The selected financial data should be read in conjunction with "
Our revenue is derived almost exclusively from premiums and fees which we charge our subscriber groups. The premiums are set, usually on an annual basis, and we cannot generally increase premiums in the event that the cost of services is greater then expected. A significant percentage of our fees are for Medicare and Medicaid services, where the amounts we charge are regulated more closely. Our ability to operate profitably is dependent upon both the generation of sufficient business and the accuracy of our estimates of medical costs. Our medical costs may be affected by a number of factors, including:
- Insolvencies of providers under capitation contracts when medical costs exceed revenue under the capitated agreements, with the result that we are obligated to find alternative medical services for our members at a cost which is greater than the amount we would pay the capitated provider. Insolvencies of our capitated providers could also result in our paying claims which were the financial responsibility of the insolvent providers.
- Incorrect estimates as to the use of medical services in general and major procedures and hospitalizations in particular.
- Changes in government regulations which may have the effect of both reducing our revenue stream and increasing our medical costs.
THE YEAR ENDED DECEMBER 31, 2000 COMPARED TO THE YEAR ENDED DECEMBER 31, 1999
For the year ended December 31, 2000, we reported a net loss of $64.9 million, or $2.65 per share (basic and diluted), as compared to a net loss of $12.3 million, or $0.68 per share (basic and diluted), in 1999. After giving effect to the one-for-five reverse split, the loss per share was $13.27 per share for 2000 and $3.40 per share for 1999.
Salary, general and administrative expenses ("SG&A") increased 28.6% to $82.3 million for the year 2000, compared with $64.0 million last year. SG&A expenses as a percentage of premium revenues increased
to 11.3%, compared with 9.1% for the prior year. Consulting and other expenses associated with the Company's various infrastructure initiatives contributed approximately $7.2 million to general and administrative expense. Employee costs increased $3.4 million, principally as a result of increased staffing in conjunction with the infrastructure initiatives. SG&A costs comprised $4.3 million of the previously mentioned increase to various allowance accounts.
The medical loss ratio for the year 2000 was 94.9%, compared with 92.5% for 1999. The increased medical loss ratio was partially the result of the previously mentioned network restructuring costs ($12.9 million) and increases to claims liability reserves of $11.3 million. Pharmacy expenses increased by $10.6 million, from $77.4 million in 1999 to $88.0 million in 2000.
Investment income for the year ended December 31, 2000 was $5.3 million compared to $3.8 million for the year ended December 31, 1999. The increase in investment income was principally due to higher yields and a higher average balance of invested funds in 2000 when compared to 1999.
Medicare premiums for the year ended December 31, 1999 increased $34.1 million to $91.3 million as compared to 1998 as a result of premium rate increases and membership growth in both the California and Indiana health plans and the start up of Medicare operations in our Louisiana health plan. As of December 31, 1999 the California, Indiana and Louisiana health plans had 10,500, 5,800 and 600 Medicare members, respectively, representing an increase in membership of 6,000 from 1998 primarily as a result of growth in California. The average Medicare premium PMPM increased by 5.7% due to premium rate increases in both California and Indiana and due to greater membership growth in California, which has a higher average Medicare premium PMPM as compared to that of Indiana.
Investment income for the year ended December 31, 1999 decreased by $1.6 million to $3.8 million as compared to 1998 due to lower cash and investment balances as well as lower investment yields.
We have experienced significant operating losses in 2000 and in the three prior years. The losses have reduced our equity position to $7.1 million as of December 31, 2000. Furthermore, our current ratio is 1:1 as of December 31, 2000. In order to address the operating losses incurred in 2000 and prior years, we have undertaken significant changes to our business and operations including:
(a) Outsourcing our information systems and upgrading all of our system capabilities.
(c) Strengthening our claims processing which we believe will reduce claims payment errors.
We also sold our Louisiana plan in 2000, and have employed an investment banker to help with other potential asset dispositions. Should those asset dispositions be successful, we believe that it would strengthen our capital position. We are also pursuing a line-of-credit of approximately $10 million to fund interim liquidity needs, if necessary.
Although there can be no assurance that we will be successful in completing the implementation of our new information systems or that our improved claims processing will result in lower claims expense, we believe that we will be able to meet our liquidity needs throughout 2001 without regard to a possible disposition of assets or securing of a line-of-credit. Further, we believe that our subsidiaries will meet their regulatory capital requirements during 2001.
