Back to GetFilings.com
================================================================================
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C., 20549
-----------------
FORM 10-K
[X]ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 1997
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934 [NO FEE REQUIRED]
For the transition period from _____ to _____
Commission File No. 0-20260
Commission File No. 1-11440
INTEGRAMED AMERICA, INC.
(Exact name of registrant as specified in its charter)
Delaware
(State or other jurisdiction of incorporation or organization)
06-1150326
(I.R.S. Employer Identification No.)
One Manhattanville Road
Purchase, New York 10577
(Address of principal executive offices) (Zip Code)
(914) 253-8000
(Registrant's telephone number, including area code)
----------------------------
Securities registered pursuant to Section 12(b) of the Act:
None
Securities registered pursuant to Section 12(g) of the Act:
Series A Cumulative Convertible Preferred Stock, $1.00 par value
Common Stock, $.01 par value
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes X No
Indicate by check mark if disclosure of delinquent filer pursuant to Item
405 of Regulation S-K (17 CRF ss. 229.405) is not contained herein, and will not
be contained, to the best of registrant's knowledge, in definitive proxy or
information statements incorporated by reference in Part III of this form 10-K
or any amendment to this Form 10-K [ ]
Aggregate market value of voting stock (Common Stock, $.01 par value and
Preferred Stock, $1.00 par value) held by non-affiliates of the Registrant was
approximately $33.5 million on March 19, 1998 based on the closing sale price of
the Common Stock and Preferred Stock on such date.
The aggregate number of shares of the Registrant's Common Stock, $.01 par
value, outstanding was approximately 21,344,423 on March 19, 1998.
================================================================================
DOCUMENTS INCORPORATED BY REFERENCE
See Part III hereof with respect to incorporation by reference from the
Registrant's definitive proxy statement for the fiscal year ended December
31, 1997 to be filed pursuant to Regulation 14A under the Securities
Exchange Act of 1934 and the Exhibit Index hereto.
PART I
ITEM 1. Business
Company Overview
IntegraMed America, Inc. (the "Company") is a physician practice management
company specializing in women's reproductive health care, with a focus on
infertility and assisted reproductive technology ("ART") services. The Company
provides comprehensive management services to a nationwide network of medical
providers currently consisting of twelve sites (each, a "Network Site"). Each
Network Site consists of a location or locations where the Company has a
management agreement with a physician group or hospital (each, a "Medical
Practice") which employs the physicians or where the Company directly employs
the physicians.
The Company operates under two divisions: the Reproductive Science Center
Division (the "RSC Division"), which provides management services to Medical
Practices focused on infertility and ART services, and the Adult Women's Medical
Division (the "AWM Division"), which provides management services to Medical
Practices focused on health care services for peri- and post-menopausal women.
Currently, there are eleven Network Sites in the RSC Division (the "Reproductive
Science Centers") with twenty-three locations in ten states and the District of
Columbia. Currently, there is one Network Site with two locations under the AWM
Division which commenced operations in June 1996.
Industry
Physician Practice Management
The health care industry in the United States is undergoing significant
changes in an effort to manage costs more efficiently while continuing to
provide high quality health care services. The United States Health Care
Financing Administration has estimated that national health care expenditures in
1996 were over $1,035 billion, with approximately $202 billion directly
attributable to physician services. Historically, health care in the United
States has been delivered through a fragmented system of health care providers.
Concerns over the accelerating costs of health care have resulted in
increased pressures from payors, including governmental entities and managed
care organizations, on providers of medical services to provide cost-effective
health care. Many payors are increasingly expecting providers of medical
services to develop and maintain quality outcomes through utilization review and
quality management programs. In addition, such payors typically desire that
physician practices share the risk of providing services through capitation and
other arrangements that provide for a fixed payment per member for patient care
over a specified period of time. This focus on cost-containment and financial
risk sharing has placed physician groups and sole practitioners at a significant
competitive disadvantage because they typically have high operating costs,
limited purchasing power with suppliers and limited abilities to purchase
expensive state-of-the-art equipment and invest effectively in sophisticated
information systems.
In response to reductions in the levels of reimbursement by third-party
payors and the cost-containment pressures on health care providers, physicians
are increasingly seeking to affiliate with larger organizations, including
physician practice management companies, which manage the nonmedical aspects of
physician practices, such as billing, purchasing and contracting with payor
entities. In addition, affiliation with physician practice management companies
2
provides physician groups with improved access to (i) state-of-the-art
laboratory facilities, equipment and supplies, (ii) the latest technology and
diagnostic and clinical procedures, (iii) capital and informational, managerial
and administrative resources and (iv) access to managed care relationships.
The trends that are leading physicians to affiliate with physician practice
management companies are magnified in the field of reproductive medicine due to
several factors, including (i) the increasingly high level of specialized skills
and technology required for comprehensive patient treatment, (ii) the capital
intensive nature of acquiring and maintaining state of-the-art medical equipment
and laboratory and clinical facilities, (iii) the need to develop and maintain
specialized management information systems to meet the increasing demands of
technological advances, patient monitoring and third-party payors, and (iv) the
need for seven-days-a-week service to respond to patient needs and to optimize
the outcomes of patient treatments.
Reproductive Medicine
Reproductive medicine encompasses several medical disciplines that focus on
male and female reproductive systems and processes. Within the field of
reproductive medicine, there are several subspecialties, such as obstetrics and
gynecology, infertility and reproductive endocrinology. While there are many
reasons why couples have difficulty conceiving, the single most prominent course
of infertility therapy involves management of the women's endocrine system to
optimize an opportunity for pregnancy. Most obstetricians perform ovulation
induction, and many gynecologists perform conventional infertility treatments.
Infertility specialists are gynecologists who perform more sophisticated medical
and surgical infertility treatments. Reproductive endocrinology refers to the
diagnosis and treatment of all hormonal problems that lead to abnormal
reproductive function or have an effect on the reproductive organs. Reproductive
endocrinologists are physicians who have completed four years of residency
training in obstetrics and gynecology and have at least two years of additional
training in an approved subspecialty fellowship program.
Conventional infertility services include diagnostic tests performed on the
female, such as endometrial biopsy, laparoscopy/hysteroscopy examinations and
hormone screens, and diagnostic tests performed on the male, such as semen
analysis and tests for sperm antibodies. Depending on the results of the
diagnostic tests performed, conventional treatment options may include, among
others, fertility drug therapy, artificial insemination and infertility
surgeries. These conventional infertility services are not classified as ART
services. Current types of ART services include in vitro fertilization, gamete
intrafallopian transfer, zygote intrafallopian transfer, tubal embryo transfer,
frozen embryo transfer and donor egg programs. Current ART techniques used in
connection with ART services include intra-cytoplasmic sperm injection, assisted
hatching and cryopreservation of embryos.
According to The American Society for Reproductive Medicine, it is
estimated that in 1995 approximately 10% of women between the ages of 15 and 44,
or 6.1 million women, had impaired fertility. According to industry sources,
annual expenditures relating to infertility services exceed $1 billion. The
Company believes that multiple factors over the past several decades have
affected fertility levels. A demographic shift in the United States toward the
deferral of marriage and first birth has increased the age at which women are
first having children. This, in turn, makes conception more difficult and
increases the risks associated with pregnancy, thereby increasing the demand for
ART services. In addition, the technological advances in the diagnosis and
treatment of infertility have enhanced treatment outcomes and the prognoses for
many couples.
Traditionally, conventional infertility services generally have been
covered by managed care payors and indemnity insurance, while ART services have
been paid for directly by patients. Currently, there are several states that
mandate offering benefits of varying degrees for infertility services, including
ART services. In some states, the mandate is limited to an obligation on the
part of the payor to offer the benefit to employers. In Massachusetts, Rhode
Island, Maryland, Arkansas, Illinois and Hawaii, the mandate requires coverage
of conventional infertility services as well as ART services.
In the United States, there are approximately 38,000 OB/GYNs and
approximately 1,500 infertility specialists of which approximately 600 are
reproductive endocrinologists. There are approximately 400 facilities providing
3
ART services in the United States, of which approximately half are
hospital-affiliated and half are free-standing physician practices.
Increasingly, hospital affiliated programs are moving out of the hospital and
into lower cost physician practice settings.
Adult Women's Health Care
The wide range of medical conditions that frequently emerge in women in
menopause comprise a critical element of adult women's health care. When many
women reach menopause, they begin to experience a number of associated physical
and psychological conditions. For example, women entering menopause frequently
have a condition known as estrogen deficiency. Low levels of estrogen have been
associated with osteoporosis, cardiovascular disease, and metabolic and
endocrine disorders. Furthermore, women in menopause are at increased risk for a
number of other conditions, including various cancers, arthritis, urinary
incontinence, and visual and hearing disorders. In addition to the range of
physical symptoms, women in menopause frequently experience psychological
disorders, including depression and other emotional problems.
In the United States, there are over 20 million peri-menopausal women (ages
40-50) and approximately 39 million post-menopausal women (over age 50). An
additional 42 million women in the United States will reach age 50 over the next
20 years. Most women in the peri-menopausal range are asymptomatic, but have
underlying health issues that begin to emerge with the onset of menopause.
Traditionally, women in menopause have been treated by their OB/GYN with hormone
replacement therapy and are referred to a specialist if there is suspicion of
more complicated health problems. The additional conditions and symptoms
associated with menopause are typically treated by a disconnected array of other
physicians, including those specializing in primary care, endocrinology,
internal medicine, orthopedic medicine, psychiatry and others, often leading to
increased patient inconvenience and higher costs.
The Company believes there is a significant unmet medical need for a
comprehensive diagnostic and treatment approach to the broad range of medical
conditions that emerge in peri- and post-menopausal women. While a number of
physician practice management companies have developed a focus on obstetrics and
gynecology, the Company believes that there are currently no well organized
medical delivery systems that fully address the preventative and therapeutic
needs of peri- and post-menopausal woman. The Company believes that peri- and
post-menopausal women's health and well being can be vastly improved through a
comprehensive program of preventative and curative treatment and guidance.
Company Strategy
The Company's objective is to develop, manage and integrate a nationwide
network of Medical Practices specializing in the provision of high quality,
cost-effective women's reproductive health care services. The primary elements
of the Company's strategy include (i) establishing additional Network Sites,
(ii) increasing revenues at the Network Sites, (iii) increasing operating
efficiencies at the Network Sites, (iv) developing a nationwide integrated
information system and (v) further developing the AWM Division.
