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EX-32.1 - EXHIBIT 32.1 - BIRNER DENTAL MANAGEMENT SERVICES INCex32_1.htm
EX-31.2 - EXHIBIT 31.2 - BIRNER DENTAL MANAGEMENT SERVICES INCex31_2.htm
EX-31.1 - EXHIBIT 31.1 - BIRNER DENTAL MANAGEMENT SERVICES INCex31_1.htm
EX-10.1 - EXHIBIT 10.1 - BIRNER DENTAL MANAGEMENT SERVICES INCex10_1.htm

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549

FORM 10-Q
(Mark One)

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended
September 30, 2016
 

OR
 
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from ____________________ to ____________________

Commission file number 0-23367

BIRNER DENTAL MANAGEMENT SERVICES, INC.
(Exact name of registrant as specified in its charter)

COLORADO
 
84-1307044
(State or other jurisdiction of incorporation or organization)
 
(IRS Employer Identification No.)

1777 S. HARRISON STREET, SUITE 1400
DENVER, COLORADO
 
 
80210
(Address of principal executive offices)
 
(Zip Code)

(303) 691-0680
(Registrant’s 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  ☒ No  ☐

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 (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  Yes  ☒ No   ☐      

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  ☐
Accelerated filer  ☐
 Non-accelerated filer  ☐
    Smaller reporting company    ☒
   
(Do not check if a smaller
reporting company)
 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
Yes  ☐ No   ☒

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.
 
Class
 
 
Shares Outstanding as of November 3, 2016
Common Stock, no par value
 
1,860,261
 


BIRNER DENTAL MANAGEMENT SERVICES, INC. AND SUBSIDIARIES
INDEX TO FORM 10-Q

 
PART I - FINANCIAL INFORMATION
 
     
Item 1.
Financial Statements
Page
     
 
3
     
 
4
     
 
5
     
 
6
     
 
8
     
Item 2.
14
     
Item 4.
25
     
PART II - OTHER INFORMATION
 
     
Item 2.
25
     
Item 6.
26
     
 
27
 
2

PART I - FINANCIAL INFORMATION

ITEM 1.  FINANCIAL STATEMENTS

BIRNER DENTAL MANAGEMENT SERVICES, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(UNAUDITED)

ASSETS
 
December 31,
2015
   
September 30,
2016
 
CURRENT ASSETS:
           
Cash
 
$
258,801
   
$
220,676
 
Accounts receivable, net of allowance for doubtful accounts of approximately $390,000 and $390,000, respectively
   
3,043,655
     
3,350,154
 
Note receivable
   
34,195
     
34,195
 
Deferred tax asset
   
275,907
     
284,629
 
Income tax receivable
   
73,878
     
-
 
Prepaid expenses and other assets
   
575,770
     
779,071
 
                 
Total current assets
   
4,262,206
     
4,668,725
 
                 
PROPERTY AND EQUIPMENT, net
   
9,808,014
     
7,934,008
 
                 
OTHER NONCURRENT ASSETS:
               
Intangible assets, net
   
7,565,648
     
6,932,225
 
Deferred charges and other assets
   
155,741
     
155,741
 
Note receivable
   
55,002
     
35,781
 
                 
Total assets
 
$
21,846,611
   
$
19,726,480
 
                 
LIABILITIES AND SHAREHOLDERS’ EQUITY
               
                 
CURRENT LIABILITIES:
               
Accounts payable
 
$
2,920,998
   
$
2,871,376
 
Accrued expenses
   
1,547,915
     
927,384
 
Accrued payroll and related expenses
   
2,330,398
     
2,239,065
 
Income taxes payable
   
-
     
10,328
 
Current maturities of long-term debt
   
1,500,000
     
2,000,000
 
                 
Total current liabilities
   
8,299,311
     
8,048,153
 
                 
LONG-TERM LIABILITIES:
               
Deferred tax liability, net
   
2,242,800
     
1,703,757
 
Long-term debt
   
8,707,578
     
7,938,934
 
Other long-term obligations
   
949,554
     
1,121,364
 
                 
Total liabilities
   
20,199,243
     
18,812,208
 
                 
SHAREHOLDERS' EQUITY:
               
Preferred Stock, no par value, 10,000,000 shares authorized; none outstanding
   
-
     
-
 
Common Stock, no par value, 20,000,000 shares authorized; 1,861,106 and 1,860,261 shares issued and outstanding, respectively
   
1,446,182
     
1,560,440
 
Retained earnings (accumulated deficit)
   
201,186
     
(646,168
)
                 
Total shareholders' equity
   
1,647,368
     
914,272
 
                 
Total liabilities and shareholders' equity
 
$
21,846,611
   
$
19,726,480
 

The accompanying notes are an integral part of these condensed consolidated financial statements.
 
3

BIRNER DENTAL MANAGEMENT SERVICES, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)

   
Quarters Ended
September 30,
   
Nine Months Ended
September 30,
 
   
2015
   
2016
   
2015
   
2016
 
REVENUE:
                       
Dental practice revenue
 
$
14,681,849
   
$
13,988,133
   
$
45,241,736
   
$
44,009,444
 
Capitation revenue
   
1,170,907
     
1,166,155
     
3,553,173
     
3,461,218
 
     
15,852,756
     
15,154,288
     
48,794,909
     
47,470,662
 
                                 
DIRECT EXPENSES:
                               
Clinical salaries and benefits
   
9,491,411
     
9,242,477
     
29,155,036
     
28,564,107
 
Dental supplies
   
762,736
     
729,299
     
2,261,936
     
2,187,229
 
Laboratory fees
   
851,678
     
869,014
     
2,516,851
     
2,648,658
 
Occupancy
   
1,514,141
     
1,591,841
     
4,426,666
     
4,712,445
 
Advertising and marketing
   
326,756
     
176,150
     
707,661
     
490,227
 
Depreciation and amortization
   
1,061,157
     
988,031
     
3,255,507
     
3,026,164
 
General and administrative
   
1,350,066
     
1,394,284
     
3,926,094
     
4,139,482
 
     
15,357,945
     
14,991,096
     
46,249,751
     
45,768,312
 
                                 
Contribution from dental offices
   
494,811
     
163,192
     
2,545,158
     
1,702,350
 
                                 
CORPORATE EXPENSES:
                               
General and administrative
   
779,585
(1)
 
 
848,358
(1)
 
 
2,836,925
(2)
 
 
2,696,123
(2)
Depreciation and amortization
   
62,616
     
47,114
     
174,524
     
165,994
 
                                 
OPERATING LOSS
   
(347,390
)
   
(732,280
)
   
(466,291
)
   
(1,159,767
)
Interest expense, net
   
24,143
     
70,367
     
74,700
     
185,240
 
                                 
LOSS BEFORE INCOME TAXES
   
(371,533
)
   
(802,647
)
   
(540,991
)
   
(1,345,007
)
Income tax benefit
   
(144,897
)
   
(286,131
)
   
(210,986
)
   
(497,653
)
                                 
NET LOSS
 
$
(226,636
)
 
$
(516,516
)
 
$
(330,005
)
 
$
(847,354
)
                                 
Net loss per share of Common Stock - Basic
 
$
(0.12
)
 
$
(0.28
)
 
$
(0.18
)
 
$
(0.46
)
                                 
Net loss per share of Common Stock - Diluted
 
$
(0.12
)
 
$
(0.28
)
 
$
(0.18
)
 
$
(0.46
)
                                 
Cash dividends per share of Common Stock
 
$
0.22
   
$
-
   
$
0.66
   
$
-
 
                                 
Weighted average number of shares of Common Stock and dilutive securities:
                               
Basic
   
1,860,482
     
1,860,261
     
1,859,956
     
1,860,334
 
                                 
Diluted
   
1,860,482
     
1,860,261
     
1,859,956
     
1,860,334
 
 
(1)
Corporate expense - general and administrative includes $42,075 and $32,309 of stock-based compensation expense pursuant to ASC Topic 718 for the quarters ended September 30, 2015 and 2016, respectively.
 
(2)
Corporate expense - general and administrative includes $169,338 and $123,118 of stock-based compensation expense pursuant to ASC Topic 718 for the nine months ended September 30, 2015 and 2016, respectively.
 
The accompanying notes are an integral part of these condensed consolidated financial statements.
 
4

BIRNER DENTAL MANAGEMENT SERVICES, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY
(UNAUDITED)
 
   
Common Stock
     
Retained Earnings
(Accumulated
Deficit)
     
Shareholders'
Equity
  
   
Shares
   
Amount
                         
BALANCES, December 31, 2015
   
1,861,106
   
$
1,446,182
   
$
201,186
   
$
1,647,368
 
Purchase and retirement of Common Stock
   
(845
)
   
(8,860
)
   
-
     
(8,860
)
Stock-based compensation expense
   
-
     
123,118
     
-
     
123,118
 
Net loss
   
-
     
-
     
(847,354
)
   
(847,354
)
                                 
BALANCES, September 30, 2016
   
1,860,261
   
$
1,560,440
   
$
(646,168
)
 
$
914,272
 
 
The accompanying notes are an integral part of these condensed consolidated financial statements.
 
5

BIRNER DENTAL MANAGEMENT SERVICES, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)

   
Nine Months Ended
September 30,
 
   
2015
   
2016
 
CASH FLOWS FROM OPERATING ACTIVITIES:
           
Net loss
 
$
(330,005
)
 
$
(847,354
)
Adjustments to reconcile net loss to net cash provided by operating activities:
               
Depreciation and amortization
   
3,430,031
     
3,192,158
 
Stock-based compensation expense
   
169,338
     
123,118
 
Provision for doubtful accounts
   
568,820
     
635,522
 
Benefit from deferred income taxes
   
(573,601
)
   
(547,765
)
Gain on sale of assets
   
(3,948
)
   
-
 
Changes in assets and liabilities
               
Accounts receivable
   
(739,788
)
   
(942,021
)
Prepaid expenses and other assets
   
(135,986
)
   
(203,301
)
Deferred charges and other assets
   
2,450
     
-
 
Accounts payable
   
(125,233
)
   
(49,622
)
Accrued expenses
   
(79,564
)
   
(211,088
)
Accrued payroll and related expenses
   
(92,214
)
   
(91,333
)
Income taxes payable (receivable)
   
233,646
     
84,206
 
Other long-term obligations
   
(64,831
)
   
171,810
 
Net cash provided by operating activities
   
2,259,115
     
1,314,330
 
                 
CASH FLOWS USED IN INVESTING ACTIVITIES:
               
Capital expenditures
   
(1,620,224
)
   
(684,729
)
Note receivable
   
20,788
     
19,221
 
Proceeds from sale of assets
   
5,000
     
-
 
Net cash used in investing activities
   
(1,594,436
)
   
(665,508
)
                 
CASH FLOWS USED IN FINANCING ACTIVITIES:
               
Advances – line of credit
   
21,420,373
     
16,993,128
 
Repayments – line of credit
   
(20,856,031
)
   
(16,261,772
)
Repayments – reducing revolving loan
   
-
     
(1,000,000
)
Proceeds from exercise of Common Stock options
   
7,671
     
-
 
Tax expense of Common Stock options exercised
   
(4,638
)
   
-
 
Purchase and retirement of Common Stock
   
-
     
(8,860
)
Common Stock cash dividends
   
(1,227,394
)
   
(409,443
)
Net cash used in financing activities
   
(660,019
)
   
(686,947
)
                 
                 
NET CHANGE IN CASH
   
4,660
     
(38,125
)
CASH, beginning of period
   
310,229
     
258,801
 
CASH, end of period
 
$
314,889
   
$
220,676
 
 
The accompanying notes are an integral part of these condensed consolidated financial statements.
 
