10-Q 1 c05175e10vq.txt FORM 10-Q UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED MARCH 31, 2006 COMMISSION FILE NUMBER: 0-29302 TLC VISION CORPORATION (Exact name of registrant as specified in its charter) NEW BRUNSWICK, CANADA 980151150 (State or jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.)
5280 SOLAR DRIVE, SUITE 300 MISSISSAUGA, ONTARIO L4W 5M8 (Address of principal executive offices) (Zip Code)
Registrant's telephone, including area code: (905) 602-2020 Indicate by check mark whether the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. [ ] Yes [X] No Indicate by check mark whether the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Exchange Act. [ ] Yes [X] No 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 and 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. [X] Yes [ ] No Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of "accelerated filer and large accelerated filer" in Rule 12-b(2) of the Exchange Act. [ ] Large accelerated filer [X] Accelerated filer [ ] Non-accelerated filer Indicate by check mark whether the registrant is a shell company (as defined in Rule 12-b(2) of the Exchange Act). [ ] Yes [X] No As of May 8, 2006 there were 68,880,000 of the registrant's Common Shares outstanding. INDEX PART I. FINANCIAL INFORMATION Item 1. Consolidated Financial Statements (unaudited) Consolidated Statements of Operations for the three months ended March 31, 2006 and 2005 Consolidated Balance Sheets as of March 31, 2006 and December 31, 2005 Consolidated Statements of Cash Flows for the three months ended March 31, 2006 and 2005 Consolidated Statement of Changes in Stockholders' Equity for the three months ended March 31, 2006 Notes to Interim Consolidated Financial Statements Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations Item 3. Quantitative and Qualitative Disclosures about Market Risk Item 4. Controls and Procedures PART II. OTHER INFORMATION Item 1. Legal Proceedings Item 1A. Risk Factors Item 2. Unregistered Sales of Equity Securities and Use of Proceeds Item 3. Defaults Upon Senior Securities Item 4. Submission of Matters to a Vote of Security Holders Item 5. Other Information Item 6. Exhibits Signatures
2 PART I. FINANCIAL INFORMATION ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS TLC VISION CORPORATION CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED) (In thousands except per share amounts)
THREE MONTHS ENDED MARCH 31, ---------------------- 2006 2005 -------- ----------- AS RESTATED Revenues: Refractive: Centers ................................................. $47,939 $43,765 Access .................................................. 10,988 11,411 Other healthcare services .................................. 18,654 15,873 ------- ------- Total revenues ................................................ 77,581 71,049 ------- ------- Cost of revenues: Refractive: Centers.................................................. 31,888 28,529 Access .................................................. 7,515 7,410 Other healthcare services .................................. 12,986 10,151 ------- ------- Total cost of revenues ........................................ 52,389 46,090 ------- ------- Gross profit ............................................... 25,192 24,959 ------- ------- General and administrative .................................... 10,827 8,925 Marketing and sales 6,971 4,997 Research and development, clinical and regulatory ............. 1,475 1,344 Amortization of intangibles ................................... 864 1,011 Other expenses (income), net .................................. 492 (535) ------- ------- 20,629 15,742 ------- ------- Operating income .............................................. 4,563 9,217 Interest income ............................................... 1,013 1,072 Interest expense .............................................. (538) (458) Minority interests ............................................ 186 (686) Earnings from equity investments .............................. 923 659 ------- ------- Income before income taxes .................................... 6,147 9,804 Income tax expense ............................................ (3,435) (3,077) ------- ------- Net income .................................................... $ 2,712 $ 6,727 ======= ======= Earnings per share - basic .................................... $ 0.04 $ 0.10 ======= ======= Earnings per share - diluted .................................. $ 0.04 $ 0.09 ======= ======= Weighted average number of common shares outstanding - basic .. 68,756 70,036 Weighted average number of common shares outstanding - diluted .................................................... 69,550 72,045
See the accompanying notes to unaudited interim consolidated financial statements. 3 TLC VISION CORPORATION CONSOLIDATED BALANCE SHEETS (In thousands)
(UNAUDITED) MARCH 31, DECEMBER 31, 2006 2005 ----------- ------------ ASSETS Current assets: Cash and cash equivalents ............................. $ 45,735 $ 31,729 Short-term investments ................................ 29,912 38,213 Accounts receivable, net .............................. 21,541 20,583 Prepaid expenses, inventory and other ................. 16,816 17,123 --------- --------- Total current assets ............................... 114,004 107,648 Restricted cash .......................................... 1,010 975 Investments and other assets ............................. 20,110 19,838 Goodwill ................................................. 100,021 99,402 Other intangible assets, net ............................. 23,307 24,021 Fixed assets, net ........................................ 49,775 49,159 --------- --------- Total assets ............................................. $ 308,227 $ 301,043 ========= ========= LIABILITIES Current liabilities: Accounts payable ...................................... $ 10,423 $ 11,031 Accrued liabilities ................................... 29,171 24,453 Current maturities of long-term debt .................. 6,099 5,268 --------- --------- Total current liabilities........................... 45,693 40,752 Other long-term liabilities .............................. 3,198 3,427 Long term-debt, less current maturities .................. 12,115 12,665 Minority interests ....................................... 33,619 35,794 --------- --------- Total liabilities ........................................ 94,625 92,638 --------- --------- STOCKHOLDERS' EQUITY Common stock, no par value; unlimited number authorized .. 453,213 450,703 Option and warrant equity ................................ 1,836 1,861 Accumulated deficit ...................................... (241,447) (244,159) --------- --------- Total stockholders' equity ............................... 213,602 208,405 --------- --------- Total liabilities and stockholders' equity ............... $ 308,227 $ 301,043 ========= =========
