physicians, specialist physicians and ancillary providers. The balance related to fees paid on a capitation, or per member, basis. Primary care and specialist physicians not paid on a capitated basis are paid on a maximum allowable fee schedule set forth in the contracts with our providers. We reimburse hospitals on a negotiated fixed dollar amount per day or an agreed upon percent of their standard charges. In Maryland, the state sets the amount reimbursed to hospitals.
Monthly, we estimate our IBNR based on a number of factors, including authorization data and prior claims experience. Authorization data is information captured in the Company’s medical management system, which identifies services requested by providers or members and approved by medical management. The medical cost related to these authorizations is estimated by pricing the approved services using contractual or historical amounts adjusted for known variables such as historical claims trends. These estimated costs are included as a component of IBNR. As part of this review, we also consider the costs to process medical claims, and estimates of amounts to cover uncertainties related to fluctuations in claims payment patterns, membership, products, and authorization trends. In addition, claims processing costs are accrued based on an estimate of the costs necessary to process unpaid claims. These estimates are adjusted as more information becomes available, and as adjustments are made, differences are included in current operations. We utilize the services of independent actuarial consultants who are contracted to review our estimates quarterly. The balance of claims payable is significant in relation to the consolidated financial statements. Judgements are made based on knowledge and experience about past and current events and assumptions about future events. There is a likelihood that actual results could be materially different if different assumptions or conditions prevail.
The following table sets forth selected operating ratios for each year in the three year period ending December 31, 2001. All ratios, with the exception of the health benefits ratio, are shown as a percentage of total revenues.
Year Ended December 31, 2001 Compared to the Year Ended December 31, 2000
Premium revenue for the year ended December 31, 2001 increased $234.1 million, or 36.2% to $880.5 million from $646.4 million for the year ended December 31, 2000. The increase was principally due to internal growth in overall membership and to a lesser extent, the acquisition of the Medicaid contracts and related assets of Humana’s Houston, Texas business in August 2001 (15,000 members). Total membership increased 41.7% to 472,000 as of December 31, 2001 from 333,000 as of December 31, 2000.
Investment income decreased $2.4 million to $10.7 million for the year ended December 31, 2001. The decrease in investment income is primarily due to the continued decline in market interest rates partially offset by an increase in overall cash levels. Cash levels have primarily increased due to proceeds from our initial public offering and increases in the amount of premiums received versus the timing of the payment of the related health benefits.
Selling, general and administrative expenses increased $24.7 million to $109.8 million for the year ended December 31, 2001 compared to $85.1 million in 2000. The increase in selling, general and administrative expenses was primarily due to an increase in wages and related expenses for additional staff to support our increased membership. Our selling, general and administrative expense ratio to revenue was 12.3% and 12.9% for the year ended December 31, 2001 and 2000, respectively. The decrease in the ratio was a result of economies of scale and of fixed costs being spread over a larger membership base.
Interest expense was $763,000 and $781,000 for the years ended December 31, 2001 and 2000, respectively.
Expenses relating to health benefits increased 56.7% to $523.6 million in 2000 from $334.2 million in 1999. The $189.4 million increase was primarily due to the 24.3% increase in membership. The health benefits ratio in 2000 decreased to 81.0% from 85.2% in 1999. The year ended December 31, 2000 reflects a $1.6 million decrease in health benefit expenses due to a provider contract amendment which, among other things, more equitably allocates the risk among the parties.
Net income for 2000 was $26.1 million, or $1.55 per diluted common share, compared to $11.3 million, or $0.66 per diluted common share for 1999.
The following table sets forth unaudited quarterly results of our operations for each of the quarters in the years ended December 31, 2001 and 2000. This information has been prepared on the same basis as the consolidated financial statements and, in the opinion of our management, reflects adjustments, consisting only of normal recurring adjustments, necessary for a fair presentation of the information for the periods presented. The unaudited quarterly operating results are not necessarily indicative of future results of operations. This data should be read in conjunction with our consolidated financial statements and related notes included in this prospectus.
