On March 5, 2012, we entered into an amendment of our major Puerto Rico contract which provided approximately 68% of our operating revenue during 2011 and under which we provide mental health, substance abuse treatment, and pharmacy management services. Pursuant to the amendment, the original contract term was extended to December 31, 2012 and the current contract rate for pharmacy management services was increased by approximately 11% effective January 1, 2012.
We have recently launched an effort to expand our drug management program. We will offer to manage on an at-risk basis prescription drugs dispensed to members of health plans. We believe we can reduce drug costs for our clients that utilize our program.
To address the link between chronic back pain and clinical depression, we initiated a program to make available to the members we serve lumbar traction belts designed to alleviate, or ameliorate to a substantial extent, lower back pain. We signed an agreement to function as a distributor of the braces, which are lightweight ambulatory support devices that offer a high degree of mobility and can be worn under clothing while a person progresses through their daily activities.
We received notice in October 2011 that CBC had earned a three-year Full Accreditation by the NCQA. According to NCQA guidelines, a three-year Full Accreditation is the highest rating that can be achieved and is granted only to those organizations that meet NCQA’s rigorous standards for continuous quality improvement. NCQA accreditation is required by several of our client contracts and is frequently an important consideration to our prospective clients. CBC’s accreditation extends until October 2014.
ASO contracts. Revenue from ASO contracts increased by 22.5%, or approximately $0.5 million, to $2.8 million for 2011, due primarily to the addition of one significant ASO contract in 2011 with revenues of approximately $0.3 million, and additional business from a previously existing ASO client with increased revenues of approximately $0.6 million.
Pharmacy management contracts. Pharmacy revenue increased to $33.3 million for 2011 from $9.4 million 2010, primarily attributable to the Puerto Rico pharmacy contract that started September 18, 2010, which integrates psychotropic drug management services with traditional behavioral managed care.
Claims costs, at-risk behavioral health contracts. Claims costs increased by approximately 56.9%, or $10.2 million, for, 2011 as compared to 2010, due to the addition of additional revenues discussed above. Claims costs as a percentage of at-risk revenues increased to 80.4% for 2011 as compared to 76.5% for 2010 due to increased utilization of services in 2011.
Pharmacy drug costs. Pharmacy costs of $33.9 million for 2011 relates to behavioral prescription drugs primarily attributable to the new contract in Puerto Rico. Pharmacy costs as a percentage of pharmacy revenue was 101.8% for 2011 compared to 101.5% for 2010 due to higher than expected drug prices that were unrecoverable from premiums.
Contract loss allowance. Our review of contracts for premium deficiencies identified our Louisiana contract, which accounted for 4.8% of our operating revenues during the year ended December 31, 2011, as a contract for which it is probable that a loss will be incurred during the remaining contract term. We have submitted a request for a rate increase accompanied by supporting utilization data. No assurance can be given that such rate request will be granted. Based on available information, we have estimated the loss at $450,000 and established an allowance for the loss on our consolidated balance sheet at December 31, 2011.
Interest Expense. Interest expense, excluding amortization of debt discount, increased by approximately $100,000 in 2011 compared to 2010 due to an increase in the weighted average amount of debt financings from $5.9 million in 2010 to $6.5 million in 2011. The effective interest rate, excluding amortization of debt discount, for both 2011 and 2010 was approximated 16.9%.
At December 31, 2011, we had a working capital deficiency of approximately $25.5 million, including $2.5 million of debt that was past due and, therefore, in default, and a stockholders’ equity deficiency of approximately $16.5 million resulting from a history of operating losses. In their report on our 2011 financial statements, our auditors indicated that these conditions raise substantial doubt as to our ability to continue as a going concern.
Company operations during 2011 resulted in a net outflow of cash of approximately $4.0 million. Cash inflows were provided by financing activities consisting of the sale of unregistered common stock of approximately $1.0 million plus $4.0 million in new borrowings. Our ability to continue to borrow funds on an unsecured basis or on a secured basis is unknown, as well as our ability to sell our common stock in private placements. With the exception of contracted maturities of debt, there are no other known future liquidity commitments or events.
A further source of liquidity via borrowing is the renegotiation of a portion of our convertible subordinated debentures that were due in full on April 15, 2010. We were not able to repay the debentures on the due date, but as of February 29, 2012, have converted approximately $1.7 million, or 76%, of the outstanding debentures to three-year senior promissory notes with a fixed interest rate of 10%. In connection with issuing the senior promissory notes, we also issued warrants to purchase an aggregate of approximately 7.0 million shares of our common stock, each exercisable at a price of $0.25 and with a five year term.
