(1) Lease agreements, under which we utilize these facilities representing approximately 129,000 square feet, will be renegotiated or will expire during 2003.
As one of the largest full-service pharmacy benefit management (“PBM”) companies, we provide health care management and administration services on behalf of our clients, which include health maintenance organizations, health insurers, third-party administrators, employers and union-sponsored benefit plans. Our integrated PBM services include network claims processing, mail pharmacy services, benefit design consultation, drug utilization review, formulary management, disease management, medical and drug data analysis services, medical information management services, and informed decision counseling services through our Express Health LineSM division. We also provide non-PBM services, which include distribution of specialty pharmaceuticals through our Express Scripts Specialty Distribution Services subsidiary (“SDS”); verifying practitioner licensure and distribution of drug samples through our Phoenix Marketing Group subsidiary (“PMG”); and prior to June 12, 2001, infusion therapy services through our wholly-owned subsidiary IVTx, Inc., operating as Express Scripts Infusion Services.
Our business has grown through strategic acquisitions over the last few years. On April 12, 2002, we acquired National Prescription Administrators, Inc. and certain related entities (“NPA”) for approximately $466 million in cash and Express Scripts stock. We also acquired certain assets and liabilities of Phoenix Marketing Group in February 2002 and of Managed Pharmacy Benefits, Inc. (“MPB”), a PBM subsidiary of Medicine Shoppe International, Inc. (“MSI”), in December 2002. Consequently, our operating results include those of MPB from December 19, 2002, NPA from April 12, 2002, and PMG from February 25, 2002. In addition to growth through acquisitions, we have been successful in adding significant new clients in recent years, including the contracts we were awarded by the Department of Defense (“DoD”) TRICARE Management Activity in 2002 to provide mail pharmacy services for the TRICARE Program (starting in March 2003) and by United Health Group in 2001 to provide retail network and mail pharmacy services to members of AARP.
Revenues from our PBM segment are earned by dispensing prescriptions from our mail pharmacies, processing claims for prescriptions filled by retail pharmacies in our nationwide network, and by providing services to drug manufacturers, including administration of rebate and discount programs.
Revenues from dispensing prescriptions from our mail pharmacies, which include the co-payment received from our members, are recorded when the prescription is shipped. At the time of shipment our earnings process is complete; the obligation of our customer to pay for the drugs is fixed, and due to the nature of the product, the member may not return the drugs nor receive a refund.
Revenues related to the sale of prescription drugs by retail pharmacies in our nationwide network consist of the amount the client has contracted to pay us for the dispensing of such drugs together with any associated administrative fees. These revenues are recognized when the claim is processed. When we independently have a contractual obligation to pay our network pharmacy providers for benefits provided to our clients’ members, we act as a principal in the arrangement and we include the total payments we have contracted to receive from these clients as revenue, and payments to the network pharmacy providers as cost of revenue in compliance with Emerging Issues Task Force (“EITF”) Issue No. 99-19, “Reporting Gross Revenue as a Principal vs. Net as an Agent.” When a prescription is presented by a member to a retail pharmacy within our network, we are solely responsible for confirming member eligibility, performing drug utilization review, reviewing for drug-to-drug interactions, performing clinical intervention, which may involve a call to the member’s physician, communicating plan provisions to the pharmacy, directing payment to the pharmacy and billing the client for the amount they are contractually obligated to pay us for the prescription dispensed, as specified within our client contracts. We also provide benefit design and formulary consultation services to clients. We have separately negotiated contractual relationships with our clients and with network pharmacies, and under our contracts with pharmacies we assume the credit risk of our clients’ ability to pay for drugs dispensed by these pharmacies to clients’ members. Our clients are not obligated to pay the pharmacies as we are primarily obligated to pay retail pharmacies in our network the contractually agreed upon amount for the prescription dispensed as specified within our provider contracts. In addition, under many of our client contracts, we may realize a positive or negative margin represented by the difference between the separately negotiated ingredient costs we will receive from our clients and negotiated ingredient costs we will pay to our network pharmacies. These factors indicate Express Scripts is a principal as defined by EITF 99-19 and as such we record ingredient cost charged to clients in revenue and the corresponding ingredient cost paid to network pharmacies in cost of revenues. In retail pharmacy transactions, amounts paid to pharmacies and amounts charged to clients are always exclusive of the applicable co-payment. Under our pharmacy agreements, the pharmacy is solely obligated to collect the co-payment from the member. As such, we do not include member co-payments to retail pharmacies in revenue or cost of revenue.
We bill our clients based upon a predetermined billing schedule. At the end of a period, any unbilled revenues related to the sale of prescription drugs by retail pharmacies are estimated based on the amount we will pay to the pharmacies and historical gross margin. Those amounts due from our clients are recorded as revenue as they are contractually due to us for past transactions. Minor adjustments are made to these estimated revenues to reflect actual billings at the time clients are billed.
We administer two rebate programs through which we receive rebate and administrative fees from pharmaceutical manufacturers. We recognize rebates and administrative fees receivable from manufacturers and the corresponding amounts payable to clients when the prescriptions covered under contractual agreements with the manufacturers are dispensed; these revenues are not dependent upon future pharmaceutical sales. When we earn rebates and administrative fees in conjunction with formulary management services, but do not process the underlying claims, we record rebates received from manufacturers, net of the portion payable to customers, in revenue. When we provide formulary management services to a client in conjunction with claims processing, we record rebates and administrative fees received from manufacturers as a reduction of cost of revenues and the portion of the rebate payable to customers is treated as a reduction of revenue. With respect to rebates based on actual market share performance we estimate the portion of rebates payable to clients based on historical sharing percentages and our estimate of rebates receivable from pharmaceutical manufacturers. These estimates are adjusted to actual when amounts are received from manufacturers and the portion payable to clients is paid. With respect to rebates not based on actual market share performance, no estimation is required because the client portion is determinable when the drug is dispensed (see further discussion under “- Cost of Revenues”).
Based on our revenue recognition policies discussed above, certain claims at the end of a period are unbilled. Revenue and unbilled receivables for those claims are estimated each period based on the amount to be paid to the pharmacies and historical gross margin. Estimates are adjusted to actual at the time of billing, typically within 30 days based on the contractual billing schedule agreed upon with the client. In addition, revenue and unbilled receivables for rebates based on market share performance are calculated quarterly based on an estimate of rebatable prescriptions and the rebate per prescription. These estimates are adjusted to actual when the number of rebatable prescriptions and the rebate per prescription have been determined and the billing to the manufacturers has been completed. Historically, adjustments to our original estimates have been immaterial.
We provide an allowance for doubtful accounts equal to estimated uncollectible receivables. This estimate is based on the current status of each customer’s receivable balance as well as current economic and market conditions.
