-----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, CIWX6i4s0thxKocBhGk5oJAo8G2MLldDU65YdN5wqEeX9LL3KmaoIapyKpXHbtoB 4bOYeb48M7qTTZNoxWh6Ug== 0000915127-04-000082.txt : 20041112 0000915127-04-000082.hdr.sgml : 20041111 20041112110616 ACCESSION NUMBER: 0000915127-04-000082 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 4 CONFORMED PERIOD OF REPORT: 20040930 FILED AS OF DATE: 20041112 DATE AS OF CHANGE: 20041112 FILER: COMPANY DATA: COMPANY CONFORMED NAME: PHC INC /MA/ CENTRAL INDEX KEY: 0000915127 STANDARD INDUSTRIAL CLASSIFICATION: SERVICES-HOME HEALTH CARE SERVICES [8082] IRS NUMBER: 042601571 STATE OF INCORPORATION: MA FISCAL YEAR END: 0630 FILING VALUES: FORM TYPE: 10-Q SEC ACT: 1934 Act SEC FILE NUMBER: 000-22916 FILM NUMBER: 041136539 BUSINESS ADDRESS: STREET 1: 200 LAKE ST STE 102 CITY: PEABODY STATE: MA ZIP: 01960 BUSINESS PHONE: 9785362777 MAIL ADDRESS: STREET 1: 200 LAKE ST STREET 2: STE 102 CITY: PEABODY STATE: MA ZIP: 01960 10-Q 1 q10_101504.txt 10Q FIRST QUARTER 2005 U. S. SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 Form 10-QSB (Mark One) |X| QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2004 |_| TRANSITION REPORT UNDER SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM ___________ TO ___________ Commission file number 0- 22916 PHC, INC. (Exact name of small business issuer as specified in its charter) Massachusetts 04-2601571 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 200 Lake Street, Suite 102, Peabody MA 01960 (Address of principal executive offices) (Zip Code) 978-536-2777 (Issuer's telephone number) (Former Name, former address and former fiscal year, if changed since last report) Check whether the issuer (1) filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act during the past 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes _ X No____ Applicable only to corporate issuers Number of shares outstanding of each class of common equity, as of October 31, 2004 Class A Common Stock 16,599,985 Class B Common Stock 776,991 Transitional Small Business Disclosure Format (Check one): Yes______ No X -- 1 -- PHC, Inc. PART I. FINANCIAL INFORMATION Item 1. Financial Statements Condensed Consolidated Balance Sheets - September 30, 2004 (unaudited) and June 30, 2004. Condensed Consolidated Statements of Operations (unaudited) - Three months ended September 30, 2004 and September 30, 2003. Condensed Consolidated Statements of Cash Flows (unaudited) - Three months ended September 30, 2004 and September 30, 2003. Notes to Condensed Consolidated Financial Statements (unaudited) - September 30, 2004. Item 2. Management's Discussion and Analysis or Plan of Operation Item 3. Controls and Procedures PART II. OTHER INFORMATION Item 1. Legal Proceedings Item 6. Exhibits and Reports on Form 8-K. Signatures -- 2 -- PART I. FINANCIAL INFORMATION Item 1 Financial Statements PHC, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED BALANCE SHEETS (UNAUDITED) September 30, June 30, ASSETS 2004 2004 _______________________________________________________________________________ Current assets: Cash and cash equivalents $ 156,959 $ 594,823 Accounts receivable, net of allowance for doubtful accounts of $1,775,046 at September 30, 2004, $2,025,888 at June 30, 2004 5,672,548 5,165,150 Prepaid expenses 534,374 168,542 Other receivables and advances 1,380,282 860,195 Deferred income tax asset 937,406 842,806 ___________ ___________ Total current assets 8,681,569 7,631,516 Accounts receivable, non-current 85,000 96,052 Other receivable 88,995 94,469 Property and equipment, net 1,539,754 1,353,975 Deferred financing costs 60,000 -- Customer relationships, net of amortization of $50,000 at September 30, 2004 and $20,000 at June 30, 2004 2,350,000 2,380,000 Goodwill 1,434,972 1,416,119 Other assets 357,453 339,438 ___________ ___________ Total assets $14,597,743 $13,311,569 =========== =========== LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities: Accounts payable $ 2,024,485 $ 1,668,509 Current maturities of long-term debt 487,898 1,713,395 Revolving credit note 1,952,058 1,714,380 Deferred revenue 107,147 38,151 Current maturities of obligations under capital leases 44,504 18,169 Accrued payroll, payroll taxes and benefits 1,286,307 1,305,490 Accrued expenses and other liabilities 749,772 682,567 Convertible debentures 250,000 250,000 ___________ ___________ Total current liabilities 6,902,171 7,390,661 ___________ ___________ Long-term debt, less current maturities 1,525,994 529,378 Obligations under capital leases, net of current maturities 22,267 24,493 ___________ ___________ Total noncurrent liabilities 1,548,261 553,871 ___________ ___________ Total liabilities 8,450,432 7,944,532 ___________ ___________ Stockholders' equity: Preferred stock, 1,000,000 shares authorized, none outstanding at September 30, 2004 and June 30, 2004 -- -- Class A common stock, $.01 par value; 20,000,000 shares authorized 16,772,348 and 16,744,848 shares issued September 30, 2004 and June 30, 2004, respectively 167,723 167,448 Class B common stock, $.01 par value; 2,000,000 shares authorized, 776,991 issued and outstanding September 30, 2004 and June 30, 2004, convertible into one share of Class A common stock 7,770 7,770 Additional paid-in capital 22,809,888 22,791,637 Treasury stock, 181,738 shares at September 30, 2004 and 168,136 at June 30, 2004, at cost (155,087) (141,207) Accumulated deficit (16,682,983) 17,458,611) ___________ ___________ Total stockholders' equity 6,147,311 5,367,037 Total liabilities and stockholders' equity $14,597,743 $13,311,569 =========== =========== See Notes to Condensed Consolidated Financial Statements. -- 3 -- PHC, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED) Three