Attached files
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EX-31.1 - EX-31.1 - PROSPECT MEDICAL HOLDINGS INC | a10-3628_1ex31d1.htm |
EX-32.1 - EX-32.1 - PROSPECT MEDICAL HOLDINGS INC | a10-3628_1ex32d1.htm |
EX-10.3 - EX-10.3 - PROSPECT MEDICAL HOLDINGS INC | a10-3628_1ex10d3.htm |
EX-10.2 - EX-10.2 - PROSPECT MEDICAL HOLDINGS INC | a10-3628_1ex10d2.htm |
EX-31.2 - EX-31.2 - PROSPECT MEDICAL HOLDINGS INC | a10-3628_1ex31d2.htm |
EX-10.1 - EX-10.1 - PROSPECT MEDICAL HOLDINGS INC | a10-3628_1ex10d1.htm |
EX-32.2 - EX-32.2 - PROSPECT MEDICAL HOLDINGS INC | a10-3628_1ex32d2.htm |
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-Q
x |
Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 |
For the quarterly period ended December 31, 2009
or
o |
Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 |
For the transition period from to
Commission file number: 1-32203
Prospect Medical Holdings, Inc.
(Exact name of registrant as specified in its charter)
Delaware |
|
33-0564370 |
(State or other
jurisdiction of incorporation or |
|
(I.R.S. Employer Identification No.) |
|
|
|
10780
Santa Monica Blvd., Suite 400 |
|
90025 |
(Address of principal executive offices) |
|
(Zip Code) |
(310) 943-4500
(Registrants telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No o
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes o No o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of large accelerated filer, accelerated filer, and smaller reporting company in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer o |
|
Accelerated filer o |
|
|
|
Non-accelerated filer o |
|
Smaller reporting company x |
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act): Yes o No x
The number of shares of the issuers Common Stock, par value $0.01 per share, outstanding as of February 12, 2010 was 20,792,520.
PROSPECT MEDICAL HOLDINGS, INC.
PROSPECT MEDICAL HOLDINGS, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(in thousands)
|
|
December 31, |
|
September 30, |
|
||
|
|
(Unaudited) |
|
|
|
||
ASSETS |
|
|
|
|
|
||
Current assets: |
|
|
|
|
|
||
Cash and cash equivalents |
|
$ |
42,389 |
|
$ |
37,768 |
|
Restricted cash |
|
1,983 |
|
1,395 |
|
||
Investments, primarily restricted certificates of deposit |
|
634 |
|
665 |
|
||
Patient accounts receivable, net of allowance for doubtful accounts of $13,090 and $11,715 at December 31, 2009 and September 30, 2009 |
|
42,344 |
|
36,806 |
|
||
Government program receivables |
|
2,943 |
|
4,852 |
|
||
Risk pool receivables |
|
120 |
|
|
|
||
Other receivables |
|
1,561 |
|
1,655 |
|
||
Third party settlements |
|
379 |
|
1,575 |
|
||
Notes receivable, current portion |
|
57 |
|
56 |
|
||
Refundable income taxes, net |
|
|
|
1,558 |
|
||
Deferred income taxes, net |
|
6,644 |
|
6,644 |
|
||
Inventories |
|
4,151 |
|
4,137 |
|
||
Prepaid expenses and other current assets |
|
6,784 |
|
5,380 |
|
||
Total current assets |
|
109,989 |
|
102,491 |
|
||
Property, improvements and equipment: |
|
|
|
|
|
||
Land and land improvements |
|
31,028 |
|
31,028 |
|
||
Buildings |
|
23,920 |
|
23,665 |
|
||
Leasehold improvements |
|
2,032 |
|
2,029 |
|
||
Equipment |
|
20,930 |
|
20,255 |
|
||
Furniture and fixtures |
|
891 |
|
913 |
|
||
|
|
78,801 |
|
77,890 |
|
||
Less accumulated depreciation and amortization |
|
(14,935 |
) |
(14,166 |
) |
||
Property, improvements and equipment, net |
|
63,866 |
|
63,724 |
|
||
Notes receivable, less current portion |
|
343 |
|
357 |
|
||
Deposits and other assets |
|
301 |
|
694 |
|
||
Deferred financing costs, net |
|
7,785 |
|
8,205 |
|
||
Goodwill |
|
153,250 |
|
153,250 |
|
||
Other intangible assets, net |
|
45,325 |
|
46,425 |
|
||
Total assets |
|
$ |
380,859 |
|
$ |
375,146 |
|
The accompanying notes are an integral part of the unaudited condensed consolidated financial statements.
PROSPECT MEDICAL HOLDINGS, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(in thousands, except share amounts)
|
|
December 31, |
|
September 30, |
|
||
|
|
(Unaudited) |
|
|
|
||
LIABILITIES AND SHAREHOLDERS EQUITY |
|
|
|
|
|
||
Current liabilities: |
|
|
|
|
|
||
Accrued medical claims and other health care costs payable |
|
$ |
15,784 |
|
$ |
16,824 |
|
Accounts payable and other accrued liabilities |
|
34,683 |
|
31,773 |
|
||
Accrued salaries, wages and benefits |
|
22,206 |
|
24,903 |
|
||
Due to government payer |
|
13,834 |
|
13,834 |
|
||
Income taxes payable, net |
|
381 |
|
|
|
||
Current portion of capital leases |
|
836 |
|
820 |
|
||
Current portion of long-term debt |
|
5,543 |
|
3,805 |
|
||
Other current liabilities |
|
954 |
|
629 |
|
||
Total current liabilities |
|
94,221 |
|
92,588 |
|
||
|
|
|
|
|
|
||
Long-term debt, net of current portion |
|
172,594 |
|
172,539 |
|
||
Deferred income taxes |
|
29,975 |
|
29,975 |
|
||
Malpractice reserve |
|
2,821 |
|
2,824 |
|
||
Capital leases, net of current portion |
|
956 |
|
569 |
|
||
Other long-term liabilities |
|
166 |
|
162 |
|
||
Total liabilities |
|
300,733 |
|
298,657 |
|
||
Commitments, Contingencies and Subsequent Event |
|
|
|
|
|
||
Shareholders equity: |
|
|
|
|
|
||
Prospect Medical Holdings, Inc.s shareholders equity |
|
|
|
|
|
||
Common stock, $0.01 par value; 40,000,000 shares authorized; 20,761,944 and 20,619,278 shares issued and outstanding at December 31, 2009 and September 30, 2009, respectively |
|
208 |
|
206 |
|
||
Additional paid-in capital |
|
95,669 |
|
94,498 |
|
||
Accumulated deficit |
|
(15,444 |
) |
(18,303 |
) |
||
Total Prospect Medical Holdings, Inc.s shareholders equity |
|
80,433 |
|
76,401 |
|
||
Noncontrolling interest |
|
(307 |
) |
88 |
|
||
Total shareholders equity |
|
80,126 |
|
76,489 |
|
||
Total liabilities and shareholders equity |
|
$ |
380,859 |
|
$ |
375,146 |
|
The accompanying notes are an integral part of the unaudited condensed consolidated financial statements.
PROSPECT MEDICAL HOLDINGS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except per share amounts)
(Unaudited)
|
|
Three Months Ended |
|
||||
|
|
2009 |
|
2008 |
|
||
Revenues: |
|
|
|
|
|
||
Net hospital services revenues |
|
$ |
69,412 |
|
$ |
35,323 |
|
Medical group revenues |
|
46,684 |
|
48,131 |
|
||
Total revenues |
|
116,096 |
|
83,454 |
|
||
Operating expenses: |
|
|
|
|
|
||
Hospital operating expenses |
|
49,668 |
|
22,146 |
|
||
Medical group cost of revenues |
|
36,845 |
|
37,612 |
|
||
General and administrative |
|
16,128 |
|
12,385 |
|
||
Depreciation and amortization |
|
2,078 |
|
1,766 |
|
||
Total operating expenses |
|
104,719 |
|
73,909 |
|
||
Operating income from unconsolidated joint venture |
|
450 |
|
353 |
|
||
Operating income |
|
11,827 |
|
9,898 |
|
||
Other (income) expense: |
|
|
|
|
|
||
Investment income |
|
(29 |
) |
(48 |
) |
||
Interest expense and amortization of deferred financing costs |
|
6,889 |
|
6,138 |
|
||
Loss in value of interest rate swap arrangements |
|
|
|
9,668 |
|
||
Total other (income) expense, net |
|
6,860 |
|
15,758 |
|
||
Income (loss) before income taxes |
|
4,967 |
|
(5,860 |
) |
||
Provision (benefit) for income taxes |
|
2,503 |
|
(2,419 |
) |
||
Net income (loss) |
|
2,464 |
|
(3,441 |
) |
||
Net income (loss) attributable to noncontrolling interest |
|
(395 |
) |
4 |
|
||
Net income (loss) attributable to Prospect Medical Holdings, Inc. |
|
$ |
2,859 |
|
$ |
(3,445 |
) |
|
|
|
|
|
|
||
Per share data: |
|
|
|
|
|
||
Net income (loss) attributable to Prospect Medical Holdings, Inc. per common share |
|
|
|
|
|
||
Basic |
|
$ |
0.14 |
|
$ |
(0.17 |
) |
Diluted |
|
$ |
0.13 |
|
$ |
(0.17 |
) |
The accompanying notes are an integral part of the unaudited condensed consolidated financial statements.
PROSPECT MEDICAL HOLDINGS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
(Unaudited)
|
|
Three
Months Ended |
|
||||
|
|
2009 |
|
2008 |
|
||
Operating activities |
|
|
|
|
|
||
Net income (loss) |
|
$ |
2,464 |
|
$ |
(3,441 |
) |
Adjustments to reconcile net income (loss) to net cash provided by operating activities: |
|
|
|
|
|
||
Depreciation and amortization |
|
2,078 |
|
1,766 |
|
||
Amortization of deferred financing costs |
|
459 |
|
34 |
|
||
Amortization of original issue discount |
|
419 |
|
|
|
||
Payment-In-kind interest expense |
|
|
|
251 |
|
||
Loss on interest rate swap arrangements |
|
|
|
9,668 |
|
||
Provision for bad debts |
|
6,970 |
|
1,493 |
|
||
Loss on disposal of assets |
|
(7 |
) |
|
|
||
Stock based compensation |
|
1,173 |
|
294 |
|
||
Deferred income taxes, net |
|
|
|
(3,845 |
) |
||
Amortization of other comprehensive income |
|
|
|
220 |
|
||
Changes in assets and liabilities, net of business combination: |
|
|
|
|
|
||
Risk pool receivables |
|
(120 |
) |
338 |
|
||
Patient and other receivables |
|
(9,310 |
) |
(2,654 |
) |
||
Prepaid expenses and other |
|
(1,404 |
) |
(904 |
) |
||
Inventory |
|
(14 |
) |
(76 |
) |
||
Refundable income taxes |
|
1,558 |
|
2,294 |
|
||
Deposits and other assets |
|
393 |
|
84 |
|
||
Accrued medical claims and other health care costs payable |
|
(1,040 |
) |
(1,563 |
) |
||
Accounts payable and other accrued liabilities |
|
539 |
|
(2,480 |
) |
||
Income taxes payable |
|
381 |
|
|
|
||
Net cash provided by operating activities |
|
4,539 |
|
1,479 |
|
||
Investing activities |
|
|
|
|
|
||
Purchases of property, improvements and equipment |
|
(481 |
) |
(221 |
) |
||
Collections on notes receivable |
|
13 |
|
14 |
|
||
Increase in restricted certificates of deposit |
|
31 |
|
|
|
||
Net cash used in investing activities |
|
(437 |
) |
(207 |
) |
||
Financing activities |
|
|
|
|
|
||
Borrowings on line of credit |
|
26,251 |
|
|
|
||
Repayments on line of credit |
|
(24,596 |
) |
|
|
||
Repayments on Class 4 Note |
|
(281 |
) |
|
|
||
Change in restricted cash |
|
(588 |
) |
|
|
||
Repayments of term loan |
|
|
|
(1,720 |
) |
||
Payments on capital leases |
|
(228 |
) |
(93 |
) |
||
Cash paid for deferred financing costs |
|
(39 |
) |
|
|
||
Net cash provided by (used in) financing activities |
|
519 |
|
(1,813 |
) |
||
|
|
|
|
|
|
||
Net increase (decrease) in cash and cash equivalents |
|
4,621 |
|
(541 |
) |
||
Cash and cash equivalents at beginning of period |
|
37,768 |
|
33,583 |
|
||
Cash and cash equivalents at end of period |
|
$ |
42,389 |
|
$ |
33,042 |
|
Supplemental cash flow information |
|
|
|
|
|
||
Equipment acquired under capital lease |
|
$ |
631 |
|
$ |
195 |
|
Interest paid |
|
$ |
930 |
|
$ |
5,719 |
|
Income taxes paid, net |
|
$ |
920 |
|
$ |
1,050 |
|
The accompanying notes are an integral part of the unaudited condensed consolidated financial statements.
PROSPECT MEDICAL HOLDINGS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2009
(Unaudited)
1. Business
Prospect Medical Holdings, Inc. (Prospect or the Company) is a Delaware corporation. Prior to the August 8, 2007 acquisition of Alta Hospitals System, LLC (Alta), which was previously known as Alta Healthcare System, Inc., the Company was primarily engaged in providing management services to affiliated physician organizations that operate as independent physician associations (Medical Groups) or medical clinics. Following the Alta acquisition and acquisition of a majority stake in Brotman Medical Center, Inc., a California corporation (Brotman) on April 14, 2009 (see Note 7), as of December 31, 2009, the Company owns and operates five community-based hospitals in Southern California, and its operations are organized into three primary reportable segments: Hospital Services, Medical Group, and Corporate as discussed below.
Hospital Services Segment
Alta and Brotman (collectively, the Hospital Services segment) own and operate in the aggregate five hospitals in Los Angeles County, all accredited by the Joint Commission (formerly the Joint Commission on Accreditation of Healthcare Organizations), with a total of approximately 759 licensed beds served by 844 on-staff physicians at December 31, 2009. Alta owns (i) Alta Hollywood Hospitals, Inc., a California corporation dba Hollywood Community Hospital and Van Nuys Community Hospital; and (ii) Alta Los Angeles Hospitals, Inc., a California corporation dba Los Angeles Community Hospital and Norwalk Community Hospital. On April 14, 2009 (the Acquisition Date), the Company increased its existing approximately 33.1% ownership stake in Brotman, to approximately 71.9% via an investment of approximately $2.5 million in cash, thereby obtaining a controlling interest. Brotman owns and operates Brotman Medical Center, located in Culver City.
The three community hospitals in Hollywood, Los Angeles and Norwalk offer a comprehensive range of medical and surgical services, including general acute care hospital services, pediatrics, obstetrics and gynecology, pediatric sub-acute care, general surgery, medical-surgical services, orthopedic surgery, and diagnostic, outpatient, skilled nursing and urgent care services. The hospital in Van Nuys provides acute inpatient and outpatient psychiatric services on a voluntary basis. Brotman offers a comprehensive range of inpatient and outpatient services, including general surgery, orthopedic, spine and neurosurgery, cardiology, diagnostic outpatient, rehabilitation, psychiatric and detox services. In addition, Brotman has an active emergency room that plays an integral part in providing emergency services to the West Los Angeles area.
The table below gives a brief overview of the Companys hospitals and the locations they serve:
Name/Location |
|
Primary Service |
|
Number of Beds |
Hollywood Community Hospital |
|
Medical/Surgical |
|
100 licensed beds/100 staffed beds |
Los Angeles Community Hospital |
|
Medical/Surgical |
|
130 licensed beds/121 staffed beds |
Norwalk Community Hospital |
|
Medical/Surgical |
|
50 licensed beds/50 staffed beds |
Brotman Medical Center |
|
Medical/Surgical |
|
420 licensed beds/272 staffed beds |
Van Nuys Community Hospital |
|
Psychiatric |
|
59 licensed beds/59 staffed beds |
Admitting physicians are primarily practitioners in the local area. The hospitals have payment arrangements with Medicare, Medi-Cal (the California version of Medicaid) and other third-party payers, including some commercial insurance carriers, health maintenance organizations (HMOs) and preferred provider organizations (PPOs).
Medical Group Segment
The Medical Group segment is a health care management services organization that provides management services to affiliated physician organizations that operate as independent physician associations (Medical Groups). The affiliated physician organizations enter into agreements with health maintenance organizations (HMOs) to provide enrollees of the HMOs with a full range of medical services in exchange for fixed, prepaid monthly fees known as capitation payments. The Medical Groups contract with physicians (primary care and specialist) and other health care providers to provide enrollees with all of their medical services. Prospect currently manages the provision of prepaid health care services for its affiliated physician organizations in Southern California. The network consists of the following physician organizations as of December 31, 2009 (each, an Affiliate):
Prospect Medical Group, Inc. (PMG)
Santa Ana-Tustin Physicians Group, Inc. (SATPG)
Prospect Health Source Medical Group, Inc. (PHS)
Prospect Professional Care Medical Group (PPCM)
Prospect NWOC Medical Group, Inc. (PNW)
Starcare Medical Group, Inc. (PSC)
APAC Medical Group, Inc. (APA) (Inactive)
Nuestra Famila Medical Group, Inc. (Nuestra)
AMVI/Prospect Health Network (AMVI/Prospect)
Genesis HealthCare of Southern California (Genesis)
Pomona Valley Medical Group (PVMG)*
Upland Medical Group (UMG)*
* PVMG and UMG are collectively referred to as the ProMed Entities.
These Affiliates are managed by the following two medical management company subsidiaries that are wholly-owned by Prospect:
Prospect Medical Systems, Inc. (PMS)
ProMed Health Care Administrators, Inc. (PHCA)
All of the Affiliates are wholly-owned by PMG, with the exception of Nuestra, which is 55% owned by a nominee physician shareholder pursuant to an assignable option agreement described below, and AMVI/Prospect which is a 50/50 Joint Venture between AMVI and PMG. PMG is owned by the same nominee physician shareholder pursuant to a separate assignable option agreement. The results of all of these entities, with the exception of AMVI/Prospect, are consolidated in the accompanying unaudited condensed consolidated financial statements.
As of December 31, the Medical Group segment manages services to the following number of enrollees under contracts with various health plans (in thousands):
|
|
As of December 31 |
|
||
|
|
2009 |
|
2008 |
|
Commercial |
|
131.1 |
|
147.1 |
|
Medicare |
|
21.7 |
|
21.6 |
|
Medi-Cal |
|
20.1 |
|
21.6 |
|
Totals |
|
172.9 |
|
190.3 |
|
2. Summary of Significant Accounting Policies
Basis of Presentation
The accompanying unaudited condensed consolidated financial statements of the Company have been prepared in conformity with generally accepted accounting principles in the United States of America (U.S. GAAP) for interim consolidated financial information and with the instructions for Form 10-Q and Article 10 of Regulation S-X. In accordance with the instructions and regulations of the Securities and Exchange Commission (SEC) for interim reports, certain information and footnote disclosures normally included in financial statements prepared in conformity with U.S. GAAP for annual reports have been omitted or condensed. All adjustments (consisting of normal recurring adjustments) and disclosures considered necessary for fair presentation have been included in the accompanying interim unaudited condensed consolidated financial statements.
The results of operations for the three months ended December 31, 2009 are not necessarily indicative of the results to be expected for the full year. The information included in this Quarterly Report on Form 10-Q should be read in conjunction with the audited consolidated financial statements for the year ended September 30, 2009 and notes thereto included in the Companys Annual Report on Form 10-K filed with the SEC on December 21, 2009.
As discussed more fully in Note 11, the Company adopted authoritative guidance issued by the Financial Accounting Standards Board (FASB) that establishes accounting and reporting standards for a noncontrolling interest in a subsidiary, including the accounting treatment upon the deconsolidation of a subsidiary. As required by this guidance, the Company has adjusted the presentation of noncontrolling interests in the prior period condensed consolidated financial statements so that they are comparable to those of the fiscal 2010 period.
Principles of Consolidation
The unaudited interim condensed consolidated financial statements include the accounts of the Company and all majority owned subsidiaries and controlled entities in accordance with ASC 810-10 (previously Emerging Issues Task Force (EITF) No. 97-2, Application of FASB Statement No. 94 and APB Opinion No. 16 to Physician Practice Management Entities and Certain Other Entities with Contractual Management Arrangements and Financial Accounting Standards Board (FASB) Interpretation No. 46, Consolidation of Variable Interest Entities, an Interpretation of ARB No. 51). All adjustments considered necessary for a fair presentation of the results as of the date of, and for the interim periods presented, which consist solely of normal recurring adjustments, have been included. All significant inter-company balances and transactions have been eliminated in consolidation. The consolidated results of operations for the current interim period are not necessarily indicative of the results that may be expected for the fiscal year ending September 30, 2010.
Use of Estimates
The preparation of financial statements in conformity with U.S. Generally Accepted Accounting Principles requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses, and the disclosure of contingent assets and liabilities at the dates, and for the periods, that the unaudited condensed consolidated financial statements are prepared. Actual results could materially differ from those estimates. Principal areas requiring the use of estimates include third-party cost report settlements, receivables for medical services, allowances for contractual discounts and uncollectible accounts, accruals for medical claims, impairment of goodwill, long-lived assets and intangible assets, valuation of interest rate swaps, share-based payments, professional and general liability claims, reserves for the outcome of litigation, and valuation allowances for deferred tax assets.
Subsequent Events
The Companys condensed consolidated financial statements are considered issued when filed with the SEC. Accordingly, the Company has evaluated subsequent events up to the filing date of this Form 10-Q with the SEC (see Note 14).
Restricted Cash
At December 31, 2009, restricted cash was established at Brotman pursuant to Brotmans Amended Plan of Reorganization, consisting of contingency reserves, totaling $1,750,000 held in escrow for property taxes, maintenance and emergency room construction required under the JHA loan agreement (see Note 6). Additionally, $233,000 was held in a restricted account pursuant to workers compensation arrangements.
Restricted Investments
The Company is required to keep restricted deposits by certain HMOs for the payment of claims. Such restricted deposits are classified as a current asset in the accompanying unaudited condensed consolidated balance sheet, as they are restricted for payment of current liabilities.
Due to Governmental Payer and Third-Party Settlements
Following the acquisition of Brotman, effective April 14, 2009, the Company recorded a liability to the Centers for Medicare and Medicaid Services (CMS) arising out of outlier payments received for services provided by Brotman to Medicare eligible inpatients for the last four months of calendar 2005, all of calendar 2006, and approximately six weeks of calendar 2007 (ending February 15, 2007).
While Brotman reports financial statements on a fiscal year ending September 30, Medicare cost reports are filed on a calendar year basis. Acute care hospitals receive Medicare reimbursement payments pursuant to a prospective payment methodology based on the diagnosis of the patient, but are entitled to receive additional payments, referred to as outliers for patients whose treatment is unusually costly. When Brotman acquired the hospital in 2005, CMS provided a ratio of cost to charges (the RCC) based on the average prevailing market rate in Southern California. This RCC was an interim estimate provided by CMS, subject to final determination upon filing of the hospitals cost reports. Upon filing cost reports, subsequent information called into question whether the interim RCC provided by CMS was supportable, giving rise to a potential claim for return of overpayments. Brotman filed its cost reports with CMS for 2005, 2006 and 2007, respectively, which have been tentatively reviewed by the fiscal intermediary exclusive of any outlier reconciliation to be conducted directly by CMS. CMS has not conducted any outlier reconciliations, has not notified the hospital of any pending reconciliation to be conducted and has not determined the amount of any liability at this point related to possible overpayments. As of December 31 and September 30, 2009, an estimated liability of $13,834,000, was included in the accompanying unaudited condensed consolidated balance sheet related to this matter. Brotman and Alta have accrued estimated settlement net receivables in the amount of $379,000 for filed cost reporting years and estimates for the three months ended December 31, 2009. At September 30, 2009, estimated net receivables for cost reports were approximately $1,575,000.