The average revenue per network pharmacy claim increased 16.6% to $23.71 over 2001 due to higher drug ingredient costs, the acquisition of NPA and a higher mix of clients utilizing retail pharmacy networks contracted by us versus retail pharmacy networks contracted by the client. As previously discussed under “-Critical Accounting Policies,” when clients utilize our retail pharmacy networks, we record ingredient cost charged to clients in revenue and the corresponding ingredient cost paid to network pharmacies in cost of revenue. As expected, we saw a higher mix of clients utilizing our retail pharmacy networks, partially due to the early 2002 loss of a large client utilizing their retail pharmacy network. The average revenue per network pharmacy claim increased 46.2% in 2001 over 2000 primarily as a result of the increased rate of historical Express Scripts and DPS clients moving to our retail pharmacy networks.
Mail pharmacy revenues and mail pharmacy prescriptions filled increased $1,153,343,000, or 47.2% and 6,662,000, or 32.5%, respectively, during 2002 over 2001. These increases are primarily due to an increased rate of utilization of prescription drugs by members, the acquisition of NPA and higher drug ingredient costs. Excluding NPA, mail pharmacy claims processed increased 19.9%. In 2001, revenues for mail pharmacy services and mail pharmacy prescriptions filled increased $759,998,000, or 45.2% and 5,310,000 or 35.0%, respectively, over 2000 primarily due to increased membership and member utilization. The average revenue per mail pharmacy claim increased 11.1% in 2002 over 2001 and 7.6% in 2001 over 2000 primarily due to higher drug ingredient costs.
Our PBM cost of revenues increased 41.0% in 2002 over 2001 and 37.6% in 2001 over 2000, mainly as a result of the increase in PBM revenues discussed above. The increase in cost of revenues in 2002 was partially offset by a contract renegotiation with a large client, resulting in the elimination of a contract pricing reserve in the first quarter of 2002. The elimination of the reserve is a non-recurring, non-cash decrease in cost of revenues and was approximately $15 million. PBM cost of revenues grew slightly faster than revenues in 2002 and 2001 as a result of a larger percentage of our clients being recorded on the Gross Basis, for which we record the drug ingredient cost in cost of revenues (see further discussion under “-Critical Accounting Policies”).
During 2002, we early adopted EITF No. 02-16, “Accounting by a Reseller for Cash Consideration Received from a Vendor,” (see further discussion under “-Other Matters”). EITF 02-16 requires any consideration received from a vendor to be characterized as a reduction of cost of revenues. Therefore, our 2002, 2001 and 2000 revenues have been reduced by $926,750,000, $740,782,000, and $810,393,000, respectively. Cost of revenues have been reduced by the same amounts. These amounts represent the gross amount of rebates and administrative fees received from pharmaceutical manufacturers. Our client’s portion, a majority of such amounts, which represents in excess of 50%, will continue to be classified as a reduction of revenues. Our consolidated gross profit was not impacted as a result of this adoption.
The increase in revenue for non-PBM services in 2002 over 2001 is primarily due to the additional volume in SDS, including the sample card programs we administer for certain manufacturers, where we include the ingredient costs of pharmaceuticals dispensed from retail pharmacies in our SDS revenues. We also began recording revenues from PMG after the acquisition was completed on February 25, 2002. The increase in 2002 non-PBM revenues from SDS growth and the PMG acquisition was partially offset by the discontinuance of our acute home infusion services revenue-generating activities on June 12, 2001. The discontinuation of our acute home infusion services in 2001 was also a primary reason for the decrease in non-PBM revenues in 2001 as compared to 2000. The 2001 decrease from the sale of our Infusion Services subsidiary was partially offset by additional volume in SDS.
Selling, general and administrative expenses increased $93,001,000 or 25.9% in 2002 over 2001 due, in part, to the acquisitions of NPA and PMG, and costs incurred for the integration of NPA and PMG ($2,035,000 during the twelve months ended December 31, 2002). We regularly explore the use of emerging technologies to improve the operational and administrative support functions of providing the pharmacy benefit. Several projects designed to promote member, client and physician connectivity, enhance the adjudication process and improve the overall delivery of the pharmacy benefit were initiated during 2002. As a result of our review of the useful lives of assets supporting our business processes, we reduced the estimated useful lives of existing systems due to the progress in implementing new technologies. Accordingly, we recorded increased depreciation expense of $29,904,000 (of which $6,440,000 was recorded in cost of revenues) related to the shortened useful lives. During 2002, we recorded charitable contributions of approximately $13.8 million, the majority of which was contributed to the Express Scripts Foundation, an independent charitable foundation established by Express Scripts in 2001. The Express Scripts Foundation was established primarily to support healthcare and educational causes, (see “-Liquidity and Capital Resources”).
Increases in selling, general and administrative expenses from acquisitions, depreciation and contributions, as discussed above, were partially offset by the adoption of Financial Accounting Standards Board Statement No. (“FAS”) 142, “Goodwill and Other Intangible Assets,” which eliminates goodwill amortization. A total of $35,693,000 ($26,299,000 after tax) and $35,031,000 ($25,708,000 after tax) of goodwill was amortized in 2001 and 2000, respectively. Excluding depreciation and amortization, selling, general and administrative expenses as a percentage of revenue were 3.0% for the twelve months ended December 31, 2002 as compared to 3.2% last year and 3.9% for the twelve months ended December 31, 2000.
On February 22, 2001, we entered into an agreement with AdvancePCS and Medco Health Solutions, Inc. (formerly, Merck-Medco, L.L.C; “Medco”) to form RxHub, LLC (“RxHub”). RxHub is an electronic exchange enabling physicians who use electronic prescribing technology to link to pharmacies, PBMs and health plans. The company is designed to operate as a conduit of information among all parties engaging in electronic prescribing. We own one-third of the equity of RxHub (as do each of the other two founders) and have committed to invest up to $20 million over five years with approximately $9.5 million invested through December 31, 2002 and an additional $4.0 million to be invested during 2003. We have recorded our investment in RxHub under the equity method of accounting, which requires our percentage interest in RxHub’s results to be recorded in our Consolidated Statement of Operations. Our percentage of RxHub’s loss for 2002 and 2001 is $4,549,000 ($2,825,000 net of tax) and $1,834,000 ($1,139,000 net of tax), respectively, and has been recorded in other (expense) income, net in our Consolidated Statement of Operations. Our investment in RxHub (approximately $3,117,000 and $3,866,000 at December 31, 2002 and 2001, respectively) is recorded in other assets on our Consolidated Balance Sheet.
Net income increased $78,136,000 or 62.7% for the year ended December 31, 2002 over 2001. During 2002, we recorded an extraordinary charge of $1,027,000, net of tax, due to the write off of deferred financing fees on the prepayment of debt (see “-Liquidity and Capital Resources”).
An extraordinary loss on the early retirement of debt due to the write-off of deferred financing fees during the third and fourth quarters of 2000 totaling $1,790,000 ($1,105,000 net of tax) (see “-Liquidity and Capital Resources”)
An ordinary gain in the amount of $1,500,000 ($926,000 net of tax) on the restructuring of our interest rate swap agreements related to the early retirement of debt in the third quarter of 2000 (see “-Market Risk”)
As a percent of accounts receivables, our allowance for doubtful accounts was 3.5% and 2.7% at December 31, 2002 and 2001, respectively. We increased the allowance for doubtful accounts in 2002 primarily for certain customers who are experiencing financial difficulties in the current economy.
