<PAGE> 1
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 8-K
CURRENT REPORT
PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
Date of Report (Date of earliest event reported): December 9, 1997
FPA MEDICAL MANAGEMENT, INC.
(Exact name of registrant as specified in its charter)
Delaware 0-24276 33-0604264
(State of other jurisdiction (Commission (IRS Employer
of incorporation) File Number) Identification No.)
3636 Nobel Drive
Suite 200
San Diego, California 92122
(Address of principal executive offices) (Zip Code)
(619) 453-1000
(Registrant's telephone number, including area code)
Not Applicable
(Former name or former address, if changed since last report)
<PAGE> 2
Item 5. Other Events.
In connection with the following business combinations between FPA
Medical Management, Inc. (the "Registrant") and HealthCap, Inc. ("HealthCap"),
effective June 30, 1997, between the Registrant and Axminster Medical Group,
Inc. ("Axminster"), effective September 30, 1997, and between the Registrant and
Health Partners, Inc. ("Health Partners"), effective October 13, 1997, all of
which were accounted for as poolings of interests, the Registrant has restated
its financial statements for all periods prior to the effective dates of such
mergers to include the results of Health Cap, Axminster, and Health Partners.
Information concerning the Registrant's Common Stock and per share data has been
restated on an equivalent share basis.
The following information is included as exhibits to this Form 8-K:
(i) Management's Discussion and Analysis of Financial Condition and
Results of Operations;
(ii) FPA Medical Management, Inc. and Subsidiaries Supplemental
Consolidated Balance Sheets as of December 31, 1995 and 1996 and as of
September 30, 1997 (unaudited);
(iii) FPA Medical Management, Inc. and Subsidiaries Supplemental
Consolidated Statements of Operations for the years ended December 31,
1994, 1995 and 1996 and for the nine months ended September 30, 1996 and
1997 (unaudited);
(iv) FPA Medical Management, Inc. and Subsidiaries Supplemental
Consolidated Statements of Stockholders' Equity for the years ended
December 31, 1994, 1995 and 1996 and for the nine months ended September
30, 1997 (unaudited);
(v) FPA Medical Management, Inc. and Subsidiaries Supplemental
Consolidated Statements of Cash Flows for the years ended December 31,
1994, 1995 and 1996 and for the nine months ended September 30, 1996 and
1997 (unaudited); and
(vi) FPA Medical Management, Inc. and Subsidiaries Notes to Supplemental
Consolidated Financial Statements for the years ended December 31, 1994,
1995 and 1996 and for the nine months ended September 30, 1996 and 1997
(unaudited).
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MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
GENERAL
FPA Medical Management, Inc., its subsidiaries and affiliated
professional corporations (the "Professional Corporations") (the "Company")
derive substantially all of their operating revenue from (i) the payments made
by health maintenance organizations and other prepaid health insurance plans
(collectively, "Payors") to the Professional Corporations and certain of the
Company's subsidiaries for managed care medical services, (ii) fee-for-service
revenues for the Company's medical centers in the managed care business and
(iii) fee-for-service revenues from emergency department medical services. On
March 17, 1997, FPA acquired AHI Healthcare Systems, Inc. ("AHI") in a
stock-for-stock merger (the "AHI Merger") accounted for as a pooling of
interests in which 5,797,968 shares of FPA common stock were issued in exchange
for all of the outstanding shares of AHI. On June 30, 1997, FPA acquired
HealthCap in a stock-for-stock merger accounted for as a pooling of interests in
which 2,300,000 shares of FPA common stock were issued in exchange for all of
the outstanding shares of HealthCap (including shares covered by HealthCap
vested options and outstanding warrants at the effective date of the merger). In
addition, FPA assumed certain outstanding HealthCap options. On September 2,
1997, FPA acquired Emergency Medical Care Incorporated ("EMC") for cash and
shares of FPA common stock, subject to adjustment based on certain performance
criteria. The acquisition was accounted for as a purchase. On September 30,
1997, FPA acquired Axminster in a stock-for-stock merger accounted for as a
pooling of interests in which shares of FPA common stock were issued in exchange
for all the outstanding shares of Axminster. On October 13, 1997, FPA acquired
Health Partners, Inc. ("Health Partners") in a stock-for-stock merger accounted
for as a pooling of interests in which 5,227,273 shares of FPA common stock were
issued in exchange for all outstanding capital stock of Health Partners and all
outstanding options to purchase Health Partners common stock. Accordingly, the
following financial information includes the results of AHI, HealthCap,
Axminster, and Health Partners for all periods presented.
MANAGED CARE BUSINESS
The Company has two types of Payor contracts: contracts for both
inpatient and outpatient services ("global capitation" contracts) and those
limited to outpatient services or professional medical services ("outpatient
capitation" contracts). Under global capitation contracts, the Company receives
a fixed monthly amount per enrollee for which the Company is financially
responsible to provide the enrollees with all necessary inpatient and outpatient
care. Under outpatient capitation contracts, the Company receives a fixed
monthly amount per enrollee for which the Company is financially responsible to
provide the enrollees with all necessary outpatient care. Additionally, under
these outpatient capitation contracts, the Company is a party to shared risk
arrangements with Payors which generally reward the Company for the efficient
utilization of hospital inpatient services. Under these shared risk
arrangements, the Company shares any surplus or, in some cases, deficit, of
amounts pre-established by the Payor in relation to inpatient expense. Revenue
under global capitation contracts represented 20.4% of managed care business
operating revenue for 1996. The Company received no global capitation revenue in
1995 and 1994. Revenue under outpatient capitation contracts represented 88.3%,
89.0% and 66.2% for 1994, 1995 and 1996, respectively, of managed care business
operating revenue.
The Company also generates fee-for-service revenue for the performance
of medical services through the Professional Corporations and certain of the
Company's subsidiaries. These revenues are presented net of contractual
deductions and represented 2.4%, 4.1% and 8.1% for the years ended December 31,
1994, 1995 and 1996, respectively, of managed care business operating revenue.
The increase in fee-for-service revenue is primarily a result of the Company's
recent acquisitions, as these companies have historically had greater fee-for
service revenue than the Company. This trend is not expected to continue as (i)
the Company renegotiates contracts with existing Payors to move from
fee-for-service to capitation and (ii) the Company enters into new Payor
contracts on a capitated basis.
Through the Professional Corporations and its subsidiaries, the Company
contracts with various healthcare providers to provide primary care and
specialty medical services to covered enrollees. Primary care physicians are
compensated on either a salary or capitation basis. Specialty care physician
services are compensated on either a discounted fee-for-service or capitation
basis.
EMERGENCY DEPARTMENT BUSINESS
Through the emergency department business, the Company provides contract
management and support services primarily to emergency departments. As of
December 31, 1996, the Company provided physician practice management services
on a contract basis to 101 emergency departments, one anesthesia department,
four correctional health care facilities and two rural health urgent care
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clinic located in 20 states. The Company contracts with approximately 1,000
affiliated physicians who provide certain medical services to approximately 1.4
million patients annually.
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, depending on the hospital's patient volume and
Payor mix, involve the payment of a subsidy to the Company by the hospital. In
1994, 1995 and 1996, 94.0%, 84.4% and 84.6% respectively, of the Company's
emergency department operating revenue was earned on a fee-for-service basis.
The Company emphasizes fee-for-service contracts in its marketing activities
with hospital emergency departments.
Medical services expense for the emergency department business consists
primarily of payments made to independent contractor and employee physicians
("Physician Costs") and, to a lesser extent, the costs of medical supplies and
malpractice insurance and laboratory fees. During the years ended December 31,
1994, 1995 and 1996, Physician Costs accounted for 95.1%, 91.8% and 92.1%,
respectively, of emergency department medical services expense.
OPERATIONAL DEVELOPMENT
The future growth of FPA is largely dependent on a continued increase in
the number of new enrollees in the FPA network. This growth may come from (i)
affiliations with, or acquisitions of, individual or group physician practices
serving enrollees of Payors in the FPA network or of new Payors, (ii) increased
membership in plans of Payors with which the Professional Corporations and
certain subsidiaries have contracts and whose members are patients of physicians
in the FPA network or (iii) agreements with Payors, physicians and hospitals in
other geographic markets. The process of identifying and consummating suitable
acquisitions of, or affiliations with, physician groups can be lengthy and
complex. The environment for such acquisitions and affiliations is subject to
increasing competitive pressures. There can be no assurance that FPA will be
successful in identifying, acquiring or affiliating with additional physician
groups or hospitals or that the Company will be able to contract with new Payors
and emergency departments. In addition, there can be no assurance that the
Company's acquisitions will be successfully integrated on a timely basis or that
the anticipated benefits of these acquisitions will be realized. Failure to
effectively accomplish the integration of acquired companies may have a material
adverse effect on FPA's results of operations and financial condition. FPA's
ability to expand is also dependent upon its ability to comply with legal and
regulatory requirements in the jurisdictions in which it operates or will
operate and to obtain necessary regulatory approvals, certificates and licenses.
In October 1997, the Company completed its merger with Health Partners,
which serviced approximately 138,000 enrollees. In September 1997, the Company
acquired Axminster, which serviced approximately 17,000 enrollees, and EMC,
which is a physician practice management company ("PPM") engaged in the business
of providing contract management and support services primarily to
hospital-based emergency departments. In June 1997, the Company completed its
merger with HealthCap, which serviced approximately 85,000 enrollees. In March
1997, the Company completed its merger with AHI, which serviced approximately
210,000 enrollees. Effective in December 1996, the Company and certain
Professional Corporations acquired two medical groups, one each in California
and Arizona, providing services to approximately 63,000 and 157,000 enrollees,
respectively. In October 1996, the Company acquired Sterling Healthcare Group,
Inc. ("Sterling"), which was affiliated with approximately 1,000 affiliated
physicians and provided PPM services on a contract basis to 101 hospital-based
emergency departments. In July 1996, the Company acquired two independent
practice associations, one each in Arizona and Florida, providing services to
approximately 14,000 and 4,000 enrollees, respectively. In June 1996, the
Company acquired Physicians First, Inc., operating 40 medical clinics in
Florida, through which 110 primary care physicians provided services to
approximately 80,000 enrollees. In January 1996, the Company acquired three
independent practice associations in the Los Angeles, Ventura and Sacramento
regions of California, which serviced approximately 76,000 enrollees and
included 570 primary care physicians.
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The table below sets forth an approximate number of enrollees and
primary care physicians (including emergency department physicians) and the
number of emergency business contracts (including seven radiology, urgent care
and correctional facility contracts) by state at September 30, 1997.
<TABLE>
<CAPTION>
NUMBER OF EMERGENCY
PRIMARY CARE DEPARTMENT
ENROLLEES PHYSICIANS CONTRACTS
--------- ------------ ----------
<S> <C> <C> <C>
Alabama -- 130 6
Arizona 187,000 430 2
California 314,900 1,570 --
Delaware 11,700 90 --
Florida 126,300 290 11
Georgia 32,100 120 5
Kentucky 12,000 90 4
Louisiana 900 180 17
Michigan 39,500 500 11
Mississippi -- 120 8
Missouri 15,000 150 12
Nevada 43,200 190 --
New Jersey 33,800 920 --
New York 97,200 450 2
North Carolina 10,900 190 11
Pennsylvania -- 360 1
South Carolina 6,000 180 2
Tennessee -- 100 8
Texas 125,800 780 12
Washington, D.C. 13,800 10 0
Virginia 17,200 40 1
Others -- 330 26
--------- ----- ---
Total 1,087,300 7,220 139
========= ===== ===
</TABLE>
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<PAGE> 6
RESULTS OF OPERATIONS
The following table sets forth for the years ended December 31, 1994, 1995
and 1996 selected financial data and selected financial data expressed as a
percentage of operating revenue.
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
-----------------------------------------------------------------------------------------------------
1994 1995
------------------------------------------------ ------------------------------------------------
MANAGED EMERGENCY MANAGED EMERGENCY
CARE DEPARTMENT CARE DEPARTMENT
BUSINESS BUSINESS TOTAL BUSINESS BUSINESS TOTAL
------------- ------------- ------------- ------------- ------------- -------------
<S> <C> <C> <C> <C> <C> <C>
Operating revenue $ 97,177,942 $ 39,255,573 $ 136,433,515 $ 224,961,709 $ 115,659,527 $ 340,621,236
Medical services
expense 64,819,570 27,723,675 92,543,245 159,903,746 75,985,634 235,889,380
General and
administrative
expenses (1) 36,364,260 9,183,231 45,547,491 77,398,320 33,172,287 110,570,607
------------- ------------- ------------- ------------- ------------- -------------
Income (loss)
from operations (4,005,888) 2,348,667 (1,657,221) (12,340,357) 6,501,606 (5,838,751)
Other (income)
expense (2) (841,573) 80,301 (761,272) (968,581) 1,758,371 789,790
------------- ------------- ------------- ------------- ------------- -------------
Income (loss)
before tax (3,164,315) 2,268,366 (895,949) (11,371,776) 4,743,235 (6,628,541)
Income tax expense
(benefit) 840,184 866,841 1,707,025 (232,412) 1,911,732 1,679,320
------------- ------------- ------------- ------------- ------------- -------------
Net income (loss) $ (4,004,499) $ 1,401,525 $ (2,602,974) $ (11,139,364) $ 2,831,503 $ (8,307,861)
============= ============= ============= ============= ============= =============
</TABLE>
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31, 1996
-----------------------------------------------
MANAGED EMERGENCY
CARE DEPARTMENT
BUSINESS BUSINESS TOTAL
------------- ------------- -------------
<S> <C> <C> <C>
Operating revenue $ 540,713,737 $ 136,760,770 $ 677,474,507
Medical services
expense 420,876,297 94,249,976 515,126,273
General and
administrative
expenses (1) 192,336,510 48,664,736 241,001,246
------------- ------------- -------------
Income (loss)
from operations (72,499,070) (6,153,942) (78,653,012)
Other (income)
expense (2) 2,508,732 853,631 3,362,363
------------- ------------- -------------
Income (loss)
before tax (75,007,802) (7,007,573) (82,015,375)
Income tax expense
(benefit) 1,265,000 -- 1,265,000
------------- ------------- -------------
Net income (loss) $ (76,272,802) $ (7,007,573) $ (83,280,375)
============= ============= =============
</TABLE>
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
1994 1995
------------------------- --------------------------
MANAGED EMERGENCY MANAGED EMERGENCY
CARE DEPARTMENT CARE DEPARTMENT
BUSINESS BUSINESS TOTAL BUSINESS BUSINESS TOTAL
-------- ---------- ----- -------- ---------- -----
<S> <C> <C> <C> <C> <C> <C>
Operating revenue 100.0% 100.0% 100.0% 100.0% 100.0% 100.0%
Medical services
expense 66.7% 70.6% 67.8% 71.1% 65.7% 69.2%
General and
administrative
expenses (1) 37.4% 23.4% 33.4% 34.4% 28.7% 32.5%
----- ----- ----- ----- ----- -----
Income (loss) from
operations (4.1)% 6.0% (1.2)% (5.5)% 5.6% (1.7)%
Other (income)
expense (2) (0.9)% 0.2% (0.6)% (0.4)% 1.5% 0.2%
----- ----- ----- ----- ----- -----
Income (loss)
before tax (3.2)% 5.8% (0.6)% (5.1)% 4.1% (1.9)%
Income tax expense
(benefit) 0.9% 2.2% 1.3% (0.1)% 1.7% 0.5%
----- ----- ----- ----- ----- -----
Net income
(loss) (4.1)% 3.6% (1.9)% (5.0)% 2.4% (2.4)%
===== ===== ===== ===== ===== =====
</TABLE>
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<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31, 1996
------------------------------------
MANAGED EMERGENCY
CARE DEPARTMENT
BUSINESS BUSINESS TOTAL
-------- ---------- -----
<S> <C> <C> <C>
Operating revenue 100.0% 100.0% 100.0%
Medical services expense 77.8% 68.9% 76.0%
General and administrative
expenses (1) 35.6% 35.6% 35.6%
----- ----- -----
Income (loss)
from operations (13.4)% (4.5)% (11.6)%
Other (income)
expense (2) 0.5% 0.6% 0.5%
----- ----- -----
Income (loss)
before tax (13.9)% (5.1)% (12.1)%
Income tax expense
(benefit) 0.2% 0.0% 0.2%
----- ----- -----
Net income (Loss) (14.1)% (5.1)% (12.3)%
===== ===== =====
</TABLE>
- ------------
(1) Includes nonrecurring charges of $1.6 and $52.6 million in 1995 and 1996,
respectively. Excluding these nonrecurring charges, general and
administrative expense was 32.0% and 27.8% of operating revenue in 1995 and
1996, respectively, and loss from operations was 1.3% and 3.9% of
operating revenue in 1995 and 1996, respectively.