Sales of common stock. We periodically sell our unregistered common stock in private placements. The funds from such sales have been used for working capital purposes. During the twelve months ended December 31, 2011, we raised approximately $1.0 million through the sale of our common stock.
Use of common stock and warrants to purchase common stock in lieu of cash. Certain vendors and note holders have accepted our common stock and warrants as payment for services, interest and debt. During the twelve months ended December 31, 2011, we avoided cash outlays of approximately $262,000 for services, interest and debt repayment by issuing our common stock or warrants to purchase common stock.
Accrued claims payable. Claims expense, a major component of cost of revenue, is recognized in the period in which an eligible plan member actually receives services and includes a provision for claims incurred but not reported (“IBNR”). We contract with various healthcare providers including hospitals, physician groups and other licensed behavioral healthcare professionals either on a discounted fee-for-service or a per-case basis. We determine that a member has received services when we receive a claim within the contracted timeframe with all required billing elements correctly completed by the service provider. We then determine whether the member is eligible to receive the service, the service provided is medically necessary and is covered by the benefit plan’s certificate of coverage, and the service is authorized by one of our employees, if required. If all of these requirements are met, the claim is entered into our claims system for payment.
Whenever we believe it is probable that a future loss will be incurred under our managed care contracts based on a perceived contractual premium deficiency, and we expect to be unable to cancel our obligation or renegotiate, and the amount of the loss can be reasonably estimated, we also provide for such expected losses. We perform this loss accrual analysis on a contract-by-contract basis by taking into consideration various factors such as future contractual revenue, estimated future healthcare and maintenance costs, and each contract’s specific terms related to future revenue increases as compared to expected increases in healthcare costs. The estimated future healthcare and maintenance costs are based on historical trends and expected future cost increases. Our analysis at December 31, 2011 identified one contract for which it is probable that a loss will be incurred during the remaining contract term. Based on available information, we have estimated the loss at $450,000 and established an allowance for the loss on our consolidated balance sheet. At December 31, 2010, no contract loss allowance for future periods was necessary.
Accrued claims payable consists primarily of amounts established for reported claims and IBNR claims, which are unpaid through the respective balance sheet dates. Our policy is to record management’s best estimate of IBNR. The IBNR liability is estimated monthly using an actuarial paid completion factor methodology and is continually reviewed and adjusted, if necessary, to reflect any change in the estimated liability as more information becomes available. In deriving an initial range of estimates, we use an industry accepted actuarial model that incorporates past claims payment experience, enrollment data and key assumptions such as trends in healthcare costs and seasonality. Authorization data, utilization statistics, calculated completion percentages and qualitative factors are then combined with the initial range to form the basis of management’s best estimate of the accrued claims payable balance. However, estimating IBNR claims involves a significant amount of judgment by our management. The following are the principal factors that would have an impact on our future operations and financial condition:
The accrued claims payable ranges were between $13.9 and $14.1 million at December 31, 2011 and between $8.1 and $8.3 million at December 31, 2010. Based on the information available, we determined our best estimate of the accrued claims liability to be $14.0 million and $8.3 million at December 31, 2011 and 2010 respectively. Our accrued claims liability at December 31, 2011 and 2010 includes approximately $7.3 million and $3.4 million, respectively, of submitted and approved but unpaid claims, $6.2 million and $4.9 million for IBNR claims, respectively, and $0.5 million and $0, respectively, of contract loss allowance. A 5% increase in assumed healthcare cost trends from those used in our calculations of IBNR at December 31, 2011 could increase our claims expense by approximately $132,000. Actual claims incurred could differ from estimated claims accrued.
Consolidated Statements of Operations, Years Ended December 31, 2011 and 2010
Consolidated Statements of Stockholders’ Equity Deficiency, Years Ended December 31, 2011 and 2010
Consolidated Statements of Cash Flows, Years Ended December 31, 2011 and 2010
We have audited the accompanying consolidated balance sheets of Comprehensive Care Corporation and Subsidiaries (the Company) as of December 31, 2011 and 2010 and the related consolidated statements of operations, stockholders’ equity deficiency, and cash flows for each of the two years in the period ended December 31, 2011. These consolidated financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits.
