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AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON MARCH 14, 2000
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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-K
FOR ANNUAL AND TRANSITION REPORTS
PURSUANT TO SECTIONS 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
(MARK ONE)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF
THE SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 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 NUMBER 0-22585
HEALTHCARE RECOVERIES, INC.
(Exact Name of Registrant as Specified in its Charter)
DELAWARE 61-1141758
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
1400 WATTERSON TOWER
LOUISVILLE, KENTUCKY 40218
(Address of principal executive offices) (Zip Code)
(502) 454-1340
Registrant's telephone number, including area code
Securities registered pursuant to Section 12(b) of the Act
NAME OF EACH EXCHANGE
TITLE OF EACH CLASS ON WHICH REGISTERED
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None
Securities registered pursuant to Section 12(g) of the Act:
TITLE OF CLASS
Common Stock, par value $.001 per share
(including rights attached thereto)
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ].
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of regulation S-K is not contained herein, and will not be contained, to be
the best of the Registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendments to this Form 10-K. [ ]
As of March 13, 2000, 11,225,188 shares of the registrant's Common Stock,
$0.001 par value were outstanding. The aggregate market value of Registrant's
Common Stock held by non-affiliates of the Registrant as of March 10, 2000 was
approximately $47,033,537 (based on the last sale price of a share of Common
Stock as of March 10, 2000 ($4.19)), as reported by The Nasdaq National Market.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Registrant's Proxy Statement for the Annual Meeting of
Stockholders to be held on April 28, 2000 are incorporated herein by reference
in Part III.
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TABLE OF CONTENTS
ITEM PAGE
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PART I
1. Business.................................................... 1
2. Properties.................................................. 10
3. Legal Proceedings........................................... 10
4. Submission of Matters to a Vote of Security Holders......... 13
Supplementary Item. Certain Risk Factors.................... 13
PART II
Market for the Registrant's Common Equity and Related
5. Stockholder Matters......................................... 13
6. Selected Financial Data..................................... 13
Management's Discussion and Analysis of Financial Condition
7. and Results of Operations................................... 15
7A. Quantitative and Qualitative Market Risk Disclosures........ 23
8. Financial Statements and Supplementary Data................. 23
Changes in and Disagreements with Accountants on Accounting
9. and Financial Disclosure.................................... 40
PART III
10. Directors and Executive Officers of the Registrant.......... 40
11. Executive Compensation...................................... 40
Security Ownership of Certain Beneficial Owners and
12. Management.................................................. 40
13. Certain Relationships and Related Transactions.............. 40
PART IV
Exhibits, Financial Statement Schedules and Reports on Form
14. 8-K......................................................... 40
THIS FORM 10-K AND OTHER STATEMENTS ISSUED OR MADE FROM TIME TO TIME BY
HEALTHCARE RECOVERIES, INC. OR ITS MANAGEMENT TEAM CONTAIN STATEMENTS WHICH MAY
CONSTITUTE "FORWARD-LOOKING STATEMENTS" WITHIN THE MEANING OF THE SECURITIES ACT
OF 1933, AS AMENDED, AND THE SECURITIES EXCHANGE ACT OF 1934, AS AMENDED BY THE
PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995, 15 U.S.C.A. SECTIONS 77Z-2 AND
78U-5 (SUPP. 1996). THOSE STATEMENTS INCLUDE STATEMENTS REGARDING THE INTENT,
BELIEF OR CURRENT EXPECTATIONS OF HEALTHCARE RECOVERIES, INC. AND MEMBERS OF ITS
MANAGEMENT TEAM, AS WELL AS THE ASSUMPTIONS ON WHICH SUCH STATEMENTS ARE BASED.
PROSPECTIVE INVESTORS ARE CAUTIONED THAT ANY SUCH FORWARD-LOOKING STATEMENTS ARE
NOT GUARANTEES OF FUTURE PERFORMANCE AND INVOLVE RISKS AND UNCERTAINTIES, AND
THAT ACTUAL RESULTS MAY DIFFER MATERIALLY FROM THOSE CONTEMPLATED BY SUCH
FORWARD-LOOKING STATEMENTS. IMPORTANT FACTORS CURRENTLY KNOWN TO MANAGEMENT THAT
COULD CAUSE ACTUAL RESULTS TO DIFFER MATERIALLY FROM THOSE IN FORWARD-LOOKING
STATEMENTS ARE SET FORTH IN THE SAFE HARBOR COMPLIANCE STATEMENT FOR
FORWARD-LOOKING STATEMENTS INCLUDED AS EXHIBIT 99.1 TO THIS FORM 10-K, AND ARE
HEREBY INCORPORATED BY REFERENCE. HEALTHCARE RECOVERIES, INC. UNDERTAKES NO
OBLIGATION TO UPDATE OR REVISE FORWARD-LOOKING STATEMENTS TO REFLECT CHANGED
ASSUMPTIONS OR CIRCUMSTANCES, THE OCCURRENCE OF UNANTICIPATED EVENTS OR CHANGES
TO FUTURE OPERATING RESULTS OVER TIME.
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PART I
ITEM 1. BUSINESS
GENERAL
Healthcare Recoveries, Inc. (the "Company" or "HCRI"), a Delaware
corporation, believes it is the leading independent provider of health insurance
subrogation recovery and other medical cost containment services for private
healthcare payors in the United States, based on the Company's experience and
assessment of its market. HCRI's primary service is subrogation claims recovery,
which entails the identification, investigation and recovery of accident-related
medical benefits incurred by its clients on behalf of their insureds, but for
which other persons or entities have primary responsibility. The Company's other
medical cost containment services primarily involve non-accident based recovery
or analyses and investigation of medical costs originating from illness or
injury. The Company's medical cost management services include hospital bill
auditing, contract compliance review, cost management consulting, coordination
of benefits and other overpayments recovery services. HCRI offers its services
on a nationwide basis to health maintenance organizations ("HMOs"), indemnity
health insurers, self-funded employee health plans, companies that provide
claims administration services to self-funded plans (referred to as "third-party
administrators"), Blue Cross and Blue Shield organizations and provider
organized health plans. Current clients include UnitedHealth Group, Humana Inc.,
Kaiser Permanente, The Principal Financial Group, Group Health, Inc. and
Prudential HealthCare, a member company of Aetna US Healthcare. The Company had
55.6 million lives under contract from its clientele at December 31, 1999, a 37%
increase from December 31, 1998.
ORGANIZATIONAL STRUCTURE
HCRI was incorporated on June 30, 1988 under the laws of the State of
Delaware. The Company was co-founded by its present Chief Executive Officer and
was initially funded by two venture capital investors. The Company operated as
an independent entity until August 28, 1995, when Medaphis Corporation
("Medaphis"), a Delaware corporation, acquired the Company for approximately
$79.1 million in a stock-for-stock exchange accounted for as a pooling of
interests. Medaphis sold the Company in an initial public offering in May 1997.
The Company is now publicly held and is traded on The Nasdaq National Market
under the symbol "HCRI."
ACQUISITIONS
On January 25, 1999, HCRI acquired the assets and certain liabilities of
Subro-Audit, Inc., a Wisconsin corporation ("SAI"), and a related entity,
O'Donnell Leasing Co., LLP, a Wisconsin limited liability partnership ("ODL"
and, together with SAI, "Subro Audit"), for approximately $24.4 million (the
"Subro Audit Acquisition"), using available unrestricted cash. HCRI may pay up
to $7.0 million through January 2001, pursuant to an earn-out arrangement. (An
amount of $8.5 million is held in escrow for the potential earn-out in
connection with the Subro Audit Acquisition and is included in restricted cash
at December 31, 1999). SAI is based in Wisconsin and provides subrogation
recovery services to an installed base of lives, which are covered by insurers,
HMOs and employer-funded plans, throughout the United States. The Subro Audit
Acquisition was accounted for using the purchase method of accounting.
On February 15, 1999, HCRI acquired the assets and certain liabilities of
MedCap Medical Cost Management, Inc., a California corporation ("MedCap"), for
approximately $10 million, using available unrestricted cash and borrowed funds
(the "MedCap Acquisition" and, together with the Subro Audit Acquisition, the
"Acquisitions"). The Company paid approximately $4.5 million on February 15,
2000, pursuant to an amendment to the original earn-out agreement. Pursuant to
the same amendment, through January 15, 2001, the Company may pay up to 50% of
the fees collected in relation to certain negotiated contracts, less associated
expenses. MedCap provides a variety of medical cost management services to
health insurers and HMOs, primarily in California. These services include
hospital bill auditing, contract compliance review, identification of certain
other payments, and cost management consulting services. The MedCap Acquisition
was accounted for using the purchase method of accounting.
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STRATEGY
HCRI intends to pursue a two-fold growth strategy. First, with respect to
its existing subrogation recovery business (which includes the Subro Audit
Acquisition), HCRI will focus on (i) servicing its existing client base, (ii)
selling and installing those additional lives covered by contracts with existing
clients and (iii) selling and installing new clients and cross-selling expanded
product offerings. HCRI will continue to explore strategic acquisitions, which
meet its selection criteria. The February 1999 acquisition of MedCap enabled
HCRI to broaden its product base to provide medical cost management services to
healthcare insurers and HMOs. In addition to medical cost management services,
HCRI is in the initial stages of rolling out a service which offers its clients
the ability to detect, audit and recover a variety of claims overpayments.
Under the second aspect of its growth strategy, HCRI intends to extend its
systems-driven, process-oriented approach, through acquisitions and internal
development, to outsourcing opportunities in other service industries. The
defining characteristics of HCRI's business model are (i) the ability to
automate clerical and administrative tasks, using sophisticated and proprietary
computer applications; and (ii) the ability to standardize and scale work using
process management and classical work measurement techniques. Using this model,
HCRI believes that it can dramatically increase the productivity of the skilled
knowledge workers who make up its labor force, and successfully implement
pricing strategies that will reward HCRI for those productivity gains.
HCRI believes that future development opportunities are likely to be
characterized by outsourcing business services that will produce predictable and
recurring revenue streams; competitive advantages from effective process
management, proprietary systems and the provision of knowledge-rich services;
the development of niche markets; value-based pricing; and a non-exclusive focus
on healthcare information services.
INDUSTRY
Outsourcing. The Company believes that in recent years, businesses have
increasingly outsourced non-core specialized business functions. Because of
expertise and economies of scale, companies that provide specialized services
are often able to deliver the requisite service at lower costs and of similar or
higher quality than could be achieved by their clients.
Since the late 1980s, healthcare payors have experienced increasing (i)
price competition, (ii) regulatory complexity and related administrative
burdens, (iii) costs of healthcare claims, and (iv) average age of the insured
population. These factors, resulting from the rapid growth of managed care,
improvements in medical technology, consumer-oriented political pressure and an
aging U.S. population, tend to result in healthcare payors concentrating their
resources on their core business. This, in turn, provides on-going opportunities
for enterprises, like the Company, which are able to perform non-core business
functions on behalf of healthcare payors.
The recovery process is complex and although many healthcare payors operate
internal recovery departments, HCRI believes that these departments are not
generally as effective per insured life as the Company's operations. HCRI
believes that (i) the relatively small size of recoverable funds as a percentage
of claims paid, (ii) the need for healthcare payors to focus on core
competencies and (iii) the complexity of the recovery process and economies of
scale will continue to provide opportunities for growth of the Company.
Recovery Rights of Healthcare Payors. By contract and state law,
healthcare payors are generally entitled to certain rights with respect to paid
healthcare claims that may be the primary obligation of other insurance
carriers. For example, an HMO may pay the hospitalization and related health
expenses of a member who is injured in an automobile accident. However, the
responsible party is generally liable to the injured person for the damages
arising from the injury, which include lost wages, property loss, pain and
suffering and medical benefits. The responsible party usually has a liability
insurance policy that will pay covered damages, including medical benefits, upon
the acceptance of the injured party's claim. The healthcare payor actually
providing or paying for the medical benefits conferred on the injured party (in
this example, an
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HMO) may have a variety of rights through which it is entitled to recover the
value of such medical benefits from the responsible party and the responsible
party's liability insurer.
These recovery rights include:
(i) the right of subrogation, which allows the healthcare payor to
recover accident-related medical claims directly from the responsible party or
the responsible party's insurance carrier;
(ii) the right of reimbursement, which allows the healthcare payor to
recover from the injured party any payment received from the responsible party
or the responsible party's insurance carrier relating to this injury;
(iii) the right of reimbursement for medical benefits provided for
work-related injuries, which are typically excluded from the healthcare
insurer's coverage; and
(iv) other recovery rights against automobile insurers and other
liability insurers arising from coordination of benefits provisions in
healthcare and property and casualty insurance coverages.
The industry conditions described above have contributed to the growing
need for a cost-effective provider of subrogation services. HCRI believes that
it is the leading independent provider of subrogation and other related medical
cost containment recovery services for private healthcare payors in the United
States. HCRI's success is a result of the implementation of its recovery
process, the skill and knowledge of its employees, its approach to sales and
marketing, its client base, and its proprietary information management system,
all described below:
THE RECOVERY PROCESS
HCRI utilizes a recovery process to implement its post-payment cost
containment services, which include subrogation, hospital bill audit and
overpayment recovery services. HCRI uses proprietary and other software and
various business processes to identify those claims that have recovery
potential. Client-specific threshold dollar amounts are utilized to identify
files where its clients may have a recovery right for subrogation for the
medical benefits provided. In the case of hospital bill audit services, HCRI
utilizes specific threshold dollar amounts to investigate proper payment for
medical procedures.
Following the identification and investigation of identified claims, HCRI
proceeds to recover from the financially responsible party the value of those
covered medical benefits provided. HCRI has automated this complex processing of
all raw data and the management, follow-up and generation of correspondence. The
use of an automated process substantially increases productivity and enables
specially trained personnel to focus more intently on matters requiring their
professional judgement and expertise. The automated process also allows the
Company to pursue claims that would otherwise be deemed too small to pursue
economically. HCRI believes that its ability to effectively recover a broad
range of claim sizes is an important competitive advantage in the market. In
addition to automating the recovery process, HCRI's proprietary software and
other systems generate significant operations and management information, which
enables the Company to employ production and quality standards in the context of
providing specialized services.
The recovery process has been refined to four major, interrelated steps:
(i) automated identification of related claims provided electronically by its
clients; (ii) investigation of potentially recoverable claims; (iii) assertion
and management of potentially recoverable claims; and (iv) negotiation and
settlement of claims. The Company dedicates staff with specialized skills to
individual services to optimize recoveries.
Automated Identification of Claims with Recovery Potential. The Company's
specialty is using systematic identification methods to determine which files to
pass on to the investigation stage. Criteria specific to each recovery service
identify potential recoveries. The automated selection, analysis and processing
of raw claims data are handled primarily through HCRI's proprietary selection
software. Information regarding diagnoses, the cost of treatments, insured
demographics (names, addresses and telephone numbers, etc.) and related claims
is provided to HCRI electronically by the payor. The automated systems include
direct connections to HCRI's clients' claims information systems, subject to
various security controls to limit
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access internally. HCRI's trained staff identifies, sorts, vets and organizes
raw claims data into usable form, essentially engaging in "data mining."
For the subrogation service, the primary vehicle for the identification of
injured insureds is an automated analysis of the clients' claims data. This
system identifies potentially recoverable claims and, using client-specific
protocols, opens an on-line, electronic file for such claims. After files are
opened, the systems automatically track the addition of medical expenses to
these files, so that they are updated as additional expenses are paid. Since its
inception, HCRI has automatically opened over 29.7 million of such on-line
files.
The Company's database of information captures over 500 data elements of
financial, demographic and clinical data from members, providers and payers. The
Company utilizes this data to project potential savings outcomes and pre-screen
claims for its various audit services. Hospital contract terms are also
programmed into the system, which then reviews claims against the specific
contract provisions to identify discrepancies. The database of statistical
information is refined to include the results of each completed audit. Hospital
bill claims are selected for audit based upon statistical analysis and a
comparison to previously audited claims. Typically, claims with billed charges
greater than specified thresholds are selected for audit. For hospital bill
audit services, every claim is automatically reviewed in a complete, focused
audit to refine selection criteria.
Investigation of Potentially Recoverable Claims. By focusing
investigations only on those cases with the greatest potential for recovery,
HCRI minimizes member contacts and maximizes recovery potential. The process for
investigation is tailored to the specific dynamics of the individual service as
follows.
