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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549

FORM 10-Q

COMPREHENSIVE CARE CORPORATION
(Exact name of registrant as specified in its charter)

200 South Hoover Blvd, Suite 200, Tampa, FL 33609
(Address of principal executive offices and zip code)

(813) 288-4808
(Registrant’s telephone number, including area code)

     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 whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act).

Yes [  ] No [X]

     Indicate the number of shares outstanding of each of the issuer’s classes of Common Stock, as of the latest practicable date:

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Index

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COMPREHENSIVE CARE CORPORATION AND SUBSIDIARIES

PART I. — FINANCIAL INFORMATION

Item 1 — Consolidated Financial Statements

Consolidated Balance Sheets

See accompanying notes.

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Consolidated Statements of Operations
(Unaudited)
(Amounts in thousands, except per share amounts)

See accompanying notes.

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Consolidated Statements of Cash Flows
(Unaudited)

See accompanying notes.

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Note 1 – Summary of Significant Accounting Policies

     The consolidated balance sheet as of November 30, 2002, and the related consolidated statements of operations for the three and six months ended November 30, 2002 and 2001, and cash flows for the six months ended November 30, 2002 and 2001 are unaudited and have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. In the opinion of management, all adjustments necessary for a fair presentation of such financial statements have been included. Such adjustments consisted only of normal recurring items. The results of operations for the six months ended November 30, 2002 are not necessarily indicative of the results to be expected during the balance of the fiscal year.

     The consolidated financial statements do not include all information and footnotes necessary for a complete presentation of financial position, results of operations and cash flows in conformity with generally accepted accounting principles. The balance sheet at May 31, 2002 has been derived from the audited financial statements at that date, but does not include all of the information and footnotes required by generally accepted accounting principles for complete financial statement presentation. Notes to consolidated financial statements included in Form 10-K for the year ended May 31, 2002 are on file with the Securities and Exchange Commission and provide additional disclosures and a further description of accounting policies.

     The Company’s financial statements are presented on the basis that it is a going concern, which contemplates the realization of assets and satisfaction of liabilities in the normal course of business. The consolidated financial statements do not include any adjustments to reflect the possible future effects on the recovery and classification of assets or the amount and classification of liabilities that may result from the outcome of the uncertainties described in Note 2 — “Basis of Presentation”.

     The Company’s managed care activities are performed under the terms of agreements with health maintenance organizations (“HMOs”), preferred provider organizations (“PPOs”), and other health plans or payers to provide contracted behavioral healthcare services to subscribing participants. Revenue under a substantial portion of these agreements is earned monthly based on the number of qualified participants regardless of services actually provided (generally referred to as capitation arrangements). Such agreements accounted for 88.0%, or $14.9 million, of revenue for the six months ended November 30, 2002 and 83.2%, or $10.5 million, of revenue for the six months ended November 30, 2001. The balance of the Company’s revenues is earned on a fee-for-service basis and is recognized as services are rendered.

Restricted Cash

     As of November 30, 2002 and May 31, 2002, non-current restricted accounts include $0.3 million of cash held in trust in connection with the Company’s Directors and Officers liability insurance policy.

Accrued Claims Payable

     The accrued claims payable liability represents the estimated ultimate net amounts owed for all behavioral healthcare services provided through the respective balance sheet dates, including estimated amounts for claims incurred but not yet reported (“IBNR”) to the Company. The unpaid claims liability is estimated using an actuarial paid completion factor methodology and other statistical analyses. These estimates are subject to the effects of trends in utilization and other factors. Although considerable variability is inherent in such estimates, management believes that the unpaid claims liability is adequate. However, actual results could differ from the claims payable amount reported as of November 30, 2002.

Note 2 — Basis of Presentation

     The accompanying consolidated financial statements are prepared on a going concern basis. As of November 30, 2002, the Company has a stockholders’ deficit of $12.2 million and a working capital deficiency of $11.9 million. The working capital deficiency results primarily from a $12.1 million liability related to Federal income tax refunds received in prior years. The ultimate outcome of the Internal Revenue Service audit whereby it is seeking recovery of the refunds from the Company, including the amount to be repaid, if any, and the timing thereof, is not determinable (see Note 4 – “Income Taxes”).

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     Management cannot state with any degree of certainty whether any required additional equity or debt financing will be available to it during Fiscal 2003 and, if available, that the source of financing would be available on terms and conditions acceptable to the Company.