Establishing Additional Network Sites
The Company intends to further develop its nationwide network of Medical
Practices by acquiring certain assets of and the right to manage leading
physician practices specializing in infertility and ART services. The Company
will primarily focus its acquisition activities on larger group practices
operating in major cities, as Medical Practices providing infertility and ART
services require high fixed overhead which smaller physician group practices
(two physicians) and sole practitioners have difficulty in supporting. The
Company believes that a number of beneficial factors will contribute to the
successful expansion of its network. These factors include (i) the high quality
reputation of the Company in providing management services in the areas of
infertility and ART services, (ii) the Company's experience and expertise in
increasing revenues and lowering costs at its Medical Practices, (iii) the
Company's success in improving patient outcomes by providing management services
4
to its Medical Practices and (iv) the Company's affiliations and relationships
with leading academic institutions, health care companies and managed care
organizations and other third-party payors.
Increasing Revenues at the Network Sites
The Company intends to increase revenues derived under its management
agreements by assisting the Medical Practices in (i) adding additional
physicians to achieve multi-physician group practices with sizable market
presence, (ii) adding services offered at the Medical Practices which have
previously been outsourced, such as laboratory and ART services, (iii)
increasing marketing and practice development efforts and (iv) increasing the
participation of the Medical Practices in clinical trials of new drugs under
development.
Increasing Operating Efficiencies at the Network Sites
The Company intends to increase the operating efficiencies of its Network
Sites. Medical Practices will be able to reduce the costs of supplies, drugs,
equipment, services and insurance by contracting through the Company on a
consolidated group basis. In addition, by eliminating the administrative and
management burdens of running a Medical Practice, the Company enables physicians
to devote a greater portion of their efforts and time to meeting the medical
needs of their patients, which the Company believes leads to improved clinical
outcomes and greater patient satisfaction at lower costs.
Developing a Nationwide, Integrated Information System
The Company plans to utilize its established base of Network Sites to
develop a nationwide, integrated information system to collect and analyze
clinical, patient, administrative and financial data. The Company believes it
will be able to use this data to control expenses, measure patient outcomes,
improve patient care, develop and manage utilization rates and maximize
reimbursements. The Company also believes an integrated information system will
allow the Medical Practices to more effectively compete for and price managed
care contracts, in large part because an information network can provide these
managed care organizations with access to patient outcomes and cost data.
Further Developing the AWM Division
With the establishment of its current AWM Network Site, the Company has
developed a clinical care model, which it is still refining, whereby it can
effectively provide the broad range of medical services necessary for the
treatment of peri- and post-menopausal women. The Company's AWM Network Site
offers a multidisciplinary approach, integrating "under one roof" the physicians
and other medical specialists necessary for the prevention, diagnosis and
treatment of peri- and post-menopausal conditions. The Company intends to seek
to enter into long-term management agreements with hospitals pursuant to which
the Company would assist hospitals so that they may offer a multidisciplinary
approach for the treatment of peri- and post-menopausal women. In addition, the
Company intends to continue to expand the participation of the AWM Division in
the clinical testing of new drugs to treat women's health care conditions and
the promotion of educational programs relating to menopause.
5
Management Services
The Company provides comprehensive management services to support the
Medical Practices. In particular, the Company provides (i) administrative
services, including accounting and finance, human resource functions, and
purchasing supplies and equipment, (ii) access to capital, (iii) marketing and
practice development, (iv) information systems and assistance in developing
clinical strategies and (v) access to technology. These services allow the
physicians to devote a greater portion of their efforts and time to meeting the
medical needs of their patients, which the Company believes leads to improved
outcomes and greater patient satisfaction at lower costs.
Administrative Services
The Company provides all of the administrative services necessary for the
non-medical aspects of the Medical Practices, including (i) accounting and
finance services, such as billing and collections, accounts payable, payroll,
and financial reporting and planning, (ii) recruiting, hiring, training and
supervising all non-medical personnel, and (iii) purchasing of supplies,
pharmaceuticals, equipment, services and insurance. By providing the Medical
Practices relief from increasingly complex administrative burdens, the Company
enables physicians at the Medical Practices to devote their efforts on a
concentrated and continuous basis to the rendering of medical services.
Furthermore, the economies of scale inherent in a network system enable the
Company to reduce the operating costs of its affiliated Medical Practices by
centralizing certain management functions and by contracting for group
purchases.
Access to Capital
The Company provides the Network Sites increased access to capital.
Increased access to capital allows for expansion and growth of the Medical
Practices, as well as the acquisition of state-of-the-art laboratory, diagnostic
and clinical facilities needed to conduct advanced procedures and to achieve
successful clinical outcomes. For example, many ART procedures, which are being
performed in hospital settings, result in higher costs and less revenues to the
physicians. By providing ART facilities, the Company enables Medical Practices
to reduce costs and increase revenues by removing these procedures from hospital
settings.
Marketing and Practice Development
In today's highly competitive health care environment, marketing and
practice development are essential for the growth and success of physician
practices. However, these marketing and development efforts are often too
expensive for many physician practice groups. Affiliation with the Company's
network provides physicians access to significantly greater marketing and
practice development capabilities than would otherwise be available. The
Company's marketing services focus on revenue and referral enhancement,
relationships with local physicians, media and public relations and managed care
contracting.
The Company believes that participation in its network will assist Medical
Practices in establishing contracts with managed care organizations. With
respect to the RSC Division, the Company believes that integrating infertility
physicians with ART facilities produces a full service Medical Practice that can
compete more effectively for managed care contracts. With respect to the AWM
Division, the Company believes that the clinical care model developed at the AWM
Network Site, which the Company is still refining, and the preventative nature
of the services offered will be well received by managed care organizations.
Information Systems and Clinical Strategies
The Company provides the Medical Practices with information systems and
assists Medical Practices in developing clinical strategies and implementing
quality assurance and risk management programs in order to improve patient care
and clinical outcomes. For example, the RSC Division has instituted a pregnancy
rate improvement program that focuses the physicians and laboratory technicians
on the principal elements necessary to achieve successful outcomes and
incorporates periodic quality review programs. The Company believes that this
6
program has contributed to improved pregnancy rates at the RSC Network Sites.
Physicians at the Medical Practices also can access a number of customized
practice and research based systems designed by the Company for analyzing
clinical data.
Access to Technology
By affiliating with the Company's network, Medical Practices gain access to
advanced technologies, as well as diagnostic and clinical procedures. For
example, through participation in clinical trials of new drugs under development
for major pharmaceutical companies, Medical Practices have the opportunity to
apply technologies developed in a research environment to the clinical setting.
Additionally, participation in clinical trials gives Medical Practices
preferential involvement in cutting edge therapies and provide these practices
with an additional source of revenue. Furthermore, the Company sponsors research
conducted at leading ART programs, including Monash University, Australia.
The Network Sites
Each of the Company's Network Sites consists of a location or locations
where the Company has a management agreement with a Medical Practice, which in
turn employs the physicians or where, in the case of the AWM Network Site, the
Company owns the Medical Practice and directly employs the physicians. At
certain Network Sites, Medical Practices have agreements with physicians who are
not employed by the particular Medical Practices or the Company for such
physicians to use the Network Sites' facilities.
7
Current Network Sites
The Company currently has a nationwide network consisting of twelve Network
Sites with 25 locations in eleven states and the District of Columbia and 58
physicians. The following table describes in detail each Network Site:
Initial
Number of Number of Management
Network Site City Locations Physicians(1) Contract Date
------------ ---- --------- ------------- -------------
RSC DIVISION
Reproductive Science Center of Boston........ Waltham, MA 2 5 July 1988
Reproductive Science Associates.............. Mineola, NY 2 10 June 1990
(Long Island)
Institute of Reproductive Medicine and
Science of Saint Barnabas Medical Center... Livingston, NJ 1 5 December 1991
Reproductive Science Center of
Greater Philadelphia....................... Wayne, PA 1 7 May 1995
Reproductive Science Associates.............. Kansas City, MO 1 1 November 1995
Reproductive Science Center of Walter Reed
Army Medical Center........................ Washington, DC 1 7 December 1995
Reproductive Science Center of Dallas........ Carrollton, TX 1 1 May 1996
Reproductive Science Center of the Bay Area
Fertility and Gynecology Medical Group..... San Ramon, CA 1 3 January 1997
Reproductive Sciences Medical
Center of San Diego........................ La Jolla, CA 1 1 June 1997
Fertility Centers of Illinois, S.C........... Chicago, IL 8 9 August 1997
Shady Grove Fertility Centers................ Rockville, MD
Annandale, VA
Washington, DC 4 6 March 1998
AWM DIVISION
Women's Medical & Diagnostic Center......... Gainesville, FL 2 3 June 1996 (2)
- ----------
(1) Includes physicians employed by the Medical Practices or the Company, as
well as physicians who have arrangements to utilize the Company's
facilities.
(2) Represents the date of acquisition of the AWM Network Site.
Recent Acquisitions
In January 1997, the Company acquired certain assets of Bay Area Fertility
and acquired the right to manage the Bay Area Fertility and Gynecology Medical
Group, Inc., a California professional corporation which is the successor to Bay
Area Fertility's medical practice. The aggregate purchase price was
approximately $2.1 million, consisting of $1.5 million in cash and 333,333
shares of Common Stock. The majority of the purchase price was allocated to
exclusive management rights.
In June 1997, the Company acquired certain assets of and the right to
manage Reproductive Sciences Medical Center, Inc. ("RSMC"), a California
professional corporation located near San Diego, CA (the "San Diego
Acquisition"). The aggregate purchase price for the San Diego Acquisition was
approximately $900,000, consisting of $50,000 in cash and 145,454 shares of
Common Stock payable at closing and $650,000 payable upon the achievement of
certain specified milestones, at RSMC's option, in cash or in shares of the
Company's Common Stock, based on the closing market price of the Common Stock on
8
the third business day prior to issuance. On March 10, 1998, the Company
received notice from RSMC claiming that the Company has materially breached its
management agreement with RSMC and demanding that the alleged breaches be
remedied. Contrary to RSMC's assertions, the Company believes both that it has
materially performed its obligations under the management agreement with RSMC
and that RSMC has materially breached its obligations to the Company under the
management agreement, as well as other agreements with the Company. While the
Company continues to perform, it is endeavoring to submit the dispute to binding
arbitration, which is the governing dispute-resolution process required under
the management agreement, and may be compelled to seek rescission of all
agreements with RSMC. The Company can offer no assurance that resolution of this
matter will not result in the termination of the management agreement or
otherwise adversely impact the Company.
