<PAGE> 1
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10 - Q
[ X ] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 1999
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
Commission File No. 0-23998
FIRST CHOICE HEALTH NETWORK, INC.
(Name of small business issuer as specified in its charter)
Washington 91-1272766
(State or other jurisdiction of (I.R.S. employer
incorporation or organization) identification number)
601 Union Street
Suite 1100
Seattle, Washington 98101
(Address of principal
executive offices)
(206) 292-8255
(Issuer's telephone number, including area code)
Check whether the issuer: (1) filed all reports required to be filed by
Section 13 or 15 (d) of the Exchange Act during the past 12 months (or for
such shorter period that the Registrant was required to file such reports),
and (2) has been subject to such filing requirements for the past 90 days.
Yes _____ No ___X___
The aggregate number of Registrant's shares of Class A Common Stock and Class
B Common Stock outstanding on March 31, 1999, was 615 shares and 40,600 shares,
respectively.
1
<PAGE> 2
FIRST CHOICE HEALTH NETWORK, INC.
INDEX TO FORM 10-Q
Page
Part I Financial Information
Item 1 Financial Statements
Consolidated Balance Sheets
at March 31, 1999 and
December 31, 1998 . . . . . . . . . . 3
Consolidated Statements of Operations
for the Three Months Ended
March 31, 1999 and 1998 . . . . . . . . 5
Consolidated Statements of Cash Flows
for the Three Months Ended
March 31, 1999 and 1998. . . . . . . . 6
Notes to Consolidated
Financial Statements . . . . . . . . . 8
Item 2 Management's Discussion and Analysis of
Financial Condition and Results of Operations. . . . 19
Part II Other Information
Item 1 Legal Proceedings. . . . . . . . . . . . . . . . . . . . 21
Item 2 Changes in Securities . . . . . . . . . . . . . . . . . 21
Item 3 Defaults Upon Senior Securities . . . . . . . . . . . . 21
Item 4 Submission of Matters to a
Vote of Security Holders . . . . . . . . . . . . . . . . 21
Item 5 Other Information . . . . . . . . . . . . . . . . . . . 21
Item 6 Exhibits and Reports on Form 8-K . . . . . . . . . . . . 21
Signatures . . . . . . . . . . . . . . . . . . . . . . . 21
2
<PAGE> 3
FIRST CHOICE HEALTH NETWORK, INC. AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS
(UNAUDITED)
MARCH 31, 1999 AND DECEMBER 31, 1998
<TABLE>
<CAPTION>
March 31, December 31,
ASSETS 1999 1998
<S> <C> <C>
CURRENT ASSETS:
Cash and cash equivalents $7,020,303 $ 5,759,751
Service fees receivable, net of allowance for doubtful
accounts of $126,000 for 1999 and $146,000 for 1998 2,166,081 2,234,969
Service fees and premiums
receivable from related parties 1,460,012 1,504,537
Premiums receivable, net of allowance for doubtful
accounts of $242,429 for 1999 and $215,014 for 1998 2,672,841 1,997,926
Due from related provider organizations 106,179 1,586,381
Due from unrelated provider organizations 57,108 972,785
Prepaid expenses 430,963 390,748
Deferred tax assets (Note 30) 70,612 152,318
Other current assets 270,341 81,178
----------- -----------
Total current assets 14,254,441 14,680,593
FURNITURE, EQUIPMENT, AND COMPUTER SOFTWARE:
Furniture and equipment 2,746,188 2,601,718
Computer software 309,351 306,522
----------- -----------
3,055,539 2,908,240
Less accumulated depreciation and amortization 1,623,281 1,488,358
----------- -----------
Furniture, equipment and computer software, net 1,432,259 1,419,882
OTHER ASSETS:
Restricted indemnity cash 1,746,103 1,705,956
Goodwill, net of accumulated amortization of $130,331
and $113,616 234,929 307,310
Other intangible assets, net of accumulated amortization
of $373,156 and $91,743 2,539,912 2,598,657
----------- -----------
Total other assets 4,520,943 4,611,923
----------- -----------
TOTAL $20,207,643 $20,712,398
=========== ===========
</TABLE>
See accompanying notes to consolidated financial statements.
