U.S. SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-QSB
[X] Quarterly Report under Section 13 or 15(d) of the Securities Exchange
Act of 1934 for the quarterly period ended SEPTEMBER 30, 2004
[ ] Transition report under Section 13 or 15(d) of the Securities Exchange
Act of 1934 for the transition period from _________ to ________
SURGICARE, INC.
(NAME OF SMALL BUSINESS ISSUER IN ITS CHARTER)
DELAWARE 58-1597246
(STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER IDENTIFICATION NO.)
INCORPORATION OR ORGANIZATION)
10700 RICHMOND AVE., SUITE 300, HOUSTON, TEXAS 77042
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE)
ISSUER'S TELEPHONE NUMBER: (713) 973-6675
Check whether the Registrant: (1) filed all reports required to be filed by
Section 13 or 15(d) of the Exchange Act during the past 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 [ ]
As of November 15, 2004, 38,298,687 shares of Common Stock, $0.005 par value per
share, were outstanding.
PART I
FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS.
------------------------------
The information required hereunder is included in this report as set forthin the
"Index to Financial Statements."
INDEX TO FINANCIAL STATEMENTS
Consolidated Balance Sheets as of September 30, 2004 and December 31, 2003 3
Consolidated Statements of Operations for the three months ending September 30, 2004 and 2003 5
Consolidated Statements of Operations for the nine months ending September 30, 2004 and 2003 6
Consolidated Statements of Cash Flows for the nine months ending September 30, 2004 and 2003 7
Notes to Consolidated Financial Statements 9
2
SURGICARE, INC.
CONSOLIDATED BALANCE SHEETS
SEPTEMBER 30, DECEMBER 31,
2004 2003
------------- -----------
(UNAUDITED)
ASSETS
CURRENT ASSETS
Cash and cash equivalents $ 110,591 $ 141,553
Accounts Receivable:
Trade (less allowance for contractual adjustments and
doubtful accounts of $2,654,309 and $3,768,846
at September 30, 2004 and December 31, 2003, respectively) 869,431 1,309,682
Other receivables 47,399 59,909
Income tax receivables 159,846
Inventory 340,575 338,470
Prepaid expenses 101,792 133,293
Other current assets 61,225 23,027
----------- -----------
Total Current Assets 1,531,013 2,165,780
PROPERTY AND EQUIPMENT
Office furniture and equipment 416,775 399,912
Medical and surgical equipment 4,855,170 3,748,559
Leasehold improvements 1,184,890 946,890
Computer equipment 414,052 382,263
Transportation equipment 19,015 19,015
----------- -----------
6,889,902 5,496,639
Less: Accumulated depreciation and amortization 3,859,620 3,237,657
----------- -----------
Total Property and Equipment 3,030,282 2,258,982
GOODWILL 8,119,235 8,105,735
REAL ESTATE 4,000,000
INVESTMENT IN LIMITED PARTNERSHIPS 402,907 381,434
PREPAID LIMITED PARTNER DISTRIBUTIONS 450,623 440,423
LOAN FEES (net of amortization of $252,794 at September 30, 2004 and
$198,249 at December 31, 2003) 49,243 103,788
----------- -----------
TOTAL ASSETS $13,583,303 $17,456,142
=========== ===========
3
SURGICARE, INC.
CONSOLIDATED BALANCE SHEETS (CONTINUED)
SEPTEMBER 30, DECEMBER 31,
2004 2003
-------------- --------------
(UNAUDITED)
LIABILITIES
CURRENT LIABILITIES
Accounts payable $ 3,071,111 $ 2,864,199
Accrued expenses 2,895,047 1,274,340
Line of credit 1,466,698 1,331,475
Current maturities of long-term debt 7,372,562 6,928,542
Current portion of capital leases 338,698 265,251
------------ ------------
Total Current Liabilities 15,144,116 12,663,807
LONG-TERM CAPITAL LEASE OBLIGATIONS 512,966 103,341
MINORITY INTEREST IN PARTNERSHIP 169,500
------------ ------------
TOTAL LIABILITIES 15,826,582 12,767,148
SHAREHOLDERS' EQUITY
PREFERRED STOCK, Series A, par value $.001, 1,650,000
authorized, 1,137,700 issued and outstanding at December 31,
2003 (Redemption and liquidation value $5,688,500) 1,138
PREFERRED STOCK, Series AA, par value $.001, 1,200,000 shares
authorized, 900,000 issued and outstanding at December 31, 2003 900
COMMON STOCK, par value $.005, 50,000,000 shares authorized;
38,298,687 issued and 38,207,287 outstanding at September
30, 2004; 27,082,843 issued and 26,991,143 outstanding at
December 31, 2003 191,493 135,414
ADDITIONAL PAID-IN CAPITAL 16,929,906 17,116,523
RETAINED EARNINGS (19,318,110) (12,518,413)
LESS: TREASURY STOCK-at cost, 91,400 at September 30, 2004 and
December 31, 2003 (38,318) (38,318)
SHAREHOLDERS RECEIVABLE (8,250) (8,250)
------------ ------------
TOTAL SHAREHOLDERS' EQUITY (2,243,279) 4,688,994
------------ ------------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $ 13,583,303 $ 17,456,142
============ ============
See notes to consolidated financial statements.
4
SURGICARE, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
FOR THE THREE MONTHS ENDING
SEPTEMBER 30,
-------------------------------------
2004 2003
------------- -------------
REVENUES, NET $ 1,403,881 $ 1,671,299
DIRECT COST OF REVENUES:
Surgical costs 313,337 359,283
Clinical salaries & benefits 509,961 497,354
Other 208,759 215,541
------------ ------------
Total Direct Surgical Expenses 1,032,057 1,072,178
GENERAL AND ADMINISTRATIVE EXPENSES:
Salaries and benefits 351,939 420,189
Rent 230,041 233,246
Depreciation and amortization 246,615 209,271
Professional fees 425,217 167,534
Provision for doubtful accounts 18,932 10,956
Other 330,264 304,313
------------ ------------
Total General & Administrative Expenses 1,603,008 1,345,509
OTHER OPERATING EXPENSES (INCOME):
Loss on sale of assets 2,930 463,177
Impairment on investment in land 579,386
Forgiveness of debt (158,989)
------------ ------------
Total Other Operating Expenses (Income) (156,059) 1,042,563
------------ ------------
Total Operating Expenses 2,479,006 3,460,250
------------ ------------
OPERATING LOSS (1,075,125) (1,788,951)
------------ ------------
OTHER INCOME (EXPENSE):
Miscellaneous income 1,015 6,959
Equity in Earnings of Limited Partnerships 23,120 18,822
Interest Expense (520,890) (466,247)
------------ ------------
Total Other Income (Expense) (496,755) (440,466)
LOSS BEFORE MINORITY INTEREST AND FEDERAL INCOME TAX BENEFIT (1,571,880) (2,229,417)
------------ ------------
MINORITY INTEREST IN LOSSES OF PARTNERSHIPS (52,018)
------------ ------------
Loss Before Income Tax Expenses (1,571,880) (2,281,435)
FEDERAL INCOME TAX BENEFIT
------------ ------------
NET LOSS $ (1,571,880) $ (2,281,435)
============ ============
Loss per share - Basic $ (.05) $ (.09)
============ ============
Loss per share - Diluted $ (.05) $ (.09)
============ ============
Weighted Average Shares Outstanding:
Basic 30,493,252 24,883,175
============ ============
Diluted 30,493,252 24,883,175
============ ============
See notes to consolidated financial statements.
