietary
management information systems designed to enhance the quality of its clinical
management services. The Company's management information systems collect and
report data regarding patient flow, utilization, physician efficiency, patient
demographics, managed care participation and other important data used by the
Company, hospital clients and
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medical directors. In addition to assisting the Company in developing staffing
patterns and marketing strategies, the Company believes these systems improve
efficiency of service, cost effectiveness and patient outcomes.
The Company's management information systems also compile satisfaction
survey information from patients, physicians, hospital clients and employees.
The Patient Satisfaction Survey, which is collected and reported quarterly,
offers patients the opportunity to provide confidential feedback about their
emergency department or clinic visit and complies with Joint Commission on
Accreditation of Hospital Organizations (JCAHO) standards. The Physician
Satisfaction Survey, which is distributed annually, helps the Company to
develop systems and services that enhance physicians' practice experience, to
maximize physician retention and to plan for manpower shifts. The Hospital
Emergency Department Satisfaction Survey, which is collected and reported
quarterly, provides feedback regarding the Company's management of emergency
departments and the degree of customer satisfaction and enables the Company to
make modifications as needed. Finally, the Employee Satisfaction Survey is
administered annually to provide corporate management with information about
employee morale and to enable the Company to evaluate the impact of changes in
employee policies and benefits.
The Company's Clinical Quality Performance Improvement System ("CQPIS")
analyzes, among other things, care given to patients with identified high risk
symptoms. The Company uses the CQPIS data to assess the effectiveness of
clinical care systems as well as individual physician performance.
Primary Care Management Services
In November 1994, the Company commenced providing management services to
primary care medical practices. These management services include billing and
accounts receivables management, recruiting and risk management services. The
Company recruits physicians for primary care practices in substantially the
same fashion as it recruits physicians to staff its hospital-based contracts.
The Company targets the acquisition of physician practices in areas where it
has existing hospital clients as well as in locations where the Company
believes it can obtain new hospital clients by working with acquired
physicians with relationships with the hospitals. The Company owns and
operates six primary care practices, located in Michigan, Texas and Florida,
and manages 23 other primary care practices located in Kentucky and Georgia.
These practices contract with a total of 30 physicians. In addition, the
Company owns and operates two physical therapy medical facilities in Houston,
Texas.
Other Services
The Company provides physician practice management services to the State of
Michigan at two Michigan State prisons. In addition, the Company provides
consulting and recruiting services to other health care clients in order to
locate, support and generate hospital and physician relationships. The Company
also publishes Life in Medicine, a trade magazine focused on practical issues
for medical residents, fellows and new physicians.
MARKETING
The Company seeks to achieve growth through marketing its services to
potential hospital and other health care clients. The Company advertises its
services in hospital journals, is represented at various hospital and
physician trade conferences and organizes meetings for hospital administrators
and medical staff in order to increase hospital and physician awareness of its
services. These activities also serve as a means of gathering information
about potential hospital clients and obtaining feedback about hospital
emergency department needs. The Company also provides medical consulting
services as a means of developing new hospital relationships. Marketing leads
concerning potential hospital contracts and physician practice opportunities
generally result from referrals by hospital administrators, information
provided by physicians and requests for proposals received directly from
hospitals and physicians. Marketing efforts are centrally directed and often
involve the active participation of the Company's senior executive officers.
The Company's marketing activities are directed by four full-time marketing
officers, each of whom is responsible for new business development in a
particular geographic region.
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BILLING
The Company's fee-for-service hospital-based billing and collection services
are provided by two non-affiliated billing firms. The Company enters into a
separate written agreement with each billing firm with regard to each hospital
client at which services are provided. Each billing firm reviews patients
charts, prepares invoices for the services provided and submits insurance
claims, if any. Under the Company's arrangements with independent contractor
physicians, collections are paid directly to accounts from which the Company
has the right to withdraw its management fees. The Company receives monthly
reports on billings invoiced and cash collected. As of December 1995, the
monthly rates paid by the Company to the billing firms for billing and
collection services were approximately $900,000, collectively. The Company's
primary care billing and collection functions are serviced internally.
The portion of the Company's hospital emergency room revenues attributable
to fee-for-service arrangements has increased substantially in recent years,
and the Company emphasizes fee-for-service contracts in its marketing
activities. Under fee-for-service contracts, the Company assumes the financial
risks related to changes in patient volume, payor mix and third party
reimbursement rates as well as the risk of uncollectibility of accounts. See
Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations.
CONTRACTUAL ARRANGEMENTS WITH CLIENTS AND PHYSICIANS
Client Contracts
The Company provides physician practice management services to hospitals
under fee-for-service contracts and flat-rate contracts, and to two
correctional institutional health facilities under flat-rate contracts.
Hospitals entering into fee-for-service contracts agree, in exchange for the
Company's services, to authorize the Company and its contracted health care
professionals to bill and collect the professional component of the charges
for medical services rendered by the Company's contracted health care
professionals. Under the fee-for-service arrangements with hospital clients,
the Company receives direct disbursements of the amounts collected and,
depending on the magnitude of services provided to the hospital and payor mix,
may also receive a subsidy from the hospital client for the Company's
physician practice management services. Pursuant to such arrangement, the
Company accepts responsibility for billing and collection and assumes the
risks of changes in patient volume, payor mix and third party reimbursement
rates, delays attendant to reimbursement through government programs and other
third-party payors and uncollectibility of accounts. All of these factors are
taken into consideration by the Company in arriving at contractual
arrangements with health care institutions and professionals. Clients entering
into flat-rate contracts pay fees to the Company based on the hours of
physician coverage provided. In 1994 and 1995, respectively, 94.0% and 84.4%
of the Company's hospital-based net operating revenues were derived from
payments made on a fee-for-service basis.
The Company provides physician practice management services to hospitals
under contracts that generally have terms of one or two years, renewable
automatically under the same terms and conditions unless either party gives
the other written notice of its intent not to renew at least 90 days prior to
the end of the then current term.
Physician Contracts
The Company contracts with physicians as independent contractors to provide
services to fulfill its contractual obligations to the Company's hospital
clients. Professional fees from the Company to the physicians are typically
calculated on a flat rate based on the number of hours of coverage provided.
Some physicians may receive, in addition to a flat hourly fee, other
compensation based upon departmental performance and their individual
contribution to such performance. Consistent with the Company's treatment of
the physicians as independent contractors, under his or her contract, each
physician is responsible for his or her own self-employment tax, social
security and workers' compensation insurance payments, if any. Under the
Company's contracts with hospitals, a physician who provides services at
hospitals is required to obtain professional liability insurance with coverage
limits as specified in such contracts. Agreements between the Company and its
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independent contractor physicians typically can be terminated by the Company
at any time under certain circumstances (including, in the case of the
independent contractors retained to staff hospital emergency rooms,
termination of the Company's contract with the hospital) or by either party
without cause, typically upon 90 to 120 days' prior notice.
GOVERNMENT REGULATION
The Company's operations and relationships are subject to extensive and
increasing regulation, regarding billing, financial relationships, referrals,
conduct of operations, purchase of physician practices, cost containment,
direct employment of licensed professionals, and other aspects of the
Company's business, by a number of governmental entities at the federal, state
and local levels. The Company is also subject to laws and regulations relating
to business corporations in general. Although the Company believes its
operations are in material compliance with all applicable laws, rules and
regulations, many aspects of the Company's business operations have not been
the subject of state or federal regulatory or administrative interpretation.
Approximately 30% of the Company's 1995 hospital-based operating revenue was
derived from payments made by government-sponsored health care programs
(principally, Medicare and Medicaid), and substantially all of the Company's
hospital-based operating revenue is derived from third party payors. Medicare
is a federal health insurance program which provides health insurance for
certain disabled persons, for persons aged 65 and older and for certain
persons with end stage renal disease. Medicaid is the state administered and
state and federally funded program for certain low income individuals. The
Medicare and Medicaid programs are subject to substantial regulation by the
federal and state governments, which are continually revising and reviewing
the programs and their regulations. In addition, funds received under these
programs are subject to audit and retroactive review. Accordingly, repayments
of funds received from these programs may occur. While the Company seeks to
comply with applicable Medicare and Medicaid reimbursement regulations, there
can be no assurance that the Company would be found to be in compliance with
all such regulations should the Company be subject to audit.
Many of the Company's services are reimbursed pursuant to Resource Based
Relative Value Scale ("RBRVS"), a system of reimbursement for physician
services, which, in general, is intended to reallocate medical reimbursement
among medical specialties by geographic region, that took effect on January 1,
1992 and was phased in through December 31, 1995. The Company believes that
the impact of RBRVS on its operations and condition has not been significant.
If future changes are adopted relating to the RBRVS fee structure, the
aggregate fee payments from Medicare for certain emergency department
procedures could be affected. If the result is a reduction in such fees,
especially if followed by reductions in reimbursement by commercial third
party payors, the RBRVS system could adversely affect the Company's operating
results or financial condition. The House Ways and Means Committee and the
Senate Finance Committee each has adopted budget reconciliation legislation
that provides for achieving savings in Medicare spending, in part through
significant changes to RBRVS. There can be no assurance that the payments
under any governmental and private third party payor program will remain at
levels comparable to present levels or will be sufficient to cover the costs
allocable to patients eligible for reimbursement pursuant to such programs.
Furthermore, changes in reimbursement regulations, policies, practices,
interpretations or statutes could adversely affect the operations of the
Company.
There are increasing public and private sector pressures to contain health
care costs and to restrict reimbursement rates for medical services.
Continuing budgetary constraints at both the federal and state level and the
rapidly escalating costs of health care and reimbursement programs have led,
and may continue to lead, to significant reductions in government and other
third party reimbursements for certain medical charges and to the negotiation
of reduced contract rates or capitated or other financial risk-shifting
payment systems by third party payors, including government payors, with
service providers. Both the federal government and various states are
considering imposing limitations on the amount of funding available for
various health care services. Various budget proposals under consideration by
Congress include provisions intended to reduce significantly the rate of
increase in Medicare and Medicaid expenditures through cost savings and other
measures over the
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next several years. The Company cannot predict whether or when any such
proposals will be adopted or, if adopted and implemented, what effect, if any,
such proposals would have on the Company.
The laws of many states prohibit business corporations such as the Company
from practicing medicine, employing physicians to practice medicine or
engaging in activities such as fee-splitting with physicians. These laws have
been subject to limited judicial and regulatory interpretations. The Company
believes its current and planned activities do not constitute fee-splitting or
violate any prohibition against the corporate practice of medicine. However,
there can be no assurance that future interpretations of such laws will not
require any modifications of the Company's agreements or relationships.
Certain provisions of the Social Security Act, commonly referred to as the
"anti-fraud and abuse rules," prohibit the offer, payment, solicitation, or
receipt of any form of remuneration in return for the referral of Medicare or
state health program patients or patient care opportunities, or in return for
the purchase, lease, or order of items or services that are covered by
Medicare or state health programs. Violation of the anti-fraud and abuse rules
is a felony, punishable by fines of up to $25,000 per violation and
imprisonment for up to five years. In addition, the U.S. Department of Health
and Human Services may impose civil penalties and exclude violators from
participation in Medicare or state health programs. The anti-fraud and abuse
rules are broad in scope and have been broadly interpreted by courts in many
jurisdictions. Read literally, the statute places at risk many legitimate
business arrangements, potentially subjecting such arrangements to lengthy,
expensive investigations and prosecutions initiated by federal and state
governmental officials. In part to address concerns regarding the anti-fraud
and abuse rules, the federal government has published regulations that provide
"safe harbors," for transactions that will be deemed not to violate the anti-
fraud and abuse rules, if all applicable requirements are met. A proposed
regulation establishing additional safe harbors, published in September 1993,
would offer new protections under the anti-fraud and abuse rules for eight
activities, including referrals within group practices consisting of active
investors. Final regulations have not yet been published. The Company believes
that its activities, even if not within a safe harbor, do not violate the
anti-fraud and abuse rules. However, no assurance can be given regarding
compliance in any particular factual situation, as there is currently no
procedure for obtaining advisory opinions from government officials. Exclusion
of the Company from the Medicare or Medicaid program could result in a
significant loss of reimbursement and have a significant adverse effect on the
Company.
Significant prohibitions against physician referrals were enacted by
Congress in 1993. These prohibitions, commonly known as "Stark II," prohibit a
physician from referring Medicare or Medicaid patients to an entity providing
"designated health services" in which the physician has an ownership or
investment interest, or with which the physician has entered into a
compensation arrangement, unless an exception applies. The designated health
services include clinical laboratory services, radiology services, radiation
therapy services and supplies, physical and occupational therapy services,
durable medical equipment and supplies, parenteral and enteral nutrients,
equipment, and supplies, prosthetic devices, orthotics and prosthetics,
outpatient prescription drugs, home health services, and inpatient and
outpatient hospital services. The penalties for violating Stark II include a
prohibition on billing of the government programs for the prohibited referral,
a refund of any payments made for a prohibited referral, civil penalties of as
much as $15,000 for each violating referral and $100,000 for participation in
a "circumvention scheme" and program exclusion. To the extent that the Company
or any affiliated physician group is deemed to be subject to the prohibitions
contained in Stark II, the Company believes its activities fall within the
permissible activities defined in Stark II. A number of states, including
Florida, have enacted prohibitions similar to Stark II, covering referrals of
non-Medicare and Medicaid business. These state rules are very restrictive;
they prohibit submission of claims for payment for prohibited referrals and
provide for the imposition of civil monetary and criminal penalties. The
Company believes its activities do not violate any state prohibitions.
However, there can be no assurance that the federal government or any state in
which the Company operates will not enact similar or more restrictive
legislation or restrictions that could, under certain circumstances, impact
the Company's operations.
The physicians and other health care providers retained by the Company must
be licensed in each state in which they practice. Such licensure is controlled
by state boards as well as other regulatory authorities. The
8
<PAGE>
Company has procedures by which it attempts to verify that each provider it
retains is properly licensed and has satisfied his or her continuing education
requirements.
The Company cannot predict the ultimate timing, scope or effect of any
legislation concerning health care reform, including legislation affecting the
Medicare and Medicaid programs. As noted above, it is likely that the Company
will be affected in some fashion, and there can be no assurance that any
health care reform legislation, if and when adopted, will not have a material
adverse effect on the Company's business, financial condition, cash flows or
results of operations.
CORPORATE LIABILITY AND INSURANCE
The Company's business entails an inherent risk of claims of physician
professional and other liability. The Company currently maintains professional
liability insurance underwritten by an insurance company unaffiliated with the
Company for itself, its hospital clients and its contracted physicians, in
amounts it deems to be appropriate, based upon historical claims and the
nature and risks of its business. The professional liability insurance
coverage is on a claims-made basis (the coverage includes claims reported
during the period that the insured was covered by the policy) and includes
certain self-insurance retention. There can be no assurance that a future
claim for professional liability will not exceed the limits of the Company's
available insurance coverage or that such coverage will continue to be
available at acceptable costs or at all. Such insurance provides coverage,
subject to policy limits, in the event that the Company is held liable as a
co-defendant in a lawsuit against an independent contractor physician or
hospital client. The Company does not control the practice of medicine by
physicians or the compliance with certain other regulatory and other
requirements directly applicable to physicians or hospitals. The likelihood
that the Company could be held liable for the negligence of a physician would
be increased if such physician were determined to be an employee or other
agent of the Company. See Note 2 of Notes to Consolidated Financial Statements
of the Company.