Months Ended September 30, 2004 2003 __________________________ Revenues: Patient care, net $ 6,209,499 $ 5,192,560 Pharmaceutical studies 1,086,590 143,482 Contract support services 661,426 767,125 ___________ ___________ Total revenue 7,957,515 6,103,167 ___________ ___________ Operating expenses: Patient care expenses 3,430,945 2,694,015 Cost of contract support services 516,909 553,929 Provision for doubtful accounts 254,109 462,891 Website expenses 46,981 66,695 Administrative and other operating expenses 2,823,736 2,146,091 ___________ ___________ Total operating expenses 7,072,680 5,923,621 ___________ ___________ Income from operations 884,835 179,546 ___________ ___________ Other income (expense): Interest income 17,039 2,724 Other income, net 12,809 14,771 Interest expense (113,055) (133,892) ___________ ___________ Total other expense, net (83,207) (116,397) ___________ ___________ Income before provision for taxes 801,628 63,149 Provision for income taxes 26,000 10,000 ___________ ___________ Net income $ 775,628 $ 53,149 ========== ========== Basic net income per common share $ .04 $ .00 ========== ========== Basic weighted average number of shares outstanding 17,360,604 14,069,204 ========== ========== Fully diluted net income per common share $ .04 $ .00 ========== ========== Fully diluted weighted average number of shares outstanding 18,155,364 14,789,056 ========== ========== See Notes to Condensed Consolidated Financial Statements. -- 4 -- PHC, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED) For the Three Months Ended September 30, 2004 2003 _______________________________________________________________________________ Cash flows from operating activities: Net income $ 775,628 $ 53,149 Adjustments to reconcile net income to net cash used in operating activities: Depreciation and amortization 99,025 63,088 Non cash stock-based compensation 6,926 86,223 Deferred taxes (94,600) -- Changes in: Accounts receivable (1,010,959) (334,004) Prepaid expenses (365,832) (309,320) Other assets (18,015) 6,001 Accounts payable 355,976 460,094 Accrued expenses and other liabilities 117,018 (299,083) ___________ ___________ Net cash used in operating activities (134,833) (273,852) ___________ ___________ Cash flows from investing activities: Acquisition of property and equipment (254,804) (20,224) Costs related to business acquisition (18,853) -- ___________ ___________ Net cash used in investing activities (273,657) (20,224) ___________ ___________ Cash flows from financing activities: Revolving debt, net 237,678 182,845 Principal payments on long-term debt (204,772) (247,694) Deferred financing costs (60,000) 2,000 Issuance of common stock for warrants 11,600 -- Purchase of treasury stock from former employee (13,880) -- ___________ ___________ Net cash used in financing activities (29,374) (62,849) ___________ ___________ NET DECREASE IN CASH AND CASH EQUIVALENTS (437,864) (356,925) Beginning cash and cash equivalents 594,823 494,991 ___________ ___________ ENDING CASH AND CASH EQUIVALENTS $ 156,959 $ 138,066 =========== ========== SUPPLEMENTAL CASH FLOW INFORMATION: Cash paid during the period for: Interest $104,927 $ 130,041 Income taxes 77,500 24,492 See Notes to Condensed Consolidated Financial Statements. -- 5 -- PHC, INC. and Subsidiaries Notes to Condensed Consolidated Financial Statements September 30, 2004 Note A - The Company PHC, Inc. (the "Company") is a national health care company which operates subsidiaries specializing in behavioral health services including the treatment of substance abuse, which includes alcohol and drug dependency and related disorders and the provision of psychiatric services. The Company also conducts pharmaceutical research studies, operates help lines for employee assistance programs, call centers for state and local programs and provides management, administrative and online behavioral health services. The Company primarily operates under four business segments: (1) Behavioral health treatment services, including two substance abuse treatment facilities: Highland Ridge Hospital, located in Salt Lake City, Utah, which also treats psychiatric patients, and Mount Regis Center, located in Salem, Virginia, and six psychiatric treatment locations which include Harbor Oaks Hospital, a 64-bed psychiatric hospital located in New Baltimore, Michigan and five outpatient behavioral health locations (two in Las Vegas, Nevada operating as Harmony Healthcare and three locations operating as Pioneer Counseling Center in the Detroit, Michigan metropolitan area); (2) Pharmaceutical study services, including three clinic study sites: two in Arizona, in Peoria and Mesa, and one Michigan location in Royal Oak. These research sites conduct studies of the effects of specified pharmaceuticals on a controlled population through contracts with major manufacturers of the pharmaceuticals. All of the company's research sites operate as Pivotal Research Centers; (3) Call center and help line services, including two call centers: one operating in Midvale, Utah and one in Detroit, Michigan. The Company provides help line services through contracts with major railroads, a smoking cessation contract with the state of Kansas and a call center contract with the State of Michigan. The call centers both operate as Wellplace; and (4) Behavioral health administrative services, including delivery of management and administrative and online services. The parent company provides management and administrative services for all of its subsidiaries and online services for its behavioral health treatment subsidiaries and its call center subsidiaries. It also provides behavioral health information through its website Wellplace.com. Note B - Basis of Presentation The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with the instructions to Form 10-QSB and Item 310 of Regulation S-B. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. In the opinion of management, all adjustments (consisting only of normal recurring accruals) considered necessary for a fair presentation have been included. Operating results for the three months ended September 30, 2004 are not necessarily indicative of the results that may be expected for the year ending June 30, 2005. The accompanying financial statements should be read in conjunction with the June 30, 2004 consolidated financial statements and footnotes thereto included in the Company's 10-KSB filed on September 24, 2004. Note C- Stock Based Compensation The Company re-priced options to purchase 791,500 shares of Class A Common Stock in January 2001 of which 50,000 remained outstanding at September 30, 2004 and are subject to variable accounting from the date of the modification. Compensation expense relating to the vested repriced options was zero for the for the three months ended September 30, 2004 compared to a reversal of compensation expense of $3,915 for the three months ended September 30, 2003. The Company has adopted the disclosure only provisions of Statement of Financial Accounting Standards ("SFAS") No. 123 but applies Accounting Principles Board Opinion No. 25 and related interpretations in accounting for its plans. If the -- 6 -- Company had elected to recognize compensation cost for the plans based on the fair value at the grant date for awards granted, consistent with the method prescribed by SFAS No. 123, the net income per share would have been changed to the pro forma amounts indicated below: Three Months Ended September 30, 2004 2003 _______________________________________________________________________________ Net income, as reported $775,628 $ 53,149 Add: Stock-based employee compensation expense included in reported net income, net of related tax effects 6,926 86,223 Deduct: Total stock-based employee compensation expense determined under fair value based method for all awards, net of related tax effects (34,951) (97,773) ___________ _________ Pro forma net income $747,603 $ 41,599 =========== ========= Earnings per share: Basic - as reported $ 0.04 $ 0.00 ========= ========= Basic - pro forma $ 0.04 $ 0.00 ========= ========= Diluted - as reported $ 0.04 $ 0.00 ========= ========= Diluted - pro forma $ 0.04 $ 0.00 ========= ========= Note D - Business Segment Information The Company's behavioral health treatment services have similar economic characteristics, services, patients and clients. Accordingly, all behavioral health treatment services are reported on an aggregate basis under one segment. The Company's segments are more fully described in Note A above. Residual income and expenses from closed facilities are included in the administrative services segment. The following summarizes the Company's segment data: Treatment Pharmaceutical Contract Administrative Services Study Services Services Services Eliminations Total For the three months ended September 30, 2004 Revenues - external customers $ 6,209,499 $ 1,086,590 $ 661,426 $ -- $ -- $ 7,957,515 Revenues - intersegment -- -- 11,282 654,000 (665,282) -- Net income (loss) 1,280,646 60,257 138,517 (703,792) -- 775,628 Identifiable assets 8,964,865 4,130,433 284,412 1,218,033 -- 14,597,743 For the three months ended September 30, 2003 Revenues - external customers 5,202,660 133,382 767,125 -- -- 6,103,167 Revenues - intersegment 40,400 -- -- 808,860 (849,260) -- Net income (loss) (99,118) (112,621) 213,196 51,692 -- 53,149 Identifiable assets 7,810,401 252,733 503,747 1,080,376 -- 9,647,257
-- 7 -- Note E - Legal Proceedings In April 2004, the Company successfully resolved its medical malpractice lawsuit. As a result of the settlement, the Company made a payment of approximately $463,000, which compares to the previous judgment of approximately $3 million. The Company has not released other parties, including an insurance company. Payments made by insurance and other related parties, if collected, could significantly reduce the Company's financial burden below the $463,000 payment. The financial impact of this settlement and related legal fees is reflected in the operating results during the year ended June 30, 2004. The Company will continue to seek reimbursement from all sources for amounts expended on this case. In fiscal 2004, the State of Nebraska asked the Company to provide the history of payments received from the State of Nebraska and the payments made to a consultant in Nebraska for his work on the smoking cessation contract. In the fourth quarter of fiscal 2004, the Company became aware that the State and the Federal governments are investigating the consultant. The Company is cooperating fully with the investigating agencies on this matter and does not believe that it has done anything improper in connection with its arrangement with this consultant. There has been no further contact with the company regarding this investigation. Note F - Subsequent Events Subsequent to quarter end the Company re-financed its revolving credit line and term loan scheduled to expire in November 2005. The Company entered into a revolving credit, term loan and security agreement with CapitalSource Finance, LLC to replace the Company's primary lender and provide additional liquidity. Each of the Company's material subsidiaries, other than Pivotal Research Centers, Inc, is a co-borrower under the agreement. The agreement includes a term loan in the amount of $1,400,000 and an accounts receivable funding revolving credit