5
SURGICARE, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
FOR THE NINE MONTHS ENDING
SEPTEMBER 30,
-----------------------------------------
2004 2003
------------------- ------------------
REVENUES, NET $ 4,747,365 $ 5,890,428
DIRECT COST OF REVENUES:
Surgical costs 1,106,082 1,230,969
Clinical salaries & benefits 1,460,798 1,424,521
Other 626,819 721,649
--------------- ------------------
Total Direct Surgical Expenses 3,193,699 3,377,139
GENERAL AND ADMINISTRATIVE EXPENSES:
Salaries and benefits 1,103,095 1,190,560
Rent 683,069 701,351
Depreciation and amortization 621,963 653,374
Professional fees 1,366,200 682,118
Provision for doubtful accounts 135,420 311,648
Other 973,437 971,903
--------------- ------------------
Total General & Administrative Expenses 4,883,184 4,510,954
OTHER OPERATING EXPENSES (INCOME):
Gain on sale of partnership interest (319,086)
Loss on sale of assets 2,930 463,177
Impairment on investment in land 2,046,124 579,386
Forgiveness of debt (217,614)
--------------- ------------------
Total Other Operating Expense (Income) 1,831,440 723,477
--------------- ------------------
Total Operating Expenses 9,908,323 8,611,570
--------------- ------------------
OPERATING LOSS (5,160,958) (2,721,142)
OTHER INCOME (EXPENSE):
Miscellaneous income 3,564 27,010
Equity in Earnings of Limited Partnerships 43,706 186,761
Interest Expense (1,686,009) (1,375,265)
-------------- ------------------
Total Other Income (Expense) (1,638,739) (1,161,494)
-------------- ------------------
LOSS BEFORE MINORITY INTEREST AND FEDERAL INCOME TAX BENEFIT (6,799,697) (3,882,636)
-------------- ------------------
MINORITY INTEREST IN LOSSES OF PARTNERSHIPS
-------------- ------------------
Loss Before Income Tax Expenses (6,799,697) (3,882,636)
FEDERAL INCOME TAX BENEFIT (13,561)
-------------- ------------------
NET LOSS (6,799,697) (3,869,075)
============== ==================
Loss per share - Basic $ (.23) $ (.16)
============== ==================
Loss per share - Diluted $ (.23) $ (.16)
============== ==================
Weighted Average Shares Outstanding:
Basic 29,085,252 24,451,747
============== ==================
Diluted 29,085,252 24,451,747
============== ==================
See notes to consolidated financial statements.
6
SURGICARE, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
FOR THE NINE MONTHS ENDING
SEPTEMBER 30,
-------------------------------------------------------
2004 2003
----------------------- ----------------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss $ (6,799,697) $ (3,869,075)
Adjustments to reconcile net earnings to net cash provided
by operations:
Equity in earnings of limited partnerships (43,706) (186,761)
Minority interest in loss of partnerships
Depreciation and amortization 621,963 653,374
Amortization of debt discount 56,578 81,163
Amortization of loan fees 54,545
Gain on sale of interest in limited partnership (319,086)
Loss on sale of assets 463,177
Interest expense recognized on beneficial conversion features
of convertible notes payable 206,693
Provision for doubtful accounts 135,420 311,648
Impairment on investment in land 2,046,124 579,386
Forgiveness of debt (217,614)
Change in:
Accounts receivable 317,341 199,883
Inventory (2,105) 36,289
Prepaid expenses 31,501 (70,983)
Other current assets (38,198) 13,619
Federal income tax 159,846
Accounts payable 697,680 571,516
Accrued expenses 1,610,970 544,514
------------------- ------------------
Net Cash Used in Operating Activities (1,162,659) (991,336)
------------------- ------------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital expenditures (793,263) (46,613)
Distributions from partnerships 22,233 9,167
Proceeds from sale of land 103,932
Proceeds from sale of interest in limited partnership 425,000
Proceeds from sale of note receivable 160,000
Buyout of limited partners (13,500) (51,250)
------------------- ------------------
Net Cash Provided by (Used in) Investing Activities (680,598) 496,304
------------------- ------------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Borrowings on lines of credit 279,633 3,710,486
Payments on lines of credit (144,410) (3,922,396)
Borrowings on debt 1,900,411 210,000
Payments on debt (282,246) (645,581)
Distributions to limited partners (10,200)
Capital contributions from limited partners 169,500
Principal payments on capital lease (116,928) (71,981)
Proceeds from issuance of common stock 1,069,897
Proceeds from exercise of warrants 16,535 1,375
Purchase of treasury stock (6,068)
------------------- ------------------
Net Cash Provided by Financing Activities 1,812,295 345,732
------------------- ------------------
Net Decrease in Cash and Cash Equivalents (30,962) (149,300)
Cash and Cash Equivalents - Beginning of Period 141,553 262,327
------------------- ------------------
Cash and Cash Equivalents - End of Period $ 110,591 $ 113,027
=================== ==================
7
SURGICARE, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED)
(UNAUDITED)
FOR THE NINE MONTHS ENDING
SEPTEMBER 30
--------------------------------------------
2004 2003
------------------ --------------------
SUPPLEMENTAL CASH FLOW INFORMATION:
Cash paid during the year for:
Interest $ 80,259 $ 996,355
Non-cash investing and financing activities:
Issuance of common shares in payment of accounts payable 273,154 70,000
Equipment acquired under capital lease obligation 600,000 154,821
See notes to consolidated financial statements.
8
SURGICARE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
NOTE 1 - GENERAL
SurgiCare, Inc. ("SurgiCare", the "Company", "we", "us", or "our"), through
its wholly owned subsidiaries or directly owns interests in limited partnerships
or corporations that operate three surgery centers and one magnetic resonance
imaging ("MRI") center, which are consolidated into the Company's financial
results. The consolidated statements include the accounts of the Company and its
subsidiaries and the aforementioned limited partnerships. The Company also owns
a minority interest as general partner in a limited partnership that operates a
surgery center, which is not consolidated into the Company's financial results.
These financial statements have been prepared in accordance with generally
accepted accounting principles ("GAAP") for interim financial reporting and in
accordance with Securities and Exchange Commission ("SEC") Rule 310(b) of
Regulation S-B. In the opinion of management, the accompanying unaudited
consolidated financial statements include all adjustments consisting of only
normal recurring adjustments necessary for a fair presentation of the Company's
financial position and the results of operations and cash flows for the interim
periods presented. The results of operations for any interim period are not
necessarily indicative of results for the full year.
The accompanying unaudited consolidated financial statements should be read
in conjunction with the financial statements and related notes included in
SurgiCare's 2003 Annual Report on Form 10-KSB/A.
NOTE 2 - USE OF ESTIMATES
The preparation of financial statements in conformity with U.S. GAAP
requires management to make estimates and assumptions that affect the reported
amounts of assets and liabilities and disclosure of contingent assets and
liabilities at the date of the financial statements and the reported amounts of
revenues and expenses during the reporting period. Actual results could vary
from those estimates.
The determination of contractual allowances constitutes a significant
estimate. In determining the amount of contractual allowances, management
considers such factors as historical trends of billing and cash collections,
established fee schedules, accounts receivable agings and contractual
relationships with third-party payers. Contractual adjustments and accounts
deemed uncollectible are applied against the allowance account.
NOTE 3 - REVENUE RECOGNITION
Surgical revenue is recognized on the date the procedures are performed,
and accounts receivable are recorded at that time. Such revenues are reported at
the estimated net realizable amounts from patients and third-party payers. If
such third-party payers were to change their reimbursement policies, the effect
on revenue could be significant. Earnings are charged with a provision for
contractual adjustments and doubtful accounts based on such factors as
historical trends of billing and cash collections, established fee schedules,
accounts receivable agings and contractual relationships with third-party
payers. Contractual allowances are estimated primarily using each surgery
center's collection experience. Contractual rates and fee schedules are also
helpful in this process. On a rolling average
9
basis, the Company tracks collections as a percentage of related billed charges.
