OmniCare Health Plan, in Michigan ("OmniCare-MI"), an HMO then administered by the Company under a management agreement, was placed in court-ordered rehabilitation proceedings on July 31, 2001, which relieved the Company from further funding OmniCare-MI's capital deficiencies and which continued its OmniCare-MI management agreement, with substantially reduced management fee revenues from OmniCare-MI beginning August 1, 2001. In March 2002, upon the court-appointed Rehabilitator's filing a proposed rehabilitation plan for OmniCare-MI, the Company announced it anticipated eventual termination of the management agreement. Such termination occurred November 1, 2002, after which the Company's only managed plan has been OmniCare Health Plan, Inc., in Tennessee ("OmniCare-TN"), an HMO which is 75% owned by the Company's wholly owned subsidiary. Accordingly, the consolidated financial statements in this annual report have been restated to present the operations related to managing OmniCare-MI as a discontinued operation.
Beginning July 1, 2002, TennCare implemented an 18-month stabilization program which entailed changes to TennCare's contracts with MCOs, including OmniCare-TN. During that period, MCOs are generally compensated for administrative services only (commonly called "ASO"), earn fixed administrative fees, are not at risk for medical costs in excess of targets established based on various factors and are subject to increased oversight. These matters are more fully discussed and analyzed below under the heading "Review of Consolidated Results of Operations - 2002 Compared to 2001."
On April 13, 2000, the Company funded an unsecured loan to OmniCare-MI evidenced by a surplus note of $7.7 million to enable OmniCare-MI to meet its minimum statutory requirement for net worth and working capital. The loan consisted of $4.0 million in cash and conversion of $3.7 million of management fees owed to the Company. Pursuant to the terms of the surplus note, interest and principal payments required approval by the Michigan Office of Financial and Insurance Services and were repayable only from any statutory surplus earnings of OmniCare-MI. Note interest was payable annually and forfeited if not then paid. Interest income of $0.9 million and $1.1 million on that and a similar earlier surplus note was forfeited for fiscal years 2002 and 2001, respectively. The note principal had no stated maturity or repayment date. The surplus notes were subordinated to all other claimants of OmniCare-MI. Based on an analysis of OmniCare-MI's projected cash flows, the Company recorded impairment losses on the valuation of the surplus notes which resulted in bad debt expense of $6.9 million for the year ended June 30, 2001. On July 29, 2002, claims of all creditors holding surplus notes from OmniCare-MI were permanently disallowed by the State circuit court order which approved OmniCare-MI's amended rehabilitation plan.
On July 14, 2000, the State of Michigan notified OmniCare-MI it was a successful bidder in the bid process for increased Medicaid rates and continued eligibility as an HMO providing coverage to enrollees of the State's Comprehensive Health Care Program for Medicaid beneficiaries. OmniCare-MI accordingly was awarded a rate increase and extension of its contract with the State.
In April 1998, a Florida health care administration agency notified the Company of intent to enforce its agreement to reimburse UltraMedix's contracted Medicaid providers for certain services which the Agency had paid for on enrollees' behalf, limited to the amount of surplus UltraMedix would have had to maintain under the Medicaid contract absent such agreement. The Company established at December 31, 1997 a $6.4 million estimated medical claims reserve for UltraMedix and maintained it until March 31, 2000, when the Company concluded the continuing reserve requirement should be $0.8 million, and therefore reduced the $6.4 million reserve by $5.6 million and offset that amount against medical services expenses. At March 31, 2001, the Company eliminated the remaining reserve of $0.8 million.
REVIEW OF CONSOLIDATED RESULTS OF OPERATIONS - 2003 COMPARED TO 2002
It should be noted initially in this discussion that fiscal 2002 was a year of significant changes for OmniCare-TN and the other managed care organizations ("MCOs") having contracts with TennCare, a State of Tennessee program that provides medical benefits to Medicaid and working uninsured and uninsurable recipients. In a climate of continually rising medical costs, several of TennCare's major
- - retroactively effective beginning May 1, 2002, OmniCare-TN is reimbursed under an administrative services only agreement with no risk of medical loss; and
Under generally accepted accounting principles, such $7.5 million was not recorded in the Company's fiscal 2002 financial statements but has been recorded in its fiscal 2003 financial statements as fiscal 2002 claims were processed. Based on an actuarial determination, an additional $0.4 million of fiscal 2002 medical claims liability was recorded during fiscal 2003. In all, fiscal 2002 medical claims of $7.9 million were processed, in the fiscal year ended June 30, 2003, and the aggregate amount was recognized as revenue by OmniCare-TN.
