-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, MYsA36/MOlQjRyhKiC9m62zbIwX6a43bbFZ/szTBvX8ORCWGJGNQp4dsQnRyum+V PYS6bgTzGm8O9c+jQ9S3pA== 0000892569-97-000988.txt : 19970414 0000892569-97-000988.hdr.sgml : 19970414 ACCESSION NUMBER: 0000892569-97-000988 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 4 CONFORMED PERIOD OF REPORT: 19970228 FILED AS OF DATE: 19970411 SROS: NYSE FILER: COMPANY DATA: COMPANY CONFORMED NAME: COMPREHENSIVE CARE CORP CENTRAL INDEX KEY: 0000022872 STANDARD INDUSTRIAL CLASSIFICATION: SERVICES-HOSPITALS [8060] IRS NUMBER: 952594724 STATE OF INCORPORATION: DE FISCAL YEAR END: 0531 FILING VALUES: FORM TYPE: 10-Q SEC ACT: 1934 Act SEC FILE NUMBER: 001-09927 FILM NUMBER: 97579243 BUSINESS ADDRESS: STREET 1: 1111 BAYSIDE DRIVE, 100 CITY: CORONA DEL MAR STATE: CA ZIP: 92625 BUSINESS PHONE: 7147199797 MAIL ADDRESS: STREET 1: 1111 BAYSIDE DRIVE 100 CITY: CORONA DEL MAR STATE: CA ZIP: 92625 FORMER COMPANY: FORMER CONFORMED NAME: NEURO PSYCHIATRIC & HEALTH SERVICES DATE OF NAME CHANGE: 19730501 FORMER COMPANY: FORMER CONFORMED NAME: JADE OIL CO DATE OF NAME CHANGE: 19700402 FORMER COMPANY: FORMER CONFORMED NAME: NEURO PSYCHIATRIC & HEALTH SERVICES INC DATE OF NAME CHANGE: 19700402 10-Q 1 QUARTERLY REPORT FOR THE PERIOD ENDED 2/28/97 1 UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-Q [X] Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the period ended February 28, 1997 ----------------- [ ] Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the transition period from to ------------- -------------- Commission File Number 0-5751 ------ COMPREHENSIVE CARE CORPORATION - -------------------------------------------------------------------------------- (Exact name of registrant as specified in its charter) Delaware 95-2594724 - -------------------------------- --------------------------- (State or other jurisdiction (I.R.S. Employer of incorporation or organization) Identification No.) 1111 Bayside Drive, Suite 100, Corona del Mar, California 92625 - -------------------------------------------------------------------------------- (Former address of the principal executive offices and zip code) (714) 222-2273 - -------------------------------------------------------------------------------- (Registrant's telephone number, including area code) Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [ ] Indicate the number of shares outstanding of each of the issuer's classes of Common Stock, as of the latest practicable date: Classes Outstanding at April 10, 1997 - -------------------------------------- ----------------------------- Common Stock, par value $.01 per share 3,423,852 2 COMPREHENSIVE CARE CORPORATION AND SUBSIDIARIES Index Page ---- Part I -- Financial Information Item 1. -- Condensed Consolidated Financial Statements Condensed consolidated balance sheets, February 28, 1997 and May 31, 1996 . . . . . . . . . . 3 Condensed consolidated statements of operations for the three and nine months ended February 28, 1997 and February 29, 1996 . . . . . . . . . . . . . . . . . 4 Condensed consolidated statements of cash flows for the nine months ended February 28, 1997 and February 29, 1996 . . . . . . . . . . . . . . . . . . . 5 Notes to condensed consolidated financial statements . . . 6 Item 2. -- Management's discussion and analysis of financial condition and results of operations . . . . . . . 14 Part II -- Other Information . . . . . . . . . . . . . . . . . . . 27 Item 1. -- Legal Proceedings . . . . . . . . . . . . . . . . . 27 Item 3. -- Defaults Upon Senior Securities . . . . . . . . . . 28 Item 4. -- Submission of Matters to a Vote of Security Holders . . . . . . . . . . . . . . . . . . . . 28 Item 6. -- Exhibits and Reports on Form 8-K . . . . . . . . . . 28 Signatures . . . . . . . . . . . . . . . . . . . . . . . . . . 29 2 3 PART I. -- FINANCIAL INFORMATION ITEM 1. -- CONDENSED CONSOLIDATED FINANCIAL STATEMENTS COMPREHENSIVE CARE CORPORATION AND SUBSIDIARIES CONDENSED CONSOLIDATED BALANCE SHEETS (Dollars in thousands, except per share amounts)
February 28, May 31, 1997 1996 ------------ ----------- (Unaudited) (Note) ASSETS Current assets: Cash and cash equivalents . . . . . . . . . . . . . . . . . . . . . . $ 3,766 $ 4,433 Accounts receivable, less allowance for doubtful accounts of $1,061 and $877 . . . . . . . . . . . . . . 2,322 2,476 Other receivables . . . . . . . . . . . . . . . . . . . . . . . . . . 2,483 1,478 Property and equipment held for sale . . . . . . . . . . . . . . . . . 1,221 1,233 Other current assets 285 352 ------- ------- Total current assets . . . . . . . . . . . . . . . . . . . . . . . . . . . 10,077 9,972 ------- ------- Property and equipment, at cost . . . . . . . . . . . . . . . . . . . . . . 9,888 9,863 Less accumulated depreciation and amortization . . . . . . . . . . . . . . (3,659) (3,590) ------- ------- Net property and equipment . . . . . . . . . . . . . . . . . . . . . . . . 6,229 6,273 ------- ------- Property and equipment held for sale . . . . . . . . . . . . . . . . . . . 4,708 6,915 Notes receivable . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1,958 212 Other assets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2,693 1,746 ------- ------- Total assets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $25,665 $25,118 ======= ======= LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities: Accounts payable and accrued liabilities . . . . . . . . . . . . . . . $12,343 $10,714 Long-term debt in default (see Note 2) . . . . . . . . . . . . . . . . -- 9,538 Current maturities of long-term debt . . . . . . . . . . . . . . . . . 48 2,464 Unbenefitted tax refunds received . . . . . . . . . . . . . . . . . . 12,092 7,018 Income taxes payable . . . . . . . . . . . . . . . . . . . . . . . . . 360 410 ------- ------- Total current liabilities . . . . . . . . . . . . . . . . . . . . . . . . . 24,843 30,144 ------- ------- Long-term debt, excluding current maturities . . . . . . . . . . . . . . . 2,692 24 Other liabilities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 668 749 Minority interest . . . . . . . . . . . . . . . . . . . . . . . . . . . . . -- 1,000 Commitments and contingencies (see Notes 3 and 7) Stockholders' equity: Preferred Stock, $50.00 par value; authorized 60,000 shares; issued and outstanding 41,260 shares of Series A Non-Voting 4% Cumulative Convertible Preferred Stock . . . . . . . . . . . . 2,073 -- Common Stock, $.01 par value; authorized 12,500,000 shares; issued and outstanding 3,365,354 and 2,848,685 shares . . . . . . 34 28 Additional paid-in capital . . . . . . . . . . . . . . . . . . . . . . 47,801 43,931 Accumulated deficit . . . . . . . . . . . . . . . . . . . . . . . . . (52,446) (50,758) ------- ------- Total stockholders' equity (deficit) . . . . . . . . . . . . . . . (2,538) (6,799) ------- ------- Total liabilities and stockholders' equity . . . . . . . . . . . . . . . . $25,665 $25,118 ======= =======
Note: The balance sheet at May 31, 1996 has been derived from the audited financial statements at that date, but does not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. See accompanying notes. 3 4 COMPREHENSIVE CARE CORPORATION AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED) (Dollars in thousands, except per share amounts)
Three Months Ended Nine Months Ended -------------------------- --------------------------- February 28, February 29, February 28, February 29, 1997 1996 1997 1996 ------------ ------------ ------------ ------------ Revenues and gains: Operating revenues . . . . . . . . . . . . . $ 9,438 $ 7,584 $28,141 $23,964 Costs and expenses: Direct healthcare expenses . . . . . . . . . 8,101 6,687 24,690 21,493 General and administrative expenses (see Note 10) . . . . . . . . . . . . . . . 2,269 2,120 6,079 5,825 Provision for doubtful accounts . . . . . . (12) 251 189 920 Depreciation and amortization . . . . . . . 182 300 520 983 Restructuring expenses . . . . . . . . . . . -- -- 195 -- ------- ------- ------- ------- 10,540 9,358 31,673 29,221 ------- ------- ------- ------- Loss from operations . . . . . . . . . . . . . (1,102) (1,774) (3,532) (5,257) Gain on sale of assets . . . . . . . . . . 16 -- 42 1,067 Loss on sale of assets . . . . . . . . . . -- (13) (12) (44) Non-recurring gain (loss) . . . . . . . . -- 860 (250) 860 Interest income . . . . . . . . . . . . . 62 100 212 164 Interest expense . . . . . . . . . . . . . (74) (310) (670) (1,053) ------- ------- ------- ------- Loss before income taxes . . . . . . . . . . . (1,098) (1,137) (4,210) (4,263) Benefit (provision) for income taxes . . . . . (4) (30) 341 2,506 ------- ------- ------- ------- Loss before extraordinary item . . . . . . (1,102) (1,167) (3,869) (1,757) Extraordinary item - gain on debenture exchange 2,191 -- 2,191 -- ------- ------- ------- ------- Net earnings/(loss) . . . . . . . . . . . 1,089 (1,167) (1,678) (1,757) Dividends on convertible preferred stock . 10 -- 10 -- ------- ------- ------- ------- Net earnings (loss) attributable to common stockholders . . . . . . . . . . . . . $ 1,079 $(1,167) $(1,688) $(1,757) ======= ======= ======= ======= Earnings/(loss) per common share: Primary: Net earnings/(loss) before extraordinary item . . . . . . . . . $ (0.36) $ (0.44) $ (1.29) $ (0.67) Extraordinary item . . . . . . . . . . 0.70 -- 0.73 -- ------- ------- ------- ------- Net earnings/(loss) . . . . . . . . . $ 0.34 $ (0.44) $ (0.56) $ (0.67) ======= ======= ======= ======= Fully-diluted: Net earnings/(loss) before extraordinary item . . . . . . . . . $ (0.30) $ -- $ -- $ -- Extraordinary item . . . . . . . . . . 0.59 -- -- -- ------- ------- ------- ------- Net earnings . . . . . . . . . . . . . $ 0.29 $ -- $ -- $ -- ======= ======= ======= =======
See accompanying notes. 4 5 COMPREHENSIVE CARE CORPORATION AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED) (Dollars in thousands)
Nine Months Ended ---------------------------- February 28, February 29, 1997 1996 ------------ ------------ (Note 9) Cash flows from operating activities: Net loss . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $(1,688) $(1,757) Adjustments to reconcile net loss to net cash used in operating activities: Depreciation and amortization . . . . . . . . . . . . . . . . . . . . 520 983 Provision for doubtful accounts . . . . . . . . . . . . . . . . . . . 189 920 Gain on debenture conversion . . . . . . . . . . . . . . . . . . . . . (2,191) -- Gain on sale of assets . . . . . . . . . . . . . . . . . . . . . . . . (42) (1,057) Loss on sale of assets . . . . . . . . . . . . . . . . . . . . . . . . 12 37 Carrying costs incurred on property and equipment held for sale . . . -- (293) Changes in assets and liabilities net of effect of acquisitions: Decrease (increase) in accounts receivable . . . . . . . . . . . . 9 (451) Decrease (increase) in notes and other receivables . . . . . . . . (733) 1,064 Decrease (increase) in other current assets and other assets . . . (137) (227) Increase (decrease) in accounts payable and accrued liabilities . 1,069 (157) Decrease in other liabilities . . . . . . . . . . . . . . . . . . (208) (865) Increase in unbenefitted tax refunds received . . . . . . . . . . 5,074 7,018 Increase (decrease) in income taxes payable . . . . . . . . . . . . . (50) 81 ------ ------ Net cash provided by operating activities . . . . . . . . . . . . 1,824 5,296 ------ ------ Cash flows from investing activities: Net proceeds(loss) from sale of property and equipment (operating and held for sale) . . . . . . . . . . . . . . . . . . . . 409 (41) Additions to property and equipment . . . . . . . . . . . . . . . . . (293) (530) ------ ----- Net cash provided by (used in) investing activities . . . . . . . 116 (571) ------ ------ Cash flows from financing activities: Bank and other borrowings . . . . . . . . . . . . . . . . . . . . . . -- 1,000 Dividends on preferred stock . . . . . . . . . . . . . . . . . . . . . 10 -- Proceeds from the issuance of Common Stock . . . . . . . . . . . . . . 2,756 961 Repayment of debt . . . . . . . . . . . . . . . . . . . . . . . . . . (5,373) (5,014) ------ ------ Net cash used in financing activities . . . . . . . . . . . . . . (2,607) (3,053) ------ ------ Net increase (decrease) in cash and cash equivalents . . . . . . . . . . . (667) 1,672 Cash and cash equivalents at beginning of period . . . . . . . . . . . . . 4,433 1,542 ------ ------ Cash and cash equivalents at end of period . . . . . . . . . . . . . . . . $3,766 $3,214 ====== ======
See accompanying notes. 5 6 COMPREHENSIVE CARE CORPORATION AND SUBSIDIARIES NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS FEBRUARY 28, 1997 (Unaudited) NOTE 1--BASIS OF PRESENTATION The condensed consolidated balance sheet as of February 28, 1997, and the related condensed consolidated statements of operations and cash flows for the three and nine month periods ended February 28, 1997 and February 29, 1996 are unaudited and have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. In the opinion of management, all adjustments necessary for a fair presentation of such financial statements have been included. Such adjustments consisted only of normal recurring items. The results of operations for the three and nine months ended February 28, 1997 are not necessarily indicative of the results to be expected during the balance of the fiscal year. The condensed consolidated financial statements do not include all information and footnotes necessary for a complete presentation of financial position, results of operations and cash flows in conformity with generally accepted accounting principles. The notes to consolidated financial statements included in Form 10-K for the year ended May 31, 1996 on file with the Securities and Exchange Commission provide additional disclosures and a further description of accounting policies. The Company's financial statements are presented on the basis that it is a going concern which contemplates the realization of assets and satisfaction of liabilities in the normal course of business. The Company incurred losses from operations in fiscal 1996 and continues to report operating losses through the third quarter of fiscal 1997. The continuation of the Company's business is dependent upon the resolution of operating and short-term liquidity problems and the realization of the Company's plan of operations. These substantial conditions raise doubt about the Company's ability to continue as a going concern. The consolidated financial statements do not include any adjustments to reflect the possible future effects on the recovery and classification of assets or the amount and classification of liabilities that may result from the outcome of this uncertainty (see Note 3--"Operating Losses and Liquidity"). The weighted average number of shares outstanding used to compute loss per common share were 3,151,000 and 2,657,000 for the three months ended February 28, 1997 and February 29, 1996, respectively; and 3,002,000 and 2,637,000 for the nine months ended February 28, 1997 and February 29, 1996, respectively. The fully-diluted weighted average number of shares outstanding used to compute fully-diluted earnings per share was 3,742,000 for the three months ended February 28, 1997. Fully-diluted loss per share for the remaining periods reported is anti-dilutive and is not reported. NOTE 2--DEBENTURE EXCHANGE OFFER The Company did not make its payment of interest on its 7 1/2% Convertible Subordinated Debentures (the "Debentures") when such payment was scheduled on October 17, 1994. In early February 1995, a group of holders and purported holders of the Debentures gave notice of acceleration of the entire amount of principal and interest due under the Debentures, and on February 24, 1995, a subset of such persons filed an involuntary petition in the United States Bankruptcy Court for the Northern District of Texas under Chapter 7 of the U.S. Bankruptcy Code. On March 3, 1995, the Company entered into a letter agreement with a representative of the certain holders of the Debentures who had taken such actions. The agreement provided for a consensual, out-of-court resolution that the Company's Board of Directors approved as in the best interests of the Company, its stockholders and other stakeholders. The holders' representative agreed to use best efforts to provide notices of waiver of the interest non-payment default, notices of rescission of the Debenture acceleration and the effects thereof, and consent to the immediate dismissal of the involuntary Chapter 7 petition. In return, the Company agreed to use best efforts to provide an opportunity to holders of Debentures to tender their Debentures to the Company pursuant to an exchange offer to be made by the Company to the holders of the Debentures. 