Subrogation. Recoveries are typically related to accidental injuries.
Claims may involve automobile accidents, property & premises injuries,
workers compensation, product liability or medical malpractice. When a file
of claims reaches a value determined by HCRI, the system automatically
generates a series of inquiry letters that are sent to the injured insured.
These individuals respond by calling the Company's customer service
department to provide the facts of the accident. HCRI also initiates phone
calls if the insured does not respond to the inquiry letters in a
reasonable period of time. Historically, approximately 90% of the injured
insureds ultimately respond to HCRI's inquiries and approximately 18% of
the claims investigated by customer service representatives are classified
as recoverable. Once a file of related claims is identified as recoverable,
the system updates the backlog and assigns the file to the appropriate
recovery person who begins the assertion and management of recoverable
claims. Since its inception, HCRI has investigated over 5.3 million
accidents.
Hospital Bill Audit. Claims may be reviewed under the Company's
hospital bill audit services, which is a process for establishing accurate
billing based on the care and services documented by healthcare
professionals and ordered by the physician in the medical record as
compared to the itemized billed charges. When a claim is identified, it is
automatically assigned to a nurse auditor who will conduct an audit of all
the line items that make up the claim at the site of the hospital. Based on
historical experience, approximately 93% of reviewed claims generate
recoveries.
Assertion and Management of Potentially Recoverable Claims. The workflow
performed by the various recovery personnel is directed and guided step-by-step
by the Company's proprietary and other software. The Company's systems document
activity on the claim files and provide an interconnected record of
correspondence and notes taken by the recovery personnel with respect to each
file. HCRI recovery personnel annotate the files on-line, as necessary, to
document progress, developments and status and otherwise maintain the history of
each claim.
Subrogation. Once a file of claims is classified as recoverable, HCRI
recovery personnel, who are required to undergo extensive training, proceed
to assert the recovery rights of HCRI's clients and track the claims'
history and development. The employees contact all necessary parties to
inform them of the existence and value of the recovery claim. These parties
generally include the liability insurer for the responsible party, the
insured and the insured's attorney, if any, in conjunction with the claim.
Recovery personnel maintain contact with the parties involved, including
the responsible party (or insurance carrier), until the claim is settled.
Settlement may not occur until several years after the date of payment.
During this phase of the recovery process, approximately 40% of the amounts
initially entered into
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backlog (the dollar amount of potentially recoverable claims that the
Company is pursuing) as recoverable are rejected, in which case further
activity is terminated and backlog is reduced.
Hospital Bill Audit. Registered nurses review hospital bills line by
line to determine if inaccuracies exist. This review is completed on-site
at the hospital facility where the medical record exists. These audits
benefit any health plan that pays a portion of a claim based on a percent
of billed charges. Nurse auditors review the total claim file to compare
the medical record to the line item bill to ascertain that a physician
ordered the service performed, the supplies billed were actually used and
the medication billed was actually administered. The nurse auditor also
verifies that the billing is in compliance with the provider contract and
that stoploss or outlier provisions are correctly billed. Historically,
hospital bill audits have resulted in savings of approximately 5% to 6%.
Negotiation and Settlement of Claims. The recovery process culminates in
the negotiation and settlement of claim files.
Subrogation. Within the settlement guidelines established by each
client and HCRI's standard operating procedures, recovery personnel close
recoverable files and remove them from backlog by making recoveries or by
rejecting files and terminating recovery efforts. Once a settlement is made
and recorded in the system, receipt of cash is anticipated and monitored by
the responsible employee. Cash receipts are posted to the credit of the
appropriate client.
Claims remain the property of HCRI's clients and litigation is
commenced solely at their written direction; similarly, clients may
terminate litigation or other recovery efforts at any time for any reason.
HCRI customarily bears the cost of legal services as part of the services
to its clients. HCRI has established what it believes are cost-effective
relationships with providers of legal services, including its relationship
with Sharps & Associates, PSC, a law firm solely owned by Douglas R.
Sharps, HCRI's Executive Vice President -- Finance and Administration,
Chief Financial Officer and Secretary. This law firm employs 25 attorneys,
9 paralegals and 1 administrative assistant at its offices in Louisville,
Kentucky; Pleasanton, California; Chicago, Illinois; Tampa, Florida;
Pittsburgh, Pennsylvania; Dallas, Texas; and Milwaukee, Wisconsin. Mr.
Sharps receives no personal benefit from his ownership of the firm. See
Note 7 in Item 8. "Financial Statements and Supplementary Data."
Although some recoveries will be made during the first year of
service, the average time to make a recovery is 18 to 24 months from
installation, with substantially all recoveries made by the sixth year. The
timing of recoveries is driven by the payment cycle of claims (which is the
source of recoveries made by the Company) and circumstances specific to
each claim (e.g., identification of responsible party, responsiveness of
responsible party, cooperation of parties involved, factual complexity and
litigation). The amount of claims recoveries made by the Company on behalf
of a client is generally less than the amount of backlog generated on
behalf of such client. This is for a number of reasons, including (i) the
inadequacy of insurance coverage or other available source of funds to pay
the claim; (ii) the absence of third-party liability; or (iii) the
settlement of the claim for less than full value in accordance with HCRI's
established policies.
Historically, approximately 68% of HCRI's recoveries on behalf of
clients involved automobile liability insurance, 15% involved premises
liability insurance, 10% involved workers' compensation insurance and 7%
involved product liability or other insurance.
Hospital Bill Audit. Once the audit is completed, the Company reviews
its findings with a provider representative to reach agreement. If there is
no response from the provider within forty-five days, the audit results are
considered final and the claim is closed. The savings are reported to the
client for recoupment or HCRI will collect them from the provider.
EMPLOYEES
HCRI employs, and facilitates the development of, skilled
knowledge-workers. HCRI maintains an extensive, in-house training program, which
it believes is attractive to employees and essential in developing
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the necessary industry-specific skills. The Company believes the tight labor
market, in general, could have an impact on future hiring. HCRI employed
approximately 741 persons as of December 31, 1999.
HCRI requires all employees to enter into confidentiality and nondisclosure
agreements, which generally prohibit them from divulging confidential
information and trade secrets after they terminate employment. Employees are
also required to enter into non-compete agreements, preventing them from working
for a competitor during the first year after they terminate employment. In
addition, the Company's customers generally agree not to employ HCRI employees
during the client's contract term plus a specified period.
The Company's employees are not represented by a labor union or a
collective bargaining agreement. The Company regards its employee relations as
good.
MARKETING, SALES AND CLIENT SERVICE
HCRI primarily markets to and contracts with healthcare payors, including
HMOs, other types of managed healthcare plans, indemnity health insurers,
self-funded employee health plans, insured healthcare plans, third-party
administrators, Blue Cross and Blue Shield organizations and provider organized
health plans. HCRI employs a staff of sales managers, a marketing manager and
client services managers. Sales are made directly through contacts with
prospective clients, trade show presentations and employer seminars. Additional
business is also generated from existing clients, who have expanded their
business by growth or acquisitions or who have business segments not already
under contract with HCRI.
Due to the nature of the business, the sales process is lengthy and
involves demonstrating to prospective clients that HCRI's economies of scale,
proprietary processes and value-added services allow (i) HCRI to generate and
return to the clients a greater dollar amount of recoveries than the clients'
in-house recovery department and (ii) the clients to focus greater resources on
core business functions. New customer relationships are often established
through pilot programs, which have typically lasted 12 to 18 months.
Complementing the technical aspects of the recovery process, the client
support function is primarily responsible for communications with clients and
problem resolution. To facilitate strong working relationships, individual
members of the client services staff are assigned to specific clients. HCRI
believes that its investment in resources to resolve a wide variety of business
issues with clients is an important factor in obtaining customers and
maintaining good business relationships. During the last three years, HCRI has
lost sixteen clients representing approximately 5.8 million lives. Terminations
occurred due to, among other things, consolidations, the selection of another
vendor, or because the process was taken in-house. The Company has re-sold
services to three of the companies previously lost, representing approximately
1.7 million lives.
CLIENT BASE
The Company provides services to healthcare plans that as of December 31,
1999 covered approximately 55.6 million lives. HCRI's clients are national and
regional healthcare payors, large third-party administrators or self-insured
corporations.
Major clients include the following:
HealthNet UnitedHealth Group
Humana Inc. The Principal Financial Group
General American Life Insurance Prudential HealthCare, a member company of
Group Health, Inc. Aetna US Healthcare
FIRST HEALTH Blue Cross of California, a division of
WellPoint
Kaiser Permanente Health Network Inc.
HCRI's largest client is UnitedHealth Group. During 1999 and 1998,
UnitedHealth Group generated 23% and 28%, respectively, of HCRI's revenues. The
loss of this account could have a material adverse effect on HCRI's business,
results of operations and financial condition. However, HCRI's contracts
generally provide that in the event of termination, HCRI is entitled to complete
the recovery process on the backlog for that client. On December 31, 1999, HCRI
had backlog of $1,084.5 million.
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HCRI's revenues are earned under written contracts with its clients that
generally provide for contingency fees from recoveries under a variety of
pricing regimes. The pricing arrangements offered by HCRI to its clients include
a fixed fee percentage, a fee percentage that declines as the number of lives
covered by the client and subject to HCRI's service increases and a fee
percentage that varies with HCRI's recovery performance.
HCRI performs its services on a reasonable efforts basis and does not
obligate itself to deliver any specific result. Contracts with its customers are
generally terminable on 60 to 180 days' notice by either party, although in a
few cases the contracts extend over a period of years. Pursuant to the terms of
its client contracts, HCRI is generally entitled to continue to make recoveries
for the client and earn its fees on the backlog existing at the time of
termination.
COMPETITION
HCRI competes primarily with the internal recovery departments of potential
customers and other subrogation recovery service vendors. To the Company's
knowledge, there are two smaller, but significant, independent providers of
subrogation recovery services in addition to HCRI. Both independent competitors
preceded HCRI's entry into the recovery industry, and no major competitors have
entered the market since that time. HCRI believes that it has competitive
advantages in the bulk of its market, including process expertise, capital
requirements necessitated by the unusually long revenue cycle in the recovery
industry, assembling and training a qualified and productive employee base
possessing appropriate industry expertise, and an information processing system
designed to aid investigators and examiners engaged in the recovery process.
However, there are participants in the healthcare, insurance and transaction
processing industries that possess sufficient capital, and managerial and
technical expertise to develop competitive services.
PROPRIETARY INFORMATION MANAGEMENT SYSTEMS
General. HCRI's computer systems consist of inter-related proprietary
software programs that function as automated data and process management
systems. HCRI holds a copyright registration from the United States Copyright
Office on the software (the "SubroSystem") that supports its subrogation
operations. HCRI utilizes another proprietary system to support its hospital
bill audit operations.
The SubroSystem software is a character-based application that was
originally run on Intel-based personal computers in an MS-DOS operating
environment. The personal computers were arranged in local area networks
("LANs"), representing logical units of work. Typically one LAN serviced one to
four clients and up to 25 HCRI employees.
System Upgrade. Although the SubroSystem, a key component of HCRI's
recovery process, historically served the Company's operational and management
information needs, HCRI developed a plan (the "System Upgrade") under which it
would, over a 24-month to 36-month period, migrate the SubroSystem to a modern
network operating system and database architecture. The System Upgrade included
a detailed process for the comprehensive testing of all key elements prior to
implementation of each step of the upgrade.
At the end of January 1998, HCRI successfully migrated the SubroSystem to a
Windows NT environment, the first step of the System Upgrade. In the course of
migration, the Company encountered technical difficulties generally of the type
and number management believes are common with conversions of similar size and
scope. Following migration, HCRI has continued to maintain an inventory of
platform components for redundancy, to store on-line data on redundant devices,
and, on a daily basis, to copy all on-line storage systems to magnetic tapes,
which are then removed to a security vault off-site. HCRI's systems department
handles development and maintenance of the SubroSystem.
Work was completed in late 1998 on the second step of the SubroSystem
Upgrade for the creation of a logical data model to support subrogation and
other processes. This work resulted in the initial implementation of a
relational database to support data warehousing. The last step of the System
Upgrade, the migration of
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data and process to the data warehouse to support client reporting and ad hoc
analysis, was completed in 1999. In total the Company spent approximately $4
million on this project.
Quality and Management Controls. The computer systems control, measure and
generate reports on the recovery processes. From data recorded in these systems,
a series of financial reports are generated for clients that allow them to
monitor HCRI's success in making recoveries on their behalf. The data used for
financial reports are also used to produce a wide array of accounting and
management information used by HCRI to operate its business. HCRI employs a
variety of quality control techniques to ensure consistently high-quality
service.
LEGAL AND REGULATORY ENVIRONMENT
The healthcare industry is subject to numerous regulations, which may
adversely affect HCRI's business. In addition to laws and regulations affecting
healthcare and insurance, changes in federal fair debt collection regulations
may also adversely affect HCRI's business.
General. From time to time, legislation is introduced in Congress and in
various state legislatures which would materially affect the Company's business.
The most significant legislation, laws and regulations may, for clarity, be
grouped into three categories: (i) legislation that would substantially limit
the ability of healthcare insurers to recover from third-parties
accident-related medical benefits incurred by injured insureds ("Health
Insurance Primacy Laws"); (ii) legislation that would substantially limit the
Company's ability to receive and utilize individual claim information from
healthcare insurers ("Confidentiality Laws"); and (iii) other federal and state
laws. The following identifies specific risks in these three categories:
Health Insurance Primacy Laws
Auto Choice Reform Act. In each of the last three sessions of Congress,
legislation known as the Auto Choice Reform Act (the "Proposed Act") was
introduced but not enacted. Under this Proposed Act, in those states not opting
out of its provisions, individual drivers may choose to be covered by an auto
insurance system in which healthcare insurers, with some exceptions, could be
made primarily responsible for healthcare costs incurred by those injured in
automobile accidents. Consequently, even if the insured's injuries were caused
by the negligence of another driver, the healthcare insurer might have no rights
of recovery against the negligent party or that party's liability insurer.
Revenue generated from recoveries against automobile liability insurers
represents approximately 68% of the Company's revenues. Should this or similar
legislation be enacted, it could have a material adverse effect on the Company's
business, results of operations and financial condition.
Proponents of the Proposed Act assert that (i) the costs of operating a
motor vehicle are excessive due to legal and administrative costs associated
with the processing of claims under the fault-based liability system; and (ii)
the costly fault-based liability insurance system often fails to provide
compensation commensurate with loss and takes too long to pay benefits. Even if
the Proposed Act is ultimately abandoned, these policy reasons may result in
future legislation designed to significantly alter the fault-based liability
system used in most states, eliminate recovery rights of healthcare insurers and
materially adversely affect the Company's business.
Certain No Fault Insurance Systems. Certain states have adopted versions
of automobile "no fault" insurance systems in which the injured party's health
insurance carrier or provider is primarily responsible for healthcare related
expenses (and not the responsible party and his or her insurer or the injured
insured's automobile liability insurer). In 1996, California voters rejected a
no-fault automobile insurance measure, Proposition 200, which would have
required drivers with bodily injuries to be compensated by their healthcare
insurers. Although Proposition 200 was rejected by the voters, there can be no
assurance that similar measures will not again be presented in a ballot
initiative or as legislation in California or elsewhere in the future. Growth in
the number of states adopting similar systems could significantly reduce the
amounts otherwise recoverable by the Company in connection with automobile
injuries in such states.
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Confidentiality Laws
Confidentiality Provisions of the Health Insurance Portability and
Accountability Act of 1996 and Related Regulations. On November 3, 1999, the
Secretary of Health and Human Services (the "Secretary") issued a Notice of
Proposed Rulemaking (64 Fed. Reg. 59918 (1999) and 65 Fed. Reg. 427 (2000))
(collectively, the "Proposed Rule") setting standards to protect the privacy of
individually identifiable health information that is transmitted electronically
to health care providers, health plans and similar health care entities. The
requirements of the Proposed Rule also extend to the "business partners" (as
defined in the rule) of the covered entities. The covered entities are required
to enter into agreements with their business partners extending the provisions
of the Proposed Rule to those business partners. The covered entities are
responsible for enforcing those contractual provisions. The Secretary is
expected to issue a final rule by an undetermined date in 2000, after receiving
public comment on the Proposed Rule. The Secretary's actions are mandated by
Section 264 of the Health Insurance Portability and Accountability Act of 1996
("HIPAA") because Congress did not pass legislation protecting medical privacy
by the August 1999 deadline set by HIPAA.
