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UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
(Mark One)
[X] ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 [FEE REQUIRED]
For the fiscal year ended December 31, 2002
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OR
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 [NO FEE REQUIRED]
For the transition period from____________ to __________
Commission file number 0-8527
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DIALYSIS CORPORATION OF AMERICA
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(Exact name of registrant as specified in its charter)
FLORIDA 59-1757642
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(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
1344 ASHTON ROAD, HANOVER, MARYLAND 21076
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(Address of principal executive offices) (Zip Code)
Registrant's telephone number (410) 694-0500
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Securities registered under Section 12(b) of the Act:
None
Securities registered under Section 12(g) of the Exchange Act:
Title of each class
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common stock, $.01 par value
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes X No____
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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 definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ ]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Exchange Act Rule 12b-2). Yes [ ] No [X].
The aggregate market value of the voting stock held by non-affiliates of
the registrant computed by reference to the closing price at which the common
stock was sold on February 10, 2003 was approximately $5,545,000.
As of February 10, 2003, the Company had 3,887,344 shares of its common
stock outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
Part III incorporating information by reference from the Information
Statement in connection with the Registrant's Annual Meeting of Shareholders
anticipated to be on May 29, 2003.
Registrant's Registration Statement on Form SB-2 dated December 22, 1995,
as amended February 9, 1996, April 2, 1996 and April 15, 1996, Registration No.
33-80877-A Part II, Item 27, Exhibits, incorporated in Part IV of this Annual
Report,
Registrant's Annual Report, Form 10-K for the six years ended December 31,
2001, Part IV, Exhibits, incorporated in Part IV of this Annual Report.
Annual Reports for Registrant's Parent, Medicore, Inc., Forms 10-K for the
year ended December 31, 1994, Part IV, Exhibits, incorporated in Part IV of this
Annual Report.
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DIALYSIS CORPORATION OF AMERICA
Index to Annual Report on Form 10-K
Year Ended December 31, 2002
Page
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PART I
Item 1. Business . . . . . . . . . . . . . . . . . . . . . . . . 1
Item 2. Properties . . . . . . . . . . . . . . . . . . . . . . . 26
Item 3. Legal Proceedings. . . . . . . . . . . . . . . . . . . . 27
Item 4. Submission of Matters to a Vote of Security Holders . . 28
PART II
Item 5. Market for the Registrant's Common Equity and Related
Stockholder Matters . . . . . . . . . . . . . . . . . . 28
Item 6. Selected Financial Data . . . . . . . . . . . . . . . 29
Item 7. Management's Discussion and Analysis of Financial
Condition and Results of Operations . . . . . . . . . . 29
Item 7A. Quantitative and Qualitative Disclosure About
Market Risk . . . . . . . . . . . . . . . . . . . . . . . 36
Item 8. Financial Statements and Supplementary Data . . . . . 37
Item 9. Changes in and Disagreements with Accountants on
Accounting and Financial Disclosure . . . . . . . . . . . 37
PART III
Item 10. Directors and Executive Officers of the Registrant . . . 37
Item 11. Executive Compensation . . . . . . . . . . . . . . . . 38
Item 12. Security Ownership of Certain Beneficial Owners and
Management and Related Stockholder Matters. . . . . . 38
Item 13. Certain Relationships and Related Transactions . . . 38
Item 14. Controls and Procedures . . . . . . . . . . . . . . . 38
PART IV
Item 15. Exhibits, Financial Statement Schedules and Reports
on Form 8-K . . . . . . . . . . . . . . . . . . . . . . 39
PART I
CAUTIONARY NOTICE REGARDING FORWARD-LOOKING INFORMATION
The statements contained in this Annual Report on Form 10-K that are not
historical are forward-looking statements within the meaning of Section 27A of
the Securities Act of 1933, and Section 21E of the Securities Exchange Act of
1934. The Private Securities Litigation Reform Act of 1995 contains certain
safe harbors for forward-looking statements. Certain of the forward-looking
statements include management's expectations, intentions, beliefs and strategies
regarding the growth of our company and our future operations, the character and
development of the dialysis industry, anticipated revenues, our need for and
sources of funding for expansion opportunities and construction, expenditures,
costs and income, our business strategies and plans for future operations, and
similar expressions concerning matters that are not considered historical facts.
Forward-looking statements also include our statements regarding liquidity,
anticipated cash needs and availability, and anticipated expense levels in Item
7, "Management's Discussion and Analysis of Financial Condition and Results of
Operations." Words such as "anticipate," "estimate," "expects," "projects,"
"intends," "plans" and "believes," and words and terms of similar substance used
in connection with any discussions of future operating or financial performance
identify forward-looking statements. Such forward-looking statements, like all
statements about expected future events, are subject to substantial risks and
uncertainties that could cause actual results to materially differ from those
expressed in the statements, including the general economic, market and business
conditions, opportunities pursued or not pursued, competition, changes in
federal and state laws or regulations affecting the company and our operations,
and other factors discussed periodically in our filings. Many of the foregoing
factors are beyond our control. Among the factors that could cause actual
results to differ materially are the factors detailed in the risks discussed in
the "Risk Factors" section below. If any of such events occur or circumstances
arise that we have not assessed, they could have a material adverse effect upon
our revenues, earnings, financial condition and business, as well as the trading
price of our common stock, which could adversely affect your investment in the
company. Accordingly, readers are cautioned not to place too much reliance on
such forward-looking statements, which speak only as of the date made and which
we undertake no obligation to revise to reflect events after the date made.
ITEM 1. BUSINESS
HISTORICAL
We are a Florida corporation which was organized in 1976. We develop and
operate outpatient kidney dialysis centers that provide quality dialysis and
ancillary services to patients suffering from chronic kidney failure, generally
referred to as end stage renal disease, or ESRD. We also provide acute
inpatient dialysis treatments in hospitals, provide homecare services through
our wholly owned subsidiary, DCA Medical Services, Inc. and provide dialysis
center management services. We became a public company in 1977, and went
private in 1979. We began construction of new centers in 1995, and in 1996 once
again became a public company. In 1997, we sold our Florida dialysis
operations. We currently operate 16 outpatient dialysis facilities, including a
40% interest in a dialysis center in Ohio and an unaffiliated center in Georgia,
each of which we manage pursuant to management services agreements. We are in
the development stage for a center in Indiana and a center in Virginia.
Our principal executive offices are located at 1344 Ashton Road, Suite 201,
Hanover, Maryland 21076, and you may contact us as follows:
telephone: (410) 694-0500
fax: (410) 694-0596
email: severett@dialysiscorporation.com
GENERAL
Management believes the company distinguishes itself on the basis of
quality patient care, and a patient-focused, courteous, highly trained
professional staff. Our acute inpatient dialysis treatments are conducted under
contractual relationships currently with nine hospitals and medical centers
located in areas and states serviced by our outpatient dialysis facilities.
Homecare, sometimes referred to as method II home patient treatment, requires
the company to provide equipment and supplies, training, monitoring and
follow-up assistance to patients who are able to perform their treatments at
home.
Our growth depends primarily on the availability of suitable dialysis
centers for development or acquisition in appropriate and acceptable areas, and
our ability to develop new potential dialysis centers at costs within our
budget. We opened a dialysis center in the first quarter of 2002 in
Pennsylvania. We acquired a dialysis unit in Georgia in the second quarter of
2002. We opened two new centers in February 2003, one in Ohio and one in
Maryland. We are in the development stage for two new centers, one in Indiana
and one in Virginia.
Our medical service revenues are derived primarily from four sources: (i)
outpatient hemodialysis services (49%, 47% and 51% of medical services revenues
for 2002, 2001 and 2000, respectively); (ii) home peritoneal dialysis services,
including method II services (3%, 3%, and 6% of medical services revenues for
2002, 2001 and 2000, respectively); (iii) inpatient hemodialysis services for
acute patient care provided through agreements with hospitals and medical
centers (10%, 15% and 10% of medical services revenues for 2002, 2001 and 2000,
respectively); and (iv) ancillary services associated with dialysis treatments,
primarily the administration of erythropoietin ("EPO"), a bio-engineered protein
that stimulates the production of red blood cells (a deteriorating kidney loses
its ability to regulate red blood cell count, resulting in anemia), (38%, 35%
and 33% of medical services revenue for 2002, 2001 and 2000, respectively).
Dialysis is an ongoing and necessary therapy to sustain life for kidney dialysis
patients. ESRD patients normally receive 156 dialysis treatments each year.
Essential to our operations and income is Medicare reimbursement which is a
fixed rate determined by the Center for Medicare and Medicaid Services ("CMS")
of the Department of Health and Human Services ("HHS"). The level of our
revenues and profitability may be adversely affected by future legislation that
could result in rate cuts. Further, our operating costs tend to increase over
the years in excess of increases in the prescribed dialysis treatment rates.
From commencement of the Medicare ESRD program in 1972 through 1983, the ESRD
composite rate was unchanged, and was decreased over the years thereafter, which
was only minimally increased by Congress in January, 2000, which rate has
increased through 2002. Commercial third-party reimbursement rates, which have
increased as a percentage of our revenues over the last two years, are also
susceptible to reduction. See "Operations - Medicare Reimbursement." The
inpatient dialysis service agreements for treating acute kidney disease are not
subject to government fixed rates, but rather are negotiated with hospitals, and
typically the rates are at least equivalent or higher on a per treatment basis.
2
DIALYSIS INDUSTRY
Kidneys act as a filter removing harmful substances and excess water from
the blood, enabling the body to maintain proper and healthy balances of
chemicals and water. Chronic kidney failure, ESRD, results from chemical
imbalance and buildup of toxic chemicals, and is a state of kidney disease
characterized by advanced irreversible renal impairment. ESRD is a likely
consequence of complications resulting from diabetes, hypertension, advanced
age, and specific hereditary, cystic and urological diseases. ESRD patients, in
order to survive, must either obtain a kidney transplant, which procedure is
limited due to lack of suitable kidney donors and the incidence of rejection of
transplanted organs, or obtain regular dialysis treatment for the rest of their
lives.
Based upon information published by CMS, the number of ESRD patients
requiring dialysis treatments in the United States is approximately 286,000, and
continues to grow at a rate of approximately 5% a year. This is thought to be
attributable primarily to the aging of the population and greater patient
longevity as a result of improved dialysis technology. The statistics further
reflect approximately 4,200 dialysis facilities, and the current annual cost of
treating ESRD in the United States is approximately $22 billion.
ESRD Treatment Options
Treatment options for ESRD patients include (1) hemodialysis, performed
either at (i) an outpatient facility, or (ii) inpatient hospital facility, or
(iii) the patient's home; (2) peritoneal dialysis, either continuous ambulatory
peritoneal dialysis or continuous cycling peritoneal dialysis; and/or (3) kidney
transplant. A significant portion of ESRD patients receive treatments at
non-hospital owned outpatient dialysis facilities (according to CMS,
approximately 80%) with most of the remaining patients treated at home through
hemodialysis or peritoneal dialysis. Patients treated at home are monitored by
a designated outpatient facility.
