(2) Includes approximately $1,237 from acquisition of Adenta, Inc. in June of 2005.
(3) The Company reorganized into a holding company structure in July of 2004 and Insurance Associates Plus, Inc. was formed in August of 2004.
(4) Total assets increased to approximately $12,250 in 2005 from approximately $9,668 in 2004 due to an increase in membership in our fully-insured and self-insured dental segments and the addition of the Adenta tangible and intangible assets.
Headquartered in Cincinnati, Ohio, Dental Care Plus Group offers to employer groups of all sizes dental HMO, dental PPO, dental indemnity and vision PPO benefit plans and related services. As of December 31, 2008, we had approximately 267,800 members in our dental and vision benefit programs with 2,206 dentists participating in our networks of providers.
We manage our business with three reportable segments: fully-insured dental, self-insured dental, and Corporate, All Other. Corporate, All Other consists primarily of certain corporate activities. Our dental HMO, PPO and indemnity products and our vision product line are marketed to employer groups. We identified our segments in accordance with Statement of Financial Accounting Standards (“SFAS”) 131 “Disclosures About Segments of an Enterprise and Related Information” which is consistent with information used by our Chief Executive Officer in managing our business. The segment information aggregates products with similar economic characteristics. These characteristics include the nature of employer groups and pricing, benefits and underwriting requirements.
The results of our fully-insured and self-insured dental segments are measured by gross profit. We do not measure the results of our Corporate, All Other segment. We do not allocate investment and other income, insurance expenses, or other assets or liabilities to our fully-insured and self-insured segments. These items are retained in our Corporate, All Other segment. Our segments do not share overhead costs and assets. We do, however, measure the contributions of each of our fully-insured and self-insured segments to costs retained in our Corporate, All Other segment.
In our original eight county service area, our non-exclusive dental HMO provider network includes approximately 94% of the dental providers in the market. In that market our dental HMO provides the broad provider access of a dental PPO along with effective utilization and cost control features. Because of the broad provider network, our fully-insured dental HMO is priced higher than other dental HMOs and has premium rates more equivalent to competitor dental PPOs.
Healthcare services expense has increased for both the fully-insured dental segment and the self-insured dental segment. We have increased our provider fee schedule at the beginning of each of the last five years; these fee schedule increases contribute to an increase in the healthcare services expense on a per member per month basis.
The introduction of the DentaPremier dental indemnity product in 2003 created new business opportunities for us with employer groups in our original eight county service area. The introduction of the DentaSelect dental PPO product has been instrumental to our new sales in the Dayton, Ohio and Central Kentucky markets.
Dental indemnity membership underwritten by a third party insurance carrier increased by approximately 400 members, or 50.0%, from approximately 800 members at December 31, 2007 to approximately 1,200 members as of December 31, 2008. Dental PPO membership underwritten by a third party insurance carrier decreased by approximately 6,900 members, or 75.0%, from approximately 9,200 members at December 31, 2007 to approximately 2,300 members at December 31, 2008. Fully-insured vision membership increased by approximately 4,200 members, or 60.9%, from approximately 6,900 members at December 31, 2007 to approximately 11,100 members at December 31, 2008.
million in 2008 that was offset by a decrease in fully-insured revenue of approximately $4.5 million due to the conversion of employer groups to the self-insured product line in 2007 and 2008. Approximately $27,000 of this premium revenue increase is associated with fully-insured dental premium rates during 2008. Fully-insured premium revenue increased by approximately $666,000 as a result of higher premium rates in 2008 on new sales and employer group renewals. This increase was offset by a decrease in premium revenue of approximately $639,000 due to the shift of employer groups with higher than average premium rates to the self-insured product.
Fully-insured dental HMO premium revenue decreased approximately $2,348,000 in 2008. This decrease is primarily due to the shift of employer groups to the self-insured dental HMO product in 2008 that were in the fully-insured dental HMO product in 2007, offset by the 2008 new sales of the fully-insured dental HMO product discussed above. Fully-insured dental indemnity premium revenue increased by approximately $918,000, or 335.0%, from approximately $274,000 in 2007 to approximately $1,192,000 in 2008. In 2006, the Company entered into a quota share group dental reinsurance agreement with a third party insurance company. The third party insurance company has agreed to indemnify the Company relative to its share of the insurance risk. This group dental reinsurance agreement that expired May 31, 2008 applied to certain group dental PPO policies underwritten by DCP in our expansion market. The fully-insured PPO premium revenue for the portion retained by DCP increased $2,067,000, or 226.4%, from approximately $913,000 in 2007 to approximately $2,980,000 in 2008.
Total self-insured revenue increased approximately $5,683,000 in 2008. This increase is attributable to the 24.2% increase in self-insured dental member months, an increase in self-insured ASO fee rates and a 3.7% increase in self-insured claim revenue on a per member per month basis in 2008 as compared to 2007. The self-insured segment revenue has two components:
Self-Insured ASO Fees-Self-insured ASO fees increased approximately $305,000, or 29.2%, from approximately $1,044,000 in 2007 to approximately $1,349,000 in 2008. These increases are primarily attributable to the 24.2% increase in self-insured dental member months and a significant increase in the average self-insured ASO fee rates. We provide administrative and claims processing services, benefit plan design, and access to our provider networks for an administrative fee, generally to self-insured groups. Our ASO fee revenue is recognized monthly when earned and is normally based on annual contracts with the self-insured groups.