Revenues
Revenues by reportable segment are comprised of the following amounts (in thousands):
|
|
Three Months Ended |
|
||||
|
|
2009(1) |
|
2008 |
|
||
Net Hospital Services |
|
|
|
|
|
||
Inpatient |
|
$ |
61,324 |
|
$ |
33,240 |
|
Outpatient |
|
7,925 |
|
1,722 |
|
||
Other |
|
163 |
|
361 |
|
||
Total net Hospital Services revenues |
|
$ |
69,412 |
|
$ |
35,323 |
|
Medical Group |
|
|
|
|
|
||
Capitation |
|
$ |
46,449 |
|
$ |
47,762 |
|
Management fees |
|
153 |
|
144 |
|
||
Other |
|
82 |
|
225 |
|
||
Total Medical Group revenues |
|
$ |
46,684 |
|
$ |
48,131 |
|
Total revenues |
|
$ |
116,096 |
|
$ |
83,454 |
|
(1) Brotman revenues have been included in the accompanying unaudited condensed consolidated financial statements effective April 14, 2009, when the Company acquired a majority stake in Brotman. Accordingly, the three months ended December 31, 2009 include the operations of Brotman.
The Company presents segment information externally the same way management uses financial data internally to make operating decisions and assess performance. The Companys operations are organized into three reporting segments: (i) Hospital Services, (ii) Medical Group management, and (iii) Corporate (see Note 8).
Comprehensive Income (Loss)
Comprehensive income (loss) includes net income (loss), net of taxes, and changes in the fair value of interest rate swaps subject to hedge accounting that are recorded as other comprehensive income. As of April 1, 2008, the swaps ceased to be eligible for hedge accounting under ASC 815. As a result, all further changes in fair value of the swaps were recorded in the consolidated statements of operations and the effective portion of the swaps of approximately $5.4 million, after tax, that was recorded in other comprehensive income through March 31, 2008 continued to be amortized to interest expense, using the effective interest method, over the remaining life of the swaps. The remaining unamortized portion of the interest rate swaps was expensed in July 2009 in connection with the Companys termination of such swaps.
The components of comprehensive income (loss) for the periods ended December 31, 2009 and 2008 are as follows (in thousands):
|
|
Three Months |
|
Three Months |
|
||
|
|
2009 |
|
2008 |
|
||
Net income (loss) |
|
$ |
2,859 |
|
$ |
(3,445 |
) |
Amortization of fair value of interest rate swaps, net of tax |
|
|
|
220 |
|
||
Comprehensive income (loss) |
|
$ |
2,859 |
|
$ |
(3,225 |
) |
Reclassification
Certain prior period amounts have been reclassified to conform to the current period presentation with no impact on the unaudited condensed consolidated statement of operations.
3. Equity-Based Compensation Plans
On August 13, 2008, following stockholder approval, the Company adopted the 2008 Omnibus Equity Incentive Plan (2008 Plan) to provide flexibility in implementing equity awards, including incentive stock options (ISO), non-qualified stock options (NQSO), restricted stock grants, stock appreciation rights (SAR) and performance based awards to employees, directors and outside consultants, as determined by the Compensation Committee of the Board of Directors (the Committee). In conjunction with the adoption of the 2008 Plan, effective August 13, 2008, additional equity awards under the Companys 1998 Stock Option Plan (1998 Plan) have been discontinued and new equity awards are now granted under the 2008 Plan. Remaining authorized shares under the 1998 Plan that were not subject to outstanding awards as of August 13, 2008, were canceled on August 13, 2008. The 1998 Plan will remain in effect as to outstanding equity awards granted under the 1998 Plan prior to August 13, 2008. At the inception of the 2008 Plan, 4,000,000 shares were reserved for issuance under the 2008 Plan. As of December 31, 2009, there were 795,250 shares available for future grants under the 2008 Plan.
Under the terms of the 2008 Plan, the exercise price of an ISO may not be less than 100% of the fair market value of the Companys Common Stock on the date of grant and, if granted to a shareholder owning more than 10% of the Companys Common Stock, then not less than 110%. Stock options granted under the 2008 Plan have a maximum term of 10 years from the grant date, and are exercisable at such time and upon such terms and conditions as determined by the Committee. Stock options granted to employees generally vest over four years, while options granted to certain executives typically vest over a shorter period, subject to continued service. In the case of an ISO, the amount of the aggregate fair market value of Common Stock (determined at the time of grant) with respect to which ISO are exercisable for the first time by an employee during any calendar year may not exceed $100,000.
The base price, above which any appreciation of a SAR issued under the 2008 Plan is measured, will in no event be less than 100% of the fair market value of the Companys stock on the date of grant of the SAR or, if the SAR is granted in tandem with a stock option, the exercise price under the associated option. The restrictions imposed on shares granted under a restricted stock award will lapse in accordance with the vesting requirements specified by the Committee in the award agreement. Such vesting requirements may be based on the continued service of the participant with the Company for a specified time, or on the attainment of specified performance goals established by the Committee in its discretion. If the vesting requirements of a restricted stock award are not satisfied prior to the termination of the participants service, the unvested portion of the award will be forfeited and the shares of Common Stock subject to the unvested portion of the award will be returned to the Company.
Stock Options Activity
The following table summarizes information about our stock options outstanding at December 31, 2009 and activity during the three-month period then ended:
|
|
Shares |
|
Weighted |
|
Aggregate |
|
Weighted |
|
||
Outstanding as of September 30, 2009 |
|
4,333,335 |
|
$ |
3.00 |
|
|
|
|
|
|
Granted |
|
420,000 |
|
$ |
4.47 |
|
|
|
|
|
|
Exercised |
|
|
|
$ |
|
|
|
|
|
|
|
Forfeited |
|
(240 |
) |
$ |
5.20 |
|
|
|
|
|
|
Expired |
|
(58,000 |
) |
$ |
6.45 |
|
|
|
|
|
|
Outstanding as of December 31, 2009 |
|
4,695,095 |
|
$ |
3.09 |
|
$ |
6,056,622 |
|
44 |
|
Vested and exercisable as of December 31, 2009 |
|
3,040,911 |
|
$ |
3.07 |
|
$ |
4,113,651 |
|
42 |
|
The aggregate intrinsic value is calculated as the difference between the exercise price of the underlying awards and the quoted price of our common stock for those awards that have an exercise price currently below the quoted value.
Stock-Based Compensation Expense
Under ASC 718, Share-Based Payments, compensation cost for all share-based payments in exchange for employee services (including stock options and restricted stock) is measured at fair value on the date of grant, estimated using an option pricing model.
Compensation costs for stock-based awards are measured and recognized in the financial statements, net of estimated forfeitures over the awards requisite service period. The Company uses the Black-Scholes option pricing model and a single option award approach to estimate the fair value of options granted. Estimated forfeitures will be revised in future periods if actual forfeitures differ from the estimates and will impact compensation cost in the period in which the change in estimate occurs. The determination of fair value using the Black-Scholes option-pricing model is affected by the Companys stock price as well as assumptions regarding a number of complex and subjective variables, including expected stock price volatility, risk-free interest rate, expected dividends and projected employee stock option exercise behaviors. Equity-based compensation is classified within the same line items as cash compensation paid to employees. Cash retained as a result of excess tax benefits relating to share-based payments are presented in the statement of cash flows as a financing cash inflow.
The weighted average assumptions used in determining the value of options granted and a summary of the methodology applied to develop each assumption are as follows:
|
|
Three Months Ended |
|
|
Weighted average fair value of option grants |
|
$ |
1.67 |
|
Weighted average market price of the Companys common stock on the date of grant |
|
$ |
4.40 |
|
Weighted average expected life of the options |
|
3.07 |
years |
|
Risk-free interest rate |
|
1.38 |
% |
|
Weighted average expected volatility |
|
54.49 |
% |
|
Dividend yield |
|
0.00 |
% |
Expected TermThe expected term of options granted represents the period of time that they are expected to be outstanding. The Company has adopted the simplified method of determining the expected term for plain vanilla options, as allowed under Staff Accounting Bulletin (SAB) No. 107. The simplified method states that the expected term is equal to the sum of the vesting term plus the contract term, divided by two. Plain vanilla options are defined as those granted at-the-money, having service time vesting as a condition to exercise, providing that non-vested options are forfeited upon termination and that there is a limited time to exercise the vested options after termination of service, usually 90 days, and providing the options are non-transferable and non-hedgeable. We will continue to gather additional information about the exercise behavior of participants and will adjust the expected term of our option awards to reflect the actual exercise experience when such historical experience becomes sufficient.
Expected VolatilityThe Company estimates the volatility of the common stock at the date of grant based on the average of the historical volatilities of a group of peer companies. Since the Companys shares did not become publicly traded until May 2005 and trading volume has been limited, management believes there is currently not enough historical volatility data available to predict the stocks future volatility. The Company has identified a group of comparable companies to calculate historical volatility from publicly available data for sequential periods approximately equal to the expected terms of the option grants. In selecting comparable companies, management considered several factors including industry, stage of development, size and market capitalization.
Risk-Free Interest RateThe Company bases the risk-free interest rate on the implied yield in effect at the time of option grant on U.S. Treasury zero-coupon issues with equivalent remaining terms.
DividendsThe Company has never paid any cash dividends on its common stock and does not anticipate paying any cash dividends in the foreseeable future.
ForfeituresShare-based compensation is recognized only for those awards that are ultimately expected to vest. Compensation expense is recorded net of estimated forfeitures. Those estimates are revised in subsequent periods if actual forfeitures differ from those estimates. The Company used historical data since May 2005 to estimate pre-vesting option forfeitures.
During the three months ended December 31, 2009, an aggregate of 420,000 options were issued under the 2008 Plan, of which 220,000 were granted to Samuel S. Lee in connection with his employment as the Chief Executive Officer of the Company and 200,000 were granted to Mike Heather in connection with his employment as Chief Financial Officer of the Company. As of December 31, 2009, two-thirds of the shares granted to the Chief Executive Officer had vested and one-third of shares granted to the Chief Financial Officer had vested.
Stock-based compensation expense for stock options recognized in the three months ended December 31, 2009 and 2008 was approximately $520,000 and $263,000, respectively. At December 31, 2009, there were 2,990,305 unvested options with related compensation expense of approximately $1,139,000 which will be recognized ratably over a weighted average remaining vesting period of 49 months.
Restricted Stock Award Activities
On August 15, 2008, the Company granted 200,000 shares of restricted stock to its Chief Financial Officer with a grant date fair value of $2.40 per share. As of December 31, 2009, all of such shares had fully vested. On December 18, 2009, the Company granted an aggregate of 210,000 shares of restricted stock to its Chief Executive Officer and Chief Financial Officer. As of December 31, 2009, two-thirds of the shares granted to the Chief Executive Officer had vested and one-third of the shares granted to the Chief Financial Officer had vested. Compensation expense relating to restricted stock of approximately $509,000 was recorded during the three months ended December 31, 2009.
On November 12, 2009, the Company granted an aggregate of 36,000 shares of restricted stocks to the outside members of the Board of Directors. The expense relating to these shares, which vested immediately, totaling approximately $144,000, was included in general and administrative expenses in the accompanying unaudited condensed consolidated financial statements during the three months ended December 31, 2009.
4. Earnings per Share
The Company calculates basic net income (loss) per share by dividing net income (loss) attributable to common stockholders by the weighted average number of common shares outstanding. Diluted earnings (loss) per share is computed by dividing net income (loss) attributable to common stockholders by the weighted average number of common shares outstanding, after giving effect to potentially dilutive shares computed using the treasury stock method. Such shares are excluded if determined to be anti-dilutive.
The calculations of basic and diluted net income (loss) per share for the three months ended December 31, 2009 and 2008 are as follows (in thousands, except share and per-share amounts):
|
|
Three Months Ended |
|
||||
|
|
2009 |
|
2008 |
|
||
|
|
|
|
|
|
||
Net income (loss) attributable to Prospect Medical Holdings, Inc. |
|
$ |
2,859 |
|
$ |
(3,445 |
) |
|
|
|
|
|
|
||
Weighted average common shares outstanding - basic |
|
20,653,524 |
|
20,508, 444 |
|
||
Dilutive effect of stock options and warrants |
|
1,174,325 |
|
|
|
||
Weighted average common shares outstanding - diluted |
|
21,827,849 |
|
20,508,444 |
|
||
|
|
|
|
|
|
||
Basic |
|
$ |
0.14 |
|
$ |
(0.17 |
) |
Diluted |
|
$ |
0.13 |
|
$ |
(0.17 |
) |
The Company excludes equity instruments from the calculation of diluted earnings per share if the effect of including such instruments is antidilutive. Accordingly, a certain number of stock options and warrants have been excluded from the calculation of diluted earnings per share totaling 1,434,537 and 475,774 shares, respectively, during the three months ended December 31, 2009. During the three months ended December 31, 2008, the number of stock options and warrants excluded from the computation of diluted loss per share as antidilutive were 4,603,137 and 665,973, respectively.
5. Related Party Transactions
Prospect has a controlling financial interest in the affiliated physician organizations included in its unaudited interim condensed consolidated financial statements which are owned by a nominee physician shareholder designated by the Company. The control is effectuated through assignable option agreements and management services agreements, which provide the Company a unilateral right to establish or effect a change of the nominee shareholder for the affiliated physician organizations at will, and without the consent of the nominee, on an unlimited basis and at nominal cost through the term of the management agreement. Jacob Y. Terner, M.D. was, through August 8, 2008, the sole shareholder, sole director and Chief Executive Officer of Prospect Medical Group, Inc. (PMG) and was the Chief Executive Officer of most of PMGs subsidiary physician organizations. Dr. Terner also served as the sole shareholder and a director and officer of Nuestra Familia Medical Group, Inc. (Nuestra), an affiliated physician organization. Dr. Terner is a shareholder of the Company, and formerly served as its Chairman and Chief Executive Officer through part of fiscal 2008.
The Company had an employment agreement with Dr. Terner that expired on August 1, 2008 and provided for base compensation (most recently $400,000 per year) and further provided that if the Company terminated Dr. Terners employment without cause, the Company would pay him $12,500 for each month of past service as the Chief Executive Officer, commencing as of July 31, 1996, up to a maximum of $1,237,500. Dr. Terner resigned as the Chief Executive Officer of the Company effective March 19, 2008 and resigned as the Chairman of the Board of Directors effective May 12, 2008. In consideration of Dr. Terners resignation and other promises in his resignation agreement, the Company agreed to pay to his family trust the sum of $19,361.10 each month during the twelve-month period ending on April 30, 2009 and the sum of $42,694.45 each month during the twenty-four month period ending on April 30, 2011, for the total sum of $1,257,000, which amount was recorded as a general and administrative expense in the third quarter of fiscal 2008. In September 2009, the Company ceased making payments to Dr. Terner following its determination that Dr. Terner was not entitled to receive the payments. Subsequently, Dr. Terner filed a complaint against the Company seeking restoration of the payments. The Company and Dr. Terner are currently litigating this dispute. Dr. Terner no longer serves as the nominee shareholder of the Companys affiliated physician organizations.
Dr. Arthur Lipper currently serves as the nominee shareholder of PMG and Nuestra and as the sole director of PMG and its subsidiary physician organizations and the Chief Executive Officer, President and Treasurer of all subsidiary physician organizations, except the ProMed Entities. Dr. Lipper serves as one of two directors of Nuestra, as the sole director of the ProMed Entities, and as a Vice President of Nuestra and the ProMed Entities.
On August 1, 2005 and subsequently amended on October 25, 2007, Prospect Medical Management, Inc. (now known as Prospect Hospital Advisory Services, Inc. (PHAS)), an affiliate of the Company, entered into a consulting services agreement, to provide administrative, financial and management consulting services to Brotman for a monthly fee of $100,000 plus expenses. The agreement had an initial term of one year and automatically renewed for additional one-year terms unless terminated by either party with 90 days written notice. As discussed in Note 7, Brotman, which filed a voluntary petition for bankruptcy protection under Chapter 11 of the
U. S. Bankruptcy Code on October 25, 2007, emerged from the Chapter 11 bankruptcy proceeding on April 14, 2009 (the Effective Date). On the Effective Date, the Company increased its approximately 33.1% ownership stake in Brotman, to approximately 71.9% via an incremental investment of approximately $2.5 million. For the three months ended December 31, 2008, total fees earned under the agreement were approximately $300,000, none of which was paid and none of which was compromised pursuant to Brotmans Chapter 11 Plan of Reorganization. Beginning April 14, 2009, amounts earned under the agreement have been eliminated in consolidation.
Effective December 15, 2009, the Board of Directors of Brotman authorized certain designated officers to enter into an amendment to the consulting services agreement, which amendment became effective on February 1, 2010 (Amended and Restated Consulting Services Agreement). Pursuant to the Amended and Restated Consulting Services Agreement, the consulting fees payable by the Company to PHAS were increased to 4.5% of Brotmans net operating revenue, retroactive to April 14, 2009. The retroactive effectiveness of this agreement resulted in $1.2 million in additional consulting fees. All amounts under this agreement are eliminated upon consolidation.
Effective December 15, 2009, Brotman initiated a Rights Offering (Rights Offering), whereby existing shareholders of Brotman could subscribe to purchase up to $5,500,000 of Brotman convertible subordinated promissory notes (the Notes). The Notes will be due three years from the date of issuance, will bear interest at 15% per annum and will be convertible at the option of the holder into shares of Brotman, at $3.34 per share. Prospect exercised its right to purchase its pro rata share of the Notes and, effective January 7, 2010, purchased $3,500,000 of such Notes (see Note 7).
PMG, a controlled affiliate of the Company, entered into a risk pool sharing agreement, dated May 1, 2005, with Brotman. Under the agreement, PMG and Brotman agreed to establish a Hospital Control Program (as defined) to serve HMO enrollees and would earn incentive revenue or incur penalties by sharing in the risk for hospitalization based on inpatient services utilized. Risk pools are generally settled in the following year. For the three months ended December 31, 2008, all incentive revenue earned under the agreement was compromised pursuant to Brotmans Chapter 11 Plan of Reorganization. Beginning April 14, 2009, all amounts earned under the agreement are eliminated in consolidation.
In connection with the above-described risk-sharing agreement, Prospect Medical Systems, Inc. (PMS) and Brotman entered into an Administrative Services Agreement, dated October 1, 2005, as amended on October 1, 2009, that provides for the administration by PMS of the payment of claims under such risk-sharing arrangement, which are eliminated in consolidation.
On August 31, 2005, PMG, entered into a joint marketing agreement with Brotman. The agreement is for an initial term of 20 years, renewable for successive five-year terms unless terminated by either party with 180 days written notice. During the term, Brotman will contract exclusively with PMG with regard to full risk contracting with HMOs for all lines of business, including Medicare, Medicaid and commercial enrollees. Brotman will not merge into, consolidate with, or sell substantially all of its assets (unless the purchaser or surviving entity expressly assumes these managed care exclusivity arrangements), alter such agreements without the consent of PMG, and agrees to be bound by the exclusivity provision.
6. Long-Term Debt
Long-term debt consists of the following at December 31, and September 30, 2009, respectively (in thousands):
|
|
December 31, |
|
September 30, |
|
||
Prospects debt: |
|
|
|
|
|
||
Senior secured notes |
|
$ |
160,000 |
|
$ |
160,000 |
|
Less original issue discount |
|
(11,561 |
) |
(11,980 |
) |
||
|
|
148,439 |
|
148,020 |
|
||
Brotmans debt: |
|
|
|
|
|
||
Revolving credit facility |
|
4,543 |
|
2,888 |
|
||
Term loan-A (net of discount) |
|
15,655 |
|
15,655 |
|
||
Term loan-B |
|
6,250 |
|
6,250 |
|
||
Promissory NoteCreditors Trust |
|
3,250 |
|
3,531 |
|
||
|
|
29,698 |
|
28,324 |
|
||
Less current maturities |
|
(5,543 |
) |
(3,805 |
) |
||
Long-term portion |
|
$ |
172,594 |
|
$ |
172,539 |
|
Prospects Debt
Senior Secured Notes
On July 29, 2009, the Company closed the offering of $160 million in 12.75% senior secured notes due 2014 (the Notes) at an issue price of 92.335%. The sale was executed in accordance with Rule 144A under the Securities Act of 1933 and Regulation S under the Securities Act of 1933. Concurrent with the issuance of the Notes, the Company entered into a three-year $15 million revolving credit facility which was undrawn at the closing and is still undrawn, with any future borrowings bearing interest at London Interbank Offered Rate (LIBOR) plus 7.00%, with a LIBOR floor of 2.00%.
The Company used the net proceeds from the sale of the Notes to repay all remaining amounts outstanding under its former $155 million senior secured credit facility, plus a prepayment premium of approximately $2.6 million. The Company reflected the prepayment premium, together with the write-off of approximately $560,000 of deferred financing related to its former credit facilities, as interest expense in the fourth quarter of fiscal 2009. Capitalized deferred financing costs and original issue discount related to the Notes is being amortized over the term of the related debt using the effective interest method.
The terms of the Notes are governed by an indenture among the Company, certain of its subsidiaries and affiliates (as guarantors), and U.S. Bank National Association (as trustee) (the Indenture). Interest is payable semi-annually in arrears on January 15 and July 15, the first payment of which was made on January 15, 2010. The terms of the revolving senior secured credit facility are governed by the Credit Agreement, dated as of July 29, 2009, among the Company, Royal Bank of Canada (as administrative agent), Jefferies Finance LLC (as syndication agent) and the lenders party thereto (the Credit Agreement).
The Notes and the revolving senior secured credit facility are jointly and severally guaranteed on a senior secured basis by all of the Companys restricted subsidiaries (as such term is defined in the Indenture) other than Brotman, Nuestra and certain immaterial subsidiaries. The Notes are secured pari passu with the new revolving credit facility on a first priority basis by liens on substantially all of the Companys assets and the assets of the subsidiary guarantors (other than accounts receivable and proceeds therefrom) including all the mortgages on the Company and its subsidiary guarantors hospital properties (but excluding a pledge of, or mortgage on, the stock, properties or other assets of Brotman, AMVI/Prospect Health Network and certain immaterial subsidiaries). The lenders under the revolving credit facility have a first priority lien on certain of the accounts receivable of the Company and the subsidiary guarantors and proceeds therefrom while the holders of the Notes have a second priority lien on such collateral.
The Indenture requires the Company to make an offer to repurchase the Notes at 101% of their principal amount in the event of a change of control of the Company and at 100% of the principal amount thereof with certain proceeds of sales of assets. The Indenture also contains certain covenants that, among other things, limit the Companys ability, and the ability of its restricted subsidiaries to: pay dividends or distributions on capital stock or equity interests, prepay subordinated indebtedness or make other restricted payments; incur additional debt; make investments; create liens on assets; enter into transactions with affiliates; engage in other businesses; sell or issue capital stock of restricted subsidiaries; merge or consolidate with another company; transfer and sell assets; create dividend and other payment restrictions affecting subsidiaries; and designate restricted and unrestricted subsidiaries. The Credit Agreement contains a number of customary covenants as well as covenants requiring the Company to maintain a maximum consolidated leverage ratio, minimum fixed charge coverage ratio and a maximum consolidated total leverage ratio. As of December 31, 2009, the Company was in compliance with the financial covenants.