The OmniCare-MI management agreement was amended on December 14, 2001, effective August 1, 2001 (the second month of fiscal 2002). Pursuant to the amendment, OmniCare-MI paid all of its own expenses commencing as of August 1, 2002, except for personnel, rent and depreciation, which the Company continued to pay. The amendment reduced the Company's management fee revenues from OmniCare-MI beginning August 1, 2001, by changing the methodology for determining the management fee from a fixed percentage (14%) of premiums earned by OmniCare-MI to a cost-
Because of its resulting workforce reduction, the Company made plans to sublease all of its then principal office premises in Detroit, Michigan, to OmniCare-MI, retroactive to November 1, 2002, and expiring at the lease end in May 2005, and to sell to OmniCare-MI furniture, a telephone system and certain computer hardware and software that the Company chose to leave there. Management had expected both parties to finalize and sign the sublease, and close the sale of such assets, in the fourth quarter of fiscal 2003, but that has been delayed due to the unique circumstance explained in the next paragraph below. OmniCare-MI commenced its occupancy of the premises on November 1, 2002 and the Company remained in a portion of the premises until it moved its principal offices to new leased premises in Detroit on February 3, 2002.
Interest and other income decreased $0.2 million (10%) to $1.9 million in the fiscal year ended June 30, 2003 from $2.1 million in the fiscal year ended June 30, 2002.
Because of TennCare's new ASO reimbursement system, medical services expenses were $0.4 million in the fiscal year ended June 30, 2003 and relate totally to fiscal 2002 claims, as compared with medical services expenses of $155.0 million in the fiscal year ended June 30, 2002. The percentage of medical services expenses to medical premium revenues -- the medical loss ratio ("MLR") -- was 95% for the fiscal year ended June 30, 2002 for OmniCare-TN due to the assignment of 49,000 members in fiscal 2002 that disproportionately exceeded Omni-TN's normal medical services expense experience.
Depreciation and amortization expense decreased $0.02 million (8%), to $0.3 million in the fiscal year ended June 30, 2003 from $0.32 million in the fiscal year ended June 30, 2002.
Income tax expense decreased $0.2 million (21%), to $0.6 million in the fiscal year ended June 30, 2003 from $0.8 million in the fiscal year ended June 30, 2002. The Company's effective tax rate for the fiscal year ended June 30, 2003 was 8% and differs from the statutory rate of 34%. This difference is primarily a result of the utilization of net operating loss carryforwards which reduced the effective tax rate by 25 percentage points. Furthermore, the release of certain tax liabilities that management deemed to be no longer needed reduced the effective tax rate by 1 percentage point.
fiscal year ended June 30, 2001, and accounted for a $74.4 million increase in OmniCare-TN's medical premium revenues.
Total expenses were $173.6 million in the fiscal year ended June 30, 2002, compared to $102.3 million in the fiscal year ended June 30, 2001, an increase of $71.3 million (70%).
As a result of other MCOs which had contracts with TennCare ceasing to serve their enrollees or being unable to take on new enrollees, OmniCare-TN was assigned approximately 9,000 members by TennCare in the first half of fiscal 2002 and an additional 40,000 members in February 2002. Medical services expenses for such new OmniCare-TN members disproportionately exceeded OmniCare-TN's normal PMPM experience and adversely affected its earnings for the remainder of fiscal 2002. See "2002 Compared to 2001 -- OmniCare-TN Developments" above regarding TennCare's favorable response to OmniCare-TN's requests for risk adjustments and reimbursements to compensate it for such medical expenses.
