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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION Washington, D. C. 20549
 
 FORM 10-K (Mark One) [X]
    
    ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934
 For the fiscal year ended December 31, 2003
 OR
 [  ]
    
    TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934
 For the transition period from        to
 Commission File No. 000-21501   COAST DENTAL SERVICES, INC.
 (Exact name of registrant as specified in its charter)
 Florida
    
    59-3136131(State or other jurisdiction of
    
    (I.R.S. Employerincorporation or organization)
    
    Identification No.)2502 North Rocky Point Drive, Suite 1000
    
    33607Tampa, Florida
    
    (Zip Code)(Address of principal executive offices)
 (813)-288-1999(Registrants telephone number, including area code) Securities registered pursuant to Section 12(b) of the Act:
None Securities registered pursuant to Section 12(g) of the Act:
Common Stock, Par Value $.001 Per Share(Title of Class) Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [  ] . Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to
the best of registrants knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K [  ]. Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act). Yes [  ] No [X]. The aggregate market value of the common stock held by non-affiliates of
the Registrant on June 30, 2003, the last business day of the Registrants most
recently completed second fiscal quarter, was approximately $5.3 million based
upon the closing price of such shares on such date on the NASDAQ Stock Markets
Small Cap Market. As of March 1, 2004, there were 2,139,110 shares of common stock
outstanding. DOCUMENTS INCORPORATED BY REFERENCE Certain specifically designated portions of the Registrants definitive
Proxy Statement to be used in connection with the Registrants 2004 Annual
Meeting of Shareholders, which is expected to be filed on or before April 29,
2004, are incorporated by reference in Part III, Items 10-14 of this Form 10-K.
Except with respect to information specifically incorporated by reference in
this Form 10-K, the Proxy Statement is not deemed to be filed as a part hereof.




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COAST DENTAL SERVICES, INC.
2003 ANNUAL REPORT ON FORM 10-K TABLE OF CONTENTS PagePART IItem 1
    
    Business
    
    
    3Item 2
    
    Properties
    
    
    18Item 3
    
    Legal Proceedings
    
    
    18Item 4
    
    Submission of Matters to a Vote of Security Holders
    
    
    18PART IIItem 5
    
    Market for
Registrants Common Equity and Related Stockholder Matters
    
    
    19Item 6
    
    Selected Financial Data
    
    
    20Item 7
    
    Managements Discussion and Analysis of Financial Condition and Results of Operations
    
    
    20Item 7A
    
    Quantitative and Qualitative Disclosures about Market Risk
    
    
    34Item 8
    
    Financial Statements and Supplementary Data
    
    
    35Item 9
    
    Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
    
    
    61Item 9A
    
    Controls and Procedures
    
    
    61PART IIIItem 10
    
    Directors and Executive Officers of the Registrant
    
    
    62Item 11
    
    Executive Compensation
    
    
    62Item 12
    
    Security Ownership of Certain Beneficial Owners and Management
    
    
    62Item 13
    
    Certain Relationships and Related Transactions
    
    
    62Item 14
    
    Principal Accounting Fees and Services
    
    
    62PART IVItem 15
    
    Exhibits, Financial Statement Schedules and Reports on Form 8-K
    
    
    63EX-4.9 Waiver & First AmendmentEX-11.1 Computation of Per Share Earnings (loss)EX-23 Consent of Deloitte & Touche LLPEX-31.1 Principal Exec Officer 302 CertificationEX-31.2 Principal Fin & Acct Officer 302 CertEX-32.1 Principal Exec Officer 906 CertificationEX-32.2 Principal Fin & Acct Officer 906 Cert




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Forward Looking Statements This Form 10-K annual report contains statements which are
forward-looking statements. The words expect, believe, goal, plan,
intend, estimate and similar expressions and variations thereof, and
discussions of strategy or intentions, are intended to specifically identify
forward-looking statements. Forward-looking statements appear in a number of
places in this Form 10-K and in other places, particularly,
Recent Developments, Business
Properties, Legal Proceedings, and Managements Discussion and Analysis of
Financial Condition and Results of Operations, and include statements
regarding the intent, belief or current expectations of the Company, its
directors or its officers which are inherently uncertain. Investors and
prospective investors are cautioned that any such forward-looking statements
are not guarantees of future performance and involve risks and uncertainties,
and that actual results may differ materially from those projected in the
forward-looking statements as a result of various factors including those set
forth in the Risk Factors section of this Form 10-K. We undertake no
obligation to publicly update or revise the forward-looking statements made in
this Form 10-K to reflect events or circumstances after the date of this Form
10-K or to reflect the occurrence of unanticipated events.




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PART I Introduction Unless the context otherwise requires, references in this document to
Coast Dental or the Company refer to Coast Dental Services, Inc., and its
predecessor; Dental Centers refer to dental offices to which we provide
comprehensive business services and support pursuant to Services and Support
Agreements; Coast Florida, P.A., Coast Dental, P.A., Coast Dental of
Georgia, P.C., Coast Dental Services of Tennessee, P.C. and Adam Diasti,
D.D.S. & Associates, P.C. refer to the Florida, Georgia, Tennessee and
Virginia professional associations and professional corporations, respectively,
which employ the dentists and hygienists providing dental services at the
Dental Centers pursuant to a services and support agreement with us; Coast
P.A. refers collectively to Coast Florida, P.A., Coast Dental, P.A., Coast
Dental of Georgia, P.C., Coast Dental Services of Tennessee, P.C., Adam Diasti,
D.D.S. & Associates, P.C. and any professional association or corporation, with
which we have entered, or may enter, into Services and Support Agreements
(Services and Support Agreements); internally developed Dental Centers
refers to Dental Centers which are initially opened, developed and managed by
us pursuant to a Services and Support Agreement with Coast P.A.; acquired
Dental Centers refers to Dental Centers resulting from the acquisition of an
existing dental facility by us, combined with the acquisition by Coast P.A., of
the existing dental practice located at that facility; Coast Dentists refers
to the licensed dentists employed by Coast P.A. who provide dental services at
the Dental Centers; and Coast Dental Network refers collectively to the
Dental Centers and the Coast Dentists. Recent Developments Decision to Terminate our Public Company Status We incur substantial costs to maintain our public company status. In
addition, the costs associated with maintaining our public company status have
increased in recent years in the areas of auditing fees, board fees and
insurance premiums. Such costs were approximately $725,000 for the
year ended December 31, 2003 and the current annualized run rate for these
costs is approximately $825,000 per year. We expect certain of these costs to
increase in 2004 and beyond in the areas of board fees, auditing fees and
Sarbanes-Oxley Section 404 internal controls compliance and attestation costs.
We estimate these costs will range from $875,000 to $975,000 in 2004 and from
$1,000,000 to 1,115,000 in 2005. These expenses do not include the salaries
and time of our employees who are required to devote considerable attention to
our public company reporting and compliance obligations. Our common stock is registered under the Securities Exchange Act of 1934
(the Exchange Act) and as a result we are considered to be a public company.
On March 24, 2004 we issued a press release announcing we will seek to
terminate our status as a public company by deregistering from the Exchange Act
and we filed a current report on Form 8-K with the Securities and Exchange
Commission which contains a copy of the press release. Previously, in
connection with our self-tender offer in March 2003, our Board of Directors
determined that it was in the best interests of us and our shareholders to
terminate our status as a public company. As described in more detail in the Update on Recent Initiatives - Evaluation of Our Public Company Status by the Board of Directors and Decision
to Terminate Our Public Company Status and Risk Factors  Our Board of
Directors has decided to terminate our public company status and seek to
deregister our common stock from reporting under the Securities Exchange Act of
1934; the independent members of the Companys board of directors decided to terminate our public
company status, after among other things, considering the
disadvantages of being a public company, including the impact on the
Companys cost structure, significantly outweighed the potential advantages of being a public company. When we terminate our public company status and are delisted from the
Nasdaq SmallCap Market, it is likely that our shareholders will not be able to
liquidate their shares of common stock as readily as they could have on the
Nasdaq SmallCap Market. Our common stock might be traded on the pink sheets,
an electronic quotation service for over-the-counter securities, to the extent
a market maker decides to make a market in our shares, but there can be no
assurance that this would occur. There is generally significantly less
liquidity and greater volatility on the pink sheets as compared to the Nasdaq
SmallCap Market. If our common stock is traded on the pink sheets, investors
would likely find it more difficult to acquire, dispose of or obtain accurate
quotations for our common stock, and our ability to sell equity securities and
to raise capital, could be impaired. There can be no assurance that an active
trading market for our common stock would ever develop on the pink sheets.
The pink sheets quotation service and pink sheets traded companies are not
regulated by the Securities and Exchange Commission. 2




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Cost Reduction and Cost Containment Initiatives In January 2004, the Company and Coast P.A. began the implementation a
comprehensive set of cost reduction and cost containment initiatives. We began
to realize a 5% savings in labor costs in February 2004 and several of the cost
reduction and cost containment initiatives are expected to begin yielding
significant savings over the next few months. For the full year 2004, we
estimate that our cost savings could be as much as approximately $3 million, or
5% of total operating expenses, if these initiatives are successful. However,
there can be no assurance that these cost reduction and cost containment
initiatives will be successful or that we will attain the anticipated cost
savings. The cost reduction and cost containment efforts include the following initiatives:  
    
    Reducing staffing at the Dental Centers and the corporate office;
    
    Reducing and better management of overtime and temporary labor costs;
    
    Expanding the preferred dental lab vendor program;
    
    Shifting our emphasis to more effective and less costly marketing and advertising programs;
    
    Shifting focus and reducing the cost of training and development programs;
    
    Changing to a lower cost telecommunications and data transmission model;
    
    Implementing programs to reduce repair and maintenance costs; and
    
    Implementing a suite of internally developed management information systems reporting
tools which provide daily monitoring and exception reporting of key operating and
financial metrics. We have not reported net income for a full fiscal year since 1999. As a
result of these cost reduction and cost containment initiatives, we are
optimistic we can reduce our cost structure and achieve profitability in 2004;
however there can be no assurance we will become profitable. 
 Item 1.Business General Coast Dental Services, Inc. (hereinafter Coast Dental, Company, we,
our or us) is a leading provider of comprehensive business services and
support to general dentistry practices. We were incorporated in August 1992 as
Sunshine Health Services, Inc., a Florida corporation, and changed our name to
Coast Dental, Inc. in August 1994. Effective March 31, 1996, Coast Dental, Inc.
was merged into Coast Dental Services, Inc., a Delaware corporation, for the
purpose of reincorporating in the State of Delaware and changing its corporate
name. In 2002, we changed our state of incorporation from Delaware to Florida. The dental professional associations and corporations we provide services
and support to (collectively Coast P.A.) are owned solely by our President,
Dental Director and Director, Adam Diasti, D.D.S., a licensed dentist. The
laws in many states prohibit corporations that are not owned entirely by
dentists from employing dentists (and in some states, dental hygienists and
dental assistants), having control over clinical decision-making, or engaging
in the practice of dentistry. Coast P.A. employs the dentists and dental
hygienists and controls the clinical decision-making at the Dental Centers. We
obtain our revenue in the form of a services and support fee from providing
comprehensive business services and support to Coast P.A. at the Dental Centers
pursuant to Services and Support Agreements. As of December 31, 2003, we provided comprehensive business services and
support to 109 Dental Centers located in Florida, Georgia, Tennessee and
Virginia. Current Dental Center Locations
    
    Number of LocationsWest Florida
    
    
    24Central Florida
    
    
    23East Florida
    
    
    25Georgia
    
    
    23Tennessee
    
    
    5Virginia
    
    
    9Total
    
    
    109
 Coast P.A. employed 150 dentists and 111 dental hygienists at December 31,
2003 and provided dental services to approximately 487,000 patients during 2003
and there were approximately 599,000 unique provider visits during 2003. 3




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Update on Recent Initiatives Overview In fiscal year ended December 31, 2003 our revenues were $56.4 million and
we had a net loss of $3.0 million. We have not reported net income since 1999.
Over the past three years, Coast Dental and Coast P.A. embarked upon several
new initiatives, some of which are described in more detail later in this
section, to help return us to profitability and to better position us if we are
able to return to profitability. As described in previous filings, there is
excess capacity in existing Dental Centers, which Coast P.A. believes it can
best utilize by increasing the number of dental professionals in these Dental
Centers. During the years 2003, 2002 and 2001, Coast P.A. has made progress
toward increasing the number of dental professionals, increasing the number of
days each week that Dental Centers serve patients and increasing the number of
hours each day that Dental Centers are open. Each of these accomplishments
improves our ability to increase net revenue, leverage the fixed costs
associated with each Dental Center and improve profitability. We have assisted
Coast P.A. in growing its revenues by focusing its advertising approach to
attract higher margin fee-for-service and private insurance business to replace
the lower margin managed care business Coast P.A. elected to reduce in scope in
late 2000. In addition to shifting the advertising and marketing approach, we
have assisted Coast P.A. with the development and implementation of its own,
branded discount plan, Coast Smile Plus. The purpose of this plan is to attract
patients that do not have dental insurance and develop a loyalty by offering a
discount from full fee-for-service pricing and providing pricing that is
comparable to private insurance pricing. As described later in this section,
Coast Dental and Coast P.A. have arranged for a national financial institution
to provide financing to patients of Coast P.A. who meet the credit issuers
criteria for lending. As also described later in this section, Coast Dental and
Coast P.A. have made progress in implementing the Dentist Equity Model. Evaluation of Our Public Company Status by the Board of Directors and Decision
to Terminate Our Public Company Status Our common stock is registered under the Securities Exchange Act of 1934
(the Exchange Act) and as a result we are considered to be a public company.
On March 24, 2004, we issued a press release announcing we will seek to
terminate our status as a public company by deregistering from the Exchange Act
and we filed a current report on Form 8-K with the Securities and Exchange
Commission which contains a copy of the press release. Previously, in
connection with our self-tender offer in March 2003, our Board of Directors
determined that it was in the best interests of us and our shareholders to
terminate our status as a public company. The significant factors that were
considered at the time included:  
    
    the considerable costs associated with remaining a public company
including legal, auditing, accounting and other expenses;
    
    the significant amount of time expended by management in connection
with meeting our public company obligations;
    
    the lack of liquidity due to low trading volume of our stock;
    
    the unlikelihood of an active trading market due to the limited public float and small shareholder base;
    
    the lack of analyst coverage;
    
    the difficulty in attracting institutional interest;
    
    the competitive disadvantages due to public disclosure of sensitive information;
    
    the unfavorability of our sector; and
    
    the difficulty of utilizing the public equity capital markets as a
source of financing due to the limited market for our shares. Our Board of Directors has continued to examine, analyze and evaluate
whether remaining a public company warrants the significant costs and expenses
and loss of operational productivity related to the regulatory burdens of being
a public company. Likewise, our Board of Directors also continued to examine,
analyze, and evaluate the potential benefits of being a public company to us
and our shareholders. Our Board of Directors determined that the disadvantages
of being a public company significantly outweighed the potential advantages of
remaining a public company and concluded that it is in the best interests of us
and our shareholders to deregister from the Exchange Act so that we can become
a private company. The four independent members of our Board of Directors
voted unanimously to approve deregistration. Directors Terek Diasti and Adam
Diasti abstained from voting on the matter because they are the beneficial
owners of a majority of our shares. Management has been directed by the
independent directors to file a Form 15 with the Securities and Exchange
Commission at the close of business on April 7, 2004 seeking to deregister our
shares of common stock from the Exchange Act. This will provide additional
time for our shares to be bought or sold on the Nasdaq SmallCap Market because
our stock will be delisted from the Nasdaq SmallCap Market at the time the Form
15 is filed with the Securities and Exchange Commission. 4




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Costs associated with maintaining our public company status have increased
in recent years in the areas of auditing fees, board fees and insurance
premiums. Such costs in 2003 were approximately $725,000 for the year ended
December 31, 2003 and the current annualized run rate for these costs is
approximately $825,000 per year. We expect certain of these costs to increase
in 2004 and beyond in the areas of board fees, auditing fees and Sarbanes-Oxley
Section 404 internal controls compliance and attestation costs. We estimate
these costs will range from $875,000 to $975,000 in 2004 and from $1,000,000 to
$1,115,000 in 2005. These expenses do not include the salaries and time of our
employees who are required to devote considerable attention to our public
company reporting and compliance obligations. Certain of these costs would
continue after we deregister from the Exchange Act and delist from the Nasdaq
SmallCap Market, if our shares are traded on the Pink Sheets quotation
system. The continuing costs could include stock transfer agent fees, audit
fees and directors and officers insurance premiums, as well as the costs
associated with providing company information to market makers and
broker-dealers. We estimate that the continuing costs would be approximately
$350,000 per year (including the cost of an independent audit of our financial
statements in order to maintain our ability to obtain external debt financing,
and not for Pink Sheets reporting and disclosure). Accordingly, we estimate
we could save approximately $525,000 over the current annualized run rate of
$875,000. We estimate we could save approximately $575,000 to $700,000 over
the projected 2004 and 2005 annualized costs as we will avoid the
Sarbanes-Oxley Section 404 internal controls compliance and attestation costs. We stated previously in our self-tender offer documents filed with the
Securities and Exchange Commission and provided to shareholders that even if we
did not complete the self-tender offer or enter into a second-step transaction
with our controlling shareholders, we would seek to deregister from the
Exchange Act and delist from the Nasdaq SmallCap Market if we were eligible to
do so. Since we have less than 300 holders of record, we are currently
eligible to deregister and terminate our public company status. Our obligation
to file periodic reports with the Securities and Exchange Commission, including
quarterly and annual reports containing our financial statements, would be
suspended upon the filing of the Form 15 with the Securities and Exchange
Commission. There may no longer be any public information regarding the
Company after the deregistration. In addition, upon filing of the Form 15 with
the Securities and Exchange Commission, our common stock will be delisted and
no longer be traded on the Nasdaq SmallCap Market. The price of our common
stock could suffer an immediate and significant decline as a result of this
decision to deregister and delist. When we are delisted from the Nasdaq SmallCap Market, it is likely that
our shareholders will not be able to liquidate their shares of common stock as
readily as they could have on the Nasdaq SmallCap Market. Our common stock
might be traded on the pink sheets, an electronic quotation service for
over-the-counter securities, to the extent a market maker decides to make a
market in our shares, but there can be no assurance that this would occur.
There is generally significantly less liquidity and greater volatility on the
pink sheets as compared to the Nasdaq SmallCap Market. If our common stock
is traded on the pink sheets, investors would likely find it more difficult
to acquire, dispose of or obtain accurate quotations for our common stock, and
our ability to sell equity securities and to raise capital, could be impaired.
There can be no assurance that an active trading market for our common stock
would ever develop on the pink sheets. The pink
sheets quotation service
and pink sheets traded companies are not regulated by the Securities and
Exchange Commission. Furthermore, unlike Nasdaq listed companies,
pink sheets
traded companies do not have any corporate governance standards or similar
requirements so we would not be required to have independent directors, an
independent audit committee, an independent compensation committee, code of
conduct or seek shareholder approval for certain actions or be subject to
Sarbanes-Oxley compliance matters such as certification of financial
statements, prohibitions against personal loans, code of ethics, audit
committee approval of related party transactions or an independent audit
committee. In addition, any public sales of our shares by our shareholders
will become subject to the penny stock regulations of the Securities and
Exchange Commission unless there is an exemption available. The penny stock
regulations impose restrictions on broker-dealers which could make it very
difficult for our shareholders to sell their shares. While we believe that
there is currently an exemption available as a result of our operating history
and revenue level, there can be no assurance that an exemption will be
available. Self-Tender Offer On March 4, 2003, we initiated a self-tender offer to purchase all of the
outstanding shares of our common stock for $4.50 per share. The self-tender
offer expired on April 14, 2003. A total of 51 shareholders tendered 11,537
shares by the expiration date. The Company accepted for purchase and payment,
all of the shares that were validly tendered for a total purchase price of
approximately $52,000. After the self-tender offer was announced, the Company
received two unsolicited offers for the purchase of the Company. Our board of
directors rejected both of these unsolicited offers. We incurred approximately $715,000 in costs and expenses in connection
with the self-tender offer. 5




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Payor Mix Update In the period from December 2000 to December 2003, the payor mix of Coast
P.A. has been shifted from 57% managed care to 27% managed care. For the year
ended December 31, 2003, 63% of Coast P.A.s patient revenues were derived from
higher margin fee-for-service and private insurance business, up significantly
from 43% for the year ended December 2000. Patient Financing Program Update In late January 2002, a private label, revolving credit program sponsored
by a national financial institution became available to patients of Coast P.A.
who meet certain minimum credit standards. We believe that this program will
increase incremental revenues because it provides an additional payment option
to patients of Coast P.A. who otherwise might avoid or delay dental treatment,
or accept a lower cost or less effective treatment due to the inability to pay
for the preferred treatment at the time the service is rendered. In addition,
we believe this program will assist Coast P.A. in reducing its exposure to
uncollectible patient accounts receivable and help to improve overall cash
flow. There are a few financing options available to patients at all times,
with promotional-type financing options available during certain times of the
year. Our results with this program have been positive with patients financing
approximately 9% of dental services with Coast P.A. in the programs first year
(2002) and 11% of their dental services in the second year of the program
(2003). The average patient transaction utilizing the financing program has
been approximately 3.75 times higher than the overall average patient
transaction. In 2003, we made available a sub-prime financing program for
patients of Coast, P.A., with lower credit scores. Both of the patient
financing programs are non-recourse to Coast P.A. Coast Smile Plus Membership and Discount Plan Update Coast P.A. implemented a membership and discount plan called Coast Smile
Plus in 2001. Patients joining the membership plan can access a reduced fee
schedule. The pricing of the fee schedule offered to members is discounted from
fee-for-service pricing but is competitive with the pricing collected from
private insurance payors and higher than pricing from managed care payors. The
goal of this membership program is to build loyalty and generate repeat
business for the Dental Centers. Also effective February 2002, membership fees
and all dental services purchased by Coast Smile Plus members can be charged on
the Coast Dental patient financing program. In 2001, this membership and
discount program was piloted and memberships were sold passively through
point-of-sale marketing in the Dental Centers. Without any external marketing
programs, approximately 4,800 memberships were generated in 2001. Coast P.A.
generated $3.3 million in gross revenue from Coast Smile Plus members or 5% of
its 2001 gross revenue. In 2002, Coast Dental and Coast P.A. piloted and then
withdrew an initiative to market the Coast Smile Plus membership and discount
plan to large organizations, large employers and traditional distribution
channels for supplemental insurance and discount medical programs. After this
pilot, Coast P.A. continues to sell through passive point-of-sale marketing in
the Dental Centers. Approximately 7,800 memberships were generated in 2002 and
Coast P.A. generated $7.4 million in patient revenue from Coast Smile Plus
members or approximately 9% of its 2002 patient revenues. Approximately 8,100
memberships were generated in 2003 and Coast P.A. generated $9.6 million in
patient revenue from Coast Smile Plus members or approximately 11% of its 2003
gross patient revenues. Coast P.A is optimistic that this membership and
discount plan will continue to improve the payor mix. Managed Care Update During the latter part of 2000, Coast P.A. began notifying managed care
companies that it would continue to provide service to existing members but
would not accept new members to the managed care roster (known as panels) in
any of its Dental Centers until re-negotiations had occurred. A thorough review
of utilization data revealed that the majority of patient visits consisted of
managed care patients, yet the fees earned in connection with this business
were below that of discounted fee-for-service patients. This resulted in
in-depth discussions with each of the managed care companies. In some cases,
agreements were reached whereby the panels were reopened. In other situations,
agreements could not be reached and the panels remained closed as discussions
continued or the contracts were terminated. Since December 31, 2000, agreements have been terminated with 11 managed
care companies. Two of these companies were more significant to Coast P.A.s
operation while the remainder were smaller and less significant. The gross
revenue lost to Coast P.A. in year 2001 as a result of these terminations was
approximately $13.9 million, which represented approximately $9.3 million in
net revenue to the Company. Coast P.A. continues to believe that this lower
margin business can be replaced over time with higher margin fee-for-service
and traditional insurance business, provided the proper focus is placed on
marketing and patient financing programs to attract these patients and provide
the source of payment they desire. Coast P.A. believes that revenue lost from
these managed care contracts can be replaced over time with a smaller number of
patients, but recognizes that this replacement will take time, is not assured
and has and will continue to represent a risk to revenue, profitability and
cash flow of Coast P.A and consequently, Coast Dental. In 2001, 6




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2002 and 2003, Coast P.A. was able to replace some of this lost business. In
2001, Coast P.A. fee-for-service and traditional insurance patient revenues
increased approximately $10.5 million (an approximate 23% increase in
non-managed care business). In 2002, Coast P.A. fee-for-service and traditional
insurance patient revenues increased $19.6 million or 50%. In 2002, Coast P.A.
fee-for-service and traditional insurance patient revenues were in excess of
$58.5 million and represented 69% of Coast P.A.s total patient revenues. In
2003, Coast P.A. fee-for-service and traditional insurance patient revenues
increased $7.4 million or 12%. In 2003, Coast P.A. fee-for-service and
insurance patient revenues were in excess of $65.9 million and represented 73%
of Coast P.A.s total patient revenue. In 2003, one insurance company elected to terminate its dental managed
care contract with Coast P.A. Coast P.A. believes the insurance company placed
this dental managed care business with several dental groups across the
Southeast that accepted lower reimbursement levels than negotiated by Coast
P.A. We incurred a loss in our services and support revenues as Coast P.A.s
capitation revenues and patient co-payments were reduced beginning in July
2003, with the full effect of the contract termination effective September 1,
2003. Over the 12 months ended June 30, 2003 gross capitation and patient
co-pay revenues of Coast P.A. related to this contract were $7.2 million and
our estimated services and support fee related to this contract would have been
approximately $4.7 million. The loss to Coast P.A. gross revenues was $1.8
million in the second half of 2003 and the loss to our second half of 2003
services and support fee revenues was $0.8 million. We implemented certain
cost control measures in third quarter 2003 which partially mitigated the
effect of the reduction in our services and support fee revenues from this
Coast P.A. contract termination. Coast P.A. continues to focus on a strategy
of increasing total providers and productivity per provider and increasing the
higher margin fee-for-service patient base and expanding the Coast Smile Plus
discount and membership plan which, if successful, also is expected to assist
in mitigating the negative effect on revenues from termination of this
contract. There can be no assurance that this will occur. If Coast P.A. is
unable to replace the gross revenue stream it lost as a result of the contract
termination, it will continue to adversely affect our net revenues. Dentist Equity Model Update Due to issues apparent in the dental practice management sector relative
to maximizing dentists long-term productivity and commitment to the success of
such relationship, Coast P.A., with our assistance, developed a dentist equity
model (the Equity Model) whereby a dentist has the opportunity to acquire a
25% to 50% ownership interest in a Dental Center and participate in the
potential profits of that Dental Center. This opportunity was previously
unavailable to a Coast Dentist. The purpose of this change in operating model
is to provide affiliated dentists the opportunity to satisfy certain long-term
career goals and thereby address the retention and motivational concern that
Coast P.A., and the dental practice management industry in general, is facing. During the third quarter of 2001, Coast P.A., with our assistance, began
the implementation of the Dentist Equity Model. These transactions are
structured as a sale of intangible and/or tangible assets of each Dental
Center. Coast P.A. sells a portion of its intangible Dental Center assets to
the dentist acquiring the interest. Coast P.A. and the dentist then
contribute their respective tangible and intangible assets to a newly formed
professional association. The dentist acquires an ownership interest in
certain of the assets of the Dental Center and finances all or a portion of
the purchase price with financing on a secured note payable. The general terms
of the notes are seven years at 10.0% interest with an interest only period
designed to provide each selected dentist with a period of time during which
the revenues of the Dental Centers can be improved and the cost structure can
be optimized. The Equity Doctor Dental Centers continue to operate under the
existing Services and Support Agreement with Coast Dental. The sale of interests in Dental Centers under the Equity Model has been
as follows: ten (10) in 2001, six (6) in 2002 and one (1) in 2003. The
Equity Model conversion in 2003 occurred in fourth quarter 2003. In fourth
quarter 2002, Coast Dental and Coast P.A. divested one Equity Model Dental
Center and sold the business and remaining assets to the owner-dentist. In
addition, in fourth quarter 2002, Coast Dental, Coast P.A. and four
owner-dentists dissolved four of the Equity Model Dental Centers and the
dentists remained in the practice and became employees of Coast P.A. In
fourth quarter 2003, one of the Equity Doctors left the dental practice.
Coast P.A. is evaluating whether to dissolve or sell this Equity Doctor
practice. As of December 31, 2003, there are ten (10) Equity Doctor Dental
Centers in operation, with the eleventh (11th) Dental Center converting to an
Equity Doctor Dental Center on December 31, 2003. Continued rollout of the Equity Model is dependent upon reaching
agreements with selected dentists, and there can be no assurance that any such
agreements can be reached. The additional number of Dental Centers that will be
affected is unknown and it is uncertain, at this time, what ultimate affect the
Equity Model, will have on our overall asset mix, liquidity or performance. If
the implementation is successful, the Company expects to improve its liquidity
and cash position, in the long term, as well as to create an environment where
select dentists with a meaningful ownership interest will have a more
significant personal and financial interest in the productivity and success of
the Dental Center. Correspondingly, until anticipated growth occurs at these
Dental Centers, our cash flows in currently profitable Dental Centers can
initially decline. 7