3
<PAGE> 4
FIRST CHOICE HEALTH NETWORK, INC. AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS
(UNAUDITED)
MARCH 31, 1999 AND DECEMBER 31, 1998
<TABLE>
<PAGE>
<CAPTION>
March 31, December 31,
LIABILITIES AND STOCKHOLDERS' EQUITY 1999 1998
CURRENT LIABILITIES:
<S> <C> <C>
Accounts payable $ 621,842 377,850
Accrued expenses 2,128,224 1,609,202
Reserve for unpaid claims and claims
adjustment expenses 1,936,220 2,102,364
Due to related provider organizations 50,552 1,229,331
Due to unrelated provider organizations 276,256 247,355
Federal income tax payable 144,811 28,417
Unearned premiums 260,396 137,280
Deferred income taxes 116,502 136,715
Note Payable 1,888,018 1,887,996
----------- ----------
Total current liabilities 7,422,821 7,756,510
NOTE PAYABLE 694,651 999,671
DEFERRED INCOME TAXES 104,680 112,624
MINORITY INTEREST 1,288,243 1,320,085
COMMITMENTS (Notes 4)
SHAREHOLDERS' EQUITY:
Common Stock:
Class A, par value $10 - Authorized, 30,000 shares;
issued and outstanding, 615 and 619 shares 615 619
Class B, par value $1 - Authorized, 70,000 shares;
issued and outstanding, 40,600 and 40,600 shares 40,600 40,600
Additional paid-in capital 4,385,102 4,385,102
Shareholder receivable
Paid-in capital from affiliates 1,472,108 1,472,108
Retained earnings 4,798,823 4,625,080
----------- ------------
Total shareholders' equity 10,697,248 10,523,508
----------- ------------
TOTAL $20,207,643 $20,712,398
=========== ============
</TABLE>
See accompanying notes to consolidated financial statements.
4
<PAGE> 5
FIRST CHOICE HEALTH NETWORK, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF INCOME
(UNAUDITED)
FOR THE THREE MONTHS ENDED MARCH 31, 1999 AND 1998
<TABLE>
<CAPTION>
1999 1998
OPERATING REVENUE:
<S> <C> <C>
Premium revenue $15,872,622 $ 9,188,304
Premium revenue, related parties 1,575,366 1,250,173
Network access fees 1,919,995 1,346,467
Hospital administrative fees 1,339,760 617,513
Other
----------- ----------
Total operating revenue 20,707,743 12,402,457
OPERATING EXPENSES:
Medical expenses 9,236,810 5,585,075
Medical expenses, related parties 6,157,874 3,723,384
Payroll and related expenses 2,344,449 1,544,710
Selling, general, and administrative expenses 2,656,337 1,534,841
----------- ----------
Total operating expenses 20,395,469 12,388,010
----------- ----------
Operating income 312,274 14,447
OTHER INCOME (EXPENSE):
Interest and dividends 102,331 140,880
Other (52,760)
---------- ----------
49,571 140,880
---------- ----------
Income before federal income taxes
and minority interest 361,845 155,327
FEDERAL INCOME TAXES 219,943 140,327
---------- ----------
141,902 15,000
MINORITY INTEREST 31,842 89,970
---------- ----------
NET INCOME $ 173,744 $ 104,970
========== ==========
NET INCOME PER COMMON SHARE $ 2.96 $ 1.79
========== ==========
WEIGHTED AVERAGE SHARES OUTSTANDING 58,615 58,650
========== ==========
</TABLE>
See accompanying notes to consolidated financial statements.
5
<PAGE> 6
FIRST CHOICE HEALTH NETWORK, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
FOR THE THREE MONTHS ENDED MARCH 31, 1999 AND 1998
<TABLE>
<CAPTION>
1999 1998
OPERATING ACTIVITIES:
<S> <C> <C>
Net income $ 173,744 $ 104,969
Adjustments to reconcile net income to net cash
provided (used) by operating activities:
Depreciation 134,923 85,251
Amortization 298,128 15,261
Deferred income taxes, net (42,543) (35,496)
Provision for doubtful accounts 57,415 26,068
Minority interest (31,842) (89,580)
Cash provided (used) by changes in operating
assets and liabilities:
Service fees receivable 113,413 388,168
Premiums receivable (674,915) (189,750)
Federal income tax receivable 116,394 177,721
Prepaid expenses (40,215) (149,044)
Other current assets (189,163) (982)
Accounts payable 243,991 (37,815)
Accrued expenses 519,022 (836,939)
Reserve for unpaid claims and claims
adjustment expenses (166,144) 443,124
Due to (from) related provider organizations 669,803 (365,404)
Due to (from) unrelated provider organizations 489,800 (243,603)
Unearned premiums 123,116 (133,979)
---------- ----------
Net cash provided by operating activities 1,794,927 (842,030)
INVESTING ACTIVITIES:
Purchase of investment securities available for sale
Sales and maturities of investment securities
available for sale
Purchase of furniture, equipment, and
computer software (147,299) (107,313)
Increase in restricted indemnity cash (40,147) (1,403,371)
Interest payment on note payable (37,760)
---------- -----------
Net cash provided (used) by investing activities (225,206) (1,510,684)
--------- -----------
BALANCE, carried forward 1,569,721 (2,352,714)
</TABLE>
See accompanying notes to consolidated financial statements.
