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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
(MARK ONE)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE
FISCAL YEAR ENDED DECEMBER 31, 2000 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 0-22019
HEALTH GRADES, INC.
(Exact name of registrant as specified in its charter)
DELAWARE 62-1623449
(State or other jurisdiction (I.R.S. Employer Identification No.)
of incorporation or organization)
44 UNION BOULEVARD, SUITE 600
LAKEWOOD, COLORADO 80228
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (303) 716-0041
SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT:
None
SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT:
COMMON STOCK, PAR VALUE $.001 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 reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in the definitive proxy statement incorporated
by reference in Part III of this annual report on Form 10-K or any amendment to
this annual report on Form 10-K. [ ]
As of March 31, 2001, the aggregate market value of the Common Stock held by
non-affiliates of the registrant was $3,293,348. Such aggregate market value was
computed by reference to the closing sale price of the Common Stock as reported
on the Nasdaq Small Cap Market on such date. For purposes of making this
calculation only, the registrant has defined "affiliates" as including all
directors and beneficial owners of more than five percent of the Common Stock of
the Company.
As of March 31, 2001 there were 21,273,425 shares of the registrant's Common
Stock outstanding.
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DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Definitive Proxy Statement for the Registrant's 2001 Annual
Meeting of Stockholders to be filed within 120 days after the end of the fiscal
year covered by this Annual Report on Form 10-K -- Part III.
TABLE OF CONTENTS
PART I
Item 1. Business......................................................................... 2
Item 2. Properties....................................................................... 20
Item 3. Legal Proceedings................................................................ 20
Item 4. Submission of Matters to a Vote of Security Holders.............................. 21
PART II
Item 5. Market for the Registrant's Common Equity and Related Stockholder Matters........ 23
Item 6. Selected Financial Data.......................................................... 24
Item 7. Management's Discussion and Analysis of Financial Condition And Results
of Operations.................................................................. 24
Item 7A. Quantitative and Qualitative Disclosures About Market Risk....................... 30
Item 8. Financial Statements and Supplementary Data...................................... 30
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial
Disclosure..................................................................... 31
PART III
Item 10. Directors and Executive Officers of the Registrant............................... 31
Item 11. Executive Compensation........................................................... 31
Item 12. Security Ownership of Certain Beneficial Owners and Management................... 31
Item 13. Certain Relationships and Related Transactions................................... 31
PART IV
Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K................. 31
This Report contains forward-looking statements that address, among other
things, the potential for employers to reduce health plan premiums through the
use of our Provider Selection DST, generation of increased revenues,
implementation of certain cost reductions and potential equity and/or debt
financing. These statements may be found under "Item 1-Business," "Item 1-Risk
Factors," and "Item 7-Management's Discussion and Analysis of Financial
Condition and Results of Operations" as well as in the Report generally. We
generally identify forward-looking statements in this report using words like
"believe," "intend," "expect," "may," "will," "should," "plan," "project,"
"contemplate," "anticipate" or similar statements. Actual events or results may
differ materially from those discussed in forward-looking statements as a result
of various factors, including: the inability of our Provider Selection DST to
reduce health plan premiums for employers, failure of the Company to generate
increased revenues, the inability of the Company to implement certain cost
reductions, or the inability of the Company to raise additional financing. In
addition other factors that could cause actual events or results to differ
materially from those discussed in the forward looking statements are addressed
in "Item 1-Risk Factors" and matters set forth in the Report generally. We
undertake no obligation to update publicly any forward-looking statements for
any reason, even if new information becomes available or other events occur in
the future.
PART I
Item 1. Business.
BUSINESS
OVERVIEW
We are a healthcare ratings services company. We grade, or provide
consumers with the means to assess and compare the quality or qualifications of,
the following types of healthcare providers:
o hospitals
o physicians
o health plans
o nursing homes
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o home health agencies
o hospice programs
o fertility clinics
We also provide profile information for a variety of providers and
facilities. We make this information available to consumers, employers and
health plans to assist them in selecting healthcare providers. For consumers,
this information is available free of charge on our website,
www.healthgrades.com. For employers, we provide, for a fee, customized
information designed to encourage employees to utilize quality providers to
reduce medical benefit costs as well as indirect costs of lost workdays and
productivity. For health plans, we provide, for a fee, customized information
designed to assist them in selecting network providers who can enhance the
quality of care for their members.
We also offer services to healthcare providers. For providers who have
received high ratings, we offer the opportunity to license our ratings and
trademarks and provide assistance in their marketing programs. For providers who
have not received high ratings, we offer quality improvement services designed
to identify deficiencies and improve quality. We also provide limited physician
practice management services to musculoskeletal practices under management
services agreements that have terms expiring through September 2002.
COMPANY HISTORY
We were incorporated in Delaware in December 1995 under the name
Specialty Care Network, Inc. Upon commencement of operations in 1996, we were
principally engaged in the management of physician practices engaged in
musculoskeletal care, which is the treatment of conditions relating to bones,
joints, muscles and connective tissues. Through March 31, 1998, we entered into
comprehensive affiliation arrangements with 21 practices including 164
physicians. Due to difficulties in the physician practice management industry in
general, and with respect to our affiliated physician practices in particular,
we terminated or restructured our arrangements with various physician practices,
beginning in late 1998 and continuing thereafter. As a result, the scope of our
physician practice management business has become far more limited, particularly
after a restructuring of our arrangements with nine practices in June 1999.
During 1998, we began to focus on the provision of healthcare information
through the establishment of our health care provider ratings and profile
information, which we first introduced on our website. Since that time, we have
expanded the scope of our healthcare information services to encompass the
direct provision of information to employers, health plans and others.
We also launched, in August 1999, ProviderWeb.net, a subscription-based
website that provides articles, tools and other resources to physician practice
administrators and managers. Our revenues to date from ProviderWeb.net have not
been material, and although we continue to operate this business, we have
determined to make no further significant investment in ProviderWeb.net. We are
currently exploring strategic alternatives for ProviderWeb.net.
In January 2000, we changed our name to Healthgrades.com, Inc. In
November 2000, we changed our name to Health Grades, Inc.
HEALTH CARE INFORMATION; HEALTHGRADES.COM
We compile comprehensive information regarding various healthcare
providers and distill the information to meet the requirements of consumers,
employers, health plans and other customers. For consumers, we provide
information for no charge on our healthgrades.com internet site. Our revenues
are generated, in part, through the provision of health care information derived
from our database in a manner that can be useful to employers, health plans and
others.
Healthgrades.com is a comprehensive health care information website
that provides rating and other profile information regarding a variety of
providers and facilities. We make this information available through several
health care "report card" sections and provider profile modules. Our goal is to
provide comprehensive, objective health care ratings and profiles to assist
consumers in making the most informed decisions regarding their health and that
of their families.
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We distinguish the healthgrades.com website from most other health care
information websites based on the nature of the information we provide. Most
other health care information websites provide general information regarding
specific diseases, conditions or procedures. Healthgrades.com, in contrast,
provides information to assist the user in finding quality care or a quality
provider, using our rating and profile information. However, we do not endorse
any particular provider or facility. We strive to provide unbiased ratings
regarding the quality of providers and facilities by developing proprietary
algorithms or other methodologies and applying them to a number of databases
used on our ratings websites.
We provide information on our healthgrades.com website through the
following sections:
Hospital Report Cards(TM) - This page provides a list of hospitals and
ratings for the hospitals with respect to different medical procedures or
diagnoses chosen by the user. Information with regard to procedures and
diagnoses is provided in the following areas:
o cardiac;
o orthopaedics;
o neurosciences;
o pulmonary/respiratory;
o obstetrics; and
o vascular surgery.
For each particular diagnosis or procedure chosen by the user, other
than those relating to obstetrics, we provide a three-tiered, five star rating
system (five stars is the highest rating; one star is the lowest) with regard to
the performance of all hospitals in the United States. We base all of our
ratings, except ratings on obstetrics, on three years of MEDPAR (Medicare
Provider Analysis and Review) data that we purchase from the Health Care
Financing Administration, known as HCFA. The MEDPAR database contains the
inpatient records of all Medicare patients. We apply proprietary algorithms to
the MEDPAR data to account for variations in risk in order to make the data
comparable from hospital to hospital. Generally, approximately 70% of hospitals
studied are classified as three stars. The three star rating is applied when
there is very little difference, statistically speaking, between a hospital's
predicted and actual performance. Approximately 15% of hospitals are rated five
stars, which means that their performance is better than expected on a
statistically significant basis. Approximately 15% of hospitals are rated one
star, meaning that their performance was worse than expected on a statistically
significant basis. We have applied for a patent with respect to our hospital
rating system and methodology.
For our obstetrics ratings, which also are subject to the five star
rating system, we use state all-payor files from 17 individual states derived
from the inpatient records of persons who utilize hospitals in those states. We
believe that the 17 states are the only states with sufficient data for use on
our website. This data represents all discharges for the 17 states. We did not
use our risk adjustment model with respect to single birth obstetrics procedures
because it did not adequately predict complications. Therefore, the ranking is
based on non-risk adjusted percentages. The top 30% of hospitals (in the 17
states) receive five stars, the middle 40% receive three stars and the bottom
30% receive one star.
Health Plan Report Cards(TM) - Health Plan Report Cards ranks the
performance of health plans across the United States based on patient
satisfaction survey results as reported in the Sachs/Scarborough Health Plus
database, a national database of consumers healthcare behavior developed jointly
by the Sachs Group, a provider of strategic healthcare information, market
analysis and industry benchmarks, and Scarborough Research Organization, a local
market media and consumer research company. The HealthPlus database is based on
questionnaires from a random sample of adults in a local market area. The
results are derived from the questionnaire, as adjusted by weighting and
statistical factors designed to reflect known characteristics of the population
and to adjust for persons who do not respond or provide incomplete responses.
The HealthPlus database assigns ratings to each health plan analyzed (as of
December 31, 2000, 204 health plans from 31 U.S. metropolitan markets) in the
following areas:
o customer services
o wellness
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o plan coverage
o network access
o value of plan
o medical management
o customer loyalty
o overall satisfaction
We apply a statistical analysis to assign weights to the performance
ratings derived from the questionnaires. An overall general score for each
health plan analyzed is derived from a weighted average of the performance
ratings. A five star rating system is used in conjunction with the overall
score. The top 30% of all plans nationally receive five stars, the middle 40%
receive three stars and the bottom 30% receive one star.