Corporate, All Other premium revenue is primarily derived from the non-DCP dental indemnity product, dental PPO product and vision product underwritten by third party insurance carriers. In aggregate, Corporate, All Other premium revenue decreased by approximately $65,000, or 13.0%, from approximately $500,000 in 2007 to approximately $435,000 in 2008. During the first nine months of 2007, the dental indemnity product was underwritten by a third party insurance carrier and we were paid a portion of its premium in the form of administrative fees that cover our related costs and broker commissions. These dental indemnity administrative fees were approximately $124,000 for 2007 and approximately $42,000 for 2008. Our other dental PPO product is underwritten by third party insurance carriers and we are paid a portion of its premium in the form of administrative fees that cover our related costs and broker commissions. These dental PPO administrative fees decreased by approximately $21,000, or 11.5%, from approximately $182,000 in 2007 to approximately $161,000 in 2007. In addition, our fully-insured vision product is underwritten by a third party insurance carrier and we are paid a portion of its premium in the form of administrative fees that cover our related costs and broker commissions. These vision product administrative fees decreased by approximately $59,000, or 36.2%, from approximately $163,000 in 2007 to approximately $104,000 in 2008.
Investment income decreased approximately $46,000, or 17.1%, from approximately $269,000 in 2007 to approximately $223,000 in 2008. This decrease is primarily attributable to a decrease in prevailing interest rates during 2008.
Other income decreased approximately $14,000 in 2008. Dental provider network leasing revenue decreased approximately $15,000 in 2008 from approximately $28,000 in 2007 to approximately $13,000 in 2008 primarily due to the conversion of fully-insured dental PPO membership policies underwritten by Dental Care Plus, Inc. in 2008. Rental revenue earned from leasing a portion of the office building owned by our subsidiary Dental Care Plus decreased by approximately $11,000, or 19.0%, from approximately $58,000 in 2007 to approximately $47,000 in 2008 due to a vacancy in a portion of the office building in 2008. These decreases in other income were offset by certain increases in other income of approximately $12,000.
Self-insured healthcare services expense increased in 2008. This increase is attributable to both the 24.2% increase in self-insured dental HMO member months in 2008 compared to 2007, the provider fee schedule increase implemented at the beginning of 2008, and the shift of employer groups with higher than average healthcare services expense on a per-member-per-month basis into the self-insured product line.
In the normal course of business, the Company ceded portions of its written premium revenue. As such, the Company limits its loss exposure to that portion of the insurable risk that it retains. However, if a reinsurer fails to honor its obligations, the Company could suffer additional losses as the reinsurance contracts do not relieve the Company of its obligations to policyholders. The Company terminated its reinsurance contracts effective May 31, 2008. Dental insurance premiums ceded were approximately $121,000, $228,000 and $13,000 for the years ended December 31, 2008, 2007 and 2006, respectively. The healthcare services expense ceded was approximately $106,000, $189,000 and $10,000 for the years ended December 31, 2008, 2007 and 2006, respectively. The Company has approximately $5,000 and $27,000 of reinsurance recoverable and prepaid reinsurance premium net of reinsurance payable as of December 31, 2008 and 2007, respectively.
Consolidated insurance expenses increased approximately $702,000 in 2008. Total insurance expenses as a percentage of total premium revenue, or the insurance expense ratio, was 18.0% for 2008, decreasing 80 basis points from the 2007 ratio of 18.8%. Salaries and benefits increased by approximately $271,000, or 6.6%, due to staff pay increases implemented in 2008 and the addition of one full-time employee in the claims and customer service department. Commissions expense increased approximately $150,000, or 6.3%, primarily due to the increases in membership. Advertising expense for 2008 increased by approximately $128,000, or 45.9%, compared to 2007. This increase was primarily due to a significant advertising campaign in the Louisville, Kentucky market during 2008. Depreciation and amortization expense for 2008 increased approximately $41,000, or 10.1%, compared to 2007. This increase was due primarily to the purchase of new depreciable equipment and computer software in 2008. In 2008, board of directors expense increased approximately $59,000, or 11.3%, as a result of director compensation increases. Interest expense decreased $26,000, or 27.4%. The decrease is primarily attributable to a decrease in the interest expense associated with our capital lease and mortgage obligations as these obligations decreased. The remaining amount of approximately $79,000 is due to various operating expense increases in 2008 as compared to 2007.
Our effective tax rate for 2008 of 36.8% increased 2.7% compared to the 34.1% effective tax rate in 2007. Our 2008 effective tax rate was higher than the federal statutory rate due to applicable state and local taxes. In addition, in 2007 the Company had a one time decrease due to the change in the FIN 48 liability due to settlement of state income taxes and the elimination of certain non-deductible reorganization costs associated with acquiring the Dental Care Plus Life Insurance license. See Note 5 to the consolidated financial statements included in Item 8 - Financial Statements and Supplementary Data for a complete reconciliation of the federal statutory rate to the effective tax rate.
The following chart shows membership totals and revenues and expenses for our three business segments for the years ended December 31, 2007 and 2006 (in thousands, except for membership data and percentage change):
Our fully-insured membership increased by approximately 5,800 in 2007. Our fully-insured dental HMO membership decreased approximately 3,400 members, or 2.5%, from 137,100 at December 31, 2006 to 133,700 at December 31, 2007. This membership decrease is attributable to the reduction of approximately 14,900 fully-insured dental HMO members due to the conversion of two employer groups from our fully-insured dental HMO product to our self-insured dental HMO product effective July 1, 2007, offset by new fully-insured dental HMO sales in the Cincinnati/Northern Kentucky market of approximately 14,000 members. In addition, fully-insured dental HMO membership decreased by an additional 2,500 members due to a limited number of employer groups that did not renew their contracts with Dental Care Plus in the last 12 months. With the
Our self-insured dental HMO membership increased by approximately 21,800 members in 2007 primarily due to the conversion of 14,900 members of two employer groups from our fully-insured dental HMO product to our self-insured dental HMO product effective July 1, 2007. The remaining 6,900 member increase was the result of our adding a number of large new self-insured groups in Southwestern Ohio and Northern Kentucky.
