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UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
(Mark One)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 [FEE REQUIRED]
For the fiscal year ended December 31, 2003
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 [NO FEE REQUIRED]
For the transition period from____________ to __________
Commission file number 0-6906
MEDICORE, INC.
(Exact name of registrant as specified in its charter)
FLORIDA 59-0941551
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(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
2337 WEST 76TH STREET, HIALEAH, FLORIDA 33016
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(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (305) 558-4000
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Securities registered pursuant to Section 12(b) of the Act:
None
Securities registered pursuant to Section 12(g) of the Act:
Title of each class
-------------------
common stock, $.01 par value
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark if disclosure of delinquent 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 June 30, 2003 was approximately $6,425,977.
As of March 10, 2004 the company had outstanding 6,988,614 shares of
common stock.
DOCUMENTS INCORPORATED BY REFERENCE
Part III incorporating information by reference from the Proxy Statement
in connection with the Registrant's Annual Meeting of Shareholders anticipated
to be on June 3, 2004.
Registrant's Annual Reports, Forms 10-K, for the years ended December 31,
1994, 1997 to 1999 and 2001 Part IV, Exhibits, incorporated in Part IV of this
Annual Report.
Annual Report for Registrant's Subsidiary Dialysis Corporation of America,
Form 10-K for the years ended December 31, 1996 to 2003, Part IV, Exhibits,
incorporated in Part IV of this Annual Report.
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MEDICORE, INC.
INDEX TO ANNUAL REPORT ON FORM 10-K
YEAR ENDED DECEMBER 31, 2003
Page
PART I
Item 1. Business....................................................................... 1
Item 2. Properties..................................................................... 32
Item 3. Legal Proceedings.............................................................. 34
Item 4. Submission of Matters to a Vote of Security Holders............................ 35
PART II
Item 5. Market for the Registrant's Common Equity, Related Stockholder Matters and
Issuer Purchases of Equity Securities.......................................... 35
Item 6. Selected Financial Data........................................................ 37
Item 7. Management's Discussion and Analysis of
Financial Condition and Results of Operations.................................. 38
Item 7A. Quantitative and Qualitative Disclosures About Market Risk..................... 51
Item 8. Financial Statements and Supplementary Data.................................... 51
Item 9. Changes in and Disagreements with Accountants
on Accounting and Financial Disclosure......................................... 52
Item 9A. Controls and Procedures........................................................ 52
PART III
Item 10. Directors and Executive Officers of the Registrant............................. 53
Item 11. Executive Compensation......................................................... 54
Item 12. Security Ownership of Certain Beneficial Owners and Management
and Related Stockholder Matters................................................ 54
Item 13. Certain Relationships and Related Transactions................................. 54
Item 14. Principal Accountant Fees and Services......................................... 54
PART IV
Item 15. Exhibits, Financial Statement Schedules, and Reports on Form 8-K............... 55
Signatures................................................................................ 62
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 the
1934. The Private Securities Litigation Reform Act of 1995 contains certain safe
harbors regarding forward-looking statements. Certain of the forward-looking
statements include management's expectations, intentions and beliefs with
respect to the growth of our company, the nature of and future development of
the dialysis industry in which our 59% owned public subsidiary, Dialysis
Corporation of America, is engaged, anticipated revenues, our need for sources
of funding for expansion, our business strategies and plans for future
operations, our needs for capital expenditures, capital resources, liquidity and
operating results, and similar matters that are not considered historical facts.
See 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
import 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 general
economic, market and business conditions, opportunities pursued or abandoned,
competition, changes in federal and state laws or regulations affecting our
business and 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 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 us. 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
GENERAL
Medicore, Inc., incorporated in Florida in 1961, has three business
segments: (i) the medical products division which distributes medical products;
(ii) the operation of kidney dialysis centers and other dialysis services
through our 59% owned public subsidiary, Dialysis Corporation of America; and
(iii) the investment in technology companies through our approximately 14%
interest in Linux Global Partners, Inc. (and in which Dialysis Corporation of
America has an approximately 2% interest), a private speculative company that
invests in developing Linux software companies, including Xandros, Inc., a 95%
owned subsidiary of Linux Global Partners that has developed and recently
commenced marketing of a Linux desktop operating system. We had outstanding
loans since 2000 to Linux Global Partners which aggregated approximately
$2,742,000 at December 31, 2002, upon which we declared a default and sold
certain collateral at public auction on January 24, 2003 to satisfy the
indebtedness. The collateral, 4,115,815 shares of Ximian, Inc.'s series A
convertible preferred stock, was purchased by Xandros, but Xandros subsequently
failed to meet the purchase terms resulting in Medicore, pursuant such purchase
terms, retaining Xandros' down payment of 775,000 of its shares of common stock
(approximately 1.5% of Xandros' outstanding common shares), as well as the
Ximian preferred shares
that comprised the collateral. In connection with a third-party's
acquisition of Ximian in August 2003, we sold the Ximian preferred stock for
approximately $3,541,000 in cash proceeds. An additional approximately $805,000
of cash proceeds from our sale of the Ximian preferred shares was placed in
escrow in accordance with the terms of the Ximian acquisition, with one-half of
the escrowed funds to be released to us on the first anniversary of the Ximian
acquisition, and the other half on the second anniversary of the Ximian
acquisition, pending fulfillment by the parties to the Ximian acquisition of
certain conditions. See this section below "Business - Technology Companies,"
and "Risk Factors," Item 13, "Certain Relationships and Related Transactions,"
and Notes 6 and 11 to "Notes to Consolidated Financial Statements." We sold our
71% owned public subsidiary, Techdyne, Inc., in June, 2001, subsequent to which
we have no continuing operations as a contract manufacturer of electronic
components. The dialysis operations are the most significant part of our
operations, accounting for approximately 97% of our sales revenues. Our
investment in technology companies, currently limited to Linux Global Partners
and Xandros, has not generated any revenues other than interest income and a
gain of approximately $784,000 from our sale of the Ximian preferred stock. Our
medical products division accounts for approximately 3% of our sales revenues.
Our executive offices are located at 2337 West 76th Street, Hialeah,
Florida 33016 and at 777 Terrace Avenue, Hasbrouck Heights, New Jersey 07604.
Our telephone number in Florida is (305) 558-4000 and in New Jersey is (201)
288-8220. You may further communicate with us at the following:
Florida New Jersey
Fax: (305) 825-0961 Fax: (201) 288-8208
Email: medicore@compuserve.com
MEDICAL PRODUCTS
We develop and distribute medical products, primarily disposables, both
domestically and internationally, to hospitals, blood banks, laboratories and
retail pharmacies. Products distributed include exam gloves, prepackaged swabs
and bandages and glass tubing products for laboratories. We additionally
distribute a line of blood lancets used to draw blood for testing. The lancets
are distributed under the names Producers of Quality Medical Disposables(TM),
Lady Lite(TM), our brand name Lite Touch, or under a private label if requested
by the customer. Medical devices are required by the FDA, as a condition of
marketing, to secure a 510(k) premarket notification clearance or a Premarket
Approval Application. A product will be cleared by the FDA under a 510(k) if it
is found to be substantially equivalent in terms of safety, effectiveness and
intended use to another legally marketed product. We received 510(k) clearance
for our blood lancet line and insulin syringes, and for the sterile products.
Our medical products are subject to continuing FDA oversight, including
labeling, "good manufacturing practices," as defined in FDA regulations, and
adverse event reporting, none of which adverse events have occurred to date.