6

BIRNER DENTAL MANAGEMENT SERVICES, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)

   
Nine Months Ended
September 30,
 
   
2015
   
2016
 
           
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
           
             
Cash paid for interest
 
$
109,890
   
$
199,982
 
Cash paid for income taxes
 
$
138,535
   
$
50,906
 
Cash received for income taxes
 
$
4,929
   
$
85,000
 
                 
NON-CASH ITEMS:
               
Repayments - line of credit with Compass Bank
 
$
-
   
$
10,617,598
 
 
The accompanying notes are an integral part of these condensed consolidated financial statements.
 
7

BIRNER DENTAL MANAGEMENT SERVICES, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
September 30, 2016

(1)
UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

The condensed consolidated financial statements included herein are unaudited and have been prepared by Birner Dental Management Services, Inc. (the “Company”) pursuant to the rules and regulations of the Securities and Exchange Commission (the “SEC”).  Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States (“GAAP”) have been condensed or omitted pursuant to such rules and regulations, although the Company believes that the disclosures included herein are adequate to make the information presented not misleading. A description of the Company’s accounting policies and other financial information is included in the audited consolidated financial statements as filed with the SEC in the Company’s Annual Report on Form 10-K for the year ended December 31, 2015.

In the opinion of management, the accompanying unaudited condensed consolidated financial statements contain all adjustments necessary to present fairly the financial position of the Company as of September 30, 2016 and the results of operations and cash flows for the periods presented.  All such adjustments are of a normal recurring nature.  The results of operations for the quarter and nine months ended September 30, 2016 are not necessarily indicative of the results that may be achieved for a full fiscal year and cannot be used to indicate financial performance for the entire year.

(2)
SIGNIFICANT ACCOUNTING POLICIES

Basis of Presentation/Basis of Consolidation

The accompanying condensed consolidated financial statements have been prepared on the accrual basis of accounting. These financial statements present the financial position and results of operations of the Company and the dental offices (“Offices”), which are under the control of the Company.  The Offices are organized as professional corporations (“P.C.s”) and the Company provides business services to the Offices under long-term management agreements (the “Management Agreements”).  All intercompany accounts and transactions have been eliminated in the consolidation.

The Company treats Offices as consolidated subsidiaries where it has a long-term and unilateral controlling financial interest over the assets and operations of the Offices. The Company maintains control of substantially all of its Offices via the Management Agreements. The Company is a business service organization and does not engage in the practice of dentistry or the provision of dental hygiene services. These services are provided by licensed professionals. Certain key features of these arrangements either enable the Company at any time and in its sole discretion to cause a change in the shareholder of the P.C. (i.e., ''nominee shareholder'') or allow the Company to vote the shares of stock held by the owner of the P.C. and to elect a majority of the board of directors of the P.C.  The accompanying condensed consolidated statements of operations reflect revenue, which is the amount billed to patients less contractual adjustments. Direct expenses consist of all the expenses incurred in operating the Offices and paid by the Company.  Under the Management Agreements, the Company assumes responsibility for the management of most aspects of the Offices' business (the Company does not engage in the practice of dentistry or the provision of dental hygiene services), including personnel recruitment and training; comprehensive administrative, business and marketing support and advice; and facilities, equipment, and support personnel as required to operate the practices.

The Company prepares its consolidated financial statements in accordance with Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) 810, which provides for consolidation of variable interest entities (“VIEs”) of which the Company is the primary beneficiary. The Company has concluded that the P.C.s meet the definition of VIEs as defined by this standard and that the Company is the primary beneficiary of these VIEs.  This conclusion was reached because the Company has the power to direct significant activities of the VIEs and the Company is obligated to absorb losses of and/or provide rights to receive benefits from the VIEs.

Revenue

Revenue is generally recognized when services are provided and is reported at estimated net realizable amounts due from insurance companies, preferred provider and health maintenance organizations (i.e., third-party payors) and patients for services rendered, net of contractual and other adjustments.  Dental services are billed and collected by the Company in the name of the Offices.
 
8

Revenue under certain third-party payor agreements is subject to audit and retroactive adjustments. To the Company’s knowledge, there are no material claims, disputes or other unsettled matters that exist concerning third-party reimbursements as of September 30, 2016.

Most of the Company’s patients are insured under third-party payor agreements. The Company’s billing system generates contractual adjustments for each patient encounter based on fee schedules for the patient’s insurance plan.  The services provided are attached to the patient’s fee schedule based on the insurance the patient has at the time the service is provided.  Therefore, the revenue that is recorded by the billing system is based on insurance contractual amounts. Additionally, each patient at the time of service signs a form agreeing that the patient is ultimately responsible for the contracted fee if the insurance company does not pay the fee for any reason.

Note Receivable

A note receivable was created as part of a dental Office acquisition, of which approximately $70,000 in principal amount was outstanding at September 30, 2016.  The note has equal monthly principal and interest amortization payments and a maturity date of October 31, 2018.  The note bears interest at 6%, which is accrued monthly.  If the note is uncollectible, an allowance for doubtful accounts will be created.  There was no allowance for doubtful accounts for the note as of September 30, 2016 or December 31, 2015.

Intangible Assets

The Company's dental practice acquisitions involve the purchase of tangible and intangible assets and the assumption of certain liabilities of the acquired dental Offices. As part of the purchase price allocation, the Company allocates the purchase price to the tangible and identifiable intangible assets acquired and liabilities assumed, based on estimated fair market values. Costs of acquisition in excess of the net estimated fair value of tangible assets acquired and liabilities assumed are allocated to the Management Agreement related to the Office. The Management Agreement represents the Company's right to manage the Offices during the 40-year term of the Management Agreement. The assigned value of the Management Agreement is amortized using the straight-line method over a period of 25 years.  Amortization remained constant at $211,000 for the quarters ended September 30, 2016 and 2015, respectively.  Amortization was approximately $633,000 and $634,000 for the nine months ended September 30, 2016 and 2015, respectively.

The Management Agreements cannot be terminated by a P.C. without cause, consisting primarily of bankruptcy or material default by the Company.

If facts and circumstances indicate that the carrying value of long-lived and intangible assets may be impaired, the Company will perform an evaluation of recoverability. If an evaluation is required, the estimated future undiscounted cash flows associated with the asset will be compared to the asset’s carrying amount to determine if a write-down to market value or discounted cash flow value is required.  There were no impairment write-downs associated with the Company’s long-lived and intangible assets during the quarters ended September 30, 2016 and 2015.

Stock-Based Compensation Expense

The Company recognizes compensation expense on a straight line basis over the requisite service period of the award. Total stock-based compensation expense included in the Company’s condensed consolidated statements of operations for the quarters ended September 30, 2016 and 2015 was approximately $32,000 and $42,000, respectively, related to stock options.  Total stock-based compensation expense included in the Company’s condensed consolidated statements of operations for the nine months ended September 30, 2016 and 2015 was approximately $123,000 and $169,000, respectively, related to stock options.  Total stock-based compensation expense was recorded as a component of corporate general and administrative expense.
 
The Black-Scholes option-pricing model was used to estimate the option fair values. The option-pricing model requires a number of assumptions, of which the most significant are expected stock price volatility, the expected pre-vesting forfeiture rate, expected dividend rate and the expected option term (the amount of time from the grant date until the options are exercised or expire). Expected volatility was calculated based upon actual historical stock price movements over the most recent periods ended September 30, 2016 equal to the expected option term. Expected pre-vesting forfeitures were estimated based on historical pre-vesting forfeitures over the most recent periods ended September 30, 2016 for the expected option term.
 
9

Recent Accounting Pronouncements
 
In May 2014, the FASB issued Accounting Standards Update (“ASU”) No. 2014-09, Revenue from Contracts with Customers (Topic 606).  This update will establish a comprehensive revenue recognition standard for virtually all industries in GAAP.  ASU 2014-09 will change the amount and timing of revenue and cost recognition, implementation, disclosures and documentation.  In August 2015, the FASB issued ASU No. 2015-14, which deferred the effective date of ASU 2014-09 until annual reporting periods beginning after December 15, 2017, including interim periods within that reporting period.  ASU No. 2014-09 may be adopted under the full retrospective method or simplified transition method.  Entities are permitted to adopt the revenue standard early, beginning with annual reporting periods after December 15, 2016.  The Company plans to adopt ASU 2014-09 beginning January 1, 2018 and is currently evaluating the impact these changes will have on its consolidated financial statements. 

In August 2014, the FASB issued ASU No. 2014-15, Presentation of Financial Statements-Going Concern (Subtopic 205-40): Disclosure of Uncertainties about an Entity’s Ability to Continue as a Going Concern.  The new standard requires management to perform interim and annual assessments of an entity’s ability to continue as a going concern within one year of the date the financial statements are issued.  ASU 2014-15 is effective for fiscal years beginning after December 15, 2016.  ASU 2014-15 is not expected to have a material effect on the Company’s consolidated financial statements. 

