The Company currently occupies approximately 26,500 square feet of office space located at 26 Harbor Park Drive, Port Washington, New York 11050 (the "Facility"). The Company subleases the Facility from BFS Realty, LLC, an affiliate of the Company's Chairman (the "Affiliate"). The Affiliate leases the Facility from the Nassau County Industrial Development Agency, pursuant to a lease (the "Lease"), which was entered into by that Agency and the Affiliate in July 1994. The Lease expires in March 2005. The Affiliate has the right to become the owner of the Facility upon expiration of the Lease. The Affiliate subleases a portion of the Facility to the Company. The Company currently pays rent to the Affiliate in the amount of $336,780 per year, plus monthly expenses for maintenance, real estate taxes, utilities and the like. The rent increases 5% annually. The Affiliate also receives rent from other companies that occupy space in the Facility, some of which are affiliated with the Company's Chairman. The Company believes that the Facility is adequate for current purposes. A copy of the lease between the Company and the Affiliate is attached hereto as Exhibit 10.60.
Pursuant to a lease dated August 10, 1998 and expiring on August 31, 2005, Health Card occupies approximately 1,500 square feet at 63 Manorhaven Boulevard, Port Washington, New York, which is used as a pharmacy. The landlord for these premises is 61 Manorhaven Boulevard, LLC, of which the Company's Chairman is the sole member. The current monthly rent is $1,654 per month through August 31, 2002. The annual rent increases by 5% per year. Additional rent, in the form of certain expenses, is also payable.
In addition, Health Card rents a two family house in Port Washington, New York (near the Company's offices) from P.W. Capital, LLC, which is used for out-of-town employees. Health Card evaluated the cost of hotels for these individuals and determined it was more cost efficient to rent the house at a monthly rate of $5,500. During the fiscal year ended June 30, 2001, Health Card paid P.W. Capital, LLC, $16,500 in rent for this facility.
The following tables summarize certain selected financial information for each of the years in the five year period ended June 30, 2001 and provides certain supplemental data. The selected consolidated income statement data for the years ended June 30, 1999, 2000 and 2001 and the selected consolidated balance sheet data as of June 30, 2000 and 2001 have been derived from the audited consolidated financial statements of Health Card included in Item 8 hereof. The selected consolidated income statement data for the years ended June 30, 1997 and 1998 and the selected consolidated balance sheet data as of June 30, 1997, 1998 and 1999 have been derived from the audited consolidated financial statements of Health Card which are not included in this Form 10-K. Revenue and cost of claims for all five years have been adjusted based on EITF 00-14 (see
The audited consolidated financial statements include the accounts of Health Card and its wholly owned subsidiaries, PAI, PMP, IPA, and Specialty. Unless the context otherwise requires, references herein to the "Company" or "Health Card" refer to the Company and its subsidiaries on a consolidated basis. The results of operations and balance sheet of PAI have been included in the consolidation as of July 20, 2000, the effective date that the Company acquired PAI. The results of operations and balance sheet of PMP have been included in the consolidation as of March 5, 2001, the effective date that the Company acquired PMP. All material intercompany balances and transactions have been eliminated in the consolidation.
Health Card derives its revenue from the provision of comprehensive pharmacy benefit management services to sponsors of prescription benefit plans. Substantially all of the services Health Card provides to its sponsors are related to the adjudication of the drug claims at the point of service. Health Card also recognizes administrative fees at the time of claims adjudication.
Years Ended June 30, 1999 2000 2001 Charges relating to Pharmaceuticals $127,120,998 $165,170,552 $266,958,691 Administrative fees and other 1,141,667 2,505,075 5,160,449 ------------ ------------ -----------
Health Card does not take possession or legal ownership of the pharmaceutical drugs dispensed by the pharmacy network, although Health Card assumes the legal responsibility and financial risk of paying for dispensed pharmaceuticals whether or not Health Card is paid by its sponsors, unless it states otherwise in Health Card's contracts with individual pharmacies and/or chains. All of Health Card's new pharmacy contracts specify that the pharmacies will not be paid if Health Card is not paid by its sponsors.