The most prevalent form of treatment for ESRD patients is hemodialysis,
which involves the use of an artificial kidney, known as a dialyzer, to perform
the function of removing toxins and excess fluids from the bloodstream. This is
accomplished with a dialysis machine, a complex blood filtering device which
takes the place of certain functions of the kidney and also controls external
blood flow and monitors the toxic and fluid removal process. The dialyzer has
two separate chambers divided by a semi-permeable membrane, and simultaneously
with the blood circulating through one chamber, dialyzer fluid is circulated
through the other chamber. The toxins and excess fluid pass through the
membrane into the dialysis fluid. On the average, patients usually receive
three treatments per week with each treatment taking three to five hours.
Dialysis treatments are performed by teams of licensed nurses and trained
technicians pursuant to the staff physician's instructions.
Home hemodialysis treatment requires the patient to be medically suitable
and have a qualified assistant. Additionally, home hemodialysis requires
training for both the patient and the patient's assistant, which usually
encompasses four to eight weeks. Dialysis Corporation of America does not
currently provide home hemodialysis (non-peritoneal) services. The use of
conventional home hemodialysis has declined and is minimal due to the patient's
suitability and lifestyle, the need for the presence of a partner and a dialysis
machine at home, and the higher expense involved over continuous ambulatory
peritoneal dialysis.
3
A second home treatment for ESRD patients is peritoneal dialysis. There
are several variations of peritoneal dialysis, the most common being continuous
ambulatory peritoneal dialysis and continuous cycling peritoneal dialysis. All
forms of peritoneal dialysis use the patient's peritoneal (abdominal) cavity to
eliminate fluid and toxins from the patient. Continuous ambulatory peritoneal
dialysis utilizes dialysis solution infused manually into the patient's
peritoneal cavity through a surgically-placed catheter. The solution is allowed
to remain in the abdominal cavity for a three to five hour period and is then
drained. The cycle is then repeated. Continuous cycling peritoneal dialysis is
performed in a manner similar to continuous ambulatory peritoneal dialysis, but
utilizes a mechanical device to cycle the dialysis solution while the patient is
sleeping. Peritoneal dialysis is the third most common form of ESRD therapy
following center hemodialysis and renal transplant.
The third modality for patients with ESRD is kidney transplantation. While
this is the most desirable form of therapeutic intervention, the scarcity of
suitable donors and possibility of donor rejection limits the availability of
this surgical procedure as a treatment option.
BUSINESS STRATEGY
Dialysis Corporation of America has 26 years' experience in developing and
operating dialysis treatment facilities. Our first priority is to provide
quality patient care. We intend to continue to establish alliances with
physicians and hospitals, attempt to initiate dialysis service arrangements with
nursing homes and managed care organizations, and to continue to emphasize our
high quality patient care. Our smaller size allows us to focus on each
patient's individual needs while remaining sensitive to the physicians'
professional concerns.
We continue to actively seek and negotiate with physicians and others to
establish new outpatient dialysis facilities. We are in the development stages
for two new centers, one in Indiana, and one in Virginia. We are in different
phases of negotiations with physicians for potential new facilities in different
areas of the country.
Same Center Growth
We endeavor to increase same center growth by adding quality staff and
management and attracting new patients to our existing facilities. We seek to
accomplish this objective by rendering high caliber patient care in convenient,
safe and serene conditions. We believe that we have adequate space and stations
within our facilities to accommodate greater patient volume and maximize our
treatment potential. We experienced approximately 18% growth in the total
number of treatments for our dialysis centers in existence as of December 31,
2001, and a 22% growth in medical services revenue. Our peritoneal dialysis
patients approximately doubled in fiscal 2002.
Development and Acquisition of Facilities
One of the primary elements in developing or acquiring facilities is
locating an area with an existing patient base under the current treatment of
local nephrologists, since the proposed facility would primarily be serving such
patients. Other considerations in evaluating development of a dialysis facility
or a proposed acquisition are the availability and cost of qualified and skilled
personnel, particularly nursing and technical staff, the size and condition of
the facility and its equipment, the atmosphere for the patients, the area's
demographics and population growth estimates, state regulation of dialysis and
4
healthcare services, and the existence of competitive factors such as existing
outpatient dialysis facilities within reasonable proximity to the proposed
center.
Expansion is approached primarily through the development of our own
dialysis facilities. Acquisition of existing outpatient dialysis centers is a
faster but more costly means of growth. The primary reason for physicians
selling or participating in the development of independently owned centers is
the avoidance of administrative and financial responsibilities, freeing their
time to devote to their professional practice. Other motivating forces are the
physician's desire to be part of a larger organization allowing for economies of
scale and the ability to realize a return on their investment if they have an
interest in the dialysis entity.
To construct and develop a new facility ready for operations takes an
average of six to eight months, and approximately 12 months or longer to
generate income, all of which are subject to variables based on location, size
and competitive elements. Some of our centers are in the developmental stage,
since they have not reached the point where the patient base is sufficient to
generate and sustain earnings. See Item 7, "Management's Discussion and
Analysis of Financial Condition and Results of Operations." Construction of a
15 station facility typically costs in a range of $600,000 to $750,000 depending
on location, size and related services to be provided by the proposed facility.
Acquisition of existing facilities is substantially more expensive, and is
usually based primarily upon the patient base and earnings, and to a lesser
extent, location and competition. Any significant expansion, whether through
acquisition or development of new facilities, is dependent upon existing funds
or financing from other sources.
Inpatient Services
Management is also seeking to increase acute dialysis care contracts with
hospitals for inpatient dialysis services. These contracts are sought with
hospitals in areas serviced by our facilities. Hospitals are willing to enter
into such inpatient care arrangements to eliminate the administrative burdens of
providing dialysis services to their patients as well as the expense involved in
maintaining dialysis equipment, supplies and personnel. We believe that these
arrangements are beneficial to our operations, since the contract rates are
individually negotiated with each hospital and are not fixed by government
regulation as is the case with Medicare reimbursement fees for ESRD patient
treatment. In 2002, we entered into new acute inpatient dialysis services
agreements with hospitals in Georgia.
There is no certainty as to when any additional centers or service
contracts will be implemented, or the number of dialysis stations or patient
treatments such may involve, or if such will ultimately be profitable. There is
no assurance that we will be able to continue to enter into favorable
relationships with physicians who would become medical directors of such
proposed dialysis facilities, or that our company will be able to acquire or
develop any new dialysis centers within a favorable geographic area. Newly
established dialysis centers, although contributing to increased revenues, also
adversely affect results of operations due to start-up costs and expenses and
due to their having a smaller and slower developing patient base. See "Business
Strategy," "Operations" and "Competition" of Item 1, "Business," and Item 7,
"Management's Discussion and Analysis of Financial Condition and Results of
Operations."
5
OPERATIONS
Location, Capacity and Use of Facilities
We operate 16 outpatient dialysis facilities in Pennsylvania, New Jersey,
Georgia, Ohio and Maryland, including an Ohio dialysis center in which we hold a
40% interest and which we operate in conjunction with the majority owner, the
medical director of that center, and an unaffiliated center in Georgia which we
manage. These dialysis facilities have a total designed capacity of 230
licensed stations. The owner of the facility we manage in Georgia is involved
in litigation and subject to its success in that litigation and continuing to be
the sole owner of that facility, we have given the owner a put option to sell to
us, and we have a call option to purchase, all the assets of that Georgia
dialysis facility. Each of the options are exercisable for two years commencing
September 11, 2003. The put is not exercisable unless that Georgia dialysis
facility has $100,000 in pre-tax income. Upon exercise the owner would receive
a 20% interest in our Georgia facility and the remainder in cash, determined on
a formula based upon a multiple of EBITDA.
We own and operate our centers through subsidiaries of which a majority are
100% owned, with the balance owned in conjunction with the medical directors of
each center who hold interests ranging from 20% to 49%. We have a minority 40%
interest in a center in Ohio which we manage. The Lemoyne, Pennsylvania, and
one of the South Georgia dialysis facilities are located on properties owned by
Dialysis Corporation of America and leased to those subsidiaries. Our Ohio
dialysis center is leased from a corporation owned by the medical director of
that facility who also, together with his wife's corporation, owns 40% of the
center. See Item 2, "Properties." We also manage an un-affiliated dialysis
center in Georgia.
Additionally, the company provides acute care inpatient dialysis services
to nine hospitals in areas serviced by our dialysis facilities, and we are in
the process of negotiating additional acute dialysis services contracts in the
areas surrounding our facilities and in tandem with development of future
proposed sites. Each of our dialysis facilities has the capacity to provide
training, supplies and on-call support services for home peritoneal patients.
Dialysis Corporation of America provided approximately 80,000 hemodialysis
treatments in 2002.
The company estimates that on average its centers were operating at
approximately 50% of capacity as of December 31, 2002, based on the assumption
that a dialysis center is able to provide up to three treatments a day per
station, six days a week. We believe we can increase the number of dialysis
treatments at our centers without making additional capital expenditures.
Operations of Dialysis Facilities
Our company's dialysis facilities are designed specifically for outpatient
hemodialysis and generally contain, in addition to space for dialysis
treatments, a nurses' station, a patient weigh-in area, a supply room, water
treatment space used to purify the water used in hemodialysis treatments, a
dialyzer reprocessing room (where, with both the patient's and physician's
consent, the patient's dialyzer is sterilized for reuse), staff work area,
offices and a staff lounge. Our facilities also have a designated area for
training patients in home dialysis. Each facility also offers amenities for the
patients, such as a color television with headsets for each dialysis station, to
ensure the patients are comfortable and relaxed.
6
Our company maintains a team of dialysis specialists to provide for the
individual needs of each patient. In accordance with participation requirements
under the Medicare ESRD program, each facility retains a medical director
qualified and experienced in the practice of nephrology and the administration
of a renal dialysis facility. See "Physician Relationships" below. Each
facility is overseen by a nurse administrator who supervises the daily
operations and the staff, which consists of registered nurses, licensed
practical nurses, patient care technicians, a part-time social worker to assist
the patient and family to adjust to dialysis treatment and to provide help in
financial assistance and planning, and a part-time registered dietitian. These
individuals supervise the patient's needs and treatments. See "Employees"
below. The company must continue to attract and retain skilled nurses and other
staff, competition for whom is intense.
The company's facilities offer high-efficiency conventional hemodialysis,
which, in our experience, provides the most viable treatment for most patients.
We consider our dialysis equipment to be both modern and efficient, providing
state of the art treatment in a safe and comfortable environment.
Our facilities also offer home dialysis, primarily continuous ambulatory
peritoneal dialysis and continuous cycling peritoneal dialysis. Training
programs for continuous ambulatory peritoneal dialysis or continuous cycling
peritoneal dialysis generally encompass two to three weeks at the dialysis
facility, and such training is conducted by the facility's home training nurse.
After the patient completes training, they are able to perform treatment at home
with equipment and supplies provided by the company.
Inpatient Dialysis Services
The company presently provides inpatient dialysis services to nine
hospitals in Ohio, Pennsylvania and Georgia, under agreements either with the
company or with one of our subsidiaries in the area. The agreements are for a
term ranging from one to five years, with automatic renewal terms, subject to
termination by notice of either party. Inpatient services are typically
necessary for patients with acute kidney failure resulting from trauma or
similar causes, patients in the early stages of ESRD, and ESRD patients who
require hospitalization for other reasons.