6 7 COMPREHENSIVE CARE CORPORATION AND SUBSIDIARIES NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS FEBRUARY 28, 1997 (Unaudited) On November 14, 1996, the Company commenced a consent solicitation pursuant to a proxy statement addressed to its Debentureholders (the "Consent Solicitation"). The Company simultaneously initiated an exchange offer (the "Debenture Exchange Offer"). In addition, the Debenture Exchange Offer required the holders of a majority of the Debentures to give their approval to rescind the acceleration and waive the defaults described above. The Debenture Exchange Offer to the holders of Debentures exchanged $500 in cash plus sixteen (16) shares of Common Stock designated aggregately as payment of principal, plus $80 in cash plus eight (8) shares of Common Stock, designated aggregately as a payment of interest for each $1,000 of the outstanding principal amount of its Debentures and the waiver by the Debentureholder of all interest accrued and unpaid on such principal amount as of the date of the Exchange. On December 30, 1996, the Company completed the Debenture Exchange Offer with its Debentureholders. The Company was advised by the Exchange Agent that affirmative consents of Debentureholders in excess of 82% had been received, and that all propositions had been consented to and approved by Debentureholders. An aggregate of $6,846,000 of principal amount of Debentures (the "Tendered Debentures"), representing 72% of the issued and outstanding Debentures, were tendered for exchange to the Company pursuant to the terms of the Exchange Offer. With respect to the Tendered Debentures, the Company paid the Exchange Agent, on behalf of tendering Debentureholders, an aggregate amount of $3,970,680 and requisitioned for issue 164,304 shares of the Company's Common Stock, representing the stock portion of the Exchange Offer. The distribution of the exchange consideration to tendering Debentureholders was made by the Exchange Agent within five days after the closing date of December 30, 1996. With respect to the $2,692,000 of principal amount of Debentures which were not tendered for exchange, the Company paid an aggregate of $552,701 of interest and default interest to such non-tendering Debentureholders. Due to the affirmative result of the Consent Solicitation and the payment by the Company of interest and default interest with respect to all Debentures which have not been tendered for exchange, the Company is no longer in default with respect to such Debentures. The resulting gain on the Debenture Exchange was $2.5 million less approximately $0.3 million in related costs and expenses for a net gain of $2.2 million with the remaining amount of $1.9 million being recorded to additional paid-in capital. The aggregate principal amount of Debentures which were not tendered was $2,692,000 and is reflected in long-term debt. NOTE 3--OPERATING LOSSES AND LIQUIDITY At February 28, 1997, the Company had cash and cash equivalents of $3.8 million. During the nine months ended February 28, 1997, the Company provided $1.8 million from its operating activities, provided $0.1 million from its investing activities and utilized $2.6 million in its financing activities. The Company reported net income of $1.1 million for the quarter ended February 28, 1997, versus a net loss of $1.2 million for the quarter ended February 29, 1996. As a result, the Company has an accumulated deficit of $52.4 million and total stockholders' deficit of $2.5 million as of February 28, 1997. Additionally, the Company's current assets at February 28, 1997 amounted to approximately $10.1 million and current liabilities were approximately $24.8 million, resulting in a working capital deficiency of approximately $14.8 million and a negative current ratio of 1:2.5. Included in current liabilities is $12.1 million of unbenefitted tax refunds received (see Note 6--"Income Taxes"). Exclusive of this amount, the Company's working capital deficiency is $2.6 million resulting in a negative current ratio of 1:1.3. The Company's primary use of available cash resources is to expand its behavioral medicine managed care and contract management businesses and fund operations while it seeks to dispose of certain of its freestanding facilities. Included in current and non-current assets are three hospital facilities designated as property and equipment held for sale with a total carrying value of $5.9 million. In previous years, the Company was obligated to support and fund certain poorly performing freestanding facilities that now have been closed, including two such facilities closed in fiscal 1996 and another in fiscal 1997 (see Note 5--"Property and Equipment Held for Sale"). As a result, the Company will no longer be burdened with the negative cash flow requirements associated with such facilities. 7 8 COMPREHENSIVE CARE CORPORATION AND SUBSIDIARIES NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS FEBRUARY 28, 1997 (Unaudited) During the third quarter of fiscal 1997, the Company completed its Debenture Exchange Offer. In addition to recognizing a gain on the Exchange of $2.2 million, the Exchange resulted in a reduction of debt of $6.8 million with the remaining $2.7 million in Debentures due in 2010. The Debenture Exchange will also result in a reduction of interest expense for future periods. During the third quarter of fiscal 1997, the Company also exchanged its $2.0 million Secured Convertible Note into Series A Non-Voting 4% Cumulative Convertible Preferred Stock. This exchange further reduces the Company's future debt obligations. The Company also exchanged a minority interest in one of its subsidiaries into 100,000 shares of its Common Stock (see Note 4--"Acquisitions and Dispositions"). As a result of the above transactions, current liabilities were reduced by $11.5 million, non-current liabilities were increased by $1.6 million, and stockholders' equity was improved by $5.3 million. These transactions also reduced the Company's future cash obligations with the significant reduction in debt and interest expense. Based upon current levels of operation and cash on hand of $3.8 million and cash anticipated to be internally generated from operations, the Company believes that it has sufficient working capital to meet obligations as they become due; however, the occurrence of business or economic conditions beyond the control of the Company or the loss of existing contracts from which cash from operations is internally generated or the inability to conclude pending contract proposals may adversely affect the adequacy of such working capital. Such anticipated cash resources to fund additional operating needs include: o The Company has received a firm commitment from a mutual fund to purchase in a private placement at least $5.0 million of 15% fully secured Company notes due no earlier than April 1998 if offered by the Company. o The Company filed its fiscal 1995 Federal tax return, and a Form 1139 "Corporate Application for Tentative Refund" in the amount of $9.4 million. The Company received the full refund claim for fiscal 1995 in October 1995. In September 1996, the Company filed its fiscal 1996 Federal tax return and also filed a Form 1139. The Company received a refund in the amount of $5.4 million during the second quarter of fiscal 1997. The Company has also filed amended Federal tax returns for prior years to claim refunds for an additional $7.7 million. These refund claims have been made under Section 172(f) of the Internal Revenue Code, an area of the tax law without significant precedent, and there may be substantial opposition by the IRS to the Company's refund claims. The Company is currently under audit by the IRS regarding its 1995 and 1996 Federal tax returns and the amended returns for prior years. Accordingly, no assurances can be made as to the Company's entitlement to such refunds or the timing of the receipt thereof (see Note 6--"Income Taxes"). o Included in current property and equipment held for sale is one hospital facility currently under contract to be sold. The sale of this facility closed during the fourth quarter of fiscal 1997. The proceeds from the sale were $1.2 million. o Included in assets held for sale (non-current) are two hospital facilities designated as property and equipment held for sale with a total carrying value of $4.7 million. The Company expects to sell these facilities during the next six months. All of these potential sources of additional cash in fiscal 1997 are subject to variation due to business and economic influences outside the Company's control. There can be no assurance that during fiscal 1997 the Company will complete the transactions required to fund its working capital deficit. NOTE 4--ACQUISITIONS AND DISPOSITIONS On July 25, 1996, the Company consented to closing the acquisition of Healthcare Management Services, Inc., Healthcare Management Services of Ohio, Inc., Healthcare Management Services of Michigan Inc. and Behavioral 8 9 COMPREHENSIVE CARE CORPORATION AND SUBSIDIARIES NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS FEBRUARY 28, 1997 (Unaudited) Healthcare Management, Inc. (hereafter collectively referred to as "HMS"). The Company consented to the closing reserving its rights to assert certain claims against the former owners (the "Sellers") and others (see Note 6--"Commitments and Contingencies"). HMS contracts with commercial and governmental agencies to provide managed behavioral health care programs to patients in Michigan and Ohio. Additionally, HMS provides the following on a contract basis: case management (precertification, concurrent review, quality assurance, retrospective chart reviews, peer review and clinical audits as requested by their clients), claims review, network development, credentialing and management of clinical services for hospitals and community providers. The Company recorded the acquisition using the purchase method of accounting. The Company's Condensed Consolidated Financial Statements for the nine months ended February 28, 1997 reflect the results of operations for HMS for the period of July 25, 1996 through February 28, 1997. In conjunction with this acquisition, the Company issued 16,000 shares of its Common Stock. In addition, certain provisions of the employment agreements with the Sellers provide for an additional earn out of stock warrants based on performance. The Company recorded $1.0 million in goodwill related to the acquisition which will be amortized on a straight line basis over 20 years. On August 12, 1996, the Company sold a non-operating facility in Costa Mesa, California. As part of this transaction, the Company took back a note equal to 83% of the selling price. This note provided the buyer with an incentive option should the note be paid off in full on or before six months from closing. In the event the buyer elected this option, he would receive a 21% discount on the note. The buyer did not elect this incentive option. Given that this sale is highly leveraged, the Company has elected not to recognize any income on this sale. The Company would recognize a gain on the sale of $127,000 using the installment method of accounting. Under the installment method, the Company would have recognized a gain on the disposal of assets of approximately $21,600 for the first nine months of fiscal 1997. On May 22, 1995, the Company and its subsidiary, Comprehensive Behavioral entered into an agreement with Physicians Corporation of America ("PCA"), providing for PCA to invest $1.0 million in Comprehensive Behavioral for 13 1/2% of the voting power of Comprehensive Behavioral represented by all of the Series A Preferred Stock of Comprehensive Behavioral which is also exchangeable at the option of PCA for 100,000 shares of the Company's Common Stock. In February 1997, PCA exercised its option to exchange 135 shares of Series A Non-Voting 4% Cumulative Convertible Preferred Stock of Comprehensive Behavioral, representing 13 1/2% of the voting power of Comprehensive Behavioral, into 100,000 shares of the Company's Common Stock. NOTE 5--PROPERTY AND EQUIPMENT HELD FOR SALE The Company has decided to dispose of certain freestanding facilities and other assets (see Note 3-- "Operating Losses and Liquidity"). Property and equipment held for sale, consisting of land, building, equipment and other fixed assets with a historical net book value of approximately $11.4 million at February 28, 1997, is carried at estimated net realizable value of approximately $5.9 million. Direct expenses for the facilities designated for disposition were approximately $0.2 million for the three months ended February 28, 1997. There were no operating revenues related to facilities designated for disposition for this period. Property and equipment held for sale, that are under contract and expected to be sold within the next twelve month period, are shown as current assets on the consolidated balance sheets. Gains and losses on facilities have been reflected in the statement of operations. Any impairments to the net realizable value of property and equipment held for sale have also been recorded in the statement of operations. One of the three closed freestanding facilities included in property and equipment held for sale as of February 28, 1997 was sold during the fourth quarter. There were no transactions affecting the carrying value of current and non-current property and equipment held for sale for the three months ended February 28, 1997. 9 10 COMPREHENSIVE CARE CORPORATION AND SUBSIDIARIES NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS FEBRUARY 28, 1997 (Unaudited) NOTE 6--INCOME TAXES On July 20, 1995, the Company filed its Federal income tax return for fiscal 1995. On August 4, 1995, the Company filed Form 1139 "Corporate Application for Tentative Refund" to carry back losses under Section 172(f) requesting a refund to the Company in the amount of $9.4 million. On August 30, 1995, the Company also filed amended Federal tax returns for several prior years to carry back losses under Section 172(f). The refunds requested on the amended returns are approximately $6.2 million for 1986; $0.4 million for 1985; $0.7 million for 1983 and $0.4 million for 1982. On September 20, 1996, the Company filed its Federal income tax return for fiscal 1996, and subsequently filed Form 1139 "Corporate Application for Tentative Refund" to carry back losses described in Section 172(f) requesting a refund to the Company in the amount of $5.5 million. The Company has requested refunds totalling $22.6 million as follows: $7.7 million for amended prior years' returns, $9.4 million for fiscal year 1995, and $5.5 million for fiscal year 1996. There may be opposition by the Internal Revenue Service ("IRS") as to the Company's ability to obtain benefits from refunds claimed under Section 172(f). Therefore, no assurances can be made as to the Company's entitlement to all claimed refunds. In October 1995, the Company received a $9.4 million tentative refund for fiscal 1995. Of this refund, $2.4 million was recognized as a tax benefit during the third quarter of fiscal 1996. In September 1996, the Company received a $5.4 million tentative refund for fiscal 1996. Of this refund, $0.3 million has been recognized as a tax benefit during the third quarter of fiscal 1997. Receipt of the 1995 and 1996 Federal tax refunds does not imply IRS approval. Due to the lack of legal precedent regarding Section 172(f), the unbenefitted amounts from fiscal 1995 and 1996 of $7.0 million and $5.1 million, respectively, are reflected on the Company's consolidated balance sheet in unbenefitted tax refunds received. In connection with the refund claims, the Company paid contingency fees of $1.9 million and $1.1 million relating to the fiscal 1995 and 1996 refunds, respectively. The Company expensed a pro rata portion of the contingency fees as related tax benefits were recognized. The remaining amount of $2.4 million is reflected in the Company's consolidated balance sheet as other receivables. In the event the IRS Appeals Office determines that the Company is not entitled to all or a portion of the deductions under Section 172(f), this fee is reimbursable to the Company proportionately. The Company is currently under audit by the IRS related to its fiscal 1995 and fiscal 1996 Federal income tax returns and the amended returns for prior years. Neither the Company nor the IRS will be foreclosed from raising other tax issues in regard to any audits of such returns, which also could ultimately affect the Company's tax liability. NOTE 7--COMMITMENTS AND CONTINGENCIES On October 30, 1992, the Company filed a complaint in the United States District Court for the Eastern District of Missouri against RehabCare Corporation ("RehabCare") seeking damages for violations by RehabCare of the securities laws of the United States, for common law fraud and for breach of contract (Case No. 4:92CV002194 CAS). The Company sought damages for the lost benefit of certain stockholder appreciation rights in an amount in excess of $3.6 million and punitive damages. On March 8, 1995, the jury returned its verdict awarding the Company $2,681,250 in damages, plus interest and the costs of the action against RehabCare for securities fraud and for breach of contract. RehabCare posted a bond in the amount of $3.0 million and filed a motion for new trial or in the alternative, for judgment as a matter of law, which the court denied in its entirety on August 4, 1995. On September 1, 1995, RehabCare filed a notice of appeal with the District Court indicating its intent to appeal the matter to the United States Court of Appeals. On October 22, 1996, the U.S. Court of Appeals for the Eighth Circuit reversed the judgment in favor of the Company and against RehabCare entered by the District Court following the jury's verdict in favor of the Company. On November 5, 1996, the Company filed a Petition for Rehearing with the Eighth Circuit. Any effect from the outcome of this lawsuit will not have a material adverse impact on the Company's results of operations. The Company entered into a Stock Purchase Agreement on April 30, 1996 to purchase the outstanding stock of HMS (see Note 4--"Acquisitions and Dispositions"). The Stock Purchase Agreement was subject to certain escrow 10 11 COMPREHENSIVE CARE CORPORATION AND SUBSIDIARIES NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS FEBRUARY 28, 1997 (Unaudited) provisions and other contingencies which were not completed until July 25, 1996. In conjunction with this transaction, HMS initiated an arbitration against The Emerald Health Network, Inc. ("Emerald") claiming breach of contract and seeking damages and other relief. In August 1996, Emerald, in turn, initiated action in the U.S. District Court for the Northern District of Ohio, Eastern Division, against the Company claiming, among other things, interference with the contract between Emerald and HMS and seeking unspecified damages and other relief. Discovery has been initiated by all parties and the Company believes it has good and meritorious defenses and that HMS has meritorious claims in its arbitration. In November 1996, Emerald moved the court for summary judgment. The hearing on such motion has been adjourned and the Company's response is pending. The Company believes that it has claims arising from this transaction against the accountants and legal