During the second quarter of 2002, the DoD TRICARE Management Activity selected us to provide mail pharmacy services for the TRICARE Program. The new five-year contract, which became operational at the beginning of March 2003, covers nearly nine million United States Armed Forces personnel and dependents worldwide. In preparation for this new contract, we purchased inventory of approximately $2.0 million during the fourth quarter of 2002. We incurred operating expenses, working capital expenditures and capital expenditures during the first quarter of 2003, including the purchase of $40.0 million additional inventory during the first quarter of 2003. Such expenditures were funded from operating cash flow.
In December 2000, the Department of Health and Human Services (“HHS”) issued final privacy regulations, pursuant to the Health Insurance Portability and Accountability Act of 1996 (“HIPAA”), which, among other things, impose restrictions on the use and disclosure of individually identifiable health information by certain entities. The compliance date for the final privacy regulations is April 14, 2003. We will be required to comply with certain aspects of these regulations. For example, we are a “business associate” under HIPAA in some instances with respect to our health plan clients and a “covered entity” under HIPAA when service is provided through our mail service pharmacies. We have established a plan and a process for implementing all necessary changes to our business operations by the April 14, 2003 compliance date. Other HIPAA requirements relate to electronic transaction standards and code sets and the security of protected health information when it is maintained or transmitted electronically. HHS issued final regulations establishing certain electronic transaction standards and code sets in August 2000, with some modifications published in February 2003. The compliance deadline for these regulations was October 16, 2002 (or, for certain small health care plans and entities that submitted an appropriate plan for compliance to the Secretary of HHS, October 16, 2003). Final security regulations under HIPAA were published on February 20, 2003, and for most entities, the compliance date for these regulations is April 21, 2005. We do not believe the costs we will incur in complying with these regulations will be material to our consolidated results of operations, consolidated financial position and/or consolidated cash flow from operations.
During 2002, we utilized internally generated cash to repurchase 2,046,000 shares of our Common Stock for $107,121,000. As of December 31, 2002, we have repurchased a total of 5,803,000 shares of our common stock under the stock repurchase program that we announced on October 25, 1996. As of December 31, 2002, approximately 3,818,000 shares have been reissued in connection with employee compensation plans. In July 2002, our Board of Directors authorized an increase in our stock repurchase program from 6,500,000 shares to 10,000,000 shares. There is no limit on the duration of the program. Additional common stock repurchases, if any, will be made in such amounts and at such times as we deem appropriate based upon prevailing market and business conditions, subject to restrictions on stock repurchases contained in our bank credit facility and the Indenture under which our Senior Notes were issued.
On March 1, 2001, our Canadian subsidiary, ESI Canada, Inc., completed its acquisition of Centre d’autorisation et de paiement des services de sante, Inc. (“CAPSS”), a leading Quebec-based PBM, for approximately CAN$26.8 million (approximately US$17.5 million), which includes a purchase price adjustment for closing working capital. The transaction, which was accounted for under the purchase method of accounting, was funded with our operating cash flow. The results of operations of CAPSS have been included in our consolidated financial statements and PBM segment since March 1, 2001. The purchase price has been allocated based upon the estimated fair value of net assets acquired at the date of the acquisition. The excess of the purchase price over tangible net assets acquired was allocated to intangible assets consisting of customer contracts in the amount of US$5,149,000 (at the March 1, 2001 exchange rate), which are being amortized using the straight-line method over the estimated useful life of 20 years and are included in other intangible assets, and goodwill in the amount of US$11,655,000 (at the March 1, 2001 exchange rate), which effective January 1, 2002 is no longer being amortized.
We regularly review potential acquisitions and affiliation opportunities. We believe available cash resources, bank financing or the issuance of additional common stock could be used to finance future acquisitions or affiliations. There can be no assurance we will make new acquisitions or establish new affiliations in the future.
The following table sets forth our schedule of current maturities of our long-term debt, excluding the deferred interest rate swap gain of $449,000 at December 31, 2002, and future minimum lease payments due under noncancellable operating leases (in thousands):
The Securities and Exchange Commission (“SEC”) previously announced plans to review prior filings of each of the Fortune 500 companies. We received a comment letter from the SEC with respect to our Annual Report on Form 10-K for 2001 and subsequent quarterly reports on Form 10-Q. Most issues raised by the SEC relate to segment reporting, disclosure and reclassification matters and would not affect our consolidated results of operations, which include gross profit and net income, or the consolidated balance sheet and consolidated statement of cash flows. One issue raised in the SEC comment letter is whether we should include in revenue copayments paid by individual members to retail pharmacies with respect to prescriptions filled in one of the Company’s retail networks. We do not include such copayments in revenue. If we are required to include retail copayments in revenue, it would result in an increase in reported revenue for 2002 and 2001 of approximately 15 percent to 30 percent; cost of revenue would increase by an amount equal to the increase in revenue. Thus, our consolidated results of operations, which include gross profit and net income, and the consolidated balance sheet and consolidated statement of cash flows would not be affected. We are in discussions with the SEC about the issues raised in the comment letter.
In 2002, we adopted FAS 141 and FAS 142,. FAS 141 requires all business combinations be accounted for using the purchase method of accounting. FAS 141 also defines acquired intangible assets and requires a reassessment of a company’s preexisting acquired intangible assets and goodwill be evaluated and adjusted to conform with that definition. The adoption of FAS 141 did not have a significant impact on our consolidated financial position, consolidated results of operations or our consolidated cash flows.
Effective January 1, 2002, we adopted FAS 144, “Accounting for the Impairment or Disposal of Long-Lived Assets.” FAS 144 requires that long-lived assets to be disposed of by sale be measured at the lower of book value or fair value, less cost to sell. Additionally, FAS 144 expands the scope of discontinued operations to include all components of an entity with operations that (1) can be distinguished from the rest of the entity and (2) will be eliminated from the ongoing operations of the entity in a disposal transaction. The implementation of FAS 144 did not have an impact on our consolidated financial position, consolidated results of operations or our consolidated cash flows.
In April 2002, FAS 145, “Rescission of FASB Statements No. 4, 44, and 64, Amendment of FASB Statement No. 13, and Technical Corrections,” was issued. In rescinding FAS 4, “Reporting Gains and Losses from Extinguishment of Debt,” and FAS 64 “Extinguishments of Debt Made to Satisfy Sinking-Fund Requirements,” FAS 145 eliminates the required classification of gains and losses from extinguishment of debt as extraordinary. This provision of FAS 145 is effective for financial statements issued for fiscal years beginning after May 15, 2002 and will be implemented by us in January 2003. As a result of implementing FAS 145, the write-off of deferred financing fees, previously recorded as extraordinary loss, will be recorded in interest expense with prior year amounts reclassified. Implementation of FAS 145 will not have a significant impact on our consolidated financial position, consolidated results of operations or our consolidated cash flows.
