-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, ErYvsk+MZnVmbYxPm8rPoc+opWDjjgY8k9fFiY0iB1bn7e623PWfZfok4G0VNuIB P2CdeLwfIXKsC6IrCanlYA== 0000899243-99-001748.txt : 19990816 0000899243-99-001748.hdr.sgml : 19990816 ACCESSION NUMBER: 0000899243-99-001748 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 2 CONFORMED PERIOD OF REPORT: 19990630 FILED AS OF DATE: 19990813 FILER: COMPANY DATA: COMPANY CONFORMED NAME: ORTHODONTIC CENTERS OF AMERICA INC /DE/ CENTRAL INDEX KEY: 0000931702 STANDARD INDUSTRIAL CLASSIFICATION: SERVICES-SPECIALTY OUTPATIENT FACILITIES, NEC [8093] IRS NUMBER: 721278948 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: SEC FILE NUMBER: 001-13457 FILM NUMBER: 99689355 BUSINESS ADDRESS: STREET 1: 5000 SAWGRASS VILLAGE CR STREET 2: STE 25 CITY: PONTE VEDRA BEACH STATE: FL ZIP: 32082 BUSINESS PHONE: 9042730004 MAIL ADDRESS: STREET 1: 3850 N CAUSEWAY BLVD STREET 2: STE 990 CITY: METAIRIE STATE: LA ZIP: 70002 10-Q 1 FORM 10-Q UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q XXX QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED JUNE 30, 1999, 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 No.: 000-25256 ORTHODONTIC CENTERS OF AMERICA, INC. (Exact name of registrant as specified in its charter) Delaware 72-1278948 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) identification number) 5000 Sawgrass Village, Suite 25 Ponte Vedra Beach, Florida 32082 (Address of principal executive (Zip Code) offices) (904) 273-0004 (Registrant's telephone number, including area code) (Former name, former address and former fiscal year, if changed since last report) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. YES [X] NO [ ] At August 5, 1999, there were 48,081,961 outstanding shares of the Registrant's Common Stock, $.01 par value per share. ORTHODONTIC CENTERS OF AMERICA, INC. TABLE OF CONTENTS Page ---- Part I. Financial Information Item 1. Consolidated Financial Statements (Unaudited) Condensed Consolidated Balance Sheets - June 30, 1999 and December 31, 1998................ 4 Condensed Consolidated Statements of Income - Six months ended June 30, 1999 and 1998........................................... 5 Condensed Consolidated Statements of Income - Three months ended June 30, 1999 and 1998........................................... 6 Condensed Consolidated Statements of Cash Flow - Six months ended June 30, 1999 and 1998............ 7 Notes to Condensed Consolidated Financial Statements - June 30, 1999......................... 8 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations...... 10 Item 3. Quantitative and Qualitative Disclosures about Market Risk........................................ 19 Part II. Other Information Item 4. Submission of Matters to a Vote of Security Holders................................... 20 Item 6. Exhibits and Reports on Form 8-K................... 20 FORWARD-LOOKING STATEMENTS Certain statements contained in this Report may not be based on historical facts and are "forward looking statements" within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. These forward-looking statements may be identified by reference to a future period(s) or by the use of forward-looking terminology, such as "anticipate," "estimate," "believe," "expect," "foresee," "may" or "will." These forward-looking statements include the statements regarding the Company's future growth, addition of Orthodontic Centers, liquidity, capital resources, and Year 2000 compliance. 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 2 regulating the practice of dentistry or the interpretation of such laws, competition from other orthodontists and practice management companies, failure to consummate proposed developments or acquisitions, the ability of the Company to effectively manage an increasing number of Orthodontic Centers, the general economy of the United States and the specific markets in which the Orthodontic Centers are or are proposed to be located, and other factors as may be identified from time to time in the Company's Annual Report on Form 10-K for the year ended December 31, 1998 and other filings with the Securities and Exchange Commission or in other public announcements by the Company. 3 Part 1. Financial Information ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS Orthodontic Centers of America, Inc. Condensed Consolidated Balance Sheets June 30 December 31 1999 1998 (1) ------- ----------- (Unaudited) (in thousands) ASSETS: Current assets: Cash and cash equivalents $ 4,028 $ 1,601 Investments --- 1,187 Patient receivables, net 23,323 20,163 Unbilled patient receivables, net 55,318 46,314 Deferred income tax asset 4,399 4,399 Amounts receivable from orthodontic entities 6,857 5,817 Supplies inventory 7,905 5,890 Prepaid expenses and other assets 1,825 1,663 -------- -------- Total current assets 103,655 87,034 Property, equipment & improvements, net 54,756 48,565 Amounts receivable from orthodontic entities, less current portion 9,735 8,412 Intangible assets 160,491 152,438 Other assets 482 349 -------- -------- Total assets $329,119 $296,798 ======== ======== LIABILITIES AND STOCKHOLDERS' EQUITY: Current liabilities: Accounts payable and other current liabilities $ 16,709 $ 18,727 Current portion of long-term debt 5,044 8,673 -------- -------- Total current liabilities 21,753 27,400 Deferred income taxes 15,580 15,580 Long-term debt, less current portion 37,990 22,659 Stockholders' Equity: Preferred stock --- --- Common stock, $.01 par value per share, 100,000,000 shares authorized, 48,015,277 shares outstanding at June 30, 1999 and 47,849,000 shares outstanding at December 31, 1998 480 478 Additional paid-in capital 161,568 159,936 Due from key employees (5,236) (5,236) Capital contribution received from shareholders (2,618) (2,618) Retained earnings 99,602 78,599 -------- -------- Total stockholders' equity 253,796 231,159 -------- -------- Total liabilities and stockholders' equity $329,119 $296,798 ======== ======== (1) The consolidated balance sheet at December 31, 1998 has been derived from the audited consolidated financial statements at that date but does not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. See notes to condensed consolidated financial statements. 