Due to changing market conditions and competition, it is possible that the percentage of rebates retained by Health Card based on its arrangements with its sponsors may change when these arrangements expire and may be lower in arrangements with new sponsors. Any such change in the percentage of rebates retained and recorded as a reduction of revenue could have a material adverse effect on Health Card's business, operating results and financial condition.
The pharmacy benefit management industry is intensely competitive, generally resulting in continuous pressure on Health Card's gross profit as a percentage of total revenue. In recent years, industry consolidation and dramatic growth in managed healthcare have led to increasingly aggressive pricing of pharmacy benefit management services. Given the pressure on all parties to reduce healthcare costs, Health Card expects this competitive environment to continue for the foreseeable future.
Health Card plans to continue its internal growth through increased marketing of its services and by expanding the range of services offered, particularly to include value added consulting and information-based services which Health Card believes to be in growing demand within the healthcare industry. In addition, Health Card intends to continue to pursue an acquisition program to supplement its internal growth by making acquisitions of other pharmacy benefit management service providers, as well as related services providers.
Revenues for both the fiscal years were adjusted based on EITF 00-14, Accounting for Certain Sales Incentives - Coupons, Rebates and Discounts. The financial impact of this is to reduce revenues by the amount of rebates to be paid to sponsors and reduce cost of claims by the gross amount of rebates received by the Company. Previously the net difference between the gross amount received by the Company and the amount paid to sponsors was treated as a reduction in cost of claims with no change to revenue. The impact of this change was to reduce revenue and cost of claims by $4.6 million and $5.9 million for the fiscal years ended June 30, 2000 and 2001, respectively.
Selling, general, and administrative expenses, which include amounts charged by affiliates, increased $9.0 million, or approximately 73%, from $12.4 million for the fiscal year ended June 30, 2000 to $21.4 million for the fiscal year ended June 30, 2001. Approximately 46% of the increase, or $4.2 million, was related to the inclusion of PAI and PMP in the consolidated numbers. The balance of the growth in these expenses was principally related to five areas: (i) an approximate $1,533,000 increase in expenditures related to increases in compensation and benefits, primarily associated with new employees including senior management; (ii) an approximate $635,000 increase in depreciation and amortization expenses related to increased hardware procurement and software development; (iii) an approximate $430,000 increase in data processing charges related to increased information technology services; (iv) an aggregate of approximately $1,353,000 related to actual payments made and/or reserves accrued related to the following matters: (A) the settlement of the West Contra Costa lawsuit (see Item 3, Legal Proceedings), (B) the reconciliation and settlement of amounts due to a former major sponsor (See Note 7 to the Consolidated Financial Statements), and (C) the settlement of the Allcare patent infringement (See Item 3 - Legal Proceedings), and (v) an approximate $283,000 increase in legal fees related primarily to the defense of the items discussed in (iv) above.
Other income, net, declined by approximately $45,000, or 5%, from $922,000 in the fiscal year ended June 30, 2000, to $877,000 in the fiscal year ended June 30, 2001. The main factor in the decline was an approximate $155,000 increase in interest expense, primarily related to the fact that the Company entered into a capital lease agreement with Hewlett Packard for computer hardware and related software that went into effect in March 2000. The increase in interest expense was partially offset by an approximate $111,000 increase in interest income related to increased cash flow due to the inclusion of PAI, PMP and SPC.
There were a total of four negative adjustments reflected in the Company's financial performance during the fiscal year ended June 30, 2001, related to settlements with sponsors and/or lawsuits. These settlements, which are described above and in Item 3 - Legal Proceedings, and which relate to prior fiscal years, reduced income before income taxes by approximately $2,086,000. Of this total, $773,000 was actually paid out during the fiscal year, with the balance to be paid during the fiscal year ended June 30, 2002. The Company is not currently aware of any other issues that might require a settlement. The Company believes its bad debt reserves and other reserves should be sufficient based on current information.