The Proposed Rule establishes a complex regulatory framework on a variety
of subjects, including (a) disclosures and uses of health information that
require patient consent (b) individuals' rights to access and amend their health
information and (c) administrative, technical and physical safeguards required
of entities that use protected health information. The Proposed Rule generally
prohibits any disclosure of protected health information except as authorized
either by the Proposed Rule or by the patient under standards set by the
Proposed Rule. Disclosures for subrogation are expressly authorized by the
Proposed Rule.
The Secretary has received a large volume of public comment that may prompt
material changes in the final rule. Even if the provisions directly addressing
subrogation are unchanged, the final rule could impair subrogation recovery
practices by creating administrative burdens (for example, individual's right to
amend health information or to restrict subsequent uses) or liability risks that
lead health plans to voluntarily restrict their subrogation recovery practices.
In addition, the Proposed Rule does not prevent states from imposing more strict
privacy standards that could have similar impacts on subrogation.
The provisions of the final rule or of future federal legislation and
regulations could impair or prevent the acquisition and use by the Company of
claims and insurance information necessary to process recovery claims on behalf
of its clients. Congress is likely to consider legislation this year that may
expand or contract the scope of the Proposed Rule. In addition, state laws
governing privacy of medical or insurance records and related matters may
significantly affect the Company's business.
Other Federal and State Laws
Changes in the regulation of insurance and debt collection could also
affect the Company's business. Similarly, changes in law that would bar
healthcare subrogation or impair an injured party's ability to collect insured
damages (that is, an injured person would be prevented from recovering from the
wrongdoer damages for accident-related medical benefits covered by health
insurance) could similarly adversely affect the Company's business. Existing
debt collection laws also may be amended or interpreted in a manner that could
adversely affect the Company's business. Additionally, although the Company does
not believe that it engages in the unauthorized practice of law, changes in the
law or a judicial or administrative decision defining some of the Company's
activities as the practice of law, could have a material adverse effect on the
Company's business.
Certain Legal Doctrines
With respect to recoverable claims, the rights of subrogation and
reimbursement may be limited in some cases by (i) the "made whole doctrine."
This doctrine subordinates the healthcare provider's ability to recover to that
of the injured party when the settlement damage award received by the injured
party is inadequate to cover the injured party's damages. And (ii) the "common
fund doctrine," which permits plaintiff's attorneys to deduct their fees for the
claim based on the entire amount covered by a damage award and may, in some
cases, proportionally diminish the amount recoverable by HCRI on behalf of the
healthcare payor out of that damage award.
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ITEM 2. PROPERTIES
As of December 31, 1999, the Company leased property at the following three
locations: (i) approximately 105,718 square feet of space for its executive
offices and main operations in Louisville, Kentucky, under a lease agreement and
amendment expiring in 2009; (ii) approximately 10,206 square feet at its
regional operating office in Pittsburgh, Pennsylvania, under a lease agreement
with a five-year term expiring 2001; and (iii) approximately 8,125 square feet
at its Encino, California location under a 5-year term expiring in 2004.
In addition, the Company owns its offices in Wisconsin and Georgia, which
are located at 5445 South Westridge Drive New, Berlin, Wisconsin 53151, and 1940
The Exchange, Suite 200, Atlanta, Georgia 30339, respectively.
ITEM 3. LEGAL PROCEEDINGS
On March 15, 1994, a class action complaint ("Complaint") was filed against
HCRI in the United States District Court for the Northern District of West
Virginia, Michael L. DeGarmo, et al. v. Healthcare Recoveries, Inc. The
plaintiffs assert that HCRI's subrogation recovery efforts on behalf of its
clients, violate a number of state and federal laws, including the Fair Debt
Collection Practices Act and the Racketeering Influenced and Corrupt
Organizations Act ("RICO"). The Complaint also seeks a declaratory judgment that
HCRI as the subrogation agent for various healthcare payors be limited, in
recovering from persons who caused accidents or from the healthcare payors'
injured insureds, to the actual costs of the medical treatment provided to such
injured insureds by such healthcare payors, healthcare policies or agreements,
which generally allow recovery by the healthcare payors of the "reasonable
value" of such treatments. The Complaint alleges that HCRI made fraudulent
representations to recover sums in excess of those actually expended by the
applicable healthcare payor to pay for medical treatment. On March 30, 1999, the
court entered an order certifying a class of all members of one HCRI client
health plan located in Wheeling, West Virginia (The Health Plan of the Upper
Ohio Valley) who have been subject to subrogation and/or reimbursement
collection practices by HCRI. Plaintiffs, on behalf of the class as certified,
demand compensatory damages, punitive damages, and treble damages under RICO,
costs and reasonable attorneys' fees.
On October 1, 1999, a First Amended Class Action Complaint ("Amended
Complaint") was filed against HCRI in the United States District Court for the
Southern District of Florida, in a putative class action brought by William
Conte and Aaron Gideon, individually and on behalf of all others similarly
situated. In that action, Conte v. Healthcare Recoveries, Inc., No. 99-10062,
plaintiffs assert that HCRI's subrogation recovery efforts on behalf of its
clients violate a number of state and federal laws, including the Fair Debt
Collection Practices Act and the Florida Consumer Collection Practices Act. The
Complaint also seeks a declaratory judgment that HCRI, as the subrogation agent
for various healthcare payors, is not entitled to assert and recover upon
subrogation or reimbursement liens it asserts on settlements obtained from third
party tortfeasors when the settlement is in an amount less than the amount
required to fully compensate (or "make whole") the injured party for all
elements of damage caused by the tortfeasor. Plaintiffs purport to represent a
class consisting of all participants or beneficiaries of ERISA plans nationwide
whose net recovery of damages through judgments, settlements or otherwise
against liable third parties has been reduced or potentially reduced by HCRI's
alleged assertion and/or recovery of unlawful subrogation/reimbursement rights
of its clients. Plaintiffs also seek compensatory and statutory damages,
exemplary and punitive damages, injunctive relief, prejudgment interest, costs
and attorneys' fees.
The original complaint in the Conte matter, filed in June 1999, asserted
similar claims on behalf of a putative class of participants or beneficiaries of
one client's health plans located in Florida, Alabama, and Georgia. In response
to HCRI's motion to dismiss that complaint, the Plaintiffs filed the Amended
Complaint on behalf of a putative national class. On November 5, 1999, HCRI
filed a motion to dismiss the Amended Complaint. That motion, now fully briefed,
remains pending. The court has not yet addressed the question of whether to
certify the putative class; plaintiffs are expected to file a motion by May 2,
2000, seeking class certification. HCRI intends to oppose the motion.
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On October 20, 1999, a class action complaint ("Baker Complaint") was filed
against HCRI and one HCRI client in the Circuit Court of Jefferson County
Alabama, Darrell DeWayne Baker v. Healthcare Recoveries, Inc., United Healthcare
of Alabama, Fictitious Party Defendants A, B, C et al. On December 6, 1999, the
defendants removed the lawsuit to the United States District Court for the
Northern District of Alabama, Southern Division. On January 3, 2000, a First
Amended Complaint was filed, retaining all counts from the original complaint
and seeking an additional declaratory judgment that the health plan and HCRI
have a right to recover through subrogation only the actual benefits paid to
medical providers on behalf of the class. The Baker Complaint, as amended,
asserts claims on behalf of two putative subclasses, both consisting of members
nationwide of the client health plan, who either: (1) allegedly paid inflated
subrogation claims due to alleged failure by the health plan or by HCRI, to
disclose discounts in the health plan's payments to medical providers; or (2)
allegedly were denied coverage of certain claims by the health plan. The
plaintiffs assert claims against HCRI under a variety of theories including
unjust enrichment, breach of contract, breach of fiduciary duty and violations
of RICO. Plaintiffs demand, on behalf of the putative classes, compensatory
damages, punitive damages, treble damages under RICO, and reasonable attorneys'
fees.
On January 27, 2000, the defendants filed a motion to dismiss the Amended
Complaint, which remains pending. The court has not yet addressed the question
whether to certify the putative class.
On October 28, 1999, a class action Plaintiff's Original Petition
("Petition") was filed against HCRI and one HCRI client in the District Court
for the 150th Judicial District, Bexar County, Texas, Joseph R. Cajas, on behalf
of himself and all others similarly situated v. Prudential Health Care Plan,
Inc. and Healthcare Recoveries, Inc. The plaintiff asserts that HCRI's
subrogation recovery efforts on behalf of its client Prudential Health Care
Plan, Inc. ("Prudential") violated a number of common law duties, as well as the
Texas Insurance Code and the Texas Business and Commerce Code. The Petition
alleges that HCRI, as the subrogation agent for Prudential, made fraudulent
misrepresentations in the course of unlawfully pursuing subrogation and
reimbursement claims that plaintiffs assert are unenforceable because (1)
prepaid medical service plans may not exercise rights of subrogation and
reimbursement; (2) the subrogation and reimbursement claims asserted by the
Company are not supported by contract documents that provide enforceable
recovery rights and/or do not adequately describe the recovery rights; and (3)
the sums recovered pursuant to such claims unlawfully exceed the amount
Prudential paid for medical goods and services. HCRI was served with the
Petition in early November and has answered, denying all allegations. The court
has not yet addressed the question of whether to certify the putative class.
In late 1999, the Cajas plaintiff's counsel filed two lawsuits in Texas and
South Carolina that raise issues similar to those in the Cajas lawsuit. On
December 7, 1999, a class action complaint ("Complaint") was filed against HCRI
and one HCRI client in the United States District Court for the Western District
of Texas, San Antonio Division, Timothy Patrick Franks, on behalf of himself and
similarly situated persons v. Prudential Health Care Plan, Inc. and Healthcare
Recoveries, Inc. The plaintiff asserts claims on behalf of members of ERISA
governed health plans. The Complaint alleges that HCRI's subrogation recovery
efforts on behalf of its client Prudential violated a number of common law
duties, as well as the terms of certain ERISA plan documents, RICO, the federal
Fair Debt Collection Practices Act, the Texas Insurance Code and the Texas
Business and Commerce Code. The Complaint alleges that HCRI, as the subrogation
agent for Prudential, made fraudulent misrepresentations in the course of
unlawfully pursuing subrogation and reimbursement claims that plaintiffs assert
are unenforceable because (1) prepaid medical service plans may not exercise
rights of subrogation and reimbursement; (2) the subrogation and reimbursement
claims asserted by the Company are not supported by contract documents that
provide enforceable recovery rights and/or do not adequately describe the
recovery rights; and (3) the sums recovered pursuant to such claims unlawfully
exceed the amount Prudential paid for medical goods and services. The Complaint
further alleges that HCRI unlawfully pursued subrogation and reimbursement
claims by (1) failing to pay pro rata attorney's fees to attorneys who
represented class members with respect to tort claims underlying the subrogation
and reimbursement claims; and (2) recovering subrogation and reimbursement
claims from class members who have not been fully compensated for their
injuries. Plaintiffs, on behalf of the class, demand compensatory damages,
punitive damages, and treble damages under RICO, costs and reasonable attorneys'
fees. On
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January 18, 2000, the defendants filed a motion to dismiss the Complaint, which
remains pending. The court has not yet addressed the question of whether to
certify the putative class.
On December 22, 1999, a class action Complaint was filed against HCRI and
one HCRI client in the Court of Common Pleas of Richland County, South Carolina,
Estalita Martin et al. vs. Companion Health Care Corp., and Healthcare
Recoveries, Inc. On January 21, 2000, defendant Companion Healthcare Corp.
("CHC") filed an Answer and Counterclaim and plaintiff Martin filed a First
Amended Complaint ("Amended Complaint"). The Amended Complaint asserts that
HCRI's subrogation recovery efforts on behalf of its client CHC violated a
number of common law duties, as well as the South Carolina Unfair Trade
Practices Act. The Amended Complaint alleges that HCRI as the subrogation agent
for CHC, made fraudulent misrepresentations in the course of unlawfully pursuing
subrogation and reimbursement claims that plaintiffs assert are unenforceable
because (1) prepaid medical service plans may not exercise rights of subrogation
and reimbursement; (2) the subrogation and reimbursement claims asserted by the
Company are not supported by contract documents that provide enforceable
recovery rights and/or do not adequately describe the recovery rights; and (3)
the sums recovered pursuant to such claims unlawfully exceed the amount CHC was
entitled to collect for such medical goods and services. The Amended Complaint
further alleges that HCRI and CHC unlawfully pursued subrogation and
reimbursement claims by (1) failing to pay pro rata costs and attorney's fees to
attorneys who represented class members with respect to tort claims underlying
the subrogation and reimbursement claims; and (2) failing to include in
subrogation and reimbursement claims all applicable discounts that CHC received
for such medical goods and services. Plaintiffs, on behalf of the class, demand
compensatory damages, punitive damages, and treble damages, disgorgement of
unjust profits, costs, and prejudgment interest and attorneys' fees. HCRI was
served with the original Complaint in late December and is preparing a formal
response. The court has not yet addressed the question of whether to certify the
putative class.
The DeGarmo, Cajas, Franks, Baker and Martin lawsuits, or any one of them,
if successful, could prevent the Company from recovering the "reasonable value"
of medical treatment under discounted fee for service ("DFS"), capitation and
other payment arrangements. The DeGarmo, Conte, Cajas, Franks, Baker and Martin
lawsuits, or any one or more of them, if successful, could require the Company
to refund, on behalf of its clients, recoveries in a material number of cases.
In addition, an adverse outcome in any of the above referenced lawsuits could
impair materially HCRI's ability to assert subrogation or reimbursement claims
on behalf of its clients in the future.
In terms of the Company's business practices and the allegations underlying
the DeGarmo, Cajas, Franks, Baker and Martin cases, at the end of 1993 HCRI had
ceased the practice of recovering the "reasonable value" of medical treatment
provided by medical providers in circumstances where HCRI has entered into DFS
arrangement with its clients. From that date, the Company's policy has been not
to recover the "reasonable value" of medical treatment in DFS arrangements.
However, HCRI historically and currently recovers the "reasonable value" of
medical treatment provided under capitation arrangements and other payment
arrangements with medical providers on behalf of those clients that compensate
medical providers under these payment mechanisms, to the extent that these
benefits are related to treatment of the injuries as to which clients have
recovery rights. The Company believes that its clients' contracts, including the
contracts that provide for recovery under DFS, capitation and other payment
arrangements are enforceable under the laws potentially applicable in these
cases. As a result, and taking into account the underlying facts in each of
these cases, the Company believes it has meritorious grounds to defend these
lawsuits, it intends to defend the cases vigorously, and it believes that the
defense and ultimate resolution of the lawsuits should not have a material
adverse effect upon the business, results of operations or financial condition
of the Company. Nevertheless, if any of these lawsuits or another lawsuit
seeking relief under similar theories were to be successful, it is likely that
such resolution would have a material adverse effect on the Company's business,
results of operations and financial condition.
Recently, management of the Company has observed that, in parallel with
widely-reported legislative concerns with the healthcare payment system, there
also has occurred an increase in litigation, actual and
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threatened, directed at healthcare payors and related parties. In addition,
certain attorneys who have gained prominence in representing plaintiffs in
recent actions against tobacco companies have publicly stated their intentions
to institute class action lawsuits against healthcare payors, particularly those
in the so-called "managed care industry", and related parties including,
specifically, the Company. As a result of the foregoing, there can be no
assurance that the Company will not be subject to further class action
litigation, that existing and/or future class action litigation against the
Company and its clients will not consume significant management time and or
attention and that the cost of defending and resolving such litigation will not
be material.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of stockholders of the Company during
the quarter ended December 31, 1999.
SUPPLEMENTARY ITEM. CERTAIN RISK FACTORS
See "Healthcare Recoveries, Inc. Private Securities Litigation Reform Act
of 1995 Safe Harbor Compliance Statement For Forward-Looking Statements,"
included as Exhibit 99.1 to this Form 10-K and incorporated herein by reference.
PART II
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER
MATTERS
The Company's Common Stock is traded on The Nasdaq National Market under
the symbol "HCRI." The charts set forth the high and low closing prices for the
Company's Common Stock for the periods indicated, as reflected in The Nasdaq
National Market.