4 Orthodontic Centers of America, Inc. Condensed Consolidated Statements of Income (Unaudited) Six Months Ended June 30 ------------------ 1999 1998 -------- ------- (in thousands, except per share data) Net revenue $104,449 $79,221 Direct expenses: Employee costs 28,264 21,732 Orthodontic supplies 7,846 6,230 Rent 8,551 6,548 Marketing and advertising 7,679 6,826 -------- ------- 52,340 41,336 General and administrative 10,718 8,395 Depreciation and amortization 5,802 4,188 -------- ------- Operating profit 35,589 25,302 Interest expense (972) (82) Interest income 210 425 -------- ------- Income before income taxes 34,827 25,645 Provision for income taxes 13,147 9,836 -------- ------- Income before cumulative effect of a change in accounting principle 21,680 15,809 Cumulative effect of a change in accounting principle, net of income tax benefit of $410 (678) - -------- ------- Net income $ 21,002 $15,809 ======== ======= Net income per share: Basic $ 0.44 $ 0.33 ======== ======= Diluted before cumulative effect of change in accounting principle $ 0.45 $ 0.33 Cumulative effect of change in accounting principle $ 0.02 $ --- -------- ------- Diluted net income per share $ 0.43 $ 0.33 ======== ======= Average shares outstanding Basic 47,941 47,577 ======== ======= Diluted 48,665 48,572 ======== ======= See notes to condensed consolidated financial statements. 5 Orthodontic Centers of America, Inc. Condensed Consolidated Statements of Income (Unaudited) Three Months Ended June 30 --------------------- 1999 1998 --------- --------- (in thousands, except per share data) Net revenue $55,401 $41,527 Direct expenses: Employee costs 14,958 11,324 Orthodontic supplies 4,112 3,219 Rent 4,524 3,414 Marketing and advertising 4,080 3,757 ------- ------- 27,674 21,714 General and administrative 5,707 4,378 Depreciation and amortization 3,097 2,192 ------- ------- Operating profit 18,923 13,243 Interest expense (531) (74) Interest income 119 110 ------- ------- Income before income taxes 18,511 13,279 Provision for income taxes 6,988 5,013 ------- ------- Net income $11,523 $ 8,266 ======= ======= Net income per share: Basic $0.24 $0.17 ======= ======= Diluted $0.24 $0.17 ======= ======= Average shares outstanding Basic 47,975 47,720 ======= ======= Diluted 48,633 48,834 ======= ======= See notes to condensed consolidated financial statements. 6 Orthodontic Centers of America, Inc. Condensed Consolidated Statements of Cash Flows (Unaudited) Six months ended June 30 -------------------- 1999 1998 -------- -------- (in thousands) Operating activities: Net income $ 21,002 $ 15,809 Adjustments to reconcile net income to net cash provided by operating activities: Provision for bad debt expense 1,082 1,133 Depreciation and amortization 5,802 4,188 Deferred income taxes - 1,436 Cumulative effect of change in accounting principle 1,088 --- Changes in operating assets and liabilities Patient receivables (3,766) (4,067) Unbilled patient receivables and patient prepayments (9,521) (5,995) Supplies inventory, prepaid expenses and other (2,209) (1,805) Amounts receivable from/payable to orthodontic entities (1,040) (221) Accounts payable and other current liabilities (2,069) (2,692) -------- -------- Net cash provided by operating activities 10,369 7,786 Investing Activities: Purchase of property, equipment and improvements (9,268) (9,521) Net proceeds from available-for-sale investments 1,187 20,861 Advances to orthodontic entities (2,239) (3,091) Payments from orthodontic entities 916 908 Intangible assets acquired (9,183) (25,572) -------- -------- Net cash used in investing activities (18,587) (16,415) Financing activities: Issuance of common stock 866 (104) Proceeds from long term debt 12,418 3,000 Repayment of long-term debt (2,639) (3,873) -------- -------- Net cash provided by (used in) financing activities 10,645 (977) -------- -------- Change in cash and cash equivalents 2,427 (9,606) Cash & cash equivalents at beginning of period 1,601 9,865 -------- -------- Cash & cash equivalents at end of period $ 4,028 $ 259 ======== ======== Supplemental cash flow information: Interest paid $ 972 $ 82 ======== ======== Income taxes paid $ 19,118 $ 14,385 ======== ======== Supplemental disclosures of non-cash investing and financing activities: Long term debt and common stock issued (net of returns) in acquisition of intangible and other assets $ 2,693 $ 9,279 ======== ======== See notes to condensed consolidated financial statements. 