This percentage, which is adjusted on a quarterly basis, has proved to be the
best indicator of expected net realizable amounts from patients and third-party
payers. Contractual adjustments and accounts deemed uncollectible are applied
against the allowance account. The Company is not aware of any material claims,
disputes or unsettled matters with third-party payers.
Management fees are based on a percentage of customers' collected revenues
and are recognized during the period which services were performed.
NOTE 4 - GOODWILL
Goodwill represents the excess of cost over the fair value of net assets of
companies acquired in business combinations accounted for using the purchase
method. Goodwill acquired in business combinations prior to June 30, 2001 had
been amortized using the straight-line method over an estimated useful life of
20 years. In July 2001, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 141, "Business
Combinations," and SFAS No. 142, "Goodwill and Other Intangible Assets." SFAS
No. 141 requires that the purchase method of accounting be used for all business
combinations initiated after June 30, 2001. SFAS No. 142 requires that goodwill
no longer be amortized but instead be reviewed periodically for possible
impairment. The Company has adopted SFAS No. 142 effective January 1, 2002 and
is no longer amortizing goodwill.
Under SFAS No. 142, goodwill is required to be tested annually and more
frequently if an event occurs which indicates the goodwill may be impaired. Upon
adoption of SFAS 142, as well as on December 31, 2003 and 2002, the Company
performed an impairment test of its goodwill and determined that no impairment
of the recorded goodwill existed.
NOTE 5 - RECENT ACCOUNTING PRONOUNCEMENTS
In January 2003, the FASB issued Interpretation No. 46, "CONSOLIDATION OF
VARIABLE INTEREST ENTITIES," and subsequently revised the Interpretation in
December 2003 ("FIN 46R"). This Interpretation of Accounting Research Bulletin
No. 51, "CONSOLIDATED FINANCIAL STATEMENTS," addresses consolidation by business
enterprises of variable interest entities, which have certain characteristics.
As revised, FIN 46R is now generally effective for financial statements for
interim periods or annual periods ending on or after March 15, 2004. We have not
identified any variable interest entities and the requirements of FIN 46R have
not had a material impact on our consolidated financial statements.
NOTE 6 - SALE OF LAND / CONVERSION OF PREFERRED STOCK
On August 2, 2004, the Company completed its agreement with American
International Industries, Inc. ("AII") dated June 23, 2004 to sell its five
tracts of undeveloped land to and accelerated the conversion of SurgiCare's
900,000 shares of Series AA Redeemable Preferred Stock ("Preferred Stock") held
by AII into 8,750,000 shares of SurgiCare common stock at the then current
market price of $0.35 per share. Under a previous agreement with AII dated
December 11, 2002, the 900,000 shares of preferred stock were originally
convertible into a maximum of 10,975,610 shares of SurgiCare common stock with a
preference value of $4.5 million and 300,000 shares of the Preferred Stock were
to be converted or redeemed annually through June 2006. Additionally, as part of
this transaction, SurgiCare released AII of its $4,000,000 guarantee of the
combined sales price of the five tracts of undeveloped land. AII also paid
SurgiCare $250,000 and paid off SurgiCare's loan (collateralized by the land) of
approximately $1.1 million. The transaction resulted in a charge to net income
as impairment on investment in land of $2,046,124.
10
NOTE 7 - DEBT
Loan agreements relating to the majority of the Company's credit lines,
notes payable and capital leases contain requirements for maintenance of defined
minimum financial ratios. The Company is not in compliance with all such
provisions as of September 30, 2004. Further, the Company is delinquent in
payments on the majority of its outstanding debt. All notes and capital leases
in default have been shown as current in these financial statements. On August
25, 2003 the Company's senior lender, DVI Business Credit Corp. and DVI
Financial Services, Inc. ("DVI") announced that it is seeking protection under
Chapter 11 of the United States Bankruptcy laws.
In July 2004, SurgiCare and Integrated Physician Solutions, Inc. (see Note
12 - SUBSEQUENT EVENTS) completed negotiations to settle the companies' combined
debt with DVI and U.S. Bank Corp., which totals $10.1 million. The settlement
calls for $6.5 million in payments to be made as follows: $2,000,000 payment at
the closing of the Transactions; $500,000 on the date 12 months after the
closing; $250,000 on the date 18 months after the closing; $2,500 per month for
the first 24 months after closing; $45,628 per month in years starting in the
25th month and continuing through the 72nd month after closing; and a $1,500,000
balloon payment at the completion of 72 months after closing.
The Company has historically financed its growth primarily though the
issuance of equity and secured and/or convertible debt. As of September 30,
2004, the Company does not have any credit facilities available with financial
institutions or other third parties to provide for working capital shortages.
Although the Company believes it will generate cash flow from operations in
future quarters, due to its debt load, it is not able to fund its current
operations solely from its cash flow.
In November 2003, SurgiCare completed a $470,000 financing for working
capital through the issuance of one-year convertible unsecured promissory notes
bearing interest at 10% per annum. The notes are convertible into shares of
Company common stock, at any time, at the option of the note holders. The
conversion price for the notes was equal to (a) $.35 per share, if the notes had
been converted on or prior to January 31, 2004, or (b) if the notes are
converted after January 31, 2004, the lower of (i) $0.25 or (ii) seventy-five
percent (75%) of the average closing price for the 20 trading days immediately
prior to the conversion date. Based on the relative fair value of the beneficial
conversion feature of the notes, a charge of $123,566 was recorded to interest
expense in the fourth quarter of 2003 and $206,693 in the first quarter of 2004.
The notes were not converted prior to January 31, 2004, and the charge in the
first quarter of 2004 reflects the change in conversion price after January 31,
2004. The note holders also received five-year warrants to purchase an aggregate
of 335,713 shares of Company common stock. The warrants may be exercised at an
exercise price of $0.35 per share, and may be exercised on a cashless basis at
the option of the holder. Based on the relative fair value of the warrants, a
discount of $76,834 was recorded at the time of issuance and is being amortized
to interest expense over the one-year term of the notes. The notes, which have a
balance of $320,000 as of the date of this filing, matured on October 31, 2004.
The Company is negotiating with the note holders to reach a settlement of the
debt.
In the nine months ended September 30, 2004, the Company borrowed
$1,900,411 from an affiliate of a participant in the proposed restructuring
transactions (See Note 12) to make necessary payments on debt and to fund
operations.
The Company believes that additional sales of debt and/or equity securities
will be required to continue operations. See Note 12- SUBSEQUENT EVENTS for a
description of a series of transactions recently approved by the Company's
stockholders that, if consummated, will involve an equity investment and
recapitalization of the Company. Prior to the closing of such contemplated
transactions, any additional sales of debt and/or equity by the Company will be
subject to the prior approval of the counterparties
11
to the applicable transactions. The Company can provide no assurance that it
will be successful in any future financing effort to obtain the necessary
working capital to support its operations, or fund acquisitions for its
anticipated growth. In the event that any future financing efforts are not
successful, the Company will be forced to liquidate assets and/or curtail
operations.
NOTE 8 - EARNINGS PER SHARE
Basic earnings per share are calculated on the basis of the weighted
average number of shares outstanding. Diluted earnings per share, in addition to
the weighted average determined for basic loss per share, include common stock
equivalents, which would arise from the exercise of stock options and warrants
using the treasury stock method, and assumes the conversion of the Company's
preferred stock for the period outstanding, since their issuance.