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To date, we have experienced a favorable impact from the implementation of
the Equity Model. Our gross profit percentage for the ten (10) Equity Doctor
Dental Centers as of December 31, 2003, is approximately one and one-half times
the gross profit percentage of the Company as a whole. This reflects both
increases in net revenues and the controlling of variable costs at the Dental
Centers. See
Item 8 - Note 5 to our Financial Statements for the amount of our
assets sold, the proceeds received and the amount of the Equity Doctor Notes
Receivable outstanding. Dental Center Openings and Closings Update Effective August 1, 2003, we re-opened a previously closed Dental Center
in Florida. We are actively assisting Coast P.A. to build a patient base and
expect it to grow this into a profitable location. There can be no assurance
that this re-opened location will become profitable. Coast Dental and Coast P.A. continuously evaluate the performance of the
Dental Centers and dental practices. During 2003, 2002, and 2001, decisions
were made to close and/or consolidate into other locations a total of seventeen
(17) Dental Centers and in addition, in 2002, to relocate one Dental Center to
a newer and larger facility to support the continued growth of that Dental
Center. Locations selected for closure and/or consolidation were
under-performing and certain of which had lease expirations in the near future.
The closings and consolidations and relocations by year were as follows: one
(1) in 2003 (fourth quarter 2003); eight (8) closings and consolidations in
2002 (of which two (2) were in fourth quarter 2002); one (1) relocation in
2002; and eight (8) closing and consolidations in 2001 all of which were in
fourth quarter 2001. We believe that closing these Dental Centers will improve our overall
financial performance while allowing management to focus its efforts on
improving the performance of the remaining Dental Centers. Information Technology Platform Update We are in the early stages of an enhancement in our information technology
platform. The new platform is expected to increase efficiencies, lower
maintenance costs and provide more timely and comprehensive information to
support the Dental Centers. Activities to date have consisted primarily of
planning, preliminary technology and software evaluation, and upgrading the
telecommunications capabilities and hardware to a private frame relay. During
fourth quarter 2003, we commenced installation at the Dental Centers of digital
hygiene equipment and an upgrade and expansion of the information technology
platforms. This initiative is expected to continue over the next several
quarters. The majority of the cost of this initiative will be amortized over
the asset life of three to seven years, or the lease terms, generally three
years, except for certain planning, process change and post-implementation
review costs that will be expensed as incurred. Training and Development Program Update In June 2002, Coast Dental and Coast P.A. implemented a twelve-month staff
training and development program designed to increase the productivity and
profitability of the Dental Centers, and in February 2003, we implemented the
second year of this program. During 2003 and 2002, the cost incurred by us for
this program was $818,000 and $533,000, respectively. Staff training and
development costs are expected to decrease in 2004 from a change in scope in
the training and development program. Services and Operations We are primarily responsible for the business and administrative functions
of the Dental Centers, but do not perform or provide dental care. We provide
legal, accounting, information technology, human resource, payroll, training
services, and marketing services for Coast P.A. and employ the Dental Centers
personnel, other than the dentists and hygienists. Coast P.A. maintains full
control over the dental practices of Coast Dentists, employs the dentists and
hygienists and sets standards of care in order to promote the provision of
quality dental care. Coast P.A. is also responsible for compliance with state
and local regulations of the practice of dentistry and with license or
certification requirements. Each Coast Dentist is responsible for acquiring and
maintaining professional liability insurance. We have entered into Services and Support Agreements with Coast P.A.
pursuant to which we provide comprehensive business services and support, to
the extent allowable by law, for the Dental Centers. As Dental Centers are
acquired or internally developed by Coast Dental and Coast P.A., the Dental
Centers are generally expected to be governed by the existing Services and
Support Agreements, subject to possible future modifications or amendments. 8




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As compensation for our professional management services under Services
and Support Agreements, we earn a monthly services and support fee. Dental
Center expenses paid by us from the services and support fee include all
operating and non-operating expenses incurred at the Dental Center except for
the salaries and benefits of the Coast dentists and hygienists. Our sole
customers are Coast P.A., each of which are owned, controlled and managed by
Adam Diasti, D.D.S., a major stockholder, director and executive officer of
Coast Dental. See Item 7  Managements Discussion and Analysis of Financial
Condition and Results of Operations. Amendments to the Services and Support
Agreements are approved by the Audit Committee of our Board of Directors, which
consists of independent directors of Coast Dental. We are dependent on revenue
from Coast P.A. and the loss of compensation received from them pursuant to the
Services and Support Agreements would have a material adverse effect on us. See
Notes 1, 4 and 10 to the Financial Statements for further information about the
Services and Support Agreement and amendments made in fiscal years 2002 and
2000. Acquisitions and Development of Dental Centers The cost of an Acquired Dental Center is typically based upon a negotiated
percentage of the Dental Centers historical gross revenue. Acquired Dental
Centers typically generate sufficient cash flow to fund their operations. We
currently expect to grow the business through increasing the capacity
utilization of our existing Dental Centers. When we do increase the size of
our Dental Center Network, we presently plan to finance the addition of
internally developed and strategically opportunistic acquired Dental Centers
principally through existing cash and expected cash flow from operations and,
to a lesser extent, from debt. We took a very significant step beginning in 1998, shifting from an
acquisition model to a development model. Management began to emphasize the
opening of internally developed (de-novo) Dental Centers and placed less
emphasis on acquiring Dental Centers. While the growth of the patient base of
the de-novo Dental Centers has been slower than anticipated, which has
negatively impacted our financial performance management is committed to this
strategy and continues to believe it is the best long-range strategy. Our
current strategy is to increase capacity utilization at our existing Dental
Centers. After we achieve higher utilization, we may resume expansion using
the development model in order to achieve long term growth in a more cost
effective and productive manner. We opened 17 internally developed Dental Centers in 1999 in Florida,
Georgia and Tennessee. We did not open any internally developed Dental Centers
in 2000. During 2001, we opened two (2) internally developed Dental Centers,
one each in the Atlanta, GA, and the Nashville, TN, markets. The average cost,
to us, of an internally developed Dental Center has been approximately
$225,000, which includes the cost of equipment, leasehold improvements and
working capital. No internally developed Dental Centers were opened in 2002 or
2003; however in the third quarter 2003 we did re-open a previously closed
Dental Denter. We anticipate not opening any new internally developed Dental
Centers during 2004. During 1999, Coast Dental and Coast P.A. added 11 acquired Dental Centers
located in Virginia. The purchase price for these acquired Dental Centers was
$2.1 million, consisting primarily of $1.2 million in cash and $.9 million in
promissory notes and certain assumed liabilities. Coast Dental and Coast P.A.
did not acquire any Dental Centers during 2001, 2002 or in 2003. During 1999, we consolidated one previously acquired Dental Center into an
existing Dental Center. During 2000, we consolidated twelve (12) Dental Centers
into six (6) Dental Centers to take advantage of changing market demographics.
In the fourth quarter of 2001, we closed eight (8) previously acquired Dental
Centers. In 2002, we closed eight (8) Dental Centers, of which two (2) were in
fourth quarter 2002, and sold one Dental Center. In third quarter 2003, we
re-opened a previously closed Dental Center in Florida. We are actively
assisting Coast P.A. to build a patient base and expect to grow this into a
profitable location. In fourth quarter 2003, we closed one (1) Dental Center.
We believe that closing the underperforming Dental Centers will improve overall
financial performance while allowing management to focus its efforts on
improving the performance at remaining Dental Centers. Federal and State Government Laws and Regulations Our operations and relationships are subject to a variety of governmental
and regulatory requirements relating to the conduct of our business and
business corporations in general. We believe that we exercise care in an effort
to structure our practices and arrangements with dental practices to comply
with relevant federal and state law and believe that such arrangements and
practices comply in all material respects with all applicable statutes and
regulations. The health care industry and dental practices are highly
regulated, and there can be no assurance that the regulatory environment in
which we operate will not change significantly and adversely in the future. In
general, regulation of health care providers and companies is increasing. The laws of many states including the states in which we operate prohibit
corporations that are not owned entirely by dentists from employing practicing
licensed dentists (and in some states, dental hygienists and dental
assistants), having 9




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control over clinical decision-making, or engaging in other activities that are
deemed to constitute or impinge upon the clinical practice of dentistry.
Florida law specifically prohibits non-professional corporations from employing
dentists and dental hygienists, exercising control over patient records and
making decisions relating to clinical matters, office personnel, hours of
practice, pricing, credit, refunds, warranties and advertising. Under Georgia
law, a corporation may employ dentists only if the entity is organized as a
professional corporation or association whose stockholders or members are
licensed dentists. Georgia dentists must maintain patient records that document
the course of treatment and may not waive co-payment or bill a third party for
more than the usual fee. We do not employ dentists or dental hygienists and do
not exercise control over any prohibited areas. Tennessee and Virginia, also prohibit non-professional corporations from
owning, maintaining or operating an office for the practice of dentistry. These
laws have generally been construed to permit arrangements under which the
dentists are not employed by or otherwise controlled as to clinical matters by
the party supplying facilities and non-professional services While Adam
Diasti, D.D.S., the sole stockholder of Coast P.A., is also a major
stockholder, director and executive officer of Coast Dental, he acts
independently when making decisions in these areas on behalf of Coast P.A. and
Coast Dental has no control over his decisions in these areas. Moreover, the
Services and Support Agreements between Coast Dental and Coast P.A. expressly
provide that we shall not exercise control over any matters that would violate
the requirements of the applicable state law. Many states also prohibit fee-splitting by dentists with any party
except other dentists in the same professional corporation or practice entity.
In most cases, these laws have been construed as applying to the practice of
paying a portion of a fee to another person for referring a patient or
otherwise generating business, and not to prohibit payment of reasonable
compensation for facilities and services (other than the generation of
referrals), even if the payment is based on a percentage of the practices
revenues. The Florida fee-splitting law prohibits paying or receiving any
commission, bonus, kickback or rebate, or engaging in any split-fee arrangement
in any form with a dentist for patient referrals to dentists or other providers
of health care goods and services. According to Florida Court of Appeals
decision interpreting this law, it does not prohibit a management fee that is
based on a percentage of gross income of a professional practice if the manager
does not refer patients to the practice. Regulatory boards can come to
different conclusions than those reached by a judicial body in analyzing laws.
For example, the Florida Board of Medicine made a determination in applying the
Florida fee-splitting law, that under certain circumstances, a management fee
based upon a percentage of revenue will be found by them to be illegal. While
the Florida Board of Medicine does not have jurisdiction over dentistry, there
can be no assurance that the Florida Board of Dentistry will not adopt a
similar result. Many states, including Florida, Georgia, Tennessee and Virginia, prohibit
dentists from using advertising, which includes any name other than their own,
or from advertising in any manner that is likely to lead a person to believe
that a non-dentist is engaged in the practice of dentistry. The Services and
Support Agreements provide that all advertising shall conform to these
requirements. Florida law also requires all advertising to identify the Florida
dentist who assumes total responsibility for the advertisement and may not
include the name of a person who is not either actually involved in the
practice of dentistry at the advertised location or an owner of the practice
being advertised. Georgia law requires that advertising must contain the name
of at least one dentist practicing at the location unless the Georgia Board of
Dentistry has approved the use of a trade name. Virginia law does not allow the
use of a trade name at all. These laws have civil and criminal penalties and have been subject to
limited judicial and regulatory interpretation. They are enforced by regulatory
agencies that are vested with broad discretion in interpreting their meaning.
Federal or state authorities have not examined the Companys agreements and
activities under these laws and regulations. For these reasons, there can be no
assurance that review of our business arrangements or the operation of the
Dental Centers will not result in determinations that adversely affect our
operations or that the long-term Services and Support Agreements or certain of
its provisions will not be held invalid and unenforceable. In addition, these laws and their interpretation vary from state to state.
The laws and regulations of certain states into which the Company may seek to
expand in the future may require us to change the form of relationships entered
into with dentists in a manner that restricts our operations in those states. Congress passed the Health Insurance Portability and Accountability Act,
or HIPAA, in 1996. Among other things, HIPAA established several requirements
regarding the privacy, security and electronic transmission of health
information. The Department of Health and Human Services, or HHS, has issued
several regulations. In general, these regulations apply to health care
providers, health plans, and health care clearinghouses. Among these
requirements, health care providers are required to enter into agreements with
their business associates that concern the protection of health information.
We are considered under HIPAA to be a business associate of Coast P.A., which
as a health care provider is considered a covered entity under HIPAA
regulations. 10




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Pursuant to HIPAA, HHS issued final privacy regulations establishing
comprehensive federal standards relating to the use and disclosure of protected
health information. These regulations, among other things, establish limits on
the use and release of protected health information, provide for patients
rights to access, amend, and receive an accounting of the uses and disclosures
of protected health information, and require certain safeguards to protect
identifiable health information. The federal privacy regulations do not
supersede state laws that are more stringent. Thus, we must reconcile both the
federal privacy regulations and other state privacy laws that are more
stringent than the federal laws. Coast P.A. was in compliance with the
federal privacy regulations by the effective date of April 14, 2003. The HHS electronic transaction regulations establish uniform standards
relating to data reporting, formatting, and coding that covered entities must
use in conducting certain electronic transactions. Upon the compliance date,
health care providers and business associates must use these standards when
electronically transmitting a covered transaction with health plans or other
health care providers. The compliance date for these regulations was October
16, 2002, unless an extension was requested, which automatically extends the
compliance date to October 16, 2003. We did file the necessary extension so
our compliance date was extended to October 16, 2003. We contracted with
health care clearinghouses to enable electronic insurance claims filing on
behalf of Coast P.A. to comply with these regulations. The HIPAA security regulations were finalized on February 20, 2003. The
purpose of the proposed security regulations is to establish a minimum standard
for the protection of electronic health information that is stored or
transmitted electronically. The regulations provide administrative procedures,
physical safeguards, and technical mechanisms that may be implemented to
satisfy the regulations. Health care providers are required to comply with the
security regulations by April 21, 2005. We believe that health care regulations will continue to change, and as a
result, we regularly monitor developments in health care law. We expect to
modify our agreements and operations from time to time, if necessary, as the
business and regulatory environment change. However, there can be no assurance
that any such changes will not adversely affect our ability to operate as we
currently do or to remain profitable in doing so. Competition We are aware of several other companies that are actively engaged in the
consolidation of existing dental practices and providing business services to
dental practices, some of which may have longer operating histories than us. We
assume that additional companies with similar objectives may enter our markets
and compete with us. The primary basis of competition between dental practice
management companies include, but are not limited, to availability and cost of
financing growth, extent of working capital, liquidity, the extent of the
dental care network, management expertise and experience, sophistication of
information technology systems, the elements of its operating system, the
relative motivation and productivity of affiliated dentists, the availability
and profitability of managed care business and practice management, and
opportunity for career enhancement agreements. The business of providing dental practice management services is highly
competitive in each of the markets in which the Dental Centers operate. The
primary basis of competition within the dental services industry are price of
services, marketing exposure, convenience of location and traffic flow of
location, hours of operation, reputation, managed care contracts, quality of
care and appearance and usefulness of facilities and equipment. Coast Dentists
compete with other dentists who maintain sole practices, group practices or
operate in multiple offices. Many of those dentists have more established
practices in their markets. Seasonality Coast P.A. has traditionally experienced its highest volume of patient
visits during the first quarter of the year and its lowest volume of patient
visits in the summer and in the fourth quarter during the holiday season.
Individual Dental Centers typically experience increased patient visits during
the period from January through March, when the population of Florida increases
for the winter, and decreased patient visits during the summer months and
during the fourth quarter holiday season. There is less variability in first
quarter business in Coast P.A. operations outside of Florida. Dental Centers
located outside of Florida provided 22.2%, 24.5%, and 22.8% of total revenue to
Coast P.A. for the years ended December 31, 2003, 2002 and 2001, respectively.
We also expect that certain factors may mitigate this seasonality including
potential growth in the markets served outside of Florida, Coast Smile Plus
discount and membership programs and patient financing programs. Seasonality in fee-for-service and traditional insurance business is
partially mitigated by capitation revenue from managed care contracts which,
with the exception of fluctuations in the number of enrolled members, is earned
on an equal pro-rata basis over the year. For the years ended December 31,
2003 2002 and 2001, capitation revenue from managed care contracts represented
9.3%, 10.6% and 16.2%, respectively, of Coast P.A.s total revenue. 11




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Service Marks We believe our service marks are important to us. We have registered the
trademarks COAST DENTAL, COAST DENTAL and design/logo, COAST DENTAL OUR
SMILES ARE EVERYWHERE , OUR SMILES ARE EVERYWHERE, OWN A PRACTICE THAT
DOESNT OWN YOU, WELL GIVE YOU EVERY REASON TO SMILE and the Coast Dental
logo with the United States Patent and Trademarks Office. We are seeking
registered trademarks for COAST DENTAL ADVANTAGE, ONE COMPANY. COUNTLESS
OPPORTUNITIES, SMILE PLUS, SOON YOUR SMILE COULD BE A WORK OF ART, and
BRIGHT SMILES BEGIN AT COAST. Employees As of December 31, 2003, we had approximately 677 full-time and part-time
employees, of whom 66 were employed at our headquarters and 611 were employed
at the Dental Centers or in regional management. None of our employees are
represented by a collective bargaining agreement. The number of people employed
by us has increased from the levels maintained in 2002 and 2001. The increase
in 2003 was in the Dental Center personnel necessary to accommodate the
increased level of business volume per day and the increased number of doctor
days and hygienist days at Coast P.A. Dental Center Utilization In an effort to utilize its excess capacity, increase gross revenues and
improve profitability, commencing in July 2001, Coast P.A. hired 39 (net)
dentists in the second half of 2001, increasing the number of dentists from 107
at June 30, 2001, to 146 at December 31, 2001, representing an increase of 36%.
Commencing in July 2001, Coast P.A. hired 15 (net) hygienists in the second
half of 2001, increasing the number of hygienists from 100 at June 30, 2001 to
115 at December 31, 2001, representing an increase of 15%. As of December 31, 2002 Coast P.A. employed 133 dentists or a (net)
decrease of 11 dentists over December 31, 2001 reflecting the closing and
consolidation of eight (8) Dental Centers and sale of one (1) Dental Center in
2002. As of December 31, 2002, Coast P.A. employed 114 hygienists or a decrease
of one (1) hygienist over December 31, 2001. Despite the decrease in the number of dentists employed as of December 31,
2002, by Coast P.A., total doctor days for Coast P.A. increased in 2002 by 18%
from 24,100 to 25,500, reflecting an increase in the number of days the Dental
Centers were opened and staffed with dentists. Total hygienist days for Coast
P.A. increased in 2002 by 20% from 17,300 to 20,800, reflecting an increase in
the number of days the Dental Centers were opened and staffed with hygienists. As of December 31, 2003, Coast P.A. employed 150 dentists or a (net)
increase of seventeen (17) dentists over December 31, 2002. As of December 31,
2003, Coast P.A. employed 111 hygienists or a (net) decrease of 3 hygienists
over December 31, 2002. Total provider days increased in 2003 as well with
total doctor days increasing 1% and hygienist days increasing 4%. Information Available on our Website Our annual reports on Form 10-K, quarterly reports on Form 10-Q, current
reports on Form 8-K and amendments to those reports filed or furnished pursuant
to the Securities Exchange Act of 1934 are available on our website
(www.coastdental.com) as soon as reasonably practicable after we electronically
file with or furnish such documents to the Securities and Exchange Commission.
Our Code of Ethics and Audit Committee Charter, as well as the Section 16
beneficial ownership reports filed by our officers and directors, are also
available on our website. Our internet website and the information contained
therein are not incorporated into this annual report on Form 10-K. Risk Factors The following risk factors and other information included in this Form
10-K should be carefully considered. The risks and uncertainties described
below are not the only ones we face and there may be additional risks and
uncertainties not presently known to us or that we currently deem immaterial.
If any of the following risks occur, it could adversely affect our business and
financial condition as well as the value of our common stock. We have incurred losses in the past and we may not return to profitability. We have incurred losses in recent years and we have not been profitable
since 1999. For the year ended December 31, 2003 we incurred a net loss of
approximately $2.99 million. For the year ended December 31, 2002, we incurred
a net 12




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loss of approximately $3.94 million and for the year ended December 31, 2001,
we incurred a net loss of approximately $9.37 million. We may not be
successful in improving revenue and containing costs such that we can return to
profitable operations. If we continue to incur losses, we may need additional
capital which may not be available to us, or if available, on terms that may
cause substantial dilution to our existing shareholders. If we are unable to
improve revenue and reduce costs in the future, losses could continue or
increase in the foreseeable future. Our financial success depends on the efforts and success of Coast P.A. and the
Coast Dentists and Hygienists, and our business could be harmed if Adam Diasti,
D.D.S. is no longer eligible to own Coast P.A. We receive fees for the business services and support we provide to Coast
P.A. under Services and Support Agreements. Under these agreements, our
service fees are determined by revenues generated by and the financial
performance of Coast P.A., so our financial success depends on the success of
Coast P.A. and the Coast Dentists and Hygienists. The factors that could
impact the financial performance of Coast P.A. and the Coast Dentists and
Hygienists include:  
    
    changes in the number of patients or the services provided by Coast Dentists and Hygienists;
    
    changes in patient demand for dental services;
    
    changes in the number of Coast Dentists and Hygienists available to service patients of Coast P.A.;
    
    the ability of Coast P.A. to incentivize, motivate, retain and attract new dentists and hygienists;
    
    the ability of Coast P.A. to replace any loss of managed care business;
    
    changes in the number of patient visits as a result of the level of advertising or marketing;
    
    the ability to collect patient and insurance trade accounts receivables;
    
    changes in the competitive landscape in markets served;
    
    any successful malpractice claims against Coast P.A., or its Doctors and Hygienists;
    
    changes in the cost or availability of malpractice insurance for dentists;
    
    the success of patient financing programs; and
    
    the opening of new Dental Centers and closure of underperforming Dental Centers. A material loss of revenue, unprofitability or cessation of operations by
Coast P.A., for whatever reason, would materially and adversely affect our
financial condition and results of operations. Our President, Dental Director and Director, Adam Diasti, D.D.S., is a
licensed dentist in the states we operate in and is the sole owner of Coast
P.A. Our success depends on the continued ability of Adam Diasti, D.D.S. to
own Coast P.A. We cannot, by law, own or control Coast P.A. If for any reason
Adam Diasti, D.D.S., was no longer eligible to be the sole shareholder of Coast
P.A., we would have to enter into similar arrangements with one or more other
licensed dentists. Since we cannot be assured that we would be able to enter
into similar arrangements and because we cannot employ dentists, our business
would be harmed if Adam Diasti, D.D.S., is no longer eligible to own Coast P.A. If we are not able to collect our
Coast P.A. service fee receivable, our financial condition may suffer. As of December 31, 2003 Coast P.A. owed us approximately $20.0 million in
service fees under our Services and Support Agreements. While we believe that
Coast P.A. will be able to pay such service fee receivable, there can be no
assurance that this will be the case. In the event Coast P.A. is unable to pay
this service fee receivable, we may be required to write-off a portion of the
service fee receivable which could adversely affect our liquidity and working
capital. Our Board of Directors has decided to terminate our public company status and
seek to deregister our common stock from reporting under the Securities
Exchange Act of 1934. In connection with our self-tender offer in March 2003, our Board of
Directors determined that it was in the best interests of us and our
shareholders to terminate our status as a public company. The significant
factors that were considered at the time included:  
    
    the considerable costs associated with remaining a public company
including legal, auditing, accounting and other expenses;
    
    the significant amount of time expended by management in connection
with meeting our public company obligations;
    
    the lack of liquidity due to low trading volume of our stock;
    
    the unlikelihood of an active trading market due to the limited public float and small shareholder base;
    
    the lack of analyst coverage; 13




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
    
    the difficulty in attracting institutional interest;
    
    the competitive disadvantages due to public disclosure of sensitive information;
    
    the unfavorability of our sector; and
    
    the difficulty of utilizing the public equity capital markets as a
source of financing due to the limited market for our shares. We also stated in our self-tender offer materials filed with the SEC and
provided to shareholders that we would seek to deregister if we were eligible
even if we did not complete the self-tender offer or enter into a second-step
transaction with our controlling shareholders. For significant reasons,
including but not limited to the above factors, our Board of Directors has
again, after careful consideration and evaluation, determined that it is in the
best interest of us and our shareholders to terminate our public company status
in which event we will seek to deregister our common stock from reporting under
the Securities Exchange Act of 1934. The four independent members of our Board
of Directors voted unanimously to approve deregistration. Directors Terek
Diasti and Adam Diasti abstained from voting on the matter because they are the
beneficial owners of a majority of our shares. Over the past several years we
have had less than 300 holders of record as defined by the rules
of the Securities and Exchange Commission. As such, we are eligible to
deregister our common stock at any time by filing a Form 15 with the Securities
and Exchange Commission. Our stock price may suffer an immediate and
significant decline as a result of this decision to seek to terminate our
status as a public company. Costs associated with maintaining our public company status have increased
in recent years in the areas of auditing fees, board fees and insurance
premiums. Such costs in 2003 were approximately $725,000 for the year ended
December 31, 2003 and the current annualized run rate for these costs is
approximately $825,000 per year. We expect certain of these costs to increase
in 2004 and beyond in the areas of board fees, auditing fees and Sarbanes-Oxley
Section 404 internal controls compliance and attestation costs. We estimate
these costs will range from $875,000 to $975,000 in 2004 and from $1,000,000 to
$1,115,000 in 2005. These expenses do not include the salaries and time of our
employees who are required to devote considerable attention to our public
company reporting and compliance obligations. Certain of these costs would
continue after we deregister from the Exchange Act and delist from the Nasdaq
SmallCap Market, if our shares are traded on the Pink Sheets quotation
system. The continuing costs could include stock transfer agent fees, audit
fees and directors and officers insurance premiums, as well as the costs
associated with providing company information to market makers and
broker-dealers. We estimate that the continuing costs would be approximately
$350,000 per year (including the cost of an independent audit of our financial
statements in order to maintain our ability to obtain external debt financing,
and not for Pink Sheets reporting and disclosure). Accordingly, we estimate
we could save approximately $525,000 over the current annualized run rate of
$875,000. We estimate we could save approximately $575,000 to $700,000 over
the projected 2004 and 2005 annualized costs as we will avoid the
Sarbanes-Oxley Section 404 internal controls compliance and attestation costs. After deregistration, our stock may trade on the Pink Sheets and could be
difficult for you to liquidate your shares. Upon the filing of a Form 15 to deregister, our obligation to file
periodic reports with the SEC, including quarterly and annual reports
containing our financial statements, will be suspended and there may no longer
be any public information regarding the company after the deregistration. In
addition, our common stock would no longer be traded on the Nasdaq SmallCap
Market. Even though we would not be considered a public company, our common
stock might be traded on the pink sheets, an electronic quotation service for
over-the-counter securities, to the extent a market maker decides to make a
market in our shares, but there can be no assurance that this would occur.
There is generally less liquidity and greater volatility on the pink sheets
as compared to the Nasdaq SmallCap Market. If our common stock is traded on
the pink sheets, investors would likely find it more difficult to acquire,
dispose of or obtain accurate quotations for our common stock, and our ability
to sell equity securities and to raise capital, could be impaired. There can
be no assurance that an active trading market for our common stock would ever
develop on the pink sheets. The pink sheets quotation service and pink
sheets traded companies are not regulated by the Securities and Exchange
Commission. Furthermore, unlike Nasdaq listed companies pink
sheets traded
companies do not have any corporate governance standards or similar
requirements so we would not be required to have independent directors, an
independent audit committee, independent compensation committee, code of
conduct or seek shareholder approval for certain actions. Furthermore, we
would no longer be subject to Sarbanes-Oxley requirements including
certification of financial statements, certification of internal controls systems,
prohibitions against personal loans to directors and executive officers, audit
committee approval of related party transactions, code of ethics for senior
officers, independent audit committee and other requirements.. The price of our common stock could suffer an immediate and significant
decline as a result of the decision to deregister and delist. 14




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Our controlling shareholder has the ability to take action that may adversely
affect our business, our stock price and our ability to raise capital. As of December 31, 2003, the Diasti Family Limited Partnership (DFLP)
beneficially owned 65% of our outstanding share capital. Our Chief Executive
Officer and Chairman of the Board, Terek Diasti, and our President, Dental
Director and Director, Adam Diasti, D.D.S., own a majority position in and
control the DFLP. As a result of the 65% ownership position, the DFLP has and
will continue to have control over the outcome of matters requiring shareholder
approval, including the power to:  
    
    elect all of our directors;
    
    amend our articles or by-laws; and
    
    agree to or prevent mergers, consolidations or the sale of all or substantially all our assets. Since more than 50% of the voting power of our common stock is held by the
DFLP, we are a controlled company under Nasdaq rules. As a controlled
company, we are not required under Nasdaq rules to have a majority of the
members of our Board of Directors to be independent directors, nor are we
required to have an independent compensation committee. Although our Board of
Directors currently consists of a majority of independent directors, and we
have an independent compensation committee, the DFLP has the voting power to
change the composition of the Board of Directors and the compensation
committee. As a Nasdaq listed company and a Securities and Exchange Commission
registered company we are, however required under Nasdaq rules, and do
maintain, an audit committee consisting solely of independent directors.
However, we will no longer be required to have an independent audit committee
upon deregistration and delisting. DFLP also will be able to delay, prevent or cause a change in control
relating to us. The DFLPs control over us, and its ability to delay or
prevent a change in control relating to us could adversely affect the market
price of our common stock. As a result of the DFLP being our controlling shareholder, the DFLP, Terek
Diasti and Adam Diasti are required by our lenders to guarantee our credit
facility. There can be no assurance that they would continue to be willing to
provide such guarantees. Any sale of shares of our common stock by the DFLP or
the perception that such sale could occur, could negatively affect the market
price of our common stock and could also materially impair our future ability
to raise capital through an offering of securities. Our stock is thinly traded and our stock price is volatile. Historically, the trading volume of our common stock has been very low on
the Nasdaq SmallCap Market and our common stock has experienced significantly
limited liquidity. For example, since January 1, 2004, the daily trading
volume of our shares has been less than 1,000 shares on most days and on some
days our shares have not traded at all. In 2003, the average daily trading
volume was approximately 16,000 shares (and was approximately 11,500 shares
excluding the period the self-tender offer was outstanding and the period that
our controlling shareholder (the DFLP) acquired shares on the open market in
last 2003). We expect the liquidity of our common stock to decrease
significantly upon delisting from the Nasdaq SmallCap Market. Also, the
market price of our common stock has fluctuated substantially in the past and
is likely to continue to be volatile and subject to wide fluctuations. From
January 1, 2002 through December 31, 2003, our common stock has traded on the
Nasdaq SmallCap Market at prices as low as $2.10 and as high as $9.50 per
share. Furthermore, any sale of shares of our common stock by our controlling
shareholder in the future could cause further volatility and negatively impact
the price of our shares. The thin trading market for our common stock and
fluctuations in the price of our shares have occurred and may continue to occur
in response to various factors, many of which we cannot control, including:  
    
    quarter-to-quarter variations in our operating results;
    
    conditions in the dental practice management sector and general dentistry market;
    
    changes in investor perceptions;
    
    small shareholder base;
    
    lack of analyst coverage of us or our shares; and
    
    lack of interest in our shares from institutional investors. Because our stock is not highly liquid, you may not be able to resell your shares at or above the price you paid. 15