agreement with a maximum loan amount of $3,500,000, including $900,000 available as an overline for growth. The term loan note carries interest at prime plus 3.5%, but not less than 9%, with twelve monthly principal payments of $25,000, 12 monthly principal payments of $37,500, and eleven monthly principal payments of $50,000 beginning November 1, 2004 with balance due at maturity, on October 1, 2007. The revolving credit note carries interest at prime plus 2.25%, but not less than 6.75% paid through lock box payments of third party accounts receivable. The revolving credit term is three years, renewable for two additional one-year terms. For additional information regarding this transaction, see the Company's current report on form 8-K filed with the Securities and Exchange Commission on October 22, 2004. -- 8 -- Item 2. Management's Discussion and Analysis or Plan of Operation Overview The Company presently provides behavioral health care services through two substance abuse treatment centers, a psychiatric hospital and five outpatient psychiatric centers (collectively called "treatment facilities"). The Company's revenue for providing behavioral health services through these facilities is derived from contracts with managed care companies, Medicare, Medicaid, state agencies, railroads, gaming industry corporations and individual clients. The profitability of the Company is largely dependent on the level of patient census and the payor mix at these treatment facilities. Patient census is measured by the number of days a client remains overnight at an inpatient facility or the number of visits or encounters with clients at outpatient clinics. Payor mix is determined by the source of payment to be received for each client being provided billable services. The Company's administrative expenses do not vary greatly as a percentage of total revenue but the percentage tends to decrease slightly as revenue increases. Although the Company has changed the focus and reduced expenses of its internet operation, Behavioral Health Online, Inc. continues to provide technology and internet support for the Company's other operations. It also continues to provide behavioral health information and education through its web site at Wellplace.com. The expenses of the internet operation decreased approximately 30% for the quarter ended September 30, 2004 compared to the quarter ended September 30, 2003, as the effect of cost cuts resulting from the change in focus were realized. The Company's research division, Pivotal Research Centers, Inc., contracts with major manufacturers of pharmaceuticals to assist in the study of the effects of certain pharmaceuticals in the treatment of specific illness through its clinics in Michigan and Arizona. The healthcare industry is subject to extensive federal, state and local regulation governing, among other things, licensure and certification, conduct of operations, audit and retroactive adjustment of prior government billings and reimbursement. In addition, there are on-going debates and initiatives regarding the restructuring of the health care system in its entirety. The extent of any regulatory changes and their impact on the Company's business is unknown. The current administration has put forth proposals to mandate equality in the benefits available to those individuals suffering from mental illness. If passed, this legislation will improve access to the Company's programs. Managed care has had a profound impact on the Company's operations, in the form of shorter lengths of stay, extensive certification of benefits requirements and, in some cases, reduced payment for services. Critical Accounting Policies The preparation of our financial statements in accordance with accounting principles generally accepted in the United States of America, requires management to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues, expenses and related disclosures. On an on-going basis, we evaluate our estimates and assumptions, including but not limited to those related to revenue recognition, accounts receivable reserves, income tax valuation allowances, and the impairment of goodwill and other intangible assets. We base our estimates on historical experience and various other assumptions that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. Revenue recognition and accounts receivable: Patient care revenues and accounts receivable are recorded at established billing rates or at the amount realizable under agreements with third-party payors, including Medicaid and Medicare. Revenues under third-party payor agreements are subject to examination and contractual adjustment, and amounts realizable may change due to periodic changes in the regulatory environment. Provisions for estimated third party payor settlements are provided in the period the related services are rendered. Differences between the amounts provided and subsequent settlements are recorded in operations in the year of settlement. Amounts due as a result of cost report settlements are recorded and listed separately on the consolidated balance sheets as "Other receivables, third party". The provision for contractual allowances is deducted directly from revenue and the net revenue amount is recorded as accounts receivable. The allowance for doubtful accounts does not include the contractual allowances. The Company currently has one "at-risk" contract. The contract calls for the Company to provide for all of the inpatient and outpatient behavioral health -- 9 -- needs of the insurance carrier's enrollees in Nevada for a fixed monthly fee per member per month. Revenues are recorded monthly based on this formula and the expenses related to providing the