For the Three Months Ended For the Nine Months Ended
September 30, September 30,
-----------------------------------------------------------------------
2004 2003 2004 2003
-------------- ---------------- --------------- ---------------
Basic Loss Per Share:
Net Loss $(1,571,880) $(2,281,435) $(6,799,697) $(3,869,075)
============== ================ =============== ===============
Weighted average shares 30,493,252 24,883,175 29,085,252 24,451,747
outstanding
Dilutive stock options and
warrants (a) (a) (a) (a)
Conversion of preferred shares (b) (b)
Conversion of debt (c) (c) (c) (c)
-------------- ---------------- --------------- ---------------
Weighted average common shares
outstanding for diluted net loss
per share 30,493,252 24,883,175 29,085,252 24,451,747
============== ================ =============== ===============
Net loss per share - Basic $(.05) $(.09) $(.23) $(.16)
============== ================ =============== ===============
Net loss per share - Diluted
$(.05) $(.09) $(.23) $(.16)
============== ================ =============== ===============
The following potentially dilutive shares are not included because their effect
would be anti-dilutive due to the net loss for the period:
a. 8,084,298 and 10,923,558 options and warrants outstanding as of
September 30, 2004 and 30, 2003, respectively.
b. 900,000 shares of Series AA Preferred Stock convertible into
$4,500,000 of common shares as of September 30, 2003. 1,225,000 shares
of Series A Preferred stock convertible into 1,225,000 common shares
as of September 30, 2003.
c. $1,000,000 of debentures convertible into common stock at a price
equal to $1.50 per share at September 30, 2004 and September 30, 2003,
respectively. $470,000 of notes payable convertible into common stock
at a price of $.25 per share as of September 30, 2004.
12
NOTE 9 - LITIGATION
On April 14, 2003, SurgiCare, Inc. was named as a defendant in a suit
entitled A.I. International Corporate Holdings, Ltd. v. SurgiCare, Inc. in the
U.S. District Court for the Southern District of New York. Subsequently,
SurgiCare filed suit against A.I. International Corporate Holdings, Ltd. and
First National Bank, S.A.L. of Lebanon in the 215th Judicial District Court of
Harris County, Texas. The New York case involves allegations that SurgiCare
defaulted on its loan agreement. The plaintiffs in the New York case are suing
SurgiCare for $834,252 representing the loan amount and interest, plus $219,000,
representing damages for "No-filing Charges" and "Non-Effective Charges" under
the contract. SurgiCare's lawsuit in Texas asserted that the loan agreement is
usurious. The parties signed an agreement to settle this matter, which will
close after the consummation of the Transactions. Pursuant to this settlement,
SurgiCare will pay Plaintiffs $220,000 in cash and issue 2,100,000 shares of
SurgiCare common stock (210,000 shares after giving effect to the reverse stock
split contemplated in connection with the merger and equity transactions
discussed in Note 12), to be paid and issued after the closing of such
transactions.
In addition, we are involved in various other legal proceedings and claims
arising in the ordinary course of business. Our management believes that the
disposition of these additional matters, individually or in the aggregate, is
not expected to have a materially adverse effect on our financial condition.
However, depending on the amount and timing of such disposition, an unfavorable
resolution of some or all of these matters could materially affect our future
results of operations or cash flows in a particular period.
NOTE 10 - EMPLOYEE STOCK-BASED COMPENSATION
The Company accounts for its employee stock options and warrants under the
Accounting Principles Board Opinion No. 25, "ACCOUNTING FOR STOCK ISSUED TO
EMPLOYEES," and related interpretations. No stock-based employee compensation
cost is reflected in net loss, as all employee options and warrants granted had
an exercise price equal to the market value of the underlying common stock on
the date of grant.
13
The Company also grants options and warrants to non-employees for goods and
services and in conjunction with certain agreements. These grants are accounted
for under FASB Statement No. 123, "ACCOUNTING FOR STOCK-BASED COMPENSATION"
based on the grant date fair values.
The following table illustrates the effect on net loss and loss per share
if the Company had applied the fair value recognition provisions of FASB
Statement No. 123 to stock-based employee compensation.
Three Months Ended Nine Months Ended
------------------------------------------------------------------------
SEPTEMBER 30, SEPTEMBER 30, SEPTEMBER 30, SEPTEMBER 30,
-------------- -------------- -------------- -------------
2004 2003 2004 2003
---- ---- ---- ----
Net loss - as reported $ (1,571,880) $ (2,281,435) $ (6,799,697) $ (3,869,075)
Deduct: Total stock-based employee
compensation (expense determined under the
fair value based method for all awards),
net of tax effect (43,388) (52,725) (148,838) (158,175)
Pro forma net loss $ (1,615,268) $ (2,334,160) (6,948,535) (4,027,250)
Loss per share:
Basic net loss per share - as reported $(.05) $(.09) $(.23) $(.16)
Basic net loss per share - pro forma $(.05) $(.09) $(.24) $(.16)
Diluted net loss per share - as reported $(.05) $(.09) $(.23) $(.16)
Diluted net loss per share - pro forma $(.05) $(.09) $(.24) $(.16)
The above pro forma effects on net loss and net loss per share are not likely to
be representative of the effects on reported net earnings (loss) for future
years because options vest over several years and additional awards could be
made each year.
NOTE 11 - GUARANTEES
The Company is guarantor on a working capital line of credit for San
Jacinto Surgery Center, L.P. ("San Jacinto"), in which the Company owns a 10%
general partnership interest through a wholly owned subsidiary. As of September
30, 2004, the line of credit facility had a balance of $217,054 and is recorded
on San Jacinto's balance sheet, which is not consolidated with the Company's
financial statements. The line is secured by the accounts receivable and
equipment of San Jacinto. The line expires on February 2, 2005.
NOTE 12 - SUBSEQUENT EVENTS
We have negotiated a series of transactions that will restructure SurgiCare
and result in a change of control. The transactions include the acquisition of
three new businesses and issuance of new equity securities for cash and
contribution of outstanding debt. We also intend to complete a reverse stock
split and change our name to Orion. Our board of directors has approved all of
these actions and our stockholders approved these actions at a special meeting
of stockholders in lieu of an annual meeting held on October 6, 2004. Please
review our proxy statement for our special meeting of stockholders in lieu of an
annual meeting, filed with the SEC for the full details of the proposed
restructuring. The highlights of the financial transactions include:
o Effecting a one-for-ten reverse stock split and re-designating our
outstanding common stock as Class A common stock.
14
o Issuing a new class of common stock Class B common stock to Brantley
Partners IV, L.P., a private investor ("Brantley IV") or its assignees.