In July 2002, FAS 146, “Accounting for Costs Associated with Exit or Disposal Activities,” which deals with issues on the accounting for costs associated with a disposal activity, was issued. FAS 146 nullifies the guidance in EITF 94-3, “Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity (including Certain Costs Incurred in a Restructuring)” by prohibiting liability recognition based on a commitment to an exit/disposal plan. Under FAS 146, exit/disposal costs will be expensed as incurred. The provisions of FAS 146 are effective for exit or disposal activities initiated after December 31, 2002 and are not expected to have a significant impact on our consolidated financial position, consolidated results of operations or our consolidated cash flows.
In September 2002, the Emerging Issues Task Force released Issue (“EITF”) No. 02-16, “Accounting by a Reseller for Cash Consideration Received from a Vendor.” Under this pronouncement, any consideration received from a vendor is presumed to be a reduction of the prices of the vendor’s products and should, therefore, be characterized as a reduction of cost of sales. This EITF issue applies to rebates and to administrative fees received from pharmaceutical manufacturers for collecting, processing and reporting drug utilization data, for monitoring formulary compliance, and for calculating and distributing rebates to those of our clients for whom our PBM services includes the claim processing function. We have previously recorded rebates, net of the amount paid to our clients, and manufacturer administrative fees as components of revenue.
The transition provisions of EITF 02-16 require implementation for new arrangements, including modifications of existing arrangements, entered into after December 31, 2002. Early application is permitted as of the beginning of periods for which financial statements have not been issued and prior period reclassification is allowed to the extent there is no impact on net income. The application of the provisions of EITF 02-16 does not change our consolidated net income, consolidated gross profit, consolidated financial position or our consolidated cash flows. We have elected to early adopt the provisions of EITF 02-16. As a result of the adoption, our 2002, 2001 and 2000 revenues have been reduced by $926.8 million, $740.8 million and $810.4 million, respectively, representing the gross amount of rebates and administrative fees received from manufacturers. Cost of revenues have been reduced by the same amounts. We pay the majority of these amounts to our clients and the amounts that we pay over to our clients continue to be recorded as a reduction of revenue. Therefore, consolidated net income and consolidated gross profit have not changed.
At December 31, 2002, NYLIFE LLC owned shares of our Common Stock representing approximately 20.3% of the outstanding shares, which includes the right to vote 6,900,000 shares of Common Stock that the Express Scripts Automatic Exchange Security Trust (the “Trust”), a closed-end investment company that is not affiliated with us, may deliver upon exchange of the Trust issued investment units. New York Life has agreed on behalf of itself and its subsidiaries, to vote these 6,900,000 shares of our Common Stock prior to delivery thereof by the Trust to the holders of the Trust investment units in the same proportion and to the same effect as the votes cast by our other stockholders at any meeting of stockholders, subject to the following exceptions: New York Life has agreed to vote its 16,240,000 shares (which includes the above described 6,900,000 shares) in favor of the slate of nominees for directors recommended by our Board of Directors for election by stockholders (provided that, so long as New York Life is entitled to representation on the Board of Directors, such slate includes New York Life’s nominees).
In May 2001, our stockholders approved our Amended and Restated Certificate of Incorporation. Among the changes to the Certificate of Incorporation was an amendment that consolidated and renamed our classes of Common Stock. Prior to the amendment we had 181,000,000 authorized shares of Common Stock consisting of 150,000,000 shares of Class A Common Stock and 31,000,000 shares of Class B Common Stock. No shares of the Class B Common Stock were outstanding. Pursuant to the Amended and Restated Certificate of Incorporation, the Class B Common Stock was eliminated and each share of Class A Common Stock was renamed as “Common Stock.” As a result, we now have 181,000,000 shares of Common Stock authorized.
Effective January 1, 2001, we adopted FAS 133 as amended, “Accounting for Derivative Instruments and Hedging Activities.” FAS 133 requires all derivative financial instruments, such as interest rate swaps, to be recognized as either assets or liabilities in the Consolidated Balance Sheet and measured at fair value. The adoption of FAS 133 did not have a material effect on our financial statements, but did reduce other comprehensive income during 2001 by $3,589,000, net of taxes, in the accompanying Consolidated Statement of Changes in Stockholder’s Equity due to a cumulative effect of change in accounting principle of $612,000, net of taxes, and additional deferred losses recorded during 2001 of $2,977,000.
Our interest rate swap agreements are cash flow hedges which require us to pay fixed-rates of interest, and which hedge against changes in the amount of future cash flows associated with variable interest obligations. Accordingly, the fair value of our swap agreement, $5,786,000 and $5,798,000, pre-tax, at December 31, 2002 and 2001, respectively, is reported on the Consolidated Balance Sheet in other liabilities. The related deferred loss on our swap agreements, $3,585,000 and $3,589,000, net of taxes, at December 31, 2002 and 2001, respectively, is recorded in shareholders’ equity as a component of other comprehensive income. This deferred loss is then recognized as an adjustment to interest expense over the same period in which the related interest payments being hedged are recorded in income. The loss associated with the ineffective portion of this agreement is immediately recognized in income. For the years ended December 31, 2002 and 2001, the loss on the ineffective portion of our swap agreement was not material to the consolidated financial statements.
A sensitivity analysis is used to determine the impact interest rate changes will have on the fair value of the interest rate swap, measuring the change in the net present value arising from the change in the interest rate. The fair value of the swap is then determined by calculating the present value of all cash flows expected to arise thereunder, with future interest rate levels implied from prevailing mid-market yields for money-market instruments, interest rate futures and/or prevailing mid-market swap rates. Anticipated cash flows are then discounted on the assumption of a continuously compounding zero-coupon yield curve. A 10 basis point decline in interest rates at December 31, 2002 would have caused the fair value of the swap to change by $159,000 pretax, resulting in a liability with a fair value of $5,946,000.
In our opinion, the accompanying consolidated financial statements listed in the index under Item 15 (a)(1) present fairly, in all material respects, the financial position of Express Scripts, Inc. and its subsidiaries at December 31, 2002 and 2001, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2002 in conformity with accounting principles generally accepted in the United States of America. In addition, in our opinion, the financial statement schedule listed in the index appearing under Item 15(a)(1) presents fairly, in all material respects, the information set forth therein when read in conjunction with the related consolidated financial statements. These financial statements are the responsibility of the Company’s management; our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits of these statements in accordance with auditing standards generally accepted in the United States of America, which 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, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
Extraordinary item, net of taxes (1,027 ) (372 ) (1,105 )
Purchases of property and equipment (61,303 ) (57,286 ) (80,218 )
Organization and operations. We are one of the largest full-service pharmacy benefit management (“PBM”) companies independent of pharmaceutical manufacturer ownership in North America. We provide health care management and administration services on behalf of clients that include health maintenance organizations, health insurers, third-party administrators, employers and union-sponsored benefit plans. Our integrated PBM services include network claims processing, mail pharmacy services, benefit design consultation, drug utilization review, formulary management, disease management, medical and drug data analysis services, medical information management services, and informed decision counseling services through our Express Health LineSM division. We also provide non-PBM services, which include distribution services through our Express Scripts Specialty Distribution Services subsidiary (“SDS”), drug sample fulfillment and sample accountability services through our Phoenix Marketing Group, Inc. (“PMG”) subsidiary, and prior to June 12, 2001, infusion therapy services through our wholly-owned subsidiary, IVTx, Inc., operating as Express Scripts Infusion Services.