services under this contract are recorded as incurred. The Company provides most of the outpatient care directly and, through utilization review, monitors closely, and pre-approves all inpatient and outpatient services not provided directly. The contract is considered "at-risk" because the payments to third-party providers for services rendered could equal or exceed the total amount of the revenue recorded. Pharmaceutical study revenue is recognized only after a pharmaceutical study contract has been awarded and the patient has been selected and accepted based on study criteria and billable units of service are provided. Where a contract requires completion of the study by the patient, no revenue is recognized until the patient completes the study program. Contract support service revenue is a result of fixed fee contracts to provide telephone support. Revenue for these services is recognized ratably over the service period. All revenues reported by the Company are shown net of estimated allowances and charity care provided. When payment is made, if the contractual adjustment is found to have been understated or overstated, appropriate adjustments are made in the period the payment is received in accordance with the American Institute of Certified Public Accountants "Audit and Accounting Guide for Health Care Organizations." Allowance for doubtful accounts: The provision for bad debt is calculated based on a percentage of each aged accounts receivable category beginning at 0-5% on current accounts and increasing incrementally for each additional 30 days the account remains outstanding until the account is over 360 days outstanding, at which time the provision is 70-100% of the outstanding balance. These percentages vary by facility based on each facility's experience in and expectations for collecting older receivables. The Company compares this required reserve amount to the current "Allowance for doubtful accounts" to determine the required bad debt expense for the period. This method of determining the required "Allowance for doubtful accounts" has historically resulted in an allowance for doubtful accounts of 30% or greater of the total outstanding receivables balance. Income Taxes: The Company follows the liability method of accounting for income taxes, as set forth in SFAS No. 109, "Accounting for Income Taxes". SFAS No. 109 prescribes an asset and liability approach, which requires the recognition of deferred tax liabilities and assets for the expected future tax consequences of temporary differences between the carrying amounts and the tax basis of the assets and liabilities. The Company's policy is to record a valuation allowance against deferred tax assets unless it is more likely than not that such assets will be realized in future periods. The Company considers estimated future taxable income or loss and other available evidence when assessing the need for its deferred tax valuation allowance. Valuation of Goodwill and Other Intangible Assets Goodwill and other intangible assets are initially created as a result of business combinations or acquisitions. The values the Company records for goodwill and other intangible assets represent fair values calculated by independent third-party appraisers. Such valuations require the Company to provide significant estimates and assumptions which are derived from information obtained from the management of the acquired businesses and the Company's business plans for the acquired businesses. Critical estimates and assumptions used in the initial valuation of goodwill and other intangible assets include, but are not limited to: (i) future expected cash flows from services to be provided, customer contracts and relationships, and (ii) the acquired market position. These estimates and assumptions may be incomplete or inaccurate because unanticipated events and circumstances may occur. If estimates and assumptions used to initially value goodwill and intangible assets prove to be inaccurate, ongoing reviews of the carrying values of such goodwill and intangible assets may indicate impairment which will require the Company to record an impairment charge in the period in which the Company identifies the impairment. -- 10 -- Results of Operations Total net revenue from operations increased 30.4% to $7,957,515 for the three months ended September 30, 2004 from $6,103,167 for the three months ended September 30, 2003 due to increased census and better payor mix at our inpatient facilities and increased pharmaceutical study revenue as a result of the acquisition of Pivotal Research Centers (Pivotal). Net patient care revenue increased 19.6% to $6,209,499 for the three months ended September 30, 2004 from $5,192,560 for the three months ended September 30, 2003. This increase is a result of an 11% increase in census at our inpatient facilities. Two of the key indicators of profitability of inpatient facilities are patient days, or census, and payor mix. Patient days is the product of the number of patients times length of stay. Increases in the number of patient days results in higher census, which coupled with a more favorable payor mix (more patients with higher paying insurance contracts or paying privately) usually results in higher profitability. Therefore, patient census and payor mix are monitored very closely. Revenue from pharmaceutical studies increased 657.3% to $1,086,590 for the three months ended September 30, 2004 from $143,482 for the three months ended September 30, 2003. This increase is due to the acquisition of Pivotal Research Centers, LLC. Without the acquisition, research revenue would have declined as the Michigan site which produced most of the research revenue was in