Brantley IV will purchase the Class B common stock for $10 million in cash
plus cash in the amount of the accrued but unpaid interest immediately
prior to the closing of the transactions owed to a subsidiary of Brantley
IV by SurgiCare and Integrated Physician Solutions, Inc. ("IPS") on
amounts advanced prior to October 24, 2003, which as of September 2, 2004
was $99,052. A portion of Brantley IV's cash investment will be used to
pay off the indebtedness owed by SurgiCare and IPS to the subsidiary of
Brantley IV. Based on the interest accrued on such indebtedness through
September 2, 2004, it is estimated that the net cash proceeds to SurgiCare
will be approximately $5,194,513. Based on the assumptions described in
the proxy statement, the shares to be received by Brantley IV or its
assignees will constitute approximately 59.2% of SurgiCare's outstanding
equity after the transactions on an as-converted basis. Brantley IV will
also receive the option to purchase shares of Class A stock for cash in an
amount up to an aggregate of $3 million after the closing of the
transactions.
o Acquiring IPS, a holding company whose two business units provide business
management services dedicated to the practice of pediatrics and integrated
business and clinical software applications for physicians, in a merger in
which we will issue Class A common stock to the IPS stockholders and
certain IPS creditors. Based on the assumptions described in the proxy
statement, after the transactions, former IPS stockholders and creditors
will own approximately 18.0% of our outstanding equity on an as-converted
basis.
o Acquiring Medical Billing Services, Inc. ("MBS"), and Dennis Cain
Physician Solutions, Ltd. ("DCPS"), two providers of physician management,
billing, consulting and collection services in an acquisition in which we
will pay between $2.9 million and $3.5 million cash and issue promissory
notes in the aggregate principal amount of $500,000 and Class C common
stock to the current equity holders of MBS and DCPS. The amount of
consideration received depends upon the fair market value of our common
stock at the time of the closing of the transactions, and the
consideration is also subject to retroactive increase or decrease,
including the issuance of additional shares of Class A common stock. We
will also issue shares of Class A common stock as directed by the DCPS and
MBS equity holders, and may be required to make additional payments in
certain circumstances. Based on the assumptions described in the proxy
statement, immediately after the transactions, the equity holders of these
two companies and their designees will own Class A common stock and Class
C common stock which may amount to as much as approximately 7.6% of our
outstanding equity on an as-converted basis.
These transactions are contingent upon refinancing SurgiCare's, IPS's and
MBS's debt. The transactions and the refinancing will provide SurgiCare with
increased revenues and earnings, an improved balance sheet and the opportunity
to grow the business.
15
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
------------------------------------------------------------------------
RESULTS OF OPERATIONS.
----------------------
FORWARD-LOOKING STATEMENTS
The information contained herein contains certain forward looking
statements within the meaning of Section 27A of the Securities Act of 1933, as
amended and Section 21E of the Securities Exchange Act of 1934, as amended,
which are intended to be covered by the safe harbors created thereby. Investors
are cautioned that all forward looking statements involve risks and uncertainty,
including, without limitation, our ability to continue our expansion strategy,
changes in federal or state healthcare laws and regulations or third party payor
practices, our historical and current compliance with existing or future
healthcare laws and regulations and third party payor requirements, changes in
costs of supplies, labor and employee benefits, as well as general market
conditions, competition and pricing. Although we believe that the assumptions
underlying the forward looking statements contained herein are reasonable, any
of the assumptions could be inaccurate, and therefore, there can be no assurance
that the forward looking statements included in this Form 10-QSB will prove to
be accurate. In view of the significant uncertainties inherent in the
forward-looking statements included herein, the inclusion of such information
should not be regarded as a representation by management or any other person
that our objectives and plans will be achieved. We undertake no obligation to
update or revise forward-looking statements to reflect changed assumptions, the
occurrence of unanticipated events or changes to future operating results over
time.
CRITICAL ACCOUNTING POLICIES
In December 2001, the SEC requested that reporting companies discuss their
most "critical accounting policies" in management's discussion and analysis of
financial condition and results of operations. The SEC indicated that a
"critical accounting policy" is one that is important to the portrayal of a
company's financial condition and operating results and requires management's
most difficult, subjective or complex judgments, often as a result of the need
to make estimates about the effect of matters that are inherently uncertain.
We have identified the policies below as critical to our business
operations and the understanding of our results of operations. The impact and
any associated risks related to these policies on our business operations is
discussed throughout Management's Discussion and Analysis of Financial Condition
and Results of Operations where such policies affect our reported and expected
financial results. For a detailed discussion on the application of this and
other accounting policies, see Notes 1 and 2 in the Notes to the Consolidated
Financial Statements of our Annual Report on Form 10-KSB. Our preparation of
this Form 10-QSB and our Annual Report on Form 10-KSB requires us to make
estimates and assumptions that affect the reported amounts of assets and
liabilities, disclosure of contingent assets and liabilities as of the date of
our financial statements. Therefore, actual results may differ from those
estimates.
REVENUE RECOGNITION - Revenue is recognized on the date the procedures are
performed, and accounts receivable are recorded at that time. Revenues are
reported at the estimated net realizable amounts from patients and third-party
payers. If such third-party payers were to change their reimbursement policies,
the effect on revenue could be significant. Earnings are charged with a
provision for contractual adjustments and doubtful accounts based on such
factors as historical trends of billing and cash collections, established fee
schedules, accounts receivable agings and contractual relationships with
third-party payers. Contractual allowances are estimated primarily using each
surgery center's collection experience. Contractual rates and fee schedules are
also helpful in this process. On a rolling average basis, the Company tracks
collections as a percentage of related billed charges. This percentage, which is
adjusted on a quarterly basis, has proved to be the best indicator of expected
net realizable amounts from patients and third-party payers. Contractual
adjustments and accounts deemed uncollectible are applied
16
against the allowance account. The Company is not aware of any material claims,
disputes or unsettled matters with third-party payers.
INVESTMENT IN LIMITED PARTNERSHIPS - The investments in limited
partnerships are accounted for by the equity method. Under the equity method,
the investment is initially recorded at cost and is subsequently increased to
reflect the Company's share of the income of the investee and reduced to reflect
the share of the losses of the investee or distributions from the investee.
These general partnership interests were accounted for as investment in
limited partnerships due to the interpretation of FAS 94/ARB 51 and the
interpretations of such by Issue 96-16 and SOP 78-9. Under those
interpretations, SurgiCare could not consolidate its interest in those
facilities in which it held a minority general interest partnership interest due
to management restrictions, shared operating decision- making, capital
expenditure and debt approval by limited partners and the general form versus
substance analysis. Therefore, SurgiCare recorded these general partnership
interests as investments in limited partnerships.
GOODWILL - Goodwill represents the excess of cost over the fair value of
net assets of companies acquired in business combinations accounted for using
the purchase method. Goodwill acquired in business combinations prior to June
30, 2001 had been amortized using the straight-line method over an estimated
useful life of 20 years. In July 2001, the Financial Accounting Standards Board
("FASB") issued Statement of Financial Accounting Standards ("SFAS") No. 141,
"Business Combinations," and SFAS No. 142, "Goodwill and Other Intangible
Assets." SFAS No. 141 requires that the purchase method of accounting be used
for all business combinations initiated after June 30, 2001. SFAS No. 142
requires that goodwill no longer be amortized but instead be reviewed
periodically for possible impairment. The Company has adopted SFAS No. 142
effective January 1, 2002 and is no longer amortizing goodwill.
Upon adoption of SFAS 142, as well as December 31, 2003 and 2002, the Company
performed an impairment test of its goodwill and determined that no impairment
of the recorded goodwill existed. Under SFAS No. 142, goodwill is tested
annually and more frequently if an event occurs which indicates the goodwill may
be impaired.
OVERVIEW
SurgiCare's principal business strategies are to (a) increase physician
utilization of existing facilities, (b) increase both the revenue and profits
from current cases and procedures being performed in existing facilities (c)
achieve growth and expand revenues by pursuing strategic acquisitions of
existing, and the development of new, physician owned ambulatory surgical
centers, and (d) expand into related healthcare facilities, including imaging,
surgical hospitals and practice management.
SurgiCare is in the process of identifying ambulatory surgical centers,
imaging centers and practice management companies as potential acquisition
targets and has, in some cases, conducted preliminary discussions with
representatives of these organizations. No commitments were made for new
acquisitions in the first nine months of 2004. Although there are no
commitments, understandings, or agreements with any other potential acquisition
targets, talks are ongoing for the acquisition of additional entities. All of
such discussions have been tentative in nature and there can be no assurance
that we will acquire any entity with whom discussions have been conducted.