Fully-insured dental HMO premium revenue increased approximately $838,000, or 2.2%, in 2007 as compared to 2006. Approximately $652,000 of this premium revenue increase is attributable to net membership volume increases in the dental HMO product line. Approximately $554,000 of this premium revenue increase is associated with dental HMO premium rate increases negotiated with employer groups at their annual renewals. These increases were offset by a decrease in Adenta premium revenue of approximately $368,000 during 2007 as the Adenta membership transferred to our dental PPO product or to another dental carrier. With the conversion of most of our dental indemnity membership to be underwritten by Dental Care Plus during 2007, the majority of the dental indemnity product is now underwritten by Dental Care Plus. In 2007, our fully-insured dental indemnity premium was approximately $274,000. Our fully-insured dental PPO premium revenue increased by $879,000, or 406.9%, from approximately $216,000 in 2006 to approximately $1,095,000 in 2007. The DCP fully-insured dental PPO was introduced in the third quarter of 2006. In 2006, the Company entered into a quota share group dental reinsurance agreement with a third party insurance company. The third party insurance company has agreed to indemnify DCP relative to its share of the insurance risk. This group dental reinsurance agreement applies to certain group dental PPO policies underwritten by DCP in our expansion markets. The fully-insured PPO premium revenue for the portion retained by DCP increased by approximately $860,000, from approximately $53,000 in 2006 to approximately $913,000 in 2007.
Self-Insured Claim Revenue-Self-insured claim revenue increased approximately $5,970,000, or 46.8%, from approximately $12,754,000 in 2006 to approximately $18,724,000 in 2007. This increase is due to the 34.9% increase in self-insured dental HMO membership along with a 6.0% increase in self-insured claim revenue on a per member per month basis in 2007 as compared to 2006.
Fully-insured dental HMO healthcare services expense decreased by approximately $58,000, or 0.2%, from approximately $30,178,000 in 2006 to approximately $30,236,000 in 2007. This decrease is primarily attributable to the 0.8 increase in fully-insured dental HMO member months in 2007 compared to 2006 and a slight decrease in utilization on a per member per month basis and a less expensive mix of services provided in 2007 compared to 2006 primarily due to the shift of employer groups with higher than average healthcare services expense on a per-member-per-month basis out of the fully-insured product line. The fully-insured Dental Care Plus dental indemnity product was introduced in the fourth quarter of 2007. The fully-insured Dental Care Plus dental indemnity healthcare services expense increased by approximately $243,000, from $0 in 2006 to approximately $243,000 in 2007. The fully-insured Dental Care Plus dental PPO product was introduced in the third quarter of 2006 and the fully-insured Dental Care Plus dental indemnity product was introduced in the fourth quarter of 2007. The fully-insured Dental Care Plus dental PPO healthcare services expense for the portion of the risk retained by DCP increased by approximately $718,000, from approximately $40,000 in 2006 to approximately $758,000 in 2007.
Consolidated insurance expenses increased approximately $1,369,000, or 13.9%, from approximately $9,875,000 in 2006 to approximately $11,244,000 in 2007. Total insurance expenses as a percentage of total premium revenue, or the insurance expense ratio, was 18.8% for 2007, decreasing 30 basis points from the 2006 ratio of 19.1%. Salaries and benefits increased by approximately $676,000 due to the addition of sales & marketing and provider relations staff for the expansion in the Dayton, Louisville and Lexington markets as well as additional operational and finance staff to support our expanded activities. Commissions expense increased approximately $525,000 primarily due to the increases in membership. Depreciation and amortization expense for 2007 decreased approximately $211,000, or 34.2%, compared to 2006. These decreases were due primarily to
a decrease in the amortization of the identifiable assets acquired in the acquisition of Adenta after the write down of the intangible asset associated with the Adenta network lease contract with Humana Dental in July of 2006. In 2007, board of directors expense increased approximately $180,000, or 52.3%, from approximately $344,000 in 2006 to approximately $524,000 in 2007 as a result of director compensation increases and additional board committee meetings. Interest expense decreased $26,000, or 21.5%, from approximately $121,000 in 2006 to approximately $95,000 in 2007. The decrease is primarily attributable to a decrease in the interest expense associated with our capital lease and mortgage obligations as these obligations decreased. The remaining amount of approximately $225,000 is due to various operating expense increases in 2007 as compared to 2006.
Our effective tax rate for 2007 of 34.1% decreased 11.4% compared to the 45.5% effective tax rate in 2006. Our 2007 effective tax rate is lower than the federal statutory rate due to a decrease in applicable state and local taxes, change in the FIN 48 liability due to settlement of state income taxes and the elimination of certain non-deductible reorganization costs associated with acquiring the Dental Care Plus Life Insurance license that were no longer applicable during 2007. See Note 5 to the consolidated financial statements included in Item 8 - Financial Statements and Supplementary Data for a complete reconciliation of the federal statutory rate to the effective tax rate.
Our primary sources of cash are premiums, ASO fees, investment and other income, as well as the proceeds from the sale or maturity of our investment securities and from borrowings. Our primary uses of cash include disbursements for claims payments, selling, general and administrative expenses, interest expense, taxes, purchases of investment securities, capital expenditures, acquisitions, redeemable common shares redemptions, and payments on borrowings. Because premiums are collected in advance of claims payments, our business should normally produce positive cash flows during a period of increasing enrollment. Conversely, cash flows would be negatively impacted during a period of shrinking enrollment. Cash increased approximately $265,000, or 11.7%, for the year ended December 31, 2008 to approximately $2.5 million at December 31, 2008 from approximately $2.3 million at December 31, 2007. Cash decreased approximately $2.9 million or 55.8%, to approximately $2.3 million at December 31, 2007 from approximately $5.2 million at December 31, 2006. The change in cash for the years ended December 31, 2008, 2007 and 2006 is summarized as follows (in thousands):
In 2006, we generated approximately $1.4 million of cash by operating activities and realized net income of approximately $103,000. In addition to our 2006 net income, we recognized depreciation and amortization of approximately $616,000. Other sources of cash include: increases in our other assets, claims payables, other payables and deferred compensation totaling approximately $964,000. These sources of operating cash were offset by a decrease in our unearned premium revenue of approximately $132,000 and increases in accounts receivable, accrued investment income and deferred income taxes totaling approximately $152,000.