(2) Includes minority interests' share of net losses of $367,000, $683,000 and
$866,000 for the years ended December 31, 1994, 1995 and 1996, respectively.
MANAGED CARE BUSINESS
YEARS ENDED DECEMBER 31, 1994, 1995 AND 1996
Operating Revenue -- The Company's managed care business operating revenue
increased to $540.7 million in 1996 from $225.0 million in 1995 and $97.2
million in 1994. The revenue increase resulted primarily from a substantial
increase in average enrollment from year to year. The year to year increases
resulted primarily from the addition of enrollees as a result of acquisitions
and secondarily from internal growth. In 1996, the Company generated
fee-for-service revenue, net of contractual deductions, of $43.7 million
compared to 1995 fee-for-service revenue, net of contractual deductions, of $8.8
million and $2.4 million fee-for-service revenue, net of contractual deductions,
in 1994. The increase in fee-for-service revenue is primarily a result of the
Company's recent acquisitions, as these companies have historically had greater
fee-for-service revenue than the Company. This trend is not expected to continue
as (i) the Company renegotiates contracts with existing payors to move from
fee-for-service to capitation and (ii) the Company enters into new Payor
contracts on a capitated basis.
Medical Services Expense -- Medical services expense for 1996 was $420.9
million or 77.8% of managed care business operating revenue as compared to
$159.9 million or 71.1% of such operating revenue in 1995 and $64.8 million or
66.7% of such operating revenue in 1994. The increase in medical services
expense as a percent of such operating revenue from 1995 to 1996 resulted from
(i) the reduction in revenue relating to certain of AHI's risk sharing
arrangements as well as increases in AHI medical costs due to a revision of
AHI's claims reserves, (ii) significantly increased membership in the
Mid-Atlantic and Florida regions under global capitation contracts which
initially experience a higher medical loss ratio than outpatient capitation
contracts and (iii) increases in medical costs generally in the managed care
environment. The increase in medical services expense as a percentage of such
operating revenue from 1994 to 1995 resulted directly from AHI's increase in
medical costs associated with it's increased membership, offset in part by
higher revenue base per member per month as a result of increased shared risk
earnings and increased capitation of specialists which limited costs for the
specialty services provided.
General and Administrative Expense -- General and administrative expense
including nonrecurring charges for 1996 was $192.3 million or 35.6% of managed
care business operating revenue as compared to $77.4 million or 34.4% of such
operating revenue in 1995 and $36.4 million or 37.4% of such operating revenue
in 1994. Excluding the effect of nonrecurring charges recognized in 1996,
general and administrative expense as a percentage of such operating revenue
would have decreased to approximately 29.1% for 1996. In 1995, the Company hired
additional staff and other personnel in new regions prior to the addition of a
significant number of enrollees and incurred the costs of acquiring physician
practices and building the infrastructure to service its enhanced operations.
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The Company has also made significant investments in information systems, and
has expanded this technology to the majority of its regions.
Merger, Restructuring and Other Unusual Charges -- Included in the discussion
of General and Administrative Expense above, during 1996, the managed care
business of the Company incurred approximately $34.9 million in nonrecurring
charges. Approximately $21.2 million resulted from write-offs of goodwill and
other assets related to unprofitable operations. The goodwill write-offs were
comprised of (i) $4.1 million associated with an Arizona acquisition which has
continued to recognize losses since its acquisition in June 1995 and (ii) $14.6
million related to certain acquisitions made by former AHI entities in 1994 and
1995 which recognized significant losses in 1996 which gave rise to the
determination that the goodwill balances were impaired. Approximately $13.7
million related to legal fees, accounting fees, investment bankers' fees and
other merger related costs.
Income (Loss) from Operations -- In 1996, the managed care business of the
Company generated a loss from operations of $72.5 million including the
nonrecurring charges. Excluding such nonrecurring charges, 1996 loss from
operations was $37.6 million as compared to loss from operations of $12.3
million in 1995, and loss from operations of $4.0 million in 1994. The
significant increase in loss from operations from 1995 to 1996 was attributable
primarily to historical losses of acquired companies and recent losses of the
AHI business as described above.
EMERGENCY DEPARTMENT BUSINESS
YEARS ENDED DECEMBER 31, 1994, 1995 AND 1996
The 1994 consolidated financial statements include the activities of the
emergency department business from June 1, 1994 (date of inception) to December
31, 1994.
Operating Revenue -- Emergency department business operating revenue consists
of gross patient revenue, net of contractual deductions and estimated
uncollectible accounts, plus other revenue, which consists principally of
hospital subsidy payments, flat-rate hospital contract revenue and non-patient
generated revenues. Operating revenue increased to $136.8 million in 1996 from
$115.7 million in 1995 and $39.3 million in 1994. On a percentage basis,
emergency department business operating revenue grew 195% in 1995 and 18.2% in
1996. The increases were primarily attributable to the increases in the number
of the Company's emergency department contracts from 61 in 1994 and 89 in 1995
to 104 in 1996.
Medical Services Expense -- Medical services expense increased to $94.2
million 1996 from $76.0 million in 1995 and $27.7 million in 1994 due primarily
to the increase in the number of healthcare professionals under contract,
resulting from the increase in the number of the Company's emergency department
contracts, as well as negotiated increases in fees paid to certain healthcare
professionals. Medical services expense as a percentage of operating revenue was
68.9% in 1996, 65.7% in 1995 and 70.6% in 1994.
General and Administrative Expense -- General and administrative expense
including nonrecurring charges was $48.7 million in 1996, $33.2 million in 1995
and $9.2 million in 1994. Excluding the effect of nonrecurring charges in 1996,
general and administrative expense would have been $31.0 million. During 1995,
the emergency department business increased the number of its regional offices
as well as the number of administrative employees to accommodate the increase in
emergency department contracts. In 1996, the Company, through cost cutting
measures, including the closing of one of its regional offices as well as the
down-sizing of another, reduced this expense. As a percentage of revenue,
general and administrative expense was 35.6% in 1996 including non-recurring
charges or 22.6% excluding non-recurring charges, 28.7% in 1995 and 23.4% in
1994.
Merger, Restructuring and Other Unusual Charges -- Included in the discussion
of General and Administrative Expense above, during 1996, the Company incurred
approximately $17.7 million in non-recurring adjustments and restructuring
charges. Approximately $12.3 million resulted from write-offs of the value
assigned to certain emergency room contracts acquired in connection with
acquisitions as those emergency room contracts were terminated subsequent to
their acquisition. Approximately $5.4 million related to legal fees, accounting
fees, investment bankers' fees and other costs associated with the Sterling
merger.
Income (Loss) from Operations -- In 1996, the emergency department business
of the Company generated a loss from operations of $6.2 million, including
nonrecurring charges. Excluding such charges, income from operations would have
been $11.5 million as compared to $6.5 million in 1995 and $2.3 million in 1994.
8
<PAGE> 9
LIQUIDITY AND CAPITAL RESOURCES
The Company requires capital primarily to develop physician networks, acquire
physician practices and establish an infrastructure in new regions. Capitation
arrangements positively impact cash flow because FPA generally receives
capitation revenue prior to paying costs associated with services provided under
those agreements. However, shared risk arrangements negatively impact cash flow
because settlements in connection with these arrangements are typically not
collected until significantly after the end of the period in which they were
accrued. Fee-for-service revenues also negatively impact cash flow because
payment for services rendered is generally not collected until 90 to 120 days
after service is provided.
At December 31, 1996, the Company had cash, cash equivalents and marketable
securities of $64.1 million and a working capital deficit (current liabilities
in excess of current assets) of $47.3 million compared to cash, cash equivalents
and marketable securities of $49.8 million and working capital of $39.8 million
at December 31, 1995. The increase in cash, cash equivalents and marketable
securities of $14.3 million resulted primarily from (i) $60.0 million borrowed
under arrangements with financial institutions, (ii) net proceeds of $73.0
million from the Company's issuance of convertible subordinated notes, and (iii)
$10.6 million received from the exercise of stock options and warrants,
partially offset by (a) approximately $18.7 million of cash payments in
connection with acquisitions, (b) approximately $16.0 million for the
acquisition of property and equipment, (c) approximately $13.3 million used to
purchase intangible assets, (d) approximately $3.0 million invested in
HealthCor (formerly Great Lakes Health Plan, Inc.), and (e) approximately $73.8
million in payments on long-term debt. At December 31, 1996 approximately 37.6%
of the Company's current liabilities consisted of amounts accrued as payable to
specialty care physicians, ancillary providers, hospital and other providers of
medical services. These accrued liabilities include claims received by the
Company which have not yet been paid as well as an estimate of costs for covered
medical benefits incurred by enrollees but not yet reported by providers. These
amounts are not due and payable until after the provider has presented a claim
and are typically paid within 45 business days of receipt of such claims. The
increase in claims payable, including incurred but not reported claims, from
approximately $30.6 million at December 31, 1995 to $104.3 million at December
31, 1996 resulted primarily from significantly increased membership and the fact
that much of the new membership is under global capitation contracts (which
includes hospital services), which resulted in more claims payable per enrollee.
During 1996, the Company entered into a $55.0 million credit, security,
guarantee and pledge agreement (the "1996 Credit Agreement") with four financial
institutions. Permitted Borrowings, as defined in the 1996 Credit Agreement,
generally include acquisitions and capital expenditures. Borrowings under this
agreement bear interest at either LIBOR plus 2-1/2%, 2-3/4% or 3%, or prime rate
plus 1%, 1-1/4% or 1-1/2%, as defined in the 1996 Credit Agreement. At December
31, 1996, the Company had borrowed the maximum of $55.0 million under the 1996
Credit Agreement. At June 30, 1997, this agreement was paid in full in
conjunction with the entering into of the 1996 Credit Agreement.
In December 1996, the Company issued $75.0 million of convertible
subordinated debentures, which resulted in net proceeds to the Company of
approximately $73.0 million. The notes bear interest at 6-1/2%, payable
semiannually, and are convertible into shares of the Company's stock at $25.95
per share. The debentures are redeemable by the Company after December 20, 1999.
Upon the occurrence of a Repurchase Event, as defined in the debentures, each
holder has the right to require repayment of the debentures at 100% of the
principal amount plus accrued interest. In January, 1997, the underwriters
exercised their overallotment option and purchased an additional $5.5 million of
the debentures with identical terms.
The increase in long-term debt from $37.0 million at December 31, 1995 to
$263.0 million at December 31, 1996 resulted primarily from approximately $60.0
million in borrowings under arrangements with financial institutions and the
issuance of notes payable and assumption of long-term debt in connection with
acquisitions of physician practice assets of approximately $275.8
On June 30, 1997, the Company entered into a credit agreement for a $175
million three-year revolving line of credit ("Line of Credit") and a $100
million four and one-quarter year term loan ("Term Loan") (collectively, the
"Credit Agreement"). A maximum of $155 million and $30 million of the proceeds
of the Line of Credit can be used to refinance debt and to secure the Company's
capitation deposits, respectively. The remaining proceeds of the Line of Credit
can be used for working capital. The proceeds of the Term Loan may be used to
refinance debt. The borrowings bear interest based on the prime rate plus 50-75
basis points or the Interbank Eurodollar rate plus 150-175 basis points, as
defined in the Credit Agreement. The Credit Agreement contains customary terms,
events of default and covenants (including financial covenants) which, among
other things, limit payment of cash dividends, the consummation of certain
acquisitions and the incurrence of additional debt. The obligations of the
Company under the Credit Agreement are secured by the assets of the Company and
the capital stock and assets of its subsidiaries.
9
<PAGE> 10
million net of repayments of acquisition debt of approximately $70.0 million. At
December 31, 1996, long-term debt exceeded stockholders' equity.