Ancillary Services
Our dialysis facilities provide certain ancillary services to ESRD
patients, including the administration of certain prescription drugs, such as
EPO upon a physician's prescription. EPO is a bio-engineered protein which
stimulates the production of red blood cells and is used in connection with
dialysis to treat anemia, a medical complication frequently experienced by ESRD
patients. EPO decreases the necessity for blood transfusions in ESRD patients.
There is only one supplier of EPO in the United States without alternative
products available to dialysis treatment providers. Although we have a good
relationship with the manufacturer and have not experienced any problems in
receipt of our supply of EPO, any loss or limitation of supply of this product
could have a material adverse effect on our operating revenue and income.
Physician Relationships
An integral element to the success of a facility is its association with
area nephrologists. A dialysis patient generally seeks treatment at a facility
near the patient's home where the patient's nephrologist has an established
practice. Consequently, we rely on our ability to develop affiliations with
area nephrologists who may provide quality dialysis care and patients.
7
The conditions of a facility's participation in the Medicare ESRD program
mandate that treatment at a dialysis facility be under the general supervision
of a medical director who is a physician. We retain by written agreement
qualified physicians or groups of qualified physicians to serve as medical
directors for each of our facilities. Generally, the medical directors are
board eligible or board certified in internal medicine by a professional board
specializing in nephrology and have had at least 12 months of experience or
training in the care of dialysis patients at ESRD facilities. The medical
directors are typically a source of patients treated at the particular center
served. Our dialysis centers are operated through subsidiaries, either
corporations or limited liability companies. The medical directors of seven of
our centers have acquired an ownership interest in the center they service
ranging from 20% to 49%. Our Ohio affiliate is owned 60% by the physician. We
make every effort to comply with federal and state regulations concerning our
relationship with the physicians and the medical directors treating patients at
our facilities (see "Government Regulation" below), and we know of no
limitations on physician ownership in our subsidiaries.
Agreements with medical directors typically range from a term of five to 10
years, with renewal provisions, usually two renewal options each for five years.
Each agreement specifies the duties, responsibilities and compensation of the
medical director. Under each agreement, the medical director or professional
association maintains his, her or its own medical malpractice insurance. The
agreements also provide for non-competition in a limited geographic area
surrounding that particular dialysis center during the term of the agreement and
upon termination for a limited period. However, the agreements do not prohibit
physicians providing services at our facilities from providing direct patient
care services at other locations; and consistent with the federal and state law,
such agreements do not require a physician to refer patients to our dialysis
centers. Usually, physician's professional fees for services are billed directly
to the patient or to government payment authorities by the treating physician
and paid directly to the physician or the professional association.
The company's ability to establish a dialysis facility in a particular area
is significantly geared to the availability of a qualified physician or
nephrologist to serve as the medical director. The loss of a medical director
who could not be readily replaced would have a material adverse effect on the
operations of that facility, most likely resulting in closure. Compensation of
medical directors is separately negotiated for each facility and generally
depends on competitive factors such as the local market, the physician's
qualifications and the size of the facility.
Quality Assurance
Dialysis Corporation of America implements a quality assurance program to
maintain and improve the quality of dialysis treatment and care we provide to
our patients in each facility. Quality assurance activities involve the ongoing
examination of care provided, the identification of therapy deficiencies, the
need for any necessary improvements in the quality of care, and evaluation of
improved technology. Specifically, this program requires each center's staff,
including its medical director and/or nurse administrator to regularly review
quality assurance data and initiate programs for improvement, including dialysis
treatment services, equipment, technical and environmental improvements, and
staff-patient and personnel relationships. These evaluations are in addition to
assuring regulatory compliance with CMS and the Occupational Safety and Health
Administration. Our Vice President of Clinical Services, who is a certified
nephrology nurse, oversees this program in addition to ensuring that the company
meets federal and state compliance requirements for dialysis centers. See
"Government Regulation" below.
8
Patient Revenues
A substantial amount of the fees for outpatient dialysis treatments are
funded under the ESRD Program established by the federal government under the
Social Security Act, and administered in accordance with rates set by CMS. A
majority of dialysis patients are covered under Medicare. The balance of the
outpatient charges are paid by private payors including the patient's medical
insurance, private funds or state Medicaid plans. Pennsylvania, New Jersey,
Georgia, Maryland and Ohio, presently the states in which we operate, provide
Medicaid or comparable benefits to qualified recipients to supplement their
Medicare coverage.
Under the ESRD Program, payments for dialysis services are determined
pursuant to Part B of the Medicare Act which presently pays 80% of the allowable
charges for each dialysis treatment furnished to patients. The maximum payments
vary based on the geographic location of the center. The remaining 20% may be
paid by Medicaid if the patient is eligible, from private insurance funds or the
patient's personal funds. If there is no secondary payor to cover the remaining
20%, Medicare may reimburse part of the balance as part of our annual cost
report filings. Medicare and Medicaid programs are subject to regulatory
changes, statutory limitations and government funding restrictions, which may
adversely affect our revenues and dialysis services payments. See "Medicare
Reimbursement" below.
The inpatient dialysis services are paid for by the hospital pursuant to
contractual pre-determined fees for the different dialysis treatments.
Medicare Reimbursement
The company is reimbursed primarily by Medicare under a prospective
reimbursement system for chronic dialysis services, and by third party payors
including Medicaid and commercial insurance companies. Each of our dialysis
facilities is certified to participate in the Medicare program. Under the
Medicare system, the reimbursement rates are fixed in advance and limit the
allowable charge per treatment, but provide us with predictable and recurring
per treatment revenues and allows us to retain any profit earned. An
established composite rate set by CMS governs the Medicare reimbursement
available for a designated group of dialysis services, including dialysis
treatments, supplies used for such treatments, certain laboratory tests and
medications. The Medicare composite rate is subject to regional differences.
The company receives reimbursement for outpatient dialysis services
provided to Medicare-eligible patients at rates that are currently between
approximately $121 and $136 per treatment, depending upon regional wage
variations. The Medicare reimbursement rate is subject to change by
legislation. An average ESRD reimbursement rate is approximately $124 per
treatment for outpatient dialysis services. The current maximum composite
reimbursement rate is $144 per treatment. Congress has requested studies of the
ESRD composite rate structure as well as other related ancillary services to
determine whether the composite rate is subject to an annual inflationary
increase. To date this issue is still pending.
Other ancillary services and items are eligible for separate reimbursement
under Medicare and are not part of the composite rate, including certain drugs
such as EPO, the allowable rate of which is currently $10 per 1000 units for
amounts in excess of three units per patient per year, and certain
physician-ordered tests provided to dialysis patients. Approximately 26% of our
medical services revenues in 2002 was derived from providing dialysis patients
with EPO. CMS limits the EPO reimbursement based upon patients' hematocrit
levels. Other ancillary services, mostly other drugs, account for approximately
an additional 10% of our medical services revenues. We submit claims monthly
and are usually paid by Medicare within 14 days of the submission.
9
There have been a variety of proposals to Congress for Medicare reform. We
are unable to predict what, if any, future changes may occur in the rate of
reimbursement. Any reduction in the Medicare composite reimbursement rate could
have a material adverse effect on our business, revenues and net earnings.
Medicaid Reimbursement
Medicaid programs are state administered programs partially funded by the
federal government. These programs are intended to provide coverage for
patients whose income and assets fall below state defined levels and who are
otherwise uninsured. The programs also serve as supplemental insurance programs
for the Medicare co-insurance portion and provide certain coverages (e.g., oral
medications) that are not covered by Medicare. State regulations generally
follow Medicare reimbursement levels and coverages without any co-insurance
amounts. Certain states, however, require beneficiaries to pay a monthly share
of the cost based upon levels of income or assets. Pennsylvania and New Jersey
have Medical Assistance Programs comparable to Medicaid, with primary and
secondary insurance coverage to those who qualify. We are a licensed ESRD
provider in New Jersey, Ohio, Pennsylvania and Georgia.
SOURCES OF MEDICAL SERVICES REVENUE
Year Ended December 31,
-------------------------
2002 2001
---- ----
Medicare 49% 48%
Medicaid and Comparable Programs 9% 11%
Hospital inpatient dialysis services 10% 15%
Commercial and private payors 32% 26%
Management Services
Dialysis Corporation of America has a management services agreement with
each subsidiary, with its 40% owned affiliate DCA of Toledo, LLC, and with an
unaffiliated Georgia dialysis center providing them with administrative and
management services, including but not limited to assisting in procuring capital
equipment, preparing budgets, bookkeeping, accounting, data processing, and
other corporate based information services, materials and human resource
management, billing and collection, and accounts receivable and payable
processing. These services are provided for a percentage of net revenues of
each particular facility.
CORPORATE INTEGRITY PROGRAM
Dialysis Corporation of America has developed a Corporate Integrity Program
to assure we continue to achieve our goal of providing the highest level of care
and service in a professional and ethical manner consistent with applicable
federal and state laws and regulations. This program is intended to reinforce
our management's, employees' and professional affiliates' awareness of their
responsibilities to comply with applicable laws in the increased and complex
regulatory environment relating to the operations of our company. This should
benefit the overall care and services for our dialysis patients, assure our
operations are in compliance with the law, which should also assist in operating
in a cost-effective manner, and accordingly, benefit our shareholders.
10
The board of directors has established an audit committee consisting of
three independent members of the board who oversee audits, accounting, financial
reporting, and who have established procedures for receipt, retention and
resolution of complaints relating to those areas (none to date), among other
responsibilities. The audit committee operates under a charter providing for
its detailed responsibilities.
Our company has developed a Compliance Program to assure compliance with
fraud and abuse laws, enhance communication of information, and provide a
mechanism to quickly identify and correct any problems that may arise. This
Compliance Program supplements and enhances our company's existing policies,
including those applicable to claims submission, cost report preparation,
internal audit and human resources.
As part of our Corporate Integrity Program, the company has also developed
a Code of Ethics and Business Conduct covering management and all employees to
assure all persons affiliated with our company and our operations act in an
ethical and lawful manner. The Code of Ethics and Business Conduct covers
relationships among and between affiliated persons, patients, payors, and
relates to information processing, compliance, workplace conduct, environmental
practices, training, education, development, among other areas. In its
commitment to delivering quality care to dialysis patients, the company has
mandated rigorous standards of ethics and integrity.
The Corporate Integrity Program is implemented and upgraded to provide a
highly professional work environment and lawful and efficient business
operations to better serve our patients and our shareholders.
POTENTIAL LIABILITY AND INSURANCE
Participants in the health care industry are subject to lawsuits based upon
alleged negligence, many of which involve large claims and significant defense
costs. We are very proud of the fact that, although we have been involved in
chronic and acute kidney dialysis services for approximately 26 years, the
company has never been subject to any suit relating to its dialysis operations.
The company initiated and is involved in a breach of contract dispute. See Item
3, "Legal Proceedings." We currently have general and umbrella liability
insurance, as well as professional and products liability. Our insurance
policies provide coverage on an "occurrence" basis and are subject to annual
renewal. A hypothetical successful claim against us in excess of our insurance
coverage could have a material adverse effect upon our business and results of
operations. The medical directors supervising our dialysis operations and other
physicians practicing at the facilities are required to maintain their own
professional malpractice insurance coverage.