Nursing Home Report Cards(TM) - This page provides rankings of the
performance of nursing homes across the United States that were Medicare or
Medicaid certified and active in these programs as of August 2000. In preparing
the ratings, we analyzed licensing survey data from HCFA's Online Survey
Certification and Reporting (OSCAR) database and complaint data from HCFA's
Skilled Nursing Facility (SNF) Complaint database. Licensing surveys are
inspections that assess compliance with standards of patient care such as
staffing, quality of care and cleanliness. Complaint surveys are investigations
of complaints and serious problems. We performed an analysis of the standards
that were not met (deficiencies) from the four most recent licensing surveys and
the last four years of complaint surveys. Complaint surveys older than October
1996 were not included in the analysis. Medicare and/or Medicaid nursing homes
were analyzed apart from Medicare, hospital-based nursing homes. We did not rate
Medicare, hospital-based nursing homes because these facilities are designed for
short-term patient care. The ratings were assigned on a state by state basis,
rather than nationally, because the surveys from which information is derived
are conducted by state agencies, and there may be variations in the states'
survey process and results.
Each nursing home received several scores from the analysis of
licensing surveys and complaint surveys. The scores were based upon how unmet
standards impacted resident care. We then performed a statistical analysis of
these scores that produced a weight for each area. The weighted scores were
summed to produce an overall score for each nursing home. Based upon the overall
score, the best 30% of nursing homes received five stars, and the middle 40% of
nursing homes received three stars.
Home Health Report Cards(TM) - This page provides rankings of the
performance of Medicare certified home health agencies across the United States.
Home health agencies provide health and social services to persons at their
homes. These persons are recovering from an illness or injury or require
assistance with daily needs such as eating, dressing and bathing. We rate home
health agencies based upon data provided by HCFA in the OSCAR database. As is
the case with nursing homes, this information is derived from individual state
agencies, which enter the information into the OSCAR database. Information is
derived from complaint surveys and licensing surveys. Complaint surveys are
conducted by a state survey team in response to one or more complaints about a
home health agency. Licensing surveys are surveys completed for Medicare
certification. These surveys generally occur every 36 months, but may occur more
frequently based on the results of the previous survey. In preparing the
ratings, we reviewed survey information from the most recent licensing surveys
and a maximum of four complaint surveys of home health agencies. Only home
health agencies that were active in the Medicare program during this time period
were included in the analysis. Specifically, we utilized the following elements
to capture the quality of care and operational stability of each home health
agency:
o Complaint surveys (two elements):
o Number of complaint surveys within the last four years
o Number of complaint surveys dated within six months of each other
o Condition level deficiencies (very serious deficiencies that may
give cause for penalties or de-certification by Medicare) (four
elements) - Number of condition level deficiencies on each of the
past four surveys
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o Standard level deficiencies (non-serious deficiencies that require a
plan for correction) (four elements) - Number of standard level
deficiencies on each of the last four surveys
o Condition level deficiencies reported on both the most recent and
prior survey
o Standard level deficiencies reported on both the most recent and
prior survey
o Surveyor's summary score on the quality of care during the most
recent survey
o Years in operation
o Ownership changes as compared to years in operation
Working with a group of health care professionals whose area of
expertise is home health care, we developed a proprietary weighting system that
translates the 15 elements detailed above into numeric scores. Home health
agencies were sorted by state based upon the overall score. The top 30% of home
health agencies in each state received five stars, the middle 60% received three
stars and the bottom 10% received one star. As is the case with nursing homes,
the ratings were assigned on a state-by-state basis, rather than nationally,
because the surveys from which information is derived on the OSCAR database are
conducted by state agencies, and there may be variations in the states' survey
process and results. In addition, our site provides specific information with
regard to particular deficiencies found in the surveys.
Physician Report Cards(TM) - This page differs from some of our other
report card pages in that it does not provide ratings. Instead, it provides
users with the means to assess physicians across the United States. Using data
obtained from a number of publicly and privately available sources, we provide
information regarding physicians practicing in 64 medical and surgical
specialties within 11 major health categories. Our page provides users with a
list of physicians in each specialty and enables users to refine their search
based upon the following criteria:
o whether a physician is board certified in the specialty in which he
or she is practicing;
o whether the physician had any state medical board or Medicare
sanctions within the past five years;
o whether the physician practices in a hospital that is ranked by
Health Grades as at least a three or five star hospital on our
Hospital Report Cards page (if the physician practices in a
specialty covered by our hospital ratings)
o whether the physician has been in practice for at least two, ten,
20 or 30 years; and
o whether the physician is male or female.
For example, a user may refine the list of orthopaedic surgeons to only include
female board certified surgeons who have been in practice for at least ten
years, are affiliated with a hospital that has at least a three star rating and
had no state medical board or Medicare sanctions in the past five years.
In addition, our physician listings provide additional data for each
physician including office addresses, telephone numbers, medical schools
attended, board certifications, hospital affiliations and other information.
Hospice Report Cards(TM) - Like our Physician Report Card page, this
page does not provide ratings. Instead, it provides users with the means to
assess hospice programs across the United States that participate in Medicare.
The data on our Hospice Report Card site is purchased from HCFA, and is derived
from their Provider of Service ("POS") file. The POS file contains data on every
hospice program that participates in Medicare. Hospice services are categorized
as "core services" or "non-core services." Core services, as defined in the POS
file, are important, basic elements of hospice care that are crucial to
virtually every hospice patient and their family. These services include the
following:
o nursing care provided by or under the supervision of a registered
nurse;
o medical social services provided under the direction of a physician;
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o physician services; and
o counseling.
Non-core services are also important to high-quality hospice care, but
each non-core service may be inappropriate or unnecessary for every hospice
patient. Non-core hospice services, as defined in the POS file, include:
o physical therapy;
o occupational therapy;
o speech pathology;
o home health aide;
o homemaker services;
o medical supplies; and
o short-term inpatient care.
Hospice report cards provide users with a list of hospices from which
they can refine their search based upon the following criteria:
o whether the program provides nursing care directly by hospice
employees;
o whether the program provides medical social services directly by
hospice employees;
o whether the program provides physician services directly by hospice
employees;
o whether the program provides counseling directly by hospice
employees; and
o whether the program provides all non-core hospice services.
Fertility Clinic Report Cards(TM) - Like our Physician Report Card and
Hospice Report Card pages, this page differs from our other report card pages in
that it does not provide ratings. Instead, it provides users with the means to
assess fertility clinics across the United States. Information on
healthgrades.com represents one year (1997) of assisted reproductive technology
("ART") data. ART is defined as any clinical treatment or procedure that
involves the handling of human eggs and sperm to help a woman become pregnant.
Types of ART include IVF (in vitro fertilization), GIFT (gamete intrafallopian
transfer), ZIFT (zygote intrafallopian transfer), egg or embryo donation and
surrogate birth.
The ART data on the healthgrades.com website is acquired from an annual
report published by the National Center for Chronic Disease Prevention and
Health Promotion of the Centers for Disease Control and Prevention ("CDC"), the
American Society of Reproductive Medicine, the Society for Assisted Reproductive
Technology ("SART") and RESOLVE, a national consumer group. Fertility clinics in
the United States are required to provide ART data to SART and information for
335 fertility clinics are represented in the 1997 CDC/SART report.
Each fertility clinic profile consists of the following five elements:
o General information (contact information for each facility)
o Program characteristics. Program characteristics include whether
the clinic accepts single women and gestational carriers (women
who carry children for other women), whether the clinic utilizes
a donor egg program and whether the clinic is a member of SART.
Users are informed of the percentage of facilities nationwide
that has the designated program characteristics.
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o Type of ART (each fertility clinic's ART procedures (e.g., % of
procedures using IVF) is compared to the national average)
o Patient diagnosis (individual clinic patient diagnoses are
compared to the national average)
o Pregnancy success rates (individual clinic pregnancy success
rates are compared in four age categories to the national
average). For each age category, success rates are provided for
three types of ART cycles: cycles that utilize fresh embryos
from nondonor eggs, cycles that utilize frozen embryos from
non-donor eggs, and cycles that utilize donor eggs.
Other Provider Profiles - In addition to the report card sections, we
provide profiles containing information with regard to the following providers
or facilities. The approximate number of providers or facilities addressed in
each profile is indicated in parenthesis:
o Hospitals (5,000);
o Children's Hospitals (75);
o Dentists (150,000);
o Chiropractors (60,000);
o Assisted living residences (21,000);
o Mammography facilities (10,000);
o Acupuncturists (6,000);
o Naturopathic physicians (700);
o Birth centers (75); and
o Cancer Centers (50).
INFORMATION AND RELATED SERVICES FOR PROVIDERS, EMPLOYERS AND HEALTH PLANS
The information provided on our healthgrades.com website, and the
database from which this information is derived, forms the basis of our
marketing efforts. While the information provided on our website is free to
consumers, we seek to generate revenues from hospitals and other providers, as
well as employers, health plans and others as described below:
SERVICES FOR HOSPITALS AND OTHER PROVIDERS - We offer a Strategic Quality
Initiative (SQI) program and a Quality Assessment and Improvement program for
hospitals, nursing homes, home health agencies and health plans. The SQI program
provides business development tools to providers that are highly rated on our
website. Under our SQI program, we license the Health Grades name and our
"report card" ratings and data to providers. We also assist providers in
promoting their ratings and measuring the success of their efforts. We offer the
SQI program to highly rated providers only after our ratings are completed and
do not adjust our ratings based on whether a provider is willing to license with
us.
Our Quality Assessment and Improvement program is principally directed
to lower-rated providers and is designed to help providers measure and improve
the quality of their care. Using our database, we can help identify areas of
improvement for providers that are not highly rated and assist them in their
improvement efforts.
As of March 31, 2001, sixty hospitals have joined either our SQI
program or our Quality Assessment and Improvement program.
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SERVICES FOR EMPLOYERS, HEALTH PLANS AND OTHERS - We offer services for
employers designed to reduce direct and indirect healthcare costs and improve
the quality of care for employees and health plan members. Our Quality Usage
Analysis provides information on the quality of hospital services utilized by
employees or health plan members, using their customer claims data. Our Health
Plan Decision Support Tool ("DST"), provides detailed quality rating comparisons
of health plan provider networks within a given market. Our Provider Selection
DST offers customized Internet and intranet services that can be used by
employees to assist them in selecting the optimal physician or facility within
the network of providers in their health plan. Our customer specific ratings
enable us to create hospital quality ratings based upon the customer's claims
data. We then apply our proprietary rating methodology to the customer's claims
data to develop ratings and reports.