In April 2015, the FASB issued ASU No. 2015-03, Interest – Imputation of Interest (Subtopic 835-30): Simplifying the Presentation of Debt Issuance Costs.  The new standard requires that debt issuance costs related to a recognized debt liability be presented in the balance sheet as a direct deduction from the carrying amount of that debt liability, consistent with debt discounts.  This guidance was effective for public entities for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2015.  The Company adopted this guidance and it did not have a significant impact on the Company’s condensed consolidated financial statements.

In November 2015, the FASB issued ASU No. 2015-17, Income Taxes (Topic 740): Balance Sheet Classification of Deferred Taxes.  This update eliminates the current requirement for organizations to present deferred tax liabilities and assets as current and noncurrent in a classified balance sheet.  Instead, the Company will be required to classify all deferred tax assets and liabilities as noncurrent.  This guidance is effective for public entities for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2016.  Early adoption is permitted. Adoption of this guidance is not expected to have a significant impact on the Company’s condensed consolidated financial statements.

In February 2016, the FASB issued ASU No. 2016-02, Leases (Topic 842).  Under the new guidance, lessees will be required to recognize assets and liabilities on the balance sheet for the rights and obligations created by all leases with terms of more than 12 months.  ASU 2016-02 is effective for fiscal years beginning after December 15, 2018.  The Company is currently evaluating the impact ASU 2016-02 will have on its consolidated financial statements. 

In March 2016, the FASB issued ASU No. 2016-09, Improvements to Employee Share-Based Payment Accounting.  The objective of the new guidance is to simplify the accounting for share-based payment transactions, including the income tax consequences, classification of awards as either equity or liabilities and classification of the statement of cash flows.   ASU 2016-09 is effective for fiscal years beginning after December 15, 2016, and interim periods within those fiscal years.   Early adoption of ASU 2016-09 is permitted.  The Company is currently evaluating the impact ASU 2016-09 will have on its consolidated financial statements.

In August 2016, the FASB issued ASU No. 2016-15, Statement of Cash Flows (Topic 230) Classification of Certain Cash Receipts and Cash Payments.  This update addresses diversity in practice in how certain cash receipts and cash payments are presented and classified in the statement of cash flows.  The update addresses eight specific cash flow issues with the objective of reducing the existing diversity in practice.  The guidance is effective for fiscal years beginning after December 15, 2017, and interim periods within those fiscal years, with early adoption permitted.  The Company is currently evaluating the impact these changes may have on its consolidated financial statements.
 
10

(3)
LOSS PER SHARE

The Company calculates earnings (loss) per share (“EPS”) in accordance with ASC Topic 260.

   
Quarters Ended September 30,
 
   
2015
   
2016
 
   
Net Loss
   
Shares
   
Per Share
Amount
   
Net Loss
   
Shares
   
Per Share
Amount
 
                                     
Basic EPS
 
$
(226,636
)
   
1,860,482
   
$
(0.12
)
 
$
(516,516
)
   
1,860,261
   
$
(0.28
)
                                                 
Effect of Dilutive Stock Options
   
-
     
-
     
-
     
-
     
-
     
-
 
                                                 
Diluted EPS
 
$
(226,636
)
   
1,860,482
   
$
(0.12
)
 
$
(516,516
)
   
1,860,261
   
$
(0.28
)

For the quarters ended September 30, 2016 and 2015, options to purchase 509,000 and 455,666 shares, respectively, of the Company’s common stock (“Common Stock”) were not included in the computation of diluted EPS because their effect was anti-dilutive.
 
   
Nine Months Ended September 30,
 
   
2015
   
2016
 
   
Net Loss
   
Shares
   
Per Share
Amount
   
Net Loss
   
Shares
   
Per Share
Amount
 
                                     
Basic EPS
 
$
(330,005
)
   
1,859,956
   
$
(0.18
)
 
$
(847,354
)
   
1,860,334
   
$
(0.46
)
                                                 
Effect of Dilutive Stock Options
   
-
     
-
     
-
     
-
     
-
     
-
 
                                                 
Diluted EPS
 
$
(330,005
)
   
1,859,956
   
$
(0.18
)
 
$
(847,354
)
   
1,860,334
   
$
(0.46
)

For the nine months ended September 30, 2016 and 2015, options to purchase 509,000 and 455,666 shares, respectively, of Common Stock were not included in the computation of diluted EPS because their effect was anti-dilutive.

(4)
STOCK-BASED COMPENSATION PLANS

The Company’s 2005 Equity Incentive Plan, as amended (“2005 Plan”), terminated in March 2015.  The 2005 Plan provided for the grant of incentive stock options, restricted stock, restricted stock units and stock grants to eligible employees (including officers and employee-directors) and non-statutory stock options to eligible employees, directors and consultants.  As of September 30, 2016, there were 324,589 vested options and 103,411 unvested options granted under the 2005 Plan that remained outstanding in accordance with their terms and there were no shares available for issuance under the 2005 Plan due to its termination.

The Company’s shareholders approved the 2015 Equity Incentive Plan (“2015 Plan”) in June 2015.  The 2015 Plan replaces the 2005 Plan.  The maximum number of shares of Common Stock that may be delivered to participants and their beneficiaries under the 2015 Plan is 200,000.  The 2015 Plan provides for the grant of incentive stock options, stock appreciation right awards, restricted stock awards, stock unit awards and other stock-based awards to eligible recipients.  The objectives of the 2015 Plan are to attract and retain the best possible candidates for positions of responsibility and provide for additional performance incentives by providing eligible employees with the opportunity to acquire equity in the Company.  The 2015 Plan is administered by a committee of two or more outside directors from the Company’s Board of Directors (the “Committee”). The Committee determines the eligible individuals to whom awards under the 2015 Plan may be granted, as well as the time or times at which awards will be granted, the number of shares subject to awards to be granted to any eligible individual, the term of the award, vesting terms and conditions and any other terms and conditions of the grant in addition to those contained in the 2015 Plan.  Each grant under the 2015 Plan will be confirmed by and subject to the terms of an award agreement.  As of September 30, 2016, there were 81,000 unvested options granted under the 2015 Plan and 119,000 shares available for issuance under the 2015 Plan.
 
11

The Company uses the Black-Scholes option-pricing model to estimate the fair value of each option granted with the following weighted average assumptions:

   
Quarters Ended
September 30,
   
Nine Months Ended
September 30,
 
Valuation Assumptions
 
2015
   
2016 (5)
   
2015
   
2016
 
                         
Expected life (1)
   
3.25
     
-
     
3.25
     
3.25
 
Risk-free interest rate (2)
   
1.00
%
   
-
     
1.00
%
   
1.21
%
Expected volatility (3)
   
35
%
   
-
     
35
%
   
39
%
Expected dividend yield
   
6.93
%
   
-
     
6.93
%
   
7.81
%
Expected forfeiture (4)
   
27.00
%
   
-
     
27.00
%
   
27.00
%
 

(1)
The expected life, in years, of stock options is estimated based on historical experience.
(2)
The risk-free interest rate is based on U.S. Treasury bills whose term is consistent with the expected life of the stock options.
(3)
The expected volatility is estimated based on historical and current stock price data for the Company.
(4)
Forfeitures are estimated based on historical experience.
(5)
The Company did not issue any options during the quarter ended September 30, 2016.
 
A summary of option activity as of September 30, 2016, and changes during the nine months then ended, is presented below:

   
Number of
Options
   
Weighted-
Average
Exercise
Price
   
Range of
Exercise Prices
   
Weighted-
Average
Remaining
Contractual
Term (years)
   
Aggregate
Intrinsic
Value
(thousands)
 
Outstanding at January 1, 2016
   
455,666
   
$
16.82
   
$
12.55 - $19.75
     
4.2
   
$
-
 
Granted
   
95,000
   
$
10.11
   
$
10.04 - $11.11
                 
Cancelled
   
(41,666
)
 
$
12.69
   
$
10.04 - $16.50
                 
                                         
Outstanding at September 30, 2016
   
509,000
   
$
15.91
   
$
10.04 - $19.75
     
3.7
   
$
968
 
                                         
Exercisable at September 30, 2016
   
324,589
   
$
17.76
   
$
12.55 - $19.75
     
2.5
   
$
160,764
 

No options were granted or exercised during the quarter ended September 30, 2016.  The weighted average grant date fair value of options granted during the nine months ended September 30, 2015 was $1.81 per share.  Net cash proceeds from the exercise of stock options during the nine months ended September 30, 2015 were approximately $8,000.  The associated income tax effect from stock options exercised during the nine months ended September 30, 2015 was approximately $(5,000).  As of the date of exercise, the total intrinsic value of options exercised during the nine months ended September 30, 2015 was approximately $11,000.  As of September 30, 2016, there was approximately $182,000 of total unrecognized compensation expense related to non-vested stock options, which is expected to be recognized over a weighted average period of 2.23 years.
 
12

(5)
DIVIDENDS

The Company has declared and paid the following quarterly cash dividends.

Date Dividend Paid
 
Quarterly Dividend Paid
per Share
 
January 2014; April 2014; July 2014; October 2014
 
$
0.22
 
January 2015; April 2015; July 2015; October 2015
       
January 2016
       

The payment of dividends in the future is subject to the discretion of the Company’s Board of Directors, and various factors may prevent the Company from paying dividends or require the Company to reduce the dividends. Such factors include the Company’s financial position, capital requirements and liquidity, the existence of a stock repurchase program, credit agreement restrictions, state corporate law restrictions, results of operations and such other factors that the Company’s Board of Directors may consider relevant.  On March 29, 2016, the Company entered into a new Loan and Security Agreement with Guaranty Bank and Trust Company, which was amended on July 29, 2016 and November 14, 2016 (as amended, the “Credit Facility”).  Through the remainder of 2016, dividends are prohibited under the Credit Facility.  Beginning in 2017, dividends are permitted so long as the pro forma fixed charge coverage ratio is greater than 1.20 to 1.00 after giving effect to the dividend.