GOVERNMENT REGULATION
General
Regulation of healthcare facilities, including dialysis facilities, is
extensive, with legislation continually proposed relating to safety, maintenance
of equipment and proper records, quality assurance programs, reimbursement
rates, confidentiality of medical records, licensing and other areas of
operations. Each of the dialysis facilities must be certified by CMS, and we
must comply with certain rules and regulations established by CMS regarding
charges, procedures and policies. Each dialysis center is also subject to
periodic inspections by federal and state agencies to determine if their
operations
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meet the appropriate regulatory standards. Our operations are also subject to
the Occupational Safety and Health Administration, known as OSHA, relating to
workplace safety and employee exposure to blood and other potentially infectious
material.
Many states have eliminated the requirement to obtain a certificate of need
prior to the establishment or expansion of a dialysis center. There are no
certificate of need requirements in the states in which we are presently
operating.
Our record of compliance with federal, state and local governmental laws
and regulations remains excellent. Regulation of healthcare facilities,
including dialysis centers, is extensive with legislation continually proposed
relating to safety, reimbursement rates, licensing and other areas of
operations. We are unable to predict the scope and effect of any changes in
government regulations, particularly any modifications in the reimbursement rate
for medical services or requirements to obtain certification from CMS.
Enforcement, both privately and by the government, has become more stringent,
particularly in attempts to combat fraud and waste. Since inception in 1976, we
have maintained all of our licenses, including our Medicare and Medicaid and
equivalent certifications. The loss of any licenses and certifications would
have a material adverse effect on our company, revenues and earnings.
We regularly review legislative and regulatory changes and developments and
will restructure a business arrangement if we determine such might place our
operations in material noncompliance with such law or regulation. See "Fraud
and Abuse" and "Stark II" below. To date, none of our business arrangements
with physicians, patients or others have been the subject of investigation by
any governmental authority. No assurance can be given, however, that our
business arrangements will not be the subject of future investigation or
prosecution by federal or state governmental authorities which could result in
civil and/or criminal sanctions.
Fraud and Abuse
Certain aspects of our business are subject to federal and state laws
governing financial relationships between health care providers and referral
sources and the accuracy of information submitted in connection with
reimbursement. These laws, collectively referred to as "fraud and abuse" laws,
include the Anti-Kickback Statute, Stark II, other federal fraud laws, and
similar state laws.
The fraud and abuse laws apply because our medical directors have financial
relationships with the dialysis facilities and also refer patients to those
facilities for items and services reimbursed by federal and state health care
programs. Financial relationships with patients who are federal program
beneficiaries also implicate the fraud and abuse laws. Other financial
relationships which bear scrutiny under the fraud and abuse laws include
relationships with hospitals, nursing homes, and various vendors.
Anti-Kickback Statutes
The federal Anti-Kickback Statute prohibits the knowing and willful
solicitation, receipt, offer, or payment of any remuneration, directly or
indirectly, in return for or to induce the referral of patients or the ordering
or purchasing of items or services payable under the Medicare, Medicaid, or
other federal health care program.
Sanctions for violations of the Anti-Kickback Statute include criminal
penalties, such as imprisonment and fines of up to $25,000 per violation, and
civil penalties, of up to $50,000 per violation, and exclusion from Medicare,
Medicaid, and other federal health care programs.
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The language of the Anti-kickback Statute has been construed broadly by the
courts. Over the years, the federal government has published regulations that
established "safe harbors" to the Anti-Kickback Statute. An arrangement that
meets all of the elements of the safe harbor is immunized from prosecution under
the Anti-Kickback Statute. The failure to satisfy all elements, however, does
not necessarily mean the arrangement violates the Anti-Kickback Statute.
Some states have enacted laws similar to the Anti-Kickback Statute. These
laws may apply regardless of payor source, may include criminal and civil
penalties, and may contain exceptions that differ from the safe harbors to the
Anti-Kickback Statute.
As required by Medicare regulations, each of our dialysis centers is
supervised by a medical director, who is a licensed nephrologist or otherwise
qualified physician. The compensation of our company's medical directors, who
are independent contractors, is fixed by a medical director agreement and
reflects competitive factors in each respective location, the size of the
center, and the physician's professional qualifications. The medical director's
fee is fixed in advance, typically for periods of one to five years and does not
take into account the volume or value of any referrals to the dialysis center.
Eight of our outpatient dialysis centers are owned jointly between the company
and physicians, usually professional associations, who hold a minority position.
Our Ohio affiliate is majority-owned by a physician. These physicians, except
in one instance, also act as the medical directors for those facilities. We
attempt to structure our arrangements with our physicians to comply with the
Anti-Kickback Statute. Many of these physicians' patients are treated at our
facilities. We believe that the value of the minority interest in our
subsidiaries acquired by physicians has been consistent with the fair market
value of the cash consideration paid, assets transferred to, and/or services
performed by such physicians for the subsidiary, and there is no intent to
induce referrals to our facilities. See "Business - Physician Relationships"
above. We have never been challenged under the fraud and abuse laws and believe
our arrangements with our medical directors are in material compliance with
applicable law. Several states in which we operate have laws prohibiting
physicians from holding financial interests in various types of medical
facilities. If these statutes are interpreted to apply to relationships we have
with our medical directors who hold joint ownership in our dialysis facilities,
we would restructure our relationship with these physicians but could be subject
to penalties.
Management believes that the Anti-Kickback Statute and other fraud and
abuse laws are primarily directed at abusive practices that increase the
utilization and cost of services covered by governmentally funded programs. The
dialysis services provided by the company generally cannot by their very nature
be over-utilized, since dialysis treatment is not elective, and is only
indicated when there is temporary or permanent kidney failure. Medical
necessity is capable of objective documentation, drastically reducing the
possibility of over utilization. There are safe harbors for certain
arrangements. Relationships with medical director ownership of minority
interests in our facilities satisfy many but not all of the criteria for the
safe harbor, and there can be no assurance that these relationships will not
subject us to investigation or prosecution by enforcement agencies. In an
effort to further our compliance with the law, we have adopted a corporate
compliance plan that addresses medical necessity and medical chart audits to
confirm medical necessity of referrals.
With respect to our inpatient dialysis services, we provide hospitals with
dialysis services, including qualified nursing and technical personnel,
supplies, equipment and technical services. In certain instances, medical
directors of a company facility who have a minority interest in that facility
may refer patients to hospitals with which we have an inpatient dialysis
services arrangement. Although these arrangements may implicate the federal
fraud and abuse laws, we believe our acute inpatient hospital services are in
compliance with the law. See "Stark II" below.
13
We endeavor in good faith to comply with all governmental regulations.
However, there can be no assurance that we will not be required to change our
practices or experience a material adverse effect as a result of any such
potential challenge. We cannot predict the outcome of the rule-making process,
enforcement procedures, or whether changes in the safe harbor rules will affect
our position with respect to the Anti-Kickback Statute, but we do believe we
will remain in compliance.
Stark II
The Physician Ownership and Referral Act, known as Stark II, bans physician
referrals, with certain exceptions, for certain "designated health services" as
defined in the statute to entities in which a physician or an immediate family
member has a "financial relationship" which includes an ownership or investment
interest in, or a compensation arrangement between the physician and the entity.
For purposes of Stark II, "designated health services" include, among others,
clinical laboratory services, durable medical equipment, parenteral and enteral
nutrients, home health services, and inpatient and outpatient hospital services.
Dialysis treatments are not included in the statutory list of "designated health
services."
This ban is subject to several exceptions including personal service
arrangements, employment relationships and group practices meeting specific
conditions. If Stark II is found to be applicable to the facility, the entity
is prohibited from claiming payment for such services under the Medicare or
Medicaid programs, is liable for the refund of amounts received pursuant to
prohibited claims, is subject to civil penalties of up to $15,000 per referral
and can be excluded from participation in the Medicare and Medicaid programs.
HHS' regulations to Stark II became effective in January, 2002. These
regulations exclude from covered designated health services and referral
prohibitions, services included in the ESRD composite rate and EPO and other
drugs required as part of dialysis treatments under certain conditions. Also
excluded from "inpatient hospital services" are dialysis services provided by a
hospital not certified by CMS to provide outpatient dialysis services, which
would exclude our inpatient hospital services agreements from Stark II.
Equipment and supplies used in connection with home dialysis are excluded from
the Stark II definition of "durable medical equipment." HHS is revisiting its
regulations and intends to issue additional regulations to the Stark
legislation. We are unable to predict the extent or nature of such revised
and/or new HHS regulations, which may negatively impact our operations or
require us to restructure different aspects of our business.
Phase I of the federal Stark II regulations and the legislative history of
Stark II indicates that the purpose behind the Stark II prohibition on physician
referral is to prevent Medicare and Medicaid program and patient abuse. Since
dialysis is a necessary medical treatment for those with temporary or permanent
kidney failure it is not highly susceptible to that type of abuse. We believe,
based upon the proposed rules and the industry practice, that Congress did not
intend to include dialysis services and the services and items provided by the
company incident to dialysis services within the Stark II prohibitions.
If the provisions of Stark II were found to apply to our arrangements
however, we believe that we would be in compliance. We compensate our
nephrologist-physicians as medical directors of our dialysis centers pursuant to
medical director agreements, which we believe meet the exception for personal
service arrangements under Stark II. Non-affiliated physicians who send their
patients to or treat their patients at any of our facilities do not receive any
compensation from the company.
14
Medical directors of our facilities which hold a minority investment
interest in those subsidiaries may refer patients to hospitals with which the
company has an acute inpatient dialysis service arrangement. Stark II may be
interpreted to apply to these types of interests. We believe that our
contractual arrangements with hospitals for acute care inpatient dialysis
services are in compliance with Stark II.
If CMS or any other government entity otherwise interprets the Stark II
regulations, we may be required to restructure certain existing compensation or
investment agreements with our medical directors, or, in the alternative, to
refuse to accept referrals for designated health services from certain
physicians. Stark II prohibits Medicare or Medicaid reimbursement of items or
services provided pursuant to a prohibited referral, and imposes substantial
civil monetary penalties on facilities which submit claims for reimbursement.
If such were to be the case, we could be required to repay amounts reimbursed
for drugs, equipment and services that CMS determines to have been furnished in
violation of Stark II, in addition to substantial civil monetary penalties,
which could adversely affect our operations and future financial results. We
believe that if Stark II is interpreted by CMS or any other governmental entity
to apply to our arrangements, it is possible that we could be permitted to bring
our financial relationships with referring physicians into material compliance
with the provisions of Stark II on a prospective basis. However, prospective
compliance may not eliminate the amounts or penalties, if any, that might be
determined to be owed for past conduct, and there can be no assurance that such
prospective compliance, if permissible, would not have a material adverse effect
on the company.
Health Insurance Reform Act
Congress has taken action in recent legislative sessions to modify the
Medicare program for the purpose of reducing the amounts otherwise payable from
the program to healthcare providers. Future legislation or regulations may be
enacted that could significantly modify the ESRD program or substantially reduce
the amount paid to the company for its services, or impose further regulation or
restrictions on healthcare providers. Further, statutes or regulations may be
adopted which demand additional requirements in order for us to be eligible to
participate in the federal and state payment programs. Any new legislation or
regulations may adversely affect our business and operations, as well as our
competitors.
