Back to GetFilings.com
1
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, 1998
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM _______ TO _______
COMMISSION FILE NUMBER 0-21031
QUADRAMED CORPORATION
(Exact name of registrant as specified in its charter)
DELAWARE 52-1992861
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
1003 W. CUTTING BLVD., SUITE 2
RICHMOND, CALIFORNIA, 94804
(Address of Principal Executive
Offices, including Zip Code)
Registrant's telephone number, including area code: (510)620-2340
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
COMMON STOCK, $0.01 PAR VALUE PER SHARE
(Title of Class)
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 report), 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 filers pursuant to
Item 405 of Regulation S-K is not contained herein, and will not be contained,
to the best of the registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to the Form 10-K. [ ]
The aggregate market value of voting stock held by non-affiliates of the
Registrant, as of March 31, 1999 was approximately $101,000,000 (based upon the
closing price for shares of the Registrant's Common Stock as reported by the
Nasdaq National Market for the last trading date prior to that date). Shares of
Common Stock held by each officer, director and holder of 5% or more of the
outstanding Common Stock have been excluded in that such persons may be deemed
to be affiliates. This determination of affiliate status is not necessarily a
conclusive determination for other purposes.
On March 5, 1999, approximately 20,090,205 shares of the Registrant's
Common Stock, $0.01 par value per share, were outstanding.
2
QUADRAMED CORPORATION
1998 FORM 10-K ANNUAL REPORT
TABLE OF CONTENTS
PAGE
----
PART I............................................................................................. 3
ITEM 1. BUSINESS......................................................................... 3
ITEM 2. PROPERTIES....................................................................... 15
ITEM 3. LEGAL PROCEEDINGS................................................................ 15
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.............................. 15
PART II............................................................................................ 16
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS............ 16
ITEM 6. SELECTED FINANCIAL DATA AND SUPPLEMENTARY DATA................................... 16
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS................................................................ 17
ITEM 8. FINANCIAL STATEMENTS............................................................. 34
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE......................................................... 34
PART III........................................................................................... 35
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.............................. 35
ITEM 11. EXECUTIVE COMPENSATION.......................................................... 35
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.................. 35
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.................................. 35
PART IV............................................................................................ 36
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K................ 36
SIGNATURES......................................................................................... 42
POWER OF ATTORNEY.................................................................................. 42
INDEX TO FINANCIAL STATEMENTS...................................................................... 45
EXHIBIT INDEX...................................................................................... 72
2
3
PART I
ITEM 1. BUSINESS.
Except for the historical financial information contained herein, the
matters discussed in this Annual Report on Form 10-K may be considered
"forward-looking" statements within the meaning of Section 27A of the Securities
Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934,
as amended. Such statements include declarations regarding the intent, belief or
current expectations of the Company and its management. Prospective investors
are cautioned that any such forward-looking statements are not guarantees of
future performance and involve a number of risks and uncertainties and that
actual results could differ materially from those indicated by such
forward-looking statements. Among the important factors that could cause actual
results to differ materially from those indicated by such forward-looking
statements include those risks identified in "Item 7 -- Management's Discussion
and Analysis of Financial Condition and Results of Operation -- Certain Factors
That Might Affect Future Operating Results" and other risks identified from time
to time in the Company's reports and registration statements filed with the
Securities and Exchange Commission.
OVERVIEW
QuadraMed Corporation ("QuadraMed" or the "Company") develops, markets
and sells software products and services designed to enable health care
providers and payors to increase operational efficiency, improve cash flow,
measure the cost of care and effectively administer managed care contracts. In
addition, QuadraMed provides health information management, business office
outsourcing, compliance and consulting services. QuadraMed and its subsidiaries
have approximately 3,800 customers. In addition, QuadraMed has received
endorsements from approximately 15 state and regional hospital associations.
The Company was incorporated in September 1993 in California under the
name QuadraMed Corporation and reincorporated in Delaware in 1996. The Company
has expanded significantly since its inception in 1993, primarily through the
acquisition of other businesses, products and services. Since 1995, the Company
has completed the following significant acquisitions:
COMPANY ACQUIRED DESCRIPTION OF COMPANY ACQUIRED DATE ACQUIRED
---------------- ------------------------------- -------------
Healthcare Design Systems Health care financial management and decision support software December 1995
Medicus Systems Corporation Health care financial management and decision support software November 1997*
Rothenberg Health Systems, Inc. Capitation management software December 1997
Cabot Marsh Corporation Health care consulting and compliance company February 1998
("Cabot Marsh")
Pyramid Health Group, Inc. Cash flow management services June 1998
("Pyramid") company
Integrated Medical Networks, Inc. Health care financial management September 1998
("IMN")
The Compucare Company Enterprise wide software March 1999
- ------------
* QuadraMed acquired 56.7% of the outstanding capital stock of Medicus
Systems Corporation on November 9, 1997. The remaining 43.3% shares of capital
stock were purchased by the Company in May 1998.
* Unless the context otherwise requires, references herein to the
"Company" and "QuadraMed" refer to QuadraMed Corporation, a Delaware
corporation, its subsidiaries and QuadraMed Corporation, its California
predecessor. The Company's executive offices are located at 1003 West
Cutting Blvd. 2nd Floor, Richmond, California 94804 and the telephone
number is (510)620-2340.
3
4
The Company has expanded in substantial part through acquisitions of
products, technologies and businesses. The Company intends to continue to
acquire products technologies and businesses in the future. The Company's
ability to expand successfully through acquisitions depends on many factors,
including the successful identification and acquisition of products,
technologies or businesses and management's ability to effectively negotiate and
consummate acquisitions and integrate and operate the new products, technologies
or businesses. There is significant competition for acquisition opportunities in
the Company's industry, which may intensify due to increasing consolidation in
the health care industry, thereby increasing the costs of capitalizing on
acquisition opportunities. The Company competes for acquisition opportunities
with other companies that have significantly greater financial and management
resources than the Company. The inability to successfully identify appropriate
acquisition opportunities, consummate acquisitions or successfully integrate
acquired products, technologies, operations, personnel or businesses could have
a material adverse effect on the Company's business, financial condition and
results of operations. In addition, acquisitions may divert management's
attention from other business concerns, expose the Company to the risks of
entering markets in which it has no direct prior experience or to risks
associated with the market acceptance of acquired products and technologies, or
result in the loss of key employees of the Company or the acquired company.
Moreover, acquisitions may result in potentially dilutive issuances of equity
securities, the incurrence of additional debt and the recognition of
amortization expenses related to goodwill and other intangible assets, which
could have a material adverse effect on the Company's business, financial
condition and results of operations. The Company may not be able to identify or
successfully complete acquisitions of products, technologies or businesses in
the future. In addition, declines in the Company's stock price will negatively
affect the Company's ability to consummate acquisitions that are accretive to
earnings.
Realizing benefits from acquisitions will depend in significant part
upon the successful integration of the acquired businesses, including their
products and employees, with the Company, and there can be no assurance that
such integration will not entail substantial costs, delays or other problems or
that such integration will be successfully completed. The effort to integrate
the businesses will divert the attention of management from other matters and
will result in significant operational and administrative expense. Any
difficulties encountered in the integration process could have a material
adverse effect on the revenues and operating results of the Company. In
addition, the process of combining the companies could cause the interruption
of, or a disruption in, the business activities of the Company, which could have
a material adverse effect on the operations and financial performance of the
Company. Even if these businesses are successfully integrated into the Company,
the acquired operations may not achieve sales, productivity and profitability
commensurate with the Company's historical or projected operating results.
Failure to achieve such projected results would have a material adverse effect
on the Company's financial performance, and in turn, on the market value of the
Company's Common Stock. There can be no assurance that the Company will realize
any of the anticipated benefits of its acquisitions, or that such acquisitions
will enhance the Company's business or financial performance.
Acquisitions involve a number of special risks including, without
limitation, managing geographically dispersed operations, failure of the
acquired business to achieve expected results, failure to retain key personnel
of the acquired business, inability to integrate the new business into existing
operations and risks associated with unanticipated events or liabilities,
potential increases in stock compensation expense and increased compensation
expense resulting from newly hired employees, the assumption of unknown
liabilities and potential disputes with the sellers of one or more acquired
entities, all of which could have a material adverse effect on the Company's
business, results of operations and financial condition. Additionally, customer
dissatisfaction or performance problems at a single acquired company could have
an adverse effect on the Company's reputation and its sales and marketing
initiatives. With the addition of the Pyramid, IMN and Compucare businesses,
the Company's anticipated future operations may place a strain on its management
systems and resources. The Company expects that it will be required to continue
to improve its financial and management controls, reporting systems and
procedures, and will need to expand, train and manage its work force.
Specifically, the Company is planning to implement a new financial accounting
system during 1999. There can be no assurance that the Company will be able to
effectively manage these tasks, and the failure to do so could have a material
adverse effect on its business, financial condition and results of operations.
With the acquisitions of IMN and Compucare the Company has entered the
market for enterprise products, which exposes the Company to additional risks
and uncertainties. These enterprise products have considerably higher average
sales prices than those traditionally offered by the Company and therefor tend
to lengthen the Company's sales cycle and increase the potential variability of
the Company's quarterly operating results.
The year 2000 computer issue creates additional risks for the Company.
Year 2000 compliance is an issue for virtually all businesses whose computer
systems and applications may require significant hardware and software upgrades
or modifications. Accordingly, the Company's customers are devoting a
substantial portion of their information systems spending and implementation
resources to fund such upgrades and modifications which tends to divert spending
away from the Company's products and solutions.
A substantial portion of the Company's revenues have been and are
expected to be derived from the sale of software products and services to
hospitals. Consolidation in the health care industry, particularly in the
hospital and managed care markets, could cause a decrease in the number of
existing or potential purchasers of the Company's products and services or the
loss of one or more of the Company's significant customers, insofar as customers
may be acquired by another company that uses products or services, which
4
5
could have a material adverse effect on the Company's business, financial
condition and results of operations. In addition, the decision to purchase the
Company's products often involves the approval of several members of management
of a hospital or health care provider. Consequently, it is difficult for the
Company to predict the timing or outcome of the buying decisions of customers or
potential customers.