17
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following table sets forth for the periods indicated the percentages of
revenues represented by income statement items.
THREE MONTHS NINE MONTHS
ENDED SEPTEMBER 30, ENDED SEPTEMBER 30,
----------------------- -----------------------
2004 2003 2004 2003
---- ---- ---- ----
Revenues, net 100.0% 100.0% 100.0% 100.00%
Expenses:
Direct Cost of Services 73.5% 64.1% 67.3% 57.3%
General & Administrative
Expenses 114.2% 80.5% 102.8% 76.6%
Other Operating Expenses
(Income) (11.1%) 62.4% 38.6% 12.3%
Total Operating Expenses 176.6% 207.0% 208.7% 146.2%
Operating Loss (76.6%) (107.0%) (108.7%) (46.2%)
Other Loss (35.4%) (26.4%) (34.5%) (19.7%)
Minority Interest in Losses of
Partnerships - (3.1%) - -
Loss Before Federal Income Tax
Expense (112.0%) (136.5%) (143.2%) (65.9%)
Federal Income Tax Expense Benefit - - - .2%
Net Earnings (Loss) (112.0%) (136.5%) (143.2%) (65.7%)
RESULTS OF OPERATIONS
THREE MONTHS ENDED SEPTEMBER 30, 2004 vs. THREE MONTHS ENDED SEPTEMBER 30, 2003
NET REVENUE. Case volume decreased 15.3% to 1,297 in the three months ended
September 30, 2004 from 1,531 in the 2003 comparable period. Revenue declined
$267,418, or 16.0% to $1,403,881 in the three months ended September 30, 2004,
from $1,671,299 in the comparable 2003 period. On a per-case basis, revenue
decreased marginally to $1,082 in the three months ended September 30, 2004 from
$1,092 in the 2003 comparable period. The average contractual allowance from
gross revenues was 73.2% in the three months ended September 30, 2004 compared
to 67.0% in the comparable 2003 period. The decrease in revenue is predominantly
due to the related decrease in case volume, although the Company has lost
minimal doctors who perform cases. Due to the length of time to complete the
pending transaction (see Note 12 to the accompanying consolidated financial
statements), and due to the uncertainty surrounding the Company's financial
condition, some physicians are splitting their caseload with other competing
surgery centers, which has resulted in the decrease in cases.
DIRECT COST OF REVENUES. Direct Cost of Revenues decreased $40,121, or 3.7%
to $1,032,057 in the three months ended September 30, 2004 from $1,072,178 in
the comparable 2003 period. Surgical costs decreased $45,946 or 12.8% to
$313,337 in the three months ended September 30, 2004 from $359,283 in the
comparable 2003 period primarily related to the decrease in revenue discussed
above.
18
Direct clinical salaries and benefits increased $12,607, or 2.5% to $509,961 in
the three months ended September 30, 2004 compared to $497,354 in the comparable
2003 period. These costs are predominantly fixed and the centers were already at
base staffing levels in 2003. Other direct costs decreased $6,782, or 3.2% to
$208,759 in the three months ended September 30, 2004 from $215,541 in the
comparable 2003 period.
GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative costs
increased $257,499, or 19.1% to $1,603,008 in the three months ended September
30, 2004 from $1,345,509 in the 2003 comparable period, primarily due to an
increase in the professional fees. Professional fees increased $257,683, or
153.8% to $ 425,217 in the three months ended September 30, 2004 from $167,534
in the 2003 comparable period due to legal, professional and accounting fees
related to the series of pending transactions that will restructure SurgiCare
and result in a change in control. The transactions include the acquisition of
three new businesses and issuance of new equity securities for cash and debt
forgiveness (see Note 12 to the accompanying consolidated financial statements).
OTHER OPERATING EXPENSES (INCOME). In the three months ended September 30,
2004, the Company recorded gains on the forgiveness of debt totaling $158,989
related to settlements of accounts payable with vendors.
In the three months ended September 30, 2003, the Company sold a promissory
note with a face amount of $223,177 to International Diversified Corporation
(IDC) for $160,000, incurring a loss of $63,177. The Company also agreed to
release IDC from its $400,000 obligation to the Company, which had been included
in other receivables. In addition to the cash consideration, SurgiCare was
released from any and all obligations regarding the raising of additional funds
for working capital and was released of all liabilities regarding the lawsuit
filed by IDC claiming breach of contract requesting the return of $1 million or
2,439,024 shares under a previous agreement with IDC and American International
Industries, Inc. A total loss of $463,177 was recorded as a loss on sale of
assets.
Also in the three months ended September 30, 2003, the Company recorded
impairment on its investment in land amounting to $579,386.
TOTAL OPERATING EXPENSES. Total Operating Expenses decreased $981,244, or
28.4% to $2,479,006 in the three months ended September 30, 2004 from $3,460,250
in the comparable 2003 period. As a percent of revenue, total expenses decreased
to 176.6% in the three months ended September 30, 2004 from 207.0% in the 2003
comparable period. The decreased costs, expressed both in dollars and as a
percentage of revenue, are related to the factors discussed above.
OTHER INCOME (EXPENSE). Total Other Income (Expense) increased $56,289, or
12.8% to $496,755 in the three months ended September 30, 2004 from $440,466 in
the 2003 comparable period. The increase was primarily due to an increase in
interest expense of $54,643 resulting from increased borrowings for working
capital purposes.
FEDERAL INCOME TAX BENEFIT. For the three months ended September 30, 2004,
the Company did not record a tax benefit on its pre-tax loss of $1,571,880 due
to a valuation allowance recorded against the Company's deferred tax assets. The
valuation allowance was necessary due to the uncertainty of recovery of the
deferred tax assets.
NET LOSS. Due to the factors discussed above, the Company's net loss
decreased $709,555, or 31.1% to $1,581,880 in the three months ended September
30, 2004 from $2,281,435 in the 2003 comparable period. Compared to the prior
year three-month period, the Company's operating results in the three months
ended September 30, 2004 were favorably impacted by the fact that there were no
19
significant losses on disposal of assets or land impairment. This was offset by
a decrease in gross margin of $227,297 (revenue minus direct cost of revenues).
NINE MONTHS ENDED SEPTEMBER 30, 2004 vs. NINE MONTHS ENDED JUNE 30, 2003
NET REVENUE. Case volume decreased 17.1% to 4,183 in the nine months ended
September 30, 2004 from 5,046 in the 2003 comparable period. Revenue declined
$1,143,063, or 19.4% to $4,747,365 in the nine months ended September 30, 2004,
from $5,890,428 in the comparable 2003 period. On a per-case basis, revenue
decreased to $1,135 in the nine months ended September 30, 2004 from $1,167 in
the 2003 comparable period. The average contractual allowance from gross
revenues was 75.2% in the nine months ended September 30, 2004 compared to 67.9%
in the comparable 2003 period. The decrease in revenue is predominantly due to
the related decrease in case volume, although the Company has lost minimal
doctors who perform cases. However, due to the length of time to complete the
pending transaction (see Note 12 to the accompanying consolidated financial
statements), and due to the uncertainty surrounding the Company's financial
condition, some physicians are splitting their caseload with other competing
surgery centers, which has resulted in the decrease in cases performed.