the process of moving to a more strategic location. Contract support services revenue provided by Wellplace decreased 13.8% to $661,426 for the three months ended September 30, 2004 from $767,125 for the three months ended September 30, 2003. The cost of providing these services also decreased 6.7% to $516,909 for the three months ended September 30, 2004 from $553,929 for the three months ended September 30, 2003. These decreases are due to the expiration of the Nebraska smoking cessation contract. The state did not renew the contract and is now providing the services internally. Patient care expenses increased 27.4% to $3,430,945 for the three months ended September 30, 2004 from $2,694,015 for the three months ended September 30, 2003. This increase is directly related to the increase in revenue from both the inpatient facilities and pharmaceutical studies. The increase in inpatient expenses is found primarily in variable costs such as food, lab fees, laundry, patient activities, patient transportation and other patient related expenses, while the increase in pharmaceutical study expenses is primarily in professional fees for services rendered. The Company continues to look for new ways to cut costs through operating efficiencies without sacrificing patient care. Provision for doubtful accounts decreased 45.1% to $254,109 for the three months ended September 30, 2004 from $462,891 for the three months ended September 30, 2003. The amount charged is based on the age of the outstanding receivables, which is indicative of their collectability. The Company's policy is to maintain a higher reserve against older receivables. Website expenses decreased 29.6% to $46,981 for the three months ended September 30, 2004 from $66,695 for the three months ended September 30, 2003. This is a result of a decrease in depreciation expense as the assets previously being depreciated are now fully depreciated. Administrative expenses increased 31.6% to $2,823,736 for the three months ended September 30, 2004 from $2,146,091 for the three months ended September 30, 2003. This increase is due to the expenses related to Pivotal Research Centers, LLC which was acquired April 30, 2004. The administrative expenses of the pharmaceutical study division increased to $691,056 for the quarter ended September 30, 2004 from $105,046 for the same period last year. Excluding Pivotal, increases in insurance rates resulted in a 64.1% increase in insurance expense to $122,164 in the current quarter from $74,467 for the same period last year and increased rent expense of 11.5% to $249,740 for the three months ended September 30, 2004 from $223,956 for the three months ended September 30, 2003. This increase is due to incremental increases built into current leases. -- 11 -- Interest expense decreased 18.4% to $113,055 for the three months ended September 30, 2004 from $133,892 for the three months ended September 30, 2003. This decrease in interest is due to the decrease in interest rates on the Company's long-term debt. The Company's provision for income taxes of $26,000 for the quarter ended September 30, 2004 is significantly below the Federal statutory rate of 34% primarily due to the availability of net operating loss carry-forwards. Total income tax expense for the quarter represents state income taxes for certain subsidiaries with no available net operating loss carry-forwards. The Company has provided a significant valuation allowance against its deferred tax assets due to the uncertainty surrounding their realizability. The environment the Company operates in today makes collection of receivables, particularly older receivables, more difficult than in previous years. Accordingly, the Company has increased staff, standardized some procedures for collecting receivables and instituted a more aggressive collection policy, which has resulted in improved cash collections. Although the Company's receivables have increased three percent over the past three months, the Company's reserve for bad debts based on the age of receivables and the growth in receivables this quarter is due primarily to increased revenue. The growth of managed care has negatively impacted reimbursement for behavioral health services with a higher rate of denials requiring higher reserves so the age of receivables is monitored closely. Liquidity and Capital Resources The Companys net cash used in operating activities was $134,833 for the quarter ended September 30, 2004 compared to cash used by operating activities of $273,852 for the quarter ended September 30, 2003. Cash flow from operations in the quarter ended September 30, 2004 consists of net income of $775,628, an increase in deferred taxes of $94,600 and other assets of $18,015, an increase in accounts payable of $355,976, an increase in accrued expenses of $117,018, and non-cash charges to net income for depreciation of $99,025 and stock based compensation of $6,926. This cash flow from operations was offset by an increase in accounts receivable of $1,010,959 and an increase in prepaid expenses of $365,832. Cash used in investing activities in the quarter ended September 30, 2004 consisted of $254,804 in acquisition of property and equipment and $18,853 in costs related to the acquisition of a business for a total use of cash in investing activities of $273,657. Cash used in financing activities in the quarter ended September 30, 2004 primarily consisted of $32,906 in net debt borrowings which was offset by $60,000 in deferred financing costs and $13,880 in the purchase of treasury stock, which was partially offset by $11,600 cash received for the issuance of warrants. A significant factor in the liquidity and cash flow of the Company