See the accompanying notes to unaudited interim consolidated financial statements. 4 TLC VISION CORPORATION CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED) (In thousands)
THREE MONTHS ENDED MARCH 31, ---------------------- 2006 2005 -------- ----------- AS RESTATED OPERATING ACTIVITIES Net income ................................................................... $ 2,712 $ 6,727 Adjustments to reconcile net income to net cash from operating activities: Depreciation and amortization ............................................. 3,792 4,017 Deferred taxes ............................................................ 2,131 2,506 Excess tax benefits from stock-based compensation expense ................. (1,710) -- Minority interests ........................................................ (186) 686 Earnings from equity investments .......................................... (923) (659) Loss (gain) on sales and disposals of fixed assets ........................ 61 (96) Reimbursements from investments in research and development arrangements .. (300) -- Write-down of OccuLogix, Inc. inventory ................................... 1,625 -- Gain on sale of subsidiary ................................................ -- (319) Non-cash compensation expense ............................................. 612 69 Other ..................................................................... 26 -- Changes in operating assets and liabilities, net of acquisitions and dispositions: Accounts receivable .................................................... (1,089) (3,540) Prepaid expenses, inventory and other current assets ................... (1,175) (2,308) Accounts payable and accrued liabilities ............................... 3,383 (1,278) ------- -------- Cash from operating activities ............................................... 8,959 5,805 ------- -------- INVESTING ACTIVITIES Purchases of fixed assets .................................................... (2,349) (2,727) Proceeds from sales of fixed assets .......................................... 26 454 Proceeds from divestitures of investments and subsidiaries, net .............. -- 3,430 Distributions and loan payments received from equity investments ............. 1,333 556 Reimbursements from investments in research and development arrangements ..... 300 -- Acquisitions and equity investments .......................................... (1,474) (443) Proceeds from sales of short-term investments ................................ 9,925 38,750 Purchases of short-term investments .......................................... (1,650) (14,246) Other ........................................................................ (57) (125) ------- -------- Cash from investing activities ............................................... 6,054 25,649 ------- -------- FINANCING ACTIVITIES Restricted cash movement ..................................................... (35) 23 Principal payments of debt financing and capital leases ...................... (1,071) (4,219) Proceeds from debt financing ................................................. 83 1,117 Excess tax benefits from stock-based compensation expense .................... 1,710 -- Distributions to minority interests .......................................... (2,184) (1,977) Proceeds from issuances of common stock ...................................... 257 1,077 Proceeds from issuances of OccuLogix, Inc. stock ............................. 233 217 ------- -------- Cash from financing activities ............................................... (1,007) (3,762) ------- -------- Net increase in cash and cash equivalents during the period .................. 14,006 27,692 Cash and cash equivalents, beginning of period ............................... 31,729 33,435 ------- -------- Cash and cash equivalents, end of period ..................................... $45,735 $ 61,127 ======= ========
See the accompanying notes to unaudited interim consolidated financial statements. 5 TLC VISION CORPORATION CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY (UNAUDITED) (In thousands)
OPTION COMMON STOCK AND ----------------- WARRANT ACCUMULATED SHARES AMOUNT EQUITY DEFICIT TOTAL ------ -------- ------- ----------- -------- Balance December 31, 2005.................. 68,691 $450,703 $1,861 $(244,159) $208,405 Shares issued as part of the employee share purchase plan and 401(k) plan..... 38 217 217 Exercise of stock options.................. 82 166 (24) 142 Options expired or forfeited............... 1 (1) -- Stock-based compensation................... 285 285 Reversal of deferred tax asset valuation allowance for excess stock-based compensation tax deductions............. 1,710 1,710 Changes in OccuLogix, Inc.'s stockholders' equity.................... 131 131 Net income and comprehensive income........ 2,712 2,712 ------ -------- ------ --------- -------- Balance March 31, 2006..................... 68,811 $453,213 $1,836 $(241,447) $213,602 ====== ======== ====== ========= ========