In 2007, we paid $120,000 of our outstanding mortgage balance, approximately $210,000 in capital lease payments for our dental administration software, and approximately $55,000 of the principal balance of the Adenta debt assumed in 2005. During 2007, we repurchased redeemable common shares with a value of approximately $62,000, which was offset by the issuance of redeemable commons shares with a value of approximately $266,000. There were no new financing commitments executed in 2007.
In 2006, we paid $120,000 of our outstanding mortgage balance, $198,000 in capital lease payments for our dental administration software, and $95,000 of the principal balance of the Adenta debt assumed in 2005. During 2006, we repurchased redeemable common shares with a value of approximately $141,000, which was partially offset by the issuance of redeemable commons shares with a value of approximately $35,000. There were no new financing commitments executed in 2006.
Our mortgage note matures in June 2013. The note requires us to make principal payments of $10,000 per month, and bears interest at a variable rate of 30-day LIBOR plus 1.75%. Our revolving note matures on December 15, 2009 and requires us to make monthly interest payments at a variable rate of 30-day LIBOR plus 1.75%.
In December of each year our Board evaluates the projected pre-tax income of our dental HMO plans, capital and surplus requirements prescribed by the Ohio Department of Insurance and factors impacting our A.M. Best financial strength rating, such as the ratio of our projected fully-insured premium revenue to our projected capital and surplus level. In addition, the Board considers the capital expenditures needed to support strategic objectives for the coming years (such as the implementation of the new dental plan administration system, expansion of office space and acquisition of office equipment for new employees) and our estimated federal income tax liability. After considering these and any other factors deemed relevant, the Board determines the amount of the provider withhold that may be paid to participating dental providers, if any. Each participating dental provider’s share of the provider withhold payment is based on the proportionate amount of claims submitted by such participating dental provider in relation to the total claims submitted by all participating dental providers in a given year, expressed as a percentage, and is not related to or dependent upon any such provider’s holdings of shares in the Company. Payments authorized by the Board are accrued in the fourth quarter of the fiscal year. The Board authorized amounts of return of withhold amounting to $464,000, $650,000 and $900,000 for the years ended December 31, 2008, 2007 and 2006, respectively.
Based on historical experience, the Board may authorize an aggregate provider withhold payment between 0% and 45% of the approximate $5.3 million provider withhold expected for 2009, or a maximum of $2.4 million. We also expect that the Board may authorize aggregate provider withhold payments for calendar years 2010 through 2012 in amounts between 0% and 45% of the total provider withhold amounts for those years and that the level of provider withhold payments for 2010 through 2012 could be greater than 45% depending upon the Company’s performance. However, the Board will not authorize an aggregate provider withhold payment for any year that would result in an operating loss for the year in review. These forecasted amounts are based on projections of future claims revenues and certain planning assumptions and estimates currently being made with respect to future application of the factors historically considered by the Board in making its determination to authorize the payment of withhold amounts. These planning assumptions reflect management’s current expectations and views about future events and are subject to risks, uncertainties and other factors that could cause actual withhold payment amounts to differ materially from these stated assumptions. Important factors that could cause actual results to differ materially from those being planned for, include, among others: claims exceeding or not meeting our estimates, a threatened or actual downgrade in our financial strength rating, the loss of a significant customer or broker, the loss of a large employer group and an unexpected increase or decrease in dental service utilization by our dental members.
(1) Our swap interest payments are based on a fixed rate of 4.95%. We estimate that we will receive swap interest payments totaling approximately $82,000 based on a variable rate of LIBOR plus 1.75% or 3.19%, as of December 31, 2008.
This increase in cash and short term investments from December 31, 2007 to December 31, 2008 is primarily due to the cash generated by operating activities of $1,660,000 and the net cash generated by financing activities of $247,000, offset by the cash invested in property, plant and equipment of $321,000. In addition to this increase in cash and short term investments of approximately $1.6 million, there was a shift of approximately $200,000 in FDIC insured certificate of deposit investment from long term investments to short term investments during this period.
On December 18, 2008, we executed a revolving note with a commercial bank in the amount of $650,000 collateralized by a second mortgage on the office building owned by Dental Care Plus, Inc. As of December 31, 2008, there was a principal balance outstanding of $630,000 related to this revolving note. This revolving note matures on December 15, 2009, is annually renewable and requires us to make monthly interest payments at a variable rate of 30-day LIBOR plus 1.75%.
Together our cash, short term investments and working capital lines of credit we believe are sufficient to meet our short term and long term liquidity needs. In the short term, we are obligated to make payments related to our contractual obligations such as our building mortgage, computer system capital lease, and our operating leases and other commitments (see contractual obligations and other commitments). In the long term, we will continue to be obligated to make payments related to our contractual obligations delineated above. We will also be obligated in certain circumstances to repurchase the redeemable shares of our provider shareholders who die,
are permanently disabled, or retire. Our Board of Directors establishes limitations on the amount of share redemptions each year. While we are not able to estimate future redeemable common share redemptions, we repurchased approximately $68,000, $62,000, and $141,000 of redeemable common shares in the years ended December 31, 2008, 2007 and 2006, respectively. We believe our cash balances, investment securities, operating cash flows, and borrowing capacity, taken together, provide adequate resources to fund ongoing operating and regulatory requirements and fund future expansion opportunities and capital expenditures in the foreseeable future.