Revenues for both the fiscal years were adjusted based on EITF 00-14, Accounting for Certain Sales Incentives - Coupons, Rebates and Discounts. The financial impact of this is to reduce revenues by the amount of rebates to be paid to sponsors and reduce cost of claims by the gross amount of rebates received by the Company. Previously the net difference between the gross amount received by the Company and the amount paid to sponsors was treated as a reduction in cost of claims with no change to revenue. The impact of this change was to reduce revenue and cost of claims by $5.8 million and $4.6 million for the fiscal years ended June 30, 1999 and 2000, respectively.
Gross profit increased $1.8 million, or approximately 14%, from $12.5 million for the fiscal year ended June 30, 1999 to $14.3 million for the fiscal year ended June 30, 2000, primarily as a result of the increase in revenues, offset by the increase in cost of claims.
Selling, general and administrative expenses, which include amounts charged by affiliates, increased $2.2 million, or approximately 22%, from $10.2 million for the fiscal year ended June 30, 1999 to $12.4 million for the fiscal year ended June 30, 2000. $1.3 million of the increase resulted from increases in compensation, benefits, rent, sales and marketing and other expenses related to the continued expansion of Health Card's business. The majority of the compensation and benefits increase is related to approximately twenty additional employees at June 30, 2000 compared to June 30, 1999. Depreciation and amortization expenses also increased by approximately $528,000, as a function of increased hardware procurement and software development as Health Card continues to enhance its information technology capabilities. Health Card also evaluated its receivables due from certain sponsors, including a key sponsor currently in receivership, as described above, and determined it should increase its reserves and/or write-off some balances. The impact on Health Card was an incremental $338,000 in bad debt expense in fiscal 2000 as compared to fiscal 1999. This accounted for the majority of the remaining increase in selling, general and administrative expenses. While selling, general and administrative expenses increased year over year in an absolute amount, they grew at a slower rate than the increase in revenue. These expenses as a percentage of revenue actually declined from 7.6% in fiscal year 1999 to 7.2% in fiscal year 2000.
General and administrative expenses charged by affiliates increased $169,000, or approximately 6%, from $2,817,000 for the fiscal year ended June 30, 1999 to $2,986,000 for the fiscal year ended June 30, 2000, primarily as a result of increased information technology services and rent to support the business.
Other income increased approximately $330,000, from $592,000 for the fiscal year ended June 30, 1999 to $922,000 for the fiscal year ended June 30, 2000. The net increase to income was due to an increase in interest income of $327,000 earned on increased cash from the Public Offering and an $83,000 decrease in offering costs. This addition to income was partially offset by an $80,000 increase in interest expense from a capital lease for computer hardware.
The provision for income taxes increased approximately $271,000 from $976,000 for the fiscal year ended June 30, 1999 to $1,247,000 for the fiscal year ended June 30, 2000. The provision for the fiscal year ended June 30, 1999 was reduced by the utilization of a $595,000 net operating loss carryforward. There is no remaining net operating loss carryforward to the year ended June 30, 2000.
The Company's primary cash requirements are for capital expenditures and operating expenses, including cost of pharmaceuticals, software and hardware upgrades and the funding of accounts receivable. The Company also requires cash for potential acquisitions of other pharmacy benefit management companies or of companies providing related services. As of June 30, 2001, the Company had a working capital deficit of $7.1 million as compared to working capital of $6.0 million as of June 30, 2000. The primary reasons for the change in working capital were the acquisitions of PAI and PMP. The Company utilized $11.3 million of cash and cash equivalents, net of cash received, to acquire these companies during the fiscal year ended June 30, 2001. These funds came from the Company's working capital; thus a long term asset, goodwill, was acquired with a short term asset, cash.