Medical services expenses for County Care were $2.7 million in the fiscal year ended June 30, 2002, a decrease of $5.1 million (65%) from medical services expenses of $7.8 million in the fiscal year ended June 30, 2001. The County Care MLR for the fiscal year ended June 30, 2002 was 108% compared to 88% for the fiscal year ended June 30, 2001. County Care operations began with inception of the contract in April 1999 and ceased, at the Company's election, upon the contract's September 30, 2001 expiration.
Depreciation and amortization decreased $0.6 million (67%) to $0.3 million in the fiscal year ended June 30, 2002 from $1.0 million in the fiscal year ended June 30, 2001.
Interest expense decreased $0.2 million (46%) to $0.2 million in the fiscal year ended June 30, 2002 from $0.4 million in the fiscal year ended June 30, 2001, due to bank debt reduction of $0.6 million and a two percentage points decrease in the prime rate for the majority of fiscal year 2002.
The Company recognized a loss from discontinued operations of $1.7 million in the fiscal year ended June 30, 2002 compared to a loss from discontinued operations of $3.3 million in the fiscal year ended June 30, 2001 as the result of the termination of the Company's longstanding management agreement with OmniCare-MI, effective November 1, 2002. The loss in fiscal year 2002 is primarily attributed to an impairment loss equal to the $2.4 million remaining carrying value of the patient care software system which the Company had purchased to fulfill a requirement of the State of Michigan's Office of Financial and Insurance Services to implement such a system for OmniCare-MI. The system was not in use at June 30, 2002 and Company management recognized that the system would not be used by OmniCare-MI because its management agreement with the Company would terminate November 1, 2002.
Cash and marketable securities decreased by $ 14.1 million at June 30, 2003 compared to June 30, 2002, due primarily to operating needs of $12.6 million and debt repayments of $1.1 million.
OmniCare-TN sought reimbursement from TennCare for exceptionally high medical expenses incurred by new OmniCare-TN enrollees in fiscal year 2002, including for actuarially estimated claims incurred but not yet reported to OmniCare-TN. In response, TennCare amended its contract with OmniCare-TN in September 2002, retroactive to July 1, 2001 in some respects and to May 1, 2002 in other respects. The amendment states that OmniCare-TN's outside actuary certified the plan required $7.5 million to meet its statutory net worth requirement for the year ended June 30, 2002 and that OmniCare-TN "is a viable HMO under contract with TennCare on the same basis as other comparable HMOs in the program effective July 1, 2002."
Beginning July 1, 2002, TennCare implemented an 18-month stabilization program which entailed changes to TennCare's contracts with MCOs, including OmniCare-TN. During that period, MCOs are generally compensated for administrative services only (commonly called "ASO"), earn fixed administrative fees, are not at risk for medical costs in excess of targets established based on various factors, are subject to increased oversight, and may incur financial penalties for not achieving certain performance requirements. Under such ASO program as originally established, the Company expected to earn limited additional administrative fees, based on certain performance measures as an incentive to manage medical costs below the targets. However, the Governor of Tennessee and Tenncare representatives later publicly stated in discussions with the Tennessee legislature and
The Company currently has a $1.8 million term loan with Standard Federal Bank, N.A. repayable in monthly installments of principal and interest of $0.1 million, with an interest rate equal to the bank's prime rate (4.25% at June 30, 2003) plus one percent per annum, and a maturity date of September 30, 2004. The loan agreement is collateralized by a security interest in all of the Company's personal property.
SFAS No. 150, "Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity," provides standards for how an issuer classifies and measures certain financial instruments with characteristics of both liabilities and equity. The Statement is effective for financial instruments entered into or modified after May 31, 2003 and for pre-existing instruments as of the beginning of the first interim period beginning after June 15, 2003. The adoption of this standard had no effect on the Corporation's financial condition or results of operations.
FIN No. 45, "Guarantor's Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others an interpretation of SFAS No. 5, 57, and 107 and rescission of FASB Interpretation No. 34," was issued in November 2002. FIN 45 clarifies the requirements of SFAS No. 5, "Accounting for Contingencies," relating to a guarantor's accounting for, and disclosure of, the issuance of certain types of guarantees. The adoption of FIN 45 related to initial recognition and measurement of guarantees did not have an impact on the net income or equity of the Company.