In addition to any potential tort liability of the Company, the Company's
contracts with hospitals generally contain provisions under which the Company
agrees to indemnify the hospital for losses resulting from the contracted
physician's malpractice and the hospital agrees to indemnify the Company for
losses resulting from the negligence of the hospital or hospital personnel.
See Note 2 of Notes to Consolidated Financial Statements of the Company.
COMPETITION
The provision of physician practice management services to hospital-based
emergency departments and physician practices is a highly competitive
business. The Company competes not only with other national and regional
physician practice management companies but also with local physician groups
and with hospitals themselves, many of which are also trying to combine their
own services with those of physicians into integrated delivery networks. The
Company is also, in effect, competing against the traditional structure of
hospital management and practicing physician management style, with regard to
its emergency department business and primary care facilities, respectively.
Competition in the industry is based on the scope, quality, and cost of
services provided. Certain of the Company's competitors are significantly
larger and have substantially greater financial and other resources available
to them than the Company.
EMPLOYEES AND INDEPENDENT CONTRACTORS
As of March 22, 1996, the Company had approximately 276 employees. In
addition to employees, the Company had, as of March 22, 1996, independent
contractor relationships with approximately 1,000 physicians.
ITEM 2. PROPERTIES.
The Company presently maintains its executive offices in approximately
38,000 square feet of space in Coral Gables, Florida, pursuant to a five-year
lease agreement with an unaffiliated third party at an annual rental
9
<PAGE>
of approximately $551,000. The Company considers this space to be sufficient
for its corporate headquarters operations.
The Company maintains, pursuant to lease agreements with unaffiliated third
parties, six other branch corporate offices in Toledo, Ohio; Humble and San
Antonio, Texas; Birmingham, Alabama; Louisville, Kentucky and Baltimore,
Maryland. The Company also leases, subleases or occupies pursuant to asset
purchase agreements certain primary care medical management facilities located
in Michigan, Texas and Florida.
ITEM 3. LEGAL PROCEEDINGS.
The Company is involved in various legal proceedings incidental to its
business, substantially all of which involve claims related to the alleged
medical malpractice of contracted physicians or contractual disputes. The
Company believes that no individual item of litigation or group of similar
items of litigation, taking into account the insurance coverage available to
the Company, is likely to have a material adverse effect on the Company's
financial position.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY-HOLDERS.
During the fourth quarter of the fiscal year covered by this Report, no
matters were submitted to a vote of security holders of the Company.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
The Common Stock is listed on The Nasdaq Stock Market ("Nasdaq") and is
traded under the symbol "STER." From February 9, 1993, when the Common Stock
commenced trading, through May 31, 1994, the Common Stock was traded in the
over-the-counter market under the symbol "FHHA." From June 1, 1994 through
August 3, 1995, the Common Stock was traded on the American Stock Exchange
("AMEX") under the symbol "DRZ." On August 4, 1995, the Common Stock commenced
trading on Nasdaq. The following table shows the (i) reported high and low
sales prices on Nasdaq (for quotes commencing on August 4, 1995),
(ii) reported high and low sales prices on the consolidated reporting system
of AMEX (for quotes from June 1, 1994 through August 3, 1995) and (iii)
reported high and low bid quotations for the Common Stock obtained from the
OTC Bulletin Board (for quotes from February 9, 1993 through May 31, 1994).
The high and low bid prices for the periods indicated are interdealer prices,
without retail mark-up, mark-down or commissions and may not represent actual
transactions.
<TABLE>
<CAPTION>
HIGH LOW
------ ------
<S> <C> <C>
1994
First Quarter..................................................... 13 1/2 11
April 1 through May 31............................................ 13 1/2 11 3/4
June 1 through September 30....................................... 13 3/4 9 3/4
Fourth Quarter.................................................... 11 1/8 9 1/8
1995
First Quarter..................................................... 11 8 3/8
Second Quarter.................................................... 16 1/2 10 5/8
July 1 through August 3........................................... 15 1/8 13 5/8
August 4 through September 30..................................... 15 1/2 13 3/4
Fourth Quarter.................................................... 15 1/4 10
</TABLE>
10
<PAGE>
On March 22, 1996, the last reported sales price of the Common Stock on
Nasdaq was $14 7/8. As of such date, there were 74 holders of record of the
Common Stock, including those brokerage firms or clearing houses holding
shares of the Common Stock for their clientele (with each such brokerage house
and/or clearing house being considered as one holder).
The Company has not paid or declared any dividends upon the Common Stock
since its inception and, by reason of its contemplated financial requirements,
does not contemplate or anticipate paying any dividends on the Common Stock in
the foreseeable future.
ITEM 6. SELECTED FINANCIAL DATA.
The selected consolidated financial data set forth below as of and for each
of the five years in the period ended December 31, 1995 have been derived from
the Company's and predecessor entities' financial statements, which have been
audited by Coopers & Lybrand L.L.P., independent accountants. The following
data should be read in conjunction with Item 7. Management's Discussion and
Analysis of Financial Condition and Results of Operations and the Company's
Consolidated Financial Statements and Notes thereto included elsewhere herein.
11
<PAGE>
[THIS PAGE INTENTIONALLY LEFT BLANK.]
12
<PAGE>
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
--------------------------------------------
1991 1992 1993 1994 1995
------- ------- ------- ------- --------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<S> <C> <C> <C> <C> <C>
Statements of Operations Data(1):
Operating revenue, net........... $27,697 $37,945 $46,826 $60,426 $115,660
------- ------- ------- ------- --------
Costs and expenses:
Cost of affiliated physician
services...................... 18,755 25,138 31,140 40,762 69,735
Medical support services....... 1,450 1,827 2,046 2,327 6,251
Selling, general and
administrative................ 5,759 9,687 10,904 12,937 29,322
Depreciation and amortization.. 652 788 331 598 2,260
Unusual items.................. -- -- -- -- 1,590
------- ------- ------- ------- --------
Total operating expenses..... 26,616 37,440 44,421 56,624 109,158
------- ------- ------- ------- --------
Operating income................. 1,081 505 2,405 3,802 6,502
Other expenses................... 99 163 429 242 1,759
------- ------- ------- ------- --------
Income before income taxes....... 982 342 1,976 3,560 4,743
Provision for income taxes....... -- -- -- 3,265(3) 1,911
------- ------- ------- ------- --------
Net income(2).................... $ 982 $ 342 $ 1,976 $ 295 $ 2,832
======= ======= ======= ======= ========
Net income per share:
Primary........................ $ 0.45
========
Assuming full dilution......... $ 0.45
========
Pro forma provision for income
taxes........................... $ 581 $ 360 $ 714 $ 1,356
Pro forma net income (loss)(4)... 401 (18) 1,261 2,204
Net income (loss) per common
share........................... $ 0.17 ($0.01) $ 0.28 $ 0.48
======= ======= ======= =======
Weighted average number of common
and common equivalent shares
outstanding (5):
Primary........................ 2,322 2,322 4,442 4,628 6,271
Assuming full dilution......... 2,322 2,322 4,442 4,628 6,327
<CAPTION>
DECEMBER 31,
--------------------------------------------
1991 1992 1993 1994 1995
------- ------- ------- ------- --------
<S> <C> <C> <C> <C> <C>
Balance Sheet Data:(1)
Working capital.................. $ 1,918 $ 2,674 $ 3,190 $ 9,541 $ 24,448
Total assets..................... 8,094 10,629 13,215 26,742 78,608
Long-term liabilities............ 1,397 2,060 4,074 8,334 15,356
Stockholders' equity............. 1,818 2,125 817 9,623 49,133
</TABLE>
- --------
(1) The financial data for the periods ended on or before December 31, 1994
include the pro forma combined results of operations of the constituents
of the Merger, which was completed on May 31, 1994, involving Sterling and
FHH. The Merger has been accounted for as a capital transaction which is
equivalent to the issuance of stock by Sterling for the net monetary
assets of FHH accompanied by a recapitalization of Sterling. See Item 1.
Business--The Merger and Note 1 of Notes to Consolidated Financial
Statements of the Company.
(2) Prior to the Merger, Sterling was an S corporation and not subject to
federal and state income taxes. Accordingly, net income (loss) for the pro
forma combined results of operations of Sterling prior to the Merger does
not include a provision for income taxes.
(3) Includes a one-time, non-recurring charge of $2.4 million as a result of
the termination of Sterling's S corporation status and the adoption of
Financial Accounting Standards Board No. 109, "Accounting for Income
Taxes." See Note 12 of Notes to Consolidated Financial Statements of the
Company.
(4) Pro forma net income (loss) includes a pro forma income tax provision
(benefit) based on the tax laws in effect, as if Sterling had been subject
to federal and state income taxes for all such periods.
13
<PAGE>
(5) Reflects (i) in 1990, 1991 and 1992, the 2,321,500 shares of Common Stock
issued to the former shareholders of Sterling in connection with the
Merger, (ii) in 1993, the shares of Common Stock issued to the former
shareholders of Sterling in connection with the Merger, 117,550 shares of
Common Stock underlying certain warrants and 369,000 shares of Common
Stock underlying employee stock options granted in connection with the
Merger, and (iii) in 1994, the weighted average number of common and
common equivalent shares outstanding during the period, assuming the
shares issued to the former shareholders of Sterling were issued on
January 1, 1994. Common equivalent shares consist of the dilutive effect
of outstanding options and warrants, calculated using the treasury stock
method.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS.
The following discussion of the results of operations and the financial
condition of the Company should be read in conjunction with the Company's
Consolidated Financial Statements and Notes thereto included elsewhere in this
Report.
OVERVIEW
On May 31, 1994, Sterling and FHH consummated the Merger, resulting in
Sterling Miami, Inc. and Sterling Sub Texas, Inc., the predecessors in
interest to the Company's operations, becoming wholly-owned subsidiaries of
FHH. Under the terms of the Merger, FHH, among other things, issued a total of
2,321,500 shares of its Common Stock (representing 51.5% of its Common Stock
outstanding immediately subsequent to the Merger) in exchange for all of the
outstanding shares of Common Stock of Sterling, and FHH changed its name to
Sterling Healthcare Group, Inc. The Merger resulted in both a change in the
majority equity ownership and management of FHH and the cessation of FHH's
business operations as previously conducted. The Merger has been accounted for
as a capital transaction, which is equivalent to the issuance of stock by
Sterling for the net monetary assets of FHH accompanied by a recapitalization
of Sterling. See Note 1 of Notes to Consolidated Financial Statements of the
Company.
The Company is a physician practice management company engaged in the
business of providing contract management and support services primarily to
hospital-based emergency departments. As of March 22, 1996, the Company
provided physician practice management services on a contract basis to 90
hospital-based emergency departments, one anesthesiology department and two
correctional institutional health facilities in 19 states. The Company
currently contracts with approximately 1,000 affiliated physicians, who
provide medical care to approximately 1.2 million patients annually. In
addition, the Company owns six primary care physician practices, manages 23
primary care physician practices and owns two physical therapy practices.
The Company's contractual arrangements with hospitals are primarily fee-for-
service contracts whereby hospitals generally agree, in exchange for the
Company's services, to authorize the Company and its contracted health care
professionals to bill and collect the professional component of the charges
for medical services rendered by the Company's contracted health care
professionals. Fee-for-service contracts may in certain instances, depending
on the hospital's patient volume and payor mix, involve the payment of a
subsidy to the Company by the hospital. In 1994 and 1995, respectively, 94.0%
and 84.4% of the Company's hospital-based net operating revenue were derived
from payments made on a fee-for-service basis, and the Company emphasizes fee-
for-service contracts in its marketing activities. See Item 1. Business--
Contractual Arrangements with Clients and Physicians.
Since its inception, Sterling elected and maintained S corporation status
under the provisions of the Internal Revenue Code of 1986, as amended. As a
result, Sterling's taxable income was included in the individual returns of
its shareholders for federal and state income tax purposes. Effective with the
Merger, the Company terminated its S corporation status and adopted Financial
Accounting Standards Board Statement No. 109, "Accounting for Income Taxes,"
as a result of which it incurred a one time nonrecurring charge of $2.4
million. See Note 12 of Notes to Consolidated Financial Statements of the
Company.
14
<PAGE>
During 1994, in connection with the Merger, the Company granted to certain
officers and directors options to acquire 369,000 shares of Common Stock for a
five-year period at a purchase price of $12.00 per share, commencing upon the
earlier to occur of (i) November 30, 2003, the date which is 9.5 years
subsequent to May 31, 1994, or (ii) the date the Company obtains (as confirmed
by its independent auditors) net earnings per share of $0.75 based on an
analysis of a full and completed year of earnings, provided the optionee is
continuously employed by the Company through the applicable five-year period.
As a result of the grant of these options, the Company is amortizing the
resulting unearned compensation, which was originally $369,000, at
approximately $9,500 (pre-tax) per quarter, until such time as the options
become exercisable, at which time all unamortized option expense will be
written-off as a one-time charge to earnings.
RESULTS OF OPERATIONS
The following table sets forth, as a percentage of net operating revenue,
certain statement of operations data for the periods presented:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
-------------------------
1993 1994 1995
------- ------- -------
<S> <C> <C> <C>
Operating revenue, net............................... 100.0% 100.0% 100.0%
------- ------- -------
Cost of affiliated physician services................ 66.5 67.5 60.3
Medical support services............................. 4.4 3.9 5.4
Selling, general and administrative.................. 23.3 21.3 25.3
Depreciation and amortization........................ 0.7 1.0 2.0
Unusual items........................................ 0.0 0.0 1.4
------- ------- -------
Total operating expenses............................. 94.9 93.7 94.4
------- ------- -------
Operating income..................................... 5.1% 6.3% 5.6%
======= ======= =======
</TABLE>
1995 Compared to 1994
Operating revenue, net, consists of gross patient revenue, net of
contractual adjustments and estimated uncollectibles, plus other revenue,
which consists principally of hospital subsidy payments, flat-rate hospital
contract revenue, and non-patient generated revenues. Net operating revenue
increased by 91.4%, to $115.7 million in 1995 from $60.4 million in 1994. The
increase was attributable to the inclusion of the revenue derived from the
operations of the Company's 1994 corporate acquisitions for the full period
and from the acquisitions of Skylark Outpatient Clinic, Medical Networks, Inc.
and Professional Emergency Physicians, P.A. for the periods from January 3,
1995, February 1, 1995 and September 1, 1995, respectively. These acquisitions
accounted for $38.9 million of the increase in net operating revenues. The
Company also experienced an increase in net operating revenues of $9.5 million
resulting from the addition of new contracts through marketing activities as
well as increased revenue from existing operations. In 1995, $103.1 million,
or 89.1%, of net operating revenues were derived from hospital-based services,
$8.4 million, or 7.3%, from primary care services, and $4.2 million, or 3.6%,
from consulting, recruiting, and publishing services. In 1994, 98.5% of the
Company's net operating revenues were derived from hospital-based services.
