-----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, JOgUaxNnT9rIdhdBstOrwVkGzofhf8JLfF94lWLXoLMefnByNvKxOpRHKJ4QBMvG a9462rlg8fyNcJt011ncww== 0000912057-97-011226.txt : 19970401 0000912057-97-011226.hdr.sgml : 19970401 ACCESSION NUMBER: 0000912057-97-011226 CONFORMED SUBMISSION TYPE: 10-K405 PUBLIC DOCUMENT COUNT: 6 CONFORMED PERIOD OF REPORT: 19961231 FILED AS OF DATE: 19970331 SROS: NASD FILER: COMPANY DATA: COMPANY CONFORMED NAME: CRA MANAGED CARE INC CENTRAL INDEX KEY: 0000942136 STANDARD INDUSTRIAL CLASSIFICATION: INSURANCE AGENTS BROKERS & SERVICES [6411] IRS NUMBER: 042658593 STATE OF INCORPORATION: MA FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K405 SEC ACT: 1934 Act SEC FILE NUMBER: 000-25856 FILM NUMBER: 97569774 BUSINESS ADDRESS: STREET 1: 312 UNION WHARF CITY: BOSTON STATE: MA ZIP: 02109 BUSINESS PHONE: 6173672163 MAIL ADDRESS: STREET 1: 312 UNION WHARF CITY: BOSTON STATE: MA ZIP: 02109 10-K405 1 FORM 10-K (CIRCLE 1-26) SECURITIES AND EXCHANGE COMMISSION Washington D.C. 20549 FORM 10-K ANNUAL REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the fiscal year ended December 31, 1996 Commission file 02-25856 CRA MANAGED CARE, INC. (Exact name of Registrant as specified in its charter) Massachusetts 04-2658593 (State or other jurisdiction of (I.R.S. employer identification No.) incorporation or organization) 312 Union Wharf, Boston Massachusetts 02109 (Address of principal executive offices) (Zip code) (Registrant's telephone number, including area code) (617) 367-2163 Securities registered pursuant to Section 12(b) of the Act: None Securities registered pursuant to Section 12(g) of the Act: Common Stock 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 twelve months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to the filing requirements for the past 90 days. Yes /X/ No/ / Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of Registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K /X/. The aggregate market value of the voting stock held by non-affiliates of the Registrant totaled $313,209,000 (based on the closing price of the Company's Common Stock on The Nasdaq National Market on March 19, 1997). As of March 19, 1997, the Registrant had outstanding an aggregate of 8,961,985 shares of its Common Stock, $.01 par value. DOCUMENTS INCORPORATED BY REFERENCE Certain parts of the Registrant's 1996 Annual Report to Stockholders are incorporated by reference into Part II and IV of this report. Certain parts of the Registrant's definitive Proxy Statement dated April 4, 1997 are incorporated by reference into Part III of this report. CRA MANAGED CARE, INC. FORM 10-K FISCAL YEAR ENDED DECEMBER 31, 1996 INDEX PART I PAGE ---- ITEM 1. BUSINESS 3 ITEM 2. PROPERTIES 17 ITEM 3. LEGAL PROCEEDINGS 17 ITEM 4. SUBMISSIONS OF MATTERS TO A VOTE OFSECURITY HOLDERS 18 PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS 18 ITEM 6. SELECTED FINANCIAL DATA 18 ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS 18 ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA 18 ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE 19 PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT 19 ITEM 11. EXECUTIVE COMPENSATION 19 ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT 19 ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS 19 PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K 20 2 This document contains forward-looking statements that involve risks and uncertainties. The Company's actual results may differ significantly from the results discussed in the forward-looking statements. Reference is hereby made to Risk Factors contained later in this document that could cause actual results to differ materially from those contained in this document. PART I ITEM 1. BUSINESS CRA Managed Care, Inc. (the "Company" or "CRA") provides field case management and specialized cost containment services designed to reduce workers' compensation costs. The Company operates one of the largest field case management organizations in the United States, consisting of 118 field case management offices with approximately 1,125 field case managers who provide medical management and return to work services in 49 states and the District of Columbia. CRA also provides a broad range of higher margin specialized cost containment services, including utilization management, specialized preferred provider organization ("PPO") network management, telephonic case management and retrospective medical bill review services, that are designed to reduce costs associated with work-related injuries and automobile accident-related injuries. Revenues from specialized cost containment services comprised approximately 33.8% of revenues for 1996, up from approximately 27.1% for 1995. The Company markets its services to workers' compensation insurers, third-party administrators ("TPAs"), self-insured employers, and payors of automobile accident medical claims through a direct sales and marketing organization consisting of over 150 dedicated personnel. CRA currently has over 1,250 customers nationwide. INDUSTRY OVERVIEW Workers' compensation Workers' compensation is a state-mandated, comprehensive insurance program that requires employers to fund medical expenses, lost wages and other costs resulting from work-related injuries and illnesses. Since their introduction in the early 1900s, these programs have been expanded to all fifty states and the District of Columbia. Each state is responsible for implementing and regulating its own program. Consequently, workers' compensation benefits and arrangements vary on a state-by-state basis and are often highly complex. According to statistics published in the 1994 and 1996 Workers' Compensation Year Books, employers in the United States incurred approximately $57.3 billion in total costs of workers' compensation in 1993 and approximately $22.8 billion in 1982. Workers' compensation plans generally require employers to fund all of an employee's costs of medical treatment and a significant portion of lost wages, legal fees and other associated costs. Typically, work-related injuries are broadly defined, and injured or ill employees