In August 1997, the Company acquired certain fixed assets of and the right
to manage Fertility Centers of Illinois, S.C. ("FCI"), a physician group
practice comprised of six physicians and six locations in the Chicago, Illinois
area. The aggregate purchase price was approximately $8.6 million, consisting of
approximately $6.6 million in cash and 1,009,464 shares of Common Stock.
Approximately $8.0 million of the aggregate purchase price was allocated to
exclusive management rights and $559,000 was allocated to certain fixed assets.
Simultaneous with closing on the FCI transaction, the Company, on behalf of
FCI, completed its first in-market merger with the addition of Edward L. Marut,
MD to the FCI practice. The aggregate purchase price was $803,000 in cash, of
which $750,000 was allocated to exclusive management rights and $53,000 was
allocated to certain fixed assets.
In January 1998, the Company completed its second in-market merger with the
addition of two physicians to the FCI practice. The Company acquired certain
assets of Advocate Medical Group, S.C. ("AMG") and Advocate MSO, Inc. and
acquired the right to manage AMG's infertility practice conducted under the name
Center for Reproductive Medicine ("CFRM"). Simultaneous with closing on this
transaction, the Company amended its management agreement with FCI to include
two of the three physicians practicing under the name CFRM. The aggregate
purchase price was approximately $1.5 million, consisting of approximately $1.2
million in cash and 184,314 shares of Common Stock. The majority of the purchase
price was allocated to exclusive management rights.
In March 1998, the Company acquired the majority of the capital stock of
Shady Grove Fertility Centers, Inc. ("Shady Grove"), currently a Maryland
business corporation which provides management services, and formerly a Maryland
professional corporation engaged in providing infertility services. Prior to the
closing of the transaction, Shady Grove had entered into a twenty-year
management agreement with Levy, Sagoskin and Stillman, M.D., P.C. (the "Shady
Grove P.C."), an infertility physician group practice comprised of six
physicians and four locations surrounding the greater Washington, D.C. area. The
Company will acquire the balance of the Shady Grove capital stock on or about
November 1, 1998. The aggregate purchase price for all of the Shady Grove
capital stock was approximately $5.7 million, consisting of approximately $2.8
million in cash, $1.4 million in Common Stock, and $1.5 million in promissory
notes. The purchase price was allocated to the various assets and liabilities
assumed and the balance was allocated to exclusive management rights.
In regard to the shares of Company Common Stock issued in the above
transactions, with the exception of the shares issued in the Bay Area Fertility
transaction, Gerardo Canet, President and Chief Executive Officer of the
Company, was granted a voting proxy with respect to (i) the election of
Directors or any amendment to the Company's Certificate of Incorporation
affecting Directors and (ii) any change in stock options for management and
directors for a two-year period from each transaction's respective closing date.
The Company is evaluating and is engaged in discussions with regard to
several potential acquisitions. However, the Company has no agreements relating
to any acquisitions and there can be no assurance that any definitive agreements
will be entered into by the Company or that any additional acquisitions will be
consummated.
9
Clinical and Medical Services
RSC Network Sites
The RSC Network Sites offer conventional infertility and ART services and
either have, or subcontract with, a state- of-the-art laboratory providing the
necessary diagnostic and therapeutic services. Multi-disciplinary teams help
infertile couples identify and address distinct physical, emotional,
psychological and financial issues related to infertility. Following a
consultation session, a patient couple is advised as to the treatment that has
the greatest probability of success in light of the couple's specific
infertility problem. At this point, a couple may undergo conventional
infertility treatment or, if appropriate, may directly undergo ART treatment.
Infertility and ART Services
Conventional infertility procedures include diagnostic tests performed on
the female, such as endometrial biopsy, post-coital test, laparoscopy
examinations as well as hormone screens, and diagnostic tests performed on the
male, such as semen analysis and tests for sperm antibodies. Depending on the
results of the diagnostic tests performed, conventional services may include
fertility drug therapy, tubal surgery and intrauterine insemination ("IUI"). IUI
is a procedure utilized generally to address male factor or unexplained
infertility. Depending on the severity of the condition, the man's sperm is
processed to identify the most active sperm for insemination into the woman, who
must have a normal reproductive system for this procedure. Such conventional
infertility services are not classified as ART services and are traditionally
performed by infertility specialists.
Current types of ART services include in vitro fertilization ("IVF"),
gamete intrafallopian transfer ("GIFT"), zygote intrafallopian transfer
("ZIFT"), tubal embryo transfer ("TET"), frozen embryo transfer ("FET") and
donor egg and sperm programs. IVF is performed by combining an egg and sperm in
a laboratory and, if fertilization is successful, transferring the resulting
embryo into the woman's uterus. GIFT is performed by inserting an egg and sperm
directly into a woman's fallopian tube with a resulting embryo floating into the
uterus. ZIFT and TET are procedures in which an egg is fertilized in the
laboratory and the resulting embryo is then transferred to the woman's fallopian
tube. ZIFT and TET are identical except for the timing of the transfer of the
embryo. FET is a procedure whereby previously harvested embryos are transferred
to the woman's uterus. Women who are unable to produce eggs but who otherwise
have normal reproductive systems can use the donor egg program in which a donor
is recruited to provide eggs for fertilization that are transferred to the
recipient woman. Current techniques used in connection with ART services include
intra-cytoplasmic sperm injection, assisted hatching and cryopreservation of
embryos.
Development of New Clinical Services
Since 1989, the Company has sponsored research by Monash University in
Melbourne, Australia ("Monash") relating to the development of new ART services
and techniques. In July 1995, the Company entered into a three-year agreement
with Monash University which provides for Monash to conduct research in ART and
human fertility to be funded by a minimum annual payment of 220,000 Australian
dollars by the Company, the results to be jointly owned by the Company and
Monash. If certain milestones are met as specified in the agreement, the
Company's annual payment may be a maximum of 300,000 Australian dollars in year
two and 380,000 Australian dollars in year three. Minimum payments of 55,000
Australian dollars and payments for the attainment of certain research
milestones will be made quarterly throughout the term of the agreement from July
1, 1995 until June 30, 1998. See "Management's Discussion and Analysis of
Financial Condition and Results of Operations -- Liquidity and Capital
Resources." This research led to the world's first birth of a healthy infant
from immature oocyte (egg) technology in 1994. Immature oocyte services involve
using transvaginal ultrasound-guided aspiration to obtain immature oocytes from
a woman's ovaries, maturing and fertilizing of the oocytes in vitro and
transferring one or more of the resulting embryos into the woman's uterus for
development of a possible pregnancy. The Company anticipates that this
technology may, in certain circumstances, facilitate treatment of infertility by
stimulating follicular development without the use of drugs.
10
The Company also has sponsored research by Genzyme Genetics, a division of
Genzyme Corp., relating to preimplantation embryo genetic testing (the fusion of
advances in genetic testing and embryology). Pursuant to the terms of the
agreement, each party was required to fund certain costs relating to the
research projects as well as to contribute up to an aggregate of $300,000 to
fund the joint development program. This agreement terminated in December 1996.
The Company retains the right to technology developed prior to the termination.
The Company believes that preimplantation embryo genetic testing could
potentially offer infertile couples utilizing ART services a higher probability
of the birth of a healthy baby after fertilization, as well as offer fertile
couples at high risk of transmitting a genetic disorder the option to utilize
ART services to achieve pregnancy with a higher degree of certainty that the
fetus will be free of the genetic disorder for which it was tested.
Laboratory Services
All of the RSC Network Sites either have, or subcontract with, a
state-of-the-art laboratory for the Medical Practice to perform diagnostic
endocrine and andrology laboratory tests on patients receiving infertility and
ART services. Endocrine tests assess female hormone levels in blood samples,
while andrology tests analyze semen samples. These tests are often used by the
physician to determine an appropriate treatment plan. In addition, the majority
of the RSC Network Sites generate additional revenue by providing such endocrine
and andrology laboratory tests for non-affiliated physicians in the geographic
area.
AWM Network Site
The Company's AWM Network Site represents the initial clinical care model
for future AWM Network Sites, although it is still undergoing development. The
AWM Network Site focuses on the identification and treatment needs of peri- and
post-menopausal women and incorporates both preventative and curative health
care. The AWM Network Site combines specialty physicians and other health
professionals to offer a multidisciplinary approach to the diagnosis and
treatment of health care problems common to peri- and post-menopausal women.
Such problems include cardiovascular disease, incontinence, osteoporosis,
metabolic and endocrine conditions, and emotional and psychological disorders.
The AWM Division concentrates its efforts in the following three areas: clinical
care, clinical research and educational programs.
Clinical Care
The AWM Division has adopted a clinical care model based on the fact that
the health risk factors of peri- and post- menopausal women can be objectively
measured and once identified, treated. Clinical services include complete
cardiovascular assessment, urodynamic analysis, bone densitometry, hormone
replacement therapy, physical therapy, exercise stress testing, nutrition
assessment/dietary recommendation, psychological/sexual counseling, as well as
mammography and laboratory tests designed to provide early detection of cancers
of the breast, colon and reproductive organs. Clinical services are provided at
the AWM Network Site by physicians and health professionals who specifically
focus on peri-and post-menopausal women.
Clinical Research
The AWM Division contracts with major pharmaceutical companies to perform
clinical trials on new drugs under development to determine the safety and
efficacy of such drugs. The Company believes that participation in these
clinical trials provides access to advanced therapies for patients not otherwise
readily available and generates additional revenue for the Company and the
Medical Practices.
Educational Programs
The AWM Division offers multifaceted educational programs designed to
increase patient compliance, attract new patients and educate peri- and
post-menopausal women on related health care and quality of life issues. For
example, the AWM Division offers support groups, lectures, resource materials
11
and products designed specifically for the needs of adult women. In addition,
the AWM Division has a 1-900 number available to answer common questions women
have regarding their own health.
Network Site Agreements
In establishing a Network Site, the Company typically (i) acquires certain
assets of a Medical Practice, (ii) enters into a long-term management agreement
with the Medical Practice under which the Company provides comprehensive
management services to the Medical Practice, (iii) requires that the Medical
Practice enter into long-term employment agreements containing non-compete
provisions with the affiliated physicians and (iv) assumes the principal
administrative, financial and general management functions of the Medical
Practice. Typically, the Medical Practice contracting with the Company is a
professional corporation of which the physicians are the sole shareholders.