Although we hold three patents related to our lancets (see "Patents and Trade
Names" below), and obtained required FDA approval relating to the production of
lancets, we are no longer manufacturing these products. As of April 1, 2001, we
commenced purchasing lancets from manufacturers in the Far East. Marketing of
medical products is conducted by independent manufacturer representatives and
our employees.
DIALYSIS OPERATIONS
Dialysis Corporation of America currently operates 19 outpatient dialysis
centers in Georgia, Maryland, New Jersey, Ohio, Pennsylvania, South Carolina and
Virginia, including Dialysis Corporation of America's management of an Ohio
center in which it has a 40% interest and an unaffiliated Georgia
2
center, in each case pursuant to management services agreements. Dialysis
Corporation of America also provides acute dialysis services through contractual
relationships with seven hospitals and medical centers. In addition, it provides
homecare services through its wholly owned subsidiary, DCA Medical Services,
Inc. Management believes that Dialysis Corporation of America distinguishes
itself on the basis of quality patient care and a patient-focused, courteous,
highly trained professional staff.
General
Dialysis Corporation of America's growth depends primarily on the
availability of suitable dialysis centers for development or acquisition in
appropriate and acceptable areas, and its ability to develop new dialysis
centers at costs within its budget while competing with larger companies, some
of which are public companies or divisions of public companies with greater
numbers of personnel and amounts of financial resources. Dialysis Corporation of
America opened two new centers in February 2003, one in Maryland and one in
Ohio, and acquired a center in Georgia in the second quarter of 2003. Dialysis
Corporation of America also opened three new centers in early 2004, one in each
of Pennsylvania, Virginia and South Carolina, and is in the process of
constructing a new dialysis center in Maryland.
Dialysis Corporation of America's medical service revenues are derived
primarily from four sources: (i) outpatient hemodialysis services (50%, 49% and
47% of its medical services revenues for 2003, 2002 and 2001, respectively);
(ii) home peritoneal dialysis services, including method II services (4%, 3% and
3% of its medical services revenues for 2003, 2002 and 2001, respectively);
(iii) inpatient hemodialysis services for acute patient care provided through
agreements with hospitals and medical centers (7%, 10% and 15% of its medical
services revenues for 2003, 2002 and 2001, 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) (39%, 38% and 35% of its medical services
revenue for 2003, 2002 and 2001, respectively). Dialysis is an ongoing and
necessary therapy to sustain life for kidney dialysis patients., with end stage
renal disease, or ESRD. ESRD patients normally receive 156 dialysis treatments
each year.
Essential to Dialysis Corporation of America's 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, Dialysis
Corporation of America's operating costs tend to increase over the years in
excess of increases in the prescribed dialysis treatment rates. The inpatient
dialysis service agreements for treating acute kidney disease are not subject to
government fixed rates, but rather are negotiated with hospitals Typically these
rates are at least equivalent to or higher than the government fixed rates on a
per treatment basis.
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 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 dialysis treatment for the rest of their lives.
Based upon information published by the CMS, the number of ESRD
patients requiring dialysis treatments in the United States is approximately
300,000, and continues to grow at a rate of approximately 6% a year. This is
thought to be attributable primarily to the aging of the population and
3
greater patient longevity as a result of improved dialysis technology. The
statistics further reflect approximately 4,200 dialysis facilities, with the
current annual cost of treating ESRD patients in the United States at
approximately $22.8 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 which machine 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
circulates 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 as compared with continuous
ambulatory peritoneal dialysis.
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.
While kidney transplantation, another treatment option for patients
with ESRD, is typically the most desirable form of therapeutic intervention, the
scarcity of suitable donors and possibility of donee rejection limits the
availability of this surgical procedure as a treatment option.
4
Dialysis Corporation of America's Business Strategy
Dialysis Corporation of America has 27 years' experience in developing
and operating dialysis treatment facilities. Its priority is to provide quality
patient care. Dialysis Corporation of America intends to continue to establish
alliances with physicians and hospitals, attempts to initiate dialysis service
arrangements with nursing homes and managed care organizations, and to continue
to emphasize its high quality patient care.
Dialysis Corporation of America continues to actively seek and
negotiate with physicians and others to establish new outpatient dialysis
facilities. In 2004, Dialysis Corporation of America opened a dialysis center in
each of Pennsylvania, South Carolina and Virginia, and it is in the process of
constructing a dialysis center in Maryland. It is also in different stages of
negotiations with physicians for potential new facilities in a variety of
states.
In June, 2001 we sold our controlling interest in Techdyne, Inc. for
$10,000,000 plus a three year earn-out which will amount to between $2,500,000
and $5,000,000. A substantial portion of our after tax proceeds from that sale
are available and may be utilized for expansion of Dialysis Corporation of
America's dialysis operations.
Development and Acquisition of Facilities
One of the primary elements in developing or acquiring dialysis centers
is locating an area with an existing patient base under the current treatment of
a local nephrologist, 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 healthcare services, and the existence of competitive factors such
as existing outpatient dialysis facilities within reasonable proximity to the
proposed center.
Dialysis Corporation of America's expansion is accomplished primarily
through the development of its own dialysis facilities. Acquisition of existing
outpatient dialysis centers is a faster but more costly means of growth. 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 variations based on location, size and competitive
elements. Some of Dialysis Corporation of America's 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 its 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 of Dialysis Corporation of America is also seeking to
increase acute dialysis care contracts with hospitals for inpatient dialysis
services. These contracts are sought with hospitals in areas
5
serviced by its facilities. 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.
There is no certainty as to when any additional centers or service
contracts will be implemented or, to the extent implemented, the number of
dialysis stations or patient treatments these centers or service contracts may
involve, or if they will ultimately be profitable. There is no assurance that
Dialysis Corporation of America will be able to continue to enter into favorable
relationships with physicians who would become medical directors of such
proposed dialysis facilities, or that Dialysis Corporation of America 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, initially adversely affect results of operations due to
their start-up costs and expenses and due to their having a smaller and slower
developing patient base. See this Item 1, "Business - Dialysis Corporation of
America's Business Strategy - Operations and Competition," and Item 7,
"Management's Discussion and Analysis of Financial Condition and Results of
Operations."
Operations
Location, Capacity and Use of Facilities
Dialysis Corporation of America operates 19 outpatient dialysis
facilities in Georgia, Maryland, New Jersey, Ohio, Pennsylvania, South Carolina
and Virginia, including an Ohio dialysis center in which it holds a 40% interest
and which it operates in conjunction with the majority owner, the medical
director of that center, and an unaffiliated center in Georgia which it manages.
These dialysis facilities have a total designed capacity of 280 licensed
stations.
The owner of the facility in Georgia that is managed by Dialysis
Corporation of America is involved in litigation and subject to its success in
that litigation and continuing to be the sole owner of that facility, Dialysis
Corporation of America has given the owner a put option to sell to a subsidiary
of Dialysis Corporation of America all the assets of that Georgia dialysis
facility. The Dialysis Corporation of America subsidiary holds a call option to
purchase the assets of the Georgia facility. Each of the put and call options
are exercisable through September, 2005. The put option, however, is not
exercisable unless that Georgia dialysis facility has recorded $100,000 in
pre-tax income. Upon exercise of either the put or call option the owner would
receive a 20% interest in Dialysis Corporation of America's subsidiary which
will own and operate the Georgia facility, and the remainder of the purchase
price will be paid in cash, determined on a formula based upon a multiple of
EBITDA.
Dialysis Corporation of America owns and operates its centers through
subsidiaries a majority of which are 100% owned, with the balance of the centers
owned by Dialysis Corporation of America as a majority owner in conjunction with
the medical directors of those centers who hold minority interests ranging from
20% to 49%. Dialysis Corporation of America has a minority 40% interest in a
center in Toledo, Ohio which it manages. The Lemoyne, Pennsylvania, and one of
the Georgia dialysis facilities are located on properties owned by Dialysis
Corporation of America and leased to the subsidiaries operating those centers.