The health care industry in the United States is subject to changing
political, economic and regulatory influences that may affect the procurement
practices and operations of health care organizations. The Company believes that
the commercial value and appeal of its products may be adversely affected if the
current health care financing and reimbursement system were to reverse its
current evolution to a managed care model back to a fee-for-service model. In
addition, many of the Company's customers are providing services under capitated
service agreements, and a reduction in the use of capitation arrangements as a
result of regulatory or market changes could have a material adverse effect on
the Company's business, financial condition and results of operations. During
the past several years, the health care industry has been subject to increasing
levels of governmental regulation of, among other things, reimbursement rates
and certain capital expenditures. Certain proposals to reform the health care
system have been and are being considered by Congress. These proposals, if
enacted, could change the operating environment for the Company's clients in
ways that cannot be predicted. Health care organizations may react to these
proposals by curtailing or deferring investments, including those for the
Company's products and services.
Changes in current health care financing and reimbursement systems could
result in the need for unplanned product enhancements, in delays or
cancellations of product orders or shipments or in the revocation of endorsement
of the Company's products by hospital associations or other customers. Any of
these occurrences could have a material adverse effect on the Company's
business, financial condition and results of operations. In addition, many
health care providers are consolidating to create integrated health care
delivery systems with greater regional market power. As a result, these emerging
systems could have greater bargaining power, which may lead to price erosion of
the Company's products. The failure of the Company to maintain adequate price
levels would have a material adverse effect on the Company's business, financial
condition and results of operations. Other market-driven reforms could also have
adverse effects on the Company's business, financial condition and results of
operations.
The Company's performance also depends in significant part upon the
continued service of its executive officers, its product managers and other key
sales, marketing, and development personnel. The loss of the services of any of
its executive officers or the failure to hire or retain other key employees
could have a material adverse effect on the Company's business, financial
condition and results of operations. Additions of new, and departures of
existing, personnel can be disruptive and could have a material adverse effect
on the Company's business, financial condition and results of operations.
DRG[check mark](R) and QuadraMed(R) are registered trademarks of the
Company. All other trademarks and trade names referred to in this Annual Report
on Form 10-K are the property of their respective owners.
QUADRAMED'S SUITE OF PRODUCTS
QuadraMed's web-enabled, enterprise-wide products are primarily sold with
modular, open architecture design and flexible electronic interfaces. Offerings
are structured to utilize data from disparate health care information systems,
thereby extending the functional value of today's legacy system investments. As
a result of this modular design, additional applications can be readily
integrated into customers' existing applications. The Company's solutions
support providers in the planning, management, documentation and evaluation of
patient care. QuadraMed has enabled its customers to generate operational
efficiencies, improve cash flow and measure the cost and quality of care. The
Company is divided into three operating divisions including business office,
health information management and the enterprise division (beginning in 1999).
The Company currently processes substantially all of its customer data at its
facilities in Richmond, California and Neptune, New Jersey. While the Company
backs up its data nightly and has safeguards for emergencies such as power
interruption or breakdown in temperature controls, it has no mirror processing
site to which processing could be transferred in the case of a catastrophic
event at either of these facilities. The occurrence of a major catastrophic
event at either the Richmond or the Neptune facility could lead to an
interruption of data processing and could have a material adverse effect on the
Company's business, financial condition and results of operations.
5
6
Products in the Business Office Division
The Company's business lines in the Business Office Division target a
provider's chief financial officer as the primary buyer. The divisions'
solutions address the complex administrative and financial management demands
placed on healthcare organizations today, providing the technology and expertise
to increase cash flow and reduce administrative costs. The division is comprised
of the following product and service categories: decision support,
patient-focused solutions, electronic business office, managed care, executive
information systems and business office outsourcing.
Specific products and services under the decision support solutions area include
Performance Measurement, Enterprise and Patient Costing, The Budget Advisor(TM),
Payroll Planner(TM) and ORYX Reporting.
QuadraMed's Performance Measurement products provide integrated comparative
perspectives on clinical, financial and market performance for providers. The
Company's products generally include database analysis software and national and
regional benchmark data that may be licensed to the customer. The customer
provides its own internally generated clinical and financial information to the
Company, and the Company performs risk and severity adjustments on such
information based on patient demographics and health status and formats it for
comparison against the national and regional data. The updated and adjusted data
sets are returned to the customer for use with the database analysis software.
The Company's performance measurement solution has been accepted for inclusion
on the Joint Commission on Accreditation of Healthcare Organization's initial
list of performance measurement systems.
The Clinical Performance Measurement solution is a software application that
measures clinical outcomes and resource utilization based on diagnosis, patient,
physician and other variables. This product is used as a benchmarking tool to
compare hospital-level information against 101 risk and severity adjusted
outcome indicators. The benchmarking information is derived from a standardized
national set of 10 million patient records. The outcomes database is organized
into major categories including: overall mortality, obstetrics, surgery,
neonatal, radiology and general medical. The customer typically produces reports
that compare its performance against competitor or peer group providers and
against expected outcomes derived from the national and regional data set.
The Financial Performance Measurement solution is a software application that
employs cost accounting, length-of-stay, and other benchmark information to
allow customers to measure cost, clinical resource utilization and profitability
by physician, payor, diagnosis and procedure. Most providers have access to
charge and reimbursement information for procedures and diagnoses, but do not
have accurate measures for the cost of care in these categories. Therefore,
these providers cannot accurately track profitability by procedure or diagnosis.
Through an interface with Clinical Performance Measurement, providers can
benchmark the risk adjusted outcomes and financial performance by physician,
diagnosis, patient and other variables. This application can also be used to
analyze the profitability of managed care and capitated contracts.
QuadraMed's Market Analysis Performance Measurement solution is a software
application that consists of licensed software and database information that is
derived from statewide and national hospital billing data sets and other
demographic and population statistics. This application enables customers to
perform market share, community health assessment, managed care activity and
physician admitting pattern analyses.
QuadraMed offers an Enterprise-wide Cost Accounting tool for optimizing resource
allocation and cost containment, in addition to a Patient-Level Cost and Quality
Analysis tool for improving service while reducing costs. Care Delivery Costing
software products are designed for workload-driven staffing and care delivery
costing analysis addressing the informational needs from both the clinical and
financial management perspective. Using well established objective workload
measurement methodologies, patient care managers can utilize these software
tools to optimize the allocation of patient care resources, maintain clinical
standards, utilize benchmarking database resources for comparative analysis and
manage labor costs in a variety of in-patient and out-patient care settings.
Under patient-focused solutions, the following product and service offerings are
included: Staffing Resource Management and Benchmarking, HEDIS Reporting and
Patient Care Staff Management Consulting. Patient-focused Resource Management
tools facilitate budgeting decisions regarding patient care resource allocation.
Products enable labor cost and productivity benchmarking comparisons and support
a provider's strategic planning process. Staff management consulting enables
providers to define staffing and skill-mix levels based on patient-specific
requirements to deliver quality, cost-effective patient care. Staff Management
6
7
consulting also allows providers to compare and trend workload, staffing and
productivity, identify opportunities for re-aligning staff responsibilities to
provide increased time for direct patient care by conducting work sample
studies.
The electronic business office encompasses the following solutions: Electronic
Data Interchange (EDI), Electronic Remittance Advice (ERA), Medicare Secondary
Billing (MSB), Eligibility, 72-Hour Advisor and Contract Management. The
Company's EDI products enable providers to edit claims on site, format detailed
claims data for all payors, and electronically submit them for processing. The
edited claims data is the foundation of a detailed database of information that
can be incorporated with QuadraMed's decision support and compliance products.
EDI is a software application that downloads summary and detailed claims data
from existing legacy financial information systems, and then edits and formats
it to meet payor-specific requirements, including unique data fields. As part of
the editing process, QuadraMed's EDI screens the data for payor-specific
demographic, diagnosis or procedure information and identifies illogical data
inputs that are not within expected ranges. For example, the software would
alert the operator if it encountered inputs that indicated that a male patient
had given birth. After the standardized claim has been edited for payor-specific
requirements, QuadraMed EDI transmits the claim to the payor.
ERA is a software application that receives detailed payment information from
payors. Known as electronic remittance advice, ("ERA"), translates this data and
automatically posts this information to a provider's financial system. Prior to
posting, ERA data is extracted to generate automated contractual adjustments
based on payor-appropriate criteria, applicable deductibles and co-insurance,
and to track write-offs taken at the time of billing.
Medicare Secondary Billing is a module designed to assist providers in
accelerating the traditional Medicare billing cycle by eliminating the 14-day
payment hold for billing Medigap carriers. The module automatically reviews all
open Medicare claims daily by logging onto the Medicare claims inquiry system,
and then, based on that analysis, generates appropriate, collated, ready-to-mail
UB92s and Explanation of Benefits ("EOB's") for secondary carriers.
Eligibility is a module which automatically verifies the eligibility of
Medicare, Medicaid, Blue Cross and other specified in-patient admissions types
by continuously polling the patient admitting system and then cross-checking
these patient profiles against health plan eligibility and benefits inquiry
databases. This module is designed to assist providers in proactively managing
the risk of uncompensated and undercompensated care.
The 72 Hour Advisor module, which is a complement to the Eligibility module, is
designed to assist providers in identifying instances when a patient receives
outpatient services less than 72 hours prior to being admitted for an inpatient
episode. If all care is not bundled as one episode, a Medicare billing conflict
is created, which is in violation of HCFA regulations and typically delays
payment for all care administered. The 72 Hour Advisor constantly polls key
in-patient and out-patient registration systems to check for date conflicts
within the 72 hour window.
QuadraMed's Contract Management application tracks providers' multiple managed
care, capitated, governmental and other payor contract terms, including coverage
and reimbursement for individual diagnoses and procedures. The application
calculates expected reimbursement and the contractual allowance, which is the
difference between the standard charge generated by the provider and the actual
amount owed by the payor under the contract. Expected reimbursement and
contractual allowance amounts can be posted automatically to the provider's
financial information system at the time of billing. Contract Management allows
providers to measure the allocation of revenues and the profitability of
contracts based on specific payor contract terms. Contract Management's pricing
module eliminates labor intensive, error prone manual repricing of bills, a
process that often leads to inaccurate reimbursement and financial statements.
In addition, Contract Management is used as a modeling tool for managed care
contract negotiation and detailed analysis of contract performance.
QuadraMed offers EZ-Cap(R), Prime Analysis M.D., Managed Care Retrospective
Payment Recovery (MPR) and Contractual Financial Outcomes (CFO) under its
managed care offerings. EZ CAP Managed Care Information System is a software
application designed to assist medical groups, Independent Practice Associations
("IPA's"), hospitals, Physician-Hospital Organizations ("PHO's") and other
organizations that receive capitation payments from health plans and are at
financial risk for healthcare services. EZ CAP's key functional areas include
enrollee demographic data, benefits verification and co-payment information,
automated authorizations, flexible provider compensation methods, case
management and utilization tools, provider claims processing and claims data
capture, and detailed reporting capabilities.