Management Agreements
Typically, the management agreements obligate the Company to pay a fixed
sum for the exclusive right to manage the Medical Practice, a portion or all of
which is paid at the contract signing with any balance to be paid in future
annual installments. The agreements are typically for terms of ten to 25 years
and are generally subject to termination due to insolvency, bankruptcy or
material breach of contract. Generally, no shareholder of the Medical Practice
may assign his interest in the Medical Practice without the Company's prior
written consent.
The management agreements provide that all patient medical care at a
Network Site is provided by the physicians at the Medical Practice and that the
Company generally is responsible for the management and operation of all other
aspects of the Network Site. The Company provides the equipment, facilities and
support necessary to operate the Medical Practice and employs substantially all
such other non-physician personnel as are necessary to provide technical,
consultative and administrative support for the patient services at the Network
Site. Under certain management agreements, the Company is committed to provide a
clinical laboratory. Under the management agreements, the Company may also
advance funds to the Medical Practice to provide new services, utilize new
technologies, fund projects, purchase the net accounts receivable, provide
working capital or fund mergers with other physicians or physician groups.
Under the Company's current form of management agreement, which is in use
at seven Network Sites, the Company receives as compensation for its management
services a three-part management fee comprised of: (i) a fixed percentage of net
revenues generally equal to 6%; (ii) reimbursed costs of services (costs
incurred in managing a Network Site and any costs paid on behalf of the Network
Site); and (iii) a fixed or variable percentage of earnings after the Company's
management fees and any guaranteed physician compensation, or an additional
fixed or variable percentage of net revenues which generally results in the
Company receiving up to an additional 15% of net revenues.
Under another form of management agreement, which had been in use at two
Network Sites during 1997, the Company recorded all patient service revenues
and, out of such revenues, the Company paid the Medical Practices' expenses,
physicians' and other medical compensation, direct materials and certain
hospital contract fees. Specifically, under the management agreement for the
Boston Network Site, the Company guaranteed a minimum physician compensation
based on an annual budget jointly determined by the Company and the physicians.
Remaining revenues, if any, which represented the Company's management fees,
were used by the Company for other direct administrative expenses which were
recorded as costs of services. Under the management agreement for the Long
Island Network Site, the Company's management fee was payable only out of
remaining revenues, if any, after the payment of all expenses of the Medical
Practice. Under these arrangements, the Company had been liable for payment of
all liabilities incurred by the Medical Practices and had been at risk for any
losses incurred in the operation thereof. Effective in October 1997 and January
1998, due to changes in the management agreements related to the Long Island and
Boston Network Sites, respectively, the Company will no longer display patient
service revenues of the Long Island and Boston Medical Practices in "Revenues,
net" in the Company's consolidated statement of operations. The revised
management agreements provide for the Company to receive a specific management
fee which the Company will report in "Revenues, net" in its consolidated
statement of operations. Under the revised management agreement for the Long
12
Island Network Site, as compensation for its management services the Company
will receive a fixed fee (initially equal to $345,000 per annum), subject to
annual increases, plus reimbursed costs of services. Under the revised
management agreement for the Boston Network Site, as compensation for its
management services the Company will receive a three- part management fee
consistent to the majority of the Company's existing management agreements. The
revised agreements provide for increased incentives and risk-sharing for the
Company's affiliated Medical Providers.
In addition, two of the Company's Network Sites are affiliated with medical
centers. Under one of these management agreements, the Company primarily
provides endocrine testing and administrative and finance services for a fixed
percentage of revenues, equal to 15% of net revenues, and reimbursed costs of
services. Under the second of these management agreements, the Company's
revenues are derived from certain ART laboratory services performed; the Company
directly bills patients for these services, and out of these revenues, the
Company pays its direct costs.
Physician Employment Agreements
Physician employment agreements between the Medical Practices and the
physicians generally provide for an initial term ranging from three to five
years, which may be automatically renewed for successive intervals unless the
physician or the Medical Practice elects not to renew or such agreement is
otherwise terminated for cause or the death or disability of a physician. The
physicians are paid based upon either the number of procedures performed or
other negotiated formulas agreed upon between the physicians and the Medical
Practices, and the Medical Practices provide the physicians with health, death
and disability insurance and other benefits. The Medical Practices are obligated
to obtain and maintain professional liability insurance coverage which is
procured on behalf of the physicians. Pursuant to the employment agreements, the
physicians agree not to compete with the Medical Practices with whom they have
contracted during the term of the agreement and for a certain period following
the termination of such employment agreement. In addition, the agreements
contain customary confidentiality provisions.
In Florida, where the Company's current AWM Network Site is located, there
are currently no prohibitions restricting commercial enterprises from owning
medical service companies. As a result, the Company was able to acquire a direct
ownership interest in the Medical Practice at the AWM Network Site. The Company
entered into employment agreements (containing customary non-compete provisions)
directly with the physicians at the AWM Network Site.
Personal Responsibility Agreements
Commencing with management agreements entered into during 1997, in order to
protect its investment and commitment of resources, the Company has entered into
a Personal Responsibility Agreement (a "PR Agreement") with each of the
physicians of the Medical Practice. If the physician should cease to practice
medicine through the respective contracted Medical Practice during the first
five years of the related management agreement, except as a result of death or
permanent disability, the PR Agreement obligates the physician to repay a
ratable portion of the fee paid by the Company to the Medical Practice for the
exclusive right to manage such Medical Practice. The PR Agreement also contains
covenants for the physician not to compete with the Company during the term of
his or her employment agreement with the Medical Practice and for a certain
period thereafter.
Affiliate Care/Satellite Service Agreements
Medical Practices at the Network Sites may also have affiliate care
agreements and satellite service agreements with physicians who are not employed
by the Medical Practices or the Company located in the geographic area of the
Network Sites. Under an affiliate care agreement, the Medical Practice contracts
with a physician for the Medical Practice to provide certain ART services for
the physician's patients. Under a satellite service agreement, the Medical
Practice contracts with a physician for such physician to provide specific
services for the Medical Practice's patients, such as ultrasound monitoring,
blood drawing and endocrine testing.
13
Reliance on Third-Party Vendors
The RSC Network Sites are dependent on three third-party vendors that
produce fertility medications (Lupron, Metrodin and Fertinex) that are vital to
the provision of infertility and ART services. Should any of these vendors
experience a supply shortage, it may have an adverse impact on the operations of
the RSC Network Sites. To date, the RSC Network Sites have not experienced any
such adverse impacts.
Competition
The business of providing health care services is intensely competitive, as
is the physician practice management industry, and each is continuing to evolve
in response to pressures to find the most cost-effective method of providing
quality health care. The Company experiences competitive pressures for the
acquisition of the assets of, and the provision of management services to,
additional physician practices. Although the Company focuses on physician
practices that provide infertility, ART and adult women's reproductive health
care services, it competes for management contracts with other physician
practice management companies, including those focused on infertility and ART
services, as well as hospitals and hospital-sponsored management services
organizations. If federal or state governments enact laws that attract other
health care providers to the managed care market, the Company may encounter
increased competition from other institutions seeking to increase their presence
in the managed care market and which have substantially greater resources than
the Company. There can be no assurance that the Company will be able to compete
effectively with its current competitors, that additional competitors will not
enter the market, or that such competition will not make it more difficult to
acquire the assets of, and provide management services for, physician practices
on terms beneficial to the Company.
The infertility industry is highly competitive and characterized by
technological improvements. New ART services and techniques may be developed
that may render obsolete the ART services and techniques currently employed at
the RSC Network Sites. Competition in the areas of infertility and ART services
is largely based on pregnancy rates and other patient outcomes. Accordingly, the
ability of a Medical Practice to compete is largely dependent on its ability to
achieve adequate pregnancy rates and patient satisfaction levels.
A number of physician practice management companies have emerged with a
focus on routine obstetrics and gynecology. In addition, other health care
corporations, medical providers and physician practice management companies may
decide to enter into the adult women's health care market, particularly if the
Company's concept to establish a multi-disciplinary approach to treat peri- and
post-menopausal women gains market acceptance. In addition, private practice
physician groups often contract with pharmaceutical companies to perform
clinical trials relating to women's health care. These physician group practices
compete with the AWM Network Site in obtaining contracts for clinical trials.
Effects of Third-Party Payor Contracts
Traditionally, ART services have been paid for directly by patients and
conventional infertility services have been largely covered by indemnity
insurance or managed care payors. Currently, there are several states that
mandate offering certain benefits of varying degrees for infertility and ART
services. In some cases, the mandate is limited to an obligation on the part of
the payor to offer the benefit to employers. In Massachusetts, Rhode Island,
Maryland, Arkansas, Illinois and Hawaii, the mandate requires coverage of
conventional infertility services as well as certain ART services.
Over the past few years much attention has been focused on clinical
outcomes in managed care. Infertility is a disorder which naturally lends itself
to developing a managed care plan. First, infertility has a clearly defined
endpoint: an infertile couple either conceives or does not conceive. Second, the
treatment regimens and protocols used for treating infertile couples have
predictable outcomes that make it possible to develop statistical tables for the
probability of success. Third, it is possible to develop rational treatment
plans over a limited period of time for infertile couples. However, there can be
no assurance that third-party payors will increase reimbursement coverage for
ART services.
14
The RSC Division has invested in information technology that takes into
consideration the cost structure of a full service practice, the probability of
achieving clinical success, and defined treatment plans which result in improved
outcomes and reduced costs. The Company estimates that the majority of the
couples participating in infertility and ART services at an RSC Network Site,
other than in California, Massachusetts and Illinois, have greater than 50% of
their costs reimbursed by their health care insurance carrier. In California,
the majority of the patient costs are not reimbursed. In Massachusetts and
Illinois, where comprehensive infertility and ART services insurance
reimbursement is mandated, virtually all patient costs are reimbursed.
The majority of diagnostic and therapeutic services offered through the
Company's AWM Division are currently covered by third-party payors. As these
services emphasize prevention and screening, the Company believes that they will
continue to be covered by third-party payors.
Government Regulation
As a participant in the health care industry, the Company's operations and
its relationships with the Medical Practices are subject to extensive and
increasing regulation by various governmental entities at the federal, state and
local levels. The Company believes its operations and those of the Medical
Practices are in material compliance with applicable health care laws.