Pursuant to its definitive Prospectus filed with the SEC on September 26, 2009, the Company commenced an offer to exchange (the Exchange Offer) up to $160 million of its newly registered 123/4% Senior Secured Notes, Series B, due 2014 (the Exchange Notes and together with the Original Notes, the Notes) for an equal amount of the Notes issued on July 29, 2009 (the Original Notes). The Exchange Notes are substantially identical to the Original Notes, except that the offer and sale of the Exchange Notes have been registered under the Securities Act of 1933, as amended, and the Exchange Notes do not bear any legend restricting their transfer. The Exchange Offer was extended on November 25, 2009 until December 3, 2009, at which time $159 million of the $160 million aggregate principal amount of private notes had been tendered and accepted for exchange. The Company filed the required Form S-4 under the Registration Rights Agreement, on September 30, 2009 and went effective on October 23, 2009.
The Notes will mature on July 15, 2014. Prior to July 15, 2012, the Company may redeem up to 35% of the original principal amount of the Notes at a redemption price equal to 112.75% of the principal amount of the Notes redeemed, plus any accrued and unpaid interest, with the proceeds of certain equity offerings. From July 15, 2012 until July 15, 2013, the Company may redeem all, or any portion, of the Notes at a redemption price equal to 106.375% of the principal amount of the Notes redeemed, plus any accrued and unpaid interest. After July 15, 2013, but before the maturity date of July 15, 2014, the Company may redeem all, or any portion, of the Notes at a redemption price equal to 100% of the principal amount of the Notes redeemed, plus any accrued and unpaid interest.
Effective July 23, 2009, the Company terminated the former master swap agreement and the swap arrangements thereunder by payment, on July 29, 2009, of $11.7 million to the swap counterparty in final settlement of all amounts owed under the swap arrangements. All related amounts included in accumulated other comprehensive loss, including related deferred income taxes (of approximately $4.2 million) was recorded as interest expense and to the tax provision, respectively, as of the effective date of the swap terminations.
Brotmans Debt
The Brotman entity has debt under a Senior Secured Revolving Credit Facility, Secured Term Loans and Unsecured Promissory Note entered into in conjunction with effecting the Plan of Reorganization described in Note 7. The Company has not guaranteed any portion of Brotmans debt or other obligations. Given the Companys majority ownership in Brotman, effective April 14, 2009, all Brotman debt is included in the Companys consolidated financial statements. The Company has no obligation and has limited ability to fund Brotmans operations post acquisition. Under the senior secured notes credit agreement, the Company is permitted to make additional investments in Brotman in an aggregate amount not to exceed $10,000,000, provided that such investments can exceed $10,000,000 if the amounts are funded solely with the proceeds of Equity Interests of the Company (as defined).
Senior Secured Revolving Credit Facility
On April 14, 2009, the Effective Date of the Plan of Reorganization, Brotman obtained a commitment from Gemino Healthcare Finance, LLC (Gemino) for a three-year, $6.0 million, senior credit facility secured by Brotmans accounts receivable. The facility expires on the earlier of April 14, 2012 and the Los Angeles Jewish Home for Aging (JHA) loan (see below) maturity date and bears interest at LIBOR plus 7% per annum (11.0% at December 31, 2009), given a LIBOR floor of 4%. Interest is incurred based on the greater of $2 million or the actual outstanding principal balance. The agreement also includes an unused line fee of 0.5% per annum and a collateral line fee, based on the average outstanding principal balance, of 0.5% per annum. Loan fees associated with the Gemino loan totaling approximately $120,000, were capitalized and have been included as deferred financing costs in the accompanying unaudited condensed consolidated balance sheet as of December 31, 2009, with the amount being amortized over the term of the related debt using the effective interest method. The senior credit facility agreement contains customary covenants for facilities of this type, including restrictions on the payment of dividends, change in ownership and management, asset sales, incurrence of additional indebtedness, sale-leaseback transactions, and related party transactions. Brotman must also comply with certain financial covenants. Prior to a recent amendment discussed below, Brotman was required to comply with a fixed charge coverage ratio of not less than (i) 1.10:1.00 for the fiscal quarter ended June 30, 2009, (ii) 1.15:1.00 originally for the fiscal quarter ended September 30, 2009; and (iii) 1.20:1.00 for each fiscal quarter ending thereafter. As of September 30, 2009, Brotman was not in compliance with the required financial covenants under the Gemino credit agreement. Pursuant to an amendment entered into effective December 11, 2009, the Gemino credit agreement was amended to provide, among other things, a waiver of the specified events of default and the amendment to the definition of fixed charge coverage ratio. Under the amended credit agreement, the fixed charge coverage ratio was amended to require not less than (i) 1.00:1.00 for the fiscal quarters ending December 31, 2009 and March 31, 2010; (ii) 1.05:1.00 for the fiscal quarters ending June 30, 2010 and September 30, 2010, (iii) 1.10:1.00 for the fiscal quarters ending December 31, 2010 and March 31, 2011, and (iv) 1.20:1.00 for the fiscal quarter ending June 30, 2011 and each fiscal quarter ending thereafter. As of December 31, 2009, Brotman was in compliance with the required financial covenants under the amended credit agreement.
Secured Credit Facilities Term Loan: A and B
On April 14, 2009, the effective date of the Plan of Reorganization, Brotman consummated the transactions contemplated in the JHA financing and the JHA loan documents. Under the terms of the JHA loan agreements, JHA agreed to provide Brotman with up to $22.25 million in financing, consisting of two term loans: (i) a Term A loan of $16 million (the Term A Loan) with a 24-month term and (ii) a Term B loan of up to $6.25 million, with a term of 36 months (the Term B Loan). Subject to the notification requirements set forth in the loan agreements, the term of the Term A Loan can be extended up to 36 months. Interest on the Term A Loan is payable at 10% per annum for the first year of the loan, and 7.5% thereafter. Interest on the Term B Loan is payable at 10% per annum for the term of the loan. The Term A Loan and Term B Loan are secured by certain of Brotmans personal property, and a mortgage on certain of Brotmans real property. The proceeds of the JHA loans were used to repay all existing senior secured loans at Brotman as of April 14, 2009. Loan fees associated with the JHA loans totaling approximately $1,549,000, were capitalized and have been included as deferred financing costs in the accompanying unaudited condensed consolidated balance sheet as of December 31, 2009, with that amount being amortized over the term of the related debt using the effective interest method.
With respect to the Term A Loan, JHA was granted the right (Put Right) to declare the unpaid loan amount, including remaining interest and any other amounts due and payable under the loan agreements, immediately due and payable at any time after April 14, 2010 and prior to the date which is twenty-four months after the Closing Date, subject to JHA providing written notification to Brotman of its exercise of the Put Right at least 180 days in advance. Effective February 10, 2010, JHA and Brotman entered into an amendment to the Term A Loan, whereby the earliest date on which JHA could provide notice of its exercise of the Put Right was extended from April 14, 2010 to October 14, 2010. Based on such amendment, as of December 31, 2009, the loan has been reflected as noncurrent in the accompanying unaudited condensed consolidated balance sheet.
As part of the JHA financing, Brotman has granted JHA an option to purchase certain Brotman-owned land adjacent to the hospital, where JHA plans to construct a senior living facility, for a purchase price equal to the outstanding principal balance of the Term A Loan plus any prepaid amounts. In connection with JHAs option right, Brotman is required to deposit $130,000 monthly into a reserve account (up to a maximum of $3,120,000), with such funds specifically earmarked for the construction of a new emergency room. Additionally, Brotman is required to deposit $10,000 monthly into a reserve account for capital improvements and a Tax and Insurance Deposit Account to be funded monthly, for purposes of Brotmans annual real estate tax assessments.
In accordance with relevant accounting pronouncements, the Term A Loan, which contains a real estate purchase option, is recorded at its present value, with any excess of the proceeds over that amount recorded as an option deposit liability account. The present value of the loan is estimated using discounted cash flow analyses based on market rates obtained from independent third parties for similar type debt. Based on an estimated market interest rate of 10.0%, the present value of the loan was estimated to be approximately $15,667,000 at inception. The difference of $345,000 between the recorded present value and the carrying value of the loan has been recorded as a discount against the loan and is being amortized to interest expense, using the effective interest rate method, over the term of the loan.
Subordinated Promissory Note
On April 14, 2009, the Effective Date of the Plan of Reorganization, Brotman executed a $4,000,000 unsecured Class 4 Note, to be held by the Creditor Trust (as defined in the Plan of Reorganization) for the benefit of holders of allowed Class 4 claims (as defined in the Plan of Reorganization) and paid pro rata to holders of allowed Class 4 claims. The Note bears interest at 7.50% per annum and is payable in sixteen equal quarterly installments of principal and accrued interest through February 15, 2013. The Note contains a covenant which, so long as amounts remain outstanding under the Note, restricts Brotman from paying Prospect Medical Holdings, Inc. in cash a consulting fee of more than $100,000 per month, as specified in the Amended and Restated Consulting Services Agreement (see Note 5). As such, although the amount of the consulting fee was increased to 4.5% of Brotmans net operating revenue effective April 14, 2009, the amount of such consulting fee actually paid in cash will remain at $100,000 per month until such time as permitted by applicable agreement or the Creditor Trust Note has been amended or repaid.
7. Acquisitions
Brotman Medical Center, Inc.
On August 31, 2005, the Company invested $1 million for an approximately 33.1% stake in Brotman, a 420-bed licensed and accredited acute care hospital, located in Culver City, California, with the intention of offering joint contracting to HMOs operating in Brotmans service area. Brotman incurred significant losses before and after the Companys initial investment and, on October 25, 2007 (the Petition Date), Brotman filed for bankruptcy protection under Chapter 11 of the U.S. Bankruptcy Code. Effective April 22, 2008, Samuel S. Lee (Prospects CEO and Chairman of the Board) was appointed as the Chairman of the Board of Directors of Brotman. On April 14, 2009 (The Effective Date), the U.S. Bankruptcy Court confirmed and declared effective the final Chapter 11 Plan of Reorganization (the Plan of Reorganization) of Brotman whereby, among other things, all of Brotmans outstanding securities were canceled and, in exchange for their pro rata share of the New Value Contribution (as defined in the Plan of Reorganization) totaling $3,500,000, holders of Brotmans existing securities would receive New Common Stock in Brotman in the same percentage as their pro rata share of the New Value Contribution. Pursuant to the terms of the Plan, the Company made additional cash investments in Brotman, totaling $2,519,000, thereby acquiring an additional 38.86% ownership interest, which brought its total ownership interest to 71.96%.
For financial accounting purposes, the additional investment in Brotman was referred to as the Brotman Acquisition and in accordance with SFAS No. 141, Business Combinations, the business combination, which was achieved in stages, provides for recognition of assets at current fair value with respect to the proportion of the Companys incremental ownership interest in Brotman. Under SFAS No. 141, the aggregate cost of the acquired assets, which includes cash paid of $2.5 million and expenses incurred in connection with the acquisition totaling $37,000, were preliminarily allocated to the assets acquired and liabilities assumed. SFAS No. 141 is pre-Codification literature, the provisions of ASC 805 is not effective for the Company until October 1, 2009. The excess of the consideration over the estimated fair value of the assets and liabilities assumed has been allocated to goodwill and identifiable
intangible asset. Due to negative net book value of assets acquired, goodwill attributable to the noncontrolling (formerly minority) interest was not recognized. As the non-controlling interest in Brotman exceeds 20%, the accounting basis in the acquired ownership in Brotman have not been pushed-down to the financial statements of Brotman and have been reflected in the Parent Company financial statements. The results of operations of Brotman have been included in consolidated financial statements since the April 14, 2009 acquisition date. Brotmans operations for the three months ended December 31, 2009 reflected a net loss. The Company does not have the intent or ability, including under the terms of its debt agreement, to provide significant financial support to Brotman. Prior to October 1, 2009, a pro rata share of net income attributable to minority interest was not included under minority interest in the Companys consolidated statement of operations, as the cumulative minority share of such income did not exceed their cumulative share of prior losses absorbed by the Company. Effective October 1, 2009, with the adoption date of new accounting literature (see Note 11), a pro rata share of net loss attributable to noncontrolling interest was reported as a component of equity separate from the Companys equity in the unaudited condensed consolidated balance sheet and as net loss attributable to noncontrolling interest in the unaudited condensed consolidated statement of operations.
Effective December 15, 2009, Brotman initiated a Rights Offering (Rights Offering), whereby existing shareholders of Brotman could subscribe to purchase up to $5,500,000 of Brotman convertible subordinated promissory notes (the Brotman Notes). The Rights Offering deadline was originally December 30, 2009, but extended to January 7, 2010. The Brotman Notes will be due three years from the date of issuance, will bear interest at 15% per annum and will be convertible at the option of the holder into shares of Brotman, at $3.34 per share. PHAS planned on exercising its right to purchase its pro rata (approximately 72%) share of the Brotman Notes, as well as any Brotman Notes offered that were not purchased by other Brotman shareholders. Brotman intends to use the proceeds from the Brotman Notes to repay approximately $2 million currently due to Prospect, with the balance of the proceeds being used to retire certain other obligations of Brotman. A dispute exists between Culver Hospital Holdings, L.P. (Culver), Brotmans second largest shareholder, and Prospect, PHAS, and Brotmans directors regarding obligations allegedly owed to Culver as a minority shareholder. In connection with this dispute, PHAS and Prospect entered into an agreement with Culver under which the parties agreed that the Rights Offering will be temporarily suspended in certain respects as it relates to Culver and PHAS and that PHAS could purchase, but not convert, $3,500,000 of the Brotman Notes. PHAS made such purchase on January 7, 2010.
The following is an analysis of the preliminary allocation of assets acquired and liabilities assumed and the preliminary goodwill and identifiable intangible asset amount recognized in connection with the Brotman Acquisition, as of April 14, 2009 (in thousands):
Assets acquired |
|
$ |
53,302 |
|
Liabilities assumed |
|
(78,119 |
) |
|
Net liabilities assumed |
|
(24,817 |
) |
|
Total purchase consideration |
|
(2,556 |
) |
|
Purchase consideration in excess of net liabilities assumed |
|
(27,373 |
) |
|
Identifiable intangibletrade name |
|
3,000 |
|
|
Estimated goodwill |
|
$ |
24,373 |
|
The assets acquired include the relative percentage (38.83%) of the step up in basis of the assets acquired to estimated fair value amounting to $10,547,000.
Goodwill from the Brotman Acquisition is primarily related to new capacity for future growth, new geographic coverage, additional types of hospital services and in-place workforce. Through the Brotman Acquisition, the Company expanded into a new service market in the West Los Angeles, California area. As a stock purchase, the goodwill acquired in the Brotman Acquisition is not deductible for income tax purposes. Brotman recorded income related to discharge of debt upon emergence from the Chapter 11 Bankruptcy reorganization.
The following unaudited pro forma financial information for the three month period ended December 31, 2008 gives effect to the acquisition of Brotman as if it had occurred on October 1, 2008. Such unaudited pro forma information is based on historical financial information with respect to the acquisition and does not include synergies or operational or other changes that might have been effected by the Company. Significant proforma adjustments include increased depreciation related to fixed assets acquired (in thousands).
|
|
Three Months Ended |
|
|
|
|
|
|
|
Net revenue |
|
$ |
111,413 |
|
Net loss attributable to common stockholders |
|
$ |
(4,400 |
) |
Net loss per share: |
|
|
|
|
Basic |
|
$ |
(0.21 |
) |
Diluted |
|
$ |
(0.21 |
) |
Since emergence from bankruptcy, Brotman has continued to incur losses and experience liquidity issues. Management is currently implementing operational improvements aimed at returning Brotman to profitability and is evaluating the refinancing of this debt. Prospect has limited ability to fund Brotmans post acquisition operations (Note 6).
Management is currently assessing the Companys ability to utilize the state deferred tax assets, mainly comprised of California net operating loss carryforwards, acquired through the Brotman acquisition. This assessment has not yet been finalized.
8. Segment Information
ASC 815 provides disclosure guidelines for segments of a company based on a management approach to defining reporting segments.
The Companys operations are organized into three reporting segments: (i) Hospital Serviceswhich is comprised of Alta and Brotman reporting units, owns and operates five community-based hospitalsLos Angeles Community Hospital, Hollywood Community Hospital, Norwalk Community Hospital, Van Nuys Community Hospital and Brotman Medical Center; (ii) Medical Groupwhich is comprised of Prospect and ProMed reporting units, provides management services to affiliated physician organizations that operate as independent physician associations; and (iii) Corporate. Corporate represents expenses incurred in Prospect Medical Holdings, Inc. (the Parent Entity), which were not allocated to the other reporting segments.
The accounting policies of the reporting segments are the same as those described in the summary of significant accounting policies (see Note 2). The Company evaluates financial performance and allocates resources primarily based on earnings from continuing operations before interest expense, interest income, income taxes, depreciation and amortization, as well as income or loss from operations before income taxes, excluding infrequent or unusual items.
The reporting segments are strategic business units that offer different services within the healthcare industry. Business in each reporting segment is conducted by one or more direct or indirect wholly-owned subsidiaries of the Company and certain affiliated physician organizations controlled through assignable option agreements and management services agreements.
The following table summarizes certain information for each of the reporting segments regularly provided to and reviewed by the chief operating decision maker (in thousands):
|
|
As of and for the Quarter Ended December 31, 2009 |
|
|||||||||||||
|
|
Hospital |
|
Medical |
|
Corporate |
|
Intersegment |
|
Consolidated |
|
|||||
Revenues from external customers |
|
$ |
69,412 |
|
$ |
46,762 |
|
$ |
|
|
$ |
|
|
$ |
116,174 |
|
Intersegment revenues |
|
|
|
|
|
|
|
(78 |
) |
(78 |
) |
|||||
Total revenues |
|
69,412 |
|
46,762 |
|
|
|
(78 |
) |
116,096 |
|
|||||
Operating income (loss) |
|
12,581 |
|
2,749 |
|
(3,503 |
) |
|
|
11,827 |
|
|||||
Investment income |
|
|
|
(29 |
) |
(106 |
) |
106 |
|
(29 |
) |
|||||
Interest expense and amortization of deferred financing costs |
|
1,198 |
|
|
|
5,797 |
|
(106 |
) |
6,889 |
|
|||||
Income (loss) before income taxes |
|
$ |
11,383 |
|
$ |
2,778 |
|
$ |
(9,194 |
) |
$ |
|
|
$ |
4,967 |
|
Identifiable segment assets |
|
$ |
273,382 |
|
$ |
96,897 |
|
$ |
10,580 |
|
$ |
|
|
$ |
380,859 |
|
Segment capital expenditures, net of dispositions |
|
$ |
427 |
|
$ |
48 |
|
$ |
6 |
|
$ |
|
|
$ |
481 |
|
Segment goodwill |
|
$ |
130,911 |
|
$ |
22,339 |
|
$ |
|
|
$ |
|
|
$ |
153,250 |
|
|
|
As of and for the Quarter Ended December 31, 2008 |
|
|||||||||||||
|
|
Hospital |
|
Medical |
|
Corporate |
|
Intersegment |
|
Consolidated |
|
|||||
Revenues from external customers |
|
$ |
35,323 |
|
$ |
48,131 |
|
$ |
|
|
$ |
|
|
$ |
83,454 |
|
Intersegment revenues |
|
|
|
|
|
|
|
|
|
|
|
|||||
Total revenues |
|
35,323 |
|
48,131 |
|
|
|
|
|
83,454 |
|
|||||
Operating income (loss) |
|
9,118 |
|
2,805 |
|
(2,025 |
) |
|
|
9,898 |
|
|||||
Investment income |
|
|
|
(26 |
) |
(22 |
) |
|
|
(48 |
) |
|||||
Interest expense and amortization of deferred financing costs |
|
42 |
|
|
|
6,096 |
|
|
|
6,138 |
|
|||||
Loss on interest rate swap arrangements |
|
|
|
|
|
9,668 |
|
|
|
9,668 |
|
|||||
Income (loss) before income taxes |
|
$ |
9,076 |
|
$ |
2,831 |
|
$ |
(17,767 |
) |
$ |
|
|
$ |
(5,860 |
) |
Identifiable segment assets |
|
$ |
196,561 |
|
$ |
159,990 |
|
$ |
(61,997 |
) |
$ |
|
|
$ |
294,554 |
|
Segment capital expenditures, net of dispositions |
|
$ |
376 |
|
$ |
40 |
|
$ |
|
|
$ |
|
|
$ |
416 |
|
Segment goodwill |
|
$ |
106,539 |
|
$ |
22,339 |
|
$ |
|
|
$ |
|
|
$ |
128,878 |
|
(1) Prospect Medical Holdings, Inc. files consolidated tax returns and allocates costs for shared services and corporate overhead to each of the reporting segments. With the exception of Brotman Acquisition, all acquisition-related debt, including those related to the Medical Group and Hospital Services segment, is recorded at the Parent entity level. As such, the Company does not allocate interest expense, and gain or loss on interest rate swaps to each of the reporting segments.
(2) Prospect Medical Group (which serves as a holding company for the other affiliated physician organizations) files consolidated tax returns.
(3) Certain prior year amounts have been reclassified to conform to fiscal 2010 presentation.
(4) Brotman amounts have been included after April 14, 2009; as such are not included for the quarter ended December 31, 2008.
9. Income Taxes
The Company recorded a tax provision (benefit) of approximately $2.5 million and $(2.4) million for the three months ended December 31, 2009 and 2008, respectively, with effective tax rates of 50.4% and 41.0%, respectively. The higher effective tax rate in the fiscal 2010 period was primarily due to not recognizing the tax benefit from Brotmans loss for federal tax purposes.
As part of the Brotman acquisition, management of the Company adopted ASC 740-10, accounting for uncertain tax positions, for Brotman and determined that no material unrecognized tax benefits exist as of December 31, 2009. Since its inception in 2005, Brotman has generated, and still maintains substantial net operating loss carryfowards which are open for examination by taxing authorities.
10. Fair Value of Financial Investments
Effective April 1, 2009, the Company adopted ASC 825-10 (previously issued as FASB Staff Position FAS 107-1 and APB 28-1, Disclosures About Fair Value of Financial Instruments). This Statement requires that the fair value of financial instruments be disclosed in the body or notes of an entitys financial statements in both interim and annual periods. It also requires the disclosure of methods and assumptions used to estimate fair values. It does not require comparative disclosures for periods preceding adoption. The fair values of the Companys current assets and current liabilities approximate their reported carrying amounts. The carrying values and the fair values of non-current financial assets and liabilities, that qualify as financial instruments under ASC 825-10-50 (previously issued as FAS No. 107, Disclosures about Fair Value of Financial Instruments,) were as follows (in thousands).
|
|
At December 31, 2009 |
|
||||
|
|
Carrying |
|
Fair Value |
|
||
Assets: |
|
|
|
|
|
||
Long-term note receivable |
|
$ |
343 |
|
$ |
324 |
|
Liabilities: |
|
|
|
|
|
||
Long-term debt |
|
$ |
172,594 |
|
$ |
191,675 |
|
The fair value of the notes receivable, which was received as part of the consideration for the sale of three medical clinics in April 2004, was estimated based on expected future payments discounted at risk-adjusted rates. The fair value of the Companys long-term debt was determined based on quoted market prices with respect to Prospects Notes and based on expected future payments discounted at risk-adjusted rates of 10.0% with respect to Brotmans debt.