counsel of HMS as well as HMS's lending bank. On October 1, 1996, the Company filed a claim of malpractice against the legal counsel of HMS. These claims are presently being investigated and have not as yet been quantified. The Company does not believe that the impact of these claims will have a material adverse effect on the Company's financial position, results of operations and cash flows. On September 6, 1996, the Company instituted an arbitration against the Sellers of HMS with the American Arbitration Association in Orange County, California seeking, among other things, damages from the Sellers which the Company sustained by reason of the inaccuracies of the representations and warranties made by the Sellers and for the indemnification from each of the Sellers as provided for under the terms of the Stock Purchase Agreement. The Sellers have not interposed their answers to the arbitration, and the arbitration is therefore in its formative stages. The Company does not believe that the impact of these claims will have a material adverse effect on the Company's financial position, results of operations and cash flows. In October 1994, the New York Stock Exchange, Inc. ("NYSE") notified the Company that it was below certain quantitative and qualitative listing criteria in regard to net tangible assets available to Common Stock and three year average net income. The Listing and Compliance Committee of the NYSE has determined to monitor the Company's progress toward returning to continuing listing standards and has so indicated in approving the Company's most recent Listing Application on December 30, 1996. Management believes, though no assurance may be given, that the recent completion of the Company's Debenture Exchange Offer will enable the Company to seek additional equity and thereby satisfy the Committee of the Company's progress. No assurance may be given that additional equity may be obtained on terms favorable to the Company. From time to time, the Company and its subsidiaries are also parties and their property is subject to ordinary routine litigation incidental to their business. In some pending cases, claims exceed insurance policy limits and the Company or a subsidiary may have exposure to a liability that is not covered by insurance. Management believes that the outcome of such lawsuits will not have a material adverse impact on the Company's financial statements. NOTE 8--SUPPLEMENTAL SCHEDULE OF NONCASH INVESTING AND FINANCING ACTIVITIES During fiscal 1997, the Company purchased all of the capital stock of HMS. In conjunction with this acquisition, the assets acquired and liabilities assumed were as follows (in thousands): Fair value of assets acquired . . . . . . . . . . . . . . . . $ 356 Purchased goodwill . . . . . . . . . . . . . . . . . . . . . . 1,000 Liabilities assumed . . . . . . . . . . . . . . . . . . . . . (1,236) Issuance of Common Stock . . . . . . . . . . . . . . . . . . . (120) ------- $ -- ======= NOTE 9--RESTRUCTURING CHARGES In fiscal 1993, the Company established a restructuring reserve to address the Company's operational issues. One purpose of such reserve was for the realignment of the Company's focus and business and the settlement and disposition of certain non-performing and under-utilized assets. Many of the Company's inpatient freestanding facilities 11 12 COMPREHENSIVE CARE CORPORATION AND SUBSIDIARIES NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS FEBRUARY 28, 1997 (Unaudited) have been sold or are in the process of being closed or sold as management continues to implement plans for expanding the Company's managed care and behavioral medicine contract management operations. During fiscal 1996, the Company established an additional restructuring reserve of $0.1 million for severance and other cash outlays related to the planned facility closure and disposition which occurred during the first quarter of fiscal 1997. In addition, in July 1996, the Company closed the administrative offices of Comprehensive Care Integration located in San Ramon, California. Closure of this office and several non-performing contract units was part of the planned restructuring of these operations. The impact of this restructuring was approximately $0.2 million and was recorded during the first quarter of fiscal 1997. The following table sets forth the activity to the restructuring reserve during the third quarter of fiscal 1997:
CHARGES NOVEMBER 30, ----------------- FEBRUARY 28, 1996 INCOME EXPENSE PAYMENTS 1997 ------------ ------ ------- -------- ------------ (Amounts in thousands) Restructuring Reserve: --------------------- Severance . . . . . . . . . . . . . $ 87 $ -- $ -- $(10) $ 77 Operations/corporate relocation. . . 325 -- -- (69) 256 ---- ---- ---- ---- ---- $412 $ -- $ -- $(79) $333 ==== ==== ==== ==== ====
NOTE 10--STOCKHOLDERS' EQUITY On January 15, 1997, the Company exchanged its $2.0 million Secured Convertible Note into 40,000 shares of newly designated Series A Non-Voting 4% Cumulative Convertible Preferred Stock (the "Preferred Stock"). In addition, the holder of the Note was also issued an additional 1,260 shares of Preferred Stock in lieu of approximately $63,000 of accrued interest. In February 1997, Physician Corporation of America ("PCA") exercised an option to exchange 135 shares of Series A Non-Voting 4% Cumulative Convertible Preferred Stock of Comprehensive Behavioral into 100,000 shares of the Company's Common Stock (see Note 4--"Acquisitions and Dispositions"). In September 1995, the Board of Directors granted and issued to its President and Chief Executive Officer, 100,000 restricted shares of its Common Stock, $0.01 par value (the "Restricted Shares"). Such grant of Restricted Shares was issued from the Company's 1995 Incentive Plan and was ratified by the stockholders at the 1995 Annual Meeting. The Restricted Shares are subject to vesting at the rate of 5,000 shares per fiscal year (the "Annual Vested Shares") over a 20-year period. The vesting of the Restricted Shares is subject to acceleration upon the occurrence of certain events of acceleration as described below. With respect to all Restricted Shares which may become vested, the Company is to pay to the Chief Executive Officer a bonus equivalent to the amount of the combined federal and applicable state and city income taxes associated with the Restricted Shares that have become vested. While the Restricted Shares have been issued and the Chief Executive Officer is entitled to vote said shares, all Restricted Shares are held in escrow until their vesting and said shares may not be sold, assigned, transferred or hypothecated until the time they have become vested. In addition to the vesting of the Annual Vested Shares, an additional number of Restricted Shares vest as follows: (i) for each fiscal year of the Company, 1,000 additional Restricted Shares vest for each $1,000,000 of net pre-tax profit of the Company as reported for that fiscal year; (ii) in the event the Company effects a merger, acquisition, corporate combination or purchase of assets (an "Acquisition Event") 1,000 additional Restricted Shares vest for each $1,000,000 of Acquisition Event value paid for the Company; and (iii) as of May 31st of each year, for each 1% of increase of market value of the Company's voting securities above 110% of the market value as of May 31st of the preceding year, 1,000 additional Restricted Shares vest. 12 13 COMPREHENSIVE CARE CORPORATION AND SUBSIDIARIES NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS FEBRUARY 28, 1997 (Unaudited) In addition, upon the occurrence of (a) the approval by the stockholders of the Company of an Approved Transaction, as defined; (b) a Control Purchase, as defined; (c) a Board change; or (d) the failure by the Company to renew the Chief Executive Officer's Employment Agreement on the conclusion of its term on December 31, 1998, or any subsequent or renewed term, on terms identical to those in the Employment Agreement then prevailing, all Restricted Shares become vested. Upon the death or total disability of the Chief Executive Officer prior to the complete vesting of the Restricted Shares, all Restricted Shares not theretofore vested shall become vested. The grant has been accounted for as an increase in Common Stock and as additional paid-in capital at the fair value of the shares at the date of grant (modified periodically to reflect current valuations offset by an equal charge to equity (recorded as an Unvested Common Stock Grant). The Company accounts for the annual grant utilizing the estimated fair value on the date of vesting (May 31st). In addition, estimated bonus payments for income taxes as provided by the Agreement are accrued in accordance with the vesting schedule. During the third quarter of fiscal 1997, the Company determined that certain conditions for acceleration were achieved, and that it was probable that such conditions would also be present on May 31, 1997. Based on increases in the fair market value of the Company's Common Stock, the Company has provided for compensation expenses for the acceleration of approximately 43,000 Restricted Shares; estimated to be earned in the fiscal year ended May 31, 1997; this calculation will be adjusted periodically to reflect current valuations. In addition, the estimated bonus payments for income taxes as provided by the Agreement also have been accrued during the third quarter of fiscal 1997. Included in the results for the nine months ended February 28, 1997 are compensation expenses related to the Chief Executive Officer's Annual Grant and acceleration of Restricted Shares of $55,000 and $0.5 million, respectively. Compensation expenses related to the reimbursement of income taxes to the Chief Executive Officer related to the Annual Grant and acceleration of Restricted Shares were $27,000 and $0.2 million, respectively, for the nine months ended February 28, 1997. The Company entered into an Employment Agreement effective January 1, 1997, with its Chief Operating Officer. In conjunction with this Employment Agreement, the Company granted its Chief Operating Officer options to purchase 120,000 shares of the Company's Common Stock from the Company's 1995 Incentive Plan. The vesting of 100,000 options is subject to certain performance-related criteria relating to quarterly revenues from operations and net earnings before taxes. If the Chief Operating Officer is terminated for cause or resigns without Good Reason (as defined), any unvested options would be forfeited. As consideration for entering into the Employment Agreement, the Chief Operating Officer has agreed not to disclose confidential information and not to compete with the Company for a one-year period following termination. In addition, in the event of a Transaction (as defined), all stock options granted shall immediately vest. During the third quarter of fiscal 1997, the Company recognized $17,500 in compensation expense related to the vesting of options for the Chief Operating Officer which were not performance-related. The Company determined that the performance-related criteria had not been met by the Chief Operating Officer as of February 28, 1997 and, as a result no compensation expense related to the vesting of such options for the Chief Operating Officer was recognized during the third quarter of fiscal 1997. The Company continues to evaluate the performance-related criteria and in the event that conditions for achievement of such performance-related criteria appear to be present and are probable to be present for the quarter ended May 31, 1997, the Company will recognize the applicable compensation expense related to the vesting of options for the Chief Operating Officer. Such compensation expense will utilize the estimated fair market value on the date of evaluation. NOTE 11--EVENTS SUBSEQUENT TO THE BALANCE SHEET DATE On April 3, 1997, the Company sold its freestanding facility located in Jacksonville Beach, Florida. 13 14 ITEM 2. -- MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS IMPORTANT FACTORS RELATED TO FORWARD-LOOKING STATEMENTS AND ASSOCIATED RISKS This Quarterly Report on Form 10-Q contains or may contain certain forward-looking statements that are based on current expectations and involve a number of risks and uncertainties. Factors that may materially affect revenues, expenses and operating results include, without limitation, the Company's success in (i) disposing of certain remaining facilities on acceptable terms, (ii) expanding the behavioral medicine managed care and contract management portions of the Company's business, (iii) securing and retaining certain refunds from the IRS and recovering monetary damages from adverse parties in pending legal proceedings, (iv) the ability to obtain and perform risk-based capitation contracts at profitable levels, (v) maintaining the listing of the Company's Common Stock on the New York Stock Exchange, Inc., (vi) obtaining additional equity capital to fund losses from operations and to expand the Company's principal behavioral healthcare business, as to which no assurance can be given that such additional equity may be obtained on terms favorable to the Company, and (vii) the impact and consideration of other business, economic or other considerations discussed below. The forward-looking statements included herein are based on current assumptions including that competitive conditions within the healthcare industry will not change materially or adversely, that the Company will retain existing key management personnel, that the Company's forecasts will accurately anticipate market demand for its services, and that there will be no material adverse change in the Company's operations or business. Assumptions relating to the foregoing involve judgments that are difficult to predict accurately and are subject to many factors that can materially affect results. Budgeting and other management decisions are subjective in many respects and thus susceptible to interpretations and periodic revisions based on actual experience and business developments, the impact of which may cause the Company to alter its budgets, which may in turn affect the Company's results. In light of the factors that can materially affect the forward-looking information included herein, the inclusion of such information should not be regarded as a representation by the Company or any other person that the objectives or plans of the Company will be achieved. General In response to continuing changes in the behavioral healthcare industry, the Company has made significant changes in its operations, including the divestiture of many freestanding facilities, so that the Company can focus on its network solutions related to managed care and behavioral medicine contract management operations. During fiscal 1996 and 1997, managed care operations experienced significant growth through internal development and the expansion into new managed care behavioral health markets and products. The following table sets forth operating revenues of the Company's managed care, behavioral medicine contracts and hospital operations for the selected periods:
Three months ended ----------------------------------- February 28, May 31, February 29, 1997 1996 1996 ------------ ------- ------------ Managed care . . . . . . . . . . . . . . . . 79% 56% 56% Corporate services . . . . . . . . . . . . . 2 1 1 Behavioral medicine contract . . . . . . . . 6 17 16 Freestanding operations . . . . . . . . . . 13 26 27 --- --- --- 100% 100% 100% === === ===
As a result of the Company's continued negative results from operations, the Company has had difficulty generating sufficient cash flows from operations to meet its obligations and sustain its operations. During the third quarter of fiscal 1997, the Company has utilized the proceeds from income tax refunds and available cash on hand to fund its working capital deficit, as well as the restructuring of the Company's 7 1/2% Convertible Subordinated Debentures (see Note 2 to the Company's Condensed Consolidated Financial Statements included herein). 14 15 Global Restructuring In early fiscal 1995, Management developed a "global restructuring" plan intended to address the Company's immediate challenges and to return to a base of profitability for future success. Management has achieved all of the stated objectives in the global restructuring plan. The restructuring of the Company's financial obligations represented by the Company's 7 1/2% Convertible Subordinated Debentures (the "Debentures") occurred during the third quarter of fiscal 1997 (see Note 2 to the Company's Condensed Consolidated Financial Statements included herein). During fiscal 1996, the Company recorded $0.1 million in restructuring charges related to the Company's planned closure and disposition of its freestanding facility in Cincinnati, Ohio which occurred during the first quarter of fiscal 1997. The components of this charge are predominately severance payments to hospital employees. Closure of this facility is consistent with the Company's global restructuring plans and will eliminate the funding of operating losses and cash flow deficits required by this facility. In addition, in July 1996, the Company closed the administrative offices of Comprehensive Care Integration located in San Ramon, California. Closure of this office and several non-performing contract units was part of the planned restructuring of these operations. The impact of this restructuring was approximately $0.2 million and was recorded during the first quarter of fiscal 1997. The following table sets forth the activity to the restructuring reserve during the third quarter of fiscal 1997:
CHARGES NOVEMBER 30, ----------------- FEBRUARY 28, 1996 INCOME EXPENSE PAYMENTS 1997 ------------ ------ ------- -------- ------------ (Amounts in thousands) Restructuring Reserve: - --------------------- Severance . . . . . . . . . . . $ 87 $ -- $ -- $(10) $ 77 Operations/corporate relocation 325 -- -- (69) 256 ---- ---- ---- -- -- $412 $ -- $ -- $(79) $333 ==== ==== ==== ==== ====