Cost of affiliated physicians services ("Physician Costs") increased by
71.1%, to $69.7 million in 1995 from $40.8 million for 1994, due primarily to
the increase in the number of healthcare professionals under contract,
negotiated increases in fees paid to certain healthcare professionals, and an
increase in the number of physicians practicing in the Company's primary care
operations. Physician Costs decreased from 67.5% of net operating revenue in
1994 to 60.3% in 1995 as a result of the inclusion of non-hospital based
revenues in 1995 as well as certain economies of scale as they relate to
volume increases.
Medical support service expenses increased by 168.6%, to $6.3 million in
1995 from $2.3 million in 1994, due primarily to the increased number of
primary care operations and the accompanying need for non-physician staffing.
Medical support services expenses increased from 3.9% of net operating revenue
in 1994 to 5.4% in 1995 as a result of the Company's new primary care
operations. Selling, general and administrative expenses
15
<PAGE>
increased by 126.7%, to $29.3 million in 1995 from $12.9 million in 1994, due
primarily to increased salaries and wages and other administrative costs due
to the inclusion of the 1994 and the 1995 corporate acquisitions, the addition
of four new regional offices (Birmingham, Louisville, Houston and Baltimore),
the increased administrative expenses associated with the inclusion of the
Company's new primary care operations, as well as an increase in corporate
staff to accommodate the increase in business. Depreciation and amortization
increased $1.7 primarily as a result of the Company's increase in property and
equipment as well as the increase in the cost in excess of assets acquired as
a result of the Company's 1994 and 1995 corporate acquisitions. In 1995, the
Company recorded $1.6 million in unusual items relating to the sale and
closure of eight of the Company's primary care clinics as well as certain
other one time nonrecurring charges relating to the bankruptcy of a hospital
client. As a result of these unusual items, total operating expenses increased
from 93.7% of net operating revenue in 1994 to 94.4% in 1995. See Note 4 of
Notes to Consolidated Financial Statements of the Company.
Interest expenses (net of interest and other income), increased to $1.8
million in 1995 form $242,000 in 1994. The increase was primarily due to the
Company's increased borrowings to fund the 1994 and 1995 corporate
acquisitions and for working capital purposes.
Provision for income taxes decreased to $1.9 million in 1995 from $3.3 in
1994. In 1994, the Company recorded a one time nonrecurring charge for income
taxes of $2.4 million relating to the termination of Sterling's S corporation
status. On a pro forma basis the Company's provision for income taxes was $1.4
million in 1994. The Company's net income increased to $2.8 million in 1995
from $295,000 in 1994. On a pro forma basis, the Company's net income in 1994
was $2.2 million. As a percentage of net revenue, net income decreased to 2.4%
in 1995 from 3.6% pro forma in 1994 as a result of the unusual items and the
increased depreciation and amortization and interest expenses.
1994 Compared to 1993
Operating revenue, net, increased by 29.0% to $60.4 million in 1994 from
$46.8 million in 1993. Of this increase, $7.4 million was attributable to
internal growth and $6.2 million was attributable to acquisitions. Internal
growth resulted from the addition of new contracts as well as increased net
operating revenue from existing contracts.
Physician Costs increased by 30.9% to $40.8 million in 1994 from $31.1
million in 1993, due primarily to an increase in the number of health care
professionals under contract and increases in fees paid to certain health care
professionals. Physician Costs increased to 67.5% of net operating revenue in
1994 from 66.5% in 1993.
Medical support services expenses increased by 13.7% to $2.3 million in 1994
from $2.0 million in 1993 and decreased as a percentage of net operating
revenue from 4.4% in 1993 to 3.9% in 1994. Selling, general and administrative
expenses increased by 18.6% to $12.9 million in 1994 from $10.9 million in
1993, due primarily to increased occupancy costs as well as personnel costs
associated with increased revenue and the addition of two new regional offices
(Birmingham and Louisville) through acquisitions. As a percentage of net
operating revenue, total operating expenses decreased slightly to 93.7% in
1994 from 94.9% in 1993.
Interest expense (net of interest and other income) decreased by 43.7% to
$242,000 in 1994 from $429,000 in 1993 due primarily to the use of the Merger
proceeds to pay off indebtedness and the investing of the excess funds in
short-term marketable securities.
Provision for income taxes was $3.3 million in 1994, including a one-time
charge of $2.4 million relating to the termination of Sterling's S corporation
status. There was no provision for income taxes in 1993. On a pro forma basis
the provision for income taxes increased by 89.8% to $1.4 million in 1994 from
$714,000 in 1993 as a result of an increase in income before provision for
income tax.
Net income decreased by 85.1% to $295,000 in 1994 from $2.0 million in 1993,
primarily due to the one-time provision for income taxes of $2.4 million. Pro
forma net income increased by 74.7% to $2.2 million in
16
<PAGE>
1994 from $1.3 million in 1993. As a percentage of net operating revenue, pro
forma net income was 3.6% in 1994 compared to 2.7% in 1993.
QUARTERLY CONSOLIDATED FINANCIAL DATA
The following table sets forth certain unaudited quarterly statement of
operations data for the periods presented. This information has been derived
from unaudited consolidated financial statements of the Company, which, in the
opinion of the Company, include all adjustments (consisting only of normal
recurring adjustments) necessary for a fair presentation of such information.
These operating results are not necessarily indicative of results for any
future period.
<TABLE>
<CAPTION>
QUARTERS ENDED
---------------------------------------------------------------------------------
MARCH 31, JUNE 30, SEPT. 30, DEC. 31, MARCH 31, JUNE 30, SEPT. 30, DEC. 31,
1994(1) 1994(1) 1994 1994 1995 1995 1995 1995
--------- -------- --------- -------- --------- -------- --------- --------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Operating revenue, net.. $12,229 $13,410 $16,392 $18,395 $24,050 $27,228 $30,166 $34,216
Operating income........ 655 1,002 1,045 1,100 1,743 2,054 2,328 377
Net income (loss)....... 538(2) (1,510)(3) 627 640 848 944 1,007 33
Net income per share:
Primary............... 0.13 0.14 0.16 0.16 0.17 0.00
Assuming full
dilution............. 0.13 0.14 0.16 0.16 0.17 0.00
Pro forma net income.... 352(2) 586 (2)
Pro forma net income per
share.................. 0.08 0.13
</TABLE>
- --------
(1) Pro forma combined results of operations of Sterling. See Item 1.
Business--The Merger.
(2) For such periods, Sterling was a S corporation and not subject to federal
or state income taxes. Accordingly, pro forma net income includes a pro
forma income tax provision based on the tax laws in effect, as if Sterling
had been subject to federal and state income taxes for all such periods.
(3) Includes a one time nonrecurring charge of $2.4 million as a result of the
termination of Sterling's S corporation status and the adoption of
Financial Accounting Standards Board Statement No. 109, "Accounting for
Income Taxes." See Note 12 of Notes to Consolidated Financial Statements
of the Company.
LIQUIDITY AND CAPITAL RESOURCES
As of December 31, 1995 the Company had $24.4 million in working capital
compared to $9.5 million as of December 31, 1994. For the year ended December
31, 1995, the Company's funds were primarily provided for by financing
activities. In October 1995, the Company completed a public offering of
2,000,000 shares with net proceeds of $24.5 million. The Company used the
proceeds of the offering primarily to pay down outstanding indebtedness under
the Company's revolving credit facility (the "Credit Facility").
In June 1995, the Credit Facility was amended to increase the Company's
maximum borrowing capacity from $25 million to $30 million, and in August 1995
the Credit Facility was further amended to increase the maximum borrowing
capacity to $50 million. The amount available under the Credit Facility is
limited to amounts ranging between 2.5 and 3.0 multiplied by the Company's
consolidated annual cash flow (as defined). Borrowings under the Credit
Facility bear interest at the prime rate plus 0.25% to 0.75% or LIBOR plus
1.50% to 2.25%, at the election of the Company. Such rates are adjusted based
on the ratio of the Company's senior debt to annualized cash flow. The Credit
Facility converts to a five-year term loan in September 1997 and will mature
in September 2002. The Credit Facility contains covenants that, among other
things, require the Company to maintain certain financial ratios and impose
restrictions on the Company's ability to incur future indebtedness, pay
dividends, sell assets and redeem or repurchase Company securities. As of
December 31, 1994 and December 31, 1995, the Company had outstanding
borrowings of $2.7 million and $10 million, respectively. See Note 8 of Notes
to Consolidated Financial Statements of the Company. In addition, as of
December 31, 1994
17
<PAGE>
and December 31, 1995, the Company had outstanding total long-term debt of
$4.5 million and $11.9 million, respectively. The Company has utilized the
Credit Facility and other long-term debt to provide for working capital and
investing needs.
During 1995, cash of approximately $7.1 million was used in operating
activities. The Company's increase in accounts receivable used approximately
$11.7 million. The Company used approximately $18.8 million in investing
activities, with capital expenditures using $1.6 million, and the purchase of
businesses acquired using cash of approximately $18.7 million partly offset by
the sale of businesses which generated $1.6 million. The Company also provided
$27.9 million by financing activities. In addition to the public offering
proceeds, the Company had net borrowings on its Credit Facility of $7.3
million which was partially offset by payments on notes payable of $3.8
million.
The Company expects to satisfy its anticipated demands and commitments for
cash in the next twelve months from existing operating cash flows, if any, and
amounts available under the Credit Facility. Although the Company does not
have material commitments for capital expenditures, the Company may make
additional capital expenditures in connection with future acquisitions.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
The financial statements and supplementary data required by Regulation S-X
are included in this Report commencing on page F-1.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
In December 1994, the Company dismissed Arthur Andersen, LLP ("Andersen"),
the Company's independent auditors, and retained Coopers & Lybrand L.L.P.
("Coopers") as the Company's independent auditors for the fiscal year ended
December 31, 1994. The Company's decision to retain Coopers and dismiss
Andersen was made by the Company's Board of Directors and recommended by the
Company's Audit Committee. Prior to the Merger, Coopers was the independent
auditors of the Predecessors and Anderson was the independent auditors of
Frost Hanna Halpryn Capital Group, Inc. (the name of the Company before
Merger). In connection with the services rendered by Andersen to the Company,
there was no disagreement on any matter of accounting principles or practices,
financial statement disclosures or auditing scope or procedure, which
disagreement, if not resolved to the satisfaction of Andersen, would have
caused Andersen to make reference to the subject matter of the disagreement in
connection with its report. Andersen's report on the Company's financial
statements for the fiscal years ended 1992 and 1993 were not qualified or
modified and did not contain an adverse opinion or disclaimer of opinion.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.
a. Directors
The information required by this item is incorporated herein by reference
to "Election of Directors--Board of Directors" in the Company's 1996 Proxy
Statement.
b. Executive Officers of the Registrant
The information required by this item is incorporated herein by reference
to "Election of Directors--Executive Officers Who are Not Nominees" in the
Company's 1996 Proxy Statement.
c. Compliance With Section 16(a).
The information required by this item is incorporated herein by reference
to "Election of Directors--Compliance with Section 16(a) of the Exchange
Act" in the Company's 1996 Proxy Statement.
18
<PAGE>
ITEM 11. EXECUTIVE COMPENSATION.
The information required by this item is incorporated herein by reference to
"Election of Directors--Director Compensation, " and "--Executive
Compensation" in the Company's 1996 Proxy Statement.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
The information required by this item is incorporated herein by reference to
"Information Concerning Voting and Proxy Information--Principal Security
Holders" and "Election of Directors--Security Ownership of Management" in the
Company's 1996 Proxy Statement.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
The information required by this item is incorporated herein by reference to
"Election of Directors--Certain Transactions" in the Company's 1996 Proxy
Statement.
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K.
a. Documents filed as a part of this report:
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
1. Financial Statements............................................. F-1
2. Financial Statement Schedule
Schedule II Valuation and Qualifying Accounts................... F-22
Schedules other than those listed above have been omitted either
because they are not applicable or because the required information
is reported in the financial statements or notes.
3. Exhibits
</TABLE>
<TABLE>
<CAPTION>
EXHIBIT DESCRIPTION
------- -----------
<C> <S>
2.1 Agreement and Plan of Merger and Reorganization dated January 17, 1994
between the Company and Sterling Miami, Inc., Sterling Healthcare,
Inc., Stephen J. Dresnick, M.D. and Stephen Lorenz. (2, as amended by
Amendment No. 1 filed with the Commission on April 4, 1994) (Exhibit
A to Prospectus)
2.2 Agreement and Plan of Merger and Reorganization dated June 30, 1994
among the Company, Regional Emergency Services, Inc. and the
shareholders of Regional. (5) (Exhibit 2)
2.3 Purchase Agreement dated September 16, 1994 between Health Care
Systems of Melbourne, Inc., Haven Street Associates and Sterling
Medical Group of Florida, Inc. and Sterling Real Property Melbourne,
Inc. (6) (Exhibit 2)