Nevertheless, the laws and regulations in this area are extremely complex and
subject to changing interpretation and many aspects of the Company's business
and business opportunities have not been the subject of federal or state
regulatory review or interpretation. Accordingly, there is no assurance that the
Company's operations have been in compliance at all times with all such laws and
regulations. In addition, there is no assurance that a court or regulatory
authority will not determine that the Company's past, current or future
operations violate applicable laws or regulations. If the Company's
interpretation of the relevant laws and regulations is inaccurate, there could
be a material adverse effect on the Company's business, financial condition and
operating results. There can be no assurance that such laws will be interpreted
in a manner consistent with the Company's practices. There can be no assurance
that a review of the Company or the Medical Practices by courts or regulatory
authorities will not result in a determination that would require the Company or
the Medical Practices to change their practices. There also can be no assurance
that the health care regulatory environment will not change so as to restrict
the Company's or the Medical Practices' existing operations or their expansions.
Any significant restructuring or restriction could have a material adverse
effect on the Company's business, financial condition and operating results.
Corporate Practice of Medicine Laws. The Company's operations in
Massachusetts, New York, New Jersey, Pennsylvania, District of Columbia, Texas,
California, Illinois, Maryland and Virginia may be subject to prohibitions
relating to the corporate practice of medicine. The laws of these states
prohibit corporations other than professional corporations or associations from
practicing medicine or exercising control over physicians, and prohibit
physicians from practicing medicine in partnership with, or as employees of, any
person not licensed to practice medicine and may prohibit a corporation other
than professional corporations or associations (or, in some states, limited
liability companies) from acquiring the goodwill of a medical practice. In the
context of management contracts between a corporation not authorized to practice
medicine and the physicians or their professional entity, the laws of most of
these states focus on the extent to which the corporation exercises control over
the physicians and on the ability of the physicians to use their own
professional judgment as to diagnosis and treatment. The Company believes its
operations are in material compliance with applicable state laws relating to the
corporate practice of medicine. The Company performs only non-medical
administrative services, and in certain circumstances, clinical laboratory
services. The Company does not represent to the public that it offers medical
services, and the Company does not exercise influence or control over the
practice of medicine by physicians with whom it contracts in these states. In
each of these states, the Medical Practice is the sole employer of the
physicians, and the Medical Practice retains the full authority to direct the
medical, professional and ethical aspects of its medical practice. However,
although the Company believes its operations are in material compliance with
applicable state corporate practice of medicine laws, the laws and their
interpretations vary from state to state, and they are enforced by regulatory
authorities that have broad discretionary authority. There can be no assurance
that these laws will be interpreted in a manner consistent with the Company's
practices or that other laws or regulations will not be enacted in the future
that could have a material adverse effect on the Company's business, financial
condition and operating results. If a corporate practice of medicine law is
15
interpreted in a manner that is inconsistent with the Company's practices, the
Company would be required to restructure or terminate its relationship with the
applicable Medical Practice in order to bring its activities into compliance
with such law. The termination of, or failure of the Company to successfully
restructure, any such relationship could result in fines or a loss of revenue
that could have a material adverse effect on the Company's business, financial
condition and operating results. In addition, expansion of the Company's
operations to new jurisdictions could require structural and organizational
modifications of the Company's relationships with the Medical Practices in order
to comply with additional state statutes.
Fee-Splitting Laws. The Company's operations in the states of New York,
California and Illinois are subject to express fee-splitting prohibitions. The
laws of these states prohibit physicians from splitting professional fees with
non- physicians and health care professionals not affiliated with the physician
performing the services generating the fees. In New York, this prohibition
includes any fee the Company may receive from the Medical Practices which is set
in terms of a percentage of, or otherwise dependent on, the income or receipts
generated by the physicians. In certain states, such as California and New York,
any fees that a non-physician receives in connection with the management of a
physician practice must bear a reasonable relationship to the services rendered,
based upon the fair market value of such services. Under Illinois law, the
courts have broadly interpreted the fee-splitting prohibition in that state to
prohibit compensation arrangements that include (i) fees that a management
company may receive based on a percentage of net profits generated by
physicians, despite the performance of legitimate management services, (ii) fees
received by a management company engaged in obtaining referrals for its
physician where the fees are based on a percentage of certain billings collected
by the physician and (iii) purchase price consideration to a seller of a medical
practice based on a percentage of the buyer's revenues following the
acquisition. Several of the other states where the Company has operations, such
as Texas and New Jersey, do not expressly prohibit fee-splitting but do have
corporate practice of medicine prohibitions. In these states, regulatory
authorities frequently interpret the corporate practice of medicine prohibition
to encompass fee-splitting, particularly in arrangements where the compensation
charged by the management company is not reasonably related to the services
rendered.
The Company believes that its current operations are in material compliance
with applicable state laws relating to fee-splitting prohibitions. However,
there can be no assurance that these laws will be interpreted in a manner
consistent with the Company's practices or that other laws or regulations will
not be enacted in the future that could have a material adverse effect on the
Company's business, financial condition and operating results. If a
fee-splitting law is interpreted in a manner that is inconsistent with the
Company's practices, the Company could be required to restructure or terminate
its relationship with the applicable Medical Practice in order to bring its
activities into compliance with such law. The termination of, or failure of the
Company to successfully restructure, any such relationship could have a material
adverse effect on the Company's business, financial condition and operating
results. In addition, expansion of the Company's operations to new jurisdictions
could require structural and organizational modifications of the Company's
relationships with the Medical Practices in order to comply with additional
state statutes.
With respect to the Chicago and Shady Grove Network Sites, the management
agreement between the Company and the affiliated Medical Practice provides that
the Company will be paid a base fee equal to a fixed percentage of the revenues
at the Network Site and, as additional compensation, an additional variable
percentage of such revenues that declines to zero to the extent the costs
relating to the management of the Medical Practice increase as a percentage of
total revenues. The Company and the respective Medical Practice have agreed that
if such compensation arrangement were found to be illegal, unenforceable,
against public policy or forbidden by law, the management fee would be an annual
fixed fee to be mutually agreed upon, not less than $1.0 million per year,
retroactive to the effective date of the agreement. In such event, the
management fees derived from these Medical Practices may decrease. Because the
Company can not predict or guarantee the actions of regulatory authorities,
there is a risk that a regulatory authority may disagree with the compensation
arrangement and challenge the same. In the event of such challenge, the
compensation arrangement may not be upheld. Moreover, if a management agreement
was amended to provide for an annual fixed fee payable to the Company, the
contribution from the Network Site could be materially reduced.
16
Federal Antikickback Law. The Company is subject to the laws and
regulations that govern reimbursement under the Medicare and Medicaid programs.
Currently less than 5% of the revenues of the Medical Practices are derived from
Medicare and none of such revenues are derived from Medicaid. Federal law (the
"Federal Antikickback Law") prohibits, with some exceptions, the solicitation or
receipt of remuneration in exchange for, or the offer or payment of remuneration
to induce, the referral of federal health care program beneficiaries, including
Medicare or Medicaid patients, or in return for the recommendation, arrangement,
purchase, lease or order of items or services that are covered by Medicare,
Medicaid and other federal and state health programs.
With respect to the Federal Antikickback Law, the Office of the Inspector
General ("OIG") has promulgated regulatory "safe harbors" under the Federal
Antikickback Law that describe payment practices between health care providers
and referral sources that will not be subject to criminal prosecution and that
will not provide the basis for exclusion from the federal health care programs.
Relationships and arrangements that do not fall within the safe harbors are not
illegal per se, but will subject the activity to greater governmental scrutiny.
Many of the parties with whom the Company contracts refer or are in a position
to refer patients to the Company. Although the Company believes that it is in
material compliance with the Federal Antikickback Law, there can be no assurance
that such law or the safe harbor regulations promulgated thereunder will be
interpreted in a manner consistent with the Company's practices. The breadth of
the Federal Antikickback Law, the paucity of court decisions interpreting the
law and the safe harbor regulations, and the limited nature of regulatory
guidance regarding the safe harbor regulations have resulted in ambiguous and
varying interpretations of the Federal Antikickback Law. The OIG or the
Department of Justice ("DOJ") could determine that the Company's past or current
policies and practices regarding its contracts and relationships with the
Medical Practices violate the Federal Antikickback Law. In such event, no
assurance can be given that the Company's interpretation of these laws will
prevail. The failure of the Company's interpretation of the Federal Antikickback
Law to prevail could have a material adverse effect on the Company's business,
financial condition and operating results.
Federal Referral Laws. Federal law also prohibits, with some exceptions,
physicians from referring Medicare or Medicaid patients to entities for certain
enumerated "designated health services" with which the physician (or members of
his or her immediate family) has an ownership or investment relationship, and an
entity from filing a claim for reimbursement under the Medicare or Medicaid
programs for certain enumerated designated health services if the entity has a
financial relationship with the referring physician. Significant prohibitions
against physician referrals were enacted by the United States Congress in the
Omnibus Budget Reconciliation Act of 1993. These prohibitions, known as "Stark
II," amended prior physician self-referral legislation known as "Stark I" by
dramatically enlarging the field of physician-owned or physician-interested
entities to which the referral prohibitions apply. The designated health
services enumerated under Stark II include: clinical laboratory services,
radiology services, radiation therapy services, physical and occupational
therapy services, durable medical equipment, parenteral and enteral nutrients,
equipment and supplies, prosthetics, orthotics, outpatient prescription drugs,
home health services and inpatient and outpatient hospital services.
Significantly, certain "in-office ancillary services" furnished by group
practices are excepted from the physician referral prohibitions of Stark II. The
Company believes that its practices either fit within this and other exceptions
contained in such statutes, or have been structured so as to not implicate the
statute in the first instance, and therefore, the Company believes it is in
compliance with such legislation. Nevertheless, future regulations or
interpretations of current regulations could require the Company to modify the
form of its relationships with the Medical Practices. Moreover, the violation of
Stark I or Stark II by the Medical Practices could result in significant fines,
loss of reimbursement and exclusion from the Medicare and Medicaid programs
which could have a material adverse effect on the Company.
Recently, Congress enacted the Health Insurance Portability and Accounting
Act of 1996, which includes an expansion of certain fraud and abuse provisions
(including the Federal Antikickback Law and Stark II) to other federal health
care programs and a separate criminal statute prohibiting "health care fraud."
Due to the breadth of the statutory provisions of the fraud and abuse laws and
the absence of definitive regulations or court decisions addressing the type of
arrangements by which the Company and its Medical Practices conduct and will
conduct their business, from time to time certain of their practices may be
subject to challenge under these laws.