6
<PAGE> 7
FIRST CHOICE HEALTH NETWORK, INC. AND SUBSIDIARY
CONSOLDIATED STATEMENTS OF CASH FLOWS (CONTINUED)
(UNAUDITED)
FOR THE THREE MONTHS ENDED MARCH 31, 1999 AND 1998
<TABLE>
<CAPTION>
1999 1998
<S> <C> <C>
BALANCE, brought forward $ 1,569,721 $ (2,352,714)
FINANCING ACTIVITIES:
Repurchase of Class A common stock and membership
rights from physicians (4149)
Payment on note payable (305,020)
------------ ------------
Net cash provided by financing activities (309,169)
------------ --------------
NET INCREASE IN CASH AND CASH EQUIVALENTS 1,260,552 (2,352,714)
CASH AND CASH EQUIVALENTS:
Beginning of year 5,759,751 11,356,346
----------- ----------
End of year $7,020,303 $9,003,632
=========== ==========
</TABLE>
See accompanying notes to consolidated financial statements.
7
<PAGE> 8
FIRST CHOICE HEALTH NETWORK, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
NOTE 1:DESCRIPTION OF BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Presentation of interim information: The unaudited consolidated financial
statements and related notes have been prepared pursuant to the rules and
regulations of the Securities and Exchange Commission. In the opinion of
the management of First Choice Health Network, Inc. and Subsidiary, the
accompanying unaudited consolidated financial statements include all normal
adjustments considered necessary to present fairly the financial position
as of March 31, 1999, and the results of operations for the three months
ended March 31, 1999 and 1998, and cash flows for three months ended March
31, 1999 and 1998. The consolidated results of operations presented are
not necessarily indicative of the consolidated results for a full year.
Description of business: First Choice Health Network, Inc. (the Company)
was incorporated under the laws of the state of Washington on September 28,
1984. The Company was formed to organize a network of independent
participating physicians and hospitals to provide a comprehensive, managed
health care delivery system for group plans established by employers and
benefit groups. The Company's business is conducted primarily in
Washington, Oregon, and Alaska.
The Company's wholly owned subsidiary, First Choice Health Plan, Inc., (the
Plan) is a health care services contractor which was formed on January 31,
1995, to offer fully insured health care services to an enrolled population
in Washington state.
Principles of consolidation: The consolidated financial statements include
the accounts of the Company and the Plan. All significant intercompany
accounts have been eliminated in consolidation.
New accounting pronouncements: On June 16, 1998 the Financial Accounting
Standards Board (FASB) issued SFAS No. 133, Accounting for Derivative
Instruments and Hedging Activities, which is effective for fiscal years
beginning after June 15, 2000. SFAS No. 133 establishes accounting and
reporting standards for derivative instruments and hedging activities.
Under this statement, certain derivatives are recognized at fair value and
changes in fair market value are recognized as gains or losses. Management
is currently studying this pronouncement to determine its effect, if any,
on the Company's financial statements.
8
<PAGE> 9 FIRST CHOICE HEALTH NETWORK, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED)
Cash equivalents: The Company considers all highly liquid investments
purchased with an original maturity of three months or less to be cash
equivalents. At March 31, 1999 and December 31, 1998, cash equivalents
consist of cash management funds of $7,020,303 and $5,759,751,
respectively.
Service fees receivable: Service fees receivable consist primarily of
estimates for hospital administrative fees receivable related to claims
incurred on or before the balance sheet date but not reported. The
Company evaluates the reasonableness of hospital administrative fees
receivable based on claims reported in subsequent periods. These
estimates are subject to the effects of trends in claims. Although
considerable variability is inherent in such estimates, management
believes that the hospital administrative fees receivable are reasonable.
The estimates are continually reviewed and adjusted as necessary in the
period new information becomes known.
Allowance for doubtful accounts: The Company performs periodic credit
evaluations of its customers and maintains an allowance for potential
credit losses related to service fees receivable.
Premiums receivable: Premiums receivable represents monthly group health
insurance premiums billed and outstanding.
Furniture, equipment, and computer software: Furniture, equipment, and
computer software are recorded at cost. Depreciation and amortization are
computed using the straight-line method over the lesser of the estimated
useful lives of the assets or lease term ranging from three to five years.
Restricted indemnity cash: Restricted indemnity cash consists of amounts
required to be restricted for potential claims from enrollees as required
by the Office of Insurance Commissioner.
Other intangible assets: Intangible assets assumed in the Sound Health PPO
network acquisition were trademarks, contracts, and a noncompetition
agreement. Intangible assets are amortized using the straight-line method
over three years.
9
<PAGE> 10 FIRST CHOICE HEALTH NETWORK, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED)
Goodwill: Goodwill is determined as the difference between the purchase
price and fair value of identifiable net assets purchased. Goodwill is
amortized using the straight-line method over three to five years. Events
or changes in circumstances have not occurred that indicate the value of
goodwill has been impaired as of March 31, 1999 and December 31, 1998.
Reserve for unpaid claims and claims adjustment expenses: This liability
represents reported and unreported claims which have been incurred but have
not been paid at the date of the financial statements. The reserve for
unreported claims is determined actuarially using prior experience and the
nature of current health insurance contracts and volume. Included in the
liability is an estimate of the future expenses necessary to settle claims.