QUARTER ENDED: HIGH LOW
- -------------- ------ ------
March 31, 1999.............................................. $17.00 $ 4.00
June 30, 1999............................................... 4.91 4.06
September 30, 1999.......................................... 5.31 2.75
December 31, 1999........................................... 4.13 2.75
QUARTER ENDED: HIGH LOW
- -------------- ------ ------
March 31, 1998.............................................. $23.50 $20.25
June 30, 1998............................................... 24.13 15.88
September 30, 1998.......................................... 18.13 9.75
December 31, 1998........................................... 17.13 8.56
On March 10, 2000, there were approximately 53 holders of record of the
Company's Common Stock.
The Company has paid no cash dividends since the sale of the Company by
Medaphis Corporation in May 1997. Any future determination to pay cash dividends
will be at the discretion of the Board of Directors (the "Board") and will be
dependent upon the Company's financial condition, results of operations, credit
agreements, capital requirements and other such factors, as the Board deems
relevant. The Company's current credit facility limits its ability to pay
dividends on its Common Stock. See "Management's Discussion and Analysis of
Financial Condition and Results of Operations -- Liquidity and Capital
Resources."
ITEM 6. SELECTED FINANCIAL DATA
The following table sets forth historical selected financial data of the
Company as of the dates and for the periods indicated, which have been derived
from, and are qualified by reference to, the Company's financial statements. The
information set forth below should be read in conjunction with the Company's
financial
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statements and notes thereto and "Management's Discussion and Analysis of
Financial Condition and Results of Operations."
The selected historical financial data as of December 31, 1999 and 1998 and
for the years ended December 31, 1999, 1998 and 1997 have been derived from, and
are qualified by reference to, the Company's financial statements appearing
elsewhere herein, which have been audited by PricewaterhouseCoopers LLP,
independent accountants. The selected historical financial data as of December
31, 1997 and 1996 and for the years ended December 31, 1996 and 1995 have been
derived from, and are qualified by reference to, the Company's financial
statements included in the Company's registration statement on Form S-1 (which
have been audited by PricewaterhouseCoopers LLP, independent accountants).
STATEMENTS OF INCOME DATA
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
DECEMBER 31,
-----------------------------------------------
1999 1998 1997 1996 1995
------- ------- ------- ------- -------
Revenues:
Claims Revenues................................ $61,409 $48,734 $39,277 $30,248 $22,496
Other Revenues................................. -- -- -- 1,171 --
------- ------- ------- ------- -------
Total Revenues......................... 61,409 48,734 39,277 31,419 22,496
Cost of Services................................. 31,451 22,199 18,523 15,026 10,265
------- ------- ------- ------- -------
Gross Profit..................................... 29,958 26,535 20,754 16,393 12,231
Support Expenses................................. 15,870 10,692 8,922 7,215 6,204
Depreciation & Amortization...................... 4,954 2,334 1,181 878 695
Other Charges(1)................................. -- -- 2,848 -- --
------- ------- ------- ------- -------
Operating Income................................. 9,134 13,509 7,803 8,300 5,332
Special Committee Expenses....................... (451) -- -- -- --
Interest Income, net............................. 144 1,657 1,158 486 580
------- ------- ------- ------- -------
Income Before Income Taxes....................... 8,827 15,166 8,961 8,786 5,912
Provision for Income Taxes....................... 3,665 6,266 4,959 3,685 2,486
------- ------- ------- ------- -------
Net Income............................. $ 5,162 $ 8,900 $ 4,002 $ 5,101 $ 3,426
======= ======= ======= ======= =======
Basic Earnings per Common Share.................. $ 0.46 $ 0.78 $ 0.37 $ 0.52
======= ======= ======= =======
Diluted Earnings per Common Share................ $ 0.46 $ 0.77 $ 0.37 $ 0.52
======= ======= ======= =======
- ---------------
(1) In connection with the sale of the Company by Medaphis in May 1997, the
Company incurred a one-time $2.8 million non-cash compensation charge. This
charge was from the issuance by the Company of 200,000 shares of Common
Stock to the Company's management group, as a bonus for the successful
completion of the sale of the Company by Medaphis. This represents 2% of the
shares of Common Stock outstanding after the Company's initial public
offering and 1.7% of the shares of Common Stock outstanding following the
exercise of the underwriters' over-allotment option.
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BALANCE SHEET DATA
(DOLLARS IN THOUSANDS)
DECEMBER 31,
-------------------------------------------------
1999 1998 1997 1996 1995
------- ------- --------- ------- -------
Cash and Cash Equivalents..................... $ 1,670 $31,133 $ 24,674 $ 53 $ --
Working Capital............................... 8,042 30,898 22,911(1) 1,730 1,675
Total Assets.................................. 82,183 61,003 48,170 23,969 13,390
Total Indebtedness............................ 11,000 -- -- -- --
Stockholders' Equity.......................... 41,092 37,193 27,865 4,110 3,274
- ---------------
(1) The increase in working capital, including cash and cash equivalents, is
primarily attributable to the $19.2 million of proceeds received by the
Company from the exercise of the underwriters' over-allotment option granted
by the Company in connection with the May 1997 initial public offering.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
OVERVIEW OF COMPANY
HCRI provides insurance subrogation and other medical cost containment
services to the private healthcare payor industry. HCRI's services comprise the
complete outsourcing of the identification, investigation and recovery of
accident-related medical benefits incurred by its clients on behalf of their
insureds, but for which other persons or entities have primary responsibility.
The rights of HCRI's clients to recover the value of these medical benefits
arise by law or contract, are known generally as the right of subrogation and
are generally paid from the proceeds of liability or workers' compensation
insurance. The Company's other medical cost containment services include
hospital bill auditing, contract compliance review, cost management consulting,
coordination of benefits and overpayment recovery services. HCRI offers its
services on a nationwide basis to health maintenance organizations, indemnity
health insurers, self-funded employee health plans, companies that provide
claims administration services to self-funded plans (referred to as "third-party
administrators"). The Company had 55.6 million lives under contract from its
clientele at December 31, 1999.
ACQUISITIONS
On January 25, 1999, HCRI acquired the assets and certain liabilities of
Subro Audit (which consisted of SAI and ODL), for approximately $24.4 million,
using available unrestricted cash. HCRI currently estimates that it may pay up
to $7.0 million through January 2001, pursuant to an earn-out arrangement. (An
amount of $8.5 million is held in escrow for the potential earn-out and is
included in restricted cash at December 31, 1999). SAI is based in Wisconsin and
provides subrogation recovery services to an installed base of lives, which are
covered by insurers, HMOs and employer-funded plans, throughout the United
States. The Subro Audit Acquisition was accounted for using the purchase method
of accounting.
On February 15, 1999, HCRI acquired the assets and certain liabilities of
MedCap, for approximately $10 million, using available unrestricted cash and
borrowed funds. The Company paid approximately $4.5 million on February 15, 2000
pursuant to an amendment to the original earn-out agreement. Pursuant to the
same amendment, through January 15, 2001, the Company may pay up to 50% of the
fees collected in relation to certain negotiated contracts, less associated
expenses. MedCap provides a variety of medical cost management services to
health insurers and HMOs, primarily in California. These services include
hospital bill auditing, contract compliance review, identification of certain
other payments, and cost management consulting services. The MedCap Acquisition
was accounted for using the purchase method of accounting.
OVERVIEW OF OPERATIONS
For a typical new client, it takes up to six months from the contract
signing (when the lives are "sold") to complete the construction of electronic
data interfaces necessary for the Company to begin providing service. At this
point, the client is considered "installed." During the installation period, the
Company must also hire
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and train quality staff necessary to provide contractual services. After
installation, HCRI receives files and data from the client from which it creates
an inventory of backlog.
"Backlog" is the total dollar amount of potentially recoverable claims that
the Company is pursuing or auditing on behalf of its clients at a given point in
time. These claims are gross figures, prior to estimates of claim settlements
and rejections. Backlog increases when the Company opens new files of
potentially recoverable claims and decreases when files are recovered and closed
or, after further investigation, determined to be nonrecoverable. Backlog for a
client will range from newly identified potential recoveries to potential
recoveries that are in the late stages of the recovery process. Historically,
recoveries (the amount actually recovered for its clients prior to the Company's
fee) have been produced from backlog in a generally predictable cycle. Any group
of potential recoveries, sufficiently large in number to display statistically
significant characteristics and that originates from a defined time period, tend
to produce recovery results that are comparable to other groups having similar
characteristics.
For the most part, the Company is paid contingency fees from the amount of
claims recoveries it makes from backlog or recoveries it identifies through
other cost containment and related recovery services on behalf of its clients.
The Company's revenues are a function of recoveries and effective fee rates.
Effective fee rates vary depending on the mix between services provided and
client fee schedules. The fee schedules for each client are separately
negotiated and reflect the Company's standard fee rates, the services to be
provided and anticipated volume of services. The Company grants volume discounts
and, for its recovery services, negotiates a lower fee when it assumes backlog
from a client because the client will have already completed some of the
recovery work. Because the Company records expenses as costs are incurred and
records revenues only when a file is settled, there is a lag between the
recording of expenses and related revenue recognition.
The Company's expenses are determined primarily by the number of employees
directly engaged in recovery activities ("cost of services") and by the number
of employees engaged in a variety of support activities ("support expenses").
Recovery personnel must be hired and trained in advance of the realization of
recoveries and revenues. The number of employees accounted for in support
expenses generally grows less rapidly than revenue due to economies of scale.
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RESULTS OF OPERATIONS
The following tables present certain key operating indicators and results
of operations data for the Company for the periods indicated:
KEY OPERATING INDICATORS
LIVES AND DOLLARS IN MILLIONS
DECEMBER 31,
--------------------------
1999(1) 1998 1997
-------- ------ ------
Cumulative Lives Sold, Beginning of Period.................. 40.5 38.5 29.5
Lives from Acquisitions..................................... 18.6 -- --
Lives from Existing Client Growth (Loss).................... (7.7) (3.1) 1.9
Lives Added from Contracts with Existing Clients............ 0.7 2.0 5.9
Lives Added from Contracts with New Clients................. 3.5 3.1 1.2
-------- ------ ------
Cumulative Lives Sold, End of Period........................ 55.6 40.5 38.5
======== ====== ======
Lives Installed............................................. 51.9 38.5 36.4
Backlog(2).................................................. $1,084.5 $770.7 $668.3
Claims Recoveries........................................... 226.1 177.7 144.9
Throughput(3)............................................... 20.8% 24.7% 24.1%
Effective Fee Rate.......................................... 27.2% 27.4% 27.1%
Claims Revenues............................................. $ 61.4 $ 48.7 $ 39.3
Employees:
Direct Operations......................................... 597 386 399
Support................................................... 144 109 84
-------- ------ ------
Total Employees................................... 741 495 483
======== ====== ======
- ---------------
(1) The 1999 key operating indicators include the operating performance of Subro
Audit and MedCap from their respective acquisition dates of January 25, 1999
and February 15, 1999.
(2) Backlog represents the total dollar amount of potentially recoverable claims
that the Company is pursuing on behalf of clients at any point in time.
(3) Throughput equals recoveries for the period divided by the average of
backlog at the beginning and end of the period.
STATEMENTS OF INCOME AS A PERCENTAGE OF SUBROGATION REVENUES
YEAR ENDED
DECEMBER 31,
---------------------
1999 1998 1997
----- ----- -----
Claims Revenues............................................. 100.0% 100.0% 100.0%
Cost of Services............................................ 51.2 45.6 47.2
Support Expenses............................................ 25.8 21.9 22.7
Operating Income............................................ 14.9 27.7 19.9
Income Before Income Taxes.................................. 14.4 31.1 22.8
Net Income.................................................. 8.4 18.3 10.2
1999 COMPARED TO 1998
Revenues. Total revenues for the year ended December 31, 1999 increased
26.1%, to $61.4 million from $48.7 million in 1998. Growth in claims revenues
occurred primarily because of increased claims recoveries, from $177.7 million
in 1998 to $226.1 million in 1999. In response to operational changes which
affect the Company's ability to identify when the parties reached agreement on
all material terms, refinements were made to the estimation process with the
intent of maintaining consistency in the timing of revenue recognition.
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The Company believes this change had no significant impact on its revenues for
1999. The effective fee rate decreased modestly to 27.2% from 27.4% due to the
broader mix of services and contracts since the Acquisitions. The increase in
total claims recoveries resulted principally from the Acquisitions, which
increased the baseline recovery operations, backlog and lives installed. Backlog
increased 40.7% to $1,084.5 million at December 31, 1999 from $770.7 million at
December 31, 1998. The Company had a throughput rate of approximately 20.8% and
24.7% during 1999 and 1998, respectively. Lives installed grew 34.8% in 1999 to
51.9 million.
During the first quarter of 1999, subrogation services generated a lower
than historical level of yield from its backlog of subrogation claims. As used
here, yield, referred to as "throughput," means recoveries for the period stated
as a percentage of the average backlog for the period. The deterioration in
throughput of subrogation claims during 1999 appears to have resulted from
certain changes made in its claims recovery operations during the second half of
1998 and the first quarter of 1999. The changes in operations entailed
materially increasing the number of files assigned to recovery personnel, which
management believes caused the unforeseen decline in throughput. In response to
the decline in throughput, management implemented a plan to reduce the ratio of
files to recovery personnel. Management believes that the execution of this plan
by year end enabled the Company to improve subrogation throughput and recoveries
in the fourth quarter.
Cost of Services. Cost of services increased 41.9% in 1999 to $31.5
million from $22.2 million in 1998. The increase primarily results from costs
associated with operating the acquired companies and additional direct
operational employees, including employees hired in response to the plan to
reduce the ratio of files to recovery personnel, as described above. As a
percentage of claims revenues, cost of services increased to 51.2% in 1999 from
45.6% in 1998. The increase in cost of services resulted primarily from the
Acquisitions and a lower growth rate in revenues than in cost of services.
As a result of the nature of the Company's contingent fee arrangements with
its clients, the Company incurs significant current expense in an effort to
generate revenue, a significant portion of which will be recorded in future
periods. Because relatively little revenue is earned during the first year
following the installation of new lives, unless the Company assumes
responsibility for the new client's existing backlog, the growth rate for lives
installed exceeds the revenue growth rate.
Support Expenses. Support expenses increased 48.4% to $15.9 million for
the year ended December 31, 1999, from $10.7 million for the comparable period
in 1998 due to hiring of additional support staff for the SubroSystem Upgrade
project, the integration of the Acquisitions, and year 2000 issues. Support
expenses increased as a percentage of claims revenues from 21.9% for the year
ended December 31, 1998 to 25.8% for the comparable period in 1999. The increase
in support expenses as a percentage of claims revenues resulted from revenues
being lower than anticipated. Support costs do not vary in proportion to
revenues.
Depreciation and Amortization. Depreciation and amortization expenses
increased 112.3% to $5.0 million for the year ended December 31, 1999 from $2.3
million for the comparable period in 1998. The increase in depreciation expense
was attributable to the purchase of fixed assets related to the Acquisitions and
increased system cost upgrades. The increase in amortization expense was
attributable to the addition of intangible assets related to the Acquisitions.
Special Committee Expenses. In August 1999, the Board of Directors
appointed the Special Committee to evaluate strategic alternatives available to
the Company, including its possible sale. The Company incurred $451,000 of
expenses related to the work of the Special Committee during 1999. The Special
Committee is continuing its evaluation process.
Interest Income. Interest income totaled $1.1 million and $1.8 million for
the years ended December 31, 1999 and 1998, respectively. The decrease in
interest income resulted primarily from utilizing available cash for the
Acquisitions.
Interest Expense. Interest expense totaled $0.9 million and $0.1 million
for the years ended December 31, 1999 and 1998, respectively. The increase in
interest expense for 1999 resulted from an increase in borrowed funds for the
Acquisitions and stock repurchases.
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Tax. Provision for income taxes was approximately 41.5% of pre-tax income
for the year ended December 31, 1999 and 41.3% for the year ended December 31,
1998. The effective tax rate exceeded the Federal statutory tax rate as a
consequence of state and local taxes and non-deductible expenses.
Net Income. Net income for the year ended December 31, 1999 decreased $3.7
million, or 42%, to $5.2 million or $0.46 per diluted share, from $8.9 million
or $0.77 per diluted share for the year ended December 31, 1998. Net income
decreased as a result of lower than anticipated subrogation recoveries and the
additional expenses, such as amortization and interest expense, associated with
the Acquisitions.