The Company adopted ASC 820-10, (previously issued as SFAS No. 157 Fair Value Measurements) for financial assets and liabilities on October 1, 2008 and adopted the provisions for non-financial assets and liabilities on October 1, 2009. ASC 820-10 defines fair value, establishes guidelines for measuring fair value and expands disclosure about fair value measurements. It does not create or modify any current GAAP requirements to apply fair value accounting. However, it provides a single definition for fair value that is to be applied consistently for all prior accounting pronouncements. The adoption of this guidance did not have a material impact on the Companys financial position or results of operations. ASC 820-10 establishes a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value. The three levels of the fair value hierarchy under ASC 820-10 are described below:
· Level 1Unadjusted quoted prices in active markets that are accessible at the measurement date for identical, unrestricted assets or liabilities;
· Level 2Quoted prices in markets that are not active, or inputs that are observable, either directly or indirectly, for substantially the full term of the asset or liability; and
· Level 3Prices or valuation techniques that require inputs that are both significant to the fair value measurement and unobservable (supported by little or no market activity).
Financial Items measured at Fair Value on a Recurring Basis
The following table sets forth the Companys financial assets and liabilities measured at fair value on a recurring basis and where they are classified within the hierarchy as of December 31, 2009 (in thousands):
|
|
Total |
|
Level 1 |
|
Level 2 |
|
Level 3 |
|
||||
Restricted Assets: |
|
|
|
|
|
|
|
|
|
||||
Restricted Investmentsmoney market mutual funds |
|
$ |
490 |
|
$ |
490 |
|
$ |
|
|
$ |
|
|
The Companys investments are classified within Level 1 of the fair value hierarchy because they are valued using quoted market prices. The investment instruments that are valued based on quoted market prices in active markets are primarily restricted certificates of deposit.
Nonfinancial Items Measured at Fair Value on a Nonrecurring Basis
Nonfinancial assets such as goodwill and identifiable intangible assets are measured at fair value when there is an indicator of impairment and recorded at fair value only when impairment is recognized. No impairment charges of goodwill and intangible assets were recorded for the three months ended December 31, 2009. See Note 7 for additional information about goodwill and intangible assets.
11. Recent Accounting Pronouncements
In December 2007, the FASB issued guidance on ASC 810, Noncontrolling Interests in Consolidated Financial Statementsan Amendment of ARB No. 51, previously known as SFAS No. 160. ASC 810 establishes accounting and reporting standards for the noncontrolling interest in a subsidiary and for the deconsolidation of a subsidiary. Minority interests will be re characterized as non controlling interests and will be reported as a component of equity separate from the parents equity, and purchases or sales of equity interests that do not result in a change in control will be accounted for as equity transactions. In addition, net income attributable to the non controlling interest will be included in consolidated net income on the face of the income statement and upon a loss of control, the interest sold, as well as any interest retained, will be recorded at fair value with any gain or loss recognized in earnings. This standard is effective for fiscal years, and interim periods within those fiscal years, beginning on or after December 15, 2008. It requires retroactive adoption of the presentation and expanded disclosure requirements for existing noncontrolling interests. All other requirements of the standard shall be applied prospectively. The Company adopted this standard effective October 1, 2009. The adoption did not have a material impact on the Companys condensed consolidated financial statements.
In December 2007, the FASB updated guidance on ASC 805, Business Combinations, previously known as SFAS No. 141(R). ASC 805 retains the fundamental requirements of guidance surrounding business combinations stating that the acquisition method of accounting be used for all business combinations and for an acquirer to be identified for each business combination. ASC 805 defines the acquirer as the entity that obtains control of one or more businesses in the business combination and establishes the acquisition date as the date that the acquirer achieves control. ASC 805 requires an acquirer to recognize the assets acquired, the liabilities assumed, and any noncontrolling interest in the acquiree at the acquisition date, measured at their fair values as of that date, with limited exceptions specified in the statement. This statement applies prospectively to business combinations for which the acquisition date is on or after the beginning of the first annual reporting period beginning on or after December 15, 2008. The Company adopted the pronouncement effective October 1, 2009. The adoption did not have a material impact on the Companys condensed consolidated financial statements for prior periods; but the pronouncement will impact the accounting for any acquisitions subsequent to that date.
In June 2009, the FASB issued guidance on ASC 810-10, Consolidation of Variable Interest Entities, an interpretation of ARB No. 51, previously known as FIN No. 46, to revise the approach to determine when a variable interest entity (VIE) should be consolidated. The new consolidation model for VIEs considers whether the Company has the power to direct the activities that most significantly impact the VIEs economic performance and shares in the significant risks and rewards of the entity. The guidance on VIEs requires companies to continually reassess VIEs to determine if consolidation is appropriate and provide additional disclosures. The guidance is effective for fiscal years beginning after November 15, 2009. The Company will adopt the guidance for interim and annual reporting periods beginning in the first quarter of fiscal 2011and is currently assessing the potential impact this guidance will have on its consolidated financial statements.
In June 2008, the FASB issued guidance contained in FASB ASC 260-10, previously known FASB Staff Position No. EITF 03-6-1. Under the guidance, unvested share-based payment awards that contain non-forfeitable rights to dividends or dividend equivalents are participating securities and, therefore, are included in computing earnings per share (EPS) pursuant to the two-class method. The two-class method determines earnings per share for each class of common stock and participating securities according to dividends or dividend equivalents and their respective participation rights in undistributed earnings. The Company adopted the guidance effective October 1, 2009. The adoption of this guidance did not impact net income attributable to the Company per common share for prior periods and is not expected to have an impact on future periods until such time as the Company declares a regular quarterly dividend.
In August 2009, the FASB issued Accounting Standards Update No. 2009-05, Fair Value Measurements and Disclosures (Topic 820)MeasuringLiabilities at Fair Value, which provides guidance on how to measure liabilities at fair value in circumstance in which a quoted price in an active market for the identical liability is not available. This update is effective for the first reporting period, including interim periods, beginning after issuance. The Company has no liabilities that are governed by this update but will apply its provisions in the future as applicable.
12. Litigation and Contingencies
Many of the Companys payer and provider contracts are complex in nature and may be subject to differing interpretations regarding amounts due for the provision of medical services. Such differing interpretations may not come to light until a substantial period of time has passed following contract implementation. Liabilities for claims disputes are recorded when the loss is probable and can be estimated. Any adjustments to reserves are reflected in current operations.
The Company has separate commercial claims-made insurance policies for Alta and Brotman. The Alta policy covers malpractice claims in excess of $1,000,000 per claim retention, with a $10,000,000 annual aggregate. The General Liability coverage is occurrence coverage with $1,000,000 per occurrence retention. The limit is part of the $10,000,000 annual aggregate. Brotman has a primary limit of $1,000,000 per claim and $3,000,000 aggregate for malpractice claims in excess of a $100,000 per claim retention. The General Liability coverage is occurrence coverage with a limit of $1,000,000 per occurrence and $3,000,000 aggregate in excess of a $100,000 retention. There is also a $9,000,000 aggregate Excess policy which is excess of the primary malpractice and general liability coverage. Total actuarial IBNR reserve balance of approximately $2,821,000 was made for estimated malpractice liability at December 31, 2009. These estimates may change in the future and such changes may be material.
The collective bargaining agreement entered into between Hollywood Community Hospital, which is one of the hospitals under the consolidated group of Alta Hospitals System, LLC, and Service Employees International Union (SEIU), covers a small group of Hollywood Community Hospitals employees and will expire on May 9, 2011. The collective bargaining agreements entered into between Brotman and the California Nurses Association (CNA) and Brotman and the SEIU both expire on February 28, 2010. We currently do not anticipate that any changes in these agreements will have a material adverse effect on results of our Hospital Services operations in fiscal 2010.
The Company is in the process of finalizing certain post-closing matters related to the 2007 ProMed acquisition, including closing balance sheet reconciliations, escrow reconciliations and other matters. The Company has recorded estimated settlement amounts relating to such matters in the accompanying unaudited condensed consolidated financial statements.
The Company is subject to a variety of claims and suits that arise from time to time in the ordinary course of its business, acquisition, or other transactions. While management currently believes that resolving all of these matters, individually or in aggregate, will not have a material adverse impact on the Companys financial position or its results of operations, the litigation and other claims that the Company faces are subject to inherent uncertainties and managements view of these matters may change in the future. Should an unfavorable final outcome occur, there exists the possibility of a materially adverse impact on the Companys financial position, results of operations and cash flows for the period in which the effect becomes probable and reasonably estimable.
13. Condensed consolidating financial statements of Prospect Medical Holding, Inc. and subsidiaries as of December 31, 2009 and September 30, 2009 and for the three months ended December 31, 2009
On July 29, 2009, the Company closed the offering of $160 million in 12.75% senior secured notes due 2014 (the Notes) at an issue price of 92.335%, and entered into a three-year $15 million revolving credit facility which was undrawn at the closing. The Notes and the revolving senior credit facility are jointly and severally guaranteed on a senior secured basis by all of the Companys restricted subsidiaries (the Guarantors), other than Brotman, Nuestra and certain immaterial subsidiaries. The Notes are secured pari passu with the new revolving credit facility on a first priority basis by liens on substantially all of the Companys assets and assets of the subsidiary guarantors (other than accounts receivable and proceeds therefrom) including all mortgages on the Company and its subsidiary guarantors hospital properties (but excluding a pledge of, or mortgage on, the stock, properties or other assets of Brotman, AMVI/Prospect Health Network and certain immaterial subsidiaries). The lenders under the revolving credit facility have a first priority lien on certain of the accounts receivable of the Company and the subsidiary guarantors and proceeds therefrom, while the holders of the Notes have a second priority lien on such collateral (see Note 6).
The Company conducts all of its business through and derives virtually all of its income from its subsidiaries. Therefore, the Companys ability to make required payments with respect to its indebtedness (including the Notes) and other obligations depends on the financial results and condition of its subsidiaries and its ability to receive funds from its subsidiaries.
Pursuant to Rule 3-10 of Regulation S-X, the following summarized consolidating information is provided for the Company (the Parent), the Guarantors, and the Companys non-Guarantor subsidiaries with respect to the Notes as of September 30, 2009 and as of and for the three months ended December 31, 2009. The Condensed Consolidating Statements of Operations and Cash Flows for the three months ended December 31, 2008 have not been included, as the non-guarantor subsidiaries for the comparative period were minor. This summarized financial information has been prepared from the books and records maintained by the Company, the Guarantors and the non-Guarantor subsidiaries. The summarized financial information may not necessarily be indicative of the results of operations or financial position had the Guarantors or non-Guarantor subsidiaries operated as independent entities. In addition, intercompany activities between subsidiaries and the Parent are presented within operating activities on the unaudited condensed consolidating statement of cash flows.
Unaudited Condensed consolidating financial statements for the Company and its subsidiaries, including the Parent only, the combined Guarantor Subsidiaries and the combined Non-Guarantor Subsidiaries are as follows:
PROSPECT MEDICAL HOLDINGS, INC.
CONDENSED CONSOLIDATING BALANCE SHEETS
As of December 31, 2009
(in thousands)
(Unaudited)
|
|
Parent |
|
Combined |
|
Combined Non- |
|
Elimination |
|
Consolidated |
|
|||||
ASSETS |
|
|
|
|
|
|
|
|
|
|
|
|||||
Current assets: |
|
|
|
|
|
|
|
|
|
|
|
|||||
Cash and cash equivalents |
|
$ |
(975 |
) |
$ |
44,124 |
|
$ |
(760 |
) |
$ |
|
|
$ |
42,389 |
|
Restricted cash |
|
|
|
|
|
1,983 |
|
|
|
1,983 |
|
|||||
Investments, primarily restricted certificates of deposit |
|
|
|
634 |
|
|
|
|
|
634 |
|
|||||
Patient accounts receivable, net |
|
|
|
21,651 |
|
20,693 |
|
|
|
42,344 |
|
|||||
Government program receivables |
|
|
|
2,943 |
|
|
|
|
|
2,943 |
|
|||||
Risk pool receivables |
|
|
|
120 |
|
|
|
|
|
120 |
|
|||||
Other receivables |
|
8 |
|
1,553 |
|
|
|
|
|
1,561 |
|
|||||
Third-party settlements |
|
|
|
(63 |
) |
442 |
|
|
|
379 |
|
|||||
Notes receivable, current portion |
|
|
|
57 |
|
|
|
|
|
57 |
|
|||||
Deferred income taxes, net |
|
4,323 |
|
2,321 |
|
|
|
|
|
6,644 |
|
|||||
Inventories |
|
|
|
1,548 |
|
2,603 |
|
|
|
4,151 |
|
|||||
Prepaid expenses and other current assets |
|
554 |
|
3,291 |
|
2,939 |
|
|
|
6,784 |
|
|||||
Intercompany accounts |
|
86,465 |
|
(112,012 |
) |
25,465 |
|
82 |
|
|
|
|||||
Total current assets |
|
90,375 |
|
(33,833 |
) |
53,365 |
|
82 |
|
109,989 |
|
|||||
Property, improvements and equipment: |
|
|
|
|
|
|
|
|
|
|
|
|||||
Land and land improvements |
|
|
|
27,604 |
|
3,424 |
|
|
|
31,028 |
|
|||||
Buildings |
|
|
|
22,619 |
|
1,301 |
|
|
|
23,920 |
|
|||||
Leasehold improvements |
|
5 |
|
2,008 |
|
19 |
|
|
|
2,032 |
|
|||||
Equipment |
|
137 |
|
12,997 |
|
7,796 |
|
|
|
20,930 |
|
|||||
Furniture and fixtures |
|
21 |
|
870 |
|
|
|
|
|
891 |
|
|||||
|
|
163 |
|
66,098 |
|
12,540 |
|
|
|
78,801 |
|
|||||
Less accumulated depreciation and amortization |
|
(143 |
) |
(11,126 |
) |
(3,666 |
) |
|
|
(14,935 |
) |
|||||
Total property, improvement and equipment, net |
|
20 |
|
54,972 |
|
8,874 |
|
|
|
63,866 |
|
|||||
Notes receivable, long-term portion |
|
|
|
343 |
|
|
|
|
|
343 |
|
|||||
Deposits and other assets |
|
6 |
|
278 |
|
17 |
|
|
|
301 |
|
|||||
Deferred financing costs, net |
|
6,644 |
|
|
|
1,141 |
|
|
|
7,785 |
|
|||||
Goodwill |
|
|
|
153,250 |
|
|
|
|
|
153,250 |
|
|||||
Other intangible assets, net |
|
|
|
45,325 |
|
|
|
|
|
45,325 |
|
|||||
Total Assets |
|
$ |
97,045 |
|
$ |
220,335 |
|
$ |
63,397 |
|
$ |
82 |
|
$ |
380,859 |
|
LIABILITIES & SHAREHOLDERS EQUITY |
|
|
|
|
|
|
|
|
|
|
|
|||||
Current liabilities: |
|
|
|
|
|
|
|
|
|
|
|
|||||
Accrued medical claims and other healthcare costs payable |
|
$ |
|
|
$ |
15,496 |
|
$ |
288 |
|
$ |
|
|
$ |
15,784 |
|
Accounts payable and other accrued liabilities |
|
11,638 |
|
10,446 |
|
12,599 |
|
|
|
34,683 |
|
|||||
Accrued salaries, wages and benefits |
|
2,794 |
|
10,966 |
|
8,446 |
|
|
|
22,206 |
|
|||||
Due to government payer |
|
|
|
|
|
13,834 |
|
|
|
13,834 |
|
|||||
Income taxes payable, net |
|
(232 |
) |
670 |
|
(57 |
) |
|
|
381 |
|
|||||
Current portion of capital leases |
|
|
|
439 |
|
397 |
|
|
|
836 |
|
|||||
Current portion of long-term debt |
|
|
|
|
|
5,543 |
|
|
|
5,543 |
|
|||||
Other current liabilities |
|
|
|
954 |
|
|
|
|
|
954 |
|
|||||
Total current liabilities |
|
14,200 |
|
38,971 |
|
41,050 |
|
|
|
94,221 |
|
|||||
Long-term debt, net of current portion |
|
148,439 |
|
|
|
24,155 |
|
|
|
172,594 |
|
|||||
Deferred income taxes |
|
8,911 |
|
21,064 |
|
|
|
|
|
29,975 |
|
|||||
Malpractice reserve |
|
|
|
881 |
|
1,940 |
|
|
|
2,821 |
|
|||||
Capital leases, net of current portion |
|
|
|
719 |
|
237 |
|
|
|
956 |
|
|||||
Other long-term liabilities |
|
79 |
|
87 |
|
|
|
|
|
166 |
|
|||||
Total liabilities |
|
171,629 |
|
61,722 |
|
67,382 |
|
|
|
300,733 |
|
|||||
Shareholders equity (deficit): |
|
|
|
|
|
|
|
|
|
|
|
|||||
Prospect Medical Holdings, Inc.s Shareholders equity |
|
|
|
|
|
|
|
|
|
|
|
|||||
Common stock |
|
208 |
|
(53 |
) |
(114 |
) |
167 |
|
208 |
|
|||||
Additional paid-in-capital |
|
95,413 |
|
256 |
|
|
|
|
|
95,669 |
|
|||||
Accumulated deficit |
|
(170,205 |
) |
158,410 |
|
(3,871 |
) |
222 |
|
(15,444 |
) |
|||||
Total Prospect Medical Holdings, Inc.s Shareholders equity (deficit) |
|
(74,584 |
) |
158,613 |
|
(3,985 |
) |
389 |
|
80,433 |
|
|||||
Non controlling interest |
|
|
|
|
|
|
|
(307 |
) |
(307 |
) |
|||||
Total Shareholders equity (deficit) |
|
(74,584 |
) |
158,613 |
|
(3,985 |
) |
82 |
|
80,126 |
|
|||||
Total liabilities and Shareholders equity |
|
$ |
97,045 |
|
$ |
220,335 |
|
$ |
63,397 |
|
$ |
82 |
|
$ |
380,859 |
|
PROSPECT MEDICAL HOLDINGS, INC.
CONDENSED CONSOLIDATING BALANCE SHEETS
As of September 30, 2009
(in thousands)
|
|
Parent |
|
Combined |
|
Combined Non- |
|
Elimination |
|
Consolidated |
|
|||||
ASSETS |
|
|
|
|
|
|
|
|
|
|
|
|||||
Current assets: |
|
|
|
|
|
|
|
|
|
|
|
|||||
Cash and cash equivalents |
|
$ |
(514 |
) |
$ |
36,995 |
|
$ |
1,287 |
|
$ |
|
|
$ |
37,768 |
|
Restricted cash |
|
|
|
|
|
1,395 |
|
|
|
1,395 |
|
|||||
Investments, primarily restricted certificates of deposit |
|
|
|
665 |
|
|
|
|
|
665 |
|
|||||
Patient accounts receivable, net |
|
|
|
19,543 |
|
17,263 |
|
|
|
36,806 |
|
|||||
Government program receivables |
|
|
|
4,852 |
|
|
|
|
|
4,852 |
|
|||||
Other receivables |
|
8 |
|
1,647 |
|
|
|
|
|
$ |
1,655 |
|
||||
Third-party settlements |
|
|
|
790 |
|
785 |
|
|
|
1,575 |
|
|||||
Notes receivable, current portion |
|
|
|
56 |
|
|
|
|
|
56 |
|
|||||
Refundable income taxes, net |
|
1,545 |
|
13 |
|
|
|
|
|
1,558 |
|
|||||
Deferred income taxes, net |
|
4,323 |
|
2,321 |
|
|
|
|
|
6,644 |
|
|||||
Inventories |
|
|
|
1,477 |
|
2,660 |
|
|
|
4,137 |
|
|||||
Prepaid expenses and other current assets |
|
72 |
|
2,491 |
|
2,817 |
|
|
|
5,380 |
|
|||||
Intercompany accounts |
|
90,190 |
|
(119,113 |
) |
28,841 |
|
82 |
|
|
|
|||||
Total current assets |
|
95,624 |
|
(48,263 |
) |
55,048 |
|
82 |
|
102,491 |
|
|||||
Property, improvements and equipment: |
|
|
|
|
|
|
|
|
|
|
|
|||||
Land and land improvements |
|
|
|
27,604 |
|
3,424 |
|
|
|
31,028 |
|
|||||
Buildings |
|
|
|
22,400 |
|
1,265 |
|
|
|
23,665 |
|
|||||
Leasehold improvements |
|
5 |
|
2,024 |
|
|
|
|
|
2,029 |
|
|||||
Equipment |
|
131 |
|
12,396 |
|
7,728 |
|
|
|
20,255 |
|
|||||
Furniture and fixtures |
|
21 |
|
892 |
|
|
|
|
|
913 |
|
|||||
|
|
157 |
|
65,316 |
|
12,417 |
|
|
|
77,890 |
|
|||||
Less accumulated depreciation and amortization |
|
(138 |
) |
(10,591 |
) |
(3,437 |
) |
|
|
(14,166 |
) |
|||||
Total property, improvement and equipment, net |
|
19 |
|
54,725 |
|
8,980 |
|
|
|
63,724 |
|
|||||
Notes receivable, long-term portion |
|
|
|
357 |
|
|
|
|
|
357 |
|
|||||
Deposits and other assets |
|
6 |
|
358 |
|
330 |
|
|
|
694 |
|
|||||
Deferred financing costs, net |
|
6,878 |
|
|
|
1,327 |
|
|
|
8,205 |
|
|||||
Deferred income taxes, net |
|
(643 |
) |
643 |
|
|
|
|
|
|
|
|||||
Goodwill |
|
|
|
153,250 |
|
|
|
|
|
153,250 |
|
|||||
Other intangible assets, net |
|
|
|
46,425 |
|
|
|
|
|
46,425 |
|
|||||
Total Assets |
|
$ |
101,884 |
|
$ |
207,495 |
|
$ |
65,685 |
|
$ |
82 |
|
$ |
375,146 |
|
LIABILITIES & SHAREHOLDERS EQUITY |
|
|
|
|
|
|
|
|
|
|
|
|||||
Current liabilities: |
|
|
|
|
|
|
|
|
|
|
|
|||||
Accrued medical claims and other healthcare costs payable |
|
$ |
|
|
$ |
16,613 |
|
$ |
211 |
|
$ |
|
|
$ |
16,824 |
|
Accounts payable and other accrued liabilities |
|
7,102 |
|
10,548 |
|
14,123 |
|
|
|
31,773 |
|
|||||
Accrued salaries, wages and benefits |
|
4,151 |
|
11,543 |
|
9,209 |
|
|
|
24,903 |
|
|||||
Due to government payer |
|
|
|
|
|
13,834 |
|
|
|
13,834 |
|
|||||
Income taxes payable, net |
|
(1,029 |
) |
1,086 |
|
(57 |
) |
|
|
|
|
|||||
Current portion of capital leases |
|
|
|
383 |
|
437 |
|
|
|
820 |
|
|||||
Current portion of long-term debt |
|
|
|
|
|
3,805 |
|
|
|
3,805 |
|
|||||
Other current liabilities |
|
13 |
|
616 |
|
|
|
|
|
629 |
|
|||||
Total current liabilities |
|
10,237 |
|
40,789 |
|
41,562 |
|
|
|
92,588 |
|
|||||
Long-term debt, net of current portion |
|
148,020 |
|
|
|
24,519 |
|
|
|
172,539 |
|
|||||
Deferred income taxes |
|
8,269 |
|
21,706 |
|
|
|
|
|
29,975 |
|
|||||
Malpractice reserve |
|
|
|
914 |
|
1,910 |
|
|
|
2,824 |
|
|||||
Capital leases, net of current portion |
|
|
|
299 |
|
270 |
|
|
|
569 |
|
|||||
Other long-term liabilities |
|
78 |
|
84 |
|
|
|
|
|
162 |
|
|||||
Total liabilities |
|
166,604 |
|
63,792 |
|
68,261 |
|
|
|
298,657 |
|
|||||
Shareholders equity (deficit): |
|
|
|
|
|
|
|
|
|
|
|
|||||
Prospect Medical Holdings, Inc.s Shareholders equity |
|
|
|
|
|
|
|
|
|
|
|
|||||
Common stock |
|
206 |
|
(53 |
) |
(114 |
) |
167 |
|
206 |
|
|||||
Additional paid-in-capital |
|
94,242 |
|
256 |
|
|
|
|
|
94,498 |
|
|||||
Accumulated deficit |
|
(159,168 |
) |
143,500 |
|
(2,462 |
) |
(173 |
) |
(18,303 |
) |
|||||
Total Prospect Medical Holdings, Inc.s Shareholders equity (deficit) |
|
(64,720 |
) |
143,703 |
|
(2,576 |
) |
(6 |
) |
76,401 |
|
|||||
Non controlling interest |
|
|
|
|
|
|
|
88 |
|
88 |
|
|||||
Total Shareholders equity (deficit) |
|
(64,720 |
) |
143,703 |
|
(2,576 |
) |
(82 |
) |
76,489 |
|
|||||
Total liabilities and Shareholders equity |
|
$ |
101,884 |
|
$ |
207,495 |
|
$ |
65,685 |
|
$ |
|
|
$ |
375,146 |
|
PROSPECT MEDICAL HOLDINGS, INC.
