The Company's operating facilities are held through leaseholds. At December 31, 1995, the Company or its HMOs leased approximately 217,000 square feet at 23 locations with an aggregate current monthly rental of approximately $180,000. These leases have remaining terms of up to ten years. The Company's leased properties include administrative locations, three pharmacies and other miscellaneous facilities.
In June 1994 the Company entered into a lease for new corporate office space in Los Angeles commencing in that month for a term of seventy-two months. The lease is for approximately 83,000 square feet with a monthly base rental expense of approximately $72,600 excluding the Company's percentage share of all increases in the landlord's operating cost of the building.
For the year ended December 31, 1995, the Company reported operating revenues of $477.3 million, an increase of $45.1 million or 10.4% when compared to the same period in 1994. Of this $45.1 million increase to operating revenues, $37.5 million resulted from an 8.2% increase in membership primarily generated by growth in both the commercial and Medicaid lines of business in California and Indiana, as well as a .5% increase in the average premium revenue per member per month. The remaining increase in operating revenues was the result of recording in the fourth quarter of 1995 additional amounts due the Company with respect to the prior operation of a governmental managed care program.
Health care expenses, including increases in estimated claims payable in the fourth quarter of 1995, increased 9.1% or $34.7 million for the year ended December 31, 1995 as compared to the same period in 1994. Health care expenses as a percentage of operating revenues (the "medical loss ratio") decreased 1.0 percentage point to 86.8%, contributing $4.8 million to the $10.5 million increase in the Company's gross margin.
In our opinion, the 1995 and 1994 consolidated financial statements referred to above present fairly, in all material respects, the consolidated financial position of Maxicare Health Plans, Inc. at December 31, 1995 and 1994, and the consolidated results of its operations and its cash flows for the two years then ended in conformity with generally accepted accounting principles. Also, in our opinion, the related financial statement schedules, when considered in relation to the basic financial statements taken as a whole, present fairly in all material respects the 1995 and 1994 information set forth therein.
MAXICARE HEALTH PLANS, INC. CONSOLIDATED STATEMENTS OF OPERATIONS (Amounts in thousands except per share data)
Maxicare Life and Health Insurance Company ("MLH"), a licensed insurance company and wholly-owned subsidiary of MHP, operates preferred provider organizations ("PPOs") in Illinois, Indiana, Louisiana, North Carolina and California which constitute less than one percent (1%) of the consolidated enrollment of MHP and subsidiaries (the "Company") at December 31, 1995. In addition, MLH writes policies for group life and accidental death and dismemberment insurance; however, these lines of business make up less than one percent (1%) of the Company's operating revenues for the year ended December 31, 1995.
The preparation of the consolidated financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts reported in the consolidated financial statements and accompanying notes. Actual results could differ from these estimates.
The Company has designated its marketable securities included in current assets as available-for-sale. Such securities have been recorded at amortized cost as the unrealized gain or loss in such securities is immaterial.
The Company's restricted investments consist of securities restricted to specific purposes as required by various governmental regulations. These securities have been designated as held-to- maturity as the Company has the intent and the ability to hold them to maturity. These securities are stated at amortized cost.
Intangible assets consist primarily of purchased computer software and are amortized using the straight-line method over five years. Accumulated amortization of intangible assets at December 31, 1995 and 1994 is $1.7 million.
The cost of health care services is expensed in the period the Company is obligated to provide such services. The Company's HMOs arrange for the provision of health care services primarily through capitation arrangements. Under capitation contracts, the HMO pays the health care provider a fixed amount per member per month to cover the payment of all or most medical services regardless of utilization. Where the Company retains the financial responsibility for specialist referrals, hospital utilization and other health care costs, the Company establishes an accrual for estimated claims payable including claims reported as of the balance sheet date and estimated (based upon utilization trends and projections of historical developments) costs of health care services rendered but not reported. Estimated claims payable are continually monitored and reviewed and as settlements are made or accruals adjusted, differences are reflected in current operations.
In October 1995, SFAS No. 123 "Accounting for Stock - Based Compensation" was issued which provides an alternative to Accounting Principles Board ("APB") Opinion No. 25 "Accounting for Stock Issued to Employees". SFAS No. 123 encourages, but does not require, that compensation expense for grants of stock, stock options and other equity instruments to employees be based on the fair value of such instrument. The statement also allows companies to continue to measure compensation expense using the intrinsic value method prescribed by APB Opinion No. 25. The Company intends to continue with the intrinsic value based method.
With respect to stock options granted at an exercise price which is less than the fair market value on the date of grant, the difference between the option exercise price and market value at date of grant is charged to operations over the period the options vest. Income tax benefits attributable to stock options are credited to additional paid-in capital when exercised.