(6)
LINE OF CREDIT

The Credit Facility consists of a $2.0 million revolving line of credit and a $10.0 million reducing revolving loan.  The revolving line of credit matures on March 31, 2018.  The reducing revolving loan matures on March 31, 2021 and requires mandatory reductions of $500,000 per calendar quarter beginning July 1, 2016.  The reducing revolving loan allows the Company to drawdown, repay and re-draw loans advanced to it within the available balance.  Interest varies between LIBOR plus 2.90% and LIBOR plus 2.25% depending on the Company’s funded debt-to-EBITDA ratio.  As of September 30, 2016, the revolving line of credit rate was 3.42% and the reducing revolving loan rate was 3.42%.  There is no commitment fee or origination fee on the Credit Facility.  At September 30, 2016, the Company had approximately $1.0 million of borrowings outstanding under the revolving line of credit and approximately $1.0 million available for borrowing under the revolving line of credit.  At September 30, 2016, the Company had approximately $9.0 million of borrowings outstanding under the reducing revolving loan.  The Credit Facility is collateralized by substantially all of the assets of the Company. The Credit Facility requires the Company to comply with certain affirmative and negative covenants, including maintaining (i) a funded debt-to-EBITDA ratio of no more than 3.15 to 1.00 for the twelve months ending December 31, 2016 and 3.00 to 1.00 for the twelve months ending March 31, 2017, declining to 2.10 to 1.00 for the twelve months ending June 30, 2017, 2.00 to 1.00 for the twelve months ending September 30, 2017 and 1.90 to 1.00 thereafter, (ii) net worth of at least $1.0 million (increased by 25% of any net income after taxes of the Company in 2016 and thereafter), and (iii) a fixed charge coverage ratio of not less than 1.35 to 1.00.  In addition, the Company must generate at least $650,000 of EBITDA in the quarter ending December 31, 2016 and at least $1,830,000 of EBITDA in the six months ending March 31, 2017.  At September 30, 2016, the Company was not in compliance with the Credit Facility covenant that required a funded debt-to-EBITDA ratio of 2.40 to 1.00 for the annualized period ending September 30, 2016.  The Company obtained a waiver of compliance with such covenant in connection with the November 2016 amendment to the Credit Facility, which also relaxed the funded debt-to-EBITDA ratio covenant for the twelve months ending December 31, 2016 and March 31, 2017 and added the EBITDA covenant described above.
 
On March 30, 2016, the Company terminated its credit facility with Compass Bank.  The Company repaid the outstanding $10.6 million principal amount plus accrued interest under the credit agreement with Compass Bank with borrowings under the new Credit Facility.

(7)
DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS
 
ASC Topic 825, ''Disclosures About Fair Value of Financial Instruments,'' requires disclosure about the fair value of financial instruments. Carrying amounts for all financial instruments included in current assets and current liabilities approximate estimated fair values due to the short maturity of those instruments. The fair values of the Company's long-term debt are based on similar rates currently available to the Company.  The Company believes the book value approximates fair value for the notes receivable.

The Company follows ASC Topic 820, “Fair Value Measurements and Disclosures,” which defines fair value, establishes a framework for using fair value to measure assets and liabilities, and expands disclosures about fair value measurements.  The statement establishes a hierarchy for inputs used in measuring fair value that maximizes the use of observable inputs and minimizes the use of unobservable inputs by requiring that the most observable inputs be used when available.  Observable inputs are inputs that market participants would use in pricing the asset or liability developed based on market data obtained from sources independent of the Company.  Unobservable inputs are inputs that reflect the Company’s assumptions of what market participants would use in pricing the asset or liability developed based on the best information available in the circumstances.  The hierarchy is broken down into three levels based on the reliability of the inputs as follows:
 
13

 
Level 1:
Quoted prices are available in active markets for identical assets or liabilities.

Level 2:
Quoted prices in active markets for similar assets and liabilities that are observable for the asset or liability; or

Level 3:
Unobservable pricing inputs that are generally less observable from objective sources, such as discounted cash flow models or valuations.

ASC Topic 820 requires financial assets and liabilities to be classified based on the lowest level of input that is significant to the fair value measurement.  The Company’s assessment of the significance of a particular input to the fair value measurement requires judgment, and may affect the valuation of the fair value of assets and liabilities and their placement within the fair value hierarchy levels. There were no transfers between the fair value hierarchy levels during the quarters ended September 30, 2016 and 2015.

The following table represents the Company’s financial assets and liabilities that were accounted for at fair value on a recurring basis as of December 31, 2015 and September 30, 2016 by level within the fair value hierarchy:

   
December 31, 2015
Fair Value Measurement Using
   
September 30, 2016
Fair Value Measurement Using
 
   
Level 1
   
Level 2
   
Level 3
   
Level 1
   
Level 2
   
Level 3
 
                                     
Contingent Liabilities Balance
 
$
-
     
-
   
$
321,000
   
$
-
     
-
   
$
321,000
 
 
Contingent Liabilities
 
As part of an Office acquisition completed in 2009, the Company recorded contingent liabilities to recognize an estimated amount to be paid as part of the acquisition agreement.  These contingent liabilities are recorded at estimated fair values as of the date of acquisition, are payable beginning after four years from the acquisition date and are calculated at a multiple of the then trailing twelve-months operating cash flows.  The Company remeasures the contingent liability to fair value each reporting date until the contingency is resolved.  Any changes to the fair value are recognized into the income statement when determined.  As of September 30, 2016, approximately $321,000 of contingent liabilities were recorded on the consolidated balance sheets in other long-term obligations.

ITEM 2.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Forward-Looking Statements
 
The statements contained in this report that are not historical in nature are forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, Section 21E of the Securities Exchange Act of 1934, as amended, and the Private Securities Litigation Reform Act of 1995. All statements, other than statements of historical fact, included in this report that address activities, events or developments that we expect, believe, intend or anticipate will or may occur in the future, are forward-looking statements. When used in this document, the words “estimate,” “believe,” “anticipate,” “project” and similar expressions are intended to identify forward-looking statements. Forward-looking statements are inherently subject to risks and uncertainties, many of which cannot be predicted with accuracy and some of which might not even be anticipated. These forward-looking statements include statements in this Item 2, “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” regarding intent, belief or current expectations of the Company or its officers with respect to, among other things, future results of operations, additional incremental revenue from amended capitation agreements, the development of de novo offices or acquisition of additional Offices and the integration of such Offices into the Company’s network, recruitment of additional dentists, funding and cash outlays of the Company, payment or nonpayment of dividends and strategic or other transactions the Company may undertake.
 
14

Such forward-looking statements involve certain risks and uncertainties that could cause actual results to differ materially from anticipated results. These risks and uncertainties include regulatory constraints, changes in laws or regulations concerning the practice of dentistry or dental practice management companies, the availability of suitable new markets and suitable locations within such markets, changes in the Company’s operating or expansion strategy, the general economy of the United States and the specific markets in which the Company’s Offices are located, trends in the health care, dental care and managed care industries, as well as the risk factors set forth in Item 1A. “Risk Factors” in the Company’s Annual Report on Form 10-K for the year ended December 31, 2015, and other factors as may be identified from time to time in the Company’s filings with the Securities and Exchange Commission or in the Company’s press releases.
 
General
 
The following discussion relates to factors that have affected the results of operations and financial condition of the Company for the quarters and nine months ended September 30, 2016 and 2015. This information should be read in conjunction with the Company’s condensed consolidated financial statements and related notes thereto included elsewhere in this report.
 
Overview

The Company was formed in May 1995 and currently manages 69 Offices in Colorado, New Mexico and Arizona staffed by 69 general dentists and 29 specialists. The Company derives all of its revenue from its Management Agreements with professional corporations (“P.C.s”), which conduct the practice at each Office. In addition, the Company assumes a number of responsibilities when it develops a de novo Office or acquires an existing dental practice.  These responsibilities are set forth in a Management Agreement, as described below.

The Company was formed with the intention of becoming the leading provider of business services to dental practices in Colorado. The Company’s growth and success in the Colorado market led to its expansion into the New Mexico and Arizona markets. The Company’s growth strategy is to focus on greater utilization of existing physical capacity through recruiting more dentists and support staff and through development of de novo Offices and selective acquisitions.

The Company opened a de novo Office in Commerce City, Colorado in January 2016.  The Company does not intend to open any additional de novo Offices during 2016.  Instead, it will focus on gaining profitability in its most recently opened Offices and its existing facilities, filling excess capacity in its Offices, and paying down bank debt.

Recent Developments

Beginning in May 2016, an activist shareholder group led by a former officer of the Company began making a series of public disclosures critical of the Company, its board and management. These included disclosures regarding private communications between the Company and its board of directors and themselves and between the Company and certain other parties that have expressed an interest in the Company. The shareholder group also threatened to take certain actions against the Company and its board of directors. The Company addressed these matters in an SEC filing on June 6, 2016. In that filing, the Company also disclosed that, as part of the board of directors’ ongoing evaluation of the Company’s strategic options, it had engaged an investment banking firm with significant experience in the Company’s industry as its financial advisor. The Company stated that the board has been closely monitoring the Company’s financial performance, assessing the Company’s strategic options and carefully considering expressions of interest in the Company. This process is ongoing. As stated in the June 6 filing, the board of directors will continue to act in the best interests of all shareholders in its ongoing evaluation of the Company’s strategic options.

In the June 6 filing, the Company expressed concerns that the matters involving the activist shareholder group were highly distracting to the management and employees of the Company and may be adversely affecting its business and results of operations.  During the six months ended September 30, 2016, revenue at the Company, as measured by daily productivity in the Offices, declined.  The Company believes this decline in revenue is related in part to employee distractions caused by these matters.  Additionally, the Company incurred additional expenses during this period in connection with matters related to the activist shareholder group and its board of directors’ ongoing evaluation of the Company’s strategic options.  The Company expects to continue to incur expenses of the kind described in this paragraph during the three months ended December 31, 2016 and possibly in subsequent quarters.
 
15

During the second quarter of 2016, the Company negotiated an increase in one of its capitation agreements as well as an increase in the number of patients in its network. This is expected to generate additional incremental revenue for the Company.

Critical Accounting Policies
 
The Company’s critical accounting policies are set forth in its Annual Report on Form 10-K for the year ended December 31, 2015.  There have been no significant changes to these policies since the filing of that report.
 
Components of Revenue and Expenses
 
Revenue represents the revenue of the Offices, reported at estimated realizable amounts, received from third-party payors and patients for dental services rendered at the Offices, net of contractual and other adjustments.  Substantially all of the Company’s patients are insured under third-party payor agreements.  The Company’s billing system generates contractual adjustments for each patient encounter based on fee schedules for the patient’s insurance plan.  The services provided are attached to the patient’s fee schedule based on the insurance the patient has at the time the service is provided.  Therefore, the revenue that is recorded by the billing system is based on insurance contractual amounts.  Additionally, each patient at the time of service signs a form agreeing that the patient is ultimately responsible for the contracted fee if the insurance company does not pay the fee for any reason.