Quality Solution Analysis - The Quality Solution Analysis is a
multi-step process that utilizes our proprietary ratings and the claims data
from a customer to analyze the quality of care received by a customer's employee
or plan participants. The steps involved in our Quality Solution Analysis are
the following:
o We review historical claims data of a company's employees to
determine the extent to which higher quality hospitals have been
utilized for specified procedures.
o We evaluate the correlation between negative events and ratings of
hospitals.
o We assess the quality of hospitals that may be accessed through
competing health plans in specified markets.
o Utilizing the information derived from the preceding steps, we
identify opportunities for migrating employees to higher quality
facilities, whether through selection of a health plan or a facility
within a health plan's network.
Our Quality Solutions Analysis is marketed to employers, benefit
consultants and managed care plans.
Health Plan DST - Our Health Plan DST rates and compares health plans
in a particular market on various quality measures. Using our proprietary
Hospital Report Card and Physician Report Card database, we provide information
that enables employers to differentiate health plans on objective quality
measures. We provide an overall hospital score for a health plan based on the
performance rating of each hospital in the health plan's network that takes into
account risk-adjusted outcomes information for specified medical procedures. In
addition, we provide physician information including scores by specialty and an
overall physician score for physicians in a health plan's network. These scores
are based on the criteria utilized on our Physician Report Cards page. Our
customized Health Plan DST Reports can rate every health plan available to an
employer. We believe that use of our Health Plan DST can enhance acceptance of
an employer's plan choice insofar as it is based on quality considerations.
In addition to employers, we market our Health Plan DST to benefit
consultants, health plans and managed care consultants.
Provider Selection DST - Our Provider Selection DST is a customized
Internet/intranet version of our healthgrades.com web page. Provider Selection
DST provides ratings and other information on physicians and provider facilities
available to employees through the employees' health plan network. As is the
case on our website, search criteria can be focused on a physician, hospital or
other provider. Provider Selection DST also permits search refinement based on a
provider's health plan affiliation.
We believe that Provider Selection DST provides meaningful benefits to
employers. Because it enables ratings comparisons for providers within a health
plan's own network, we believe employees and health plan members are more likely
to select higher quality providers. Moreover, employee migration to higher
quality providers can potentially reduce claims expense and, as a result, health
plan premium expense.
We market our Provider Selection DST to employers, health plans and
benefit consultants.
ARRANGEMENTS WITH CONTENT PROVIDERS
We market our website through relationships with other companies that
operate internet websites and an aggressive public relations campaign. Several
of the companies' pay a fee to us to license access to our information, and some
others provide on-line content to us. These arrangements provide additional
exposure to our website. As a result, we believe our marketing to health care
providers, employers, payors and others is enhanced because of the increased
user population that we can make available to those entities who wish to license
our data in connection with their own marketing programs.
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In addition, we have engaged in an aggressive public relations
campaign, which includes references to our website in connection with our
licensing of data to hospitals, appearances on national television and radio
programs and coverage in newspapers and periodicals.
COMPETITION
We believe that www.healthgrades.com is the most comprehensive source
of healthcare ratings and provider profiles on the Internet. Moreover, we
believe our provider profiles include more extensive information than
directories on other websites. HealthGrades has six report cards and ten
provider profiles, more than any other Internet company. Most competitors have a
physician directory as one of the search selections. Only a few competitors have
physician directories containing expanded information such as hospital
affiliations, health plans affiliations, board certifications, customer
satisfaction survey ratings or sanctions but HealthGrades is the only physician
search engine containing all of these elements. A few competitors such as
carescout.com and certain state agency websites provide ratings of home health
agencies and nursing homes but charge for the information or only display a
geographic part of the industry. HealthGrades not only has a national search for
all home health and nursing home providers but displays rating information for
free. Many competitors have basic healthcare provider information such as name,
address and phone number while HealthGrades offers expanded information such as
school attended, accreditations and special areas of interest. NCQA has
established a health plan ratings page on its website.
PHYSICIAN PRACTICE MANAGEMENT OPERATIONS
We provide the following services under management services agreements
to five musculoskeletal physician practices:
o assessment of the financial performance, organizational structure,
wages and strategic plan of the practice;
o advice with respect to current and future marketing and contracting
plans with third-party payors and managed care plans;
o negotiation of malpractice insurance coverage;
o provision of access to our patient information databases;
o analysis of annual performance on a comparative basis with other
practices that have contracted with us; and
o analysis of coding and billing practices.
The management services agreements have terms expiring through
September 2002. The scope of our physician practice management business has
contracted significantly as a result of the transactions described under
"Management's Discussion and Analysis of Financial Condition and Results of
Operations - Modification of Arrangements and Restructuring Transaction."
GOVERNMENT REGULATION
The delivery of health care services has become one of the most highly
regulated of professional and business endeavors in the United States. Both the
federal government and the individual state governments are responsible for
overseeing the activities of individuals and businesses engaged in the delivery
of health care services. Federal law and regulations are based primarily upon
the Medicare and Medicaid programs. Each of these programs is financed, at least
in part, with Federal funds. State jurisdiction is based upon the state's
interest in regulating the quality of health care in the state, regardless of
the source of payment.
We believe our Internet service activities and physician practice
management operations materially comply with applicable laws. However, we have
not received or sought a legal opinion from counsel or from any Federal or state
judicial or regulatory authority with respect to our Internet service activities
or our practice management operations. Additionally, many aspects of our
business have not been the subject of state or Federal regulatory
interpretation. The laws applicable to us and the practices that contract with
us are subject to evolving interpretations. If we, or these practices, are
reviewed by a government authority, we may receive a determination that could be
adverse to us or the practices. Furthermore, the laws applicable to either us or
the practices may be amended in a manner that could adversely affect us.
Federal Anti-kickback Law. A federal law commonly known as the
"Anti-kickback Law" prohibits the knowing or willful solicitation, receipt,
offer or payment of any remuneration that is made in return for:
o the referral of patients covered under Medicare, Medicaid and other
federally-funded health care programs; or
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o the purchasing, leasing or ordering of any good, facility, item or
service reimbursable under those programs.
The law also prohibits remuneration that is made for the recommendation
of, or the arranging for, the purchasing, leasing, or ordering of any good,
facility, item or service reimbursable under those programs. The law has been
broadly interpreted by a number of courts to prohibit remuneration that is
solicited, received, offered or paid for otherwise legitimate purposes if one
purpose of the arrangement is to induce referrals or the other prescribed
activities. The penalties for violations of this law include:
o civil monetary penalties;
o criminal sanctions;
o exclusion from further participation in federally funded health care
programs (mandatory exclusion in certain cases);
o the ability of the Secretary of Health and Human Services to refuse
to enter into or terminate a provider agreement; and
o debarment from participation in other federal programs.
In 1991, the federal government published regulations that provide
exceptions or "safe harbors" to the Anti-kickback Law. Subsequently, in November
1999, final regulations were issued establishing additional safe harbor
provisions under the Anti-kickback Law, as well as clarifying the original 1991
safe harbor regulation. The failure of an activity to qualify under a safe
harbor provision, while potentially leading to greater regulatory scrutiny, does
not render the activity illegal.
There are several aspects of our activities to which the Anti-kickback
Law may be relevant. For example, the Anti-kickback Law has been construed to
apply to referral services, where a consumer group, professional society or some
other organization charges a health care provider a fee or other payment in
exchange for referring such health care provider to a prospective patient. The
Anti-kickback Law, and the safe harbor regulations promulgated thereunder, are
unclear as to whether activities such as our activities with respect to our
HealthGrades.com website would be construed as "referral services." Since, under
certain circumstances, hospitals, nursing homes and other health care providers
achieving a five-star rating may pay us a fee in exchange for banner
advertisements on our website and the use of our name and logo in marketing the
health care provider's services, it is possible that we could be deemed to be
engaged in referral services in such a manner so as to implicate the
Anti-kickback Law. Although a referral services safe harbor was adopted in 1991,
we do not believe that our current activities with respect to our
HealthGrades.com website would qualify under the referral services safe harbor.
Additionally, the Office of Inspector General has stated on a number of
occasions that any compensation arrangement between a health care provider and
another party for the purpose of marketing health care items or services that
are directly or indirectly reimbursable by a federal health care program
potentially implicates the Anti-kickback Law, irrespective of the methodology
used to compensate the party providing the marketing services. Generally, the
Office of Inspector General takes the position that marketing services fall
under the category of a "recommendation" of a good, facility, item or service
reimbursable under the federal health care program. To the extent that certain
health care providers pay a flat fee payment to us in exchange for placing a
banner ad on our websites or in exchange for other activities by us which could
be construed as marketing services, the Anti-kickback Law may be implicated. In
addressing this issue, the Office of Inspector General has identified several
characteristics of arrangements among health care providers and sales agents
that appear to be associated with an increased potential for program abuse.
These suspect characteristics include:
o compensation to the sales agent based on a percentage of sales;
o direct billing of a health care program by the health care provider
for the item or services sold by the sales agent;
o direct contact between a sales agent and physicians in a position to
order items or services;
o direct contact between the sales agent and federal health care
program beneficiaries;
o the use of sales agents who are health care professionals or persons
in a similar position to exert undue influence over purchases or
patients; or
o the marketing of items or services that are separately reimbursable
by a Federal health care program (whether on the basis of charges or
costs).
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We do not believe that our activities with respect to certain health
care providers who achieve a five-star rating on the healthgrades.com website
involve any of these suspect characteristics, or other characteristics which the
Office of Inspector General would consider abusive or likely to lead to federal
health care program abuse. Fees paid to us by health care providers are not in
any manner determined based on the amount of revenue or other financial benefit
generated by our activities, we are not marketing specific services or items
with respect to hospitals or other health care providers, and our
healthgrades.com website is not directed to physicians, other health care
professionals or federal health care program beneficiaries.
Finally, we provide, on a limited basis, certain management services to
physician practices. These management services are provided through our
ProviderWeb.net website and under short-term management services agreements with
a limited number of physician practices.
In at least one advisory opinion, the Inspector General of the
Department of Health and Human Services has stated that under certain
circumstances, payments by a physician practice to a medical practice management
company in exchange for certain marketing services, billing and collection
services, and managed care contract negotiation services could constitute
illegal remuneration as defined in the Anti-kickback Law, especially where the
fee paid by the medical practice to the management company is based on a
percentage of medical practice revenue. We do not believe that the limited
management services we provide to physician practices or the practice management
information and tools we provide to physician practices under our
ProviderWeb.net website are the types of services to which this advisory opinion
is directed, and our fees under our management services arrangements are no
longer based on a percentage of medical practice revenue.