The Health Insurance Portability and Accountability Act of 1996, known as
HIPAA, provided for health insurance reforms which included a variety of
provisions important to healthcare providers, such as significant changes to the
Medicare and Medicaid fraud and abuse laws, which were expanded. HIPAA
established two programs that coordinate federal, state and local healthcare
fraud and abuse activities, known as the "Fraud and Abuse Control Program" and
the "Medicare Integrity Program." The Fraud and Abuse Control Program is
conducted jointly by HHS and the Attorney General while the Medicare Integrity
Program enables HHS, the Department of Justice and the FBI to monitor and review
Medicare fraud.
Under these programs, these governmental entities undertake a variety of
monitoring activities previously left to providers to conduct, including medical
utilization and fraud review, cost report audits and secondary payor
determinations. The Incentive Program for Fraud and Abuse Information rewards
Medicare recipients 10% of the overpayment up to $1,000 for reporting Medicare
fraud and abuse. HIPAA further created several new Health Care Fraud Crimes and
extended their applicability to private health plans.
15
As part of the administrative simplification provisions of HIPAA, final
regulations governing electronic transactions relating to healthcare information
were published by HHS. These regulations require a party transmitting or
receiving healthcare transactions electronically to send and receive data in
single format. This regulation applies to our submissions and processing of
healthcare claims and also applies to many of our payors. We are in the process
of developing the single format transmission, which is required to be in place
by October 16, 2003.
HHS also published regulations relating to the exchange of healthcare
information to comply with HIPAA privacy standards. HHS' privacy rules cover
all individually identifiable healthcare information known as "protected health
information" and apply to healthcare providers, health plans, and healthcare
clearing houses, known as "covered entities." Covered entities must be in
compliance no later than April 14, 2003. The regulations are quite extensive
and complex, but basically require companies to: (i) obtain patient
acknowledgement of receipt of a notice of privacy practices; (ii) obtain patient
authorization before certain uses and disclosures of protected health
information; (iii) respond to patient requests for access to their healthcare
information; and (iv) develop policies and procedures with respect to uses and
disclosures of protected health information. HHS proposed changes to these
privacy regulations to correct unintended consequences that threatened patients'
access to quality health care.
We have developed and continue to refine our HIPAA compliance plan, and
expect to be in material compliance by April 14, 2003. These regulations are
complex, and require our continued efforts, which add to our administrative and
financial obligations, to insure the privacy of protected health information.
It is anticipated that the HIPAA privacy rules will be further amended, which
could require our company to spend additional resources to comply.
HIPAA increases significantly the civil and criminal penalties for offenses
related to healthcare fraud and abuse. HIPAA increased civil monetary penalties
from $2,000 plus twice the amount for each false claim to $10,000 plus three
times the amount for each false claim. HIPAA expressly prohibits four
practices, namely (1) submitting a claim that the person knows or has reason to
know is for medical items or services that are not medically necessary, (2)
transferring remuneration to Medicare and Medicaid beneficiaries that is likely
to influence such beneficiary to order or receive items or services, (3)
certifying the need for home health services knowing that all of the coverage
requirements have not been met, and (4) engaging in a pattern or practice of
upcoding claims in order to obtain greater reimbursement. However, HIPAA
creates a tougher burden of proof for the government by requiring that the
government establish that the person "knew or should have known" a false or
fraudulent claim was presented. The "knew or should have known" standard is
defined to require "deliberate ignorance or reckless disregard of the truth or
falsity of the information," thus merely negligent conduct or billing errors
should not violate the Civil False Claims Act.
As for criminal penalties, HIPAA adds healthcare fraud, theft,
embezzlement, obstruction of investigations and false statements to the general
federal criminal code with respect to federally funded health programs, thus
subjecting such acts to criminal penalties. Persons convicted of these crimes
face up to 10 years imprisonment and/or fines. Moreover, a court imposing a
sentence on a person convicted of federal healthcare offense may order the
person to forfeit all real or personal property that is derived from the
criminal offense. The Attorney General is also provided with a greatly expanded
subpoena power under HIPAA to investigate fraudulent criminal activities, and
federal prosecutors may utilize asset freezes, injunctive relief and forfeiture
of proceeds to limit fraud during such an investigation.
Although we believe we substantially comply with currently applicable state
and federal laws and regulations and to date have not had any difficulty in
maintaining our licenses and Medicare and Medicaid authorizations, the
healthcare service industry is and will continue to be subject to substantial
16
and continually changing regulation at the federal and state levels, and the
scope and effect of such and its impact on our operations cannot be predicted.
No assurance can be given that our activities will not be reviewed or challenged
by regulatory authorities. We continue to work with our healthcare counsel in
reviewing our policies and procedures and make every effort to comply with HIPAA
and other applicable federal and state laws and regulations.
Any loss by the company of its various federal certifications, its approval
as a certified provider under the Medicare or Medicaid programs or its licenses
under the laws of any state or other governmental authority from which a
substantial portion of our revenues are derived or a change resulting from
healthcare reform, a reduction of dialysis reimbursement or a reduction or
complete elimination of coverage for dialysis services, would have a material
adverse effect on our business.
Environmental and Health Regulations
Our dialysis centers are subject to hazardous waste laws and non-hazardous
medical waste regulation. Most of our waste is non-hazardous. CMS requires
that all dialysis facilities have a contract with a licensed medical waste
handler for any hazardous waste. We also follow OSHA's Hazardous Waste
Communications Policy, which requires all employees to be knowledgeable of the
presence of and familiar with the use and disposal of hazardous chemicals in the
facility. Medical waste of each facility is handled by licensed local medical
waste sanitation agencies who are primarily responsible for compliance with such
laws.
There are a variety of regulations promulgated under OSHA relating to
employees exposed to blood and other potentially infectious materials requiring
employers, including dialysis centers, to provide protection. We adhere to
OSHA's protective guidelines, including regularly testing employees and patients
for exposure to hepatitis B and providing employees subject to such exposure
with hepatitis B vaccinations on an as-needed basis, protective equipment, a
written exposure control plan and training in infection control and waste
disposal.
OTHER REGULATION
There are also federal and state laws prohibiting anyone from presenting
false claims or fraudulent information to obtain payments from Medicare,
Medicaid and other third-party payors, such as the federal False Claims Act.
These laws provide for both criminal and civil penalties, exclusion from
Medicare and Medicaid participation, repayment of previously collected amounts
and other financial penalties. The submission of Medicare cost reports and
requests for payment by dialysis centers are covered by these laws. The False
Claims Act has been used to prosecute for fraud, for coding errors, billing for
services not provided, and billing for services at a higher than allowable
billing rate. We believe we have the proper internal controls and procedures
for issuance of accounts and complete cost reports and payment requests. Such
reports and requests are subject to a challenge under these laws.
Certain states have anti-kickback legislation and laws dealing with
self-referral provisions similar to the federal Anti-Kickback Statute and Stark
II. We have no reason to believe that we are not in compliance with such state
laws.
Dialysis Corporation of America has developed a Compliance Program as part
of its Corporate Integrity Program, designed to assure compliance with fraud and
abuse laws and regulations. See above under the caption "Corporate Integrity
Program." The establishment and implementation of our compliance program,
coupled with our existing policies and internal controls, could have the effect
of
17
mitigating any civil or criminal penalties for potential violations, none of
which we have had in our existence since 1976. We will continue to use our best
efforts to fully comply with federal and state laws, regulations and
requirements as applicable to its operations and business.
COMPETITION
The dialysis industry is very competitive. There are numerous providers
who have dialysis facilities in the same areas as the company. Many are owned
by major corporations, which operate dialysis facilities regionally, nationally
and internationally. Our operations are small in comparison with those
corporations. Some of our major competitors are public companies, including
Fresenius Medical Care, Inc., A.G., Gambro Healthcare, Inc., Renal Care Group,
Inc. and DaVita, Inc. Most of these companies have substantially greater
financial resources, many more centers, patients and services than our company,
and by virtue of such may have an advantage over us in competing for
nephrologists and acquisitions of dialysis facilities in areas and markets we
target. Fresenius and Gambro also manufacture and sell dialysis equipment and
supplies, which may provide them with an even greater competitive edge.
Competition for acquisitions has increased the cost of acquiring existing
dialysis facilities. We also face competition from hospitals and physicians
that operate their own dialysis facilities.
Competitive factors most important in dialysis treatment are quality of
care and service, convenience of location and pleasantness of the environment.
Another significant competitive factor is the ability to attract and retain
qualified nephrologists. These physicians are a substantial source of patients
for the dialysis centers, are required as medical directors of the dialysis
facility for it to participate in the Medicare ESRD program, and are responsible
for the supervision of the medical operations of the center. Our medical
directors usually are subject to non-compete restrictions within a limited
geographic area from the center they administer. Additionally, there is always
substantial competition for obtaining qualified, competent nurses and technical
staff at reasonable labor costs.
Based upon advances in surgical techniques, immune suppression and
computerized tissue typing, cross-matching of donor cells and donor organ
availability, renal transplantation in lieu of dialysis is a competitive factor.
It is presently the second most commonly used modality in ESRD therapy. With
greater availability of kidney donations, currently the most limiting factor,
renal transplantations could become a more significant competitive aspect to the
dialysis treatments we provide. Although kidney transplant is a preferred
treatment for ESRD, certain patients who have undergone such transplants have
lost their transplant function and returned to dialysis treatments.
EMPLOYEES
As of January, 2003, our company had 191 full time employees, including
nurse administrators, licensed practical nurses, registered nurses, technical
service manager, technical specialists, patient care technicians, clerical
employees, and social workers and dietitians. We retain 11 part-time employees
consisting of registered nurses, patient care technicians and clerical
employees. We also utilize 61 "per diem" personnel to supplement staffing.
We retain 10 independent contractors who include social workers and
dietitians at our Pennsylvania and New Jersey and certain Georgia facilities.
These are in addition to the medical directors, who supervise patient treatment
at each facility, and the social workers and dietitians at certain of our
Georgia facilities, who are independent contractors.
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We believe our relationship with our employees is good and we have not
suffered any strikes or work stoppages. None of our employees is represented by
any labor union. We are an equal opportunity employer.
RISK FACTORS
We have listed below certain of the risk factors relating to our company
and our securities. There may be other risks and uncertainties that the company
may face of which we are currently unaware which could also adversely affect our
business, operations and financial condition. If any of such risks or
uncertainties arise, or the risks listed below occur, our company, operations,
earnings and financial condition could be materially harmed, which, in turn,
would most likely adversely affect the trading price of our common stock. Any
such event could seriously impact a shareholder's investment in the company.
UNTIL FISCAL 2001, WE HAD EXPERIENCED OPERATIONAL LOSSES
Since 1989, when we sold four of our five dialysis centers, we had
experienced operational losses. Not until fiscal 2001 did we reflect net
income. We initiated an expansion program in 1995, opening two new dialysis
centers that year, and to date operate and/or manage 16 centers in New Jersey,
Pennsylvania, Georgia, Ohio and Maryland, and we have two facilities in the
development stage in Indiana and Virginia. Some of our dialysis centers have
generated losses since their commencement of operations and, although typical to
newly established facilities, some continue to generate losses after 12 months
of operations. This is due to operational costs and time needed to reach full
capacity of dialysis treatments. See Item 7, "Management's Discussion and
Analysis of Financial Condition and Results of Operations."