Our primary sources of liquidity are cash and cash equivalents, short and long-term investments, cash flow from operations and borrowings under our credit facility. As of December 31, 2001 we had cash and cash equivalents of $183.9 million, short and long-term investments of $117.9 million and restricted investments on deposit for licensure of $18.5 million. As of December 31, 2001, there were no amounts outstanding under our credit facility.
On November 9, 2001, we completed our initial public offering of 4,985,000 shares of common stock including an over-allotment issuance of 585,000 shares at a price per share of $17.00. We received net proceeds from the offering of approximately $77.2 million. In conjunction with the offering, all Series A, B, C and D preferred stock in the aggregate was converted into 12,607,880 shares of common stock. The Company used proceeds from the offering to repay the balance of our long-term debt facility of approximately $4.4 million and to redeem our Series E mandatorily redeemable preferred stock for approximately $13.3 million. In addition, 1,123,823 shares of common stock were issued upon the exercise of all outstanding Series E warrants.
Cash from operations was $70.5 million for the year ended December 31, 2001 compared to $42.1 million for the year ended December 31, 2000. The increase in cash from operations is primarily due to increases in membership, improvements to operating margins and the impact of a prepayment of revenue received in 1999 attributable to operations in 2000. As of December 31, 2001, we had working capital of $59.8 million as compared to $36.7 million at December 31, 2000. Our minimum lease payments under all noncancelable operating leases are $3.8 million for 2002.
Cash used in investing activities increased to $78.1 million for the year ended December 31, 2001 from $8.4 million for the year ended December 31, 2000. The increase in cash used in investing activities was primarily due to the net purchases of held-to-maturity investments of $61.3 million from the net proceeds of the offering and purchases of property and equipment and software of $4.5 million and $4.1 million, respectively. Our property and equipment and software budgets are $12.5 million and $10.2 million for 2002.
On December 14, 2001, we entered into a $60 million revolving credit facility, which may be increased to $75 million, with Bank of America, N.A., UBS Warburg LLC and CIBC World Markets Corp. The proceeds of the facility will be available for general corporate purposes, including, without limitation, permitted acquisitions. The facility will accrue interest at one of the following rates, at our option: LIBOR plus the applicable margin or an alternate bank rate plus the applicable margin. The applicable margin for LIBOR borrowings is between 2.00% and 2.50% and the applicable margin for alternate base rate borrowings is between 1.00% and 1.50%. The applicable margin will vary depending on our leverage ratio. The facility is secured by substantially all of the assets of AMERIGROUP Corporation, including the stock of its subsidiaries. There is a commitment fee of 0.50% on the unused portion of the credit facility. The credit facility matures December 14, 2004. As of December 31, 2001, there were no amounts outstanding under the credit facility.
We believe that internally generated funds and the proceeds from the initial public offering will be sufficient to support continuing operations, capital expenditures and our growth strategy for at least 12 months.
As of December 31, 2001, our subsidiaries had aggregate statutory capital and surplus of approximately $58.0 million, compared with the required minimum aggregate statutory capital and surplus requirements of approximately $20.0 million.
The new federal and state regulations promulgated under HIPAA mandating uniform standards for electronic transactions and confidentiality requirements of patient information are currently unsettled, making
certainty of compliance impossible at this time. Due to the uncertainty surrounding the regulatory requirements, we cannot be sure that the systems and programs that we plan to implement will comply adequately with the regulations that are ultimately approved. We have completed an assessment of the programs and systems that we will need to implement in order to comply with the new regulations. In order to comply with the regulatory requirements, we will be required to employ additional or different programs and systems. We expect to spend approximately $5 million on HIPAA compliance in 2002. Further, compliance with these regulations will require changes to many of the procedures we currently use to conduct our business, which may lead to additional costs that we have not yet identified. We do not know whether, or the extent to which, we will be able to recover our costs of complying with these new regulations from the states.