7 Orthodontic Centers of America, Inc. Notes to Condensed Consolidated Financial Statements (Unaudited) June 30, 1999 1. DESCRIPTION OF BUSINESS AND BASIS OF PRESENTATION Orthodontic Centers of America, Inc. (the "Company") manages orthodontic centers on a national basis. The Company managed 510 orthodontic centers located throughout the United States and in two countries outside the United States as of June 30, 1999. The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals and adjustments necessary to convert the Company's cash basis accounting records to the accrual basis) considered necessary for a fair presentation have been included. Operating results for the three and six month periods ended June 30, 1999 are not necessarily indicative of the results that may be expected for the year ended December 31, 1999. For further information, refer to the consolidated financial statements and footnotes thereto included in the Company's Form 10-K for the year ended December 31, 1998. 2. REVENUE RECOGNITION The Company provides business operations, financial, marketing and administrative services to orthodontists and their orthodontic entities. These services are provided under service, management and consulting agreements with the orthodontist and their wholly-owned orthodontic entities (hereafter referred to as "management agreements"). These management agreements are generally for a term of 20-40 years, with most being 20-25 years. The practicing orthodontists own the orthodontic entities. Revenue is earned by the Company under the management agreements equal to approximately 24% of new patient contract balances in the first month of new contracts plus a portion of existing contract balances, less amounts retained by the orthodontic entities. The orthodontic entities retain all orthodontic center revenue not paid to the Company as management fees. The amounts retained by the orthodontic entities are dependent on their financial performance, based in significant part on the orthodontic entities' cash receipts and 8 Orthodontic Centers of America, Inc. Notes to Condensed Consolidated Financial Statements (Unaudited) (continued) 2. REVENUE RECOGNITION (CONTINUED) disbursements. Under the terms of the management agreements, the orthodontic entities assign their receivables to the Company in payment of their management fees. The Company is responsible for collection. 3. EARNINGS PER SHARE Basic and diluted earnings per share are based on the weighted average number of shares of common stock and common equivalent shares (stock options) outstanding during the period. 4. CHANGE IN ACCOUNTING PRINCIPLE In April 1998, the AICPA's Accounting Standards Executive Committee issued SOP 98-5, Reporting on the Costs of Start-Up Activities. SOP 98-5 requires companies to expense start-up costs, including organizational costs, as incurred. Upon adoption of SOP 98-5, a company is required to record any previously capitalized start-up or organizational costs as a cumulative expense. SOP 98-5 is effective for fiscal years beginning after December 15, 1998. On January 1, 1999, the Company wrote off $680,000 (net of income tax benefit of $410) in accordance with SOP 98-5. 9 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS GENERAL The Company's business was established in 1985 by Dr. Gasper Lazzara, Jr. and Bartholomew F. Palmisano, Sr. The Company managed 510 orthodontic centers (the "Orthodontic Centers") throughout the United States and in Japan and Mexico at June 30, 1999. The following table sets forth certain information relating to the growth in the number of Orthodontic Centers for the periods shown:
Year ended December 31, Six months ended -------------------------------------------- June 30, 1994 1995 1996 1997 1998 1999 ----- ----- ------ ------ ------ ------ Number of centers at beginning of period 55 75 145 247 360 469 Number of centers developed during period 22 44 53 58 54 23 Number of centers acquired during period 1 29 68 78 66 18 Number of centers consolidated during period (3) (3) (19) (23) (11) --- ---- ---- ---- ---- ---- ---- Number of centers at end of period 75 145 247 360 469 510 ==== ==== ==== ==== ==== ====
Of the 510 Orthodontic Centers at June 30, 1999, 275 were developed by the Company, 302 were existing orthodontic practices the assets of which were acquired by the Company and 67 were consolidated. The Company expects that future growth in Orthodontic Centers will come from both developing Orthodontic Centers with existing and newly recruited orthodontists who are affiliated with the Company and acquiring the assets of, and affiliating with, existing practices of other orthodontists. Generally, when the Company develops a new Orthodontic Center, all patients treated at the Orthodontic Center are new patients and, in the first several months after commencing operations, the Orthodontic Center is open only for a limited number of days each month as new patients are added. The Orthodontic Centers have generally become increasingly more productive and profitable as more new patients are added and existing patients return for monthly follow-up visits. After 26 months of operations, a Orthodontic Center's growth in patient base has typically begun to stabilize as the initial patients complete treatment. At June 30, 1999, 248 of the Orthodontic Centers had operated for less than 26 months. An Orthodontic Center can increase the number of patients treated by improving the efficiency of its clinical staff and by adding operating days or orthodontists. The Orthodontic Centers may also increase revenue by implementing periodic price increases. Established orthodontic practices whose assets were acquired by the Company have typically increased their revenue by applying the Company's operating strategies and systems, including increased advertising and efficient patient scheduling. The Company earns its revenue from long-term