DIALYSIS OPERATIONS ARE SUBJECT TO EXTENSIVE GOVERNMENT REGULATION
Our dialysis operations are subject to extensive federal and state
government regulations, which include:
- licensing requirements for each dialysis facility
- patient referral prohibitions
- false claims prohibitions for health care reimbursement and other
fraud and abuse regulations
- record keeping requirements
- health, safety and environmental compliance
- expanded protection of the privacy and security of personal medical
data
- establishing standards for the exchange of electronic health
information; electronic transactions and code sets; unique identifiers
for providers, employers, health plans and individuals
Many of these laws and regulations are complex and open to a variety of
interpretations. If we are forced to change our method of operations because of
these regulations, our earnings, financial condition and business might be
adversely affected. In addition, any violation of these governmental
19
regulations could involve substantial civil and criminal penalties and fines,
revocation of licensure, closure of a facility, and exclusion from participating
in Medicare and Medicaid programs. Any loss of federal or state certifications
or licenses would adversely impact our business.
OUR ARRANGEMENTS WITH OUR PHYSICIAN MEDICAL DIRECTORS DO NOT MEET THE SAFE
HARBOR PROVISIONS OF FEDERAL AND STATE LAWS, AND MAY SUBJECT US TO GREATER
GOVERNMENTAL SCRUTINY
Neither our arrangements with the medical directors of our facilities nor
the minority ownership interests of referring physicians in certain of our
dialysis facilities meet all of the requirements of published safe harbors to
the illegal remuneration provisions of the Social Security Act and similar state
laws. These laws impose civil and criminal sanctions on persons who receive or
make payments for referring a patient for treatment that is paid for in whole or
in part by Medicare, Medicaid or similar state programs. Transactions that do
not fall within the safe harbor may be subject to greater scrutiny by
enforcement agencies.
OUR OPERATIONS ARE SUBJECT TO MEDICARE AND MEDICAID AUDITS WITH CONCURRENT
POTENTIAL CIVIL AND CRIMINAL PENALTIES FOR FAILURE TO COMPLY
We are subject to periodic audits by the Medicare and Medicaid programs,
which have various rights and remedies if they assert that we have overcharged
the programs or failed to comply with program requirements, none of which we
have done. Rights and remedies available to these programs include repayment of
any amounts alleged to be overpayments or in violation of program requirements,
or making deductions from future amounts due to us. These programs may also
impose fines, criminal penalties or program exclusions.
In the ordinary course of our business, we receive notices of deficiencies
for failure to comply with various regulatory requirements. We review such
notices and take appropriate corrective action. In most cases, we and the
reviewing agency will agree upon the measures that will bring the center or
services into compliance. In some cases or upon repeat violations, none of
which we have experienced, the reviewing agency may take various adverse actions
against a provider, including but not limited to:
- the imposition of fines;
- suspension of payments for new admissions to the center; and
- in extreme circumstances, decertification from participation in the
Medicare or Medicaid programs and revocation of a center's license.
Any such regulatory actions could adversely affect a provider's ability to
continue to operate, to provide certain services, and/or the eligibility to
participate in Medicare or Medicaid programs or to receive payments from other
payors. Further, actions against one center may subject our other centers
deemed under common control or ownership to adverse remedies.
THERE HAS BEEN INCREASED GOVERNMENTAL FOCUS AND ENFORCEMENT WITH RESPECT TO
ANTI-FRAUD INITIATIVES AS THEY RELATE TO HEALTHCARE PROVIDERS
State and federal governments are devoting increased attention and
resources to anti-fraud initiatives against healthcare providers. Recent
legislation expanded the penalties for heath care fraud, including broader
provisions for the exclusion of providers from the Medicaid program. We have
20
established policies and procedures that we believe are sufficient to ensure
that our facilities will operate in substantial compliance with these anti-fraud
and abuse requirements. While we believe that our business practices are
consistent with Medicare and Medicaid criteria, those criteria are often vague
and subject to change and interpretation. Anti-fraud actions, however, could
have an adverse effect on our financial position and results of operations.
OUR REVENUES AND FINANCIAL STABILITY ARE DEPENDENT ON FIXED REIMBURSEMENT RATES
UNDER MEDICARE AND MEDICAID
During 2002, approximately 49% of our patient revenues was derived from
Medicare reimbursement and 9% of our patient revenues was derived from Medicaid
and equivalent programs. Decreases in Medicare and Medicaid and equivalent
rates and programs for our dialysis treatments would adversely affect our
revenues and profitability. Furthermore, operating costs tend to increase over
the years without comparable increases in the prescribed dialysis treatment
rates.
DECREASES IN REIMBURSEMENT PAYMENTS FROM THIRD-PARTY, NON-GOVERNMENT PAYORS
COULD ADVERSELY AFFECT OUR EARNINGS
Any reduction in the rates paid by private insurers, hospitals and other
non-governmental third-party organizations would adversely affect our business.
Alternatively, any change in patient coverage, such as Medicare eligibility as
opposed to higher private insurance coverage, would result in a reduction of
revenue. We estimate approximately 42% of our patient revenues for 2002 was
obtained from sources other than Medicare or Medicaid and equivalent programs.
We generally charge non-governmental organizations for dialysis treatment rates
which exceed the fixed Medicare and Medicaid and equivalent rates. Any
limitation on our ability to charge these higher rates, which may be affected by
expanded coverage by Medicare under the fixed corporate rate, or expanded
coverage of dialysis treatments by managed care organizations, which commonly
have lower rates than we charge, could adversely affect our business, results of
operations, and financial condition.
ANY DECREASE IN THE AVAILABILITY OF OR THE REIMBURSEMENT RATE OF EPO WOULD
REDUCE OUR REVENUES AND EARNINGS
EPO, the bio-engineered drug used for treating anemia in dialysis patients,
is currently available from a single manufacturer, Amgen, Inc. On January 1,
2003, Amgen increased the price of EPO, and there is no assurance there will not
be further price increases. There currently is no alternative drug available to
us for dialysis patient treatment of anemia. The available supply could be
delayed or reduced, whether by Amgen, unforeseen circumstances, or through
excessive demand. This would adversely impact our revenues and profitability,
since approximately 26% of our medical revenues in 2002 were based upon the
administration of EPO to our dialysis patients. Most of our EPO reimbursement
is from government programs. We are unsure whether there will be an EPO
reimbursement rate reduction, but if such occurs, it would adversely affect our
revenues and earnings.
OUR ABILITY TO GROW IS SUBJECT TO OUR RESOURCES AND AVAILABLE LOCATIONS
Other than one center acquisition in 2002, expansion of our operations has
been through construction of dialysis facilities. This is due to the
substantial costs involved in an acquisition, usually
21
valued on a per-patient basis. We seek areas with qualified and cost-effective
nursing and technical personnel, with a sufficient population to sustain a
dialysis facility. These opportunities are limited and we compete with much
larger dialysis companies for appropriate locations. Construction through
commencement of operations generally takes four to six months and sometimes
longer. Once the facility is operable, it generates revenues, but usually does
not operate at full capacity, and may generate losses for approximately 12
months or longer. Our growth strategy based on construction also involves the
risks of our ability to identify suitable locations to develop additional
facilities. Those we do develop may never achieve profitability, and additional
financing may not be available to finance future development.
Our inability to acquire or develop facilities in a cost-effective manner
would adversely affect our ability to expand our business and our profitability.
Growth places significant demands on our financial and management skills.
Inability on our behalf to meet the challenges of expansion and to manage any
such growth would have an adverse effect on our management, results of
operations and financial condition.
OUR ATTEMPT TO EXPAND THROUGH DEVELOPMENT OR ACQUISITION OF DIALYSIS FACILITIES
WHICH ARE NOT CURRENTLY IDENTIFIED ENTAILS RISKS WHICH SHAREHOLDERS AND
INVESTORS WILL NOT HAVE A BASIS TO EVALUATE
We expand generally through seeking an appropriate location considering the
patient base, availability of a physician nephrologist to be our medical
director, and a skilled work force. Construction and equipment costs for a new
dialysis facility with 15 stations typically range from $600,000 to $750,000.
The cost of acquiring a center is usually much greater. We cannot ensure that
we will be successful in developing or acquiring dialysis facilities, or
otherwise successfully expanding our operations. We are negotiating with
nephrologists and others to establish new dialysis centers, but we cannot ensure
these negotiations will result in the development of new centers. Furthermore,
there is no basis for shareholders and investors to evaluate the specific merits
or risks of any potential development or acquisition of dialysis facilities.
WE DEPEND ON PHYSICIAN REFERRALS, AND THE LIMITATION OR CESSATION OF SUCH
REFERRALS WOULD ADVERSELY IMPACT OUR REVENUES AND EARNINGS
Our dialysis facilities and those centers we seek to develop are dependent
upon referrals of ESRD patients for treatment by physicians specializing in
nephrology. Generally, the nephrologist or medical professional association of
physicians supervising a particular dialysis center's operations, known as a
medical director of that facility, account for most of the patient base. There
is no requirement for these physicians to refer their patients to us, and they
are free to refer patients to any other conveniently located dialysis facility.
We may not be able to renew or otherwise negotiate compensation under the
medical director agreements with our medical director physicians which could
terminate the relationship, and without a suitable medical director replacement
could result in closure of the facility. Accordingly, the loss of these key
referring physicians at a particular center could have a material adverse effect
on the operations of the center and could adversely affect our revenues and
earnings.
Some of the referring physicians own minority interests in certain of our
dialysis facilities. If these interests are deemed to violate applicable
federal or state law, these physicians may be forced to dispose of their
ownership interests. We are unable to predict how this would affect our
relationship with these referring physicians or their patients, who may seek
treatment elsewhere, which would have an adverse effect on our business.
22
INDUSTRY CHANGES COULD ADVERSELY AFFECT OUR BUSINESS
Healthcare organizations, public and private, continue to change the manner
in which they operate and pay for services. Our business is designed to
function within the current healthcare financing and reimbursement system. In
recent years, the healthcare industry has been subject to increasing levels of
government regulation of reimbursement rates and capital expenditures, among
other things. In addition, proposals to reform the healthcare system have been
considered by Congress, and still remain a priority issue. Any new legislative
initiatives, if enacted, may further increase government regulation of or other
involvement in healthcare, lower reimbursement rates and otherwise change the
operating environment for healthcare companies. We cannot predict the
likelihood of those events or what impact they may have on our earnings,
financial condition or business.
OUR BUSINESS IS SUBJECT TO SUBSTANTIAL COMPETITION, AND WE MUST COMPETE
EFFECTIVELY, OTHERWISE OUR GROWTH COULD SLOW
We are operating in a very competitive environment in terms of operation,
development and acquisition of existing dialysis centers. Our competition comes
from other dialysis centers, many of which are owned by much larger companies,
and from hospitals. The dialysis industry is rapidly consolidating. There are
some very large dialysis companies competing for the acquisition of existing
dialysis centers and the development of relationships with referring physicians.
Most of our competition have much greater financial resources, more dialysis
facilities and a larger patient base.
Competition also comes from technological advances that provide more
effective dialysis treatments than the services provided by our centers.