7
8
In the area of executive information systems, the following products are
offered: Smartlink 2000 Reporting & Analysis, Smartlink 2000 Data Mart,
Smartlink 2000 A/R and Prime Analysis M.D. Smartlink 2000 is a flexible
reporting tool for enterprise-wide reporting and analysis. The product
consolidates access to information across disparate internal systems. It uses
transactional data from current systems to create management analysis and
reports.
The Business Office division also includes business office outsourcing. The
following services are included: full business office outsourcing, A/R reduction
and billing services and interim management consulting. QuadraMed provides
partial and complete business office department outsourcing services, including
the billing and collection of receivables for the business office, and managed
care contract administration and negotiations for the contract management
department. The Company offers business office outsourcing services for
hospitals, physicians, home health care agencies and other providers. The focus
of these services is to increase cash flow and to improve operational
efficiencies for healthcare providers. Under full outsourcing arrangements, the
Company hires and/or replaces existing personnel at the facility. The Company
typically implements selected components of its suite of products to enhance the
efficiency of the business office or contract management department. In partial
business office outsourcing arrangements, the Company bills and collects
receivables that have aged beyond a certain point, or that involve specified
payers or payment arrangements.
The infrastructure for the Company's outsourcing business was acquired by the
Company. In addition, the Company often uses its software products to provide
outsourcing services. As a result, the Company has not been required to make
significant capital expenditures in order to service existing outsourcing
contracts. However, if the Company experiences a period of substantial expansion
in its outsourcing business, it may be required to make substantial investments
in capital assets and personnel, and there can be no assurance that it will be
able to assess accurately the investment required and negotiate and perform in a
profitable manner any of the outsourcing contracts it may be awarded. The
Company's failure to estimate accurately the resources and related expenses
required for a project or its failure to complete its contractual obligations in
a manner consistent with the project plan upon which a contract was based could
have a material adverse effect on its business, financial condition and results
of operations. In addition, the Company's failure to meet a client's
expectations in the performance of its services could damage the Company's
reputation and adversely affect its ability to attract new business. Finally,
the Company could incur substantial costs and expend significant resources
correcting errors in its work, and could possibly become liable for damages
caused by these errors.
Products in the Health Information Management Operating Division
QuadraMed's Health Information Management (HIM) division business lines
primarily target medical records directors, as well as chief financial officers
throughout the provider system. The division is comprised of the following
products and services: coding and abstracting, compliance, document imaging and
workflow, and HIM outsourcing and consulting.
Products and services under the coding and abstracting solutions include
nCoder+, InfoMaster and CodeMaster Express. Coding and Abstracting software
products are designed to consolidate the flow of patient-related data from
disparate hospital systems into a Windows-based system. The Coding and
Abstracting system is designed to maximize the productive results of the coding
process at the critical point where proper reimbursement decisions are in the
hands of coding personnel. Knowledge-based methodology and database resources
are integrated with on-line access to clinical notes, definitions, and coding
reference guides to assist in the accurate interpretation and validation of
coding and DRG assignment decisions.
Under the area of compliance, the following products and services are offered:
Inpatient Coding FACTS, Outpatient Coding FACTS, ComplySource(TM) and
compliance consulting and education.
QuadraMed's FACTS solution, introduced in the third quarter of 1997, is a
software application designed to assist hospitals in managing the complexities
of federal requirements under HIPAA and in submitting accurate billing and
clinical data. The product complements providers' existing compliance efforts by
monitoring coding and billing practices for compliance with mandated guidelines.
FACTS includes the following six modules: a 72-hour rule compliance module
designed to identify claims for non-physician services performed within three
days of a hospital admission; a prospective payment system module designed to
select billing records with a high probability of inaccurate coding which may
lead to overpayments by payees which may, in turn, trigger federal government
fines for inappropriate billing practices; a data quality monitoring tool that
is designed to identify inconsistencies
8
9
in coding and to flag inclusive codes that may result in potential overestimates
of revenue; a benchmarking study that utilizes publicly available data to
identify a hospital's exposure to potential fraud and abuse by analyzing
correlations between a given hospital's DRG codes and national norms and
identifying a hospital's exposure at the DRG level; a laboratory report based on
a thorough review of a provider's detail billing data identifying clinical
laboratory billing practices of that provider which are of the type generally
scrutinized by the government; and a Medicare Billing Compliance Guide designed
to assist hospitals and other providers in implementing fraud and abuse
compliance programs.
ComplySource is a legal and compliance software resource package designed to
provide consolidated access to important legal and government compliance-related
documents, layman's synopsis of all statutes related to healthcare compliance,
OIG fraud alerts, and focused database tools such as compliance disciplinary
action, education attendance lists, audit tracking, mandatory compliance
activities and hotline calls. The product can be implemented via the Intranet or
Internet.
An adjunct to QuadraMed's software offerings is the range of compliance and
consulting offerings that are designed to provide value-added service to
clients, and better position the Company as a provider of more comprehensive
solutions. Currently, compliance and consulting services fall under four main
categories: Managed Care, Financial Reviews & Management, Patient-Focused
Studies, and Compliance Services. These services include: accuracy and
compliance assessments of clinical and patient accounting charge capture
mechanisms, managed care contract performance reviews and re-negotiations (with
integrated retrospective payment recovery services for underperforming
contracts), and clinically-oriented, patient-focused data analysis and reviews
by Master prepared Registered Nurses.
QuadraMed offers a compliance program, including compliance assessment, auditing
and education expertise through a team of over 100 credentialed healthcare
attorneys, medical record professionals, registered nurses and physicians. These
services are designed to improve the ability of healthcare providers to prevent
Medicare and Medicaid fraud and abuse by identifying potentially fraudulent
coding in a medical bill. Many of these services are augmented by the use of
integrated software technologies. These services include: organizational risk
and compliance assessment, clinical data management compliance audits and
assessments, physician and ancillary services compliance audit and education
services, and professional development services which offer subscriber-based,
toll-free "expert help desk" coding and billing compliance assistance and
topical compliance seminar series throughout the country.
In the areas of document imaging and workflow, the following solutions are
offered: Electronic Document Management (EDM) and Chart Engine. Electronic
Document Management is a software application for patient accounting and medical
records departments that captures, indexes, stores and retrieves paper-based
demographic, clinical and financial information and records. This product is
based on an open software architecture, which utilizes electronic files that
integrate financial and ancillary department electronic information with scanned
images of paper documents. The Company believes that this application improves
provider work flow, reduces administrative cost and helps providers move toward
paperless business offices and medical records departments. Multi-user access to
the electronic patient account file reduces the need for paper files and storage
while offering access to account information from any work station. The
combination of existing electronic financial information and scanned images with
multi-user capabilities effectively creates an electronic patient account file
that can be routed through billing and administration departments, thus
improving work flow. In addition to licensing this software application, the
Company offers customers the option of purchasing the hardware required to
implement this solution. Chart Engine utilizes barcode tracking and portable
barcode readers for chart location and site inventories. Providers can view
patient demographic information in one screen while updating deficiencies and
generating reports.
The Health Information Management (HIM) operating division includes HIM
outsourcing. The following services are included: Charge Description Master
(CDM) Review, Master Patient Index Clean Up, Interim HIM Management Service,
general outsourcing and HIM on-site staff services.
9
10
Products in the Enterprise Operating Division
QuadraMed's newest operating unit, the Enterprise Division, established in 1999
provides solutions that are designed to flow across an extended enterprise of
inpatient and outpatient locations and across business entity lines. The
Company's enterprise business lines target a provider's chief financial officer
and chief executive officer. The Company provides access via LAN, WAN or Web, to
patient information from disparate locations in the enterprise. The division is
comprised of the following solutions: Enterprise and Healthcare iQ.
In March 1999, QuadraMed acquired The Compucare Company whose primary product is
the AFFINITY(TM) Enterprise Solution. AFFINITY is an integrated hospital
information system that provides clinical and financial information. AFFINITY
offers a suite of hospital applications that are designed to provide compliance
with federal and state regulations while automating decision making and
increasing productivity. AFFINITY provides a patient-centered database that
enables a provider to track patients throughout the continuum of care, without
duplication of effort. AFFINITY applications are accessible via a web browser,
allowing physicians and other authorized users to have access to real-time
patient information, from remote locations. AFFINITY integrates financial
information such as patient accounting and DRG/case mix with clinical data such
as medication charting and plan of care to automate state and federal reporting,
billing, and other administrative activities.
Healthcare iQ, the Company's Internet offering, allows clients access to
benchmarking data, comparative analysis tools and resource libraries via the
Internet. Healthcare iQ provides Internet access to some of the industry's most
comprehensive information resources and online analytical tools. Benefits of
Healthcare iQ include access to decision support data and information resources
via the Internet. In fiscal 1999 QuadraMed offers three distinct products via
its Healthcare iQ Internet offering. Performance iQ is a decision support data
base and analytical tool for clinical, financial and market analysis
information. The Company's American Hospital Directory (AHD) provides hospital
profiles showing characteristics, services, financial statements and utilization
statistics. ComplySource iQ is an online library of legal and compliance
reference resources.
10
11
CUSTOMERS
Historically, QuadraMed has marketed its products primarily to
hospitals, with additional marketing to hospital associations, physician groups,
payors and self-administered employers. Substantially all of the Company's
revenues have been derived from the sale of software products and services to
hospitals. With the industry trend toward the formation of IDNs, the Company has
designed its product suite to accommodate this emerging industry sector. To
date, QuadraMed and its subsidiaries have approximately 3,800 customers, a
substantial majority of which are hospitals, located in all 50 states, the
District of Columbia, Canada, South Africa and the Philippines. The Company
expects to maintain a high percentage of hospital customers for the foreseeable
future, but also expects its customer mix to begin to shift toward other
providers, including IDNs, as well as payors and employers. The health care
industry is subject to changing political, economic and regulatory influences
that may affect the procurement practices and operation of health care
organizations. Changes in current health care financing and reimbursement
systems could result in the need for unplanned product enhancements, in delays
or cancellations of product orders or shipments or in the revocation of
endorsement of the Company's products by hospital associations or other
customers. Any of these occurrences could have a material adverse effect on the
Company's business, financial condition and results of operations. In addition,
many health care providers are consolidating to create integrated health care
delivery systems with greater regional market power. As a result, these emerging
systems could have greater bargaining power, which may lead to price erosion of
the Company's products. The failure of the Company to maintain adequate price
levels would have a material adverse effect on the Company's business, financial
condition and results of operations. Other market-driven reforms could also have
unpredictable effects on the Company's business, financial condition and results
of operations.