Dialysis Corporation of America's Cincinnati, Ohio dialysis center is leased
from a corporation owned by the medical director of that facility who, together
with his wife, holds a 40% interest in the subsidiary operating that center. See
Item 2, "Properties." Dialysis Corporation of America also manages an
unaffiliated dialysis center in Georgia.
6
Additionally, Dialysis Corporation of America provides acute care
inpatient dialysis services to seven hospitals in areas serviced by its dialysis
facilities, two less than it serviced at this time last year, and it is in the
process of negotiating additional acute dialysis services contracts in the areas
surrounding its facilities as well as in tandem with development of future
proposed sites. Each of Dialysis Corporation of America's dialysis facilities
has the capacity to provide training, supplies and on-call support services for
home peritoneal patients. Dialysis Corporation of America provided approximately
92,000 hemodialysis treatments in 2003, an increase of approximately 12,000
treatments compared to fiscal 2002.
Management of Dialysis Corporation of America estimates that on average
its centers were operating at approximately 55% of capacity as of December 31,
2003, based on the assumption that a dialysis center is able to provide up to
three treatments a day per station, six days a week. Management of Dialysis
Corporation of America believes it can increase the number of dialysis
treatments at its centers without making significant additional capital
expenditures.
Operations of Dialysis Facilities
Dialysis Corporation of America'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. Dialysis Corporation of America's 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. Dialysis Corporation of America's facilities offer high-efficiency
conventional hemodialysis, which, it believes, provides the most viable
treatment for most patients, and management considers its dialysis equipment to
be both modern and efficient, providing state of the art treatment in a safe and
comfortable environment.
Dialysis Corporation of America 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. In addition, there are independent consultants who visit with the
dialysis patients at the facilities. These individuals supervise the patient's
needs and treatments. See "Employees" below. Dialysis Corporation of America
must continue to attract and retain skilled nurses and other staff, competition
for whom is intense.
Dialysis Corporation of America's 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
Dialysis Corporation of America.
7
Inpatient Dialysis Services
Dialysis Corporation of America presently provides inpatient dialysis
services to seven hospitals in Georgia, Ohio and Pennsylvania, under agreements
either with it or with one of its 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
Dialysis Corporation of America's 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 manufacturer of EPO in the
United States and there are currently no alternative products that perform the
functions of EPO available to dialysis treatment providers. Although Dialysis
Corporation of America has a good relationship with the manufacturer and has not
experienced any problems in receipt of its supply of EPO, any loss or limitation
of supply of this product could have a material adverse effect on Dialysis
Corporation of America's and 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.
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. Dialysis Corporation of
America retains, by written agreement, qualified physicians or groups of
qualified physicians to serve as medical directors for each of its facilities.
The medical directors are typically a source of patients treated at the
particular center served. Medical directors of six of Dialysis Corporation of
America's centers have acquired a minority ownership interest in the subsidiary
operating the center they service ranging from 20% to 49%. Dialysis Corporation
of America's Toledo, Ohio affiliate is owned 60% by the physician. Dialysis
Corporation of America makes every effort to comply with federal and state
regulations concerning its relationship with the physicians and the medical
directors treating patients at its facilities, and is not aware of any
limitation on physician ownership in its subsidiaries. See Item 1, "Business -
Government Regulation - Dialysis Corporation of America."
Agreements with medical directors typically range from a term of five
years to 10 years, with renewal provisions. 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. These
agreements, however, do not prohibit physicians providing services at Dialysis
Corporation of America's facilities from providing direct patient care services
at other
8
locations; and consistent with federal and state law, such agreements do not
require a physician to refer patients to Dialysis Corporation of America
dialysis centers. Usually, physician's professional fees for services are billed
directly to the patient or the government payment authorities on a direct basis
by the treating physician and paid directly to the physician or the professional
association.
Dialysis Corporation of America's ability to establish and operate a
dialysis facility in a particular area is substantially dependent upon 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 and, consequently, on the operations of Dialysis
Corporation of America. 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 it provides
to patients in every 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 the 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. Dialysis Corporation of America's Vice President of Clinical
Services, who is a certified nephrology nurse, oversees this program in addition
to ensuring that Dialysis Corporation of America meets federal and state
compliance requirements for dialysis centers. See Item 1, "Business - Government
Regulation - Dialysis Corporation of America."
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. The states in which Dialysis
Corporation of America operates 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 no secondary payor covers the remaining 20%,
Medicare may reimburse part of the balance as part of Dialysis Corporation of
America's cost report filings. Medicare and Medicaid programs are subject to
regulatory changes, statutory limitations and government funding restrictions,
which may adversely affect Dialysis Corporation of America's dialysis services
payments and, consequently, its revenues. See "Medicare Reimbursement" below.
9
Inpatient dialysis services provided by Dialysis Corporation of America
are paid for by the hospital or medical center pursuant to contractual
pre-determined fees for the different dialysis treatments.
Medicare Reimbursement
Dialysis Corporation of America 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 Dialysis Corporation of America's dialysis facilities is certified to
participate in the Medicare program. The Medicare reimbursement system fixes the
reimbursement rates in advance and limits the allowable charge per treatment,
but provides Dialysis Corporation of America with predictable and recurring per
treatment revenues and allows it 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.
Dialysis Corporation of America 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. The average ESRD reimbursement rate is approximately $131 per
treatment for outpatient dialysis services. The Medicare ESRD maximum composite
reimbursement rate is subject to regional differences, particularly labor costs,
among other criteria. 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 28% of
Dialysis Corporation of America's medical services revenues in 2003 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 11% of our medical services
revenues. We submit claims monthly and are usually paid by Medicare within 14
days of the submission.
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. Congress has approved a 1.6% composite rate increase for 2005.
This is the first increase in the Medicare ESRD composite rate since 2001. Any
reduction in the Medicare composite reimbursement rate would have a material
adverse effect on Dialysis Corporation of America's and 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
10
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. Dialysis
Corporation of America is a licensed ESRD Medicaid provider in Georgia,
Maryland, New Jersey, Ohio, Pennsylvania, South Carolina and Virginia.
DIALYSIS CORPORATION OF AMERICA
SOURCES OF MEDICAL SERVICES REVENUES
Year Ended December 31,
-----------------------
2003 2002
---- ----
Medicare 54% 49%
Medicaid and Comparable Programs 8% 9%
Hospital inpatient dialysis services 7% 10%
Commercial and private payors 31% 32%
Management Services
Dialysis Corporation of America has a management services agreement
with each of its wholly- and majority-owned subsidiaries and with its 40% owned
affiliate DCA of Toledo, LLC, and with an unaffiliated Georgia dialysis center,
providing each of them with administrative and management services, including
but not limited to providing 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 facility.
CORPORATE INTEGRITY PROGRAM
Medicore and Dialysis Corporation of America have each developed a
Corporate Integrity Program to assure that each entity continues to achieve the
goals of providing the highest level of care and service in a professional and
ethical manner consistent with applicable federal and state laws and
regulations. These programs are intended to reinforce Dialysis Corporation of
America's as well as 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 our operations. These
programs are expected to benefit the overall care and services Dialysis
Corporation of America provides to its dialysis patients, and that we provide to
our medical products customers, and to further assure that our operations are in
compliance with the law, which in turn should also assist both Dialysis
Corporation of America and us in operating in a cost-effective manner, and
accordingly, benefit our shareholders.