The Company believes that its cash on hand and anticipated cash flows from
its operations, including borrowings available under the Credit Agreement will
be sufficient to meet the Company's operating capital needs through 1997. The
Company may obtain additional financing to support planned expansion through an
increase of its credit facilities or through other potential financing
alternatives, including private and public offerings of debt and equity-related
securities. There can be no assurance that the Company will be able to obtain
such an increase to its credit facilities or that it will be able to issue debt
or equity-related securities on terms satisfactory to it. To the extent that
additional financing is not available, the Company may delay certain potential
acquisitions or certain geographic expansion or may seek alternate sources of
financing.
The strategy to expand the FPA network involves the acquisition of individual
and group physician practice assets and related businesses. Such acquisitions
may be consummated using cash, stock, notes or any combination thereof.
Management does not believe that inflation will have a material effect on the
operations of the Company.
10
<PAGE> 11
FPA MEDICAL MANAGEMENT, INC. AND SUBSIDIARIES
SUPPLEMENTAL CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
DECEMBER 31, DECEMBER 31, SEPTEMBER 30,
1995 1996 1997
------------- ------------- -------------
ASSETS (UNAUDITED)
<S> <C> <C> <C>
Current Assets:
Cash and cash equivalents $ 41,552,034 $ 24,128,477 $ 33,449,221
Marketable securities 8,228,788 40,000,000 1,195,990
Accounts receivable -- net of
allowance for uncollectible accounts of
$48,299,677 and $63,500,488 at December 31,
1995 and December 31, 1996, respectively 53,255,040 107,504,250 180,777,334
Accounts receivable -- other 7,591,973 30,777,247 24,881,785
Notes receivable from affiliate 1,237,086 724,822 137,727
Income tax receivable 1,227,949 -- --
Prepaid expenses 3,176,377 8,203,930 6,841,675
Capitation deposit -- 15,409,771 --
Deferred income tax asset 4,769,898 3,478,751 4,658,691
------------- ------------- -------------
Total current assets 121,039,145 230,227,248 251,942,423
Property and equipment - net 21,274,262 56,692,099 52,360,414
Restricted cash and deposits 3,285,000 488,535 500,000
Goodwill and intangible assets -- net of
accumulated amortization
of $5,673,730 and $13,920,284 at
December 31, 1995 and December 31,
1996, respectively 114,669,129 325,599,391 371,957,764
Investment in HealthCor (formerly GLHP) 1,994,900 4,994,900 4,994,900
Deferred income tax asset -- 3,189,665 3,645,742
Other assets 2,242,937 11,415,006 9,279,005
------------- ------------- -------------
Total $ 264,505,373 $ 632,606,844 $ 694,680,248
============= ============= =============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable and accrued expenses $ 30,950,559 $ 70,477,039 $ 73,858,673
Claims payable, including incurred
but not reported claims 30,578,476 104,269,268 121,170,576
Accrued payroll and related
liabilities 1,887,304 10,788,272 11,007,512
Income tax payable 436,775 2,294,159 --
Other liabilities 2,357,356 15,922,562 2,268,000
Borrowings on line of credit 788,325 -- --
Current portion of accrued liability
for professional liability claims 610,000 1,297,790 1,534,000
Long-term debt, current portion 13,650,635 72,514,667 11,665,970
------------- ------------- -------------
Total current liabilities 81,259,430 277,563,757 221,504,731
Long-term debt, net of current portion 13,348,552 190,454,219 278,746,175
Bank line of credit 10,000,000 -- --
Accrued liability for professional
liability claims, net of current portion 2,440,000 4,217,000 4,270,545
Deferred income tax liability 1,989,770 -- --
Other long-term liabilities 861,175 5,029,862 30,311,727
------------- ------------- -------------
Total liabilities 109,898,927 477,264,838 534,833,178
Minority interests' 1,293,000 915,000 693,000
Stockholders' equity:
Preferred stock, $.001 par value per
share, 2,000,000 shares authorized,
no shares outstanding -- -- --
Common stock, $.002 par value,
98,000,000 shares authorized, 29,760,000,
37,573,000 and 39,232,000 shares issued and
outstanding at December 31, 1995, December 31,
1996 and September 30, 1997, respectively 59,520 75,146 78,464
Additional paid-in capital 171,224,735 254,615,959 273,236,223
Stock payable 567,000 534,600 534,600
Accumulated deficit (17,717,543) (100,371,699) (114,268,217)
Less: Deferred compensation -- stock options (344,266) -- --
Due to stockholder (476,000) (427,000) (427,000)
------------- ------------- -------------
Total stockholders' equity 153,313,446 154,427,006 159,154,070
------------- ------------- -------------
Total $ 264,505,373 $ 632,606,844 $ 694,680,248
============= ============= =============
</TABLE>
See notes to financial statements
11
<PAGE> 12
FPA MEDICAL MANAGEMENT, INC. AND SUBSIDIARIES
SUPPLEMENTAL CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE YEARS ENDED DECEMBER 31, 1994, 1995 AND 1996
AND FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1996 AND 1997 (UNAUDITED)
<TABLE>
<CAPTION>
NINE MONTHS ENDED
YEAR ENDED DECEMBER 31, SEPTEMBER 30,
---------------------------------------------- -------------------------------
1994 1995 1996 1996 1997
------------ ------------- ------------- ------------- --------------
(UNAUDITED)
<S> <C> <C> <C> <C> <C>
Managed care revenue $ 85,778,068 $ 200,210,370 $ 468,158,760 $ 318,140,411 $ 610,103,454
Management service revenue 9,021,000 15,636,000 28,826,000 19,810,000 18,183,000
Fee-for-service revenue,
net of contractual
deductions 41,634,447 124,774,866 180,489,747 123,395,818 211,392,556
------------- ------------- ------------- ------------- -------------
Operating revenue 136,433,515 340,621,236 677,474,507 461,346,229 839,679,010
Expenses:
Medical services expense 92,543,245 235,889,380 515,126,273 347,995,185 611,987,779
------------- ------------- ------------- ------------- -------------
43,890,270 104,731,856 162,348,234 113,351,044 227,691,231
General and administrative 45,547,491
expense 108,980,699 188,429,378 121,176,074 192,069,982
Merger, restructuring and
other unusual charges
(Note 9) -- 1,589,908 52,571,868 1,707,196 38,004,841
------------- ------------- ------------- ------------- -------------
Loss from operations (1,657,221) (5,838,751) (78,653,012) (9,532,226) (2,383,592)
Other income (expense):
Interest and other income 728,961 1,445,316 2,539,301 1,957,082 6,051,501
Interest expense (666,689) (2,918,106) (6,767,664) (3,287,465) (15,061,150)
Other expense 332,000 -- -- --
------------- ------------- ------------- ------------- -------------
Total other income
(expense) 394,272 (1,472,790) (4,228,363) (1,330,383) (9,009,649)
------------- ------------- ------------- ------------- -------------
Loss before income
taxes (1,262,949) (7,311,541) (82,881,375) (10,862,609) (11,393,241)
Minority interests'
share in net loss 367,000 683,000 866,000 515,000 122,000
Income tax expense (1,707,025) (1,679,320) (1,265,000) (5,228,049) (2,625,277)
------------- ------------- ------------- ------------- -------------
Net loss $ (2,602,974) $ (8,307,861) $ (83,280,375) $ (15,575,658) $ (13,896,518)
============= ============= ============= ============= =============
Net loss per share $ (2.54) $ (0.46) $ (0.34)
============= ============= =============
Pro forma (Note 1):
Adjustment to income tax
expense $ (110,235) $ (262,000)
============= =============
Net loss $ (2,713,209) $ (8,569,861)
============= =============
Net loss per share $ (0.19) $ (0.39)
============= =============
Weighted average shares
outstanding 14,258,120 22,245,898 32,744,919 33,505,926 40,472,579
============= ============= ============= ============= =============
</TABLE>
See notes to financial statements.
12
<PAGE> 13
FPA MEDICAL MANAGEMENT, INC. AND SUBSIDIARIES
SUPPLEMENTAL CONSOLIDATED STATEMENTS OF STOCKHOLDERS'
EQUITY
FOR THE YEARS ENDED DECEMBER 31, 1994, 1995 AND 1996
AND THE NINE MONTHS ENDED SEPTEMBER 30, 1997 (UNAUDITED)
<TABLE>
<CAPTION>
(STOCK
SUBSCRIPTION DUE
ADDITIONAL RECEIVABLE)/ FROM ACCUMULATED
COMMON PREFERRED PAID-IN STOCK STOCK EARNINGS/
STOCK STOCK CAPITAL PAYABLE HOLDER (DEFICIT)
------------ ------------ ------------ ------------- ------------ ------------
<S> <C> <C> <C> <C> <C> <C>
Balances, January 1,
1994 (as reported) $ 2,188 $ -- $ 9,812 $ -- $ -- $ 244,172
Pooling of interests
combination with
Sterling Healthcare
Group, Inc.
effective
October 31, 1996 16,195 -- 8,552,074 -- -- --
Pooling of interests
combination with
AHI Healthcare
Systems, Inc.
effective
March 17, 1997 10,382 -- 874,618 -- -- --
Pooling of interests
combination with
Health Partners,
Inc. effective
October 13, 1997
4,834 -- 166 -- -- (1,307,000)
Pooling of interests
combination with
HealthCap, Inc.
effective June 30, 1997 1 -- 39,999 -- -- 13,000
Pooling of interests
combination with
Axminster Medical
Group, Inc.
effective
September 30, 1997 965 -- (3,966) -- -- (3,722,880)
Common stock issued
through private
placement
for cash, net of
costs 1,294 -- 4,571,625 -- -- --
Common stock
issued through
exchange of
preferred stock 3,995 -- 16,878,005 -- -- --
Repurchase and
cancellation of
common stock (6,179) -- 2,179 -- -- (1,483,000)
Issuance of common
stock for
stockholders' notes 2,033 -- 3,023,967 -- (3,026,000) --
Exchange of common
stock for Series T
acquisition (2,015) 26,000 (23,985) -- -- --
Redemption of
Series T preferred
stock -- (26,000) (2,974,000) -- 3,000,000 --
Common stock
issued through initial
public offering for
cash, net of costs 2,795 -- 11,574,068 -- -- --
Common stock issued in
connection with
acquisition 463 -- 3,935,100 -- -- --
Net loss for the year -- -- -- -- -- (2,602,974)
Dividends paid -- -- -- -- -- (522,000)
Other 1,797 -- 315,568 (14,227) -- (30,000)
Preferred stock dividend -- -- -- -- -- 60,000
One-for-one stock
dividend, effective
March 1, 1995 7,295 -- (6,295) -- -- (1,000)
------------ ------------ ------------ ------------ ------------ ------------
Balances,
December 31, 1994 46,043 -- 46,768,935 (14,227) (26,000) (9,351,682)
</TABLE>
<TABLE>
<CAPTION>
DEFERRED
COMPENSATION
STOCK OPTIONS TOTAL
------------- ------------
<S> <C> <C>
Balances, January 1, $ -- $ 256,172
1994 (as reported)
Pooling of interests
combination with
Sterling Healthcare
Group, Inc.
effective
October 31, 1996 (369,000) 8,199,269
Pooling of interests
combination with
AHI Healthcare
Systems, Inc.
effective
March 17, 1997 (140,000) 745,000
Pooling of interests
combination with
Health Partners,
Inc. effective
October 13, 1997
-- (1,302,000)
Pooling of interests
combination with
HealthCap, Inc.
effective June 30, 1997 -- 53,000
Pooling of interests
combination with
Axminster Medical
Group, Inc.
effective
September 30, 1997 -- (3,725,881)
Common stock issued
through private
placement
for cash, net of
costs -- 4,572,919
Common stock
issued through
exchange of
preferred stock -- 16,882,000
Repurchase and
cancellation of
common stock -- (1,487,000)
Issuance of common
stock for
stockholders' notes -- --
Exchange of common
stock for Series T
acquisition -- --
Redemption of
Series T preferred
stock -- --
Common stock
issued through initial
public offering for
cash, net of costs -- 11,576,863
Common stock issued in
connection with
acquisition -- 3,935,563
Net loss for the year -- (2,602,974)
Dividends paid -- (522,000)
Other 61,658 334,796
Preferred stock dividend -- 60,000
One-for-one stock
dividend, effective
March 1, 1995 -- --
------------ ------------
Balances,
December 31,
1994 (447,342) 36,975,727
</TABLE>
13
<PAGE> 14
<TABLE>
<CAPTION>
(STOCK
SUBSCRIPTION DUE
ADDITIONAL RECEIVABLE)/ FROM ACCUMULATED
COMMON PREFERRED PAID-IN STOCK STOCK EARNINGS/
STOCK STOCK CAPITAL PAYABLE HOLDER (DEFICIT)
-------- --------- ----------- --------- ----------- -------------
<S> <C> <C> <C> <C> <C> <C>
Common stock issued
through public
offering for cash,
net of costs 11,316 -- 94,929,092 -- -- --
Common stock issued in
connection with
acquisitions 450 -- 13,889,419 -- -- --
Common stock issued
through exchange of
preferred stock 2,976 -- 14,997,024 -- -- --
Common stock payable
issued in connection
with acquisitions -- -- -- 567,000 -- --
Issuance of common
stock to a related party -- -- 450,000 -- (450,000) --
Net loss for the year -- -- -- -- (8,307,861)
Other (1,265) -- 190,265 14,227 -- (58,000)
-------- --- ------------- --------- ----------- -------------
Balances, December 31,
1995 59,520 -- 171,224,735 567,000 (476,000) (17,717,543)
Stock options and
warrants exercised 588 -- 10,305,715 -- -- --
Common stock issued in
connection with
acquisitions 3,407 -- 52,200,372 41,500 -- --
Common stock issued
through exchange of
preferred stock 2,826 -- 17,647,174 -- -- --
Common stock issued in
connection with
conversion of debt 1,086 -- 3,498,914 -- -- --
Net loss for the year -- -- -- -- -- (83,280,375)
Other 7,719 -- (260,951) (73,900) 49,000 626,219
-------- --- ------------- --------- ----------- -------------
Balances, December 31,
1996 75,146 -- 254,615,959 534,600 (427,000) (100,371,699)
Stock options and
warrants exercised
(unaudited) 2,175 -- 6,121,407 -- -- --
Stock issued in
connection with
acquisitions 746 -- 9,999,254 -- -- --
Common stock issued
through exchange of
preferred stock 397 -- 2,499,603 -- -- --
Net loss for the period
(unaudited) -- -- -- -- -- (13,896,518)
-------- --- ------------- --------- ----------- -------------
Balances, September 30,
1997 (unaudited) $ 78,464 $-- $ 273,236,223 $ 534,600 $ (427,000) $(114,268,217)
======== === ============= ========= =========== =============
</TABLE>
14
<PAGE> 15
<TABLE>
<CAPTION>
DEFERRED
COMPENSATION
STOCK OPTIONS TOTAL
------------- -----------
<S> <C> <C>
Common stock issued through public
offering for cash, net of costs -- 94,940,408
Common stock issued in connection with
acquisitions -- 13,889,869
Common stock issued through exchange of
preferred stock 15,000,000
Common stock payable issued in connection
with acquisitions -- 567,000
Issuance of common stock to a related
party -- --
Net loss for the year -- (8,307,861)
Other 103,076 248,303
-------- -------------
Balances, December 31, 1995 (344,266) 153,313,446
Stock options and warrants exercised -- 10,306,303
Common stock issued in connection with
acquisitions -- 52,245,279
Common stock issued through exchange of
preferred stock -- 17,650,000
Common stock issued in connection with
conversion of debt -- 3,500,000
Net loss for the year -- (83,280,375)
Other 344,266 692,353
-------- -------------
Balances, December 31, 1996 -- 154,427,006
Stock options and warrants exercised
(unaudited) -- 6,123,582
Stock issued in connection with
acquisitions -- 10,000,000
Common stock issued through exchange of
preferred stock -- 2,500,000
Net loss for the period (unaudited) -- (13,896,518)
-------- -------------
Balances, September 30, 1997 (unaudited) $ -- $ 159,154,070
======== =============
</TABLE>
See notes to financial statements.