SALES AND MARKETING
As of March 5, 1999, the Company employed 92 direct sales
representatives and product managers, and a marketing support staff of 12
individuals. The Company markets its products and services through direct sales
contacts, strategic alliances, participation in trade shows and advertisements
in industry publications. In addition, senior management plays an active role in
the sales process by cultivating industry contacts.
The Company supplements its marketing arrangements through endorsement
agreements. The Company has endorsement agreements and/or marketing agreements
for certain of its products with state and regional hospital associations, which
include: New Jersey Hospital Association, Pennsylvania Hospital Association,
Florida Hospital Association, Connecticut Hospital Association, Healthcare
Association of New York State, Greater Cleveland Hospital Association, Hospital
Council of Northern & Central California, Association of Iowa Hospitals & Health
Systems, Wisconsin Health & Hospital Association, Virginia Hospital and
Healthcare Association, Montana Hospital Association, Metropolitan Chicago
Health Care Council, Texas Hospital Association and the Georgia Hospital
Association.
In addition, the Company has built a regional account manager
organization within the national sales force responsible for particular
customers rather than particular products. This approach will require additional
training so that sales personnel may become more familiar with the Company's
broader range of product and service offerings. There can be no assurance that
the Company will be successful in its efforts to restructure its sales and
marketing approach, and any failure to successfully implement such strategy
could have a material adverse effect on its business, financial condition and
results of operations.
11
12
RESEARCH AND DEVELOPMENT
As of March 5, 1999, the Company employed 177 people in the areas of
product design, research and development and 40 people in the areas of quality
assurance and technical support. The Company's product development strategy is
focused on continually enhancing existing products by increasing their
functionality and ease of use. In addition, the Company is enhancing the
reporting capabilities for its performance measurement clinical and financial
applications, expanding its outpatient and inpatient databases and improving its
comparative reporting and benchmarking capabilities with third-party databases.
A significant amount of the Company's research and development resources are
dedicated to integrating acquired technology into the Company's suite of
products. See "-Products Under Development and Joint Development Projects."
In fiscal years 1996, 1997, and 1998, the Company's research and
development expenses totaled $5.0 million, $11.0 million, and $15.9 million,
respectively, representing 6.8%, 11.1%, and 10.0%, respectively, of its total
revenues. See "Management's Discussion and Analysis of Financial Condition and
Results of Operations."
COMPETITION
Competition in the market for the Company's products and services is
intense and is expected to increase. Increased competition could result in price
reductions, reduced gross margins and loss of market share, any of which could
materially adversely affect the Company's business, financial condition and
results of operations. The Company's competitors include other providers of
health care information software and services, as well as health care consulting
firms. The combined company's principal competitors include: (i) CIS
Technologies, Inc., a division of National Data Corporation, Inc., and
Sophisticated Software, Inc. in the market for its EDI products; (ii) MedE
AMERICA in the market for its claims processing service; (iii) Healthcare Cost
Consultants, Inc., a division of CIS Technologies, and Trego Systems, Inc. in
the market for its contract management products; (iv) Optika Imaging Systems,
Inc. and LanVision Systems, Inc. in the market for its electronic document
management products; (v) Healthcare Microsystems, Inc., a division of Health
Management Systems, Inc., HCIA Inc. and MediQual Systems, Inc., a division of
Cardinal Health, Inc., in the market for its decision support products; (vi) HMS
in the market for its business office outsourcing services; and (vii) a
subsidiary of Minnesota Mining and Manufacturing, in the market for its medical
records products.
GOVERNMENT REGULATION AND HEALTH CARE REFORM
The United States Food and Drug Administration (the "FDA") is
responsible for assuring the safety and effectiveness of medical devices under
the Federal Food, Drug and Cosmetic Act. Computer products are subject to
regulation when they are used or are intended to be used in the diagnosis of
disease or other conditions, or in the cure, mitigation, treatment or prevention
of disease, or are intended to affect the structure or function of the body. The
FDA could determine in the future that any predictive aspects of the Company's
products make them clinical decision tools subject to FDA regulation. Compliance
with these regulations could be burdensome, time consuming and expensive. The
Company also could become subject to future legislation and regulations
concerning the development and marketing of health care software systems. These
could increase the cost and time necessary to market new products and could
affect the Company in other respects not presently foreseeable. The Company
cannot predict the effect of possible future legislation and regulation.
The confidentiality of patient records and the circumstances under which
such records may be released for inclusion in the Company's databases are
subject to substantial regulation by state governments. These state laws and
regulations govern both the disclosure and the use of confidential patient
medical record information. Although compliance with these laws and regulations
is at present principally the responsibility of the hospital, physician or other
health care provider, regulations governing patient confidentiality rights are
evolving rapidly. Additional legislation governing the dissemination of medical
record information has been proposed at both the state and federal level. This
legislation may require holders of such information to implement security
measures that may require substantial expenditures by the Company. There can be
no assurance that changes to state or federal laws will not materially restrict
the ability of health care providers to submit information from patient records
using the Company's products.
The health care industry in the United States is subject to changing
political, economic and regulatory influences that may affect the procurement
practices and operations of health care organizations. The Company believes that
the commercial value and appeal of its products may be adversely affected if the
current health care financing and reimbursement system were to reverse its
current
12
13
evolution to a managed care model back to a fee-for-service model. In addition,
many of the Company's customers are providing services under capitated service
agreements, and a reduction in the use of capitation arrangements as a result of
regulatory or market changes could have a material adverse effect on the
Company's business, financial condition and results of operations. During the
past several years, the health care industry has been subject to increasing
levels of governmental regulation of, among other things, reimbursement rates
and certain capital expenditures. Certain proposals to reform the health care
system have been and are being considered by Congress. These proposals, if
enacted, could change the operating environment for the Company's clients in
ways that cannot be predicted. Health care organizations may react to these
proposals by curtailing or deferring investments, including those for the
Company's products and services.
INTELLECTUAL PROPERTY
The Company considers its methodologies, computer software and many of
its databases to be proprietary. The Company seeks to protect its proprietary
information through nondisclosure agreements with its employees. The Company's
policy is to have employees enter into nondisclosure agreements containing
provisions prohibiting the disclosure of confidential information to anyone
outside the Company, requiring disclosure to the Company of any new ideas,
developments, discoveries or inventions conceived during employment, and
requiring assignment to the Company of proprietary rights to such matters that
are related to the Company's business.
The Company also relies on a combination of trade secrets, copyright and
trademark laws, contractual provisions and technical measures to protect its
rights in various methodologies, systems, products and databases. The Company
has no patents or copyrights covering its software technology. Any infringement
or misappropriation of the Company's proprietary software and databases would
disadvantage the Company in its efforts to retain and attract new customers in a
highly competitive market and could cause the Company to lose revenues or incur
substantial litigation expense.
There can be no assurance that measures taken by the Company to protect
its intellectual property will be adequate or that the Company's competitors
will not independently develop products and services that are substantially
equivalent or superior to those of the Company. Substantial litigation regarding
intellectual property rights exists in the software industry, and the Company
expects that software products may be increasingly subject to third-party
infringement claims as the number of competitors in the Company's industry
segment grows and the functionality of products overlaps. However, due to the
nature of its application software, the Company believes that patent, trade
secret and copyright protection are less significant than the Company's ability
to further develop, enhance and modify its current products.
Although the Company believes that its products do not infringe on the
intellectual rights of others, there can be no assurance that such a claim will
not be asserted against the Company in the future, or that a license or similar
agreement will be available on reasonable terms in the event of an unfavorable
ruling on any such claim. Any such claim may require the Company to incur
substantial litigation expenses or subject the Company to significant
liabilities and could have a material adverse effect on the Company's business,
financial condition and results of operations.
EMPLOYEES
As of March 5, 1999, the Company employed 2,674 people, including 437
in general administration, 217 in product design, research and development
quality assurance and technical support, 104 in sales and marketing and 1,916 in
operations. None of the Company's employees is represented by a union or other
collective bargaining group. The Company believes its relationship with its
employees to be satisfactory.
13
14
EXECUTIVE OFFICERS OF THE COMPANY
The executive officers of the Company, and their ages as of March 5,
1999, are as follows:
NAME AGE POSITION
- ---- --- --------
James D. Durham 52 Chairman of the Board and Chief Executive Officer
John V. Cracchiolo 42 Executive Vice President, President and Chief Operating Officer
Patrick Ahearn 45 President, Business Office Division
Andrew J. Hurd 35 President, Health Information Management Division
Keith M. Roberts 34 Executive Vice President, Chief Financial Officer, General
Counsel and Assistant Secretary
Bernie J. Murphy 33 Vice President, Finance and Chief Accounting Officer
BACKGROUND
James D. Durham serves as QuadraMed's Chairman of the Board and Chief
Executive Officer. Mr. Durham founded the Company in September 1993. From
November 1992 to December 1993, Mr. Durham served as the Chief Executive Officer
of Trim Healthcare Systems, Inc., a reimbursement consulting services company.
From April 1992 to April 1993, Mr. Durham served as Chief Executive Officer of
Care Partners, Inc., an accounts receivable processing and funding company
co-founded by Mr. Durham. From February 1986 until its acquisition by Ameritech
in February 1992, Mr. Durham served as President and Chief Executive Officer of
Knowledge Data Systems, Inc., a health care information systems company. Mr.
Durham holds a B.S. with honors in Industrial Engineering from the University of
Florida and an M.B.A. with an emphasis in Finance from the University of
California, Los Angeles and is a Certified Public Accountant.
John V. Cracchiolo serves as QuadraMed President and Chief Operating
Officer. Mr. Cracchiolo joined the Company in May 1995 as its Executive Vice
President, Chief Financial Officer and Secretary. In March 1998, Mr. Cracchiolo
became the Company's President and Chief Operating Officer. Prior to joining the
Company, Mr. Cracchiolo worked for PSICOR, Inc., a health care services company,
serving as its Chief Financial Officer from February 1993 to May 1995, and its
corporate Controller from May 1989 to February 1993. Previously, Mr. Cracchiolo
worked in various management positions for software, hardware, defense
contractor and personnel and professional services organizations within the
health care and other industries. Mr. Cracchiolo holds a B.S. in Business
Administration from California State University, Long Beach and is a Certified
Public Accountant.
Andrew D. Hurd serves as President of QuadraMed's Health Information
Management Division. Mr. Hurd joined the Company in January 1998 as Executive
Vice President, Business Development. From November 1995 to January 1998, Mr.