Due to the uncertainties inherent in the estimation process, actual costs
may differ from the estimated amounts in the near term, and these
differences may be significant.
Due to (from) related (unrelated) provider organizations: This liability
or asset is the amount due to (from) health care providers in conjunction
with capitation arrangements, which is computed by subtracting the claims
payments made on behalf of the provider from the capitated amounts
contractually allocated to them. The ultimate payout or receipt of these
amounts is subject to a settlement process subsequent to the contract year
end. The Company believes the amounts recorded appropriately reflect the
ultimate settlement amounts.
Unearned premiums: Unearned premiums consists of insurance premiums
received prior to fiscal year end for health insurance coverage subsequent
to year end.
Operating revenue: Operating revenue consists primarily of premium
revenue, network access fees, and hospital administrative fees. Premium
revenue represents amounts charged for health care services and is
recognized as revenue in the period for which enrollees are entitled to
medical care. Network access fees are recognized as earned during the
period of coverage and are recorded at contractual rates. Hospital
administrative fees are recognized as earned in the period hospital claims
are incurred by a subscriber and are recorded at a contractual percentage
of the claims.
One subscriber group provided 37.47% of the premium revenue for the three
months ended March 31, 1999.
Income taxes: Deferred tax assets and liabilities are recognized for the
future tax consequences attributable to differences between the financial
statement carrying amounts of assets and liabilities and their respective
tax bases. Deferred tax assets and liabilities are measured using enacted
tax rates expected to apply to taxable income in the years in which those
temporary differences are expected to reverse. The effect on the deferred
tax assets and liabilities of a change in tax rates is recognized in
10
<PAGE> 11 FIRST CHOICE HEALTH NETWORK, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED)
income in the period that includes the enactment date. A valuation
allowance is established to the extent that it is more likely than not that
deferred tax assets will not be realized.
Valuation of long-lived assets: Using its best estimates, based on
reasonable and supportable assumptions and projections, the Company reviews
its long-lived assets for impairment whenever events or changes in
circumstances have indicated that the carrying amounts of its assets might
not be recoverable. At March 31, 1999 and 1998, no write downs were
required.
Earnings per share: Net income per common share is computed by dividing
income available to common shareholders by the weighted average number of
common shares outstanding during the period, including 41,215 and 41,248
common shares and 17,400 and 17,400 shares applicable to affiliate common
share equivalents for periods ended March 31, 1999 and 1998, respectively.
Shares issued during the period and shares reacquired during the period
were weighted for the portion of the period that they were outstanding.
There are no dilutive securities.
Use of estimates: Preparation of consolidated financial statements in
conformity with generally accepted accounting principles requires
management to make estimates and assumptions that affect the reported
amounts of assets and liabilities and disclosure of contingent assets and
liabilities at the date of the financial statements and the reported
amounts of revenues and expenses during the reporting period. Actual
results could differ from those estimates.
NOTE 2:SHAREHOLDERS' EQUITY
Ownership of stock: Class A voting common stock may be held solely by
physicians licensed in the state of Washington who contract with the
Company to provide health care services and who hold active, associate, or
provisional medical staff privileges at one or more of the hospitals that
contract with the Company to provide health care services.
Class B voting common stock may be held by hospitals in the state of
Washington that contract with the Company to provide health care services.
Voting rights: Holders of each outstanding share of Class A or Class B
common stock are entitled to one vote on each matter submitted to a vote at
meetings of shareholders, and each class of common stock votes as a
separate class.
Transfer of stock: Shareholders may only transfer their stock in the
Company to the Company for repurchase. The repurchase price is established
by the Board of Directors each fiscal year as set forth in the bylaws.
Class A shares were repurchased at $1,031.95 and $1,108.15 per share for
periods ended March 31, 1999 and 1998, respectively.
Dividends: The Board of Directors may declare and pay dividends on one or
more classes of common stock at such times and in such amounts as it
designates, but in no event may dividends be paid while there is an
outstanding obligation to repurchase shares. Dividends are allocated among
shareholders of each class of stock according to the number of shares
outstanding to each Class A or B shareholder. Any dividends paid to the
Class B shareholders must be shared with the nonshareholder district
hospitals that have rights equivalent to that of the Class B shareholders.
Liquidation rights: Upon liquidation or dissolution, the Board of Directors,
at its discretion, will allocate the value of assets among the
classes of its outstanding stock in proportion to the capital contributions
of shareholders of each class. For these purposes, the contributions by
the nonshareholder district hospitals that have rights equivalent to that
of the Class B shareholders and the membership fees paid by Class A
shareholders are considered
11
<PAGE> 12 FIRST CHOICE HEALTH NETWORK, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED)
contributions. The allocation to Class A shareholders will be shared among
all Class A shareholders in accordance with the number of shares
outstanding to each Class A shareholder. The allocation of the Class B
shareholders must be shared with the nonshareholder hospitals that have
rights equivalent to that Class B shareholders.