15
<PAGE> 16
FPA MEDICAL MANAGEMENT, INC. AND SUBSIDIARIES
SUPPLEMENTAL CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED DECEMBER 31, 1994, 1995 AND 1996 AND
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1996 AND 1997 (UNAUDITED)
<TABLE>
<CAPTION>
NINE MONTHS ENDED
YEAR ENDED DECEMBER 31, SEPTEMBER 30,
-------------------------------------------- ----------------------------
1994 1995 1996 1996 1997
------------ ------------ ------------ ------------ ------------
(UNAUDITED)
<S> <C> <C> <C> <C> <C>
Cash flows from operating
activities:
Net loss $ (2,602,974) $ (8,307,861) $(83,280,375) $(15,575,658) $(13,896,518)
Adjustments to reconcile net
loss to net cash used by
operating activities:
Depreciation and amortization 3,276,476 7,136,235 16,295,053 9,967,722 19,782,672
Imputed interest on notes
payable -- 132,489 98,023 98,023
Loss on disposal of business -- 772,875 -- --
Deferred compensation stock
options 45,658 78,076 61,000 --
Severance settlement financed
through issuance of debt 1,200,000 -- -- --
Minority interest in income
of consolidated subsidiary (699,000) (683,000) (774,000) (516,000) (222,000)
Impairment of goodwill -- 434,602 33,501,000 -- --
Misc. non-recurring charges 1,223,000 828,000
Changes in assets and
liabilities, net of effects
of acquisitions:
Accounts receivable (6,665,976) (23,566,593) (67,446,200) (48,178,978) (65,408,124)
Income tax receivable/payable 580,440 (1,874,389) 3,397,211 3,525,022 (2,294,159)
Capitation deposit -- -- (15,409,771) -- 15,409,771
Deferred income taxes (604,580) (814,455) (3,394,617) 247,085 (1,636,017)
Accounts payable and accrued
expenses 275,558 5,006,485 19,429,166 757,109 (14,347,051)
Claims payable, including
incurred but not reported
claims (995,194) 3,144,274 67,982,285 40,390,479 576,308
Accrued liability for
professional liability claims (124,216) (738,500) 2,464,790 8,240,000 4,360,755
Accrued payroll and related
liabilities 53,843 379,625 2,581,391 2,840,587 9,337,240
Prepaid expenses and other
assets (321,426) (2,476,907) (82,822) (5,771,656) 2,913,589
Other liabilities
(69,763) 1,107,763 319,177 (80,823) 10,069,457
------------ ------------ ------------ ------------ ------------
Total adjustments (2,825,180) (11,961,420) 59,849,686 11,518,570 (21,457,559)
------------ ------------ ------------ ------------ ------------
Net cash used by operating
activities (5,428,154) (20,269,281) (23,430,689) (4,057,088) (35,354,077)
Cash flows from investing
activities:
Purchase of property and
equipment (3,812,532) (11,140,365) (16,041,471) (9,532,513) (12,776,902)
Payments for intangible assets (270,621) (1,690,227) (13,341,849) -- --
Net payments (to) from
affiliate 479,238 (677,449) (800,542) (1,162,768) 1,190,095
Investment in GLHP -- (1,994,900) (3,000,000) (3,000,000) --
Net sale (purchase) of
marketable securities (10,079,811) 1,851,023 (31,771,212) 6,673,325 38,804,010
Acquisitions, net of cash
acquired (11,715,133) (44,331,816) (18,694,630) (19,634,884) (17,123,279)
Payments escrowed for
acquisitions -- (3,285,000) 2,796,465 (4,519,728) 13,247
Proceeds from sale of business -- 1,600,000 -- -- --
Other -- (46,212) (507,107) (565,000) --
------------ ------------ ------------ ------------ ------------
Net cash provided (used) by
investing activities (25,398,859) (59,714,946) (81,360,346) (31,741,568) 10,107,171
------------ ------------ ------------ ------------ ------------
Cash flows from financing
activities:
Proceeds from merger, net 5,699,870 -- (169,334) 37,835 --
Net proceeds from issuance of
common stock 11,461,604 94,940,408 -- -- --
Net proceeds from issuance of
preferred stock 15,631,000 15,000,000 17,650,000 20,150,000 2,500,000
Net proceeds from private
placement of stock 4,812,919 -- -- -- --
Redemption of preferred stock (3,750,000) -- -- -- --
Issuance of convertible
subordinate notes
payable 1,000,000 -- 73,125,000 -- --
Increase in bank overdrafts -- -- -- 1,257,441
</TABLE>
16
<PAGE> 17
FPA MEDICAL MANAGEMENT, INC. AND SUBSIDIARIES
SUPPLEMENTAL CONSOLIDATED STATEMENTS OF CASH FLOWS, CONTINUED
FOR THE YEARS ENDED DECEMBER 31, 1994, 1995 AND 1996 AND
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1996 AND 1997 (UNAUDITED)
<TABLE>
<CAPTION>
NINE MONTHS ENDED
YEAR ENDED DECEMBER 31, SEPTEMBER 30,
---------------------------------------------- -----------------------------
1994 1995 1996 1996 1997
------------ ------------- ------------- ------------ -------------
(UNAUDITED)
<S> <C> <C> <C> <C> <C>
Proceeds from exercise of stock
options and warrants 43,365 156,000 10,575,526 8,057,854 5,487,249
Issuance of notes payable 960,000 13,515,000 59,978,334 48,180,427 18,235,908
Net borrowings/(payments) under
bank line of credit 207,242 7,814,781 (788,325) 187,820,105
Receipt of payment for stock
subscriptions 35,773 14,227 -- --
Payments on long-term debt (1,254,779) (19,734,072) (73,841,048) (46,443,105) (179,475,612)
Proceeds from payments of notes
receivable from stockholder 49,000
Dividends paid (522,000) -- -- -- --
Purchase of treasury shares (1,253,000) -- -- -- --
Other (125,000) 2,000 -- -- --
------------ ------------- ------------- ------------ -------------
Net cash provided by
financing activities 32,946,994 111,708,344 87,367,478 30,452,127 34,567,650
------------ ------------- ------------- ------------ -------------
Net increase (decrease) in cash
and cash equivalents 2,119,981 31,724,117 (17,423,557) (5,346,529) 9,320,744
Cash and cash equivalents,
beginning of period 7,707,936 9,827,917 41,552,034 41,552,034 24,128,477
------------ ------------- ------------- ------------ -------------
Cash and cash equivalents,
end of period $ 9,827,917 $ 41,552,034 $ 24,128,477 $ 36,205,505 $ 33,449,221
============ ============= ============= ============ =============
Supplemental cash flow
information:
Cash paid for interest $ 237,400 $ 2,182,194 $ 4,425,106 $ 1,999,405 $ 12,371,757
Cash paid for income taxes $ 2,244,296 $ 6,197,045 $ 1,052,382 $ 3,969,043 $ 6,519,753
Issuance of promissory note for
severance settlement $ 1,200,000 -- -- -- --
Equipment acquired under
capital leases $ 356,361 $ 476,643 $ 2,129,655 $ 4,359,143 --
Common stock issued for
stockholders' notes $ 3,000,000 -- -- -- --
Exchange of common stock for
Series T preferred stock $ (3,000,000) -- -- -- --
Issuance of common stock for
Series T preferred stock $ 3,000,000 -- -- -- --
Redemption of Series T
preferred stock $ (3,000,000) -- -- -- --
Issuance of promissory note for
repurchase and cancellation
of common stock $ 230,000 -- -- -- --
Effects of acquisitions:
Fair value of assets acquired $ 32,389,902 $ 117,683,514 $ 340,706,914 $ 76,999,626 $ 34,897,684
Liabilities assumed $ 13,970,793 $ 59,461,828 $ 269,767,005 $ 50,746,934 $ 14,458,678
Common stock issued $ 6,703,976 $ 13,889,870 $ 52,245,279 $ 8,941,657 $ 10,636,332
------------ ------------- ------------- ------------ -------------
Net cash paid for acquisitions $ 11,715,133 $ 44,331,816 $ 18,694,630 $ 17,311,035 $ 9,802,674
============ ============= ============= ============ =============
</TABLE>
See notes to financial statements.
17
<PAGE> 18
FPA MEDICAL MANAGEMENT, INC. AND SUBSIDIARIES
NOTES TO SUPPLEMENTAL CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 1994, 1995 AND 1996
AND THE NINE MONTHS ENDED SEPTEMBER 30, 1996 AND 1997 (UNAUDITED)
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
General -- FPA Medical Management, Inc. ("FPA"), a Delaware corporation
incorporated in 1994, is a national physician practice management company,
which, through its network of primary care physicians, affiliated professional
corporations ("Professional Corporations") and subsidiaries, contracts with
health maintenance organizations ("HMOs") and other prepaid health insurance
plans (collectively, "Payors") to provide and manage physician and related
healthcare services to enrollees who select FPA network primary care physicians
("managed care business"). FPA also provides contract management services to
hospital emergency and anesthesia departments in twenty states ("emergency
department business").
Basis of Presentation -- The mergers of FPA with each of AHI Healthcare
Systems, Inc. ("AHI"), HealthCap, Inc. ("HealthCap"), Axminster Medical Group,
Inc. ("Axminster") and Health Partners, Inc. ("Health Partners") have been
accounted for as poolings of interests and, accordingly, the accompanying
supplemental consolidated financial statements have been prepared on a basis
that includes the results of FPA, HealthCap, Axminster and Health Partners for
all periods prior to the effective dates of the respective mergers. Information
concerning common stock and per share data has been restated on an equivalent
share basis. There were no material adjustments to the accounts of HealthCap,
Axminster, and Health Partners as a result of adopting the same accounting
principles as FPA. The accompanying supplemental consolidated financial
statements present the financial position and results of operations of FPA and
the predecessor entities, including the accounts of FPA subsidiaries and certain
Professional Corporations (collectively, the "Company").
Business Combinations -- On October 31, 1996, FPA acquired Sterling
Healthcare Group, Inc. ("Sterling") in a stock-for-stock merger ("Sterling
Merger") accounted for as a pooling of interests in which 8,097,781 shares of
FPA Common Stock were issued in exchange for all of the outstanding shares of
Sterling. Sterling is a physician practice management company engaged in the
business of providing contract management and support services primarily to
hospital-based emergency departments.
On March 17, 1997 FPA acquired AHI in a stock-for-stock merger ("AHI Merger")
accounted for as a pooling of interests in which 5,678,509 shares of FPA Common
Stock were issued in exchange for all of the outstanding shares of AHI (See Note
13).
On June 30, 1997, FPA acquired HealthCap in a stock-for-stock merger
accounted for as a pooling of interests in which 2,300,000 shares of FPA common
stock were issued in exchange for all of the outstanding shares of HealthCap
(See Note 13).
On September 30, 1997, FPA acquired Axminster in a stock-for-stock merger
accounted for a pooling of interests in which shares of FPA common stock were
issued in exchange for all the outstanding shares of Axminster (See Note 13).
On October 13, 1997, FPA acquired Health Partners in a stock-for-stock merger
accounted for as a pooling of interests in which 5,227,273 shares of FPA common
stock were issued in exchange for all outstanding capital stock of Health
Partners and all outstanding options to purchase Health Partners common stock
(See Note 13).
18
<PAGE> 19
Presented below is the effect of the Sterling, AHI, HealthCap, Axminster, and
Health Partners mergers on previously reported results of operations through
their respective merger dates. Subsequent to the merger the results are included
in FPA's revenues:
<TABLE>
<CAPTION>
DECEMBER 31, SEPTEMBER 30,
----------------------------------------------- -------------
1994 1995 1996 1997
------------- ------------- ------------- -------------
<S> <C> <C> <C> <C>
Operating revenue:
FPA $ 18,435,877 $ 52,691,955 $ 432,262,970 $ 660,483,938
Sterling 39,255,573 115,659,527 100,749,819 --
AHI 60,746,000 114,284,000 118,786,000 31,380,000
HealthCap 2,170,000 10,658,000 27,226,000 20,571,000
Axminster 4,825,065 15,186,754 16,321,894 11,413,072
Health Partners 11,001,000 32,141,000 74,822,000 115,831,000
------------- ------------- ------------- -------------
$ 136,433,515 $ 340,621,236 $ 770,168,683 $ 839,679,010
============= ============= ============= =============
Net income (loss):
FPA $ 388,313 $ 1,002,462 $ (19,157,969) $ 3,001,438
Sterling 1,401,525 2,831,503 3,441,513 --
AHI 1,551,000 (3,101,000) (54,268,000) (4,682,000)
HealthCap (1,539,000) (1,890,000) (3,814,000) (3,590,000)
Axminster (15,812) 20,174 (10,949) 2,407,044
Health Partners (4,389,000) (7,171,000) (9,471,000) (11,033,000)
------------- ------------- ------------- -------------
$ (2,602,974) $ (8,307,861) $ (83,280,405) $ (13,896,518)
============= ============= ============= =============
</TABLE>
Managed Care Business -- The Company currently manages the provision of
prepaid managed healthcare services for networks of primary care physicians in
numerous states. The "FPA Network" consists of FPA, its subsidiaries, the
Professional Corporations and various independent practitioners.