We do not provide billing and collection services, marketing services
or managed care-contracting services under any of our current physician practice
management operations. Although our healthgrades.com activities (to the extent
they may be deemed "referral services") and general marketing activities do not
qualify for protection under the safe harbor regulations, we believe that our
activities are not the type of activities and arrangements the Anti-kickback Law
prohibits. We are not aware of any legal challenge or proceeding pending against
similar activities under the Anti-kickback Law. A determination that we violated
the Anti-kickback Law would be detrimental to us.
State Anti-kickback Laws. Many states have laws that prohibit payment
of kickbacks in return for the referral of patients. Some of these laws apply
only to services reimbursable under state Medicaid programs. A number of these
laws apply to all health care services in the state, regardless of the source of
payment for the service. Based on court and administrative interpretation of the
federal Anti-kickback Law, we believe that most of these laws prohibit payments
to referral sources where a purpose for the payment is for a referral. Most
state anti-kickback laws have received limited judicial and regulatory
interpretation. Therefore, it is possible that our activities may be found not
to comply with these laws. Noncompliance with such laws could subject us to
penalties and sanctions.
Fee-Splitting Laws. Most states prohibit a physician from splitting
fees with a referral source. Some states have a broader prohibition against any
splitting of a physician's fees, regardless of whether the other party is a
referral source. In most states, we believe that a management fee payment made
by a physician to a management company would not be considered fee-spitting if
the payment constitutes reasonable payment for services rendered to the
physician or physician's medical practice.
We are paid by physicians (and their medical practices) for whom we
provide management services. Although we believe that our ProviderWeb.net
practice management services and our management service agreements comply with
applicable state laws relating to fee-splitting, a state authority may
nevertheless determine that we and the practices that contract with us are
violating the state's fee-splitting laws. Such a determination could render any
of our service agreements in such state unenforceable or subject to modification
in a manner that is adverse to us.
Health Care Reform. In recent years, a variety of legislative proposals
designed to change access to and payment for health care services in the United
States have been introduced. Although no major health reform proposals have been
passed by Congress to date, such legislation has been and may be considered by
Congress and state legislatures. We can make no prediction as to whether health
care reform legislation or similar legislation will be enacted or, if enacted
its effect on us.
POTENTIAL GOVERNMENT REGULATION OF THE INTERNET
Any new law or regulation pertaining to the Internet, or the
application or interpretation of existing laws, could decrease demand for our
services, increase our cost of doing business or otherwise cause our business to
suffer.
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Laws and regulations may be adopted in the future that address
Internet-related issues, including online content, user privacy, pricing and
quality of products and services. This legislation could increase our cost of
doing business and negatively affect our business. Moreover, it may take years
to determine the extent to which existing laws governing issues like property
ownership, libel, negligence and personal privacy are applicable to the
Internet. Currently, U.S. privacy law consists of disparate state and federal
statutes regulating specific industries that collect personal data. Most of them
predate and therefore do not specifically address online activities. In
addition, a number of comprehensive legislative and regulatory privacy proposals
are now under consideration by federal, state and local governments in the
United States.
INTELLECTUAL PROPERTY
We regard the protection of our intellectual property rights to be
important. We rely on a combination of trademark, patent, and trade secret
restrictions and contractual provisions to protect our intellectual property
rights. We require selected employees to enter into confidentiality and
invention assignment agreements as well as non-competition agreements. The
contractual provisions and other steps we have taken to protect our intellectual
property may not prevent misappropriation of our technology or deter third
parties from developing similar or competing technologies. We are seeking or
will seek registration of trademarks for HealthGrades, healthgrades.com,
Healthcarereportcards.com, Physician report cards, Physicianreportcards.com,
Dentist report cards, Healthcare Report Cards.com, ProviderWeb.net, The
Healthcare Ratings Experts, Health Plan Report Cards, HMO Report Cards, Nursing
Home Report Cards and our Healthgrades.com plus design with the US Patent and
Trademark Office. We also have a patent pending on our health care rating system
and methods. We cannot assure that this patent will be issued, or that, even if
issued, this patent will adequately protect our technology or processes or
otherwise result in commercial advantage to us.
There is also significant uncertainty regarding the applicability to the
Internet of existing laws regarding matters such as property ownership and other
intellectual property rights. The vast majority of these laws were adopted prior
to the advent of the Internet and, as a result, do not contemplate or address
the unique issues of the Internet and related technologies.
For further information, see "Risk Factors - Our propriety rights may not be
fully protected, and we may be subject to intellectual property infringement
claims by others."
EMPLOYEES
As of March 31, 2001, we had 50 employees, most of who were located at our
corporate offices.
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RISK FACTORS
Risks Related to Our Business
OUR HEALTH CARE INFORMATION BUSINESS HAS NOT BEEN PROFITABLE AND MAY NEVER
BECOME PROFITABLE.
We began developing our health care information business in 1998. We have
also recently undertaken expense reduction measures, involving a reduction in
our employee base. For the year ended December 31, 2000, net losses before
income taxes for our health care information business were $4,304,056. Despite
our efforts to reduce expenditures, we may continue to incur operating losses as
we fund operating and capital expenditures to expand our health care information
database and website, market our health care information, upgrade our technology
and continue to build our brand. Our business model assumes that consumers will
be attracted to and use the health care ratings and profile information and
related content available on our website, which will, in turn, enable us to
license access to the information on our website to hospitals, other providers
and other Internet sites. In addition, our business model assumes that
employers, health plans and other potential customers will seek our health care
information to help increase the quality and reduce the cost of health care. Our
business model is not yet proven, and we cannot assure you that we will ever
achieve or sustain profitability or that our operating losses will not increase
in the future.
WE MAY BE DELISTED FROM THE NASDAQ SMALLCAP MARKET
We were notified by the Nasdaq staff on March 1, 2001 that we fail to
comply with the minimum bid price requirement for continued listing and that our
securities are subject to delisting from the Nasdaq SmallCap Market. We
requested a hearing before the Nasdaq Qualifications Panel to review the staff
determination. We cannot assure that we will be able maintain our continued
listing.
SINCE WE HAVE CHANGED OUR PRINCIPAL BUSINESS FOCUS, WE ARE ESSENTIALLY A NEW
COMPANY AND ACCORDINGLY ARE SUBJECT TO THOSE RISKS ASSOCIATED WITH A NEW
COMPANY.
We were founded in 1995, but have only been engaged in the health care
information business since 1998 and have continued to modify the scope and focus
of our business. As a result, our company is essentially a new venture.
Therefore, we do not have a significant operating history upon which you can
evaluate us or our prospects, and you should not rely upon our past performance
to predict our future performance. In making the transition from a physician
practice management company to a health care ratings services company, we
substantially changed our business operations and management focus. We are also
facing new challenges, including a lack of meaningful historical financial data
upon which to plan future budgets, a radically different competitive environment
and other risks described below. We cannot assure you that our new model will be
successful.
WE MAY NEED ADDITIONAL CAPITAL TO CONTINUE OUR BUSINESS IF WE DO NOT GENERATE
SUFFICIENT REVENUES OVER THE NEXT TWELVE MONTHS.
We believe that we have sufficient resources to meet our requirements for
at least the next 12 months. However, if our revenues fall short of our
expectations or our expenses exceed our expectations, we may need to raise
additional capital through public or private debt or equity financing. We may
not be able to secure sufficient funds on terms acceptable to us. If equity
securities are issued to raise funds, our stockholders' equity may be diluted.
If additional funds are raised through debt financing, we may be subject to
significant restrictions.
OUR BUSINESS WILL SUFFER IF WE ARE NOT ABLE TO OBTAIN RELIABLE DATA AS A BASIS
FOR OUR HEALTH CARE INFORMATION.
To provide our health care information, we must be able to receive
comprehensive, reliable data. We currently obtain this data from a number of
public and private sources. Our business could suffer if some of these sources
were to cease to make such information available and suitable alternative
sources are not identified on a timely basis. Moreover, our ability to attract
and retain customer interest is dependent on the reliability of the information
that we purchase. If our information is inaccurate or otherwise erroneous, our
reputation and consumer following could be damaged. In the past, we have had
disputes with two providers of information who sought to terminate our
arrangements based on allegations, which we deny, that our use of the
information violated the terms of our agreements with the providers. We have
located alternate sources of information or modified the scope of information
provided in response to these disputes. Nevertheless, our failure to obtain
suitable information, if needed to use in place of information provided by a
source that determines to stop providing information could hurt our business.
OUR PLAN FOR REVENUE GENERATION MAY NOT BE VIABLE.
Our business plan contemplates that we will generate revenues from our
health care information business principally by:
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o licensing our data, healthgrades.com name and trademarks to
highly-rated hospitals and other health care providers for use in
connection with their marketing programs;
o advising lower rated hospitals on improving their quality of care;
o providing employees, benefit consultants and health plans with
information designed to identify opportunities to migrate employees
to higher quality facilities, through selection of a health plan or
a facility within a health plan's network;
o providing employers and others with information that rates and
compares health plans in a local area on various quality measures;
o providing employers, health plans and benefit consultants with
information for use by employees in selecting providers and
facilities available to employees through the employees' health plan
network; and
o licensing access to our ratings content through linking agreements
to other companies that operate Internet "yellow pages" or health
care sites;
However, we do not yet know whether we will be able to generate significant
revenues from these activities. Specifically, we have not yet generated
substantial revenues from any employers or health plans, and we do not know
whether they will view our rating and profile information as useful in
connection with their operations. Moreover, while we have licensed access to our
healthgrades.com content to several health care information websites, these
contracts generally have a relatively short term or can be terminated on short
notice and have generated only limited revenues. Many of the Internet health
care companies that license our data are recently formed entities that do not
have a history of financial viability and may not have the resources to continue
licensing arrangements with us, even if they view such arrangements to be
helpful. In addition, while we have entered into licensing agreements with a
number of hospitals, the use of Internet information in conjunction with
hospital and other provider marketing campaigns is a new, unproven concept. We
may not be able to expand or retain acceptance by hospitals and other providers.
WE MAY BE SUED FOR INFORMATION RETRIEVED FROM OUR WEBSITES OR OTHERWISE PROVIDED
TO EMPLOYERS AND OTHERS.
We may be subjected to claims for defamation, negligence, copyright or
trademark infringement, personal injury or other legal theories relating to the
information we publish on our websites or otherwise provide to customers. These
types of claims have been brought, sometimes successfully, against online
services as well as print publications in past. We have received threats from
some providers that they will assert defamation and other claims in connection
with the information posted on our healthgrades.com website. One provider has
also alleged that our use of our rating system constitutes a business practice
that violates state law and may also be a basis for product disparagement,
negligent misrepresentation and other claims. The provider threatened to
institute legal action if we do not remove reference to the provider from our
website. We have filed a complaint against the provider seeking a judgment that,
among other things, we did not violate state or federal law as a result of our
rating of the provider and our ratings are protected by the free speech
protections of the United States Constitution and relevant state constitutions.