Paid-in capital from affiliates: District hospitals are not shareholders
of the Company, but have contractual agreements with the Company that
provide for certain rights and obligations equivalent, but not identical,
to those of Class B shareholders, including liquidation and dividend
rights. The capital contributions of the nonshareholders are recorded as
paid-in capital from affiliates. These contractual agreements are
considered to be common share equivalents for purposes of calculating net
income per common share.
Common stock: In January 1998, the owners of the Plan entered into an
agreement which increased the Company's ownership in the common stock of
the Plan from 75.1% to 80%. The purpose of the increase in common stock
ownership was to allow for the consolidation of tax returns between the
Company and the Plan. This transaction by Health Washington included
exchanging of common stock held by the minority owners for the same number
of preferred shares. This preferred stock is nonvoting and noncumulative
and has a dividend rate of 8.75%.
NOTE 3: FEDERAL INCOME TAXES
Federal income taxes consist of the following components:
Three months ended
March 31, March 31,
1999 1998
---- ----
Current $262,486 $ 171,715
Deferred (42,543) (31,388)
-------- --------
$219,943 $140,327
======== ========
12
<PAGE> 13
FIRST CHOICE HEALTH NETWORK, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED)
Federal income taxes differ from the amount computed by applying the expected
U.S. corporate income tax rate to income before federal income taxes for the
three months ended March 31 as follows:
<TABLE>
<CAPTION>
1999 1998
--------------------- ---------------------
Amount Percent Amount Percent
<S> <C> <C> <C> <C>
Computed expected rate $133,854 34.0% $ 83,400 34.0%
Tax effect of permanent differences:
Other 86,089 21.9 56,927 23.2%
---------- ------ ------ --------
$219,943 55.9% $ 140,327 57.2%
======== ====== ======== ========
</TABLE>
The deferred tax assets and liabilities resulting from the tax effects of
temporary differences at March 31, 1999 and December 31, 1998 are presented
below:
March 31, December 31,
1999 1998
------------ ------------
Deferred tax assets:
Net operating losses $1,598,029 $1,598,029
Reduction of shareholders' equity 213,724 213,724
Allowance for doubtful accounts 122,745
122,745
Other 53,664 53,664
---------- -----------
Gross deferred tax assets 1,988,162 1,988,162
Valuation allowance 1,835,844 1,835,844
----------- -----------
Net deferred tax assets 152,318 152,318
Deferred tax liabilities:
Cash to accrual adjustment 197,093 225,248
Furniture, equipment and computer software 34,597 24,091
---------- --------
Total deferred tax liabilities 231,690 249,339
---------- --------
Deferred income tax liability, net $ 79,372 $ 97,021
========== =========
Current portion of deferred tax assets $ 152,318 $ 152,318
========= ===========
Current portion of cash to accrual adjustment 119,066 136,715
Long-term portion of deferred tax liabilities 112,624 112,624
--------- ---------
Deferred income tax liability $ 231,690 $ 249,339
========= =========
13
<PAGE> 14
FIRST CHOICE HEALTH NETWORK, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED)
The valuation allowance was established in 1997 against the tax benefit of
the 1997 net operating losses (NOLs) of the Plan since the Plan will file a
separate federal income tax return for the final six months of 1997 and the
realization of the tax benefit is unlikely. The allowance is also provided
for NOLs acquired in the Health First Partners merger, and the reduction of
shareholders equity as described in Note 10. The following schedule
represents the amounts of the Plan NOLs and their expiration date:
2003 $ 138,000
2007 328,438
2008 53,781
2009 20,754
2010 1,584,667
2011 1,850,561
2012 527,885
2013 196,000
----------
$4,700,086
==========
NOTE 4:COMMITMENTS
Leases: The Company leases its office facilities and some office equipment
under operating leases expiring through 2003. The leases provide for
monthly minimum rent payments, and some include renewal options for an
additional five years.
Rental expense charged to operations under the operating leases for the
three months March 31, 1999 and 1998, was $176,127 and $82,271,
respectively.
Future minimum lease payments under the operating leases for the years
ended December 31 are as follows:
1999 563,395
2000 817,500
2001 815,204
2002 830,026
2003 431,540
-----------
$3,457,665
===========
14
<PAGE> 15
FIRST CHOICE HEALTH NETWORK, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED)
NOTE 5:REPORTABLE OPERATING SEGMENTS
Factors management used to identify the enterprise's reportable segments:
The Company has two reportable segments which correspond to the
organization of the parent Company and its majority-owned subsidiary, the
Plan. Each segment requires distinct tracking capabilities in the areas
of revenues, claims processing, marketing strategies and reporting to
regulatory organizations.
Description of the types of products and services from which each
reportable segment derives its revenue: The Company has two primary
products which have been aggregated into one reportable segment: network
access fees and hospital administration fees. Network access fees arise
from the rental of the Company's large PPO network while hospital
administration fees arise from charges to the network hospitals based on
claims incurred by members. The other reportable segment, The Plan, offers
a variety of fully insured health insurance plans to employer groups.