DIRECT COST OF REVENUES. Direct Cost of Revenues decreased $183,440, or
5.4% to $3,193,699 in the nine months ended September 30, 2004 from $3,377,139
in the comparable 2003 period. Surgical costs decreased $124,887, or 10.1% to
$1,106,082 in the nine months ended September 30, 2004 from $1,230,969 in the
comparable 2003 period. Direct clinical salaries and benefits increased $36,277,
or 2.6% to $1,460,798 in the nine months ended September 30, 2004 compared to
$1,424,521 in the comparable 2003 period. These costs are predominantly fixed
and the centers were already at base staffing levels in 2003. Other direct costs
decreased $94,830, or 13.1% to $626,819 in the nine months ended September 30,
2004 from $721,649 in the comparable 2003 period. The decrease is primarily
related to the revenue decrease and included decreases in contract nursing
($56,420) and patient transportation ($33,000).
GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative costs
increased $372,230, or 8.3% to $4,883,184 in the nine months ended September 30,
2004 from $4,510,954 in the 2003 comparable period, primarily due to an increase
in professional fees. Professional fees increased $684,082, or 100.3% to
$1,366,200 in the nine months ended September 30, 2004 from $682,118 in the
comparable 2003 period. In 2004, the Company recorded a charge of $202,000 to
professional fees related to a settlement with S.E. Altman on a "Finders Fee
Contract." The remaining increase is due to legal, professional and accounting
fees related to the series of pending transactions that will restructure
SurgiCare and result in a change in control. The transactions include the
acquisition of three new businesses and issuance of new equity securities for
cash and debt forgiveness (see Note 12 to the accompanying consolidated
financial statements). The increase in professional fees was offset by a
decrease in the Company's provision for doubtful accounts of $176,228, or 56.5%
to $135,420 in the nine months ended September 30, 2004 from $311,648 in the
comparable 2003 period primarily due to an increased focus on more timely and
accurate billings, which included outsourcing the billing and collections at its
centers in Houston, Texas. To a lesser extent, approximately $60,000 of the
decrease in the provision for doubtful accounts is due to the related decrease
in revenues.
OTHER OPERATING EXPENSES (INCOME). Other Operating Expenses (Income)
increased $1,107,963 to a net expense of $1,831,440 in the nine months ended
September 30, 2004 from $723,477 in the comparable 2003 period. In the nine
months ended September 30, 2004, the Company recorded an impairment charge of
$2,046,124 against its investment in land in connection with its sale of the
land in August 2004 (see Note 12, SUBSEQUENT EVENTS to the accompanying
financial statements). The Company also recorded gains on the forgiveness of
debt totaling $217,614 related to settlements of accounts payable with vendors.
20
In the nine months ended September 30, 2003, the Company recorded a gain of
$319,086 recognized on the sale of the Company's 10% interest in Physicians
Endoscopy Center. Additionally, the Company recorded impairment on its
investment in land amounting to $579,386.
Also in the nine months ended September 30, 2003, the Company also sold a
promissory note with a face amount of $223,177 to International Diversified
Corporation (IDC) for $160,000, incurring a loss of $63,177. The Company also
agreed to release IDC from its $400,000 obligation to the Company, which had
been included in other receivables. In addition to the cash consideration,
SurgiCare was released from any and all obligations regarding the raising of
additional funds for working capital and was released of all liabilities
regarding the lawsuit filed by IDC claiming breach of contract requesting the
return of $1 million or 2,439,024 shares under a previous agreement with IDC and
American International Industries, Inc. A total loss of $463,177 was recorded as
a loss on sale of assets.
TOTAL OPERATING EXPENSES. Total Operating Expenses increased $1,296,753, or
15.1% to $9,908,323 in the nine months ended September 30, 2004 from $8,611,570
in the comparable 2003 period. As a percent of revenue, total expenses increased
to 208.7% in the nine months ended September 30, 2004 from 146.2% in the 2003
comparable period. The increased costs, expressed both in dollars and as a
percentage of revenue, are related to the factors discussed above.
OTHER INCOME (EXPENSE). Total Other Income (Expense) increased $477,245, or
41.1% to $1,638,739 in the nine months ended September 30, 2004 from $1,161,494
in the 2003 comparable period. The increase was primarily due to an increase in
interest expense of $310,744, or 22.6% to $1,686,009 from $1,375,265 in the 2003
period. In the nine months ended September 30, 2004, the Company recorded a
$206,693 charge to interest expense, based on the change in relative fair value
of its convertible unsecured promissory notes (see Note 6 to the accompanying
consolidated financial statements). Since the notes were not converted by
January 31, 2004, the conversion price changed from $.35 per share to $.25 per
share. The remaining increase in interest expense of $104,051 was due to
additional borrowings for working capital purposes. Additionally, Equity in
Earnings of Limited Partnerships decreased by $143,055, or 76.6% between the two
comparable nine-month periods. The decrease is primarily attributable to the
Company's sale of its interest in Physicians Endoscopy Center in June 2003,
where in the nine months ended September 30, 2003, the Company's equity in that
center's earnings was $131,490.
FEDERAL INCOME TAX BENEFIT. For the nine months ended September 30, 2004,
the Company did not record a tax benefit on its pre-tax loss of $6,799,697 due
to a valuation allowance recorded against the Company's deferred tax assets. The
valuation allowance was necessary due to the uncertainty of recovery of the
deferred tax assets.
NET LOSS. Due to the factors discussed above, the Company's net loss
increased $2,930,622, or 75.7% to $6,799,697 in the nine months ended September
30, 2004 from $3,869,075 in the 2003 comparable period. The Company's operating
results were negatively impacted by: the land impairment increase of $1,466,738;
the decrease in gross margin of $959,623 (revenue minus direct cost of
revenues); the increase in professional fees of $684,082 due to the Altman
settlement and expenses related to the pending series of transactions; and the
increase in interest expense of $310,744 due to the charge related to the
beneficial conversion factor of the convertible notes and additional borrowings
for working capital purposes.
21
LIQUIDITY AND CAPITAL RESOURCES
Net cash used in operating activities was $1,162,659 and $991,336 for the
nine months ended September 30, 2004 and 2003, respectively. The primary reason
for the usage of cash is due to continued operating losses in both periods.
Net cash used in investing activities was $680,598 for the nine months
ended September 30, 2004. The Company purchased open MRI (magnetic resonance
imaging) equipment and related build-out totaling approximately $1.2 million, of
which $600,000 was financed through a capital lease and also purchased
approximately $190,000 of replacement equipment for it existing centers. The
Company also received proceeds of $103,932 from the land transaction (see Note 6
to the accompanying financial statements) after netting out closing and other
related costs.
Cash provided by investing activities for the nine months ended September
30, 2003 was $496,304, primarily due to the Company selling its ownership
interest in Physicians Endoscopy Center for $425,000 cash and the sale of a note
receivable for $160,000, offset by the buyout of a portion of its limited
partners in its surgery centers for $51,250.
Net cash provided by financing activities increased to $1,812,295 for the
nine months ended September 30, 2004 from $345,732 in the 2003 comparable
period. In the past, the Company has financed its working capital needs
primarily through the issuance of equity, secured and/or convertible debt. As of
September 30, 2004, SurgiCare does not have any credit facilities available with
financial institutions to provide for working capital shortages. In the nine
months ended September 30, 2004, the Company borrowed $1,900,411 from an
affiliate of a participant in the proposed restructuring transactions (See Note
12 to the accompanying unaudited financial statements) to make necessary
payments on debt and to fund operations.
In the nine months ended September 30, 2003, the Company raised cash of
$1,069,897 through the sale of common stock offset by net pay downs of credit
lines and other outstanding debt of approximately $929,000.
In the first nine months of 2004, the Company did not raise any substantial
funds through the sale of equity securities, though $16,535 was recorded on the
exercise of outstanding warrants. Although the Company believes it will generate
cash from operations in the future, due to its debt load, it is not able to fund
its current operations solely from its cash flow.