1998 COMPARED TO 1997
Revenues. Total revenues for the year ended December 31, 1998 increased
24%, to $48.7 million from $39.3 million in 1997. Growth in subrogation revenues
occurred primarily because of increased subrogation recoveries, from $144.9
million in 1997 to $177.7 million in 1998. The effective fee rate increased
slightly to 27.4% from 27.1%. The increase in total subrogation recoveries was
due primarily to growth in backlog, which in turn grew primarily because of an
increase in the number of lives installed. Backlog increased 15.3% to $770.7
million at December 31, 1998 from $668.3 million at December 31, 1997. The
Company was also able to obtain subrogation recoveries at a rate of
approximately 6% of average backlog per quarter during 1998 and 1997. Lives
installed grew 5.8% in 1998 to 38.5 million.
Cost of Services. Cost of services increased in 1998 to $22.2 million from
$18.5 million in 1997, which is an increase of 19.8%. As a percentage of
subrogation revenues, cost of services decreased to 45.6% in 1998 from 47.2% in
1997. The decrease is a result of lower growth of lives installed and their
associated costs in 1998 relative to the growth in revenue for the year and
increased efficiencies by the Company.
As a result of the nature of the Company's contingent fee arrangements with
its clients, the Company incurs significant current expenses in an effort to
generate revenue, a significant portion of which will be recorded in future
periods. Because relatively little revenue is earned during the first year
following the installation of new lives, unless the Company assumes
responsibility for the new client's existing backlog, the growth rate for lives
installed exceeds the revenue growth rate.
Support Expenses. Support expenses increased 19.8%, to $10.7 million for
the twelve months ended December 31, 1998, from $8.9 million for the comparable
period in 1997 due to hiring of additional support staff for the SubroSystem
Upgrade project. Support expenses decreased as a percentage of subrogation
revenues from 22.7% for the twelve months ended December 31, 1997 to 21.9% for
the comparable period in 1998. The decline in support expenses as a percentage
of subrogation revenues resulted from improved economies of scale in the support
functions and also the capitalization of $564,000 of certain software
development cost associated with the SubroSystem Upgrade project in 1998. These
costs were capitalized in compliance with the requirements under Statement of
Position 98-1 "Accounting for the Costs of Computer Software Developed or
Obtained for Internal Use," adopted by the Company January 1, 1998, which were
historically expensed.
Depreciation and Amortization. Depreciation and amortization expenses
increased 97.6% to $2.3 million for the twelve months ended December 31, 1998
from $1.2 million for the comparable period in 1997. The increase in
depreciation expense was mainly attributable to the capital expenditures for the
SubroSystem Upgrade project.
Compensation Charge. In connection with the sale of the Company by
Medaphis in May 1997, the Company incurred a one-time $2.8 million non-cash
compensation charge. This charge was from the issuance by the Company of 200,000
shares of Common Stock to the Company's management as a bonus for the successful
completion of the sale of the Company by Medaphis. These shares represented 2%
of the shares of Common Stock outstanding after the Company's initial public
offering and 1.7% of the shares of Common Stock outstanding after the exercise
of the underwriters' over-allotment option.
Interest Income, net. Interest income, net totaled $1.7 million and $1.2
million for the years ended December 31, 1998 and 1997, respectively. The
increase in interest income was a result of continued interest income earned on
$19.2 million of proceeds from the issuance by the Company of 1,470,000 shares
of Common Stock as of June 9, 1997 upon the exercise of the underwriters'
over-allotment option and on HCRI's cash provided by operating activities.
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Tax. The provision for income taxes was approximately 41.3% of pre-tax
income for the year ended December 31, 1998 and 42% for the year ended December
31, 1997. The effective tax rate exceeded the Federal statutory tax rate as a
consequence of state and local taxes and non-deductible expenses.
Net Income. Net income for the year ended December 31, 1998 increased $2.1
million, or 30.8%, to $8.9 million, or $0.77 per share, from $6.8 million, or
$0.63 per share, in the comparable period of 1997, excluding the $2.8 million
non-cash ($0.26 per diluted share), compensation charge incurred in 1997. Net
income, as reported for the years ended December 31, 1997, was $4.0 million or
$0.37 per diluted share, including the non-recurring compensation charge. Net
income and earnings per share for the year ended December 31, 1998, excluding
$564,000 of certain software development costs associated with the upgrade of
the SubroSystem and capitalized in conjunction with the requirements under SOP
98-1, would have been $8.57 million and $0.74 per diluted share, respectively.
These capitalized costs were historically expensed prior to the Company
implementing Statement of Position 98-1 on January 1, 1998.
LIQUIDITY AND CAPITAL RESOURCES
The Company's statements of cash flows for the years ended December 31,
1999, 1998 and 1997 are summarized below:
DECEMBER 31,
----------------------------
1999 1998 1997
-------- ------- -------
(IN THOUSANDS)
Net Cash Provided by Operations............................. $ 8,890 $ 9,814 $10,764
Net Cash Used In Investing Activities....................... (48,078) (3,783) (3,096)
Net Cash Provided by Financing Activities................... 9,725 428 16,953
-------- ------- -------
Net (Decrease) Increase in Cash and Cash Equivalents........ $(29,463) $ 6,459 $24,621
======== ======= =======
The Company had working capital of $8.2 million at December 31, 1999,
including cash and cash equivalents of $1.7 million, compared with working
capital of $30.9 million at December 31, 1998. The decrease is attributable to
the use of available cash to fund the Acquisitions.
Net cash provided by operations decreased $0.9 million for the year ended
December 31, 1999, compared to the year ended December 31, 1998, primarily as a
result of timing of recurring cash receipts and disbursements related to accrued
expenses and subrogation recoveries.
Net cash used in investing activities primarily reflects the Company's cost
of the Acquisitions of $34.4 million, $8.5 million escrowed for earn-out
potential and ongoing capital expenditures for facility expansion and system
enhancements. Capital expenditures for the year ended December 31, 1999 were
approximately $3.9 million. Over the next 12 months, the Company anticipates
capital expenditures approximating $5.2 million for system upgrades and other
fixed asset requirements to meet the requirements of the Company's growing
revenue base.
Net cash provided by financing activities for the year ended December 31,
1999 reflects $11.0 million in net cash borrowings from the Company's credit
facility as discussed below and $1.4 million as a reduction in stockholders'
equity, resulting from the stock repurchase program. See "-- Other
Matters -- Stock Repurchase Program".
In February 1998, the Company entered into a $50 million senior secured
line of credit agreement (the "Credit Facility") with National City Bank of
Kentucky and the lenders named therein, replacing the Company's $10 million line
of credit. The principal amount outstanding under the Credit Facility will
mature on January 31, 2001 and bears interest at the Company's option, at
either: (i) the Prime Rate plus the applicable margin in effect or (ii) the
Eurodollar Rate plus the applicable margin in effect. The applicable margin is
determined in accordance with a Pricing Grid based on the Company's ratio of
total indebtedness to earnings before interest, taxes, depreciation and
amortization. The agreement contains usual and customary covenants including,
but not limited to, financial tests for interest coverage, net worth levels and
leverage that may limit the Company's ability to pay dividends. The Company's
obligations under the Credit Facility are
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secured by substantially all of the Company's assets, subject to certain
permitted exceptions. As of December 31, 1999, the Company was in compliance
with the covenants. The Credit Facility was amended in May 1998 and March 1999
to enable the Company to acquire entities that do not maintain audited financial
statements and to use proceeds from the Credit Facility to repurchase up to $10
million of outstanding stock, respectively. See "Management's Discussion and
Analysis of Financial Condition and Results of Operations -- Other Matters."
By contract, with respect to its standard subrogation recovery services,
the Company disburses recoveries to its clients, for the most part, no later
than the month following the month in which recoveries are made. At December 31,
1999 and December 31, 1998, the Company reported as a current asset on its
balance sheets, restricted cash of $26.1 million, which includes the $8.5
million held in escrow related to the Subro Audit Acquisition earn-out, and
$16.9 million, respectively, representing subrogation recoveries effected by
HCRI for its clients. At December 31, 1999 and December 31, 1998, HCRI reported
on its balance sheets, as a current liability, funds due clients of $13.2
million and $13.1 million, respectively, representing recoveries to be
distributed to clients, net of the fee earned on such recoveries.
The Company believes that its available cash resources, together with the
borrowings available under the Credit Facility, will be sufficient to meet its
current operating requirements and acquisitions and internal development
initiatives.
IMPACT OF RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
There are no recently issued accounting pronouncements, which are expected
to have a significant impact on the Company, other than those previously
disclosed and currently being applied.
OTHER MATTERS
Stock Repurchase Program
On March 12, 1999, HCRI's Board approved a stock repurchase program
("Plan") under which the Company may repurchase up to $10 million of HCRI Common
Stock in the open market, from time to time, at prices per share deemed
favorable by it. During the second quarter of 1999, HCRI repurchased 305,000
shares of its Common Stock, at an average purchase price per share of $4.50,
which is reflected as treasury stock on the Balance Sheet as of December 31,
1999. No additional shares have been repurchased since the second quarter of
1999.
Adoption of a Rights Plan
On February 12, 1999, the Board adopted a Stockholder Rights Plan and
declared a dividend of one preferred stock purchase right (a "Right") for each
outstanding share of Common Stock of the Company. The dividend was payable to
stockholders of record on March 1, 1999. The Rights, which will initially trade
with the Common Stock, separate and become exercisable only upon the earlier to
occur of (i) 10 days after the date (the "Stock Acquisition Date") of a public
announcement that a person or group of affiliated persons has acquired 20% or
more of the Common Stock (such person or group being hereinafter referred to as
an "Acquiring Person") or (ii) 10 days (or such later date as the Board of
Directors shall determine) after the commencement of, or announcement of an
intention to make, a tender offer or exchange offer that could result in such
person or group owning 20% or more of the Common Stock (the earlier of such
dates being called the "Distribution Date"). When exercisable, each Right
initially entitles the registered holder to purchase from the Company one
one-hundredth of a share of a newly created class of preferred stock of the
Company at a purchase price of $65 (the "Purchase Price"). The Rights are
redeemable for $0.001 per Right at the option of the Board of Directors. The
Rights expire on March 1, 2009.
If any person becomes an Acquiring Person, each holder of a Right will
thereafter have the right (the "Flip-In Right") to receive, in lieu of shares of
preferred stock and upon payment of the Purchase Price, shares of Common Stock
having a value equal to two times the Purchase Price of the Right. Also, if at
any time on or after the Stock Acquisition Date, (i) the Company is acquired in
a transaction in which the holders
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of all the outstanding shares of Common Stock immediately prior to the
consummation of the transaction are not the holders of all of the surviving
corporation's voting power, or (ii) more than 50% of the Company's assets, cash
flow or earning power is sold or transferred other than in the ordinary course
of business, then each holder of a Right shall thereafter have the right (the
"Flip-Over Right") to receive, in lieu of shares of preferred stock and upon
exercise and payment of the Purchase Price, common shares of the acquiring
company having a value equal to two times the Purchase Price. If a transaction
would otherwise result in a holder having a Flip-In as well as a Flip-Over
Right, then only the Flip-Over Right will be exercisable. If a transaction
results in a holder having a Flip-Over Right subsequent to a transaction
resulting in the holder having a Flip-In Right, a holder will have a Flip-Over
Right only to the extent such holder's Flip-In Rights have not been exercised.
Related Party Transaction
On February 12, 1999, the Board of Directors approved a loan in the amount
of $350,000 to Patrick B. McGinnis, the Chairman and Chief Executive Officer of
the Company, in exchange for a full recourse promissory note in the same amount
from Mr. McGinnis. The full recourse promissory note bears interest at a rate
equal to the Company's cost of borrowing under its Credit Facility, or if no
loan amount is outstanding under the Credit Facility, the federal short-term
rate. The $350,000 note and accrued interest of $18,641 were outstanding at
December 31, 1999. The effective rate of interest was approximately 7.2%
EXTERNAL FACTORS
The business of recovering subrogation and other claims for healthcare
payors is subject to a wide variety of external factors. Prominent among these
are factors that would materially change the healthcare payment, fault-based
liability or workers' compensation systems. Examples of these factors include,
but are not limited to, 1) the non-availability of recovery from such sources as
property and casualty and workers' compensation coverages, 2) law changes that
limit the use of or access to claims and medical records, or 3) the ability of
healthcare payors to recover related claims and audit medical records. Because
the Company's profitability depends in large measure upon obtaining and using
claims data and medical records, the non-availability or decrease in their
availability could have a material adverse effect on the Company.
Moreover, because the Company's revenues are derived from the recovery of
the costs of medical treatment, material changes in such costs will tend to
affect the Company's backlog or its rate of backlog growth, as well as its
revenue or its rate of revenue growth. The healthcare industry, and particularly
the business of healthcare payors, is subject to various external factors that
may have the effect of significantly altering the costs of healthcare and the
environment for the sale or delivery of recovery and cost containment services.
The Company is unable to predict which of these factors, if any, could have a
potentially material impact on healthcare payors and through them, the
healthcare recovery and cost containment industry.
The Company provides services to healthcare plans that as of December 31,
1999 covered approximately 55.6 million lives. HCRI's clients are national and
regional healthcare payors, large third-party administrators or self-insured
corporations. During 1999 and 1998, HCRI's largest client generated 23% and 28%,
respectively, of HCRI's revenues. The loss of this account could have a material
adverse effect on HCRI's business, results of operations and financial
condition. On December 31, 1999, HCRI had backlog of $1,084.5 million. HCRI's
revenues are earned under written contracts with its clients that generally
provide for contingency fees from recoveries under a variety of pricing regimes.
The pricing arrangements offered by HCRI to its clients include a fixed fee
percentage, a fee percentage that declines as the number of lives covered by the
client and subject to HCRI's service increases and a fee percentage that varies
with HCRI's recovery performance.
YEAR 2000 ISSUES
The Company previously recognized the material nature of the business
issues surrounding the computer processing of dates into and beyond the Year
2000 and took corrective action. The Company's efforts included replacing and
testing three basic aspects of its business operations: internal information
technology ("IT")
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systems, including the internally-written systems that support subrogation and
bill audit recovery; and internal non-IT systems, including office equipment;
and material third-party relationships. Management believes that the Company has
completed all of the activities within its control to ensure that the Company's
systems are Year 2000 compliant and the Company has experienced no interruptions
to normal operations due to the start of the Year 2000.
The Company spent approximately $216,000 during 1999 related to Year 2000
readiness, which was higher than the expected total expenditure of $175,000
previously disclosed due to the additional costs of contract labor for continued
retesting. The Company funded these costs through funds generated from
operations and such costs were generally not incremental to existing IT budgets;
internal resources were re-deployed and timetables for implementation of
replacement systems were accelerated. The Company does not currently expect to
apply any further funds to address Year 2000 issues.
To date, the Company has not experienced any material disruptions of its
internal computer systems or software applications, or with the computer systems
or software applications of its third party vendors, suppliers or service
providers. The Company will continue to monitor these third parties to determine
the impact, if any, on the business of the Company and the actions the Company
must take, if any, in the event of non-compliance by any of these third parties.
Based upon the Company's assessment of compliance by third parties, there
appears to be no material business risk posed by any such noncompliance.
Moreover, the Company generally believes that the vendors that supply products
to the Company for resale are responsible for the products' Year 2000
functionality.
Although the Company's Year 2000 rollover did not present any material
business interruptions, there are some remaining Year 2000-related risks,
including risks due to the fact that Year 2000 is a leap year. These risks
include potential product supply issues and other non-operational issues.
Management believes that appropriate action has been taken to address these
remaining Year 2000 issues and contingency plans are in place to minimize the
financial impact to the Company. Management, however, cannot be certain that
Year 2000 issues will not have a material adverse impact on the Company, since
the evaluation process is not yet complete and it is early in the Year 2000.
ITEM 7A. QUANTITATIVE & QUALITATIVE MARKET RISK DISCLOSURES
The Company is exposed to market risk from changes in interest rates
related to its Credit Facility. The impact on earnings and value of any debt
under its Credit Facility is subject to change as a result of movements in
market rates and prices. The Credit Facility is subject to variable interest
rates. As of December 31, 1999, the Company had $11 million outstanding under
its Credit Facility.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
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REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and Stockholders
Healthcare Recoveries, Inc.