Direct expenses consist of clinical salaries and benefits paid to dentists, dental hygienists and dental assistants and the expenses incurred by the Company in connection with managing the Offices, including salaries and benefits of other employees at the Offices, supplies, laboratory fees, occupancy costs, advertising and marketing, depreciation and amortization and general and administrative expenses (including office supplies, equipment leases, management information systems and other expenses related to dental practice operations). The Company also incurs personnel and administrative expenses in connection with maintaining a corporate function that provides management, administrative, marketing, development and professional services to the Offices.

Under each of the Management Agreements, the Company provides business and marketing services at the Offices, including (i) providing capital, (ii) designing and implementing advertising and marketing programs, (iii) negotiating for the purchase of supplies, (iv) staffing, (v) recruiting, (vi) training of non-dental personnel, (vii) billing and collecting patient fees, (viii) arranging for certain legal and accounting services and (ix) negotiating with managed care organizations. The P.C. is responsible for, among other things, (i) supervision of all dentists, dental hygienists and dental assistants, (ii) complying with all laws, rules and regulations relating to dentists, dental hygienists and dental assistants and (iii) maintaining proper patient records. The Company has made, and intends to make in the future, loans to P.C.s to fund their acquisition of dental assets from third parties in order to comply with state dental practice laws.  Because the Company’s financial statements are consolidated with the financial statements of the P.C.s, these loans are eliminated in consolidation.

Under the typical Management Agreement, the P.C. pays the Company a management fee equal to the Adjusted Gross Center Revenue of the P.C. less compensation paid to the dentists, dental hygienists and dental assistants employed at the Office of the P.C.  Adjusted Gross Center Revenue is comprised of all fees and charges booked each month by or on behalf of the P.C. as a result of dental services provided to patients at the Office, less any adjustments for uncollectible accounts, professional courtesies and other activities that do not generate a collectible fee. The Company’s costs include all direct and indirect costs, overhead and expenses relating to the Company’s provision of management services to the Office under the Management Agreement, including (i) salaries, benefits and other direct costs of Company employees who work at the Office, (ii) direct costs of all Company employees or consultants who provide services to or in connection with the Office, (iii) utilities, janitorial, laboratory, supplies, advertising and other expenses incurred by the Company in carrying out its obligations under the Management Agreement, (iv) depreciation expense associated with the P.C.’s assets and the assets of the Company used at the Office, and the amortization of intangible asset value relating to the Office, (v) interest expense on indebtedness incurred by the Company to finance any of its obligations under the Management Agreement, (vi) general and malpractice insurance expenses, lease expenses and dentist recruitment expenses, (vii) personal property and other taxes assessed on the Company’s or the P.C.’s assets used in connection with the operation of the Office, (viii) out-of-pocket expenses of the Company’s personnel related to mergers or acquisitions involving the P.C., (ix) corporate overhead charges or any other expenses of the Company including the P.C.’s pro rata share of the expenses of the accounting and computer services provided by the Company, and (x) a collection reserve in the amount of 5.0% of Adjusted Gross Center Revenue. As a result, substantially all costs associated with the provision of dental services at the Office are borne by the Company, except for the compensation of the dentists, dental hygienists and dental assistants who work at the Office.  This enables the Company to manage the profitability of the Offices.  Each Management Agreement is for a term of 40 years.  Each Management Agreement generally may be terminated by the P.C. only for cause, which includes a material default by or bankruptcy of the Company. Upon expiration or termination of a Management Agreement by either party, the P.C. must satisfy all obligations it has to the Company.
 
16

Revenue is derived principally from fee-for-service revenue and revenue from capitated managed dental care plans. Fee-for-service revenue consists of P.C. revenue received from indemnity dental plans, preferred provider plans and direct payments by patients not covered by any third-party payment arrangement. Managed dental care revenue consists of P.C. revenue received from capitated managed dental care plans, including capitation payments and patient co-payments. Capitated managed dental care contracts are between dental benefits organizations and the P.C.s. Under the Management Agreements, the Company negotiates and administers these contracts on behalf of the P.C.s. Under a capitated managed dental care contract, the dental group practice provides dental services to the members of the dental benefits organization and receives a fixed monthly capitation payment for each plan member covered for a specific schedule of services regardless of the quantity or cost of services to the participating dental group practice obligated to provide them. This arrangement shifts the risk of utilization of these services to the dental group practice providing the dental services. Because the Company assumes responsibility under the Management Agreements for all aspects of the operation of the dental practices (other than the practice of dentistry) and thus bears all costs of the P.C.s associated with the provision of dental services at the Office (other than compensation of dentists, dental hygienists and dental assistants), the risk of over-utilization of dental services at the Office under capitated managed dental care plans is effectively shifted to the Company. In addition, dental group practices participating in a capitated managed dental care plan often receive supplemental payments for more complicated or elective procedures. In contrast, under traditional indemnity insurance arrangements, the insurance company pays whatever reasonable charges are billed by the dental group practice for the dental services provided. 

The Company seeks to increase its revenue by increasing the patient volume at existing Offices through effective advertising and marketing programs and by adding additional specialty services.  The Company also seeks to increase revenue by opening de novo Offices and by making selective acquisitions of dental practices.  The Company seeks to supplement fee-for-service revenue with revenue from contracts with capitated managed dental care plans. Although the Company’s fee-for-service business generally provides a greater margin than its capitated managed dental care business, capitated managed dental care business increases facility utilization and dentist productivity.  The relative percentage of the Company’s revenue derived from fee-for-service business and capitated managed dental care contracts varies from market to market depending on the availability of capitated managed dental care contracts in any particular market and the Company’s ability to negotiate favorable contractual terms. In addition, the profitability of capitated managed dental care revenue varies from market to market depending on the level of capitation payments and co-payments in proportion to the level of benefits required to be provided.

The Company’s policy is to collect any patient co-payments at the time the service is provided.  If the patient owes additional amounts that are not covered by insurance, Offices collect by sending monthly invoices, placing phone calls and sending collection letters.  Interest at 18% per annum is charged on all account balances greater than 90 days old.  Patient accounts receivable that are over 120 days past due and that appear to not be collectible are written off as bad debt, and those in excess of $100 are sent to an outside collections agency.

Results of Operations
 
For the quarter ended September 30, 2016, revenue decreased $698,000, or 4.4%, to $15.2 million compared to $15.9 million for the quarter ended September 30, 2015.  For the quarter ended September 30, 2016, net loss increased $290,000 to $(517,000), or $(.28) per share, compared to $(227,000), or $(0.12) per share, for the quarter ended September 30, 2015.

For the nine months ended September 30, 2016, revenue decreased $1.3 million, or 2.7%, to $47.5 million compared to $48.8 million for the nine months ended September 30, 2015.  For the nine months ended September 30, 2016, net loss increased $517,000 to $(847,000), or $(0.46) per share, compared to $(330,000), or $(0.18) per share, for the nine months ended September 30, 2015.

A substantial portion of the decline in revenue for the quarter and nine months ended September 30, 2016, was concentrated in one region within the Company.  The Company believes it is taking the necessary actions to correct the decline in revenue with new management for this region.  Additionally, the Company believes that dentist transition partially contributed to the decrease in revenue.  The number of dentists affiliated with the Company has declined from 110 at September 30, 2015 to 98 at September 30, 2016.  The Company replaced its dentist recruiter in September 2016 in an effort to reverse the decline in the number of its affiliated dentists.  In addition, as discussed in “Recent Developments” above, the Company believes that matters related to the activist shareholder group adversely affected revenue in the quarter and nine months ended September 30, 2016.  The Company also incurred expenses in connection with its board of directors’ ongoing evaluation of the Company’s strategic options.
 
17

In addition to the foregoing factors, the increase in net loss is attributable to the Company’s two most recently opened de novo Offices, which opened during the third quarter of 2015 and the first quarter of 2016.  The Company’s de novo Offices typically take a period of time after opening before they generate positive net income.  These two Offices had a net loss of $(165,000) for the quarter ended September 30, 2016 and $(587,000) for the nine months ended September 30, 2016.

During the first nine months of 2016, the Company generated $1.3 million of cash from operations.  During this period, the Company had capital expenditures of approximately $685,000 paid dividends of approximately $409,000 and decreased total bank debt by approximately $269,000

The Company’s earnings before interest, taxes, depreciation, amortization and stock-based compensation expense (“Adjusted EBITDA”) decreased $978,000, or 31.2%, to $2.2 million for the nine months ended September 30, 2016 compared to $3.1 million for the nine months ended September 30, 2015.  Although Adjusted EBITDA is not a GAAP measure of performance or liquidity, the Company believes that it may be useful to an investor in evaluating the Company’s ability to meet future debt service, capital expenditures and working capital requirements. However, investors should not consider this measure in isolation or as a substitute for operating income, cash flows from operating activities or any other measure for determining the Company’s operating performance or liquidity that is calculated in accordance with GAAP. In addition, because Adjusted EBITDA is not calculated in accordance with GAAP, it may not necessarily be comparable to similarly titled measures employed by other companies. A reconciliation of Adjusted EBITDA to net loss is made by adding depreciation and amortization expense - Offices, depreciation and amortization expense – Corporate, stock-based compensation expense, interest expense, net and income tax benefit to net loss as in the following table:


   
Quarters
Ended September 30,
   
Nine Months
Ended September 30,
 
   
2015
   
2016
   
2015
   
2016
 
RECONCILIATION OF ADJUSTED EBITDA:
                       
Net loss
 
(226,636
)
 
(516,516
)
 
(330,005
)
 
(847,354
)
Add back:
                               
Depreciation and amortization - Offices
   
1,061,157
     
988,031
     
3,255,507
     
3,026,164
 
Depreciation and amortization - Corporate
   
62,616
     
47,114
     
174,524
     
165,994
 
Stock-based compensation expense
   
42,075
     
32,309
     
169,338
     
123,118
 
Interest expense, net
   
24,143
     
70,367
     
74,700
     
185,240
 
Income tax benefit
   
(144,897
)
   
(286,131
)
   
(210,986
)
   
(497,653
)
                                 
Adjusted EBITDA
 
$
818,458
   
$
335,174
   
$
3,133,078
   
$
2,155,509
 

The Company’s two most recently opened de novo Offices had negative Adjusted EBITDA of $114,000 for the quarter ended September 30, 2016 and $435,000 for the nine months ended September 30, 2016.
 