service or consulting agreements entered into with affiliated orthodontists and their professional corporations or other entities ("Affiliated Orthodontists"). Pursuant to the service agreements, during each month during the term of the service agreement, the Company earns a fee equal to approximately 24% of the aggregate amount of all new patient contracts entered into during that particular month, plus the aggregate of the allocated monthly 10 balance amount of all patient contracts entered into in prior months, less amounts retained by the Affiliated Orthodontists. The remaining contract balances are allocated equally over the remaining months during the terms of the patient contracts, which average 26 months. Since 1991, approximately 1.3% of the Company's annual net revenue has been uncollectible. The amounts retained by an Affiliated Orthodontist are dependent on his or her financial performance, based in significant part on profitability on a cash basis. Amounts retained by an Affiliated Orthodontist who operates a newly developed Orthodontic Center are typically reduced by operating losses on a cash basis because of start-up expenses. An Affiliated Orthodontist's share of these operating losses is added to the Company's fee in the period during which the operating losses are incurred, with such fees aggregating approximately $900,000 for the three months ended June 30, 1999. In addition, a $25,000 annual fee is earned by the Company for 42 free-standing Orthodontic Centers. The terms of consulting agreements vary depending upon the regulatory requirements of the particular state in which an Orthodontic Center is located. In a limited number of states, the Company may only provide consulting services to orthodontists and may not manage an orthodontist's practice. The consulting fee payable to the Company is determined at the time of affiliation, is generally limited to compensation for the specific consulting services performed and is generally based on criteria such as the number of hours of operations of the applicable Orthodontic Centers. The Company develops and manages the business and marketing aspects of Orthodontic Centers, including implementing advertising and marketing programs, preparing budgets, providing staff, purchasing inventory, providing patient scheduling systems, billing and collecting fees, providing office space and equipment and maintaining records. Operating expenses of the Orthodontic Centers are expenses of the Company and are recognized as incurred. Employee costs consist of wages, salaries and benefits paid to all employees of the Company, including orthodontic assistants, business staff and management personnel. General and administrative expenses consist of provision for losses of patient contracts and receivables, professional service fees, maintenance and utility costs, office supply expense, telephone expense, taxes, license fees, and printing and shipping expense. Patient contracts are for terms averaging 26 months and are payable in equal monthly installments throughout the term of treatment, except for the last month when a final payment is made. During the first quarter of 1999, the Orthodontic Centers generally implemented a fee increase from $98 per month to $109 per month, with an increase in the final payment from $398 to $436. 11 RESULTS OF OPERATIONS The following table sets forth the percentages of net revenue represented by certain items in the Company's condensed consolidated statements of income. Six months ended Three Months Ended June 30, June 30, 1999 1998 1999 1998 ---- ---- ---- ---- Net revenue 100.0% 100.0% 100.0% 100.0% ----- ----- ----- ----- Direct expenses Employee cost 27.1 27.4 27.0 27.3 Orthodontic supplies 7.5 7.9 7.4 7.8 Rent 8.1 8.3 8.2 8.2 Marketing and advertising 7.4 8.6 7.4 9.0 ----- ----- ----- ----- Total direct expenses 50.1 52.2 50.0 52.3 General and administrative 10.3 10.6 10.3 10.5 Depreciation and amortization 5.6 5.3 5.5 5.3 ----- ----- ----- ----- Operating profit 34.0 31.9 34.2 31.9 Interest (income) expense 0.7 (0.5) 0.8 (0.1) ----- ----- ----- ----- Income before income taxes 33.3 32.4 33.4 32.0 Provision for income taxes 12.5 12.4 12.6 12.1 ----- ----- ----- ----- Net income 20.8% 20.0% 20.8% 19.9% ===== ===== ===== ===== SIX MONTHS ENDED JUNE 30, 1999 COMPARED TO SIX MONTHS ENDED JUNE 30, 1998 NET REVENUE. Net revenue increased $25.2 million, or 31.8%, to $104.4 million for the six months ended June 30, 1999 from $79.2 million for the six months ended June 30, 1998. Approximately $8.2 million of this increase was attributable to the 160 (net of consolidations) Orthodontic Centers opened since January 1, 1998, approximately $16.5 million to the growth in net revenue of the 350 Orthodontic Centers open throughout both periods, with the remainder due to increases in other management fees, primarily the Affiliated Orthodontists' share of the operating losses of newly developed Orthodontic Centers. The number of patient contracts increased to approximately 233,000 at June 30, 1999 from approximately 156,000 at June 30, 1998. EMPLOYEE COSTS. Employee costs increased $6.5 million, or 30.1%, to $28.3 million for the six months ended June 30, 1999 from $21.7 million for the six months ended June 30, 1998. As a percentage of net revenue, however, employee costs decreased to 27.1% for the six months ended June 30, 1999 from 27.4% for the six months ended June 30, 1998. The percentage decrease primarily reflects efficiencies achieved through general changes in patient treatment