Basis of presentation. The consolidated financial statements include our accounts and those of all our wholly-owned subsidiaries. All significant intercompany accounts and transactions have been eliminated. Investments in affiliated companies, 20% to 50% owned, are carried at equity. Certain amounts in prior years have been reclassified to conform with the 2002 classifications (see - "New accounting guidance"). The preparation of the consolidated financial statements conforms to generally accepted accounting principles in the U.S., and requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual amounts could differ from those estimates and assumptions.
Cash and cash equivalents. Cash and cash equivalents include cash on hand and investments with original maturities of three months or less. We have banking relationships resulting in certain cash disbursement accounts being maintained by banks not holding our cash concentration accounts. As a result, cash disbursement accounts carrying negative balances of $134,841,000 and $107,113,000 have been reclassified to claims and rebates payable at December 31, 2002 and 2001, respectively.
Inventories. Inventories consist of prescription drugs and medical supplies that are stated at the lower of first-in first-out cost or market.
Marketable securities. All investments not included as cash and cash equivalents are accounted for under Financial Accounting Standards Board Statement No. (“FAS”)115, “Accounting for Certain Investments in Debt and Equity Securities.” Management determines the appropriate classification of our marketable securities at the time of purchase and reevaluates such determination at each balance sheet date. All marketable securities at December 31, 2002 and 2001 were recorded in other assets on our Consolidated Balance Sheet.
Other intangible assets. Other intangible assets include, but are not limited to, customer contracts, non-compete agreements, deferred financing fees, trade names and certain advance discounts paid to clients under contractual agreements and, excluding trade names which have an indefinite life, are amortized on a straight-line basis over periods from two to 20 years. The amount reported is net of accumulated amortization of $96,637,000 and $75,411,000 at December 31, 2002 and 2001, respectively. Amortization expense for customer contracts and non-compete agreements included in selling, general and administrative expenses was $12,540,000, $9,136,000 and $18,030,000 for the years ended December 31, 2002, 2001 and 2000, respectively. Amortization expense for deferred financing fees included in interest expense was $2,244,000, $2,009,000 and $2,391,000 for the years ended December 31, 2002, 2001 and 2000, respectively. Amortization expense for advance discounts paid to customers is recorded against revenue and was $4,786,000, $1,981,000 and $577,000 for 2002, 2001 and 2000, respectively.
Fair value of financial instruments. The carrying value of cash and cash equivalents, accounts receivable, claims and rebates payable, and accounts payable approximated fair values due to the short-term maturities of these instruments. The fair value, which approximates the carrying value, of our bank credit facility was estimated using either quoted market prices or the current rates offered to us for debt with similar maturity. The fair value of the interest rate swaps (an obligation of $5,786,000 and $5,798,000 at December 31, 2002 and 2001, respectively) was based on quoted market prices, which reflect the present values of the difference between estimated future fixed rate payments and future variable rate receipts. The fair value of our senior note facility ($267,615,000 and $265,073,000 at December 31, 2002 and 2001, respectively) was estimated based on quoted market prices.
Revenue recognition. Revenues from our PBM segment are earned by dispensing prescriptions from our mail pharmacies, processing claims for prescriptions filled by retail pharmacies in our nationwide network, and by providing services to drug manufacturers, including administration of rebate and discount programs.
Revenues related to the sale of prescription drugs by retail pharmacies in our nationwide network consist of the amount the client has contracted to pay us for the dispensing of such drugs together with any associated administrative fees. These revenues are recognized when the claim is processed. When we independently have a contractual obligation to pay our network pharmacy providers for benefits provided to our clients’ members, we act as a principal in the arrangement and we include the total payments we have contracted to receive from these clients as revenue, and payments to the network pharmacy providers as cost of revenue in compliance with Emerging Issues Task Force (“EITF”) Issue No. 99-19, “Reporting Gross Revenue as a Principal vs. Net as an Agent.” When a prescription is presented by a member to a retail pharmacy within our network, we are solely responsible for confirming member eligibility, performing drug utilization review, reviewing for drug-to-drug interactions, performing clinical intervention, which may involve a call to the member’s physician, communicating plan provisions to the pharmacy, directing payment to the pharmacy and billing the client for the amount they are contractually obligated to pay us for the prescription dispensed, as specified within our client contracts. We also provide benefit design and formulary consultation services to clients. We have separately negotiated contractual relationships with our clients and with network pharmacies, and under our contracts with pharmacies we assume the credit risk of our clients’ ability to pay for drugs dispensed by these pharmacies to clients’ members. Our clients are not obligated to pay the pharmacies as we are primarily obligated to pay retail pharmacies in our network the contractually agreed upon amount for the prescription dispensed as specified within our provider contracts. In addition, under many of our client contracts, we may realize a positive or negative margin represented by the difference between the separately negotiated ingredient costs we will receive from our clients and negotiated ingredient costs we will pay to our network pharmacies. These factors indicate Express Scripts is a principal as defined by EITF 99-19 and as such we record ingredient cost charged to clients in revenue and the corresponding ingredient cost paid to network pharmacies in cost of reveneus. In retail pharmacy transactions, amounts paid to pharmacies and amounts charged to clients are always exclusive of the applicable co-payment. Under our pharmacy agreements, the pharmacy is solely obligated to collect the co-payment from the member. As such, we do not include member co-payments to retail pharmacies in revenue or cost of revenue.
If we merely administer a client’s network pharmacy contracts to which we are not a party and under which we do not assume credit risk, we record only our administrative or dispensing fees as revenue (the “Net Basis”). For these clients, we earn an administrative fee for collecting payments from the client and remitting the corresponding amount to the pharmacies in the client’s network. In these transactions we act as a conduit for the client. Because we are not the principal in these transactions, drug ingredient cost is not included in our revenues or in our cost of revenues.
We bill clients based on a predetermined billing schedule. At the end of a period, any unbilled revenues related to the sale of prescription drugs by retail pharmacies are estimated based on the amount we will pay to the pharmacies and historical gross margin. Those amounts due from our clients are recorded as revenue as they are contractually due to us for past transactions. Minor adjustments are made to these estimated revenues to reflect actual billings at the time clients are billed.
Revenues from our non-PBM segment are derived from specialty distribution services, sample fulfillment and sample accountability services and through June 12, 2001, infusion services. Revenues earned by our specialty distribution subsidiary include administrative fees received from pharmaceutical manufacturers for dispensing or distributing of consigned pharmaceuticals requiring special handling or packaging. We also administer sample card programs for certain manufacturers and include the ingredient costs of those drug samples dispensed from retail pharmacies in our SDS revenues, and the associated costs for these sample card programs in cost of revenues. Because manufacturers are independently obligated to pay us and we have an independent contractual obligation to pay our network pharmacy providers for free samples dispensed to patients under sample card programs, we include the total payments from these manufacturers (including ingredient costs) as revenue, and payments to the network pharmacy provider as cost of revenue. These transactions require us to assume credit risk.