Patients who file lawsuits against providers often name as defendants all
persons or companies with any nexus to the providers. As a result, patients may
file lawsuits against us based on treatment provided by hospitals or other
facilities that are highly rated by us, or doctors who are identified on our
website or through other information that we provide. In addition, a court or
government agency may take the position that our delivery of health information
directly, or information delivered by a third-party website that a consumer
accesses through our website, exposes us to malpractice or other personal injury
liability for wrongful delivery of health care services or erroneous health
information. The amount of insurance we maintain with insurance carriers may not
be sufficient to cover all of the losses we might incur from these claims and
legal actions. In addition, insurance for some risks is difficult, impossible or
too costly to obtain, and as a result, we may not be able to purchase insurance
for some types of risks.
IF WE DO NOT ESTABLISH, MAINTAIN AND STRENGTHEN OUR BRAND, OUR ABILITY TO EXPAND
OUR BUSINESS WILL BE IMPAIRED.
To expand our audience of users and increase our online traffic, and
increase interest in our other health care ratings services, we must establish,
maintain and strengthen our brand. For us to be successful in establishing our
brand, consumers must perceive us as a trusted source of health care
information; hospitals, other providers and other health care information
websites must perceive us as an effective marketing and sales channel for their
services and products; and employees and health plans must perceive us as a
source of valuable information that can be used to enhance the quality and
cost-effectiveness of health care. We may be required to increase substantially
our marketing budget in our efforts to establish brand recognition and brand
loyalty. Our business will suffer if our marketing efforts are not productive or
if we cannot strengthen our brands.
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OUR BUSINESS WILL SUFFER IF WE ARE UNABLE TO ATTRACT, RETAIN AND MOTIVATE HIGHLY
SKILLED EMPLOYEES.
We have recently reduced the size of our employee base in order to lower
expenses. Nevertheless, our ability to execute our business plan and be
successful depends upon our ability to attract, retain and motivate highly
skilled employees when needed. We rely on the continued services of our senior
management and other personnel. If we are able to expand our business, we will
need to hire additional personnel to support our operations. We may be unable to
retain our key employees or attract or retain other highly qualified employees
in the future. If we do not succeed in attracting new personnel as needed and
retaining and motivating our current personnel, our business will suffer.
WE MAY EXPERIENCE SYSTEM FAILURES THAT COULD INTERRUPT OUR SERVICES.
The success of our healthgrades.com website and activities related to the
website will depend on the capacity, reliability and security of our network
infrastructure. We rely on telephone communication providers to provide the
external telecommunications infrastructure necessary for Internet
communications. We will also increasingly depend on providers of online content
and services for some of the content and applications that we make available
through healthgrades.com. Any significant interruptions in our services or an
increase in response time could result in the loss of potential or existing
users or licensees. Although we maintain insurance for our business, we cannot
guarantee that our insurance will be adequate to compensate us for losses that
may occur or to provide for costs associated with business interruptions.
We must be able to operate our website 24 hours a day, 7 days a week,
without material interruption. To operate without interruption, we and our
content providers must guard against:
o damage from fire, power loss and other natural disasters;
o communications failures;
o software and hardware errors, failures or crashes;
o security breaches, computer viruses and similar disruptive problems;
and
o other potential interruptions.
Our website may be required to accommodate a high volume of traffic and
deliver frequently updated information. Our users may experience slower response
times or system failures due to increased traffic on our website or for a
variety of other reasons. We will also increasingly depend on content and
applications providers to furnish information and data feeds on a timely basis.
We could experience disruptions or interruptions in service due to the failure
or delay in the transmission or receipt of this information. Any significant
interruption of our operations could damage our business.
OUR PROPRIETARY RIGHTS MAY NOT BE FULLY PROTECTED, AND WE MAY BE SUBJECT TO
INTELLECTUAL PROPERTY INFRINGEMENT CLAIMS BY OTHERS.
Our failure to adequately protect our intellectual property rights could
harm our business by making it easier for our competitors to duplicate our
services. We have a number of trademarks for which we are seeking or will seek
registration with the U.S. Patent and Trademark office, but cannot assure that
the registrations will be forthcoming. We also have a patent pending on our
hospital rating system and methodology, but we can give no assurance that the
patent will be issued. In addition, we require some of our employees to enter
into a confidentiality and invention assignment agreement and, in more limited
cases, non-competition agreements. Nevertheless, our efforts to establish and
protect our proprietary rights may be inadequate to prevent imitation of our
services by others or may be subject to challenge by others. Furthermore, our
ability to protect some of our proprietary rights is uncertain since legal
standards relating to the validity, enforceability and scope of intellectual
property rights in Internet related industries are uncertain and are still
evolving.
In addition to the risk of failing to adequately protect our proprietary
rights, there is a risk that we may become subject to a claim that we infringe
upon the proprietary rights of others. Although we do not believe that we are
infringing upon the rights of others, third parties may claim that we are doing
so. The possibility of inadvertently infringing upon the proprietary rights of
another is increased for businesses such as ours because there is significant
uncertainty regarding the applicability to the Internet of existing laws
regarding
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matters such as property ownership, copyrights and other intellectual property
rights. A claim of intellectual property infringement may cause us to incur
significant expenses in defending against the claim. If we are not successful in
defending against an infringement claim, we could be liable for substantial
damages or may be prevented from offering some aspects of our services. We may
be required to make royalty payments, which could be substantial, to a party
claiming that we have infringed their rights. These events could damage our
business.
WE MAY LOSE BUSINESS IF WE ARE UNABLE TO KEEP UP WITH RAPID TECHNOLOGICAL OR
OTHER CHANGES.
If we are unable to keep up with changing technology and other factors
related to our market, we may be unable to attract and retain users, customers
and licensees, which would reduce or limit our revenues. The markets in which we
compete are characterized by rapidly changing technology, evolving technological
standards in the industry, frequent new service and product announcements and
changing consumer demand. Our future success will depend on our ability to adapt
to these changes, and to continuously improve the content, features and
reliability of our services in response to competitive service and product
offerings and the evolving demands of the marketplace. In addition, the
widespread adoption of new Internet networking or telecommunications
technologies or other technological changes could require us to incur
substantial expenditures to modify or adapt our website or infrastructure, which
might negatively affect our ability to become or remain profitable.
OUR BUSINESS WILL SUFFER IF WE ARE NOT ABLE TO COMPETE SUCCESSFULLY.
The market for health care information is new, rapidly evolving and
competitive. We expect competition to increase significantly, and our business
will be adversely affected if we are unable to compete successfully. We
currently compete, or potentially compete, with many providers of health care
information services and products, both online and through traditional means. We
compete, directly and indirectly, for users, consumers and licensees principally
with:
o companies or organizations providing or maintaining online health
care information;
o vendors of health care information, products and services
distributed through other means, including direct sales, mail and
fax messaging.
o companies and organizations providing or maintaining general purpose
consumer online services that provide access to health care content
and services;
o companies and organizations providing or maintaining public sector
and non-profit websites that provide health care information and
services without advertising or commercial sponsorships;
o companies and organizations providing or maintaining web search and
retrieval services and other high-traffic websites; and
o publishers and distributors of traditional media, some of which have
established or may establish websites.
Some of these competitors are larger, have greater resources and have more
experience in providing health care information than us.
RISKS RELATED TO HEALTH CARE INFORMATION AND THE INTERNET
HEALTH CARE REFORMS AND THE COST OF REGULATORY COMPLIANCE COULD NEGATIVELY
AFFECT OUR BUSINESS.
The health care industry is heavily regulated. Various laws, regulations
and guidelines promulgated by government, industry and professional bodies
affect, among other matters, the provision, licensing, labeling, marketing,
promotion and reimbursement of health care services and products. Our failure or
the failure of our subscribers, licensees or customers to comply with any
applicable regulatory requirements or industry guidelines could:
o result in limitation or prohibition of business activities;
o subject us or licensees or customers to adverse publicity; or
o increase the costs of regulatory compliance or subject us or our
licensees or customers to monetary fines or other penalties.
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A federal law commonly known as the Medicare/Medicaid Anti-kickback Law,
and several similar state laws, prohibit payments that are intended to induce
physicians or others either to refer patients or to acquire or arrange for or
recommend the acquisition of health care products or services. Another federal
law, commonly known as the "Stark" law, prohibits physicians from referring
Medicare and Medicaid patients for designated health services to entities with
which they have a financial relationship, unless that relationship qualifies for
an explicit exception to the referral ban. Some of these laws have been applied
to payments by physicians for marketing and referral services and could
constrain our relationships, including financial and marketing relationships
with licensees such as hospitals. It is possible that additional or changed
laws, regulations or guidelines could be adopted in the future.
THE INTERNET IS SUBJECT TO MANY LEGAL UNCERTAINTIES AND POTENTIAL GOVERNMENT
REGULATIONS THAT MAY DECREASE USAGE OF OUR WEBSITE, INCREASE OUR COST OF DOING
BUSINESS OR OTHERWISE HAVE A DAMAGING EFFECT ON OUR BUSINESS.
Any new law or regulation pertaining to the Internet, or the application or
interpretation of existing laws, could decrease usage for our website, increase
our cost of doing business or otherwise cause our business to suffer.
Laws and regulations may be adopted in the future that address
Internet-related issues, including online content, user privacy, pricing and
quality of products and services. This legislation could increase our cost of
doing business and negatively affect our business. Moreover, it may take years
to determine the extent to which existing laws governing issues like property
ownership, libel, negligence and personal privacy are applicable to the
Internet. Currently, U.S. privacy law consists of disparate state and federal
statutes regulating specific industries that collect personal data. Most of them
predate and therefore do not specifically address online activities. In
addition, a number of comprehensive legislative and regulatory privacy proposals
are now under consideration by federal, state and local governments in the
United States.
OUR BUSINESS COULD BE IMPAIRED BY STATE AND FEDERAL LAWS DESIGNED TO PROTECT
INDIVIDUAL HEALTH INFORMATION.
If we fail to comply with current or future laws or regulations governing
the collection, dissemination, use and confidentiality of patient health
information, our business could suffer.