Hurd was Vice President, Health Care Financial Services at National Data
Corporation, an EDI company. From 1988 to November 1995, Mr. Hurd was the Vice
President and General Manager of Amsco International, a medical supply company.
Mr. Hurd holds a B.A in Marketing and a B.S in Business Administration from
Northern Arizona University.
Patrick Ahearn, President of QuadraMed's Business Management Division,
joined the Company in 1998. Before joining QuadraMed, Mr. Ahearn was Chief
Financial and Chief Information Officer at the Medical Center at Princeton, New
Jersey, a non-profit teaching integrated delivery network. In addition to his
financial and information system responsibilities, he was involved in the
development of the Medical Center's Physician Hospital Organization (PHO),
Medical Services Organization (MSO), its real estate company and its for-profit
ventures. Prior to his experience at Princeton, Mr. Ahearn worked in New York
City for a CPA firm, Pannell Kerr Forster. His experience was almost exclusively
in the healthcare arena and included both the audit and consulting aspects of
the practice. Mr. Ahearn received a Bachelors of Business Administration from
Iona College, New York.
Keith M. Roberts serves as QuadraMed's Executive Vice President, General
Counsel, Assistant Secretary and Chief Financial Officer. Mr. Roberts joined the
Company in March 1997 as Vice President and General Counsel and became Executive
Vice President, General Counsel and Assistant Secretary in February 1998. In
July 1998, Mr. Roberts also became the Company's Chief Financial Officer. From
May 1995 to March 1997, Mr. Roberts was an associate of Brobeck, Phleger &
Harrison LLP, a private law firm. From September 1992 to May 1995, Mr. Roberts
was an associate of Hale & Dorr, a private law firm. Mr. Roberts holds a J.D.
from Stanford Law School and a B.A. in economics and philosophy from the
University of Rochester.
Bernie J. Murphy serves as QuadraMed's Vice President, Finance and Chief
Accounting Officer. Mr. Murphy joined the Company in June 1996 as Corporate
Controller. In February 1998, Mr. Murphy became the Company's Vice President,
Finance and Chief Accounting Officer. From July 1988 to June 1996, Mr. Murphy
worked at Arthur Andersen LLP,
14
15
where he served as a manager in the audit practice for the last three years of
employment with that firm. Mr. Murphy holds a B.S. in Business Administration
from the University of San Francisco and is a Certified Public Accountant.
ITEM 2. PROPERTIES.
The Company's executive and corporate offices are located in Richmond
California, in approximately 22,000 square feet of leased office space under a
lease that expires in June 2003. The Company also maintains several regional
offices throughout the United States.
ITEM 3. LEGAL PROCEEDINGS.
From time to time, the Company may be involved in litigation relating to
claims arising out of its operations in the normal course of business. As of the
date of this Report, the Company is not a party to any legal proceedings which,
if decided adversely to the Company, would, individually or in aggregate, have a
material adverse effect on the Company's business, financial condition or
results of operations.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
NONE
15
16
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
The Company's Common Stock has been quoted on the Nasdaq National Market
since October 10, 1996 under the symbol "QMDC." The following table sets forth
the range of high and low closing sales prices reported on the Nasdaq National
Market for Company Common Stock for the periods indicated.
High Low
---- ---
Year Ended December 31, 1996
Fourth Quarter (October 10, 1996 through December 31, 1996) $ 13 1/2 8 9/16
Year Ended December 31, 1997
First Quarter 12 1/4 9 5/8
Second Quarter 10 5/8 6 3/4
Third Quarter 20 6 3/4
Fourth Quarter 27 1/2 17
Year Ended December 31, 1998
First Quarter 35 1/4 18 15/16
Second Quarter 33 1/2 22 7/8
Third Quarter 31 3/4 19 5/8
Fourth Quarter 27 15 1/16
Year Ended December 31, 1999
First Quarter (through March 5, 1999) 29 11 7/16
As of March 5, 1999, there were approximately 229 holders of record of
the Company's Common Stock. The Company believes that the number of beneficial
holders of Company Common Stock substantially exceeds this number.
DIVIDEND POLICY
The Company has never declared or paid any cash dividends on the Common
Stock. The Company currently intends to retain all future earnings, if any, to
fund the development and growth of its business and does not anticipate paying
any cash dividends on the Common Stock in the foreseeable future.
ITEM 6. SELECTED FINANCIAL DATA AND SUPPLEMENTARY DATA.
The following selected financial data of the Company for the fiscal
years ended December 31, 1994, 1995, 1996, 1997 and 1998, are derived from, and
are qualified by reference to, the audited financial statements and should be
read in conjunction with the consolidated financial statements and the notes
thereto.
YEARS ENDED DECEMBER 31,
----------------------------------------------------------------------------
1996 1997 1998
1994 1995 Restated(1) Restated(1) Restated(1)
------- -------- -------- -------- ---------
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
CONSOLIDATED STATEMENT OF OPERATIONS DATA:
Revenues ................................. $ 6,102 $ 46,221 $ 74,269 $ 99,625 $ 159,394
Loss from operations ..................... (4,780) (19,366) (836) (33,167) (13,967)
Net loss ................................. (4,865) (23,577) (4,324) (33,938) (18,610)
Basic and diluted net loss per share(2).. $ (2.26) $ (3.29) $ (0.51) $ (2.56) $ (0.98)
======== ========= ========= ========= ==========
AS OF DECEMBER 31,
--------------------------------------------------------------------------
1995 1996 1997
1994 Restated(1) Restated(1) Restated(1) 1998
------- ----------- ----------- ----------- --------
(IN THOUSANDS)
CONSOLIDATED BALANCE SHEET DATA:
Working capital (deficit) ...... $(1,494) $ (3,071) $ 9,382 $ 16,678 $ 93,006
Total assets ................... 2,801 27,212 50,369 105,288 240,886
Stockholders' equity (deficit).. (1,457) (9,565) (1,794) 33,729 71,845
16
17
- ----------
(1) Restated to reflect business combinations accounted for as pooling of
interests. See Note 12 of Notes to Consolidated Financial Statements.
(2) See Note 2 of Notes to Consolidated Financial Statements for an
explanation of the determination of the number of shares used in
computing net income per share. In February 1997, the Financial
Accounting Standards board issued Statement of Financial Accounting
Standards No. 128, "Earnings Per Share" ("SFAS No. 128") which requires
disclosure of basic earnings per share and diluted earnings per share
and is effective for periods ending subsequent to December 15, 1997.
ITEM 7. OTHER INFORMATION
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS.
OVERVIEW
QuadraMed develops, markets and sells software products and services
designed to enable health care providers and payors to increase operational
efficiency, improve cash flow, measure the cost of care and effectively
administer managed care contracts. In addition, QuadraMed provides business
office outsourcing, compliance and consulting services. QuadraMed and its
subsidiaries have approximately 3,800 healthcare customers. In addition,
QuadraMed has received endorsements from approximately 15 state and regional
hospital associations.
The Company has expanded significantly since its inception in 1993,
primarily through the acquisition of other businesses, products and services.
Accordingly, the Company's consolidated financial statements have been restated
to include historical results of entities acquired on a pooling of interests
basis. The addition of historical results of acquired entities should be
considered when reading the period to period comparisons for fiscal years 1996,
1997 and 1998. Additionally, reference is made to the consolidated financials
statements and notes thereto for the effect of such acquisitions.
Since December 1995, the Company has completed the following significant
acquisitions:
DESCRIPTION OF
COMPANY ACQUIRED COMPANY ACQUIRED POOLING/PURCHASE DATE ACQUIRED
- ---------------- ---------------- ---------------- -------------
Healthcare Design Systems Health care financial management Purchase December 1995
and decision support software
Medicus Systems Corporation Health care financial management Purchase November 1997*
and decision support software
Rothenberg Health Systems, Inc. Capitation management software Pooling December 1997
and Healthcare Research Affiliates, and H.E.D.I.S. reporting
Inc. (collectively, "Rothenberg")
Cabot Marsh Corporation Health care compliance and Purchase February 1998
consulting company
Pyramid Health Group, Inc. Cash flow management services Pooling June 1998
("Pyramid") company
Integrated Medical Networks, Inc. Health care financial management Pooling September 1998
("IMN")
The Compucare Company Enterprise wide software Pooling March 1999
- ------------
* QuadraMed acquired 56.7% of the outstanding capital stock of Medicus
Systems Corporation on November 9, 1997. The remaining 43.3% shares of
capital stock were purchased by the Company in May 1998.
17
18
In September 1998, the Company acquired all the outstanding capital
stock of Integrated Medical Networks, Inc.("IMN") in exchange for 1,550,000
shares of common stock. The acquisition was accounted for as a pooling of
interests. In accordance with pooling accounting rules, the Company's
consolidated financial statements have been restated to include the historical
operating results of IMN for the 1997 and 1996 fiscal years.
In June 1998, the Company acquired all the outstanding capital stock of
Pyramid Health Group, Inc. ("Pyramid") in exchange for 2,740,000 shares of
common stock, of which 274,000 shares of common stock have been placed into
escrow for a period of one year under the terms and conditions of the
acquisition agreement. The acquisition was accounted for as a pooling of
interests. In accordance with pooling accounting rules, the Company's
consolidated financial statements have been restated to include the historical
operating results of Pyramid for the 1997 and 1996 fiscal years.
In March 1998, the Company acquired Velox Systems Corporation ("Velox")
for an aggregate purchase price of 40,562 shares of the Company's common stock,
the market value of which was approximately $1,500,000 and approximately
$3,100,000 in cash. In connection with this acquisition, which was accounted for
as a purchase, the Company allocated the purchase price based upon the estimated
fair value of the assets and liabilities assumed. The valuation was based on
accepted appraisal methodologies used at the time of the allocation. Since that
time, the SEC has provided new guidance with respect to the valuation of
intangible assets in purchase business combinations, including in-process R&D
("IPR&D"). In response to this new guidance, the Company elected to
retroactively adjust the amount of intangibles assigned to IPR&D from the
previously reported $4,800,000 to $1,500,000 in the quarter ended March 31,
1998.
In February 1998, the Company acquired Cabot Marsh Corporation ("Cabot
Marsh") for an aggregate purchase price of 382,767 shares of the Company's
common stock, the market value of which was approximately $8,400,000 and
approximately $2,800,000 in cash. In connection with this acquisition, which was
accounted for as a purchase, the Company allocated the purchase price based upon
the estimated fair value of the assets and liabilities assumed. The valuation
was based on accepted appraisal methodologies used at the time of the
allocation. Since that time, the SEC has provided new guidance with respect to
the valuation of intangible assets in purchase business combinations, including
IPR&D. In response to this new guidance, the Company elected to retroactively
adjust the amount of intangibles assigned IPR&D from the previously reported
$6,200,000 to $4,200,000 in the quarter ended March 31, 1998.