The board of directors of both Medicore and Dialysis Corporation of
America have established audit committees each 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 committees operate under charters providing for their detailed
responsibilities.
Dialysis Corporation of America 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 its
existing policies, including those applicable to claims submission, cost report
preparation, internal audit and human resources.
11
Code of Ethics
As part of our Corporate Integrity Program, we have developed a Code of
Ethics and Business Conduct covering management and all employees to assure all
persons affiliated with us and our operations act in an ethical and lawful
manner. The Code of Ethics and Business Conduct covers relationships among and
between affiliated persons, including Dialysis Corporation of America patients
and payors, and relates to information processing, compliance, workplace
conduct, environmental practices, training, education, development, among other
areas. Dialysis Corporation of America has also developed its Code of Ethics and
Business Conduct and, in its commitment to delivering quality care to dialysis
patients, has mandated rigorous standards of ethics and integrity.
Our Code of Ethics and Business Conduct is designed to provide:
o ethical handling of actual or apparent conflicts of interest
between personal and professional relationships
o full, fair, accurate, timely, and understandable disclosure in
reports and documents we file with the SEC and in our other public
communications
o compliance with applicable governmental laws, rules and
regulations
o prompt internal reporting of violations of the Code to an
appropriate person identified in the Code
o accountability for adherence to the Code
The portion of our Code of Ethics and Business Conduct as it applies to
our principal executive officer, principal financial officer, principal
accounting officer, and persons performing similar functions, may be obtained
without charge upon request to our Secretary and general counsel, Lawrence E.
Jaffe, Esq., Jaffe & Falk, LLC, at 777 Terrace Avenue, Hasbrouck Heights, New
Jersey 07604.
The Corporate Integrity Programs are implemented and upgraded to
provide a highly professional work environment and lawful and efficient business
operations to better serve our patients and customers 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 Dialysis Corporation
of America has been involved in chronic and acute kidney dialysis services for
approximately 27 years, it has never been subject to any suit relating to the
providing of dialysis treatments. In July, 2002, Dialysis Corporation of America
initiated a breach of contract dispute that was recently settled. See Item 3,
"Legal Proceedings." We currently have general and umbrella liability insurance,
in addition to property and workmen's compensation coverage. Dialysis
Corporation of America carries similar insurance coverage, as well as
professional and products liability insurance. Our insurance policies provide
coverage on an "occurrence" basis and are subject to annual renewal. A
hypothetical successful claim against Dialysis Corporation of America in excess
of its insurance coverage could have a material adverse effect upon Dialysis
Corporation of America's and our business and results of operations. The medical
directors supervising Dialysis Corporation of America's dialysis operations and
other physicians practicing at the facilities are required to maintain their own
professional malpractice insurance coverage.
12
TECHNOLOGY COMPANIES
In January, 2000, we established a new division with the purpose of
investing in and incubating new technology companies, primarily involved with
Internet technology. Our initial investment was in Linux Global Partners, Inc.,
a private company which, through its 95% owned subsidiary, Xandros, Inc., has
developed and recently commenced marketing of a Linux desktop operating system.
In addition to Xandros, Linux Global Partners has investments in a variety of
other Linux-related software companies, and is attempting to negotiate strategic
alliances with certain of those companies in order to employ their systems in
conjunction with Linux Global Partner's desktop system. We hold an approximate
14% interest in Linux Global Partners, and Dialysis Corporation of America holds
an approximate 2% interest. During 2000, we loaned Linux Global Partners
$2,200,000 at an annual rate of interest of 10%, which funds we borrowed from
our subsidiary, Dialysis Corporation of America. In May and June, 2001, we fully
repaid the principal amount of this loan and accrued interest to Dialysis
Corporation of America. In 2001, Linux Global Partners paid us $215,000 of which
$200,000 was applied to the principal amount of the indebtedness. Our loan to
Linux Global Partners had been extended on various occasions, and in 2002 we
advanced another $250,000 to Linux Global Partners under the same terms as the
original loan. At December 31, 2002, the principal and accrued interest on the
loans to Linux Global Partners aggregated approximately $2,742,000. The
indebtedness was collateralized by Linux Global Partner's portfolio consisting
of several companies that focus on the software capabilities of the Linux
operating system. Some of Linux Global Partners' investments, which range from
6% to 90% ownership, include Code Weavers, a software development service and
porting company; and Metro Link, which is involved in Linux graphics and the
embedded technology sector. All of these companies are private and are in the
developmental stages, several with limited revenues, and their success remains
speculative.
Under the terms of the loan arrangement with Linux Global Partners, we
were to receive $100,000 per month or 25% of the proceeds of Linux Global
Partners' private financings, whichever first occurred, and until such
repayment, Linux Global Partners had been issuing 50,000 shares of its common
stock to us every month. We declared the loan in default and sold, under the
requirements of the Uniform Commercial Code, certain of the collateral at public
auction on January 24, 2003. The auction sale consisted of 4,115,815 shares of
Ximian, Inc. series A convertible preferred stock, which Xandros committed to
purchase for $2,992,000. Xandros subsequently failed to meet the conditions of
purchase and as a result, in accordance with the negotiated terms of the
acquisition of the collateral, forfeited 775,000 shares of its common stock that
it had deposited with us as a down payment towards the purchase of the
collateral, and we retained the 4,115,815 preferred shares of Ximian. In
connection with a third-party's acquisition of Ximian in August, 2003, we sold
the Ximian preferred stock for approximately $3,541,000 in cash proceeds
resulting in a gain of approximately $784,000. An additional approximately
$805,000 of proceeds due us from the sale of the Ximian securities was placed in
escrow in accordance with the terms of the acquisition agreement, with one-half
of the escrowed funds to be released to us on the first anniversary of the
Ximian acquisition, and the other half on the second anniversary of the Ximian
acquisition, pending fulfillment by the parties to the Ximian acquisition of
certain conditions., We will record an additional gain based on net proceeds
received at the time these funds are released from escrow. See Item 1, "Business
- - Risk Factors - Investment in Technology Companies," Item 7, "Management's
Discussion and Analysis of Financial Condition and Results of Operations" and
Notes 6 and 11, to "Notes to Consolidated Condensed Financial Statements."
Linux is a free operating system, with its source code openly
published, developed and improved over the years by a worldwide community of
programmers. Linux has become an increasingly popular operating system posing a
potential challenge to the current major operating systems, such as Microsoft's
13
Windows NT and Sun Microsystems' Solaris, two of the leading operating systems
used on server computers, the data-serving machines that are the engines of
corporate networks and the Internet. In August, 2001, Linux Global Partners
purchased Corel Corporation's Canadian Linux Business Division, which Linux
Global Partners is operating through its subsidiary, Xandros. Corel, the world's
second largest desktop software company, holds a 5% interest in that subsidiary.
Xandros, building on Corel's $25 million investment in research and development
of the Linux desktop system, enhanced the system for commercial exploitation,
and in October, 2002, initiated the marketing of a Linux operating system and
suite of applications for desktop computing. The Linux operating system has
received high accolades from a variety of technical software publications and
was among five prize winners for desktop software technology awarded by Norge, a
pc magazine. Xandros has been obtaining limited financing for its operations,
and is in need of substantial capital to continue its marketing and further
development of the Linux desktop operating system. Although Xandros is in
discussions with a variety of investors, some of whom have already provided
funding to its parent, Linux Global Partners, and itself, there is no assurance
such capital will be available or, if so, on favorable terms.