are entitled to extensive benefits. Employers are required to provide first-dollar coverage with no co-payment or deductible due from the injured or ill employee for medical treatment and, in many states, there is no lifetime limit on expenses. However, in exchange for providing this coverage for employees, employers are not subject to litigation by employees for benefits in excess of those provided by the relevant state statute. In most states, the extensive benefits coverage (for both medical costs and lost wages) is provided through the purchase of commercial insurance from private insurance companies, participation in state-run insurance funds or employer self-insurance. Provider reimbursement methods vary on a state-by-state basis. A majority of states have adopted fee schedules pursuant to which all health care providers are uniformly reimbursed. The fee schedules are set by each state and generally prescribe the maximum amounts that may be reimbursed for a designated procedure. In states without fee schedules, health care providers are reimbursed based on usual, customary and reasonable ("UCR") fees charged in the particular state in which the services are provided. 3 Workers' compensation managed care services The workers' compensation managed care services market is served by the Company and a small number of other competitors that offer a comprehensive line of workers' compensation managed care services on a nationwide basis. A large number of additional companies offer some managed care services on a limited geographic basis. The result is a fragmented market with what the Company believes is only a small number of companies offering a fully integrated and comprehensive approach to managing workers' compensation costs on a nationwide basis. Workers' compensation managed care services broadly fall into two categories: field case management services and specialized cost containment services. Field case management services involve working on a one-on-one basis with injured employees and their various health care professionals, employers and insurance company adjusters. Field case management services are designed both to assist in maximizing medical improvement and, where appropriate, to expedite return to work. Specialized cost containment services are designed to reduce the cost of workers' compensation claims through a variety of techniques such as first report of injury services, utilization management (precertification, concurrent review and retrospective bill review), telephonic case management, PPO network access, independent medical examinations ("IMEs"), peer reviews and hospital bill auditing. Managed care techniques are intended to control the cost of health care services and to measure the performance of providers through intervention and on-going review of services proposed and actually provided. Managed care techniques were originally developed to stem the rising costs of group health medical care. Historically, employers were slow to apply managed care techniques to workers' compensation costs primarily because the aggregate costs are relatively small compared to costs associated with group health benefits and because state-by-state regulations related to workers' compensation are far more complex than those related to group health. However, in recent years, employers and insurance carriers have been increasing their focus on applying managed care techniques to control their workers' compensation costs. Since workers' compensation benefits are mandated by law and are subject to extensive regulation, payors and employers do not have the same flexibility to alter benefits as they have with other health benefit programs. In addition, workers' compensation programs vary from state to state, making it difficult for payors and multi-state employers to adopt uniform policies to administer, manage and control the costs of benefits. As a result, managing the cost of workers' compensation requires approaches that are tailored to the specific state regulatory environment in which the employer operates. Many states do not permit employers to restrict a claimant's choice of provider, making it difficult for employers to utilize managed care approaches characteristic of the group health insurance market. However, employers in 20 states currently have the right to direct employees to a specific primary health care provider during the onset of a workers' compensation case, subject to the right of the employee to change physicians after a specific period. Recently, a number of states have adopted legislation encouraging the use of workers' compensation managed care organizations ("MCOs") in an effort to allow employers to control their workers' compensation costs. MCO laws generally provide employers an opportunity to channel injured employees into provider networks. In certain states, MCO laws require licensed MCOs to offer certain specified services, such as utilization management, case management, peer review and provider bill review. Most of the MCO laws adopted to date establish a framework within which a company such as CRA can provide its customers a full range of managed care services for greater cost control. CRA'S BUSINESS STRATEGY The Company's objective is to expand and capitalize on its presence as a national provider of comprehensive managed care services to workers' compensation payors and take advantage of developing opportunities in related industries. The Company's strategy for achieving this objective is as follows: 4 Focus on Workers' Compensation Managed Care The Company intends to continue its primary focus on providing workers' compensation managed care services to workers' compensation insurers, TPAs and self-insured employers. The Company believes that to serve this complex market, a core understanding of medical-related issues, a thorough understanding of return to work issues and techniques, and an in-depth understanding of the state-by-state regulatory environment is required. CRA has developed such expertise through its years of serving this market. CRA believes it can leverage its expertise as a highly skilled provider of