17
False Claims. Under separate federal statutes, submission of claims for
payment that are "not provided as claimed" may lead to civil money penalties,
criminal fines and imprisonment and/or exclusion from participation in the
Medicare, Medicaid and other federally-funded health care programs. These false
claims statutes include the Federal False Claims Act, which allows any person to
bring suit alleging false or fraudulent Medicare or Medicaid claims or other
violations of the statute and to share in any amounts paid by the entity to the
government in fines or settlement. Such qui tam actions have increased
significantly in recent years and have increased the risk that a health care
company will have to defend a false claims action, pay fines or be excluded from
participation in the Medicare and/or Medicaid programs as a result of an
investigation arising out of such an action.
State Antikickback and Self-Referral Laws. The Company is also subject to
state statutes and regulations that prohibit kickbacks in return for the
referral of patients in each state in which the Company has operations. Several
of these laws apply to services reimbursed by all payors, not simply Medicare or
Medicaid. Violations of these laws may result in prohibition of payment for
services rendered, loss of licenses as well as fines and criminal penalties.
State statutes and regulations that prohibit payments intended to induce
the referrals of patients to health care providers range from statutes and
regulations that are substantially the same as the federal laws and the safe
harbor regulations to regulations regarding unprofessional conduct. These laws
and regulations vary significantly from state to state, are often vague, and, in
many cases, have not been interpreted by courts or regulatory agencies. Adverse
judicial or administrative interpretations of such laws could require the
Company to modify the form of its relationships with the Medical Practices or
could otherwise have a material adverse effect on the Company's business,
financial condition and operating results.
In addition, New York, New Jersey, California, Florida, Pennsylvania,
Illinois, Maryland and Virginia have enacted laws on self-referrals that apply
generally to the health care profession, and the Company believes it is likely
that more states will follow. These state self-referral laws include outright
prohibitions on self-referrals similar to Stark or a simple requirement that
physicians or other health care professionals disclose to patients any financial
relationship the physicians or health care professionals have with a health care
provider that is being recommended to the patients. The Company's operations in
New York, New Jersey, California and Illinois have laboratories which are be
subject to prohibitions on referrals for services in which the referring
physician has a beneficial interest. However, New York, New Jersey, California
and Maryland have an exception for "in-office ancillary services" similar to the
federal exception and in Illinois, the self-referral laws do not apply to
services within the health care worker's office or group practice or to outside
services as long as the health care worker directly provides health services
within the entity and will be personally involved with the provision of care to
the referred patient. The Company believes that the laboratories in its
operations fit within exceptions contained in such statutes or are not subject
to the statute at all. Each of the laboratories in the states in which these
self-referral laws apply are owned by the Medical Practice in that state and are
located in the office of such Medical Practice. However, there can be no
assurance that these laws will be interpreted in a manner consistent with the
Company's practices or that other laws or regulations will not be enacted in the
future that could have a material adverse effect on the Company's business,
financial condition or operating results. In addition, expansion of the
Company's operations to new jurisdictions could require structural and
organizational modifications of the Company's relationships with the Medical
Practices in order to comply with new or revised state statutes.
Antitrust Laws. In connection with corporate practice of medicine laws
referred to above, the Medical Practices with whom the Company is affiliated
necessarily are organized as separate legal entities. As such, the Medical
Practices may be deemed to be persons separate both from the Company and from
each other under the antitrust laws and, accordingly, subject to a wide range of
laws that prohibit anti-competitive conduct among separate legal entities. The
Company believes it is in compliance with these laws and intends to comply with
any state and federal laws that may affect its development of health care
networks. There can be no assurance, however, that a review of the Company's
business by courts or regulatory authorities would not have a material adverse
effect on the operation of the Company and the Medical Practices.
18
Government Regulation of ART Services. With the increased utilization of
ART services, government oversight of the ART industry has increased and
legislation has been adopted or is being considered in a number of states
regulating the storage, testing and distribution of sperm, eggs and embryos. The
Company believes it is currently in compliance with such legislation where
failure to comply would subject the Company to sanctions by regulatory
authorities, which could have a material adverse effect on the Company's
business, financial condition and operating results.
Regulation of Clinical Laboratories. The Company's and the Medical
Practices' endocrine and embryology clinical laboratories are subject to
governmental regulations at the federal, state and local levels. The Company
and/or the Medical Practices at each Network Site have obtained, and from time
to time renew, federal and/or state licenses for the laboratories operated at
the Network Sites.
The Clinical Laboratory Improvement Amendments of 1988 ("CLIA 88") extended
federal oversight to all clinical laboratories, including those that handle
biological matter, such as eggs, sperm and embryos, by requiring that all
laboratories be certified by the government, meet governmental quality and
personnel standards, undergo proficiency testing, be subject to biennial
inspections, and remit fees. For the first time, the federal government is
regulating all laboratories, including those operated by physicians in their
offices. Rather than focusing on location, size or type of laboratory, this
extended oversight is based on the complexity of the test the laboratories
perform. CLIA 88 and the 1992 implementing regulations established a more
stringent proficiency testing program for laboratories and increased the range
and severity of sanctions for violating the federal licensing requirements. A
laboratory that performs highly complex tests must meet more stringent
requirements, while those that perform only routine "waived" tests may apply for
a waiver from most requirements of CLIA 88.
The sanctions for failure to comply with CLIA and these regulations include
suspension, revocation or limitation of a laboratory's CLIA certificate
necessary to conduct business, significant fines or criminal penalties. The loss
of license, imposition of a fine or future changes in such federal, state and
local laws and regulations (or in the interpretation of current laws and
regulations) could have a material adverse effect on the Company.
In addition, the Company's clinical laboratory activities are subject to
state regulation. CLIA 88 permits a state to require more stringent regulations
than the federal law. For example, state law may require that laboratory
personnel meet certain more stringent qualifications, specify certain quality
control standards, maintain certain records, and undergo additional proficiency
testing.
The Company believes it is in material compliance with the foregoing
standards.
Other Licensing Requirements. Every state imposes licensing requirements on
individual physicians, and some regulate facilities and services operated by
physicians. In addition, many states require regulatory approval, including
certificates of need, before establishing certain types of health care
facilities, offering certain services, or making certain capital expenditures in
excess of statutory thresholds for health care equipment, facilities or
services. To date, the Company has not been required to obtain certificates of
need or similar approvals for its activities. In connection with the expansion
of its operations into new markets and contracting with managed care
organizations, the Company and the Medical Practices may become subject to
compliance with additional regulations. Finally, the Company and the Medical
Practices are subject to federal, state and local laws dealing with issues such
as occupational safety, employment, medical leave, insurance regulation, civil
rights and discrimination, medical waste and other environmental issues.
Increasingly, federal, state and local governments are expanding the regulatory
requirements for businesses, including medical practices. The imposition of
these regulatory requirements may have the effect of increasing operating costs
and reducing the profitability of the Company's operations.
Future Legislation and Regulation. As a result of the continued escalation
of health care costs and the inability of many individuals to obtain health
insurance, numerous proposals have been or may be introduced in the United
States Congress and state legislatures relating to health care reform. There can
19
be no assurance as to the ultimate content, timing or effect of any health care
reform legislation, nor is it possible at this time to estimate the impact of
potential legislation, which may be material, on the Company.
Liability and Insurance
The provision of health care services entails the substantial risk of
potential claims of medical malpractice and similar claims. The Company does
not, itself, engage in the practice of medicine or assume responsibility for
compliance with regulatory requirements directly applicable to physicians and
requires associated Medical Practices to maintain medical malpractice insurance.
In general, the Company has established a program that provides the Medical
Practices with such required insurance. However, in the event that services
provided at the Network Sites or any affiliated Medical Practice are alleged to
have resulted in injury or other adverse effects, the Company is likely to be
named as a party in a legal proceeding.
Although the Company currently maintains liability insurance that it
believes is adequate as to both risk and amount, successful malpractice claims
could exceed the limits of the Company's insurance and could have a material
adverse effect on the Company's business, financial condition or operating
results. Moreover, there can be no assurance that the Company will be able to
obtain such insurance on commercially reasonable terms in the future or that any
such insurance will provide adequate coverage against potential claims. In
addition, a malpractice claim asserted against the Company could be costly to
defend, could consume management resources and could adversely affect the
Company's reputation and business, regardless of the merit or eventual outcome
of such claim. In addition, in connection with the acquisition of the assets of
certain Medical Practices, the Company may assume certain of the stated
liabilities of such practice. Therefore, claims may be asserted against the
Company for events related to such practice prior to the acquisition by the
Company. The Company maintains insurance coverage related to those risks that it
believes is adequate as to the risks and amounts, although there can be no
assurance that any successful claims will not exceed applicable policy limits.
There are inherent risks specific to the provision of ART services. For
example, the long-term effects of the administration of fertility medication,
integral to most infertility and ART services, on women and their children are
of concern to certain physicians and others who fear the medication may prove to
be carcinogenic or cause other medical problems. Currently, fertility medication
is critical to most ART services and a ban by the United States Food and Drug
Administration or any limitation on its use would have a material adverse effect
on the Company. Further, ART services increase the likelihood of multiple
births, which are often premature and may result in increased costs and
complications.
Employees
As of March 16, 1998, the Company had 372 employees, 4 of whom are
executive management, 343 are employed at the Network Sites and 29 are employed
at the Company's headquarters. Of the Company's employees, 60 persons at the
Network Sites and 4 at the Company's headquarters are employed on a part-time
basis. The Company is not party to any collective bargaining agreement and
believes its employee relationships are good.
ITEM 2. Properties
The Company's headquarters and executive offices are in Purchase, New York,
where it occupies approximately 8,000 square feet under a lease expiring April
14, 2000 at a monthly rental of $12,671, increasing annually to $15,339 per
month in January 1999.
The Company leases, subleases, and/or occupies, pursuant to its management
agreements, each Network Site location from either third-party landlords or from
the Medical Provider(s). Costs associated with these agreements are included in
either "Medical Practice retainage" or in "Cost of services rendered" and, with
regard to agreements entered into in 1995 and thereafter, such costs are
typically reimbursed to the Company as part of its management fee; reimbursed
costs are included in "Revenues, net".
The Company believes its executive offices and the space occupied by the
Network Sites are adequate.