We have audited the accompanying consolidated balance sheets of Maxicare Health Plans, Inc. as of December 31, 2000 and 1999, and the related consolidated statements of operations, changes in shareholders' equity and cash flows for each of the three years in the period ended December 31, 2000. Our audits also included the information with respect to the financial statement schedules listed in the index at Item 14(a). These financial statements and schedules are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements and schedules based on our audits.
Los Angeles, California March 23, 2001, except for Note 2 -- Reverse Stock Split ERNST & YOUNG LLP which date is March 27, 2001
Maxicare Health Plans, Inc., a Delaware Corporation ("MHP" or the "Company") is a holding company that owns various subsidiaries, primarily in the field of managed care. Through its wholly owned subsidiaries, MHP operates Health Maintenance Organizations ("HMOs") in California and Indiana. Both HMOs are federally qualified by the United States Department of Health and Human Services. The Indiana HMO ("Maxicare Indiana") is principally regulated by the Indiana Department of Insurance. The California HMO ("Maxicare California") is principally regulated by the California Department of Managed Health Care. Maxicare Life and Health Insurance Company ("MLH"), a licensed insurance company, operates preferred provider organizations ("PPOs") in California and Indiana in conjunction with the HMO products of Maxicare California and Maxicare Indiana, respectively. Additionally, MLH writes policies for group life and accidental death and dismemberment coverage. PPO enrollment constituted approximately 1% of the consolidated enrollment of MHP and its subsidiaries at December 31, 2000. Revenue from MLH's group life and accidental death and dismemberment policies constituted less than 1% of MHP's consolidated premium revenue for the year ended December 31, 2000. MHP also owns and operates Health Care Assurance company, Ltd., an off-shore reinsurer that provides various insurance coverages to MHP and its subsidiaries.
Effective July 31, 2000, MHP sold Maxicare Louisiana, Inc., an HMO subsidiary of MHP operating in Louisiana, to Coventry Health Care in a stock purchase agreement. The sale of Maxicare Louisiana, Inc. did not have a material impact on MHP's consolidated enrollment, results of operations or financial position in 2000.
The Company's 2000 loss was impacted by certain significant charges including (a) the write-off of its deferred tax asset totaling $18.2 million; (b) increases in reserves for premiums receivable, accounts receivable and prepaid items totaling $8.1 million; (c) severance costs of $800,000; (d) provision for losses for provider insolvencies, network restructuring in the Company's Indiana plan and litigation of $15.1 million; (e) losses of the Company's disposed Louisiana plan totaling $1.4 million; and (f) costs incurred in infrastructure initiatives totaling $7.2 million. All of these items were the result of changes in estimates in the current year or costs incurred in 2000 which are not anticipated to recur or not recur at the same level in future periods, although there can be no assurance that such losses and costs will not recur.
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. During 2000, the Company sold available-for-sale marketable securities having a book value of $.3 million, realizing a net loss of approximately $2,500. During 1999, the Company sold available-for-sale marketable securities having a book value of $3.0 million, realizing a net gain of approximately $2,500. During 1998, the Company sold marketable available-for-sale securities having a book value of $15.5 million, realizing a net gain of approximately $43,000.
The contractual maturities of investments at December 31, 2000 were as follows:
Intangible assets consist primarily of purchased computer software and are amortized using the straight-line method over three years. Accumulated amortization of intangible assets at December 31, 2000 and 1999 is $2.6 million and $2.3 million, respectively.
Premiums are recorded as revenue in the month for which enrollees are entitled to health care services. Premiums collected in advance are deferred. A portion of premiums is subject to possible retroactive adjustment. Provision has been made for estimated retroactive adjustments to the extent the probable outcome of such adjustments can be determined. Other revenues are recognized as services are rendered.
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 and to a lesser degree shared risk arrangements. Under capitation contracts, the HMO pays the health care provider or providers a fixed amount per member per month to cover the payment of all or most physician and hospital services regardless of utilization. Under shared risk arrangements where the Company retains the financial responsibility for specialist referrals, hospital utilization, pharmacy 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.
Basic earnings per share is computed by dividing net income (loss) available to common shareholders by the weighted average number of shares of common stock outstanding. Diluted earnings per share is computed by dividing net income (loss) by the weighted average number of shares of common stock outstanding, after giving effect to stock options with an exercise price less than the average market price for the period. The
Financial instruments which potentially subject the Company to concentrations of credit risk consist primarily of investments in marketable securities and premiums receivable. The Company's investments in marketable securities are managed by internal investment managers within the guidelines established by the
Other Income includes the recognition of $4.1 million in the first quarter of 1999 related to a settlement reached by the Company in connection with the operation of a Medicaid managed care program from 1986 through 1989.