See the accompanying notes to unaudited interim consolidated financial statements. 6 TLC VISION CORPORATION AND SUBSIDIARIES NOTES TO UNAUDITED INTERIM CONSOLIDATED FINANCIAL STATEMENTS March 31, 2006 (Unaudited) (Tabular amounts in thousands, except per share amounts) 1. BASIS OF PRESENTATION AND ACCOUNTING POLICIES The accompanying unaudited interim consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States for interim financial information and with the instructions to Form 10-Q. Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the United States for complete financial statements. The unaudited interim consolidated financial statements included herein should be read in conjunction with the Annual Report on Form 10-K for the year ended December 31, 2005 filed by TLC Vision Corporation (the "Company" or "TLCVision") with the Securities and Exchange Commission. In the opinion of management, all normal recurring adjustments and estimates considered necessary for a fair presentation have been included. The results of operations for the interim periods are not necessarily indicative of the results that may be expected for the entire year ending December 31, 2006. The consolidated financial statements as of December 31, 2005 and unaudited interim consolidated financial statements for the three months ended March 31, 2006 and 2005 include the accounts and transactions of the Company and its majority-owned subsidiaries that are not considered variable interest entities (VIEs) and all VIEs for which the Company is the primary beneficiary. All significant intercompany accounts and transactions have been eliminated. The unaudited interim consolidated financial statements for the three-month period ended March 31, 2005 include certain reclassifications to conform with classifications for the three-month period ended March 31, 2006. 2. ACCOUNTING CHANGES Depreciation Method On January 1, 2006, the Company changed its depreciation policy for the following asset classifications: furniture, fixtures and equipment; laser equipment; medical equipment; and vehicles and other. The Company has changed to the straight-line depreciation method from the 25% declining balance method for these assets. The change will be reflected prospectively in the Company's financial statements both for new assets acquired after January 1, 2006 and for assets previously held from that date forward. Management's decision to change was based on its judgment that straight-line depreciation provides a better method of reflecting the pattern of consumption of the assets being depreciated over their estimated useful lives given their characteristics and usage patterns. The Company has determined that the design and durability of these assets diminishes ratably over time, and it is therefore preferable to recognize the related cost uniformly over their estimated useful lives on a straight line basis. Based on the Company's fixed asset balance as of January 1, 2006 and anticipated current year capital expenditures, the anticipated effect of the change for fiscal year 2006 will be an increase to net income of approximately $1.6 million or $0.02 per diluted share. During the three months ended March 31, 2006, the change in depreciation method increased net income by approximately $0.1 million or less than $0.01 per diluted share. Stock-based Compensation On December 16, 2004, the Financial Accounting Standards Board ("FASB") issued Statement No. 123 (revised 2004), "Share-Based Payment," ("Statement 123(R)") effective January 1, 2006, which is a revision of FASB Statement No. 123, "Accounting for Stock-Based Compensation" ("Statement 123"). Generally, the approach in Statement 123(R) is similar to the approach described in Statement 123. However, Statement 123(R) requires all share-based payments to employees, including grants of employee stock options, to be recognized in the income statement based on their fair values. Under Statement 123(R), pro forma disclosure is no longer permitted. 7 Prior to January 1, 2006, the Company accounted for stock-based compensation utilizing the intrinsic value method in accordance with the provisions of Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees" and its related interpretations. Accordingly, no compensation expense was recognized for fixed option plans because the exercise prices of employee stock options equaled or exceeded the market prices of the underlying stock on the dates of grant. However, stock-based compensation has been included in pro forma disclosures in the financial statement footnotes in prior periods. Effective January 1, 2006, the Company adopted the fair value recognition provisions of Statement 123(R) using the modified prospective method of application, which requires the Company to recognize compensation expense on a prospective basis. Therefore, prior period financial statements have not been restated to recognize compensation expense under the provisions of Statement 123(R). Under this method, in addition to reflecting compensation expense for new stock-based awards, expense is also recognized to reflect the remaining service period of awards that had been included in pro forma disclosures in prior periods. Statement 123(R) also requires that excess tax benefits related to stock option exercises be reflected as financing cash inflows instead of operating cash inflows. Total stock-based compensation in the quarter ended March 31, 2006 was $612,000. Total stock-based compensation includes $285,000 ($176,000 after tax or less than $0.01 basic and diluted earnings per share) for TLCVision stock options and its Employee Share Purchase Plan, and $141,000 for the value of stock issued in connection with the Company's 401(k) matching program. Total stock-based compensation also includes $186,000 ($95,000 after minority interests) of stock-based compensation expense recorded by OccuLogix, Inc. in connection with its adoption of Statement 123(R). As of March 31, 2006, the total unrecognized compensation expense related to TLCVision non-vested employee awards was approximately $2.4 million. The unrecognized compensation expense will be recognized over the remaining vesting period, which expires December 31, 2009 for certain options. The following table illustrates the effect on net income and earnings per share as if Statement 123(R) had been applied to all outstanding awards for the three months ended March 31, 2005:
THREE MONTHS ENDED MARCH 31, 2005 --------------- Net income as reported ...................................................... $6,727 Add stock-based employee compensation cost included in net income ........... -- Less stock-based employee compensation cost determined under fair value based method for all awards, net of related tax effects .................. (483) Less OccuLogix, Inc.'s stock-based employee compensation cost determined under fair value based method for all awards, net of minority interests .. (227) ------ Pro forma net income ........................................................ $6,017 ====== Pro forma earnings per share - basic ........................................ $ 0.09 ====== Pro forma earnings per share - diluted ...................................... $ 0.08 ======
For awards granted prior to the adoption of Statement 123(R), the Company uses the attribution method under FASB Interpretation No. 28, "Accounting for Stock Appreciation Rights and Other Variable Stock Option Award Plans," to amortize stock-based compensation cost. For awards granted subsequent to the adoption of Statement 123(R), the Company uses the straight-line method to amortize stock-based compensation cost. The fair value of stock options granted to employees is estimated on the date of grant using the Black-Scholes option pricing model with the following weighted-average assumptions: risk-free interest rate of 4.4% and 3.2% for 2006 and 2005, respectively; expected dividend yield of 0%; expected life of 3 years and 2.5 years for 2006 and 2005, respectively; and expected volatility of 57% and 75% for 2006 and 2005, respectively. 3. RESTATEMENT OF CONSOLIDATED FINANCIAL STATEMENTS In conjunction with the issuance of the Company's consolidated financial statements for the year ended December 31, 2005, the Company restated its results for the first three quarters of 2005 to correct its accounting 8 for income taxes. Accordingly, the consolidated financial statements for the three months ended March 31, 2005, included herein, have been restated. During the three months ended March 31, 2005, the Company reversed a portion of its deferred tax asset valuation allowance as a reduction to income tax expense. Due to limitations on the availability of certain portions of the Company's net operating loss carryforwards, the Company has determined that the deferred tax asset valuation allowance reversals in the three months ended March 31, 2005 should have been recorded primarily to goodwill and equity. The adjustment to income tax expense was $2.9 million for the three months ended March 31, 2005 and is primarily a non-cash item. The restatement had the effect of reducing each of basic and diluted earnings per share by $0.04 for the three months ended March 31, 2005. 4. ACQUISITIONS AND DISPOSITIONS On March 1, 2005, the Company sold its interest in Aspen Healthcare, Inc. to National Surgical Centers, Inc. and recorded a gain of $0.3 million, which is included in other operating expenses (income). The Company's strategy includes periodic acquisitions of or investments in entities that operate in the refractive, cataract or eye care markets. During the three months ended March 31, 2006, the Company paid over $1 million to acquire or invest in several entities, none of which were individually material. 5. OTHER EXPENSES (INCOME), NET Other expenses (income), net includes the following operating items:
THREE MONTHS ENDED MARCH 31, ---------------------------- 2006 2005 ----- ----- Loss (gain) on sales and disposals of fixed assets ..... $ 61 $ (96) Center closing costs ................................... 8 135 Gain on sale of subsidiary ............................. -- (319) Reimbursements from previous research and development arrangements ........................................ (300) -- OccuLogix, Inc. severance accruals ..................... 820 -- Miscellaneous income ................................... (97) (255) ----- ----- $ 492 $(535) ===== =====
6. EARNINGS PER SHARE The following table sets forth the computation of diluted earnings per share:
THREE MONTHS ENDED MARCH 31, ---------------------------- 2006 2005 ------- ------- Net income ..................................... $ 2,712 $ 6,727 Weighted-average shares outstanding - basic .... 68,756 70,036 Dilutive effect of stock options and warrants .. 794 2,009 ------- ------- Weighted-average shares outstanding - diluted .. 69,550 72,045 Earnings per share - diluted ................... $ 0.04 $ 0.09 ======= =======
7. SEGMENT INFORMATION The Company has four reportable segments: refractive, mobile cataract, optometric franchising and age-related macular degeneration ("AMD"). The refractive segment provides the majority of the Company's revenue and is in the business of providing corrective laser surgery specifically related to refractive disorders, such as myopia (nearsightedness), hyperopia (farsightedness) and astigmatism. This segment is comprised of laser centers and the fixed and mobile access business. The mobile cataract segment provides surgery specifically for the treatment of cataracts. The optometric franchising segment provides marketing, practice development and purchasing power to independently-owned and operated optometric practices in the United States. The AMD 9 segment primarily includes the Company's majority interest in OccuLogix (see Note 9). The AMD segment is pursuing commercial applications for treatments of dry age-related macular degeneration. Other includes an accumulation of other healthcare business activities including the management of cataract and secondary care centers that provide advanced levels of eye care. None of the businesses in the other segment meet the quantitative criteria to be disclosed separately as a reportable segment. The Company's reportable segments are strategic business units that offer different products and services. They are managed separately because each business requires different management and marketing strategies. The Company's reportable segments are as follows:
THREE MONTHS ENDED MARCH 31, 2006 MOBILE OPTOMETRIC (IN THOUSANDS) REFRACTIVE CATARACT FRANCHISING AMD OTHER TOTAL --------------------------------- ---------- -------- ----------- ------- ------ -------- Revenues ............................. $58,927 $7,942 $4,159 $ -- $6,553 $ 77,581 Expenses: ............................ Operating ......................... 49,190 6,912 2,553 5,877 4,694 69,226 Depreciation and amortization ..... 2,720 631 14 34 393 3,792 ------- ------ ------ ------- ------ ------ 51,910 7,543 2,567 5,911 5,087 73,018 ------- ------ ------ ------- ------ ------ Income (loss) from operations ........ 7,017 399 1,592 (5,911) 1,466 4,563 Interest income (expense) ............ 615 (28) (95) 366 (383) 475 Minority interests ................... (999) -- (734) 2,715 (796) 186 Earnings from equity investments ..... 416 -- -- -- 507 923 ------- ------ ------ ------- ------ ------ Income (loss) before income taxes ............................. 7,049 371 763 (2,830) 794 6,147 Income taxes ......................... (3,435) -------- Net income ........................... $ 2,712 ========
THREE MONTHS ENDED MARCH 31, 2005 MOBILE OPTOMETRIC (IN THOUSANDS) REFRACTIVE CATARACT FRANCHISING AMD OTHER TOTAL --------------------------------- ---------- -------- ----------- ------- ------ ------- Revenues.............................. $55,176 $6,738 $3,536 $ 431 $5,168 $71,049 Expenses: Operating ......................... 42,289 5,664 2,210 3,881 3,771 57,815 Depreciation and amortization ..... 3,006 635 10 46 320 4,017 ------ ------ ------ ------- ------ ------- 45,295 6,299 2,220 3,927 4,091 61,832 ------ ------ ------ ------- ------ ------- Income (loss) from operations ........ 9,881 439 1,316 (3,496) 1,077 9,217 Interest income (expense) ............ 697 (27) (122) 355 (289) 614 Minority interests ................... (1,006) -- (585) 1,499 (594) (686) Earnings from equity investments ..... 395 -- -- -- 264 659 ------ ------ ------ ------- ------ ------- Income (loss) before income taxes .............................. 9,967 412 609 (1,642) 458 9,804 Income taxes ......................... (3,077) ------- Net income ........................... $ 6,727 =======
8. SUPPLEMENTAL CASH FLOW INFORMATION Non-cash transactions:
THREE MONTHS ENDED MARCH 31, ---------------------------- 2006 2005 ------ ---- Capital lease obligations relating to equipment purchases ..................................... $1,435 $152 Inventory contributed to OccuLogix, Inc. ......... 25 -- Option and warrant reduction ..................... 25 777
Cash paid for the following:
THREE MONTHS ENDED MARCH 31, ---------------------------- 2006 2005 ---- ---- Interest ...... $538 $627 Income taxes .. 688 249
10 9. SUBSEQUENT EVENT On April 11, 2006, the Company sold 800,000 shares of OccuLogix, Inc. common stock. After the sale of stock, the Company owns approximately 49% of OccuLogix, Inc. Effective April 11, 2006, the Company will deconsolidate OccuLogix, Inc. and begin accounting for its investment under the equity method. 11 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS This Quarterly Report on Form 10-Q (herein, together with all amendments, exhibits and schedules hereto, referred to as the "Form 10-Q") contains certain forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934, which statements can be identified by the use of forward looking terminology, such as "may," "will," "expect," "anticipate," "estimate," "plans," "intends" or "continue" or the negative thereof or other variations thereon or comparable terminology. The Company's actual results could differ materially from those anticipated in these forward-looking statements as a result of certain factors, including but not limited to those set forth elsewhere in this Form 10-Q in the section entitled "Management's Discussion and Analysis of Financial Condition and Results of Operations" and in the Company's Annual Report on Form 10-K for the period ended December 31, 2005. Unless the context indicates or requires otherwise, references in this Form 10-Q to the "Company" or "TLCVision" shall mean TLC Vision Corporation and its subsidiaries. References to "$" or "dollars" shall mean U.S. dollars unless otherwise indicated. References to "C$" shall mean Canadian dollars. References to the "Commission" shall mean the U.S. Securities and Exchange Commission. OVERVIEW TLC Vision Corporation and its subsidiaries comprise a diversified healthcare services company focused on working with eye doctors to help them provide high quality patient care primarily in the eye care segment. The majority of the Company's revenues come from refractive surgery, which involves using an excimer laser to treat common refractive vision disorders such as myopia (nearsightedness), hyperopia (farsightedness) and astigmatism. The Company's business models include arrangements ranging from owning and operating fixed site centers to providing access to lasers through fixed site and mobile service relationships. In addition to refractive surgery, the Company is diversified into other eye care businesses. Through its MSS, Inc. subsidiary, the Company furnishes hospitals and independent surgeons with mobile or fixed site access to cataract surgery equipment and services. Through its OR Partners and Michigan subsidiaries, TLCVision develops, manages and has equity participation in single-specialty eye care ambulatory surgery centers and multi-specialty ambulatory surgery centers. The Company also owns a 51% majority interest in Vision Source, which provides franchise opportunities to independent optometrists. Until April 11, 2006, the Company was a 51% majority owner of OccuLogix, Inc., a public company focused on the treatment of a specific eye disease known as dry age-related macular degeneration, via rheopheresis, a process for filtering blood (see Note 9). The Company serves surgeons who performed over 73,000 procedures, including refractive and cataract procedures, at the Company's centers or using the Company's equipment during the three months ended March 31, 2006. The Company continually assesses patient, optometric and ophthalmic industry trends and developing strategies to improve laser vision correction revenues and procedure volumes. Additionally, it is pursuing growth initiatives and investment opportunities in the refractive market and within its other healthcare services. RECENT DEVELOPMENTS The Company's strategy includes periodic acquisitions of or investments in entities that operate in the refractive, cataract or eye care markets. During the three months ended March 31, 2006, the Company paid over $1 million to acquire or invest in several entities, none of which were individually material. RESULTS