We recognize that Xandros is subject to all the risks of a startup
company, including its ability to continue operations, commercial acceptance of
the Linux desktop system, the availability of resources to further develop,
market and distribute the system, its ability to generate revenues and whether
such revenues will be sufficient to reflect income, and management's oversight
of the operations and growth of the company.
We continue to evaluate the technology sector for potential further
investments.
DISCONTINUED OPERATIONS
We formerly were engaged as a contract manufacturer of electronic and
electro-mechanical products, primarily for the data processing,
telecommunications, instrumentation and food preparations equipment industries,
accomplished through our 71% owned public subsidiary, Techdyne, Inc. We sold our
71% interest in Techdyne on June 27, 2001. Accordingly Techdyne is presented as
a discontinued operation.
GOVERNMENT REGULATION
Dialysis Corporation of America
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 centers must be certified by CMS, and Dialysis
Corporation of America 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 the satisfaction of regulatory standards to its operations. Dialysis
Corporation of America's 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 Dialysis Corporation of
America is presently operating.
14
Dialysis Corporation of America's record of compliance with federal,
state and local governmental laws and regulations remains excellent. Enforcement
of healthcare facility regulations, both privately and by the government, has
become more stringent, particularly in attempts to combat fraud and waste,
adding to compliance costs as well as potential sanctions. We are unable to
predict the scope and effect of any changes in government regulations on
Dialysis Corporation of America's operations, particularly any modifications in
the reimbursement rate for medical services or requirements to obtain
certification from CMS. Since its inception in 1976, Dialysis Corporation of
America has maintained all of its licenses, including its Medicare and Medicaid
and equivalent certifications. The loss of any licenses and certifications would
have a material adverse effect on Dialysis Corporation of America's operations,
revenues and earnings.
Dialysis Corporation of America regularly reviews legislative and
regulatory changes and developments and will restructure a business arrangement
if it determines such might place its operations in material noncompliance with
such law or regulation. See "Fraud and Abuse" and "Stark II" below. To date,
none of Dialysis Corporation of America's business arrangements with physicians,
patients or others have been the subject of investigation by any governmental
authority. No assurance can be given, however, that Dialysis Corporation of
America's 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.
Certification and Reimbursement
Dialysis Corporation of America's dialysis centers must meet certain
requirements, including, among others, those relating to patient care, patient
rights, medical records, the physical set-up of the center, and personnel, in
order to be certified by CMS, to be covered under the Medicare program and to
receive Medicare reimbursement. See above under "Operations - Medicare
Reimbursement." All of Dialysis Corporation of America's dialysis centers are
certified under the Medicare program and applicable state Medicaid programs. We
understand that the conditions for coverage for ESRD services are in the process
of revision by CMS, but the revisions are not yet published. We are unable to
predict when said revisions for Medicare coverage will be published or what such
revisions will entail.
Any changes in the Medicare programs for ESRD treatments could require
Dialysis Corporation of America to restructure its operations. We are unable to
predict at this time whether Dialysis Corporation of America could
satisfactorily respond to such changes in a cost effective manner or at all, the
result of which could negatively impact its operations. Any reduction in
Medicare payments or coverage for dialysis services would have an adverse effect
on both Dialysis Corporation of America's and our business and profitability.
Fraud and Abuse
Certain aspects of Dialysis Corporation of America's dialysis 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 Dialysis Corporation of
America's 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
15
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, as well as exclusion from
Medicare, Medicaid, and other federal health care programs.
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 Dialysis Corporation of
America's dialysis centers is supervised by a medical director, who is a
licensed nephrologist or otherwise qualified physician. The compensation of
these 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 Dialysis Corporation of America's subsidiaries
operating outpatient dialysis centers are owned jointly between Dialysis
Corporation of America and physicians who, in most cases, hold a minority
position through a professional association. Dialysis Corporation of America's
Toledo, Ohio affiliate is majority-owned by a physician. These physicians,
except in one instance, also act as the medical directors for those facilities.
Dialysis Corporation of America attempts to structure its arrangements with its
physicians to comply with the Anti-Kickback Statute. Many of these physicians'
patients are treated at Dialysis Corporation of America's facilities. Dialysis
Corporation of America has never been challenged under the fraud and abuse laws
and believes its arrangements with its medical directors are in material
compliance with applicable law. Several states in which Dialysis Corporation of
America operates have laws prohibiting physicians from holding financial
interests in various types of medical facilities. If these statutes are
interpreted to apply to relationships Dialysis Corporation of America has with
its medical directors who hold a percentage ownership in the subsidiary entities
owning and operating the dialysis facilities, Dialysis Corporation of America
would restructure its relationship with these physicians, but it could still 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 Dialysis Corporation of America generally cannot,
by their very nature, be over-utilized since dialysis treatment is not elective,
and is only
16
indicated when there is temporary or permanent kidney failure. Medical necessity
is capable of being supported by objective documentation, drastically reducing
the possibility of over-utilization. Additionally, there are safe harbors for
certain arrangements. Nevertheless, while relationships created by medical
director ownership of minority interests in Dialysis Corporation of America's
facilities satisfy many but not all of the criteria for the safe harbor, there
can be no assurance that these relationships will not subject Dialysis
Corporation of America to investigation or prosecution by enforcement agencies.
In an effort to further its compliance with the law, Dialysis Corporation of
America has adopted a Corporate Compliance Program that addresses medical
necessity and medical chart audits to confirm medical necessity of referrals.
With respect to its inpatient dialysis services, Dialysis Corporation
of America provides hospitals with dialysis services, including qualified
nursing and technical personnel, supplies, equipment and technical services. In
certain instances, the medical directors who have a minority interest in a
particular Dialysis Corporation of America facility may refer patients to
hospitals with which Dialysis Corporation of America has an inpatient dialysis
services arrangement. Although these arrangements may implicate the federal
fraud and abuse laws, we believe Dialysis Corporation of America's acute
inpatient hospital services are in compliance with the law. See "Stark II"
below.
Dialysis Corporation of America endeavors in good faith to comply with
all governmental regulations. However, there can be no assurance that Dialysis
Corporation of America will not be required to change its 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 Dialysis
Corporation of America's position with respect to the Anti-Kickback Statute, but
we will make every effort to ensure that Dialysis Corporation of America 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 a facility, that 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 Dialysis Corporation of America's inpatient hospital services
agreements from Stark II. Equipment and supplies used in connection with
17
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
Dialysis Corporation of America's dialysis operations or require it to
restructure different aspects of its business. 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 Dialysis
Corporation of America incident to dialysis services within the Stark II
prohibitions.
If the provisions of Stark II were found to apply to Dialysis
Corporation of America's arrangements however, we believe that Dialysis
Corporation of America would be in compliance. Dialysis Corporation of America
compensates its nephrologist-physicians as medical directors of its 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 Dialysis
Corporation of America's facilities do not receive any compensation from
Dialysis Corporation of America.
Medical directors who hold a minority investment interest in certain of
the subsidiaries operating Dialysis Corporation of America's dialysis centers
may refer patients to hospitals with which Dialysis Corporation of America has
an acute inpatient dialysis service arrangement. Although the regulations of
Stark II may be interpreted to apply to these types of transactions, we believe
that Dialysis Corporation of America's 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, Dialysis Corporation of America may be required to restructure
certain existing compensation or investment agreements with its 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, Dialysis Corporation of
America 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
both Dialysis Corporation of America's and our operations and future financial
results. We believe that if Stark II is interpreted by CMS or any other
governmental entity to apply to Dialysis Corporation of America's dialysis
arrangements, it is possible that Dialysis Corporation of America could be
permitted to bring its 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 costs and expenses associated with such prospective compliance,
if permissible, would not have a material adverse effect on Dialysis Corporation
of America and consequently, on us.