On September 14, 2000 the shareholders voted to approve an amendment to the Company's certificate of incorporation that would prohibit transfer of the Company's Stock, unless approved by the Board, to the extent the transfer would (i) cause the ownership interest of the transferee or any other person to equal 5% or more of the Company's fair market value; or (ii) increase the ownership interest of the transferee or any other person where such transferee's or other person's ownership interest equalled 5% or more of the Company's fair market value before the transfer.
The dividend was paid to the stockholders of record on March 16, 1998, and with respect to Common Stock issued thereafter, until the Distribution Date (as defined below) and, in certain circumstances, with respect to Common Stock issued after the Distribution Date. Each Right entitled the holder thereof to purchase 1/500(th) of a share of the Company's Series B Preferred Stock (the "Series B Preferred") for $45.00 (the "Exercise Price"). Each 1/500(th) Series B Preferred (the "Preferred Fraction") share shall be entitled to one vote in all matters being voted on by the holders of Common Stock and shall also be entitled to a liquidation preference of $0.20.
detached from the Common Stock. The rights will expire on February 23, 2008. The Company may redeem the Rights for $.01 each at any time before a non-approved buyer acquires 15% or more of the Company's Common Stock. Any current holder that has previously advised the Company of owning an amount in excess of 15% of the Company's Common Stock as of the date hereof has been "grandfathered" with respect to their current position, including allowance for certain small incremental additions thereto.
On October 17, 2000 the Company entered into agreements for the sale in a private placement of 8.1 million shares of its common stock at $1.00 per share with certain qualified institutional buyers and highly accredited institutional investors. On November 3, 2000 the private placement was consummated and the Company received gross proceeds of $8.1 million for the issuance of 8.1 million shares of its common stock at $1.00 per share. In connection with the private placement MHP issued 405,000 warrants for the purchase of shares of the Company's common stock at $1.50 per share. The combined effect of the Rights Offering and the private placement has resulted in MHP receiving gross proceeds of approximately $30.0 million.
In December 1990, the Company approved the 1990 Stock Option Plan (the "1990 Plan"). Under the terms of the 1990 Plan, as amended, the Company may issue up to an aggregate of 1,000,000 nonqualified stock options to directors, officers and other employees. In July 1995, the Company approved the 1995 Stock Option Plan (the "1995 Plan"). Under the terms of the 1995 Plan, the Company may issue up to an aggregate of 1,000,000 nonqualified or incentive stock options to directors, officers and other employees. In June 1999, the Company approved the 1999 Stock Option Plan (the "1999 Plan"). Under the terms of the 1999 Plan, the Company may issue up to an aggregate of 750,000 nonqualified or incentive stock options to directors, officers and other employees. In September 2000, the Company approved the 2000 Stock Option Plan (the "2000 Plan"). Under the terms of the 2000 Plan, the Company may issue up to an aggregate of 4,000,000 nonqualified or incentive stock options to directors, officers and other employees. Under the 1990 Plan, the 1995 Plan, the 1999 Plan and the 2000 Plan, stock options granted to date have been nonqualified stock options which expire no later than 10 years from the date of grant. Stock options granted to date under the 1990 Plan, the 1995 Plan, the 1999 Plan and the 2000 Plan have been at an exercise price equal to or greater than the fair market value of the stock at the date of grant.
In July 1996, the Company approved the Senior Executives 1996 Stock Option Plan (the "Senior Executives Plan"). Under the terms of the Senior Executives Plan, the Company may issue up to an aggregate of 700,000 nonqualified stock options to Mr. Ratican and Mr. Froelich (the "Senior Executives" and individually the "Senior Executive"). On the date the Senior Executives Plan was adopted, each Senior Executive received a grant of stock options to purchase 70,000 shares of Common Stock. Commencing January 1, 1997, and each January 1st thereafter through and including January 1, 2000, each Senior Executive then employed by the Company shall receive a grant of stock options to purchase 70,000 shares of Common Stock. Mr. Froelich's continuing participation in the Senior Executives Plan ceased when his employment with the Company was terminated in December 1997. Mr. Ratican's continuing participation in the Senior Executives Plan ceased when his employment with the Company terminated effective June 30, 1999. Options granted under the Senior Executives Plan are at an exercise price equal to the fair market value of the stock at the date of grant, vest immediately and expire 10 years from the date of grant. No options have been granted under the Senior Executives Plan subsequent to January 1999.