18

The following table sets forth the percentages of revenue represented by certain items reflected in the Company’s condensed consolidated statements of operations. The information contained in the following table represents the historical results of the Company. The information that follows should be read in conjunction with the Company’s condensed consolidated financial statements and related notes thereto contained elsewhere in this report.

BIRNER DENTAL MANAGEMENT SERVICES, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)

   
Quarters Ended
September 30,
     
Nine Months Ended
September 30,
   
   
2015
     
2016
     
2015
     
2016
   
                                 
REVENUE:
   
100.0
%
     
100.0
%
     
100.0
%
     
100.0
%
 
                                         
DIRECT EXPENSES:
                                       
Clinical salaries and benefits
   
59.9
%
     
61.0
%
     
59.8
%
     
60.2
%
 
Dental supplies
   
4.8
%
     
4.8
%
     
4.6
%
     
4.6
%
 
Laboratory fees
   
5.4
%
     
5.7
%
     
5.2
%
     
5.6
%
 
Occupancy
   
9.6
%
     
10.5
%
     
9.1
%
     
9.9
%
 
Advertising and marketing
   
2.1
%
     
1.2
%
     
1.5
%
     
1.0
%
 
Depreciation and amortization
   
6.7
%
     
6.5
%
     
6.7
%
     
6.4
%
 
General and administrative
   
8.5
%
     
9.2
%
     
8.0
%
     
8.7
%
 
     
96.9
%
     
98.9
%
     
94.8
%
     
96.4
%
 
                                         
Contribution from dental offices
   
3.1
%
     
1.1
%
     
5.2
%
     
3.6
%
 
                                         
CORPORATE EXPENSES:
                                       
General and administrative
   
4.9
%
(1) 
   
5.6
%
(1) 
   
5.8
%
(2) 
   
5.7
%
(2) 
Depreciation and amortization
   
0.4
%
     
0.3
%
     
0.4
%
     
0.3
%
 
                                         
OPERATING LOSS
   
( 2.2
)%
     
( 4.8
)%
     
( 1.0
)%
     
( 2.4
)%
 
Interest expense
   
0.2
%
     
0.5
%
     
0.2
%
     
0.4
%
 
                                         
LOSS BEFORE INCOME TAXES
   
( 2.3
)%
     
( 5.3
)%
     
( 1.1
)%
     
( 2.8
)%
 
Income tax benefit
   
( 0.9
)%
     
( 1.9
)%
     
( 0.4
)%
     
( 1.0
)%
 
                                         
NET LOSS
   
( 1.4
)%
     
( 3.4
)%
     
( 0.7
)%
     
( 1.8
)%
 
 
(1)
Corporate expense - general and administrative includes $42,075 and $32,309 of stock-based compensation expense pursuant to ASC Topic 718 for the quarters ended September 30, 2015 and 2016, respectively.
 
(2)
Corporate expense - general and administrative includes $169,338 and $123,118 of stock-based compensation expense pursuant to ASC Topic 718 for the nine months ended September 30, 2015 and 2016, respectively.
 
19

Quarter Ended September 30, 2016 Compared to Quarter Ended September 30, 2015:

Revenue

For the quarter ended September 30, 2016, revenue decreased $698,000, or 4.4%, to $15.2 million compared to $15.9 million for the quarter ended September 30, 2015.  The Company outlines the factors that it believes contributed to the decrease in revenue in “Results of Operations” and “Recent Developments” above.  Two de novo Offices, which opened during the third quarter of 2015 and the first quarter of 2016, accounted for an increase of $145,000 in revenue during the quarter ended September 30, 2016 compared to the quarter ended September 30, 2015.

Direct expenses
 
Clinical salaries and benefits. For the quarter ended September 30, 2016, clinical salaries and benefits decreased to $9.2 million compared to $9.5 million for the quarter ended September 30, 2015, a decrease of $249,000, or 2.6%.  This decline in clinical salaries and benefits is net of an increase of $62,000 for the quarter ended September 30, 2016 compared to the quarter ended September 30, 2015 as the Company builds a centralized insurance accounts receivable and patient scheduling team.  Clinical salaries and benefits decreased $369,000 at the 67 Offices open during each full quarter due to expense management, while the two de novo Offices accounted for an additional $120,000 of clinical salaries and benefits during the quarter ended September 30, 2016.  As a percentage of revenue, clinical salaries and benefits increased to 61.0% for the quarter ended September 30, 2016 compared to 59.9% for the quarter ended September 30, 2015.
 
Dental supplies. For the quarter ended September 30, 2016, dental supplies decreased to $729,000 compared to $763,000 for the quarter ended September 30, 2015, a decrease of $33,000, or 4.4%.  Dental supplies decreased $42,000 at the 67 Offices open during each full quarter.  This decrease is directly related to the decrease in revenue during the quarter ended September 30, 2016.  Additionally, the two de novo Offices accounted for an increase of $8,000 in dental supplies during the quarter ended September 30, 2016.  As a percentage of revenue, dental supplies remained constant at 4.8% for the quarters ended September 30, 2016 and 2015.
 
Laboratory fees. For the quarter ended September 30, 2016, laboratory fees increased to $869,000 compared to $852,000 for the quarter ended September 30, 2015, an increase of $17,000, or 2.0%.  Laboratory fees increased $4,000 at the 67 Offices open during each full quarter while the two de novo Offices accounted for an additional $13,000 of laboratory fees during the quarter ended September 30, 2016.  As a percentage of revenue, laboratory fees increased to 5.7% for the quarter ended September 30, 2016 compared to 5.4% for the quarter ended September 30, 2015.
 
Occupancy. For the quarter ended September 30, 2016, occupancy expense increased to $1.6 million compared to $1.5 million for the quarter ended September 30, 2015, an increase of $78,000, or 5.1%.  The two de novo Offices accounted for an additional $63,000 of occupancy expense during the quarter ended September 30, 2016, and occupancy expense increased $15,000 at the 67 Offices open during each full quarter.   As a percentage of revenue, occupancy expense increased to 10.5% for the quarter ended September 30, 2016 compared to 9.6% for the quarter ended September 30, 2015.
 
Advertising and marketing. For the quarter ended September 30, 2016, advertising and marketing expenses decreased to $176,000 compared to $327,000 for the quarter ended September 30, 2015, a decrease of $151,000, or 46.1%.  For the 67 Offices open during each full quarter, television advertising expenses decreased $115,000, radio advertising expenses decreased $43,000, advertising creative and placement expenses decreased $15,000 and internet advertising expenses increased $30,000.  The two de novo Offices accounted for a decrease of $5,000 in advertising and marketing expenses during the quarter ended September 30, 2016.  As a percentage of revenue, advertising and marketing expenses decreased to 1.2% for the quarter ended September 30, 2016 compared to 2.1% for the quarter ended September 30, 2015.  The Company regularly adjusts its advertising and marketing expenditures in response to market conditions and performance in individual markets.
 
Depreciation and amortization-Offices.  For the quarter ended September 30, 2016, depreciation and amortization expenses attributable to the Offices decreased to $988,000 compared to $1.1 million for the quarter ended September 30, 2015, a decrease of $73,000, or 6.9%.  Depreciation and amortization expenses decreased $124,000 at the 67 Offices open during each full quarter while the two de novo Offices accounted for an additional $51,000 of depreciation and amortization expenses during the quarter ended September 30, 2016.  As a percentage of revenue, depreciation and amortization expenses attributable to the Offices decreased to 6.5% for the quarter ended September 30, 2016 compared to 6.7% for the quarter ended September 30, 2015.
 
20

General and administrative-Offices.  For the quarter ended September 30, 2016, general and administrative expenses attributable to the Offices increased $44,000, or 3.3%, to $1.4 million compared to the quarter ended September 30, 2015.  The increase in general and administrative expenses is attributable to increases of $26,000 in professional fees and $23,000 in bad debt expense at the 67 Offices open during each full quarter.  Additionally, the two de novo Offices accounted for $10,000 of general and administrative expenses during the quarter ended September 30, 2016.  As a percentage of revenue, general and administrative expenses attributable to the Offices increased to 9.2%.  for the quarter ended September 30, 2016 compared to 8.5% for the quarter ended September 30, 2015.

Contribution from dental Offices
 
As a result of revenue decreasing $698,000 and direct expenses decreasing $367,000 during the quarter ended September 30, 2016, contribution from dental Offices decreased $332,000 or 67.0%, to $163,000 for the quarter ended September 30, 2016 compared to $495,000 for the quarter ended September 30, 2015.  As a percentage of revenue, contribution from dental Offices decreased to 1.1% for the quarter ended September 30, 2016 compared to 3.1% for the quarter ended September 30, 2015.
 
Corporate expenses
 
Corporate expenses - general and administrative. For the quarter ended September 30, 2016, corporate expenses – general and administrative increased to $848,000 compared to $780,000 for the quarter ended September 30, 2015, an increase of $69,000, or 8.8%.  This increase is primarily attributable to an increase of $56,000 in professional fees primarily related to matters involving the activist shareholder group and to the board of directors’ ongoing evaluation of the Company’s strategic options, as discussed in “Recent Developments” above.  As a percentage of revenue, corporate expenses - general and administrative increased to 5.6% for the quarter ended September 30, 2016 compared to 4.9% for the quarter ended September 30, 2015.
 
Corporate expenses - depreciation and amortization. For the quarter ended September 30, 2016, corporate expenses - depreciation and amortization decreased to $47,000 compared to $63,000 for the quarter ended September 30, 2015, a decrease of $16,000, or 24.8%.  As a percentage of revenue, corporate expenses – depreciation and amortization decreased to 0.3% for the quarter ended September 30, 2016 compared to 0.4% for the quarter ended September 30, 2015.
 
Operating loss
 
As a result of the matters discussed above, the Company’s operating loss increased by $385,000 to $(732,000) for the quarter ended September 30, 2016 compared to $(347,000) for the quarter ended September 30, 2015.  As a percentage of revenue, operating loss increased to (4.8)% for the quarter ended September 30, 2016 compared to (2.2)% for the quarter ended September 30, 2015.
 
Interest expense, net
 
For the quarter ended September 30, 2016, interest expense, net increased to $70,000 compared to $24,000 for the quarter ended September 30, 2015, an increase of $46,000, or 191.5%.  This increase is attributable to higher interest rates on the Credit Facility.  As a percentage of revenue, interest expense, net increased to 0.5% for the quarter ended September 30, 2016 compared to 0.2% for the quarter ended September 30, 2015.
 