The Professional Corporations and certain subsidiaries contract with Payors
to provide for the delivery of healthcare services on a capitation basis (i.e.,
a fixed payment per enrollee per month). Through administrative services
agreements, the Professional Corporations assign payments from Payors to the
Company in return for management services, specialty medical care claims
administration and payment, and other services.
FPA has direct or indirect unilateral and perpetual control over the assets
and operations of the Professional Corporations (except as described below with
respect to certain Health Partners affiliated professional corporations and
Independent practice associations ("IPAs")) for all periods presented, other
than by means of owning the majority of the voting stock of the Professional
Corporations. FPA and its subsidiaries are unable to own a majority interest in
the Professional Corporations formed in states which prohibit the corporate
practice of medicine. The Professional Corporations have as shareholders and
directors certain physicians who are employees of FPA or one of its
subsidiaries. Each shareholder/director has entered into a succession agreement
which requires such shareholder/director to sell to a designee of FPA such
shareholder/director's shares of stock for a nominal amount if such
shareholder/director is terminated from employment with FPA. This ensures
unilateral and perpetual control over the Professional Corporations by FPA. Due
to a parent-subsidiary relationship under generally accepted accounting
principles, FPA has consolidated the financial statements of the Professional
Corporations. FPA believes that consolidation of the financial statements of
these Professional Corporations is necessary to present fairly the financial
position and results of operations of the Company. As part of the Health
Partners merger, the Company acquired certain affiliated medical corporations
and independent practice associations over which it does not exercise perpetual
and unilateral control. Accordingly, the Company recognizes the net revenue of
such entities in which it does not exercise control as Management Service
Revenues in the accompanying supplemental consolidated financial statements. All
significant inter-entity transactions have been eliminated in consolidation. The
consolidated financial statements include the operations of FPA, all of FPA's
subsidiaries and Professional Corporations since they were acquired, were
incorporated, or entered into an administrative services agreement with FPA or
one of its subsidiaries.
Managed care capitation payments from Payors are paid monthly and are
recognized as revenue during the period in which enrollees are entitled to
receive services. Contracts with Payors generally provide for terms of one to 30
years, with automatic renewal periods, terminable on prior notice (generally
between 30 and 180 days).
19
<PAGE> 20
The Company has two types of managed care Payor contracts: contracts for both
inpatient and outpatient services ("global capitation" contracts) and those
limited to outpatient services ("outpatient capitation" contracts). Under global
capitation contracts, which accounted for approximately 20.4% of managed care
business operating revenue in 1996, the Company receives a fixed monthly amount
per enrollee for which the Company is financially responsible to provide the
enrollees with all necessary inpatient and outpatient care. In 1994 and 1995,
the Company had no global capitation contracts. Under outpatient capitation
contracts, the Company receives a fixed monthly amount per enrollee for which
the Company is financially responsible to provide the enrollees with all
necessary outpatient care. Additionally, under these outpatient capitation
contracts, the Company is a party to shared risk arrangements with Payors which
generally reward the Company for the efficient utilization of inpatient
services. Under these shared risk arrangements, the Company shares any surplus
or, in some cases, deficit of inpatient cost in relation to amounts
pre-established by the Payor. Estimates of shared risk funds to be received or
paid by the Company are recorded based on estimates of hospital utilization
costs. Differences between actual settlements and amounts estimated as
receivable (or payable) relating to the shared risk arrangements are recorded at
the time of settlement, generally in the second or third quarter of the
following year. The Company does not believe that the final settlements of these
shared risk arrangements will differ materially from the estimated amounts
recorded in the financial statements. Revenue under outpatient capitation
contracts represented 88.3%, 89.0% and 66.2% of managed care business operating
revenue in 1994, 1995 and 1996, respectively.
The Company also generates fee-for-service revenue for the performance of
medical services through the Professional Corporations. These revenues are
presented net of contractual deductions and represented 2.4%, 4.1% and 8.1% for
1994, 1995 and 1996, respectively, of managed care business operating revenue.
Emergency Department Business -- The Company provides physician contract
management for hospital emergency and anesthesia departments in twenty states at
December 31, 1996. Contractual arrangements with hospitals are primarily
fee-for-service whereby hospitals agree to authorize the Company and its
contracted healthcare professionals to bill and collect for the professional
component of the charges for medical services rendered by the Company's
contracted healthcare professionals. Through the emergency department business,
the Company generated fee-for-service revenues, net of contractual deductions,
representing 94.0%, 84.4% and 84.6% of the emergency department business
operating revenues in 1994, 1995 and 1996, respectively. 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.
Revenue Recognition and Accounts Receivable -- Fee-for-service revenue is
reported on the accrual basis, net of estimated third-party contractual
deductions. Further adjustments are recorded to reflect amounts estimated to be
uncollectible based upon individual contract experience. The allowance
considered necessary to cover contractual deductions and uncollectible accounts
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.
For emergency department receivables, 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.
In 1994, 1995 and 1996, revenue from governmental agencies made up
approximately 32.5%, 31.7% and 39.0%, respectively, of operating revenue for
both divisions of the Company.
Medical Services Expense -- Through the Professional Corporations and its
subsidiaries, the Company contracts with various healthcare providers to provide
medical services to covered enrollees. Primary care physicians are compensated
by the Company under compensation arrangements with the Professional
Corporations on either a salary or capitation basis. The costs of referrals to
specialty care physicians are paid on either a fee-for-service or capitation
basis. Under global capitation contracts, the Company contracts for inpatient
services which are paid on a fee-for-service or per diem basis. Medical services
expense paid through capitation (for certain primary care and specialty care
services), fixed salary (for primary care only) or for contracted hours of
emergency department coverage at fixed hourly rates totaled 67.8%, 69.3% and
76.1% of managed care operating revenue in 1994, 1995 and 1996, respectively,
with the remainder of medical services expense (for primary care, specialty
care, ancillary services, inpatient and outpatient services, lab charges, etc.)
paid on a fee-for-service or per diem basis. The costs of healthcare services
paid on a fee-for-service or per diem basis are recorded by the Company in the
period for which services are provided based in part on estimates,
20
<PAGE> 21
including an accrual for medical services provided but not yet billed to the
Company ("incurred but not reported") and are included in claims payable in the
accompanying supplemental consolidated balance sheets.
The Company purchases stoploss insurance protection which provides
thresholds or "attachment points," generally $100,000 for inpatient services,
at which substantially all financial exposure for inpatient services of an
enrollee beyond such threshold is contractually shifted to the insurer up to a
specific level (generally $1 million), at which point the risk of loss returns
to the Company. In California only, stoploss insurance protection thresholds
are $125,000 for inpatient services.
Cash and Cash Equivalents -- Cash and cash equivalents are defined as highly
liquid financial instruments with original maturities of three months or less. A
substantial portion of the Company's cash is deposited in three financial
institutions. The Company monitors financial conditions of each financial
institution and does not believe that the deposits are subject to a significant
degree of risk.
Marketable Securities -- Marketable securities consist of corporate debt
securities and certificates of deposit. Such securities have been classified by
management of the Company as available for sale in accordance with the
provisions of Statement of Financial Accounting Standards No. 115, "Accounting
for Certain Investments in Debt and Equity Securities". The estimated fair value
of the Company's marketable securities is based on quoted market prices, which
approximate cost, and therefore no unrealized gains or losses have been recorded
in the accompanying supplemental consolidated financial statements. Marketable
securities at December 31, 1995 consist of corporate debt securities and at
December 31, 1996 consist of Eurodollar certificates of deposit.
Capitation Deposits -- Capitation deposits represent funds on deposit from a
major Payor in Florida. In accordance with the Payor contract, 60% of the
capitation revenue earned each month is retained by the Payor for payment of
claims. An accrual has been included in claims payable, including incurred but
not reported claims in the accompanying supplemental consolidated balance sheet
for the estimated amount of claims payable related to this Payor contract. The
Company is entitled to all of the interest earned on this account which is
recognized as interest income as earned. The contract requires a minimum balance
in this account. During 1997, such Payor contract was restructured so that the
capitation deposit was replaced with a letter of credit.
Property and Equipment -- Property and equipment are recorded at cost, less
accumulated depreciation and amortization. Depreciation and amortization are
computed on a straight-line basis over the estimated useful lives of the assets,
generally three to seven years and thirty years for buildings. Leasehold
improvements are amortized over the lesser of the estimated useful life or the
remaining life of the related lease.
Restricted Cash and Deposits -- The Company records as restricted cash funds
escrowed for payment of claims, for future acquisitions, and other funds
contractually required to be segregated from the Company's operating cash.
Goodwill and Intangible Assets -- The Company has classified as goodwill the
excess of the purchase price over the fair value of the net assets of entities
acquired. Goodwill is being amortized on a straight-line basis over the
estimated periods of future benefit of 15 to 30 years. 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 healthcare trends, and other 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 the business acquired over the remaining amortization period, the
carrying value of the goodwill will be reduced. 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. Intangible
assets consist primarily of value assigned to 30 year Payor agreements acquired
in connection with certain acquisitions. Intangible assets are being amortized
on a straight-line basis over the expected period of future benefit of 30 years.
Accounting for the Impairment of Long-Lived Assets -- In March 1995, the
Financial Accounting Standards Board issued Statement of Financial Accounting
Standards No. 121 ("SFAS No. 121") "Accounting for the Impairment of Long-Lived
Assets and for Long-Lived Assets to be Disposed Of" which was effective for the
Company beginning January 1, 1996. SFAS No. 121 requires that long-lived assets
and certain intangible assets associated with those assets be reviewed for
impairment. The adoption of SFAS No. 121 at January 1, 1996 had no significant
impact on the Company's financial statements when adopted.
21
<PAGE> 22
Network Development and Geographic Expansion Costs -- Network development and
geographic expansion costs are expensed as incurred.
Income Taxes -- The Company accounts for income taxes in accordance with
Statement of Financial Accounting Standards No. 109, "Accounting For Income
Taxes," which requires the use of the liability method for deferred income taxes
(see Note 8).
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 of its
liabilities for medical malpractice claims incurred but not reported. Such
liabilities are not discounted.
Minority Interests -- As part of the Health Partners merger, the Company
acquired minority interests which represent the minority stockholders'
proportionate share of the equity of certain subsidiaries. Certain subsidiaries
have incurred net losses which exceed the minority interests' share of equity.
To the extent the net losses exceed the equity of the minority interests, the
Company recognizes all losses in the supplemental consolidated statement of
operations. As these subsidiaries generate net income, the Company will
recognize all net income until such losses have been fully offset. At December
31, 1994, 1995 and 1996, cumulative net losses of minority interests recognized
by the Company were approximately $491,000, $1,033,000 and $1,551,000,
respectively. In connection with the Health Partners merger, the minority
interests were purchased and gave rise to goodwill in the amount of $8,040,733.
Pro Forma Information -- The pro forma net income and net income per share
information in the 1994 and 1995 consolidated supplemental statement of
operations reflect the effect on historical results as if the Company had been a
C Corporation rather than an S Corporation for income tax purposes, and no tax
benefit arose as a result of the change in tax status.
Net Loss per Common Share -- Net loss per Common Share is computed based on
the weighted average number of shares and share equivalents (options and
warrants) outstanding, giving retroactive effect to all stock splits and
dividends.
Accounting Estimates -- The preparation of financial statements in conformity
with generally accepted accounting principles requires management to make
estimates and assumptions that affect the amounts reported in the financial
statements and accompanying notes. Actual results could differ from those
estimates.
New Accounting Standards -- In October 1995, the Financial Accounting
Standards Board issued Statement of Financial Accounting Standards ("SFAS") No.
123, "Accounting for Stock-Based Compensation," which was effective for the
Company beginning January 1, 1996. SFAS No. 123 requires expanded disclosures of
stock-based compensation arrangements with employees and encourages (but does
not require) compensation cost to be measured based on the fair value of the
equity instrument awarded. Corporations are permitted, however, to continue to
apply Accounting Principles Board ("APB") Opinion No. 25, which recognizes
compensation cost based on the intrinsic value of the equity instrument awarded.
The Company has continued to apply APB Opinion No. 25 to its stock-based
compensation awards to employees and has disclosed the required pro forma effect
on net loss and net loss per share (See Note 7).
In February 1997, the Financial Accounting Standards Board issued SFAS No.
128 "Earnings per Share". This Statement specifies the computation, presentation
and disclosure requirements for earnings per share for entities with publicly
held common stock. SFAS No. 128 is not in effect for the Company for 1996, but
will be in effect for financial statements issued for periods ending after
December 15, 1997, including interim periods. The Company does not expect the
adoption of SFAS No. 128 to have a material effect on its net income per share.
Reclassifications -- Certain reclassifications have been made to prior years'
financial statements to conform to current year classifications.
Unaudited Financial Information -- The financial information for the nine
months ended September 30, 1997 and 1996, included in the supplemental
consolidated financial statements and notes thereto is unaudited. In the opinion
of management, such information contains all adjustments, consisting only of
normal recurring accruals, necessary for a fair presentation of such
information. Information for the nine months ended September 30, 1997 is not
necessarily indicative of the results to be expected for the entire year.
22
<PAGE> 23
2. RELATED PARTY TRANSACTIONS
In Texas, the Company leases its main facility, certain leasehold
improvements, and certain medical and office equipment from a former officer of
a Texas subsidiary pursuant to a noncancelable operating lease agreement
expiring November 8, 2005. The agreement provides for monthly payments of
$58,654, subject to certain increases based on the consumer price index. The
lease also contains certain provisions that may, at the option of the former
officer, require the Company to acquire the facility at its fair market value.