In the first quarter of 1992 MHP issued 2,400,000 shares of Series A Stock (see Note 6) and redeemed the Senior Notes. The Company does not believe that the Reorganization Plan contemplated either the issuance of preferred stock or the redemption of the Senior Notes and, accordingly, believes that the Consolidated Net Worth Distribution required by the Reorganization Plan should be calculated as if the sale of Series A Stock had not been consummated and the Senior Notes had not been redeemed. The Company thus determined the December 31, 1992 Consolidated Net Worth Distribution amount to be approximately $971,000. This amount was
tendered for distribution to certain creditors under the Reorganization Plan. In addition, the Company believes that any Consolidated Net Worth Distribution which under the Reorganization Plan was to be utilized to redeem the Senior Notes is no longer due as the Senior Notes have been fully redeemed.
Notwithstanding the foregoing, the Company elected to accrue in its consolidated financial statements the maximum potential liability pending clarification of this matter. The amount that may be ultimately payable pursuant to this Reorganization Plan provision, if any, could be less than the amount accrued. Any Consolidated Net Worth Distribution would be made from the Company's available cash.
The Company is involved in litigation arising in the normal course of business, which, in the opinion of management, will not have a material adverse effect on the Company's consolidated financial position.
On February 13, 1995 the Company announced that it would redeem all of its 2.29 million outstanding shares of the Series A Stock on March 14, 1995. Holders of Series A Stock were entitled to either have their shares redeemed by the Company at $25.4625 per share (the "Redemption Price"), which represents the redemption price of $25.00 per share plus accrued and unpaid dividends of $.4625 per share, or convert their Series A Stock into 2.7548 shares of the Company's Common Stock for each share of Series A Stock converted. Holders of approximately 2.27 million shares of Series A Stock converted their shares into approximately 6.25 million shares of Common Stock. As of March 14, 1995, the remaining 21,000 shares of Series A Stock are no longer deemed to be outstanding and holders of Series A Stock certificates were entitled to receive only the Redemption Price without additional interest thereon upon surrender of the Series A Stock certificates properly endorsed to the Redemption Agent, American Stock Transfer & Trust Company.
Pursuant to the Reorganization Plan, Messrs. Ratican and Froelich ("Senior Management") each received options, which are all currently exercisable, to purchase up to 277,778 shares of Common Stock at a price of $6.54 per option share. As of January 1, 1992, the Company entered into employment agreements with Senior Management. Under the terms of these employment agreements, each member of Senior Management received on February 25, 1992 options to purchase up to 150,000 shares of Common Stock at a price of $8.00 per option share. All of the options are currently exercisable.
Upon the Effective Date of the Reorganization Plan, the Company experienced a "change of ownership" pursuant to applicable provisions of the Internal Revenue Code (the "IRC"). As a result of the ownership change, the Company's pre-change net operating loss carryforwards ("NOLs") of approximately $325 million are subject to limitation under provisions of Section 382 of the IRC. These NOLs are subject to a fifteen year carryover period and expire for federal income tax purposes in the years 2002 through 2005. From the Effective Date through December 31, 1995 the Company has recognized for financial statement reporting purposes an annual limitation for its NOLs of approximately $6.3 million per year and the recognition in 1995 of an additional $10.0 million
SFAS No. 109 "Accounting for Income Taxes" requires that the tax benefit of such NOLs be recorded as an asset to the extent that management assesses the utilization of such NOLs to be more likely than not. Management has estimated, based on the Company's recent history of operating results and its expectations for the future, that future taxable income of the Company will more likely than not be sufficient to utilize a minimum of approximately $35 million of NOLs. Accordingly, the Company recorded an increase of $4.0 million in 1995 to its deferred tax asset, from $10.0 million recorded as of December 31, 1994, resulting in an aggregate deferred tax asset of $14.0 million recorded as of December 31, 1995 for the recognition of anticipated future utilization of NOLs.
The Company adopted the Maxicare Health Plans, Inc. Savings Incentive Plan (the "Plan") in January 1985. The Plan is a defined contribution 401(k) profit sharing plan covering employees of Maxicare Health Plans, Inc. and certain participating subsidiaries who have satisfied the eligibility requirements. The primary eligibility requirements are that an employee must be employed at a participating company, and must have completed one year of eligible service.
The cost of the Plan is shared by the participants and the participating companies. Eligible employees may defer from 1% to 15% of base compensation on a before-tax basis in accordance with Section 401(k) of the Internal Revenue Code. The Plan calls for the Company to match up to 3% of total compensation, not to exceed the employee's contribution. The Company's contributions totaled $262,000, $289,000 and $304,000 for the years ended December 31, 1995, 1994 and 1993, respectively.