On December 18, 2006, the Ohio Department of Insurance approved Dental Care Plus, Inc.’s application for a life and health insurance license. As an Ohio-domiciled insurance company dually licensed as a life and health insurer and a specialty health insuring corporation, Dental Care Plus is now able to underwrite dental indemnity, dental PPO, dental HMO, and vision benefit products as well as other life and health oriented products in Ohio. Accordingly, the required capital and surplus for Dental Care Plus licensed as a life and health insurance company in Ohio was $2.5 million at December 31, 2008.
We maintained aggregate statutory capital and surplus of approximately $5.2 million as of December 31, 2008 and were in compliance with applicable statutory requirements. Although the minimum required levels of equity are largely based on premium volume, product mix, and the quality of assets held, minimum requirements can vary significantly from state to state. Given our anticipated premium growth in 2009 resulting from the expansion of our networks and membership, capital requirements will increase. We expect to fund these increased requirements through the retention of earnings, investment in Dental Care Plus of the earnings of other subsidiaries and capital raised in future redeemable common and preferred share offerings.
The fair market value of the variable to fixed interest rate swap contract (net of income tax effects) decreased by $42,885 in the year ended December 31, 2008 due to a decrease in prevailing interest rates during 2008. The fair market value of the variable to fixed interest rate swap contract (net of income tax effects) decreased by $30,096 in the year ended December 31, 2007 due to a decrease in prevailing interest rates during 2007. The fair market value of the variable to fixed interest rate swap contract (net of income tax effects) decreased by $3,953 in year ended December 31, 2006 due to a decrease in expected future interest rates during 2006. The fair market value of the variable to fixed interest rate swap contract was a liability of $37,969 and is included in other payables and accruals at December 31, 2008. The fair market value of the variable to fixed interest rate swap contract was an asset of $27,009 and $72,609 and is included in other assets at December 31, 2007 and 2006, respectively.
Goodwill arises in business combinations when the purchase price of assets acquired exceeds the appraised value. As with tangible and other intangible assets, periodic impairment reviews are required, at least annually, as well as when events or circumstances change. Management uses judgment in assessing goodwill for impairment. We review the recorded value of our goodwill annually or sooner if events or changes in circumstances indicate that the carrying amount may exceed fair value. The review for impairment requires management to predict the estimated cash flows that will be generated by the long-lived asset over its remaining estimated useful life. Considerable judgment must be exercised in determining future cash flows and their timing and choosing business value comparables or selecting discount rates to be used in any value computations.
Business acquisitions often result in recording intangible assets. Intangible assets are recognized at the time of an acquisition, based upon their fair value. Similar to long-lived tangible assets, our intangible assets are subject to amortization and periodic impairment reviews whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. As with tangible assets, considerable judgment must be exercised.
Our estimated liability for claims payable and corresponding healthcare service expense includes claims incurred but not reported (“IBNR”), claims reported but not yet processed and paid and other healthcare services expenses incurred, including estimated costs of processing outstanding claims and actual amounts of accrued but unpaid payments in respect of our Dental Care Plus provider withhold which have been authorized by our Board of Directors. Our estimated liability for claims payable is based primarily on the average historical lag time between the date of service and the date the related claim is paid, taking into account recent trends in payment rates and the average number of incurred claims per covered individual in the most recent 12 month period.
At December 31, 2008, our estimated total claims payable liability included approximately $2.6 million for Dental Care Plus, comprised of IBNR of approximately $1.4 million and reported claims in process of approximately $718,000. Other healthcare services expenses at December 31, 2008 included approximately $56,000 for the estimated cost of processing outstanding claims and an accrued but unpaid provider withhold payment of $464,000. The provider withhold liability was recognized in December 2008 when it was authorized by our Board of Directors.
At December 31, 2007, our estimated total claims payable liability included approximately $2.5 million for Dental Care Plus, comprised of IBNR of approximately $1.2 million and reported claims in process of
approximately $610,000. Other healthcare services expenses at December 31, 2007 included approximately $45,000 for the estimated cost of processing outstanding claims and an accrued but unpaid provider withhold payment of $650,000. The provider withhold liability was recognized in December 2007 when it was authorized by our Board of Directors.
(b) Reflects estimated potential changes in incurred claims payable liability caused by annualized claims trend used for the estimation of the per member per month incurred claims for the most recent month.
Based on historical experience, the completion factors we use to estimate outstanding IBNR and reported claims in process are highly reliable for predicting actual claims paid at future times, with a variance range of approximately one-half of one percent, plus or minus. The claims trend factors we use to estimate outstanding IBNR and reported claims in process for the most recent month are somewhat less reliable based on historical experience, with a variance range of approximately two percent, plus or minus. We have found that the estimated claims trend factor can be higher or lower than what the paid claims data indicates with the passage of time primarily because of factors beyond our control, such as the level of utilization of services by dental members and the expected and actual mix of the types of services received by dental members.
In February 2008, the FASB issued FASB Staff Positions (“FSP”) No. 157-2, which delayed the effective date of SFAS No. 157 “Fair Value Measurements” for non-financial assets and non-financial liabilities that are recognized or disclosed at fair value in the consolidated financial statements on a nonrecurring basis. This FSP delayed the effective date to fiscal years beginning after November 15, 2008. However, this scope exception does
In our opinion, such consolidated financial statements present fairly, in all material respects, the financial position of the Company as of December 31, 2008 and 2007, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2008, in conformity with accounting principles generally accepted in the United States of America. Also in our opinion, such financial statement schedules, when considered in relation to the basic consolidated financial statements taken as a whole, present fairly, in all material respects, the information set forth therein.