schedules by the Affiliated Orthodontists. ORTHODONTIC SUPPLIES. Orthodontic supplies expense increased $1.6 million, or 25.9%, to $7.8 million for the six months ended June 30, 1999 from $6.2 million for the six months ended June 30, 1998. As a percentage of net revenue, however, orthodontic supplies expense decreased to 7.5% for the six months ended June 30, 1999 from 7.9% the six months ended June 30, 1998, due to cost improvements attained through bulk purchasing. RENT. Rent expense increased $2.0 million, or 30.6%, to $8.5 million for the six months ended June 30, 1999 from $6.5 million for the six months ended June 30, 1998. The increase in this expense was attributable to Orthodontic Centers affiliated, opened or relocated after June 30, 1998. As a percentage of net revenue, however, rent expense decreased to 8.1% for the six months ended June 30, 1999 from 8.3% for the six months ended June 30, 1998. The 12 decrease in the percentage was attributable to a decrease in average rent per Orthodontic Center. MARKETING AND ADVERTISING. Marketing and advertising expense increased $900,000, or 12.5%, to $7.7 million for the six months ended June 30, 1999 from $6.8 million for the six months ended June 30, 1998. The increase in this expense resulted primarily from the addition of Orthodontic Centers after June 30, 1998. As a percentage of net revenue, however, marketing and advertising expense decreased to 7.4% for the six months ended June 30, 1999 from 8.6% for the six months ended June 30, 1998. The decrease in this expense as a percentage of net revenue is attributable to the initiation of certain marketing strategies designed to eliminate costs not related to the purchase of media advertisements. GENERAL AND ADMINISTRATIVE. General and administrative expense increased $2.3 million, or 27.7%, to $10.7 million for the six months ended June 30, 1999 from $8.4 million for the six months ended June 30, 1998. The increase in general and administrative expense resulted primarily from the addition of Orthodontic Centers after June 30, 1998. As a percentage of net revenue, however, general and administrative expense decreased to 10.3% for the six months ended June 30, 1999 from 10.6% for the six months ended June 30, 1998. General and administrative expense decreased as a percentage of net revenue primarily as a result of lower average startup costs for Orthodontic Centers developed after June 30, 1998. DEPRECIATION AND AMORTIZATION. Depreciation and amortization expense increased $1.6 million, or 38.5%, to $5.8 million for the six months ended June 30, 1999 from $4.2 million for the six months ended June 30, 1998. As a percentage of net revenue, depreciation and amortization expense increased to 5.6% for the six months ended June 30, 1999 from 5.3% for the six months ended June 30, 1998. The increase in this expense is a result of the fixed assets acquired and service agreements entered into for Orthodontic Centers developed, acquired or relocated after June 30, 1998. OPERATING PROFIT. Operating profit increased $10.3 million, or 40.7%, to $35.6 million for the six months ended June 30, 1999 from $25.3 million for the six months ended June 30, 1998. As a percentage of net revenue, operating profit increased to 34.0% for the six months ended June 30, 1999 from 31.9% for the six months ended June 30, 1998 as a result of the factors discussed above. INTEREST. The Company incurred net interest expense of $760,000 for the six months ended June 30, 1999 compared to a net interest income of $340,000 for the six months ended June 30, 1998, as a result of interest incurred on borrowings under the Company's $100 million revolving line of credit. PROVISION FOR INCOME TAXES. Provision for income taxes increased $3.3 million, or 33.7%, to $13.1 million for the six months ended June 30, 1999 from $9.8 million for the six months ended June 30, 1998. The Company's effective income tax rate was 37.7% for the six months ended June 30, 1999 and 39.0% for the six months ended June 30, 1998. CUMULATIVE EFFECT OF A CHANGE IN ACCOUNTING PRINCIPLE. Pursuant to AICPA's adoption of SOP 98-5, Reporting on the Costs of Start-Up Activities, the Company recorded a cumulative effect of a change in accounting principle of $680,000 (net of an income tax benefit of $410,000) in the six months ended June 30, 1999. 13 NET INCOME. Net income increased $5.9 million, or 32.8%, to $21.0 million for the six months ended June 30, 1999 from $15.1 million for the six months ended June 30, 1998. As a percentage of net revenue, net income increased to 20.8% for the six months ended June 30, 1999 from 20.0% for the six months ended June 30, 1998 as a result of the factors discussed above. THREE MONTHS ENDED JUNE 30, 1999 COMPARED TO THREE MONTHS ENDED JUNE 30, 1998 NET REVENUE. Net revenue increased $13.9 million, or 33.4%, to $55.4 million for the three months ended June 30, 1999 from $41.5 million for the three months ended June 30, 1998. Approximately, $4.2 million of this increase was attributable to the 141 (net of consolidations) Orthodontic Centers opened since January 1, 1998, approximately $9.2 million to the growth in net revenue of the 350 Orthodontic Centers open throughout both periods, with the remainder due to increases in other management fees, primarily the Affiliated Orthodontists' share of the operating losses of newly developed Orthodontic Centers. The number of patient contracts increased to approximately 233,000 at June 30, 1999 from approximately 156,000 at June 30, 1998. EMPLOYEE COSTS. Employee