The accompanying consolidated financial statements have been prepared assuming that the Company will continue as a going concern. As discussed in Notes 1 and 7 to the consolidated financial statements, the Company has suffered recurring losses from operations and has not generated sufficient cash flows from operations to fund its working capital requirements. This raises substantial doubt about the Company’s ability to continue as a going concern. Management’s plans in regard to these matters are also described in Notes 1 and 7. The consolidated financial statements do not include any adjustments that might result from the outcome of this uncertainty.
The consolidated financial statements include the accounts of Comprehensive Care Corporation and its wholly owned subsidiaries, which include Comprehensive Behavioral Care, Inc. (“CBC”) and Core Corporate Consulting Group, Inc. (“Core”), each with their respective subsidiaries (collectively referred to herein as, the “Company,” “CompCare,” “we”, “us,” or “our”) .
The preparation of the consolidated financial statements in conformity with GAAP requires management to make estimates that affect the reported amounts. Actual results could differ from these estimates. Estimates involved in the determination of accrued claims payable, including incurred but not reported, are considered by management as particularly susceptible to material change in the next year. Other significant estimates relate to stock based compensation, valuation of warrants and beneficial conversion features.
Property and equipment (Note 3) is stated at cost less accumulated depreciation. Depreciation and amortization are computed using the straight-line method over the estimated useful lives ranging from 2 to 12 years. Leasehold improvements are amortized over the shorter of the lease term or the asset’s useful life.
We generally have the ability to cancel a contract with 60 to 90 days written notice or request a renegotiation of terms under certain circumstances, if a managed care contract is not meeting our financial goals. Prior to a cancellation, we typically submit a request for a rate increase accompanied by supporting utilization data. Although our clients have historically been generally receptive to such requests, no assurance can be given that such requests will be fulfilled in our favor in the future. If a rate increase is not granted, we have the ability, in some cases, to terminate the contract and limit our risk to a short-term period.
On a quarterly basis, we perform a review of our portfolio of contracts for the purpose of identifying loss contracts (as defined in Accounting Standards Codification (“ASC”) 944-60, “Premium Deficiency and Loss Recognition”) and developing a contract loss allowance, if applicable, for succeeding periods. Our review at December 31, 2011 identified one contract for which it is probable that a loss will be incurred during the remaining contract term. We have submitted a request for a rate increase accompanied by supporting utilization data. No assurance can be given that such rate request will be granted. Based on available information, we have estimated the loss at $450,000 and established an allowance for the loss on our consolidated balance sheet. At December 31, 2010, no contract loss allowance for future periods was necessary.
We also incur pharmacy expense under the contracts for which we manage the psychotropic drug benefit. Pharmacy expense is recognized in the period in which an eligible member actually receives psychotropic medications. The health plan’s PBM periodically reports the cost of drugs used, which is subtracted from our pharmacy management premium to yield a net payment to us or payment to the health plan, depending on actual drug usage. Healthcare operating expenses are any expenses associated with care administration, which are recognized in the period that they incur.
We accrue an estimate of incurred legal defense costs in connection with pending disputes and litigation matters as part of our estimated minimum probable losses (see Note 7c).
For the periods presented, since losses would produce anti-dilution, no diluted loss per common share is presented. The following table sets forth the computation of basic loss per common share (amounts in thousands, except per share data):
(1) This note was renewed in May 2011. As consideration for the renewal of the note now due in May 2012, detachable warrants to purchase 25,000 shares of our common stock at $0.25 per share were issued. The warrants were vested upon issuance and have a three-year term.
(6) In August 2011, the note holder agreed to a long-term repayment plan as described in paragraph (3) of Note 6, and accordingly, the obligation, which was originally payable on demand, was transferred to long-term debt.
(7) This convertible promissory note payable to a major stockholder bears interest annually at 24%, payable quarterly in arrears. The principal and accrued but unpaid interest may be converted at any time prior to maturity into our common stock at a conversion price of $0.25 per share. In conjunction with the loan, the note holder received warrants to purchase an aggregate of 1,000,000 shares of our common stock at $0.25 per share. The warrants were vested upon issuance and have a five-year term. The note was not repaid on its maturity date of June 4, 2011. While negotiating for a resolution with the note holder, we continue to accrue interest at the rate of 24%. As of December 31, 2011, interest of approximately $777,000 was due and not yet paid. For 2011 and 2010, we recognized approximately $648,000 and $458,000 of interest expense, respectively.
(3) In August 2011, we entered into an agreement with the note holder to combine two loan amounts: $250,000 and $200,000 described in paragraph (6) of Note 5. The combined loan amount is due to be repaid in equal monthly installments commencing November 2011 of $10,000 in principal, plus interest at 10%.