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Coast P.A. and Coast Dentists and Hygienists compete with other dental
practices, dentists and hygienists, and other companies compete with us. The practice of dentistry is a highly competitive business in each market
in which Coast P.A. operates. Coast P.A. competes against other dental
practices in the hiring and retention of qualified dentists, hygienists and
other personnel. The Coast Dentists and Hygienists compete against the other
dentists and hygienists in the communities they serve. Many of these competing
dental practices, dentists and hygienists have more established practices and
greater resources. Providing business services to dental practices is also a
competitive business. We compete with other companies with strategies similar
to ours in providing business services to dental practices. Competitors with
greater access to financial resources may enter our markets and compete with
us. We may not be able to compete successfully with existing or new
competitors. Any of these factors could adversely impact our business,
financial condition and financial results of operations or cash flows. Our information systems are critical to our business, and a failure of those
systems could have a material adverse effect on us. Our business and success depends, in part, upon our ability to store,
retrieve, process and manage a significant amount of information, and to
provide Coast P.A. with efficient and effective comprehensive practice
management systems. We are in the early stages of upgrading our information
systems which we expect to enhance our ability to provide timely and
comprehensive information to support Coast P.A. If our information systems
fail to perform as expected, or if we suffer an interruption, malfunction or
loss of information processing capabilities or historical data, it could harm
our business, results of operations and our relationships with Coast P.A. and
Coast Dentists. Our information systems are managed from our West Coast of
Florida based headquarters, where there is risk of hurricane or other storm
related damages or outages. Coast P.A. and the Coast Dentists are subject to extensive governmental
regulations which significantly limits how we can operate. Governmental authorities regulate the dental industry and dental practices
extensively which significantly limits how we can operate. For example, as a
business services company, we are prohibited by law from practicing dentistry
or employing dentists and dental hygienists. We do not control the practice of
dentistry by Coast P.A. and the Coast Dentists and Hygienists or their
compliance with legal requirements that apply to dentists and hygienists and
their dental practices. Since 72 of the 109 Dental Centers are located in the
State of Florida, our revenue is particularly sensitive to regulatory
conditions in the State of Florida. Many states, including Florida, prohibit
us, as a business services and non-professional corporation, from:  
    
    practicing dentistry, which, in some states, includes restrictions on managing or operating a dental office;
    
    splitting professional fees with dentists;
    
    owning or controlling equipment used in dental practices;
    
    employing dentists or dental hygienists;
    
    setting fees charged for dental services
    
    maintaining a dentists patient records, or
    
    controlling the content of advertising. Many states, including Florida, also prohibit dentists from paying any
portion of fees received for dental services in exchange for a patient
referral. These laws and their interpretation vary from state to state, and
regulatory authorities enforce them with broad discretion. If a court or regulatory authority reviewed our Services and Support
Agreements with Coast P.A. and concluded that our agreements did not comply
with applicable law, we might have to terminate those arrangements or change
those agreements in a way that adversely affects us. In 2003, Florida
accounted for approximately 78% of Coast P.A. revenue and, if we were forced to
terminate this particular business services arrangement, it would significantly
harm our business, financial condition and results of operations. The laws and
regulations of states in which we currently operate could change or be
interpreted in a way that adversely affects our operations and relationships
with Coast P.A. We may have to change our contractual relationships, alter our
financial arrangements or restrict our operations in those states. These laws
and regulations could also prevent us from providing business services to Coast
P.A. 16




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Our compliance with the requirements of recently enacted regulations concerning
public company reporting and corporate governance increased our costs. The requirements of recently enacted laws and regulations affecting public
companies, including the provisions of the Sarbanes-Oxley Act of 2002, the
rules of the Securities and Exchange Commission and listing requirements of
Nasdaq, increased our general and administrative expenses and diverted
substantial management time and resources from our operations. In 2003, our
out-of-pocket costs were approximately $54,000 more on matters related to
public company reporting and corporate governance as compared to 2002. These
costs do not include the salaries and time of our employees who are required to
devote substantial attention to these matters. We expected the costs and
expenses associated with our status as a public company to continue to increase
in the future, particularly from upcoming implementation of Section 404 of the
Sarbanes-Oxley Act of 2002. We believe that these new public company rules and
regulations would have also made it more difficult for us to attract and retain
qualified persons to serve on our board of directors, or as executive officers. If you want to sell your shares after we are delisted from the Nasdaq SmallCap
Market, you may need to comply with the SECs penny stock regulations which
could make it more difficult to sell your common stock. After delisting from the Nasdaq SmallCap Market, any sales of our common
stock could be subject to SECs penny stock rules even if traded on the
pink sheets. Under such rules, broker/dealers who recommend these securities
to persons other than established customers and accredited investors must make
a special written suitability determination for the potential purchaser and
enter into a written agreement to a transaction prior to sale. Under the
current penny stock rules, securities are exempt from this rule if the market
price is at least $5.00 per share or if the company has certain operating
history or revenue levels. Unless an exception is available, the regulations require the delivery,
prior to any transaction involving a penny stock, of a disclosure schedule
explaining the penny stock market and the risks associated with it. If our
common stock were considered a penny stock, the ability of broker/dealers to
sell our shares and the ability of our shareholders to sell their securities in
the secondary market would be limited. As a result, the market liquidity for
our common stock would be severely and adversely affected. While there
currently appears to be an exemption from the penny stock rules based upon
our operating history and revenue levels, we cannot assure you that trading in
our securities will not be subject to these or other regulations in the future
which would negatively affect the market for such securities. The cost reduction and cost
containment program implemented in 2004 might not be successful and could harm us. In January 2004, the Company and Coast P.A. began the implementing a
comprehensive set of cost reduction and cost containment initiatives. As a
result of these cost reduction and cost containment initiatives, we believe we
can reduce our cost structure in an amount that would allow us to achieve
profitability in 2004. The cost reduction and cost containment initiatives includes, among other
aspects, a reduction in Dental Center and corporate staffing and a shift in our
emphasis of and use of what we believe to be more effective and less costly
marketing and advertising programs. There can be no assurance we will realize a sufficient reduction in our
cost structure to allow us to become profitable. We have not reported net
income for a full fiscal year since 1999. Furthermore, there can be no
assurance that our cost reduction program will not have an adverse impact on
our net revenue and our business as a result of the reduced staffing levels,
shift in emphasis to less costly marketing and advertising programs, and the
other cost reduction and cost containment initiatives we are implementing. We depend on our senior management, and, if we lose them, our business could
suffer. Our success depends upon the continued active participation of our senior
management especially our Chief Executive Officer, Terek Diasti and our
President and Dental Director, Adam Diasti. Adam Diasti, D.D.S., is also the
sole owner of Coast P.A. The loss of the services of any of these individuals
could have an adverse effect on our business. Our success also depends on our
ability to attract and retain other highly qualified managerial personnel. Our financial results could be harmed by successful claims against Coast P.A.
or the Coast Dentists and Hygienists. We provide business services and support to Coast P.A. and Coast Dentists
and Hygienists that provide dental treatment to the public and are exposed to
the risk of professional liability and other claims. Those claims, if
successful, could result in substantial damage awards. Those awards might
exceed the limits of any applicable insurance coverage. Insurance against
losses of this type can be expensive. We do not control the practice of
dentistry by Coast P.A. or the Coast Dentists or their compliance with the
legal and other requirements applicable to dentists and hygienists and their
practices. A successful malpractice claim against Coast P.A. or Coast Dentists
or Hygienists could harm Coast P.A. and ,correspondingly, have an adverse
impact on our financial condition results of operations or cash flows. Federal and state laws that protect the privacy of patient health information
may increase our costs and limit our ability to collect and use that
information. Numerous federal and state laws and regulations govern the collection,
dissemination, use and confidentiality of patient-identifiable health
information, including the federal Health Insurance Portability and
Accountability Act of 1996 and related rules, or HIPAA. As part of our record
keeping, billing and other services for Coast P.A., we collect and maintain
patient-identifiable health information. New health information standards,
whether implemented pursuant to HIPAA, congressional action or otherwise, could
have a significant effect on the manner in which we handle health care related
data and communicate with payors, and the cost of complying with these
standards could be significant. If we do not comply with existing or new laws
and regulations related to patient health information we could be subject to
criminal or civil sanctions. 17




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##### Table of Contents



Item 2.Properties We presently lease an average of 2,100 square feet of office space for
each of the 109 Dental Centers. The typical lease for office space is for a
term of approximately five years and generally provides for renewal options for
additional years. We estimate that the renewal options will be exercised and
the average lease term will be ten years. The average rental payments for a
leased Dental Center are approximately $3,700 per month. There is currently
excess capacity at the Dental Centers and Coast P.A. has been recruiting
additional dentists and hygienists. Based on current hiring trends, the
current Dental Center space is adequate for the foreseeable future. We plan to
continue to lease rather than purchase space for the Dental Centers to preserve
our available capital. We lease 13,700 square feet of office space in Tampa, Florida for our
corporate headquarters. This lease is for a term of three years and expires
April 30, 2006. We anticipate that we can successfully renew or obtain suitable new leases
for our Dental Centers, but there can be no assurance that this will be the
case. We believe that our leased properties are adequate for the purposes for
which they are used, are suitably maintained for such purposes and are adequate
for our foreseeable needs. 
 Item 3.Legal Proceedings We are a party to a number of legal and administrative proceedings and
other claims arising in the ordinary course of business, including matters
related to the dental services provided to patients by Coast P.A. To date,
these proceedings have not had a material effect on our financial condition,
results of operations or cash flows. However, there can be no assurance that
in future periods, these proceedings will not have a material adverse effect on
our business, financial condition, results of operations and cash flows. We previously disclosed that we are a party to employee-related matters,
two of which are collective action complaints. Settlements have been reached
for three such matters with a maximum cost to us totaling $1,003,000 (including
plaintiffs legal fees and expenses). For one of these matters, the number of
participating employees and former employees were less than expected and the
total settlement cost was $233,000 less than the maximum cost. Accordingly, we
reduced our estimated accrual for legal matters by $233,000, thereby reducing
its total maximum cost to $770,000. As of December 31, 2003, we have paid
$770,000 and have concluded all three matters. We are a business services company that provides comprehensive business
services and support to general dentistry practices and we do not provide or
perform dental services. The dental services are provided to patients solely
by licensed dentists and dental hygienists employed by, our client, Coast P.A.
We are named as a party in several professional liability matters brought by
patients against Coast P.A. We do not expect to have any liability exposure
because we do not provide or perform dental services and we have never been
found liable in a professional liability lawsuit for dental services provided
by a dental professional. However, there can be no assurance that in the
future a court of law will not find us liable in a professional liability
lawsuit. While the outcome of the pending legal and administrative proceedings and
other claims cannot be predicted with certainty, management does not expect the
pending matters to have a material adverse effect on the financial position,
results of operations or cash flows of Coast Dental. At year end 2002 and
2001, we accrued amounts we believed were appropriate at that time with respect
to the pending and settled legal and administrative proceedings and other
claims based upon discussions with legal counsel and the nature and present
status of such proceedings. We intend to vigorously defend our position in any
of the pending matters. However, there can be no assurance that we will be
successful. 
 Item 4.Submission of Matters to a Vote of Security Holders There were no matters submitted to a vote of our shareholders in the fourth quarter of 2003. 18




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PART II 
 Item 5.Market for Registrants Common Equity and Related Stockholder Matters Market Information The common stock of Coast Dental Services, Inc. is quoted on the National
Association of Securities Dealers Automated Quotation System (NASDAQ). The
common stock of the Company has been trading publicly under the symbol CDEN on
the NASDAQ since our initial public offering on February 11, 1997. Effective
July 17, 2001, we completed a one-for-three reverse split of our common stock
and began trading on the NASDAQ Small Cap Market. The following table sets
forth the high and low closing sale price of our common stock as reported by
NASDAQ for the periods indicated: Year
    
    
    
    High
    
    Low2002
    
    First Quarter
    
    $
    3.15
    
    
    $
    2.17Second Quarter
    
    $
    6.00
    
    
    $
    3.10Third Quarter
    
    $
    4.35
    
    
    $
    2.60Fourth Quarter
    
    $
    3.53
    
    
    $
    2.632003
    
    First Quarter
    
    $
    5.75
    
    
    $
    2.84Second Quarter
    
    $
    9.50
    
    
    $
    5.00Third Quarter
    
    $
    8.09
    
    
    $
    4.49Fourth Quarter
    
    $
    7.50
    
    
    $
    6.28
 The bid prices reported for these periods reflect inter-dealer prices,
without retail markup, markdown or commissions, and may not represent actual
transactions. The closing bid price per share of our common stock as of February 27,
2004, was $6.45 and there were approximately 90 holders of record as of that
date. The number of holders of record was determined from the records of our
transfer agent and investor communications agent and does not include
beneficial owners of common stock whose shares are held in the names of various
securities brokers, dealers and registered clearing agencies. Sales of Unregistered Securities We did not issue any shares of common stock in 2003 that was not
registered under the Securities Act of 1933. Dividends Except for an S Corporation distribution during 1996, we have never paid
cash dividends on our common stock. We presently intend to retain all future
earnings for the operation and expansion of our business and, accordingly, we
do not anticipate that any dividends will be declared or paid on the common
stock for the foreseeable future. In addition, our credit facility restricts
our ability to declare or pay any cash dividends on common stock,
without the lenders consent. Any future
determination to pay cash dividends will be at the discretion of the Board of
Directors and will be dependent upon our financial condition, results of
operations, capital requirements and such other factors as the Board of
Directors deem relevant. 19




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##### Table of Contents



Item 6.Selected Financial Data The following selected financial data with respect to our statement of
operations data and for the years ended December 31, 2003, 2002, 2001, 2000,
and 1999 and the balance sheet data as of December 31, 2003, 2002, 2001, 2000,
and 1999 are derived from the Financial Statements which have been audited
by Deloitte & Touche LLP, independent auditors. The following data should be
read in conjunction with the Financial Statements and the related Notes to
Financial Statements thereto included in Item 8 and with Item 7. Managements
Discussion and Analysis of Financial Condition and Results of Operations. December 31,2003
    
    2002
    
    2001
    
    2000
    
    1999(in thousands, except per share data)STATEMENT OF
OPERATIONSDATA FOR THE YEAR:Net revenue
    
    $
    56,416
    
    
    $
    55,964
    
    
    $
    43,561
    
    
    $
    45,826
    
    
    $
    44,598Net income (loss)
    
    
    (2,986
    )
    
    
    (3,944
    )
    
    
    (9,367
    )
    
    
    (1,264
    )
    
    
    656Basic earnings (loss) per common share:Net income (loss)
    
    $
    (1.41
    )
    
    $
    (1.89
    )
    
    $
    (4.48
    )
    
    $
    (0.60
    )
    
    $
    0.29Diluted earnings (loss) per common share:Net income (loss)
    
    $
    (1.41
    )
    
    $
    (1.89
    )
    
    $
    (4.48
    )
    
    $
    (0.60
    )
    
    $
    0.29Weighted average shares outstanding:Basic
    
    
    2,111
    
    
    
    2,091
    
    
    
    2,091
    
    
    
    2,098
    
    
    
    2,302Diluted
    
    
    2,111
    
    
    
    2,091
    
    
    
    2,091
    
    
    
    2,098
    
    
    
    2,302BALANCE SHEET DATA AT YEAR END:Total assets
    
    $
    49,395
    
    
    $
    50,526
    
    
    $
    54,136
    
    
    $
    64,204
    
    
    $
    64,657Debt including current maturities
    
    $
    1,936
    
    
    $
    196
    
    
    $
    350
    
    
    $
    2,214
    
    
    $
    1,853
 
 Item 7.Managements Discussion and Analysis of Financial Condition and Results of Operations. A. Overview We opened our first Dental Center in May 1992. As of December 31, 2003,
we provide comprehensive business services and support to 109 Dental Centers
consisting of 64 internally developed and 45 acquired Dental Centers, net of
consolidations and closings. We derive our revenue through fees earned from
Coast P.A. for providing comprehensive business services and support at the
Dental Centers, located in Florida, Georgia, Tennessee and Virginia. As of
December 31, 2003, 150 Coast Dentists and 111 Hygienists were employed by Coast
P.A., serving approximately 487,000 patients and there were approximately
599,000 unique provider visits during 2003. Coast P.A. and Coast Dental plans
to grow by utilizing existing excess capacity. Once the excess capacity is
optimized, Coast P.A. and Coast Dental expect to expand the Coast Dental
Network in new and existing markets through the addition of internally
developed and strategically opportunistic acquired Dental Centers. Relationship with Coast P.A.The entities comprising Coast P.A. are all
owned by a related party  Adam Diasti, D.D.S., (who is a Director, President
and the majority stockholder of Coast Dental). We have 40-year evergreen dental
services agreements (Services and Support Agreements) with each entity
comprising Coast P.A. whereby we receive fees for services and support provided
to dental practices owned and operated by Coast P.A. Coast P.A. provides all of the dental services for patients and employs
all of the dentists and dental hygienists. As employer of dentists and dental
hygienists, Coast P.A. incurs the cost of dentist and hygienist compensation,
benefits and certain other expenses. Pursuant to the Services and Support
Agreements, we earn a services and support fee from Coast P.A. to provide
comprehensive business services and support to each Dental Center. In
providing these comprehensive business services and support to the Dental
Centers, we incur all of the remaining operating expenses incurred by the
Dental Centers including employee costs for assistants and office staff, dental
supplies and lab fees, occupancy, advertising and Dental Center administrative
costs. We do not employ dentists and hygienists and, accordingly, Dental
Center - 20




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Salaries and employee costs presented on the Statement of Operations does
not include the salaries and benefits of dentists and hygienists. In addition,
we acquire the property and equipment, lease the facilities and improve the
facilities in order to operate the Dental Centers. Dependence on Coast P.A. We receive fees for services and support
provided to Coast P.A. under the Services and Support Agreements, but do not
employ dentists or hygienists or control the dental practices of Coast P.A. Our
net revenue is dependent on gross patient revenue generated by, our client,
Coast P.A. and, therefore, effective and continued performance of Coast P.A.
and its dentists and hygienists during the term of the Services and Support
Agreements is essential to our long term success. Services and Support Agreement with Coast P.A.We have 40-year evergreen
dental services agreements (Services and Support Agreements) with each entity
comprising Coast P.A. whereby we receive fees for services and support provided
to Coast P.A. Net revenue represents the aggregate fees charged to Coast P.A.
under the agreements during the year. Gross patient revenue earned by Coast
P.A. at its dental practices is at established rates, net of refunds,
adjustments and discounts. The costs incurred by Coast P.A. include primarily
dentist and hygienist salaries and benefits. The services and support fee
arrangements have been agreed to between the principal and sole owner of Coast
P.A., Adam Diasti, D.D.S., (who is a Director, President and the majority
stockholder of Coast Dental), and the Chairman of the Board and Chief Executive
Officer of Coast Dental, Terek Diasti. Adam and Terek Diasti are brothers. The services and support fee agreements
and any amendments thereto are approved by the Audit Committee, which is
comprised of independent directors. The factors considered in setting those
fees, which reflect the fair market value of our services and support, included
our evaluation of the services provided, the costs incurred by us in connection
with providing the services and our negotiated return, balanced against Coast
P.A.s requirement for a retained amount which ensures its financial viability,
contemplation of a long-term relationship with us and the future business
opportunity related thereto. Only the service fees earned by us for services and support to Coast P.A.
and our actual expenses are reflected in our financial statements. Neither the
expenses of Coast P.A. nor any of the patient gross revenues earned by Coast
P.A. are reflected in our financial statements. Historically, the services and support fee was based on a percent of the
gross patient revenues of Coast P.A. (net of refunds, discounts, and
adjustments and inclusive of capitation revenues). Effective February 1, 1999,
the services and support fee became 73% of Dental Center gross revenue and
effective January 1, 2000, the services and support fee became 67% of Dental
Center gross revenue, with an allowable range of 66% to 72%. The percentage was
unchanged in 2001 through May 31, 2002. Effective June 1, 2002, Coast Dental and Coast P.A. amended the Services
and Support Agreement to change the methodology for determining the monthly
services and support fee earned and to provide for Coast P.A. to grant us a
secured interest in Coast P.A.s trade accounts receivable for payment of
services and support fees. These changes were precipitated by the favorable
impact on financial performance of Dental Centers converted to the recently
implemented Equity Model, which model Coast Dental and Coast P.A. believe
provides the Equity Doctor and Coast P.A. an incentive for improving overall
financial performance of each Dental Center. This amendment incorporates the
financial performance of each Dental Center in the determination of the
services and support fee earned by us. The Audit Committee of the Board of
Directors approved the amendment to the Services and Support Agreement. Effective June 1, 2002, the Services and Support fee earned by us for each
Dental Center is based on a combination of the actual costs of services
provided and the financial performance of the Dental Centers. As compensation
for its services and support of the Dental Centers, we earn a two-part monthly
services and support fee based on: 1) the actual direct and indirect expenses
incurred in providing the services and support to the Dental Centers (including
employee costs, supplies, advertising, occupancy, and Dental Center
administrative costs); and 2) the financial performance of the Dental Centers.
The performance-based portion of the fee is set at 90% of the excess of dental
services revenue over direct and indirect Dental Center operating expenses.
Effective October 1, 2002, Coast Dental and Coast P.A. amended the Services and
Support Agreement to calculate the performance-based portion of the services
and support fee on the aggregate financial performance of all Dental Centers
and not on the stand-alone financial performance of each Dental Center. The
Audit Committee of the Board of Directors approved this amendment to the
Services and Support Agreement. Net revenues decreased $2.9 million for the nine months ended September
30, 2003, over the comparable prior year period due to the October 1, 2002
amendment to Services and Support Fee Agreement. Expansion
through Acquisitions - Acquisitions made with Coast P.A.Coast
Dental and Coast P.A., in prior years, have jointly entered into asset purchase
agreements with existing dental practices. Coast P.A. acquired the patient
lists and any other professional assets and we acquired certain tangible
assets, principally the dental equipment, and assumed certain liabilities such
as the lease agreement for the facility. The fair value of the patient lists
was determined based upon general 21




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market information received from an independent dental practice transition
consultant regarding traditional dental practice acquisitions. In addition to
the purchase price allocations for tangible assets, there are allocations for
identifiable intangible assets and non-identifiable intangible assets. The
identifiable intangible assets allocation was to non-compete agreements, which
are partially allocated to us and partially allocated to Coast P.A. The purchase price allocation to Coast P.A. was limited to the value of
the patient files and an amount representing the estimated value of Coast
P.A.s right to prohibit the selling professional association and its
dentist(s) from competing in the dental business within the specified area
surrounding the acquired Dental Center. After a determination of the fair value
of the tangible assets and identifiable intangible assets acquired, the
remaining purchase price representing non-identifiable intangible assets was
allocated to Coast Dental and Coast P.A. (as the value of the Dental Service
Agreements (i.e. the Services and Support Agreements) attributable to the
Dental Center). Update on Recent Initiatives- Overview See Part I, Item 1 Update on Recent Initiatives in this Form 10-K for
a discussion on recent initiatives impacting the financial
condition, results of operations or cash flows of the Company. Growth Information We took a very significant step beginning in 1998, shifting from an
acquisition model to a development model. Management began to emphasize the
opening of internally developed (de-novo) Dental Centers and placed less
emphasis on acquiring Dental Centers. While the growth of the patient base of
the de-novo Dental Centers has been slower than anticipated, which has
negatively impacted our financial performance, management is committed to this
strategy and continues to believe it is the best long-range strategy. Our
current strategy is to increase capacity utilization at our existing Dental
Centers. After we achieve higher utilization, we may resume expansion using
the development model in order to achieve long term growth in a more cost
effective and productive manner. We opened 17 internally developed Dental Centers in 1999 in Florida,
Georgia and Tennessee. We did not open any internally developed Dental Centers
in 2000. During 2001, we opened two (2) internally developed Dental Centers,
one each in the Atlanta, GA and the Nashville, TN markets. The average cost, to
us, of an internally developed Dental Center has been approximately $225,000,
which includes the cost of equipment, leasehold improvements and working
capital. No internally developed Dental Centers were opened in 2002. In 2003,
we re-opened a previously closed internally developed Dental Center. We do not
anticipate opening many new internally developed Dental Centers during 2004. During 1999, Coast Dental and Coast P.A. acquired 11 Dental Centers
located in Virginia. The purchase price for these acquired Dental Centers was
$2.1 million, consisting primarily of $1.2 million in cash and $0.9 million in
promissory notes and certain assumed liabilities. Coast Dental and Coast P.A.
did not acquire any Dental Centers during 2000, 2001, 2002 or in 2003. During 1999, we consolidated one previously acquired Dental Center into an
existing Dental Center. During 2000, we consolidated twelve (12) Dental Centers
into six (6) Dental Centers to take advantage of changing market demographics.
In the fourth quarter of 2001, we closed eight (8) previously acquired Dental
Centers. In 2002 we closed eight (8) Dental Centers, of which two (2) were in
fourth quarter 2002, and sold one (1) Dental Center. In 2003, we closed one (1)
Dental Center (in the fourth quarter 2003) and took a charge of approximately
$0.3 million to provide for the write off of intangible and tangible assets. We
believe that closing underperforming Dental Centers will improve our overall
financial performance while allowing management to focus its efforts on
improving the performance at the remaining Dental Centers. Coast P.A. derives the majority of its gross revenue from a combination of
sources, including fees and insurance co-payments paid directly by patients,
private insurance reimbursements and capitation fees from managed care
arrangements. The following table outlines the historical payor mix for Coast P.A.s
gross revenue for the periods presented, which is not necessarily indicative of
the expected payor mix in the future. Coast P.A.s higher margin business is
the Self-Pay and Private Insurance categories. We earn our net revenues by
providing services and support to Coast P.A. Years Ended December 31,Coast P.A.s Payor Mix
    
    2003
    
    2002
    
    2001Self-pay (Fee-for-Service and Discount & Membership plans)
    
    
    34
    %
    
    
    32
    %
    
    
    32
    %Private insurance (Indemnity and PPO insurance)
    
    
    39
    
    
    
    37
    
    
    
    27Managed Care (Dental HMOs)
    
    
    27
    
    
    
    31
    
    
    
    41Total
    
    
    100
    %
    
    
    100
    %
    
    
    100
    %
 22




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##### Table of Contents



B. Results of Operations The following table sets forth, as a percentage our net revenue
(consisting of services and support fees earned pursuant to the Services and
Support Agreements), certain items from our Statement of Operations for the
years indicated. The performance of the Company during these years is not
indicative of future financial performance results or condition (See
Managements Discussion and Analysis of Financial Condition and Results of
Operations - Update on Recent Initiatives). Years Ended December 31,2003
    
    2002
    
    2001Net revenue
    
    
    100.0
    %
    
    
    100.0
    %
    
    
    100.0
    %Dental Center expenses:Salaries and employee costs
    
    
    37.1
    
    
    
    35.2
    
    
    
    40.8Dental supplies and lab fees
    
    
    17.2
    
    
    
    18.4
    
    
    
    18.6Occupancy
    
    
    14.2
    
    
    
    13.8
    
    
    
    16.5Advertising
    
    
    6.1
    
    
    
    7.4
    
    
    
    4.9Finance charges
    
    
    2.7
    
    
    
    2.2
    
    
    
    1.2Training and development
    
    
    1.5
    
    
    
    1.0
    
    
    
    Administrative
    
    
    2.3
    
    
    
    2.5
    
    
    
    2.7Dental Center depreciation
    
    
    5.5
    
    
    
    5.6
    
    
    
    7.6Total Dental Center expenses
    
    
    86.6
    
    
    
    86.1
    
    
    
    92.3Gross profit
    
    
    13.4
    
    
    
    13.9
    
    
    
    7.7General and administrative expenses
    
    
    15.9
    
    
    
    13.0
    
    
    
    18.4Amortization and corporate depreciation expense
    
    
    2.1
    
    
    
    2.4
    
    
    
    3.0Dental Center closings
    
    
    0.3
    
    
    
    4.7
    
    
    
    6.3Asset impairment charges
    
    
    
    
    
    
    2.9
    
    
    
    2.2Operating loss
    
    
    (4.9
    )
    
    
    (9.1
    )
    
    
    (22.2
    )Interest income
    
    
    0.2
    
    
    
    0.3
    
    
    
    0.7Interest expense
    
    
    (0.7
    )
    
    
    (0.1
    )
    
    
    (0.4
    )Loss before income tax benefit
    
    
    (5.4
    )
    
    
    (8.9
    )
    
    
    (21.9
    )Income tax benefit
    
    
    0.1
    
    
    
    1.8
    
    
    
    0.4Net loss
    
    
    (5.3
    )%
    
    
    (7.1
    )%
    
    
    (21.5
    )%
 23




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Year Ended December 31, 2003 Compared to Year Ended December 31, 2002 Net revenue. Net revenue increased 1% from $55.9 million in 2002 to
$56.4 million for year 2003. This increase in revenue is due primarily to
increased revenues and provider productivity at Coast P.A., partially offset by
the $2.9 million decrease in services and support fees from the October 1, 2002
change in the services and support fee agreement (See Overview-Services and
Support Agreement with Coast P.A. above) and in part due to the termination by
an insurance company of its dental managed care contract with Coast P.A.
effective September 1, 2003. The increase in net revenue for the year is attributable to a number of
factors including an increase in the number of Dentists at Coast P.A., an
increase in the productivity per Dentist and Hygienist, expansion of the
patient financing program at Coast P.A., the continuing migration from
lower-margin managed care business to fee-for-service and private insurance at
Coast P.A. and growth in the Coast Smile Plus discount and membership plan at
Coast P.A., partially offset by the change in the services and support fee
agreement and the dental managed care contract termination described above. As of December 31, 2003, Coast P.A. employed 150 dentists or an increase
of seventeen (17) dentists (13%) over December 31, 2002, reflecting the hiring
of additional dentists. As of December 31, 2003, Coast P.A. employed 111
hygienists or a decrease of three (3) hygienists over December 31, 2002. Total Coast P.A. gross patient revenues increased 9% in 2003 over 2002.
Coast P.A. average doctor production per day increased 2003 over 2002 by 8%.
In 2003, there was an increase in doctor days for Coast P.A. of 1% over 2002.
Total hygienist days for Coast P.A. increased 4% in 2003 over 2002. Average
production per hygiene day for Coast P.A. was unchanged in 2003. In the second half of 2003, Coast P.A. hired fourteen (14) additional
doctors (net) which has, and will, increase total doctor days, and Coast P.A.
expects this will further increase total patient revenues. However, average
doctor production per day has and is expected to initially decrease while
doctor compensation ratios increase as these doctors develop a patient base. The 2003 increase in productivity of Coast P.A. dentists and hygienists
has been assisted by several programs. In 2003, approximately $11.2 million in
Coast P.A. gross revenue was financed by patients using the patient financing
program, an increase of $2.6 million or 31% over 2002. The average transaction
per Coast P.A. patient who used the patient financing was approximately 3.75
times higher than the overall average patient transaction. The migration from
lower-margin managed care business continues as the percentage of Coast P.A.
gross revenue derived from managed care business has declined from 31% of Coast
P.A.s gross revenue for the year ended December 31, 2002 to 27% for 2003.
Coast P.A. Smile Plus discount and membership plan introduced in 2001 continues
to contribute additional gross revenues for Coast P.A. In 2003 Coast Smile
plus contributed 11% of Coast P.A. gross revenues, up from 9% in 2002. Due to the termination of a Coast P.A. managed care contract effective
third quarter 2003 as described in Update on Recent Initiatives above, we
experienced a reduction in our services and support fee revenue from Coast P.A.
in the second half of 2003. Over the 12 months ended June 30, 2003 gross
capitation and patient co-pay revenues of Coast P.A. related to this contract
were $7.2 million and our estimated services and support fee related to this
contract was approximately $4.7 million. The loss to Coast P.A. gross revenues
was $1.8 million in the second half of 2003 and the loss to our second half of
2003 services and support fee revenues related to the loss of this Coast P.A.
contract was approximately $0.8 million. We implemented certain cost control
measures in the third quarter 2003 which partially mitigated the effect of the
reduction in our services and support fee revenues from this Coast P.A.
contract termination. Coast P.A. continues to focus on a strategy of
increasing total providers and productivity per provider and increasing the
fee-for-service patient base and expanding the Coast Smile Plus discount and
membership plan which, if successful, is expected to assist in mitigating the
effect of this contract termination on its gross revenues. There can be no
assurance that this will occur. If Coast P.A. is unable to replace this gross
revenue it will continue to adversely affect our net revenues from services and
support fees. Salaries and employee costs. Salaries and employee costs increased 6%
from $19.7 million to $20.9 million. This increase in salaries and employee
costs is due to increased staffing levels to accommodate the 9% growth in Coast
P.A. gross patient revenues. Salaries and employee costs increased from 35.2%
of net revenues to 37.1% of net revenues, or a 5% increase, due to the effect
of the October 1, 2002 change in the services and support fee agreement with
Coast P.A. Salaries and employee costs would have been 35.2% of 2003 net
revenues had this change not occurred. Dental supplies and lab fees. Despite Coast P.A. gross patient revenues
increasing 9% in 2003 dental supplies and lab fees, a portion of which are
purchased from related parties, decreased 6% from $10.3 million for 2002 to
$9.7 million in 24