Measurement of segment profit or loss and segment assets: The accounting
policies of the segments are the same as those described in the summary of
significant accounting policies. The Company evaluates performance based
on profit and loss from operations before income taxes not including
nonrecurring gains and losses. The Company accounts for intersegment
revenues by assigning a management fee to the Plan that is an estimate of
resources expended on the Plan's behalf.
Information about profit or loss and assets of reportable segments as of
March 31, 1999 and 1998 are as follows:
<TABLE>
<CAPTION>
First Choice First Choice
Health Network Health Plan Total
-------------- ----------- -----
<S> <C> <C> <C>
1999:
Revenues from external customers $ 2,870,336 $17,837,407 $20,707,743
Interest Revenue 21,300 81,031 102,331
Interest Expense (37,760) (15,000) (52,760)
Depreciation/amortization expense (194,615) 31,410 (163,205)
Income tax expense (benefit) 291,824 (71,881) 219,943
Expenditures on furniture, equipment
and computer software -
Segment profit (loss) 313,656 (171,754) 141,902
Assets 20,966,886 10,581,370 31,548,256
Liabilities 5,229,937 2,875,821 8,105,758
1998:
Revenues from external customers 1,710,695 10,691,762 12,402,457
Interest revenue 25,087 145,792 170,879
Interest expense 30,000 30,000
Depreciation/amortization expense 72,545 27,967 100,512
Income tax expense (benefit) 140,327 140,327
Expenditures on furniture, equipment
and computer software 107,313 107,313
Segment profit (loss) 657,802 (732,384) (74,582)
Assets 13,948,041 11,918,331 25,866,372
Liabilities 985,259 6,673,897 7,659,156
</TABLE>
15
<PAGE> 16
FIRST CHOICE HEALTH NETWORK, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED)
<TABLE>
<CAPTION>
1999 1998
---- ----
<S> <C> <C>
Revenues:
Total revenues for reportable segments
and consolidated revenues $20,707,743 $ 12,402,457
=========== ===========
Profit or loss:
Total profit or loss for reportable segments $ 141,902 $ (74,582)
Adjustment for minority interest in
consolidated statements 31,842 89,970
---------- -----------
Consolidated net income $ 173,744 $ 15,388
========== ===========
Assets:
Total assets for reportable segments $31,548,256 $25,866,372
Elimination of intercompany investment (11,457,007) (7,316,056)
----------- -----------
Consolidated total assets $20,091,249 $18,550,316
=========== ===========
Liabilities:
Total liabilities for reportable segments $ 8,105,758 $ 7,659,156
Elimination of intercompany balances ----------- -----------
Consolidated total liabilities $ 8,105,758 $ 7,659,159
=========== ===========
</TABLE>
Substantially all of the revenues from external customers are derived from
within the state of Washington.
Revenues from one customer of the Plan for the three months ended March 31,
1999 and 1998 represent approximately $6,243,000 and $5,061,000 respectively,
of the Company's consolidated revenues.
NOTE 6:FAIR VALUE OF FINANCIAL INSTRUMENTS
The carrying amount of cash and cash equivalents, service fees and premiums
receivable, accounts payable and due to provider organizations approximates
fair value because of the short maturity of these instruments.
NOTE 7:RETIREMENT PLAN
The Company has a qualified 401(k) Employee Savings and Profit Sharing Plan
covering all full time employees. Under the plan, employees can defer up to
12% of eligible compensation. The Company matches 50% of the employee
contribution, up to 6% of the employee's eligible salary. Employees become
fully vested in employee and employer contributions when the contributions are
made. The Company also has the option to make an additional profit sharing
contribution to the plan. Employer contributions to the plan for the three
months ended March 31, 1999 and 1998, amounted to $20,084 and $28,996,
respectively.
16
<PAGE> 17 FIRST CHOICE HEALTH NETWORK, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED)
NOTE 8: ACQUISITIONS
The Company retained 75.1% interest in the voting common stock of the Plan as
a result of Health First Partners, Inc. acquisitions. In addition, the
Company is required to contribute to the capital of the Plan, a percentage of
the Company's administrative fee revenue for the ten years following July 1,
1997, if any. No minimum amounts of contributions are required. Subsequent
to December 31, 1997, $630,031 was contributed for common stock and additional
paid-in capital on a percentage of the Company's revenues for the year ended
December 31, 1997. Prior to December 31, 1998, the Company contributed
$1,159,667 in accordance with the contract based on expected revenues for the
period ended December 31, 1998. The investment in the Plan is eliminated in
consolidation.
In 1998, three shareholders of the Plan converted a portion of their common
stock to preferred stock that increased to 80% the percentage of share of the
Company in the Plan.