costs increased $3.6 million, or 32.1%, to $14.9 million for the three months ended June 30, 1999 from $11.3 million for the three months ended June 30, 1998. As a percentage of net revenue, however, employee costs decreased to 27.0% for the three months ended June 30, 1999 from 27.3% for the three months ended June 30, 1998. The percentage decrease primarily reflects efficiencies achieved through general changes in patient treatment schedules by the Affiliated Orthodontists. ORTHODONTIC SUPPLIES. Orthodontic supplies expense increased $900,000, or 27.7%, to $4.1 million for the three months ended June 30, 1999 from $3.2 million for the three months ended June 30, 1998. As a percentage of net revenue, however, orthodontic supplies expense decreased to 7.4% for the three months ended June 30, 1999 from 7.8% the three months ended June 30, 1998, due to cost improvements attained through bulk purchasing. RENT. Rent expense increased $1.1 million, or 32.6%, to $4.5 million for the three months ended June 30, 1999 from $3.4 million for the three months ended June 30, 1998. The increase in this expense was attributable to Orthodontic Centers affiliated, opened or relocated after June 30, 1998. As a percentage of net revenue, however, rent expense remained constant at 8.2% for the three months ended June 30, 1999 and for the three months ended June 30, 1998. MARKETING AND ADVERTISING. Marketing and advertising expense increased $300,000, or 8.6%, to $4.1 million for the three months ended June 30, 1999 from $3.8 million for the three months ended June 30, 1998. The increase in this expense resulted primarily from the addition of Orthodontic Centers after June 30, 1998. As a percentage of net revenue, however, marketing and advertising expense decreased to 7.4% for the three months ended June 30, 1999 from 9.0% for the three months ended June 30, 1998. The decrease in this expense as a percentage of net revenue is attributable to the initiation of certain marketing strategies designed to eliminate costs not related to the purchase of media advertisements. GENERAL AND ADMINISTRATIVE. General and administrative expense increased $1.3 million, or 30.3%, to $5.7 million for the three months ended June 30, 1999 from $4.4 million for the three months ended June 30, 1998. The increase in general and administrative expense resulted primarily from the addition of Orthodontic Centers after June 30, 1998. As a percentage of net revenue, 14 however, general and administrative expense decreased to 10.3% for the three months ended June 30, 1999 from 10.5% for the three months ended June 30, 1998. General and administrative expense decreased as a percentage of net revenue primarily as a result of lower average startup costs for Orthodontic Centers developed after June 30, 1998. DEPRECIATION AND AMORTIZATION. Depreciation and amortization expense increased $900,000, or 41.4%, to $3.1 million for the three months ended June 30, 1999 from $2.2 million for the three months ended June 30, 1998. As a percentage of net revenue, depreciation and amortization expense increased to 5.5% for the three months ended June 30, 1999 from 5.3% for the three months ended June 30, 1998. The increase in this expense is a result of the fixed assets acquired and service agreements entered into for Orthodontic Centers developed, acquired or relocated after June 30, 1998. OPERATING PROFIT. Operating profit increased $5.7 million, or 42.9%, to $18.9 million for the three months ended June 30, 1999 from $13.2 million for the three months ended June 30, 1998. As a percentage of net revenue, operating profit increased to 34.2% for the three months ended June 30, 1999 from 31.9% for the three months ended June 30, 1998 as a result of the factors discussed above. INTEREST. The Company incurred net interest expense of $410,000 for the three months ended June 30, 1999 compared to a net interest income of $40,000 for the three months ended June 30, 1998, as a result of interest incurred on borrowings under the Company's $100 million revolving line of credit. PROVISION FOR INCOME TAXES. Provision for income taxes increased $2.0 million, or 39.4%, to $7.0 million for the three months ended June 30, 1999 from $5.0 million for the three months ended June 30, 1998. The Company's effective income tax rate was 37.7% for the three months ended June 30, 1999 and 39.0% for the three months ended June 30, 1998. NET INCOME. Net income increased $3.2 million, or 39.4%, to $11.5 million for the three months ended June 30, 1999 from $8.3 million for the three months ended June 30, 1998. As a percentage of net revenue, net income increased to 20.8% for the three months ended June 30, 1999 from 19.9% for the three months ended June 30, 1998 as a result of the factors discussed above. LIQUIDITY AND CAPITAL RESOURCES. Cash provided by operations was $10.4 million for the six month period ended June 30, 1999 as compared to $7.7 million in the comparable period of 1998. The $21.0 million in net income for the six month period ending June 30, 1999, was offset by increases in working capital accounts required to fund the Company's growth. Net billed and unbilled patient receivables at June 30, 1999 increased $12.2 million over December 31, 1998 levels as a result of increases in the number of patients treated and the fees for treatment in the Orthodontic Centers. The following table presents certain information with respect to Orthodontic Centers open less than 26 months and those open greater than 26 months as of the date indicated: 15 