In August 1996, the Company sold its non-operating freestanding facility in Costa Mesa, California which had been closed in November 1995 due to poor performance. The Company utilized the proceeds received from the sale to reduce secured debt and fund working capital. One of the three remaining non-operating freestanding facilities is under contract to be sold and closed escrow during the fourth quarter of fiscal 1997. During the third quarter of fiscal 1997, the Company restructured its obligations under the Debentures, and cured the default due to the Company's failure to make scheduled payments of interest. On November 14, 1996, the Company commenced a Consent Solicitation pursuant to a proxy statement addressed to its Debentureholders. The Company simultaneously initiated the Debenture Exchange Offer to exchange cash and Common Stock of the Company for its Debentures. As a result of the completion of the Debenture Exchange Offer on December 30, 1996, the Company's debt obligations have been reduced by $6,846,000. The remaining $2,692,000 of the Company's debt obligations represented by untendered Debentures is reflected in long term debt. During the third quarter of fiscal 1997, the Company also exchanged its $2.0 million Secured Conditional Note into Preferred Stock, and exchanged a minority interest in one of its subsidiaries into 100,000 shares of the Company's Common Stock. These transactions and the Debenture Exchange Offer significantly reduced the Company's debt obligations and improved equity. 15 16 RESULTS OF OPERATIONS Statistical Information The following utilization statistics include data from all operations including closures during the periods, joint ventures and closed facilities:
Three months ended Nine months ended ------------------------------------------------- ------------------------- February 28, November 30, August 31, February 29, February 28, February 29, 1997 1996 1996 1996 1997 1996 ------------ ------------ ---------- ------------ ------------ ------------ MANAGED CARE OPERATIONS: Covered lives . . . . . . . . . . 1,531,215 1,331,155 1,147,664 907,578 1,531,215 907,578 PATIENT DAYS: Freestanding facilities . . . . . 1,470 1,591 1,516 1,747 4,577 7,558 Behavioral medicine contracts . . 1,281 2,256 2,986 2,986 6,451 12,903 FREESTANDING FACILITIES: Occupancy rate. . . . . . . . . . 43% 47% 29% 23% 38% 15% Admissions. . . . . . . . . . . . 301 301 312 375 914 1,301 Average length of stay (days) . . 5 5 5 5 5 6 BEHAVIORAL MEDICINE CONTRACTS: Avg. occupied beds per contract . 3 5 5 4 4 5 Admissions. . . . . . . . . . . . 334 358 464 458 1,156 1,812 Average length of stay (days) . . 4 6 6 7 6 7 TOTAL BEDS AVAILABLE AT END OF PERIOD: Freestanding facilities . . . . . 38 38 58 88 45 88 Behavioral medicine contracts . . 55 55 82 102 55 102
NINE MONTHS ENDED FEBRUARY 28, 1997 COMPARED TO NINE MONTHS ENDED FEBRUARY 29, 1996 The Company reported a pretax loss of approximately $4.2 million for the nine months ended February 28, 1997 which was comparable to the pretax loss of $4.3 million reported for the same period for fiscal 1996, an improvement of $0.1 million. Included in the results for fiscal 1996 is a gain of $1.0 million related to the sale of an operating facility in October 1995, a non-operating gain of $0.9 million and a credit of $0.4 million related to a settlement with the Company's fidelity bond carrier. Included in the results for fiscal 1997 are a restructuring charge of $0.2 million, a legal settlement of $0.3 million, and $0.8 million in compensation expense related to the probable vesting of restricted common shares granted to the Chief Executive Officer (see Note 10 to the Company's Condensed Consolidated Financial Statements included herein). Exclusive of these non-recurring items, the pretax loss for the nine months ended February 28, 1997 was $2.9 million compared to the pretax loss of $6.6 million for the same period a year ago. Included in the nine months ended February 28, 1997 is an extraordinary gain of $2.2 million. This gain is related to the Company's Debenture Exchange Offer which closed on December 30, 1996 (see Note 2 to the Company's Condensed Consolidated Financial Statements included herein). As a result, the Company reported a net loss of $1.7 million or $0.56 loss per share for the nine months ended February 28, 1997 versus a net loss of $1.8 million or $0.67 loss per share for the same period a year ago. Operating revenues increased by 17% or $4.2 million for the nine months ended February 28, 1997 compared to the nine months ended February 29, 1996. The increase in operating revenues is primarily attributable to an increase in managed care operations which was offset by a decline in freestanding operations. Direct healthcare expenses increased by 15% or $3.2 million as compared to the same period a year ago. This increase is attributable to a decrease in direct healthcare expenses for hospital operations which was offset by an increase in direct healthcare expenses for managed care operations. General and administrative expenses for the nine months ended February 28, 1997 increased $0.3 million from the nine months ended February 29, 1996. General and administrative expenses for the nine months ended February 29, 1996 include $0.5 million related to the Company's fiscal 1995 Federal tax refund. General and administrative expenses for the nine months ended February 28, 1997 includes an increase in managed care operations offset by decreases in contract operations and corporate general and administrative expenses (which included $0.1 million for fees paid related to the Company's fiscal 1996 Federal tax refund). Also included in general and administrative expenses for fiscal 1997 is $0.8 million in compensation expense related to the probable vesting of restricted common shares granted to the Chief Executive Officer (see Note 10 to the Company's Condensed Consolidated Financial Statements included herein). Exclusive of these charges, general and administrative expenses decreased $0.1 million for the nine months ended February 28, 1997 as compared to the same period a year ago. The 16 17 provision for doubtful accounts declined $0.7 million or 80% for the nine months ended February 28, 1997 as compared to the same period a year ago and is attributable to the decline in hospital operations. Depreciation expense decreased $0.5 million or 47% as compared to the same period a year ago, which is primarily due to the closure and or sale of freestanding hospitals. In addition, interest expense decreased by $0.4 million or 36% for the nine months ended February 28, 1997 compared to the nine months ended February 29, 1996. Managed Care Operations The number of covered lives increased to 1,531,215 or by 69% as of February 28, 1997 compared to 907,578 for the same period a year ago. Covered lives for contracts existing at February 29, 1996 increased by 297,000 lives or 33%. In addition, new contracts implemented after February 29, 1996 contributed an additional 370,000 lives representing 59% of the growth in covered lives through February 28, 1997. The majority of growth in covered lives is predominately related to new contracts implemented in Florida, Puerto Rico and Texas. During fiscal 1997, managed care operations added approximately 236,000 lives under Administrative Service Organization ("ASO") contracts. Under an ASO contract, the Company provides overall care management services; however, the Company is not at risk. The Company has commenced the review of its current "carve-out" contracts and may amend or revise the terms of such contracts, or cancel any unprofitable contracts, to ensure the ability to obtain and perform risk-based capitation contracts at profitable levels. Operating revenues increased by $8.3 million to $19.5 million for the nine months ended February 28, 1997 compared to the nine months ended February 29, 1996. Direct healthcare expenses also increased for the nine months ended February 28, 1997 by $7.8 million compared to the same period a year ago. In addition, general and administrative expenses increased by $0.8 million for the nine months ended February 28, 1997. Included in general and administrative expenses for the nine months ended February 28, 1997 is $0.6 million in non-recurring legal expenses. As a result, the net operating loss for managed care operations for the nine months ended February 28, 1997 was $1.2 million, an increase of $0.7 million from the same nine month period for fiscal 1996. Behavioral Medicine Contracts CCI operating revenues decreased by $0.4 million for the nine months ended February 28, 1997 or 10% from the same period of fiscal 1996 and direct healthcare expenses decreased $0.9 million or 23% for the same period. General and administrative expenses decreased $0.4 million to $0.5 million, compared to the same fiscal period a year ago. In addition, a restructuring charge of $0.2 million was recorded in the nine months ended February 28, 1997. The net result of these items was a net operating loss of $0.7 million compared to the loss for the same period a year ago of $1.9 million, an improvement of 61%. Patient days of service for behavioral medicine contracts for the nine months ended February 28, 1997 declined by approximately 50% from 12,903 patient days to 6,451 patient days for the same period a year ago. The decline in patient days is a result of the planned closure of 13 behavioral health contracts during fiscal 1997 (see Note 9 to the Company's Condensed Consolidated Financial Statements included herein). Units which were operational for both the nine months ended February 28, 1997 and February 29, 1996, experienced a 15% decrease in utilization to 4,420 patient days. Average net revenue per patient day at these units increased by 26% from the previous period resulting in an increase in overall net inpatient operating revenues of 8% to $0.8 million. Net outpatient revenues for programs operational for both periods at these units increased 15% from approximately $236,000 for the nine months ended February 29, 1996 to approximately $271,000 for the nine months ended February 28, 1997. Although utilization decreased overall, net revenue increased due to changes in payor mix. The following table sets forth utilization data on a "same store" basis:
Same Store Utilization ---------------------------- Nine Months Nine Months Ended Ended Feb. 28, 1997 Feb. 29, 1996 ------------- ------------- Admissions . . . . . . . . . . . . . . . . . . . . 1,038 993 Average length of stay . . . . . . . . . . . . . . 4 5 Patient days . . . . . . . . . . . . . . . . . . . 4,420 5,170 Average occupancy rate . . . . . . . . . . . . . . 26% 34%
17 18 For units operational for both periods, direct healthcare expenses decreased slightly and, when combined with the 10% increase in operating revenues, resulted in operating income at the unit level increasing by 94% or $0.1 million for the nine months ended February 28, 1997 compared to the nine months ended February 29, 1996. This increase is due predominately to an increase in the utilization for the partial hospitalization program. Freestanding Operations The Company currently operates one freestanding hospital in Aurora, Colorado. This facility offers both inpatient, partial/day treatment and outpatient services. For the same period in fiscal 1996, the Company also operated a freestanding facility in Cincinnati, Ohio. This facility closed operations in August, 1996 due to poor performance and continued operating losses. Two other freestanding hospitals were closed during the second and third quarters of fiscal 1996. Therefore, the overall results of freestanding operations declined predominately due to the closure of these three facilities. Operating revenues decreased by $3.8 million or 46% for the nine months ended February 28, 1997 compared to the nine months ended February 29, 1996. In addition to the closure of a freestanding facility during the first quarter of fiscal 1997, the Company sold one non- operating facility. Direct healthcare expenses declined 51% or $4.4 million in the nine months ended February 28, 1997. The provision for doubtful accounts declined by $0.7 million. The decrease in operating revenues combined with the decline in expenses resulted in a net operating loss from hospital operations for the nine months ended February 28, 1997 of $0.5 million, and improvement of 76% or $1.7 million from the nine months ended February 29, 1996. Admissions for the nine months ended February 28, 1997 decreased to 914 from 1,301 for the same period of fiscal 1996 as a result of the closure of several facilities. The following table sets forth quarterly utilization data for the remaining freestanding facility ("continuing operations"): Nine Months Nine Months Ended Ended Feb. 28, 1997 Feb. 29, 1996 ------------- ------------- Admissions . . . . . . . . . . . . . . . . . . . . 914 537 Average length of stay . . . . . . . . . . . . . . 5 5 Patient days . . . . . . . . . . . . . . . . . . . 4,577 2,742 Net revenue per patient day for continuing operations decreased to $965 for the nine months ended February 28, 1997 from $1,542 for the nine months ended February 29, 1996. Admissions for continuing operations increased for the period from 537 in the nine months ended February 29, 1996 to 914 for the nine months ended February 28, 1997. The increase in admissions combined with no change in length of stay, and an increase in outpatient revenues, resulted in an increase in net operating revenues for the nine months ended February 28, 1997 of $0.2 million as compared to the same period for fiscal 1996. Direct healthcare expenses at the Company's freestanding facility increased $0.5 million as a result of the 67% increase in patient days to 4,577, and bad debt expense decreased $0.2 million for the nine months ended February 28, 1997 compared to the same period for fiscal 1996. Therefore, net operating income decreased $84,000 for the nine months ended February 28, 1997 compared to the nine months ended February 29, 1996. The following table illustrates revenues in partial/day treatment and outpatient programs offered by continuing operations:
Net Outpatient/Daycare Revenues ------------------------------- Nine Months Nine Months Ended Ended Feb. 28, 1997 Feb. 29, 1996 ------------- ------------- (Dollars in thousands) Facilities offering . . . . . . . . . . . . . . . . . 1 1 Net outpatient/daycare revenues . . . . . . . . . . . $3,594 $2,944 % of total "same store" net operating revenues . . . 78% 75%
The Company believes that the increasing role of HMO's, reduced benefits from employers and indemnity companies, and a shift to outpatient programs continue to impact utilization. The Company continues to focus its 18 19 efforts toward providing effective, lower cost outpatient, partial hospitalization and daycare programs, the establishment of relationships and contracts with managed care and other organizations which pay for or broker such services. THREE MONTHS ENDED FEBRUARY 28, 1997 COMPARED TO THREE MONTHS ENDED FEBRUARY 29, 1996 The Company reported a loss before extraordinary item and taxes of $1.1 million for the third quarter of fiscal 1997, which was comparable to the pretax loss reported for the third quarter of fiscal 1996. Included in revenues for the third quarter of fiscal 1996 is a gain of $1.0 million related to the sale of an operating facility in October 1995. Included in general and administrative expenses for the third quarter of fiscal 1997 is a charge of $0.8 million in compensation expenses related to the probable vesting of restricted common shares granted to the Chief Executive Officer (see Note 10 to the Company's Condensed Consolidated Financial Statements included herein). Included in the results for the third quarter of fiscal 1996 is a non-operating gain of $0.9 million. Exclusive of these items, the Company's loss before extraordinary item and taxes for the third quarter of fiscal 1997 was $0.3 million as compared to a pretax loss of $2.1 million for the third quarter of fiscal 1996. Included in the results for the third quarter of fiscal 1997 is an extraordinary gain of $2.2 million. This gain is related to the Debenture Exchange Offer which closed on December 30, 1996 (see Note 2 to the Company's Condensed Consolidated Financial Statements included herein). As a result, the Company reported net income of $1.1 million or $0.34 earnings per share for the quarter ended February 28, 1997 versus a net loss of $1.2 million or $0.44 loss per share for the quarter ended February 29, 1996. Operating revenues for the third quarter of fiscal 1997 increased by $1.9 million or 24% from the third quarter of fiscal 1996. The third quarter of fiscal 1997 reflects an increase in managed care operating revenues of $3.2 million or 77% as compared to the third quarter of fiscal 1996. This increase in managed care operating revenues was offset by the decline in operating revenues from freestanding facilities due to the closure of a freestanding facility during the first quarter of fiscal 1997, and the closure of two behavioral health contracts during the second quarter of fiscal 1997. Direct healthcare expenses increased by approximately $1.4 million or 21% from the third quarter of fiscal 1996 compared to the third quarter of fiscal 1997. The increase in direct healthcare expenses is primarily attributable to an increase in direct healthcare expenses related to managed care operations which was partially offset by a decline in direct healthcare expenses for freestanding operations. General and administrative expenses increased by approximately $0.2 million from the third quarter of fiscal 1996 primarily as a result of an increase in corporate overhead expenses. The third quarter of fiscal 1997 includes $0.8 million in compensation expense related to the probable vesting of restricted common shares granted to the Chief Executive Officer (see Note 10 to the Company's Condensed Consolidated Financial Statements included herein). Exclusive of this charge, general and administrative expenses for the quarter ended February 28, 1997, decreased by $0.6 million from the third quarter of fiscal 1996. The provision for doubtful accounts decreased by $0.3 million during the third quarter of fiscal 1997 compared to the same period for fiscal 1996 as a result of the significant decline in freestanding operations and the recovery of bad debt related to behavioral medicine contracts. Managed Care Operations The following table reflects covered lives by major product provided: February 28, November 30, February 29, 1997 1996 1996 ------------ ------------ ------------ Carve-out (capitated) . . . . . 