Our Phoenix Marketing Group subsidiary, records an administrative fee for verifying practitioner licensure and then distributing consigned drug samples to doctors based on orders received from pharmaceutical sales representatives.
Earnings per share. Basic earnings per share is computed using the weighted average number of common shares outstanding during the period. Diluted earnings per share is computed in the same manner as basic earnings per share but adds the number of additional common shares that would have been outstanding for the period if the potential dilutive common shares had been issued. The difference between the number of weighted average shares used in the basic and diluted calculation for all years are outstanding stock options and stock warrants (1,535,000, 1,738,000, and 833,000 in 2002, 2001 and 2000, respectively), any unvested shares and shares issuable pursuant to employee elected deferral under the executive deferred compensation plan (38,000, 22,000 and 3,000 in 2002, 2001 and 2000, respectively) and restricted stock we have issued (227,000, 196,000 and 1,000 in 2002, 2001 and 2000, respectively), all calculated under the “treasury stock” method in accordance with FAS 128, “Earnings Per Share.” Due to the net loss in 2000, all potentially dilutive common shares (942,000) have been excluded as they are anti-dilutive.
Foreign currency translation. The financial statements of ESI Canada, our Canadian operations, are translated into U.S. dollars using the exchange rate at each balance sheet date for assets and liabilities and a weighted average exchange rate for each period for revenues, expenses, gains and losses. The functional currency for ESI Canada is the local currency and cumulative translation adjustments ($837,000 and $1,004,000 at December 31, 2002 and 2001, respectively) are recorded within the other comprehensive income component of stockholders’ equity.
New accounting guidance. In July 2001, FAS 143, “Accounting for Asset Retirement Obligations” was issued. SFAS 143 addresses the financial accounting and reporting for obligations associated with the retirement of tangible long-lived assets and the associated asset retirement costs. FAS 143 requires the capitalization of any retirement costs as part of the total cost of the related long-lived asset and the subsequent allocation of the total expense to future periods using a systematic and rational method. FAS 143 is effective for fiscal years beginning after June 15, 2002. We have not determined the impact that this statement will have on our consolidated financial position or consolidated results of operations.
In April 2002, FAS 145, “Rescission of FASB Statements No. 4, 44, and 64, Amendment of FASB Statement No. 13, and Technical Corrections,” was issued. In rescinding FAS 4, “Reporting Gains and Losses from Extinguishment of Debt,” and FAS 64 “Extinguishments of Debt Made to Satisfy Sinking-Fund Requirements,” FAS 145 eliminates the required classification of gains and losses from extinguishment of debt as extraordinary. This provision of FAS 145 is effective for financial statements issued for fiscal years beginning after May 15, 2002 and will be implemented by us in January 2003. As a result of implementing FAS 145, the write-off of deferred financing fees, previously recorded as extraordinary loss, will be recorded in interest expense with prior year amounts reclassified to interest expense. Implementation of FAS 145 will not have a significant impact on our consolidated financial position, consolidated results of operations and/or our consolidated cash flows.
In July 2002, FAS 146, “Accounting for Costs Associated with Exit or Disposal Activities,” which deals with issues on the accounting for costs associated with a disposal activity, was issued. FAS 146 nullifies the guidance in EITF 94-3, “Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity (including Certain Costs Incurred in a Restructuring)” by prohibiting liability recognition based on a commitment to an exit/disposal plan. Under FAS 146, exit/disposal costs will be expensed as incurred. The provisions of FAS 146 are effective for exit or disposal activities initiated after December 31, 2002 and are not expected to have a significant impact on our consolidated financial position, consolidated results of operations and/or our consolidated cash flows.
In September 2002, the Emerging Issues Task Force released Issue “EITF” No. 02-16, “Accounting by a Reseller for Cash Consideration Received from a Vendor.” Under this pronouncement, any consideration received from a vendor is presumed to be a reduction of the prices of the vendor’s products and should, therefore, be characterized as a reduction of cost of sales. This EITF issue applies to rebates and to administrative fees received from pharmaceutical manufacturers for collecting, processing and reporting drug utilization data, for monitoring formulary compliance and for calculating and distributing rebates to those of our clients for whom our PBM services includes the claim processing function. We have previously recorded rebates, net of the amount paid to our clients, and manufacturer administrative fees as components of revenue.
Accumulated amortization at December 31, 2002 and 2001 includes cumulative, pre-tax, deferred financing fee write-offs of $15,689,000 and $14,034,000, respectively. Deferred financing fees are written off in conjunction with debt prepayments.
The aggregate amount of amortization expense of other intangible assets was $17,324,000, $11,045,000 and $18,607,000 for the twelve months ended December 31, 2002, 2001 and 2000, respectively. The future aggregate amount of amortization expense of other intangible assets is $22,851,000 for 2003, $22,515,000 for 2004, $21,625,000 for 2005, $16,456,000 for 2006 and $13,791,000 for 2007. The weighted average amortization period of intangible assets subject to amortization is 17 years in total, and by major intangible class is 20 years for customer contracts and six years for other intangible assets.
The following table compares our net income and per share amounts for twelve months ended December 31, 2002, to net income and per share amounts for the twelve months ended December 31, 2001 and 2000, adjusted to eliminate amortization of goodwill in 2001 and 2000.
Joint venture. On February 22, 2001, we entered into an agreement with AdvancePCS and Medco to form RxHub, LLC (“RxHub”). RxHub will be an electronic exchange enabling physicians who use electronic prescribing technology to link to pharmacies, pharmacy benefit management (“PBM”) companies and health plans. The company is designed to operate as conduit of information among all parties engaging in electronic prescribing. We own one-third of the equity of RxHub (as do each of the other two founders) and have committed to invest up to $20 million over the first five years of the joint venture with approximately $9.5 million invested through December 31, 2002 and an additional $4.0 million to be invested during 2003. We have recorded our investment in RxHub under the equity method of accounting, which requires our percentage interest in RxHub’s results to be recorded in our Consolidated Statement of Operations. Our percentage of RxHub’s loss for 2002 and 2001 is $4,549,000 ($2,825,000 net of tax) and $1,834,000 ($1,139,000 net of tax), respectively, and has been recorded in other income (expense), net, in our Consolidated Statement of Operations. Our investment in RxHub (approximately $3,117,000 and $3,866,000 at December 31, 2002 and 2001, respectively) is recorded in other assets on our Consolidated Balance Sheet.
Acquisitions. On December 19, 2002, we entered into an agreement with Managed Pharmacy Benefits, Inc. (“MPB”) under which we acquired certain assets from MPB for approximately $14.0 million in cash and entered into an outsourcing arrangement with respect to MPB’s operations. MPB is a St. Louis-based pharmacy benefit manager and subsidiary of Medicine Shoppe International, Inc., a franchisor of apothecary-style retail pharmacies, owned by Cardinal Health, Inc. MPB processes approximately 6.0 million retail claims and 85,000 mail order claims annually. The transaction was accounted for under the provisions of FAS 141, “Business Combinations.” The purchase price has been preliminarily allocated based upon the estimated fair value of net assets acquired at the date of the acquisition. A portion of the excess of purchase price over tangible net assets acquired has been preliminarily allocated to customer contracts in the amount of $2,526,000. This asset is included in other intangible assets on the balance sheet and is being amortized using the straight-line method over the estimated useful life of 20 years. In addition, the excess of the purchase price over tangible net assets and identified intangible assets acquired has been preliminarily allocated to goodwill in the amount of $15,000,000, which is not being amortized. The transaction was structured as a purchase of assets, making amortization expense of intangible assets, including goodwill, tax deductible.