In our opinion, the accompanying balance sheets and the related statements
of income, changes in stockholders' equity and cash flows present fairly, in all
material respects, the financial position of Healthcare Recoveries, Inc. (the
Company) at December 31, 1999 and 1998, and the results of its operations and
its cash flows for each of the three years in the period ended December 31,
1999, in conformity with accounting principles generally accepted in the United
States. These financial statements are the responsibility of the Company's
management; our responsibility is to express an opinion on these financial
statements based on our audits. We conducted our audits of these statements in
accordance with auditing standards generally accepted in the United States,
which require that we plan and perform the audit to obtain reasonable assurance
about whether the financial statements are free of material misstatement. An
audit includes examining, on a test basis, evidence supporting the amounts and
disclosures in the financial statements, assessing the accounting principles
used and significant estimates made by management, and evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion expressed above.
PricewaterhouseCoopers LLP
Louisville, Kentucky
February 15, 2000
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HEALTHCARE RECOVERIES, INC.
BALANCE SHEETS
DECEMBER 31, 1999 AND 1998
(IN THOUSANDS, EXCEPT PER SHARE INFORMATION)
1999 1998
-------- -------
ASSETS
Current assets:
Cash and cash equivalents................................. $ 1,670 $31,133
Restricted cash........................................... 26,121 16,927
Accounts receivable, less allowance for doubtful accounts
of $380 in 1999 and $307 in 1998....................... 6,870 3,607
Other current assets...................................... 1,669 1,583
-------- -------
Total current assets.............................. 36,330 53,250
-------- -------
Property and equipment, at cost:
Buildings and land........................................ 5,482 --
Furniture and fixtures.................................... 3,095 2,527
Office equipment.......................................... 1,946 1,783
Computer equipment........................................ 11,253 7,991
Leasehold improvements.................................... 1,073 845
-------- -------
22,849 13,146
Accumulated depreciation and amortization................. (10,002) (6,962)
-------- -------
Property and equipment, net....................... 12,847 6,184
-------- -------
Cost in excess of net assets acquired, net.................. 26,296 --
Identifiable intangibles, net............................... 5,496 --
Other assets................................................ 1,274 1,569
-------- -------
Total assets...................................... $ 82,243 $61,003
======== =======
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Trade accounts payable.................................... $ 1,914 $ 1,234
Accrued expenses.......................................... 11,986 5,516
Funds due clients......................................... 13,178 13,118
Income taxes payable...................................... 1,018 2,484
-------- -------
Total current liabilities......................... 28,096 22,352
Other liabilities........................................... 2,055 1,458
Long-term borrowings........................................ 11,000 --
-------- -------
Total liabilities................................. 41,151 23,810
-------- -------
Commitments and contingencies
Stockholders' equity:
Preferred stock, $.001 par value; 2,000 shares authorized;
no shares issued or outstanding........................ -- --
Common stock, $.001 par value; 20,000 shares authorized;
11,209 shares and 11,503 shares issued and outstanding
at December 31, 1999 and 1998, respectively............ 12 12
Capital in excess of par value............................ 22,541 22,428
Treasury stock at cost, 305 shares........................ (1,373) --
Retained earnings......................................... 19,912 14,753
-------- -------
Total stockholders' equity........................ 41,092 37,193
-------- -------
Total liabilities and stockholders' equity........ $ 82,243 $61,003
======== =======
The accompanying notes are an integral part of the financial statements.
25
28
HEALTHCARE RECOVERIES, INC.
STATEMENTS OF INCOME
FOR THE YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE INFORMATION)
1999 1998 1997
------- ------- -------
Claims revenues............................................. $61,409 $48,734 $39,277
Cost of services............................................ 31,451 22,199 18,523
------- ------- -------
Gross profit.............................................. 29,958 26,535 20,754
Support expenses............................................ 15,870 10,692 8,922
Depreciation and amortization............................... 4,954 2,334 1,181
Non-recurring compensation charge (See Note 8).............. -- -- 2,848
------- ------- -------
Operating income.......................................... 9,134 13,509 7,803
Interest income............................................. 1,084 1,790 1,158
Interest expense............................................ (940) (133) --
Other -- Special Committee expenses......................... (451) -- --
------- ------- -------
Income before income taxes................................ 8,827 15,166 8,961
Provision for income taxes.................................. 3,665 6,266 4,959
------- ------- -------
Net income................................................ $ 5,162 $ 8,900 $ 4,002
======= ======= =======
Earnings per common share (basic)........................... $ 0.46 $ 0.78 $ 0.37
======= ======= =======
Earnings per common share (diluted)......................... $ 0.46 $ 0.77 $ 0.37
======= ======= =======
The accompanying notes are an integral part of the financial statements.
26
29
HEALTHCARE RECOVERIES, INC.
STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
FOR THE YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997
(DOLLARS IN THOUSANDS)
EQUITY
CAPITAL IN FUNDING
COMMON STOCK EXCESS OF FROM (TO) RETAINED
------------------- PAR MEDAPHIS EARNINGS TREASURY
SHARES AMOUNT VALUE CORPORATION (DEFICIT) STOCK TOTAL
---------- ------ ---------- ----------- --------- -------- -------
BALANCES, DECEMBER 31, 1996......... 9,800,000 $10 $ -- $ 182 $ 3,918 $ -- $ 4,110
Net Income.......................... 4,002 4,002
Issuance of Common Stock............ 1,470,000 1 19,241 19,242
Non-recurring compensation charge... 200,000 2,800 2,800
Distributions to Medaphis
Corporation....................... (182) (2,067) (2,249)
Other............................... (40) (40)
---------- --- ------- ----- ------- ------- -------
BALANCES, DECEMBER 31, 1997......... 11,470,000 11 22,001 -- 5,853 -- 27,865
Net income.......................... 8,900 8,900
Issuance of Common Stock............ 32,987 1 427 428
---------- --- ------- ----- ------- ------- -------
BALANCES, DECEMBER 31, 1998......... 11,502,987 12 22,428 -- 14,753 -- 37,193
Net income.......................... 5,162 5,162
Issuance of Common Stock............ 10,720 98 98
Repurchase of Common Stock.......... (305,000) (1,373) (1,373)
Other............................... 15 (3) 12
---------- --- ------- ----- ------- ------- -------
BALANCES, DECEMBER 31, 1999......... 11,208,707 $12 $22,541 $ -- $19,912 $(1,373) $41,092
========== === ======= ===== ======= ======= =======
The accompanying notes are an integral part of the financial statements.
27
30
HEALTHCARE RECOVERIES, INC.
STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997
(DOLLARS IN THOUSANDS)
1999 1998 1997
-------- ------- -------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income.................................................. $ 5,162 $ 8,900 $ 4,002
Adjustments to reconcile net income to net cash provided by
operating activities:
Non-recurring compensation charge......................... -- -- 2,848
Depreciation and amortization............................. 4,954 2,334 1,181
Deferred income taxes..................................... 511 341 (295)
Other..................................................... 15 -- --
Changes in operating assets and liabilities:
Restricted cash........................................ 603 (2,720) 4,548
Accounts receivable.................................... (2,153) (1,100) (581)
Other current assets................................... 45 (960) (379)
Other assets........................................... 41 (318) (1,085)
Trade accounts payable................................. 1,175 248 400
Accrued expenses....................................... 1,327 746 1,109
Funds due clients...................................... (852) 1,475 (3,310)
Income taxes payable................................... (1,466) 730 1,754
Other liabilities...................................... (472) 138 572
-------- ------- -------
Net cash provided by operating activities......... 8,890 9,814 10,764
-------- ------- -------
CASH FLOWS FROM INVESTING ACTIVITIES:
Acquisitions, net of cash acquired.......................... (44,215) -- --
Purchases of property and equipment......................... (3,863) (3,783) (3,096)
-------- ------- -------
Net cash used in investing activities............. (48,078) (3,783) (3,096)
-------- ------- -------
CASH FLOWS FROM FINANCING ACTIVITIES:
Issuance of common stock.................................... 98 428 19,242
Distribution to Medaphis Corporation........................ -- -- (2,249)
Repurchase of common stock.................................. (1,373) -- --
Line of credit proceeds..................................... 14,300 -- --
Line of credit repayments................................... (3,300) -- --
Other....................................................... -- -- (40)
-------- ------- -------
Net cash provided by financing activities......... 9,725 428 16,953
-------- ------- -------
Net (decrease) increase in cash and cash equivalents........ (29,463) 6,459 24,621
Cash and cash equivalents, beginning of period.............. 31,133 24,674 53
-------- ------- -------
Cash and cash equivalents, end of period.................... $ 1,670 $31,133 $24,674
======== ======= =======
SUPPLEMENTAL CASH FLOWS DISCLOSURE:
Income tax payments......................................... $ 4,819 $ 5,293 $ 3,753
======== ======= =======
Cash paid for interest expense.............................. $ 844 $ 132 $ --
======== ======= =======
DETAILS OF BUSINESSES ACQUIRED IN PURCHASE TRANSACTIONS:
Fair value of assets acquired............................... $ 45,813 $ -- $ --
Less: liabilities assumed................................... 1,598 -- --
-------- ------- -------
Cash paid for acquired businesses, net of cash acquired..... $ 44,215 $ -- $ --
======== ======= =======
The accompanying notes are an integral part of the financial statements.
28
31
HEALTHCARE RECOVERIES, INC.
NOTES TO FINANCIAL STATEMENTS
1. ORGANIZATION AND BASIS OF PRESENTATION
Healthcare Recoveries, Inc. (hereinafter referred to as the "Company" or
"HCRI"), a Delaware corporation, was incorporated on June 30, 1988. The Company
provides complete outsourcing of certain medical cost containment services to
the private healthcare payor industry. Its primary service is claims recovery,
which entails the identification, investigation and recovery of accident-related
medical benefits incurred by its clients on behalf of their insureds, but for
which other persons or entities have primary responsibility. The Company's
clients' rights to recover the value of these medical benefits, arising by law
or contract, are generally known as the right of subrogation and paid from the
proceeds of liability or workers' compensation insurance. The Company's other
medical cost containment services include hospital bill auditing, contract
compliance review and cost management consulting, coordination of benefits and
overpayments recovery services.
The Company operated as an independent entity until August 28, 1995 when it
was merged with and into a subsidiary of Medaphis Corporation ("Medaphis") in a
transaction accounted for as a pooling of interests (the "Merger"). Prior to the
Merger, the Company's redeemable convertible preferred stock was converted to
Common Stock. As of the effective time of the Merger, each share of the then
issued and outstanding Company Common Stock was exchanged for Medaphis common
stock. Employee stock options of the Company outstanding at the effective time
of the Merger were also substituted with similar options on Medaphis common
stock. Subsequent to the Merger, Medaphis recapitalized the Company, effectively
canceling all but 100 shares of common stock (not adjusted for the Stock Split
as discussed in Note 12), pledged the assets and shares as collateral for
Medaphis' bank debt, and made the Company a guarantor for Medaphis' bank debt.
On May 21, 1997, the Company completed its initial public offering (the
"Offering") of 9,800,000 shares of Common Stock, excluding 200,000 shares issued
in connection with the non-recurring compensation charge (see Note 8). Medaphis
sold all the shares. As a result, the Company received no proceeds from the sale
of shares in the Offering. On June 9, 1997, the Company sold 1,470,000 shares of
Common Stock to the underwriters of the Offering in satisfaction of the exercise
of an over-allotment option, resulting in proceeds to the Company of
approximately $19.2 million.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Cash, Cash Equivalents and Restricted Cash
Cash and cash equivalents include cash, demand deposits and highly liquid
investments with an original maturity of three months or less. Carrying values
of cash and cash equivalents approximate fair value due to the short-term nature
of the instruments.
Restricted cash represents the balance in client-specific bank accounts of
amounts collected on behalf of certain clients. A portion of the balance will be
disbursed to clients in accordance with the terms of the contracts between the
Company and its clients, while the remainder will be released to the Company.
Restricted cash at December 31, 1999 includes $8.5 million for the potential
Subro Audit (as defined herein) earn-out amount held in escrow (See Note 3).
The Company's cash, cash equivalents and restricted cash have been placed
with one financial institution.
Property and Equipment
Property and equipment are recorded at cost. Depreciation is provided using
the straight-line method over the estimated useful lives of the respective
assets. Estimated useful lives of property and equipment range from three to
forty years. Depreciation expense for the years ended 1999, 1998, and 1997 was
$3.1 million, $2.0 million, and $0.1 million, respectively.
29
32
HEALTHCARE RECOVERIES, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
Effective January 1, 1998, the Company adopted Statement of Position 98-1,
which requires the capitalization of internal and external costs incurred to
develop or obtain computer software for internal use.
Intangible Assets
Cost in excess of net assets acquired represents the unamortized excess of
cost over the fair value of tangible and identifiable intangible assets acquired
and is being amortized on a straight-line basis over twenty years. Identifiable
intangible assets are being amortized on a straight-line basis over varying
periods, ranging from four to fifteen years. Amortization expense for the years
ended 1999, 1998 and 1997 was $1.9 million, $0.3 million, and $0, respectively.
Revenue Recognition
Subrogation revenues are generally derived from contingent fee arrangements
based on the recoveries effected by the Company on behalf of its clients.
Revenue is recognized when a fee is earned based on the settlement of a case. A
case is deemed settled when the parties agree on all material terms associated
with the settlement. In response to operational changes which affect the
Company's ability to identify when the parties reached agreement on all material
terms, refinements were made to the estimation process with the intent of
maintaining consistency in the timing of revenue recognition. The Company
believes this change had no significant impact on its revenues for 1999.
Special Committee
In August 1999, the board of directors appointed a special committee to
evaluate strategic alternatives available to the Company, including its possible
sale. The Company incurred $451,000 of expenses related to the work of the
special committee during 1999.
Provision for Income Taxes
The provision for income taxes has been prepared as if the Company was an
independent entity for all periods presented and in accordance with the
provisions of Statement of Financial Accounting Standards ("SFAS") No. 109,
"Accounting for Income Taxes."
Stock-Based Compensation Plans
The Company accounts for its employee stock-based compensation plans under
Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to
Employees" ("APB No. 25"). Effective in 1996, the Company implemented the
disclosure requirements of SFAS No. 123, "Accounting for Stock-Based
Compensation." SFAS No. 123 requires companies that elect not to account for
stock-based compensation as prescribed by SFAS No. 123, to disclose the pro
forma effects on earnings and earnings per share as if SFAS No. 123 had been
adopted. Additionally, certain other disclosures are required with respect to
stock compensation and the assumptions used in determining the pro forma effects
of SFAS No. 123.
30
33
HEALTHCARE RECOVERIES, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
Earnings per Common Share
A reconciliation of the numerators and denominators of the basic and
diluted earnings per common share calculations follows (dollars in thousands,
except per share results):
PER-SHARE
NET INCOME SHARES RESULTS
---------- ---------- ---------
YEAR ENDED DECEMBER 31, 1999:
Basic earnings per common share..................... $5,162 11,287,724 $ 0.46
Effect of dilutive stock options.................... -- 43,547 --
Diluted earnings per common share................... 5,162 11,331,271 0.46
YEAR ENDED DECEMBER 31, 1998:
Basic earnings per common share..................... 8,900 11,484,266 0.78
Effect of dilutive stock options.................... --...... 70,676 (0.01)
Diluted earnings per common share................... 8,900 11,554,942 0.77
YEAR ENDED DECEMBER 31, 1997:
Basic earnings per common share..................... 4,002 10,752,384 0.37
Effect of dilutive stock options.................... -- 66,293 --
Diluted earnings per common share................... 4,002 10,818,677 0.37
Basic earnings per common share for 1997 were computed based on the
weighted-average number of shares outstanding during the period after giving
retroactive effect to the Stock Split (see Note 12). The dilutive effect of
stock options is calculated using the treasury stock method. Options to purchase
1,088,358 and 360,550 shares for the years ended December 31, 1999 and 1998,
respectively, were not included in the computation of diluted earnings per
common share as the options' exercise prices were greater than the average
market price of the common shares during the period.
Use of Estimates and Assumptions
Preparation of the Company's financial statements in conformity with
generally accepted accounting principles requires management to make estimates
and assumptions. These estimates and assumptions affect (i) reported amounts of
assets and liabilities, (ii) disclosure of contingent assets and liabilities at
the date of the financial statements and (iii) reported amounts of revenues and
expenditures during the reporting period. Actual results may differ from those
estimates.