Six months ended June 30, 1999 1998 ------ ------ (Increase) decrease in patient receivables: Orthodontic Centers affiliated over 26 months Patient receivables $ (363) $ (695) Unbilled patient receivables and patient prepayments (2,034) (971) -------- -------- (2,397) (1,666) Orthodontic Centers affiliated less than 26 months Patient receivables (2,797) (3,372) Unbilled patient receivables and patient prepayments (7,010) (5,024) -------- -------- ( 9,807) ( 8,396) -------- -------- Total increase in patient receivables $(12,204) $(10,062) ======== ======== 16 The Company expects that available cash, cash equivalents, available for sale investments, cash flow from operations and existing short-term lines of credit will be sufficient to meet the Company's normal operating requirements, including acquisitions of management and consulting contracts during the remainder of 1999. The Company has a $100 million revolving line of credit available for expansion and general working capital needs. During the twelve month period ended June 30, 1999, the Company expended $73.9 million of cash for fixed assets, intangible assets, repayment of long-term debt and income taxes. However, the Company's cash and cash equivalents increased by $2.4 million during the three months ended June 30, 1999, as summarized below. The remainder of the cash expenditures were financed from the Company's cash flow from operations and revolving line of credit. Six months ended June 30, 1999 1998 ------- ------ Cash, cash equivalents and available for sale investments at beginning of period. $1,601 $ 9,865 (Decrease)/increase in cash, cash equivalents and available for sale investments. 2,427 (9,606) ------ ------- Cash and cash equivalents at end of period $4,028 $ 259 ====== ======= YEAR 2000 Many software applications and operational programs were not designed to recognize calendar dates beginning January 1, 2000. The failure of such applications or systems to recognize properly the dates beginning in the Year 2000 could result in miscalculations or system failures. As a result, many companies and governmental agencies may need to upgrade their computer systems and software to comply with Year 2000 requirements, or risk disruption of normal business activities. Such disruption could adversely affect the Company and other businesses that depend on computer information systems and the continued functioning of basic services in order to conduct business. The Company has conducted a comprehensive review of its computer systems, technology and equipment, and has developed a plan to identify, assess and remediate potential malfunctions and failures that may result from the inability of computers and embedded computer chips within the Company's information systems, technology and equipment to appropriately identify, process and utilize date-sensitive information relating to dates after December 31, 1999. The Company has formed a Year 2000 task force, comprised of employees of the Company who use or depend upon the Company's information systems, to spearhead the Company's Year 2000 compliance program. The Company recently upgraded its computer system in anticipation of growth in the number of Affiliated Orthodontists and Orthodontic Centers and in order for the Company to continue to offer Affiliated Orthodontists efficient management services. The Company believes that this upgrade will adequately address computer systems issues relating to the Year 2000. The Company has been informed by the vendors of the Company's material hardware and software components that these products are currently Year 2000 compliant and capable of properly processing information relating to dates beginning 17 January 1, 2000. The Company has also begun testing, and will continue to test, its information systems and equipment for Year 2000 compliance. During the execution of the Company's Year 2000 conversion project, the Company has incurred and will continue to incur internal staff costs as well as consulting and other expenses related to enhancements necessary to prepare the systems for the Year 2000. Through June 30, 1999, the Company incurred a total of approximately $40,000 in costs with respect to Year 2000 conversion, including $2,700 in connection with acquiring Year 2000 compliant hardware, software and other equipment. The primary source of funds for these costs, and additional costs and expenses to be incurred, is the Company's operating cash flows. Additional expenses of the Year 2000 project are not expected to have a material effect on the Company's financial position or results of operations. The Company's internal information systems are an integral part of its business, and the Company's continued success depends in part upon the Company's ability to store, retrieve, process and manage significant databases. In the event that the Company's Year 2000 compliance efforts prove to be unsuccessful, the Company could experience significant difficulty in conducting its business in the Year 2000 as it has in the past, which could result in lost revenues, increased operating costs, loss of customers and other business interruptions, any of which could have a material adverse effect on the Company's business, results of operations and financial condition. For example, failures or malfunctions of the Company's information systems or equipment could prevent automated patient scheduling and accounts receivable management, including billing and collections functions, and could disrupt the operations and patient treatment