Effective October 1, 1996, the Company acquired substantially all of the
assets and assumed certain liabilities of Family Practice Associates of San
Diego, an Osteopathic Corporation ("FPASD"), owned by certain officers of the
Company. The purchase price was supported by an independent valuation and
approved by a committee of the independent Directors of the Company. During
1995, the Company entered into a loan agreement with FPASD under which FPASD was
permitted to borrow a maximum of $650,000 for working capital purposes. This
loan replaced a previous loan with a maximum balance of $155,000. At December
31, 1995 and 1996, the balance of the loan was $300,086 and $0, respectively.
As a result of an acquisition, the Company leases certain property from a
shareholder. Annual rental payments totaled approximately $0, $75,000 and
$94,000 in 1994, 1995 and 1996, respectively. The lease expires in April 2001,
unless renewed by the Company for up to an additional ten years.
Through December 31, 1993, three stockholders of AHI collectively advanced
$475,000 to a Physician Network for operations. Of these advances, $125,000 was
repaid in 1994 and the remaining $350,000 was paid in 1995. Interest expense on
these advances totaled $41,000 in 1994 and $16,000 in 1995.
The Company has capitated and fee-for-service provider contracts with
physician professional corporations owned by stockholders of the FPA. Medical
costs incurred totaled approximately $391,000, $760,000 and $989,000 for 1994,
1995, and 1996, respectively.
In August 1994, AHI issued shares of common stock to two of its directors,
one of which is an officer, in exchange for promissory notes, each in the amount
of $1,500,000. The promissory notes were secured by other shares of AHI held by
these directors. The common stock was exchanged by AHI for an equal number of
shares of Series T preferred stock issued by AHI in November 1994. These shares
of preferred stock were redeemed by the Company on December 31, 1994, in
exchange for cancellation by AHI of the outstanding obligations under the
promissory notes.
Effective January 1, 1994, AHI entered into a consulting agreement with one
of its directors to assist AHI in analyzing claims and related procedures. This
agreement was terminated in March 1997. In exchange for services provided, AHI
paid $90,000 per year in 1994, 1995 and 1996.
The presidents and other physicians of certain Health Partners subsidiaries
have entered into lease agreements whereby medical space and/or medical
equipment is leased to certain Health Partners subsidiaries at fair market value
and terms ranging from one to fifteen years. Annual rental payments totaled
approximately $45,000, $475,000 and $1,275,000 in 1994, 1995 and 1996,
respectively.
3. PROPERTY AND EQUIPMENT
Property and equipment consists of the following at December 31:
<TABLE>
<CAPTION>
1995 1996
------------ ------------
<S> <C> <C>
Land and buildings $ 1,006,825 $ 1,365,758
Computer hardware and software 1,730,733 12,526,830
Furniture, fixtures and equipment, including
medical equipment 19,249,223 44,192,192
Leasehold improvements 5,824,583 12,560,776
Vehicles -- 311,972
------------ ------------
Total 27,811,364 70,957,528
Less accumulated depreciation and
amortization (7,883,631) (14,958,615)
------------ ------------
Subtotal 19,927,733 55,998,913
Capitalized software development costs 1,346,529 693,186
------------ ------------
Property and equipment -- net $ 21,274,262 $ 56,692,099
------------ ------------
</TABLE>
23
<PAGE> 24
4. DEBT
Convertible Subordinated Notes Payable -- On October 5, 1994, the Company
sold $1.0 million of convertible subordinated notes to representatives of the
underwriters of FPA's initial public offering. The notes bore interest at 6%,
payable semiannually, with principal due October 1999. During 1996, the notes
were converted into 200,000 shares of FPA Common Stock.
In December 1996, the Company issued $75.0 million of convertible
subordinated debentures due December 2001, which resulted in net proceeds to the
Company of approximately $73.0 million. The notes bear interest at 6-1/2%, with
interest payable semiannually, and are convertible into FPA Common Stock at
$25.95 per share. The debentures are redeemable by the Company after December
20, 1999. Upon the occurrence of a Repurchase Event, as defined in the
debenture, each holder has the right to require repayment of the debentures at
100% of the principal amount plus accrued interest. In January 1997, upon
exercise of the overallotment option granted to the Initial Purchasers, the
Company issued additional convertible subordinated debentures with the same
terms for net proceeds of $5.4 million.
Convertible Promissory Note -- In connection with the acquisition of a Texas
subsidiary on November 1, 1995, FPA issued a 36-month, $2.5 million 9%
convertible promissory note with payments of interest only due for the first 24
months and principal and interest monthly thereafter. During 1996, the note was
converted into 243,191 shares of FPA Common Stock.
In conjunction with the acquisition of one its subsidiaries, Health Partners
agreed to a deferred purchase price of $1,750,000 payable over 3 years beginning
in 1996. In 1996 the deferred purchase price was renegotiated to $1,450,000.
Notes Payable -- In connection with certain acquisitions, the Company has
issued various other notes payable. Following is a summary of all long-term
debt.
<TABLE>
<CAPTION>
DECEMBER 31,
--------------------------
1995 1996
----------- ------------
<S> <C> <C>
Notes payable, interest ranging from 7% to 10.25% and
principal due through December 2000 $ 5,270,421 $ 3,484,627
Note payable, interest at 9% and principal due November
1997 2,500,000 --
Convertible note payable, interest at 9% and principal
due November 1998 2,500,000 --
Convertible debentures payable, interest at 6.5% payable
semiannually, principal due December 2001 -- 75,000,000
Notes payable to former shareholders of Sterling,
interest at rates ranging from 5% to 5.54%, payable in
60 monthly installments through January 1998 1,372,895 759,420
Notes payable, interest at prime (8.25% at December 31,
1996), payable in two equal installments in December
1996 and 1997 1,200,000 600,000
6% convertible subordinated notes, interest payable
semiannually through 1999, principal due October 1999 1,000,000 --
Notes payable to financial institutions, interest at
5.5%, due in full in October 1997 714,858 55,000,000
Note payable, interest at LIBOR (5.75% at December 31,
1996), 59 payments of principal and interest due
commencing February 1999, through December 2003 -- 97,759,224
Note payable for the acquisition of a medical group,
interest at the applicable Federal short-term rate
(6.08% at December 31, 1995), payable quarterly with
principal due in two installments in February 1996 and
July 1997, collateralized by a letter of credit 2,890,000 --
Note payable to certain physicians in connection with
acquisition payable quarterly through March 2005 1,349,000 1,240,000
Note payable to former stockholder, interest at 4.51%,
with principal due in January 1996 230,000 --
Notes payable, interest at 6.02% and principal due
January 2006 -- 20,174,914
Deferred purchase price, due August 1998 1,750,000 942,000
Term notes, interest ranging from prime rate plus
one half percentage point to 8.9%, due from
July 1999 - November 2003 1,127,000
Notes payable, interest ranging from 7 to 8.25%, due
August 1997 - September 2000 1,303,000 3,402,000
Deed of Trust Note, interest at 10.35%, payable through
December 2009 720,000 697,000
Other 4,199,013 2,782,701
----------- ------------
Total 26,999,187 262,968,886
Less current portion 13,650,635 72,514,667
----------- ------------
Long term debt, net of current portion $13,348,552 $190,454,219
=========== ============
</TABLE>
24
<PAGE> 25
At December 31, 1996 future payments on long-term debt were as follows:
<TABLE>
<CAPTION>
NOTES PAYABLE CAPITAL
AND OTHER LEASES TOTAL
----------- ----------- -------------
<S> <C> <C> <C>
1997 $ 71,384,423 $ 1,130,244 $ 72,514,667
1998 3,685,088 585,239 4,270,327
1999 9,341,345 226,843 9,568,188
2000 10,328,154 67,338 10,395,492
2001 84,063,319 -- 84,063,319
Thereafter 82,478,439 -- 82,478,439
----------- ----------- -------------
2,009,664 263,290,432
Less amount representing
interest on capital
leases -- (321,546) (321,546)
----------- ----------- -------------
Total $ 261,280,768 $ 1,688,118 $ 262,968,886
============= =========== =============
</TABLE>
The fair market value of the Company's debt approximates its carrying value
at December 31, 1995 and 1996.
Credit Agreement -- On January 29, 1996, the Company entered into a credit,
security, guarantee and pledge agreement (the "1996 Credit Agreement") with
certain financial institutions. Permitted Borrowings, as defined in the 1996
Credit Agreement, generally include those for acquisitions and capital
expenditures. The Company and the financial institutions amended the 1996 Credit
Agreement during 1996. Fees of $1,250,000 were paid in connection with the
Credit Agreement during 1996. Borrowings bear interest at rates ranging from
either LIBOR plus 2 1/2%, 2 3/4% or 3%, or prime rate plus 1%, 1 1/4%, or 1 1/2%
as defined in the 1996 Credit Agreement. The balance outstanding is due on
October 31, 1997. Periodic payments of accrued interest are due during the term
of the 1996 Credit Agreement. Additionally, the financial institutions were
granted a security interest in substantially all of the assets of the Company
(excluding those of FPA Medical Management of Michigan, Inc. d/b/a QualNet,
Inc., and the stock of certain subsidiaries of FPA) and Professional
Corporations. The debt is also guaranteed by certain Professional Corporations.
In connection with the 1996 Credit Agreement, the Company must maintain certain
debt and equity ratios and profitability thresholds. The Company issued to the
financial institutions a warrant to purchase 50,000 shares of Common Stock at
$9.125 per share exercisable prior to February 2, 2001, subject to certain
anti-dilution provisions. At December 31, 1996, the Company had borrowed the
maximum of $55.0 million under the 1996 Credit Agreement.
On June 30, 1997, the Company entered into a credit agreement for a $175
million three-year revolving line of credit ("Line of Credit") and a $100
million four and one-quarter year term loan ("Term Loan") (collectively, the
"Credit Agreement"). A maximum of $155 million and $30 million of the proceeds
of the Line of Credit can be used to refinance debt and to secure the Company's
capitation deposits, respectively. The remaining proceeds of the Line of Credit
can be used for working capital. The proceeds of the Term Loan may be used to
refinance debt. The borrowings bear interest based on the prime rate plus 50-75
basis points or the Interbank Eurodollar rate plus 150-175 basis points, as
defined in the Credit Agreement. The Credit Agreement contains customary terms,
events of default and covenants (including financial covenants) which, among
other things, limit payment of cash dividends, the consummation of certain
acquisitions and the incurrence of additional debt. The obligations of the
Company under the Credit Agreement are secured by the assets of the Company and
the capital stock and assets of its subsidiaries.
5. MAJOR CUSTOMERS
In 1994, one Payor accounted for 9.7% of the Company's operating revenue. In
1995, one Payor accounted for 21.8% of the Company's operating revenue. In 1996,
two Payors accounted for 13.3% and 9.3%, respectively, of the Company's
operating revenue.
6. COMMITMENTS AND CONTINGENCIES
Legal -- The Company is party to certain legal actions arising in the
ordinary course of business. In the opinion of the Company's management,
liability, if any, under these claims is adequately covered by insurance and
will not have a material effect on the Company's financial position or results
of operations. The Company maintains professional liability insurance.
The Company is a defendant in a purported class action securities lawsuit
entitled "In re AHI Healthcare Systems, Inc. Securities Litigation" filed in the
United States District Court for the Central District of California, Western
Division. The suit was initially filed against AHI, certain of its officers and
directors, and its Underwriters on December 20, 1995. The suit asserts that AHI,
among other
25
<PAGE> 26
things, artificially inflated the price of its stock by misleading securities
analysts and by failing to disclose in its initial public offering prospectus
alleged difficulties with the acquisition of the Lakewood Health Plan. The
plaintiffs seek unspecified damages on behalf of the stockholders who purchased
AHI common stock between September 28, 1995 and December 19, 1995. The Company
intends to vigorously defend this lawsuit. The Company does not expect that the
outcome of the lawsuit will have a material adverse effect on the financial
condition or results of operations of the Company.
Operating Leases -- The Company is a party to certain facilities and
equipment leases which terminate at various dates through November 8, 2005.
Lease terms generally range from three to 10 years with renewal options. Many of
the leases provide that the Company pay taxes, maintenance, insurance and other
expenses, and contain rent escalation clauses.
Future minimum rental payments required under operating leases that have
initial or remaining noncancelable lease terms in excess of one year as of
December 31, 1996, are as follows:
<TABLE>
<S> <C>
1997 $31,151,856
1998 27,313,597
1999 22,819,426
2000 19,576,874
2001 5,584,523
Thereafter 10,549,467
------------
Total $116,995,743
============
</TABLE>
For 1994, 1995 and 1996, total expense under these non-cancelable operating
leases was $3,825,514, $9,207,854, and $16,458,910, respectively.
7. STOCKHOLDERS' EQUITY
Stock Splits and Dividends -- The accompanying supplemental consolidated
financial statements and notes retroactively reflect all stock splits and stock
dividends. All share, per share and stock option data have been restated to
reflect the stock splits and stock dividends.
In 1995, a Director of the Company purchased 32,000 shares of the Company's
common stock for $450,000 by delivery of a note which is payable in monthly
installments commencing January 1996 through May 2002. The note is secured by
the purchased shares and is included in Due From Stockholder in the accompanying
supplemental consolidated balance sheet. In addition, the Company granted this
Director 42,675 stock options exercisable in installments over a seven-year
period at $14.06 per share.
In 1994, the Company issued shares of its common stock to two of its
stockholders in exchange for promissory notes totaling $3,000,000. The shares
were exchanged for the Company's Series T Preferred Stock which was subsequently
redeemed in exchange for cancellation of the promissory notes.
In 1994, the Company entered into a stock repurchase and mutual release
agreement with a former director and stockholder. Pursuant to this agreement,
such stockholder's entire equity interest was repurchased by the Company for
$153,000 in cash and a note payable of $230,000 which was paid in 1996.
In 1994, the Company entered into a stock repurchase and mutual release
agreement (the "Agreement") with a former officer of AHI. Under the terms of the
Agreement, the Company agreed to purchase the former officer's entire equity
interest representing approximately 19% of AHI's outstanding stock at the time
of repurchase for $1.1 million and to settle all outstanding employment-related
disputes for $1.3 million. The settlement payments were made in cash ($1.2
million) and a note payable ($1.2 million), which was paid in full in 1995. The
Company incurred $69,000 and $59,000 in interest expense in 1994 and 1995,
respectively. In connection with the Agreement, this former officer also
received an additional $300,000 upon the completion of AHI's initial public
offering in 1995
Preferred Stock -- During 1994, FPA issued a stock dividend consisting of one
share of Series A Redeemable Preferred Stock (the "Preferred Stock") for each
437,600 shares of FPA's Common Stock. Accordingly, five shares of Preferred
Stock were issued through the stock dividend, one to each of the Company's five
founding directors. The Preferred Stock was subsequently redeemed by FPA at
26
<PAGE> 27
the redemption price of $750,000 per share of Preferred Stock (aggregate
$3,750,000) in connection with the 1994 private placement of common stock.