3. ACQUISITIONS
On January 25, 1999, HCRI acquired the assets and certain liabilities of
Subro-Audit, Inc., a Wisconsin corporation ("SAI"), and a related entity,
O'Donnell Leasing Co., LLP, a Wisconsin limited liability partnership ("ODL"
and, together with SAI, "Subro Audit"), for approximately $24.4 million (the
"Subro Audit Acquisition"), using available unrestricted cash. HCRI currently
estimates that it may pay up to $7.0 million through January 2001, pursuant to
an earn-out arrangement. SAI is based in Wisconsin and provides subrogation
recovery services to an installed base of lives, which are covered by insurers,
HMOs and employer-funded plans, throughout the United States. The Subro Audit
Acquisition was accounted for using the purchase method of accounting.
On February 15, 1999, HCRI acquired the assets and certain liabilities of
MedCap Medical Cost Management, Inc., a California corporation ("MedCap"), for
approximately $10 million, using available unrestricted cash and borrowed funds
(the "MedCap Acquisition" and, together with the Subro Audit Acquisition, the
"Acquisitions"). HCRI paid approximately $4.5 million on February 15, 2000
pursuant to an amendment to the original earn-out agreement. Pursuant to the
same amendment, through January 15, 2001, HCRI may pay up to 50% of the fees
collected in relation to certain negotiated contracts, less associated
31
34
HEALTHCARE RECOVERIES, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
expenses. MedCap provides a variety of medical cost management services to
health insurers and HMOs, primarily in California. These services include
hospital bill auditing, contract compliance review, identification of certain
other payments, and cost management consulting services. The MedCap Acquisition
was accounted for using the purchase method of accounting.
If the Acquisitions had taken place on January 1, 1999, approximate claims
revenues, net income and earnings per share for the year ended December 31, 1999
would have been $62.7 million, $5.1 million and $0.45 per share, respectively.
If the Acquisitions had taken place on January 1, 1998, approximate claims
revenues, net income and earnings per share for the year ended December 31, 1998
would have been $61.3 million, $7.5 million and $0.65 per share, respectively.
The cost in excess of net tangible and identifiable intangible assets acquired,
allocated and recorded in connection with the Acquisitions, was approximately
$27.3 million and is being amortized over a 20-year period. These results may
not necessarily reflect future results of operations or what the results of
operations would have been had the Acquisitions actually been consummated at the
beginning of the periods presented.
4. LEASE COMMITMENTS
The Company leases office space in Louisville, Kentucky, Encino,
California, and Pittsburgh, Pennsylvania. Future minimum lease payments, by year
and in the aggregate, under noncancelable operating leases with initial or
remaining terms in excess of one year at December 31, 1999 are as follows (in
thousands):
2000........................................................ $1,614
2001........................................................ 1,621
2002........................................................ 1,559
2003........................................................ 1,741
2004........................................................ 1,681
Thereafter.................................................. 6,647
Rental expense, which includes amounts applicable to short-term leases, was
approximately $1,302,000, $1,110,000, and $979,000 for the years ended December
31, 1999, 1998 and 1997, respectively.
5. INCOME TAXES
The provision for income taxes for the years ended December 31, 1999, 1998
and 1997 consists of the following (in thousands):
1999 1998 1997
------ ------ ------
Current:
Federal................................................... $2,310 $4,961 $3,941
State and local........................................... 844 964 1,313
------ ------ ------
3,154 5,925 5,254
------ ------ ------
Deferred:
Federal................................................... 428 286 (246)
State and local........................................... 83 55 (49)
------ ------ ------
511 341 (295)
------ ------ ------
$3,665 $6,266 $4,959
====== ====== ======
32
35
HEALTHCARE RECOVERIES, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
The following is a reconciliation of the effective tax rate to the federal
statutory rate for the years ended December 31, 1999, 1998 and 1997:
1999 1998 1997
---- ---- ----
Federal statutory rate...................................... 34.0% 35.0% 35.0%
State and local taxes, net of federal tax benefit........... 6.9 6.8 6.8
Non-recurring compensation charge........................... -- -- 13.3
Other, net.................................................. 0.6 (0.5) 0.2
---- ---- ----
41.5% 41.3% 55.3%
==== ==== ====
Temporary differences giving rise to deferred taxes in the accompanying
balance sheets at December 31, 1999 and 1998 consist of the following (in
thousands):
1999 1998
-------------------- --------------------
ASSETS LIABILITIES ASSETS LIABILITIES
------ ----------- ------ -----------
Accrued bonuses.................................... $ 667 $ 585
Accounts receivable................................ $1,846 $1,395
Accrued litigation................................. 832 596
Other.............................................. 315 545 163 15
------ ------ ------ ------
$1,814 $2,391 $1,344 $1,410
====== ====== ====== ======
Management believes that the deferred tax assets are realizable based
primarily on the existence of sufficient taxable income within the allowable
carryback period.
6. MAJOR CLIENTS
United HealthCare Group accounted for 23%, 28% and 31% of the Company's
total revenues for the years ended December 31, 1999, 1998 and 1997,
respectively. No other client accounted for more than 10% of the Company's total
revenues. The loss of this client could have a material adverse effect on the
Company's results of operations, financial position and cash flows.
7. RELATED PARTY TRANSACTIONS
The Company has entered into a contract for legal services with a
professional service corporation that is wholly owned by one of the Company's
officers. This arrangement exists solely for the purpose of minimizing the costs
of legal services purchased by the Company on behalf of its clients. For the
years ended December 31, 1999, 1998 and 1997, approximately $2,040,000,
$1,320,000 and $1,001,000, respectively, was paid to this law firm for such
legal services.
On February 12, 1999, the Board of Directors approved a loan in the amount
of $350,000 to Patrick B. McGinnis, the Chairman and Chief Executive Officer of
the Company, in exchange for a full recourse promissory note in the same amount
from Mr. McGinnis. The full recourse promissory note bears interest at a rate
equal to the Company's cost of borrowing under its Credit Facility, or if no
loan amount is outstanding under the Credit Facility, the federal short-term
rate. The $350,000 note and accrued interest of $18,641 were outstanding at
December 31, 1999. The effective rate of interest was approximately 7.2%.
8. NON-RECURRING COMPENSATION CHARGE
During the second quarter of 1997, the Company recognized a non-recurring,
non-cash compensation charge of approximately $2.8 million relating to a bonus
comprised of 200,000 shares of the Company's Common Stock granted by the Company
to certain members of the Company's executive management upon
33
36
HEALTHCARE RECOVERIES, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
consummation of the Offering. The amount of the charge approximated the fair
value of the shares granted based on the Offering price of $14.00 per share.
9. EMPLOYEE BENEFIT PLAN
Pension Plan
Effective on January 1, 1997, the Company's employees began participation
in the Company's 401(k) defined contribution pension plan. An annual expense
provision for the plan is based upon the level of employee participation, as the
plan requires the Company to match a certain portion of the employees'
contributions. Total retirement plan expense was approximately $877,200,
$522,300 and $235,800 for the years ended December 31, 1999, 1998 and 1997,
respectively.
OTHER
Accrued bonuses included in the accompanying balance sheets at December 31,
1999 and 1998 approximate $4.5 and $4.4 million, respectively.
10. CONTINGENCIES
The Company is engaged in the business of identifying and recovering
subrogation and related claims of its clients, many of which arise in the
context of personal injury lawsuits. As such, the Company operates in a
litigation-intensive environment. The Company has, from time to time, been, and
in the future expects to be, named as a party in litigation incidental to its
business operations. To date, the Company has not been involved in any
litigation which has had a material adverse effect upon the Company, but there
can be no assurance that pending litigation or future litigation will not have a
material adverse effect on the Company's business, results of operations and
financial condition.
11. CREDIT FACILITY
On February 1, 1998, the Company entered into an agreement providing for an
unsecured revolving line of credit (the "Credit Facility"), with borrowings of
up to a maximum of $50 million, expiring on January 31, 2001. An amount of $11
million was outstanding as of December 31, 1999. The Credit Facility replaced an
existing $10 million revolving line of credit. Principal amounts outstanding
under the Credit Facility bear interest at a variable rate based on the Prime
Rate or Eurodollar Rate, as applicable, plus a pre-determined margin based on
the ratio of the Company's total indebtedness to earnings before interest,
taxes, depreciation and amortization. The agreement contains customary covenants
and events of default including maintenance of certain minimum interest coverage
and leverage ratios and a minimum level of net worth. The agreement also
contains a material adverse change clause. The Company does not expect changes
in interest rates to have a material effect on its financial position, results
of operations or cash flows in 2000. The Credit Facility was amended in May 1998
and March 1999 to enable the Company to acquire entities that do not maintain
audited financials and to use proceeds from the Credit Facility to repurchase up
to $10 million of outstanding Common Stock.
12. RECAPITALIZATION
On May 16, 1997, the Company amended its Certificate of Incorporation to
authorize 2,000,000 shares of $.001 par value preferred stock and 20,000,000
shares of $.001 par value Common Stock, of which 9,800,000 shares of Common
Stock were issued and outstanding after a 98,000-for-1 Common Stock split
("Stock Split"), which the Company declared to be effective immediately prior to
the Offering. The Stock Split was effected in the form of a stock dividend.
Accordingly, all references in the accompanying financial statements to number
of shares and related per share results have been restated to reflect these
changes.
34
37
HEALTHCARE RECOVERIES, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
13. SEPARATION AGREEMENT WITH MEDAPHIS
Effective May 21, 1997, the Company and Medaphis entered into a separation
agreement (the "Separation Agreement") that provided for the separation of the
Company from Medaphis. The Separation Agreement provided that on the date of the
Offering (i) the Company would (assuming none of the underwriters'
over-allotment option had been exercised) have a nominal amount of unrestricted
cash, and would not owe any amount to Medaphis (except as discussed below with
respect to purchased goods and services, certain employee benefit plan payments
and a distribution to be paid to Medaphis to reduce the Company's stockholders'
equity to $4,110,000) and (ii) Medaphis would not owe any amount to the Company.
The Separation Agreement also provided that (i) the Company would pay
(without markup or markdown) Medaphis after the consummation of the Offering for
any goods or services purchased from or through Medaphis prior to consummation
but not paid for prior to such consummation; (ii) Medaphis would cause its bank
lenders to release in connection with the Offering the Company's guaranty of
Medaphis' bank debt, all liens on the Company's assets and the common stock to
be sold by Medaphis pursuant to the Offering; (iii) the Company would upon
consummation of the Offering assume responsibility for providing health
insurance or insurance coverage to former company employees (and their eligible
dependents) who had exercised their right under federal law to obtain such
insurance or insurance coverage in accordance with applicable federal law; (iv)
assets and liabilities under the Medaphis "cafeteria" employee benefit plan
relating to the Company's employees would be transferred to a new Company
"cafeteria" benefit plan, together with an adjusting payment to or from the
Company to reflect any difference between plan assets and liabilities; (v) after
consummation of the Offering, Medaphis would transfer assets in the Medaphis
401(k) retirement plan that relate to the Company's employees to a new 401(k)
retirement plan in a manner that satisfies legal requirements for interplan
asset transfers; (vi) all stock options held by the Company's employees as of
the consummation of the Offering would, in accordance with the particular option
plan under which such options were granted, become immediately vested as of such
date and any such optionees would be entitled to exercise their options in
accordance with the terms of the particular option agreements relating to the
granting of such options; (vii) effective as of the consummation of the
Offering, the Company was required to have in place certain insured and
self-funded welfare benefit plans and arrangements to cover those Company
employees who were covered by such types of plans prior to such date; and (viii)
Medaphis would pay, in one lump sum, the account balances under the Medaphis
Executive Deferred Compensation Plan due to those plan participants who would be
continuing employment with the Company after consummation of the Offering.
With respect to indemnification, the Separation Agreement provided that (i)
the Company would indemnify Medaphis for federal, state and local income and
other tax liability relating to the Company for all periods ending on or prior
to August 28, 1995, the date of the Merger, and for all periods after the
consummation of the Offering; (ii) Medaphis would indemnify the Company for
federal income tax liability relating to Medaphis or any of its subsidiaries
(including the Company), and for state and local income and other tax liability
relating to Medaphis or any subsidiaries (other than the Company), from August
29, 1995 to the date of consummation of the Offering; (iii) the Company would
indemnify Medaphis from liability due to or arising out of acts or failures to
act of the Company in the periods described in clause (i); (iv) Medaphis would
indemnify the Company from liability due to or arising out of the acts or
failures to act of Medaphis or any of its subsidiaries (other than the Company)
for all periods described in (i) and (ii); and (v) Medaphis would indemnify the
non-employee directors of the Company from certain liabilities arising out of
the Offering, including liabilities under the Securities Act of 1933.
35
38
HEALTHCARE RECOVERIES, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
14. COMMON STOCK OPTIONS
Upon consummation of the Offering, the Company adopted the Healthcare
Recoveries, Inc. Non-Qualified Stock Option Plan for Eligible Employees (the
"Employee's Plan"), the Healthcare Recoveries, Inc. Amended and Restated
Directors' Stock Option Plan (the "Directors' Plan") and the Healthcare
Recoveries, Inc. Employee Stock Purchase Plan (the "Purchase Plan"). On December
8, 1997, the Company adopted the Healthcare Recoveries, Inc. 1997 Stock Option
Plan for Eligible Participants (the "1997 Plan").
The Employees' Plan provides for the award of stock options to certain
officers and key employees of the Company. Options under the Employees' Plan are
exercisable at 100% of the market value of the Company's Common Stock on the
date of grant. Awards under the Employees' Plan vest ratably over a three-year
period and expire ten years from the date of grant. As provided in the
Employees' Plan, all options granted to the Company's employees automatically
vest in the event of a change in control. At December 31, 1999, 673,750 shares
of Common Stock were reserved for issuance under the Employees' Plan, including
139,861 shares available for future award.
The Directors' Plan provides for the grant of options to purchase the
Company's Common Stock to each non-employee director of the Company. Options
under the Directors' Plan are exercisable at 100% of the market value of the
Company's Common Stock on the date of grant. Pursuant to the Directors' Plan,
each eligible director is to be granted on the date he or she first becomes a
director an option to purchase 10,000 shares of Common Stock, and each eligible
director is to be granted on the date of each annual meeting of stockholders of
the Company beginning in 1998 an option to purchase 2,000 shares of Common
Stock, for so long as shares are available under the Directors' Plan, but not
after March 31, 2002. Terms of options granted under this plan commence on the
date of grant and expire on the tenth anniversary of the grant date. Each option
is to become exercisable when vested. The options vest ratably over a three-year
period, provided that the optionee must be a non-employee director of the
Company on each such anniversary in order for options to vest on such date. At
December 31, 1999, 150,000 shares of Common Stock were reserved for issuance
under the Directors' Plan, including 80,000 shares available for future award.
Under the Purchase Plan, eligible employees may purchase shares of the
Company's Common Stock, subject to certain limitations, at 85% of its market
value. Purchases are made from payroll deductions up to a maximum of 15% of an
employee's eligible annual compensation. During the year ended December 31,
1999, 10,720 shares of the Company's Common Stock were purchased under the
Purchase Plan, resulting in 282,543 reserved shares of Common Stock being
available for purchase at December 31, 1999.
The 1997 Plan provides for the grant of options to purchase the Company's
Common Stock to eligible participants of the Company at 100% of the market value
of the Company's Common Stock on the date of grant. Awards under the 1997 Plan
expire ten years from the date of grant and vest according to the terms that the
compensation committee of the Board of Directors determines in its sole
discretion. As provided in the 1997 Plan, all options granted to the Company's
employees automatically vest in the event of a change in control. At December
31, 1999, 1,760,000 shares of Common Stock have been reserved under the 1997
Plan, of which 801,614 shares are available for future award.