20
ITEM 3. Legal Proceedings
In November 1994, the Company was served with a complaint in a matter
captioned Karlin v. IVF America, et. al., pending in the Supreme Court of the
State of New York, County of Westchester. The suit also named, as co-defendants,
Vicki L. Baldwin, a Director of the Company, United Hospital and Dr. John
Stangel. The action purported to be a class- action, initiated by plaintiffs on
behalf of themselves and a class of persons similarly situated. The Complaint
alleged that the defendants, individually and collectively, had, in the
communication of clinical outcome statistics, inaccurately stated success rates
or failed to communicate medical risks attendant to ART procedures. These
allegations gave rise to the central issue of the case, that of informed
consent. The plaintiffs' application for class certification was denied by the
Court. The Court ruled that the potential class of patients treated at the
Westchester Network Site did not meet the criteria for class action status as
required by New York law. The plaintiffs appealed this decision. In June 1997,
the Appellate Division of the Supreme Court of the State of New York, Second
Department affirmed the lower court decision. As a result of prior court
proceedings and the June 1997 decision, the plaintiffs are left with lack of
informed consent as the sole claim against defendants for which defendants have
moved for summary judgment based on the untimeliness of this claim.
There are a few other legal proceedings to which the Company is a party. In
the Company's view, the claims asserted and the outcome of these proceedings
will not have a material adverse effect on the financial position or the results
of operations of the Company.
ITEM 4. Submission of Matters to a Vote of Security Holders
None.
21
PART II
ITEM 5. Market for Registrant's Common Equity and Related Stockholder Matters
The Company's Common Stock has been traded on the Nasdaq National Market
under the symbol "INMD" since the Company's formal name change in May 1996 and
prior to the name change under the symbol "IVFA" since May 21, 1993. Prior
thereto, the Company's Common Stock had been trading on the Nasdaq SmallCap
Market since October 8, 1992. The following table sets forth the high and low
closing sales price for the Common Stock, as reported on the Nasdaq National
Market.
Common Stock
------------
High Low
---- ---
1996
First Quarter........... $3.75 $2.31
Second Quarter.......... 4.18 2.00
Third Quarter........... 3.50 2.25
Fourth Quarter.......... 2.62 1.25
1997
First Quarter........... $2.50 $1.50
Second Quarter.......... 1.88 1.34
Third Quarter........... 2.50 1.41
Fourth Quarter.......... 2.38 1.31
On March 16, 1998, there were approximately 276 holders of record of the
Common Stock, excluding beneficial owners of shares registered in nominee or
street name.
The Company currently anticipates that it will retain all available funds
for use in the operation of its business and for potential acquisitions, and
therefore, does not anticipate paying any cash dividends on its Common Stock for
the foreseeable future. In addition, no dividends may be paid on the Common
Stock until full dividends have been paid on the Convertible Preferred Stock.
Dividends on the Convertible Preferred Stock are payable at the rate of
$0.80 per share per annum, quarterly on the fifteenth day of August, November,
February and May of each year commencing August 15, 1993. In May 1995, as a
result of the Company's Board of Directors suspending four quarterly dividend
payments, holders of the Convertible Preferred Stock became entitled to one vote
per share of Convertible Preferred Stock on all matters submitted to a vote of
stockholders, including election of directors; once in effect, such voting
rights are not terminated by the payment of all accrued dividends. The Company
does not anticipate the payment of any cash dividends on the Convertible
Preferred Stock in the foreseeable future. As of December 31, 1997, fourteen
quarterly dividend payments have been suspended resulting in approximately
$464,000 of dividend payments being in arrears.
22
ITEM 6. Selected Financial Data
The following selected financial data are derived from the Company's
consolidated financial statements and should be read in conjunction with the
financial statements, related notes, and other financial information included
elsewhere in this Annual Report on Form 10-K.
Statement of Operations Data:
Years ended December 31,
-----------------------------------------------------------
1997 1996 1995 1994 1993
-------- -------- -------- --------- ------
(in thousands, except per share amounts)
Revenues, net................................ $24,169 $18,343 $16,711 $17,578 $16,025
Medical Provider retainage..................` 1,531 2,680 3,063 3,824 4,605
------- ------- ------- ------- -------
Revenues after Medical Provider retainage.... 22,638 15,663 13,648 13,754 11,420
Costs of services rendered................... 17,251 12,398 9,986 10,998 10,222
------- ------- ------- ------- -------
Network Sites' contribution.................. 5,387 3,265 3,662 2,756 1,198
------- ------- ------- ------- -------
General and administrative expenses.......... 4,192 4,339 3,680 3,447 3,079
Equity in loss of Partnerships (1)........... -- -- -- -- 1,793
Total other (income) expenses
(including income taxes)................... 821 416 (88) 123 923
------- ------- ------- ------- -------
Net income (loss)............................ 374 (1,490) 70 (814) (4,597)
Less: Dividends accrued and/or paid on
Preferred Stock........................... 133 132 600 1,146 748
------- ------- ------- ------- -------
Net income (loss) applicable to Common
Stock .................................... $ 241 $(1,622) $ (530) $(1,960) $(5,345)
======= ======= ======== ======= =======
Basic earnings (loss) per share before
consideration for induced conversion
of Preferred Stock (2).................... $ 0.02 $ (0.21) $ (.09) $ (0.32) $ (2.01)
======= ======= ======== ======= =======
Diluted earnings (loss) per share before
consideration for induced conversion
of Preferred Stock (2).................... $ 0.02 $ (0.68) $ (.09) $ (0.32) $ (2.01)
======= ======= ======== ======= =======
Weighted average shares-- basic.............. 2,405 7,602 6,087 6,081 2,654
======= ======= ======== ======= =======
Weighted average shares-- diluted............ 12,616 7,602 6,087 6,081 2,654
======= ======= ======== ======= =======
Balance Sheet Data:
As of December 31,
-------------------------------------------------------------
1997 1996 1995 1994 1993
-------- -------- --------- --------- -------
(in thousands)
Working capital (3).......................... $ 4,082 $ 7,092 $10,024 $ 11,621 $ 14,435
Total assets (3)............................. 36,101 20,850 18,271 17,733 20,238
Total indebtedness (4)....................... 2,928 2,553 1,889 356 708
Accumulated deficit.......................... (20,816) (21,190) (19,700) (19,770) (18,956)
Shareholders' equity......................... 25,993 14,478 12,931 13,819 16,532
(1) Effective September 1, 1993 and December 31, 1993, the Company dissolved
its 50% partnership interests in the Pennsylvania and Michigan
Partnerships, respectively, which had been accounted for under the equity
method. The management fees therefrom were reported under "Revenues, net"
in the consolidated statement of operations.
(2) Refer to Note 11 - Shareholders' Equity to the Company's Consolidated
Financial Statements - regarding the impact of the Company's Second Offer
on net loss per share in 1996.
(3) Includes controlled assets of certain Medical Providers of $0, $650,000,
$1,759,000, $2,783,000 and $3,148,000, at December 31, 1997, 1996, 1995,
1994 and 1993, respectively.
(4) Total indebtedness as of December 31, 1997 and 1996 included $1,863,000 and
$1,435,000 of exclusive management rights obligation, respectively.
23
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
The following is a discussion of the financial condition and results of
operations of the Company for the three years ended December 31, 1997. It should
be read in conjunction with the Company's Consolidated Financial Statements, the
related notes thereto and other financial and operating information included in
this Form 10-K.
Overview
During 1997 the Company acquired four new management agreements, including
the agreement with Fertility Centers of Illinois, S.C. ("FCI"), the most
significant management agreement to date. The Company also consummated an equity
offering which raised gross proceeds of $9.6 million and net proceeds of
approximately $8.3 million, a significant portion of which were used to acquire
certain fixed assets of and the right to manage FCI. In addition the Company
achieved Revenues, net growth of approximately 31.8%, Network Sites'
contribution growth of approximately 65% and its first full year of positive
earnings per share.
During the first quarter of 1998, the Company closed on an equity private
placement of $5.5 million with Morgan Stanley Venture Partners III, L.P., the
venture capital affiliate of Morgan Stanley, Dean Witter, Discover & Co.
providing for the purchase of 3,235,294 shares of the Company's Common Stock at
a price of $1.70 per share and 240,000 warrants to purchase shares of the
Company's Common Stock, at a nominal exercise price. Approximately half of these
funds were or will be used by the Company to purchase the capital stock of Shady
Grove Fertility Centers, Inc. ("Shady Grove") and the right to manage Levy,
Sagoskin and Stillman M.D., P.C. (the "Shady Grove P.C.") an infertility
physician group practice comprised of six physicians and four locations in the
greater Washington, D.C. area. The Shady Grove management agreement represents
the second most significant management agreement entered into by the Company to
date.
Effective in October 1997 and January 1998, due to the Company revising the
terms of the management agreements related to the Long Island and Boston Network
Sites, respectively, the Company will no longer display patient service revenues
of the Long Island and Boston Medical Practices in "Revenues, net" in the
Company's consolidated statement of operations. The revised management
agreements provide for the Company to receive a specific management fee which
the Company will report in "Revenues, net" in its consolidated statement of
operations. Under the revised management agreement for the Long Island Network
Site, as compensation for its management services, the Company will receive a
fixed fee (initially equal to $345,000 per annum), subject to annual increases,
plus reimbursed costs of services. Under the revised management agreement for
the Boston Network Site, as compensation for its management services, the
Company will receive a three-part management fee consistent to the majority of
the Company's existing management agreements. The revised agreements provide for
increased incentives and risk-sharing for the Company's affiliated Medical
Practices. The terms of the revised management agreements and the change in
reporting revenues associated therewith, will most likely result in lower
comparative revenues for the Long Island and Boston Network Sites, however, the
Company believes the Network Site contribution related to the Long Island and
Boston Network Sites will not be adversely impacted. As the Company will no
longer be displaying patient service revenues for the Long Island and Boston
Network Sites, the "Medical Provider retainage" line item in the Company's
consolidated statement of operations and the "Controlled assets of Medical
Practices" section in the Company's consolidated balance sheet will no longer be
applicable. Refer to the following RSC Division discussion.
During 1997, the Company derived its revenue pursuant to ten management
agreements and from the AWM Division. For the year ended December 31, 1997, the
management agreements relating to the Boston, New Jersey and Chicago ("FCI")
Network Sites each provided over 10% of the Company's revenues.
The Medical Practices managed by the Company are parties to managed care
contracts. Approximately 61% and 65% of the Company's revenues, net for the
years ended December 31, 1997 and 1996, respectively, were derived from revenues
received by the Medical Practices from third-party payors. To date, the Company
has not been negatively impacted by existing trends related to managed care
contracts. As the Company's management fees for managing such Medical Practices
are based on revenues and/or earnings of the respective Medical Practices,
24
changes in managed care practices, including changes in covered procedures or
reimbursement rates could adversely affect the Company's management fees in the
future.