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 Dialysis Corporation of America 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
Dialysis Corporation of America to be eligible to
18
participate in the federal and state payment programs. Any new legislation or
regulations may adversely affect Dialysis Corporation of America's business and
operations, as well as its 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 Health Care Fraud Crimes and extended
their applicability to private health plans.
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 Dialysis Corporation of America's
submissions and processing of healthcare claims and also applies to many of its
payors. October 16, 2003 was the deadline for covered entities to comply with
HIPAA's electronic transaction requirement. We believe that Dialysis Corporation
of America is in compliance with the transactions standards rule.
HIPAA also includes provisions relating to the privacy of healthcare
information. 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." 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.
Covered entities were required to be in compliance no later than April 14, 2003.
During 2003, Dialysis Corporation of America expended significant resources to
develop and implement policies and procedures to address privacy issues, and we
believe Dialysis Corporation of America is in compliance with the HIPAA privacy
rules.
The final HIPAA security regulations were published on February 20,
2003. Although the security standards had an effective date of April 21, 2003,
most covered entitles will have until April 21, 2005 to comply with the
standards. Dialysis Corporation of America is currently undergoing a review of
its policies and procedures to determine whether revisions are necessary and
expects to be in compliance with the HIPAA security standards on or before the
compliance date.
HIPAA significantly increased 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
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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 Dialysis Corporation of America substantially
complies with currently applicable state and federal laws and regulations and to
date has not had any difficulty in maintaining its licenses and Medicare and
Medicaid authorizations, the healthcare service industry is and will continue to
be subject to substantial and continually changing regulation at the federal and
state levels, and the scope and effect of such and its impact on Dialysis
Corporation of America's operations cannot be predicted. No assurance can be
given that Dialysis Corporation of America's dialysis operations will not be
reviewed or challenged by regulatory authorities. Dialysis Corporation of
America continues to work with its healthcare counsel in reviewing its policies
and procedures and making every effort to comply with HIPAA and other applicable
federal and state laws and regulations.
Any loss by Dialysis Corporation of America 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 its 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 Dialysis Corporation of
America's, and accordingly, our business.
Environmental and Health Regulations
Dialysis Corporation of America's dialysis centers are subject to
hazardous waste laws and non-hazardous medical waste regulation. Most of
Dialysis Corporation of America's waste is non-hazardous. CMS requires that all
dialysis facilities have a contract with a licensed medical waste handler for
any hazardous waste. Dialysis Corporation of America also follows 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 dialysis 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. Dialysis
Corporation of America adheres to OSHA's protective guidelines, including
regularly testing employees and patients for exposure to hepatitis B and
providing employees subject to
20
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 Dialysis Corporation of America has 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 Dialysis Corporation of America is 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." Dialysis Corporation of America's establishment and
implementation of its compliance program, coupled with its existing policies and
internal controls, could have the effect of mitigating any civil or criminal
penalties for potential violations, of which it has had none since its inception
1976. We will continue to use our best efforts to ensure that Dialysis
Corporation of America fully complies with federal and state laws, regulations
and requirements as applicable to its operations and business.
Recent Regulatory Developments
Dialysis Corporation of America monitors regulatory developments that
may potentially impact the dialysis industry and its operations. During 2003,
regulatory items of interest included the following:
The OIG issued a report, "Home Dialysis Payment Vulnerabilities," which
addressed billing for continuous cycling peritoneal dialysis, or CCPD, for home
patients under Method II. Some of the OIG's recommendations were to limit
payment for Method II CCPD kits to the composite rate payable under Method I, to
ensure that claims are not paid unless a method selection form has been
recorded, and to collect incorrect payments made to providers.
CMS issued a letter describing its plan to undertake a review of its
current policy on EPO utilization in ESRD. In the letter, CMS solicited
scientific evidence regarding EPO dosing and hemotocrit/hemoglobin levels to
assist CMS to develop a policy to ensure appropriate administration of EPO to
ESRD patients. A draft policy is expected on May 1, 2004, and CMS is scheduled
to issue a final policy or memorandum on this matter on July 2, 2004.
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The OIG Office of Audit Services published a report, "End Stage Renal
Disease Pricing Errors at Independent Facilities." This report discussed the
findings of an audit of Medicare overpayments made by AdminaStar Federal to
independent ESRD providers. The overpayments involved reimbursement of supplies
used to administer injectable drugs that are billed outside of the Medicare
composite rate. The OIG recommendations included recovery of identified
overpayments.
CMS finalized a rule eliminating the cap on ESRD bad debt
reimbursement, which had limited payment of allowable bad debt to the facility's
unrecovered costs.
The Government Accounting Office, or GAO, released a report, "Dialysis
Facilities: Problems Remain in Ensuring Compliance with Medicare Quality
Standards," concluding that a substantial number of dialysis facilities do not
achieve minimum patient outcomes specified in clinical practice guidelines, with
significant proportions of patients receiving inadequate dialysis or treatment
for anemia. GAO suggested that Congress consider authorizing CMS to impose
sanctions on facilities cited with serious deficiencies in consecutive surveys
and also recommended creating incentives for facilities to maintain compliance
with quality standards.
The OIG's 2004 Work Plan indicates that it will focus on Method II
dialysis in nursing homes. The OIG noted that a physician must certify that a
Method II patient is capable of home dialysis and questioned who performs
dialysis in the nursing home setting and whether these patients receive adequate
clinical support.
The Medicare Payment Advisory Commission, or MedPAC, released a report
entitled "Modernizing the Outpatient Dialysis Payment System, which outlined
steps to better achieve the Medicare objectives of controlling costs and
promoting access to quality services." Another MedPAC report, "Variation and
Innovation in Medicare," assessed the relationship between quality and dialysis
providers' costs. In each report, MedPAC recommended refinement of the dialysis
payment system by bundling certain currently excluded services, such as
laboratory tests, supplies, and blood products, into the composite rate and
accounting for factors that affect provider costs, such as dialysis method,
doses, and patient case mix.
CMS announced a four-year ESRD disease management demonstration
designed to test the effectiveness of disease management models to increase
quality of care for ESRD patients while ensuring that this care is provided more
effectively and efficiently.
Several Medicare studies concerning dialysis that were expected to be
released in 2003 are pending, including a Composite Rate Bundling Study and
updated Conditions of Coverage.
PATENTS AND TRADE NAMES
We sell certain of our medical supplies and products under the
trademark Medicore(TM). Certain of our lancets are marketed under the trademarks
Providers of Quality Medical Disposables(TM) and Lady Lite(TM) and under the
brand name Lite Touch.
We do not rely on patents or trademarks in our medical products
division. Rather, we place importance upon design, engineering, cost
containment, quality and marketing skills to establish or maintain market
position.
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COMPETITION
The medical products industry is extremely competitive and our
operations are not a significant competitive factor in this area.
The dialysis industry is also highly competitive. There are numerous
providers who have dialysis centers in the same areas as Dialysis Corporation of
America. Many are owned by larger corporations which operate dialysis centers
regionally, nationally and internationally. Our dialysis operations are small in
comparison with those corporations. Some of Dialysis Corporation of America's
major competitors are public companies, including Fresenius Medical Care, Inc,
A. G., Gambro Healthcare, Inc., Renal Care Group, Inc., and Davita, Inc. These
companies have substantially greater financial resources, many more centers,
patients and services than Dialysis Corporation of America has, and by virtue of
such may have an advantage in competing for nephrologists and acquisitions of
dialysis facilities in areas and markets we target. Moreover, competition for
acquisitions has increased the cost of acquiring existing dialysis centers.