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2003. Dental supplies and lab fees as a percent of net revenue decreased from
18.4% for 2002 to 17.2% for 2003. While net revenue increased, dental supplies
and lab fees decreased as a percent of revenue due to the improving payor mix
and from the continued use of preferred lab vendors which offer better pricing
over alternative sources. Occupancy expenses. Occupancy expenses increased 4% from $7.7 million for
2002 to $8.0 million for 2003 due to increased repair costs and increased
information technology (IT) costs. Dental Center IT costs increased in 2003
from the following three IT initiatives we implemented in 2002: 1) Improved
reliability, availability and service levels of the network between the Dental
Centers and the Corporate office by installing a private frame relay network
which will enable us to implement new technology platforms; 2)
Internet-enabling the Dental Centers to allow faster information exchange with
insurance companies and to improve communications and gain efficiencies between
the Dental Centers and the Corporate office; and 3) Installation of additional
network servers and routers at the Dental Centers to support these initiatives.
Management anticipates that occupancy costs will increase in the near future
from improvements being made to the Dental Centers. We are continuing our enhancement in the Dental Center equipment and
information technology platform. These changes are expected to increase
efficiencies, lower maintenance costs and provide more timely and comprehensive
information to support the Dental Centers. Activities to date related to the
information technology platform have consisted primarily of planning,
preliminary technology and software evaluation, and upgrading the
telecommunications capabilities and hardware to a private frame relay. During
fourth quarter 2003, we commenced installation at the Dental Centers of digital
hygiene equipment and an upgraded and expanded information technology platform.
This initiative is expected to continue for the next several quarters. The
majority of the cost of this initiative will be amortized over the asset life
of three to seven years, or lease terms, generally three years, except that
certain planning, process change and post-implementation review costs will be
expensed as incurred. Advertising.Advertising expenses decreased 17% from $4.2 million in 2002
to $3.5 million in 2003. During the first quarter 2003, we assisted Coast P.A.
in launching a comprehensive denture treatment advertising and promotion
campaign that ran through second quarter 2003. In late second and third
quarter 2003, we assisted Coast P.A. in launching a New Patient Development
advertising program. In fourth quarter 2003, we assisted Coast P.A. with
several direct mail campaigns, implementing a new Re-Care program and launched
new patient acquisition programs. In 2002, more of the higher cost radio and
television advertising were used for brand marketing surrounding our 10-year
anniversary, as well as print and direct mail advertising focused primarily on
Coast P.A.s Coast Smile Plus membership and discount program and the newly
introduced patient financing program. Dental Center finance charges. Finance charges increased 25% from $1.2
million in 2002 to $1.5 million in 2003. In accordance with the services and
support fee agreements with Coast P.A., the Company incurs the cost of certain
administrative costs of operating the Dental Centers including finance charges
incurred from patients that pay Coast P.A. for dental services with credit
cards or patient financing programs. Finance charges, a portion of which of
which are earned by a related party, increased in 2003 over 2002 due to the
increased charge volume on credit cards taken and the patient financing program
implemented in first quarter 2002. Finance charges are expected to increase in
the future as the volume of financed transactions increases. Increases in
finance charges are offset by accelerated collections of net revenues and
enables higher productivity of Dental Center staff from less collection
activities. Dental Center training and development expenses. Training and development
expenses increased 53% from $533,000 in 2002 to $818,000 in 2003. In 2002,
Coast Dental and Coast P.A. implemented a staff training and development
program designed to increase the productivity and profitability of the Dental
Centers. Through fourth quarter 2003, the life-to-date cost for this program
was $1.3 million (for Dental Center staff) and $0.5 million for Coast P.A. (for
Dentists and Hygienists). The first year of the staff training and development initiative concluded
in May 2003, and the second year initiative commenced in February 2003.
Training and development costs are expected to decrease in 2004 from a change
in scope in the training and development program Dental Center administrative expenses. Dental Center administrative
expenses decreased less than $100,000 from $1.4 million in 2002 to $1.3
million. Dental Center depreciation. Depreciation expense at the Dental Centers
decreased less than $50,000 in 2003 over 2002 from operating
fewer Dental Centers, partially offset by purchases of new equipment. Corporate general and administrative expenses. Corporate general and
administrative expenses increased $1.7 million or 19% from $7.3 million in 2002
to $9.0 million in 2003. After isolating the effect of certain non-operational
items (discussed below) corporate general and administrative expenses increased
$1.6 million in 2003 over 2002 due to the 25




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investment in additional management personnel and an increased investment in
information technology and from higher audit fees and director fees.
Additional information technology investments were made for private frame relay
networks, equipment leasing costs and consulting costs. In 2003, corporate general and administrative expenses included $0.4
million of non-operational items including $0.7 million in costs and expenses
incurred with the self-tender offer; partially offset by a decrease in the
litigation settlement accrual of $0.2 million in first quarter 2003 from the
settlement of a matter for less than originally estimated; and partially
offset by a $0.1 million reduction in the valuation allowance on the related
party receivable carried at the lower of cost or net realizable value of the
underlying collateral which is the cash surrender value of split dollar key man
life insurance. Corporate depreciation and amortization. Corporate depreciation and
amortization expenses decreased $163,000 from $1.3 million in 2002 to $1.2
million in 2003. The decrease is attributable to the write-off of intangible
assets in connection with the closing of eight (8) Dental Centers and the
impairment charge recognized in the fourth quarter of 2002. Dental Center closings and asset impairment charges. We believe that
closing the underperforming Dental Centers will improve the overall financial
performance of the Company while allowing management to focus its efforts on
improving the performance of the remaining Dental Centers. 2003 Activity During third quarter 2003, the Dental Center closing reserve was reduced
by $170,000 in August, 2003 because one previously closed Dental Centers was
reopened and the accrual for the remaining lease obligations was reversed. During fourth quarter 2003, one (1) Dental Center was closed. A non-cash
charge of $336,000 was recorded in fourth quarter 2003 to provide for the
write-off of intangible assets ($301,000) and tangible assets ($35,000). 2002 Activity During the second quarter 2002, (3) Dental Centers were closed and the
patient base was combined into nearby Dental Centers and in third quarter 2002,
three (3) Dental Centers were closed. In addition, one Dental Center was
relocated to a newer and larger leased facility to support the continued growth
of that Dental Center. A non-cash charge of $194,000 was recorded in second
quarter 2002 to provide for the write-off of leasehold improvements, surplus
Dental Center equipment and the remaining lease obligations for these office
closings and relocation. In third quarter 2002, a non-cash charge of
$1,778,000 was recorded to provide for the write-offs of intangible assets
($1.2 million), leasehold improvements ($0.2 million) and provide for the
remaining lease obligations ($0.3 million) for the office closings. Asset Impairment Charges We evaluate the recoverability of our investment in long-lived tangible
and intangible assets at the Dental Center level using estimated undiscounted
cash flows in the fourth quarter each year. As a result of this evaluation in
2003, no Dental Centers were considered impaired; however in 2002, three (3)
Dental Centers were considered impaired. An impairment charge of $1.3 million
was recorded in the fourth quarter of 2002 after comparing the estimated fair
value of the Dental Center on a discounted cash flow basis with the carrying
value. Interest income. Interest income decreased $45,000 from $157,000 in 2002
to $112,000 in 2003 The decrease in interest income is from lower notes
receivable balances outstanding and from decreasing interest rates available on
our invested cash equivalents. Interest expense. Interest expense increased $374,000 from $28,000 in
2002 to $402,000 in 2003. The increase in expense is attributable to
borrowings on the revolving line of credit during 2003, while there was no
revolving line of credit balance in 2002. Income taxes. In 2003, we recognized an income tax benefit of $66,000
compared to an income tax benefit of $1,027,000 in 2002. In third quarter
2003, we filed our 2002 tax return and a tax benefit of $66,000 was recorded to
recognize an increase in the tax refund due from 2002 that was estimated at
year end 2002. On March 9, 2002, the Job Creation and Worker Assistance Act of 2002
(Act) was signed into law. This Act contains a provision that enabled us to
carry back a substantial portion of our net operating losses to tax years 1997
and 1998 and file for additional refunds of federal income taxes previously
paid of $888,000. The total income tax refund filed 26




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for tax years 1997, 1998 and 1999 in April 2002 was $1,241,000. We collected
the income tax refund in second quarter of 2002. The effect of the change in tax law was recorded as a reduction in the
deferred tax asset, a reduction in the valuation allowance and recognition of a
tax benefit, and an increase in income tax receivable of $888,000 in the first
quarter 2002, when the law was enacted. In fourth quarter 2002, we increased
our tax benefit to $1,027,000 from the recording of an estimated income tax
refund from the 2002 results of operations. We incurred federal tax net operating losses in 2003, 2002 and 2001. As a
result of the three-year history of incurring net operating losses, we can not
conclude that the realization of the deferred tax asset is more likely than
not, but we will re-evaluate the amount of the valuation allowance on an
ongoing basis. Accordingly, we have provided a full valuation allowance on our
remaining net deferred tax asset. Year Ended December 31, 2002 Compared to Year Ended December 31, 2001 Net revenue.Net revenue increased 28.5% from $43.6 million for 2001 to
$56.0 million for 2002. On a per Dental Center basis, net revenue increased
39% as there were fewer Dental Centers operated in 2002 compared to 2001 from
the Dental Center closings late in 2001 and throughout 2002. The increase in
net revenue is attributable to a number of factors including an 18% increase in
doctor days and a 20% increase in hygiene days of the providers affiliated with
Coast P.A.; an increase in the productivity of Coast P.A. Dentists and
Hygienists; the implementation of the patient financing program by Coast P.A.
in 2002; the continued migration by Coast P.A. from lower-margin managed care
business to fee-for-service and private insurance; and growth in Coast P.A.
Smile Plus discount and membership plan. As of December 31, 2002 Coast P.A. employed 133 dentists or a (net)
decrease of 11 dentists over December 31, 2001 reflecting the closing and
consolidation of eight (8) Dental Centers and sale of one (1) Dental Center in
2002. As of December 31, 2002, Coast P.A. employed 114 hygienists or a decrease
of one (1) hygienist over December 31, 2001. Despite the decrease in the number of dentists employed as of December
2002 by Coast P.A., total doctor days for Coast P.A. increased in fiscal year
2002 by 18% from 24,100 to 25,500, reflecting an increase in the number of days
the Dental Centers were opened and staffed with providers. Total hygienist
days for Coast P.A. increased in fiscal year 2002 by 20% from 17,300 to 20,800,
reflecting an increase in the number of days the Dental Centers were opened and
staffed with providers. The productivity of Coast P.A. Dentists and Hygienists, measured in
average patient revenues per day, increased 20% and 13%, respectively in 2002,
and was assisted by the initiatives described below. During the year ended
December 31, 2002, Coast P.A. patients using the patient financing program
implemented in 2002 financed approximately $8.6 million of gross revenue. The
average transaction value per patient who used the patient financing program
was approximately 3.75 times higher than the overall average patient
transaction value. The migration from lower-margin managed care business
continues as the percentage of gross revenue derived from managed care business
has declined from 57% of Coast P.A.s gross revenue for the year ended December
31, 2000 to 31% for the year ended December 31, 2002. In addition, the Company
and Coast P.A. implemented the Coast Smile Plus discount and membership plan in
2001, which contributed approximately 9% of Coast P.A.s gross revenues in the
year ended December 31, 2002. Net revenues were 65% and 67% of Coast P.A gross revenues in fourth
quarter 2002, 2001, respectively, or a decrease of 2% (or $464,000) due to the
October 1, 2002, amendment to the service and support fee agreements. Salaries and employee costs.Salaries and employee costs increased 11.0%
from $17.8 million for 2001 to $19.7 million for 2002. This increase in
salaries and employee costs is due to increased staffing levels resulting from
the need to staff the Dental Centers at a level consistent with the increasing
business volumes, as well as annual salary and wage increases. However,
salaries and employee costs declined from 40.8% of net revenues to 35.2% of net
revenue, or a 5.6% decrease, due to the higher capacity utilization at the
Dental Centers in 2002 enabling better leveraging of the administrative staff. Dental supplies and lab fees. Dental supplies and lab fees a portion of
which are purchased from a related party, increased 26.9% from $8.1 million for
2001 to $10.3 million for 2002. The increase of 26.9% is consistent with and
directly related to the increase in business volume and the increase in net
revenues of 28.5% as cited above. Dental supplies and lab fees as a percent of
net revenues decreased slightly from 18.6% of net revenues in 2001 to 18.4% of
net revenues in 2002 due to the continued use of preferred labs over
alternative sources and from the successful implementation by Coast P.A. of new
patient merchandise product lines. 27




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Occupancy.Occupancy cost increased 6.9% from $7.2 million for 2001 to
$7.7 million for 2002. The increase in occupancy costs is primarily due to an
increase in information technology (IT) costs, partially offset by decreased
facilities cost from operating fewer Dental Centers. Dental Center IT costs
have increased $0.6 million from three IT initiatives undertaken in 2002: 1)
Improved reliability, availability and service levels of its network between
the Dental Centers and the Corporate office by installing a private frame relay
network which will enable us to implement new technology platforms; 2)
Internet-enabling the Dental Centers to allow faster information exchange with
insurance companies and to improve communications and gain efficiencies between
the Dental Centers and the Corporate office; and 3) Installation of additional
network servers and routers at the Dental Centers to support these initiatives,
which are being leased, resulting in an increase in IT lease expense. Repair
and maintenance costs increased $0.2 million in 2002. However this increase
was more than offset by a decrease of $0.7 million in base rent, utilities, and
property taxes during the year as a result of the eight (8) Dental Centers
closed in the fourth quarter of 2001, and the eight (8) Dental Centers closed
in 2002. Management anticipates that occupancy costs will remain relatively
stable on a per office basis for the foreseeable future. Occupancy costs
declined from 16.5% of net revenues to 13.8% of net revenue, or a 2.7%
decrease, due to the higher capacity utilization at the Dental Centers in 2002
enabling better leveraging of the fixed cost components of Occupancy costs. Advertising.Advertising expenses increased 100% from $2.1 million in
2001 to $4.2 million in 2002. This increase represents the cost associated
with the increased focus on attracting fee-for-service and insurance patients
and implementing the patient-financing program. In addition, a significant
portion of the increased advertising cost is attributable to increased
marketing efforts for the Coast Smile Plus discount and membership program. In connection with its ten-year anniversary in May 2002, Coast Dental and
Coast P.A. launched a television and radio advertisement program in second
quarter 2002. Advertising costs for the production and airing of these
advertisements totaled $455,000 in second quarter 2002. Television and radio
advertising costs were $179,000 in third quarter 2002. The direct marketing program costs for the Coast Smile Plus discount and
membership program was $404,000 in third quarter 2002. The cost of the second
pre-approved patient financing credit card offers mailed in late third quarter
2002 was $434,000. Advertising programs were reduced in fourth quarter 2002 with fourth
quarter advertising costs totaling $608,000. Advertising costs increased from 4.9% of net revenues in 2001 to 7.4% in
2002. Targeted levels for fiscal year 2003 are 4% to 6% of net revenues,
consistent with the fiscal year 2001 levels. Dental Center finance charges.Finance charges increased 140% from $0.5
million in 2001 to $1.2 million in 2002. In accordance with the services and
support fee agreements with Coast P.A., the Company incurs the cost of certain
administrative costs of operating the Dental Centers including finance charges
incurred from patients that pay Coast P.A. for dental services with credit
cards or patient financing programs. Finance charges, a portion of which are
earned by a related party, increased due to the increased charge volume on
credit cards taken and the patient financing program implemented in first
quarter 2002. Finance charges are expected to increase in the future as the
volume of financed transactions increases. Increases in finance charges are
offset by accelerated collections of net revenues and enables higher
productivity of Dental Center staff from less billing and collections activity. Dental Center training and development expenses.In June 2002, the
Company and Coast P.A. implemented a twelve month staff training and
development program designed to increase the productivity and profitability of
the Dental Centers. The costs incurred by the company in 2002 was $533,000
(for Dental Center Staff) and $288,000 incurred by Coast P.A. (for Dentists and
Hygienists). Dental Center administrative expenses.Dental Center administrative
expenses increased 17% from $1.2 million for 2001 to $1.4 million for 2002.
This increase is primarily due to an increase in uniforms cost from
implementation of a lab coat program in 2002 for all Dental Center staff. Dental Center depreciation.Dental Center depreciation expense decreased
5.7% from $3.3 million in 2001 to $3.1 million in 2002. The decline in
depreciation expense is primarily due to the assets written off in connection
with Dental Center closings (eight (8) in 2001 and eight (8) in 2002) and the
assets sold in connection with the Equity Model. Corporate general and administrative expenses.Corporate general and
administrative expenses decreased 8.4% from $8.0 million for 2001 to $7.3
million for 2002. The decrease for the year is primarily due to a reduction in
professional fees and recruitment costs, partially offset by an increase in
insurance expense, salaries and IT lease costs. During 2001, we recognized professional fees of approximately $670,000 in
connection with a recapitalization 28




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transaction that was abandoned in first quarter 2001. This cost did not recur
in 2002. In 2002, professional fees of $65,000 were incurred in pursuing
working capital financing other than the credit facility closed in December
2002, which were expensed as incurred. Recruitment costs were $184,000 lower in 2002, due to the costs associated
with hiring experienced management personnel in 2001. Insurance expense includes the net change in the valuation allowance on
the related party receivable carried at the lower cost or the cash surrender
value of split-dollar key-man life insurance. The increase in the valuation
allowance was $377,000 in 2002 compared to $238,000 in 2001 for a $139,000
year-to-year increase. In February 1998, we entered into split-dollar life
insurance arrangements with executive officers and directors, Terek Diasti and
Adam Diasti. Pursuant to the terms of the agreements, we lent money to pay the
premiums and have received collateral assignments of the life insurance
policies to secure repayments of the non-interest loans. We have the ability
to unilaterally cancel the policies on 30 days notice and receive the lesser of
the cash surrender value or the amounts loaned. We carry the non-interest
bearing loans at the lesser of the cash surrender value or the amounts loaned.
During 2002, the valuation allowance was increased $377,000 to reflect a
decline in the market value of the marketable securities underlying the cash
surrender value of the life insurance. At December 31, 2002, the non-interest
bearing loans are carried at $1,020,000 comprised of loans totaling $1,902,000
net of the valuation allowance of $882,000. In 2002, the Company redeemed the
cash surrender value of life insurance for two former officers of the Company
and collected cash proceeds of $380,000. Salaries increased as we have attracted experienced management personnel
in the areas of operations, marketing, information technology and human
resources and also incurred severance costs in 2002. These salary increases
were partially offset by salary decreases from staffing changes and cost saving
measures implemented in the first and fourth quarters of 2002. As discussed in Item 7-Managements Discussion and Analysis of Financial
Condition and Results of Operations  Overview, we are investing in an
enhancement of our information technology platform. Information technology
expenses are expected to increase during the planning, implementation, and
post-implementation phases of this project. The majority of the cost of this
initiative will be amortized, generally over three years, except for certain
planning, process change, and post-implementation review costs that will be
expensed as incurred over the next several quarters. The corporate private
frame relay network and IT equipment leasing cost increased $89,000 in 2002. Depreciation and amortization. Depreciation and amortization levels in
the current year are comparable to the prior year. The minor change is
attributable to depreciation on the current year additions to corporate office
IT equipment and software offset by write-off of intangible assets in
connection with the closing of Dental Centers in 2001 and 2002 and the asset
impairment charges recognized. Dental Center closings, consolidations, relocation and asset impairment
charges.Coast Dental and Coast P.A. continuously evaluate the performance of
the Dental Centers and dental practices. During 2002 and 2001, decisions were
made to close and/or consolidate into other locations a total of sixteen (16)
Dental Centers and in addition, in 2002, to relocate one (1) Dental Center to a
newer and larger facility to support the continued growth of that Dental
Center. Locations selected for closure or consolidation were under-performing
and certain of which had lease expirations in the near future. The closings and
consolidations and relocation by year were as follows: eight (8) closings and
consolidations in 2002 (of which two (2) were in fourth quarter 2002), one (1)
relocation in 2002; and eight (8) closings and consolidations in 2001 all of
which were in fourth quarter 2001. We believe that closing the underperforming Dental Centers will improve
the overall financial performance of the Company while allowing management to
focus its efforts on improving the performance of the remaining Dental Centers. 2002 Activity Total charges recorded in 2002 were $4.2 million for the eight (8) Dental
Center closings and three (3) impaired Dental Centers compared to the total
charges recorded in 2001 for $3.7 million for the eight (8) Dental Center
closings and one (1) impaired Dental Center. During second quarter 2002, Coast Dental and Coast P.A. closed three (3)
Dental Centers and combined the patient base into nearby Dental Centers. In
addition, one (1) Dental Center was relocated to a newer and larger facility to
support the continued growth of that Dental Center. A non-cash charge of
$194,000 was recorded to provide for the write-off of leasehold improvements,
surplus Dental Center equipment and the remaining lease obligations for these
office closings and relocation. In third quarter 2002, we closed three (3) Dental Centers and in one of
these markets combined the patient base into a nearby Dental Center. A
non-cash charge of $1,778,000 was recorded to provide for the write off of
intangible assets ($1.2 29




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million), leasehold improvements ($0.2 million) and provide for the remaining
lease obligations ($0.3 million) for these office closings. In fourth quarter 2002, we closed two (2) Dental Centers and in one of
these markets combined the patient base into a nearby Dental Center. A
non-cash charge of $652,000 was recorded to provide for the write off of
intangible assets ($0.3 million), tangible assets, including leasehold
improvement ($0.1 million) and provide for the remaining lease obligations
($0.2 million) for these office closings. In fourth quarter 2002, we evaluated the recoverability of our investment
in long-lived tangible and intangible assets at the Dental Center level using
estimated undiscounted cash flows. As a result of this evaluation, three Dental
Centers were impaired. An impairment charge of $1.3 million was recorded in the
fourth quarter of 2002 after comparing the estimated fair value of the Dental
Center on a discounted cash flow basis with the carrying value. 2001 Activity In the fourth quarter of 2001, eight (8) previously acquired Dental
Centers were closed. The Dental Centers were under-performing and five (5) of
these Dental Centers were nearing the expiration of the respective lease
agreements. In connection with these closings, we recognized a non-cash charge
of approximately $2.75 million in the fourth quarter of 2001 to provide for the
related asset impairments (fixed assets, leasehold improvements and intangible
assets) and the remaining lease and facilities commitments. Of this charge,
$0.4 million is for estimated lease and facilities commitments. The remainder
of the charge is a write down of tangible and intangible assets with no future
cash obligations. We evaluated the recoverability of our investment in long-lived tangible
and intangible assets at the Dental Center level using estimated undiscounted
cash flows. As a result of this evaluation, one (1) Dental Center was impaired.
An impairment charge of $0.9 million was recorded in the fourth quarter of 2001
after comparing the estimated fair value of the Dental Center on a discounted
cash flow basis with the carrying value. Interest income.Interest income decreased $160,000 from $317,000 in 2001
to $157,000 for 2002. The is due to a decrease in interest income from a
lower amount of invested assets partially offset by an increase in interest
receivables on Equity Dentist Notes Receivable. Interest expense.Interest expense decreased $ 151,000 from $179,000 in
2002 to $28,000 in 2003. The decrease for the year is due to a decrease in
interest expense as there were no borrowings outstanding under the line of
credit in 2002. Income taxes.In 2002, we recognized an income tax benefit of $1,027,000
compared to an income tax benefit of $154,000 in 2001. On March 9, 2002, the Job Creation and Worker Assistance Act of 2002
(Act) was signed into law. This Act contains a provision that enabled us to
carry back a substantial portion of our net operating losses to tax years 1997
and 1998 and file for additional refunds of federal income taxes previously
paid of $888,000. The total income tax refund filed for tax years 1997, 1998
and 1999 in April 2002 was $1,241,000. The Company collected the income tax
refund in second quarter of 2002. The effect of the change in tax law has been recorded as a reduction in
the deferred tax asset, a reduction in the valuation allowance and recognition
of a tax benefit and an increase in the income tax receivable of $888,000 in
the first quarter 2002, when the law was enacted. In 2002, we generated a federal net operating loss of $135,000 and an AMT
net operating loss of $877,000. We will be able to carryback the AMT net
operating loss of $877,000 to tax year 1998. The net operating loss of
$135,000 will be carried forward as no prior year taxable income is available
for carryback. A reduction in the valuation allowance and recognition of tax
benefit of $175,000 was recorded in the fourth quarter 2002. We incurred a federal tax net operating loss in 2002, 2001 and 2000. As a
result of the three-year history of incurring net operating losses, we cannot
conclude that realization of the deferred tax asset is more likely than not but
we will re-evaluate the amount of the valuation allowance on an ongoing basis.
Accordingly, we have provided a full valuation allowance on our remaining net
deferred tax asset. 30




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C. Liquidity and Capital Resources At December 31, 2003, we had cash and cash equivalents of $2.1 million. At
December 31, 2002, we had cash and cash equivalents totaling $2.8 million for a
year-to-year decrease of $0.7 million. This decrease was principally from the
excess of capital expenditures ($1.7 million), debt service
costs ($0.4 million), and cash
used by operations ($0.6 million) over borrowings under our revolving credit
facility ($1.8 million). To improve cash flows from patients, Coast Dental and Coast P.A., in
January 2002, arranged for a patient financing program through a related party
and an unrelated national financial institution. This program has accelerated
the collection of net revenues, for those patients of Coast P.A. that elect to
use the program and qualified for credit, as the financial institution pays the
dental service fees within twenty-four hours, net of related discounts and
brokerage fees. This program is expected to reduce the growth of Coast P.A.s
accounts receivable and accelerate cash flows of Coast P.A. and Coast Dental
thereby enhancing our liquidity. The credit card debt of the patient is
non-recourse to Coast P.A. and Coast Dental. Our line of credit facility with Bank of America expired on November 4,
2002. We pursued alternative financing throughout 2002 and secured a new
credit facility in December 2002. There were no borrowings outstanding under
the Bank of America credit facility at any time in fiscal year 2002. On December 31, 2002, we entered into a revolving line of credit with a
commercial lender for our working capital needs, which permits borrowing up to
$2 million. We borrowed $1,760,000 under this revolving credit facility on
January 2, 2003 and had $1,787,000 outstanding at December 31, 2003. This
credit facility replaced the previous credit facility that expired in third
quarter 2002 that we were unable to borrow on since third quarter 2001 due to
our inability to meet certain financial covenants. On February 6, 2004, the
Company and our lender executed a Waiver and First Amendment to the credit
agreement to reset certain financial covenants waive non-compliance with
certain financial covenants and extend the term of the credit facility by one
year to December 31, 2006. The term loan portion of the credit facility could only be accessed to
finance the buyback of the Companys common stock and only through June 1,
2003. The Company did not elect to borrow any funds under the term loan portion
of the credit facility by June 1, 2003; accordingly, this portion of the credit
facility is no longer available to the Company. Our liquidity depends in part upon the ability of Coast P.A. to pay the
service fee receivable and any inability of Coast P.A. to generate sufficient
revenues and cash flows to pay the service fee receivable could materially
decrease our liquidity. See also Note 4 of the Notes to Financial Statements
regarding the service fee receivable. In addition, increases in the service
fee receivable and any increased expense levels to support our investment in
training and development programs, advertising programs and an upgraded
information technology platform, without a corresponding increase in net
revenues, could negatively impact our liquidity. There can be no assurance that borrowing capacity will be available under
the credit facility due to its restrictive covenants. If it is necessary to
raise capital to fund operations, and capital is raised through the issuance of
equity securities or securities convertible into equity securities, Coast
Dental shareholders may experience dilution in ownership percentages and book
value. Additionally, such securities may have rights, preferences and
privileges senior to those of holders of common stock. Based upon our anticipated capital needs for operation of our business,
general corporate purposes, and debt service, management believes that the
combination of the funds expected to be available under the
Companys current cash reserves, the $2 million line of credit and cash flows from operations should
be sufficient to meet our funding requirements, to conduct our operations and
for further implementation of our growth strategy and current plans through at least 2004. Additionally, to the extent our joint Equity Model initiative with Coast
P.A. is successful, additional cash could become available to us through
accelerated payment of Coast P.A.s service fee receivable through improved
operating performance of the Dental Centers converted to the Equity Model, through the sale of certain Coast P.A. assets to Dentists for cash,
or the assignment by Coast P.A. to us of notes receivable from Equity Doctors.
However, there can be no assurance at this time that the Equity Model
initiative will be successful. 31