As part of our agreement, PlanetRx was to pay us an annual fee of $11,650,000 and reimburse us for certain expenses of $3,000,000 over a five-year term, which could have extended to ten years if we met certain performance measures. Additionally, we were eligible to receive an incremental fee based upon the number of our members who placed their first order for prescription drug or non-prescription merchandise with PlanetRx. We recorded $10,423,000 and $3,000,000 of revenue during 2000 and 1999, respectively. We also reduced selling and general administrative expenses by $1,500,000 and $750,000 for reimbursement of certain expenses relating to our internet initiative during 2000 and 1999, respectively.
Term B loans due March 31, 2008 with an interest rate of
Our credit facility requires us to pay interest quarterly on an interest rate spread based on several London Interbank Offered Rates (“LIBOR”) or base rate options. To alleviate interest rate volatility, we have entered into interest rate swap arrangements (see Note 7). The credit facility contains covenants that limit the indebtedness we may incur, the common shares we may repurchase, dividends we may pay and the amount of annual capital expenditures. The covenants also establish a minimum interest coverage ratio, a maximum leverage ratio, and a minimum fixed charge coverage ratio. In addition, we are required to pay an annual fee of 0.25%, payable in quarterly installments, on the unused portion of the revolving credit facility ($150,000,000 at December 31, 2002). During 2002, the lenders approved the amendment of certain covenants, relating to restricted junior payments and asset sales, and a provision enabling a future accounts receivable securitization facility. At December 31, 2002, we are in compliance with all covenants associated with the credit facility.
In June 1999, we issued $250 million of 9.625% Senior Notes due 2009, of which $10.1 million was repurchased on the open market during 2000. The Senior Notes, which require interest to be paid semi-annually on June 15 and December 15, are callable at specified prepayment premiums beginning in June 2004. The Senior Notes are unconditionally and jointly and severally guaranteed by most of our wholly-owned domestic subsidiaries. The Senior Note indenture contains covenants that limit the indebtedness we may incur, the common shares we may repurchase, dividends we may pay, certain investing activity, and the amount of annual capital expenditures. The covenants also establish a minimum interest coverage ratio.
The following represents the schedule of current maturities for our long-term debt, excluding the deferred gain ($449,000 at December 31, 2002)from the restructuring of an interest rate swap agreement in 2000 (amounts in thousands):
In February 2003, we utilized internally generated cash to prepay $25 million of our Term B Loan. The prepayment eliminates the maturities for 2003 through 2006 and reduces our 2007 maturity to $69,250,000.
Extraordinary loss on early retirement of debt (628 ) (228 ) (685 )
The deferred tax assets and deferred tax liabilities recorded in the consolidated balance sheet are as follows:
We have entered into noncancellable agreements to lease certain office and distribution facilities with remaining terms from one to ten years. We have entered into noncancellable agreements to sublet two facilities with remaining terms of three and four years. Rental expense under the office and distribution facilities leases in 2002, 2001 and 2000 was $16,272,000, $14,654,000 and $12,041,000, respectively. The future minimum lease payments due under noncancellable operating leases and minimum sublease rentals to be received in the future under noncancellable subleases are as follows (in thousands):
In the ordinary course of business (which includes the business conducted by entities we have acquired, prior to such acquisitiioins), various legal proceedings, investigations or claims pending have arisen against us and our subsidiaries (ValueRx and DPS continue to be parties to proceedings that arose prior to their April 1, 1998 and April 1, 1999 respective acquisition dates). The effect of these actions on future financial results is not subject to reasonable estimation because considerable uncertainty exists about the outcomes. Nevertheless, in our opinion, the ultimate liabilities resulting from any such lawsuits, investigations or claims now pending are not expected to materially affect our consolidated financial position, consolidated results of operations and/or consolidated cash flows.
Also in May 2001, the stockholders approved an Amended and Restated Certificate of Incorporation. Among the changes to the Certificate of Incorporation was an amendment, which consolidated and renamed our classes of common stock. Prior to the amendment we had 181,000,000 authorized shares of common stock consisting of 150,000,000 shares of Class A Common Stock and 31,000,000 shares of Class B Common Stock, and no shares of the Class B Common Stock were outstanding. Pursuant to the Amended and Restated Certificate of Incorporation, the Class B Common Stock was eliminated and each share of Class A Common Stock was renamed as “Common Stock.” As a result, we now have 181,000,000 shares of Common Stock authorized.
Prior to November 7, 2000, NYLife Healthcare Management, Inc., a subsidiary of New York Life Insurance Company, owned all of our outstanding shares of Class B Common Stock. On November 7, 2000, NYLife Healthcare Management, Inc. exchanged each outstanding share of Class B Common Stock for one share of our Class A Common Stock and then immediately distributed such shares to NYLIFE LLC, another subsidiary of New York Life. Consequently, on November 7, 2000, we reacquired all of our outstanding Class B Common Stock. Immediately following the exchange and distribution to NYLIFE LLC, NYLIFE LLC completed the sale of 13,800,000 shares of our Class A Common Stock to the public through a secondary offering. Contemporaneously with this stock offering, the Express Scripts Automatic Exchange Security Trust, a closed-end investment company that is not affiliated with us, sold 6,900,000 investment units to the public. Upon maturity of the investment units, the Trust may deliver up to 6,900,000 shares of our Class A Common Stock owned by NYLIFE LLC to the holders of the investment units. We did not receive any proceeds from the secondary offering or the offering by the Trust.
In August 2001, New York Life and NYLIFE, LLC entered into a ten-year forward sale contract with an affiliate of Credit Suisse First Boston Corporation with respect to 4,500,000 of its shares of Express Scripts Common Stock. Absent the occurrence of certain accelerating events, NYLIFE, LLC has reported that it retains the right to vote such forward sale shares during the term of the Forward Sale Contract. On February 11, 2002, NYLIFE LLC completed a distribution of 11,740,000 of its shares of our Common Stock to its parent, New York Life Insurance Company (“New York Life”). This distribution does not affect New York Life’s rights or obligations with respect to our Common Stock as described above. At December 31, 2002, New York Life and its wholly-owned subsidiary, NYLIFE LLC, collectively, owned shares of our Common Stock representing approximately 20.3% of the combined voting power of all classes of our common stock, which includes the right to vote 6,900,000 Common Stock that the Trust may deliver upon exchange of the Trust issued investment units. New York Life has agreed on behalf of itself and its subsidiaries, to vote these 6,900,000 shares of our Common Stock prior to delivery thereof by the Trust to the holders of the Trust investment units in the same proportion and to the same effect as the votes cast by our other stockholders at any meeting of stockholders, subject to the following exceptions: New York Life has agreed to vote its 16,240,000 shares (which includes the above described 6,900,000 shares) in favor of the slate of nominees for directors recommended by our Board of Directors for election by stockholders (provided that, so long as New York Life is entitled to representation on the Board of Directors, such slate includes New York Life’s nominees).