Consumers sometimes enter private information about themselves or their
family members when using our services. Also, our systems record use patterns
when consumers access our databases that may reveal health-related information
or other private information about the user. In addition, information regarding
employee usage of health care providers and facilities can also be compiled by
our systems in connection with services we offer to employers and other health
plans. Numerous federal and state laws and regulations govern collection,
dissemination, use and confidentiality of patient-identifiable health
information, including:
o state privacy and confidentiality laws;
o state laws regulating health care professionals, such as physicians,
pharmacists and nurse practitioners;
o Medicaid laws;
o the Health Insurance Portability and Accountability Act of 1996 and
related rules proposed by the Health Care Financing Administration;
and
o Health Care Financing Administration standards for Internet
transmission of health data.
Congress has been considering proposed legislation that would establish a
new federal standard for protection and use of health information. While we are
not gathering patient health information at this time, other third-party
websites that consumers access through our website and employees, health plans
and other customers may not maintain systems to safeguard any health information
they may be collecting. In some cases, we may place our content on computers
that are under the physical control of others, which may increase the risk of an
inappropriate disclosure of information. For example, we contract out the
hosting of our website to a third party. In addition, future laws or changes in
current laws may necessitate costly adaptations to our systems.
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ONLINE SECURITY BREACHES COULD HARM OUR BUSINESS.
Our security measures may not prevent security breaches. Substantial or
ongoing security breaches on our system or other Internet-based systems could
reduce user confidence in our website, causing reduced usage that adversely
affects our business. The secure transmission of confidential information over
the Internet is essential to maintain confidence in our websites. We believe
that consumers generally are concerned with security and privacy on the
Internet, and any publicized security problems could inhibit the growth of the
Internet and, therefore, our provision of health care information on the
Internet.
We will need to incur significant expense to protect and remedy against
security breaches when we identify a significant business risk. Currently, we do
not store sensitive information, like patient information or credit card
information, on our websites. If we launch services that require us to gather
sensitive information, our security expenditures will increase significantly.
A party that is able to circumvent our security systems could steal
proprietary information or cause interruptions in our operations. Security
breaches could also damage our reputation and expose us to a risk of loss or
litigation and possible liability. Our insurance policies may not be adequate to
reimburse us for losses caused by security breaches. We also face risks
associated with security breaches affecting third parties conducting business
over the Internet or customers and others who license our contract.
OTHER RISKS
OUR OFFICERS AND DIRECTORS MAINTAIN SIGNIFICANT CONTROL OF HEALTH GRADES, INC.
Our officers and directors own approximately 51.6% of our outstanding
common stock. If our officers and directors act together, they will be able to
control the management and affairs of Health Grades, Inc. and will have the
ability to control all matters requiring stockholder approval, including the
election of directors and approval of significant corporate transactions. This
concentration of ownership may have the effect of delaying, deferring or
preventing an acquisition of us and may adversely affect the market price for
our common stock.
OUR CERTIFICATE OF INCORPORATION AND BYLAWS INCLUDE ANTI-TAKEOVER PROVISIONS
THAT MAY DETER OR PREVENT A TAKEOVER ATTEMPT.
Some provisions of our certificate of incorporation and bylaws and
provisions of Delaware law may deter or prevent a takeover attempt, including an
attempt that might result in a premium over the market price for our common
stock. Our certificate of incorporation requires the vote of 66 2/3% of the
outstanding voting securities in order to effect certain actions, including a
sale of substantially all of our assets, certain mergers and consolidations and
our dissolution or liquidation, unless these actions have been approved by a
majority of the directors. Our certificate of incorporation also authorizes our
Board of Directors to issue up to 2,000,000 shares of preferred stock having
such rights as may be designated by our Board of Directors, without stockholder
approval. Our bylaws provide that stockholders must follow an advance
notification procedure for certain nominations of candidates for the Board of
Directors and for certain other stockholder business to be conducted at a
stockholders meeting. The General Corporation Law of
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Delaware restricts certain business combinations with interested stockholders
upon their acquisition of 15% or more of our common stock.
All of these provisions could make it more difficult for a third party to
acquire, or could discourage a third party from attempting to acquire, control
of us.
WE HAVE NO INTENTION TO PAY DIVIDENDS ON OUR COMMON STOCK.
We have never declared or paid any cash dividends on our common stock. We
currently intend to retain all future earnings to finance the expansion of our
business.
Item 2. Properties
We have a six-year lease for our approximately 8,600 sq. foot
headquarters facility in Lakewood, Colorado, which expires on February 15, 2001.
Our annual lease payments for this facility is approximately $262,000.
Item 3. Legal Proceedings
Reconstructive Orthopaedic Associates
On October 27, 1999, Reconstructive Orthopaedic Associates II, P.C.,
("ROA"), filed a complaint against us in the U.S. District Court for the Eastern
District of Pennsylvania. The complaint asserts that, during negotiations
between ROA and us related to the restructure agreement by and between ROA and
us, we agreed that if we entered into a similar restructuring agreement with any
other affiliated practice on financial terms more favorable to such affiliated
practice than those extended to ROA under its restructure agreement, we would
modify and adjust the terms of their restructure agreement to ensure that ROA
received financial terms as favorable as those extended to such other affiliated
practice. The complaint further alleges that one or more lawsuits or other
adversary proceedings between us and one or more other affiliated practices have
been settled, in fact or in principle, on financial terms materially more
favorable to the other affiliated practices than the terms extended to ROA under
its restructure agreement. ROA seeks compensatory, consequential and incidental
damages in excess of $75,000, punitive damages in excess of $1,000,000 and
attorneys fees. Additionally, ROA seeks a declaratory judgment that if any of
the alleged settlements were entered into between us and any other affiliated
practices on terms materially more favorable than those extended to ROA, we
would be required to modify and adjust the terms of ROA's restructure agreement
to ensure that ROA received financial terms as favorable as those extended to
such other affiliated practices.
Discovery is scheduled to be completed by April 30, 2001. We anticipate
that a trial date will be scheduled. The case is set to be placed in the trial
pool on June 25, 2001.
On November 8, 1999, we filed a complaint in the U.S. District Court for
the District of Colorado against ROA. The complaint asserts that ROA has taken
actions in direct contravention of our management services agreement with ROA,
including trying to terminate the agreement in a manner not allowed by the
contract, threatening to withhold payments due under the agreement, and filing
suit in another jurisdiction in violation of the agreement. We seek a
declaration and adjudication of both parties' contractual rights and obligations
in order to terminate this dispute. We also seek injunctive relief and damages.
Discovery has been completed. The case is scheduled for trial on December 24,
2001.
We believe we have strong legal and factual defenses to ROA's claims. We
intend to vigorously defend against ROA's lawsuit and aggressively pursue our
claims.
Orthopaedic Institute of Ohio
On November 1, 1999, we filed a complaint in the U.S. District Court for
the District of Colorado against the Orthopaedic Institute of Ohio, Inc.
("OIO"). The complaint asserts that, prior to the closing of the restructure
agreement between OIO and us, OIO, its physician owners and the administrator of
OIO diverted over $470,000 from our bank account and deposited such funds into a
bank account held by OIO and the physician owners. The complaint further asserts
that OIO and the physician owners are continuing to withhold from us amounts
that remain due under the restructure agreement of over $720,000. OIO
subsequently filed a Motion for Stay of Proceedings and a Motion to Dismiss.
Essentially, OIO has argued that all claims made by us are subject to the
arbitration clause of the Restructure Agreement by and between us and OIO. We
filed a response to OIO's Motions and oral arguments occurred in March 2000.
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On March 27, 2000, the Court entered an order staying the litigation and
ordering the parties to resolve their disputes through arbitration. All written
submissions were provided to the arbitrator. Effective March 28, 2001, we
entered into a settlement agreement with OIO. Under the terms of the agreement,
we received a cash payment of $1,750,000 in full satisfaction of certain notes
receivable and other assets with the practice, the termination of the current
service agreement with the practice and the settlement of a dispute of amounts
owed to us arising out of the restructure transaction with OIO.
Item 4. Submission of Matters to a Vote of Security Holders
Not applicable.
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Executive Officers of the Registrant
The following table sets forth certain information concerning the executive
officers of the Company:
NAME AGE POSITION
Kerry R. Hicks.......................... 41 Chief Executive Officer
Peter J. Stahl.......................... 51 Chief Operating Officer
D. Paul Davis........................... 43 Executive Vice President-Finance, CFO & Treasurer
David G. Hicks.......................... 42 Executive Vice President-Information Technology
Timothy D. O'Hare....................... 48 Senior Vice President-Provider Web.net
Peter A. Fatianow....................... 37 Senior Vice President-Business Development
Sarah Loughran.......................... 36 Senior Vice President-Content
KERRY R. HICKS, one of our founders, has served as our Chief Executive Officer
since our inception in 1995. He also served as our President from our inception
until November 1999. From 1985 to 1995, he served as Senior Vice President of
LBA Healthcare Management (LBA). Mr. Hicks received a BS in Business and a
Masters in Information Systems from Colorado State University.
PETER J. STAHL has served as Chief Operating Officer for Health Grades, Inc.
since September 2000. He served from February 1991 to April 2000 as Executive
Vice President of Business Development at Duff & Phelps Credit Rating Co., a
financial advisory company specializing in credit rating and research.
D. PAUL DAVIS has served as our Executive Vice President - since November 1999.
He has been our Chief Financial Officer since March 1997. He was our Senior Vice
President of Finance from March 1997 until August 1998, and from March 1996
until March 1997 he was Vice President of Finance. From January 1993 to March
1996, Mr. Davis served as Vice President of Finance for Surgical Partners of
America, Inc. Mr. Davis received a BS degree in Accounting from the University
of Utah. He is a Certified Public Accountant and a Certified Management
Accountant.
DAVID G. HICKS has served as our Executive Vice President - Information
Technology since November 1999. He was Senior Vice President of Information
Technology from May 1999 to November 1999 and Vice President of Management
Information Systems from March 1996 until May 1999. From 1994 to March 1996, Mr.
Hicks worked as Manager of Information Technology for the Association of
Operating Room Nurses. He was responsible for all information technology
development. From 1992 to 1994, Mr. Hicks worked as Manager of Financial Systems
for Coors Brewing Company. Mr. Hicks received a BS degree in Management
Information Systems from Colorado State University.
TIMOTHY D. O'HARE has served as our Senior Vice President - ProviderWeb.net
since November 1999. He was our Vice President - Operations from August 1996
until November 1999. From 1987 to 1994, Mr. O'Hare served as Vice President and
Executive Director of HealthCare of North Carolina. From 1994 to 1996, Mr.
O'Hare served as Executive Director of Kaiser Foundation Health Plan of North
Carolina. Mr. O'Hare has over 20 years experience in healthcare, having worked
for managed care companies, hospitals, and physicians. Mr. O'Hare received a BS
degree in Business from Virginia Tech and an MHA degree from Virginia
Commonwealth University.