2.4 Agreement and Plan of Merger and Reorganization dated November 15,
1994 by and among the Company and Physician Services, Inc., d/b/a
Physician Services of America, Brightstar Communications, Inc., John
E. Hill, Robin C. Edwardsen, Steven R. Manecke and Hobart C. Collins.
(9) (Exhibit 10.1)
2.5 Agreement and Plan of Merger and Reorganization dated as of January
24, 1995 by and among the Company, Medical Networks, Inc. and the
holders of all of the issued and outstanding shares of capital stock
of MedNet. (12) (Exhibit 2)
2.6 Agreement and Plan of Merger and Consolidation dated as of January 24,
1995 between the Company and Henry O. Harper, Jr., M.D. (12) (Exhibit
3)
2.7 Agreement and Plan of Merger and Reorganization dated July 24, 1995
among the Company, Professional Emergency Physicians, P.A. ("PEP")
and the stockholders of PEP. (16) (Exhibit 2)
</TABLE>
19
<PAGE>
<TABLE>
<CAPTION>
EXHIBIT DESCRIPTION
------- -----------
<C> <S>
2.8 Asset Purchase Agreement dated December 29, 1995 by and between
Sterling Medical Group of Florida, Inc., and Health First Physicians,
Inc. (20) (Exhibit 1)
2.9 Assignment and Sublease Agreement dated December 29, 1995, by and
between Sterling Medical Group of Florida, Inc., and Health First
Physicians, Inc. (20) (Exhibit 2)
2.10 Sublease dated December 29, 1995, between Sterling Medical Group of
Florida, Inc., and Health First Physicians, Inc. (20) (Exhibit 3)
2.11 Sublease dated December 29, 1995, between Sterling Medical Group of
Florida, Inc., and Health First Physicians, Inc. (20) (Exhibit 4)
2.12 Sublease dated December 29, 1995, between Sterling Medical Group of
Florida, Inc., and Health First Physicians, Inc. (20) (Exhibit 5)
2.13 Sublease dated December 29, 1995, between Sterling Medical Group of
Florida, Inc., and Health First Physicians, Inc. (20) (Exhibit 6)
2.14 Assignment and Assumption of Lease effective January 1, 1996, by
Sterling Medical Group of Florida, Inc., to Health First Physicians,
Inc. (20) (Exhibit 7)
2.15 Assignment and Assumption of Lease effective January 1, 1996, by
Sterling Medical Group of Florida, Inc., to Health First Physicians,
Inc. (20) (Exhibit 8)
3.1 Restated Articles of Incorporation of the Company. (4) (Exhibit 4.a)
3.2 Restated Bylaws of the Company. (4) (Exhibit 4.b)
4.1 Form of stock certificate evidencing shares of the Common Stock. (3)
(Exhibit 7)
4.2 Underwriter's Warrant Agreement dated as of February 9, 1993 between
the Company and Barron Chase Securities, Inc. (1) (Exhibit 4.4)
@10.1 1994 Stock Option Plan. (3) (Exhibit 8)
10.2 Stock Restriction Agreement dated as of January 17, 1994 between the
Company and Stephen J. Dresnick, M.D. (2) (Exhibit (1) (10.2))
10.3 Stock Restriction Agreement dated as of January 17, 1994 between the
Company and Stephen Lorenz. (2) (Exhibit (1) (10.3))
10.4 Agreement dated January 17, 1994 among the Company, Sterling Miami,
Inc., Sterling Healthcare, Inc., Stephen Dresnick, M.D. and Stephen
Lorenz. (2) (Exhibit (1) (10.4))
10.5 Redemption Agreement dated December 20, 1993 among predecessor of the
Company, Stephen Dresnick, M.D. and Stephen Lorenz. (2) (Exhibit (2)
(10.1))
10.6 Shareholders' Agreement dated January 17, 1994 between Stephen J.
Dresnick, M.D. and Stephen Lorenz. (2) (Exhibit (2) (10.2))
10.7 Lease Agreement dated August 17, 1987, as amended, between Crown Tower
Joint Venture and predecessor of the Company. (2) (Exhibit (2) (10.4))
10.8 Lease Agreement dated July 9, 1993 between Eckel Personnel, Inc. and
predecessor of the Company. (2) (Exhibit (2) (10.5))
10.9 Lease Agreement dated June 1, 1991, as amended, between Interbrook
Development Company and predecessor of the Company. (2) (Exhibit (2)
(10.6))
10.10 Sublease dated February 1, 1993 between Kitch, Saurbier, Drutchas,
Wagner & Kenney, P.C. and predecessor of the Company. (2) (Exhibit
(2) (10.7))
10.11 Lease dated May 22, 1992 between Mall Road Trust and predecessor of
the Company. (2) (Exhibit (2) (10.8))
</TABLE>
20
<PAGE>
<TABLE>
<CAPTION>
EXHIBIT DESCRIPTION
------- -----------
<C> <S>
10.12 Lease dated May 6, 1993 between National City Bank, Northwest and
predecessor of the Company. (2) (Exhibit (2) (10.9))
10.13 Office Lease and Service Agreement dated January 1, 1993 between
predecessor of the Company and James B. Potyka, M.D., P.A. d/b/a
Emergency Physicians Affiliates. (2) (Exhibit (2) (10.10))
10.14 Loan Agreement dated as of October 21, 1994 between First Union
National Bank of North Carolina ("First Union") and the Company. (7)
(Exhibit 2)
10.15 Lease Agreement dated November 4, 1994 between Sterling Medical Group
of Florida, Inc. and MR/Sterling Limited on 910 Malabar Road
property. (8) (Exhibit 3)
10.16 Lease Agreement dated November 4, 1994 between Sterling Medical Group
of Florida, Inc. and MR/Sterling Limited on 2501 West New Haven Road
property. (8) (Exhibit 4)
10.17 Lease Agreement dated November 4, 1994 between Sterling Medical Group
of Florida, Inc. and MR/Sterling Limited on 2240 North Wickham Road
property. (8) (Exhibit 5)
10.18 Lease Agreement dated November 4, 1994 between Sterling Medical Group
of Florida, Inc. and MR/Sterling Limited on 1186 Highway A1A
property. (8) (Exhibit 6)
10.19 Employment Contract dated November 18, 1994 by and between Sterling
Physician Services of America, Inc. and Robin C. Edwardsen. (9)
(Exhibit 10.2)
10.20 Employment Contract dated November 18, 1994 by and between Sterling
Physician Services of America, Inc. and John E. Hill. (9) (Exhibit
10.3)
10.21 Employment Contract dated November 18, 1994 by and between Sterling
Physician Services of America, Inc. and Stephen R. Manecke. (9)
(Exhibit 10.4)
10.22 Employment Contract dated November 18, 1994 by and between Sterling
Physician Services of America, Inc. and Hobart C. Collins. (9)
(Exhibit 10.5)
10.23 Asset Purchase Agreement dated December 12, 1994 among Sterling
Medical Group of Florida, Inc. and Patient Services of America, Inc.
d/b/a Skylark Outpatient Center, Earl F. Hoop, Jr., O.R. Lewis,
Wilburn G. Krause, Sammy K. Hanson, C.H. Hickox, Sr. and Bonnie
Heath, III. (10) (Exhibit 2)
10.24 Consulting Agreement dated January 3, 1995 between Sterling Medical
Group of Florida, Inc. and Earl F. Hoop, Jr. (11) (Exhibit 2)
10.25 Common Stock Option and Agreement dated January 31, 1995 granted to
Henry O. Harper, Jr., M.D. pursuant to the Agreement and Plan of
Merger and Consolidation dated January 24, 1995. (13) (Exhibit 10.3)
10.26 Employment Agreement dated January 31, 1995 by and between the Company
and Jerry Harper. (13) (Exhibit 10.4)
10.27 Guaranty Assumption and Joinder Agreement dated as of January 31, 1995
by Sterling MedNet Emergency Services, Inc., Sterling Physicians
Group of Texas, Inc. and Sterling MedNet Administrative Services,
Inc. to First Union for the benefit of the Company. (13) (Exhibit
10.5)
10.28 First Amended and Restated Guarantor Security Agreement dated as of
January 31, 1995 by Sterling Anesthesia, Inc., Sterling Medical
Group, Inc., Sterling Medical Group of Florida, Inc., Sterling
Medical Group of Michigan, Inc., Sterling Miami, Inc., Sterling
Physician Services of America, Inc., Sterling Real Property
Melbourne, Inc., Sterling Regional Emergency Services, Inc., Sterling
Sub Texas, Inc., Sterling MedNet Emergency Services, Inc., Sterling
Physicians Group of Texas, Inc. and Sterling MedNet Administrative
Services, Inc. to First Union for the benefit of the Company. (13)
(Exhibit 10.6)
10.29 Trademark Security Agreement dated as of April 7, 1995 among First
Union, Sterling MedNet Emergency Services, Inc. and Sterling
Physicians Group of Texas, Inc. (13) (Exhibit 10.7)
</TABLE>
21
<PAGE>
<TABLE>
<CAPTION>
EXHIBIT DESCRIPTION
------- -----------
<C> <S>
@10.30 Employment Contract dated February 21, 1995 between the Company and
Paul Auerbach, M.D. (14) (Exhibit 10.30)
@10.31 Amended and Restated Employment Contract dated as of January 1, 1995
between the Company and Stephen J. Dresnick, M.D. (14) (Exhibit 10.31)
@10.32 Employment Contract dated July 15, 1994 between the Company and Susan
F. Dill. (14) (Exhibit 10.32)
@10.33 Amended and Restated Employment Contract dated January 1, 1995 between
the Company and Jack S. Greenman, C.P.A. (14) (Exhibit 10.33)
@10.34 Employment Contract dated July 15, 1994 between the Company and
Stephen D. Lorenz. (14) (Exhibit 10.34)
@10.35 Amended and Restated Employment Contract dated as of January 1, 1995
between the Company and Laura Seff. (14) (Exhibit 10.35)
10.36 First Amendment dated as of June 30, 1995 to Loan Agreement dated as
of October 21, 1994 among the Company, First Union and other lenders.
(15) (Exhibit 1)
10.37 Letter Agreement dated June 30, 1995 by certain subsidiaries of the
Company in favor of First Union. (15) (Exhibit 2)
10.38 Commitment Letter and Terms Sheet to the Company from First Union
dated June 21, 1995. (15) (Exhibit 4)
10.39 Credit Agreement dated as of August 31, 1995 among the Company, First
Union and other lenders. (17) (Exhibit 2)
10.40 Employment Contract dated as of September 1, 1995 between Sterling
Professional Emergency Physicians, LLC and Dan Morhaim, M.D. and
Addendum thereto. (18) (Exhibit 3)
10.41 Consulting Agreement dated as of September 1, 1995 between the Company
and International Medical Consulting, Inc. and Addendum thereto. (18)
(Exhibit 4)
10.42 Compensation Adjustment Agreement dated as of September 1, 1995 among
the Company, Sterling Professional Emergency Physicians, LLC, Dan
Morhaim, M.D., International Medical Consulting, Inc. and the
stockholders of PEP. (18) (Exhibit 5)
@10.43 Termination of Employment Contract dated October 13, 1995 between the
Company and Susan F. Dill. (19) (Exhibit 10.1)
11 Statement re Computation of Per Share Earnings.*
21 Subsidiaries of the Company.*
23 Consent of Coopers & Lybrand L.L.P.*
99 Consent of Mel Gottlieb regarding nomination as director.*
</TABLE>
- --------
* Filed herewith
@ Contracts with executive officers and other compensation plans for the
benefit of executive officers of the Company.
Documents incorporated by reference to the exhibit indicated to the
following filings by the Company under the Securities Act of 1933, as
amended ("Securities Act") or the Securities Exchange Act of 1934, as
amended ("Exchange Act"):
(1) Annual Report on Form 10-KSB for the fiscal year ended December 31, 1992,
Exchange Act File No. 1-13074.
(2) Registration Statement on Form S-4, Securities Act File No. 33-74546,
filed with the Commission on January 28, 1994. (Exhibit numbers
parenthetically referenced are as restated in Amendment No. 1 to that
Registration Statement, filed with the Commission on April 4, 1994.)
22
<PAGE>
(3) Current Report on Form 8-K, dated June 1, 1994, Exchange Act File No. 1-
13074 for this and all subsequent reports filed under the Exchange Act.
(4) Amendment No. 1 to Form 8-A, filed with the Commission on June 6, 1994.
(5) Current Report on Form 8-K, dated July 5, 1994.
(6) Current Report on Form 8-K, dated September 16, 1994.
(7) Current Report on Form 8-K, dated October 21, 1994.
(8) Current Report on Form 8-K, dated November 4, 1994.
(9) Current Report on Form 8-K, dated November 15, 1994.
(10) Current Report on Form 8-K, dated December 12, 1994.
(11) Current Report on Form 8-K, dated January 3, 1995.
(12) Current Report on Form 8-K, dated January 24, 1995.
(13) Current Report on Form 8-K, dated January 31, 1995.
(14) Annual Report Form 10-K for fiscal year ended December 31, 1994.
(15) Current Report on Form 8-K, dated June 30, 1995.
(16) Current Report on Form 8-K, dated July 24, 1995.
(17) Current Report on Form 8-K, dated August 31, 1995.
(18) Current Report on Form 8-K, dated September 7, 1995.
(19) Current Report Form 8-K, dated October 13, 1995.
(20) Current Report on Form 8-K, dated December 29, 1995.
b. Reports on Form 8-K:
The Company filed the following Current Reports on Form 8-K or Form 8-K/A
during the fiscal quarter ended December 31, 1995:
1. Report dated October 13, 1995, including Items 5 and 7, regarding
the resignation of Susan F. Dill. No financial statements were filed.
2. Report dated September 7, 1995, including Item 7 (audited
financial statements of PEP as of and for the year ended December 31,
1994, and unaudited pro forma condensed consolidated financial
statements of the Company for the year ended December 31, 1994 and as
of and for the six months ended June 30, 1995).
The Company filed the following Current Report on Form 8-K after the
fiscal quarter ended December 31, 1995:
Report dated December 29, 1995, including Items 2 and 7 (financial
statements of business acquired and pro forma financial information),
regarding the sale of primary care clinics located in Brevard County,
Florida.
23
<PAGE>
SIGNATURES
PURSUANT TO THE REQUIREMENTS OF SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934, THE REGISTRANT HAS DULY CAUSED THIS REPORT TO BE SIGNED
ON ITS BEHALF BY THE UNDERSIGNED, THEREUNTO DULY AUTHORIZED.
Date: October 3, 1996 Sterling Healthcare Group, Inc.
(Registrant)
By: /s/ Stephen J. Dresnick
----------------------------------
STEPHEN J. DRESNICK, M.D.
CHAIRMAN AND CHIEF EXECUTIVE
OFFICER
PURSUANT TO THE REQUIREMENTS OF THE SECURITIES EXCHANGE ACT OF 1934, THIS
REPORT HAS BEEN SIGNED BELOW BY THE FOLLOWING PERSONS ON BEHALF OF THE
REGISTRANT AND IN THE CAPACITIES AND ON THE DATES INDICATED.
<TABLE>
<CAPTION>
SIGNATURE TITLE DATE
--------- ----- ----
<S> <C> <C>
Stephen J. Dresnick Chairman and Chief
- ------------------------------------ Executive Officer, October 3, 1996
STEPHEN J. DRESNICK, M.D. director
/s/ Jack S. Greenman Chief Accounting
- ------------------------------------ Officer October 3, 1996
JACK S. GREENMAN, CPA
/s/ Mel Gottlieb Director
- ------------------------------------ October 3, 1996
MEL GOTTLIEB
/s/ Glenn L. Halpryn Director
- ------------------------------------ October 3, 1996
GLENN L. HALPRYN
/s/ Diane Horner Director
- ------------------------------------ October 3, 1996
DIANE HORNER, R.N., ED.D.
/s/ Herbert A. Wertheim Director
- ------------------------------------ October 3, 1996
HERBERT A. WERTHEIM, O.D.