Recent Acquisitions
In January 1997, the Company acquired certain assets of Bay Area Fertility
and acquired the right to manage the Bay Area Fertility and Gynecology Medical
Group, Inc., a California professional corporation which is the successor to Bay
Area Fertility's medical practice. The aggregate purchase price was
approximately $2.1 million, consisting of $1.5 million in cash and 333,333
shares of Common Stock. The majority of the purchase price was allocated to
exclusive management rights.
In June 1997, the Company acquired certain assets of and the right to
manage Reproductive Sciences Medical Center, Inc. ("RSMC"), a California
professional corporation located near San Diego, CA (the "San Diego
Acquisition"). The aggregate purchase price for the San Diego Acquisition was
approximately $900,000, consisting of $50,000 in cash and 145,454 shares of
Common Stock payable at closing and $650,000 payable upon the achievement of
certain specified milestones, at RSMC's option, in cash or in shares of the
Company's Common Stock, based on the closing market price of the Common Stock on
the third business day prior to issuance. On March 10, 1998, the Company
received notice from RSMC claiming that the Company has materially breached its
management agreement with RSMC and demanding that the alleged breaches be
remedied. Contrary to RSMC's assertions, the Company believes both that it has
materially performed its obligations under the management agreement with RSMC
and that RSMC has materially breached its obligations to the Company under the
management agreement, as well as other agreements with the Company. While the
Company continues to perform, it is endeavoring to submit the dispute to binding
arbitration, which is the governing dispute-resolution process required under
the management agreement, and may be compelled to seek rescission of all
agreements with RSMC. The Company can offer no assurance that resolution of this
matter will not result in the termination of the management agreement or
otherwise adversely impact the Company.
In August 1997, the Company acquired certain fixed assets of and the right
to manage Fertility Centers of Illinois, S.C. ("FCI"), a physician group
practice comprised of six physicians and six locations in the Chicago, Illinois
area. The aggregate purchase price was approximately $8.6 million, consisting of
approximately $6.6 million in cash and 1,009,464 shares of Common Stock.
Approximately $8.0 million of the aggregate purchase price was allocated to
exclusive management rights and $559,000 was allocated to certain fixed assets.
Simultaneous with closing on the FCI transaction, the Company, on behalf of
FCI, completed its first in-market merger with the addition of Edward L. Marut,
MD to the FCI practice. The aggregate purchase price was $803,000 in cash, of
which $750,000 was allocated to exclusive management rights and $53,000 was
allocated to certain fixed assets.
In January 1998, the Company completed its second in-market merger with the
addition of two physicians to the FCI practice. The Company acquired certain
assets of Advocate Medical Group, S.C. ("AMG") and Advocate MSO, Inc. and
acquired the right to manage AMG's infertility practice conducted under the name
Center for Reproductive Medicine ("CFRM"). Simultaneous with closing on this
transaction, the Company amended its management agreement with FCI to include
two of the three physicians practicing under the name CFRM. The aggregate
purchase price was approximately $1.5 million, consisting of approximately $1.2
million in cash and 184,314 shares of Common Stock. The majority of the purchase
price was allocated to exclusive management rights.
In March 1998, the Company acquired the majority of the capital stock of
Shady Grove Fertility Centers, Inc. ("Shady Grove"), currently a Maryland
business corporation which provides management services, and formerly a Maryland
professional corporation engaged in providing infertility services. Prior to the
closing of the transaction, Shady Grove had entered into a twenty-year
management agreement with Levy, Sagoskin and Stillman, M.D., P.C. (the "Shady
Grove P.C."), an infertility physician group practice comprised of six
physicians and four locations surrounding the greater Washington, D.C. area. The
Company will acquire the balance of the Shady Grove capital stock on or about
November 1, 1998. The aggregate purchase price for all of the Shady Grove
25
capital stock was approximately $5.7 million, consisting of approximately $2.8
million in cash, $1.4 million in Common Stock, and $1.5 million in promissory
notes. The promissory notes are payable in two aggregate annual installments of
$750,000, due on April 1, 1999 and 2000, respectively, and bear interest at an
annual rate of 8.5%. On March 12, 1998, the closing date, the following
consideration was paid to two of the three shareholder physicians: (i)
approximately $1.8 million in cash, (ii) approximately $1.2 million in stock or
639,551 shares of Common Stock, and (iii) approximately $1.1 million in
promissory notes. The Company will pay the balance of the aggregate purchase
price on or about November 1, 1998 (the "Second Closing Date"), when the balance
of the Shady Grove stock is transferred to the Company. The number of shares of
Company Common Stock to be issued on the Second Closing Date, which will have a
fair market value of approximately $200,000, will be determined based upon the
average closing price of the Company's Common Stock for the ten-day trading
period prior to the third business day before the Second Closing Date; provided,
however, that in no event will the price per share exceed $2.00 or be less than
$1.70 for purposes of this calculation.
In regard to the shares of Company Common Stock issued in the above
transactions, with the exception of the shares issued in the Bay Area Fertility
transaction, Gerardo Canet, President and Chief Executive Officer of the
Company, was granted a voting proxy with respect to (i) the election of
Directors or any amendment to the Company's Certificate of Incorporation
affecting Directors and (ii) any change in stock options for management and
directors for a two-year period from each transaction's respective closing date.
The Company is evaluating and is engaged in discussions with regard to
several potential acquisitions. However, the Company has no agreements relating
to any acquisitions and there can be no assurance that any definitive agreements
will be entered into by the Company or that any additional acquisitions will be
consummated.
RSC Division
During the year ended December 31, 1997, the operations of the RSC Division
were conducted pursuant to ten management agreements.
Under six of the Company's management agreements, the Company receives a
three-part management fee as compensation for its management services comprised
of: (i) a fixed percentage of net revenues generally equal to 6%, (ii)
reimbursed costs of services (costs incurred in managing a Network Site and any
costs paid on behalf of the Network Site) and (iii) a fixed or variable
percentage of earnings after the Company's management fees and any guaranteed
physician compensation, or an additional fixed or variable percentage of net
revenues which generally results in the Company receiving up to an additional
15% of net revenues. Direct costs incurred by the Company in performing its
management services and costs incurred on behalf of the Network Site are
recorded as cost of services rendered. The physicians receive as compensation
all earnings remaining after payment of the Company's management fee. The
Company's compensation pursuant to the management agreement relating to Shady
Grove will also be determined and recorded in this manner.
Under the Company's management agreements for the Boston and Long Island
Network Sites in effect for the year ended December 31, 1997, the Company
displayed the patient service revenues of the Medical Practices which are
reflected in "Revenues, net" on its consolidated statement of operations. Under
these agreements, the Company recorded all patient service revenues and, out of
such revenues, the Company paid the Medical Practices' expenses, physicians' and
other medical compensation, direct materials and certain hospital contract fees
(the "Medical Practice retainage"). Specifically, under the management agreement
for the Boston Network Site, the Company guaranteed a minimum physician
compensation based on an annual budget primarily determined by the Company.
Remaining revenues, if any, which represented the Company's management fees,
were used by the Company for other direct administrative expenses which were
recorded as costs of services. Under the management agreement for the Long
Island Network Site, the Company's management fee was payable only out of
remaining revenues, if any, after the payment of all expenses of the Medical
Practice. The management agreements related to the Long Island and Boston
Network Sites were revised effective in October 1997 and January 1998,
respectively. As a result, the Company will no longer display the patient
service revenues of the Medical Practices in "Revenues, net" in its consolidated
statement of operations. See "Overview".
26
Under the Company's management agreement for the New Jersey Network Site,
the Company primarily provides endocrine testing and administrative and finance
services for a fixed percentage of revenues, equal to 15% of net revenues, and
reimbursed costs of services. Under the management agreement for the Walter Reed
Network Site, the Company's revenues are derived from certain ART laboratory
services performed, and the Company bills patients directly for these services.
The Company's direct costs are reimbursed out of these revenues with the balance
representing the Company's Network Site contribution. All direct costs incurred
by the Company are recorded as costs of services.
The management agreements are typically for terms of ten to 25 years and
are generally subject to termination due to insolvency, bankruptcy or material
breach of contract by the other party.
AWM Division
The AWM Division's operations are currently conducted through and owned by
the Women's Medical & Diagnostic Center, Inc., a Florida corporation and a
wholly-owned subsidiary of the Company. The Company bills and records all
clinical revenues of the AWM Division and records all direct costs incurred as
costs of services rendered. The Company retains as Network Site contribution an
amount determined using the three-part management fee calculation described
above. The remaining balance is paid as compensation to the employed physicians
and is recorded by the Company as costs of services rendered. The employed
physicians receive a fixed monthly draw which may be adjusted quarterly by the
Company based on the Network Site's actual operating results.
Revenues in the AWM Division also include amounts earned under contracts
relating to clinical trials performed by the AWM Division. The AWM Division has
contracted with major pharmaceutical companies to participate in clinical trials
to determine the safety and efficacy of drugs under development. Research
revenues are recognized pursuant to each respective contract in the period in
which the medical services (as stipulated by the clinical trial protocol) are
performed and collection of such fees is considered probable. Net realization is
dependent upon final approval by the sponsor that procedures were performed
according to trial protocol. Payments collected from sponsors in advance for
services are included in accrued liabilities, and costs incurred in performing
the clinical trials are included as costs of services rendered.
The Company's 51% interest in the National Menopause Foundation, Inc.
("NMF") is included in the Company's consolidated financial statements. The
Company records 100% of the revenues and costs of NMF and reports 49% of any
profits of NMF as minority interest on the Company's consolidated balance sheet.
Results of Operations
Calendar Year 1997 Compared to Calendar Year 1996
Revenues for 1997 were approximately $24.2 million as compared to
approximately $18.3 million for 1996, an increase of 31.8%. Revenues under
management agreements relating to Network Sites managed by the Company prior to
January 1, 1997, excluding the Westchester and East Long Meadow, MA Network Site
agreements which were terminated in November 1996 and January 1997,
respectively, increased 23.4%. This increase in existing Network Site revenue
was due to a full year of operations from two Network Sites which were acquired
in 1996 and to an increase in procedure volume at certain other existing Network
Sites. For the year ended December 31, 1997, the Company's RSC Division and AWM
Division contributed 91.4% and 8.6%, respectively, of the Company's total
revenues compared to 95.9% and 4.1% for the same period in 1996, respectively.
RSC Division revenues for the year ended December 31,