CONDENSED CONSOLIDATING STATEMENTS OF OPERATIONS
For the Three Months Ended December 31, 2009
(in thousands)
(Unaudited)
|
|
Parent |
|
Combined |
|
Combined Non- |
|
Elimination |
|
Consolidated |
|
|||||
Revenues: |
|
|
|
|
|
|
|
|
|
|
|
|||||
Net hospital services revenues |
|
$ |
|
|
$ |
40,123 |
|
$ |
32,264 |
|
$ |
(2,975 |
) |
$ |
69,412 |
|
Medical group revenues |
|
|
|
46,131 |
|
631 |
|
(78 |
) |
46,684 |
|
|||||
Total revenues |
|
|
|
86,254 |
|
32,895 |
|
(3,053 |
) |
116,096 |
|
|||||
Operating expenses: |
|
|
|
|
|
|
|
|
|
|
|
|||||
Hospital operating expenses |
|
|
|
22,948 |
|
26,720 |
|
|
|
49,668 |
|
|||||
Medical group cost of revenues |
|
|
|
36,351 |
|
494 |
|
|
|
36,845 |
|
|||||
General and administrative |
|
3,500 |
|
10,008 |
|
5,673 |
|
(3,053 |
) |
16,128 |
|
|||||
Depreciation and amortization |
|
4 |
|
1,837 |
|
237 |
|
|
|
2,078 |
|
|||||
Total operating expenses |
|
3,504 |
|
71,144 |
|
33,124 |
|
(3,053 |
) |
104,719 |
|
|||||
Operating income from unconsolidated joint venture |
|
|
|
450 |
|
|
|
|
|
450 |
|
|||||
Operating (loss) income |
|
(3,504 |
) |
15,560 |
|
(229 |
) |
|
|
11,827 |
|
|||||
Other (income) expense: |
|
|
|
|
|
|
|
|
|
|
|
|||||
Investment income |
|
(106 |
) |
(29 |
) |
|
|
106 |
|
(29 |
) |
|||||
Interest expense and amortization deferred financing cost |
|
5,797 |
|
17 |
|
1,181 |
|
(106 |
) |
6,889 |
|
|||||
Total other (income) expense, net |
|
5,691 |
|
(12 |
) |
1,181 |
|
|
|
6,860 |
|
|||||
Income (loss) before income taxes |
|
(9,195 |
) |
15,572 |
|
(1,410 |
) |
|
|
4,967 |
|
|||||
Provision for income taxes |
|
1,842 |
|
661 |
|
|
|
|
|
2,503 |
|
|||||
Net income (loss) |
|
(11,037 |
) |
14,911 |
|
(1,410 |
) |
|
|
2,464 |
|
|||||
Income (loss) attributable to noncontrolling interest |
|
|
|
|
|
|
|
(395 |
) |
(395 |
) |
|||||
Net income (loss) attributable to Prospect Medical Holdings, Inc. |
|
$ |
(11,037 |
) |
$ |
14,911 |
|
$ |
(1,410 |
) |
$ |
395 |
|
$ |
2,859 |
|
PROSPECT MEDICAL HOLDINGS, INC.
CONDENSED CONSOLIDATING STATEMENTS OF CASH FLOWS
For the Three Months ended December 31, 2009
(in thousands)
(Unaudited)
|
|
Parent |
|
Combined |
|
Combined Non- |
|
Elimination |
|
Consolidated |
|
|||||
Net (Loss) Income |
|
$ |
(11,037 |
) |
$ |
14,911 |
|
$ |
(1,410 |
) |
$ |
|
|
$ |
2,464 |
|
Operating activities: |
|
|
|
|
|
|
|
|
|
|
|
|||||
Depreciation and amortization |
|
4 |
|
1,837 |
|
237 |
|
|
|
2,078 |
|
|||||
Amortization of deferred financing costs |
|
273 |
|
|
|
186 |
|
|
|
459 |
|
|||||
Amortization of original Issue Discount |
|
419 |
|
|
|
|
|
|
|
419 |
|
|||||
Gain on interest rate swaps |
|
|
|
|
|
|
|
|
|
|
|
|||||
Provision for bad debts |
|
|
|
2,178 |
|
4,792 |
|
|
|
6,970 |
|
|||||
Gain on sale of assets |
|
|
|
(7 |
) |
|
|
|
|
(7 |
) |
|||||
Stock-based compensation |
|
1,173 |
|
|
|
|
|
|
|
1,173 |
|
|||||
Intercompany accounts |
|
3,726 |
|
(7,101 |
) |
3,375 |
|
|
|
|
|
|||||
Changes in operating activities: |
|
|
|
|
|
|
|
|
|
|
|
|||||
Risk pool receivables |
|
|
|
(120 |
) |
|
|
|
|
(120 |
) |
|||||
Patient and other receivables |
|
|
|
(1,431 |
) |
(7,879 |
) |
|
|
(9,310 |
) |
|||||
Prepaid expenses and other |
|
(483 |
) |
(800 |
) |
(121 |
) |
|
|
(1,404 |
) |
|||||
Inventory |
|
|
|
(70 |
) |
56 |
|
|
|
(14 |
) |
|||||
Refundable income taxes |
|
1,545 |
|
13 |
|
|
|
|
|
1,558 |
|
|||||
Deposits |
|
|
|
81 |
|
312 |
|
|
|
393 |
|
|||||
Accrued medical claims and other healthcare costs payable |
|
|
|
(1,118 |
) |
78 |
|
|
|
(1,040 |
) |
|||||
Accounts payable |
|
3,166 |
|
(370 |
) |
(2,257 |
) |
|
|
539 |
|
|||||
Income taxes payable |
|
798 |
|
(417 |
) |
|
|
|
|
381 |
|
|||||
Net cash provided by (used in) operating activities |
|
(416 |
) |
7,586 |
|
(2,631 |
) |
|
|
4,539 |
|
|||||
Investing activities: |
|
|
|
|
|
|
|
|
|
|
|
|||||
Purchase of PP&E, net |
|
(6 |
) |
(399 |
) |
(76 |
) |
|
|
(481 |
) |
|||||
Decrease on note receivable |
|
|
|
13 |
|
|
|
|
|
13 |
|
|||||
Decrease in restricted certificates of deposit |
|
|
|
31 |
|
|
|
|
|
31 |
|
|||||
Net cash provided by (used in) investing activities |
|
(6 |
) |
(355 |
) |
(76 |
) |
|
|
(437 |
) |
|||||
Financing activities |
|
|
|
|
|
|
|
|
|
|
|
|||||
Borrowings from long-term debt |
|
|
|
|
|
|
|
|
|
|
|
|||||
Repayment of capital leases |
|
|
|
(102 |
) |
(126 |
) |
|
|
(228 |
) |
|||||
Repayment of long-term debt |
|
|
|
|
|
|
|
|
|
|
|
|||||
Borrowings on line of credit |
|
|
|
|
|
26,251 |
|
|
|
26,251 |
|
|||||
Repayments on line of credit |
|
|
|
|
|
(24,596 |
) |
|
|
(24,596 |
) |
|||||
Repayment of Class 4 Note |
|
|
|
|
|
(281 |
) |
|
|
(281 |
) |
|||||
Cash paid for deferred financing costs |
|
(39 |
) |
|
|
|
|
|
|
(39 |
) |
|||||
Change in restricted cash |
|
|
|
|
|
(588 |
) |
|
|
(588 |
) |
|||||
Net cash provided by (used in) financing activities |
|
(39 |
) |
(102 |
) |
660 |
|
|
|
519 |
|
|||||
Net increase (decrease) in cash and cash equivalents |
|
(461 |
) |
7,129 |
|
(2,047 |
) |
|
|
4,621 |
|
|||||
Cash and cash equivalents at 9/30/09 |
|
(514 |
) |
36,995 |
|
1,287 |
|
|
|
37,768 |
|
|||||
Cash and cash equivalents at 12/31/09 |
|
$ |
(975 |
) |
$ |
44,124 |
|
$ |
(760 |
) |
$ |
|
|
$ |
42,389 |
|
14. Subsequent Event
Effective December 15, 2009, Brotman initiated a Rights Offering (Rights Offering), whereby existing shareholders of Brotman could subscribe to purchase up to $5,500,000 of Brotman convertible subordinated promissory notes (the Brotman Notes). The Brotman Notes will be due three years from the date of issuance, will bear interest at 15% per annum and will be convertible at the option of the holder into shares of Brotman, at $3.34 per share. Prospect exercised its right to purchase a share of the Notes and, effective January 7, 2010, purchased $3,500,000 of such Notes.
Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations.
Forward-Looking Statements
The following discussion of our financial condition and results of operations should be read in conjunction with the accompanying unaudited interim condensed consolidated financial statements and the notes to those statements appearing elsewhere in this report and the audited consolidated financial statements for the year ended September 30, 2009 appearing in our annual report on Form 10-K and subsequent filings with the Securities and Exchange Commission.
This discussion contains forward-looking statements that involve risks and uncertainties. These forward-looking statements are often accompanied by words such as believe, should, anticipate, plan, expect, potential, scheduled, estimate, intend, seek, goal, may and similar expressions. These statements include, without limitation, statements about our market opportunity, our growth strategy, competition, expected activities and future acquisitions and investments and the adequacy of our available cash resources. Investors are urged to read these statements carefully, and are cautioned that matters subject to forward-looking statements involve risks and uncertainties, including economic, regulatory, competitive and other factors that may affect our business. These statements are not guarantees of future performance and are subject to risks, uncertainties and assumptions. Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity, performance, or achievements. Moreover, we do not assume any responsibility for the accuracy and completeness of such statements in the future, and we do not undertake to update or revise any forward-looking statements to reflect future events or new information.
Forward-looking statements involve known and unknown risks and uncertainties that may cause our actual results in future periods to differ materially from those projected or contemplated in the forward-looking statements as a result of, but not limited to, the following factors:
· Receipt of reimbursement from third party providers and collections of accounts receivable from uninsured patients;
· Growth of uninsured and underinsured patients;
· Decreases in the number of Health Maintenance Organization (HMO) enrollees using our affiliated independent physician organizations (IPA) networks;
· Concentration of revenues with a limited number of payers and HMOs;
· Risk-sharing arrangements and volume and timing of healthcare claims;
· Healthcare costs;
· Our ability to maintain required working capital;
· Our ability to acquire advanced diagnostic and surgical equipment and information technology systems;
· Our ability to make acquisitions and integrate the operations of acquired hospitals;
· Reliance on key executive management and key physicians;
· Labor costs;
· Competition;
· Government regulation and changes in the regulatory and healthcare policy environment;
· Economic trends generally and local economic conditions in Southern California;
· Medical malpractice claims and HMO bad-faith liability claims;
· Weather conditions, severity of annual flu seasons and other factors;
· Recurring losses at Brotman could have a significant negative impact on our consolidated financial position and our ability to refinance Brotman debt on favorable terms; and
· Certain risks more fully described under the heading Risk Factors in our SEC filings.
Investors should also refer to our Form 10-K annual report filed with the Securities and Exchange Commission on December 21, 2009 for a discussion of risk factors. A copy of the Form 10-K annual report can be found on the internet at www.prospectmedicalholdings.com or through the SECs electronic data system called EDGAR at www.sec.gov. Given these risks and uncertainties, we can give no assurances that results projected in any forward-looking statements will in fact occur and therefore caution investors not to place undue reliance on them.
Overview
Prior to the acquisition of Alta and Brotman, our organization was focused solely on providing medical management systems and services to affiliated medical organizations, primarily Independent Physician Associations. With the acquisition of Alta and Brotman, we now own and operate five hospitals in Southern California and our operations are now organized into three reporting segments: Hospital Services, Medical Group and Corporate. The Hospital Services segment includes the results of operations and financial position of Brotman beginning April 14, 2009.
Hospital Services Segment
The Hospital Services segment owns and operates five hospitals in Los Angeles County with a total of approximately 759 licensed beds served by 844 on-staff physicians at December 31, 2009. Each of the community hospitals in Hollywood, Los Angeles, Norwalk and Culver City offers a comprehensive range of medical and surgical services, including inpatient, outpatient, skilled nursing and urgent care services. The psychiatric hospital in Van Nuys provides acute inpatient and outpatient psychiatric services to patients admitted on a voluntary basis. Admitting physicians are primarily practitioners in the local area. The hospitals have payment arrangements with Medicare, Medi-Cal and other third-party payers including some commercial insurance carriers, HMOs and Preferred Provider Organizations (PPOs). The basis for such payments involving inpatient and outpatient services rendered includes prospectively determined rates per discharge and cost-reimbursed methodologies. The Alta hospitals are eligible to receive additional Disproportionate Share Hospital Program (DSH) payment adjustments from Medicare and Medi-Cal based on a prospective payment system for hospitals that serve large proportions of low-income patients. The Brotman hospital is eligible to receive DSH payment adjustments from Medicare and supplemental Distressed Hospital Fund payments from the California Medical Assistance Commission (CMAC).
Operating revenue of our Hospital Services segment consists primarily of payments for services rendered, including estimated retroactive adjustments under reimbursement arrangements with third-party payers. In some cases, reimbursement is based on formulas and reimbursable amounts are not considered final until cost reports are filed and audited or otherwise settled by the various programs. We accrue for amounts that we believe will ultimately be due to or from Medicare and other third-party payers and report such amounts as net patient revenues in the accompanying unaudited condensed consolidated financial statements. We closely monitor our historical collection rates, as well as changes in applicable laws, rules and regulations and contract terms, to assure that provisions are made using the most accurate information available. However, due to the complexities involved in these estimations, actual payments from payers may be materially different from the amounts we estimate and record. A summary of the payment arrangements with major third-party payers follows:
Medicare: Medicare is a federal program that provides certain hospital and medical insurance benefits to persons aged 65 and over, some disabled persons with end-stage renal disease and certain other beneficiary categories. Inpatient services rendered to Medicare program beneficiaries are paid at prospectively determined rates per discharge, according to a patient classification system based on clinical, diagnostic, and other factors. Outpatient services are paid based on a blend of prospectively determined rates and cost-reimbursed methodologies. We are also reimbursed for various disproportionate share and Medicare bad debt components at tentative rates, with final settlement determined after submission of annual Medicare cost reports and audit thereof by the Medicare fiscal intermediary. Normal estimation differences between final settlements and amounts accrued in previous years are reflected in net patient service revenue in the year of final settlement.
Medi-Cal: Medi-Cal is a joint federal-state funded healthcare benefit program that is administered by the state of California to provide benefits to qualifying individuals who are unable to afford care. As such, Medi-Cal constitutes the version of the federal Medicaid program that is applicable to California residents. Inpatient services rendered to Medi-Cal program beneficiaries are paid at contracted per diem rates. The per diem rates are not subject to retrospective adjustment. Outpatient services are paid based on prospectively determined rates per procedure provided.
Managed Care: We also receive payment from certain commercial insurance carriers, HMOs, and PPOs, though generally do not enter into contracts with these entities. The basis for payment under these agreements includes our standard charges for services.
Self-Pay: Our hospitals provide services to individuals that do not have any form of healthcare coverage. Such patients are evaluated, at the time of service or shortly thereafter, for their ability to pay based upon federal and state poverty guidelines, qualifications for Medi-Cal, as well as our local hospitals indigent and charity care policy.
Hospital revenues depend upon inpatient occupancy levels, the medical and ancillary services and therapy programs ordered by physicians and provided to patients, the volume of outpatient procedures and the charges or negotiated payment rates for such services. Charges and reimbursement rates for inpatient routine services vary depending on the type of services provided (e.g., medical/surgical, intensive care or behavioral health) and the geographic location of the hospital. Inpatient occupancy levels fluctuate for various reasons, many of which are beyond our control. The percentage of patient service revenue attributable to outpatient services has generally increased in recent years, primarily as a result of advances in medical technology that allow more services to be provided on an outpatient basis, as well as increased pressure from Medicare, Medi-Cal and private insurers to reduce hospital stays and provide services, where possible, on a less expensive outpatient basis. We believe that our experience with respect to our increased outpatient levels mirrors the general trend occurring in the healthcare industry and we are unable to predict the rate of growth and resulting impact on our future revenues.
Patients are generally not responsible for any difference between customary hospital charges and amounts reimbursed for such services under Medicare, Medicaid, some private insurance plans, and managed care plans, but are responsible for services not covered by such plans, exclusions, deductibles or co-insurance features of their coverage. The amount of such exclusions, deductibles and co-insurance has generally been increasing each year. Indications from recent federal and state legislation are that this trend will continue. Collection of amounts due from individuals is typically more difficult than from governmental or business payers and increases in uninsured and self-pay patients unfavorably impact the collectability of our patient accounts, thereby increasing our provision for doubtful accounts and charity care provided.
Operating expenses of our Hospital Services segment generally consist of salaries, benefits and other compensation paid to healthcare professionals that are employees of our hospitals, medical supplies, consultant and professional services, and provision for doubtful accounts.
General and administrative expenses of our Hospital Services segment generally consists of salaries, benefits and other compensation for our hospital administrative employees, insurance, rent, operating supplies, legal, accounting and marketing.
Hospital Services Results of Operations
The following table sets forth the results of operation for our hospitals and is used in the discussion below for the three-month periods ended December 31, 2009 and 2008 (in thousands).
|
|
Three Months Ended |
|
% |
|
||||
|
|
December 31, |
|
Increase |
|
||||
|
|
2009(5) |
|
2008 |
|
(Decrease) |
|
||
Net Hospital Services revenues: |
|
|
|
|
|
|
|
||
Medicare |
|
$ |
36,729 |
|
$ |
16,858 |
|
117.9 |
% |
Medi-Cal |
|
16,733 |
|
16,114 |
|
3.8 |
% |
||
Managed care |
|
11,672 |
|
1,483 |
|
687.1 |
% |
||
Self pay |
|
4,115 |
|
507 |
|
711.6 |
% |
||
Other |
|
163 |
|
361 |
|
(54.8 |
)% |
||
Total Hospital Services revenues |
|
69,412 |
|
35,323 |
|
96.5 |
% |
||
Hospital operating expenses: |
|
|
|
|
|
|
|
||
Salaries, wages and benefits |
|
31,915 |
|
15,894 |
|
100.8 |
% |
||
Other operating expenses |
|
4,212 |
|
2,185 |
|
92.8 |
% |
||
Supplies expense |
|
5,859 |
|
2,193 |
|
167.2 |
% |
||
Provision for doubtful accounts |
|
6,971 |
|
1,493 |
|
366.9 |
% |
||
Lease and rental expense |
|
711 |
|
381 |
|
86.6 |
% |
||
Total Hospital Services operating expenses |
|
49,668 |
|
22,146 |
|
124.3 |
% |
||
General and administrative expenses |
|
5,958 |
|
3,167 |
|
88.1 |
% |
||
Depreciation and amortization expense |
|
1,205 |
|
892 |
|
35.1 |
% |
||
Total non-medical expenses |
|
7,163 |
|
4,059 |
|
76.5 |
% |
||
Operating income |
|
$ |
12,581 |
|
$ |
9,118 |
|
38.0 |
% |
The following table sets forth selected operating items, expressed as a percentage of total net hospital services revenue:
|
|
Three Months Ended |
|
||
|
|
2009(5) |
|
2008 |
|
Net Hospital Services revenues: |
|
|
|
|
|
Medicare |
|
52.9 |
% |
47.7 |
% |
Medi-Cal |
|
24.1 |
% |
45.6 |
% |
Managed care |
|
16.8 |
% |
4.2 |
% |
Self pay |
|
6.0 |
% |
1.5 |
% |
Other |
|
0.2 |
% |
1.0 |
% |
Total Hospital Services revenues |
|
100.0 |
% |
100.0 |
% |
Hospital Services operating expenses: |
|
|
|
|
|
Salaries, wages and benefits |
|
46.0 |
% |
45.0 |
% |
Other operating expenses |
|
6.1 |
% |
6.2 |
% |
Supplies expense |
|
8.5 |
% |
6.2 |
% |
Provision for doubtful accounts |
|
10.0 |
% |
4.2 |
% |
Lease and rental expense |
|
1.0 |
% |
1.1 |
% |
Total Hospital Services operating expenses |
|
71.6 |
% |
62.7 |
% |
General and administrative expenses |
|
8.6 |
% |
9.0 |
% |
Depreciation and amortization expense |
|
1.7 |
% |
2.5 |
% |
Total non-medical expenses |
|
10.3 |
% |
11.5 |
% |
Operating income |
|
18.1 |
% |
25.8 |
% |
The following table shows certain selected historical operating statistics for our hospitals as of and for the three-month periods ended December 31, 2009 and 2008:
|
|
Three Months Ended |
|
% |
|
||||
|
|
2009 (5) |
|
2008 |
|
(Decrease) |
|
||
Net inpatient revenues (in thousands) (1) |
|
$ |
61,324 |
|
$ |
33,240 |
|
84.5 |
% |
Net outpatient revenues (in thousands) (1) |
|
$ |
7,925 |
|
$ |
1,722 |
|
360.2 |
% |
Other hospital services revenues (in thousands) |
|
$ |
163 |
|
$ |
361 |
|
(54.8 |
)% |
Number of hospitals at end of period |
|
5 |
|
4 |
|
25.0 |
% |
||
Licensed beds at end of the period |
|
759 |
|
339 |
|
123.9 |
% |
||
Average licensed beds |
|
759 |
|
339 |
|
123.9 |
% |
||
Average available beds |
|
616 |
|
330 |
|
86.7 |
% |
||
Admissions(2) |
|
5,987 |
|
3,585 |
|
67.0 |
% |
||
Adjusted patient admissions(3) |
|
6,701 |
|
3,771 |
|
77.7 |
% |
||
Net inpatient revenue per admission |
|
$ |
10,243 |
|
$ |
9,272 |
|
10.5 |
% |
Patient days |
|
38,048 |
|
23,467 |
|
62.1 |
% |
||
Adjusted patient days |
|
42,768 |
|
24,953 |
|
71.4 |
% |
||
Average length of patients stay (days) |
|
6.4 |
|
5.8 |
|
10.3 |
% |
||
Net inpatient revenue per patient day |
|
$ |
1,612 |
|
$ |
1,415 |
|
13.9 |
% |
Outpatient visits |
|
14,156 |
|
4,956 |
|
185.6 |
% |
||
Net outpatient revenue per visit |
|
$ |
559 |
|
$ |
347 |
|
61.1 |
% |
Occupancy rate for licensed beds(4) |
|
54.5 |
% |
75.2 |
% |
(27.5 |
)% |
||
Occupancy rate for available beds(4) |
|
67.1 |
% |
77.3 |
% |
(13.2 |
)% |
(1) Net inpatient revenues and net outpatient revenues are components of net patient revenues. Net inpatient revenues for the three months ended December 31, 2009 and 2008, include self-pay revenues of $1,925,000 and $482,000, respectively. Net outpatient revenues for the three months ended December 31, 2009 and 2008 include self-pay revenues of $2,190,000 and $25,000, respectively.