1,232,068 1,184,324 815,230 Blended products . . . . . . . . 4,632 4,585 4,230 EAP services . . . . . . . . . . 66,998 66,343 81,677 ASO services . . . . . . . . . . 227,517 75,903 6,411 --------- --------- ------- Total covered lives . . . . 1,531,215 1,331,155 907,548 ========= ========= ======= At February 28, 1997, the number of covered lives increased to 1,531,215 from 907,578 a year ago or by 68%. This increase is primarily attributable to new contracts added during the period in South Florida, Puerto Rico and Texas. 19 20 In the third quarter of fiscal 1997, operating revenues increased by $3.2 million compared to the third quarter of fiscal 1996. Direct healthcare expenses also increased by $3.0 million in the third quarter of fiscal 1997 compared to the same period a year ago. In addition, general and administrative expenses increased by $0.1 million in the third quarter of fiscal 1997 as compared to the third quarter of fiscal 1996. Included in the results for the third quarter of fiscal 1997 are $0.4 million in legal fees related to litigation. As a result, the net operating income for managed care operations for the third quarter of fiscal 1997 was approximately $0.1 million which was comparable to the same quarter a year ago. Behavioral Medicine Contracts In the third quarter of fiscal 1997, due primarily to the planned closure of 13 programs during fiscal 1997, Comprehensive Care Integration operating revenues decreased by $0.6 million or by 50% from the third quarter of fiscal 1996, while direct healthcare expenses decreased 66%. In addition, general and administrative expenses decreased $0.3 million or 80% in the third quarter of fiscal 1997 compared to the third quarter of fiscal 1996. The provision for doubtful accounts declined by $0.2 million during the third quarter of fiscal 1997 as compared to the same period a year ago due to the recovery of bad debt written off in a prior period. The decrease in operating revenues during the third quarter of fiscal 1997 combined with the decrease in expenses resulted in a net operating income of approximately $0.1 million, an improvement of $1.0 million as compared to the same period for fiscal 1996. During the third quarter of fiscal 1997, CCI closed two contract units. These units were closed due to poor performance or were at the end of the term of their contract. As a result, during the third quarter of fiscal 1997, patient days of service for behavioral medicine contracts declined by approximately 57% from 2,986 patient days to 1,281 patient days as compared to the same period a year ago. Units which were operational for both the third quarter of fiscal 1997 and 1996 experienced a 17% decline in utilization to 1,281 patient days. Average net revenue per patient day at these units increased by 68% from the same quarter a year ago resulting in an increase in overall net inpatient operating revenues of 39% to $0.3 million. Net outpatient revenues for programs operational for both quarters at these units increased 31% from approximately $0.3 million in the third quarter of fiscal 1996 to approximately $0.4 million in the third quarter of fiscal 1997. The increase in net outpatient revenues is predominately a result of an increase in utilization of partial hospitalization programs. The following table sets forth quarterly utilization data on a "same store" basis: Same Store Utilization ------------------------- Fiscal 1997 Fiscal 1996 3rd Quarter 3rd Quarter ----------- ----------- Admissions . . . . . . . . . . . . . . . . . . . . . 334 310 Average length of stay . . . . . . . . . . . . . . . 4 5 Patient days . . . . . . . . . . . . . . . . . . . . 1,281 1,547 Average occupancy rate . . . . . . . . . . . . . . . 26% 32% For units which were operational for the third quarters of fiscal 1997 and 1996, direct healthcare expenses decreased 12%, which was offset by a 31% increase in operating revenues. This resulted in an increase in operating income of $0.1 million. Freestanding Operations Operating revenues for freestanding operations decreased by $0.7 million or by 36% during the third quarter of fiscal 1997 compared to the third quarter of fiscal 1996. In addition, direct healthcare expenses declined 38% or $0.8 million in the third quarter of fiscal 1997 and general and administrative expenses declined by $0.1 million. The decrease in operating revenues when combined with the significant decrease in direct healthcare expenses, resulted in an improvement in hospital operations net operating loss for the third quarter of fiscal 1997 of $0.8 million to $0.2 million as compared to the loss of $1.0 million reported for the same quarter a year ago. 20 21 Admissions in the third quarter of fiscal 1997 decreased to 301 from 375 in the third quarter of fiscal 1996, an overall decline of 20%. This decline is primarily due to the closure of an operating freestanding facility during the first quarter of fiscal 1997. The following table sets forth selected quarterly utilization data for continuing operations: Fiscal 1997 Fiscal 1996 3rd Quarter 3rd Quarter ----------- ----------- Admissions . . . . . . . . . . . . . . . . . . . . . 301 251 Average length of stay . . . . . . . . . . . . . . . 5 5 Patient days . . . . . . . . . . . . . . . . . . . . 1,470 1,231 Net revenue per patient day for continuing operations decreased to $782 for the third quarter of fiscal 1997 from $1,239 for the third quarter of fiscal 1996. Admissions increased for the quarter from 251 in the third quarter of fiscal 1996 to 301 in the third quarter of fiscal 1997. Patient days increased from 1,231 in the third quarter of fiscal 1996 to 1,470 in the third quarter of fiscal 1997. The increase in admissions combined with an increase in patient days was offset by an increase in Medicare contractual allowances resulting in a decrease in net operating revenues for the third quarter of fiscal 1997 of $0.4 million. The following table illustrates revenues in outpatient and day care programs (including partial hospitalization programs) offered by continuing operations: Net Outpatient/Daycare Revenues ------------------------------- Fiscal 1997 Fiscal 1996 3rd Quarter 3rd Quarter -------------- -------------- (Dollars in thousands) Facilities offering . . . . . . . . . . . . . . 1 1 Net outpatient/daycare revenues . . . . . . . . $778 $1,164 % of total "same store" net operating revenues. . . . . . . . . . . . . . . . . . 60% 76% Direct healthcare expenses at the Company's freestanding facility decreased $0.1 million and bad debt expense decreased $0.1 million in the third quarter of fiscal 1997 from the third quarter of fiscal 1996. As a result, net operating income decreased $0.2 million in the third quarter of fiscal 1997 from the same period a year ago. LIQUIDITY AND CAPITAL RESOURCES During the nine months ended February 28, 1997, the Company provided $1.8 million from its operating activities, provided $0.1 million from its investing activities and utilized $2.6 million in its financing activities. The Company reported net income of $1.1 million for the quarter ended February 28, 1997, versus a net loss of $1.2 million for the quarter ended February 29, 1996. As a result, the Company has an accumulated deficit of $52.4 million and total stockholders' deficit of $2.5 million as of February 28, 1997. Additionally, the Company's current assets at February 28, 1997 amounted to approximately $10.1 million and current liabilities were approximately $24.8 million, resulting in a working capital deficiency of approximately $14.8 million and a negative current ratio of 1:2.5. Included in current liabilities is $12.1 million of unbenefitted tax refunds received (see Note 6--"Income Taxes"). Exclusive of this amount, the Company's working capital deficiency is $2.6 million resulting in a negative current ratio of 1:1.3. The Company's primary use of available cash resources is to expand its behavioral medicine managed care and contract management businesses and fund operations while it seeks to dispose of certain of its freestanding facilities. Included in operating activities for the first nine months of fiscal 1997 is an increase in notes and other receivables of $0.7 million and unbenefitted tax refunds received of $5.1 million. The increase in other receivables and unbenefitted tax refunds received is related to the Company's 1996 Federal income tax refund (see Note 6 to the Company's Condensed Consolidated Financial Statements included herein). Also included in operating activities for the first nine months of fiscal 1997 is an increase in accounts payable and accrued liabilities of $1.1 million. This represents an increase of accounts payable and accrued expenses of $2.8 which was offset by a decrease in accrued 21 22 interest and expenses of $1.7 million, paid as a result of the Debenture Exchange Offer (see Note 2 to the Condensed Consolidated Financial Statements included herein). Included in the increase in accounts payable and accrued expenses is $0.8 million related to compensation expense for the probable vesting of restricted common shares granted to the Chief Executive Officer (see Note 10 to the Company's Condensed Consolidated Financial Statements included herein). Also included in operating activities is the gain on the Debenture Exchange of $2.2 million. Included in the Company's investing activities for the first nine months of fiscal 1997 are the proceeds from the sale of property and equipment of $0.4 million which was partially offset by the additions to property and equipment of $0.3 million. These proceeds are related to the sale of the Company's freestanding facility in Costa Mesa, California in August 1996. Included in the cash flows from financing activities for the nine months of fiscal 1997 is repayment of debt in the amount of $5.4 million of which $0.7 million is primarily related to debt secured by the Company's freestanding facility which was sold in August 1996 and $4.7 million is related to the Debenture Exchange Offer. Also included in financing activities are the proceeds from the issuance of the Company's Common Stock of $2.8 million. These issuances are related to the exercise of employee stock options in the amount of $0.9 million and issuance of Common Stock in connection with the Debenture Exchange Offer of $1.9 million (see Note 2 to the Condensed Consolidated Financial Statements included herein). The cumulative effect of the above resulted in an ending cash position for the Company on February 28, 1997 of $3.8 million, a decrease of $0.7 million from May 31, 1996. During fiscal 1997, the Company acquired HMS. In conjunction with this acquisition, the Company acquired assets and assumed liabilities. For a supplemental schedule of the noncash investing and financing activities related to this acquisition, see Note 8 to the Company's Condensed Consolidated Financial Statements included herein. Current assets as of February 28, 1997 increased by $0.1 million as compared to May 31, 1996. This immaterial increase is predominately related to an increase in other receivables which was partially offset by a decrease in cash and cash equivalents. Non-current property and equipment held for sale declined by $2.2 million and non-current notes receivable increased by $1.7 million. These changes are related to the sale of the Company's non-operating facility in Costa Mesa, California, which occurred in the first quarter of fiscal 1997. The increase in other assets as of February 28, 1997 is related to the goodwill recorded in conjunction with the acquisition of HMS and other receivables of $1.7 million related to the Company's 1996 Federal tax refund. Current liabilities as of February 28, 1997 decreased $5.3 million as compared to May 31, 1996. This decrease is primarily a result of an increase in accounts payable and accrued liabilities of $1.6 million and unbenefitted tax refunds received of $5.1 million which was offset by the decreases in long-term debt due to the Debenture Exchange Offer which provided for curing of the default and exchange of $6.8 million of Debentures (see Note 2 to the Condensed Consolidated Financial Statements included herein). In October 1996, the Company received a refund of $5.4 million related to its 1996 Federal tax return (see Note 6 to the Company's Condensed Consolidated Financial Statements included herein). In addition, during the third quarter, the Company exchanged its $2.0 million Secured Convertible Note into Preferred Stock, and exchanged a minority interest in one of its subsidiaries into 100,000 shares of Common Stock (see Note 4 to the Company's Condensed Consolidated Financial Statements included herein). Included in current and non-current assets are three hospital facilities designated as property and equipment held for sale with a total carrying value of $5.9 million. In previous years, the Company was obligated to support and fund certain poorly performing freestanding facilities that now have been closed, including two such facilities closed in fiscal 1996 and another in fiscal 1997 (see Note 5 to the Company's Condensed Consolidated Financial Statements included herein). As a result, the Company will no longer be burdened with the negative cash flow requirements associated with such facilities. During the third quarter of fiscal 1997, the Company completed its Debenture Exchange Offer. In addition to recognizing a gain on the Exchange of $2.2 million, the Exchange resulted in a reduction of debt of $6.8 million with the remaining $2.7 million in Debentures due in 2010. The Debenture Exchange will also result in a reduction of interest expense for future periods. During the third quarter of fiscal 1997, the Company also exchanged its $2.0 million Secured Convertible Note into Series A Non-Voting 4% Cumulative Convertible Preferred Stock. This exchange further reduces the Company's future debt obligations. The Company also exchanged a minority interest in one of its subsidiaries into 100,000 shares of its Common Stock (see Note 4 to the Company's Condensed Consolidated Financial Statements included herein). As a result of the above transactions, current liabilities were reduced by $13.5 million, non-current liabilities were increased by $1.6 million, and stockholders' equity was improved by $5.3 million. These transactions also reduced the Company's future cash obligations with the significant reduction in debt and interest expense. 22 23 Based upon current levels of operation and cash on hand of $3.8 million and cash anticipated to be internally generated from operations, the Company believes that it has sufficient working capital to meet obligations as they become due; however, the occurrence of business or economic conditions beyond the control of the Company or the loss of existing contracts from which cash from operations is internally generated or the inability to conclude pending contract proposals may adversely affect the adequacy of such working capital. Such anticipated cash resources to fund additional operating needs include: o The Company has received a firm commitment from a mutual fund to purchase in a private placement at least $5.0 million of 15% fully secured Company notes due no earlier than April 1998 if offered by the Company. o The Company filed its fiscal 1995 Federal tax return, and a Form 1139 "Corporate Application for Tentative Refund" in the amount of $9.4 million. The Company received the full refund claim for fiscal 1995 in October 1995. In September 1996, the Company filed its fiscal 1996 Federal tax return and also filed a Form 1139. The Company received a refund in the amount of $5.4 million during the third quarter of fiscal 1997. The Company has also filed amended Federal tax returns for prior years to claim refunds for an additional $7.7 million. These refund claims have been made under Section 172(f) of the Internal Revenue Code, an area of the tax law without significant precedent, and there may be substantial opposition by the IRS to the Company's refund claims. The Company is currently under audit by the IRS regarding its 1995 and 1996 Federal tax returns and the amended returns for prior years. Accordingly, no assurances can be made as to the Company's entitlement to such refunds or the timing of the receipt thereof (see Note 6 to the Company's Condensed Consolidated Financial Statements included herein). o Included in property and equipment held for sale is one hospital facility currently under contract to be sold. The sale of this facility closed during the fourth quarter of fiscal 1997. The proceeds from the sale were $1.2 million. o Included in assets held for sale (non-current) are two hospital facilities designated as property and equipment held for sale with a total carrying value of $4.7 million. The Company expects to sell these facilities during the next six months. All of these potential sources of additional cash in fiscal 1997 are subject to variation due to business and economic influences outside the Company's control. There can be no assurance that during fiscal 1997 the Company will complete the transactions required to fund its working capital deficit. RISK FACTORS IMPORTANT FACTORS RELATED TO FORWARD-LOOKING STATEMENTS AND ASSOCIATED RISKS This Quarterly Report on Form 10-Q includes forward-looking statements, the realization of which may be impacted by certain important factors discussed under "Item 2--Management's Discussions and Analysis of Financial Conditions." HISTORY OF LOSSES AND ANTICIPATED FUTURE LOSSES; UNCERTAINTY OF FUTURE PROFITABILITY; FAILURE TO MEET NEW YORK STOCK EXCHANGE LISTING CRITERIA As of February 28, 1997, the Company had a stockholders' deficiency of $2.5 million, a working capital deficiency of approximately $14.8 million and a negative current ratio of 1:2.5. The net loss from operations for the nine months ended February 28, 1997 was $3.5 million. There can be no assurance that the Company will be able to achieve profitability and maintain positive cash flows from operations or that profitability and positive cash flow from operations can be sustained on an ongoing basis. Moreover, if achieved, the level of that profitability or that positive cash flow cannot accurately be predicted. The Company's lack of profitability has resulted in the Company failing to satisfy listing standards of the NYSE. No assurance can be made that the Common Stock will continue to trade on the NYSE or that the Company can satisfy the comparable requirements of any other stock exchange or the NASDAQ stock market. 