Omnibus Stock Option Plan -- During 1994, FPA adopted the Omnibus Stock
Option Plan under which an aggregate of 1,000,000 shares of Common Stock of FPA
may be issued through incentive stock options or nonqualified stock options. On
July 13, 1995, October 31, 1996, March 17, 1997, and July 24, 1997, the
stockholders of the Company authorized an increase in the total number of shares
which may be granted under the plan to 1,500,000, 5,000,000, 6,500,000, and
8,000,000, respectively. The option price per share may not be less than 100% of
the fair market value of the Common Stock on the date of grant, as defined in
the stock option plan document. Options granted under the plan generally vest
over three to five years.
1994 Physician Stock Option Plan -- During 1994, FPA adopted the 1994
Physician Stock Option Plan under which an aggregate of 1,000,000 shares of
Common Stock of FPA may be issued through nonqualified stock options. The option
price per share may not be less than 100% of the fair market value of the Common
Stock on the date of grant, as defined in the stock option plan document.
Options granted under the plan generally vest over two to five years.
1995 Non-Employee Directors Non-Qualified Stock Option Plan -- On July 13,
1995, the stockholders of the Company approved the 1995 Non-Employee Directors
Non-Qualified Stock Option Plan under which options to purchase up to 200,000
shares of Common Stock may be granted to non-employee directors. Options granted
under the plan generally vest over one year.
1994 and 1995 Long-Term Incentive Plans (the "LT Plans") -- Under the LT
Plans, awards of options of common stock were granted to employees and
consultants as determined by the Compensation Committee. The LT Plans also
contained provisions permitting awards of restricted stock. The terms of any
awards of options and restricted stock were specified in each agreement as
determined by the Compensation Committee, including, but not limited to, the
purchase price, term, exercise, vesting, restrictions and employment
termination. These options were exercisable ratably over periods up to five
years. The LT Plans and any awards thereunder terminated no later than ten years
from date of grant. A total of 3,028,222 options were reserved for issuance
under the LT Plans. The LT Plans were terminated in connection with the AHI
Merger.
1995 Non-Employee Directors Stock Option Program -- On August 1, 1995 AHI
adopted the 1995 Non-Employee Directors Stock Option Program (the "Directors'
Plan"). A total of 39,222 shares of common stock were reserved for issuance
under the Directors' Plan. The Directors' Plan authorized the initial grant of
options to purchase up to 7,500 shares of common stock to each Non-Employee
Director and authorized an additional 1,000 option grant annually. The term of
each option was ten years from the date of grant and vests over a four year
period. The Directors' Plan was terminated in connection with the AHI Merger.
In 1994, Health Partners adopted a fixed stock option plan ("1994 Option
Plan") for key employees and consultants to acquire 450,000 shares of common
stock of the Health Partners. In 1995, Health Partners allocated 1,000,000
additional shares of common stock to the 1994 Option Plan. Options vest over
four to five years, become exercisable as specified in the individual stock
option agreements and expire ten years after the date of grant. The plan was
terminated in connection with the Health Partners merger.
In 1994, HealthCap established two Stock Option Plans (the "Plans"). The 1994
Quality Consultant Stock Option Plan (the "Consultants Plan") provides for the
grant of options to purchase up to 2,424,500 shares of common stock to certain
key consultants to the Company. During 1995, options to purchase 473,440 shares
were granted under the Consultants Plan (none in 1994). The 1994 Stock Option
Plan as amended provides for the grant of options to purchase up to 3,694,983
shares of common stock to key employees. The plans were terminated in connection
with the HealthCap merger.
27
<PAGE> 28
Stock option transactions and prices are summarized as follows:
<TABLE>
<CAPTION>
1995
NON-EMPLOYEE
OMNIBUS 1994 DIRECTORS LONG-TERM
STOCK PHYSICIAN STOCK NON-QUALIFIED INCENTIVE
OPTION PLAN OPTION PLAN STOCK OPTION PLAN PLANS
----------- --------------- ----------------- ----------
<S> <C> <C> <C> <C>
Shares under option:
Outstanding at
January 1, 1994 -- -- -- 1,075,404
Granted 858,254 -- -- 1,013,526
Exercised -- -- -- --
Canceled (3,000) -- -- --
---------- -------- ------ ----------
Outstanding at
December 31, 1994 855,254 -- -- 2,088,930
Granted 709,072 477,460 32,500 707,615
Exercised -- -- -- --
Canceled (13,692) (25) -- (74,757)
---------- -------- ------ ----------
Outstanding at
December 31, 1995 1,550,634 477,435 32,500 2,721,788
Granted in
connection with
Sterling merger 1,313,583 -- -- 194,000
Otherwise granted 3,077,801 184,292 14,500 --
Exercised (181,421) (14,200) (5,000) --
Canceled (35,477) (10,100) -- (221,389)
--------- ------- ------ ---------
Outstanding at
December 31, 1996 5,725,120 637,427 42,000 2,694,399
========= ======= ====== =========
</TABLE>
Common Stock -- All stock options are granted at fair market value of the
Common Stock at the grant date. The weighted average fair value of the stock
options granted during 1996 was $8.49. The fair value of each stock option grant
is estimated on the date of grant using the Black Scholes option pricing model
with the following weighted average assumptions used for grants in 1996:
28
<PAGE> 29
Risk-free interest rate of 5.7%; expected divided yield of 0%; expected life of
1.7-3 years; and expected volatility of 48%. Stock options generally expire ten
years from the grant date and generally vest over a three to five year period,
with one-third of the shares becoming exercisable on each of the first three
anniversaries of the grant date. The outstanding stock options at December 31,
1996 have weighted average remaining contractual life of 5.97 years. The number
of stock option shares exercisable at December 31, 1996 was 3,363,575. These
stock options have a weighted average exercise price of $10.84 per share.
The Company accounts for its options in accordance with Accounting Principles
Board Opinion No. 25, under which no compensation cost has been recognized for
stock option awards. Had compensation cost been determined consistent with SFAS
No. 123, the Company's pro forma net loss and net loss per share for 1995 would
have been $1,349,874 and $.07, respectively, and the Company's pro forma net
loss and net loss per share for 1996 would have been $76,466,211 and $2.79,
respectively. Because the SFAS No. 123 method of accounting has not been applied
to options granted prior to January 1, 1995, the resulting pro forma
compensation cost may not be representative of that to be expected in future
years.
The following table summarizes information about stock options outstanding at
December 31, 1996:
<TABLE>
<CAPTION>
WEIGHTED
NUMBER AVERAGE WEIGHTED NUMBER WEIGHTED
RANGE OF OUTSTANDING REMAINING AVERAGE EXERCISABLE AVERAGE
EXERCISE AT DECEMBER 31, CONTRACTUAL EXERCISE AT EXERCISE
PRICES 1996 LIFE PRICE DECEMBER 31, 1996 PRICE
----------------- --------------- ----------- -------- ----------------- --------
<S> <C> <C> <C> <C> <C>
$ 5.0000-$ 8.6250 2,968,742 4.84 $ 6.5899 1,498,470 $ 6.5665
$ 8.8750-$13.7500 1,664,773 8.17 11.5848 663,630 12.0322
$13.8125-$18.8438 2,524,767 3.48 14.9427 970,057 14.1507
$19.0625-$28.3750 1,940,664 9.04 19.5457 231,418 21.2540
--------- ---- -------- --------- --------
$ 5.0000-$28.3750 9,098,946 5.97 $12.5848 3,363,575 $10.8427
========= ==== ======== ========= ========
</TABLE>
Warrants -- In connection with the revolving line of credit agreement (see
Note 4), AHI granted a warrant to the bank to purchase 53,343 shares of its
common stock at $14.06 per share which expires on May 18, 2000. The warrant may
be converted to shares of common stock equal to the aggregate fair value of
shares less the total exercise price divided by the fair value per share on the
conversion date. Pursuant to AHI's merger with FPA on March 17, 1997, the
warrant was converted into a warrant to purchase FPA common stock.
8. INCOME TAXES
Upon the inception of the Company, the Company elected S Corporation status
under the Internal Revenue Code which provides that taxable income or loss is
attributable to the stockholders. The Company subsequently revoked its election
to be treated as an S Corporation and became subject to income taxes. In
accordance with Statement of Financial Accounting Standards No. 109, "Accounting
for Income Taxes," the Company recognized a deferred tax benefit on the date it
became a taxable enterprise.
The components of income tax expense for the years ended December 31 are as
follows:
<TABLE>
<CAPTION>
1994 1995 1996
----------- ----------- -----------
<S> <C> <C> <C>
Federal expense:
Current $ 1,896,870 $ 2,190,978 $ 5,273,179
Deferred (539,312) (755,192) (4,622,179)
State expense:
Current 431,936 543,882 1,813,982
Deferred (82,469) (300,348) (1,199,982)
----------- ----------- -----------
Total $ 1,707,025 $ 1,679,320 $ 1,265,000
=========== =========== ===========
</TABLE>
29
<PAGE> 30
The Company's income tax expense differs from the amount that would have
resulted from applying the Federal statutory rate to pretax income because of
the effect of the following items:
<TABLE>
<CAPTION>
1994 1995 1996
------ ----- ------
<S> <C> <C> <C>
Tax expense at U.S.
statutory rate 34.0% 34.0% 34.0%
Revocation of FPA S
Corporation status 20.2% -- --
State taxes, net of Federal
income tax benefit (18.8)% (1.4)% 0.5%
Nondeductible goodwill
amortization (4.2)% (8.3)% (8.4)%
Nondeductible acquisition
costs -- -- (4.1)%
Loss (with)/without carry
forward benefit (164.3)% (35.7)% (22.9)%
Other (1.0) (2.0)% (0.7)%
------ ----- ------
(134.1)% (13.4)% (1.6)%
====== ===== ======
</TABLE>
Deferred income taxes reflect the tax effects of temporary differences
between the carrying amounts of assets and liabilities for financial reporting
and the amounts used for income tax purposes. The tax effects of items
comprising the Company's net deferred tax assets and liabilities at December 31
are as follows:
<TABLE>
<CAPTION>
1995 1996
----------- ------------
<S> <C> <C>
Deferred tax assets:
Goodwill $ -- $ 4,087,001
Allowance for uncollectible
accounts 2,307,580 2,700,811
Accrued liability for
professional liability claims 321,256 595,000
Accrued expenses 434,000 1,267,000
Depreciation and amortization 22,000 76,000
Net operating losses 7,174,511 23,986,058
Accounts payable 9,917,000 3,864,000
Management fees payable 10,085,000 11,865,000
Other 395,392 5,701,821
----------- ------------
Total deferred tax assets 30,656,739 54,142,691
Valuation allowance (14,501,000) (35,624,000)
----------- ------------
Total deferred tax assets $16,155,739 $ 18,518,691
=========== ============
Deferred tax liabilities:
Geographic expansion costs $ (179,893) $ (392,305)
Start-up costs (231,498) --
State income tax -- (382,987)
Deferred compensation (57,565) (19,069)
Depreciation and amortization (1,008,458) (812,914)
Accounts receivable (9,873,000) (3,789,000)
Management fee receivables (1,913,000) (1,627,000)
Property, equipment and leasehold
improvements (270,000) (250,000)
Intangible assets (3,038,000)
Prepaid expenses (72,000) (33,000)
Other (194,000) (1,506,000)
------------ ------------
Total deferred tax liabilities $(13,799,414) $(11,850,275)
=----------- ------------
Net deferred tax assets $ 2,356,325 $ 6,668,416
============ ============
</TABLE>
Effective January 1, 1995, all but two of the Physician Networks, and
effective January 1, 1996, all but one of the Physician Networks, revoked their
S-Corporation status. As a result, approximately $750,000 of net operating
losses are not available to offset future California income otherwise taxable at
1.5%.
The Company has net operating loss carryforwards of approximately $48,400,000
which may be utilized in future years before expiring between 2007 and 2011. Of
this amount, approximately $1,200,000 arose from pre-acquisition losses of an
acquired Physician Network, the use of which is limited to future taxable income
of this Physician Network.
A valuation allowance has been provided to offset the deferred tax asset of
AHI based, in part, on the losses incurred by AHI for the year ended December
31, 1996. Under the separate return limitation year rules, the net operating
losses of AHI can only be utilized by income generated by the former AHI
entities. No valuation allowance has been provided for the remainder of the net
deferred tax assets based on management's estimate of future taxable income.
30
<PAGE> 31
9. MERGER, RESTRUCTURING AND OTHER UNUSUAL CHARGES
In 1995, the Company recorded nonrecurring expenses 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 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
$2.1 million in revenue and generated an operating loss (including the unusual
items) of $3.7 million during 1995.
In 1996, the Company recorded nonrecurring expenses of $52.6 million. This
amount is comprised of (i) costs related to the Sterling Merger in the amount of
$16.8 million comprised of investment bankers' fees, attorneys' fees,
accountants' fees, legal fees, and severance and compensation required to be
paid as part of the Sterling Merger, (ii) write-offs of goodwill and other
assets in the amount of $33.5 million related to terminated emergency room
contracts and unprofitable acquisitions, and (iii) restructuring charges in the
amount of $2.3 million primarily related to severance for terminated employees.
In the nine months ended September 30, 1997, the Company recorded
nonrecurring expenses of $38.0 million comprised of costs related to the AHI
Merger consisting of investment bankers fees, attorney's fees, accountants fees,
wind-down costs, and severance and compensation required to be paid as part of
the AHI Merger.
The Company anticipates incurring nonrecurring expenses of approximately
$20.9 million, comprised of costs related to the mergers with Health Partners
and HealthCap consisting of investment bankers fees, attorney's fees,
accountants fees, wind-down costs, and severance and compensation required to be
paid as part of the mergers. The Company anticipates recording such nonrecurring
expenses in the fourth quarter of fiscal 1997.