(2) Charity care admissions represent 1.0% and 0.6% of total admissions for the three months ended December 31, 2009 and 2008, respectively. Based on the Companys gross charge rate, revenues foregone under the charity policy, including indigent accounts were approximately $1,205,000 and $395,000 for the three months ended December 31, 2009 and 2008, respectively.
(3) Adjusted patient admissions are total admissions adjusted for outpatient volume. Adjusted admissions are computed by multiplying admissions (inpatient volume) by the sum of gross inpatient charges and gross outpatient charges and then dividing the resulting amount by gross inpatient charges.
(4) Utilization of licensed beds represents patient days divided by average licensed beds divided by number of days in the period. Occupancy rates are affected by many factors, including the population size and general economic conditions within particular market service areas, the degrees of variation in medical and surgical products, outpatient use of hospital services, quality and treatment availability at competing hospitals and seasonality.
(5) The three months ended December 31, 2009 include Brotman operating results, as the Company acquired a majority stake in, and began consolidating, Brotman, since April 14, 2009. Accordingly, the comparative period does not include any operating results of Brotman.
Three Months Ended December 31, 2009 Compared to Three Months Ended December 31, 2008
Net Hospital Services Revenues
Net inpatient revenues for the three months ended December 31, 2009 were approximately $61,324,000, representing an increase of approximately $28,084,000 or 84.5% from net inpatient revenues for the three months ended December 31, 2008, of approximately $33,240,000. The three months ended December 31, 2009 include the results of Brotman, which, accounted for $26,626,000 or 94.8% of the increase.
Excluding Brotman, same hospital net inpatient revenues increased by approximately $1,458,000 or 4.4% during fiscal 2010 period as compared to fiscal 2009 period. The increase was due to small increases in both Medicare and Medi-Cal reimbursement rates and increases in total admissions, offset by patient case mix and small decreases in average length of patients stay.
Same-hospital admissions, excluding the effect of Brotman, for the three months ended December 31, 2009 increased by approximately 8.7% compared to the three months ended December 31, 2008 primarily due to net volume increases in the primary service lines.
Net outpatient revenues for the three months ended December 31, 2009 were approximately $7,925,000, representing an increase of approximately $6,203,000 or 360.2% from net outpatient revenues for the three months ended December 31, 2008, of approximately $1,722,000. The three months ended December 31, 2009 include the results of Brotman, which, accounted for $5,551,000 or 89.5% of the increase.
Excluding Brotman, same hospital net outpatient revenues increased by approximately $652,000 or 37.9%. The increase was due primarily to increased outpatient visits, primarily attributable to H1N1-related cases.
Salaries, Wages and Benefits
Salaries, wages and benefits for the three months ended December 31, 2009 were approximately $31,915,000, representing an increase of approximately $16,021,000 or 100.8% from salaries, wages and benefits for the three months ended December 31, 2008, of approximately $15,894,000. The three months ended December 31, 2009 include the results of Brotman, which, accounted for $15,389,000 or 96.8% of the increase.
Excluding Brotman, same hospital salaries, wages and benefits expense as a percentage of net Hospital Services revenues for the three months ended December 31, 2009 was 44.5%, compared to 45.0% for the three months ended December 31, 2008, with such decrease being primarily due to conversion of certain hospital personnel from contracted to salaried basis, plus productivity gains.
As of December 31, 2009, approximately 5.0% and 79.0%, of the total employees at our Alta and Brotman hospitals were represented by labor unions, respectively. We believe that labor relations at our hospital facilities generally have been satisfactory. The collective bargaining agreement entered into between Hollywood Community Hospital, which is one of the hospitals under the consolidated group of Alta Hospitals System, LLC, and Service Employees International Union (SEIU), covers a small group of Hollywood Community Hospitals employees and will expire on May 9, 2011. The collective bargaining agreements entered into between Brotman and the California Nurses Association (CNA) and Brotman and the SEIU both expire on February 28, 2010. We currently do not anticipate that any changes in these agreements will have a material adverse effect on results of our Hospital Services operations in fiscal 2010.
Other Operating Expenses
Other operating expense for the three months ended December 31, 2009 was approximately $4,212,000, representing an increase of $2,028,000 or 92.8% from other operating expense for the three months ended December 31, 2008, of approximately $2,185,000. The three months ended December 31, 2009 include the results of Brotman, which accounted for $2,571,000 or 126.8% of the increase
Excluding Brotman, Altas same hospital other operating expense as a percentage of Altas net Hospital Services revenue for the three months ended December 31, 2009 was approximately 4.4%, representing a decrease of 29.0%, compared to 6.2% for the three months ended December 31, 2008. The decrease was due primarily to lower costs as a result of the conversion of certain hospital personnel from contracted to salaried basis.
Supplies Expense
Supplies expense for the three months ended December 31, 2009 was approximately $5,859,000, representing an increase of approximately $3,666,000 or 167.2% from supplies expense for the three months ended December 31, 2008, of approximately $2,193,000. The three months ended December 31, 2009 include the results of Brotman, which accounted for $3,762,000 or 102.6% of the increase.
Excluding Brotman, Altas same hospital supplies expense as a percentage of Altas net Hospital Services revenue for the three months ended December 31, 2009 was 5.6% representing a decrease of 9.1% compared to 6.2% for the three months ended December 31, 2008. The decrease was due primarily to the outsourcing of our sub-acute pharmacy products and improved efficiencies gained through standardization, bulk purchases, contract compliance, and utilization.
Provision for Doubtful Accounts
The provision for doubtful accounts as a percentage of net Hospital Services revenues was 10.0% for the three months ended December 31, 2009 compared to 4.2% for three months ended December 31, 2008. The three months ended December 31, 2009 included the results of Brotman, which accounted for 109.2% of the increase.
Excluding Brotman, Altas hospital provision for doubtful accounts as a percentage of Altas net Hospital Services revenue for the three months ended December 31, 2009 was approximately 5.9%, compared to 4.2% for the three months ended December 31, 2008. The increase was due to an unusually low expense level in the prior year period and certain specific write offs in the current period.
Lease and Rental Expense
Lease and rental expense for the three months ended December 31, 2009 was approximately $711,000, representing an increase of approximately $330,000 or 86.6% from lease and rental expense for the three months ended December 31, 2008, of approximately $381,000. The three months ended December 31, 2009 include the results of Brotman, which accounted for $205,000 or 62.3% of the increase.
Excluding Brotman, same hospital lease and rental expense as a percentage of Altas net Hospital Services revenue for the three months ended December 31, 2009 was approximately 1.4% compared to approximately 1.1% for the three months ended December 31, 2008. This slight increase was primarily due to additional rental equipment procured during the fiscal 2010 period.
General and Administrative Expense
General and administrative expense for the three months ended December 31, 2009 was approximately $5,958,000, representing an increase of approximately $2,791,000 or 88.1% from general and administrative expense for the three months ended December 31, 2008, of approximately $3,167,000. The three months ended December 31, 2009 include the results of Brotman, which accounted for $2,483,000 or 88.9% of the increase.
Excluding Brotman, same hospital general and administrative expense as a percentage of Altas net Hospital Services revenue for the three months ended December 31, 2009 was 9.4%, compared to 9.0% for the three months ended December 31, 2008, with the current year increase was primarily due to increased property taxes resulting from reassessment of the property tax base following the acquisition of Alta.
Depreciation and Amortization Expense
Depreciation and amortization expense for the three months ended December 31, 2009 was approximately $1,205,000, representing an increase of approximately $313,000 or 35.1% from depreciation and amortization expense for the three months ended December 31, 2008, of approximately $892,000. The three months ended December 31, 2009 include the results of Brotman, which accounted for $236,000 or 75.4% of the increase.
Excluding Brotman, depreciation and amortization expenses as a percentage of Altas net Hospital Services revenues for the three months ended December 31, 2009 were approximately 2.6%, compared to 2.5% for the three months ended December 31, 2008. The increase was primarily due to depreciation of additional capital equipment incurred in the fiscal 2010 period. Included in depreciation and amortization expense was amortization of identifiable intangibles of approximately $354,000 and $317,000 in the three months ended December 31, 2009 and 2008, respectively.
Operating Income
Our Hospital Services segment reported operating income of approximately $12,581,000 and $9,118,000 for the three months ended December 31, 2009 and 2008, respectively, which increase was the result of the changes discussed above. These operating results from the Hospital Services segment include certain corporate expense allocations for insurance, professional fees, and amortization of identifiable intangibles that relate to this segment.
Medical Group Segment
The Medical Group segment provides management services to affiliated physician organizations that operate as independent physician associations (Medical Groups). The affiliated physician organizations enter into agreements with HMOs to provide HMO enrollees with a full range of medical services in exchange for fixed, prepaid monthly fees known as capitation payments. The Medical Groups contract with physicians and other healthcare providers to provide all necessary medical services.
Through our management subsidiariesProspect Medical Systems, Inc. (PMS), and ProMed Health Care Administratorswe have entered into long-term agreements to provide management services to each of our affiliated physician organizations in exchange for a management fee. The management services we provide include HMO contracting, physician recruiting, credentialing and contracting, human resources services, claims administration, financial reporting services, provider relations, patient eligibility and related services, medical management including utilization management and quality assurance, data collection, and management information systems.
Our management subsidiaries currently provide management services to ten affiliated physician organizations, which include PMG, Nuestra Familia Medical Group, Inc. (Nuestra), eight other affiliated physician organizations that PMG owns or controls, and one affiliated physician organization (AMVI/Prospect Health Network) that is an unconsolidated joint venture in which PMG owns a 50% interest. PMG, which was our first affiliated physician organization, has acquired the ownership interest in all of our other affiliated physician organizations, except Nuestra. Both PMG and Nuestra are owned by our physician shareholder nominee, Dr. Arthur Lipper, and controlled through assignable option agreements and management services agreements (see Note 5 to the Condensed Consolidated Financial Statements). While PMG is itself an affiliated physician organization that does the same business in its own service area as all of our other affiliated physician organizations do in theirs, PMG also serves as a holding company for our other affiliated physician organizations, except Nuestra.
The affiliated physician organizations provided medical services to a combined total of approximately 172,900 HMO enrollees at December 31, 2009, including approximately 10,300 AMVI/Prospect Health Network enrollees that we manage for the economic benefit of an independent third party, and for which we earn management fee income.
As of December 31, 2009, our affiliated physician organizations had contracts with approximately 18 HMOs, from which our revenue was primarily derived. HMOs offer a comprehensive healthcare benefits package in exchange for a capitation amount per enrollee that does not vary through the contract period regardless of the quantity or cost of medical services required or used. HMOs enroll members by entering into contracts with employer groups or directly with individuals to provide a broad range of healthcare services for a prepaid charge, with minimal deductibles or co-payments required of the members. The contracts between our affiliated physician organizations and the HMOs provide for the provision of medical services by the affiliated physician organization to the HMO enrollees in consideration for the prepayment of the fixed monthly capitation amount per enrollee.
Our Medical Group business has developed primarily through the acquisition of Medical Groups by PMG, and is concentrated in Orange County, California, Los Angeles County, California and San Bernardino County, California.
Medical Group revenues consist primarily of amounts received for medical services provided by our affiliated physician organizations under capitated contracts with HMOs. Capitation revenue under HMO contracts is prepaid monthly to the affiliates based on the number of covered HMO enrollees. Capitation revenue may be subsequently adjusted to reflect changes in enrollment as a result of retroactive terminations or additions. These adjustments have historically not had a material effect on capitation revenue. Capitation revenue is also subject to risk adjustment, whereby capitation with respect to Medicare enrollees is subject to subsequent adjustment for the acuity of the enrollees to whom services were provided. Capitation for the current year is paid based on data submitted for each Medicare enrollee for preceding periods. Capitation is paid at interim rates during the year and is adjusted in subsequent periods (generally in our fourth fiscal quarter) after the final data is compiled. Positive or negative capitation adjustments are made for Medicare enrollees with conditions requiring more or less healthcare services than assumed in the interim payments. Since we do not have the information necessary to reliably predict these adjustments, periodic changes in capitation amounts earned as a result of Risk Adjustment are recognized when those changes are communicated to us by the health plans, generally in the fourth quarter of the fiscal year to which the adjustments relate. Management fees were primarily comprised of amounts earned from managing the operations of AMVI, Inc. (our joint venture partner in the AMVI/Prospect Health Network joint venture) related to Medi-Cal members and Medicare members enrolling in CalOPTIMAs OneCare HMO. OneCare is a Medicare Advantage Special Needs Plan serving dually-eligible members in Orange County who are entitled to both Medicare and are Medi-Cal benefits. Management fee revenue is recognized in the month the services are delivered.
Medical Group revenues also included incentive payments from HMOs under pay-for-performance programs for quality medical care based on various criteria. These incentives are generally received in the third and fourth quarters of our fiscal year and are recorded when such amounts are known since we do not maintain the information necessary to independently and reliably estimate these amounts.
We also potentially earn additional incentive revenue or incur penalties under HMO contracts by sharing in the risk for hospitalization based upon inpatient services utilized. These amounts are included in capitation revenue. As of December 31, 2009, except for one minor contract where we were contractually obligated for down-side risk, shared risk deficits are not payable until and unless we generated future risk-sharing surpluses. Risk pools are generally settled in the following year. Management estimates risk pool incentives based on information received from the HMOs or hospitals with whom the risk-sharing arrangements were in place, and who typically maintain the information and record keeping related to the risk pool arrangements. Differences between actual and estimated settlements are recorded when the final outcome is known. Risk pool and pay-for-performance incentives are affected by many factors, some of which are beyond our control, and may vary significantly from year to year.
We have increased our membership through acquisitions. These increases through acquisition were offset by HMO enrollment declines at our affiliated physician organizations, similar to the recent HMO enrollment trends in California. The following table sets forth the approximate number of members, by category (in thousands):
|
|
As of December 31, |
|
||||
Member Category |
|
2009 |
|
2008 |
|
% Increase |
|
Commercialowned |
|
129.5 |
|
145.7 |
|
(11.1 |
)% |
Commercialmanaged(l) |
|
1.6 |
|
1.4 |
|
14.3 |
% |
Seniorowned |
|
21.5 |
|
21.5 |
|
0.0 |
% |
Seniormanaged(1) |
|
0.2 |
|
0.1 |
|
100.0 |
% |
Medi-Calowned |
|
11.6 |
|
13.9 |
|
(16.5 |
)% |
Medi-Calmanaged(1) |
|
8.5 |
|
7.7 |
|
10.4 |
|
Total |
|
172.9 |
|
190.3 |
|
(9.1 |
)% |
(1) Represent members of AMVI, Inc., our joint venture partner, which we manage on their behalf in exchange for a fee.
The following table details total paid member months, by member category, for the three-month periods ended December 31, 2009 and 2008 (in thousands):
|
|
Three Months Ended |
|
% Increase |
|
||
|
|
2009 |
|
2008 |
|
(Decrease) |
|
Commercialowned |
|
393.5 |
|
442.9 |
|
(11.2 |
)% |
Commercialmanaged(1) |
|
4.8 |
|
4.1 |
|
17.1 |
% |
Seniorowned |
|
64.7 |
|
64.8 |
|
(0.2 |
)% |
Seniormanaged (1) |
|
0.6 |
|
0.4 |
|
50.0 |
% |
MediCalowned |
|
34.9 |
|
41.6 |
|
(16.1 |
)% |
MediCalmanaged(1) |
|
25.5 |
|
23.3 |
|
9.4 |
% |
|
|
524.0 |
|
577.1 |
|
(9.2 |
)% |
(1) Represent members of AMVI, Inc., our joint venture partner, which we manage on their behalf in exchange for a fee.
Our operating expenses include expenses related to the provision of medical care services (medical group cost of revenues) and general and administrative costs. Our results of operations depend on our ability to effectively manage expenses related to health benefits and accurately predict costs incurred.
Expenses related to medical care services include payments to contracted primary care physicians and payments to contracted specialists. In general, primary care physicians are paid on a capitation basis, while specialists are paid on either a capitation or a fee-for-service basis.
Capitation payments are fixed in advance of periods covered and are not subject to significant accounting estimates. These payments are expensed in the period the providers are obligated to provide services. Fee-for-service payments are expensed in the period services are provided to our members. Medical care costs include actual historical claims experience and estimates of incurred but not reported amounts (IBNR). We estimate our IBNR monthly, based on a number of factors, including prior claims experience. As part of this review, we also consider estimates of amounts to cover uncertainties related to fluctuations in provider billing patterns, claims payment patterns, membership and medical cost trends. These estimates are adjusted each month as more information becomes available. In addition to our own IBNR estimation process, we obtain semi-annual certifications of our IBNR liability from independent actuaries. We believe that our process for estimating IBNR is adequate and appropriate, but there can be no assurance that medical care costs will not exceed such estimates. In addition to contractual reimbursements to providers, we also make discretionary incentive payments to physicians, which are in large part based on the pay-for-performance, shared risk revenues and any favorable senior capitation risk-adjustment payments we receive. Since we record these revenues generally in the third or fourth quarter of each fiscal year, when the incentives and capitation adjustments due from the health plans are known, we also historically adjust interim accruals of discretionary physician bonuses in the same period. Because incentives and risk-adjustment revenues form the basis for these discretionary bonuses, variability in earnings due to fluctuations in revenues are mitigated by reductions in bonuses awarded.
G&A costs are largely comprised of wage and benefit costs related to our employee base and other administrative expenses. G&A functions include claims processing, information systems, provider relations, finance and accounting services, and legal and regulatory services.
Medical Group Results of Operations
The following tables summarize our net operating revenue, operating expenses and operating income from Medical Group operations and are used in the discussions below for the three-month periods ended December 31, 2009 and 2008 (in thousands).
|
|
Three Months Ended |
|
% Increase |
|
||||
|
|
2009 |
|
2008 |
|
(Decrease) |
|
||
Medical Group revenues: |
|
|
|
|
|
|
|
||
Capitation |
|
$ |
46,449 |
|
$ |
47,762 |
|
(2.7 |
)% |
Management fees |
|
153 |
|
144 |
|
6.3 |
% |
||
Other revenues |
|
82 |
|
225 |
|
(63.6 |
)% |
||
Total Medical Group revenues |
|
46,684 |
|
48,131 |
|
(3.0 |
)% |
||
Medical Group cost of revenues: |
|
|
|
|
|
|
|
||
PCP capitation |
|
8,405 |
|
8,669 |
|
(3.0 |
)% |
||
Specialist capitation |
|
10,348 |
|
11,018 |
|
(6.1 |
)% |
||
Claims expense |
|
17,993 |
|
17,693 |
|
1.7 |
% |
||
Physician salaries |
|
33 |
|
778 |
|
(95.8 |
)% |
||
Other cost of revenues |
|
66 |
|
(546 |
) |
(112.1 |
)% |
||
Total Medical Group cost of revenues |
|
36,845 |
|
37,612 |
|
(2.0 |
)% |
||
Gross margin |
|
9,839 |
|
10,519 |
|
(6.5 |
)% |
||
General and administrative expenses |
|
6,672 |
|
7,196 |
|
(7.3 |
)% |
||
Depreciation and amortization expense |
|
868 |
|
871 |
|
(0.3 |
)% |
||
Total other expenses |
|
7,540 |
|
8,067 |
|
(6.5 |
)% |
||
Income from unconsolidated joint venture |
|
450 |
|
353 |
|
27.5 |
% |
||
Operating Income |
|
$ |
2,749 |
|
$ |
2,805 |
|
(2.0 |
)% |
Medical cost ratio |
|
79.3 |
% |
78.7 |
% |
|
|
The following table sets forth selected operating items, expressed as a percentage of total revenue:
|
|
Three Months Ended |
|
||
|
|
2009 |
|
2008 |
|
Medical Group revenues: |
|
|
|
|
|
Capitation revenue |
|
99.5 |
% |
99.2 |
% |
Management fees |
|
0.3 |
% |
0.3 |
% |
Other revenues |
|
0.2 |
% |
0.5 |
% |
Total Medical Group revenues |
|
100.0 |
% |
100.0 |
% |
Medical Group cost of revenues: |
|
|
|
|
|
PCP capitation |
|
18.0 |
% |
18.0 |
% |
Specialist capitation |
|
22.2 |
% |
22.9 |
% |
Claims expense |
|
38.5 |
% |
36.8 |
% |
Physician salaries |
|
0.1 |
% |
1.5 |
% |
Other cost of revenues |
|
0.1 |
% |
(1.1 |
)% |
Total Medical Group cost of revenues |
|
78.9 |
% |
78.1 |
% |
Gross margin |
|
21.1 |
% |
21.9 |
% |
General and administrative expenses |
|
14.3 |
% |
15.0 |
% |
Depreciation and amortization expense |
|
1.9 |
% |
1.8 |
% |
Total non-medical expenses |
|
16.2 |
% |
16.8 |
% |
Income from unconsolidated joint venture |
|
1.0 |
% |
0.7 |
% |
Operating Income |
|
5.9 |
% |
5.8 |
% |
Three Months Ended December 31, 2009 Compared to Three Months Ended December 31, 2008
Capitation Revenue
Capitation revenue for the three months ended December 31, 2009 was approximately $46,449,000, representing a decrease of approximately $1,313,000 or 2.7% from capitation revenue for the three months ended December 31, 2008, of approximately $47,762,000.
The decrease in the fiscal 2010 period was due primarily to a decrease in commercial enrollment as a result of increased unemployment and cancellation of certain unprofitable Medi-Cal contracts, partly offset by rate increases.
Management Fee Revenue
Management fee revenue for the three months ended December 31, 2009 was approximately $153,000, representing an increase of approximately $9,000, or 6.3% from management fee revenue for the three months ended December 31, 2008, of approximately $144,000.
The increase in management fee revenue during the fiscal 2010 period was primarily due to an increase in management fee, resulting from an increase in the number of members of AMVICare Health Network, Inc.
Other revenue
Other revenue for the three months ended December 31, 2009 was approximately $82,000, representing a decrease of approximately $143,000, or 63.6% over other revenue for the three months ended December 31, 2008, of approximately $225,000.
Amounts represent incentive payments from HMOs under pay-per-performance programs for quality medical care based on various criteria. The incentives are recorded when such amounts are known.
The decrease in other revenue during the fiscal 2010 period was primarily the result of timing of receipt of pay-for-performance monies and a revised pharmaceutical reimbursement programs with one of our contracted Health Plans.
PCP Capitation Expense
Primary care physician (PCP) capitation expense for the three months ended December 31, 2009 was approximately $8,405,000, representing a decrease of $264,000, or 3.0% over PCP capitation expense for the three months ended December 31, 2008, of approximately $8,669,000.
The decrease in PCP capitation expense during the fiscal 2010 period was primarily due to decreased enrollment, partly offset by market rate adjustments made as part of our effort to attract new physicians and their members.