The Company acquired Rothenberg in December 1997. In exchange for all
the outstanding capital stock of Rothenberg, the Company issued 1,588,701 shares
of common stock. The acquisition was accounted for on a pooling of interests
basis. In accordance with pooling accounting rules, the Company's consolidated
financial statements have been restated to include the historical operating
results of Rothenberg for the 1996 fiscal year.
In November 1997, the Company acquired 56.7% of Medicus Systems
Corporation ("Medicus"). The Company's purchase price for the 56.7 percent
interest in Medicus which it acquired was approximately $26.3 million, which was
comprised of a cash payment of $21.7 million, the issuance of a note payable for
approximately $1.6 million to one selling stockholder, the value of warrants
issued to the selling stockholders of $700,000, and transaction costs of $2.3
million. In connection with the acquisition, which was accounted for as a
purchase, the Company allocated the purchase price based upon the estimated fair
value of the Company's proportionate share of the assets acquired and
liabilities assumed. Intangible assets acquired aggregated to $30.2 million, of
which $1.7 million, $6.7 million and $21.8 million were assigned to acquired
software, acquired intangible assets, and acquired research and development
in-process, respectively. Because there was no assurance that the Company would
be able to successfully complete the development and integration of the acquired
research and development in-process or that it had alternative future use at the
acquisition date, the acquired research and development in-process was charged
to expense by the Company in the year ended December 31, 1997. The Company's
proportionate share of net tangible liabilities assumed in the acquisition
totaled approximately $12.8 million. In May 1998, the Company completed its
acquisition of Medicus by purchasing the remaining 43.3% interest in Medicus.
The Company allocated the remaining 43.3% purchase price based on the estimated
fair value of the assets and liabilities assumed. The valuation was based on
accepted appraisal methodologies used at the time of the allocation. Since that
time, the SEC provided new guidance with respect to the valuation of intangible
assets in purchase business combinations, including IPR&D. In response to this
guidance, the Company elected to retroactively adjust the amount of intangibles
assigned to acquired in-process research and development from the previously
reported $17,146,000 to $4,763,000 in the quarter ended June 30, 1998. The
remaining intangible balance will be amortized over a 7 year average period.
18
19
During 1998, the Company recorded $4,202,000 of non-recurring charges.
These charges primarily related to costs associated with closing of a
duplicative operating facility within the Company's business office outsourcing
operations. Such costs included future rents and lease obligations the Company
is contractually obligated to fulfill as well as severance packages for
employees working out of that office.
In February 1997, the Company entered into an arrangement to provide EDI
processing and management services to EDI USA, Inc. an organization owned and
established by thirteen independent Blue Cross and Blue Shield Plans to build
and operate an EDI transaction network. The Company and EDI USA, Inc. terminated
this arrangement in December 1997. The Company recorded non-recurring charges of
$2,492,000 for the year ended December 31, 1997, related to costs incurred in
connection with the processing arrangement and the termination thereof.
As of March 5, 1999, QuadraMed and its subsidiaries had approximately
3,800 customers, approximately 80% of which were hospitals, located in all 50
states, the District of Columbia, Canada, Puerto Rico, South Africa and the
Philippines. The Company expects to maintain a high percentage of hospital
customers, but also expects its customer mix to transition to a higher
percentage of other providers, including integrated delivery health care systems
("IDSs"), as well as physicians, payors and employers. No single customer
accounted for more than 10% of the Company's revenues in 1996, 1997 and 1998.
The Company licenses a variety of products and provides a variety of
services. License revenue includes license, installation, consulting and
post-contract customer support fees, third-party hardware sales and other
revenues related to licensing of the Company's software products. Service
revenue is composed of business office and health information management
outsourcing, cash flow management, compliance and consulting services.
The Company's product offering includes a variety of products which can
be licensed individually or as a suite of interrelated products. Products are
licensed either under term arrangements (which range from one year to three
years and typically include monthly or annual payments over the term of the
arrangement) or on a perpetual basis. Revenues from term licenses are recognized
monthly or annually over the term of the license arrangement, beginning at the
date of installation. Revenues from perpetual licenses are recognized upon
shipment of the software if there is persuasive evidence of an agreement,
collection of the resulting receivable is probable and the fee is fixed and
determinable. If an acceptance period is required, revenues are recognized upon
the earlier of customer acceptance or the expiration of the acceptance period.
Revenues from certain products are recognized on a percentage of completion
basis of accounting as determined by the achievement of certain performance
milestones during the product installation process.
Certain services are also provided to certain of the Company's licensees
of software products. These services consist primarily of consulting and
post-contract customer support. Consulting services generally consist of
installation of software at customer sites and revenue is recognized upon
completion of installation. Unbilled receivables consist of work performed or
software delivered which has not been billed under the terms of the contractual
arrangement with the customer. Post-contract customer support is recognized
ratably over the term of the support period. Deferred revenue primarily consists
of revenue deferred under annual maintenance and annual license agreements on
which amounts have been received from customers and for which the earnings
process has not been completed.
The Company provides business office and health information management
outsourcing, cash flow management, compliance and consulting services to
hospitals under contract service arrangements. Outsourcing revenues typically
consist of fixed monthly fees plus, in the case of business office outsourcing,
incentive-based payments that are based on a percentage of dollars recovered for
the provider for which the service is being performed. The monthly fees are
recognized as revenue on a monthly basis at the end of each month. Incentive
fees are recognized as the conditions upon which such fees are based are
realized based on collection of accounts from payors. Cash flow management
services typically consist of fixed fee services and additional incentive
payments based on a certain percentage of revenue returns realized or estimated
to be realized by the customer as a result of the services provided by the
Company. The fixed fee portion is recognized as revenue upon the completion of
the project with the customer. Compliance and
19
20
consulting revenues are recognized as the services are provided. The Company has
experienced operating margins at differing levels related to licenses and
services. The service business has historically realized fluctuating margins
that were significantly lower than margins associated with licenses.
The Company capitalizes a portion of its software costs for internally
developed software products. These capitalized costs relate primarily to the
development of new products and the extension of applications to new markets or
platforms using existing technologies. The capitalized costs are amortized on a
straight-line basis over the estimated lives (usually five years) of the
products, commencing when each product is available to the market.
RESULTS OF OPERATIONS
The following table sets forth, for the periods indicated, certain items
from the consolidated statement of operations of QuadraMed expressed as a
percentage of total revenues.
YEAR ENDED DECEMBER 31,
-----------------------------------
1996 1997 1998
----- ----- -----
Revenues:
Licenses .................... 46.7% 44.5% 46.8%
Services .................... 53.3 55.5 53.2
Total revenues .............. 100.0 100.0 100.0
Operating expenses:
Cost of licenses ............ 19.5 18.5 18.2
Cost of services ............ 34.0 35.8 33.9
General and administration... 29.0 26.4 15.5
Sales and marketing ......... 10.2 10.0 8.9
Research and development..... 6.8 11.1 10.0
Amortization of intangibles.. 1.6 1.7 4.1
Acquisition costs ........... -- 3.1 6.4
Non-recurring charges ....... -- 4.7 2.7
Write-off of acquired in-
process research and
development ............... -- 21.9 9.1
----- ----- -----
Total operating expenses 101.1 133.2 108.8
----- ----- -----
Loss from operations ............. (1.1) (33.2) (8.8)
Interest income (expense), net ... (3.7) (0.5) (0.3)
Other income (expense), net ...... 0.5 0.6 --
----- ----- -----
Net loss before provision
for income taxes ............... (4.3) (33.1) (9.1)
Provision for income taxes ....... 0.2 1.1 2.6
Income (loss) from discontinued
operations ..................... (1.4) 0.1 --
----- ----- -----
Net loss ......................... (5.9)% (34.1)% (11.7)%
===== ===== =====
Years Ended December 31, 1998 and 1997
RESTATEMENT OF QUARTERLY FINANCIAL DATA
Subsequent to the Securities and Exchange Commission's letter to the
Association of Independent Certified Public Accountants dated September 9, 1998,
regarding its views on in-process research and development ("IPR&D") the Company
re-evaluated its IPR&D charges on its 1998 acquisitions. The amounts allocated
to IPR&D and intangible assets in the first and second quarters of 1998 were
based on accepted appraisal methodologies used at the time of the allocations.
Since that time, the SEC provided new guidance with respect to the valuation of
intangible assets in purchase business combinations, including IPR&D. In
response to this new guidance, the Company elected to retroactively adjust the
amount of intangibles assigned to IPR&D related to these acquisitions. The
Company reduced its estimate of the amount allocated to IPR&D for its 1998
acquisitions by $18.2 million from the $32.7 million previously reported in the
first, second, and third quarters of 1998 to $14.5 million. Amortization of
intangibles increased $952,000 for the nine months ended September 30, 1998,
related to the amended amounts for the IPR&D.
Company management believes that the amended IPR&D charge of $14.5
million is valued consistently with the SEC staff's current views regarding
valuation methodologies. There can be no assurance, however, that the SEC will
not take issue with any of the assumptions used in the Company's allocations
and require the Company to further revise the amount allocated to IPR&D. The
Company amended its quarterly earnings on Form 10-Q for the first, second, and
third quarters of 1998. The following table depicts the adjustments made to the
values ascribed to IPR&D during the year ended December 31, 1998 (in thousands):
ACQUISITION AS REPORTED AS RESTATED
Velox $ 4,800 $ 1,500
Cabot Marsh 6,200 4,200
Medicus (43.3%) 17,146 4,763
Other acquisitions 4,585 4,031
------- -------
Total $32,731 $14,494
======= =======
The effect of these adjustments on the previously reported condensed
consolidated quarterly financial statements is present in the "QUARTERLY
RESULTS OF OPERATIONS/SUPPLEMENTARY FINANCIAL INFORMATION" included in the
consolidated financial statements.
Revenues
Licenses. License revenues increased 68.2% to $74.7 million in 1998 from
$44.4 million in 1997. Software license revenues include license, installation,
consulting and post-contract customer support fees, third-party hardware sales
and other revenues related to licensing of the Company's software products. The
increase in license revenues was primarily due to revenues associated with the
acquisition of Medicus and to a lesser extent, revenues from new customers for
the Company's coding and capitation software products.
Services. Service revenues increased 53.4% to 84.7 million in 1998 from
$55.3 million in 1997. The increase in service revenues was primarily due to new
customers associated with the Company's health information management
outsourcing business, and to a lesser extent, customers associated with the
acquisition of Cabot Marsh during the first quarter of 1998.