Net loss
 
As a result of the above, the Company’s net loss was $(517,000) for the quarter ended September 30, 2016 compared to net loss of $(227,000) for the quarter ended September 30, 2015, an increase of $290,000.  Net loss for the quarter ended September 30, 2016 was net of income tax benefit of $(286,000), while net loss for the quarter ended September 30, 2015 was net of income tax benefit of $(145,000).  The effective tax rate was 35.6% for the quarter ended September 30, 2016 and 39.0% for the quarter ended September 30, 2015.  As a percentage of revenue, net loss increased to (3.4)% for the quarter ended September 30, 2016 compared to (1.4)% for the quarter ended September 30, 2015.
 
21

Nine Months Ended September 30, 2016 Compared to Nine Months Ended September 30, 2015:
 
Revenue

For the nine months ended September 30, 2016, revenue decreased $1.3 million, or 2.7%, to $47.5 million compared to $48.8 million for the nine months ended September 30, 2015.  The Company outlines the factors that it believes contributed to the decrease in revenue in “Results of Operations” and “Recent Developments” above.  The two de novo Offices, which opened during the third quarter of 2015 and the first quarter of 2016, accounted for an increase of $529,000 in revenue during the nine months ended September 30, 2016 compared to the nine months ended September 30, 2015.

Direct expenses

Clinical salaries and benefits. For the nine months ended September 30, 2016, clinical salaries and benefits decreased $591,000, or 2.0%, to $28.6 million compared to $29.2 million for the nine months ended September 30, 2015.  This $591,000 decline in clinical salaries and benefits is net of an increase of $171,000 for the nine months ended September 30, 2016 compared to the nine months ended September 30, 2015 as the Company builds a centralized insurance accounts receivable and patient scheduling team.  Clinical salaries and benefits decreased $1.0 million at the 67 Offices open during each full nine month period due to expense management, while the two de novo Offices accounted for an additional $447,000 of clinical salaries and benefits during the nine months ended September 30, 2016.  As a percentage of revenue, clinical salaries and benefits increased to 60.2% for the nine months ended September 30, 2016 compared to 59.8% for the nine months ended September 30, 2015.
 
Dental supplies. For the nine months ended September 30, 2016, dental supplies decreased $75,000, or 3.3%, to $2.2 million compared to $2.3 million for the nine months ended September 30, 2015.  Dental supplies decreased $110,000 at the 67 Offices open during each full nine month period.  This decrease is directly related to the decrease in revenue during the nine months ended September 30, 2016.  Additionally, the two de novo Offices accounted for an increase of $35,000 in dental supplies for the nine months ended September 30, 2016.  As a percentage of revenue, dental supplies remained constant at 4.6% for the nine months ended September 30, 2016 and 2015.
 
Laboratory fees. For the nine months ended September 30, 2016, laboratory fees increased $132,000, or 5.2%, to $2.6 million compared to $2.5 million for the nine months ended September 30, 2015.   Laboratory fees increased $97,000 at the 67 Offices open during each full nine months while the two de novo Offices accounted for an additional $34,000 of laboratory fees for the nine months ended September 30, 2016.  The increase in laboratory fees is attributable to an increase in implant placements.  As a percentage of revenue, laboratory fees increased to 5.6% for the nine months ended September 30, 2016 compared to 5.2% for the nine months ended September 30, 2015.
 
Occupancy. For the nine months ended September 30, 2016, occupancy expense increased $286,000, or 6.5%, to $4.7 million compared to $4.4 million for the nine months ended September 30, 2015.  The two de novo Offices accounted for an additional $277,000 of occupancy expense for the nine months ended September 30, 2016, while occupancy expense increased $9,000 at the 67 Offices open during each full nine months.  As a percentage of revenue, occupancy expense increased to 9.9% for the nine months ended September 30, 2016 compared to 9.1% for the nine months ended September 30, 2015.
 
Advertising and marketing. For the nine months ended September 30, 2016, advertising and marketing expense decreased to $490,000 compared to $708,000 for the nine months ended September 30, 2015, a decrease of $217,000 or 30.7%.  For the 67 Offices open during each full nine month period, television advertising expenses decreased $163,000, radio advertising expenses decreased $47,000, yellow page advertising expenses decreased $43,000, advertising creative and placement expenses decreased $36,000, mail advertising  expenses decreased $10,000 and internet advertising expenses increased $72,000.  The two de novo Offices accounted for an additional $10,000 of advertising and marketing expenses during the nine months ended September 30, 2016.  As a percentage of revenue, advertising and marketing expense decreased to 1.0% for the nine months ended September 30, 2016 compared to 1.5% for the nine months ended September 30, 2015.  The Company adjusts its advertising and marketing expenditures from time to time in response to market conditions and performance in individual markets.
 
Depreciation and amortization-Offices.  For the nine months ended September 30, 2016, depreciation and amortization expenses attributable to the Offices decreased to $3.0 million compared to $3.3 million for the nine months ended September 30, 2015, a decrease of $229,000 or 7.0%.  Depreciation and amortization expenses decreased $382,000 at the 67 Offices open during each full nine months while the two de novo Offices accounted for an additional $152,000 of depreciation and amortization expenses during the nine months ended September 30, 2016.  As a percentage of revenue, depreciation and amortization expenses attributable to the Offices decreased to 6.4% for the nine months ended September 30, 2016 compared to 6.7% for the nine months ended September 30, 2015.
 
22

General and administrative-Offices.  For the nine months ended September 30, 2016, general and administrative expenses attributable to the Offices increased to $4.1 million compared to $3.9 million for the nine months ended September 30, 2015, an increase of $213,000 or 5.4%.  The increase in general and administrative expenses is attributable to increases of $67,000 in bad debt expense and $27,000 in recruiting and relocation expenses at the 67 Offices open during each full nine month period.  Additionally, the two de novo Offices accounted for $111,000 of general and administrative expenses during the nine months ended September 30, 2016.  As a percentage of revenue, general and administrative expenses attributable to the Offices increased to 8.7% for the nine months ended September 30, 2016 compared to 8.0% for the nine months ended September 30, 2015.
 
Contribution from dental Offices
 
As a result of revenue decreasing $1.3 million and direct expenses decreasing $481,000 during the nine months ended September 30, 2016, contribution from dental Offices decreased to $1.7 million for the nine months ended September 30, 2016 compared to $2.5 million for the nine months ended September 30, 2015, a decrease of $843,000 or 33.1%.  As a percentage of revenue, contribution from dental Offices decreased to 3.6% for the nine months ended September 30, 2016 compared to 5.2% for the nine months ended September 30, 2015.
 
Corporate expenses
 
Corporate expenses - general and administrative. For the nine months ended September 30, 2016, corporate expenses – general and administrative decreased to $2.7 million compared to $2.8 million for the nine months ended September 30, 2015, a decrease of $141,000 or 5.0%.  The most significant portion of the change is attributable to decreases of $71,000 in travel, meals and entertainment expenses, $46,000 related to stock-based compensation pursuant to ASC Topic 718 and $44,000 in corporate wages, offset by an increase of $86,000 in professional fees primarily related to matters involving the activist shareholder group and to the board of directors’ ongoing evaluation of the Company’s strategic options, as discussed in “Recent Developments” above.  As a percentage of revenue, corporate expenses - general and administrative decreased to 5.7% for the nine months ended September 30, 2016 compared to 5.8% for the nine months ended September 30, 2015.
 
Corporate expenses - depreciation and amortization. For the nine months ended September 30, 2016, corporate expenses - depreciation and amortization decreased to $166,000 compared to $175,000 for the nine months ended September 30, 2015, a decrease of $9,000, or 4.9%.  As a percentage of revenue, corporate expenses – depreciation and amortization decreased to 0.3% for the nine months ended September 30, 2016 compared to 0.4% for the nine months ended September 30, 2015.
 
Operating loss
 
As a result of the decrease in contribution from dental Offices and the decrease in corporate expenses discussed above, the Company’s operating loss increased by $693,000 to $(1.2) million for the nine months ended September 30, 2016 compared to $(466,000) for the nine months ended September 30, 2015.  As a percentage of revenue, operating loss increased to (2.4)% for the nine months ended September 30, 2016 compared to (1.0)% for the nine months ended September 30, 2015.
 
Interest expense, net
 
For the nine months ended September 30, 2016, interest expense, net increased to $185,000 compared to $75,000 for the nine months ended September 30, 2015, an increase of $111,000 or 148.0%This increase is attributable to higher interest rates on the Credit Facility.  As a percentage of revenue, interest expense, net increased to 0.4% for the nine months ended September 30, 2016 compared to 0.2% for the nine months ended September 30, 2015.
 
Net loss
 
As a result of the above, the Company’s net loss was $(847,000) for the nine months ended September 30, 2016 compared to net loss of $(330,000) for the nine months ended September 30, 2015, an increase of $517,000.  As a percentage of revenue, net loss increased to (1.8)% for the nine months ended September 30, 2016 compared to (0.7)% for the nine months ended September 30, 2015.  Net loss for the nine months ended September 30, 2016 was net of income tax benefit of $(498,000), while net loss for the nine months ended September 30, 2015 was net of income tax benefit of $(211,000). The effective tax rate was 37.0% for the nine months ended September 30, 2016 and 39.0% for the nine months ended September 30, 2015.
 
23

Liquidity and Capital Resources
 
The Company finances its operations and growth through a combination of cash provided by operating activities and bank credit facilities.  As of September 30, 2016, the Company had a working capital deficit of approximately $3.4 million, an accumulated deficit of $(646,000) and a cash balance of $221,000.
 