On December 1, 1998, the Company purchased all of the assets of Providence
Plan Partners PPO Business for a minimum purchase price of $2,800,000 in the
form of a note payable to be paid with interest at a rate of 6% over 18
months. The assets acquired consist of provider contracts ($1,680,000), trade
name ($140,000), a noncompetition agreement ($840,000), computer equipment,
and software licenses ($140,000). There is a potential contingent payment of
up to $700,000 to be determined based on the revenues received by the Company
from the acquired business during the 12 months after the closing date.
Approximately $290,000 had been recorded as goodwill and paid as of the date
this report as a result of this arrangement. This acquisition was accounted
for using the purchase method. Results of operations are included in the
financial statements of the Company from the effective date of the acquisition
December 1, 1998. Separate financial information about the business is not
available that is necessary to provide pro forma disclosures of results of
operations information for 1998 and 1997 as if the business had been acquired
by the company at the beginning of each year. Accordingly, pro forma
information is not included in this note as is required by generally accepted
accounting principles.
NOTE 9: NOTES PAYABLE
The Company has a note payable at March 31, 1999 and December 31, 1998,
related to the acquisition of Providence Partners PPO business (note 8) in the
amount of$1,888,018 and $2,888,000, respectively. The note is payable in 18
equal monthly installments beginning in January 1999, plus interest of 6%.
17
<PAGE> 18 FIRST CHOICE HEALTH NETWORK, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED)
NOTE 10: REGULATORY MATTERS
The Company's 80%-owned subsidiary, the Plan, is subject to regulation by the
Office of Insurance Commissioner in the state of Washington including the
requirement to follow statutory (NAIC) accounting principles, which differ
from generally accepted accounting principles. As such, certain levels of
capital are required. At December 31, 1998, reserves and unassigned capital,
and net loss for the year reported to the NAIC was $7,121,270 and $2,651,839,
respectively. The State of Washington has adopted a risk-based capital
calculation for determining statutory capital requirements that is effective
beginning January 1, 1999. At March 31, 1999, the Company would have been in
compliance with the new capital requirements.
The primary difference in reporting between the NAIC and GAAP is nonadmitted
assets of certain property, plant and equipment, goodwill, accounts
receivables over 90 days past due and prepaid expenses. At March 31, 1999,
the shareholders' equity and net loss for the year were $7,312,891 and
$(243,635) for the Plan, respectively.
The NAIC has developed statutory accounting practices (the codification) which
are expected to constitute the only source of prescribed statutory accounting
practices. The NAIC has delayed the effective date for health-related
organizations until January 1, 2001.
18
<PAGE> 19
FIRST CHOICE HEALTH NETWORK, INC. AND SUBSIDIARY
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATION
The following discussion and analysis should be read in conjunction with the
financial statements and notes thereto included in this quarterly report and
with the Company's 1998 Annual Statement on Form 10-K.
Three Months Ended March 31, 1999 Compared to Three Months Ended March 31,
1998
Operating revenue increased 67.0% to approximately $20.7 million in the first
quarter of 1999, from approximately $12.4 million during the same period of
1998. The majority of the increase was due to the increase in Plan health
insurance membership resulting from increased growth in 1998 as well as the
merger with Health First Partners and Health Washington in the middle of 1997.
The increase was also a result of growth in the Company's rental of the PPO
network as well as the purchase of the Sound Health network and related
membership in December 1998.
Total operating expenses increased 64.6% to approximately $20.4 million in the
first quarter of 1999, from approximately $12.4 million in the same quarter of
1998. Medical expenses drove the majority of the increase as the result of
the increase in Plan health insurance membership. Also as the result of
increased marketing expenditures related to the new health insurance products
as well as the premium and business taxes associated with The Plan's business.
The Company increased the number of employees as a result of the increased
Plan membership and also absorbed 25 employees from the acquisition of the
Sound Health network.
Federal income taxes increased 56.7% to $219,943 from $140,327 was the result
of the increase in income before federal taxes.
Liquidity and Capital Resources
At March 31, 1999, the Company had cash, cash equivalents and investment
securities at fair market value of approximately $7.0 million compared to
approximately $5.8 million at March 31, 1998.
In January 1998, the owners of the Plan signed an agreement which gave the
Company an 80% ownership in the common stock of the Plan. The purpose of the
increase in common stock ownership was to allow for the consolidation of tax
returns between the Company and the Plan. This transaction by Health
Washington exchanging 8,613 shares of common stock for the same number of
preferred shares. Two other owners made a similar exchange of 4,187 shares
each. In order to facilitate this transaction, the Plan amended their Articles
of Incorporation to authorize 100,000 shares of preferred stock. This stock
has a par value of $29.10 and is nonvoting and noncumulative, but has a
dividend preference a dividend rate of 8.75% of the par value per share.
Effective February 1, 1998, the Network and Plan entered into a tax sharing
agreement which provides for the sharing of Federal income tax liabilities in
the filing of consolidated tax returns.
In July 1998, the Plan amended the Articles of Incorporation to increase the
authorization of preferred shares to one million (1,000,000). The Network
then increased its investment in the Plan by purchasing three million
(3,000,000) dollars in the Plan's preferred stock.