In February 2002, Uwe E. Reinhardt, Ph.D. was appointed to fill a vacant seat on our board of directors. Dr. Reinhardt fills the vacancy created by the resignation of Kay Coles James. Ms. James resigned from our board of directors in order to accept the position of Director of Office of Personnel Management of the Federal Government, reporting directly to President George W. Bush. Dr. Reinhardt will join the board as a Class III director and his term will expire at our annual meeting in 2004.
During 1995, we incorporated wholly-owned subsidiaries in New Jersey, Illinois and Texas to develop, own and operate health maintenance organizations (HMOs) in those states. During 1996, we began enrolling Medicaid members in HMOs: AMERIGROUP New Jersey, Inc., AMERIGROUP Illinois, Inc. and AMERIGROUP Texas, Inc. During 1999, we incorporated a wholly-owned subsidiary in Delaware, AMERIGROUP Maryland, Inc., a Managed Care Organization, to develop, own and operate a managed care organization (MCO) in Maryland and an HMO in the District of Columbia. This subsidiary purchased certain contracts and related assets from The Prudential Insurance Company of America and the Prudential Health Care Plan, Inc. (Prudential) relating to its Medicaid lines of business in the State of Maryland and the District of Columbia during 1999 (note 5).
On November 9, 2001, we completed our initial public offering of 4,985,000 shares of common stock including an over-allotment issuance of 585,000 shares at a price per share of $17.00. We received net proceeds from the offering of $77,218. In conjunction with the offering, all Series A, B, C and D preferred stock in the aggregate was converted into 12,607,880 shares of common stock. The proceeds from the offering were used to repay the balance of our long-term debt facility of $4,352 and to redeem the Series E mandatorily redeemable preferred stock for $13,320. In addition, 1,123,823 shares of common stock were issued upon the exercise of all outstanding Series E warrants.
The consolidated financial statements include the financial statements of AMERIGROUP Corporation and our four wholly-owned subsidiaries: AMERIGROUP New Jersey, Inc., AMERIGROUP Illinois, Inc., AMERIGROUP Texas, Inc. and AMERIGROUP Maryland, Inc., a Managed Care Organization. All significant intercompany balances and transactions have been eliminated in consolidation.
We consider all highly liquid temporary investments with original maturities of three months or less to be cash equivalents. We had cash equivalents of $121,941 and $120,305 at December 31, 2001 and 2000, respectively, which consist of money market funds, U.S. Treasury securities, certificates of deposit, asset-backed securities and debt securities of government sponsored entities.
Short and long-term investments and investments on deposit for licensure at December 31, 2001 and 2000 consist of money market funds, U.S. Treasury securities, certificates of deposit, asset-backed securities, debt
securities of government sponsored entities and municipal bonds. We consider all investments with maturities greater than three months but less than twelve months to be short-term investments. We classify our debt and equity securities in one of three categories: trading, available-for-sale or held-to-maturity. Trading securities are bought and held principally for the purpose of selling them in the near term. Held-to-maturity securities are those securities in which we have the ability and intent to hold the security until maturity. All other securities not included in trading or held-to-maturity are classified as available-for-sale. At December 31, 2001 and 2000, all of our securities are classified as held-to-maturity.
amounts of existing assets and liabilities and their respective tax bases and operating loss and tax credit carryforwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date.
be held and used is measured by a comparison of the carrying amount of an asset to future undiscounted net cash flows expected to be generated by the asset. If such assets are considered to be impaired, the impairment to be recognized is measured by the amount by which the carrying amount of the assets exceed the fair value of the assets, determined based upon discounted future cash flows or if available, other readily determinable evidence of fair value. Assets to be disposed of are reported at the lower of the carrying amount or fair value less costs to sell. No impairment of long-lived assets was recorded in 2001, 2000 and 1999.
Our management has made a number of estimates and assumptions relating to the reporting of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period to prepare these consolidated financial statements in conformity with generally accepted accounting principles. Actual results could differ from those estimates.
In July 2001, Statement of Financial Accounting Standards No. 141, Business Combinations (SFAS No. 141), was issued which requires that the purchase method of accounting be used for all business combinations completed after June 30, 2001. We have adopted SFAS No. 141.
unamortized goodwill in the amount of $19,407, which will be subject to the transition provisions of SFAS Nos. 141 and 142. Goodwill amortization expense was $977 in 2001.