On March 29, 2016, the Company entered into a new Loan and Security Agreement with Guaranty Bank and Trust Company, which was amended on July 29, 2016 and November 14, 2016 (as amended, the “Credit Facility”).  The Credit Facility consists of a $2.0 million revolving line of credit and a $10.0 million reducing revolving loan.  The revolving line of credit matures on March 31, 2018.  The reducing revolving loan matures on March 31, 2021 and requires mandatory reductions of $500,000 per calendar quarter beginning July 1, 2016.  The reducing revolving loan allows the Company to drawdown, repay and re-draw loans advanced to it within the available balance.  Interest varies between LIBOR plus 2.90% and LIBOR plus 2.25% depending on the Company’s funded debt-to-EBITDA ratio.  As of September 30, 2016, the revolving line of credit rate was 3.42% and the reducing revolving loan rate was 3.42%.  There is no commitment fee or origination fee on the Credit Facility.  At September 30, 2016, the Company had approximately $1.0 million of borrowings outstanding under the revolving line of credit and approximately $1.0 million available for borrowing under the revolving line of credit.  At September 30, 2016, the Company had $9.0 million of borrowings outstanding under the reducing revolving loan.  The Credit Facility is collateralized by substantially all of the assets of the Company. The Credit Facility requires the Company to comply with certain affirmative and negative covenants, including maintaining (i) a funded debt-to-EBITDA ratio of no more than 3.15 to 1.00 for the twelve months ending December 31, 2016 and 3.00 to 1.00 for the twelve months ending March 31, 2017, declining to 2.10 to 1.00 for the twelve months ending June 30, 2017, 2.00 to 1.00 for the twelve months ending September 30, 2017 and 1.90 to 1.00 thereafter, (ii) net worth of at least $1.0 million (increased by 25% of any net income after taxes of the Company in 2016 and thereafter), and (iii) a fixed charge coverage ratio of not less than 1.35 to 1.00.  In addition, the Company must generate at least $650,000 of EBITDA in the quarter ending December 31, 2016 and at least $1,830,000 of EBITDA in the six months ending March 31, 2017.  At September 30, 2016, the Company was not in compliance with the Credit Facility covenant that required a funded debt-to-EBITDA ratio of 2.40 to 1.00 for the annualized period ending September 30, 2016.  The Company obtained a waiver of compliance with such covenant in connection with the November 2016 amendment to the Credit Facility, which also relaxed the funded debt-to-EBITDA ratio covenant for the twelve months ending December 31, 2016 and March 31, 2017 and added the EBITDA covenant described above.  Through the remainder of 2016, dividends are prohibited under the Credit Facility.  Beginning in 2017, dividends are permitted so long as the pro forma fixed charge coverage ratio is greater than 1.20 to 1.00 after giving effect to the dividend.

On March 30, 2016, the Company terminated its credit facility with Compass Bank.  The Company repaid the outstanding $10.6 million principal amount plus accrued interest under the credit agreement with Compass Bank with borrowings under the new Credit Facility.

Net cash provided by operating activities was approximately $1.3 million and $2.3 million for the nine months ended September 30, 2016 and 2015, respectively.  During the nine months ended September 30, 2016, excluding net loss and after adding back non-cash items, the Company’s cash provided by operating activities consisted primarily of increases of approximately $172,000 in other long-term obligations and $84,000 in income taxes payable, offset by an increase in accounts receivable of approximately $942,000, a decrease in accounts payable and accrued expenses of approximately $352,000 and an increase in prepaid expenses and other assets of approximately $203,000.  During the nine months ended September 30, 2015, excluding net loss and after adding back non-cash items, the Company’s cash provided by operating activities consisted of an increase in income taxes payable of approximately $234,000, offset by an increase in accounts receivable of approximately $740,000, a decrease in accounts payable and accrued expenses of approximately $297,000, an increase in prepaid expenses and other assets of approximately $136,000 and a decrease in other long-term obligations of approximately $65,000.
 
Net cash used in investing activities was approximately $666,000 and $1.6 million for the nine months ended September 30, 2016 and 2015, respectively.  For the nine months ended September 30, 2016, the Company invested approximately $685,000 in capital expenditures, including approximately $62,000 related to one Office that was converted to digital radiography, offset by a decrease in a note receivable of $19,000.  For the nine months ended September 30, 2015, the Company invested approximately $1.6 million in capital expenditures, including approximately $864,000 for the two de novo Offices that opened in September 2015 and January 2016, offset by a decrease in notes receivable of $21,000 and proceeds from the sale of assets of $5,000.
 
Net cash used in financing activities was approximately $687,000 and $660,000 for the nine months ended September 30, 2016 and 2015, respectively.  During the nine months ended September 30, 2016, net cash used in financing activities was comprised of approximately $269,000 used to pay down the Credit Facility, $409,000 for the payment of dividends and $9,000 used in the purchase and retirement of Common Stock.  During the nine months ended September 30, 2015, net cash used in financing activities was comprised of approximately $1.2 million for the payment of dividends, offset by approximately $564,000 in advances under the Credit Facility. 
 
24

As of September 30, 2016, the Company had the following debt and lease obligations:


       
Payments due by Period
 
   
Total
   
1 year
   
2-3 years
   
4-5 years
   
More than
5 years
  
Debt obligations
 
$
9,938,934
   
$
2,000,000
   
$
4,938,934
   
$
3,000,000
   
$
-
 
Operating lease obligations
   
16,487,490
     
4,143,464
     
6,567,148
     
3,469,671
     
2,307,207
 
Total
 
$
26,426,424
   
$
6,143,464
   
$
11,506,082
   
$
6,469,671
   
$
2,307,207
 

The Company believes that cash generated from operations and borrowings under its Credit Facility will be sufficient to fund its anticipated working capital needs, capital expenditures and debt service requirements for at least the next 12 months.  In order to meet its long-term liquidity or capital needs, the Company may need to issue additional equity and debt securities or engage in additional borrowings.  There can be no assurance that such additional financing will be available on terms acceptable to the Company or at all. The failure to raise the funds necessary to finance its future cash requirements could adversely affect the Company’s ability to pursue its strategy and could negatively affect its operations in future periods.

ITEM 4.  CONTROLS AND PROCEDURES
 
Under the supervision and with the participation of the Company’s management, including the Chief Executive Officer and Chief Financial Officer, the Company evaluated the design and operation of its disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) of the Securities Exchange Act of 1934, or the “Exchange Act”) as of September 30, 2016.  On the basis of this review, the Company’s management, including the Chief Executive Officer and Chief Financial Officer, concluded that the Company’s disclosure controls and procedures were effective as of September 30, 2016.

There has been no change in the Company’s internal control over financial reporting during the three months ended September 30, 2016 that has materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.
 
PART II.  OTHER INFORMATION

ITEM 2.  UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
 
Issuer Purchases of Equity Securities
 
The Company did not purchase any shares of its Common Stock during the period of July 1, 2016 through September 30, 2016.  The Company’s stock repurchase program has been ongoing for more than five years and there are no expiration dates on any of the plans.  Common Stock repurchases may be made from time to time as the Company’s management deems appropriate.  As of September 30, 2016, the dollar value of shares that may be purchased under the stock repurchase program was approximately $876,000.
 
25

ITEM 6.   EXHIBITS
 
Exhibit
Number  
 
Description of Document
   
3.1
Amended and Restated Articles of Incorporation, incorporated herein by reference to Exhibits 3.1 and 3.2 to the Company’s Registration Statement on Form S-1 (SEC File No. 333-36391), as filed with the Securities and Exchange Commission on September 25, 1997.
   
3.2
Second Amended and Restated Bylaws, incorporated herein by reference to Exhibit 3.1 to the Company’s Current Report on Form 8-K (SEC File No. 000-23367), as filed with the Securities and Exchange Commission on July 15, 2016.
   
4.1
Reference is made to Exhibits 3.1 and 3.2.
   
4.2
Specimen Stock Certificate, incorporated herein by reference to Exhibit 4.2 to the Company’s Registration Statement on Form S-1/A (SEC File No. 333-36391), as filed with the Securities and Exchange Commission on November 25, 1997.
   
10.1
Second Amendment to Loan and Security Agreement, dated November 14, 2016, by and between the Company and Guaranty Bank and Trust Company.
   
31.1
Rule 13a-14(a) Certification of the Chief Executive Officer.
   
31.2
Rule 13a-14(a) Certification of the Chief Financial Officer.
   
32.1*
Section 1350 Certifications of the Chief Executive Officer and the Chief Financial Officer.
   
101.INS
XBRL Instance Document
   
101.SCH
XBRL Taxonomy Extension Schema Document
   
101.CAL
XBRL Taxonomy Extension Calculation Linkbase Document
   
101.DEF
XBRL Taxonomy Extension Definition Linkbase Document
   
101.LAB
XBRL Taxonomy Extension Label Linkbase Document
   
101.PRE
XBRL Taxonomy Extension Presentation Linkbase Document

*
Furnished herewith.
 
26

SIGNATURES
 
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.

 
BIRNER DENTAL MANAGEMENT SERVICES, INC.
       
Date:  November 14, 2016
By:
 
/s/ Frederic W.J. Birner
 
 
Name:
 
Frederic W.J. Birner
 
Title:
 
Chairman of the Board and Chief Executive Officer
     
(Principal Executive Officer)
       
Date:  November 14, 2016
By:
 
/s/ Dennis N. Genty
 
 
Name:
 
Dennis N. Genty
 
Title:
 
Chief Financial Officer, Secretary, and Treasurer
     
(Principal Financial and Accounting Officer)
 
27

Index of Exhibits
 
Exhibit
Number  
 
Description of Document
   
3.1
Amended and Restated Articles of Incorporation, incorporated herein by reference to Exhibits 3.1 and 3.2 to the Company’s Registration Statement on Form S-1 (SEC File No. 333-36391), as filed with the Securities and Exchange Commission on September 25, 1997.
   
3.2
Second Amended and Restated Bylaws, incorporated herein by reference to Exhibit 3.1 to the Company’s Current Report on Form 8-K (SEC File No. 000-23367), as filed with the Securities and Exchange Commission on July 15, 2016.
   
4.1
Reference is made to Exhibits 3.1 and 3.2.
   
4.2
Specimen Stock Certificate, incorporated herein by reference to Exhibit 4.2 to the Company’s Registration Statement on Form S-1/A (SEC File No. 333-36391), as filed with the Securities and Exchange Commission on November 25, 1997.
   
Second Amendment to Loan and Security Agreement, dated November 14, 2016, by and between the Company and Guaranty Bank and Trust Company.
 
 
Rule 13a-14(a) Certification of the Chief Executive Officer.
   
Rule 13a-14(a) Certification of the Chief Financial Officer.
   
Section 1350 Certifications of the Chief Executive Officer and the Chief Financial Officer.
   
101.INS
XBRL Instance Document
   
101.SCH
XBRL Taxonomy Extension Schema Document
   
101.CAL
XBRL Taxonomy Extension Calculation Linkbase Document
   
101.DEF
XBRL Taxonomy Extension Definition Linkbase Document
   
101.LAB
XBRL Taxonomy Extension Label Linkbase Document
   
101.PRE
XBRL Taxonomy Extension Presentation Linkbase Document

*
Furnished herewith.
 
 
28