OF OPERATIONS THREE MONTHS ENDED MARCH 31, 2006 COMPARED TO THE THREE MONTHS ENDED MARCH 31, 2005 Total revenues for the three months ended March 31, 2006 were $77.6 million, an increase of $6.6 million, or 12 9% over revenues of $71.0 million for the three months ended March 31, 2005. This increase was due to a 7% increase in refractive revenues and a 18% increase in other healthcare services revenues. Revenues from the refractive segment for the three months ended March 31, 2006 were $58.9 million, an increase of $3.7 million or 7% from revenues of $55.2 million for the three months ended March 31, 2005. Refractive revenues increased as a result of an increased mix of higher priced procedures, primarily Custom LASIK and Intralase. Refractive revenues also increased due to a higher number of centers resulting from acquisitions and de novo centers opened during the past year. These increases were partially offset by a decrease in refractive procedures. Refractive procedures for the three months ended March 31, 2006 were approximately 56,100, a decrease of 2,600 or 4% from refractive procedures of 58,700 for the three months ended March 31, 2005. Procedures for Laser Eye Care of California ("LECC") were included in both periods and account for 5,000 procedures for the three months ended March 31, 2006, an increase of 200 procedures over the prior year period. The Company owns a 30% interest in LECC. Revenues from centers for the three months ended March 31, 2006 were $47.9 million, an increase of $4.1 million, or 10% from revenues of $43.8 million for the three months ended March 31, 2005. The increase in revenues from centers was due to an increased mix of higher priced procedures and a higher number of centers resulting from acquisitions and de novo centers opened during the past year. These increases were partially offset by a decrease in centers procedures. For the three months ended March 31, 2006, centers procedures were approximately 35,100, a decrease of 300 or 1% from centers procedures of 35,400 for the three months ended March 31, 2005. Revenues from access services for the three months ended March 31, 2006 were $11.0 million, a decrease of $0.4 million or 4% from revenues of $11.4 million for the three months ended March 31, 2005. The decline in access revenues was primarily due to 2,400 or 10% fewer procedures, partially offset by higher average pricing due to an increase in Custom LASIK procedures. Revenues from other healthcare services for the three months ended March 31, 2006, were $18.7 million, an increase of $2.8 million or 18% from revenues of $15.9 million for the three months ended March 31, 2005. Approximately 24% of total revenues for the three months ended March 31, 2006 were derived from other healthcare services compared to 22% for the three months ended March 31, 2005. The increase in other healthcare services revenues resulted from internal growth of existing businesses and contributions from businesses acquired within the past year. The cost of refractive revenues for the three months ended March 31, 2006 was $39.4 million, an increase of $3.5 million, or 10% over the cost of refractive revenues of $35.9 million for the three months ended March 31, 2005. This increase was primarily attributable to higher costs associated with higher priced procedures and the operations of new centers acquired or opened in the past year partially offset by a decrease in refractive procedures. Gross margins for the refractive business as a whole decreased to 33% during the three months ended March 31, 2006 from 35% in the prior year period. The cost of revenues from centers for the three months ended March 31, 2006 was $31.9 million, an increase of $3.4 million, or 12% from the cost of revenues of $28.5 million for the three months ended March 31, 2005. This increase was primarily attributable to higher costs associated with higher priced procedures and the operations of new centers acquired or opened in the past year partially offset by a decrease in centers procedures. Gross margins for centers decreased to 33% during the three months ended March 31, 2006 from 35% in the prior year period. The cost of revenues from access services for the three months ended March 31, 2006 was $7.5 million, an increase of $0.1 million or 1% from the cost of revenues of $7.4 million during the three months ended March 31, 2005. This increase was primarily attributable to higher costs associated with higher priced procedures partially offset by a decrease in access procedures. Gross margins decreased to 32% during the three months ended March 31, 2006 from 35% in the prior year period. The cost of revenues from other healthcare services for the three months ended March 31, 2006 was $13.0 million, an increase of $2.8 million or 28% from cost of revenues of $10.2 million for the three months ended March 31, 2005. The increase in cost of revenues primarily related to a $1.1 million increase from the AMD segment, 13 which included a $1.6 million write-down of OccuLogix, Inc. inventory. The remaining increase is due to incremental costs incurred to generate the increased revenues of the other healthcare services business. For the three months ended March 31, 2006, gross margins decreased to 30% from 36% for the prior year period. Excluding the $1.6 million write-down of OccuLogix, Inc. inventory, gross margins increased to 39% primarily due to growth in the Company's optometric franchising segment, which has high gross margins within the Company's other healthcare services businesses. General and administrative expenses increased to $10.8 million for the three months ended March 31, 2006 from $8.9 million for the three months ended March 31, 2005. The $1.9 million or 21% increase included a $0.1 million decrease from the AMD segment as OccuLogix, Inc. continues to research the data of its clinical trials related to its rheopheresis application to the United States Food and Drug Administration ("FDA"). The remaining $2.0 million increase was primarily due to costs related to businesses acquired or opened within the past year and stock-based compensation attributable to the adoption of Statement 123(R). Marketing expenses increased to $7.0 million for