The Company believes that additional sales of debt and/or equity securities
will be required to continue operations. See Note 12 to the accompanying
unaudited financial statements for a description of a series of transactions
recently approved by the Company's stockholders on October 6, 2004 that, if
consummated, will involve an equity investment and recapitalization of the
Company. Prior to the closing of such contemplated transactions, any additional
sales of debt and/or equity by the Company will be subject to the prior approval
of the counterparties to the applicable transaction documents. The Company can
provide no assurance that it will be successful in any future financing effort
to obtain the necessary working capital to support its operations, or fund
acquisitions for its anticipated growth. In the event that any future financing
efforts are not successful, the Company will be forced to liquidate assets
and/or curtail operations.
As of September 30, 2004, the Company had cash and cash equivalents of
$110,591 and negative working capital of $13,613,103. SurgiCare has a total of
$4,982,151 in long-term debt and an additional $1,441,559 in revolving lines of
credit currently in default. SurgiCare has defaulted on certain provisions of
22
its Loan and Security Agreement with its senior lender, DVI Business Credit
Corporation and DVI Financial Services, Inc. ("DVI"). On August 25,2003, DVI
filed for protection under Chapter 11 of the U.S. Bankruptcy laws. Integrated
Physician Solutions, Inc. ("IPS") and SurgiCare completed negotiations with DVI,
which resulted in a decrease of their combined debt of approximately $10.1
million to a combined payout of approximately $6.5 million including a buy-out
of the revolving lines of credit. As part of that agreement, the companies have
executed a new loan agreement with U.S. Bank Portfolio Services ("USBPS"), as
servicer for payees, for payment of the revolving line of credit and
renegotiated the term loan amounts. The sum due to DVI at the closing of the
aforementioned merger and equity transactions is $2,000,000. As a part of that
transaction, the companies have signed a term sheet for a new revolving line of
credit, which will be used to pay off the DVI revolving line of credit.
ITEM 3. CONTROLS AND PROCEDURES
--------------------------------
EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES
We maintain a set of disclosure controls and procedures that are designed
to ensure that information required to be disclosed by us in the reports filed
by us under the Securities and Exchange Act of 1934, as amended ("Exchange
Act"), is recorded, processed, summarized and reported within the time periods
specified in the SEC's rules and forms. As of the end of the period covered by
this report, we evaluated, under the supervision and with the participation of
our management, including our President and Chief Executive Officer and our
Secretary and Chief Financial Officer, the effectiveness of our disclosure
controls and procedures pursuant to Rule 13a-15 of the Exchange Act. Based on
that evaluation, our President and Chief Executive Officer and our Chief
Financial Officer concluded that our disclosure controls and procedures are
effective.
CHANGES IN INTERNAL CONTROLS
During the most recent fiscal quarter, there have been no changes in our
internal controls over financial reporting that have materially affected, or are
reasonably likely to materially affect, our internal control over financial
reporting.
PART II
OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS.
---------------------------
On April 14, 2003, SurgiCare, Inc. was named as a defendant in a suit
entitled A.I. International Corporate Holdings, Ltd. v. SurgiCare, Inc. in the
U.S. District Court for the Southern District of New York. Subsequently,
SurgiCare filed suit against A.I. International Corporate Holdings, Ltd. and
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First National Bank, S.A.L. of Lebanon in the 215th Judicial District Court of
Harris County, Texas. The New York case involves allegations that SurgiCare
defaulted on its loan agreement. The plaintiffs in the New York case are suing
SurgiCare for $834,252 representing the loan amount and interest, plus $219,000,
representing damages for "No-filing Charges" and "Non-Effective Charges" under
the contract. SurgiCare's lawsuit in Texas asserts that the loan agreement is
usurious. The parties signed an agreement to settle this matter, which will
close after the consummation of the Transactions. Pursuant to this settlement,
SurgiCare will pay Plaintiffs $220,000 in cash and issue 2,100,000 shares of
SurgiCare common stock (210,000 shares after giving effect to the reverse stock
split contemplated in connection with the merger and equity transactions
discussed in Note 12 to the accompanying consolidated financial statements) to
be paid and issued after the closing of such transactions.
In addition, we are involved in various other legal proceedings and claims
arising in the ordinary course of business. Our management believes that the
disposition of these additional matters, individually or in the aggregate, is
not expected to have a materially adverse effect on our financial condition.
However, depending on the amount and timing of such disposition, an unfavorable
resolution of some or all of these matters could materially affect our future
results of operations or cash flows in a particular period.
ITEM 3. DEFAULT UPON SENIOR SECURITIES.
----------------------------------------
SurgiCare has defaulted on certain provisions of its Loan and Security
Agreement with its senior lender, DVI Business Credit Corporation and DVI
Financial Services, Inc. ("DVI"). On August 25, 2003, DVI filed for protection
under Chapter 11 of the U.S. Bankruptcy laws. IPS and SurgiCare completed
negotiations with DVI, which resulted in a decrease of their combined debt of
approximately $10.1 million to a combined payout of approximately $6.5 million
including a buy-out of the revolving lines of credit. As part of that agreement,
the companies have executed a new loan agreement with U.S. Bank Portfolio
Services ("USBPS"), as servicer for payees, for payment of the revolving line of
credit and renegotiated the term loan amounts. The sum due to DVI at the closing
of the aforementioned merger and equity transactions is $2,000,000. As a part of
that transaction, the companies have signed a term sheet for a new revolving
line of credit, which will be used to pay off the DVI revolving line of credit.
SurgiCare has defaulted on its convertible Debenture Agreement for failure
to file a registration statement for the resale of certain securities pursuant
to the agreement and has been sued by the primary
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debenture holder. The parties signed an agreement to settle this matter, which
will close after the consummation of the Transactions. Pursuant to this
settlement, SurgiCare will pay Plaintiffs $220,000 in cash and issue 2,100,000
shares of SurgiCare common stock (210,000 shares after giving effect to the
reverse stock split contemplated in connection with the merger and equity
transactions discussed in Note 12 to the accompanying consolidated financial
statements) to be paid and issued after the closing of such transactions.
SurgiCare has defaulted (subsequent to the end of the quarter ended
September 30, 2004) on its one-year convertible unsecured promissory notes
bearing interest at 10% per annum. The notes are convertible into shares of
Company common stock, at any time, at the option of the note holders. The notes,
which have a balance of $320,000 as of the date of this filing, matured on
October 31, 2004. The Company is negotiating with the note holders to reach a
settlement of the debt. See Note 7 to the accompanying unaudited financial
statements.
ITEM 6. EXHIBITS.
------------------------------------------
(a) Exhibits
EXHIBIT NO. DESCRIPTION
10.1 Agreement dated as of June 23, 2004 by and between
American International Industries, Inc., a Nevada
corporation ("AII"), and SurgiCare, Inc., a Delaware
corporation ("SurgiCare").
31.1 Rule 13a-14(a)/15d-14(a) Certification
31.2 Rule 13a-14(a)/15d-14(a) Certification
32.1 18 U.S.C. ss. 1350 Certification
32.2 18 U.S.C. ss. 1350 Certification
(b) Reports on Form 8-K
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SIGNATURES
In accordance with the requirements of the Exchange Act, the Registrant caused
this Report to be signed on its behalf by the undersigned, thereunto duly
authorized.
Date: November 18, 2004 REGISTRANT:
SurgiCare, Inc.
BY: /S/ KEITH G. LEBLANC
------------------------
Keith G. LeBlanc
President and Chief Executive Officer
BY: /S/ ROGER S. HUNTINGTON
----------------------------
Roger S. Huntington
Chief Financial Officer
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