The substantial increases in revenues for 1998 and 1997 reflect the
completion of numerous acquisitions, several of which were significant. The
Company currently expects to complete fewer acquisitions in 1999. As a result
the Company does not expect revenues to increase at historical rates in the
future.
20
21
Cost of Revenues
Cost of licenses. Cost of licenses increased 56.9% to $29.0 million in
1998 from $18.5 million in 1997. Cost of licenses consists primarily of
salaries, benefits and allocated costs related to software installations,
hardware costs, customer support and royalties to third parties. As a percentage
of license revenues, cost of licenses decreased to 38.8% in 1998 from 41.6% in
1997. Cost of licenses increased primarily due to additional personnel hired to
support software installations and customer support for new customers during
1998. As a percentage of license revenues, cost of revenues decreased primarily
due to an increased revenue base during 1998.
Cost of services. Cost of services increased 51.7% to $54.1 million in
1998 from $35.6 million in 1997. Cost of services includes expenses associated
with services performed primarily in connection with health information
management outsourcing, compliance and consulting services. As a percentage of
service revenues, cost of services decreased to 63.8% in 1998 from 64.5% in
1997. Cost of services increased primarily due to additional personnel costs
associated with the Company's health information management outsourcing business
and to a lesser extent, additional operating costs as a result of its
acquisition of Cabot Marsh during the first quarter of 1998.
Operating Expenses
General and Administration. General and administration expenses decreased 5.8%
to $24.7 million in 1998 from $26.3 million in 1997, and decreased as a
percentage of total revenues to 15.5% in 1998 from 26.4% in 1997. The decrease
in general and administration expense and as a percentage of total revenues was
primarily due to a larger revenue base, the reduction of certain overhead costs
associated with prior acquisitions and to a lesser extent, legal and other costs
the Company incurred in 1997 to settle certain litigation initiated in prior
years.
Sales and Marketing. Sales and marketing expenses increased 41.7% to $14.2
million in 1998 from $10.0 million in 1997, and decreased as a percentage of
total revenues to 8.9% in 1998 from 10.0% in 1997. Sales and marketing expenses
increased primarily from the hiring of additional sales personnel during 1998
and increased advertising costs, including sponsoring and participating in more
trade shows during 1998. As a percentage of total revenues, sales and marketing
expenses decreased primarily due to a larger revenue base in 1998.
Research and Development. Research and development expenses increased
44.3% to $15.9 million in 1998 from $11.0 million in 1997, and decreased as a
percentage of total revenues to 10.0% in 1998 from 11.1% in 1997. The increase
in research and development expenses was due to the hiring of additional
programmers from acquired companies and the ongoing development of product
enhancements and new products. As a percentage of total revenues, research and
development expenses decreased primarily due to a larger revenue base. The
Company capitalized $745,000, $673,000 and $2.7 million of software development
costs in fiscal 1998, 1997 and 1996, respectively, which represented 12.9%, 5.8%
and 14.5% of total research and development expenditures in fiscal 1998, 1997
and 1996. Amortization of capitalized software development costs totaled
$350,000, $134,000 and $32,000 in fiscal 1998, 1997 and 1996, respectively. The
Company believes that research and development expenditures are essential to
maintaining its competitive position. As a result, the Company intends to
continue to make investments in the development of new products and in the
further integration of acquired technologies into the Company's suite of
products. The Company believes that these expenses will increase in the future,
both in absolute terms and as a percentage of total revenues.
Amortization of Intangibles. Amortization of intangibles increased to
$6.5 million in 1998 from $1.7 million in 1997. The increase in amortization of
intangibles is due primarily to the acquisition of 56.7% of Medicus in November
1997, the purchase of the remaining 43.3% of Medicus in May 1998, and the
acquisitions of Cabot Marsh and Velox during the first quarter of 1998. As a
result of the Company's adjustment of the amount of intangibles assigned to
acquired in-process research and development in 1998, the Company expects that
amortization of intangibles will increase significantly in future periods.
Acquisition Costs. The Company incurred $10.3 million of acquisition
costs associated with the acquisitions of Pyramid, Codemaster and Integrated
Medical Networks during 1998. Acquisition costs related to financial advisors
hired by the Company and the acquired companies, legal and accounting fees.
During the fourth quarter ended December 31, 1997, the Company completed two
acquisitions which were accounted for on a pooling of interests basis. In
connection with these acquisitions, the Company incurred $3.1 million in
acquisition and related costs.
21
22
Non-recurring Charges. The Company recorded $4.2 million of
non-recurring charges in 1998. These charges primarily related to costs
associated with closing of a duplicative operating facility within the Company's
business office outsourcing operations. Such costs included future rents and
lease obligations the Company is contractually obligated to fulfill as well as
severance packages for employees working out of that office. Such employees were
paid severance packages in which they were paid through November 1998.
Non-recurring charges in during 1997 were associated with start-up costs
incurred for the claims processing arrangement entered into with EDI-USA, Inc.
No such charges were incurred in 1998 as this arrangement was terminated in
December 1997. As a result of initiatives undertaken by the Company to
integrate acquired businesses and consolidate duplicate operations, the Company
anticipates recording significant non-recurring charges during 1999.
Acquired Research and Development. In connection with the acquisitions
of Velox, Cabot Marsh, the remaining 43.3% interest in Medicus, and several
other acquisitions, the Company allocated $14.5 million to in-process research
and development ("IPR&D") for the year ended December 31, 1998. This amount was
expensed as a non-recurring charge because the IPR&D projects identified has
not yet reached technological feasibility and has no alternative future use.
The following table depicts the allocations to IPR&D for the year ended
December 31, 1998 (in thousands):
Velox $ 1,500
Cabot Marsh 4,200
Medicus (43.3%) 4,763
Other acquisitions 4,031
-------
Total $14,494
=======
The amounts allocated to IPR&D during the year ended December 31, 1998,
were evaluated based on the SEC's current views regarding valuation
methodologies. The allocation to IPR&D was determined by estimating the costs
to develop the purchased technology into commercially viable products,
estimating the resulting net cash flows from each project, excluding the cash
flows related to the portion of each project that was incomplete at the
acquisition date and discounting the resulting net cash flows to their present
value. Each of the project forecasts was based upon future discounted cash
flows, taking into account the stage of development of each in-process project,
the cost to develop that project, and the associated risks. In each case, the
selection of the applicable discount rate was based on consideration of the
Company's weighted average cost of capital, as well as other factors including
the useful life of each technology, profitability levels of each technology,
the uncertainty of technology advances that were known at the time, and the
stage of completion of each technology.
If the projects are not successfully developed, the sales and
profitability of the Company may be adversely affected in future periods.
Additionally, the value of other intangible assets may be impaired. Following
is a description of the significant allocations to IPR&D for the year ended
December 31, 1998.
VELOX. At the acquisition date, Velox was conducting development,
engineering and testing activities associated with the next generation of
SMARTLINK, a product which focuses on accounts receivable analysis and reporting
in hospitals, large physician practices, and other entities. Upon completion,
SMARTLINK was planned to have significant scalability, a multilayer
architecture, and the ability to address Windows NT 5.0 and the next generation
of Microsoft SQL Server. At the acquisition date, Velox was approximately 35%
complete with the research and development related to SMARTLINK. The Company
anticipated that SMARTLINK product development would be completed in phases
beginning in the last half of 1998, after which the Company expected to begin
generating economic benefits from the value of the completed IPR&D.
Revenues attributable to SMARTLINK were estimated to be $1.3 million in
1998 and $5.0 million in 1999. IPR&D revenue, as a percentage of total
projected company revenue, was expected to peak in 1999 and decline thereafter
as new product technologies were expected to be introduced by the Company.
Operating expenses (expressed as a percentage of revenue) average 79% over the
projection period. The costs to complete the IPR&D were expected to be $293,000
in 1998 and $239,000 in 1999. A risk-adjusted discount rate of 20% was utilized
to discount projected cash flows.
CABOT MARSH. At the acquisition date, Cabot Marsh was conducting
development, engineering, and testing activities associated primarily with the
next generation of RAMS, a compliance product related to inpatient and
outpatient coding. At the acquisition date, Cabot Marsh was approximately 80%
complete with the development of the IPR&D. The Company anticipated that the
project would be completed in phases beginning in the second half of 1998, after
which the Company expected to begin generating economic benefits from the value
of the completed IPR&D.
Revenues attributable to the next generation of RAMS were estimated to
be $807,000 in 1998 and $11.3 million in 1999. IPR&D revenue, as a percentage of
total projected company revenue, was expected to peak in 1999 and decline
thereafter as new product technologies were expected to be introduced by the
Company. Operating expenses (expressed as a percentage of revenue) average 57%
over the projection period. The costs to complete the IPR&D efforts were
expected to be $140,000 in 1998 and $427,000 in 1999. A risk-adjusted discount
rate of 19% was utilized to discount projected cash flows.
MEDICUS. At the acquisition date, Medicus was conducting development,
engineering, and testing activities associated with the next generations of the
Company's Clinical Data Systems ("CDS") and Patient Focused Systems ("PFS")
product lines. At the acquisition date, Medicus was approximately 30% and 60%
complete with CDS and PFS, respectively. The Company anticipated that CDS and
PFS would be completed in 1999. After these release dates, the Company expected
to begin generating economic benefits from the value of the completed IPR&D.
Revenues attributable to CDS were estimated to be $6.0 million in 1999
and $18.0 million in 2000. IPR&D revenue, as a percentage of total projected
product revenue, was expected to peak in 2000 and decline thereafter as new
product technologies were expected to be introduced by the Company. Revenues
attributable to PFS were estimated to be $7.2 million in 2000 and $9.8 million
in 2001. IPR&D revenue, as a percentage of total projected product revenue, was
expected to peak in 2000 and decline thereafter as new technologies were
expected to be introduced by the Company. For both projects, operating expenses
(expressed as a percentage of revenue) average 61% over the projection period.
The costs to complete the CDS IPR&D efforts were expected to be $14,000 in 1998
and $1.2 million in 1999. The costs to complete the PFS IPR&D efforts were
expected to be $6,000 in 1998 and $309,000 in 1999. For each of the projects, a
risk-adjusted discount rate of 18% was utilized to discount projected cash
flows.
In connection with the acquisition of 56.7% of the outstanding stock of
Medicus in November, 1997, the Company allocated $21.9 million related to
IPR&D. This amount was expensed as a non-recurring charge because the IPR&D
projects identified had not yet reached technological feasibility and had no
alternative future use. The amounts allocated to IPR&D for the year ended
December 31, 1997, were evaluated based on current industry practices.