10. SEGMENT INFORMATION
Sterling is a physician practice management company engaged in the business
of providing contract management and support services primarily to
hospital-based emergency departments ("Emergency Department"). FPA manages the
provision of prepaid managed healthcare services for networks of primary care
physicians ("Managed Care"). The activities related to the Managed Care Business
segment and the Emergency Department Business segment are as follows:
<TABLE>
<CAPTION>
EMERGENCY MANAGED
DEPARTMENT CARE CONSOLIDATED
---------- --------- ------------
(THOUSANDS OF DOLLARS)
<S> <C> <C> <C>
Year Ended:
DECEMBER 31, 1996
Operating revenues $ 136,761 $ 540,714 $ 677,475
Loss from operations (6,154) (72,499) (78,653)
Assets employed at
year-end 77,900 554,707 632,607
Depreciation and
amortization 3,204 13,091 16,295
Capital expenditures 650 15,391 16,041
DECEMBER 31, 1995
Operating revenues $ 115,660 $ 224,961 $ 340,621
Income (loss) from
operations 6,502 (12,341) (5,839)
Assets employed at
year-end 78,608 185,897 264,505
Depreciation and
amortization 2,260 4,876 7,136
Capital expenditures 1,634 9,506 11,140
DECEMBER 31, 1994
Operating revenues $ 39,256 $ 92,178 $ 136,434
Income (loss) from
operations 2,349 (4,006) (1,657)
Assets employed at
year-end 26,742 36,433 63,175
Depreciation and
amortization 438 2,838 3,276
Capital expenditures 499 3,314 3,813
</TABLE>
31
<PAGE> 32
11. ACQUISITIONS
Following is a summary of material acquisitions consummated during 1996 by
the Company, one of its subsidiaries, or one of the Professional Corporations.
Such acquisitions were accounted for using the purchase method of accounting.
Goodwill totaling approximately $252.7 million was recorded, which is being
amortized over periods ranging from 25 to 30 years. In connection with these
acquisitions, the Company issued (i) Common Stock valued at $51.6 million, (ii)
notes payable of $163.8 million, and (iii) cash of $19.4 million.
<TABLE>
<S> <C>
VIP, IPA, A Professional Corporation January 1996
Foundation Health IPA January 1996
Century Family Medical Group, IPA January 1996
Century Family Medical Group, Inc. January 1996
Chabot Medical Group IPA January 1996
Private Physicians Group of Stanford February 1996
Physicians First, Inc. June 1996
Family First Pharmacy, Inc. June 1996
FPA Family Pharmacy, Inc. June 1996
Physicians Medical Group of Florida, Inc. June 1996
FHC IPA, Inc. July 1996
Intergroup IPA, P.C. July 1996
Foundation Health Medical Services(1) December 1996
Foundation Health Medical Group, Inc.(1) December 1996
FHMG/TDMC Medical Group, A Professional December 1996
Corporation(1)
Thomas Davis Medical Centers, P.C.(1) December 1996
</TABLE>
(1) The Company is in the process of determining the appropriate values to be
assigned to the assets acquired and liabilities assumed in connection with
these acquisitions. Accordingly, the Company's estimate of these values are
subject to revision upon completion of an independent valuation which may
result in an adjustment to goodwill.
The following unaudited pro forma financial information presents the
consolidated results of operations as if all significant acquisitions had
occurred as of the beginning of the periods presented, after including the
impact of certain adjustments, such as amortization of intangibles and goodwill,
executive compensation per employment agreements, and the related income tax
effects.
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
------------------------------
1995 1996
------------- -------------
<S> <C> <C>
Revenues $ 574,135,190 $ 836,817,802
Net loss (63,354,516) (149,569,879)
Net loss per share (2.38) (4.10)
</TABLE>
The Company believes that this unaudited pro forma information is not
indicative of future results of operations, nor of historical operations, if the
acquisitions had occurred as of the beginning of the periods presented.
12. LICENSURE
The application of FPA Medical Management of California, Inc., formerly known
as Family and Senior Care, Inc., a wholly-owned subsidiary of FPA, for a
restricted healthcare service plan license was approved by the California
Department of Corporations ("DOC") on December 5, 1996. Following that date, all
of the Company's managed care activity in the State of California occurred in
this subsidiary. On February 24, 1997 FPA submitted a Notice of Material
Modification to request incorporation of the California activity of AHI under
FPA's restricted DOC license.
13. SUBSEQUENT EVENTS (UNAUDITED)
The following significant events have occurred subsequent to December 31,
1996:
AHI Merger -- On March 17, 1997, FPA and AHI consummated a business
combination. As a result of the AHI Merger, each outstanding share of AHI common
stock was converted into 0.391 shares of FPA Common Stock. AHI stockholders were
issued 5,678,509 shares of FPA Common Stock representing approximately 18% of
the then total issued and outstanding shares of FPA Common Stock after the AHI
Merger. The AHI Merger has been treated as a tax-free reorganization and
accounted for as a pooling
32
<PAGE> 33
of interests. AHI is a health care management services organization which
integrates individual and small groups of primary care physicians and
specialists into local managed health care delivery systems, for which AHI
provides medical management systems and services.
HealthCap Merger -- On June 30, 1997, FPA merged with HealthCap in a
stock-for-stock merger accounted for as a pooling of interests in which
2,300,000 shares of FPA common stock were issued in exchange for all of the
outstanding shares of HealthCap common and preferred stock (including shares
covered by HealthCap vested options and outstanding warrants as of the effective
date) and FPA assumed certain HealthCap options. HealthCap is a physician
practice management company that provides management services for capitated
physician networks, including IPAs and single taxpayer model medical groups.
HealthCap is focused on the development and operation of primary care based
multi-specialty and women's health delivery systems in primary and secondary
markets where HMO market share has been historically low but is increasing.
HealthCap operates in California, Florida, Georgia, Missouri and Nevada. As of
March 31, 1997, HealthCap had a network of 1,540 primary care physicians which
provided healthcare services to approximately 50,000 enrollees under 12 Payor
contracts.
Health Partners Merger -- On October 13, 1997, FPA completed its merger
with Health Partners in a stock-for-stock merger accounted for as a pooling of
interests. Health Partners currently provides healthcare services to over
138,000 enrollees. Health Partners believes it is the largest physician practice
management organization in New York with over 103,000 HMO members and also has
operations in Ohio, Kentucky, Washington D.C., New Jersey, Texas and Virginia.
On September 2, 1997, FPA acquired Emergency Medical Care Incorporated
("EMC") for cash and shares of FPA common stock, subject to adjustment based on
certain performance criteria. The acquisition was accounted for as a purchase.
On September 30, 1997, FPA acquired Axminster in a stock-for-stock merger
accounted for as a pooling of interests in which shares of FPA common stock were
issued in exchange for all the outstanding shares of Axminster.
On November 26, 1997, the Company acquired Cornerstone Physicians
Corporation in a stock-for-stock merger accounted for as a pooling of interests.
Credit Agreement --On June 30, 1997, the Company entered into a commercial
paper credit agreement for a $225 million three-year revolving line of credit
("Line of Credit") and a $50 million four and one-quarter year term loan ("Term
Loan"). A maximum of $155 million and $30 million of the proceeds of the Line of
Credit can be used to refinance debt and to secure the Company's capitation
deposits, respectively. The remaining proceeds of the Line of credit can be used
for working capital. The proceeds of the Term Loan may be used to refinance
debt. The borrowings bear interest based on the prime rate plus 50-75 basis
points or the Interbank Eurodollar rate plus 150-175 basis points, as defined in
the agreement. In connection with the credit agreement the Company agreed to
maintain certain debt and equity ratios and profitability thresholds. The
Company's obligations under this facility are secured by the assets of the
Company and the stock of the Company's subsidiaries.
33
<PAGE> 34
INDEPENDENT AUDITORS' REPORT
To the Stockholders of FPA Medical Management, Inc.:
We have audited the supplemental consolidated balance sheet of FPA Medical
Management, Inc. and subsidiaries as of December 31, 1996 and the related
supplemental consolidated statements of operations, changes in stockholders'
equity and cash flows for the year then ended. These supplemental
consolidated financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements based on our audit. The supplemental consolidated financial
statements give retroactive effect to the 1997 mergers of FPA Medical
Management, Inc. with AHI Healthcare Systems, Inc., Healthcap, Inc., Axminster
Medical Group, Inc. and Health Partners, Inc., which have been accounted for as
poolings of interest as described in note 1 to the supplemental consolidated
financial statements. We did not audit the financial statements of Health
Partners, Inc., a wholly-owned subsidiary as a result of a merger effective
October 13, 1997, which was accounted for as a pooling of interest, which
statements reflect total assets and revenues of $47,669,000 and $74,822,000,
respectively, of the related consolidated totals. These statements were audited
by other auditors whose report has been furnished to us, and our opinion,
insofar as it relates to amounts included for Health Partners, Inc., is based
solely on the report of the other auditors.
We conducted our audit 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 audit and the report of the other auditors provides a
reasonable basis for our opinion.
In our opinion, based on our audits and the reports of the other auditors, such
consolidated financial statements present fairly, in all material respects, the
financial position of FPA Medical Management, Inc. and subsidiaries as of
December 31, 1996, and the results of their operations and their cash flows for
the year ended December 31, 1996 in conformity with generally accepted
accounting principles.
We previously audited and reported on the consolidated balance sheet of FPA
Medical Management, Inc. and subsidiaries as of December 31, 1995 and the
related consolidated statements of operations, changes in stockholders' equity
and cash flows for each of the two years in the period ended December 31, 1995,
prior to their restatement for the poolings of interests with Sterling
Healthcare Group, Inc. in 1996, and AHI Healthcare Systems, Inc. and Health
Partners, Inc. in 1997, as described in note 1 to the supplemental consolidated
financial statements. We did not audit the consolidated balance sheet of
Sterling Healthcare Group, Inc. as of December 31, 1995, or the related
consolidated statements of operations, changes in stockholders' equity and cash
flows of Sterling Healthcare Group, Inc. for the period June 1, 1994 (date of
inception) to December 31, 1994, and the year ended December 31 1995, which
statements reflect total assets of $78,608,000 as of December 31, 1995, and
total revenues of $39,256,000 and $115,660,000 for the period June 1, 1994 (date
of inception) to December 31, 1994, and the year ended December 31, 1995,
respectively. We also did not audit the consolidated balance sheet of Health
Partners, Inc. as of December 31, 1995 or the related consolidated statements of
operations, changes in stockholders' equity and cash flows of Health Partners,
Inc. for each of the years in the two-year period ended December 31, 1995, which
statements reflect total assets of $30,653,000 as of December 31, 1995, and
total revenues of $11,001,000 and $32,141,000 for the years ended December 31,
1994 and 1995, respectively. We also did not audit the consolidated balance
sheet of AHI Healthcare Systems, Inc. as of December 31, 1995, or the related
consolidated statements of operations, changes in stockholders' equity and cash
flows of AHI Healthcare Systems, Inc. for each of the years in the two-year
period ended December 31, 1995, which statements reflect total assets of
$76,256,000 as of December 31, 1995, and total revenues of $60,746,000 and
$114,284,000 for the years ended December 31, 1994 and 1995, respectively.
Separate financial statements of the other companies included in the 1995 and
1994 supplemental consolidated financial statements were audited and reported on
separately by other auditors. We also audited the combination of the
accompanying supplemental consolidated balance sheet as of December 31, 1995,
and the related supplemental consolidated statements of operations, changes in
stockholders' equity and cash flows for each of the two years in the period
ended December 31, 1995, after restatement for the 1996 and 1997 poolings of
interests; in our opinion, such consolidated statements have been properly
combined on the basis described in note 1 to the supplemental consolidated
financial statements.
/s/ DELOITTE & TOUCHE LLP
San Diego, California
May 2, 1997 (except for the
1997 poolings of interests
as described in paragraphs
5 through 7 of note 1, for
which the date is December
8, 1997)
34
<PAGE> 35
REPORT OF INDEPENDENT AUDITORS
Stockholders and Board of Directors AHI HealthCare Systems, Inc.
We have audited the accompanying consolidated balance sheet of AHI Healthcare
Systems, Inc., as of December 31, 1995, and the related consolidated statements
of operations, stockholders' equity and cash flows for each of the two years in
the period ended December 31, 1995. These financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements 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 consolidated financial position of AHI Healthcare
Systems, Inc., at December 31, 1995, and the consolidated results of its
operations and its cash flows for each of the two years in the period ended
December 31, 1995, in conformity with generally accepted accounting principles.
ERNST & YOUNG LLP
Los Angeles, California
February 22, 1996
35
<PAGE> 36
REPORT OF INDEPENDENT ACCOUNTANTS
Board of Directors
Sterling Healthcare Group, Inc.
Coral Gables, Florida
We have audited the consolidated balance sheets of Sterling Healthcare Group,
Inc. as of December 31, 1995, and the related consolidated statements of
operations, changes in stockholders' equity, and cash flows for year ended
December 31, 1995 and the seven month period ended December 31, 1994. These
financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements 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 consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Sterling Healthcare
Group, Inc. as of December 31, 1995, and the results of their operations and
their cash flows for the year ended December 31, 1995 and the seven month period
ended December 31, 1994, in conformity with generally accepted accounting
principles.
/s/ COOPERS & LYBRAND LLP
Miami, Florida
March 15, 1996
36
<PAGE> 37
INDEPENDENT AUDITORS' REPORT
To the Stockholders and Board of Directors of
Health Partners, Inc.:
We have audited the accompanying consolidated statements of financial
position of Health Partners, Inc. and Subsidiaries as of December 31, 1994,
1995 and 1996 and the related consolidated statements of operations, changes in
stockholders' equity, and cash flows for each of the years in the three-year
period ended December 31, 1996. These consolidated financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these consolidated financial statements 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 consolidated financial statements referred to above
present fairly, in all material respects, the financial position of Health
Partners, Inc. and Subsidiaries as of December 31, 1994, 1995 and 1996 and the
results of their operations and their cash flows for each of the years in the
three-year period ended December 31, 1996 in conformity with generally accepted
accounting principles.
/s/ KPMG Peat Marwick LLP
White Plains, New York
February 28, 1997
37
<PAGE> 38
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this current report on Form 8-K to be signed on its
behalf by the undersigned hereunto duly authorized.
FPA MEDICAL MANAGEMENT, INC.
By: /s/ Steven Lash
----------------------------------
Title: Executive Vice President and
Chief Financial Officer
Date: December 9, 1997
38