(3) Short and Long-Term Investments, Investments on Deposit for Licensure and Restricted Cash
The amortized cost, gross unrealized holding gains, gross unrealized holding losses and fair value for held-to-maturity short-term investments are as follows at December 31, 2001 and 2000:
Property and equipment, net at December 31, 2001 and 2000 is summarized as follows:
The following unaudited pro forma summary information presents the consolidated income statement information for the year ended December 31, 1999, as if the aforementioned transaction had been consummated on January 1, 1999, and do not purport to be indicative of what would have occurred had the acquisition been made at that date or of the results which may occur in the future. Full year results for the aforementioned transaction is included in the accompanying 2001 and 2000 Consolidated Income Statements.
Amortization of goodwill associated with this acquisition that has been included in the determination of pro forma net income and diluted net income per share for the year ended December 31, 1999 was $2,991. In accordance with SFAS No. 142, goodwill will no longer be amortized effective January 1, 2002.
Effective August 1, 2001, we purchased certain assets of Humana Inc.’s (“Humana”) Houston, Texas Medicaid line of business. The assets purchased consisted of Humana’s rights to provide managed care services to its Medicaid members. We utilized the purchase method of accounting. We paid $1,048 in cash including transaction costs, resulting in goodwill of the same amount. We operated as a Medicaid HMO in Houston, Texas prior to this acquisition.
Income tax expense (benefit) for the years ended December 31, 2001, 2000 and 1999 consists of the following:
Income tax expense (benefit) was $26,127, $17,687 and $(4,100) for the years ended December 31, 2001, 2000 and 1999, respectively. These amounts differed from the amounts computed by applying the U.S. federal income tax rate to income before income taxes as a result of the following:
A valuation allowance is provided when it is more likely than not that some portion of the deferred tax asset will not be realized. As of December 31, 1998, due to historic losses and the uncertainty of future income, we recorded a valuation allowance to defer recognition of the income tax benefit until it was deemed more likely than not the benefit would be realized. During 1999, we removed the valuation allowance as it considered that the benefits of the deferred tax assets would more than likely be realized. The change in the valuation allowance for deferred tax assets during 1999 was a decrease of $7,368 and was reflected as a decrease to deferred income tax expense.
At December 31, 2001, no amounts were outstanding under the facility. Any outstanding amounts under the facility accrue interest at one of the following rates, at our option: LIBOR plus the applicable margin or an alternate bank rate plus the applicable margin. The applicable margin for LIBOR borrowings is between 2.0% and 2.5%. The applicable margin for alternate bank rate borrowings is between 1.0% and 1.5%. The applicable margin will vary depending on our leverage ratio. At December 31, 2001, the interest rate on the facility would have been 3.9%. We also pay a 0.50% commitment fee on the unused portion of the facility. Any principal balance on the facility is due December 14, 2004.
Pursuant to the Credit and Guaranty Agreement, we must meet certain financial covenants. At December 31, 2001, we were in compliance with such covenants. These financial covenants include meeting certain financial ratios, a limit on annual capital expenditures, and a minimum net worth requirement.
During 1999, we entered into a Loan and Security Agreement with two banks to obtain debt financing of $16,500, consisting of a term loan of $9,000 and a revolver commitment of $7,500. We repaid this long-term debt financing in its entirety with proceeds from the Offering.
Cash paid for interest expense for the years ended December 31, 2001, 2000 and 1999, was $822, $722 and $878, respectively.
The Series A, B and C preferred stock was converted to common shares on a two-for-one basis, at the option of the preferred stockholder. The Series A, B and C preferred stock carried a noncumulative 10% dividend
payable upon approval by the Board of Directors. We accreted dividends on Series A, B and C using the interest method and added the accrued dividends to the applicable redeemable preferred stock issue balance.
The Series A, B and C preferred stock was converted into 10,752,493 shares of common stock concurrent with the offering.