Specialist Capitation Expense
Specialist Capitation expense for the three months ended December 31, 2010 was approximately $10,348,000, representing a decrease of $670,000, or 6.1% from specialist capitation expense for the three months ended December 31, 2008, of approximately $11,018,000.
The decrease in specialist capitation expense during the fiscal 2010 period was due to a combination of decreased enrollment and moving more of certain specialties to a fee-for-service basis in the current year period, which move was considered more beneficial to the Company.
Claims Expense
Claims expense for the three months ended December 31, 2009 was approximately $17,993,000, representing an increase of $300,000 or 1.7% over claims expense for the three months ended December 31, 2008, of approximately $17,693,000. The increase was due primarily due to moving more of certain specialties to a fee-for-service basis in the current fiscal period, which move was considered more beneficial to the Company.
Physician Salaries Expense
Physician salaries expense for the three months ended December 31, 2009 was approximately $33,000, representing a decrease of $745,000 or 95.8% over physician salaries expense for the three months ended December 31, 2008, of approximately $778,000.
The decrease in physician salaries expense was primarily the result of converting all on-staff hospitalist physicians from employment to capitation basis effective during the third quarter of fiscal 2009.
Other Cost of Revenues
Other cost of revenues for the three months ended December 31, 2009 was approximately $66,000 compared to a negative expense of approximately $546,000 for the three months ended December 31, 2008.
The change was primarily due to decreased stop-loss insurance recoveries, caused by the timing of receipts resulting in a contra expense in the prior year period.
Gross Margin
Medical care costs as a percentage of medical revenues (the medical cost ratio, a non-GAAP measure) largely determine our gross margin. Our gross margin decreased slightly to 21.1% for the three months ended December 31, 2009, from 21.9% for the three months ended December 31, 2008.
The decrease in our gross margin percentage between the fiscal 2010 and 2009 periods was primarily due to the timing of receipts for stop-loss insurance recoveries, as discussed above.
General and Administrative Expense
General and administrative expenses (G&A) were approximately $6,672,000 for the three months ended December 31, 2009, representing 14.3% of total Medical Group revenues, as compared with approximately $7,196,000 or 15.0% of total Medical Group revenues, for the fiscal 2009 period.
The decrease in G&A expenses during the fiscal 2010 period was primarily due to the elimination of a certain personnel, facility and outside service costs in connection with the consolidation of certain administrative functions among our Medical Groups.
Depreciation and Amortization Expense
Depreciation and amortization expense for the three months ended December 31, 2009 decreased to approximately $868,000 from $871,000 for the same period of the prior year, primarily due to retirement of certain capital equipment.
Income from Unconsolidated Joint Venture
The income from unconsolidated joint venture for the three months ended December 31, 2009 increased to $450,000 from $353,000 for the same period of the prior year. The increase was primarily due to write-off of a risk pool receivable in the fiscal 2009 period.
Operating Income
Our Medical Group segment reported operating income of approximately $2,749,000 and $2,805,000, for the three months ended December 31, 2009 and 2008, respectively, as a result of the changes discussed above. The operating results of the Medical Group segment include certain corporate expense allocations for insurance, professional fees, and amortization of identifiable intangibles that relate to this segment.
Corporate Expenses
Certain expenses incurred at Prospect Medical Holdings, Inc. (the Parent Entity) not specifically allocable to the Hospital Services or Medical Group segments are recorded in the Corporate segment. These include salaries (including stock-based compensation), benefits, financing, rent, supplies, legal, SEC compliance, and Sarbanes-Oxley compliance. We do not allocate interest expense, debt extinguishment loss, gain or loss on interest rate swaps and income taxes to the other reporting segments.
The following table summarizes our corporate expense for the Parent Entity, and is used in the discussion below for the three-month periods ended December 31, 2009 and 2008 (in thousands).
|
|
Three
Months Ended |
|
% |
|
||||
|
|
2009 |
|
2008 |
|
(Decrease) |
|
||
Corporate Expenses: |
|
|
|
|
|
|
|
||
General and administrative expense |
|
$ |
3,499 |
|
$ |
2,022 |
|
73.0 |
% |
Depreciation and amortization expense |
|
4 |
|
3 |
|
33.3 |
% |
||
Total Corporate Expenses |
|
3,503 |
|
2,025 |
|
73.0 |
% |
||
Other (Income) Expense: |
|
|
|
|
|
|
|
||
Investment income |
|
|
|
(22 |
) |
(100.0 |
)% |
||
Interest expense and amortization of deferred financing costs |
|
5,691 |
|
6,096 |
|
(6.6 |
)% |
||
Loss in value of interest rate swap arrangements |
|
|
|
9,668 |
|
(100.0 |
)% |
||
Total Other Expense |
|
5,691 |
|
15,742 |
|
(63.8 |
)% |
||
Total Corporate Expenses |
|
$ |
9,194 |
|
$ |
17,767 |
|
(48.3 |
)% |
The following table sets forth selected operating items, expressed as a percentage of total consolidated revenues:
|
|
Three Months Ended |
|
||
|
|
2009 |
|
2008 |
|
Corporate Expenses: |
|
|
|
|
|
General and administrative expense |
|
3.0 |
% |
2.4 |
% |
Depreciation and amortization expense |
|
0.0 |
% |
0.0 |
% |
Total Corporate Expenses |
|
3.0 |
% |
2.4 |
% |
Other (Income) Expense: |
|
|
|
|
|
Investment income |
|
0.0 |
% |
0.0 |
% |
Interest expense and amortization of deferred financing costs |
|
4.9 |
% |
7.3 |
% |
Loss in value of interest rate swap arrangements |
|
0.0 |
% |
11.6 |
% |
Total Other Expense |
|
4.9 |
% |
18.9 |
% |
Total Corporate Expenses |
|
7.9 |
% |
21.3 |
% |
Three Months Ended December 31, 2009 Compared to Three Months Ended December 31, 2008
General and Administrative Expense
General and administrative (G&A) expenses for the three months ended December 31, 2009 were approximately $3,499,000, representing approximately 3.0% of total consolidated revenues, compared to approximately $2,022,000 or approximately 2.4% of total consolidated revenues, for the three months ended December 31, 2008. The increase in G&A expenses during the fiscal 2010 period primarily related to increased stock-based compensation associated with certain equity grants to management and outside directors.
Depreciation and Amortization Expense
Depreciation and amortization expense for the three months ended December 31, 2009 was approximately $4,000, compared to approximately $3,000 for the three months ended December 31, 2008, primarily due to depreciation expense of additional office equipment incurred in the fiscal 2010 period.
Investment Income
Investment income for the three months ended December 31, 2009 was none, compared to approximately $22,000 for the three months ended December 31, 2008.
Interest Expense and Amortization of Deferred Financing Costs
Interest expense and amortization of deferred financing costs for the three months ended December 31, 2009 was approximately $5,691,000, compared to approximately $6,096,000 for the three months ended December 31, 2008, a decrease of approximately 6.6%.
Following our refinance on July 29, 2009, (see Note 6 to the unaudited condensed consolidated financial statements), the effective interest rate on our debt facilities was reduced, resulting in the decrease in quarterly interest expense. This decrease was partly offset in that, effective April 14, 2009, following the Brotman transaction, we began including interest on all Brotman debt in our consolidated financial statements.
Loss in Value of Interest Rate Swap Arrangements
We had two interest rate swaps in place in connection with our prior debt financing. These swaps did not qualify for hedge accounting during the fiscal 2009 period and as such, all changes in fair value of those swaps (approximately $9,668,000) were treated as an expense.
Concurrent with the Senior Secured Note transaction on July 29, 2009 (see Note 6 to the accompanying unaudited condensed consolidated financial statements), we terminated the interest rate swap arrangements and expensed all previously unamortized swap fluctuation amounts. Accordingly, there were no interest rate swaps in existence or related expense during the quarter ended December 31, 2009.
Consolidated Results of Operations
Three months Ended December 31, 2009 Compared to Three months Ended December 31, 2008
Provision for Income Taxes
Income tax provision for the three months ended December 31, 2009 was approximately $2,503,000 compared to an income tax benefit of approximately $(2,419,000) in the three months ended December 31, 2008 with the change being due to the change in income (loss) before taxes. The effective tax rate was higher at 50.4% for the three months ended December 31, 2009 compared to 41.3% for the three months ended December 31, 2008. The higher effective tax rate in the fiscal 2010 period was primarily due to not recognizing the deferred tax benefit from Brotmans current period loss, for federal tax purposes.
Net Loss Attributable to Noncontrolling Interest
Noncontrolling interests, net of tax decreased to a loss of $395,000 as compared to income of $4,000 for the three months ended December 31, 2009 and 2008, respectively. The decrease was due to consolidation of Brotman in the current year period.
Net Income (Loss) Attributable to Prospect Medical Holdings, Inc.
Net income attributable to Prospect Medical Holdings, Inc.s common stockholders for the three months ended December 31, 2009 was approximately $2,859,000, or $0.13 per diluted share, as compared to a net loss of approximately $3,445,000, or $0.17 per diluted share, for the three months ended December 31, 2008, which change was the result of the items discussed above.
Liquidity and Capital Resources
Our primary sources of cash have been funds provided by borrowings under our credit facilities, by the issuance of equity securities and by cash flow from operations. Prior to the August 8, 2007 acquisition of Alta, our primary sources of cash from operations were healthcare capitation revenues, fee-for-service revenues, risk pool payments and pay-for-performance incentives earned by our affiliated physician organizations. With the acquisition of Alta, and subsequently Brotman, our sources of cash from operations now include payments for hospital services rendered under reimbursement arrangements with third-party payers, which include the federal government under the Medicare program, the state government under the Medi-Cal program, private insurers, HMOs, PPOs, and self-pay patients.
Our primary uses of cash include healthcare capitation and claims payments by our affiliated physician organizations, administrative expenses, debt service, acquisitions, costs associated with the integration of acquired businesses, information systems and, with the acquisition of Alta and subsequently Brotman, operating, capital improvement and administrative expenses related to our hospital operations. Our affiliated physician organizations generally receive capitation revenue in advance of having to make capitation and claims payments to their providers. However, our hospitals receive payments for services rendered generally 30 to 90 days after the medical care is rendered. For some accounts and payer programs, the time lag between service and reimbursement can exceed one year.
Our investment strategies are designed to provide safety and preservation of capital, sufficient liquidity to meet the cash-flow needs, of our business operations, and attainment of a competitive return. At December 31, 2009, we invested our cash in interest bearing money market accounts, interest-bearing certificates of deposit and non interest-bearing checking accounts. All of these amounts are classified as current assets and included in cash and cash equivalents in our condensed consolidated balance sheets.
Cash Flow from Operations
Net cash provided by operating activities was approximately $4,539,000 for the three months ended December 31, 2009 compared to net cash provided by operating activities of approximately $1,479,000 for the three months ended December 31, 2008. The increase in net cash provided by operating activities for the three months ended December 31, 2009 as compared to the three months ended December 31, 2008 was due to various factors, including the following:
· earnings, excluding non-cash charges and credits were approximately $13,556,000 in the fiscal 2010 period compared to approximately $6,440,000 in the fiscal 2009 period;
· changes in patient, government program and other receivables, a use of approximately $9,310,000 in the fiscal 2010 period compared to a use of approximately $2,654,000 in the fiscal 2009 period. The increase in the fiscal 2010 period was related to our Hospital Services segment, which saw an increase of 67% in patient volume, of which approximately 87% was attributable to the Brotman acquisition;
· changes in prepaid expenses and other, a use of approximately $1,404,000 in the fiscal 2010 period compared to a use of approximately $904,000 in the fiscal 2009 period. The increase in the fiscal 2010 period was primarily due to the timing of employee health insurance premium payments in connection with switching health insurance providers;
· changes in refundable income tax and taxes payable, a source of approximately $1,939,000 in the fiscal 2010 period compared to a source of approximately $2,294,000 in the fiscal 2009 period. The decrease in the fiscal 2010 period was primarily due to increased tax refunds and use of refundable income tax balances for tax obligations associated with increased current-year profitability;
· changes in medical claims and related liabilities, a use of approximately $1,040,000 in the fiscal 2010 period compared to a use of approximately $1,563,000 in the fiscal 2009 period, with the decrease in the fiscal 2010 period corresponding to enrollment changes in our Medical Group segment; and
· changes in accounts payable and other accrued liabilities, a source of approximately $539,000 in the fiscal 2010 period compared to a use of approximately $2,480,000 in the fiscal 2009 period. The increase in the fiscal 2010 period was primarily due to timing of the payment of accrued interest as required under our new senior secured Notes.
Net cash used in investing activities totaled approximately $437,000 for the three months ended December 31, 2009, compared to a use of approximately $207,000 for the three months ended December 31, 2008, the largest component of which was purchases of property, improvements and equipment, a use of approximately $481,000 in the fiscal 2010 period compared to a use of approximately $221,000 in the fiscal 2009 period.
Net cash provided by financing activities totaled approximately $519,000 for the three months ended December 31, 2009, compared to a use of approximately $1,813,000 for the three months ended December 31, 2008. Net cash provided by financing activities for the three months ended December 31, 2009 was comprised primarily of cash provided by borrowings under Brotmans revolving line of credit for working capital purposes, offset by increased deposits into restricted cash of $588,000 as required by Brotmans JHA financing and payments of $228,000 on capital leases. Net cash used in financing activities for the three months ended December 31, 2008 was comprised primarily of payments related to our former term debt of approximately $1,720,000, payments of $93,000 on capital leases and a payment of $250,000 on the Brotman Unsecured Creditors Note.
At December 31, 2009, we had working capital of approximately $15,768,000 as compared to working capital of approximately $9,903,000 at September 30, 2009.
At December 31, 2009 and September 30, 2009, cash and cash equivalents and investments totalled approximately $45,006,000 and $39,828,000 respectively.
Prospect Note Offering
On July 29, 2009, the Company closed the offering of $160 million in 12.75% senior secured notes due 2014 (the Notes) at an issue price of 92.335%. The sale was executed in accordance with Rule 144A under the Securities Act of 1933 and Regulation S under the Securities Act of 1933. Also, in connection with the issuance of the Notes, the Company entered into a three-year $15 million revolving credit facility, which was undrawn at closing. The interest rate under the revolving credit facility will be at LIBOR plus an applicable margin of 7.00%, with a LIBOR floor of 2.00%. The Company used the net proceeds from the sale of the Notes to repay all amounts outstanding under the Former Credit Facility, plus a prepayment premium of approximately $2.6 million.
Brotman Financing
As part of Brotmans emergence from bankruptcy on April 14, 2009, financing was secured from the Los Angeles Jewish Home for the Aging (JHA) and Gemino.
The JHA financing was comprised of two term debt components, a $16.0 million tranche secured by assets on the west side of the Brotman campus commonly referred to as Delmas West and a $6.25 million tranche on the main hospital pavilion on the east side of the property. The $16.0 million tranche contains an option for JHA to acquire the Delmas West parcel for a purchase price equal to the outstanding debt within 24 months of the effective date of the bankruptcy. If JHA does not exercise its option, Brotman will be required to refinance the $16.0 million tranche on or before April 14, 2011. With respect to the $16.0 million tranche of the JHA facility, JHA also has the right to declare the unpaid loan amount, immediately due and payable at any time after April 14, 2010 and prior to April 14, 2011, provided that JHA gives 180 days written notice of exercise. Effective February 10, 2010, JHA and Brotman entered into an amendment to the Term A loan, whereby the earliest date on which JHA could provide notice of its exercise of the Put Right was extended from April 14, 2010 to October 14, 2010. In addition, the $6.25 million tranche of the JHA transaction will mature on April 14, 2012 and Brotman will need to secure financing to retire this portion of the debt.
The Gemino financing was comprised of a $6.0 million, senior credit facility secured by accounts receivable. The facility expires on the earlier of April 14, 2012 and the JHA loan (see above) maturity date and bears interest at LIBOR plus 7% per annum, with a LIBOR floor of 4%. Interest is incurred based on the greater of $2 million or the outstanding principal balance. The agreement also includes an unused line fee of 0.5% per annum and a collateral line fee, based on the average outstanding principal balance, of 0.5% per annum. The senior credit facility agreement contains customary covenants for facilities of this type, including restrictions on the payment of dividends, change in ownership/management, asset sales, incurrence of additional indebtedness, sale-leaseback transactions, and related party transactions. Brotman must also comply with financial covenants. Prior to a recent amendment discussed below, Brotman was required to comply with a fixed charge coverage ratio of not less than (i) 1.10:1.00 for the fiscal quarter ending June 30, 2009, (ii) 1.15:1.00 for the fiscal quarter ending September 30, 2009; and (iii) 1.20:1.00 for each fiscal quarter ending thereafter. As of September 30, 2009, Brotman was not in compliance with the required financial covenants under the Gemino credit agreement. Pursuant to an amendment entered into effective December 11, 2009, the Gemino credit agreement was amended to provide, among other things, a waiver of the specified events of default and the amendment to the definition of fixed charge coverage ratio. Under the amended credit agreement, the fixed charge coverage ratio was amended to require not less than (i) 1.00:1.00 for the fiscal quarters ending December 31, 2009 and March 31, 2020; (ii) 1.05:1.00 for the fiscal quarters ending June 30, 2010 and September 30, 2010; (iii) 1.10:1.00 for the fiscal quarters ending December 31, 2010 and March 31, 2011; and (iv) 1.20:1.00 for the fiscal quarter ending June 30, 2011 and each fiscal quarter ending thereafter. As of December 31, 2009, Brotman was in compliance with the required financial covenants under the amended credit agreement.
The Class 4 Note, which was executed on April 14, 2009, the Effective Date of Brotmans Plan of Reorganization, for the benefit of the allowed Class 4 claims (as defined in the Plan of Reorganization) bears interest at 7.50% per annum and is payable in sixteen equal quarterly installments of principal and accrued interest through February 15, 2013. The Note contains a covenant which, so long as amounts remain outstanding under the Note, restricts Brotman from paying Prospect Medical Holdings, Inc. in cash a consulting fee of more than $100,000 per month, as specified in the Amended and Restated Consulting Services Agreement (see Note 6 to the accompanying unaudited condensed consolidated financial statements). As such, although the amount of the consulting fee was increased to 4.5% of Brotmans net operating revenue effective April 14, 2009, the amount of such consulting fee actually paid in cash will remain at $100,000 per month until such time permitted by applicable agreement or the Creditor Trust Note has been amended or repaid. For the period April 14, 2009 through December 31, 2009, total principal repayments of on the Class 4 Note were approximately $751,000.
We anticipate attempting to finance future acquisitions and potential business expansion with a combination of debt, issuances of equity instrument, and cash flow from operations.
In order to meet our long-term liquidity needs, we may incur, from time to time, additional bank indebtedness. Banks and traditional commercial lenders do not generally make loans to companies without substantial tangible net worth. Since, by the nature of our business, we accumulate substantial goodwill and intangibles on our balance sheet, it may be difficult for us to obtain this type of financing in the future. We may issue additional equity and debt securities, the availability and terms of which will depend upon market and other conditions. The corporate lending and equity markets have been affected by the current credit market conditions, resulting in both a reduction in the number of transactions as well as the amount of funds raised. Transactions that have been consummated are completed at lower valuations in the case of equity offerings and at higher interest costs in the case of debt offerings. Our ability to issue any debt or equity instruments in a public or private sale is also restricted under certain circumstances, pursuant to contractual restrictions in agreements with our lenders and the indenture governing the Notes (see above). There can be no assurance that additional financing will be available upon terms acceptable to us, if at all. The failure to raise the funds necessary to finance our future cash requirements could adversely affect our ability to pursue our strategy and could adversely affect our future results of operations.
Off-Balance Sheet Arrangements
None.
Critical Accounting Policies
The accounting policies described below are considered critical in preparing our unaudited condensed consolidated financial statements. Critical accounting policies require difficult, subjective or complex judgments, often as a result of the need to make estimates about the effect of matters that are inherently uncertain. The judgments and uncertainties affecting the application of these policies include significant estimates and assumptions made by us using information available at the time the estimates are made. Actual results could differ materially from those estimates.
Consolidation of Financial Statements
Under applicable financial reporting requirements, the financial statements of the affiliated physician organizations with which we have management services agreements are consolidated with our own financial statements. This consolidation is required under FASB ASC 810-10 (previously issued as EITF Issue No. 97-2, Application of FASB Statement No. 94 and APB Opinion No. 16 to Physician Practice Management Entities and Certain Other Entities with Contractual Management Arrangements) because we are deemed to hold a controlling financial interest in such organizations through a nominee shareholder. We can, through the assignable option agreements, change the nominee shareholder at will on an unlimited basis and for nominal cost. There is no limitation on our designation of a nominee shareholder except that any nominee shareholder must be a licensed physician or otherwise permitted by law to hold shares in a professional medical corporation. The operations of our affiliated physician organizations have a significant impact on our financial statements. The financial statements of Brotman have been included in our consolidated financial statements since April 14, 2009, when we acquired a majority stake in that entity. All inter-company accounts and balances have been eliminated in consolidation.
Revenue Recognition
Hospital Services Segment
Operating revenue of the Hospital Services segment consists primarily of net patient service revenue. We report net patient service revenue at the estimated net realizable amounts from patients, third-party payers and others in the period in which services are rendered. A summary of the payment arrangements with major third-party payers follows:
Medicare: Medicare is a federal program that provides certain hospital and medical insurance benefits to persons aged 65 and over, some disabled persons and persons with end-stage renal disease. Inpatient services rendered to Medicare program beneficiaries are paid at prospectively determined rates per discharge, according to a patient classification system based on clinical, diagnostic, and other factors. Outpatient services are paid based on a blend of prospectively determined rates and cost-reimbursed methodologies. We are also reimbursed for various disproportionate share and Medicare bad debt components at tentative rates, with final settlement determined after submission of annual Medicare cost reports and audits thereof by the Medicare fiscal intermediary. Normal estimation differences between final settlements and amounts accrued in previous years are reflected in net patient service revenue in the year of final settlement.
Medi-Cal: Medi-Cal is a joint federal-state funded healthcare benefit program that is administered by the state of California to provide benefits to qualifying individuals who are unable to afford care. Inpatient services rendered to Medi-Cal program beneficiaries are paid at contracted per diem rates. The per diem rates are not subject to retrospective adjustment. Outpatient services are paid based on prospectively determined rates per procedure provided.
Managed care: We also receive payment from certain commercial insurance carriers, HMOs and PPOs. The basis for payment is in accordance with contracted rates or at our standard charges for services provided where no prior contract is in place.
Self-Pay: Our hospitals also provide services to certain individuals that do not have any form of healthcare coverage. Such patients are evaluated, at the time of service or shortly thereafter, for their ability to pay based upon federal and state poverty guidelines, qualifications for Medi-Cal, as well as our local hospitals indigent and charity care policy.
Timely billing and collection of receivables from third-party payers and patients is critical to our operating performance. We closely monitor our historical collection rates as well as changes in applicable laws, rules and regulations and contract terms, to assure that provisions for contractual allowances are made using the most accurate information available. Our primary collection risks relate to uninsured patients and the portion of the bill which is the patients responsibility, primarily co-payments and deductibles. Payments for services may also be denied due to issues over patient eligibility for medical coverage, our ability to demonstrate medical necessity for services rendered and payer authorization for hospitalization. We estimate provisions for doubtful accounts based on general factors such as payer mix, the age of the receivables and historical collection experience. We routinely review accounts receivable balances in conjunction with these factors and other economic conditions which might ultimately affect the collectability of the patient accounts and make adjustments to allowances for contractual discounts and bad debts as warranted.