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The Company has incurred losses in each of the last four years. The Company
initiated certain cost reduction efforts in the second half of 2003 and has
significantly expanded this to a comprehensive cost reduction and cost
containment program in early 2004. The Companys cost reduction and cost
containment program include initiatives to reduce labor, occupancy,
advertising, training and development and corporate general and administrative
costs. As a result of these cost reduction and cost containment initiatives,
the Company is optimistic it can reduce its cost structure and achieve
profitability in 2004. However, there can be no assurance that these cost
reduction and cost containment programs will be effective and the Company will
be profitable in 2004. In the event we are unable to achieve profitability and generate the expected cash flows,
or fails to have continued access to our $2 million line of credit
facility due to any financial covenant non-compliance or other events of default, we could face liquidity and working capital constraints, which could
adversely impact future operations and growth. Off-Balance Sheet Arrangements and Cash Contractual Obligations Off-Balance Sheet Arrangements. The Company does not have any material
off-balance sheet arrangements (guarantee obligations; retained contingent
interest in assets previously transferred; obligations under derivative
instruments; or any obligation under material variable interests) other than
standard operating lease arrangements which are summarized below. Cash Contractual Obligations.The following table summarizes the
scheduled maturities of the Companys long-term cash contractual obligations as
of December 31, 2003: Cash Contractual
Obligations
    
    
    
    
    
    
    
    
    
    Payments Due by PeriodLess than
    
    1-3
    
    3-5
    
    More than(in Thousands)
    
    Total
    
    1 Year
    
    Years
    
    Years
    
    5 YearsDebt
    
    $
    1,787
    
    
    $
    
    
    
    $
    1,787
    
    
    $
    
    
    
    $
    Capital
Lease Obligations
    
    $
    150
    
    
    $
    52
    
    
    $
    98
    
    
    $
    
    
    
    $
    Operating Leases
    
    $
    15,902
    
    
    $
    4,844
    
    
    $
    9,464
    
    
    $
    1,594
    
    
    $
    Total
    
    $
    17,839
    
    
    $
    4,896
    
    
    $
    11,349
    
    
    $
    1,594
    
    
    $
    
 The Company purchases dental supplies and dental lab products in the
ordinary course of business however, has no contractual purchase obligations
for minimum quantities. See Notes 8, 10 and 11 to the Financial Statements for
further information about commitments for debt, capital leases and purchases of
dental supplies and dental lab products. Share Repurchases On February 10, 1999, we announced that our Board of Directors authorized
the repurchase of up to 500,000 shares (166,667 shares after adjustment for
one-for-three reverse split) of its outstanding common stock. On March 25,
1999, we announced that our Board of Directors authorized the increase of the
previously announced share repurchase program from 500,000 (166,167 post-split
shares) to 1,500,000 (500,000 post-split) shares. At our Annual Meeting of
Shareholders held on July 16, 2001, the Board of Directors authorized an
increase to the previous share repurchase program from 1,500,000 shares
(500,000 post-split) to 2,250,000 shares (750,000 post-split shares). We may repurchase our shares for cash in the open market or in privately
negotiated transactions, from time to time, subject to market conditions. The
repurchase program will continue until such time as we have acquired all of the
shares authorized for repurchase, unless sooner terminated by the Board of
Directors. No shares will be repurchased from our officers or directors. We did not repurchase any of its outstanding common stock in the past
three years under our share repurchase program due to financial constraints. As described in the M, D & A in the section Update on Recent Initiatives  Tender
Offer, we did purchase 11,537 shares in 2003 in connection with the proposed
self-tender offer. Recent Pronouncements On December 31, 2002, the Statement of Financial Accounting Standards No.
148 (SFAS No.148) Accounting for Stock-Based
Compensation - Transition and
Disclosure was issued. SFAS 148 amends SFAS 123, Accounting for Stock-Based
Compensation, to provide alternative methods of transition to the fair value
method of accounting for stock-based employee compensation. The Company
implemented interim financial statements disclosure requirements of SFAS 148 in
first quarter 2003 and annual financial statement disclosures in 2003. The Company will implement the SFAS 123 fair-value method
of accounting for stock-based compensation in first quarter 2004 using the
modified prospective adoption method of SFAS 148. Adoption of this accounting
standard will not, in the Companys opinion, have a material impact on the
Companys reported results of operations or financial position in 2004. Effective January 1, 2002, the Company adopted SFAS No. 144, Accounting
for the Impairment or Disposal of Long-Lived Assets(SFAS 144). SFAS 144
provides a single model for accounting for long-lived assets to be disposed of
by superseding SFAS No. 121, Accounting for the Impairment of Long-Lived Assets
and for Long-Lived Assets to be 32




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Disposed Of(SFAS 121), and the accounting and reporting provisions of APB
Opinion No. 30, Reporting the Results of Operations  Reporting the Effects of
Disposal of a Segment of a Business, and Extraordinary, Unusual and
Infrequently Occurring Events and Transactions(APB 30). Under SFAS 144,
discontinued operations are measured at the lower of carrying value or fair
value less costs to sell, rather than on a net realizable value basis. Future
operating losses relating to discontinued operations also are no longer
recognized before they occur. SFAS 144 (i) broadens the definition of a
discontinued operation to include a component of an entity (rather than a
segment of a business); (ii) requires long-lived assets to be disposed of other
than by sale to be considered held and used until disposed; and (iii) retains
the basic provisions of (a) APB 30 regarding the presentation of discontinued
operations in the statements of income, (b) SFAS 121 relating to recognition
and measurement of impaired long-lived assets (other than goodwill), and (c)
SFAS 121 relating to the measurement of long-lived assets classified as
held-for-sale. Adoption of SFAS 144 did not have any impact on the Companys
financial statements. Effective January 1, 2003, the Company adopted SFAS No. 145, Rescission
of FASB Statements No. 4, 44, and 64, Amendment of FASB Statement No. 13, and
Technical Corrections(SFAS 145). In addition to amending or rescinding
other existing authoritative pronouncements to make various technical
corrections, clarify meanings, or describe their applicability under changed
conditions, SFAS 145 generally precludes companies from recording gains and
losses from the extinguishment of debt as an extraordinary item. SFAS 145 also
requires sale-leaseback treatment for certain modifications of a capital lease
that result in the lease being classified as an operating lease. The adoption
of SFAS 145 did not have any impact on the Companys financial
statements. Effective January 1, 2003, the Company adopted SFAS No. 146, Accounting
for Costs Associated with Exit or Disposal Activities(SFAS 146). SFAS 146
requires that a liability for a cost associated with an exit or disposal
activity be recorded and measured initially at fair value only when the
liability is incurred rather than at the date of an entitys commitment to an
exit plan as required by Emerging Issues Task Force (EITF) Issue No. 94-3,
Liability Recognition for Certain Employee Termination Benefits and Other Costs
to Exit an Activity (including Certain Costs Incurred in a Restructuring)
(EITF 94-3). The adoption of SFAS 146 did not have any impact on
the Companys financial statements. Effective January 1, 2003, the Company adopted FIN No. 45, Guarantors
Accounting and Disclosure Requirements for Guarantees, Including Indirect
Guarantees of Indebtedness of Others(FIN 45). FIN 45 requires entities to
establish liabilities for certain types of guarantees and expands financial
statement disclosures for others. The initial recognition and initial
measurement provisions of FIN 45 are applicable on a prospective basis to
guarantees issued or modified after December 31, 2002. The adoption of FIN 45
did not have any impact on the Companys financial
statements. Critical Accounting Policies and Significant Estimates Our business, significant accounting policies and contracts from which net
revenues are derived are described in Notes 1, 2 and 10 of the Notes to
Financial Statements. The preparation of financial statements in conformity
with accounting principles generally accepted in the United States of America
requires management to make estimates and assumptions about future events that
affect the amounts reported in the financial statements and accompanying notes.
Future events and their effects cannot be determined with absolute certainty.
Therefore, the determination of estimates requires the exercise of judgment.
Actual results inevitably will differ from those estimates, and such
differences may be material to the financial statements. The most significant accounting estimates inherent in the preparation of
our financial statements include estimates associated with the following
matters:  
    
    Our Services and Support Agreements with Coast P.A. do not constitute
a controlling financial interest in Coast P.A. and, accordingly, we do
not consolidate the gross patient revenues, results of operations, cash
flows and other accounts of Coast P.A. in accordance with Emerging
Issues Task Force 97-2.
    
    We evaluate the recoverability of the service fee receivable from
Coast P.A. and have determined that this service fee receivable is fully
collectible. If the financial condition of Coast P.A. changes, resulting
in an impairment of its ability to pay, an allowance may be necessary to
reduce the carrying value of this asset to a net realizable value that
is less than the carrying amount of the receivable.
    
    We evaluate the recoverability of the notes receivable from Equity
Doctors and have determined that these notes receivable are fully
collectible. If the financial condition of Equity Doctor Dental Centers
changes, resulting in an 33




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impairment of its ability to pay, an allowance may be necessary to reduce
the carrying value of this asset to a net realizable value that is less
than the carrying amount of the notes receivable.
    
    We evaluate the recoverability of long-lived tangible and intangible
assets of the Dental Centers based on our assessment of future cash
flows and, where impairment has occurred, the impairment loss is
measured using estimated discounted cash flows. Our judgment as to
future cash flows and the discount rate used are significant estimates
in making these recoverability evaluations.
    
    We record a valuation allowance to reduce our net deferred tax assets
to the amount that is more likely than not to be realized under enacted
tax law. While we have considered future taxable income and ongoing
prudent and feasible tax planning strategies in assessing the need for
the valuation allowance, in the event we were to determine that we would
be able to realize more of our deferred tax assets in the future in
excess of our net recorded amount, an adjustment to the valuation
allowance would increase reported income in the period such
determination was made. Any changes in the assessment could be from
internal circumstances or from favorable or unfavorable changes in
future tax laws.
    
    We have estimated the costs associated with the closure of eight (8)
Dental Centers during 2001, eight (8) Dental Centers in 2002, and one
(1) Dental Center in 2003. The costs recorded in connection with these
closings are based on recorded assets and liabilities, lease commitments
and estimated costs to close the Dental Centers. If actual costs are
significantly more than expected, earnings will be reduced in 2004.
Conversely, if actual costs are significantly less than expected,
earnings could be improved in 2004. Various assumptions and other factors underlie the determination of these
significant estimates. The process of determining significant estimates is fact
specific and takes into account factors such as historical experience, current
and expected economic conditions, and in some cases, market discount rates. We
continuously re-evaluate these significant factors and makes adjustments where
facts and circumstances dictate. Actual results could deviate, and possibly
significantly, from those determined using the estimates described above. 
 Item 7A.Quantitative and Qualitative Disclosures About Market Risk. See Item 7-Managements Discussion and Analysis of Financial Condition
and Results of Operations, Section C. Liquidity and Capital Resources for
further information. We have a relatively low level of debt, and expect to finance future
capital needs through available capital, anticipated future earnings and our
revolving line of credit. The credit facility is a variable rate loan tied to
the prime rate of interest. Our exposure to market risk for changes in
interest rates is primarily in our cash equivalents. Pursuant to our investing
guidelines, we mitigate exposure by limiting maturity, placing cash equivalents
with high credit quality issuers and limiting the amount of credit exposure to
any one issuer. During the year ended December 31, 2003, we earned investment
income of approximately $112,000. SPECIAL NOTICE REGARDING FORWARD LOOKING STATEMENTS This Form 10-K annual report contains statements which are
forward-looking statements. The words expect, believe, goal, plan,
intend, estimate and similar expressions and variations thereof, and
discussions of strategy or intentions, are intended to specifically identify
forward-looking statements. Forward-looking statements appear in a number of
places in this Form 10-K and in other places, particularly,
Recent Developments, Business
Properties, Legal Proceedings and Managements Discussion and Analysis of
Financial Condition and Results of Operations, and include statements
regarding the intent, belief or current expectations of the Company, its
directors or its officers which are inherently uncertain. Investors and
prospective investors are cautioned that any such forward-looking statements
are not guarantees of future performance and involve risks and uncertainties,
and that actual results may differ materially from those projected in the
forward-looking statements as a result of various factors including those set
forth in the Risk Factors section of this Form 10-K. We undertake no
obligation to publicly update or revise the forward-looking statements made in
this Form 10-K to reflect events or circumstances after the date of this Form
10-K or to reflect the occurrence of unanticipated events. 34




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Item 8.Financial Statements and Supplementary Data COAST DENTAL SERVICES, INC.
INDEX TO FINANCIAL STATEMENTS PageIndependent Auditors Report
    
    
    36Balance Sheet as of December 31, 2003 and 2002
    
    
    37Statement of Operations and Comprehensive Income (Loss) for the Years Ended December 31, 2003,
2002 and 2001
    
    
    38Statement of Stockholders Equity for the Years Ended December 31, 2003, 2002 and 2001
    
    
    39Statement of Cash Flows for the Years Ended December 31, 2003, 2002 and 2001
    
    
    40Notes to Financial Statements
    
    
    41
 35




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##### Table of Contents



INDEPENDENT AUDITORS REPORT To the Board of Directors of
Coast Dental Services, Inc. We have audited the accompanying balance sheets of Coast Dental Services, Inc.
(the Company) as of December 31, 2003 and 2002, and the related statements of
operations and comprehensive income (loss), of stockholders equity and of cash
flows for each of the three years in the period ended December 31, 2003. Our
audits also included the financial statement schedule listed in the Index at
Item 15(A)(2). These financial statements and the financial statement schedule are
the responsibility of the Companys management. Our responsibility is to
express an opinion on these financial statements and financial statement
schedule based on our audits. We conducted our audits in accordance with auditing standards generally
accepted in the United States of America. 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, such financial statements present fairly, in all material
respects, the financial position of Coast Dental Services, Inc. as of December
31, 2003 and 2002, and the results of its operations and its cash flows for
each of the three years in the period ended December 31, 2003 in conformity
with accounting principles generally accepted in the United States of America.
Also, in our opinion, such financial statement schedule, when considered in
relation to the basic financial statements taken as a whole, presents fairly in
all material respects the information set forth therein. Deloitte & Touche LLP
Certified Public Accountants Tampa, Florida
March 17, 2004 36




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##### Table of Contents



COAST DENTAL SERVICES, INC. 
 BALANCE SHEET
 December 31,2003
    
    2002ASSETSCurrent assets:Cash and cash equivalents
    
    $
    2,090,123
    
    
    $
    2,824,966Service fee receivable from Coast P.A
    
    
    20,048,905
    
    
    
    17,395,559Notes receivable from Equity Doctors  current portion
    
    
    132,266
    
    
    
    114,564Supplies, inventory and small tools, net
    
    
    2,894,138
    
    
    
    2,782,037Prepaid expenses and other current assets
    
    
    712,376
    
    
    
    353,368Income tax refund receivable
    
    
    
    
    
    
    175,332Total current assets
    
    
    25,877,808
    
    
    
    23,645,826Property and equipment, net
    
    
    11,922,047
    
    
    
    13,765,708Note receivable from Coast P.A., non-interest bearing
    
    
    
    
    
    
    229,218Notes receivable from Equity Doctors, net of current portion
    
    
    663,980
    
    
    
    851,217Non-compete agreements, net of accumulated amortization of $967,571
and $841,183, respectively
    
    
    156,046
    
    
    
    282,435Dental services agreements, net of accumulated amortization of $3,951,959
and $3,484,290, respectively
    
    
    9,109,067
    
    
    
    9,947,889Other assets
    
    
    1,666,338
    
    
    
    1,803,501Total assets
    
    $
    49,395,286
    
    
    $
    50,525,794LIABILITIES AND STOCKHOLDERS EQUITYCurrent liabilities:Accounts payable
    
    $
    3,585,087
    
    
    $
    2,381,478Accrued salaries and benefits
    
    
    1,278,959
    
    
    
    1,357,497Other accrued expenses
    
    
    1,155,851
    
    
    
    2,348,128Line of credit
    
    
    1,786,817
    
    
    
    Current maturities of debt and capital lease obligations
    
    
    52,342
    
    
    
    117,925Total current liabilities
    
    
    7,859,056
    
    
    
    6,205,028Long-term debt and capital lease obligations, excluding current maturities
    
    
    97,803
    
    
    
    78,354Total liabilities
    
    
    7,956,859
    
    
    
    6,283,382Commitments and Contingencies
    
    
    
    
    
    
    Stockholders equity:Preferred stock, $.001 par value; 2,000,000 shares authorized,
none issued
    
    
    
    
    
    
    Common stock, $.001 par value; 50,000,000 share authorized, 2,139,110 and
2,091,223 shares issued and outstanding, respectively
    
    
    2,139
    
    
    
    2,091Additional paid-in capital
    
    
    55,399,993
    
    
    
    55,165,701Retained earnings (deficit)
    
    
    (11,370,606
    )
    
    
    (8,384,197
    )44,031,526
    
    
    
    46,783,595Less: Stock option receivable from Coast P.A, non-interest bearing
    
    
    (2,541,183
    )
    
    
    (2,541,183
    )Less: Treasury stock, 11,537 shares, at cost
    
    
    (51,916
    )
    
    
    Total stockholders equity
    
    
    41,438,427
    
    
    
    44,242,412Total liabilities and stockholders equity
    
    $
    49,395,286
    
    
    $
    50,525,794
 The accompanying Notes to Financial Statements are an integral part of these financial statements. 37




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##### Table of Contents



COAST DENTAL SERVICES, INC. 
 STATEMENT OF OPERATIONS AND COMPREHENSIVE INCOME (LOSS)
 Year Ended December 31,2003
    
    2002
    
    2001Net revenue
    
    $
    56,415,795
    
    
    $
    55,963,934
    
    
    $
    43,561,255Dental Center expenses:Salaries and employee costs
    
    
    20,920,308
    
    
    
    19,710,808
    
    
    
    17,758,979Dental supplies and lab fees
    
    
    9,732,931
    
    
    
    10,269,053
    
    
    
    8,089,068Occupancy
    
    
    8,030,776
    
    
    
    7,722,879
    
    
    
    7,201,360Advertising
    
    
    3,451,367
    
    
    
    4,165,144
    
    
    
    2,121,408Finance charges
    
    
    1,500,321
    
    
    
    1,232,639
    
    
    
    517,889Training and development
    
    
    818,330
    
    
    
    532,507
    
    
    
    Administrative
    
    
    1,321,331
    
    
    
    1,416,258
    
    
    
    1,192,247Dental Center depreciation
    
    
    3,082,624
    
    
    
    3,118,579
    
    
    
    3,305,852Total Dental Center expenses
    
    
    48,857,988
    
    
    
    48,167,867
    
    
    
    40,186,803Gross profit
    
    
    7,557,807
    
    
    
    7,796,067
    
    
    
    3,374,452General and administrative expenses
    
    
    8,987,361
    
    
    
    7,312,882
    
    
    
    8,024,709Depreciation and amortization
    
    
    1,166,229
    
    
    
    1,329,183
    
    
    
    1,305,299Dental Center closings
    
    
    166,646
    
    
    
    2,624,824
    
    
    
    2,750,994Asset impairment charges
    
    
    
    
    
    
    1,628,572
    
    
    
    952,336Operating loss
    
    
    (2,762,429
    )
    
    
    (5,099,394
    )
    
    
    (9,658,886
    )Interest income

    
    
    112,127
    
    
    
    156,658
    
    
    
    316,968Interest expense
    
    
    (402,334
    )
    
    
    (27,690
    )
    
    
    (179,097
    )Loss before income tax benefit
    
    
    (3,052,636
    )
    
    
    (4,970,426
    )
    
    
    (9,521,015
    )Income tax benefit
    
    
    66,227
    
    
    
    1,026,629
    
    
    
    154,354Net loss
    
    
    (2,986,409
    )
    
    
    (3,943,797
    )
    
    
    (9,366,661
    )Unrealized gain on available-for-sale investments
    
    
    
    
    
    
    
    
    
    
    82,323Comprehensive loss
    
    $
    (2,986,409
    )
    
    $
    (3,943,797
    )
    
    $
    (9,284,338
    )Basic loss per share:Net loss per share
    
    $
    (1.41
    )
    
    $
    (1.89
    )
    
    $
    (4.48
    )Diluted loss per share:Net loss per share
    
    $
    (1.41
    )
    
    $
    (1.89
    )
    
    $
    (4.48
    )Weighted average number of shares outstanding:Basic
    
    
    2,110,583
    
    
    
    2,091,223
    
    
    
    2,091,223Diluted
    
    
    2,110,583
    
    
    
    2,091,223
    
    
    
    2,091,223
 The accompanying Notes to Financial Statements are an integral part of these financial statements. 38




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##### Table of Contents



COAST DENTAL SERVICES, INC. 
 STATEMENT OF STOCKHOLDERS EQUITY
 YEARS ENDED DECEMBER 31, 2001, 2002 AND 2003
 UnrealizedRetained
    
    
    
    
    
    Gain/(Loss) on
    
    
    
    
    
    TotalCommon
    
    Additional Paid-
    
    Earnings
    
    Treasury
    
    Securities Held
    
    Stock Option
    
    StockholdersStock
    
    in Capital
    
    (Deficit)
    
    Stock
    
    for Sale
    
    Receivable
    
    EquityBalance on January 1, 2001
    
    $
    6,291
    
    
    $
    54,991,320
    
    
    $
    4,926,261
    
    
    
    ($88,749
    )
    
    
    ($82,323
    )
    
    
    ($2,295,374
    )
    
    $
    57,457,426Cancellation and issuance of shares
in connection with 1 for 3 reverse
stock split
    
    
    (4,196
    )
    
    
    4,196
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Cancellation of treasury stock
    
    
    (4
    )
    
    
    (88,745
    )
    
    
    
    
    
    
    88,749
    
    
    
    
    
    
    
    
    
    
    
    Sale of
stock options to Coast P.A.
    
    
    
    
    
    
    157,832
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (157,832
    )
    
    
    Reclassification of unrealized loss upon sale of securities
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    82,323
    
    
    
    
    
    
    
    82,323Net loss for the year ended
December 31, 2001
    
    
    
    
    
    
    
    
    
    
    (9,366,661
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (9,366,661
    )Balance on December 31, 2001
    
    
    2,091
    
    
    
    55,064,603
    
    
    
    (4,440,400
    )
    
    
    
    
    
    
    
    
    
    
    (2,453,206
    )
    
    
    48,173,088Sale of
stock options to Coast P.A.
    
    
    
    
    
    
    87,977
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (87,977
    )
    
    
    Extension of stock options
    
    
    
    
    
    
    13,121
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    13,121Net loss for the year ended
December 31, 2002
    
    
    
    
    
    
    
    
    
    
    (3,943,797
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (3,943,797
    )Balance on December 31, 2002
    
    
    2,091
    
    
    
    55,165,701
    
    
    
    (8,384,197
    )
    
    
    
    
    
    
    
    
    
    
    (2,541,183
    )
    
    
    44,242,412Exercise of stock options
    
    
    48
    
    
    
    171,356
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    171,404Extension of stock options
    
    
    
    
    
    
    62,936
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    62,936Purchase of treasury stock
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (51,916
    )
    
    
    
    
    
    
    
    
    
    
    (51,916
    )Net loss for the year ended
December 31, 2003
    
    
    
    
    
    
    
    
    
    
    (2,986,409
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (2,986,409
    )Balance on December 31, 2003
    
    $
    2,139
    
    
    $
    55,399,993
    
    
    $
    (11,370,606
    )
    
    $
    (51,916
    )
    
    $
    
    
    
    $
    (2,541,183
    )
    
    $
    41,438.427
 The accompanying Notes to Financial Statements are an integral part of these financial statements. 39




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##### Table of Contents



COAST DENTAL SERVICES, INC. 
 STATEMENT OF CASH FLOWS
 Years Ended December 31,2003
    
    2002
    
    2001CASH FLOWS FROM OPERATING ACTIVITIES:Net loss

    
    $
    (2,986,409
    )
    
    $
    (3,943,797
    )
    
    $
    (9,366,661
    )Adjustments to reconcile net loss to net cash (used in) provided by
operating activities:Depreciation and amortization
    
    
    4,248,852
    
    
    
    4,447,763
    
    
    
    4,611,151Dental Center closings
    
    
    166,646
    
    
    
    2,624,824
    
    
    
    2,750,994Asset impairment charges
    
    
    
    
    
    
    1,628,572
    
    
    
    952,336Unrealized (gain) loss on life insurance receivable
    
    
    (107,183
    )
    
    
    377,141
    
    
    
    238,159Loss (gain) on disposal of equipment and other adjustments
    
    
    320,662
    
    
    
    115,903
    
    
    
    (78,752
    )Deferred income tax expense
    
    
    
    
    
    
    
    
    
    
    184,655Changes in operating assets and liabilities:Receivables
from Coast P.A.
    
    
    (2,369,137
    )
    
    
    (4,286,292
    )
    
    
    (2,665,296
    )Supplies, inventory and small tools
    
    
    (138,762
    )
    
    
    448,809
    
    
    
    7,446Prepaid expenses and other current assets
    
    
    182,393
    
    
    
    (662,891
    )
    
    
    210,588Accounts payable and accrued expenses
    
    
    56,453
    
    
    
    659,573
    
    
    
    658,739Net Cash (Used in) Provided by Operating Activities
    
    
    (626,485
    )
    
    
    1,409,605
    
    
    
    (2,496,641
    )CASH FLOWS FROM INVESTING ACTIVITIES:Capital expenditures
    
    
    (1,729,566
    )
    
    
    (883,964
    )
    
    
    (1,042,571
    )Proceeds from sale of property and equipment
    
    
    25,611
    
    
    
    39,932
    
    
    
    21,054Collections on notes receivable from Equity Doctors
    
    
    114,545
    
    
    
    98,071
    
    
    
    142,596Acquired assets, including intangible assets
    
    
    
    
    
    
    
    
    
    
    (22,373
    )Sale of available-for-sale investments
    
    
    
    
    
    
    
    
    
    
    5,353,381Net Cash (Used in) Provided by Investing Activities
    
    
    (1,589,410
    )
    
    
    (745,961
    )
    
    
    4,452,087CASH FLOWS FROM FINANCING ACTIVITIES:Net borrowings on line of credit
    
    
    1,786,817
    
    
    
    
    
    
    
    Proceeds from exercise of stock options
    
    
    171,404
    
    
    
    
    
    
    
    Purchase of treasury stock
    
    
    (51,916
    )
    
    
    
    
    
    
    Proceeds from long term debt
    
    
    
    
    
    
    
    
    
    
    1,675,522Payments on long term debt
    
    
    (90,598
    )
    
    
    (259,672
    )
    
    
    (3,526,246
    )Debt issue costs paid
    
    
    (180,937
    )
    
    
    (109,290
    )
    
    
    Payments on capital leases
    
    
    (153,718
    )
    
    
    (15,486
    )
    
    
    (12,566
    )Net Cash Provided by (Used in) Financing Activities
    
    
    1,481,052
    
    
    
    (384,448
    )
    
    
    (1,863,290
    )Net (Decrease) Increase in Cash and Cash Equivalents
    
    
    (734,843
    )
    
    
    279,196
    
    
    
    92,156Cash and cash equivalents at beginning of period
    
    
    2,824,966
    
    
    
    2,545,770
    
    
    
    2,453,614Cash and cash equivalents at end of period
    
    $
    2,090,123
    
    
    $
    2,824,966
    
    
    $
    2,545,770SUPPLEMENTAL SCHEDULE OF CASH FLOW INFORMATION:Interest (paid) collected, net
    
    $
    (224,278
    )
    
    $
    156,658
    
    
    $
    178,577Income taxes (paid) refunded, net
    
    $
    241,559
    
    
    $
    1,311,388
    
    
    $
    (154,385
    )Non-cash
stock option receivable from Coast P.A.
    