During July 1998, we issued 1,000,000 units of its Series E Mandatorily Redeemable Preferred Stock and Warrants (Series E) at a price of $5.00 per unit (the first tranche). During January 1999, we issued an additional 1,000,000 units of the Series E at a price of $5.00 per unit (the second tranche). Each unit included a share of Series E preferred stock and an unattached warrant to purchase 0.5625 shares of common stock at a price of $0.02 per share. Of the gross proceeds of $5.00, $0.80 has been allocated to the warrants issued based on fair value. The fair value of the warrants sold was determined by our Board of Directors and was consistent with the exercise price of our stock options at the time of issuance. Concurrent with the offering, the warrants were exercised for 1,123,823 shares of common stock. The remaining amount of $4.20 is attributable to Series E stock. The redeemable preferred stock was recorded at its original fair value of $4.20 per share, plus accreted dividends. In accordance with the terms of the Series E mandatorily redeemable preferred stock, dividends per share accrued as follows:
consultants of the company for up to 2,099,500 shares of common stock as of December 31, 1999. On February 9, 2000, we increased the number of options available for grant to 2,249,500.
At December 31, 2001, the number of options exercisable was 1,145,856 and the weighted-average exercise price of those options was $4.57.
5.1% and 6.7% and expected life of four, three and one-half and seven years for 2001, 2000 and 1999, respectively.
Cash and cash equivalents, premium receivables, prepaid expenses and other current assets, accounts payable, accrued expenses and other current liabilities and claims payable: The carrying amounts approximate fair value because of the short maturity of these items.
Regulations governing our managed care operations in New Jersey, Texas, Illinois, Maryland and the District of Columbia require the applicable subsidiary to meet certain minimum net worth requirements. Each subsidiary was in compliance with their requirements at December 31, 2001.
Total rent expense for all office space and office equipment under noncancelable operating leases was approximately $3,476, $2,077 and $1,900 in 2001, 2000 and 1999, respectively, and is included in selling, general and administrative expenses in the accompanying Consolidated Income Statements.
Our employees have the option to participate in a deferred compensation plan sponsored by the company. All full-time and most part-time employees of AMERIGROUP Corporation and subsidiaries may elect to participate in this plan. This plan is exempt from income taxes under Section 401(k) of the Internal Revenue Code. Participants may contribute a certain percentage of their compensation subject to maximum federal and plan limits. We may elect to match a certain percentage of each employee's contributions up to specified limits. For the years ended December 31, 2001 and 2000, the matching contribution under the plan in total was $389 and $135, respectively. There were no matching contributions made for the year ended December 31, 1999.
On May 10, 2000, the Board of Directors approved amendments to our Articles of Incorporation increasing the authorized number of shares of common stock to 100,000,000 and authorizing an additional 10,000,000 shares of preferred stock to be issued contingent upon the successful completion of the Offering. On June 30, 2000, the Board of Directors and our stockholders approved a one-for-two reverse stock split of our common stock contingent upon the successful completion of the offering.
During 1999, we issued 3,710,775 shares of Series D convertible preferred stock as consideration for purchasing the contracts and certain other assets of Prudential’s Medicaid line of business in the state of Maryland and the District of Columbia (note 5). The Series D preferred stock was convertible to common shares on a two-for-one basis, subject to adjustment for stock splits, at the option of the preferred stockholder. Concurrent with the offering, the Series D convertible preferred stock was converted into 1,855,387 shares of common stock. The Series D convertible preferred stock did not carry a stated dividend.
On February 15, 2001, the Board of Directors approved and we adopted an Employee Stock Purchase Plan, under which all employees are eligible to participate except any employee who has been employed for us less than 90 days, whose customary employment is less than 20 hours per week or any employee who owns five percent or more of our common stock. Eligible employees may join the plan every six months. Purchases of common stock are priced at the lower of the stock price less 15% on the first day of the six month period or the stock price less 15% on the last day of the six month period. We have reserved for issuance 600,000 shares of common stock under the Employee Stock Purchase Plan.