Medical Group Segment
Operating revenue of our Medical Groups consists primarily of capitation payments for medical services provided by our affiliated physician organizations under contracts with HMOs. Capitation revenue under HMO contracts is prepaid monthly to the affiliated physician organizations based on the number and type of enrollees assigned to physicians in our affiliated physician organizations.
Capitation revenue paid by HMOs is recognized in the month in which the affiliated physician organization is obligated to provide services. Capitation revenue may be subsequently adjusted to reflect changes in enrollment as a result of retroactive terminations or additions. Such retroactive terminations or additions have historically not had a material effect on capitation revenue.
Variability in capitation revenue exists under Medicares capitation model referred to as Risk Adjustment. Under the model, capitation with respect to Medicare enrollees is subject to subsequent adjustment by CMS based on the acuity of the enrollees to whom services were provided. Capitation for the current year is paid based on data submitted for each enrollee for previous periods. Capitation is paid at interim rates during the year and is adjusted in subsequent periods (generally in our fourth fiscal quarter) after the final data has been processed by CMS. Positive or negative capitation adjustments are made for Medicare enrollees with conditions requiring more or less healthcare services than assumed in the interim payments. Since we cannot reliably predict these adjustments, periodic changes in capitation amounts earned as a result of Risk Adjustment are recognized when those changes are communicated from the health plans, generally in the fourth quarter of the fiscal year to which the adjustments relate. We recorded approximately $4.3 million and $1.6 million in increased capitation revenue in the fourth quarter of fiscal 2009 and 2008, respectively, for risk adjustment factors.
We also earn additional incentive revenue or incur penalties under HMO contracts by sharing in the risk for hospitalization based upon inpatient services utilized. As of December 31, 2009, except for one contract where we are contractually obligated for down-side risk, shared risk deficits are not payable unless and until we generate future risk-sharing surpluses. Risk pools are generally settled in the third or fourth quarter of the following year. Due to the lack of access to timely information necessary to estimate the related costs, shared-risk amounts receivable from the HMOs are recorded when such amounts are known. We also receive incentives under pay-for-performance programs for quality medical care based on various criteria. Pay-for-performance payments are generally recorded in the third and fourth quarters of our fiscal year when such amounts are known, once we are in receipt of information necessary to reliably estimate these amounts. Risk pool and pay-for-performance incentives are affected by many factors, some of which are beyond our control, and may vary significantly from year to year.
Management fee revenue is earned in the month the services have been performed.
Accrued Medical Claims
Our affiliated physician organizations are responsible for the medical services their contracted or employed physicians provide to an assigned HMO enrollee. The cost of healthcare services is recognized in the period in which it is provided and includes an estimate of the cost of services which have been incurred but not reported. The determination of our claims liability and other healthcare costs payable is particularly important to the determination of our financial position and results of operations and requires the application of significant judgment by our management, and as a result, is subject to an inherent degree of uncertainty.
Our medical care costs include actual historical claims experience and IBNR. We, together with our independent actuaries, estimate medical claims liabilities using actuarial methods based upon historical data, adjusted for payment patterns, cost trends, product mix, utilization of healthcare services and other relevant factors. The estimation methods and the resulting reserves are frequently reviewed and updated, and adjustments, if necessary, are reflected in the period they become known. While we believe our estimates are adequate and appropriate, it is possible that future events could require us to make significant adjustments or revisions to these estimates. In assessing the adequacy of accruals for medical claims liabilities, we consider our historical experience, the terms of existing contracts, our knowledge of trends in the industry, information provided by our customers and information available from other sources, as appropriate.
The most significant estimates involved in determining our claims liability concern the determination of claims payment completion factors and trended per member per month cost estimates.
We consider historical activity for the current month, plus the prior 24 months, in our IBNR calculation. For the fifth month of service prior to the reporting date and earlier, we estimate our outstanding claims liability based upon actual claims paid, adjusted for estimated completion factors. Completion factors seek to measure the cumulative percentage of claims expense that will have been paid for a given month of service as of a date subsequent to that month of service. Completion factors are based upon historical payment patterns. For the four months of service immediately prior to the reporting date, actual claims paid are not a reliable measure of our ultimate liability, given the delay inherent between the patient/physician encounter and the actual submission of a claim for payment. For these months of service we estimate our claims liability based upon trended per member per month (PMPM) cost estimates. These estimates reflect recent trends in payments and expense, utilization patterns, authorized services and other relevant factors.
The following tables reflect (i) the change in our estimate of claims liability as of December 31, 2009 that would have resulted had we changed our completion factors for all applicable months of service included in our IBNR calculation (i.e., the preceding 5th through 25th months) by the percentages indicated; and (ii) the change in our estimate of claims liability as of December 31, 2009 that would have resulted had we changed trended PMPM factors for all applicable months of service included in our IBNR calculation (i.e., the preceding 1st through 4th months) by the percentages indicated. Changes in estimate of the magnitude indicated in the ranges presented are considered reasonably likely.
Increase
(Decrease) in |
|
Increase
(Decrease) in |
|
|
|
|
(in thousands) |
|
|
(3)% |
|
$ |
(4,209 |
) |
(2)% |
|
$ |
(2,806 |
) |
(1)% |
|
$ |
(1,403 |
) |
1% |
|
$ |
1,403 |
|
2% |
|
$ |
2,806 |
|
3% |
|
$ |
4,209 |
|
Increase
(Decrease) in |
|
Increase
(Decrease) in |
|
|
|
|
(in thousands) |
|
|
(3)% |
|
$ |
(789 |
) |
(2)% |
|
$ |
(526 |
) |
(1)% |
|
$ |
(263 |
) |
1% |
|
$ |
263 |
|
2% |
|
$ |
526 |
|
3% |
|
$ |
789 |
|
The following table shows the components of the change in medical claims and benefits payable for the three months ended December 31, 2009 and 2008 (in thousands):
|
|
Three
Months Ended |
|
||||
|
|
2009 |
|
2008 |
|
||
IBNR as of beginning of period |
|
$ |
16,824 |
|
$ |
20,480 |
|
Healthcare claims expense incurred during the period |
|
|
|
|
|
||
Related to current year |
|
18,922 |
|
19,255 |
|
||
Related to prior years |
|
(929 |
) |
(1,510 |
) |
||
Total incurred |
|
17,993 |
|
17,745 |
|
||
Healthcare claims paid during the period |
|
|
|
|
|
||
Related to current year |
|
(6,646 |
) |
(4,884 |
) |
||
Related to prior years |
|
(12,387 |
) |
(14,424 |
) |
||
Total paid |
|
(19,033 |
) |
(19,308 |
) |
||
IBNR as of end or period |
|
$ |
15,784 |
|
$ |
18,917 |
|
Through December 31, 2009, the $929,000 change in estimate related to IBNR as of September 30, 2009 represented approximately 5.5% of the IBNR balance as of September 30, 2009, approximately 1.3% of fiscal 2009 claims expense, and after consideration of tax effect, approximately 38.4% of net loss for the year then ended.
Through December 31, 2008, the $1,510,000 change in estimate related to IBNR as of September 30, 2008 represented approximately 7.4% of the IBNR balance as of September 30, 2008, approximately 1.9% of fiscal 2008 claims expense and after consideration of tax effect, approximately 35.9% of net income for the year then ended.
Past fluctuations in the IBNR estimates might also be a useful indicator of the potential magnitude of future changes in these estimates. Quarterly IBNR estimates include provisions for adverse development based on historical volatility. We maintain similar provisions at fiscal year end.
We also regularly evaluate the need to establish premium deficiency reserves for the probability that anticipated future healthcare costs could exceed future capitation payments from the HMOs. To date, we have determined that no material premium deficiency reserves have been necessary.
Goodwill and Intangible Assets
ASC 805 (previously issued as SFAS No. 141) Business Combinations, requires all business combinations after June 30, 2001 to be accounted for using the purchase method and prohibits the pooling-of-interest method of accounting. ASC 805 also states that acquired intangible assets should be separately recognized upon meeting certain criteria. Such intangible assets include, but are not limited to, trade and service marks, non-compete agreements, customer lists and licenses. We adopted the provisions of ASC 805 effective October 1, 2009.
ASC 350 (previously issued as SFAS No. 142, Goodwill and Other Intangible Assets,) requires that goodwill and indefinite life intangible assets not be subject to amortization but be evaluated for impairment on at least an annual basis, or more frequently if certain indicators are present. Such indicators include adverse changes in market value and/or stock price, laws and regulations, profitability, cash flows, our ability to maintain enrollment and renew payer contracts on favorable terms. A two-step impairment test is used to identify potential goodwill impairment and to measure the amount of goodwill impairment loss to be recognized (if any). The first step consists of estimating the fair value of the reporting unit based on recognized valuation techniques, which include a weighted combination of (i) the guideline company method that utilizes revenue or earnings multiples for comparable publicly-traded companies, and (ii) a discounted cash flow model that utilizes future cash flows, the timing of those cash flows, and a discount rate (or weighted average cost of capital which considers the cost of equity and cost of debt financing expected by a representative market participant) representing the time value of money and the inherent risk and uncertainty of the future cash flows. If the estimated fair value of the reporting unit is less than its carrying value, a second step is performed to compute the amount of the impairment by determining the implied fair value of the goodwill, which is compared to its corresponding carrying value.
Long-lived assets, including property, improvements and equipment and amortizable intangibles, are evaluated for impairment under ASC 360-10-35, (previously issued as SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets) whenever events or changes in circumstances indicate that the carrying value of such assets may not be recoverable. We consider assets to be impaired and write them down to fair value if estimated undiscounted cash flows associated with those assets are less than their carrying amounts.
In accordance with ASC 350, we performed our annual goodwill impairment analysis for each reporting unit that constitutes a business for which discrete financial information is produced and reviewed by operating segment management and provides services that are distinct from the other reporting units. For the Hospital Services segment, the reporting unit for the annual goodwill impairment analysis was determined to be at the segment level. For the Medical Group segment, we have determined that ProMed individually and Prospect (which includes all the other affiliated physician organizations) each represent a reporting unit, based on operational characteristics. The ProMed Entities are geographically and managerially their own reporting unit.
Our impairment test at September 30, 2009 resulted in no impairment charges. In addition, no triggering events were identified that would cause impairment analysis at December 31, 2009.
The assessment of impairment indicators, measurement of impairment loss, selection of appropriate valuation methodology, assumptions and discount factors, involve significant judgment and requires management to project future results which are inherently uncertain.
Recent Accounting Pronouncements
In December 2007, the FASB issued guidance on ASC 810, Noncontrolling Interests in Consolidated Financial Statementsan Amendment of ARB No. 51, previously known as SFAS No. 160. ASC 810 establishes accounting and reporting standards for the noncontrolling interest in a subsidiary and for the deconsolidation of a subsidiary. Minority interests will be re characterized as noncontrolling interests and will be reported as a component of equity separate from the parents equity, and purchases or sales of equity interests that do not result in a change in control will be accounted for as equity transactions. In addition, net income attributable to the noncontrolling interest will be included in consolidated net income on the face of the income statement and upon a loss of control, the interest sold, as well as any interest retained, will be recorded at fair value with any gain or loss recognized in earnings. This standard is effective for fiscal years, and interim periods within those fiscal years, beginning on or after December 15, 2008. It requires retroactive adoption of the presentation and expanded disclosure requirements for existing noncontrolling interests. All other requirements of the standard shall be applied prospectively. We adopted this standard effective October 1, 2009. The adoption did not have a material impact on our condensed consolidated financial statements.
In December 2007, the FASB updated guidance on ASC 805, Business Combinations, previously known as SFAS No. 141(R). ASC 805 retains the fundamental requirements of guidance surrounding business combinations stating that the acquisition method of accounting be used for all business combinations and for an acquirer to be identified for each business combination. ASC 805 defines the acquirer as the entity that obtains control of one or more businesses in the business combination and establishes the acquisition date as the date that the acquirer achieves control. ASC 805 requires an acquirer to recognize the assets acquired, the liabilities assumed, and any noncontrolling interest in the acquiree at the acquisition date, measured at their fair values as of that date, with limited exceptions specified in the statement. This statement applies prospectively to business combinations for which the acquisition date is on or after the beginning of the first annual reporting period beginning on or after December 15, 2008. We adopted the pronouncement effective October 1, 2009. The adoption did not have a material impact on our condensed consolidated financial statements for prior periods; but the pronouncement will impact the accounting for acquisitions subsequent to that date.
In June 2009, the FASB issued guidance on ASC 810-10, Consolidation of Variable Interest Entities, an interpretation of ARB No. 51, previously known as FIN No. 46, to revise the approach to determine when a variable interest entity (VIE) should be consolidated. The new consolidation model for VIEs considers whether the Company has the power to direct the activities that most significantly impact the VIEs economic performance and shares in the significant risks and rewards of the entity. The guidance on VIEs requires companies to continually reassess VIEs to determine if consolidation is appropriate and provide additional disclosures. The guidance is effective for fiscal years beginning after November 15, 2009. We will adopt the guidance for interim and annual reporting periods beginning in the first quarter of fiscal 2011 and are currently assessing the potential impact this guidance will have on our consolidated financial statements.
In June 2008, the FASB issued guidance contained in FASB ASC 260-10, previously known FASB Staff Position No. EITF 03-6-1. Under the guidance, unvested share-based payment awards that contain non-forfeitable rights as to dividends or dividend equivalents are participating securities and, therefore, are included in computing earnings per share (EPS) pursuant to the two-class method. The two-class method determines earnings per share for each class of common stock and participating securities according to dividends or dividend equivalents and their respective participation rights in undistributed earnings. We adopted the guidance effective October 1, 2009. The adoption of this guidance did not impact net income attributable to our Company per common share for prior periods and is not expected to have an impact on future periods until such time as we declare a regular quarterly dividend.
In August 2009, the FASB issued Accounting Standards Update No. 2009-05, Fair Value Measurements and Disclosures (Topic 820) Measuring Liabilities at Fair Value, which provides guidance on how to measure liabilities at fair value in circumstance in which a quoted price in an active market for the identical liability is not available. This update is effective for the first reporting period, including interim periods, beginning after issuance. The Company has no liabilities that are governed by this update but will apply its provisions in the future as applicable.
Legal and Other Loss Contingencies
We are subject to contingencies, such as legal proceedings and claims arising out of our business. In accordance with ASC 450, Accounting for Contingencies, we record accruals for such contingencies when it is probable that a liability will be incurred and the amount of loss can be reasonably estimated. A significant amount of management estimation is required in determining when, or if, an accrual should be recorded for a contingent matter and the amount of such accrual, if any.
We are in the process of finalizing certain post-closing matters related to the 2007 ProMed acquisition, including closing balance sheet reconciliations, escrow reconciliations and other matters. We have recorded an estimated settlement amount relating to such matters in the accompanying unaudited condensed consolidated financial statements.
Acquisitions
Our business has grown through a series of business combinations. These business combinations were all accounted for using the purchase method of accounting, and accordingly, the operating results of each acquisition have been included in our consolidated financial statements since their effective date of acquisition. The purchase price for each business combination was allocated to the assets, including the identifiable intangible assets, and liabilities, based on estimated fair values determined using independent appraisals where appropriate. The excess of purchase price over the net tangible assets acquired was allocated to goodwill and other intangible assets.
We have historically funded our acquisition program with debt, the sale of our common stock, and cash flow from operations. The assets that we and our affiliated physician organizations have acquired have been largely goodwill and intangible assets. The acquisition of physician organizations consists primarily of HMO contracts, physician contracts and the right to manage each physician organization through a management services agreement. The physician organizations we acquire generally do not have significant tangible net equity; therefore, our acquired assets are predominantly goodwill and other intangible assets. The acquisition of hospital operations consists primarily of trade names, covenants-not-to-compete and property, improvements and equipment.
The following table summarizes all business combinations for the three years ended December 31, 2009.
Business Combinations |
|
Effective Date |
|
Purchase Price |
|
Location |
|
ProMed Entities |
|
June 1, 2007 |
|
$ |
48,392,000 |
|
San Bernardino and Los Angeles Counties |
Alta |
|
August 8, 2007 |
|
$ |
154,935,000 |
|
Los Angeles County |
Brotman (increased investment to a 71.9% interest) |
|
April 14, 2009 |
|
$ |
2,556,000 |
|
Los Angeles County |
Divestitures
On August 1, 2008, we completed the sale of all of the outstanding stock of the AV Entities for total cash consideration of $8,000,000. As required by ASC 360-10-35, Accounting for the Impairment or Disposal of Long-Lived Assets, the assets and liabilities of the AV Entities and their operations have been presented in our recently filed Form 10-K as discontinued operations for all periods presented. All references to operating results reflect our ongoing operations, excluding the AV Entities, unless otherwise noted.
Inflation
According to U.S. Bureau of Labor Statistics Data, the national healthcare cost inflation rate has exceeded the general inflation rate for the last four years. We use various strategies to mitigate the negative effects of healthcare cost inflation. Specifically, we try to control physician and hospital costs through contracts with independent providers of healthcare services and close monitoring of cost trends, emphasizing preventive healthcare and appropriate use of specialty and hospital services.
While we currently believe our strategies to mitigate healthcare cost inflation will continue to be successful, competitive pressures, new healthcare and pharmaceutical product introductions, demands from healthcare providers and customers, applicable regulations or other factors may affect our ability to control healthcare costs.
Item 3. Quantitative and Qualitative Disclosures about Market Risk.
Not applicable
Item 4. Controls and Procedures.
Evaluation of Disclosure Controls and Procedures
We carried out an evaluation as of December 31, 2009, under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of our disclosure controls and procedures as defined in Rule 13a-15(e) of the Securities Exchange Act of 1934. Based upon that evaluation and in light of the material weakness in the financial reporting process at Brotman Medical Center discussed below, the Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were ineffective as of that date in ensuring that information required to be disclosed in the reports that we file with, or submit to, the Securities and Exchange Commission (the SEC) under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported within the time periods specified in the SECs rules and forms. In addition, based on that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were ineffective as of December 31, 2009 in ensuring that information required to be disclosed by us in the reports that we file or submit under the Securities Exchange Act of 1934 is accumulated and communicated to our management, including the Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosures.
See below for discussion of material weaknesses in internal control over financial reporting at Brotman, which became a majority-owned subsidiary effective April 14, 2009.
Summary of Material Weaknesses in Internal Control over Financial Reporting:
As part of our preliminary assessment of internal controls over financial reporting, we identified several deficiencies within the financial reporting process of Brotman. We believe the combination of these deficiencies creates an environment where there is a reasonable possibility that a material misstatement of Brotmans financial statements would not be detected in a timely manner. We have assessed a material weakness in the financial reporting process of Brotman and its related impact on the corporate consolidating financial reporting process. The deficiencies within the financial reporting process are the lack of a formalized month-end close process, limited staff training and financial accounting expertise and a lack of department accounting policies and procedures.
During the financial reporting close for the period ended September 30, 2009, Brotman was unable to implement a structured close process which resulted in multiple delays and iterations of their financial statements. Account reconciliations were not prepared in an accurate or timely manner which resulted in a significant amount of post-close adjustments. Also, Brotmans accounting department did not demonstrate a sufficient amount of expertise or training to sufficiently complete the steps needed to execute an accurate or timely close. Additionally, Brotmans accounting department did not utilize or implement policies and procedures to organize or streamline the close process.
As a result of these deficiencies, we are in the process of implementing significant changes in the Brotman accounting department. We added additional resources and personnel with experience in and an understanding of the complexities of the business and a financial reporting process. Additional control processes and oversight procedures have been implemented; however, a longer evaluation period is needed to reasonably validate that such processes and procedures are operating at a level to have fully remediated the material weakness as of December 31, 2009. At Brotman, we continue to expend significant efforts on financial reporting activities, integration of operations and expansion of our disclosure controls and procedures.
Remediation Steps to Address Material Weaknesses:
Based on findings of material weaknesses in our internal control over financial reporting, we have taken steps to strengthen our internal controls within the financial reporting process. We have added to the expertise and depth of personnel within the Brotman accounting department, including the appointment of a new Chief Financial Officer and Controller, with specific and significant expertise in the critical areas identified above. We also added additional resources to assist in the review and preparation of significant account balance reconciliations as well as the implementation of new policies and procedures. Also, senior management has increased its scrutiny and oversight of Brotmans financial statements and has performed significant top-down financial statement analysis to gain additional assurance as to the accuracy of Brotmans financial information. As previously stated, we will continue to work on and improve the financial reporting process of Brotman and its impact on the corporate consolidating financial reporting process. In review, the principal measures that we are in the process of undertaking to remediate the deficiencies are as follows:
· Hired a new Chief Financial Officer and Controller and added additional resources to implement a sound financial reporting process;
· Enhanced Brotmans accounting and finance policies and implemented more robust monitoring control procedures and analytics to prevent or detect a misstatement on a timely basis;
· Developed a financial reporting responsibility matrix, close calendar and checklist for Brotman, whereby all general ledger accounts and financial statement line items are specifically assigned to a specific member of the accounting department to perform monthly, quarterly and year-end analysis. The analysis will be reviewed by senior members of the accounting department team for accuracy and integrity;
· Developing a formal monthly, quarterly and annual reporting package, including specific reporting and information for identified key risk areas, with formal sign off by the financial executive with specific oversight of each area;
· Documenting formal accounting policies and procedures with regular compliance reviews of key risk areas to evaluate the designing and effectiveness of controls; and
· Enhancing the corporate financial reporting process oversight of the above mentioned controls and processes.
Changes in Internal Control over Financial Reporting
Except as discussed above, regarding Brotman, there have been no changes in our Internal Control that occurred during the three months ended December 31, 2009 that have materially affected, or are reasonably likely to materially affect, our Internal Control.
We and our affiliated physician organizations are parties to legal actions arising in the ordinary course of business. We believe that liability, if any, under these claims will not have a material adverse effect on our consolidated financial position or results of operations.
Not applicable.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds.
None.
Item 3. Defaults Upon Senior Securities.
None.
Item 4. Submission of Matters to a Vote of Security Holders
None
None
The following documents are being filed as exhibits to this report:
Exhibit No. |
|
Title |
10.1* |
|
Employment Agreement effective June 1, 2007 between Jeereddi Prasad, M.D. and ProMed Health Care Administrators. |
|
|
|
10.2* |
|
Amendment No. 1 to Promissory Note entered into as of February 10, 2010 by Brotman Medical Center, Inc. and JHA WEST 16, LLC. |
|
|
|
10.3* |
|
Amendment No. 2 to Loan Agreement entered into as of February 10, 2010 by Brotman Medical Center and JHA WEST 16, LLC. |
|
|
|
31.1* |
|
Certification of Chief Executive Officer pursuant to Rules 13a-14(a)/15d-14(a) under the Securities Exchange Act of 1934, as amended. |
|
|
|
31.2* |
|
Certification of Chief Financial Officer pursuant to Rules 13a-14(a)/15d-14(a) under the Securities Exchange Act of 1934, as amended. |
|
|
|
32.1* |
|
Certification of Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |
|
|
|
32.2* |
|
Certification of Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |
* |
Filed with this Quarterly Report on Form 10-Q. |
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
|
PROSPECT MEDICAL HOLDINGS, INC. |
|
(Registrant) |
|
|
February 16, 2010 |
/s/ SAMUEL S. LEE |
|
Samuel S. Lee |
|
Chief Executive Officer |
|
(Principal Executive Officer) |
|
|
February 16, 2010 |
/s/ MIKE HEATHER |
|
Mike Heather |
|
Chief Financial Officer |
|
(Principal Financial Officer) |