    $
    
    
    
    $
    87,977
    
    
    $
    157,832Capital lease obligations incurred
    
    $
    167,345
    
    
    $
    121,167
    
    
    $
    EQUITY DOCTOR DENTAL CENTER TRANSACTIONS:Service fee receivable
    
    $
    (54,991
    )
    
    $
    112,448
    
    
    $
    120,237Supplies, inventory and small tools
    
    $
    
    
    
    $
    126,816
    
    
    $
    323,053Property and equipment
    
    $
    
    
    
    $
    2,186
    
    
    $
    510,210Notes receivable
    
    $
    54,991
    
    
    $
    (241,499
    )
    
    $
    (953,500
    )
 The accompanying Notes to Financial Statements are an integral part of these financial statements. 40




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##### Table of Contents



COAST DENTAL SERVICES, INC. 
 NOTES TO FINANCIAL STATEMENTS
 NOTE 1  DESCRIPTION OF BUSINESS Organization.Coast Dental Services, Inc. (the Company), is a Florida
corporation. On August 30, 2002, the Company changed its state of
incorporation from Delaware to Florida pursuant to a reincorporation proposal
approved by the Companys shareholders at the annual meeting held on August 2,
2002. Operations. The Company provides dental practice management services to an
affiliated group of dental practices. The affiliated group of dental practices
is referred to as Coast P.A, and is a related party, as described further
below. Relationship with Coast P.A.The entities comprising Coast P.A. are all
owned by a related party - Adam Diasti, D.D.S., (who is a Director, President
and the majority stockholder of the Company). The Company has 40-year evergreen
dental services agreements (Services and Support Agreements) with each entity
comprising Coast P.A. whereby the Company receives fees for services and
support provided to dental practices operated by Coast P.A. Coast P.A. provides all of the dental services to patients and employs all
of the dentists and dental hygienists. As the employer of dentists and dental
hygienists, Coast P.A. incurs the cost of dentist and hygienist compensation,
benefits, and certain other expenses. Pursuant to the Services and Support
Agreements, the Company earns a services and support fee from Coast P.A. to
provide comprehensive business services and support to each Dental Center. In
providing these comprehensive business services and support to the Dental
Centers, the Company incurs all of the remaining operating expenses incurred by
the Dental Centers including employee costs for assistants and office staff,
dental supplies and lab fees, occupancy, advertising, and Dental Center
administrative costs. The Company does not employ dentists and hygienists
and, accordingly, Dental Center - Salaries and employee costs presented on
the Statement of Operations does not include the salaries and benefits of
dentists and hygienists. In addition, the Company acquires the property and
equipment, leases the facilities and improves the facilities in order to
operate the Dental Centers. Dependence on Coast P.A. The Company receives fees for services and
support provided to Coast P.A. under the Services and Support Agreements, but
does not employ dentists or hygienists or control the dental practices of Coast
P.A. The Companys net revenue is dependent on gross patient revenue generated
by Coast P.A. and, therefore, effective and continued performance of Coast P.A.
and its dentists and hygienists during the terms of the Services and Support
Agreements is essential to the Companys long term success. Services and Support Agreement with Coast P.A.The Company has 40-year
evergreen dental services agreements (Services and Support Agreements) with
each entity comprising Coast P.A. whereby the Company receives fees for
services and support provided to Coast P.A. Net revenue represents the
aggregate fees charged to Coast P.A. under the agreements during the year.
Gross patient revenue earned by Coast P.A. at its dental practices is at
established rates, net of refunds, adjustments and discounts. The costs
incurred by Coast P.A. include primarily dentist and hygienist salaries and
benefits. The services and support fee arrangements have been agreed to
between the principal and sole owner of Coast P.A., Adam Diasti, D.D.S., (who
is a Director, President and the majority stockholder of the Company), and the
Chairman of the Board and Chief Executive Officer of the Company, Terek Diasti.
Adam and Terek Diasti are brothers. The services and support fee agreements and any amendments thereto are
approved by the Audit Committee, which is comprised of independent directors.
The factors considered in setting those fees include the Companys evaluation
of the services it provides, the costs incurred by the Company in providing the
services and support and the Companys negotiated return, balanced against
Coast P.A.s requirement for a retained amount which ensures its financial
viability, contemplation of a long-term relationship with the Company and the
future business opportunity related thereto. Only the service fees earned by the Company for its services and support
to Coast P.A. and the actual expenses of the Company are reflected in the
financial statements of the Company. Neither the expenses of Coast P.A. nor any
of the patient gross revenues earned by Coast P.A. are reflected in the
financial statements of the Company. Historically, the services and support fee was based on an agreed-upon
percentage of the gross patient revenues of Coast P.A. (net of refunds,
discounts, and adjustments and inclusive of capitation revenues). Effective
February 1, 1999, the service and support fee became 73% of Dental Center gross
revenues and effective January 1, 2000, the service and support fee became 67%
of Dental Center gross revenues, with an allowable range of 66% to 72%. The
percentage remained unchanged in 2001 through May 31, 2002. 41




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##### Table of Contents



COAST DENTAL SERVICES, INC.
NOTES TO FINANCIAL STATEMENTS  (Continued) Effective June 1, 2002, the Company and Coast P.A. amended the Services
and Support Agreement to change the methodology for determining the monthly
services and support fee earned by the Company and to provide for Coast P.A. to
grant the Company a secured interest in Coast P.A.s trade accounts receivable
for payment of services and support fees. This amendment incorporated the
financial performance of each Dental Center in the determination of the
services and support fee earned by the Company. The Audit Committee of the
Board of Directors approved the amendment to the Services and Support
Agreement. Effective June 1, 2002, the Services and Support fee earned by the Company
for each Dental Center is based on a combination of the actual costs of
services provided and the financial performance of the Dental Centers. As
compensation for its services and support of the Dental Centers, the Company
earns a two-part monthly services and support fee based on: 1) the actual
direct and indirect expenses incurred in providing the services and support to
the Dental Centers (including employee costs, supplies, advertising, occupancy
and Dental Center administrative costs); and 2) the financial performance of
the Dental Centers. The performance-based portion of the fee is set at 90% of
the excess of net dental services revenue over direct and indirect Dental
Center operating expenses. Effective October 1, 2002, the Company and Coast
P.A. amended the Services and Support Agreement to calculate the
performance-based portion of the services and support fee on the aggregate
financial performance of all Dental Centers and not on the stand-alone
financial performance of each Dental Center. The Audit Committee of the Board
of Directors approved this amendment to the Services and Support Agreement. Net revenues decreased $2.9 million for the nine months ended September
30, 2003 over the comparable prior year period due to the October 1, 2002,
amendment to the Services and Support Agreements. Expansion
through Acquisitions - Acquisitions made with Coast P.A.The
Company and Coast P.A. in prior years have jointly entered into asset purchase
agreements with existing dental practices. Coast P.A. acquired the patient
lists and any other professional assets and the Company acquired certain
tangible assets, principally the dental equipment, and assumed certain
liabilities such as the lease agreement for the facility. The fair value of the
patient lists was determined based upon general market information received
from an independent dental practice transition consultant regarding traditional
dental practice acquisitions. In addition to the purchase price allocations for
tangible assets, there are allocations for identifiable intangible assets and
non-identifiable intangible assets. The identifiable intangible assets
allocation was to non-compete agreements, which are partially allocated to the
Company and partially allocated to Coast P.A. The purchase price allocation to Coast P.A. was limited to the value of
the patient files and an amount representing the estimated value of Coast
P.A.s right to prohibit the selling professional association and its
dentist(s) from competing in the dental business within the specified area
surrounding the acquired Dental Center. After a determination of the fair value
of the tangible assets and identifiable intangible assets acquired, the
remaining purchase price representing non-identifiable intangible assets was
allocated to the Company and Coast P.A. [as the value of the Dental Service
Agreements (i.e. the Services and Support Agreements) attributable to the
Dental Center]. NOTE 2  SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Basis of Presentation.The accompanying financial statements have been
prepared on the accrual basis of accounting. The Company does not own any
interests in, or control the activities of, Coast P.A. Accordingly, the
financial statements of Coast P.A. are not consolidated with those of the
Company in accordance with Emerging Issues Task Force Issue No. 97-2. Use of Estimates. The preparation of financial statements in conformity
with accounting principles generally accepted in the United States of America
requires management to make estimates and assumptions that affect the reported
amounts of assets and liabilities and disclosures of contingent assets and
liabilities at the date of the financial statements and the reported amounts of
revenue and expenses during the reporting period. Actual results could differ
from those estimated. Reclassifications. Certain reclassifications have been made to the prior
year Balance Sheet, Statement of Operations and Statement of Cash Flows to
conform to the current year presentation. Cash Equivalents.The Company considers all highly liquid investments with
an original maturity of 90 days or less to be cash equivalents. 42




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COAST DENTAL SERVICES, INC.
NOTES TO FINANCIAL STATEMENTS  (Continued) Service Fee Receivable. The service fee receivable primarily represents
the non-interest bearing indebtedness of Coast P.A. for services and support
fees payable to the Company in accordance with the Services and Support
Agreements. Also, the Company, from time-to-time, has advanced funds under the
Services and Support Agreements to Coast P.A. for operations or, when Coast
P.A. was acquiring dental practices, for acquisitions of existing dental
practices. See further discussion in Note 4 and Note 10. Supplies, Inventory and Small Tools.Supplies, inventory and small tools
are stated at the lower of first-in, first-out cost or market. Property and Equipment, net.Property and equipment are stated at cost net
of accumulated depreciation. Equipment held under capital leases is stated at
the present value of minimum lease payments at the inception of the related
leases. Depreciation of property and equipment (including capital lease assets)
is calculated using the straight-line method over the estimated useful lives of
the assets ranging from 5 to 15 years. Leasehold improvements are amortized on
a straight-line basis over the estimated useful life, generally 10 years. When assets are retired or otherwise disposed of, the cost and related
accumulated depreciation are removed from the accounts. The difference between
the net book value of the assets and proceeds from disposition is recognized as
a gain or loss. Routine maintenance and repairs are charged to expense as
incurred, while costs of improvements and renewals are capitalized. Non-Compete Agreements.Costs incurred in connection with the non-compete
agreements are being amortized over their estimated lives of seven to nine
years on a straight-line basis. Dental Service Agreements.Costs of acquisitions in excess of the
estimated fair value of property and equipment and any non-compete agreements
are allocated to the dental services agreement because the Company has
effectively acquired the long-term right to provide comprehensive services and
support to the acquired dental practice. The dental services agreement with
Coast P.A. represents the Companys exclusive right to provide comprehensive
services and support the Dental Centers during the term of the Services and
Support Agreements. The assigned value of the dental services agreement is
amortized using the straight-line method over its estimated life of twenty-five
years. Available-for-Sale Investments.Available-for-sale securities owned in
2001 consisting of tax-free municipal bonds were stated at fair value
with unrealized gains and losses included in comprehensive income (loss). The
amortized cost of these debt securities was adjusted for amortization of
premiums and accretion of discounts to maturity. Such amortization was included
in interest income. Realized gains and losses, if any, were recognized when
incurred. The cost of securities sold was based on the specific identification
method. Proceeds from the sale of available-for-sale investment securities during
2001 were $5,353,381. Gross realized losses of $82,323 for 2001 were realized
on these sales. Development Costs.The Company charges development costs and start-up
activities for new, expanded or relocated Dental Centers to expense as
incurred. Related Party Receivable from Split Dollar of Life Insurance Arrangement.
The Company carries the non-interest bearing loans collateralized by the cash
surrender value of split dollar key-man life insurance at the lesser of the
cash surrender value or the amounts loaned. See also Note 10. Changes in the
valuation allowance to state the amounts loaned at the lesser of cost or cash
surrender value are charged or credited to General and Administrative Expenses
in the accompanying Statement of Operations. Revenue and Cost Recognition.Net revenue represents the aggregate fees
charged to Coast P.A. under the services and support agreements.
Services and support fees are recognized as earned as services and
support are provided on a monthly basis. Gross patient
revenue earned by Coast P.A. at its dental practices is at established rates,
net of refunds, adjustments and discounts. The costs incurred by Coast P.A.
include primarily dentist and hygienist salaries and benefits. Neither the
expenses of Coast P.A. nor any of the patient gross revenues earned by Coast
P.A. are reflected in the financial statements of the Company. Only the
service fees earned by the Company for its services and support to Coast P.A.
and the actual expenses of the Company are reflected in the financial
statements of the Company. In providing
these comprehensive services and support to the Dental Centers, the Company
incurs all of the remaining operating expenses of the Dental Centers including
employee costs for assistants and office staff, dental supplies and lab fees,
occupancy, advertising and Dental Center administrative costs. 43




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COAST DENTAL SERVICES, INC.
NOTES TO FINANCIAL STATEMENTS  (Continued) Stock-Based Compensation.The Company accounts for stock-based
compensation under Accounting Principles Board Opinion No. 25, Accounting for
Stock Issued to Employees, and has disclosed below the effects as if the recognition provisions of Statement of
Financial Accounting Standards No. 123, Accounting for Stock-Based
Compensation (SFAS No. 123), had been adopted.
The Company estimated the fair value of the Plan options utilizing an
option pricing model based on a market price ranging from $2.39 to
$85.88 per share, a risk free interest rate of 3.6%, a four year
expected life, a 67.8% expected volatility and no dividends. The Company has not adopted
the expense recognition provisions of SFAS No. 123 for employee and director
stock options. The Company recognizes a stock option receivable from Coast P.A.
when Coast P.A. purchases stock options at fair value and Coast P.A. recognizes
the compensation expense Years Ended December 312003
    
    2002
    
    2001Net loss, as reported
    
    $
    (2,986,409
    )
    
    $
    (3,943,797
    )
    
    $
    (9,366,661
    )Add: Stock-based employee
compensation expense included
in reported net loss, net of
related income tax effects
    
    
    62,936
    
    
    
    
    
    
    
    Deduct: Total stock-based
employee compensation expense
determined under fair value
based method for all awards,
net of related income tax effects
    
    
    (67,109
    )
    
    
    (236,931
    )
    
    
    (175,575
    )Pro forma net loss
    
    $
    (2,990,582
    )
    
    $
    (4,180,728
    )
    
    $
    (9,542,236
    )Loss per share:Basicas reported
    
    $
    (1.41
    )
    
    $
    (1.89
    )
    
    $
    (4.48
    )Basicpro forma
    
    $
    (1.42
    )
    
    $
    (2.00
    )
    
    $
    (4.56
    )
 Income Taxes.Deferred income taxes reflect the net tax effects of
temporary differences between the carrying amounts of assets and liabilities
for financial reporting purposes and the amounts used for income tax purposes,
and are measured using the enacted tax rates and laws. Comprehensive Loss.Components of comprehensive loss include net loss and
unrealized gains (losses) on available-for-sale investments net of income tax. Earnings Per Common Share.The basic earnings per common share are based
on the weighted average number of common shares outstanding during each period
adjusted for actual shares issued during the period. The diluted earnings per
common share are equal to the basic shares plus the incremental shares
outstanding as if all in-the-money options were exercised as of the end of the
period. The number of incremental shares is determined using the treasury stock
methodology. For the years 2003, 2002 and 2001,the weighted average number of
common shares are the same for both the basic and diluted per share computation
because inclusion of common stock equivalents of 136,015, 23,019, and 0 shares
would have been anti-dilutive. On July 16, 2001, a one-for-three reverse stock
split was approved by the Companys shareholders and became effective on July
17, 2001. All common share and per share amounts in the accompanying 2001 financial
statements (with the exception of the total number of authorized common shares
which was unchanged) were adjusted to reflect the consummation of this
stock split in 2001. Fair Value of Financial Instruments.The estimated fair value of amounts
reported in the financial statements has been determined by using available
market information and appropriate valuation methodologies. The carrying value
of all current assets and current liabilities approximates fair value because
of their short-term nature. The fair value of long-term notes receivable and
long-term debt and capital leases approximates their carrying value based on
market prices. Impairment of Long-Lived Assets.Whenever significant events or changes
occur which might cause an impairment of value, the Company evaluates the
recoverability of its property and equipment and intangible assets by comparing
their carrying values to the estimated future undiscounted cash flows.
Impairment losses are measured as the amount by which the carrying value of the
assets exceeds the fair value of the assets. Assets to be disposed of are
reported at the lower of carrying value or fair value less costs to sell. See
Note 6. New Accounting Standards.On December 31, 2002, the Statement of
Financial Accounting Standards No. 148 (SFAS No.148) Accounting for
Stock-Based Compensation  Transition and Disclosure was issued. SFAS 148
amends SFAS 123, Accounting for Stock-Based Compensation, to provide
alternative methods of transition to the fair value method of accounting for
stock-based employee compensation. The Company implemented interim financial
statements disclosure requirements of SFAS 148 in first quarter 2003 and annual financial statement disclosures in 2003. The
Company will implement the SFAS 123 fair-value method of accounting for
stock-based compensation in first quarter 2004 using the modified prospective
adoption method of SFAS 148. Adoption of this accounting standard will not, in
the Companys opinion, have a material impact on the Companys reported results
of operations or financial position in 2004. 44




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COAST DENTAL SERVICES, INC.
NOTES TO FINANCIAL STATEMENTS  (Continued) Effective January 1, 2002, the Company adopted SFAS No. 144, Accounting
for the Impairment or Disposal of Long-Lived Assets(SFAS 144). SFAS 144
provides a single model for accounting for long-lived assets to be disposed of
by superseding SFAS No. 121, Accounting for the Impairment of Long-Lived Assets
and for Long-Lived Assets to be Disposed Of(SFAS 121), and the accounting
and reporting provisions of APB Opinion No. 30, Reporting the Results of
Operations  Reporting the Effects of Disposal of a Segment of a Business, and
Extraordinary, Unusual and Infrequently Occurring Events and Transactions(APB
30). Under SFAS 144, discontinued operations are measured at the lower of
carrying value or fair value less costs to sell, rather than on a net
realizable value basis. Future operating losses relating to discontinued
operations also are no longer recognized before they occur. SFAS 144 (i)
broadens the definition of a discontinued operation to include a component of
an entity (rather than a segment of a business); (ii) requires long-lived
assets to be disposed of other than by sale to be considered held and used
until disposed; and (iii) retains the basic provisions of (a) APB 30 regarding
the presentation of discontinued operations in the statements of income, (b)
SFAS 121 relating to recognition and measurement of impaired long-lived assets
(other than goodwill), and (c) SFAS 121 relating to the measurement of
long-lived assets classified as held-for-sale. Adoption of SFAS 144 did not
have any impact on the Companys financial statements. Effective January 1, 2003, the Company adopted SFAS No. 145, Rescission
of FASB Statements No. 4, 44, and 64, Amendment of FASB Statement No. 13, and
Technical Corrections(SFAS 145). In addition to amending or rescinding
other existing authoritative pronouncements to make various technical
corrections, clarify meanings, or describe their applicability under changed
conditions, SFAS 145 generally precludes companies from recording gains and
losses from the extinguishment of debt as an extraordinary item. SFAS 145 also
requires sale-leaseback treatment for certain modifications of a capital lease
that result in the lease being classified as an operating lease. The adoption
of SFAS 145 did not have any impact on the Companys financial
statements. Effective January 1, 2003, the Company adopted SFAS No. 146, Accounting
for Costs Associated with Exit or Disposal Activities(SFAS 146). SFAS 146
requires that a liability for a cost associated with an exit or disposal
activity be recorded and measured initially at fair value only when the
liability is incurred rather than at the date of an entitys commitment to an
exit plan as required by Emerging Issues Task Force (EITF) Issue No. 94-3,
Liability Recognition for Certain Employee Termination Benefits and Other Costs
to Exit an Activity (including Certain Costs Incurred in a Restructuring)
(EITF 94-3). The adoption of SFAS 146 did not have any impact on
the Companys financial statements. Effective January 1, 2003, the Company adopted FIN No. 45, Guarantors
Accounting and Disclosure Requirements for Guarantees, Including Indirect
Guarantees of Indebtedness of Others(FIN 45). FIN 45 requires entities to
establish liabilities for certain types of guarantees and expands financial
statement disclosures for others. The initial recognition and initial
measurement provisions of FIN 45 are applicable on a prospective basis to
guarantees issued or modified after December 31, 2002. The adoption of FIN 45
did not have any impact on the Companys financial
statements. NOTE 3  LIQUIDITY AND CAPITAL RESOURCES At December 31, 2003, the Company had cash and cash equivalents of $2.1
million. At December 31, 2002, the Company had cash and cash equivalents
totaling $2.8 million for a year-to-year decrease of $0.7 million. This
decrease was principally from the excess of capital expenditures ($1.7
million), debt service costs ($0.4 million), and cash used by operations ($0.6 million) over
borrowings under our revolving credit facility ($1.8 million). To improve cash flows, in January 2002, the Company and Coast P.A.
arranged a patient financing program through a national financial institution.
This program accelerates the collection of net revenues, for those patients
that elect to use the program and qualify for credit, as the financial
institution pays the patient service fees within twenty-four hours, net of
related discounts and brokerage fees. The credit card debt of the patient is
non-recourse to Coast P.A. and the Company. 45




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COAST DENTAL SERVICES, INC.
NOTES TO FINANCIAL STATEMENTS  (Continued) On December 31, 2002, the Company executed a revolving line of credit
facility with a commercial lender for its working capital needs, which permits
borrowings of up to $2,000,000. The Company borrowed $1,760,000 under this
revolving credit facility on January 2, 2003 and $1,787,000 was outstanding on
December 31, 2003. This credit facility replaced the previous credit facility
that expired in third quarter 2002 that the Company had not borrowed on since
third quarter 2001 due to non-compliance with certain financial covenants. See
Note 8 for further description of these credit facilities. Based upon the Companys anticipated capital needs for operation of its
business, general corporate purposes and debt service, management believes that
the combination of the funds expected to be available under the Companys
current cash reserves, the $2 million line of credit and expected cash flows
from operations should be sufficient to meet the Companys funding requirements
to conduct its operations and for further implementation of its growth strategy
and current plans through at least 2004. Additionally, to the extent the
Companys joint Dentist Equity Model initiative with Coast P.A. is successful,
management believes additional cash could become available to the Company
through accelerated payment of Coast P.A. service fee receivable through improved operating performance of the Dental Centers converted to the Equity Model, the
sale of certain Coast P.A. assets to Dentists for cash, or the assignment by
Coast P.A. to the Company of notes receivable from Equity Doctors. However,
there can be no assurance at this time that the Equity Model initiative will be
successful. The Company has incurred losses in each of the last four years. The Company
initiated certain cost reduction efforts in the second half of 2003 and has
significantly expanded this to a comprehensive cost reduction and cost
containment program in early 2004. The Companys cost reduction and cost
containment program include initiatives to reduce labor, occupancy,
advertising, training and development and corporate general and administrative
costs. As a result of these cost reduction and cost containment initiatives,
the Company is optimistic it can reduce its cost structure and achieve
profitability in 2004. However, there can be no assurance that these cost
reduction and cost containment programs will be effective and the Company will
be profitable in 2004. In the event the Company is unable to achieve profitability and generate the expected cash flows or
fails to have continued access to its $2 million line of credit facility due to
any financial covenant non-compliance or other events of default, the Company
could face liquidity and working capital constraints, which could adversely
impact future operations and growth. NOTE 4  SERVICE FEE RECEIVABLE FROM COAST P.A. The service fee receivable represents non-interest bearing indebtedness of
Coast P.A. for services and support fees payable to the Company in accordance
with the Services and Support Agreements. See Notes 1, 2 and 10. Effective June 1, 2002, the Company and Coast P.A. amended the Services
and Support Agreements to change the methodology for determining the monthly
services and support fee earned by the Company and to provide for Coast P.A. to
grant the Company a secured interest in Coast P.A.s trade accounts receivable
for payment of services and support fees. The trade accounts receivable
collateralizes a portion of the service fee receivable from Coast P.A. The
remainder of the service fee receivable is unsecured and represents a
concentration of credit risk. Presently, the Company expects Coast P.A. to pay
the remainder of the service fee receivable due to the Company from three
sources: 1) cash proceeds from the conversion of Dental Centers to the Equity
Model; 2) assignment of, and subsequent collection of, notes receivable from
the conversion of Dental Centers to the Equity Model; and 3) cash flows from
operations. In
connection with these conversions in 2001, 2002 and 2003 (see
Note 5), total consideration raised by the
Company and Coast P.A. originally totaled $1.62 million and after considering
the divestiture and four Equity Doctor dissolutions, consideration raised
totals $1.35 million. The Company and Coast P.A. expect to continue
implementation of the Equity Model, which is expected to continue to generate
cash and notes receivable consideration for Coast P.A., which can be used to
pay down the service fee receivable. The Company evaluates the recoverability of the service fee receivable
from Coast P.A. and has determined at this time that the service fee receivable
is fully collectible and no valuation allowance is necessary. If Coast P.A. is
not successful with the strategies outlined above, or if the financial
condition of Coast P.A. changes, resulting in its inability to pay the
unsecured portion of the service fee receivable, a valuation allowance may be
necessary to reduce the carrying value of this asset to an amount that is less
than its carrying value. The inability of Coast P.A. to pay the unsecured
portion of the service fee receivable could have a material adverse effect on
the Companys financial condition. 46




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COAST DENTAL SERVICES, INC.
NOTES TO FINANCIAL STATEMENTS  (Continued) The Company carries the service fee receivable from Coast P.A. as a
current asset because the account turns over throughout the year as services
and support fees are earned and are collected. NOTE 5  DENTIST EQUITY MODEL AND NOTES RECEIVABLE FROM EQUITY DOCTORS During the third quarter of 2001, Coast P.A., with the assistance of the
Company, began the rollout of a newly developed Dentist Equity Model,
whereby a dentist has the opportunity to acquire a 25% to 50% ownership
interest in a Dental Center and participate in the potential profits of that
Dental Center (the Equity Model). These transactions are structured as a
sale of intangible and/or tangible assets of each Dental Center. Coast P.A.
sells a portion of its intangible Dental Center assets to the dentist
acquiring the interest. Coast P.A. and the dentist then contribute their
respective tangible and intangible assets to a newly formed professional
association. The Equity Doctor Dental Centers continue to operate under the
existing Services and Support Agreement with the Company. The Company and Coast P.A. consummated the sale of interests in Dental
Centers in accordance with the terms of the Equity Model as follows: ten (10)
in 2001, six (6) in 2002 and one (1) in 2003. In fourth quarter 2002, the
Company and Coast P.A. divested one Dental Center and sold the business and
remaining assets to the owner-dentist. In addition, in fourth quarter 2002,
the Company, Coast P.A. and four owner-dentists dissolved four of the Equity
Model Dental Centers and the dentists remained in the practice and became
employees of Coast P.A. In fourth quarter 2003, one of the Equity Doctors
left the dental practice. Coast P.A. is evaluating whether to dissolve or
sell this Equity Doctor practice. As of December 31, 2003, there are ten (10)
Equity Doctor Dental Centers in operation, with the eleventh (11th) Dental
Center converting to an Equity Doctor Dental Center on December 31, 2003. In connection with the ten (10) conversions to the Equity Model in 2001,
the Company sold tangible assets at their net book value, which approximated
market value, totaling approximately $833,000 and recognized no gain or loss on
the transactions. The Company received proceeds totaling approximately $833,000
in the form of cash ($29,000) notes receivable from dentists (approximately
$224,000) and a receivable from Coast P.A. (approximately $580,000).
Subsequently, Coast P.A. assigned its notes receivable of approximately
$700,000 (arising from the dentists for the purchase of Coast P.A.s intangible
assets) to the Company in exchange for a $700,000 reduction to the receivable
from Coast P.A. In connection with the three (3) conversions to the Equity Model in first
quarter 2002, the Company sold tangible assets at their net book value, which
approximated market value, totaling $317,000 and recognized no gain or loss on
the transactions. The Company received proceeds totaling $317,000 in the form
of notes receivable from dentists (of $79,000) and a receivable from Coast P.A.
(of $238,000). Subsequently, Coast P.A. assigned its notes receivable of
$146,000 (arising from the dentists for the purchase of Coast P.A.s intangible
assets) to the Company in exchange for a $146,000 reduction to the service fee
receivable from Coast P.A. Effective April 2002, the Equity Model conversion was modified to allow
for the sale of only the intangible assets of the Dental Centers owned by Coast
P.A. and not to sell the tangible assets of the Dental Center owned by the
Company. In connection with the three (3) Dental Centers converted to the Equity
Model in second quarter 2002, Coast P.A. assigned its notes receivable of
$292,500 (arising from the dentists purchase of Coast P.A.s intangible
assets) to the Company in exchange for a $292,500 reduction of the receivable
from Coast P.A. In fourth quarter 2002, the Company and Coast P.A. divested
one Dental Center and sold the business and remaining assets to the
owner-dentist. The Company received $270,000 of the proceeds from this
divestiture in exchange for settlement of the Equity Doctor note receivable and
sale of the leasehold improvements of the leased facility assumed by the Equity
Doctor as part of the transaction. The Company incurred a loss of $93,000 on
this asset sale transaction. In addition, in fourth quarter 2002, the Company,
Coast P.A. and four owner-dentists dissolved four of the Equity Model Dental
Centers and the dentists remained in the practice and became employees of Coast
P.A. The Company acquired property and equipment from the Equity Doctor
entities and Coast P.A. with a fair value of $435,000 in satisfaction of
$206,000 in Equity Doctor notes receivable and a reduction in Coast P.A.
service fee receivable of $229,000. The Company received no proceeds from Coast P.A.s conversion of one (1)
Dental Center to the Equity Model in December 2003 as no tangible or intangible
assets were sold to the Equity doctor by the Company. The Company maintains a
services and support fee arrangement with this Equity Doctor Dental Center. In
fourth quarter 2003, one of the
Equity Doctors left the dental practice. Coast P.A. is evaluating whether to
dissolve or sell this Equity Doctor practice. In December 2003, the Company
exchanged the Equity Doctor note receivable from this Equity Doctor in the
amount of $55,000 with Coast P.A. for a $55,000 increase in the service fee
receivable. 47




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COAST DENTAL SERVICES, INC.
NOTES TO FINANCIAL STATEMENTS  (Continued) Trade receivables incurred (or reduced) in connection with the Equity
Model from Coast P.A. are classified in service fee receivable in the financial
statements. The short-term notes receivable from Equity Doctors have an interest rate
of 10% with a term of approximately three to five months. The long-term notes
receivable from Equity Doctors have an interest rate of 10% with a seven-year
term including a one-year interest-only period. Both the short-term and
long-term notes provide for principal and interest payments monthly. As of
December 31, 2003 and 2002, respectively total notes receivable due from Equity
Doctors are $796,000 and $966,000 including the current portion of $132,000
and $115,000, respectively. These notes receivable are secured by a
collateral interest in all of the Equity Doctors interest in the dental
practice, are personally guaranteed by the Equity Doctors and a key-man life
insurance policy is in place with the Company as a co-beneficiary. These
secured notes receivable represent a concentration of credit risk. The Company
evaluates the recoverability of these secured notes receivable and has
determined at this time that these secured notes receivable are fully
collectible and no valuation allowance is necessary. NOTE 6  DENTAL CENTER CLOSINGS AND IMPAIRMENT CHARGES Dental Center Closings, Consolidations and Relocations. The Company and
Coast P.A. continuously evaluate the performance of the Dental Centers and
dental practices. During 2003, 2002 and 2001, decisions were made to close
and/or consolidate into other locations a total of seventeen (17) Dental
Centers and in addition, in 2002, to relocate one Dental Center to a newer and

larger facility to support the continued growth of that Dental Center.
Locations selected for closure or consolidation were under-performing and
certain of which had lease expirations in the near future. The Company believes
that closing under-performing Dental Centers will improve the overall financial
performance of the Company while allowing management to focus its efforts on
improving the performance at the remaining Dental Centers. The closings, consolidations and relocations in fiscal years 2003, 2002
and 2001 were as follows: one (1) in 2003 (in fourth quarter 2003); eight (8)
in 2002 (of which two (2) were in fourth quarter 2002), one (1) relocation in
2002; eight (8) closings or consolidations in 2001 (all of which were in fourth
quarter 2001). Of the seventeen (17) facilities closed or consolidated over
the three year period ending December 31, 2003, fifteen (15) were previously
acquired Dental Centers with acquired intangible asset values and two (2) were
internally developed Dental Centers without any acquired intangible asset
values. In connection with the fiscal year 2003 closure, the Company recognized a
non-cash charge of approximately $0.3 million in fourth quarter 2003 to provide
for the related asset impairments (fixed assets, lease hold improvements and
intangible assets). The Company terminated the lease with no remaining lease
obligation. In fiscal year 2003, the Company reopened one of its previously
closed Dental Centers and reversed the accrual for the remaining lease
obligations. In connection with the fiscal year 2002 closures, the Company recognized a
non-cash charge of approximately $2.6 million in 2002 to provide for the
related asset impairments (fixed assets, leasehold improvements and intangible
assets) and the remaining lease and facilities commitments. Of this charge,
$0.6 million is for estimated lease and facilities commitments. The remaining
charge of $2.0 million is a write down of tangible and intangible assets with
no future cash obligation. Seven Dental Centers ceased operations during 2002
while the eighth ceased operations in January 2003. In connection with the fiscal year 2001 closures, the Company recognized a
non-cash charge of approximately $2.8 million in the fourth quarter of 2001 to
provide for the related asset impairments (fixed assets, leasehold improvements
and intangible assets) and the remaining lease and facilities commitments. Of
this charge, $0.4 million is for estimated lease and facilities commitments.
The remaining charge of $2.4 million is a write down of tangible and intangible
assets with no future cash obligation. Seven of these Dental Centers ceased
operations in December 2001 while the eighth ceased operations in January 2002. 48