is the timely collection of its accounts receivable. Accounts receivable from patient care, net of allowance for doubtful accounts, increased approximately 9.0% to $5,757,548 on September 30, 2004 from $5,261,202 on June 30, 2004. This increase is due in part to the delay in payment of receivables by one of our state payors due to temporary budget constraints. It is also due to higher revenues during the quarter. The minimal increase is a result of better accounts receivable management due to increased staff, standardization of some procedures for collecting receivables and a more aggressive collection policy. The increased staff has allowed the Company to concentrate on current accounts receivable and resolve any issues before they become uncollectable. The Company's collection policy calls for earlier contact with insurance carriers with regard to payment, use of fax and registered mail to follow-up or resubmit claims and earlier employment of collection agencies to assist in the collection process. Our collectors will also seek assistance through every legal means, including the State Insurance Commissioner's office, when appropriate, to collect claims. At the same time, the Company continues to closely monitor reserves for bad debt based on potential insurance denials and past difficulty in collections. The Company has operated ongoing operations profitably for fifteen consecutive quarters with the exception of the litigation settlement and related legal costs incurred in the third quarter of fiscal year 2004. While it is difficult to project whether the current positive business environment towards behavioral health treatment and the new business opportunities will continue, it gives us confidence to foresee continued improved results. The Company's future minimum payments under contractual obligations related to capital leases, operating leases and term notes for each fiscal year ending -- 12 -- as of September 30, 2004 have not changed materially since the Company's year end as reported in the Company's Form 10-KSB except for, subsequent to quarter end, the re-financing of its revolving credit line and term loan scheduled to expire in November 2004. Subsequent to the quarter ended September 30, 2004, the Company entered into a revolving credit, term loan and security agreement with CapitalSource Finance, LLC to replace the Company's primary lender and provide additional liquidity. Each of the Company's material subsidiaries, other than Pivotal Research Centers, Inc, is a co-borrower under the agreement. The agreement includes a term loan in the amount of $1,400,000 and an accounts receivable funding revolving credit agreement with a maximum loan amount of $3,500,000, including $900,000 available as an overline for growth. The term loan note carries interest at prime plus 3.5%, but not less than 9%, with twelve monthly principal payments of $25,000, 12 monthly principal payments of $37,500, and eleven monthly principal payments of $50,000 beginning November 1, 2004 with balance due at maturity, on October 1, 2007. The revolving credit note carries interest at prime plus 2.25%, but not less than 6.75% paid through lock box payments of third party accounts receivable. The revolving credit term is three years, renewable for two additional one-year terms. For additional information regarding this transaction, see the Company's current report on form 8-K filed with the Securities and Exchange Commission on October 22, 2004. Item 3. Controls and Procedures Evaluation of Disclosure Controls and Procedures We maintain disclosure controls and procedures designed to ensure that information required to be disclosed in our Exchange Act reports is recorded, processed, summarized and reported within the time periods specified within the SEC's Rules and Forms, and that such information is accumulated and communicated to our management to allow timely decisions regarding required disclosure. In designing and evaluating the disclosure controls and procedures, our management recognized that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, and management was necessarily required to apply its judgment in evaluating the cost-benefit relationship of possible controls and procedures. As of the end of the period covered by this report, we carried out an evaluation, under the supervision and with the participation of our chief executive officer and chief financial officer, of the effectiveness of the design and operation of our disclosure controls and procedures to meet the criteria referred to above. Based on the foregoing, our chief executive officer and chief financial officer concluded that our disclosure controls and procedures were effective. Change in Internal Controls There were no significant changes in our internal controls or in other factors that could significantly affect these controls subsequent to the date of their most recent evaluations. -- 13 -- PART II OTHER INFORMATION Item 1. Legal Proceedings. In April 2004, the Company successfully resolved its medical malpractice lawsuit. As a result of the settlement, the Company made a payment of approximately $463,000, which compares to the previous judgment of approximately $3 million. The Company has not released other parties, including an insurance company. Payments made by insurance and other related parties, if collected, could significantly reduce the Company's financial burden below the $463,000 payment. The financial impact of this settlement and related legal fees is reflected in the operating results during the year ended June 30, 2004. The Company will continue to seek reimbursement from all sources for amounts expended on this case. In fiscal 2004, the State of