     The above conditions raise substantial doubt about the Company’s ability to continue as a going concern, which is dependent upon its ability to continue to generate sufficient cash flow to meet its obligations on a timely basis, successfully resolving the Internal Revenue Service audit, obtaining additional financing as may be required and, ultimately, attaining an operating profit. The accompanying consolidated financial statements do not include any adjustments that may result from the outcome of this uncertainty.

Note 3 — Major Customers/Contracts

(1)		During the six months ended November 30, 2002, the Company had three contracts with one HMO to provide behavioral healthcare services to Florida members. The combined revenue from these contracts accounted for 18.9%, or $3.2 million, of the Company’s operating revenues during the six months ended November 30, 2002 compared to 16.2%, or $2.0 million, for the six months ended November 30, 2001. Additionally, the Company has one major contract with an affiliate of this HMO (see Item 2 below). This HMO has been our customer since November 1998. On September 24, 2002, the Company received a written, 90-day termination notice, dated September 20, 2002, from this client. Such notice followed an agreed upon price increase that the Company had recently obtained from this client. The price increase was effective August 1, 2002 and was necessitated by an increase in utilization specific to this account as well as increases in the rates paid by the Company in response to demands from a group of providers who service this account. On September 25, 2002, the HMO verbally advised the Company that its termination notice was due in part to the recent price increase. Following such advisement, the Company held discussions with this client, but was unsuccessful in its attempts to resolve the pricing issue as the HMO was seeking a price reduction below the original contracted rate. As such, these contracts covering Florida members terminated effective January 1, 2003. The Company believes that it will be able to reduce its internal costs of servicing this account to minimize any effect on future results of operations.
(2)		The Company has one contract to provide behavioral healthcare services to Connecticut members under contract with one HMO. For the six months ended November 30, 2002, this contract represented approximately 8.4%, or $1.4 million, of the Company’s operating revenue compared to 13.6%, or $1.7 million for the six months ended November 30, 2001. Additionally, this contract provides that the Company, through its contract with this HMO, receives additional funds directly from a state reinsurance program. During the six months ended November 30, 2002, the Company filed reinsurance claims totaling approximately $1.6 million. Such claims represent cost reimbursements and, as such, are not included in the reported operating revenues and are accounted for as reductions of healthcare operating expenses. As of November 30, 2002, the Company has reported $0.6 million as accounts receivable – managed care reinsurance contracts, with $2.6 million reported as accrued reinsurance claims payable, in the accompanying balance sheet. In the event that the Company does not collect these reinsurance amounts, the Company could remain liable for the costs of the specific services provided to members that qualify for such reimbursements. For non-reinsurance claims incurred but not reported under this contract, the Company estimates its claims payable using a similar method as that used for other existing contracts. This HMO has been a customer since March 2001. The original contract term expires December 31, 2002 and provides for automatic one-year renewals unless terminated by either party. In December 2002, the Company participated in a bid that was submitted to the State of Connecticut in response to its request for proposal for administrative services only (“ASO”) in connection with a contract that is expected to begin in October 2003. If selected, the Company’s existing contract would terminate and a new contract would be negotiated between the Company and the State of Connecticut covering significantly more members than are covered under the current fee-for-service arrangement. If the State of Connecticut were to select another behavioral healthcare company to service this membership, the Company’s existing contracts may terminate effective September 30, 2003. There can be no assurance that the Company’s existing contract will be renewed or that the Company will be successful in its bid to provide ASO services to Connecticut members.
(3)		During the six months ended November 30, 2002, the Company had one contract with one HMO, covering five lines of business, to provide behavioral healthcare services to Florida members. This agreement represented approximately 23.5%, or $4.0 million, and 20.1%, or $2.5 million, of the Company’s operating revenue for the six months ended November 30, 2002 and 2001, respectively. This HMO has been a customer since July 2000. On December 24, 2002, the Company entered into a contract, effective January 1, 2003, with another HMO to continue providing behavioral services to Medicaid members associated with three of these business lines after the existing client HMO sold its Medicaid business to the Company’s new HMO customer. On October 4, 2002,

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the Company had reported that it had received a termination notice from the existing client having an effective termination date of December 31, 2002 and specific to the existing client’s Medicaid business, which accounted for 17.4%, or $3.0 million, and 18.2%, or $2.3 million, of the Company’s operating revenues during the six months ended November 30, 2002 and 2001, respectively, due to the sale of the customer HMO to the Company’s new HMO client. Additionally, effective December 31, 2002, the Company received a formal termination notice from the existing HMO client that the commercial and Medicare lines of business, which accounted for 6.1%, or approximately $1.0 million, and 1.8%, or $0.2 million, of the Company’s operating revenues during the six months ended November 30, 2002 and 2001, respectively, will terminate effective February 28, 2003.