</TABLE>
24
<PAGE>
INDEX TO FINANCIAL STATEMENTS AND FINANCIAL STATEMENT SCHEDULE
<TABLE>
<CAPTION>
PAGES
-----
<S> <C>
FINANCIAL STATEMENTS:
Report of Independent Accountants...................................... F-2
Balance Sheets of Sterling Healthcare Group, Inc. as of December 31,
1994 and 1995......................................................... F-3
Statements of Operations of Sterling Health Care Group, Inc. and
Sterling Healthcare, Inc. for the year ended December 31, 1993........ F-4
Statements of Operations of Sterling Health Care Group, Inc. and
Sterling Healthcare, Inc. for the period of January 1, 1994 to May 31,
1994, and Consolidated Statements of Operations of Sterling Healthcare
Group, Inc. for the period from June 1, 1994 to December 31, 1994 and
for the year ended December 31, 1995.................................. F-5
Statements of Stockholders' Equity for Sterling Health Care Group, Inc.
for the year ended December 31, 1993 and for the period from January
1, 1994 to May 31, 1994............................................... F-6
Consolidated Statements of Stockholders' Equity for Sterling Healthcare
Group, Inc. for the period from June 1, 1994 to December 31, 1994 and
for the year ended December 31, 1995.................................. F-7
Statements of Cash Flows for Sterling Health Care Group, Inc. and
Sterling Healthcare, Inc. for the year ended December 31, 1993........ F-8
Statements of Cash Flows for Sterling Health Care Group, Inc. and
Sterling Healthcare, Inc. for the period from January 1, 1994 to May
31, 1994, and the Consolidated Statements of Cash Flows for Sterling
Healthcare Group, Inc. for the period from June 1, 1994 to December
31, 1994 and for the year ended December 31, 1995..................... F-9
Notes to Consolidated Financial Statements............................. F-10
FINANCIAL STATEMENT SCHEDULE:
Schedule II--Valuation and Qualifying Accounts......................... F-22
</TABLE>
F-1
<PAGE>
REPORT OF INDEPENDENT ACCOUNTANTS
Board of Directors
Sterling Healthcare Group, Inc.
Coral Gables, Florida
We have audited the financial statements and the financial statement
schedule of Sterling Health Care Group, Inc. and Sterling Healthcare, Inc. and
the consolidated financial statements and the financial statement schedule of
Sterling Healthcare Group, Inc. listed in the index on page F-1 of this Form
10-K. These financial statements and the financial statement schedule are the
responsibility of the Companies' management. Our responsibility is to express
an opinion on these financial statements and financial statement schedules
based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the results of the operations and cash flows of
Sterling Health Care Group, Inc. and Sterling Healthcare, Inc. for the year
ended December 31, 1993 and the five months ended May 31, 1994 and the
consolidated financial position of Sterling Healthcare Group, Inc. as of
December 31, 1994 and 1995 and the consolidated results of their operations
and their cash flows for the period June 1, 1994 to December 31, 1994 and for
the year ended December 31, 1995, in conformity with generally accepted
accounting principles. In addition, in our opinion, the financial statement
schedule referred to above, when considered in relation to the basic financial
statements taken as whole, present fairly, in all material respects, the
information required to be included therein.
Coopers & Lybrand L.L.P.
Miami, Florida
March 15, 1996
F-2
<PAGE>
STERLING HEALTHCARE GROUP, INC.
(AND PREDECESSOR ENTITIES)
BALANCE SHEETS
<TABLE>
<CAPTION>
DECEMBER 31, DECEMBER 31,
1994 1995
------------ ------------
<S> <C> <C>
ASSETS
CURRENT ASSETS:
Cash and cash equivalents.......................... $ 18,770 $ 2,071,173
Accounts receivable--net........................... 14,853,714 29,858,846
Subsidy and other receivables...................... 2,084,482 2,972,859
Deferred tax assets................................ 1,179,713 2,370,074
Income taxes receivable............................ -- 1,032,096
Prepaid expenses................................... 189,124 262,341
----------- -----------
Total current assets............................. 18,325,803 38,567,389
----------- -----------
PROPERTY AND EQUIPMENT--net.......................... 2,602,325 3,266,899
----------- -----------
OTHER ASSETS:
Excess of cost over net assets of businesses
acquired, net..................................... 5,216,585 36,474,797
Other assets....................................... 597,392 299,167
----------- -----------
Total other assets............................... 5,813,977 36,773,964
----------- -----------
Total assets..................................... $26,742,105 $78,608,252
=========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Current portion of notes payable................... $ 630,233 $ 1,477,511
Accounts payable................................... 940,899 2,116,824
Accrued expenses:
Independent contractors.......................... 4,121,399 7,186,736
Billing costs.................................... 435,197 937,442
Other accrued expenses........................... 690,732 1,125,209
Current portion of accrued liability for
professional liability claims..................... 475,100 610,000
Current portion of capital lease obligations....... 262,330 228,871
Income taxes payable............................... 1,228,488 436,775
----------- -----------
Total current liabilities........................ 8,784,378 14,119,368
LONG TERM LIABILITIES:
Bank line of credit................................ 2,662,242 10,000,000
Notes payable, excluding current portion........... 1,426,231 1,362,145
Accrued liability for professional liability
claims, excluding current portion................. 2,013,400 2,440,000
Capital lease obligations, excluding current
portion........................................... 342,131 164,168
Income taxes payable............................... 1,790,271 997,022
Other long term payables........................... 100,000 392,275
----------- -----------
Total liabilities................................ 17,118,653 29,474,978
----------- -----------
COMMITMENTS AND CONTINGENCIES (Notes 3 and 9)
STOCKHOLDERS' EQUITY:
Preferred stock, $.0001 par value, 100,000,000
shares authorized, none issued and outstanding at
December 31, 1994 and 1995........................ -- --
Common stock, $.0001 par value, 100,000,000 shares
authorized, 4,772,605 and 7,849,927 shares issued
and outstanding at December 31, 1994 and 1995,
respectively...................................... 477 785
Additional paid-in-capital......................... 8,567,792 45,182,727
Retained earnings.................................. 1,401,525 4,233,028
Less: deferred compensation--stock options......... (346,342) (283,266)
----------- -----------
Total stockholders' equity....................... 9,623,452 49,133,274
----------- -----------
Total liabilities and stockholders' equity....... $26,742,105 $78,608,252
=========== ===========
</TABLE>
See accompanying notes to financial statements
F-3
<PAGE>
STERLING HEALTHCARE GROUP, INC.
(AND PREDECESSOR ENTITIES)
STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
YEAR ENDED
DECEMBER 31, 1993
-----------------------
STERLING STERLING
HEALTH CARE HEALTHCARE
GROUP, INC. INC.
----------- -----------
<S> <C> <C>
Operating revenue, net.................................. $34,767,184 $13,855,253
----------- -----------
Costs and expenses:
Cost of affiliated physician services................. 22,219,048 8,920,676
Medical support services.............................. 2,045,894 986,598
Selling, general and administrative................... 8,946,031 2,768,023
Depreciation and amortization......................... 312,115 19,354
----------- -----------
Total operating expenses............................ 33,523,088 12,694,651
----------- -----------
Operating income.................................... 1,244,096 1,160,602
Other expense
Interest expense...................................... 259,748 169,122
----------- -----------
Income before income tax provision...................... 984,348 991,480
Income tax provision.................................... -- --
----------- -----------
Net income.............................................. $ 984,348 $ 991,480
=========== ===========
Proforma income data (unaudited):
Income before income tax provision, as reported....... $ 984,348 $ 991,480
Proforma income tax provision......................... 371,000 343,400
----------- -----------
Proforma net income................................. $ 613,348 $ 648,080
=========== ===========
</TABLE>
See accompanying notes to financial statements
F-4
<PAGE>
STERLING HEALTHCARE GROUP, INC.
(AND PREDECESSOR ENTITIES)
STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
FOR THE PERIOD FOR THE PERIOD FOR THE YEAR
JANUARY 1, 1994 JUNE 1, 1994 TO ENDED
TO MAY 31, 1994 DECEMBER 31, 1994 DECEMBER 31, 1995
------------------------ ----------------- -----------------
STERLING STERLING STERLING STERLING
HEALTH CARE HEALTHCARE, HEALTHCARE HEALTHCARE
GROUP, INC. INC. GROUP, INC. GROUP, INC.
----------- ----------- ----------------- -----------------
<S> <C> <C> <C> <C>
Operating revenue, net.. $15,345,426 $6,948,275 $39,255,573 $115,659,527
----------- ---------- ----------- ------------
Costs and expenses:
Cost of affiliated phy-
sician services....... 10,126,617 4,282,506 26,353,093 69,734,593
Medical support servic-
es.................... 956,522 428,497 1,370,582 6,251,041
Selling, general and
administrative........ 3,422,800 1,463,387 8,744,954 29,322,393
Depreciation and amor-
tization.............. 150,000 10,000 438,277 2,259,986
Unusual items.......... -- -- -- 1,589,908
----------- ---------- ----------- ------------
Total operating ex-
penses................ 14,655,939 6,184,390 36,906,906 109,157,921
----------- ---------- ----------- ------------
Operating income....... 689,487 763,885 2,348,667 6,501,606
----------- ---------- ----------- ------------
Other income (expense)
Interest income........ -- -- 71,764 65,324
Interest expense....... (99,740) (61,606) (152,065) (1,823,695)
----------- ---------- ----------- ------------
Other expense, net..... (99,740) (61,606) (80,301) (1,758,371)
----------- ---------- ----------- ------------
Income before income tax
provision.............. 589,747 702,279 2,268,366 4,743,235
Income tax provision.... 1,839,113 559,390 866,841 1,911,732
----------- ---------- ----------- ------------
Net (loss) income....... $(1,249,366) $ 142,889 $ 1,401,525 $ 2,831,503
=========== ========== =========== ============
Net income per share:
Primary................ $ 0.30 $ 0.45
=========== ============
Assuming full dilu-
tion.................. $ 0.30 $ 0.45
=========== ============
Average number of common
and common equivalent
shares outstanding:
Primary................ 4,683,578 6,271,129
=========== ============
Assuming full dilu-
tion.................. 4,683,578 6,326,804
=========== ============
Proforma income data
(unaudited):
Income before income
tax provision, as re-
ported................ $ 589,747 $ 702,279
Proforma income tax
provision............. 228,844 260,386
----------- ----------
Proforma net income.... $ 360,903 $ 441,893
=========== ==========
</TABLE>
See accompanying notes to financial statements
F-5
<PAGE>
STERLING HEALTHCARE GROUP, INC.
(AND PREDECESSOR ENTITIES)
STATEMENTS OF STOCKHOLDERS' EQUITY
<TABLE>
<CAPTION>
STERLING HEALTH CARE GROUP, INC.
-----------------------------------------------------
COMMON STOCK
---------------- ADDITIONAL TOTAL
NUMBER OF PAID-IN RETAINED STOCKHOLDERS'
SHARES AMOUNT CAPITAL EARNINGS EQUITY
--------- ------ ---------- ---------- -------------
<S> <C> <C> <C> <C> <C>
Balance at December 31,
1992.................... 75 $ 75 $ -- $2,021,863 $2,021,938
Net income for the year.. -- -- -- 984,348 984,348
---- ---- ---------- ---------- ----------
Balance at December 31,
1993.................... 75 75 -- 3,006,211 3,006,286
Net loss for the period
January 1, 1994 to May
31, 1994
(Merger Date)........... -- -- -- (1,249,366) (1,249,366)
Transfer of S Corporation
earnings to capital in
excess of
par value............... -- -- 1,756,845 (1,756,845) --
---- ---- ---------- ---------- ----------
Balance at May 31, 1994.. 75 $ 75 $1,756,845 $ -- $1,756,920
==== ==== ========== ========== ==========
</TABLE>
<TABLE>
<CAPTION>
STERLING HEALTHCARE, INC.
---------------------------------------------------------------------------------
COMMON STOCK TREASURY STOCK RETAINED
----------------- ADDITIONAL --------------------- EARNINGS TOTAL
NUMBER OF PAID-IN NUMBER OF (ACCUMULATED STOCKHOLDERS'
SHARES AMOUNT CAPITAL SHARES AMOUNT DEFICIT) EQUITY
--------- ------- ----------- --------- ----------- ------------ -------------
<S> <C> <C> <C> <C> <C> <C> <C>
Balance at December 31,
1992................... 2,500 $ 2,500 $ 650,344 -- $ -- $(549,912) $ 102,932
Net income for the
year................... -- -- -- -- -- 991,480 991,480
Treasury stock acquired
(at cost).............. -- -- -- (1,500) (3,283,235) -- (3,283,235)
------ ------- ----------- ------ ----------- --------- -----------
Balance at December 31,
1993................... 2,500 2,500 650,344 (1,500) (3,283,235) 441,568 (2,188,823)
Net income for the
period January 1, 1994
to May 31, 1994 (Merger
Date).................. -- -- -- -- -- 142,889 142,889
Effective retirement of
treasury shares........ (1,500) (1,500) (3,281,735) 1,500 3,283,235 -- --
Transfer of S
Corporation earnings to
capital in excess of
par value.............. -- -- 584,457 -- -- (584,457) --
------ ------- ----------- ------ ----------- --------- -----------
Balance at May 31,
1994................... 1,000 $ 1,000 $(2,046,934) -- $ -- $ -- $(2,045,934)
====== ======= =========== ====== =========== ========= ===========
</TABLE>
See accompanying notes to financial statements
F-6
<PAGE>
STERLING HEALTHCARE GROUP, INC.
(AND PREDECESSOR ENTITIES)
STATEMENTS OF STOCKHOLDERS' EQUITY
<TABLE>
<CAPTION>
STERLING HEALTHCARE GROUP, INC.
---------------------------------------------------------------------
COMMON STOCK
---------------- ADDITIONAL DEFERRED TOTAL
NUMBER OF PAID-IN RETAINED COMPENSATION-- STOCKHOLDERS'
SHARES AMOUNT CAPITAL EARNINGS STOCK OPTIONS EQUITY
--------- ------ ----------- ---------- -------------- -------------
<S> <C> <C> <C> <C> <C> <C>
Balance at June 1, 1994,
Merger Date--Proforma.. 75 $ 75 $ (289,089) $ -- $ -- $ (289,014)
Issuance of stock, stock
options and receipt of
proceeds in connection
with merger Frost Hanna
Halpryn Capital Group,
Inc.................... 4,506,925 376 6,068,494 -- (369,000) 5,699,870
Stock issued for
business acquisitions.. 265,605 26 2,788,387 -- -- 2,788,413
Amortization of deferred
compensation........... -- -- -- -- 22,658 22,658
Net income for the
period June 1, 1994 to
December 31, 1994...... -- -- -- 1,401,525 -- 1,401,525
--------- ---- ----------- ---------- --------- -----------
Balance at December 31,
1994................... 4,772,605 477 8,567,792 1,401,525 (346,342) 9,623,452
Stock issued for
business acquisitions.. 1,056,322 106 11,968,267 -- -- 11,968,373
Stock options and
warrants exercised..... 21,000 2 155,998 -- -- 156,000
Issuance of common
stock.................. 2,000,000 200 24,515,670 -- -- 24,515,870
Termination of deferred
compensation options... -- -- (25,000) -- 25,000 --
Amortization of deferred
compensation........... -- -- -- -- 38,076 38,076
Net income for the
year................... -- -- -- 2,831,503 -- 2,831,503
--------- ---- ----------- ---------- --------- -----------
Balance at December 31,
1995................... 7,849,927 $785 $45,182,727 $4,233,028 $(283,266) $49,133,274
========= ==== =========== ========== ========= ===========
</TABLE>
See accompanying notes to financial statements
F-7
<PAGE>
STERLING HEALTHCARE GROUP, INC.