the three months ended March 31, 2006 from $5.0 million for the three months ended March 31, 2005. The $2.0 million or 40% increase was primarily due to costs related to businesses acquired or opened within the past year including marketing costs related to the Company's LASIK Select centers. Research and development, clinical and regulatory expenses increased to $1.5 million for the three months ended March 31, 2006 from $1.3 million for the three months ended March 31, 2005. Research and development, clinical and regulatory expenses were incurred by OccuLogix, Inc. as it conducted clinical trials related to its rheopheresis application to the FDA. For the three months ended March 31, 2006, other operating expenses, net of $0.5 million primarily included $0.8 million of severance accruals at OccuLogix, Inc., partially offset by a $0.3 million reimbursement received under a previous research and development arrangement. For the three months ended March 31, 2005, other operating income, net of $0.5 million primarily included a $0.3 million gain on the sale of a subsidiary and $0.3 million of miscellaneous income. Interest income decreased to $1.0 million for the three months ended March 31, 2006 from $1.1 million for the three months ended March 31, 2005. This $0.1 million decrease is primarily due to a decrease in the Company's cash and cash equivalents and short-term investments balances partially offset by higher rates of return. Interest expense was $0.5 million for the three months ended March 31, 2006 and 2005. Minority interests decreased to $0.2 million of income for the three months ended March 31, 2006 from $0.7 million of expense for the three months ended March 31, 2005. This $0.9 million decrease included a $1.2 million decrease from the AMD segment. This decrease was partially offset by a $0.3 million increase from the Company's other business segments. Earnings from equity investments increased to $0.9 million for the three months ended March 31, 2006 from $0.7 million for the three months ended March 31, 2005. This $0.2 million increase was primarily due to an increase in earnings of $0.1 million from LECC and $0.1 million of earnings from an ASC in which the Company acquired a minority ownership in the fourth quarter of 2005. Income tax expense increased to $3.4 million for the three months ended March 31, 2006 from $3.1 million for the three months ended March 31, 2005. This $0.3 million increase was primarily due to the nature of the valuation allowance released on the reversal of temporary differences and the net operating loss carryforwards that were utilized for each respective three-month period. For the three months ended March 31, 2005, the Company utilized certain net operating loss carryforwards that reduced income tax expense and the effective tax rate. For the three months ended March 31, 2006, the Company utilized certain net operating loss carryforwards and deducted certain temporary differences that reduced goodwill and increased equity but did not reduce income tax expense. Therefore, the Company's effective tax rate was higher for the three months ended March 31, 2006 than the prior year period. Net income for the three months ended March 31, 2006 decreased to $2.7 million or $0.04 per diluted share from 14 $6.7 million or $0.09 per diluted share for the three months ended March 31, 2005. This $4.0 million decrease included a $1.2 million decrease from the AMD segment. Excluding the impact of the AMD segment, net income decreased to $5.5 million or $0.08 per diluted share for the three months ended March 31, 2006 from $8.4 million or $0.12 per diluted share for the prior year period. LIQUIDITY AND CAPITAL RESOURCES During the three months ended March 31, 2006, the Company continued to focus its activities primarily on expanding its refractive centers and other healthcare businesses through internal growth and acquisitions. Cash and cash equivalents, short-term investments and restricted cash were $76.7 million at March 31, 2006 compared to $70.9 million at December 31, 2005. Working capital at March 31, 2006 was $68.3 million, an increase of $1.4 million from $66.9 million at December 31, 2005. The Company's principal cash requirements have included normal operating expenses, debt repayment, distributions to minority partners, capital expenditures, acquisitions and investments. During the three months ended March 31, 2006, the Company invested $2.3 million in fixed assets and received vendor lease financing for $1.4 million. As new technologies emerge in the refractive market, the Company may need to upgrade its equipment, including excimer lasers and flap-making technology. The Company has access to vendor financing at fixed interest rates or on a per procedure fee basis and expects to continue to have access to these financing options for at least the next 12 months. The Company estimates that existing cash balances and short-term investments, together with funds expected to be generated from operations and credit facilities, will be sufficient to fund the Company's anticipated level of operations and expansion plans for at least the next 12 to 18 months. CASH FROM OPERATING ACTIVITIES Net cash provided by operating activities was $9.0 million for the three months ended March 31, 2006. The cash flows provided by operating activities during the three months ended March 31, 2006 were primarily due to net income of $2.7 million and a decrease in net operating assets of $1.1 million plus non-cash items including depreciation and amortization of $3.8 million, deferred taxes of $2.1 million, write-down of OccuLogix, Inc. inventory of $1.6 million and stock-based compensation of $0.6 million. These cash flows were partially offset by excess tax benefits from stock-based compensation expense of $1.7 million, earnings from equity investments of $0.9 million and minority interest income of $0.2 million. The decrease in net operating assets consisted of a $3.4 million increase in accounts payable and accrued liabilities partially offset by a $1.1 million increase in accounts receivable due primarily to higher revenues during the seasonably strong first quarter, and a $1.2 million increase in prepaid expenses and other