(4) Interest on these notes is payable quarterly, and the entire principal is due in February 2013. The note holders also received five-year warrants to purchase an aggregate of 900,000 shares of our common stock at $0.44 per share. The warrants were vested and exercisable at issuance.
(8) Represents an eighteen-month promissory note issued in November 2011 to a major stockholder for a $1,000,000 loan due May 2013. The note bears interest at the rate of 14% per year.
about the effects of prospective government action on healthcare, all of which are likely to continue to have far-reaching effects on economic activity for an indeterminate period. The effects and probable duration of these conditions on our future operations and cash flows, including our ability to obtain continued support from our major stockholders and bond holders cannot be estimated at this time.
In addition, our business is concentrated among a few major customer contracts as follows:
(2) Since 2002, we have provided behavioral healthcare services on an at-risk and ASO basis to approximately 215,000 members of a health plan providing Medicaid and Medicare benefits. The contract accounted for 5.4%, or $3.8 million, and 11.1%, or $3.9 million, of our revenues for 2011 and 2010 respectively. See Note 12 “Subsequent Events.”
During 2011, we made adjustments resulting in a net reduction to our aggregate provision for these matters by $0.5 million, offset by an equal reduction of general and administrative expense. Management believes that the remaining provision is adequate for the estimated probable minimum losses, including legal defense costs, to be incurred from these matters.
We have a defined contribution plan qualified under Section 401(k) of the Internal Revenue Code, for the benefit of our eligible employees. Matching contributions are at management’s discretion and were none in 2011 and $21,599 in 2010.
In the event Mr. Marcus’ employment is terminated without cause, or Mr. Marcus voluntarily terminates his employment within one year following a change in control, we will be obligated to pay to Mr. Marcus any accrued but unpaid bonuses and the total compensation which would have been paid to Mr. Marcus through five full years of compensation from the date of termination. Our total commitment to Mr. Marcus is not presently subject to reasonable estimation.
We also obtained a letter of credit in 2011 in the approximate amount of $1.9 million to collateralize two surety bonds that permit our appeal of judgments against us related to the matter described in paragraph c. (1) above.
the right to vote as a separate class and to appoint five directors of the Company,
liquidation preferences, whereby the Series C holders have a claim against our assets senior to the claim of the holders of our common stock in the event of our liquidation, dissolution or winding-up (the liquidation preference is $250 per share, or a total of approximately $2.6 million and $3.6 million at December 31, 2011 and 2010, respectively).
We also have a class of convertible preferred stock, Series D, that is authorized but for which no vested shares were outstanding at December 31, 2011. Effective January 4, 2012, 250 shares of Series D stock were issued that do not vest until the tenth anniversary of the grant date and are therefore will not be considered outstanding until that time. Such shares were issued in exchange for the cancelation of 120 previously granted warrants to purchase Series D shares. Once vested, a Series D preferred share will be convertible at any time into 100,000 shares of common stock, subject to adjustment in the event of any common stock dividend, split, combination thereof or other similar recapitalization, without additional consideration. Once vested, each Series D convertible preferred share will be entitled to the number of votes equal to those of 500,000 shares of common stock, irrespective of whether the share is vested. Unless otherwise required by applicable law, holders of vested shares of Series D will have the right to vote together with holders of common stock as a single class on all matters submitted to a vote of our stockholders. Holders of Series D convertible preferred shares, once vested, will also enjoy certain specified liquidation and dividend preferences.
During 2011, we issued warrants to purchase an aggregate of 14,997,833 shares of our common stock to key employees, consultant, note holders and investors. Shares acquirable pursuant to the warrants vest at the warrant grant date and/or at specified dates throughout the 36 month or 120 month term of the warrants. In addition, we reclassified 500,000 unvested warrants previously issued to a consultant who became a director of the Company during 2011. These warrants continued to vest after the status change.
The following table summarizes information about warrants granted, exercised and vested during 2011 and 2010:
We recognized approximately $1.7 million and $1.6 million of compensation costs related to warrants to purchase common stock during 2011 and 2010, respectively. Total unrecognized compensation costs related to warrants as of December 31, 2011 and 2010 was approximately $283,000 and $381,000 which is expected to be recognized over a weighted-average period of 31 and 38 months.