(AND PREDECESSOR ENTITIES)
STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31, 1993
------------------------------
STERLING STERLING
HEALTH CARE HEALTHCARE
GROUP, INC. INC.
-------------- --------------
<S> <C> <C>
Cash flows from operating activities:
Net income.................................... $ 984,348 $ 991,480
-------------- --------------
Adjustments to reconcile net income to net
cash provided by (used in) operating
activities:
Depreciation................................. 196,657 18,583
Amortization................................. 115,458 771
Changes in:
Accounts receivable......................... (2,259,365) (754,350)
Subsidy and other receivables............... 105,129 63,391
Due from/to affiliate....................... 256,250 (256,250)
Prepaid expenses............................ 40,441 (2,722)
Other assets................................ 207,062 (25,770)
Accounts payable, accrued expenses, and
other payables............................. 659,368 24,577
Accrued liability for professional liability
claims..................................... 132,000 (182,470)
Contract payable............................ -- (32,570)
Other long term liabilities................. -- 37,160
Hospital advances........................... (361,996) --
-------------- --------------
Net adjustments............................ (908,996) (1,109,650)
-------------- --------------
Net cash provided by (used in) operating
activities................................ 75,352 (118,170)
-------------- --------------
Cash flows from investing activities:
Purchase of property and equipment............ (249,690) (29,270)
-------------- --------------
Net cash used in investing activities...... (249,690) (29,270)
-------------- --------------
Cash flows from financing activities:
Bank line of credit........................... 1,001,956 --
Payments on notes payable..................... (138,865) (520,346)
Advance to/from affiliate, redemption
transaction.................................. (672,083) 672,083
Payment of loan to Stockholder................ 21,306 --
Payment on capital lease obligations.......... (173,373) --
-------------- --------------
Net cash provided by financing activities.. 38,941 151,737
-------------- --------------
Net (decrease) increase in cash and cash
equivalents................................... (135,397) 4,297
Cash and cash equivalents at beginning of
period........................................ 205,150 67,002
-------------- --------------
Cash and cash equivalents at end of period..... $ 69,753 $ 71,299
============== ==============
</TABLE>
Supplemental cash flow disclosure:
Cash paid for interest for Sterling Health Care Group, Inc. for the year
ended December 31, 1993 was $271,000.
Cash paid for interest for Sterling Healthcare, Inc. for the year ended
December 31, 1993 was $152,000.
Supplemental disclosure of noncash investing activities:
Sterling Health Care Group, Inc. entered into capital lease obligations
approximating $424,000 during the year ended December 31, 1993.
Supplemental disclosure of noncash financing activities:
In 1993, Sterling Healthcare, Inc. had noncash financing activities
consisting of the purchase of 1,500 shares of common stock issued for
promissory notes of $3,283,000.
See accompanying notes to financial statements
F-8
<PAGE>
STERLING HEALTHCARE GROUP, INC.
(AND PREDECESSOR ENTITIES)
STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
FOR THE PERIOD FOR THE PERIOD FOR THE YEAR
JANUARY 1, 1994 JUNE 1, 1994 TO ENDED
TO MAY 31, 1994 DECEMBER 31, 1994 DECEMBER 31, 1995
----------------------- ----------------- -----------------
STERLING STERLING STERLING STERLING
HEALTH CARE HEALTHCARE HEALTHCARE HEALTHCARE
GROUP, INC. INC. GROUP, INC. GROUP, INC.
----------- ---------- ----------------- -----------------
<S> <C> <C> <C> <C>
Cash flows from operating
activities:
Net (loss) income....... $(1,249,366) $ 142,889 $ 1,401,525 $ 2,831,503
----------- --------- ----------- ------------
Adjustments to reconcile
net (loss) income to
net cash provided by
(used in) operating
activities
Depreciation............ 150,000 10,000 366,231 1,110,562
Amortization............ -- -- 72,046 1,149,424
Impairment of
goodwill............... -- -- -- 434,602
Loss on disposition of
businesses............. -- -- -- 772,875
Deferred income taxes... (663,820) (402,846) (279,965) 124,081
Deferred compensation--
stock options.......... -- -- 22,658 38,076
Changes in:
Accounts, subsidy and
other receivables,
net................... 130,371 (608,677) (3,110,444) (11,695,531)
Due to/from
affiliate............. (618,548) 618,548 -- --
Income taxes
receivable............ -- -- -- (1,032,096)
Prepaid expenses and
other assets.......... (273,666) 2,722 10,535 (119,313)
Accounts payable,
accrued expenses, and
other payables........ 106,506 117,423 931,013 1,696,122
Accrued liability for
professional
liability claims...... 150,000 -- (124,216) (738,500)
Income taxes payable... 2,502,933 962,236 (603,419) (1,645,023)
----------- --------- ----------- ------------
Net adjustments....... 1,483,776 699,406 (2,715,561) (9,904,721)
----------- --------- ----------- ------------
Net cash provided by
(used in)
operating activities.. 234,410 842,295 (1,314,036) (7,073,218)
----------- --------- ----------- ------------
Cash flows from investing
activities:
Payments for acquisition
of businesses less
cash acquired*......... -- -- (3,267,549) (18,733,636)
Proceeds from sale of
businesses**........... -- -- -- 1,600,000
Proceeds from disposals
of property and
equipment.............. 155,115 -- -- --
Purchases of property
and equipment.......... (47,525) (35,000) (499,318) (1,633,750)
----------- --------- ----------- ------------
Net cash provided by
(used in)
investing activities.. 107,590 (35,000) (3,766,867) (18,767,386)
----------- --------- ----------- ------------
Cash flows from financing
activities:
Proceeds from merger,
net.................... -- -- 5,699,870 --
Proceeds from exercise
of stock options and
warrants............... -- -- -- 156,000
Proceeds from issuance
of common stock........ -- -- -- 24,515,870
(Proceeds) payments on
line of credit, net.... (545,000) -- 207,242 7,337,579
Payments on notes
payable................ (210,910) (342,394) (779,524) (3,816,807)
Due from affiliate,
redemption
transaction............ 427,083 (427,083) -- --
Payments on capital
lease obligations...... (82,926) -- (137,032) (299,635)
----------- --------- ----------- ------------
Net cash (used in)
provided by
financing activities.. (411,753) (769,477) 4,990,556 27,893,007
----------- --------- ----------- ------------
Net (decrease) increase
in cash and cash
equivalents............. (69,753) 37,818 (90,347) 2,052,403
Cash and cash equivalents
at beginning of period.. 69,753 71,299 109,117 18,770
----------- --------- ----------- ------------
Cash and cash equivalents
at end of period........ $ -- $ 109,117 $ 18,770 $ 2,071,173
=========== ========= =========== ============
Supplemental cash flow
disclosures:
Cash payments during the
year for:
Interest................ $ 93,042 $ 84,689 $ 105,201 $ 1,676,376
=========== ========= =========== ============
Income taxes............ $ -- $ -- $ 1,675,933 $ 4,559,650
=========== ========= =========== ============
*Acquisitions of
businesses, less cash
acquired:
Working capital,
excluding cash......... $ 357,327 $ 3,038,472
Property and equipment.. 941,783 881,425
Cost in excess of net
assets acquired........ 5,265,435 32,783,882
Other assets............ 102,232 407,034
Non-current
liabilities............ (410,815) (1,121,857)
Issuance of note
payable................ (200,000) (5,286,946)
Issuance of common
stock.................. (2,788,413) (11,968,374)
----------- ------------
Cash paid.............. $ 3,267,549 $ 18,733,636
----------- ------------
**Proceeds from sale of
businesses:
Working capital,
excluding cash......... $ 1,544,626
Property and equipment.. 828,249
Loss on sale of
businesses............. (772,875)
------------
Cash received.......... $ 1,600,000
------------
Supplemental disclosure
of noncash investing
activities:
New capital lease
obligations............ $ 57,000 $ -- $ 131,000 $ 91,000
=========== ========= =========== ============
</TABLE>
See accompanying notes to financial statements
F-9
<PAGE>
STERLING HEALTHCARE GROUP, INC.
(AND PREDECESSOR ENTITIES)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(1) ORGANIZATION:
On May 31, 1994 (the "Merger Date"), Sterling Miami, Inc. (f/k/a Sterling
Health Care Group, Inc.) and Sterling Healthcare, Inc. (collectively
"Sterling"), consummated a merger with Frost Hanna Halpryn Capital Group, Inc.
("FHH"), a publicly held Florida corporation resulting in Sterling Miami, Inc.
and Sterling Sub Texas, Inc. (the assignee of substantially all of the assets
and liabilities of Sterling Healthcare, Inc.) becoming wholly owned subsidiary
corporations of FHH (the "Merger"). Under the terms of the Merger, FHH among
other things, issued a total of 2,321,500 shares of its Common Stock
(representing 51.5% of its outstanding Common Stock subsequent to the
transaction) in exchange for all of the outstanding shares of Common Stock of
Sterling and FHH changed its name to Sterling Healthcare Group, Inc. (the
"Company"). The Merger resulted in both a change in the majority equity
ownership and management of FHH and the cessation of FHH's business operations
as previously conducted. The transaction has been accounted for as a capital
transaction which is equivalent to the issuance of stock by Sterling for the
net monetary assets of FHH accompanied by a recapitalization of Sterling.
In October 1995, the Company completed a secondary offering in which
2,000,000 shares of common stock were issued which provided the Company with
proceeds of approximately $24.5 million, net of expenses.
The Company is a physician practice management company that provides
physician contract management for hospital emergency and anesthesia
departments in 19 states at December 31, 1995. The Company also operates 6
primary care medical facilities at December 31, 1995 in 3 states. The Company
also has a physician recruiting and medical management consulting division and
publishes a monthly magazine. Contractual arrangements with hospitals are
primarily fee-for-service whereby hospitals agree to authorize the Company and
its contracted healthcare professionals to contract directly with the
patients. Therefore, the Company bills and collects directly from the patient
or third party payor for the professional component of the charges for medical
services rendered by the Company's contracted healthcare professionals. The
Company contracts, on an independent contractor basis, directly with the
physicians who provide such medical services. The physicians are compensated
based on an hourly rate in accordance with independent contractor agreements.
(2) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
(a) Basis of Presentation
The accompanying consolidated financial statements as of December 31, 1994
and 1995 and for the seven months ended December 31, 1994 and for the year
ended December 31, 1995 include the accounts of the Company and its wholly
owned subsidiary companies. All significant intercompany balances and
transactions have been eliminated in consolidation.
The financial statements for the year ended December 31, 1993 and for the
period from January 1, 1994 to May 31, 1994 present Sterling's (predecessor's)
results of operations and cash flows on a historical basis prior to the
Merger.
(b) Accounting Estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and the
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting periods. Actual results could differ from those estimates.
F-10
<PAGE>
STERLING HEALTHCARE GROUP, INC.
(AND PREDECESSOR ENTITIES)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(c) Revenue Recognition and Accounts Receivable
Revenue from patient services is reported on the accrual basis, net of
estimated third-party contractual adjustments. Further adjustments are
recorded to reflect amounts estimated to be uncollectible based upon
individual contract experience. The allowance considered necessary to cover
contractual adjustments and uncollectibles is based on an analysis of current
and past due accounts, collection experience in relation to amounts billed and
other relevant information. Accounts receivable represents amounts due from
third-party payors including Medicare and Medicaid, patients and others for
services rendered. The Company has arrangements with certain hospitals for
monthly subsidy amounts which either compensate for patient revenues not
achieving specified levels or to fund front-end staffing and insurance costs.
The concentration of credit risk relating to accounts and subsidy
receivables is limited by the number and geographic dispersion of hospital
emergency departments managed by the Company, as well as by the large number
of patients and payors, including various governmental agencies in the states
in which the Company operates. The Company does not require collateral
relating to accounts or subsidy receivables. Revenues from governmental
agencies made up approximately 26.0%, 26.8% and 30.2% of net operating revenue
for the years ended December 31, 1993, 1994 and 1995.
(d) Cash and Cash Equivalents
Cash and cash equivalents are defined as highly liquid financial instruments
with maturities of 90 days or less from the date of purchase and so near
maturity that there is insignificant risk of changes in value because of
interest changes. The Company maintains its cash and cash equivalents with
high quality financial institutions. At times, such balances may be in excess
of the federally insured limit of $100,000.
(e) Property and Equipment
Property and equipment is recorded at cost. Depreciation expense is computed
using the straight-line method over the estimated useful lives (5-30 years) of
the respective assets. Equipment under capital leases is amortized using the
straight-line method over the shorter period of the lease term or the
estimated useful life of the equipment. Maintenance and repairs are charged to
expense as incurred. Significant renewals or betterments are capitalized. When
property and equipment are retired, or otherwise disposed of, the cost and
related accumulated depreciation are removed from their respective accounts
and any relating gain or loss is reflected in earnings.
(f) Other Assets
The excess of cost over the fair value of net assets acquired is stated net
of accumulated amortization and is being amortized on a straight-line method
over terms which range principally from twenty-five to forty years. The excess
of cost over the fair value of net assets acquired is stated net of
accumulated amortization of $71,000 and $1,176,000 at December 31, 1994 and
1995, respectively.
At each balance sheet date following the acquisition of a business, the
Company reviews the carrying value of the goodwill to determine if facts and
circumstances suggest that it may be impaired or that the amortization period
may need to be changed. The Company considers external factors relating to
each acquired business, including hospital and physician contract changes,
local market developments, changes in third party payments, national health
care trends, and other publicly available information. If these external
factors indicate that the goodwill will not be recoverable, as determined
based upon undiscounted cash flows before interest charges of
F-11
<PAGE>
STERLING HEALTHCARE GROUP, INC.
(AND PREDECESSOR ENTITIES)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(f) Other Assets, continued
the business acquired over the remaining amortization period, the carrying
value of the goodwill will be reduced. In December 1995, the Company sold and
closed a total of eight primary care clinics. In connection with the sale and
closing, the Company recorded a charge for impairment of goodwill in the
amount of $434,000. The Company does not believe there currently are any
indicators that would require an additional adjustment to the carrying value
of the goodwill or its remaining useful life at December 31, 1995.
Unamortized loan costs, which consist of costs incurred in obtaining
financing, are amortized over the term of the related debt.
(g) Income Taxes
Prior to the Merger Date, Sterling had elected to be treated as S
Corporations and, accordingly, were not subject to Federal and State income
taxes; instead Sterling's taxable income was the responsibility of Sterling's
shareholders.
Beginning May 31, 1994, the Company terminated its S Corporation status and
became subject to Federal and State income taxes. The Company utilizes the
liability method of accounting for deferred income taxes. Under this method,
deferred tax assets and liabilities are determined based on the difference
between financial statement and tax bases of assets and liabilities using
enacted tax rates in effect for the year in which differences are expected to
reverse.
(h) Professional Liability Coverage
The Company maintains professional liability coverage for the Company and
its employee and independent contractor physicians on a claims made basis. The
Company records an estimate, based on an actuarial valuation, of its
liabilities for claims incurred but not reported. Such liabilities are not
discounted.