23 24 ABILITY OF THE COMPANY TO CONTINUE AS A GOING CONCERN The Company's independent auditors have included an explanatory paragraph in their report that states that the Company's history of losses and consolidated financial position raise substantial doubt about its ability to continue as a going concern. NEED FOR ADDITIONAL FUNDS; UNCERTAINTY OF FUTURE FUNDING The Company's negative cash flow from operations has consumed substantial amounts of cash. The completion of the Debenture Exchange Offer required substantial amounts of cash for the payment of $4.5 million of default interest and/or payment in exchange for surrender of Debentures which resulted in a depletion of the Company's cash resources (see Note 2 to the Company's Condensed Consolidated Financial Statements included herein). During prior fiscal years, a principal source of liquidity has been the private sale of equity securities and debt securities convertible into equity. Under the shareholder policies of the NYSE, the Company may not be able to effect large placements of equity without shareholder approval, which, if not obtained, may adversely affect the Company with respect to future capital formation. In addition, issuance of additional equity securities by the Company could result in substantial dilution to stockholders. The Company has received tax refunds for fiscal 1995 and 1996 in the amounts of $9.4 million and $5.4 million, respectively. Such refunds are based on loss carrybacks under Section 172(f) of the Internal Revenue Code. Any IRS claim for return of all or any portion thereof could have an adverse effect on the Company's cash flows. See "Taxes" below. DISPOSITION OF ASSETS The Company has been required to dispose of various properties in order to raise working capital, and no assurance can be made that such dispositions will not have adverse effects on the Company's financial condition or that the Company has additional assets that could be disposed of or utilized as collateral in order to fund its capital requirements. TAXES The Company has received tax refunds of approximately $9.4 million and $5.4 million from the carry back of specified losses for fiscal 1995 and 1996, respectively, as defined in Section 172(f) of the Internal Revenue Code. Receipt of the 1995 and 1996 tax refunds does not imply IRS approval. The proceeds to the Company of the 1995 refund were reduced by a $2.5 million offset for the Company's outstanding payroll tax obligation to the Internal Revenue Service ("IRS"), including interest, pursuant to a settlement agreement relating to tax years 1983 through 1991. Also, $1.9 million and $1.1 million contingency fees were paid to Deloitte & Touche, LLP from the refund proceeds for fiscal 1995 and 1996, respectively. Section 172(f) is an area of the tax law without significant precedent. There may be substantial opposition by the IRS to all or a substantial portion of such claims, and no assurances can be made as to the ability to retain tax refunds based on such deductions. Although the Company is currently being audited by the IRS, neither the Company nor the IRS will be precluded in any resultant tax audit from raising these and additional issues. The Company may be unable to utilize some or all of its allowable tax deductions or losses, which depends upon factors including the availability of sufficient net income from which to deduct such losses during limited carryback and carryover periods. Further, the Company's ability to use any Net Operating Losses may be subject to limitation in the event that the Company issues or agrees to issue substantial amounts of additional equity. The Company monitors the potential for "change of ownership" and believes that its financing plans as contemplated will not cause a "change of ownership;" however, no assurances can be made that future events will not act to limit the Company's tax benefits. DEPENDENCE ON REIMBURSEMENT BY THIRD-PARTY PAYORS The Company's ability to succeed in increasing revenues may depend in part on the extent to which reimbursement of the cost of such treatment will be available from government health administration authorities, private health insurers and other organizations. Third-party payors are increasingly challenging the price of medical products 24 25 and services. As a result of reimbursement changes and competitive pressures, the contractual obligations of the Company have been subject to intense evaluation. UNCERTAINTY OF PRICING; HEALTHCARE REFORM AND RELATED MATTERS Managed care operations are at risk for costs incurred to supply agreed upon levels of service. Failure to anticipate or control costs could materially adversely affect the Company. Additionally, the business of providing services on a full risk capitation basis exposes the Company to the additional risk that contracts negotiated and entered into may ultimately be determined to be unprofitable, and result in significant losses by reason of unanticipated utilization levels requiring the Company to deliver and provide services at capitation rates which do not account for or factor in such utilization levels. The levels of revenues and profitability of healthcare companies may be affected by the continuing efforts of governmental and third party payors to contain or reduce the costs of healthcare through various means. In the United States, there have been, and the Company expects that there will continue to be, a number of federal and state proposals to implement governmental controls on the price of healthcare. It is uncertain what legislative proposals will be adopted or what actions federal, state or private payors for healthcare goods and services may take in response to any healthcare reform proposals or legislation. The Company cannot predict the effect healthcare reforms may have on its business, and no assurance can be given that any such reforms will not have a material adverse effect on the Company. SHARES ELIGIBLE FOR FUTURE SALE The Company has issued or committed to issue approximately 150,000 shares available for future issuances related to business transactions; debt convertible or exchangeable into approximately 344,000 shares; and options or other rights to purchase approximately 1,133,000 shares; and contemplates issuing additional amounts of debt, equity or convertible securities in private transactions in furtherance of fulfilling its future capital needs (see "Need for Future Funding: Uncertainty of Future Funding"). Issuance of additional equity, and such shares becoming free of restrictions on resale pursuant to Rule 144 or upon registration thereof pursuant to registration rights granted on almost all of these shares, and additional sales of equity, could adversely affect the trading prices of the Common Stock. PRICE VOLATILITY IN PUBLIC MARKET The securities markets have from time to time experienced significant price and volume fluctuations that may be unrelated to the operating performance of particular companies. Trading prices of securities of companies in the healthcare and managed care sectors have experienced significant volatility. The Company has determined, based upon inquiry made to the NYSE, that a "short position" has existed with respect to the Company's Common Stock. This "short position" has varied from time to time and the Company has been advised that the net of "short position" as of March 31, 1997 was approximately 797,000 shares. The Company cannot predict the effect, if any, that such "short position" may have on either the market or prices for the Company's Common Stock. ANTI-TAKEOVER PROVISIONS The Company's Restated Certificate of Incorporation provides for 60,000 authorized shares of Preferred Stock, the rights, preferences, qualifications, limitations and restrictions of which may be fixed by the Board of Directors without any vote or action by the stockholders, which could have the effect of diluting the Common Stock or reducing working capital that would otherwise be available to the Company. There is currently issued and outstanding 41,260 shares of Preferred Stock designated as Series A Non-Voting 4% Cumulative Convertible Preferred Stock (see "Description of Securities"). The Company's Restated Certificate of Incorporation also provides for a classified board of directors, with directors divided into three classes serving staggered terms. In addition, the Company's stock option plans generally provide for the acceleration of vesting of options granted under such plans in the event of certain transactions which result in a change of control of the Company. In addition, Section 203 of the General Corporation Law of Delaware prohibits the Company from engaging in certain business combinations with interested stockholders. In addition each share of the Company's Common Stock includes one right on the terms, and subject to the conditions, of the Rights Agreement between the Company and Continental Stock Transfer & Trust Company. These provisions may have the effect of delaying or preventing a change in control of the Company without action by the stockholders, and therefore could adversely affect the price of the Company's Common Stock or the possibility of sale of shares to an acquiring person. 25 26 CONTINUED LISTING ON NYSE The Company has been below certain continued listing criteria of the NYSE since prior to October 1994. The continued listing of the Company's Common Stock on the NYSE is subject to continual review and possible delisting upon notices from the Listing and Compliance Committee of the NYSE. LIMITATIONS ON THE DEDUCTIBILITY OF COMPENSATION UNDER CERTAIN CIRCUMSTANCES Pursuant to the 1993 Omnibus Budget Reconciliation Act, a portion of annual compensation payable after 1993 to any of the Company's five highest paid executive officers would not be deductible by the Company for federal income tax purposes to the extent such officers' overall compensation exceeds $1.0 million per executive officer. Qualifying performance-based incentive compensation, however, would be both deductible and excluded for purposes of calculating the $1.0 million base. The Board of Directors has determined that no portion of anticipated compensation payable to any executive officer in 1996 would be non-deductible. 26 27 PART II. -- OTHER INFORMATION ITEM 1. -- LEGAL PROCEEDINGS On October 30, 1992, the Company filed a complaint in the United States District Court for the Eastern District of Missouri against RehabCare Corporation ("RehabCare") seeking damages for violations by RehabCare of the securities laws of the United States, for common law fraud and for breach of contract (Case No. 4:92CV002194 CAS). The Company sought damages for the lost benefit of certain stockholder appreciation rights in an amount in excess of $3.6 million and punitive damages. On March 8, 1995, the jury returned its verdict awarding the Company $2,681,250 in damages, plus interest and the costs of the action against RehabCare for securities fraud and for breach of contract. RehabCare posted a bond in the amount of $3.0 million and filed a motion for new trial or in the alternative, for judgment as a matter of law, which the court denied in its entirety on August 4, 1995. On September 1, 1995, RehabCare filed a notice of appeal with the District Court indicating its intent to appeal the matter to the United States Court of Appeals. On October 22, 1996, the U.S. Court of Appeals for the Eighth Circuit reversed the judgment in favor of the Company and against RehabCare entered by the District Court following the jury's verdict in favor of the Company. On November 5, 1996, the Company filed a Petition for Rehearing with the Eighth Circuit. Any effect from the outcome of this lawsuit will not have a material adverse impact on the Company's results of operations. The Company entered into a Stock Purchase Agreement on April 30, 1996 to purchase the outstanding stock of HMS (see Note 4 to the Company's Condensed Consolidated Financial Statements included herein). The Stock Purchase Agreement was subject to certain escrow provisions and other contingencies which were not completed until July 25, 1996. In conjunction with this transaction, HMS initiated an arbitration against The Emerald Health Network, Inc. ("Emerald") claiming breach of contract and seeking damages and other relief. In August 1996, Emerald, in turn, initiated action in the U.S. District Court for the Northern District of Ohio, Eastern Division, against the Company claiming, among other things, interference with the contract between Emerald and HMS and seeking unspecified damages and other relief. Discovery has been initiated by all parties and the Company believes it has good and meritorious defenses and that HMS has meritorious claims in its arbitration. In November 1996, Emerald moved the court for summary judgment. The hearing on such motion has been adjourned and the Company's response is pending. The Company believes that it has claims arising from this transaction against the accountants and legal counsel of HMS as well as HMS's lending bank. On October 1, 1996, the Company filed a claim of malpractice against the legal counsel of HMS. These claims are presently being investigated and have not as yet been quantified. The Company does not believe that the impact of these claims will have a material adverse effect on the Company's financial position, results of operations and cash flows. On September 6, 1996, the Company instituted an arbitration against the Sellers of HMS with the American Arbitration Association in Orange County, California seeking, among other things, damages from the Sellers which the Company sustained by reason of the inaccuracies of the representations and warranties made by the Sellers and for the indemnification from each of the Sellers as provided for under the terms of the Stock Purchase Agreement. The Sellers have not interposed their answers to the arbitration, and the arbitration is therefore in its formative stages. The Company does not believe that the impact of these claims will have a material adverse effect on the Company's financial position, results of operations and cash flows. OTHER LITIGATION In October 1994, the NYSE notified the Company that it was below certain quantitative and qualitative listing criteria in regard to net tangible assets available to Common Stock and three year average net income. The Listing and Compliance Committee of the NYSE has determined to monitor the Company's progress toward returning to continuing listing standards and has so indicated in approving the Company's most recent Listing Application on December 30, 1996. Management believes, though no assurance may be given, that the recent completion of the Company's Debenture Exchange Offer will enable the Company to seek additional equity and thereby satisfy the Committee of the Company's progress. No assurance may be given that additional equity may be obtained on terms favorable to the Company. From time to time, the Company and its subsidiaries are also parties and their property is subject to ordinary routine litigation incidental to their business. In some pending cases, claims exceed insurance policy limits and the Company or a subsidiary may have exposure to a liability that is not covered by insurance. Management believes that the outcome of such lawsuits will not have a material adverse impact on the Company's financial statements. 27 28 ITEM 3. -- DEFAULTS UPON SENIOR SECURITIES See the discussion contained in Note 2 to the Company's Condensed Consolidated Financial Statements included herein for a discussion of the Company's default in the payment of interest on its 7 1/2% Convertible Subordinated Debentures, the acceleration thereof, and the affirmative consents of Debentureholders which waived such default and acceleration. In October 1994, the New York Stock Exchange, Inc. notified the Company that it was below certain quantitative and qualitative listing criteria in regard to net tangible assets available to Common Stock and three year average net income. The Listing and Compliance Committee of the NYSE has determined to monitor the Company's progress toward returning to continuing listing standards and has so indicated in approving the Company's most recent Listing Application on December 30, 1996. Management believes, though no assurance may be given, that the recent completion of the Company's Debenture Exchange Offer will enable the Company to seek additional equity and thereby satisfy the Committee of the Company's progress. ITEM 4. -- SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS The results of the Company's Annual Shareholders' Meeting were reported in the Company's Report on Form 8-K dated December 10, 1996. ITEM 6. -- EXHIBITS AND REPORTS ON FORM 8-K (a) Exhibits 10.72 Employment Agreement effective January 1, 1997, between the Company and Stuart J. Ghertner, Ph.D. (filed herewith). 10.73 Letter Agreement dated April 4, 1997 between the Company and Chriss W. Street (filed herewith). 