19
<PAGE> 20
Effective December 1, 1998, the Company executed a purchase agreement to
acquire Providence Plan Partners Preferred-Washington PPO Business. The
acquired business consists of approximately 125,000 subscribers with an annual
revenue stream of approximately $4.0 million. The Company purchased
substantially all of the assets of Providence Plan Partners PPO Business for a
minimum price of $2.8 million to be paid with interest at a rate of six
percent over 18 months. There is a potential contingent payment of up to
$700,000 to be determined based on the revenues received by First Choice
Health Network from the PPO Business during the twelve months after the
closing date.
The Company anticipates that the revenues generated by operations, investment
and financing, plus the capital it currently has in reserves, will be
sufficient to meet its cash requirements throughout 1999.
The Company has assessed its computer systems and facilities regarding the
Year 2000 problem. The Year 2000 problem is defined as storing the year astwo
digits rather than storing the year with four digits to include the century.
Date sensitive calculations or reports may treat the year 00 as 1900 rather
than 2000 resulting in erroneous results or calculations. The Company
is working on the Year 2000 problem to ensure that all computer systems are
Year 2000 compliant. The Company is currently 90% complete on its Year 2000
plan. The time frame to finish the Year 2000 plan is by the 3rd quarter of
1999. The Company has contracted with an outside consulting team to verify
the company's Year 2000 compliance. Although The Company believes it will
meet these time frames for Year 2000 compliance, there can be no assurance
that the company's operations will not be disrupted or put at risk to some
degree.
The Company has been and continues to communicate with key vendors, service
providers, and customers to determine the extent to which the Company is
vulnerable to those their parties' failure to resolve their own Year 2000
issues.The Company is in the process of testing its computer systems for
Year 2000 compliance. Custom applications have been designed with the Year
2000 in mind and therefore are already in compliance. Other systems that
The Company has purchased were initially designed to be Year 2000 compliant.
The Company expects to incur expenses related to the testing and verification
of the computer systems in the amount of approximately $150,000. As of
March 31,1999, the company has incurred approximately $80,000 in costs
associated with Year 2000 compliance.
Potential business risks of the Year 2000 problem include the inability to
enroll and bill groups and members, processing and paying claims and other
core processes. However, based on the testing of the core business systems,
it does not appear that the Company will have difficulties in meeting core
responsibilities internally. In addition, the Company relies on other
companies for receiving payments and other information required to operate
effectively and therefore cannot reasonably estimate the impact of Year 2000
if key third parties are unsuccessful in completing their Year 2000 efforts.
The Company is in the process of developing a detailed contingency plan in
order to meet the needs of the various clients which include members,
physicians and provider organizations if Year 2000 issues cause disruption.
The development of the contingency plan includes evaluating various potential
eventualities, identifying key processes and developing alternative temporary
procedures.
20
<PAGE> 21
Part II Other Information
Item 1 Legal Proceedings
There are no material pending legal proceedings.
Item 2 Changes in Securities
No changes in the Company's securities occurred during this
period.
Item 3 Defaults Upon Senior Securities
No senior securities of the Company are outstanding.
Item 4 Submission of Matters to a Vote of Security Holders
No matters were submitted to a vote of security holders.
Item 5 Other Information
None
Item 6 Exhibits and Reports on Form 8-K
(a)
Exhibits:
27 - Financial Data Schedule
SIGNATURES
In accordance with the requirements of the Exchange Act, the registrant has
caused this report to be signed on its behalf by the undersigned, thereunto
duly authorized.
FIRST CHOICE HEALTH NETWORK, INC.
Date: August 4, 1999
By:
/ s /David Peel
David Peel
Vice President of Finance
(Principal Financial and Accounting Officer
and Duly Authorized Officer)
21
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM FIRST
CHOICE HEALTH NETWORK, INC. AND SUBSIDIARY FIRST QUARTER 1999 FINANCIAL
STATEMENTS AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL
STATEMENTS.
</LEGEND>
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-END> MAR-31-1999
<CASH> 7,020,303
<SECURITIES> 0
<RECEIVABLES> 6,298,934
<ALLOWANCES> 368,429
<INVENTORY> 0
<CURRENT-ASSETS> 14,254,441
<PP&E> 3,055,539
<DEPRECIATION> 1,623,281
<TOTAL-ASSETS> 20,207,643
<CURRENT-LIABILITIES> 7,422,821
<BONDS> 0
0
0
<COMMON> 41,215
<OTHER-SE> 10,656,033
<TOTAL-LIABILITY-AND-EQUITY> 20,207,643
<SALES> 20,707,743
<TOTAL-REVENUES> 20,757,314
<CGS> 15,394,684
<TOTAL-COSTS> 20,395,469
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 0
<INCOME-PRETAX> 361,845
<INCOME-TAX> 219,943
<INCOME-CONTINUING> 141,902
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 173,744
<EPS-BASIC> 2.96
<EPS-DILUTED> 2.96
</TABLE>