As discussed in Note 6, the Company adopted the provisions of Financial Accounting Standards Board Interpretation No. 48, Accounting for Uncertainty in Income Taxes, on January 1, 2007.
AS OF DECEMBER 31, 2008 AND 2007 AND FOR EACH OF THE THREE YEARS IN THE PERIOD ENDED DECEMBER 31, 2008, 2007 and 2006
DCP Holding Company (the “Company”) is the parent holding company of three wholly-owned subsidiaries which include Dental Care Plus, Inc., or Dental Care Plus, an Ohio corporation, Insurance Associates Plus, Inc., or Insurance Associates, an Ohio corporation, and Adenta, Inc., or Adenta, a Kentucky corporation. The Company is owned and controlled primarily by 630 dentists who participate in our Dental Care Plus plans. The Company offers to employer groups of all sizes health maintenance organization (“HMO”), participating provider organization (“PPO”) and indemnity plans for dental care services. As of December 31, 2008, the Company had approximately 256,700 members in its dental benefits programs with 2,206 dentists participating in its two provider networks in Southwestern Ohio, Northern Kentucky, Central Kentucky and Southeastern Indiana. In addition, the Company had approximately 11,200 members in its vision benefit programs. The Company markets its products through a network of independent brokers.
Basis of Presentation-The accompanying consolidated financial statements include the accounts of the Company and subsidiaries, each of which is wholly-owned, and have been prepared in conformity with accounting principles generally accepted in the United States of America. All significant intercompany accounts and balances have been eliminated in consolidation. The Company presents its financial statements to conform with Article 7 of the Securities and Exchange Commission Regulation S-X pursuant to Section 13-15(d) of the Securities Exchange Act of 1934. With the amendment of its fully-insured customer contracts to be non-cancelable by the Company, the Company meets the criteria of an insurance company as defined in the Securities Exchange Act of 1934.
Investments-The Company places its investments primarily in certificates of deposit and a money market mutual fund. The Company classified all investments as available-for-sale. Such investments are recorded at fair value, with unrealized gains and losses recorded as a component of other comprehensive income. The Company recognizes gains and losses when these securities mature or are sold using the specific identification method. Management follows a consistent and systematic process for recognizing impairments on securities that sustain other-than-temporary declines in value. The decision to impair a security incorporates both quantitative criteria and qualitative information. The impairment review process considers a number of factors including, but not limited to the length of time and the extent to which the fair value has been less than cost, the Company’s intent and ability to retain impaired investments for a period of time sufficient to allow for any anticipated recovery in value, and general market conditions.
The Company reviews property and equipment for impairment whenever events or changes in circumstances, such as significant decreases in market values of assets, changes in legal factors or in the business climate, and accumulation of costs significantly in excess of the amount originally expected to acquire or construct an asset, or other such factors indicated that the carrying amount may not be recoverable.
Goodwill and Intangible Assets-Goodwill arises in business combinations when the purchase price of net assets acquired exceeds the appraised value. As with tangible and other intangible assets, periodic impairment reviews are required, at least annually, as well as when events or circumstances change. Management uses judgment in assessing goodwill for impairment. Management reviews the recorded value of our goodwill annually, or sooner if events or changes in circumstances indicate that the carrying amount may exceed fair value. The review for impairment requires management to predict the estimated cash flows that will be generated by the long-lived asset over its remaining estimated useful life. Considerable judgment must be exercised in determining future cash flows and their timing and choosing business value comparables or selecting discount rates to be used in any value computations.
Business acquisitions often result in recording identifiable intangible assets. Identifiable intangible assets are recognized at the time of an acquisition, based upon their fair value. Similar to long-lived tangible assets, the Company’s identifiable intangible assets are subject to amortization and periodic impairment reviews whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. As with tangible assets, considerable judgment must be exercised.
Deferred Acquisition Costs-Deferred acquisition costs are those costs that vary with and are primarily related to the acquisition of new and renewal business. Such costs include commissions, costs of contract issuance and underwriting, premium taxes and other costs the Company incurs to acquire new business or renew existing business. Effective May 1, 2008, the Company defers policy acquisition costs and amortizes them over the estimated life of the contracts, which are generally short-duration in nature, in proportion to premiums
Redeemable Common Shares-The Company’s Class A and Class B redeemable common shares are owned by participating providers and Company directors. Only participating providers in our service area that includes all counties located in Ohio and Kentucky are eligible to own Class A voting redeemable common shares (See Note 10). All participating providers, Company directors and Company employees are eligible to own the Class B non-voting redeemable common shares. To comply with the requirements of EITF D-98, the Company’s Class A and Class B common shares are considered to be redeemable common shares due to the fact that the shareholders have the option to require the Company to repurchase these shares upon their death, permanent disability or retirement. The Company records Class A and Class B common shares as Redeemable Common Shares in the consolidated balance sheets outside of shareholders’ equity at the redemption value of the common shares. Accordingly, the Company records any net income (loss) or other comprehensive income (loss) as a change to the redemption value of the Redeemable Common Shares to accrete the carrying value of the Redeemable Common Shares to the redemption value at the end of each reporting period. Under this method, the end of the reporting period is treated as if it were also the redemption date for the security.