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COAST DENTAL SERVICES, INC.
NOTES TO FINANCIAL STATEMENTS  (Continued) The activity in the related accrued Dental Center closing expense is as
follows: December 31,2003
    
    2002Accrued expense  beginning of year
    
    $
    722,855
    
    
    $
    420,304Closing and relocation charge current year
    
    
    336,265
    
    
    
    2,707,819Closing and relocation charge revision to prior year
    
    
    (169,619
    )
    
    
    (82,995
    )Subtotal  Closing and relocation charge
    
    
    166,646
    
    
    
    2,624,824Write off of tangible and intangible assets
    
    
    (346,310
    )
    
    
    (2,061,211
    )Payments
    
    
    (215,637
    )
    
    
    (261,062
    )Accrued expense  end of year
    
    $
    327,554
    
    
    $
    722,855
 The Dental Center closing accrual at December 31, 2003 includes $115,629
for the Dental Centers closed in 2001, $211,925 for the Dental Centers closed
in 2002, and $0 for the Dental Centers closed in 2003. The Company closed one
Dental Center in January 2004, and recognized a non-cash charge of
approximately $114,000 in first quarter 2004. Asset Impairment Charges.The Company evaluates the recoverability of its
investment in long-lived tangible and intangible assets at the Dental Center
level using estimated undiscounted future cash flows. As a result of this
evaluation in 2003, no Dental Centers were considered impaired; however in
2002, three (3) Dental Centers were impaired. An impairment charge of $1.3
million was recorded in 2002 after comparing the estimated fair value of the
Dental Centers on a discounted cash flow basis to their carrying values. In
addition, an impairment charge of $0.3 million was recorded in 2002 to reduce
to realizable value of certain surplus dental equipment and certain other
equipment. As a result of this evaluation in 2001, one (1) Dental Center was
impaired. An impairment charge of $0.95 million was recorded in 2001 after
comparing the estimated fair value of the Dental Center on a discounted cash
flow basis to its carrying value. 49




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COAST DENTAL SERVICES, INC.
NOTES TO FINANCIAL STATEMENTS  (Continued) NOTE 7  LONG - LIVED ASSETS The Companys property and equipment, net consists of the following: December 31,2003
    
    2002Furniture, fixtures and equipment
    
    $
    16,298,463
    
    
    $
    15,671,562Leasehold improvements
    
    
    12,850,002
    
    
    
    12,338,898Leased equipment
    
    
    319,349
    
    
    
    121,16829,467,814
    
    
    
    28,131,628Less accumulated depreciation
    
    
    (17,726,618
    )
    
    
    (14,395,020
    )11,741,196
    
    
    
    13,736,608Construction in progress
    
    
    180,851
    
    
    
    29,100Total
    
    $
    11,922,047
    
    
    $
    13,765,708
 Depreciation expense was $3,584,335, $3,668,891, and $3,712,302 for the
years ended December 31, 2003, 2002, and 2001, respectively. During 2002 and
2001, the Company sold property and equipment with a net book value of
approximately $317,000 and $833,000, respectively, in connection with the Equity
Model. Of this total, property and equipment with net book values of
approximately $238,000 (in 2002) and $580,000 (in 2001); and $79,000 (in 2002)
and $253,000 (in 2001) were sold to Coast P.A. and selected dentists,
respectively. These assets were sold at market value, which approximated the
net book value and therefore, no gain or loss was recorded on these
transactions. In fourth quarter 2002, the Company, Coast P.A. and four owner-dentists
dissolved four of the Equity Model Dental Centers and the dentists remained in
the practice and became employees of Coast P.A. The Company acquired property
and equipment from the Equity Doctor entities and Coast P.A. with a fair value
of $435,000. The
Companys acquired intangible assets consist of the following
(in thousands): As of December 31, 2003
    
    As of December 31, 2002Gross Carrying
    
    Accumulated
    
    Gross Carrying
    
    AccumulatedAmount
    
    Amortization
    
    Amount
    
    AmortizationAmortized intangible assetsNon-compete agreements
    
    $
    1,124
    
    
    $
    (968
    )

    $
    1,123
    
    
    $
    (841
    )Dental Service agreements
    
    
    13,061
    
    
    
    (3,952
    )

    
    13,432
    
    
    
    (3,484
    )Total
    
    $
    14,185
    
    
    $
    (4,920
    )

    $
    14,555
    
    
    $
    (4,325
    )
 Aggregate Amortization Expense: For the years ended December 31, 2003, 2002 and 2001, aggregate
amortization expense for acquired intangible assets was $665,000, $779,000 and
$899,000, respectively. Estimated Amortization Expense: For the year ended December 31, 2004
    
    $
    643For the year ended December 31, 2005
    
    $
    557For the year ended December 31, 2006
    
    $
    522For the year ended December 31, 2007
    
    $
    522For the year ended December 31, 2008
    
    $
    522
 50




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COAST DENTAL SERVICES, INC.
NOTES TO FINANCIAL STATEMENTS  (Continued) NOTE 8  DEBT AND CAPITAL LEASE OBLIGATIONS The Companys debt obligations consist of the following: December 31,2003
    
    2002Revolving line of credit
    
    $
    1,786,817
    
    
    $
    Notes payable issued in connection with various acquisitions with varying
installments at interest rates ranging from 8.0% to 9.0%
    
    $
    
    
    
    $
    90,598Total long term debt
    
    
    
    
    
    
    90,598Less current maturities
    
    
    
    
    
    
    (90,598
    )Long-term debt, excluding current maturities
    
    $
    
    
    
    $
    
 Through November 4, 2002, the Company had a $5 million revolving line of
credit with a commercial bank, Bank of America, N.A. The credit facility was
originally in the amount of $20 million and was amended to reduce the credit
line to $5 million in 2001. This revolving credit facility matured November 4,
2002, and bore interest at LIBOR plus a margin percentage ranging from 1.25% to
1.75%. Under terms of a 2001 amendment, no funds would be available until the
Company met certain financial performance levels. As of December 31, 2001 and
through the date of expiration of the credit facility in November 2002, the
Company did not meet the financial performance measures required to be able to
draw on the credit facility. Accordingly, as of December 31, 2001, and through
November 2002, the Company had no outstanding borrowings from this facility. On December 31, 2002, the Company closed on a $4 million Revolving Credit,
Term Loan and Security Agreement with a commercial lender, CapitalSource
Finance, LLC (Capital Source) that included a $2 million revolving line of
credit and a $2 million term loan. The Company did not draw on the revolving
line of credit at closing; therefore, there were no borrowings as of December
31, 2002. The Company did draw $1,760,000 for working capital purposes on
January 2, 2003 and $1,787,000 was outstanding on
December 31, 2003. As of December 31, 2003, the Company was not in compliance with certain financial covenants. On
February 6, 2004, the Company and CapitalSource executed a Waiver and First
Amendment to the credit agreement to reset certain financial covenants; waive
non-compliance with certain financial covenants and extend the term of the
credit facility by one year to December 31, 2006. The Company is in compliance
with the credit agreement, as amended. The term loan portion of the credit facility could only be accessed to
finance the buyback of the Companys common stock and only through June 1, 2003
(see Note 14). The Company did not elect to borrow any funds under the term
loan portion of the credit facility by June 1, 2003; accordingly, this portion
of the credit facility is no longer available to the Company. The $2 million revolving credit facility bears interest at the prime rate
plus 2.25%, but not less than 7.0%. The interest rate in effect throughout
2003 was 7.0%. This revolving line of credit is secured by substantially all
of the Companys assets, requires the Company to meet certain financial
covenants and comply with customary affirmative and negative covenants
including a restriction on the payment of any cash dividends. There is a commitment fee
for the unused portion of the revolving line of credit of 1.00%, and a
collateral management fee of 1.26%. At closing on December 31, 2002, a
commitment fee was paid totaling $60,000 comprised of 1.00% on the $2 million
revolving credit facility and 2.00% on the $2 million term loan credit
facility. Should the Company terminate the revolving line of credit facility
in 2004, an early termination fee of $60,000 is due and $40,000 is due if
terminated in 2005 or 2006. An investment banking firm affiliated with a
director of the Company assisted the Company in securing the CapitalSource loan
and earned investment banking fees, which were paid in first quarter 2003 (see
also Note 10). Under terms of the commitment letter from CapitalSource, the
Company agreed to reimburse the lender for certain costs and expenses. The
Diasti Family Limited Partnership, a related party (see Note 10), paid a
$50,000 deposit toward such costs in December 2002. After the loan facility
was closed, the Company reimbursed the Diasti Family Limited Partnership the
$50,000 in January 2003. The revolving credit agreement includes a lockbox arrangement whereby cash
collections are required to be deposited with CapitalSource on a daily basis to
paydown the revolving line of credit and the Company borrows under the
revolving line of credit on a daily basis. Under this arrangement, the Company
does not have the ability to avoid using
working capital to repay amounts outstanding under the revolving credit
facility. Accordingly, the Company has classified borrowings under the
revolving line of credit as short-term debt. 51




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COAST DENTAL SERVICES, INC.
NOTES TO FINANCIAL STATEMENTS  (Continued) The Companys capital lease obligations are as follows: December 31,2003
    
    2002Capital lease obligations, at varying interest rates of imputed interest
From 0% to 15%, collateralized by fully amortized leased
equipment
    
    $
    150,145
    
    
    $
    105,681Less current portion
    
    
    (52,342
    )
    
    
    (27,327
    )Capital lease obligations, net of current portion
    
    $
    97,803
    
    
    $
    78,354
 Scheduled payments on capital lease obligations and debt as of December 31, 2003 are as follows: Capital Lease
    
    Long-TermObligations
    
    Debt2004
    
    $
    65,553
    
    
    $
    2005
    
    
    65,553
    
    
    
    2006
    
    
    41,610
    
    
    
    Thereafter
    
    
    
    
    
    
    Total lease payments
    
    $
    172,610
    
    
    $
    Less: Amount representing interest(1)
    
    
    22,571
    
    
    
    Present value of lease payments(2)
    
    $
    150,145
    
    
    $
    
 (1)
    
    Amount necessary to reduce capital lease payments to present value calculated at the
Companys incremental borrowing rate at the inception of the leases.(2)
    
    Reflected in the balance sheet as current and noncurrent obligations under capital leases of
$97,803 and $52,342, respectively.
 NOTE 9  INCOME TAXES For the years ended December 31, 2003, 2002 and 2001, respectively, the
income tax benefit consisted of the following: 2003
    
    2002
    
    2001CurrentFederal
    
    $
    66,227
    
    
    $
    1,026,629
    
    
    $
    336,222State
    
    
    
    
    
    
    
    
    
    
    2,787Total current income tax (expense) benefit
    
    
    66,227
    
    
    
    1,026,629
    
    
    
    339,009Deferred:Federal
    
    
    
    
    
    
    
    
    
    
    (160,360
    )State
    
    
    
    
    
    
    
    
    
    
    (24,299
    )Total deferred income tax (expense) benefit
    
    
    
    
    
    
    
    
    
    
    (184,655
    )Total current and deferred
    
    $
    66,227
    
    
    $
    1,026,629
    
    
    $
    154,354
 The components of deferred tax assets (liabilities) as of December 31, 2003 and
2002, respectively, are as follows: December 31,2003
    
    2002Deferred tax asset:AMT credit carryforward
    
    $
    687,222
    
    
    $
    753,449Net operating loss carryforwards
    
    
    1,327,552
    
    
    
    302,563Accrued Dental Center closing costs
    
    
    121,740
    
    
    
    261,388Basis difference in fixed assets and intangible assets
    
    
    496,776
    
    
    
    506,478Impairment reserves
    
    
    600,401
    
    
    
    462,726Other accrued expenses
    
    
    345,032
    
    
    
    990,268Total deferred tax asset
    
    
    3,578,722
    
    
    
    3,276,872Less: Valuation allowance
    
    
    (3,578,722
    )
    
    
    (3,276,872
    )Net deferred tax asset
    
    $
    
    
    
    $
    
 52




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##### Table of Contents



COAST DENTAL SERVICES, INC.
NOTES TO FINANCIAL STATEMENTS  (Continued) A reconciliation of the statutory federal income tax rate to the Companys
effective income tax rate as of December 31, 2003, 2002 and 2001 respectively,
is as follows: December 31,2003
    
    2002
    
    2001Statutory federal rate
    
    
    34.0
    %
    
    
    34.0
    %
    
    
    34.0
    %State income taxes, net of federal income tax benefit
    
    
    
    
    
    
    
    
    
    
    (0.2
    )Tax exempt interest income
    
    
    
    
    
    
    
    
    
    
    0.6Non deductible expenses
    
    
    (20.34
    )
    
    
    (11.3
    )
    
    
    (0.6
    )Change in valuation allowance
    
    
    (9.82
    )
    
    
    (3.9
    )
    
    
    (32.9
    )Miscellaneous
    
    
    (1.68
    )
    
    
    1.9
    
    
    
    0.7Effective tax rate
    
    
    2.16
    %
    
    
    20.7
    %
    
    
    1.6
    %
 For the years ended December 31, 2003, 2002 and 2001, federal net
operating losses were $3.0 million, $0.2 million and $4.8 million,
respectively. These federal net operating loss carryforwards will expire if
unused by December 31, 2023. For the years ended December 31, 2003, 2002 and 2001, the state net
operating loss carryforwards were $9.0 million, $6.3 million and $6.8 million,
respectively. These state net operating loss carryforwards will expire if
unused by December 31, 2023. In 2002, the Company generated an AMT net operating loss of $877,000. The
Company carried back the AMT net operating loss to tax year 1998. In 2003, the
Company identified additional AMT net operating losses available for carryback.
The additional AMT net operating losses resulted in a refund of approximately
$66,000 that the Company has recorded this year. On March 9, 2002, the Job Creation and Worker Assistance Act of 2002
(Act) was signed into law. This Act contains a provision that enabled the
Company to carry back a substantial portion of its net operating losses to tax
years 1997 and 1998 and file for additional refunds of federal income taxes
previously paid of $888,000. The total income tax refund filed for tax years
1997, 1998 and 1999 in April 2002 was $1,241,000. The Company collected the
income tax refund in second quarter of 2002. The effect of the change in tax
law has been recorded as a reduction in the deferred tax asset, a reduction in
the valuation allowance and recognition of a tax benefit and an increase in
income tax receivable of $888,000 in the first quarter 2002, when the law was
enacted. The 2002 income tax benefit of $1,027,000 includes the $888,000 tax
benefit from the change in law when enacted as well as an income tax benefit of
$139,000 for 2002 for the AMT net operating loss that was carried back. The Company incurred a federal tax net operating loss in 2003, 2002 and
2001. As a result of the three year history of net operating losses, the
Company can not conclude that the realization of the deferred tax asset is more
likely than not, but will re-evaluate the amount of the valuation allowance on
an ongoing basis. Accordingly, the Company has provided a full valuation
allowance on its remaining net deferred tax asset. NOTE 10  RELATED PARTY TRANSACTIONS The Audit Committee of the Board of Directors, comprised of independent
directors, reviews and approves the Companys related party relationships and
transactions. Services and Support Agreements with Coast P.A. The Company has agreements
to provide services and support to the dental practices operated by Coast P.A.
Currently the Companys only source of net revenue are the services and support
fees charged to Coast P.A. under these agreements. Adam Diasti, D.D.S., a
Director, President and a majority shareholder of the Company, is the sole
owner of Coast P.A. See Note 1 for a further description of the relationship
with Coast P.A. and Notes 1 and 4 for description of the amendments to the
Services and Support Agreements in 2002. There were no changes to the Services
and Support Agreements in 2003. 53




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COAST DENTAL SERVICES, INC.
NOTES TO FINANCIAL STATEMENTS  (Continued) Agreement with Adam Diasti, D.D.S.The Company has an agreement with Adam
Diasti, D.D.S., pursuant to which Dr. Diasti has agreed to sell all of his
shares of Coast P.A. stock to a licensed dentist designated by the Company if
certain events occur. Dr. Diasti is a Director and President and the majority
stockholder of the Company. The purchase price under the agreement, if the
certain event should occur, will be the fair market value of Dr. Diastis
shares of Coast P.A.s stock. The Company has no financial interest in Coast
P.A., nor would it benefit financially from any sale of Coast P. A. stock. Accounts Receivable from Coast P.A.As of December 31, 2003, the balance
of the service fee receivable from Coast P.A. was approximately $20.0 million.
This amount is directly attributable to services and support fees earned. Also,
the Company, from time-to-time, has advanced funds under the Services and
Support Agreements to Coast P.A. for operations, or when Coast P.A. was
acquiring dental practices, advanced funds for acquisitions of existing dental
practices. A portion of the service fee receivable is unsecured and represents
a concentration of credit risk and exposes the Company to risk of loss for
these amounts should Coast P.A. be unable to pay its debts. This receivable is
considered fully collectible and no bad debt allowance has been provided. See
further discussion in Note 4 regarding the service fee receivable from Coast.
P.A. Note Receivable from Coast P.A. The Company periodically advances funds
to/from Coast P.A. These advances to and from Coast P.A. are reflected on the
balance sheet as a note receivable from Coast P.A. for approximately $0.2
million at December 31, 2002. This note receivable is non-interest bearing and
is due upon demand. In December 2003, Coast P.A. paid off the note
receivable. Loans to Majority Stockholders.Through June 30, 2002, the Company
periodically advanced funds to the majority stockholders. Advances to the
majority stockholders, and affiliates of the majority stockholders, shown on the
balance sheet in Other Assets are non-interest bearing and were approximately
$182,000 at December 31, 2003 and 2002. Stock Option Grants to Affiliated Professionals and Stock Option
Receivable from Coast P.A.Pursuant to the Companys Affiliated Professionals
Stock Plan, the fair value of the Companys stock options granted to affiliated
dental professionals employed by Coast P.A. are charged to Coast P.A. and
reimbursed to the Company. Upon the departure or termination of a dental
professional from Coast P.A., any options previously granted that are forfeited
by the dental professional pursuant to the terms of the affiliated professional
stock plan, revert to Coast P.A. for reissuance to new dental professionals. As
a result of such forfeitures, Coast P.A. currently holds options to purchase
174,486 shares of the Companys common stock at exercise prices ranging from
$2.45 per share to $76.13 per share. At December 31, 2003 and 2002, the Company
has recorded a stock option receivable from Coast P.A. as a reduction of
stockholders equity in the amount of $2.5 million for amounts due for the
stock option grants to the Affiliated Professionals Stock Plan. This stock
option receivable represents the fair value of the options issued to the dental
professionals employed by Coast P.A. and is reimbursable to the Company from
Coast P.A. See Note 12 for a further description of the plan. This stock option
receivable is considered fully collectible and no bad debt allowance has been
provided. Dentist Equity Model. During the third quarter of 2001, Coast P.A., with
the assistance of the Company, began the rollout of the newly developed
Dentist Equity Model, whereby a dentist has the opportunity to acquire a 25%
to 50% ownership interest in a Dental Center and participate in the potential
profits of that Dental Center. These transactions are structured as a sale of
intangible and/or tangible assets of each Dental Center. Coast P.A. sells a
portion of its intangible Dental Center assets to the dentist acquiring the
interest. Coast P.A. and the dentist then contribute their respective
tangible and intangible assets to a newly formed professional association.
The Equity Doctor Dental Centers continue to operate under the existing
Services and Support Agreement with the Company. The Company and Coast P.A. consummated the sale of interests in Dental
Centers in accordance with the terms of the Equity Model as follows: ten (10)
in 2001; six (6) in 2002; and one (1) in 2003. In fourth quarter 2002, the
Company and Coast P.A. divested one Dental Center and sold the business and
remaining assets to the owner-dentist. In addition, in fourth quarter 2002,
the Company, Coast P.A. and four owner-dentists dissolved four of the Equity
Model Dental Centers and the dentists remained in the practice and became
employees of Coast P.A. As of December 31, 2003, there are ten (10) Equity
Doctor Dental Center in operation, with the eleventh (11th) Dental Center
converting to an Equity Doctor Dental Center on December 31, 2003. In fourth
quarter 2003, one of the Equity Doctors left the dental practice. Coast P.A.
is evaluating whether to dissolve or sell this Equity Doctor practice. In
December 2003, the Company exchanged the Equity
Doctor note receivable from this Equity Doctor in the amount of $55,000 with
Coast P.A. for a $55,000 increase in the service fee receivable. See Note 5
for further discussion of the conversion of the Dental Centers to the Equity
Model. 54




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COAST DENTAL SERVICES, INC.
NOTES TO FINANCIAL STATEMENTS  (Continued) Supply Agreement.The Company entered into a Supply Agreement for the
purchase of dental products and supplies dated September 27, 2000 with
edentaldirect.com, Inc. Tim Diasti, a majority stockholder of the Company, and
at that time an officer, director and shareholder of edentaldirect.com,
Inc., is the brother of Terek Diasti and Adam Diasti. The Companys
executive officers and directors, Terek Diasti and Adam Diasti, and its
director, Donald R. Millard, are also shareholders of edentaldirect.com, Inc.
In third quarter 2003, the ownership structure of edentaldirect.com, Inc. was
revised. Tim Diastis ownership percentage in edentaldirect.com, Inc., was
reduced to less than 20% and Tim Diasti is no longer an officer of
edentaldirect.com, Inc., but remains a director of that company. In third
quarter 2003, Terek Diasti was appointed to the board of directors of
edentaldirect.com, Inc. During 2003 2002 and 2001, the Company paid
edentaldirect.com, Inc. approximately $3,432,000, $4,034,000, and $1,380,000,
respectively, for dental products and supplies, which represents 66%, 70% and
37% of the Companys total supply purchases for such periods. At December 31,
2003 and 2002, the Company owed edentaldirect.com approximately $278,000 and
$212,000, respectively, for the purchase of dental products and supplies, which
is included in Accounts Payable in the accompanying balance sheet. In
2002, the Company began purchasing Celara brand denture systems from
edentaldirect.com, Inc., that are produced by Dentovations, Inc., which is 50%
owned by the Diasti Family Limited Partnership (a related party). The
Companys purchases of Celara denture systems totaled $28,000 and $22,000 in
2003 and 2002, respectively. Dental Lab Products.In third quarter 2002, the Company began purchasing
a portion of its dental lab products from Summit Dental, Inc. d/b/a Global
Prosthetic Services (GPS). GPS is 51% owned by the sister and brother-in-law
of Terek Diasti and Adam Diasti. Terek Diasti and Adam Diasti are directors of
GPS. Terek Diasti has personally guaranteed the real property lease for the
space used by GPS to conduct its operations. During 2003 and 2002, payments by
the Company to GPS totaled $1,014,000 and $214,000, respectively, which
represented 19% and 4% of the Companys lab product cost. Coast P.A. and the Company
have negotiated preferred pricing from several lab suppliers, including GPS.
Coast P.A. dentists (and not Coast P.A. or the Company) select the lab that
each crown, bridge or denture case is sent for preparation. Accordingly, the
amount of business done with GPS is based on the preferences of the 150 Coast
P.A. dentists for completion of their crown, bridge and denture lab cases. Split Dollar Life Insurance Arrangement.In February 1998, the Company
entered into split-dollar key man life insurance arrangements with executive
officers and directors Terek Diasti and Adam Diasti. Pursuant to the terms of
the agreements, the Company lends the money to pay the annual premiums and has
received collateral assignments of some of the proceeds of the life insurance
policies to secure repayment of the loans. Upon the death of the covered
person, the Company is entitled to receive repayment of the loans from the life
insurance proceeds. In 2001, the Company loaned $56,000 and $87,000 to Terek
Diasti and Adam Diasti, respectively, for the premiums on the life insurance
policies. There were no loans from the Company to fund the policies in 2002 or
2003. The Company has the ability to unilaterally cancel the policies on 30
days notice and receive the lesser of the cash surrender value or the amounts
loaned. The total of these non-interest bearing receivables reflected as Other
Assets in the Balance Sheet at December 31, 2003 and 2002 is $1,082,000 and
$1,020,000, respectively, net of valuation allowances of $820,000 and $882,000
on the net realizable value of the underlying the cash surrender value of the
split dollar life insurance policies. In 2002, the Company redeemed the cash
surrender value of life insurance for two former officers of the Company and
collected cash proceeds of $380,000. The change in the unrealized gain or loss
for the years ended 2003, 2002 and 2001 was $107,000 (gain); $377,000 (loss)
and $238,000 (loss) and is recorded in General and Administrative Expenses in
the accompanying Statement of Operations. Legal Services.Darrell C. Smith, a partner in the law firm of Shumaker,
Loop & Kendrick, LLP, was a director of the Company from March 2002 to May
2003. This firm has served as general counsel to the Company for several
years. In 2003 and 2002, the Company paid the law firm fees totaling $600,000
and $477,000, respectively, for services rendered. Investment Banking Services.Geoffrey L. Faux, a partner in the
investment-banking firm of Harpeth Capital, LLC, was a director of the Company
from March 2002 to May 2003. Harpeth Capital, LLC assisted the Company in
securing its financing with CapitalSource and was paid fees of $40,000 in first
quarter 2003 for these services, which was accrued at December 31, 2002.
Caymus Partners, LLC (formerly Harpeth Capital, LLC) was paid fees of $10,000
for consulting services in 2003 after Mr. Faux was no longer a member of the
board of directors. Patient Financing  Brokerage Fees.Coast P.A. offers private label
credit card financing to its patients through a national bank. The program is
non-recourse to Coast P.A. eHealthCredit.com, Inc. (eHealth) markets the
credit card program and is paid a brokerage fee by the Company. The Diasti
Family Limited Partnership (the majority stockholder of
the Company) and Darrell C. Smith (a director of the Company from March 2002 to
May 2003) own 90% and 5%, respectively, of eHealth. In 2003 and 2002,
brokerage fees earned by eHealth were $307,000 and $222,000, respectively, for
this program. In addition, the bank 55




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COAST DENTAL SERVICES, INC.
NOTES TO FINANCIAL STATEMENTS  (Continued) assessed a penalty fee if the volume of patient financing was below specified
target levels. The bank billed eHealth for these penalty fees and eHealth
in-turn billed the Company for these penalty fees. Payments to eHealth for
these penalty fees were $15,000 in 2003 and $60,000 in 2002, respectively. In
July 2003, the Company, eHealth and the bank terminated the penalty fee
provision relating to patient financing volume. The Company has entered into a
guaranty with the bank pursuant to which it has agreed to guarantee and become
a surety for eHealths obligations under the credit card program. eHealths
obligations to the bank would be for the unamortized cost of credit card
approval machines, if any, should Coast P.A. return any machines to the bank
within the period of the agreement. At inception of the program, eHealths
maximum obligation was $69,000. Although the credit card program brokerage fee
received by eHealth was previously required to be split between eHealth and
Adenta Patient Financing, LLC (Adenta), a company owned in part by Diasti
Holdings, LLC (also an affiliate of Coast Dental), both Adenta and Diasti
Holdings, LLC are in dissolution. No fees have been paid by either the Company
or Coast P.A. to Adenta or Diasti Holdings, LLC. Adenta was an additional
named insured on the Companys property and casualty insurance policies through
third quarter 2002. Estimated annual premiums for inclusion on Adenta on these
insurance policies was $2,100. In 2003, eHealth arranged a sub-prime financing program for patients of
Coast P.A. with lower credit scores and eHealth is paid a brokerage fee by the
third party sub-prime lender from the financing fees paid by the Company to the
third party sub-prime lender. The program is non-recourse to Coast P.A. Loan from Diasti Family Limited Partnership.In connection with the
proposed stock buyback, which was not completed (see Note 14), the Company
entered into a credit agreement with the Diasti Family Limited Partnership in
February 2003 for the Diasti Family Limited Partnership to loan the Company up
to $3,400,000 at an annual interest rate of 5.00% to finance a buyback of the
Companys common stock. The Company has not borrowed any funds under this
credit agreement. The loan would have been due in five years from the date of
inception. Subject to the approval of the Companys senior lender,
CapitalSource, the loan is secured by a second priority lien on all of the
Companys assets. See further discussion of the proposed stock buyback in Note
14. Loan Guarantee. In connection with the proposed stock buyback, which was
not completed (see Note 14), a loan guarantee was to have become operative. Had
there been a successful completion of a buyback of substantially all of the
Companys outstanding common stock and drawing on the $2 million Capital Source
term loan, the Diasti Family Limited Partnership and Coast P.A. were to have
guaranteed certain indebtedness of the Company under the $4 million credit
facility with CapitalSource. See further discussion of the proposed stock
buyback in Note 14. Loan Closing Costs.Under terms of the commitment letter from
CapitalSource (see Note 8), the Company agreed to reimburse the lender for
certain costs and expenses. The Diasti Family Limited Partnership paid a
$50,000 deposit toward such costs in December 2002. After the loan facility
was closed, the Company reimbursed the Diasti Family Limited Partnership the
$50,000 in January 2003. This liability is included in Other Accrued Expenses
in the accompanying Balance Sheet at December 31, 2002. NOTE 11  COMMITMENTS AND CONTINGENCIES The Company leases space for operation of its Dental Centers, primarily
under non-cancelable operating leases, for generally a five to seven year term
with renewal options. Dental Center Occupancy expense includes rent expense
for these leased facilities totaling $4,730,000, $4,719,000, and $5,187,000 for
the years ended December 31, 2003, 2002 and 2001, respectively. Future minimum payments under non-cancelable leases are as follows: Future MinimumYears Ended December 31,
    