Provision for Income Taxes. Provision for income taxes increased to $4.2
million in 1998 from $1.1 million in 1997. The provision for income taxes is
primarily due to state and alternative minimum tax liabilities on certain of the
Company's legal entities. In addition, amounts allocated to acquired in-process
research and development are not deductible for tax purposes. For financial
reporting purposes, a 100% valuation allowance of $14.1 million and $16.3
million has been recorded against the Company's deferred tax assets consisting
primarily of the benefits associated with the Company's net operating loss
carryforwards in 1998 and 1997, as management is unable to conclude that it is
more likely than not that these assets will be realizable.
Years Ended December 31, 1997 and 1996
Revenues
Licenses. License revenues increased 28.0% to $44.4 million in 1997 from
$34.7 million in 1996. The increase was due to license revenues from new
customers and an increase in perpetual license agreements entered into during
the latter half of 1997.
Services. Service revenues increased 39.5% to $55.3 million in 1997 from
$39.6 million in 1996. The increase in service revenues was primarily due to new
customers associated with the health information management outsourcing business
and to a lessor extent, new customers acquired in the Synergy acquisition in
April 1997 and Healthcare Revenue Management, Inc. in September 1997.
Cost of Revenues
Cost of Licenses. Cost of license revenues increased 27.5% to $18.5
million in 1997 from $14.5 million in 1996. As a percentage of license revenues,
cost of licenses decreased slightly to 41.6% in 1997 from 41.8% in 1996. The
increase in cost of licenses was principally due to additional personnel hired
during 1997 to support software installations and, to a lesser extent, increases
in third-party hardware sales.
Cost of Services. Cost of service revenues increased 41.1% to $35.6
million in 1997 from $25.3 million in 1996. As a percentage of service revenues,
cost of services increased to 64.5% in 1997 from 63.8% in 1996. The increase in
cost of services was principally due to additional operating costs associated
with the Company's health information management outsourcing business and to a
lessor extent, operating costs from the acquisitions of Synergy and Healthcare
Revenue Management, Inc., acquired in April 1997 and September 1997,
respectively.
22
23
Operating Expenses
General and Administration. General and administration expenses
increased 21.8% to $26.3 million in 1997 from $21.6 million in 1996, and
decreased as a percentage of total revenues to 26.4% in 1997 from 29.0% in 1996.
The increase in general and administration expenses reflects costs associated
with the Company's health information management outsourcing business, the
hiring of additional senior officers in 1997 and an increase in the number of
offices throughout the United States. The Company also incurred significant
legal and other costs during 1997 to settle certain litigation initiated in
prior years. As a percentage of total revenues, general and administration costs
decreased primarily due to a larger revenue base in 1997.
Sales and Marketing. Sales and marketing expenses increased 32.0% to
$10.0 million in 1997 from $7.6 million in 1996, and decreased as a percentage
of total revenues to 10.0% in 1997 from 10.2% in 1996. The increase in sales and
marketing expenses resulted principally from the addition of sales and marketing
personnel and increased advertising efforts associated with advertising in
publications, creating product brochures and participating in industry
conferences during 1997.
Research and Development. Research and development expenses increased
119.3% to $11.0 million in 1997 from $5.0 million in 1996, and increased as a
percentage of total revenues to 11.1% in 1997 from 6.8% in 1996. The increase in
research and development expenses is principally due to the hiring of additional
personnel for various software development projects.
Amortization of Intangibles. Amortization of intangibles increased to
$1.7 million in 1997 from $1.2 million in 1996. The increase in the amortization
of intangibles is due to the acquisitions of Synergy in April 1997, Healthcare
Revenue Management, Inc. in September 1997 and 56.7% of Medicus in November
1997.
Acquisition Costs. During the fourth quarter ended December 31, 1997,
the Company completed two acquisitions which were accounted for on a pooling of
interests basis. In connection with these acquisitions, the Company incurred
$3.1 million in acquisition and related costs.
Non-Recurring Charges. The Company recorded non-recurring charges of
$4.7 million in 1997. These non-recurring charges were comprised of $2.5 million
related to the termination of the claims processing arrangement with EDI USA,
Inc. and other charges associated with the write down of certain assets which
were determined to have no future realizable value.
Acquired In-Process Research and Development. In connection with the
acquisition of 56.7% of the outstanding stock of Medicus in November 1997, the
Company recorded a $21.9 million write-off related to acquired in-process
research and development that had not achieved technological feasibility and had
no alternative future use.
Interest Income (Expense). Interest expense decreased to $473,000 in
1997 compared to $2.7 million in 1996. The decrease in interest expense was
primarily due to various notes payable assumed from acquired companies, which
was offset by interest earned on higher cash balances, resulting from the
Company's initial public offering of common stock in October 1996 and follow-on
common stock offering in October 1997. The Company's public equity offerings
raised net proceeds of approximately $26.4 million and $57.3 million,
respectively. Interest expense in 1996 was principally the result of debt the
Company incurred in connection with the acquisition of Healthcare Design
Systems, Inc. and for working capital purposes.
Provision for Income Taxes. The Company recorded a provision for income
taxes of $1.1 million in 1997 compared $147,000 in 1996. The provision for
income taxes in 1997 relates to state and alternative minimum tax liabilities of
the Company. In addition, amounts allocated to acquired in-process research and
development are not deductible for tax purposes. For financial reporting
purposes, a 100% valuation allowance of $16.3 million and $10.0 million has been
recorded against the Company's deferred tax assets consisting primarily of the
benefits associated with the Company's net operating loss carryforwards in 1997
and 1996, as management is unable to conclude that it is more likely than not
that these assets will be realizable.
23
24
LIQUIDITY AND CAPITAL RESOURCES
In October 1996, the Company completed its initial public offering of
common stock, which resulted in net proceeds to the Company of approximately
$26.1 million. In October 1997, the Company completed a follow-on offering of
common stock, which resulted in net proceeds to the Company of approximately
$57.3 million. In May 1998, the Company completed an offering of $115.0 million
principal amount of Convertible Subordinated Debentures, including the initial
purchasers' over-allotment option. The debentures are due May 1, 2005 and bear
interest, which is payable semi-annually at 5.25 percent per annum. Proceeds to
the Company from the offering were $110.8 million.
At December 31, 1998, the Company had $59.3 million of cash and cash
equivalents, $64.7 million of short and long-term investments and $93.0 million
in net working capital. Net cash used in operating activities was $26.7 million
and $5.6 million in the years ended December 31, 1998 and 1997, respectively.
Net cash provided by operating activities in 1996 was $3.1 million. Net cash
used in operating activities in 1998 was principally attributable to the
Company's net loss in 1998, a substantial portion of which was comprised of
non-cash charges to write-off acquired in-process research and development
related to the remaining acquisition of 43.3% of Medicus in May 1998 and other
acquisitions and acquisition and non-recurring costs recorded during 1998. In
addition, while accounts receivable increased during 1998, accounts payable and
accrued liabilities decreased during 1998. The increase in accounts receivable
was primarily due to the significant increase in revenues in 1998, while the
decrease in accounts payable and accrued liabilities was primarily due to the
payment of acquisition and severance related costs associated with acquisitions
in the latter half of 1997 and the pay down of other accrued liabilities from
acquired companies. Net cash provided by operating activities in fiscal year
1996 was principally attributable to an increase in depreciation and
amortization expense and deferred revenue in 1996.
Net cash used in investing activities was $85.0 million, $31.1 million
and $4.6 million in the years ended December 31, 1998, 1997 and 1996,
respectively. Investing activities in fiscal year 1998 primarily included the
purchase of short and long-term investments, cash paid for several acquisitions
and the purchase of equipment by the Company. Investing activities in fiscal
year 1997 primarily included cash paid for the Medicus and Synergy acquisitions,
purchases of equipment and the capitalization of computer software development
costs. Investing activities in fiscal year 1996 related to additions to capital
equipment and the capitalization of computer software development costs.
Net cash provided by financing activities was $126.2 million, $60.0
million and $10.5 million in the years ended December 31, 1998, 1997 and 1996,
respectively. Net cash provided by financing activities in 1998 primarily
related to the offering of $115 million Convertible Subordinated Debentures,
which raised net proceeds of $110.8 million in April 1998 and the exercise of
common stock warrants issued to former Medicus stockholders in November 1997 and
the exercise of common stock options during 1998. Net cash provided by financing
activities in fiscal year 1997 included $57.3 million in proceeds from the
Company's follow-on common stock offering in October 1997, which was partially
offset by the repayment of notes payable in connection with the November 1997
acquisition of Medicus. Net cash provided by financing activities in fiscal year
1996 included proceeds from the issuance of convertible preferred stock and
proceeds from the Company's initial public offering, which proceeds were offset
by repayment of notes payable. Net cash provided by financing activities in
fiscal year 1995 included borrowings related to notes payable and contributed
capital to Rothenberg.
In September 1998, the Company entered into an arrangement to guarantee
a line of credit of another company for up to $12,500,000. Outstanding balances
under the line of credit accrue interest at 8.5 percent and are due in October
2001. The Company has also entered into a reseller agreement with the same
company. Under the terms of the reseller agreement, the
24
25
Company has a non-exclusive license to resell the company's software. This
reseller agreement remains in effect for an initial term of three years,
expiring in September 2001, and thereafter is subject to renewal for additional
one year terms.
The Company believes that its current cash and investments will be
sufficient to fund operations at least through December 31, 1999.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISKS
Interest Rate Risk. The Company's exposure to market risk for changes
in interest rates primarily relates to its investment portfolio and Subordinated
Convertible Debentures. It is the Company's intent to ensure the safety and
preservation of its invested principal funds by limiting default risk, market
risk and reinvestment risk. The Company invests in high-quality issuers and
includes money market funds, corporate debt securities and debt securities
issued by the United States government. The Company invests, by policy, in
securities with maturities of two years or less. The Company does not invest in
derivative financial or foreign investments. The table below presents fair
values of principal amounts and weighted average interest rates for the
Company's investment portfolio at December 31, 1998 (in thousands, except
average interest rates):
Weighted
Aggregate Average Interest
Fair Value Rate
---------- ----------------
Cash and cash equivalents
Corporate debt securities 25,603 5.79%
Debt securities issued by the U.S.
Government -- --
Money market funds 33,690 5.11
------
Total cash and cash equivalents 59,283
======
Short term investments:
Corporate debt securities 14,040 5.58
Debt securities issued by the U.S.
Government 9,003 5.19
------
Total short-term investments 23,043