(i) Net Income Per Share
Net income per share is calculated by dividing net income by the weighted
average number of common and common equivalent shares outstanding during the
period. Common equivalent shares consist of the dilutive effect of outstanding
options and warrants calculated using the treasury stock method.
Proforma net income per share for the year ended December 31, 1994 is
calculated by dividing proforma net income by the proforma weighted average
number of common and common equivalent shares outstanding during the period
assuming that the shares issued on the Merger Date to the original
shareholders were issued on January 1, 1994. Common equivalent shares consist
of the dilutive effect of outstanding options and warrants calculated using
the treasury stock method.
(j) Stock Options
The Company follows the practice of recording amounts received upon the
exercise of options by crediting common stock and additional paid-in capital.
To the extent that the Company realizes an income tax benefit from the
exercise or early disposition of certain stock options, this benefit results
in a decrease in current income taxes payable and an increase in additional
paid-in capital.
F-12
<PAGE>
STERLING HEALTHCARE GROUP, INC.
(AND PREDECESSOR ENTITIES)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(k) Reclassifications
Cost of affiliated physician services consist of amounts paid to independent
contractor and employee physicians. Medical support services consist
principally of amounts paid to staff primary care clinics and for professional
liability coverage. These amounts were previously classified as direct
expenses. Such reclassifications did not affect operating income (loss).
(l) Change in Accounting Standards
Statement of Financial Accounting Standards ("SFAS") No. 121, "Accounting
for the Impairment of Long-Lived Assets and for Long-Lived Assets to be
Disposed Of" must be implemented by the Company in 1996. This statement
requires that long-lived and certain intangible assets held and used by the
Company be reviewed for impairment. This pronouncement is not expected to have
a material impact on financial statements of the Company.
SFAS No. 123, "Accounting for Stock-Based Compensation" must also be
implemented by the Company in 1996. This pronouncement establishes financial
accounting and reporting standards for stock-based employee compensation
plans. It encourages, but does not require, companies to recognize
compensation expense for grants of stock, stock options and other equity
instruments to employees based on new fair value accounting rules. Companies
that choose not to adopt the new fair value accounting rules will be required
to disclose proforma net income and earnings per share under the new method.
The Company anticipates adopting the disclosure provisions of SFAS No. 123,
although the impact of such disclosure has not been determined.
(3) ACQUISITIONS:
The Company continued its acquisition strategy resulting in the consummation
of the following acquisitions in 1994 and 1995 which have been accounted for
using the purchase method of accounting for financial reporting purposes.
Accordingly, the assets and liabilities of the acquired entities are recorded
at their estimated fair values at the date of the acquisitions. In addition,
the results of operations of the companies acquired have been included in the
consolidated results of operations of the Company from the date of
acquisition.
In January 1995, the Company acquired the assets of the Skylark Outpatient
Clinic from Patient Services of America, Inc. ("Skylark"). In addition to the
acquisition, the Company entered into a consulting agreement with one of
Skylark's shareholders. In consideration for the acquisition and consulting
agreement, the Company issued an aggregate of 154,305 shares of the Company's
Common Stock, valued at $1.5 million and $1.5 million in cash. Skylark,
headquartered in Ocala, Florida operates a primary care medical facility at
that location. The excess purchase price over the estimated fair value of the
net assets acquired was recorded as goodwill in the amount of $3.0 million and
is being amortized on a straight-line basis over 17 years.
In January 1995, the Company consummated the acquisition of Medical
Networks, Inc. ("MedNet"). The purchase price consisted of the Company issuing
an aggregate of 692,114 shares of the Company's Common Stock valued at $6.7
million, $12 million in cash, and the issuance of $3.4 million of notes
payable. The Company also granted a former MedNet shareholder options to
purchase 75,000 shares of common stock at $12.00 per share vesting over a
three year period. The excess purchase price over the estimated fair value of
the net assets acquired was recorded as goodwill in the amount of $20.1
million and is being amortized on a straight-line basis over 40 years. MedNet,
headquartered in Houston, Texas, is a medical management company contracting
with 15 hospitals to provide emergency department services. MedNet also owns
and operates three primary care facilities under the trade name MedStop.
F-13
<PAGE>
STERLING HEALTHCARE GROUP, INC.
(AND PREDECESSOR ENTITIES)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(3) ACQUISITIONS, CONTINUED
In September 1995, the Company consummated the acquisition of Professional
Emergency Physicians, P.A. ("PEP"). PEP, located in Baltimore, Maryland is a
medical management company contracting with 5 hospitals to provide emergency
department services. The purchase price consisted of the Company issuing an
aggregate 209,903 shares of the Company's Common Stock valued at $3.1 million
and $3.1 million in cash. Additional consideration will be issued or paid in
fiscal 1996 in consideration for the adjusted equity of PEP as defined, on the
acquisition date. The agreement also allows for contingent consideration on
the two year anniversary date for the amount the Company's Common Stock is
less than $17.22 but not less than $14.25. The Company also granted to certain
PEP shareholders options to purchase 20,300 shares of Common Stock at $14.50
per share vesting over a three year period providing that the grantees of the
options are still affiliated with the Company. The excess purchase price over
the estimated fair value of the net assets acquired was recorded as goodwill
in the amount of $6.6 million and is being amortized on a straight-line basis
over 25 years.
In July 1994, the Company acquired Regional Emergency Services, Inc.
("Regional"), a Birmingham, Alabama based company engaged in providing
physician contract management services to 14 hospital emergency departments
located in Alabama, Mississippi, and Tennessee. The purchase price consisted
of the Company issuing an aggregate of 132,216 shares of the Company's Common
Stock valued at $1.4 million and $400,000 in cash. The excess purchase price
over the estimated fair values of the net assets acquired was recorded as
goodwill in the amount of $1.9 million and is being amortized on a straight
line basis over 25 years.
In November 1994, the Company consummated the acquisition of Physician
Services, Inc. d/b/a Physician Services of America and Brightstar
Communications, Inc. (collectively "PSA"). The purchase price consisted of the
Company issuing an aggregate of 133,389 shares of the Company's Common Stock
valued at $1.4 million and $1.6 million in cash. The excess purchase price
over the estimated fair value of the net assets acquired was recorded as
goodwill in the amount of $2.6 million and is being amortized on a straight-
line basis over 40 years. The Company also granted to certain PSA shareholders
options to purchase 45,000 shares of the Company's Common Stock at $12.00 per
share vesting over a period of two years. PSA, headquartered in Louisville,
Kentucky, provides physician recruitment and medical management consulting to
hospitals, group practices, HMOs, integrated delivery systems and insurance
companies. PSA has also developed a recruiting service bureau used by
hospitals to develop recruiting programs. In addition, PSA publishes Life in
Medicine magazine which focuses on career opportunities for physicians.
F-14
<PAGE>
STERLING HEALTHCARE GROUP, INC.
(AND PREDECESSOR ENTITIES)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(3) ACQUISITIONS, CONTINUED
The following unaudited consolidated results of operations give effect to
the acquisitions as if they had occurred at the beginning of each fiscal year.
Adjustments made in arriving at these results include increased interest
expense on acquisition debt, amortization of goodwill and the application of
the Company's existing effective tax rate on the combined proforma results.
The unaudited proforma information is provided for information purposes only.
It is based on historical information and does not necessarily reflect the
actual results that would have occurred had the acquisitions occurred at the
beginning of each fiscal year, nor is it necessarily indicative of future
results of the combined companies (in thousands except per share amounts):
<TABLE>
<CAPTION>
YEARS ENDED
DECEMBER 31,
-----------------
1994 1995
-------- --------
<S> <C> <C>
Operating revenue, net................................... $104,005 $125,289
======== ========
Operating income......................................... $ 7,722 $ 6,887
======== ========
Net income............................................... $ 3,722 $ 2,938
======== ========
Net income per share..................................... $ 0.63 $ 0.45
======== ========
</TABLE>
(4) UNUSUAL ITEMS
In the fourth quarter of 1995, the Company recorded unusual charges of $1.6
million. This amount includes a $434,000 charge for impairment of goodwill, a
$773,000 charge for the loss on disposition of businesses and $375,000
relating to the bankruptcy of one of its hospital clients. In the fourth
quarter of 1995, the Company sold six and closed two primary care clinics
(seven in Florida and one in Texas). The goodwill impairment and loss on sale
are directly related to the sale and closure of the primary care clinics.
These clinics accounted for approximately $3.7 million in revenue and
generated an operating loss (including the unusual items) of $2.1 million for
the year.
(5) ACCOUNTS RECEIVABLE AND OPERATING REVENUE:
Trade accounts receivable consisted of the following at December 31:
<TABLE>
<CAPTION>
1994 1995
------------ ------------
<S> <C> <C>
Gross trade receivables........................ $ 40,288,836 $ 76,528,290
Less allowance for contractual adjustments and
uncollectibles................................ (25,435,122) (46,669,444)
------------ ------------
$ 14,853,714 $ 29,858,846
============ ============
</TABLE>
Net operating revenue consisted of the following:
<TABLE>
<CAPTION>
YEAR ENDED
DECEMBER 31, 1993
--------------------------
STERLING STERLING
HEALTH CARE HEALTHCARE,
GROUP, INC. INC.
------------ ------------
<S> <C> <C>
Gross patient revenue.......................... $ 64,471,862 $ 22,291,047
Less contractual adjustments and
uncollectibles................................ (35,584,677) (11,146,895)
Other revenues................................. 5,879,999 2,711,101
------------ ------------
$ 34,767,184 $ 13,855,253
============ ============
</TABLE>
F-15
<PAGE>
STERLING HEALTHCARE GROUP, INC.
(AND PREDECESSOR ENTITIES)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(5) ACCOUNTS RECEIVABLE AND OPERATING REVENUE, CONTINUED
<TABLE>
<CAPTION>
FOR THE PERIOD FOR THE PERIOD FOR THE YEAR
JANUARY 1, 1994 JUNE 1, 1994 TO ENDED
TO MAY 31, 1994 DECEMBER 31, 1994 DECEMBER 31, 1995
------------------------------ ----------------- -----------------
STERLING STERLING STERLING
HEALTH CARE STERLING HEALTH CARE HEALTHCARE GROUP,
GROUP, INC. HEALTHCARE, INC. GROUP, INC. INC.
------------ ---------------- ----------------- -----------------
<S> <C> <C> <C> <C>
Gross patient revenue... $ 31,955,611 $12,857,960 $ 70,686,262 $ 204,418,940
Less contractual
adjustments and
uncollectibles......... (18,991,541) (6,834,351) (38,074,737) (109,744,395)
Other revenues.......... 2,381,356 924,666 6,644,048 20,984,982
------------ ----------- ------------ -------------
$ 15,345,426 $ 6,948,275 $ 39,255,573 $ 115,659,527
============ =========== ============ =============
</TABLE>
No single customer accounted for greater than 10% of revenues for the years
ended December 31, 1993, 1994 or 1995.
(6) PROPERTY AND EQUIPMENT:
Property and equipment consisted of the following at December 31:
<TABLE>
<CAPTION>
1994 1995
----------- -----------
<S> <C> <C>
Land............................................... $ 25,000 $ 25,000
Building........................................... 139,825 139,825
Furniture and fixtures............................. 581,090 822,394
Office equipment, medical equipment and comp....... 2,903,031 3,948,254
Leasehold improvements............................. 59,452 365,731
----------- -----------
3,708,398 5,301,204
Accumulated depreciation and amortization.......... (1,106,073) (2,034,305)
----------- -----------
Property and equipment, net........................ $ 2,602,325 $ 3,266,899
=========== ===========
</TABLE>
(7) NOTES PAYABLE:
Notes payable consisted of the following at December 31:
<TABLE>
<CAPTION>
1994 1995
---------- ----------
<S> <C> <C>
Notes payable to former shareholders of Sterling
Healthcare, Inc., interest at rates ranging from 5%
to 5.54%, payable in 60 monthly installments to
maturity, January 1998............................. $2,056,464 $1,372,895
Notes payable to former shareholder of MedNet,
payable in January 1996............................ -- 266,761
Notes payable to former shareholder of Emergency
Physicians Group, interest at prime, payable in two
equal installments in December 1996 and 1997....... -- 1,200,000
---------- ----------
Total............................................. $2,056,464 $2,839,656
========== ==========
</TABLE>
F-16
<PAGE>
STERLING HEALTHCARE GROUP, INC.
(AND PREDECESSOR ENTITIES)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(7) NOTES PAYABLE, CONTINUED
Notes payable maturities as of December 31, 1995 are as follows:
<TABLE>
<CAPTION>
YEARS ENDING DECEMBER 31,
-------------------------
<S> <C>
1996........................................................... $1,477,511
1997........................................................... 1,301,997
1998........................................................... 60,148
----------
$2,839,656
==========
</TABLE>
(8) BANK LINE OF CREDIT:
On December 31, 1994, the Company had a $25 million revolving credit
facility with an outstanding balance of $2,662,242 which was replaced on
August 31, 1995 with a $50 million revolving credit facility. At December 31,
1995, the Company had an outstanding balance of $10,000,000.
Total outstanding borrowings on October 1, 1997 will convert to a term loan
payable in 20 equal quarterly installments of principle plus accrued interest.
The extent of the credit facility is available at the Company's option,
provided that total outstanding borrowings under the facility plus other
permitted senior indebtedness shall not exceed a multiple of 3 times (2.75
times as of July 31, 1996 and 2.5 times as of July 31, 1997) the Company's
consolidated annual cashflow, as defined. At December 31, 1995, $17 million in
additional borrowings was available under the revolving credit facility. The
line is collateralized by (i) the capital stock of all existing and future
subsidiaries; (ii) intercompany notes executed by all subsidiaries; and (iii)
all personal property of the Company. The revolving credit facility contains
covenants that among other things, require the Company to maintain certain
financial ratios and impose certain limitations with respect to additional
indebtedness, mergers and acquisitions, liens and encumbrances, disposition of
assets, transactions with related parties, investments and the payment of
dividends. The Company was in compliance with the terms of the revolving
credit facility at December 31, 1995.
The interest rate is determined based on the Company's ratio of senior debt
to annualized cash flow, as defined, and accrues at the bank's prime rate plus
.25% to .75%, payable quarterly, or the LIBOR rate plus 1.50% to 2.25%,
payable at the end of each interest period, at the Company's option. As of
December 31, 1994 and 1995, the interest rate was 8.75% and 8.125%,
respectively. The weighted average interest rate on short term borrowings was
6.5%, 6.8% and 8.4% for the years ended December 31, 1993, 1994 and 1995,
respectively.
Based upon the amount outstanding at December 31, 1995 under the revolving
credit facility, maturities for each of the next five years and thereafter
would be as follows, assuming conversion to a note payable on October 1, 1997:
<TABLE>
<CAPTION>
YEARS ENDING DECEMBER 31,
-------------------------
<S> <C>
1997.......................................................... $ 500,000
1998.......................................................... 2,000,000
1999.......................................................... 2,000,000
2000.......................................................... 2,000,000
thereafter.................................................... 3,500,000
-----------
$10,000,000
===========
</TABLE>
F-17
<PAGE>
STERLING HEALTHCARE GROUP, INC.