Fully-Insured-Membership contracts are written on an annual basis and are subject to cancellation by the employer group upon thirty days written notice. The Company amended its fully-insured dental HMO contracts and dental indemnity contracts to be non-cancelable by the Company effective May 1, 2008 and its fully-insured dental PPO contracts to be non-cancelable by the Company effective June 1, 2008. The Company’s unearned premium revenue was approximately $20,845,000 at December 31, 2008 for the estimated premium revenue associated with the remaining contract periods and related amounts recorded in unbilled accounts receivable. Premiums are due monthly in advance and are recognized evenly as revenue during the period in which the Company is obligated to provide services to members. Any amounts not received by the end of a reporting period are recorded as accounts receivable by the Company. Any premiums received prior to the beginning of a reporting period are recognized as premiums received in advance and are included in unearned premium revenue in the accompanying consolidated balance sheets. Premiums received in advance were approximately $761,000 and $666,000 at December 31, 2008 and December 31, 2007, respectively. Management has determined that as of December 31, 2008 and 2007 that no premium deficiency reserve is required.
Self-Insured-The Company provides administrative and claims processing services, benefit plan design, and access to its provider networks for an administrative fee, generally to “self-insured” groups. Self-insured premium revenue is based on the claims incurred by self-insured members in accordance with agreements with self-insured employers. The Company has no underwriting risk arising from the provision or cost of any services provided to the self-insured groups. Consistent with the provisions of Financial Accounting Standards Board (“FASB”) Emerging Issues Task Force (“EITF”) 99-19, “Recording Revenue Gross as a Principal Versus Net as an Agent,” the Company recognizes and records self-insured premiums on a gross basis because: (i) the Company is the primary obligor in the contractual relationship, (ii) the Company establishes the pricing for the services provided, (iii) the Company controls the relationship with the dental service providers, and (iv) the Company has credit risk in these contractual relationships. Self-insured premium revenue is recorded when the self-insured claims are incurred and is included in premium revenue in the accompanying consolidated statements of operations.
Healthcare Service Expense-The Company compensates its providers based on agreed-upon fees for various services. With respect to the dental HMO product, the Company generally retains 10% of these fees (including payments on self-insured claims) in accordance with the Company’s provider agreement. Healthcare service expense is recorded net of any amounts withheld in the accompanying consolidated statements of operations. Under the terms of the Company’s provider agreement, the Company is not obligated to return to providers any amounts withheld. Withheld amounts are retained by the Company but not reserved or retained in a separate fund. Participating providers have no interest in the amounts withheld unless the Company’s Board of Directors (the “Board”) authorizes any amount to be paid to the providers.
The Company incurred claim costs related to dental care providers amounting to approximately $53,590,000, $48,153,000, and $42,026,000 for the years ended December 31, 2008, 2007, and 2006, respectively. These costs include approximately $41,666,000, $38,941,000, and $36,972,000 of claims incurred by participating providers who are also holders of redeemable common shares in 2008, 2007, and 2006, respectively. These incurred claim costs also include provider withhold return expense of $464,000, $650,000, and $900,000 in 2008, 2007 and 2006, respectively.
Reinsurance-In the normal course of business, the Company cedes portions of its written premium revenue. As such, the Company limits its loss exposure to that portion of the insurable risk that it retains. However, if a reinsurer fails to honor its obligations, the Company could suffer additional losses as the reinsurance contracts do not relieve the Company of its obligations to policyholders. The Company terminated its reinsurance contracts effective May 31, 2008. Dental insurance premiums ceded were approximately $121,000, $228,000 and $13,000 for the years ended December 31, 2008, 2007 and 2006, respectively. The healthcare services expense ceded was approximately $106,000, $189,000 and $10,000 for the years ended December 31, 2008, 2007 and 2006, respectively. The Company has approximately $5,000 and $26,500 of reinsurance recoverable and prepaid reinsurance premium net of reinsurance payable as of December 31, 2008 and 2007, respectively.
At December 31, 2008, premiums receivable from two customers totaled approximately 23% of the premiums receivable balance. At December 31, 2007, premiums receivable from one customer totaled approximately 21% of the premiums receivable balance.
Fair Value of Financial Instruments-Certain financial instruments are required to be recorded at fair value. The estimated fair values of such financial instruments have been determined using market information and valuation methodologies, primarily discounted cash flow analysis. Changes in assumptions or estimation methods could affect the fair value estimates. However, we do not believe any such changes would have a material impact on our financial condition, results of operations or cash flows.
In March 2008, the FASB issued SFAS No. 161, “Disclosures about Derivative Instruments and Hedging Activities-an amendment of SFAS No. 133.” SFAS No. 161 requires enhanced disclosures for derivative instruments and hedging activities regarding the impact on financial position, financial performance, and cash
On July 25, 2006, Humana Dental provided the Company with written notice of termination of the network lease agreement effective October 23, 2006. Accordingly the Company recorded an impairment charge of approximately $128,000 (included in amortization expense) to eliminate the remaining balance associated with the Humana Dental network lease agreement intangible asset in July of 2006.
The Company owned FDIC insured certificates of deposit with a cost of $1,909,000 and $1,967,000 as of December 31, 2008 and 2007, respectively. Each certificate of deposit is invested with a separate FDIC-insured financial institution. As of December 31, 2008, nine certificates of deposit with a cost of $900,000 and a fair value of $909,987 have maturities between 13 and 18 months and eleven certificates of deposit with a cost of $1,009,000 and a fair value of $1,021,920 have a maturities less than 12 months. As of December 31, 2007, twelve certificates of deposit with a cost of $1,109,000 and a fair value of $1,109,139 had maturities of between 12 and 24 months and ten certificates of deposit with a cost of $858,000 and a fair value of $857,848 had a maturities less than 12 months. The Company also invests in a money market fund with a cost of $4,634,000 and $3,255,020 as of December 31, 2008 and 2007, respectively. These short-term and fixed maturities investments are classified as available-for-sale and are carried at fair value, which is based on quoted market prices. The unrealized gains and losses on investment activity are due to a change in the quoted market prices for these certificates of deposit caused by an changes in prevailing interest rates since they were purchased. There were no realized gains or losses for the years ended December 31, 2008 and 2007.