Fresenius and Gambro also manufacture and sell dialysis equipment and supplies,
which may provide them with an even greater competitive edge. Dialysis
Corporation of America also faces 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
center for it to participate in the Medicare ESRD program, and are responsible
for the supervision of the medical operations of the center. Dialysis
Corporation of America's 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 becoming 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 in the growth of this modality, renal transplantations could
become a more significant competitive aspect to the dialysis treatments provided
by Dialysis Corporation of America. 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
Medicore and its subsidiaries employ 248 full time employees of which
nine are administrative, 235 are with the dialysis operations and 4 are engaged
in the medical products operations. In addition, Dialysis Corporation of America
employs approximately 15 part-time employees and retains 14 independent
contractors, consisting of the social workers and dietitians at certain of
Dialysis Corporation of America's dialysis facilities in addition to medical
directors who supervise patient treatment at each facility. Dialysis Corporation
of America also uses approximately 43 "per diem" personnel to supplement
staffing.
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We believe that our relationship with our employees as well as Dialysis
Corporation of America's relationship with its employees are excellent and
neither we nor Dialysis Corporation of America has suffered any strikes or work
stoppages. None of Dialysis Corporation of America's or our employees are
represented by a labor union. Both we and Dialysis Corporation of America are an
equal opportunity employer.
RISK FACTORS
We have listed below certain of the risk factors relating to Medicore
and our securities. There may be other risks and uncertainties that we 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 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 negatively impact a shareholder's investment in Medicore.
Our dialysis operations are the most significant business segment, and,
therefore, most of the risk factors will relate to that business.
Investment in Technology Companies
WE HAVE INVESTED IN DEVELOPMENT-STAGE PRIVATELY-HELD LINUX SOFTWARE COMPANIES,
MOST, IF NOT ALL OF WHICH WILL, MOST LIKELY, REQUIRE SIGNIFICANT ADDITIONAL
FINANCING IN ORDER TO CONTINUE OPERATIONS FOR THE DEVELOPMENT AND MARKETING OF
THEIR PRODUCTS AND/OR SERVICES
In 2000, we initiated a new division for the purpose of investing in
technology companies, and our singular investment was the acquisition, in
January, 2000, of an 8% ownership interest in Linux Global Partners, a private,
development stage company involved in Linux software product development and
investment. We currently hold an approximate 14% interest in Linux Global
Partners and Dialysis Corporation of America holds an approximate 2% interest.
As a result of our making a loan to Linux Global Partners, the subsequent
default on that loan by Linux Global Partners and our sale of the collateral
securing that loan at public auction, we acquired approximately 775,000 shares
of common stock of Xandros, Inc., a 95% owned subsidiary of Linux Global
Partners that has developed and recently commenced marketing of a Linux-based
desktop operating system. Both Linux Global Partners and Xandros are recently
organized companies in a highly competitive, rapidly evolving market. Neither
company has current audited financial statements and both companies have a
limited operating history upon which to evaluate future prospects. Moreover,
both companies have incurred significant losses since inception and particularly
with respect to the initial marketing efforts relating to the desktop operating
system. Commercial demand for the operating system has been minimal, and sales
of the system have not generated revenues of a level sufficient to meet
operating expenses. Neither of the companies has the current resources necessary
to pursue the development and marketing of the desktop operating system required
to generate commercial interest and recognition. In the absence of a substantial
increase in sales revenues from the desktop operating system, both Xandros and
Linux Global Partners will require significant equity and/or debt financing in
order to continue business operations and to pursue further development and
marketing efforts. There can be no assurance that any of such financing will be
available or that if available, will be on commercially reasonable terms. To the
extent that such additional financing is not obtained, Xandros and Linux Global
Partners may be required to curtail certain operations or to ultimately cease
operations altogether.
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Dialysis Operations
UNTIL FISCAL 2001, DIALYSIS CORPORATION OF AMERICA HAD EXPERIENCED OPERATIONAL
LOSSES
Since 1989, when Dialysis Corporation of America sold four of its five
dialysis centers, that subsidiary had experienced operational losses. Not until
fiscal 2001 did Dialysis Corporation of America reflect net income. Dialysis
Corporation of America initiated an expansion program in 1995, opening two new
dialysis centers that year, and to date operates and/or manages 19 centers in
Georgia, Maryland, New Jersey, Ohio, Pennsylvania, South Carolina and Virginia,
with one dialysis center under construction in Maryland. Some of Dialysis
Corporation of America's dialysis centers have generated losses since their
commencement 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:
o licensing requirements for each dialysis center
o patient referral prohibitions
o false claims prohibitions for health care reimbursement and other
fraud and abuse regulations
o record keeping requirements
o health, safety and environmental compliance
o expanded protection of the privacy and security of personal
medical data
o 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 further
judicial and legislative interpretations. If Dialysis Corporation of America is
forced to change its method of operations because of these regulations, our
earnings, financial condition and business could be adversely affected. In
addition, any violation of these governmental regulations could involve
substantial civil and criminal penalties and fines, revocation of licensure,
closure of one or more centers, and exclusion from participating in Medicare and
Medicaid programs. Any loss by Dialysis Corporation of America of federal or
state certifications or licenses would materially adversely impact our business.
DIALYSIS CORPORATION OF AMERICA'S ARRANGEMENTS WITH ITS PHYSICIAN MEDICAL
DIRECTORS DO NOT MEET THE SAFE HARBOR PROVISIONS OF FEDERAL AND STATE LAWS, AND
MAY BE SUBJECT TO GREATER GOVERNMENTAL SCRUTINY
Neither Dialysis Corporation of America's arrangements with the medical
directors of its dialysis facilities nor the minority ownership interests of
referring physicians in certain of Dialysis Corporation of America's 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
25
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.
DIALYSIS CORPORATION OF AMERICA'S OPERATIONS ARE SUBJECT TO MEDICARE AND
MEDICAID AUDITS WITH CONCURRENT POTENTIAL CIVIL AND CRIMINAL PENALTIES FOR
FAILURE TO COMPLY
Dialysis Corporation of America is subject to periodic audits by the
Medicare and Medicaid programs, which have various rights and remedies if they
assert that Dialysis Corporation of America has overcharged the programs or
failed to comply with program requirements, none of which it has done. Rights
and remedies available under these programs include obtaining repayment from
Dialysis Corporation of America of any amounts alleged to be overpayments or in
violation of program requirements, or making deductions from future amounts due
to Dialysis Corporation of America. These programs may also impose fines,
criminal penalties or program exclusions.
In the ordinary course of Dialysis Corporation of America's business,
it receives notices of deficiencies for failure to comply with various
regulatory requirements. Dialysis Corporation of America reviews such notices
and takes appropriate corrective action. In most cases, Dialysis Corporation of
America 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 Dialysis Corporation of America has experienced, the reviewing
agency may take various adverse actions against a provider, including but not
limited to:
o the imposition of fines;
o suspension of payments for new admissions to the center; and
o in extreme circumstances, desertification 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 its eligibility to
participate in Medicare or Medicaid programs or to receive payments from other
payors. Moreover, regulatory actions against one center may subject Dialysis
Corporation of America's other centers, which may be deemed under common control
or ownership, to similar 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. Legislation
has expanded the penalties for heath care fraud, including broader provisions
for the exclusion of providers from the Medicaid program. Dialysis Corporation
of America has established policies and procedures that we believe are
sufficient to ensure that its facilities will operate in substantial compliance
with these anti-fraud requirements. While we believe that Dialysis Corporation
of America's 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
Dialysis Corporation of America's and our financial position and results of
operations.