(AND PREDECESSOR ENTITIES)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(9) COMMITMENTS AND CONTINGENCIES:
The Company leases office facilities, primary care medical facilities,
certain furniture and equipment, and automobiles under noncancelable operating
leases which expire at various dates through October 2009. Leases for office
and primary care medical facilities contain a provision for rent escalation
due to increased expenses, taxes, and cost of living.
Additionally, the Company leases equipment under capital leases which expire
at various dates through March 1999. The cost and accumulated amortization of
such equipment were $1,004,668 and $359,772, and $1,121,930 and $559,027, at
December 31, 1994 and 1995, respectively.
Future minimum payments required under capital and operating leases at
December 31, 1995 are as follows:
<TABLE>
<CAPTION>
RENTS
RECEIVABLE
CAPITAL OPERATING UNDER
YEARS ENDING DECEMBER 31, LEASES LEASES SUBLEASES
------------------------- -------- ----------- ----------
<S> <C> <C> <C>
1996...................................... $297,072 $ 1,753,312 $ 283,776
1997...................................... 154,094 1,489,555 264,288
1998...................................... 47,330 1,365,125 254,400
1999...................................... 4,004 1,243,302 254,400
2000...................................... 0 957,831 256,944
thereafter................................ 0 4,837,340 674,150
-------- ----------- ----------
Total minimum lease payments............ 502,500 $11,646,465 $1,987,958
=========== ==========
Less amount representing interest on
obligations under capital leases......... 109,461
--------
Present value of net minimum lease
payments................................. $393,039
========
</TABLE>
Rent expense for the Company for the years ended December 31, 1993, 1994 and
1995 was $455,000, $582,000 and $1,731,000, respectively.
The Company is subject to legal proceedings and claims which arise in the
ordinary course of business, most of which involve claims of medical
malpractice and are generally covered by insurance. In the opinion of
management, the amount of ultimate liability with respect to these matters
will not have a material impact on the Company's consolidated results of
operations, financial position or liquidity.
(10) RELATED PARTY TRANSACTIONS:
Prior to the Merger, Sterling Health Care Group, Inc. provided certain
management services to Sterling Healthcare, Inc. Such amounts which were
included in operating revenue, net, for Sterling Health Care Group, Inc. and
in selling, general and administrative expenses for Sterling Healthcare, Inc.
were $810,000 and $695,000 for the year ended December 31, 1993 and for the
five month period ended May 31, 1994, respectively. In addition, Sterling
Healthcare, Inc. also reimbursed Sterling Health Care Group, Inc. for its
allocated share of the cost of professional liability insurance expense. Such
reimbursements, which were included in operating revenue, net, for Sterling
Health Care Group, Inc. and in medical support services expenses for Sterling
Healthcare, Inc., amounted to $987,000 and $428,000 for the year ended
December 31, 1993 and for the five month period ended May 31, 1994,
respectively.
F-18
<PAGE>
STERLING HEALTHCARE GROUP, INC.
(AND PREDECESSOR ENTITIES)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(11) EMPLOYEE BENEFIT PLAN:
The Company maintains a 401(k) employee benefit plan (the "Plan") for
eligible employees who are twenty-one years of age and have completed one year
of service. The employee contributions are voluntary ranging up to 14% of
salary with no required matching contribution by the Company. The Company did
not make a contribution to the Plan for any of the periods presented.
(12) INCOME TAXES:
Effective on the Merger Date, Sterling terminated its S Corporation status.
Prior to such time, Sterling and its shareholders had elected to be treated as
S corporations. As such, Sterling's taxable income was included in the
individual returns of its shareholders for Federal and State income tax
purposes. The accompanying statements of operations for the five month period
ended May 31, 1994 include a one time nonrecurring charge of $2.4 million
($1.8 million for Sterling Health Care Group, Inc. and $559,000 for Sterling
Healthcare, Inc.) as a result Sterling's termination of S corporation status
and the adoption of Financial Accounting Standards Board Statement No. 109,
"Accounting for Income Taxes." Such provision consists of the effects of
requiring certain C corporations to report taxable income on the accrual basis
as contrasted to the cash basis of reporting taxable income previously elected
by Sterling, offset by future deductible amounts relating principally to the
Sterling's allowance for doubtful accounts and accrued liability for
professional liability claims. The liability for the conversion to the accrual
method of reporting taxable income is payable over four years.
Net income as presented for Sterling prior to the Merger, does not include a
provision for income taxes for the periods prior to the Merger Date.
Accordingly, for informational purposes, unaudited pro forma information
reflects the incremental tax expense that Sterling would have incurred had it
been subject to Federal and State income taxes for all periods presented.
The following reflects the actual income tax expense of Sterling for the
period from January 1, 1994 to May 31, 1994, as discussed above, and of the
Company for the period from June 1, 1994 to December 31, 1994 and for the year
ended December 31, 1995.
<TABLE>
<CAPTION>
FOR THE PERIOD FOR THE PERIOD FOR THE YEAR
JANUARY 1, 1994 JUNE 1, 1994 TO ENDED
TO MAY 31, 1994 DECEMBER 31, 1994 DECEMBER 31, 1995
----------------------- ----------------- -----------------
STERLING STERLING STERLING STERLING
HEALTH CARE HEALTHCARE HEALTHCARE HEALTHCARE
GROUP, INC. INC. GROUP, INC. GROUP, INC.
----------- ---------- ----------------- -----------------
<S> <C> <C> <C> <C>
Current:
Federal............... $2,137,104 $845,112 $ 974,870 $2,190,978
State................. 365,829 117,124 171,936 326,405
---------- -------- --------- ----------
2,502,933 962,236 1,146,806 2,517,383
---------- -------- --------- ----------
Deferred:
Federal............... (566,796) (318,276) (240,044) (497,501)
State................. (97,024) (84,570) (39,921) (108,150)
---------- -------- --------- ----------
(663,820) (402,846) (279,965) (605,651)
---------- -------- --------- ----------
Total income tax
provision.......... $1,839,113 $559,390 $ 866,841 $1,911,732
========== ======== ========= ==========
</TABLE>
F-19
<PAGE>
STERLING HEALTHCARE GROUP, INC.
(AND PREDECESSOR ENTITIES)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(12) INCOME TAXES, CONTINUED
The following table summarizes the differences between the Company's
effective tax rate for financial statement purposes and the Federal statutory
rate for the period from June 1, 1994 to December 31, 1994 and for the year
ended December 31, 1995.
<TABLE>
<CAPTION>
FOR THE PERIOD FOR THE YEAR
JUNE 1, 1994 TO ENDED
DECEMBER 31, 1994 DECEMBER 31, 1995
----------------- -----------------
<S> <C> <C>
Federal statutory rate................. 35.0 % 35.0 %
Federal sutax exemption................ (1.0)% (1.0)%
State taxes, net of federal income tax
benefit............................... 3.9 % 3.1 %
Other.................................. 0.3 % 3.4 %
---- ----
Effective tax rate..................... 38.2 % 40.5 %
==== ====
</TABLE>
The tax effects of temporary differences that give rise to deferred tax
assets and deferred tax liabilities recorded on the balance sheet at December
31, 1994 and 1995 are as follows:
<TABLE>
<CAPTION>
DECEMBER 31, 1994 DECEMBER 31, 1995
----------------- -----------------
<S> <C> <C>
DEFERRED TAX ASSETS:
Allowance for uncollectible
accounts............................ $1,123,154 $2,307,580
Accrued liability for professional
liability claims.................... 362,308 321,256
Other................................ 14,593 27,038
---------- ----------
Deferred tax assets.................. 1,500,055 2,655,874
---------- ----------
DEFERRED TAX LIABILITIES:
Depreciation and amortization........ (106,458) (656,625)
---------- ----------
Deferred tax liabilities............. (106,458) (656,625)
---------- ----------
Net deferred tax assets.............. $1,393,597 $1,999,249
========== ==========
</TABLE>
No valuation allowance was deemed necessary as a result of management's
evaluation of the likelihood that all of the deferred tax assets will be
realized.
(13) STOCK OPTIONS, STOCK COMPENSATION AND WARRANTS:
In January 1994, the Company adopted an incentive stock option and non-
qualified stock option plan (the "Option Plan"). The Option Plan provides for
the granting of up to a maximum of 450,000 shares of Common Stock by January
10, 2004. Under the Option Plan, options may be granted at not less than the
fair market value of the stock on the date of the grant. The term of each
option may not exceed ten years. The option price may be paid in cash or
shares of the Company's Common Stock.
On the Merger Date, certain key officers and employees of the Company were
awarded 369,000 stock options outside the Option Plan at an exercise price of
$12.00 per share. The options vest 9 1/2 years after the date of the award or
earlier if certain performance targets are met. Unearned compensation was
recorded at the measurement date based upon the market value of shares.
Unearned compensation, which is shown as a separate component of stockholders'
equity, is being amortized to expense over the 9 1/2 year vesting period. The
amounts amortized to expense for the seven month period ended December 31,
1994 and for the year ended December 31, 1995 were $22,658 and $38,076,
respectively. During 1995, 25,000 of these options were canceled, resulting in
a reduction in the unamortized deferred compensation of $25,000.
F-20
<PAGE>
STERLING HEALTHCARE GROUP, INC.
(AND PREDECESSOR ENTITIES)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(13) STOCK OPTIONS, STOCK COMPENSATION AND WARRANTS, CONTINUED
During 1994 and 1995, the Company granted additional stock options outside
the Option Plan. The options vest over periods of one to four years.
The following table reflects option activity for the years ended December
31, 1994 and 1995:
<TABLE>
<CAPTION>
OPTION ACTIVITY
UNDER OPTION PLAN
---------------------
1994 1995
------- -------------
<S> <C> <C>
Options outstanding at beginning of year............. 0 52,950
Granted............................................ 52,950 127,300
Exercised.......................................... 0 (1,000)
Canceled........................................... 0 (18,850)
------- -------------
Options outstanding at end of year................... 52,950 160,400
------- -------------
Options exercisable at end of year................... 25,975 44,600
------- -------------
Price range of options outstanding at end of year.... $12.00 $12.00-$14.50
------- -------------
Options available for future grants at end of year... 397,050 288,600
======= =============
<CAPTION>
OPTION ACTIVITY
OUTSIDE OPTION PLAN
---------------------
1994 1995
------- -------------
<S> <C> <C>
Options outstanding at beginning of year............. 0 595,500
Granted............................................ 595,500 775,000
Canceled........................................... 0 (35,000)
------- -------------
Options outstanding at end of year................... 595,500 1,335,500
------- -------------
Options exercisable at end of year................... 98,167 437,333
------- -------------
Price range of options outstanding at end of year.... $12.00 $9.97-$13.75
======= =============
</TABLE>
In December 1992, in connection with FHH's initial public offering, warrants
to purchase up to 117,550 shares were issued to the underwriter. The warrants
are exercisable at $7.20 per share for a period of four years commencing on
December 31, 1993. As of December 31, 1994, none of these warrants had been
exercised. As of December 31, 1995, 20,000 of these warrants had been
exercised.
(14) DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS
The following methods and assumptions were used to estimate the fair value
of each class of financial instruments for which it is practical to estimate
that value:
The carrying amount of cash and cash equivalents approximates fair value
because of the short maturities of those instruments.
The carrying amount of debt outstanding under the revolving credit facility
approximates fair market value because the interest rate is variable, based
upon prime or LIBOR.
The fair value of the Company's notes payable at December 31, 1995 is
estimated based upon the rates applicable to the revolving credit facility as
follows:
<TABLE>
<CAPTION>
CARRYING FAIR
VALUE VALUE
---------- ----------
<S> <C> <C>
Notes payable.......................................... $2,839,656 $2,799,244
</TABLE>
F-21
<PAGE>
STERLING HEALTHCARE GROUP, INC.
(AND PREDECESSOR ENTITIES)
SCHEDULE II
VALUATION AND QUALIFYING ACCOUNTS
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31, 1993
------------------------------
STERLING STERLING
HEALTH CARE HEALTHCARE,
GROUP, INC. INC.
-------------- --------------
<S> <C> <C>
Allowance for contractual adjustments and
uncollectibles:
Balance at beginning of year.............. $ 8,985,056 $ 2,778,602
Provision charged against operating
revenue.................................. 35,584,677 11,146,895
Accounts receivable written-off (net of
recoveries).............................. (30,218,544) (9,660,822)
-------------- -------------
Balance at end of year..................... $ 14,351,189 $ 4,264,675
============== =============
</TABLE>
<TABLE>
<CAPTION>
FOR THE PERIOD FOR THE PERIOD
JANUARY 1, 1994 JUNE 1, 1994 TO FOR THE YEAR ENDED
TO MAY 31, 1994 DECEMBER 31, 1994 DECEMBER 31, 1995
------------------------- ----------------- ------------------
STERLING STERLING STERLING STERLING
HEALTH CARE HEALTHCARE, HEALTHCARE HEALTHCARE
GROUP, INC. INC. GROUP, INC. GROUP, INC.
------------ ----------- ----------------- ------------------
<S> <C> <C> <C> <C>
Allowance for
contractual adjustments
and uncollectibles:
Balance at beginning of
period................ $ 14,351,189 $ 4,264,675 $ 24,378,389 $ 25,435,122
Provision charged
against operating
revenue............... 18,991,541 6,834,351 38,074,737 109,744,395
Accounts receivable
written-off (net of
recoveries)........... (14,875,620) (5,187,747) (37,018,004) (88,510,073)
------------ ----------- ------------ ------------
Balance at end of
period................. $ 18,467,110 $ 5,911,279 $ 25,435,122 $ 46,669,444
============ =========== ============ ============
</TABLE>
F-22
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<RESTATED>
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1995
<PERIOD-START> JAN-01-1995
<PERIOD-END> DEC-31-1995
<CASH> 2,071,173
<SECURITIES> 0
<RECEIVABLES> 29,858,846
<ALLOWANCES> 46,669,444
<INVENTORY> 0
<CURRENT-ASSETS> 38,567,389
<PP&E> 3,266,899
<DEPRECIATION> 2,034,305
<TOTAL-ASSETS> 78,608,252
<CURRENT-LIABILITIES> 14,119,368
<BONDS> 0
0
0
<COMMON> 785
<OTHER-SE> 49,132,489
<TOTAL-LIABILITY-AND-EQUITY> 78,608,252
<SALES> 115,659,527
<TOTAL-REVENUES> 115,659,527
<CGS> 109,157,921
<TOTAL-COSTS> 109,157,921
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 1,823,695
<INCOME-PRETAX> 4,743,235
<INCOME-TAX> 1,911,732
<INCOME-CONTINUING> 2,831,503
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 2,831,503
<EPS-PRIMARY> .45
<EPS-DILUTED> .45
</TABLE>