Management believes it is more likely than not that deferred tax assets will reduce future income tax payments. Significant factors considered by management in its determination of the probability of the realization of the deferred tax benefits include the historical operating results and the expectations of future earnings. The Company’s effective tax rate was different from the U.S statutory rate due to the following:
The Company is primarily subject to U.S. federal and various U.S. state and local tax authorities. Tax years subsequent to 2005 remain open to examination by the Internal Revenue Service, and 2004 remains open to other state and local tax authorities. As of December 31, 2008, there are no U.S. federal or state returns under examination.
In accordance with the 2006 Dental Care Plus Management Equity Incentive Plan and the Dental Care Plus, Inc. and DCP Holding Company Deferred Compensation Plan (the “Plans”), Company directors and certain key employees elected to defer portions of their director fees and employee compensation, as applicable. The Company recorded expense of approximately $106,000 and $90,000 related to deferred director fees and deferred employee compensation for the years ended December 31, 2008 and 2007, respectively. Directors and key employees who elect to defer cash compensation may request that the Company invest this compensation in phantom shares of the Company. The Plans also provide for the directors and key employees to receive share awards based on the book value of the Redeemable Common Shares and to elect to defer receiving such amounts until termination of board membership or employment and vesting requirements are met. If a director or key employee does not elect to defer receiving his or her share awards, the individual will receive Class B Redeemable Common Shares upon vesting. If the share awards are deferred, these deferred amounts will be paid in cash. An individual director’s award vests 100% at the end of each year if the director meets the board meeting attendance requirements. The key employee awards vest 10%, 20%, 30% and 40% at the end of each respective year in a four-year period following the grant date. There are no performance criteria associated with the vesting of the awards for key employees. The only requirement for vesting is that the individual is an employee of the Company at the end of the vesting year in question. The deferred compensation expense related to these awards is recorded on a straight-line basis during the applicable vesting period and for the years ended December 31, 2008 and 2007, respectively, the Company recorded deferred compensation expense of approximately $278,000 and $183,000 related to deferred share awards and the change in the value of phantom shares. As of December 31, 2008 there is approximately $115,000 of total unrecognized compensation cost related to nonvested award compensation under the Plan. That cost is expected to be recognized over a weighted average period of 1.8 years.
Providers in the Company’s service area have the option to purchase one share of voting Class A Redeemable Common Shares of the Company. The area we refer to as our service area includes all counties located in Ohio and Kentucky. All participating providers along with Company directors and employees have the option to purchase one or more non-voting Class B Redeemable Common Shares of the Company. Accordingly, prospective shareholders may make a subscription payment per share equal to the book value of a common share, which was approximately $672 and $601 at December 31, 2008 and 2007, respectively.
In 2003, the Company purchased land and an office building and in connection therewith, the Company executed a mortgage note, secured by the land and the office building, with a bank in the amount of $1,800,000. Interest is payable based on the 30-day LIBOR rate plus 1.75% and was 3.19% and 6.07% at December 31, 2008 and 2007, respectively. At the maturity date of the mortgage note in 2013, the expected outstanding balance of the note must be repaid, amounting to $600,000.
At December 31, 2008, the fair value of the mortgage note is approximately $1,207,000.
On December 18, 2008, the Company executed a revolving note with a commercial bank in the amount of $650,000 collateralized by a second mortgage on the office building. As of December 31, 2008, there was a principal balance outstanding of $630,000 related to this revolving note. This revolving note matures on December 15, 2009, is annually renewable and requires monthly interest payments at a variable rate of 30-day LIBOR plus 1.75%, which was 3.19% at December 31, 2008.
In 2004, the Company entered into a Master Equipment Lease Agreement with a leasing company related to the computer hardware and software for its dental insurance administration system. The Master Equipment Lease Agreement includes a four year capital lease for computer software and implementation costs which totaled approximately $823,000. The net book value of the equipment under the capital lease is approximately $329,000 and $494,000 at December 31, 2008 and 2007, respectively. At December 31, 2008 the future required payments under the capital lease was approximately $19,000.
As of December 31, 2008 and 2007, there were no amounts outstanding on either line of credit.
Listed below is financial information required for each industry segment for the years ended December 31, 2008, 2007, and 2006 (amounts in thousands):
Inter-segment revenues were not significant for 2008, 2007, or 2006. See Note 1 for a discussion of major customers-”Concentrations of Credit Risk”.
The Company’s providers who are also shareholders submitted claims of approximately $41,666,000, $38,941,000, and $36,972,000 in 2008, 2007 and 2006, respectively. The Company had claims payable liability to related party providers of approximately $2,142,000 and $2,047,000 at December 31, 2008 and 2007, respectively.
Seven of our Board members are also participating providers and as a group received approximately $151,000, $151,000, and $160,000 in directors fees for the years ended December 31, 2008, 2007 and 2006, respectively.
Effective January 1, 2008, the Company adopted SFAS No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities-Including an Amendment of FASB Statement No. 115.” The Company has chosen not to elect the fair value option for any balance sheet item that has not already been measured at fair value in accordance with other generally accepted accounting principles as permitted by SFAS No. 159, “The Fair Value Option for Financial Assets”.
(a) The sum of quarterly earnings per common share may not equal the year end earnings per common share due to rounding. There were 44 restricted share awards granted in 2007 that were not included in the dilutive earning per redeemable common share calculation in the quarterly results of operations for the three months ended March 31, 2007, September 30 2007 and March 31, 2008 as their effect would have been anti-dilutive. The restricted share awards were redeemed and shares were issued in May of 2008.
The Company’s dental plan members have historically used their dental plan benefits according to a seasonal pattern that has caused our quarterly healthcare services expense to be highest in the first quarter, slightly below average in the second quarter, slightly above average in the third quarter and lowest in the fourth quarter.