As of December 31, 2002, approximately 2,916,245 shares of our Common Stock have been reserved for employee benefit plans (see Note 11).
Preferred Share Purchase Rights. In July 2001 our Board of Directors adopted a stockholder rights plan which declared a dividend of one right for each outstanding share of our common stock. The rights plan will expire on July 25, 2011. The rights are currently represented by our common stock certificates. When the rights become exercisable, they will entitle each holder to purchase 1/1,000th of a share of our Series A Junior Participating Preferred Stock for an exercise price of $300 (subject to adjustment). The rights will become exercisable and will trade separately from the common stock only upon the tenth day after a public announcement that a person, entity or group ("Person") has acquired 15% or more of our outstanding common stock ("Acquiring Person") or ten days after the commencement or public announcement of a tender or exchange offer which would result in any Person becoming an Acquiring Person; provided that any Person who beneficially owned 15% or more of our common stock as of the date of the rights plan will not become an Acquiring Person so long as such Person does not become the beneficial owner of additional shares representing 2% or more of our outstanding shares of common stock. In the event that any Person becomes an Acquiring Person, the rights will be exercisable for our common stock with a market value (as determined under the rights plan) equal to twice the exercise price. In the event that, after any Person becomes an Acquiring Person, we engage in certain mergers, consolidations, or sales of assets representing 50% or more of our assets or earning power with an Acquiring Person (or Persons acting on behalf of or in concert with an Acquiring Person), the rights will be exercisable for common stock of the acquiring or surviving company with a market value (as determined under the rights plan) equal to twice the exercise price. The rights will not be exercisable by any Acquiring Person. The rights are redeemable at a price of $0.01 per right prior to any Person becoming an Acquiring Person.
Retirement savings plan. We sponsor retirement savings plans under Section 401(k) of the Internal Revenue Code for all of our full time employees. Employees may elect to enter a written salary deferral agreement under which a maximum of 15% to 25% of their salary, subject to aggregate limits required under the Internal Revenue Code, may be contributed to the plan. For substantially all employees, we match 100% of the first 4% of the employees’ compensation contributed to the Plan. For the years ended December 31, 2002, 2001 and 2000, we had contribution expense of approximately $6,438,000, $4,994,000 and $4,718,000, respectively.
Stock-based compensation plans. In August 2000, the Board of Directors adopted the Express Scripts, Inc. 2000 Long-Term Incentive Plan which was subsequently amended in February 2001 and again in December 2001 (as amended, the “2000 LTIP”), which provides for the grant of various equity awards to our officers, Board of Directors and key employees selected by the Compensation Committee of the Board of Directors. The amended 2000 LTIP was approved by our stockholders in May 2001. As of December 31, 2002, 2,578,254 shares of our Common Stock are available for issuance under this plan. During 2002, 2001 and 2000, we granted approximately 54,000, 228,000 and 453,000 restricted shares of Common Stock, 509,000 were issued from shares held in treasury, under the 2000 LTIP to certain of our officers and employees. These shares are subject to various cliff-vesting periods from three to ten years with provisions allowing for accelerated vesting based upon specific performance criteria. Prior to vesting, these restricted shares are subject to forfeiture to us without consideration upon termination of employment under certain circumstances. Approximately 104,000 shares have been forfeited as of December 31, 2002. Unearned compensation relating to the restricted shares is recorded as a separate component of stockholders’ equity and is amortized to non-cash compensation expense over the estimated vesting periods. As of December 31, 2002, 2001 and 2000, unearned compensation was $5,698,000, $11,944,000 and $13,594,000, respectively, which is net of compensation expense for 2002, 2001 and 2000 of $8,250,000, $9,425,000 and $1,247,000, respectively.
As a result of the Board’s adoption and stockholder approval of the 2000 LTIP, no additional awards will be granted under either of our 1992 amended and restated stock option plans (discussed below) or under our 1994 amended and restated Stock Option Plan (discussed below). However, these plans are still in existence as there are outstanding grants under these plans.
We apply APB 25 and related interpretations in accounting for our plans. Accordingly, compensation cost has been recorded based upon the intrinsic value method of accounting for restricted stock and no compensation cost has been recognized for stock options granted. Had compensation cost for stock option grants been determined based on the fair value at the grant dates consistent with the method prescribed by FAS 123, our net income (loss) would have been reduced by $11,378,000, $9,763,000 and $10,670,000 for the years ended December 31, 2002, 2001 and 2000, respectively (see also Note 1).
A summary of the status of our fixed stock option plans as of December 31, 2002, 2001 and 2000, and changes during the years ending on those dates is presented below.
The following table summarizes information about fixed stock options outstanding at December 31, 2002:
Our Senior Notes are unconditionally and jointly and severally guaranteed by our wholly-owned domestic subsidiaries other than Great Plains Reinsurance Co., ValueRx of Michigan, Inc., Diversified NY IPA, Inc., and Diversified Pharmaceutical Services (Puerto Rico), Inc. The following condensed consolidating financial information has been prepared in accordance with the requirements for presentation of such information. We believe that this information, presented in lieu of complete financial statements for each of the guarantor subsidiaries, provides sufficient detail to allow investors to determine the nature of the assets held by, and the operations of, each of the consolidating groups. During 2000 and 2001, we undertook internal corporate reorganizations to eliminate various entities whose existence was deemed to be no longer necessary, including, among others, ValueRx, and to create several new entities to conduct certain activities, including Express Scripts Specialty Distribution Services (“SDS”), ESI Mail Pharmacy Service, Inc. (“ESI MPS”), Express Access Pharmacy, Inc. (“EAP”) and ESI Resources, Inc. (“ERI”). Consequently, the assets, liabilities and operations of ValueRx are included in those of the issuer, Express Scripts, Inc., and the assets, liabilities and operations of SDS, ESI MPS, EAP and ERI are included in those of the guarantors. Effective December 31, 2001, Practice Patterns Science, Inc. (“PPS”) was dissolved. The condensed consolidated non-guarantors’ financial statements for 2001 include the assets, liabilities and operations of PPS. During 2002, Phoenix Marketing Group LLC was established to acquire the assets of Phoenix. Subsequent to the acquisition on February 25, 2002, the assets, liabilities and operations of Phoenix Marketing Group, LLC have been included in those of the guarantors. In addition, subsequent to the acquisition of NPA on April 12, 2002, the assets, liabilities and operations of NPA have been included in those of the guarantors.
Purchase of property and equipment (43,994 ) (13,059 ) (233 ) -
Net cash (used in) investing activities (47,850 ) (12,249 ) (16,620 ) -
(3) As a result of adopting FAS No. 142 "Goodwill and Other Intangible Assets" at the beginning of 2002, we no longer amortize goodwill and other indefinite-lived intangible assets. Goodwill amortization totaled $35.7 million pre-tax ($26.3 million after tax) in 2001 (see Note 2).