26
DIALYSIS CORPORATION OF AMERICA'S REVENUES AND FINANCIAL STABILITY ARE DEPENDENT
ON FIXED REIMBURSEMENT RATES UNDER MEDICARE AND MEDICAID
During 2003, approximately 54% of Dialysis Corporation of America's
patient revenues was derived from Medicare reimbursement and 8% of its 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 Dialysis Corporation of America's and 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 Dialysis
Corporation of America's and 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 38%
of Dialysis Corporation of America's patient revenues for 2003 was obtained from
sources other than Medicare or Medicaid and equivalent programs. Dialysis
Corporation of America generally charges non-governmental organizations for
dialysis treatment at rates which exceed the fixed Medicare and Medicaid and
equivalent rates. Any limitation on Dialysis Corporation of America's 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
Dialysis Corporation of America charges, could adversely affect Dialysis
Corporation of America's and our business, results of operations, and financial
condition.
ANY DECREASE IN THE AVAILABILITY OF OR THE REIMBURSEMENT RATE OF EPO WOULD
REDUCE DIALYSIS CORPORATION OF AMERICA'S AND 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 Dialysis Corporation of America for the treatment of anemia in
its dialysis patients. The available supply of EPO could be delayed or reduced,
whether by Amgen itself, as a result of unforeseen circumstances, or through
excessive demand. This would adversely impact Dialysis Corporation of America's
and our revenues and profitability, since approximately 28% of Dialysis
Corporation of America's medical revenues in 2003 were based upon the
administration of EPO to its dialysis patients. Most of Dialysis Corporation of
America's 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 Dialysis Corporation of America's and our revenues and
earnings.
27
A NEW ANEMIA TREATMENT DRUG COULD AFFECT DIALYSIS CORPORATION OF AMERICA'S USE
OF EPO, ADVERSELY IMPACTING OUR PROFITABILITY.
Amgen is the sole manufacturer of EPO, which is administered in
conjunction with dialysis treatments to address a patient's anemia. Amgen has
developed and obtained FDA approval for its new drug Aranesp(R), which is also
to be used to treat anemia, and which is indicated to be effective for two to
three weeks. Should Amgen market Aranesp(R) to treat anemia in dialysis
patients, it could reduce the use of EPO by dialysis providers. Based on its
longer lasting capabilities, potential profit margins on Aranesp(R) could be
significantly lower thaN on EPO, and furthermore, Aranesp(R) could be
administered by a dialysis patient's physician, further eliminating potential
revenues from the treatment of anemia in our dialysis patients. The introduction
of Aranesp(R) as an anemia treatment for dialysis patients, therefore, could
adversely impact Dialysis Corporation of America's and our revenues and
profitability.
DIALYSIS CORPORATION OF AMERICA'S ABILITY TO GROW IS SUBJECT TO ITS RESOURCES
AND AVAILABLE LOCATIONS
Other than two center acquisitions in 2002 and 2003, expansion of
Dialysis Corporation of America's operations has been through construction of
dialysis centers. This is due to the substantial costs involved in an
acquisition, usually valued on a per-patient basis. Dialysis Corporation of
America seeks areas with qualified and cost-effective nursing and technical
personnel and a sufficient population to sustain a dialysis center. These
opportunities are limited and Dialysis Corporation of America competes with much
larger dialysis companies for appropriate locations. The time period from the
beginning of construction through commencement of operations of a dialysis
center generally takes four to six months and sometimes longer. Once the center
is operable, it generates revenues, but usually does not operate at full
capacity, and may incur losses for approximately 12 months or longer. Dialysis
Corporation of America's growth strategy based on construction also involves the
risks associated with its ability to identify suitable locations to develop
additional centers. Those centers that are developed may never achieve
profitability, and additional financing may not be available to finance future
development.
Dialysis Corporation of America's inability to acquire or develop
dialysis centers in a cost-effective manner would adversely affect its ability
to expand its dialysis business and as a result, both Dialysis Corporation of
America's and our profitability.
Growth places significant demands on Dialysis Corporation of America's
financial and management skills. Dialysis Corporation of America's inability to
meet the challenges of expansion and to manage any such growth would have an
adverse effect on its management, results of operations and financial condition.
DIALYSIS CORPORATION OF AMERICA'S ATTEMPTS 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
Dialysis Corporation of America expands generally by seeking an
appropriate location for development of a dialysis center and by taking into
consideration the potential geographic patient base, the availability of a
physician nephrologist to be medical director of that dialysis center, and a
skilled work force. Construction and equipment costs for a new dialysis center
with 15 stations typically range from $600,000 to $750,000. The cost of
acquiring a center is usually much greater. There is no assurance that Dialysis
Corporation of America will be successful in developing or acquiring dialysis
28
centers, or otherwise expanding its operations. Dialysis Corporation of America
is negotiating with nephrologists and others to establish new dialysis centers,
but there is no assurance that 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 by Dialysis Corporation of America.
DIALYSIS CORPORATION OF AMERICA DEPENDS ON PHYSICIAN REFERRALS, AND THE
LIMITATION OR CESSATION OF SUCH REFERRALS WOULD ADVERSELY IMPACT DIALYSIS
CORPORATION OF AMERICA'S AND OUR REVENUES AND EARNINGS
Dialysis Corporation of America's dialysis facilities and those centers
it seeks to develop are and will be 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. Dialysis
Corporation of America may not be able to renew or otherwise negotiate
compensation under the medical director agreements with its medical director
physicians who could terminate the relationship, which, 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 Dialysis Corporation of America's and our revenues and
earnings.
Some of the medical directors or medical groups with whom they are
associated own minority interests in certain of the subsidiaries operating
Dialysis Corporation of America's dialysis centers. 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 Dialysis Corporation of America's relationship with these key
referring physicians, their medical groups, or their patients, who may seek
dialysis treatment elsewhere. The resulting loss of patients would have an
adverse effect on Dialysis Corporation of America's and our business and
financial condition.
INDUSTRY CHANGES COULD ADVERSELY AFFECT DIALYSIS CORPORATION OF AMERICA'S
BUSINESS
Healthcare organizations, public and private, continue to change the
manner in which they operate and pay for services. Dialysis Corporation of
America's 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 (i) further
increase government regulation of or other involvement in healthcare, (ii) lower
reimbursement rates, and (iii) otherwise change the operating environment for
healthcare companies. We cannot predict the likelihood of those events or what
impact they may have on Dialysis Corporation of America's or our earnings,
financial condition or business.
29
DIALYSIS CORPORATION OF AMERICA'S BUSINESS IS SUBJECT TO SUBSTANTIAL
COMPETITION, AND IT MUST COMPETE EFFECTIVELY, OTHERWISE ITS GROWTH COULD SLOW
Dialysis Corporation of America is operating in a highly competitive
environment in terms of operations, development and acquisition of existing
dialysis centers. Competition comes from other dialysis centers, many of which
are owned by much larger companies, and from hospitals. The dialysis industry is
rapidly consolidating, resulting in several very large dialysis companies
competing for the acquisition of existing dialysis centers and the development
of relationships with referring physicians. Most of Dialysis Corporation of
America's competitors have significantly greater financial resources, more
dialysis facilities and a larger patient base. In addition, technological
advances by Dialysis Corporation of America's competitors may provide more
effective dialysis treatments than the services provided by its centers.
Dialysis Corporation of America also experiences 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. Dialysis Corporation of America's
failure to compete effectively could significantly impair its continued growth
and, consequently, our financial condition.
MEDICORE, WHICH OWNS 59% OF THE VOTING SECURITIES OF DIALYSIS CORPORATION OF