Historically, the timing of the Company's accounts receivable and accounts payable has generally been a net source of cash from operating activities. This is the result of the terms of trade in place with plan sponsors on the one hand, and the Company's pharmacy network on the other hand. These terms generally lead to the Company's payments to participating pharmacies being slower than its corresponding collections from plan sponsors. The Company believes that this situation is not unusual in the pharmacy benefit management industry and expects to operate on similar terms for the foreseeable future. However, there can be no assurance that such terms of trade will continue in the future and, if they were to change materially, the Company could require additional working capital financing. There can be no assurance that such financing could be obtained at rates or on terms acceptable to the Company, if at all. If such terms of trade were to change materially, and/or if the Company were unable to obtain additional working capital financing, there could be a material adverse effect on the Company's business, financial condition, or results of operations.
Net cash used in investing activities was $15.1 million for the fiscal year ended June 30, 2001. The net cash outlay for PAI was initially $4.6 million, representing the initial payment of $6.0 million plus $0.3 million of related expenses, less PAI's cash balance at July 20, 2000 of $1.7 million. The net cash outlay for PMP was $6.7 million, representing the initial payment of $6.8 million plus $0.2 million of related expenses, less PMP's cash balance at March 5, 2001 of $0.3 million. In addition, there were $3.8 million of capital asset additions during the period. For the fiscal year ended June 30, 2000 there were $2.4 million of capital asset additions, which was partially offset by the repayment of a note by the majority stockholder. Net cash used in financing activities was $742,000 for the fiscal year ended June 30, 2001, reflecting repayments against capital leases. This compares to $8.6 million provided by financing activities for the fiscal year ended June 30, 2000, reflecting the cash received from the Public Offering described herein.
The Company assumed all the assets and liabilities of PAI, as of July 20, 2000, including two outstanding loans as follows: (i) a note payable to Regions Bank with a principal balance as of June 30, 2001 of $71,136. Such note is payable in monthly installments in the amount of $2,432, including interest at the rate of 7.75% and principal through July 2004. Repayment of such note is currently secured by a lien on and a security interest in an automobile; and (ii) a loan representing prepaid rebates from its rebate administrator with a principal balance as of June 30, 2001 of $86,625, payable with interest at the rate of 8.5% in four quarterly payments of $94,261 commencing December 31, 2000 and ending September 30, 2001.
PAI stockholders were eligible to receive up to $1,000,000 in additional consideration payable in combination of cash and common stock if certain financial targets of PAI were met for the fiscal year ended June 30, 2001. These targets have been achieved and the $1 million has been earned. $750,000 in cash was paid, and 62,500 shares of the Company's Common Stock valued at $4.00 per share were issued to the PAI stockholders at the end of August, 2001. The PAI stockholders are eligible to receive one more payment of up to $1 million if certain financial targets of PAI are met for the fiscal year ended June 30, 2002.
In February 1998, the Company entered into an agreement with an unaffiliated party for computer software products and professional services. The agreement required the Company to pay an initial license fee. In addition, if certain milestones are met based on the number of processed claims, as defined in the agreement, the initial license fee increases in specified increments. To date, three such milestones have been met, resulting in a 75% increase in the license fee. The agreement also provides for the annual payment of a fee for maintenance and updating services equal to 18% of the initial license fee, as defined. It is anticipated that, based on internal growth and the PAI and PMP acquisitions, at least one additional milestone will be met during calendar year 2001. If the two remaining milestones are reached, the cash outlay by the Company would be $200,000.
Effective August 1, 2001, Health Card entered into a new lease for the premises it occupies in Port Washington, New York. See Item 2 hereof (Description of Properties) for a description of such lease.
In August of 2001, the Company and West Contra Costa School District reached an agreement on the terms of a settlement of the litigation involving these two parties. See Item 3 hereof (Legal Proceedings) for a description of the litigation and the contemplated settlement.
The audited financial statements of Health Card as of June 30, 2000 and 2001 and for the years ended June 30, 1999, 2000 and 2001 are included in this Form 10-K following Item 14 hereof.