27 Financial Data Schedules (filed herewith). (b) Reports on Form 8-K 1) The Company filed a current report on Form 8-K dated December 10, 1996, to report under Item 5, the results of its Annual Meeting of Stockholders which included the election of a Class II Director. 2) The Company filed a current report on Form 8-K dated December 23, 1996, to report under Item 5 that the Company had elected to extend the expiration date of its Debenture Exchange Offer from 2:00 p.m. (Central Time) on December 23, 1996 to 2:00 p.m. (Central Time) on December 30, 1996. 3) The Company filed an amended report to Form 8-K dated December 30, 1996 to report under Item 5 the completion of the Debenture Exchange Offer on December 30, 1996 at 2:00 p.m. (Central) and the final results of such exchange offer and consent solicitation. 4) The Company filed a current report on Form 8-K dated January 30, 1997, under Item 5, to report the exchange of the Company's $2.0 million Secured Convertible Note into newly designated Series A Non-Voting 4% Cumulative Convertible Preferred Stock. 28 29 SIGNATURE Pursuant to the requirements of the Securities Exchange Act of 1934, the Company has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. COMPREHENSIVE CARE CORPORATION April 10, 1997 By /s/ CHRISS W. STREET ------------------------------------- Chriss W. Street President and Chief Executive Officer (Principal Executive Officer) April 10, 1997 By /s/ KERRI RUPPERT ------------------------------------ Kerri Ruppert Senior Vice President and Chief Financial Officer (Principal Financial Officer) (Principal Accounting Officer) 29 EX-10.72 2 EMPLOYMENT AGREEMENT EFFECTIVE JANUARY 1, 1997 1 EXHIBIT 10.72 EMPLOYMENT AGREEMENT EMPLOYMENT AGREEMENT ("Agreement") made this 28th day of March, 1997, effective as of January 1, 1997, by and between STUART A. GHERTNER, residing at 25 Pheasant Ridge Drive, Henderson, Nevada 89014 ("Executive") and COMPREHENSIVE CARE CORPORATION, a Delaware corporation with its principal offices located at 1111 Bayside Drive, Suite 100, Corona del Mar, California 92625 ("Company"). W I T N E S S E T H WHEREAS, Executive is currently acting as Interim Chief Operating Officer of the Company and Interim President of Comprehensive Behavioral Care, Inc. ("CBC"), a majority owned subsidiary of the Company; WHEREAS, the Company desires to continue to employ Executive as its Chief Operating Officer and as President and Chief Operating Officer of CBC on the terms and conditions provided for herein; WHEREAS, Executive has expertise and experience in providing managed health care services; and WHEREAS, Executive has made and is expected to continue to make a major contribution to the profitability, growth and financial strength of Company and CBC; NOW, THEREFORE, it is mutually agreed by and between the parties hereto as follows: ARTICLE I EMPLOYMENT 1.1 Duties. Subject to and upon the terms and conditions of this Agreement, the Company hereby employs and agrees to continue the employment of the Executive, and the Executive hereby accepts such continued employment in his capacity as Chief Operating Officer of the Company and President and Chief Operating Officer of CBC. Executive shall report to the Chief Executive Officer of the Company and to the Board of Directors of the Company, and in the case of CBC, to the Chairman of the Board of Directors of CBC. The Executive agrees to devote his full business time to his employment with the Company and CBC, to serve the Company and CBC faithfully and to the best of his ability, and to perform such services and duties of an executive nature in connection with the business, affairs and operations of the Company and 2 of CBC as may be reasonably and in good faith assigned or delegated to him from time to time by or under the authority of the President/CEO of the Company, and consistent with the position of Chief Operating Officer of the Company and President and Chief Operating Officer of CBC. 1.2 Principal Base of Operations. Executive acknowledges that the Company's present principal place of business is Corona del Mar, California, and that the principal place of business of CBC is located in Tampa, Florida. In addition, business operations of the Company and of CBC are, have been, or are contemplated to be conducted in the states of New Jersey, New York, Michigan, Texas, and the Commonwealth of Puerto Rico. Executive shall undertake such travel and shall be in attendance at the Company's principal executive offices in Corona del Mar, California and such other locations where the business or operations of the Company and/or CBC are located as may be reasonably necessary or required for Executive to perform his duties hereunder. ARTICLE II COMPENSATION 2.1 Salary. Commencing on the effective date of this Agreement and during the term of this Agreement, Executive shall receive a base salary (the "Base Salary") at the rate of $175,000 per annum payable in equal weekly increments or otherwise in accordance with regular payroll practices of the Company. Executive may receive such other bonuses or additional compensation as may be determined from time to time by the Board of Directors, but in all events Executive will receive the bonus provided for in Section 2.3, to the extent earned. The Company shall deduct from Executive's compensation all federal, state and local taxes which it may now or may hereafter be required to deduct. As a one-time incentive to Executive for entering into this Agreement, the Company shall pay to Executive a one-time bonus of $45,000, which shall be paid as follows: the sum of $15,000 shall be paid to Executive upon the execution of this Agreement, and the remainder of $30,000 shall be paid to Executive in nine consecutive installments of $3,333.33 each, commencing April 1, 1997 and continuing on the first day of each of the eight successive months thereafter. The Company shall deduct and withhold from the initial payment and each monthly installment payment, all applicable federal and state tax and withholding payments required to be withheld. 2.2 Benefits. During the term hereof, Executive shall be provided with medical, health and long-term disability insurance benefits of the same nature and type and in the same manner and to the same extent as provided to other officers of the Company. Executive shall be entitled to three weeks of paid vacation during each 12-month period of employment, to be accrued in accordance with the Company's vacation policies, and to be taken at such times as not to -2- 3 interfere with special projects then in process. Additionally, during the term hereof, Executive shall be accorded such leave, holidays and other benefits as generally made available to other officers of the Company and shall also be eligible for those fringe benefits programs and stock option plans as are made available to officers of the Company or of CBC. The Company shall reimburse Executive for all necessary and reasonable business expenses incurred by Executive while performing services under this Agreement, consistent with the Company's expense reimbursement policies. 2.3 Bonus. In addition to the annual Base Salary, Executive shall be entitled, during the term hereof, to receive a cash bonus as provided in this Section 2.3. Executive's cash bonus shall be computed and paid quarterly as herein provided. No bonus shall be earned or shall be payable if the amount of the Company's quarterly operating revenues as reported on a consolidated basis are less than $12.5 million and the amount of the Company's earnings before taxes as a percentage of quarterly operating revenues are less than 2.5%. With respect to each fiscal quarter during the term hereof, commencing with the fiscal quarter ending February 28, 1997, provided that both the quarterly operating revenues and earnings before taxes conditions have been fulfilled for that quarter, there shall be paid to Executive, within 60 days following the end of the applicable fiscal quarter, an amount equal to 1.875% of the Company's earnings before taxes as computed for such fiscal quarter. For the purpose of the foregoing, operating revenues shall be defined as revenues from the Company's on-going operations as reported in the Company's filings made with the Securities and Exchange Commission and earnings before taxes shall be defined as earnings as determined in accordance with generally accepted accounting principles before deduction of or provision for all applicable taxes. Within 30 days following the end of each fiscal quarter, the Company shall cause the Chief Financial Officer of the Company to prepare and deliver to Executive a report setting forth the amount of quarterly bonus for such quarter and the method of computation therefor. 2.4 Stock Options. (a) Upon the execution of this Agreement, the stock option grant heretofore made by the Company to Executive of options, on August 23, 1996, to purchase shares of the Company's Common Stock under the Company's 1988 Incentive Stock Option Plan and Non-Statutory Stock Option Plan (the "Plan") is hereby ratified and confirmed, as follows: (i) an option to purchase 5,000 shares of Common Stock at an exercise price of $7 7/8 per share to be designated as a "non-incentive stock option". These options are subject to the terms of the Plan and the Company's standard form of Stock Option Agreement. The Company shall evidence the grant of the options to Executive by delivering to Executive, simultaneously with his execution of this Agreement, the Stock Option Agreement, executed by a duly authorized officer of the Company. -3- 4 (b) The Company hereby grants to Executive, stock options to purchase an aggregate of 120,000 shares of the Company's Common Stock at an exercise price of $11.375 per share in the Company's 1995 Incentive Plan, to be vested and exercisable upon the following terms. (i) a vested option to purchase 20,000 shares of Common Stock at an exercise price of $11.375 per share to be designated as a "nonqualified stock option". (ii) Upon the Company first achieving quarterly revenues from operations in any fiscal quarter commencing with the fiscal quarter ending February 28, 1997 in an amount equal to or greater than $12.5 million and earnings before taxes in an amount equal to or greater than 2.5% of such quarterly operating revenues, stock options to purchase 10,000 shares shall vest and thereafter be exercisable following the occurrence of the vesting condition at any time before December 31, 2007. $12.5 million of operating revenues and $312,500 of earnings before taxes are referred to as the "Level I Targets". Options to purchase an additional 10,000 shares shall vest and thereafter be exercisable at any time before December 31, 2007, on the further condition that (i) the Company achieve not less than the Level I Targets in each of the next two successive fiscal quarters or (ii) the average of the operating revenues and earnings before taxes for the fiscal quarter with respect to which the stock options in the first sentence of this Section 2.4(i) vested and the next three immediately succeeding fiscal quarters equal or exceed the Level I Targets and, failing which, the option with respect to such additional 10,000 shares options shall not vest or become exercisable and shall lapse and terminate. (iii) Upon the Company first achieving quarterly revenues from operations in any fiscal quarter commencing with the fiscal quarter ending February 28, 1997 in an amount equal to or greater than $20 million and earnings before taxes in an amount equal to or greater than 4% of such quarterly operating revenues, stock options to purchase 10,000 shares shall vest and thereafter be exercisable following the occurrence of the vesting condition at any time before December 31, 2007. $20 million of operating revenues and $500,000 of earnings before taxes are referred to as the "Level II Targets". Options to purchase an additional 10,000 shares shall vest and thereafter be exercisable at any time before December 31, 2007, on the further condition that (i) the Company achieve not less than the Level II Targets in each of the next two successive fiscal quarters or (ii) the average of the operating revenues and earnings before taxes for the fiscal -4- 5 quarter with respect to which the stock options in the first sentence of this Section 2.4(ii) vested and the next three immediately succeeding fiscal quarters equal or exceed the Level II Targets and, failing which, the option with respect to such additional 10,000 shares options shall not vest or become exercise and shall lapse and terminate. (iv) Upon the Company first achieving quarterly revenues from operations in any fiscal quarter commencing with the fiscal quarter ending February 28, 1997 in an amount equal to or greater than $20 million and earnings before taxes in an amount equal to or greater than 6% of such quarterly operating revenues, stock options to purchase 10,000 shares shall vest and thereafter be exercisable following the occurrence of the vesting condition at any time before December 31, 2007. $20 million of operating revenues and $1,000,000 of earnings before taxes are referred to as the "Level III Targets". Options to purchase an additional 10,000 shares shall vest and thereafter be exercisable at any time before December 31, 2007, on the further condition that (i) the Company achieve not less than the Level III Targets in each of the next two successive fiscal quarters or (ii) the average of the operating revenues and earnings before taxes for the fiscal quarter with respect to which the stock options in the first sentence of this Section 2.4(ii) vested and the next three immediately succeeding fiscal quarters equal or exceed the Level III Targets and, failing which, the option with respect to such additional 10,000 shares options shall not vest or become exercisable and shall lapse and terminate. (v) Upon the Company first achieving quarterly revenues from operations in any fiscal quarter commencing with the fiscal quarter ending February 28, 1997 in an amount equal to or greater than $30 million and earnings before taxes in an amount equal to or greater than 8.5% of such quarterly operating revenues, stock options to purchase 20,000 shares shall vest and thereafter be exercisable at any time before December 31, 2007. $30 million of operating revenues and $1,500,000 of earnings before taxes are referred to as the "Level IV Targets". Options to purchase an additional 20,000 shares shall vest and thereafter be exercisable at any time before December 31, 2007, on the further condition that (i) the Company achieve no less than the Level IV Targets in each of the next two successive fiscal quarters or (ii) the average of the operating revenues and earnings before taxes for the fiscal quarter with respect to which the stock options in the first sentence of this Section 2.4(iv) vested and the next three immediately succeeding fiscal quarters equal or exceed the Level IV Targets and, failing which, the option with respect to such additional -5- 6 20,000 shares options shall not vest or become exercisable and shall lapse and terminate. (vi) Notwithstanding the above provisions regarding the conditions for vesting, if the Company or CBC become subject to a Transaction (as defined in the next sentence), all stock options granted under this Section 2.4(b) shall immediately vest. A "Transaction" shall mean (A) the acquisition by any person or entity (including a "group" as defined in Section 13(d)(3) of the Securities Exchange Act of 1934 ("Section 13(d)")) of beneficial ownership (within the meaning of the rules promulgated by the Securities and Exchange Commission under Section 13(d)) of, or voting control over, thirty percent (30%) or more of the outstanding voting securities of the Company (or any successor or surviving entity resulting from a merger, consolidation or reorganization), (B) the completion and consummation of an agreement for a merger, consolidation or reorganization involving the Company, unless the holders of the outstanding voting securities of the Company immediately before such transaction shall continue (in substantially the same proportion) to own at least seventy percent (70%) of the outstanding voting securities of the surviving entity resulting from such transaction, (C) the execution of an agreement to sell or otherwise transfer all or substantially all of the assets of the Company, (iv) a complete liquidation or dissolution of the Company or (v) the occurrence of a transaction described in clauses (A), (B) or (C) with respect to CBC. Anything to the contrary notwithstanding in clause (A) of this subparagraph (vi), the Lindner Funds and Dreyfus Fund, and their respective affiliates, as defined in Rule 405 of the General Rules and Regulations under the Securities Act of 1933, shall be ex- cluded from the application of such clause. (vii) For the purpose of this Section 2.4(b), fiscal quarterly operating revenues and earnings before taxes shall have the same meaning as in Section 2.4. All options granted to Executive under this Section 2.4(b) shall be designated as non-qualified stock options and shall be subject to the terms of the Plan and the Stock Option Agreement. The Company shall evidence the grant of the stock options to Executive by delivering to Executive, simultaneously with his execution of this Agreement, the Stock Option Agreement, executed by a duly authorized officer of the Company. (c) The Company represents that options for the 125,000 shares granted to Executive are available for grant under the Plans. The Company agrees to cause the stock options granted hereunder to be issued to Executive in a manner that provides for both the grant and exercise thereof to be exempt from Section 16(b) of the Securities Exchange Act of 1934, as -6- 7 amended. The Company represents that the option plan under which the options referred to in this Paragraph 2.4 have been granted has been registered on Form S-8 with the Securities and Exchange Commission. The Company shall use its best efforts to maintain such Registration Statement current. 