Although the loss of the customer listed under (1) above and the commercial and Medicare business under (3) above could have a material, adverse effect on the Company’s financial condition and future results of operations, the Company believes that it will be able to reduce its internal cost of servicing this account to minimize any effect on future results of operations.

In general, the Company’s contracts with its customers are typically for initial one-year terms, with automatic annual extensions. Such contracts generally provide for cancellation by either party with 60 to 90 days’ written notice.

Note 4 — Income Taxes

     In connection with the filing of its Federal income tax returns for fiscal year 1995 and 1996, the Company filed a tentative refund claim to carry back losses described in Section 172(f) of the Internal Revenue Code (“IRC”), requesting a refund of $9.4 million and $5.5 million, respectively, of which refunds of $9.4 million and $5.4 million were received. In addition, the Company also filed amended Federal income tax returns for fiscal years prior to 1995, requesting similar refunds for losses carried back under Section 172(f) of $6.2 million for 1986; $0.4 million for 1985; $0.7 million for 1983; and $0.4 million for 1982, a total of $7.7 million.

     Section 172(f) of the IRC provides for a ten year net operating loss carryback for specific losses attributable to (1) a product liability or (2) a liability arising under a federal or state law or out of any tort if the act giving rise to such liability occurs at least three years before the beginning of the taxable year. The applicability of Section 172(f) to the type of business in which the Company operates is unclear. No assurance can be provided that the Company will be able to retain the refunds received to date or that the other refunds requested will be received.

     During fiscal years 1997 and 1996, the Company recognized a portion of the refunds received as a tax benefit of $0.3 million and $2.4 million, respectively. The balance of the refunds received, $12.1 million, is recorded as a deferred liability, “Unbenefitted tax refunds received”, pending resolution by the Internal Revenue Service (“IRS”) of the appropriateness of the 172(f) carryback. The other refunds requested under Section 172(f) for prior years of $7.7 million have not been received, nor has the Company recognized any tax benefit related to these potential refunds.

     On August 21, 1998, the Company received an examination report, dated August 6, 1998, from the IRS advising the Company that it was disallowing $12.4 million of the $14.8 million of refunds previously received, and the additional refunds requested of $7.7 million. If the position of the IRS were to be upheld the Company would be required to repay $12.4 million in refunds previously received, plus accrued interest of approximately $11.5 million through November 30, 2002. In this event, the Company would be entitled to a repayment of the fees advanced to its tax advisor relating to these refunds of approximately $2.5 million, which is reported as “other receivable” in the accompanying balance sheets. The Company filed a protest letter with the IRS Appeals Office on November 6, 1998. This filing commenced the administrative appeals process.

     On July 11, 2000, the Company submitted an Offer in Compromise (the “Offer”) and, on March 13, 2002, submitted an amended Offer in Compromise (“Amended Offer”) to the IRS Appeals Office to resolve the controversy with respect to the refunds at a substantially reduced amount than the IRS has asserted as indicated above. To assist the IRS in evaluating the Amended Offer, the Company is providing additional documents to the IRS and is continuing its discussions with the IRS. The Amended Offer must be reviewed and approved by the IRS, with the ultimate decision determined by the IRS Appeals Office. Pending the resolution of the Amended Offer, the IRS generally suspends any collection activities. There can be no assurance that the IRS will accept the Amended Offer.

     If the IRS Appeals Office were to accept the Amended Offer, the IRS would require that the net operating loss carryforwards are no longer available to the Company.

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Note 5 – Basic and Diluted Earnings Per Share

     Net earnings per share is computed using the weighted average number of common shares outstanding during the period. Convertible debentures were not included in the calculation of earnings per share as they are antidilutive. The following table sets forth the computation of basic and diluted earnings per share in accordance with Statement No. 128, Earnings Per Share (amounts in thousands, except per share data):