We might have recognized approximately $624,000 and $244,000 of tax benefits attributable to equity-based expense recorded for warrants issued to key employees for the years ended December 31, 2011 and 2010; however, this potential benefit was fully offset by our valuation allowance due to the aforementioned significant uncertainty of future realization.
As of December 31, 2011 and 2010, there were outstanding warrants to purchase up to 390 shares of our Series D convertible preferred stock of which 190 expire March 31, 2012 and 200 expire May 13, 2012. Each warrant may be exercised at any time prior to expiration at $25,000 per share. If the “market” value, as defined, of a share of Series D exceeds the exercise price, then the warrant holder may opt for a cashless exercise and receive the number of shares of Series D representing the net value of the warrant. The market value of a share of Series D is deemed by its terms to be equal to the product of (a) the per share traded market price of our common stock (a level 2 input) multiplied by (b) the number of shares of our common stock into which it is convertible.
We currently have three active incentive qualified option plans, the 1995 Incentive Plan, the 2002 Incentive Plan and the 2009 Equity Compensation Plan (collectively, the “Plans”), that provide for the granting of stock options, stock appreciation rights, limited stock appreciation rights, restricted preferred stock, and common stock grants to grantees. Grants issued under the Plans may qualify as incentive stock options (“ISOs”) under Section 422A of the Internal Revenue Code of 1986, as amended. Options for ISOs may be granted for terms of up to ten years. The vesting of options issued under the 1995 and 2002 plans generally occurs after six months for one-half of the options and after 12 months for the remaining options. For the 2009 Equity Compensation Plan, the vesting period is determined by the Compensation and Stock Option Committee. The exercise price for ISOs must equal or exceed the fair market value of the shares on the date of grant. The Plans also provide for the full vesting of all outstanding options under certain change of control events. As of December 31, 2011, there were a total of 4,575,268 options available for grant and 7,170,400 options outstanding, 6,465,800 of which were exercisable.
Effective January 13, 2012, we increased the aggregate number of shares of our common stock that may be issued under our 2009 Equity Compensation Plan from 10,000,00 to 50,000,000. The maximum number of common shares authorized for issuance pursuant to options under the Plans now totals 52,000,000.
Lastly, in December 2011, we issued to a consultant options to purchase up to 1,500,000 shares of our common stock. These options were issued outside the option plans described above.
During 2011 and 2010 we granted options to employees, non-employee directors and one consultant. Total recognized compensation costs during 2011 and 2010 were approximately $1.2 million and $165,000. As of December 31, 2011 and 2010, there was approximately $315,000 and 467,000 of unrecognized compensation cost related to options expected to be recognized over a weighted-average period of 19 and 24 months. We might have recognized approximately $404,000 and $9,000 of tax benefits attributable to stock-based compensation expense recorded during 2011 and 2010. However, this potential benefit was fully offset by our valuation allowance due to the aforementioned significant uncertainty of future realization.
A summary of our stock option activity and related information for 2011 and 2010 follows:
A summary of options outstanding and exercisable as of December 31, 2011 follows:
At December 31, 2011, we have federal net operating loss (“NOL”) carryforwards totaling approximately $34.1 million, of which approximately $4.6 million is not subject to Internal Revenue Code Section 382 limitations (currently approximating $361,000 per year) from previous changes in control. The NOLs will expire in 2022 through 2031. We are particularly vulnerable to additional changes in control in the near term due to probable future equity dilution or possible takeover resulting in further loss of our ability to utilize the remaining carryforwards pursuant to Section 382. Primarily based on the foregoing and other facts and circumstances discussed in Note 7b, management has determined that realization of tax benefits from our NOLs and other deferred tax assets is not more likely than not at this time and, accordingly has provided an effective 100% valuation allowance at December 31, 2011 and 2010, and deferred income tax assets and liabilities at December 31, (amounts in thousands) are as follows:
Reconciliation between the income tax expense and the amount computed by applying the statutory Federal income tax rate (34%) to loss before income tax is as follows (amounts in thousands):
On January 24, 2011, we entered into a separation agreement and consulting agreement with a former officer in conjunction with his resignation effective of the same date. The consulting agreement requires payments aggregating $250,000 to be paid over the 15 months following the date of the separation agreement for consulting services on financial matters. In addition, the separation agreement provides that the former officer will forgo payment of a deferred compensation balance of approximately $141,000 and a deferred bonus of $135,000 as of December 31, 2010.
Other than the events discussed elsewhere above and as follows, no events were identified that in our opinion require accounting recognition or disclosure in these financial statements.