workers' compensation managed care services to further expand its national market presence and increase its market share. Increase National Accounts Penetration The Company intends to increase its penetration of large, national payors by leveraging its broad-based workers' compensation expertise and its experience with its existing base of national accounts. Many large, national insurance carriers and self-insured employers are seeking workers' compensation managed care service providers that have the ability to provide services on a nationwide basis. These large payors want a comprehensive solution to their workers' compensation needs from a service provider that is adept at understanding and working with many different and complex state legislative environments. The Company's national organization of local service locations enables the Company to meet the needs of these large, national payors while maintaining the local market presence necessary to monitor changes in state-specific regulations and to facilitate case resolution through locally provided managed care services. Cross-Sell Comprehensive Product Offering The Company intends to capitalize on the relationships developed through its 118 office field case management network by aggressively cross-selling its specialized cost containment services to its existing customer base. CRA believes that it is one of a small number of companies with a comprehensive offering of workers' compensation managed care services. The Company complements its extensive field case management network with 70 service locations nationwide that provide one or more specialized cost containment services. Of the Company's approximately 1,250 case management customers, only approximately 20% are also utilizing the Company's specialized cost containment services. The Company believes that this low utilization rate among CRA's existing customers provides a significant opportunity to expand CRA's specialized cost containment business. Emphasize Early Intervention The Company intends to increase its marketing of early intervention services, such as first report of injury, precertification, telephonic case management and access to PPO networks. Early intervention enables the Company to promptly identify cases that have the potential to result in significant expenses and to take appropriate measures to control these expenses before they are incurred. In addition, the Company believes that providing early intervention services generally results in the Company obtaining earlier access to claims files, thereby improving the Company's opportunity to provide the full range of its managed care services. Leverage Managed Care Expertise To Automobile Insurance Market The Company intends to capitalize on the recent introduction of managed care techniques to the automobile insurance market through the recent acquisition of QMC3, Inc. ("QMC3"), a leading provider of managed care services to the automobile insurance market. CRA intends to leverage its existing presence in the automobile insurance market and its existing office infrastructure to efficiently expand the geographic coverage of automobile managed care services. 5 Execute Strategic Acquisitions The Company will continue to seek complementary strategic acquisitions, such as Focus HealthCare Management, Inc. ("Focus"), QMC3 and Prompt Associates. Inc. ("Prompt"), to further expand its product offerings and enhance its opportunities for growth. While the Company currently maintains a broad offering of services, the evolution of the marketplace may give rise to opportunities in the workers' compensation and related industries. SERVICES CRA's services include both field case management services and specialized cost containment services. Field Case Management Services CRA provides field case management services to the workers' compensation insurance industry through case managers working at the local level on a one-on-one basis with injured employees and their various health care professionals, employers and insurance company adjusters. The Company's services are designed to assist in maximizing medical improvement and, where appropriate, to expedite the employees' return to work through medical management and vocational rehabilitation services. CRA's field case management services consist of one-on-one management of a work-related injury by the Company's approximately 1,125 field case managers serving 49 states and the District of Columbia from CRA's 118 local field case management offices. This service typically involves a case with a significant potential or actual amount of lost work time or a catastrophic injury that requires detailed management and therefore is referred out by the local adjuster to the local CRA marketer calling on that office. CRA field case managers specialize in expediting the injured employee's return to work through both medical management and vocational rehabilitation by working with all the interested parties in a work-related injury. Medical management services provided by CRA's field case managers include coordinating the efforts of all the health care professionals involved and increasing the effectiveness of the care being provided by encouraging compliance and active participation on the part of the injured worker. Vocational rehabilitation services include job analysis, work capacity assessments, labor market assessments, job placement assistance and return to work coordination. Field case management services represented approximately 76.0%, 72.9% and 66.2% of the Company's revenues for the years ended December 31, 1994, 1995, and 1996, respectively. The Company believes that the following factors will contribute to the continued growth of its field case management services: (i) increased employer acceptance of field case management techniques due to greater exposure to the workers' compensation managed care market; (ii) earlier identification of individuals in need of field case management services due to increased utilization of the Company's specialized cost containment services, particularly early intervention services; and (iii) increased market share at the expense