2.5 Excise Tax. If at any time, as a result of the receipt by Executive of benefits under this Agreement, including but not limited to the receipt of severance benefits, the vesting of options (including the acceleration of the vesting of options) as a result of a Transaction (the "Excise Tax Transaction"), Executive is subject to the excise tax imposed by Section 4999 of the Internal Revenue Code of 1986, as amended, the Company will pay to Executive an amount (the "Gross-up Amount") equal to the amount of excise tax imposed on Executive plus the amount of federal and state income tax imposed on the amounts payable to Executive under this Section 2.5, assuming Executive is taxed at the highest stated tax rates applicable to Executive; provided, however, that the total aggregate market capitalization value as of the date of the Excise Tax Transaction is not less than an amount equal to the number of shares of the Company's Common Stock issued and outstanding as of the date of the Excise Tax Transaction multiplied by $20 per share. 2.6 Insurance and Indemnification. (a) During the term of this Agreement and for a period of three years thereafter, the Company shall maintain in full force and effect, at its sole cost and expense, director and officer liability insurance coverage that covers Executive. Such coverage for Executive shall be in an amount and on terms that are at least as favorable to Executive as to any other officer or director of the Company. (b) Simultaneously with the execution of this Agreement, the Company will (i) enter into an indemnification agreement with Executive in substantially the same form as the indemnification agreements entered into with any other officer or director of the Company and (ii) amend the Directors and Officers Trust entered into on February __, 1995 to include Executive as an "Indemnitee" thereunder. ARTICLE III SEVERANCE 3.1 Severance Upon Termination for Cause. In the event that Executive is terminated for reasons of cause as set forth in Paragraph 3.4 hereof, or in the event Executive shall die, become permanently disabled or shall voluntarily terminate his employment, Executive shall not be entitled to any severance or other payment from the Company except for compensation earned to the date of termination, and any pro rata portion of any bonus accrued but not paid through the date of termination. Executive acknowledges that, except as specifically provided for herein with respect to the payment of severance upon termination without cause, severance is a -7- 8 matter of discretion of the Company and no act or course of dealing by the Company with other of its employees shall be deemed or construed to confer any right or benefit upon Executive with respect to either the entitlement or payment of severance. 3.2 Severance Upon Termination Without Cause. In the event Executive's employment is terminated by the Company without cause as provided for in Paragraph 3.4 hereof, then in such case, Executive shall be entitled to the following severance benefits: if termination by the Company shall occur prior to the expiration of 24 months from the date hereof, Executive shall be entitled to receive, as a severance benefit, an amount equal to nine (9) months Base Salary from which the Company shall deduct all applicable federal, state or local employment and withholding taxes. Such severance payment shall be made in accordance with the regular payroll practices of the Company existing at the time of termination and shall continue to be made for such nine month period irrespective of whether or not Executive has obtained other or alternate employment. 3.3 Special Severance Payment in the Event of Sale or Merger of the Company. If, during the term hereof, and while Executive shall continue to be employed by the Company, the Company (i) enters into an agreement to merge with any other entity or sell all or substantially all of its assets to any other entity, or (ii) enters into an agreement involving the sale of its controlling interest in CBC, the sale by CBC of all or substantially all of its assets, or the merger of CBC into and with another entity in which CBC is not the survivor, or in which Comprehensive Care Corporation is not the controlling shareholder (subparagraphs (i) and (ii) collectively referred to as a "Special Severance Transaction"), then, in such case, Executive shall, within 30 days following the completion of a Special Severance Transaction, receive a special severance benefit equal to one (1) year's annual base salary, unless Executive shall, in his sole discretion, either within 90 days following or in connection with such Special Severance Transaction, enter into an agreement pursuant to which his employment with the Company shall continue for not less than 24 months following such Special Severance Transaction, and which agreement provides for an annual salary and bonus not less than Executive's prevailing salary at the time of such Special Severance Transaction, and with substantially the same responsibilities as set forth in this Agreement. If, during the term hereof, and while Executive shall continue to be employed by the Company, the Company (i) enters into an agreement to merge with any other entity or (ii) enters into any agreement involving the sale of its controlling interest in CBC ((i) and (ii) collectively being referred to as a "Transaction"), then, in such case, Executive shall, within 30 days following the completion of a Transaction, receive a special severance benefit equal to one year's annual Base Salary unless Executive shall, either following or in connection with such Transaction, enter into an agreement pursuant to which his employment with the Company shall continue for not less than -8- 9 24 months following such Transaction, at an annual salary not less than Executive's prevailing salary at the time of such Transaction. 3.4 Definition of "Cause". For all purposes of this Agreement, "cause" shall constitute (i) the death of Executive, (ii) the physical or mental disability of Executive which shall render Executive unable to perform his usual and customary duties for two consecutive months or 60 days in any 12 month period, (iii) written notice by the Company to Executive of a breach or default in the performance by Executive of any of his material obligations under this Agreement, and which breach or default is not cured within 15 days following such notice to Executive specifying the breach or default, (iv) the commission by Executive of any act resulting in or intending to result in his personal gain or enrichment at the expense of the Company or the commission by Executive of any felony or misdemeanor or act involving moral turpitude. ARTICLE IV RESTRICTIONS 4.1 Non-Disclosure. The Executive shall not, at any time during or after the termination of his employment hereunder, except when acting on behalf of the Company, make use of or disclose to any person, corporation, or other entity, for any purpose whatsoever, any trade secret or other confidential information concerning the Company's business, finances, marketing information, managed care business, plans and programs, psychiatric and dependency operations, and information relating to any managed care, capitation, sales or marketing programs of the Company (collectively referred to as the "Proprietary Information"). For the purposes of this Agreement, trade secrets and confidential information shall mean information disclosed to the Executive or known by him solely as a consequence of his employment by the Company, whether or not pursuant to this Agreement, and not generally known (other than as disclosed by any person in breach of any obligation of confidentiality to the Company) in the industry, concerning the business, finances, methods, operations, marketing information, and information relating to the sales and marketing of the Company. The foregoing is intended to be confirmatory of the common law of the State of California relating to trade secrets and confidential information as in effect on the date of this Agreement. 4.2 Non-Competition. In the event of the termination of employment with the Company by Executive, Executive agrees that he will not, for a period of one year following such termination, solicit existing business or potential business. In furtherance of the foregoing, Executive shall not during the aforesaid period of non-competition, directly or indirectly, in competition with the Company, solicit any management person who was employed by the Company or solicit any provider, insurer or group through, from or with which the Company transacted any material managed health care business. The foregoing shall not be deemed or construed to prevent Executive from soliciting any consultant or advisor to the Company for any -9- 10 project that Executive may participate in which is not in violation of this Section 4.2. If it is determined that the duration of non-competition or any other restriction contained in this paragraph is unenforceable, it is the parties' intention that same shall not thereby be terminated but shall be deemed amended to delete therefrom such provision or portion adjudicated to be invalid or unenforceable or in the alternative the arbitrator may substitute a term. ARTICLE V MISCELLANEOUS 5.1 Term. This Agreement shall be for a term of two years commencing as of January 1, 1997 and terminating on December 31, 1998 unless sooner terminated as provided for herein. 5.2 Entire Agreement. This Agreement sets forth the entire agreement between the parties and supersedes all prior agreements between the parties, whether oral or written. 5.3 Severability. If any provision of this Agreement shall be held invalid and unenforceable, the remainder of this Agreement shall remain in full force and effect. If any provision is held invalid or unenforceable with respect to particular circumstances, it shall remain in full force and effect in all other circumstances. 5.4 Notice. All notices required to be given under the terms of this Agreement shall be in writing and shall be deemed to have been duly given only if delivered to the addressee in person or mailed by certified mail, return receipt requested, as follows: Company: Comprehensive Care Corporation 1111 Bayside Drive - Suite 100 Corona del Mar, California 92625 Executive Stuart J. Ghertner, Ph.D. 25 Pheasant Ridge Drive Henderson, Nevada 89014 or to any such other address as the party to receive the notice shall advise by due notice given in accordance with this paragraph. 5.5 Benefit. This Agreement shall inure to, and shall be binding upon, the parties hereto, the successors and assigns of the Company, and the heirs and personal representatives of the Executive. -10- 11 5.6 Waiver. The waiver by either party of any breach or violation of any provision of this Agreement shall not operate or be construed as a waiver of any subsequent breach of construction and validity. 5.7 Governing Law. This Agreement has been negotiated and executed in the State of California, and California law shall govern its construction and validity. 5.8 Dispute Resolution. (a) Any controversy or claim arising out of or relating to this Agreement, except any controversy or claim arising out of or relating to Article IV hereof, shall be settled by arbitration in accordance with the Commercial Arbitration Rules of the American Arbitration Association. The arbitration shall be conducted by a single arbitrator. The arbitration shall be governed by the United States Arbitration Act, 9 U.S.C. Sections 1-16, and judgment upon the award entered by the arbitrator may be entered by any court having jurisdiction thereof. The location of the arbitration and all proceedings in connection therewith shall be in Orange County, California unless otherwise agreed by the parties. As to any dispute, controversy or claim that under the terms hereof is made subject to arbitration, no suit at law or in equity based on such dispute, controversy or claim shall be instituted by either party hereto, other than to compel arbitration proceedings or enforce the award of the arbitrator, except that a party may seek to obtain a temporary restraining order or injunction. (b) The arbitrator shall (unless the arbitrator otherwise determines) consider the time value of money in determining any awards and may grant any relief deemed by the arbitrator to be just and reasonable and within the scope of this Agreement, except equitable relief; provided, however, that the arbitrator may not award punitive damages, and the parties hereby irrevocably waive any claims to punitive damages except for claims arising under Article IV hereof. All privileges under California and federal law, including attorney-client and work-product privileges, shall be preserved and protected to the same extent that such privileges would be protected in a federal court proceeding applying California law. The compensation for the service of the arbitrator and any expenses incurred shall be paid equally by the parties to the arbitration. 5.9 Entire Agreement. This Agreement contains the entire agreement between the parties hereto. No change, addition or amendment shall be made hereto, except by written agreement signed by the parties hereto. -11- 12 IN WITNESS WHEREOF, the parties hereto have executed this Agreement on the day and year first above written. COMPREHENSIVE CARE CORPORATION By: /s/ CHRISS W. STREET --------------------------------- Name: Chriss W. Street Title: Chairman, President and Chief Executive Officer /s/ STUART J. GHERTNER ------------------------------------ STUART J. GHERTNER -12- EX-10.73 3 LETTER AGREEMENT DATED APRIL 4, 1997 1 EXHIBIT 10.73 April 4, 1997 Mr. Chriss W. Street Comprehensive Care Corporation 1111 Bayside Drive - Suite 100 Corona del Mar, CA 92625 Dear Mr. Street: This letter shall serve to amend the Grant of Restricted Shares (the "Grant") entered into between yourself and Comprehensive Care Corporation on November 9, 1995. These changes are made in recognition of the fact that Comprehensive Care Corporation operates on a fiscal year ending May 31st and not December 31st as stated in the Grant. All changes contained herein will be deemed retroactive to the original date of the Grant. Unless otherwise defined herein, capitalized terms shall have the same meaning as defined in the Grant. Paragraph four (4) of the Grant shall be amended to change the annual vesting date of the Annual Vested Shares from December 31st of each year to May 31st of each year. Accordingly, the date of the initial grant shall be changed from December 31, 1995 to May 31, 1996. Said paragraph shall now read as follows: "Of the total number of One Hundred Thousand (100,000) Restricted Shares, such Restricted Shares shall vest at the rate of Five Thousand (5,000) Restricted Shares per year (the "Annual Vested Shares") on May 31st of each year commencing May 31, 1996 and continuing at the rate of Five Thousand (5,000) Annual Vested Shares per year on May 31st of each successive year for nineteen years thereafter." Paragraph five (5) of the Grant shall be amended to change the date on which the Company shall pay to the Executive a cash bonus equivalent to the amount of the combined federal and applicable state and city income tax associated with the Annual Vested Shares from 2 Mr. Chriss W. Street April 4, 1997 Page 2 "On or before April 15th of each year in which each 5,000 shares shall have vested" to "On or before August 31st of each year in which each 5,000 shares shall have vested". Said paragraph shall now read as follows: "On or before August 31st of each year in which each 5,000 shares shall have vested, the Company shall pay to the Executive a cash bonus equivalent to the amount of the combined federal and applicable state and city income tax associated with the Annual Vested Shares." Paragraph six (6)(i) of the Grant shall be amended to change the references to "December 31st" and "December 31," in that paragraph to "May 31st" and "May 31," respectively. Said paragraph shall now read as follows: "(i) For each fiscal year of the Company ending May 31st, 1,000 Additional Restricted Shares shall vest (or pro rata portion thereof) for each $1,000,000 (or pro rata portion thereof) of the Company's net pre-tax profit as reported by the Company in its Annual Report for such fiscal year." Paragraph six (6)(iii) shall be amended changing all references to "December 31st" in the first sentence thereof to "May 31st". The first sentence of the paragraph shall now read as follows: "(iii) As of May 31st of each year, for each 1% of increase of market value of the Company's voting securities above 110% of the market value of the Company's voting securities as of May 31st of the preceding year, 1,000 Additional Restricted Shares shall vest. For the purpose of the foregoing, aggregate market value for the Company's Common Stock shall be computed and determined in the manner set forth on the cover page of Form 10-K. By way of example, and not by way of limitation, if the aggregate market value for the Company's voting securities was $16,000,000 on May 31, 1994, and the 3 Mr. Chriss W. Street April 4, 1997 Page 3 aggregate market value on May 31, 1995 was $19,520,000, Executive would be entitled to have 2,000 Additional Restricted Shares vested by reason of the aggregate market value having exceeded, by 2%, 20% of the aggregate market value for the preceding fiscal year." If the changes described above are acceptable to you, please sign and return one copy of this letter to me for our files. Comprehensive Care Corporation By: /s/ J. MARVIN FEIGENBAUM ------------------------------- J. Marvin Feigenbaum Vice Chairman AGREED: /s/ CHRISS W. STREET - ------------------------------------- Chriss W. Street EX-27 4 FINANCIAL DATA SCHEDULE
5 1,000 U.S. DOLLARS 9-MOS MAY-31-1997 JUN-01-1996 FEB-28-1997 1,000 3,766 0 2,322 1,061 0 10,077 9,888 3,659 25,665 24,843 2,692 0 2,073 34 (4,645) 25,665 28,141 28,141 24,690 31,673 230 189 670 (4,210) (341) (3,879) 0 2,191 0 (1,688) (0.56) (0.53)
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