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PETER A. FATIANOW has served as our Senior Vice President - Business Development
since March 2000. He has served in several capacities for HG.com and Healthcare
Ratings, Inc. since July 1998, most recently as Senior Vice President -
Operations. He was previously our Vice President of Business Development from
our inception until July 1998. From July 1998 until February 1999, he was a
partner of Consolidation Capital Partners LLC, which provided consulting
services to us in connection with our restructuring transaction with our former
affiliated practices. From July 1994 to February 1996, Mr. Fatianow worked as an
Associate Vice President in Healthcare Corporate Finance with Morgan Keegan &
Company, Inc. Previously, he spent two years in Credit Suisse First Boston's
Health Care Group in New York. Mr. Fatianow received a BS in Business Management
with an emphasis in finance from Brigham Young University.
SARAH LOUGHRAN has served as our Senior Vice President - Content since March
2000 and as Senior Vice President - Content of our subsidiary, HG.com and its
successor, Healthcare Ratings, Inc. since 1998. From 1996 to 1997, Ms. Loughran
worked as Assistant Vice President for Product Development for HCIA, where she
developed a number of information application products. From 1994 to 1996, Ms.
Loughran served as a Senior Consultant at LBA Healthcare Management. In this
role, she consulted with more than 35 different hospitals on managing cost by
clinical specialty. Ms. Loughran received a BA in Economics from Vanderbilt
University and an MBA and MHSA from the University of Michigan.
Kerry R. Hicks and David G. Hicks are brothers.
PART II
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters
The following table sets forth the high and low sales prices for our Common
Stock for the quarters indicated as reported on the Nasdaq Stock Market.
HIGH LOW
---- ---
Year Ended December 31, 1999
First Quarter................................ $ 1 7/8 $ 5/8
Second Quarter............................... 3 3/8
Third Quarter................................ 5 7/8 1 27/32
Fourth Quarter (1)........................... 4 7/8 1 7/16
Year Ended December 31, 2000
First Quarter................................ $ 3 1/2 $ 2
Second Quarter............................... 2 9/16 15/169
Third Quarter................................ 1 29/32 3/4
Fourth Quarter .............................. 1 1/4 7/32
(1) Since November 24, 1999, the Company's common stock has been listed on the
Nasdaq Small Cap Market. The common stock previously was listed on the
Nasdaq National Market.
We have never paid or declared any cash dividends and do not anticipate paying
any cash dividends in the foreseeable future. We currently intend to retain any
future earnings for use in our business.
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Item 6. Selected Financial Data
Statement of Operations Data
YEAR ENDED YEAR ENDED YEAR ENDED YEAR ENDED YEAR ENDED
DECEMBER 31, DECEMBER 31, DECEMBER 31, DECEMBER 31, DECEMBER 31,
------------ ------------- ------------- ------------ ------------
2000 1999 1998 1997 1996(1)
------------ ------------- ------------- ------------ ------------
Revenue:
Ratings and advisory revenue $ 1,578,979 $ 407,577 $ -- $ -- $ --
Physician practice service fees 4,249,658 28,948,397 76,649,778 45,966,531 4,392,050
Other 9,051 2,229,774 2,531,524 3,689,390 --
------------ ------------- ------------- ------------ ------------
5,837,688 31,585,748 79,181,302 49,655,921 4,392,050
------------ ------------- ------------- ------------ ------------
Costs and expenses:
Ratings and advisory costs and expenses:
Production, content and product development 2,085,402 1,217,917 55,188,411 31,644,618 2,820,743
Sales and marketing 1,572,505 1,853,191 -- -- --
Physician practice services costs and expenses:
Clinic expenses -- 15,234,416 -- -- --
Impairment loss on service agreements -- -- 94,582,227 -- --
Litigation and other costs 812,084 5,309,168 3,564,392 -- --
Impairment loss on intangible assets and
other long-lived assets -- -- 3,316,651 -- --
General and administrative 8,723,434 10,570,223 14,468,537 7,861,015 3,770,263
------------ ------------- ------------- ------------ ------------
Total costs and expenses 13,193,425 34,184,915 171,120,218 39,505,633 6,591,006
------------ ------------- ------------- ------------ ------------
(Loss) income from operations (7,355,737) (2,599,167) (91,938,916) 10,150,288 (2,198,956)
Other:
(Loss) gain on sale of assets,practice disputes
and amendment and restatement of service
agreements (699,010) 2,766,284 -- -- --
Gain on sale of equity investment -- 127,974 1,240,078 -- --
Gain on sale of subsidiary -- 221,258 -- -- --
Interest income 511,657 312,447 187,450 536,180 11,870
Interest expense (471,553) (2,489,427) (3,741,089) (942,144) (90,368)
------------ ------------- ------------- ------------ ------------
(Loss) income before income taxes (8,014,643) (1,660,631) (94,252,477) 9,744,324 (2,277,454)
Income tax benefit (expense) 469,897 2,625,561 32,466,391 (3,873,926) 506,071
------------ ------------- ------------- ------------ ------------
Net (loss) income $ (7,544,746) $ 964,930 $ (61,786,086) $ 5,870,398 $ (1,771,383)
============ ============= ============= ============ ============
Net (loss) income per common share (basic) $ (0.39) $ 0.07 $ (3.39) $ 0.38 $ (0.16)
============ ============= ============= ============ ============
Weighted average number of common shares
used in computation (basic) 19,535,841 14,202,748 18,237,827 15,559,368 11,422,387
============ ============= ============= ============ ============
Net (loss) income per common share (diluted) $ (0.39) $ 0.07 $ (3.39) $ 0.37 $ (0.14)
============ ============= ============= ============ ============
Weighted average number of common
shares and common share equivalents
used in computation (diluted) 19,535,841 14,817,732 18,237,827 16,071,153 12,454,477
============ ============= ============= ============ ============
BALANCE SHEET DATA
DECEMBER 31, 2000 DECEMBER 31, 1999 DECEMBER 31, 1998 DECEMBER 31, 1997 DECEMBER 31, 1996
----------------- ----------------- ----------------- ----------------- -----------------
Working capital (deficit) $ 4,292,698 $ 1,383,945 $(21,457,105) $ 21,924,386 $ 7,637,724
Total assets 14,371,174 20,392,868 70,179,278 140,301,650 16,013,125
Total long-term debt -- 8,803,283 680,152 33,885,141 5,142,450
Total short-term debt 1,559,213 7,702,005 53,514,615 -- --
(1) The 1996 net income (loss) per share and weighted average share amounts have
been restated to comply with Statement of Financial Accounting Standards No.
128, Earnings Per Share.
ITEM 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations
GENERAL
We are a healthcare ratings services company. We grade, or provide consumers
with the means to assess and compare the quality or qualifications of, various
types of healthcare providers. We also provide profile information for a variety
of providers and facilities. We make this information available to consumers,
employers, and health plans to assist them in selecting healthcare providers.
For consumers, this information is available free of charge on our website,
www.healthgrades.com. For employers, we provide, for a fee, customized
information designed to encourage employees to utilize quality providers to
reduce medical benefit costs as well as
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indirect costs of lost workdays and productivity. For health plans, we provide,
for a fee, customized information designed to assist them in selecting network
providers who can enhance the quality of care for their members.
We also offer services to healthcare providers. For providers who have
received high ratings, we offer the opportunity to license our ratings and
trademarks and provide assistance in their marketing programs. For providers who
have not received high ratings, we offer quality improvement services designed
to identify deficiencies and improve quality. We also provide limited physician
practice management services to musculoskeletal practices under management
services agreements that have terms expiring through September 2002.
Prior to the restructuring transaction described below under "MODIFICATION
OF ARRANGEMENTS AND RESTRUCTURING TRANSACTION", we entered into long-term
service agreements with 21 practices that affiliated with us. When we entered
into the transactions, we also acquired all of the non-medical assets of the
affiliated practices. In exchange, we paid consideration consisting of cash, our
securities or both. Under our service agreements, we, among other things,
provided facilities and management, administrative and development services to
the affiliated practices, and employed most non-physician personnel of the
affiliated practices, in return for specified service fees. The operating
expenses incurred by us included the salaries, wages and benefits of personnel
(other than physician owners and certain technical medical personnel), supplies,
expenses involved in administering the clinical aspects of the affiliated
practices and depreciation and amortization of assets. In addition to the
operating expenses discussed above, we incurred personnel and administrative
expenses in connection with our corporate offices, which provided management,
administrative and development services to the affiliated practices.
MODIFICATION OF ARRANGEMENTS AND RESTRUCTURING TRANSACTION
To date, we have closed restructuring transactions and/or entered into
settlement agreement with substantially all of our affiliated practices. Under
the restructure agreements, we transferred, with respect to each practice, all
of the accounts receivable relating to the practice; tangible and intangible
assets purchased or acquired by the Company in respect of the practice, other
than those disposed of in the ordinary course of business since the date the
Company affiliated with the practice; all prepaid expenses relating to the
practice; all inventory relating to the practice; and all other assets relating
to the practice. The amount received by the Company from each practice and its
physician owners for the assets sold to the practice generally equals the sum of
(1) the book value of the accounts receivable relating to the practice on the
effective date of closing; (2) the book value of all fixed assets and other
capital assets relating to the practice on the effective date of closing; (3)
the book value of all prepaid expenses relating to the practice on the effective
date of closing; (4) the book value of all notes and other receivables the
physician owners of the practice owe to the Company on the effective date of
closing; and (5) the cash balance of the practice's deposit account on the
effective date of closing, reduced by the book value of the liabilities and
obligations relating to the practice on the effective date of closing.
In addition, the Company and each of the practices and their physician
owners entered into a management services agreement to replace the existing
service agreement. As consideration for the Company's agreement to enter into
the management services agreement, the practices and their physician owners paid
to the Company an additional amount of cash, or paid cash and returned to the
Company shares of its common stock.
During 1999 and 2000, the Company also entered into settlement
agreements with several Affiliated Practices which terminated the service
agreements with the respective Affiliated Practices. As of March 31, 2001, the
Company has five management services arrangements remaining expiring at various
times through September 2002. Three of the practices are subject to monthly
service fees, while two paid a lump sum fee in connection with the closing of
the restructuring transaction, in lieu of the monthly fee obligation.
ACQUISITION OF MINORITY INTERESTS AND OFFICER NOTES; EQUITY FINANCING
In June 1999, we entered into an agreement with the former stockholders of
Provider Partnerships, Inc. ("PPI") to resolve certain issues raised by the
former stockholders of PPI relating to the transaction in which we acquired PPI.
At that time, we formed HG.com, Inc. (formerly known as Healthgrades.com, Inc.)