current assets. Excluding the impact of the AMD segment, net cash provided by operating activities would have been $13.8 million for the three months ended March 31, 2006. CASH FROM INVESTING ACTIVITIES Net cash provided by investing activities was $6.1 million for the three months ended March 31, 2006. The cash flows provided by investing activities during the three months ended March 31, 2006 primarily included net proceeds from the sales and purchases of short-term investments of $8.3 million, distributions and loan payments received from equity investments of $1.3 million and a reimbursement of a previous research and development arrangement of $0.3 million. These cash flows were partially offset by capital expenditures of $2.3 million and acquisitions and investments of $1.5 million. Excluding the impact of the AMD segment, cash used in investing activities would have been $3.8 million for the three months ended March 31, 2006. CASH FROM FINANCING ACTIVITIES Net cash used in financing activities was $1.0 million for the three months ended March 31, 2006. Net cash used in financing activities during the three months ended March 31, 2006 was primarily related to the repayment of 15 certain notes payable and capitalized lease obligations of $1.1 million and distributions to minority interests of $2.2 million, partially offset by excess tax benefits from stock-based compensation expense of $1.7 million, proceeds from issuances of common stock of $0.3 million and proceeds from issuances of OccuLogix, Inc. common stock of $0.2 million. Excluding the impact of the AMD segment, net cash used in investing activities would have been $1.2 million for the three months ended March 31, 2006. SUBSEQUENT EVENT On April 11, 2006, the Company sold 800,000 shares of OccuLogix, Inc. common stock. After the sale of stock, the Company owns approximately 49% of OccuLogix, Inc. Effective April 11, 2006, the Company will deconsolidate OccuLogix, Inc. and begin accounting for its investment under the equity method. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK In the ordinary course of business, the Company is exposed to interest rate risks and foreign currency risks, which the Company does not currently consider to be material. These exposures primarily relate to having short-term investments earning short-term interest rates and having fixed rate debt. The Company views its investment in foreign subsidiaries as a long-term commitment and does not hedge any translation exposure. ITEM 4. CONTROLS AND PROCEDURES The Company maintains disclosure controls and procedures that are designed to ensure that information required to be disclosed in the Company's reports under the Securities Exchange Act of 1934, as amended (the "Exchange Act") is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission's rules and forms, and that such information is accumulated and communicated to the Company's management, including its Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure. In designing and evaluating the disclosure controls and procedures, management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, and management necessarily is required to apply its judgment in evaluating the cost-benefit relationship of possible controls and procedures. As of the end of the period covered by the report, the Company carried out an evaluation, under the supervision and with the participation of the Company's management, including the Company's Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of the Company's disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) of the Exchange Act). Based on that evaluation, the Company's Chief Executive Officer and Chief Financial Officer concluded that the Company's disclosure controls and procedures were effective, in all material respects, to ensure that information required to be disclosed in the reports the Company files and submits under the Exchange Act is recorded, processed, summarized and reported as and when required. There have been no significant changes in the Company's internal controls over financial reporting that have materially affected, or are reasonably likely to materially affect the Company's internal control over financial reporting. PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS There have been no material changes in legal proceedings from that reported in the Company's Annual Report on Form 10-K for the year ended December 31, 2005. ITEM 1A. RISK FACTORS Not applicable. 16 ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS Not applicable. ITEM 3. DEFAULTS UPON SENIOR SECURITIES Not applicable. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS Not applicable. ITEM 5. OTHER INFORMATION Not applicable. ITEM 6. EXHIBITS 18 Letter from Ernst & Young LLP regarding change in accounting principle 31.1 CEO's Certification required by Rule 13a-14(a) of the Securities Exchange Act of 1934, as amended 31.2 CFO's Certification required by Rule 13a-14(a) of the Securities Exchange Act of 1934, as amended 32.1 CEO's Certification of periodic financial report pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, U.S.C. Section 1350. 32.2 CFO's Certification of periodic financial report pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, U.S.C. Section 1350 17 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. TLC VISION CORPORATION By: /s/ James C. Wachtman ------------------------------------ James C. Wachtman Chief Executive Officer May 9, 2006 By: /s/ Steven P. Rasche ------------------------------------ Steven P. Rasche Chief Financial Officer May 9, 2006 18 EXHIBIT INDEX
NO. DESCRIPTION --- ----------- 18 Letter from Ernst & Young LLP regarding change in accounting principle 31.1 CEO's Certification required by Rule 13a-14(a) of the Securities Exchange Act of 1934, as amended. 31.2 CFO's Certification required by Rule 13a-14(a) of the Securities Exchange Act of 1934, as amended. 32.1 CEO's Certification of periodic financial report pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, U.S.C. Section 1350. 32.2 CFO's Certification of periodic financial report pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, U.S.C. Section 1350
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