at one or more Orthodontic Centers. Moreover, the failure to adequately address Year 2000 compliance issues could result in claims of mismanagement, misrepresentation or breach of contract. In addition, the failure of certain critical pieces of dental equipment could result in personal injury or misdiagnosis of patients by the Company's Affiliated Orthodontists. Related litigation could be costly and time-consuming to defend. In addition to the Company's information systems and equipment utilizing embedded computer chips, the Year 2000 issue may affect the systems and equipment of vendors, utilities, suppliers, Affiliated Orthodontists, payers and other parties with which the Company interacts. The Company has contacted those outside parties that it views as critical to its operations, and is coordinating its efforts to address the Year 2000 issue with those entities. As additional Affiliated Orthodontists affiliate with the Company, the Company intends to review their operations for Year 2000 compliance issues. There can be no assurance, however, that the systems of other parties on which the Company's systems rely will be timely converted, or that a failure to convert by another company, or a conversion that is incompatible with the Company's systems, would not have material adverse effect on the Company. The Company has developed contingency plans for handling critical areas of its operations in the event that its Year 2000 compliance program proves to be unsuccessful. 18 The Company will continue to test these contingency plans during the third and fourth quarters of 1999 to validate their effectiveness, and will refine the plans as additional information becomes available. Contingency plans are subject to variables and uncertainties and there can be no assurance that the Company will correctly anticipate the level, impact or duration of non-compliance of its computer hardware, software, systems and equipment, or that of its Affiliated Orthodontists, suppliers, vendors or service providers (which may supply inaccurate information to the Company or otherwise be unable to provide their service or product free of defect or disruption arising from Year 2000 problems), or that the Company's contingency plans will be sufficient to mitigate the impact of such non-compliance. Thus, there can be no assurance that the Year 2000 problem, even after giving effect to the implementation of applicable contingency plans, will not materialize and such occurrence could have a material adverse impact on the Company's business, financial condition, results of operations and cash flows. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK. During the three months ended June 30, 1999 there were no material changes to the quantitative and qualitative disclosures about market risks presented in the Company's Annual Report on Form 10-K for the year ended December 31, 1998. 19 PART II. OTHER INFORMATION ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS. The annual meeting of stockholders of the Company was held on Thursday, May 13,1999. At this meeting, the following matters were voted upon by the Company's stockholders: (a) Election of Class II Directors Michael C. Johnsen, Ashton J. Ryan, Jr. and Edward J. Walters, Jr. were elected to serve as Class II directors of the Company until the annual meeting of stockholders in 2002 or until their successors are elected and qualified. The vote was as follows: Votes Cast Votes Cast Abstentions/ Name In Favor Against or Withheld Non Votes - ---- ---------- ------------------- ----------- Michael C. Johnsen 33,326,172 633,075 14,043,329 Ashton J. Ryan, Jr. 33,682,967 276,280 14,043,329 Edward J. Walters, Jr. 33,063,972 895,275 14,043,329 The terms of the following directors continued following the meeting: Name Term Expires - ---- ------------ Gasper Lazzara, Jr., DDS 2000 Bartholomew F. Palmisano, Sr. 2000 Geoffrey L. Faux 2001 A Gordon Tunstall 2001 (b) Selection of Independent Auditors The stockholders of the Company ratified the appointment of Ernst & Young LLP as the Company's independent auditors for the fiscal year ending December 31, 1999 by the following vote: Votes Cast Votes Cast Abstentions/ In Favor Against or Withheld Non Votes ---------- ------------------- ------------ 33,954,677 1,050 3,520 ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (A) EXHIBITS Exhibit number Description -------------- ----------- 27 Financial Data Schedule 20 (B) REPORTS ON FORM 8-K The Company filed no reports on Form 8-K for the three months ended June 30, 1999. 21 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) 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. Orthodontic Centers of America, Inc. ------------------------------------ (Registrant) Date: August 13, 1999 /s/ Bartholomew F. Palmisano, Sr. ------------------------------------- Bartholomew F. Palmisano, Sr. Co-Chief Executive Officer, Senior Vice President, Treasurer /s/ Bartholomew F. Palmisano, Jr. ------------------------------------ Bartholomew F. Palmisano, Jr. Chief Financial Officer, Secretary 22 EX-27 2 FINANCIAL DATA SCHEDULE
5 1,000 6-MOS 6-MOS DEC-31-1999 DEC-31-1998 JAN-01-1999 JAN-01-1998 JUN-30-1999 JUN-30-1998 4,028 259 0 0 78,641 54,914 0 0 0 0 103,655 68,736 54,756 42,948 0 0 329,119 252,168 21,753 14,686 0 0 0 0 0 0 480 477 153,714 209,244 329,119 252,168 0 0 104,449 79,221 0 0 0 0 68,860 53,919 0 0 (762) (36) 34,827 25,645 13,147 9,835 21,680 15,809 0 0 0 0 (678) 0 21,002 15,809 .44 .33 .43 .33
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