("HG.com") and transferred to HG.com certain assets that were developed by us
into one of our websites (formerly HealthCareReportCards.com, currently
Healthgrades.com) and other related internet products. The remaining
non-internet related assets of PPI were transferred to us, and PPI was
subsequently liquidated. Additionally, one of our employees and Venture5 LLC,
whose members consist of the former PPI stockholders, owned minority interests
in HG.com. We owned the majority interest. In September 1999, we entered into an
agreement with Venture5 under which we agreed to purchase a number of shares of
our majority-owned subsidiary, HG.com, Inc. that would increase our ownership in
HG.com, Inc. to 90%. The agreement required that we pay Venture5 $4,000,000 by
November 1, 1999. In November 1999, the purchase date was extended until
December 31, 1999. On December 31, 1999, we paid $4,000,000 to Venture5 (the
"Minority Interest Purchase") in full satisfaction of
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this obligation. We financed the Minority Interest Purchase by borrowing
$3,550,000 from some of our officers (the "Officers") and issued notes to the
officers totaling $3,550,000 (hereafter, the "Officer Notes").
On March 17, 2000, we closed on an equity financing transaction (the "Equity
Financing") which raised $18 million. Pursuant to the terms of the Equity
Financing, certain investors paid $14.8 million to us in return for 7,400,000
shares of our common stock and five-year warrants to purchase 2,590,000 shares
of our common stock at an exercise price of $4.00 per share. Net proceeds of the
Equity Financing, after payment of certain legal and other financing fees, were
approximately $14.4 million. In connection with the Equity Financing, we also
issued an aggregate of 165,000 shares to our bank syndicate as a financing fee.
We also issued a warrant to purchase 150,000 shares of our common stock to a
company that served as a financial advisor to us in connection with the Equity
Financing, at an exercise price of $3.45 per share. In connection with the
Equity Financing, certain of our officers exchanged $3.2 million in notes
payable for an aggregate of 1.6 million shares of our common stock and five-year
warrants to purchase 560,000 shares of our common stock at $4.00 per share. In
accordance with the provisions of EIFT 98-5, Accounting for Convertible
Securities with Beneficial Conversion Features or Contingently Adjustable
Conversion Ratios, upon the exchange of the notes payable, we recorded an
expense of $347,200 based upon the estimated fair market value of the warrants
issued to the officers. This expense is included in general and administrative
expenses in our Consolidated Statement of Operations.
Effective February 3, 2000, we merged our majority-owned subsidiary, HG.com,
Inc., into a recently formed, wholly-owned subsidiary, HealthcareRatings, Inc.
(hereafter, the "Merger Transaction"). In order to effect the Merger
Transaction, we gave the minority shareholders of HG.com 800,000 shares of
Company common stock. In connection with the Merger Transaction, we recorded
goodwill in the amount of $1,850,000 based on the fair value of the stock issued
as of the transaction date. The goodwill is being amortized over an estimated
useful life of seven years.
ACCOUNTING TREATMENT
Commencing January 1, 1999, costs of obtaining long-term service agreements for
practices affiliated with us that were not a party to the restructuring
transaction are amortized using the straight-line method over estimated lives of
five years from January 1, 1999.
Goodwill, which is stated at cost, was acquired in connection with the Minority
Interest Purchase described above and is being amortized on a straight-line
basis over a seven-year period. (See Note 7 to the Consolidated Financial
Statements for further discussion of this transaction.) In addition, the
additional goodwill acquired in February 2000 in connection with the Merger
Transaction described above is also being amortized over an estimated useful
life of seven years.
In the fourth quarter of 2000, we changed our method of accounting for
promotional agreements. Under these agreements, companies that access our
content through licensing agreements offset their cash obligations to us by
providing significant Health Grades branding on their websites or by providing
other services to us. Revenue recognized under such arrangements is commonly
referred to as barter revenue. Previously, we recorded revenue under promotional
agreements at the fair value of the content licensing, in reliance upon
Accounting Principles Board Opinion No. 29, "Accounting for Nonmonetary
Transactions" and disclosed, in our filings with the Securities and Exchange
Commission, the amount of such revenue included in our Statements of Operations.
However, we became aware that, recently, the consensus reached by the Emerging
Issues Task Force in EITF 99-17, "Accounting for Advertising Barter
Transactions," is being applied by the staff of the Securities and Exchange
Commission to a broad range of barter transactions. By its express terms, EITF
99-17 addresses transactions in which companies exchange rights to place
advertisements on each others' web sites and not transactions, such as our
promotional agreements, involving the provision of content to websites.
Management has determined to apply EITF 99-17 to our barter transactions. As a
result, we have restated our year 2000 quarterly financial statements to reverse
revenues and the corresponding expenses relating to our promotional agreements.
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RESULTS OF OPERATIONS
YEAR ENDED DECEMBER 31, 2000 COMPARED TO YEAR ENDED DECEMBER 31, 1999
REVENUE:
Ratings and advisory revenue
Ratings and advisory revenue was $1.6 million for the year ended December 31,
2000, an increase of $1.2 million from the year ended December 31, 1999. This
increase is primarily due to our entry into additional SQI agreements with
hospitals and other healthcare providers during 2000.
Physician practice service fees
Physician practice service fees include services fees and other revenue derived
from our physician practice management business. For the year ended December 31,
2000, physician practice service fees decreased to approximately $4.2 million
from $28.9 million for the year ended December 31, 1999. This decrease reflects
the substantial reduction in our physician practice management operations. For
the year ended December 31, 2000, physician practice service fees includes a
non-recurring payment of approximately $2.5 million related to the termination
of management services agreements with three of our affiliated practices.
COSTS AND EXPENSES:
Production, content and product development
Production, content and product development costs were approximately $2.1
million for the year ended December 31, 2000, compared to $1.2 million for the
year ended December 31, 1999. The increase from 1999 is primarily due to the
expansion of the healthgrades.com website during the first part of 2000. Since
January 1, 2000, we have enhanced our website by including report card pages for
home health agencies and hospices and adding directories for naturopathic
physicians and birthing centers. Additionally, through an agreement with
GeoAccess, we have enhanced our physician data.
Clinic expenses
Previously, under our long-term service agreements with physician practices, we
provided, among other things, facilities and management, administrative and
development services to the affiliated practices, and employed most
non-physician personnel of the affiliated practices, in return for specified
service fees. The operating expenses incurred by us included the salaries, wages
and benefits of personnel (other than physician owners and certain technical
medical personnel), supplies, expenses involved in administering the clinical
aspects of the affiliated practices and depreciation and amortization of assets.
We did not incur any clinic expenses for the year ended December 31, 2000 as we
are no longer obligated to pay clinic expenses under our management services
arrangements with physician practices.
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Litigation and other costs
During 2000 we continued to be involved in litigation with certain of our former
affiliated practices. For the year ended December 31, 2000, litigation and other
costs decreased $4.5 million to $.8 million from $5.3 million for the year ended
December 31, 1999. This decrease is due to the fact that during the latter part
of 1999 and in the first half of 2000, we reached settlement agreements with
several former affiliated practices.
General and administrative
General and administrative expenses decreased to approximately $8.7 million for
the year ended December 31, 2000, compared to $10.6 million for the year ended
December 31, 1999. This decrease of approximately $1.9 million is primarily due
to the reduction in employees during the latter part of 1999 as a result of the
substantial reduction in our physician practice management operations.
(Loss) gain on sale of assets and other
During the year ended December 31, 2000, we incurred a loss on sale of assets
and other, of approximately $699,000. This amount consisted primarily of a loss
of $352,000 on the settlement of a dispute with one of our former affiliated
practices, a loss of $275,000 on the sale of two MRI units, a gain of
approximately $142,000 primarily related to a litigation settlement with one of
our former affiliated practices, and a loss of approximately $214,000 related to
the writedown of certain assets.
Interest expense
We incurred interest expense of approximately $472,000 for the year ended
December 31, 2000, compared to interest expense of approximately $2.5 million
for the year ended December 31, 1999. This decrease reflects the reduction of
our indebtedness with our bank syndicate from a balance of approximately $11.9
million as of December 31, 1999 to a balance of approximately $1.4 million as of
December 31, 2000.
YEAR ENDED DECEMBER 31, 1999 COMPARED TO YEAR ENDED DECEMBER 31, 1998
REVENUE:
Ratings and advisory revenue
Ratings and advisory revenue was approximately $408,000 for the year ended
December 31, 1999. There was no corresponding revenue during 1998.
Physician practice services fees
Physician practice service fees were $28.9 million for the year ended December
31, 1999, compared to $76.6 million for 1998. The decrease was primarily the
result of the reduced service fees received by us due to the modification of
arrangements with four practices beginning January 1, 1999 and the restructuring
transaction which resulted in the modification of arrangements with nine
practices. In connection with the restructuring transaction, management services
obligations and service fees were reduced commencing April 1, 1999.
During the year ended December 31, 1999, we terminated our management services
agreements with several of our affiliated practices. As a result of these
terminations, we are no longer required to provide management services to these
practices. Included in service fee revenue for the year ended December 31, 1999
is $2.7 million related to revenue recognized as a result of these terminations.
Other
Other revenue for the year ended December 31, 1999 included $1.7 million of bad
debt recovery related to the settlement of a lawsuit.
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COSTS AND EXPENSES:
Clinic expenses and general and administrative expenses
For the year ended December 31, 1999, total clinic expenses were $15.2 million
compared to $55.2 million for the same period of 1998. This decrease was
primarily the result of the elimination of our obligation to pay clinic expenses
with respect to practices that were party to the transactions described above
under "Revenues - Service Fees." General and administrative expenses were $12.4
million for the year ended December 31, 1999, compared to $14.5 million for the
same period in 1998. The decrease in general and administrative expenses is
primarily the result of the reduction in corporate overhead due to the
transactions described above.
Production, content and product development costs
Beginning in 1999, we began incurring production, content and product
development costs related to the development and support of our healthgrades.com
and ProviderWeb.net Internet sites. These costs, which consist primarily of
salaries and benefits, consulting fees and other costs related to software
development, application development and operations expense, are expensed as
incurred. Total costs for the year ended December 31, 1999 were $1.2 million.
Statement of Financial Accounting Standards ("SFAS") No. 86, "Accounting for the
Costs of Computer Software to be Sold, Leased, or Otherwise Marketed," requires
the capitalization of certain software development costs subsequent to the
establishment of technological feasibility. Based upon our product development
process, technological feasibility is established upon the completion of a
working model. Costs incurred by us between completion of a working model and
the launch of our websites have not been significant.
Litigation and other costs