- --------------- (a) The weighted-average fair value of options granted during 2000, 1999, and 1998 was $3.80, $12.00, and $20.30, respectively.
Pro forma information regarding net income (loss) and earnings (loss) per share is required by SFAS No. 123, and has been determined as if the Company had accounted for its employee stock options under the fair value method. The fair value for these options was estimated at the date of grant using a Black-Scholes option pricing model with the following weighted-average assumptions for 2000, 1999 and 1998, respectively: volatility factors of the expected market price of the Company's common stock of .59, .53 and .49; a weighted-average expected life of the options of 5.0 years; risk-free interest rates of 6.1%, 5.5%, and 5.2%, and dividend yield of 0%.
On February 27, 1995 the Board approved Restricted Stock Grant Agreements awarding 65,000 shares of Restricted Stock each to Peter J. Ratican and Eugene L. Froelich (individually the "Executive"). Mr. Froelich's Restricted Stock vested upon the termination of his employment with the Company on December 11, 1997. Mr. Ratican's Restricted Stock vested on February 27, 1998 upon the expiration of the three-year vesting period.
The Company's net operating loss (NOL) carryforwards increased due to a $46.7 million NOL for tax purposes incurred in 2000. At December 31, 2000, the Company had NOL carryforwards for federal tax purposes expiring as follows (amounts are in millions):
On December 5, 1990 (the "Effective Date") the Company emerged from protection under Chapter 11 pursuant to the Company's joint plan of reorganization, as modified (the "Reorganization Plan"). 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 NOL carryforwards of approximately $325 million are subject to limitation under provisions of Section 382 of the IRC. From the Effective Date through December 31, 1995 the Company has
While management is confident that earnings over the next several years will be sufficient to maintain the asset, because of the Company's operating losses in 2000, 1999, 1998 and 1997 and in accordance with SFAS 109, the Company has reserved the full amount of the deferred tax asset at December 31, 2000. Should the Company recognize any future benefits from a reduction of the valuation allowance, this will result in a reduction to the Company's income tax expense.
The Company adopted the Maxicare Health Plans, Inc. Savings Incentive Plan (the "Savings Plan") in January 1985. The Savings Plan is a defined contribution 401(k) profit sharing plan covering employees of the Company who have satisfied the eligibility requirements. The primary eligibility requirement is that an employee must have completed six months of eligible service. The cost of the Savings Plan is shared by the participants and the Company. Eligible employees may defer from 1% to 15% of base compensation on a before-tax basis in accordance with Section 401(k) of the IRC. The Savings Plan calls for the Company to match up to 3% of total compensation, not to exceed the employee's contribution. The Company's contributions were approximately $330,000, $380,000, and $390,000 for the years ended December 31, 2000, 1999 and 1998, respectively.
NOTE 9 -- LOSS CONTRACTS, DIVESTITURE COSTS, LITIGATION, MANAGEMENT SETTLEMENT AND OTHER CHARGES
of $.785 million for employee severance costs and $.725 million in litigation reserves for costs associated with the defense and settlement of various legal actions.
In 1999, the Company incurred charges of $3.0 million for loss contracts associated with the Company's commercial healthcare operations in North and South Carolina. The Company ceased offering commercial health care coverage in the Carolinas health plans as of March 31, 1999. In addition, the Company recorded in 1999 a $5.5 million management settlement charge related to a settlement with the Company's Chief Executive Officer, Peter J. Ratican pursuant to which Mr. Ratican agreed to retire as President and CEO of the Company and agreed not to seek re-election to the Board of Directors.
The following is a tabulation of the quarterly results of operations for the years ended December 31, 2000 and 1999:
- --------------- (1) In the second, third and fourth quarters of 2000 the Company recorded charges of $2.0 million, $2.5 million and $.4 million, respectively, for losses associated with certain of the Company's capitated provider arrangements. In the fourth quarter of 2000 the Company also recorded charges of $.785 million for employee severance costs and $.725 million in litigation reserves for costs associated with the defense and settlement of various legal actions. In the fourth quarter of 2000 the Company also wrote off its deferred tax asset of $18.2 million. A $3.0 million charge for loss contracts related to the Carolinas commercial line of business and a $5.5 million charge for management settlement costs were recorded in the first quarter of 1999. A $6.0 million charge to increase health care claims reserves was recorded in the fourth quarter of 1999. (See "Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations" and "Item 8. Financial Statements and Supplementary Data -- Note 9 to the Company's Consolidated Financial Statements").
(2) All share and per share amounts have been retroactively restated to reflect the one for five reverse stock split completed on March 27, 2001.