36
39
HEALTHCARE RECOVERIES, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
Activity related to the Employees' Plan, Directors' Plan and 1997 Plan for
the years ended December 31, 1999, 1998 and 1997 is summarized as follows:
1999 1998 1997
------------------------- ------------------------- -------------------------
SHARES WEIGHTED-AVERAGE SHARES WEIGHTED-AVERAGE SHARES WEIGHTED-AVERAGE
(000) EXERCISE PRICE (000) EXERCISE PRICE (000) EXERCISE PRICE
------ ---------------- ------ ---------------- ------ ----------------
Options outstanding
as of January 1.... 1,085 $16.58 723 $14.93 -- $ --
Granted............ 640 6.01 537 17.85 728 14.94
Exercised.......... -- -- (26) 17.60 -- --
Canceled........... (163) 13.51 (149) 15.79 5 15.87
------ ------ ------
Options outstanding
as of December 31.. 1,562 12.55 1,085 16.58 723 14.93
====== ====== ======
Weighted-average fair
value of options
granted during the
year (per share)... $ 1.94 $ 8.07 $ 6.54
====== ====== ======
The following table summarizes information about options outstanding under
the Employees' Plan, Directors' Plan and 1997 Plan at December 31, 1999:
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
--------------------------------------- ------------------------
NUMBER WEIGHTED- NUMBER
OUTSTANDING AVERAGE WEIGHTED- OUTSTANDING WEIGHTED-
DECEMBER 31, REMAINING AVERAGE DECEMBER 31, AVERAGE
1999 CONTRACTUAL EXERCISE 1999 EXERCISE
RANGE OF EXERCISE PRICES (000) LIFE (YEARS) PRICE (000) PRICE
------------------------ ------------ ------------ --------- ------------ ---------
$2.75 - $15.938................ 1,088 8.3 $9.67 388 $14.36
$16.37 - $23.50................ 474 8.2 19.16 207 18.63
----- ---
1,562 8.3 12.55 595 15.84
===== ===
Employee stock options of the Company outstanding at the effective time of
the Merger were substituted with similar options on Medaphis common stock.
Subsequent to the Merger and prior to the Offering, employees of the Company
participated in the Non-Qualified Stock Option Plan and the Non-Qualified Stock
Option Plan for Non-Executive Employees (the "Medaphis Plans") of Medaphis.
Granted options under the Medaphis Plans expire 10 to 11 years after the date of
grant and generally vest over a three-to-five-year period; however, in
accordance with the terms of the Medaphis Plans, all options granted to the
Company's employees automatically vested in connection with the Offering. All
unexercised options held by the Company's employees under the Medaphis Plans
expired on November 21, 1997. Stock options granted to the Company's employees
under the Medaphis Plans do not affect the number of shares used in determining
the Company's earnings per common share results. The following presents
information related to the Company's employees' participation in the Medaphis
Plans prior to the Offering.
37
40
HEALTHCARE RECOVERIES, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
All options under the Medaphis Plans were either exercised or canceled as
of December 31, 1997. Activity related to 1997 is summarized as follows:
1997
-------------------------
SHARES WEIGHTED-AVERAGE
(000) EXERCISE PRICE
------ ----------------
Options outstanding as of January 1......................... 412 $14.06
Exercised................................................. (227) 7.37
Canceled.................................................. (185) 28.64
----
Options outstanding as of December 31....................... --
====
On October 25, 1996, Medaphis changed the exercise price of approximately
81,000 of its then outstanding stock options, which had an exercise price of
$15.00 or greater, to a new exercise price of $9.875. On April 25, 1997,
Medaphis re-priced all options then outstanding under the Medaphis Plans to the
market price of Medaphis common stock on that date of $5.375. No other terms of
these options were changed. The Company has not recognized compensation expense
as a result of the re-pricing of the stock options granted under the Medaphis
Plans.
The Company accounts for options granted under its employee stock-based
compensation plans in accordance with APB No. 25. As a result, the Company has
not recognized compensation expense for stock options granted with an exercise
price equal to the quoted market price of the common stock on the date of grant
and which vest based solely on continuation of employment by the recipient of
the option award. The Company adopted SFAS No. 123 for disclosure purposes in
1996. For SFAS No. 123 purposes, the fair value of each option grant and stock
based award has been estimated as of the date of grant using the Black-Scholes
option pricing model. The following summarizes the weighted average assumptions
used in valuing awards under the Employees' Plan, Directors' Plan and 1997 Plan:
1999 1998 1997
----- ---- ----
Expected life (years)....................................... 5.0 5.0 5.0
Risk-free interest rate..................................... 5.7% 5.5% 5.8%
Dividend yield.............................................. 0.0 0.0 0.0
Expected volatility......................................... 137.3 38.2 40.0
Had compensation expense been recognized under the provisions of SFAS No.
123, utilizing the assumptions in the table above, the Company's net income for
the years ended December 31, 1999, 1998 and 1997 and earnings per common share
(basic and diluted) for the years ended December 31, 1999, 1998 and 1997 would
have decreased to the following pro forma amounts:
1999 1998 1997
------ ------ ------
Net Income As reported...................................... $5,162 $8,900 $4,002
Proforma.................................................... 3,021 7,333 3,534
Earnings per common share:
As reported (basic)......................................... 0.46 0.78 0.37
As reported (diluted)....................................... 0.46 0.77 0.37
Proforma (basic and diluted)................................ 0.27 0.64 0.33
The effects of applying SFAS No. 123 in the pro forma disclosures are not
likely to be representative of the effects on pro forma net income or earnings
per common share for future years because variables such as option grants,
option exercises, and stock price volatility included in the disclosures may not
be indicative of actual future activity.
38
41
HEALTHCARE RECOVERIES, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
15. QUARTERLY FINANCIAL INFORMATION (UNAUDITED)
A summary of the Company's quarterly results of operations follows (dollars
in thousands, except per share amounts):
FIRST SECOND THIRD FOURTH
------- ------- ------- -------
YEAR ENDED DECEMBER 31, 1999:
Claims revenues................................... $13,860 $15,793 $15,247 $16,508
Income before income taxes........................ 2,391 2,417 2,098 1,924
Net income........................................ 1,398 1,415 1,227 1,124
Earnings per common share (basic)................. 0.12 0.13 0.11 0.10
Earnings per common share (diluted)............... 0.12 0.13 0.11 0.10
YEAR ENDED DECEMBER 31, 1998:
Claims revenues................................... $11,196 $12,025 $12,719 $12,794
Income before income taxes........................ 3,608 3,704 3,865 3,989
Net income........................................ 2,093 2,171 2,277 2,359
Earnings per common share (basic)................. 0.18 0.19 0.20 0.21
Earnings per common share (diluted)............... 0.17 0.19 0.20 0.21
39
42
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The information required by this Item with respect to Directors and
Executive Officers of the Registrant is included in the sections entitled
"Management of the Company", "Executive Officers", "Certain Relationships and
Related Transactions" and "Section 16(a) Beneficial Ownership Reporting
Compliance" of the Proxy Statement for the Annual Meeting of Stockholders to be
held on April 28, 2000 and is incorporated herein by reference.
ITEM 11. EXECUTIVE COMPENSATION
The information required by this Item is included in the sections entitled
"Executive Compensation", "Stock Option Grants", "Stock Option Exercises",
"Compensation Committee Report on Executive Compensation", "Compensation
Committee Interlocks and Insider Participation" and "Stock Price Performance
Graph" of the Proxy Statement for the Annual Meeting of Stockholders to be held
on April 28, 2000 and is incorporated herein by reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information required by this Item is included in the sections entitled
"Management Common Stock Ownership" and "Principal Stockholders" of the Proxy
Statement for the Annual Meeting of Stockholders to be held on April 28, 2000
and is incorporated herein by reference.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required by this Item is included in the sections entitled
"Executive Compensation" and "Certain Relationships and Related Transactions" of
the Proxy Statement for the Annual Meeting of Stockholders to be held on April
28, 2000 and is incorporated herein by reference.
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a) 1. Financial Statements
Report of Independent Accountants
Balance Sheets -- years ended December 31, 1999 and 1998
Statements of Income -- years ended December 31, 1999, 1998, and 1997
Statements of Changes in Stockholders' Equity -- years ended December 31,
1999, 1998, and 1997
Statements of Cash Flow -- years ended December 31, 1999, 1998, and 1997
2. Financial Statement Schedules (none required)
40
43
3. Exhibits
The following list of Exhibits includes both exhibits submitted with this
Form 10-K as filed with the Commission and those incorporated by reference to
other filings:
2.1 -- Asset Purchase Agreement, dated as of December 4, 1998, by
and among the Registrant, MedCap Medical Cost Management,
Inc. and Marcia Deutsch (incorporated by reference to
Exhibit 2.1 of Registrant's Current Report on Form 8-K,
filed December 11, 1998, File No. 000-22585).
2.2 -- Asset Purchase Agreement, dated as of January 3, 1999, by
and among the Registrant, Subro-Audit, Inc., O'Donnell
Leasing Co., LLP, Kevin M. O'Donnell and Leah Lampone
(incorporated by reference to Exhibit 2.1 of Registrant's
Current Report on Form 8-K, filed January 11, 1999, File No.
000-22585).
2.3 -- Amendment to Asset Purchase Agreement by and among the
Registrant, Subro-Audit, Inc., O'Donnell Leasing Co., LLP,
Kevin O'Donnell and Leah Lampone, dated as of January 25,
1999 (incorporated by reference to Exhibit 2.2 of
Registrant's Current Report on Form 8-K, filed February 3,
1999, File No. 000-22585).
3.1 -- Amended and Restated Certificate of Incorporation of the
Registrant (incorporated by reference to Exhibit 3.1 of
Registrant's Amendment No. 2 to Registration Statement on
Form S-1, File No. 333-23287).
3.2 -- Amended and Restated Bylaws of the Registrant (incorporated
by reference to Exhibit 3.2 of Registrant's Amendment No. 2
to Registration Statement on Form S-1, File No. 333-23287).
4.1 -- Specimen Common Stock Certificate (incorporated by reference
to Exhibit 4.1 of Registrant's Amendment No. 1 to
Registration Statement on Form S-1, File No. 333-23287).
4.2 -- Rights Agreement, dated February 12, 1999, between the
Registrant and National City Bank, as Rights Agent, which
includes as Exhibit A the Form of Certificate of
Designations of the Preferred Stock, as Exhibit B the Form
of Right Certificate and as Exhibit C the Summary of Rights
to Purchase Preferred Stock (incorporated by reference to
Exhibit 4.1 of Registrant's Form 8-A, filed February 16,
1999, File No. 000-22585).
10.1 -- Healthcare Recoveries, Inc. Non-Qualified Stock Option Plan
for Eligible Employees (incorporated by reference to Exhibit
4.2 of Registrant's Registration Statement on Form S-1, File
No. 333-23287).
10.2 -- Healthcare Recoveries, Inc. Amended and Restated Directors'
Stock Option Plan (incorporated by reference to Exhibit 10.2
of Registrant's Annual Report on Form 10-K for the fiscal
year ended December 31, 1998).
10.3 -- Healthcare Recoveries, Inc. 1997 Stock Option Plan for
Eligible Participants (incorporated by reference to Annex A
of Registrant's Proxy Statement for a Special Meeting, dated
November 10, 1997).
10.4 -- Healthcare Recoveries, Inc. Employee Stock Purchase Plan
(incorporated by reference to Registrant's Registration
Statement on Form S-8, File No. 333-41557).
10.5 -- Employment Agreement between the Registrant and Patrick B.
McGinnis (incorporated by reference to Exhibit 10.2 to
Registrant's Registration Statement on Form S-1, File No.
333-23287).
10.6 -- Amendment No. 1 to Employment Agreement between the
Registrant and Patrick B. McGinnis, dated February 12, 1999
(incorporated by reference to Exhibit 10.6 of Registrant's
Annual Report on Form 10-K for the fiscal year ended
December 31, 1998).
10.7 -- Employment Agreement between the Registrant and Kevin M.
O'Donnell, dated January 25, 1999 (incorporated by reference
to Exhibit 10.9 of Registrant's Annual Report on Form 10-K
for the fiscal year ended December 31, 1998).
10.8 -- Separation Agreement between Medaphis and the Registrant
(incorporated by reference to Exhibit 10.1 of Registrant's
Amendment No. 2 to Registration Statement on Form S-1, File
No. 333-23287).
10.9 -- Divestiture Bonus Agreement (incorporated by reference to
Exhibit 10.4 of Registrant's Amendment No. 2 to Registration
Statement on Form S-1, File No. 333.23287).
10.10 -- Supplemental Retirement Savings Plan (incorporated by
reference to Exhibit 10.5 of Registrant's Amendment No. 2 to
Registration Statement on Form S-1, File No. 333-23287).
41
44
10.11 -- Lease between W&M Kentucky, Inc. and the Registrant
(incorporated by reference to Exhibit 10.6 of Registrant's
Registration Statement on Form S-1, File No. 333-23287).
10.12 -- Lease Addendum VI between W&M of Kentucky, Inc. and the
Registrant, dated December 22, 1999.
10.13 -- Annual Bonus Plan (incorporated by reference to Exhibit 10.7
of Registrant's Amendment No. 2 to Registration Statement on
Form S-1, File No. 333-23287).
10.14 -- Credit Agreement, dated as of February 1, 1998 by and among
the Registrant, the Lending Institutions Named Therein and
National City Bank of Kentucky (incorporated by Reference to
Exhibit 10.12 of Registrant's Annual Report on Form 10-K for
the fiscal year ended December 31, 1997).
10.15 -- Amendment No. 1 to the Credit Agreement, dated as of May 15,
1998 by and among the Registrant, the Lending Institutions
Named Therein and National City Bank of Kentucky
(incorporated by reference to Exhibit 10.17 of Registrant's
Annual Report on Form 10-K for the fiscal year ended
December 31, 1998).
10.16 -- Amendment No. 2 to the Credit Agreement, dated as of March
19, 1999 by and among the Registrant, the Lending
Institutions Named Therein and National City Bank of
Kentucky (incorporated by reference to Exhibit 10.17 of
Registrant's Annual Report on Form 10-K for the fiscal year
ended December 31, 1998).
10.17 -- Employment Agreement between the Registrant and Timothy E.
Cahill, dated October 19, 1999.
10.18 -- Employment Agreement between the Registrant and Robert L.
Jefferson, dated November 29, 1999.
10.19 -- Form of Change-in-Control Agreement between the Registrant
and Douglas R. Sharps, Debra M. Murphy, Mark J. Bates and
Robert G. Bader, dated February 24, 2000.
10.20 -- Form of Severance Agreement between the Registrant and
Douglas R. Sharps, Debra M. Murphy, Mark J. Bates and Robert
G. Bader dated February 24, 2000.
10.21 -- Promissory Note Payable to HealthCare Recoveries, Inc. from
Patrick B. McGinnis.
23.1 -- Consent of PricewaterhouseCoopers LLP.
27.1 -- Financial Data Schedule. (for SEC use only)
99.1 -- Healthcare Recoveries, Inc. Private Securities Litigation
Reform Act of 1995 Safe Harbor Compliance Statement for
Forward-Looking Statement.
(b) Reports on Form 8-K
A report on Form 8-K/A, filed on December 8, 1999, related to a first
amendment to the Earnout Agreement among the Company, MedCap Medical Cost
Management, Inc. ("MedCap") and Marcia Deutsch (the "Asset Purchase
Agreement"). The first amendment revises the earn-out arrangement to
provide for a fixed payment and a negotiated amount to be calculated
monthly thereafter through January 15, 2001 based on a percentage of actual
collections received each month on certain claims from certain contracts.
42
45
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.
HEALTHCARE RECOVERIES, INC.
By: /s/ PATRICK B. MCGINNIS
------------------------------------
Patrick B. McGinnis
Chairman, President and Chief
Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
Registrant and in the capacities and on the dates indicated:
SIGNATURE TITLE DATE
--------- ----- ----
/s/ PATRICK B. MCGINNIS Chairman, President and Chief March 14, 2000
- ----------------------------------------------------- Executive Officer (Principal
Patrick B. McGinnis Executive Officer)
/s/ DOUGLAS R. SHARPS Executive Vice President and March 14, 2000
- ----------------------------------------------------- Chief Financial Officer
Douglas R. Sharps (Principal Financial and
Accounting Officer)
/s/ WILLIAM C. BALLARD, JR. Director March 14, 2000
- -----------------------------------------------------
William C. Ballard, Jr.
/s/ JILL L. FORCE Director March 14, 2000
- -----------------------------------------------------
Jill L. Force
/s/ JOHN H. NEWMAN Director March 14, 2000
- -----------------------------------------------------
John H. Newman
/s/ ELAINE J. ROBINSON Director March 14, 2000
- -----------------------------------------------------
Elaine J. Robinson
/s/ CHRIS B. VAN ARSDEL Director March 14, 2000
- -----------------------------------------------------
Chris B. Van Arsdel
43