We experience competition from physicians who open their own dialysis
facilities. Competition for existing centers has increased the costs of
acquiring such facilities. Competition is also intense for qualified nursing
and technical staff as well as for nephrologists with an adequate patient base.
Management can provide no assurance our company can compete effectively, and
thereby continue its growth.
MEDICORE, INC., OUR PARENT, WHICH OWNS 62% OF OUR COMPANY, HAS SOME COMMON
OFFICERS AND DIRECTORS, WHICH PRESENTS THE POTENTIAL FOR CONFLICTS OF INTEREST
Medicore owns 62% of our company, and is able to elect all of our directors
and otherwise control our management and operations. Such control is also
complemented by the fact that Thomas K. Langbein is Chairman of the Board and
Chief Executive Officer of both our company and Medicore, of which company he is
also the President; and Daniel R. Ouzts is Vice President and Treasurer of both
companies. Neither Mr. Langbein nor Mr. Ouzts devotes full time to our
management. The costs of executive salaries and other shared corporate overhead
for these companies are allocated on the basis of time spent. The amount of
expenses charged by Medicore to our company for 2002 amounted to approximately
$200,000.
Additionally, there have been past and there are current transactions
between our company and Medicore and their directors, including loans and
insurance coverage. We advanced funds to Medicore for working capital
requirements until Medicore sold Techdyne, Inc., another of its public
23
subsidiaries, in June, 2001. We also loaned Medicore $2,200,000 for its
financing and investment in Linux Global Partners, Inc. ("LGP"), a private
company involved in developing a Linux desktop product and investing in Linux
software companies, and which company is in its developmental stages. Medicore
repaid that loan in May and June, 2001, with approximately $294,000 of accrued
interest.
Since Medicore holds a majority interest in our company, there exists the
potential for conflicts between Medicore and us, and the responsibilities of our
management to our shareholders could conflict with the responsibilities owed by
management of Medicore to its shareholders.
THE LOSS OF CERTAIN EXECUTIVE PERSONNEL WITHOUT RETAINING QUALIFIED REPLACEMENTS
COULD ADVERSELY AFFECT MANAGEMENT OF OUR BUSINESS, AND OUR REVENUES AND EARNINGS
COULD DECLINE
We are dependent upon the services of our executive officers, Thomas K.
Langbein, Chairman of the Board and Chief Executive Officer, who also holds
those positions with our parent, Medicore, of which company he is also
President, and Stephen W. Everett, director and President of the company. Mr.
Langbein has been involved with Medicore since 1971, when his investment banking
firm, Todd & Company, Inc., took it public, and with our company since it became
a public company in 1977 (originally a wholly-owned subsidiary of Medicore
organized in 1976). Mr. Everett joined us in November, 1998 as Vice President,
became Executive Vice President in June, 1999, and President on March 1, 2000.
Mr. Everett has been involved in the healthcare industry for 23 years. Mr.
Langbein has an employment agreement with the parent through August 21, 2003,
which provides for non-competition within 20 miles of Medicore's primary
operations, with an option for Medicore to pay $4,000 per month for 12 months
for additional non-competition provisions. Mr. Everett has an employment
agreement with the company through December 31, 2005 with a one-year
non-competition provision within the United States. It would be very difficult
to replace the services of these individuals, whose services, individually and
certainly combined, if lost would adversely affect our company, its operations
and earnings, and most likely as a result, the trading price of our common
stock. There is no key-man life insurance on any of our officers.
THERE IS A POSSIBILITY OF CONTINUED VOLATILITY IN OUR SECURITY PRICE
Our common stock trades on the Nasdaq SmallCap Market. Over the years the
market price of the common stock has significantly fluctuated. During the last
two years, the common stock has been as high as $7.35 in the second quarter of
2002 and as low as $.23 in the second quarter of 2001. On February 19, 2003,
the closing price of the common stock was $3.64. The market price of our common
stock could fluctuate substantially based upon announcements concerning our
company, such as operating results, government regulatory changes, technological
innovations, or information concerning our competitors. In addition, security
prices fluctuate widely for reasons unrelated to operations, usually general
political, and worldwide and domestic economic conditions, and the stock
market's reaction. These fluctuations and events could adversely affect the
market price of our common stock.
POSSIBLE DELISTING AND RISKS OF LOW PRICED STOCKS
Our common stock trades on the Nasdaq SmallCap Market. There are certain
criteria for continued listing on the Nasdaq SmallCap Market, known as
maintenance requirements. Failure to satisfy any one of these maintenance
listing requirements could result in our securities being delisted from the
Nasdaq SmallCap Market. These criteria include two active market makers,
24
maintenance of $2,500,000 of stockholders' equity (or a market capitalization of
$35,000,000 or a net income of $500,000 for our most recently completed fiscal
year or in two of the last three most recently completed fiscal years), a
minimum bid price for our common stock of $1.00, and at least 500,000 publicly
held shares with a market value of at least $1,000,000, among other criteria.
For SmallCap companies, as is our company, if a deficiency occurs for a period
of 30 consecutive business days, the particular company is notified by Nasdaq
and has 180 days to achieve compliance. Following this grace period, issuers
that demonstrate compliance with the core initial listing standards of the
SmallCap Market, which is either net income of $750,000 (determined from the
most recently completed fiscal year or two of the most recently completed fiscal
years), stockholders' equity of $5,000,000, or market capitalization of
$50,000,000, will be afforded an additional 180-day grace period within which to
regain compliance. If the company is unable to demonstrate compliance, the
security is subject to delisting. The security might be able to trade on the OTC
Bulletin Board, a less transparent trading market which may not provide the same
visibility for the company or liquidity for its securities, as does the Nasdaq
SmallCap Market. As a consequence, an investor may find it more difficult to
dispose of or obtain prompt quotations as to the price of our securities, and
may be exposed to a risk of decline in the market price of the common stock.
In November, 2000 and again in April, 2001, we received notification from
the Nasdaq Listing Qualifications Department of the Nasdaq Stock Market that our
common stock failed to maintain a closing bid price greater than or equal to
$1.00 per share for 30 consecutive days, as required by Marketplace Rule
4310(c)(4). In each instance, we maintained our Nasdaq SmallCap Market listing.
In December, 2000, we received notice from Nasdaq's Listing Qualifications
Department that our common stock failed to maintain a market value of public
float greater than $1,000,000 as required under Marketplace Rule 4310(c)(7),
which was ultimately complied with. These situations dealing with the trading
market are beyond our control. There can be no assurance that some other
listing maintenance criteria will not become deficient, whether within or beyond
our control, and without a timely cure, could cause our common stock to be
delisted from the Nasdaq SmallCap Market.
SHARES ELIGIBLE FOR FUTURE SALE BY OUR CURRENT SHAREHOLDERS MAY ADVERSELY AFFECT
OUR STOCK PRICE
Our parent company owns 2,410,622 shares of our common stock, or 62% of our
company. Officers and directors of our company and parent own approximately
290,000 shares of common stock and 516,000 options exercisable into an
additional 516,000 shares of common stock. Most of the shares held by these
officers and directors are not freely tradable and are restricted from public
sale. However, a registration statement covering the sale of shares held by
these officers, directors and Medicore, may be effected, since these are
controlling persons of the company, and all their shares, including those
issuable upon exercise of their options, would then be eligible for resale in
the public market without restriction. Also, the officers' and directors'
common stock now owned, as well as the shares obtainable upon exercise of their
options, upon satisfying the conditions of Rule 144 under the Securities Act,
may be sold without complying with the registration provisions of the Securities
Act. These conditions include holding the shares for one year from acquisition,
volume limits of selling every three months an amount of shares which does not
exceed the greater of 1% of the outstanding common stock, or the average weekly
volume of trading as reported by Nasdaq during the four calendar weeks prior to
the sale, the filing of a Form 144, our company continuing to timely file its
reports under the Exchange Act, and the sales are sold directly to a market
maker or otherwise sold through a typical broker's transaction, with normal
commissions and no prearranged solicitations of the purchase order. Our
tradable common stock, known as the float, is approximately 1,187,222 shares,
and the approximately 290,000 shares of common stock directly owned by the
officers and directors of our company and parent represents approximately 24% of
the float, and with the options for 516,000 additional shares, would represent
approximately 47% of the float. Accordingly, the sale by such officers and
25
directors, whether through a registration statement or under Rule 144, may have
an adverse affect on the market price of our common stock, and may hamper our
ability to manage subsequent equity or debt financing. If these shareholders
sell substantial amounts of their common stock of our company, including shares
issued upon the exercise of their options, into the public market, the market
price of our common stock could fall.
ITEM 2. PROPERTIES
Dialysis Corporation of America owns three properties, one located in
Lemoyne, Pennsylvania, a second in Easton, Maryland, and a third in Valdosta,
Georgia. The Maryland property consists of approximately 7,500 square feet, most
of which is leased to a competitor under a 10-year lease through June 30, 2009
with two renewals of five years each. The lease is guaranteed by the tenant's
parent company. We use approximately 600 square feet at that property for an
administrative office.
The Lemoyne property of approximately 15,000 square feet houses one of our
dialysis centers of approximately 5,400 square feet, approved for 17 dialysis
stations with space available for expansion under a five year lease through
December 22, 2003, with two renewals of five years each. We use approximately
4,000 square feet for administrative offices.
We paid off the remaining balance on first mortgages on our Easton,
Maryland and Lemoyne, Pennsylvania properties in December 2002. The Easton,
Maryland property has a mortgage to secure a $700,000 development loan to our
Vineland, New Jersey subsidiary at an annual interest rate of 1% over the prime
rate, maturing in December, 2007, which loan we guaranty. This loan had a
remaining principal balance of approximately $662,000 at December 31, 2002. See
Item 7, "Management's Discussions and Analysis of Financial Condition and
Results of Operations" and Note 2 to "Notes to Consolidated Financial
Statements."
We acquired property in Valdosta, Georgia in 2000, and constructed a
dialysis facility there. This property is subject to a five year $788,000
mortgage obtained in April, 2001 with interest at prime plus with a minimum
rate of 6% maturing in April, 2006. This mortgage had a remaining principal
balance of approximately $753,000 at December 31, 2002. We lease approximately
6,000 square feet to one of our dialysis centers in Valdosta for $90,600 per
year under a 10-year lease, with two renewals of five years.
For our Cincinnati, Ohio facility, we purchased the property and recently
completed the construction of an approximately 5,000 square foot dialysis
facility at a cost of approximately $740,000, including approximately $75,000 of
tenant improvements. In February, 2003, we sold the property to a corporation
owned by the medical director of that facility with that corporation owning 20%
of our Cincinnati subsidiary. The medical director's wife owns a company which
also holds a 20% interest in the Cincinnati facility. The corporation owned by
the medical director is leasing the facility to our Cincinnati subsidiary under
a 10 year lease with two consecutive five-year renewals with rental escalation
commencing five years from the commencement date, which was February 6, 2003,
based upon a percentage increase in the CPI for the Cincinnati, Ohio area. Our
60% owned Cincinnati subsidiary issued to us a five-year $75,000 promissory note
for the tenant improvements we provided. The note must be paid prior to that
subsidiary paying any other of its indebtedness, and earlier if at such time the
subsidiary has cash flow or other proceeds available for distribution to its
members under its operating agreement, subject to tax payment distributions
which have a priority. Should our subsidiary sell additional limited liability
interests, the proceeds will first be used to repay the note.