    Lease Payments2004
    
    $
    4,844,0002005
    
    
    4,154,0002006
    
    
    3,045,0002007
    
    
    2,265,0002008
    
    
    1,541,000Thereafter
    
    
    53,000Total
    
    $
    15,902,000
 56




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COAST DENTAL SERVICES, INC.
NOTES TO FINANCIAL STATEMENTS  (Continued) The Company has entered into employment agreements with three of its
officers, two of whom are the largest stockholders of the Company and together
own a majority of the Companys common stock. The terms of the agreements are
from two to five years. The Company is a party to a number of legal and administrative proceedings
and other claims arising in the ordinary course of business, including matters
related to the dental services provided to patients by Coast P.A. To date,
these proceedings have not had a material effect on the Companys financial
condition, results of operations or cash flows. However, there can be no assurance that in future periods these
proceedings will not have a material adverse effect on our business, financial
condition, results of operations or cash flows. The Company previously disclosed that it is a party to employee-related
matters, two of which are collective action complaints. Settlements have been
reached for three such matters with a maximum cost to the Company totaling
$1,003,000 (including plaintiffs legal fees and expenses). For one of these
matters, the number of participating employees and former employees was less
than expected and the total settlement cost was $233,000 less than the maximum
cost. Accordingly, the Company reduced its estimated accrual for legal matters
by $233,000 in first quarter 2003, thereby reducing its total maximum cost to
$770,000. As of December 31, 2003, the Company paid $770,000 and have
concluded all three matters. The Company is a business services company that provides comprehensive
business services and support to general dentistry practices and it does not
provide or perform dental services. The dental services are provided to
patients solely by licensed dentists and dental hygienists employed by, our
client, Coast P.A. The Company is named as a party in several professional
liability matters brought by patients against Coast P.A. However, the Company does not
expect to have any liability exposure because it does not provide or perform
dental services. Furthermore, the Company has never been found liable in a
professional liability lawsuit for dental services provided by a dental
professional. However, there can be no assurance that in the future a court of
law will not find the Company liable in a professional liability lawsuit. While the outcome of the pending legal and administrative proceedings and
other claims cannot be predicted with certainty, management does not expect the
pending matters to have a material adverse effect on the financial position,
results of operations or cash flows of the Company. At year end 2002 and 2001,
the Company accrued amounts it believed were appropriate at that time with
respect to the pending and settled legal and administrative proceedings and
other claims based upon discussions with legal counsel and the nature and
present status of such proceedings. The Company intends to vigorously defend
its positions in any pending matters. NOTE 12  STOCKHOLDERS EQUITY Effective April 1, 1996, the Board of Directors adopted, and the
stockholders of the Company approved, two stock incentive plans: the Employee
Stock Option Plan (the Incentive Plan) and the Affiliated Professionals Stock
Plan (the Professionals Plan, together, the Plans). The purpose of the
Plans is to provide directors, officers, key employees and dental professionals
employed by Coast P.A. (subject to reimbursement by Coast P.A.) with additional
incentives by increasing their proprietary interest in the Company or tying a
portion of their compensation to increases in the price of the Companys common
stock. The aggregate number of shares of Common Stock subject to each plan is
750,000 shares. The following tables summarize the stock option transactions for the
Affiliated Professionals Plan and the Incentive Plan for the three years ended
December 31, 2003. The tables for 2001 reflect the retroactive adjustment for the
one-for-three reverse stock split that was consummated during 2001. 57




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COAST DENTAL SERVICES, INC.
NOTES TO FINANCIAL STATEMENTS  (Continued) Professionals Plan (For Affiliated Dental Professionals): WeightedNumber of
    
    
    
    
    
    AverageShares
    
    Range Per Share
    
    Exer. PriceOutstanding as of January 1, 2001
    
    
    182,375
    
    
    $
    5.25 - $89.25
    
    
    $
    15.75Granted
    
    
    98,300
    
    
    $
    2.55 - $  3.14
    
    
    $
    2.88Forfeited
    
    
    (26,250
    )
    
    $
    3.14 - $76.13
    
    
    $
    17.71Outstanding as of December 31, 2001
    
    
    254,425
    
    
    $
    2.55 - $89.25
    
    
    $
    10.71Exercisable as of December 31, 2001
    
    
    83,775Granted
    
    
    33,465
    
    
    $
    2.45 - $  3.11
    
    
    $
    2.71Forfeited
    
    
    ( 26,423
    )
    
    $
    2.45 - $76.13
    
    
    $
    10.93Outstanding as of December 31, 2002
    
    
    261,467
    
    
    $
    2.45 - $89.25
    
    
    $
    9.66Exercisable as of December 31, 2002
    
    
    277,863Granted
    
    
    Exercised
    
    
    (37,985
    )
    
    $
    2.55 - $  7.32
    
    
    $
    4.61Forfeited
    
    
    (25,828
    )
    
    $
    2.45 - $76.13
    
    
    $
    10.93Outstanding Dental Professionals
    
    
    197,654
    
    
    $
    2.45 - $89.25
    
    
    $
    9.35Outstanding Coast P.A
    
    
    174,486
    
    
    $
    2.45 - $76.13
    
    
    $
    12.14Total outstanding as of December 31, 2003
    
    
    372,140
    
    
    $
    2.45 - $89.25
    
    
    $
    10.56Exercisable as of December 31, 2003
    
    
    176,726
 The fair value of the options at December 31, 2003, 2002 and 2001,
totaling $2,541,183, $2,541,183, and $2,453,206, respectively, issued to the
dental professionals employed by Coast P.A. is due from Coast P.A. The stock
option receivable from Coast P.A. is deducted from the equity accounts of the
Company in arriving at total stockholders equity in the accompanying Balance
Sheet. Stock options forfeited by dental professionals revert to Coast P.A.
under their original terms. As a result of such forfeitures, Coast P.A.
currently holds options to purchase 174,486 shares of the Companys common
stock at exercise prices ranging from $2.45 per share to $76.13 per share. Incentive Plan (For Directors and Employees): WeightedNumber of
    
    
    
    
    
    AverageShares
    
    Range Per Share
    
    Exer. PriceOutstanding as of January 1, 2001
    
    
    197,042
    
    
    $
    4.59 - $91.50
    
    
    $
    19.14Granted
    
    
    Forfeited
    
    
    (50,570
    )
    
    $
    4.59 - $76.13
    
    
    $
    17.61Outstanding as of December 31, 2001
    
    
    146,472
    
    
    $
    4.59 - $91.50
    
    
    $
    19.81Exercisable as of December 31, 2002
    
    
    88,467Granted
    
    
    198,833
    
    
    $
    2.25 - $  5.27
    
    
    $
    2.93Forfeited
    
    
    (50,323
    )
    
    $
    2.25 - $76.13
    
    
    $
    8.42Outstanding as of December 31, 2002
    
    
    294,982
    
    
    $
    2.25 - $91.50
    
    
    $
    10.38Exercisable as of December 31, 2002
    
    
    90,905Granted
    
    
    Exercised
    
    
    (47,887
    )
    
    $
    2.25 - $6.189
    
    
    $
    3.58Forfeited
    
    
    (100,993
    )
    
    $
    2.93 - $76.13
    
    
    $
    15.61Outstanding as of December 31, 2003
    
    
    146,102
    
    
    $
    2.39 - $85.88
    
    
    $
    7.94Exercisable as of December 31, 2003
    
    
    52,188
 58




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COAST DENTAL SERVICES, INC.
NOTES TO FINANCIAL STATEMENTS  (Continued) Options Outstanding
    
    Options ExercisableRemaining Life
    
    Exercise Price
    
    
    
    
    
    Exercise PriceRanges of
    
    
    
    
    
    In Years
    
    Weighted
    
    
    
    
    
    WeightedExercise Price
    
    Shares
    
    (Weighted Average)
    
    Average
    
    Shares
    
    Averageunder $10.00
    
    
    128,931
    
    
    
    5.70
    
    
    $
    2.27
    
    

    
    34,999
    
    
    $
    3.77$10.01 to $20.00
    
    
    1,301
    
    
    
    5.67
    
    
    $
    13.50
    
    
    
    1,301
    
    
    $
    13.50$20.01 to $30.00
    
    
    7,070
    
    
    
    4.24
    
    
    $
    26.85
    
    
    
    7,070
    
    
    $
    26.85$30.01 to $40.00
    
    
    382
    
    
    
    3.23
    
    
    $
    36.69
    
    
    
    382
    
    
    $
    36.69$40.01 to $50.00
    
    
    2,342
    
    
    
    3.93
    
    
    $
    45.11
    
    
    
    2,342
    
    
    $
    45.11$50.01 to $60.00
    
    
    460
    
    
    
    4.45
    
    
    $
    54.38
    
    
    
    460
    
    
    $
    54.38$60.01 to $70.00
    
    
    816
    
    
    
    4.39
    
    
    $
    68.29
    
    
    
    816
    
    
    $
    68.29$70.01 to $80.00
    
    
    4,585
    
    
    
    4.70
    
    
    $
    75.50
    
    
    
    4,585
    
    
    $
    75.50$80.01 to $90.00
    
    
    233
    
    
    
    3.80
    
    
    $
    85.88
    
    
    
    233
    
    
    $
    85.88Total
    
    
    146,102
    
    
    
    
    
    
    
    
    
    
    
    52,188
 The weighted average remaining contractual life for the options
outstanding as of December 31, 2003, for both plans, is approximately 8 years. NOTE 13  BENEFIT PLANS The Company has a 401(k) Retirement Savings Plan (the 401(k) Plan)
covering substantially all employees. Matching employer contributions, if any,
are set at the discretion of the Board of Directors or the applicable committee
thereof. For the years ended December 31, 2003, 2002 and 2001, respectively,
there were no Company matching contributions. NOTE 14  SELF TENDER OFFER On March 4, 2003, the Company initiated a self-tender offer to purchase
all of the outstanding shares of its common stock for $4.50 per share. The
self-tender offer expired on April 14, 2003. A total of 51 shareholders
tendered 11,537 shares by the expiration date. The Company accepted for
purchase and payment all of the shares that were validly tendered for a total
purchase price of approximately $52,000. The Company incurred approximately
$715,000 in costs and expenses in connection with the self-tender offer in the
first and second quarters of 2003 which are included in General and
Administrative Expenses in the accompanying 2003 Statement of Operations. NOTE 15  SUBSEQUENT EVENTS (UNAUDITED) The Company closed one Dental Center in January 2004 and recognized a
non-cash charge of approximately $114,000 in first quarter 2004. On February 6, 2004, the Company executed a Waiver and First Amendment to
the CapitalSource credit agreement to reset certain financial covenants; waive
non-compliance with certain financial covenants and extend the term of the
credit facility by one year to December 31, 2006. The Company is in compliance
with the credit agreement, as amended. 59




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COAST DENTAL SERVICES, INC.
NOTES TO FINANCIAL STATEMENTS  (Continued) NOTE 16  QUARTERLY RESULTS OF OPERATIONS (UNAUDITED) The following table sets forth the Companys results of operations for the
periods indicated: Quarter Ended
    
    March 31, 2003
    
    June 30, 2003
    
    September 30, 2003
    
    December 31, 2003Net revenue
    
    $
    14,219,142
    
    
    $
    14,566,885
    
    
    $
    14,569,606
    
    
    $
    13,060,162Gross profit
    
    $
    2,206,353
    
    
    $
    2,355,940
    
    
    $
    1,973,450
    
    
    $
    1,022,064Net (loss)
    
    $
    (395,697
    )
    
    $
    (324,229
    )
    
    $
    (358,784
    )
    
    $
    (1,907,699
    )Net (loss) per common share:Basic
    
    $
    (0.19
    )
    
    $
    (0.15
    )
    
    $
    (0.17
    )
    
    $
    (0.90
    )Diluted
    
    $
    (0.19
    )
    
    $
    (0.15
    )
    
    $
    (0.17
    )
    
    $
    (0.90
    )
 Quarter Ended
    
    March 31, 2002
    
    June 30, 2002
    
    September 30, 2002
    
    December 31, 2002Net revenue
    
    $
    13,570,504
    
    
    $
    14,240,330
    
    
    $
    14,728,596
    
    
    $
    13,424,504Gross profit
    
    $
    2,295,134
    
    
    $
    2,320,732
    
    
    $
    1,950,990
    
    
    $
    1,229,211Net income/(loss)
    
    $
    1,150,020
    
    
    $
    23,957
    
    
    $
    (2,042,334
    )
    
    $
    (3,075,440
    )Net income/(loss) per common share:Basic
    
    $
    0.55
    
    
    $
    0.01
    
    
    $
    (0.98
    )
    
    $
    (1.47
    )Diluted
    
    $
    0.55
    
    
    $
    0.01
    
    
    $
    (0.98
    )
    
    $
    (1.47
    )
 The increase in the net loss and net loss per common share for the quarter
ending December 31, 2003 is due in part to the decrease in the number of days
that doctors and hygienists worked at Coast, P.A. around the holiday season.
Coast P.A. has traditionally experienced its highest volume of patient visits
during the first quarter of the year and its lowest volume of patient visits in
the summer and in the fourth quarter during the holiday
season. Individual
Dental Centers typically experience increased patient visits during the period
from January through March, when the population of Florida increases for the
winter, and decreased patient visits during the summer months and during the
fourth quarter holiday season. In addition, a charge of $336,000 was taken in
fourth quarter 2003 for the closure of one Dental Center as well as costs
incurred for training and development programs held in fourth quarter 2003. The net loss and net loss per common share for the quarter ending
September 30, 2002 is due in part to the Dental Center closings charge and
increase in the valuation allowance on the receivables related to the cash
surrender value of key-man life insurance, which was recorded in September
2002. The impact of these charges on net loss and net loss per share was
approximately $(1.9) million and $(0.93) per share, respectively. The increase in the net loss and net loss per common share for the quarter
ending December 31, 2002 is due to the Dental Center closings and asset
impairment charges recorded in December 2002. The impact of these charges on
net loss and net loss per share was approximately $(2.2) million and $(1.05)
per share, respectively. 60




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Item 9.Changes in and Disagreements with Accountants on Accounting and Financial Disclosure None. 
 Item 9A.Controls and Procedures Evaluation of Disclosure Controls and Procedures We carried out an evaluation (the Evaluation), under the supervision and
with the participation of our principal executive officer and principal
financial officer, of the effectiveness of the design and operation of our
disclosure controls and procedures (Disclosure Controls) as of the end of the
period covered by this report. Based on the Evaluation, our principal executive
officer and principal financial officer concluded that our Disclosure Controls
are adequate and effective to ensure that information required to be disclosed
in our periodic Securities and Exchange Commission reports is recorded,
processed, summarized and reported on a timely basis. Changes in Internal Controls We have also evaluated our internal controls for financial reporting, and
there were no changes in our internal controls during the last quarter of the
year ended December 31, 2003 that has materially affected, or is reasonably
likely to affect, our internal controls over financial reporting. Limitations on the Effectiveness of Controls Our management, including our principal executive officer and principal
financial officer, does not expect that our Disclosure Controls and internal
controls will prevent all errors and all fraud. A control system, no matter how
well conceived and operated, can provide only reasonable, not absolute,
assurance that the objectives of the control system are met. Further, the
design of a control system must reflect the fact that there are resource
constraints, and the benefits of controls must be considered relative to their
costs. Because of the inherent limitations in all control systems, no
evaluation of controls can provide absolute assurance that all control issues
and instances of fraud, if any, within the company have been detected. These
inherent limitations include the realities that judgments in decision-making
can be faulty, and that breakdowns can occur because of simple error or
mistake. Additionally, controls can be circumvented by the individual acts of
some persons, by collusion of two or more people, or by management or board
override of the control. The design of any system of controls also is based in part upon certain
assumptions about the likelihood of future events, and there can be no
assurance that any design will succeed in achieving its stated goals under all
potential future conditions. Over time, controls way become inadequate because
of changes in conditions, or the degree of compliance with the policies or
procedures may deteriorate. Because of the inherent limitations in a
cost-effective control system, misstatements due to error or fraud may occur
and not be detected. Certifications In Exhibits 31.1 and 31.2 of this report, there are Certifications of the
principal executive officer and the principal financial officer. The
Certifications are required in accordance with Section 302 of the
Sarbanes-Oxley Act of 2002 (the Section 302 Certifications). This Item of
this report, which you are currently reading is the information concerning the
Evaluation referred to in the Section 302 Certifications and this information
should be read in conjunction with the Section 302 Certifications for a more
complete understanding of the topics presented. 61




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PART III 
 Item 10.Directors and Executive Officers of the Registrant Code of Ethics.We have adopted a written code of ethics that applies to
our principal executive officer, principal financial officer, principal
accounting officer, or persons performing similar functions, as required under
Section 406 of the Sarbanes-Oxley Act of 2002, the rules of the Securities and
Exchange Commission and the rules of the Nasdaq Stock Market. A copy of the
code of ethics is posted on and publicly available on our internet website at
www.coastdental.com under Investor Relations-Corporate Governance. If there
are any amendments to, or any waivers of, this code of ethics we intend to
promptly disclose the nature of any such amendment or waiver on our website.
The information contained on our website is not intended to be part of this
annual report on Form 10-K. The remaining information required by this Item is incorporated herein by
reference to the information under the headings Management - Directors and
Executive Officers in the Companys definitive Proxy Statement to be used in
connection with the Companys Annual Meeting of Stockholders, which is expected
to be filed with the Securities and Exchange Commission on or before April 29,
2004 
 Item 11.Executive Compensation The information required by this Item is incorporated herein by reference
to the information under the headings Management  Compensation of Executive
Officers and Directors in the Companys definitive Proxy Statement to be used
in connection with the Companys Annual Meeting of Stockholders, which is
expected to be filed with the Securities and Exchange Commission on or before
April 29, 2004 
 Item 12.Security Ownership of Certain Beneficial Owners and Management Equity Compensation Plan Disclosure The following table summarizes our equity compensation plans as of
December 31, 2003: Number of Shares to be Issued Upon
    
    
    
    
    
    Number of Shares Available forExercise of
    
    Weighted-Average Exercise
    
    Future Issuance Under EquityPlan Category
    
    Outstanding Options
    
    Price of Outstanding Options
    
    Compensation PlansEquity Compensation Plans
Approved by Shareholders(1)
    
    
    518,242
    
    
    $
    9.82
    
    
    
    1,046,087Equity Compensation Plans
Not Approved by Shareholders(2)
    
    
    
    
    
    
    
    
    
    
    
   (1)
    
    The equity compensation plans approved by our shareholders are the
Coast Dental Services, Inc. Stock Option Plan and the Coast Dental
Services, Inc. Affiliated Professionals Stock Plan.(2)
    
    We do not have any equity compensation plans that have not been approved
by our shareholders. The remaining information required by this Item is incorporated herein by
reference to the information under the headings Management  Security
Ownership of Management and Others in the Companys definitive Proxy Statement
to be used in connection with the Companys Annual Meeting of Stockholders,
which is expected to be filed with the Securities and Exchange Commission on or
before April 29, 2004 
 Item 13.Certain Relationships and Related Transactions The information required by this Item is incorporated herein by reference
to the information under the headings Certain Relationships and Related
Transactions in the Companys definitive Proxy Statement to be used in
connection with the Companys Annual Meeting of Stockholders, which is expected
to be filed with the Securities and Exchange Commission on or before April 29,
2004 
 Item 14.Principal Accounting Fees and Services. The information required by this Item is incorporated herein by reference
to the information under the headings Audit and Related Fees in the Companys
definitive Proxy Statement to be used in connection with the Companys Annual
Meeting of Stockholders, which is expected to be filed with the Securities and
Exchange Commission on or before April 29, 2004 62




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PART IV 
 Item 15Exhibits, Financial Statement Schedules and Reports on Form 8-K  (A)
    
    FINANCIAL STATEMENTS, SCHEDULES AND EXHIBITS  (1)
    
    Financial Statements: See Item 8(2)
    
    Financial Statement Schedules: See (D) below.(3)
    
    Exhibits: See Exhibit Index.  (B)
    
    REPORTS ON FORM 8-K  None.  (C)
    
    EXHIBITS  See Exhibit Index.  (D)
    
    FINANCIAL STATEMENT SCHEDULES The Financial Statement Schedules required are either included in the
Notes to Financial Statements, or are otherwise omitted because of the absence
of the conditions under which they are required, except Schedule II-Valuation
and Qualifying Accounts which is set forth on page 64 of this report. 63




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COAST DENTAL SERVICES, INC. Schedule II-Valuation and Qualifying Accounts
Years ended December 31, 2003, 2002, and 2001 AdditionsCharged orBalance at
    
    (Credited) to
    
    
    
    
    
    Balance atBeginning
    
    Costs and
    
    
    
    
    
    End of(in thousands)
    
    of Period
    
    Expenses
    
    Deductions
    
    PeriodDeferred tax asset valuation allowanceYear ended December 31, 2003
    
    $
    3,276
    
    
    $
    303
    
    
    $
    
    
    
    $
    3,579Year ended December 31, 2002
    
    $
    3,135
    
    
    $
    141
    
    
    $
    
    
    
    $
    3,276Year ended December 31, 2001
    
    $
    
    
    
    $
    3,135
    
    
    $
    
    
    
    $
    3,135Reserve for closed Dental CentersYear ended December 31, 2003
    
    $
    723
    
    
    $
    167
    
    
    $
    562
    
    
    $
    328Year ended December 31, 2002
    
    $
    420
    
    
    $
    2,625
    
    
    $
    2,322
    
    
    $
    723Year ended December 31, 2001
    
    $
    
    
    
    $
    2,751
    
    
    $
    2,331
    
    
    $
    420Valuation allowance on the related party
receivable related to split dollar life
insurance arrangementYear ended December 31, 2003
    
    $
    882
    
    
    $
    45
    
    
    $
    107
    
    
    $
    820Year ended December 31, 2002
    
    $
    505
    
    
    $
    377
    
    
    $
    
    
    
    $
    882Year ended December 31, 2001
    
    $
    267
    
    
    $
    238
    
    
    $
    
    
    
    $
    505
 64




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##### Table of Contents



COAST DENTAL SERVICES, INC. 
 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Company has duly caused this Report to be signed on
its behalf by the undersigned, thereunto duly authorized, in the City of Tampa,
State of Florida on March 24, 2004. Pursuant to the requirements of the
Securities Exchange Act of 1934, this report has been signed below by the
following persons on behalf of the Company and in the capacities indicated on
March 24, 2004. COAST DENTAL SERVICES, INC.By:
    
    /s/ Terek Diasti, D.V.M.Terek Diasti, D.V.M.Chairman of the Boardand Chief Executive Officer,(Principal Executive Officer)
 KNOW ALL MEN BY THESE PRESENTS that each person whose signature appears
below constitutes and appoints Terek Diasti his or her true and lawful
attorney-in-fact and agent, with full power of substitution and resubstitution,
for him or her and in his name or her name, place and stead, in any and all
capacities, to sign any and all amendments to this Annual Report of Form 10-K,
and to file the same, with all exhibits thereto and other documents in
connection therewith, with the Securities and Exchange Commission, granting
unto said attorney-in-fact and agent, full power to do and perform each and
every act and things required and necessary to be done in and about the
premises, as fully as he or she might or could do in person, hereby ratifying
and confirming all that said attorney-in-fact and agent or his substitutes or
substitute, may lawfully do or cause to be done by virtue hereof. By:
    
    /s/ Adam Diasti, D.D.S.Adam Diasti, D.D.S.President and DirectorBy:
    
    /s/ Timothy G. MerrickTimothy G. MerrickVice President  Finance and Secretary(Principal Financial and Accounting Officer)By:
    
    /s/ Donald R. MillardDonald R. MillardDirectorBy:
    
    /s/ Peter M. SontagPeter M. SontagDirectorBy:
    
    /s/ Richard T. WelchRichard T. WelchDirectorBy:
    
    /s/ W. Wayne WoodyW. Wayne WoodyDirector
 65




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##### Table of Contents



COAST DENTAL SERVICES, INC.
Annual Report of Form 10-K 
 EXHIBIT INDEX ExhibitNumber
    
    Exhibit Description2.1*
    
    Articles of Merger and Agreement and Plan of Merger dated as of August 29,
2002, between Coast Dental Services,
Inc., a Delaware corporation, and Coast Florida Acquisition, Inc., a Florida corporation (filed with the State of
Florida in connection with the reincorporation from Delaware to Florida). [10]3.1*
    
    Restated Certificate of Incorporation of Coast Dental Services, Inc. [2]3.1A*
    
    Articles of Incorporation of the Company (filed with the State of Florida
in connection with reincorporation from
Delaware to Florida.) [10]3.2*
    
    Bylaws of Coast Dental Services, Inc. [1]4.1*
    
    Specimen of Coast Dental Services, Inc. Common Stock Certificate. [1]4.2*
    
    Business Loan Agreement dated August 15, 1996 between Coast Dental
Services, Inc. and Barnett Bank, N.A.[1]4.3*
    
    First Amendment to Business Loan Agreement dated March 7, 1997 between
Coast Dental Services, Inc. and Barnett Bank, N.A. [3]4.6*
    
    Amended and Restated Loan Agreement dated November 4, 1999 by and among
Coast Dental Services, Inc. and Bank of America, N.A. d/b/a Nations Bank,
N.A4.7*
    
    Revolving Credit Agreement, Term Loan and Security Agreement dated
December 31, 2002 between Coast Dental Services and CapitalSource Finance,
LLC. [11]4.8*
    
    Credit Agreement dated February 28, 2003 between Coast Dental Services,
Inc, and the Diasti Family Limited Partnership. [11]4.9
    
    Waiver and First Amendment to
Revolving Credit, Term Loan and Security Agreement dated February 6, 2004, between Coast
Dental Services, Inc., and CapitalSource, LLC.(The Company is not filing any instrument with respect to long-term debt that
does not exceed 10 percent of the total assets of the Company and the Company
agrees to furnish a copy of such instrument to the Commission upon request.)10.1*
    
    Employment Agreement between Coast Dental Services, Inc. and Terek Diasti. [2]10.2*
    
    Employment Agreement between Coast Dental Services, Inc. and Adam Diasti, D.D.S. [2]10.4*
    
    Coast Dental Services, Inc. Stock Option Plan. [1]10.5*
    
    Coast Dental Services, Inc. Affiliated Professional Stock Plan. [1]10.6*
    
    Services and Support Agreement dated October 1, 1996 between Coast
Dental Services, Inc. and Coast Florida, P.A. [1]10.10*
    
    Form of Indemnification Agreement with officers and directors. [1]10.12*
    
    Agreement to Transfer Stock and Stock Pledge dated November 1, 1996, by
and between Adam Diasti, D.D.S. and Coast Dental Services, Inc. [2] (The
Company has also entered to similar agreements with Adam Diasti with
respect to his stock ownership in Coast Dental Southeast, P.A. n/k/a Coast
Dental of Georgia, P.C., Coast Dental Services of Tennessee, P.C., Coast
Dental Services of Florida, P.A. n/k/a Coast Dental, P.A. and Adam Diasti,
D.D.S. & Associates, P.C. and such agreements are not being filed because
they are not materially different in form from the Agreement to Transfer
Stock and Stock Pledge filed by the Company.)10.14*
    
    Amendment No. 1 to Coast Dental Services, Inc. Stock Option Plan. [4]10.17*
    
    First Amendment effective June 1997 to Services and Support Agreement
between the Company and Coast Florida P.A. [5]10.18*
    
    Second, Third and Fourth Amendments effective October 1, 1998, February
1, 1999 and January 1, 2000 to the Services and Support Agreement between
the Company and Coast Florida, P.A. [6,8] (The Company has also entered
into Services and Support Agreements with Coast Dental Services of
Tennessee, P.C., Coast Dental Services of Florida P.A. n/k/a Coast Dental,
P. A. and Adam Diasti, D.D.S. & Associates, P.C., which agreements with
amendments are not being filed because the terms thereof are not
materially different from the amended Services and Support Agreements
previously filed by the Company.)10.19*
    
    First Amendment effective February 1, 1999 to the Services and Support
Agreement between the Company and Coast Dental Services of Georgia. P.C.
[6]10.21*
    
    Employment Agreement between Coast Dental Services, Inc. and William H. Geary, III [8]10.22*
    
    Employment Agreement between Coast Dental Services, Inc. and Chris D. Salemi [8]
 66




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##### Table of Contents



COAST DENTAL SERVICES, INC.
Annual Report of Form 10-K EXHIBIT INDEX ExhibitNumber
    
    Exhibit Description10.24*
    
    Amendment dated August 31, 2001 to Amended and Restated Loan Agreement
dated November 4, 1999 by and between Coast Dental Services, Inc. and Bank
of America, N.A. d/b/a Nations Bank, N.A. and Third Renewal and
Replacement Revolving Promissory Note by and among Coast Dental Services,
Inc. and Bank of America, N.A. d/b/a Nations Bank, N.A. incorporated by
reference to Exhibit 4.6. [9]10.25*
    
    Employment Agreement between Coast Dental Services, Inc. and Timothy G. Merrick [12]10.26*
    
    Fifth Amendment to the Services and Support Agreement effective June 1, 2002 by and between Coast Dental
Services, Inc. and Coast Florida P.A. (The Company has also entered into
Services and Support Agreements and Amendments thereto with Coast Dental
Services of Florida P.A. n/k/a Coast Dental, P.A., Coast Dental of
Georgia, P.C., Coast Dental Services of Tennessee, P.C. and Adam Diasti,
D.D.S. & Associates, P.C., which Agreements and Amendments are not being
filed because the terms thereof are not materially different in form from
the Services and Support Agreement previously filed by the Company and the
fifth Amendment previously filed by the Company.) [13]10.27*
    
    Sixth Amendment to the Services and Support Agreement effective October
1, 2002 by and between Coast Dental
Services, Inc. and Coast Florida P.A. (The Company has also entered into
Services and Support Agreements and Amendments thereto with Coast Dental,
P.A., Coast Dental of Georgia, P.C., Coast Dental Services of Tennessee,
P.C. and Adam Diasti, D.D.S. & Associates, P.C., which Agreements and
Amendments are not being filed because the terms thereof are not
materially different in form from the Services and Support Agreement
previously filed by the Company and the sixth Amendment previously filed
by the Company). [14]11.1
    
    Computation of Per Share Earnings (Loss).23
    
    Consent of Deloitte & Touche LLP.31.1 **
    
    Certification of Terek Diasti pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.31.2 **
    
    Certification of Timothy G. Merrick pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.32.1
    
    Certification of Terek Diasti pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.32.2
    
    Certification of Timothy G. Merrick pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
    *
    
    Previously filed as an exhibit in the Company filing identified in the
endnote following the exhibit description and incorporated herein by
reference.**
    
    This certification accompanies this report pursuant to the Sarbanes-Oxley
Act of 2002 and shall not be deemed filed for purposes of Section 18 of
the Securities Exchange Act of 1934. [1]
    
    Registration Statement on Form S-1 filed on October 7, 1996 (File No. 333-13613).[2]
    
    Amendment No. 1 to Form S-1 Registration Statement filed on November 12, 1996.[3]
    
    Form 10-K filed on March 31, 1997.[4]
    
    Form S-8/A filed on July 31, 1997.[5]
    
    Amendment No. 2 to S-1 Registration Statement filed on September 19, 1997.[6]
    
    Form 10-K filed on March 31, 1999.[7]
    
    Form 10-Q filed on November 15, 1999.[8]
    
    Form 10-K filed on March 30, 2000.[9]
    
    Form 10-Q filed on November 14, 2001.[10]
    
    Form 10-Q filed on November, 14, 2002.[11]
    
    Schedule TO-I filed March 4, 2003.[12]
    
    Form 10-Q filed on May 15, 2002[13]
    
    Form 10-Q filed on August 14, 2002[14]
    
    Form 10-K filed on March 28, 2003 67