Nebraska asked the Company to provide the history of payments received from the State of Nebraska and the payments made to a consultant in Nebraska for his work on the smoking cessation contract. In the fourth quarter of fiscal 2004, the Company became aware that the State and the Federal governments are investigating the consultant. The Company is cooperating fully with the investigating agencies on this matter and does not believe that it has done anything improper in connection with its arrangement with this consultant. There has been no further contact with the company regarding this investigation. Item 6. Exhibits and reports on Form 8-K. Exhibit List Exhibit No. Description 31.1 Certification of Chief Executive Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 31.2 Certification of the Chief Financial Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 32.1 Certification of the Chief Executive Officer and Chief Financial Officer Pursuant to 18 U.S.C. 1350, as adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. Reports on Form 8-K The Company filed two reports on form 8-K during the quarter ended September 30, 2004. The first report, filed on September 1, 2004, provided the same earnings information to the public as shown in the Company's press release as required by Item 12 of the instructions for form 8-K. The second report, filed on September 23, 2004 provided information regarding a material definitive agreement and related potential sale of equity securities as required by Items 1.01 and 3.02 of the instructions for form 8-K. -- 14 -- Signatures In accordance with the requirements of the Exchange Act, the registrant caused this report to be signed on its behalf by the undersigned thereunto duly authorized. PHC, Inc. Registrant Date: November 12, 2004 /s/ Bruce A. Shear Bruce A. Shear President Chief Executive Officer Date: November 12, 2004 /s/ Paula C. Wurts Paula C. Wurts Controller Treasurer -- 15 -- EX-31 2 exh31_1.txt CERTIFICATE OF CHIEF EXECUTIVE OFFICER EXHIBIT 31.1 PHC, INC. CERTIFICATION OF CHIEF EXECUTIVE OFFICER Section 302 Certification I, Bruce A. Shear, certify that: 1. I have reviewed this quarterly report on Form 10-QSB of PHC, Inc., a Massachusetts corporation (the "registrant"); 2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report; 3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report; 4. The registrant's other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have: a. designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; b. evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures as of the end of the period covered by this report based on such evaluation ; and c. disclosed in this report any change in the registrants internal controls over financial reporting that occurred during the most recent fiscal quarter that has materially effected or is reasonably likely to materially effect, the registrant's internal control over financial reporting: and 5. The registrant's other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of registrant's board of directors: a. all significant deficiencies and material weaknesses in the design or operation of internal controls over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information: and b. any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting. Date: November 12, 2004 by: /s/ BRUCE A. SHEAR __________________________ Bruce A. Shear Chief Executive Officer -- 16 -- EX-31 3 exh31_2.txt CERTIFICATE OF CHIEF FINANCIAL OFFICER EXHIBIT 31.2 PHC, INC. CERTIFICATION OF CHIEF FINANCIAL OFFICER Section 302 Certification I, Paula C. Wurts, certify that: 1. I have reviewed this quarterly report on Form 10-QSB of PHC, Inc., a Massachusetts corporation (the "registrant"); 2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report; 3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report; 4. The registrant's other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have: a. designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; b. evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures as of the end of the period covered by this report based on such evaluation; and c. disclosed in this report any change in the registrants internal controls over financial reporting that occurred during the most recent fiscal quarter that has materially effected or is reasonably likely to materially effect, the registrant's internal control over financial reporting; and 5. The registrant's other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of registrant's board of directors: a. all significant deficiencies and material weaknesses in the design or operation of internal controls over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and b. any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls over financial reporting. Date: November 12, 2004 by: /s/ PAULA C. WURTS Paula C. Wurts Chief Financial Officer -- 17 -- EX-32 4 exh32_1.txt CERTIFICATE OF CEO AND CFO Exhibit 32.1 WRITTEN STATEMENT OF CHIEF EXECUTIVE OFFICER AND CHIEF FINANCIAL OFFICER The undersigned hereby certify that, to the best of the knowledge of the undersigned, the Quarterly Report on Form 10-QSB for the quarter ended September 30, 2004 filed by PHC, Inc. with the Securities and Exchange Commission fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934 and that the information contained in the report fairly presents, in all material respects, the financial condition and results of operations of the issuer. Date: November 12, 2004 By: /s/ Bruce A. Shear Bruce A. Shear, President and Chief Executive Officer Date: November 12, 2004 By: /s/ Paula C. Wurts Paula C. Wurts, Controller and Chief Financial Officer -- 18 -- -----END PRIVACY-ENHANCED MESSAGE-----