Dialysis Corporation of America leases space at its Lemoyne, Pennsylvania
property to unrelated parties for their own business activities unrelated to
dialysis services. One lease was for approximately 1,500 square feet through
June 30, 2003. A second lease is for approximately 530 square feet on a
month-to-month basis.
26
In addition to our Lemoyne, Pennsylvania, Valdosta, Georgia and Cincinnati,
Ohio facilities, we presently have 11 other dialysis centers that lease their
respective facilities from unaffiliated parties, most under five to ten year
leases, usually with two renewals of five years each, for space ranging from
approximately 3,000 to 7,000 square feet. The lease in Homerville, Georgia was
for two years to September 30, 2002, for approximately 1,700 square feet. The
lease is now on a month-to-month basis. We sublet a minimal amount of space at
two of our dialysis facilities to the physicians who are our medical directors
at those facilities for their medical offices. The subleases are on a
commercially reasonable basis and are structured to comply with the safe harbor
provisions of the "Anti-Kickback Statute." See Item 1, "Business - Government
Regulation - Fraud and Abuse."
We lease approximately 2,300 square feet in Hanover, Maryland for executive
offices pursuant to a five year lease with one five year renewal option.
We are developing a new center in Indiana and a new center in Virginia and
are actively pursuing the additional development and acquisition of dialysis
facilities in other areas which would entail the acquisition or lease of
additional property.
We construct most of our dialysis facilities, which have state-of-the-art
equipment and facilities. The dialysis stations are equipped with modern
dialysis machines under a November, 1996 master lease/purchase agreement with a
$1.00 purchase option at the end of the term. Payments under the various
schedules extend through August, 2007. See Note 2 to "Notes to Consolidated
Financial Statements."
None of our dialysis facilities are operating at full capacity. See
"Business - Operations - Location, Capacity and Use of Facilities" above. The
existing dialysis facilities could accommodate greater patient volume,
particularly if we increase hours and/or days of operation without adding
additional dialysis stations or any additional capital expenditures. We also
have the ability and space at most of our facilities to expand to increase
patient volume subject to obtaining appropriate governmental approval.
We maintain executive offices at 1344 Ashton Road, Suite 201, Hanover,
Maryland 21076, and administrative offices at 27 Miller Street, Suite 2,
Lemoyne, Pennsylvania 17043, as well as at our parent's facility at 2337 West
76th Street, Hialeah, Florida 33016.
ITEM 3. LEGAL PROCEEDINGS
In July, 2002, the company initiated an action against Lawrence Weber
Medical, Inc. d/b/a Omnicare Renal Services in the United States District Court
for the Middle District of Pennsylvania asserting a breach by Omnicare of a
Consulting Services Agreement. The company is seeking damages, costs of the
legal action, and other relief as the court deems equitable. Omnicare filed an
answer and counterclaims against the company and its subsidiary alleging
breaches of the Consulting Services Agreement and related agreements between the
parties seeking damages. The company believes the counterclaims are without
merit. Discovery has recently commenced. The company intends to vigorously
prosecute its claims and defend the counterclaims. This action is in the
discovery stage, with a trial date scheduled for September, 2003.
27
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matter was submitted during the fourth quarter of our fiscal year ended
December 31, 2002 to a vote of security holders through the solicitation of
proxies or otherwise. Since Medicore owns approximately 62% of our equity,
proxies are not solicited, but rather we provide our shareholders with an
Information Statement and an Annual Report. The Information Statement provides
similar information to shareholders as does a proxy statement, except there is
no solicitation of proxies. Shareholders who are entitled to vote at the annual
meeting scheduled for May 29, 2003, which are those shareholders of record on
April 11, 2003, will receive an Information Statement which provides certain
information relating to "Directors and Executive Officers," "Executive
Compensation," "Security Ownership of Certain Beneficial Owners and Management
and Related Stockholder Matters," and "Certain Relationships and Related
Transactions," and which information is incorporated by reference into this
Annual Report on Form 10-K for the year ended December 31, 2002. See Part III
of this Annual Report, Items 10, 11, 12 and 13.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON STOCK AND RELATED STOCKHOLDER MATTERS
Our common stock commenced trading on the Nasdaq SmallCap Market on April
17, 1996, under the symbol "DCAI." The table below indicates the high and low
bid prices for our common stock for the four quarters for the years ended
December 31, 2001 and 2002 as reported by Nasdaq.
BID PRICE
---------
2001 HIGH LOW
---- ---- ---
1st Quarter $1.03 $ .50
2nd Quarter 1.90 .23
3rd Quarter 2.10 1.02
4th Quarter 4.20 1.28
BID PRICE
---------
2002 HIGH LOW
---- ---- ---
1st Quarter $3.80 $ 2.80
2nd Quarter 7.35 2.35
3rd Quarter 4.50 2.00
4th Quarter 4.38 2.90
_______________
At February 10, 2003, the high and low sales prices of our common stock
were $4.00 and $3.89, respectively.
Bid prices represent prices between brokers, and do not include retail
mark-ups, mark-downs or any commission, and may not necessarily represent actual
transactions.
At February 10, 2003, we had 110 shareholders of record as reported by our
transfer agent. We have been advised by ADP, which organization holds
securities for banks and depositories, that there are approximately 812
beneficial owners of our common stock.
28
Dialysis Corporation of America has never paid a dividend and does not
anticipate that it will pay dividends in the foreseeable future. The board of
directors intends to retain earnings, for use in the business. Future dividend
policy will be at the discretion of the board of directors, and will depend on
our earnings, capital requirements, financial condition and other similar
relevant factors. Until 2001, we had experienced operational losses. See Item
I, "Business - Risk Factors," Item 6, "Selected Financial Data," and Item 7,
"Management's Discussion and Analysis of Financial Condition and Results of
Operations."
ITEM 6. SELECTED FINANCIAL DATA
The following selected financial data for the five years ended December 31,
2002 is derived from the audited consolidated financial statements of the
company. The data should be read in conjunction with the consolidated financial
statements, related notes and other financial information included herein.
CONSOLIDATED STATEMENTS OF OPERATIONS DATA
(in thousands except per share amounts)
Years Ended December 31,
--------------------------------------------------------
2002 2001 2000 1999 1998
---- ---- ---- ---- ----
Revenues . . . . . . . . . . $25,607 $19,441 $9,247 $5,866 $4,004
Net income (loss) . . . . . . 1,242 784 (356) (668) (204)
Earnings (loss) per share
Basic . . . . . . . . . .32 .20 (.09) (.19) (.06)
Diluted . . . . . . . . . .29 .20 (.09) (.19) (.06)
CONSOLIDATED BALANCE SHEET DATA
(in thousands)
December 31,
-------------------------------------------------------
2002 2001 2000 1999 1998
---- ---- ---- ---- ----
Working capital . . . . . . . . . . . . . . $ 4,593 $ 3,883 $ 3,869 $ 4,152 $ 5,115
Total assets . . . . . . . . . . . . . . . 17,154 15,683 11,177 9,036 9,349
Intercompany receivable from
Medicore (non-current portion). . . . . . --- 201 414 105 121
Long term debt, net of current portion . . 2,727 2,935 1,755 870 633
Stockholders' equity . . . . . . . . . . . . 9,727 8,485 7,799 7,260 7,771
_________________________
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
Management's Discussion and Analysis of Financial Condition and Results of
Operations, commonly known as MD&A, is our attempt to provide the investor with
a narrative explanation of our financial statements, and to provide our
shareholders and investors with the dynamics of our business as seen through our
eyes as management. Generally, MD&A is intended to cover expected effects of
known or reasonably expected uncertainties, expected effects of known trends on
future operations, and prospective effects of events that have had a material
effect on past operating results. In conjunction with our discussion of MD&A,
shareholders should read the company's consolidated financial statements,
29
including the notes, contained at the back part of this annual report on Form
10-K. Please also review the Cautionary Notice Regarding Forward-Looking
Information on page one of this Annual Report.
GENERAL
Dialysis Corporation of America provides dialysis services, primarily
kidney dialysis treatments through 16 outpatient dialysis centers, including one
in which it holds a minority interest and one unaffiliated dialysis facility
which it manages. Our company also provides dialysis treatments to dialysis
patients of nine hospitals and medical centers through acute inpatient dialysis
services agreements. We also provide homecare services, including home
peritoneal dialysis and method II services, the latter relating to providing
patients with supplies and equipment. Dialysis Corporation of America also
provides ancillary services associated with dialysis treatments, primarily the
administration of EPO.
Approximately 58% of our medical service revenues are derived from Medicare
and Medicaid reimbursement with rates established by CMS, and which rates are
subject to legislative changes. Over the last two years, Medicare rates have
slightly increased, not relating to increased costs of operations. Dialysis is
typically reimbursed at higher rates from private payors, such as the patient's
insurance carrier, as well as higher payments received under negotiated
contracts with hospitals for acute inpatient dialysis services.
Our medical service revenues are derived primarily from four sources:
% of Medical Services
Revenues for 2002
-----------------
- - outpatient hemodialysis services 49%
- - home peritoneal dialysis services 3%
- - inpatient hemodialysis services 10%
- - ancillary services, primarily administration of EPO 38%
See Item 1, "Business," under the captions "General" and "Operations."
The healthcare industry is subject to extensive regulations of federal and
state authorities. There are a variety of fraud and abuse measures to combat
waste, which include anti-kickback regulations, extensive prohibitions relating
to self-referrals, violations of which are punishable by criminal or civil
penalties, including exclusion from Medicare and other governmental programs.
There can be no assurance that there will not be unanticipated changes in
healthcare programs or laws or that we will not be required to restructure our
practice and will not experience material adverse effects as a result of any
such challenges or changes. See Item 1, "Business - Government Regulation." We
have developed a Corporate Integrity Program to assure our company provides the
highest level of patient care and services in a professional and ethical manner
consistent with applicable federal and state laws and regulations. Among the
different programs and committees responsible for its implementation is our
Compliance Program to assure compliance with fraud and abuse laws and supplement
our existing policies relating to claims submission, cost report preparation,
initial audit and human resources, all geared to a cost-efficient operation
beneficial to patients and shareholders. See Item 1, "Business - Corporate
Integrity Program."
Dialysis Corporation of America's future growth depends primarily on the
availability of suitable dialysis centers for development or acquisition in
appropriate and acceptable areas, and our ability to develop these new potential
dialysis centers at costs within our budget while competing with larger
companies, some of which are public companies or divisions of public companies
with more personnel and financial resources, in acquiring and/or developing
facilities in areas targeted by us. Additionally, there is intense competition
30
for retaining qualified nephrologists who are responsible for the supervision of
the dialysis centers. There is no assurance as to when any new centers or
inpatient service contracts with hospitals will be implemented, or the number of
stations, or patient treatments such may involve, or if such will ultimately be
profitable. It has been our experience that newly established dialysis centers,
although contributing to increased revenues, have adversely affected our results
of operations due to start-up costs and expenses and a smaller patient base.
RESULTS OF OPERATIONS
2002 COMPARED TO 2001
Medical service revenues increased approximately $6,243,000 (33%) for the
year ended December 31, 2002, compared to the preceding year. This increase
reflects increased revenues of our Pennsylva