of smaller, undercapitalized competitors. Specialized Cost Containment Services In 1990, as part of the Company's strategy of providing a comprehensive range of services, CRA began broadening its business by providing a number of additional services focused directly on helping to reduce the medical costs associated with workers' compensation for its clients. Today, these specialized cost containment services include first report of injury service, utilization management (precertification, concurrent review and retrospective bill review), telephonic case management, PPO network access, IMEs, peer reviews and hospital bill auditing. By adding these services to CRA's traditional strength and national breadth in field case management, the Company now offers its clients an integrated workers' compensation managed care program. CRA is able to offer its services on a combined basis as a full 6 service managed care program, beginning with the first report of injury and including all managed care services needed to manage aggressively the medical costs, temporary wage replacement payments and permanent disability payments associated with a work-related injury. CRA also offers each of its services on an unbundled basis. CRA's comprehensive approach to managing workers' compensation costs serves the needs of a broad range of clients, from local adjusters to national accounts. In addition to providing specialized cost containment services for work-related injuries and illnesses, the Company also provides similar services to payors of automobile accident medical claims and social security disability advocacy services to payors of long term disability. Specialized cost containment services collectively represented approximately 24.0%, 27.1% and 33.8% of the Company's revenues for the fiscal years ending December 31, 1994, 1995 and 1996, respectively. The Company believes that the demand for specialized cost containment services will continue to increase due to a number of factors, including: (i) the increasing payor awareness of the availability of these techniques for managing workers' compensation costs; (ii) the perceived effectiveness of managed care techniques at reducing costs for group health insurance plans; (iii) the verifiable nature of the savings that can be obtained by application of specialized cost containment techniques applicable to workers' compensation; and (iv) the broad applicability of these techniques to all injured employees, not just severely injured employees likely to be absent from work. FIRST REPORT OF INJURY SERVICE. The Company provides a computerized first report of injury reporting service in which an employer or claims adjuster phones in all injuries as soon as they occur to the Company's centralized service center. Each report is electronically transferred or mailed to the state agency, the employer and the insurance company. This service assists in the timely preparation and distribution of state-mandated injury reports and also provides CRA and its customers with an early intervention tool to maximize control over workers' compensation claims. UTILIZATION MANAGEMENT: PRECERTIFICATION AND CONCURRENT REVIEW. CRA's precertification and concurrent review services are used by clients to ensure that certain medical procedures are precertified by a CRA registered nurse and/or physician for medical necessity and appropriateness of treatment before the medical procedure can be performed. CRA's determinations represent only recommendations to the customer, the ultimate decision to approve or disapprove the request is made by the claims adjuster. Precertification calls are made by either the claimant or the provider to one of CRA's national utilization management reporting units. Once a treatment plan has been precertified, a CRA employee performs a follow-up call (concurrent review) at the end of an approved time period to evaluate compliance and/or discuss alternative plans. UTILIZATION MANAGEMENT: RETROSPECTIVE BILL REVIEW. Through a sophisticated software program, CRA reviews and reduces its customers' medical bills (including hospital bills) to either the various state-mandated fee schedules for workers' compensation claims or a percentage of the UCR rates that exist in non-fee schedule states. Additionally, this automated retrospective bill review service enables clients to access certain PPO pricing schedules that represent additional savings below the fee schedules or UCR rates. The savings that accrue to CRA's clients for this service can be significant. Retrospective bill review also creates an important historical database for provider practice patterns and managed care provider compliance requirements. CRA provides retrospective bill review service from 38 service locations throughout the country, 11 of which are operated at a client location using CRA employees. The Company also establishes arrangements that enable customers to run the retrospective bill review service in-house by their own employees. ACCESS TO PREFERRED PROVIDER NETWORKS. CRA provides its clients with access to PPO networks within all the markets CRA serves through one of its own PPOs, including its recently acquired Focus subsidiary, or by contracting with existing national or regional PPOs. These PPOs provide injured workers with access to quality medical care and pre-negotiated volume discounts, thereby offering CRA's clients the ability to influence, or in certain states to direct, their employees into the PPO network as a means of managing their work-related claims. In addition to providing a vehicle for managing the workers' 7 compensation process, the discounts associated with these PPO arrangements generate additional savings through the retrospective bill review program described above. Focus' national network includes approximately 142,000 individual providers and 2,300 hospitals covering 36 states and the District of Columbia. TELEPHONIC CASE MANAGEMENT. This service provides for short-duration (30 to 60 days) telephonic management of workers' compensation claims. The telephonic case management units accept first reports of injury, negotiate discounts with hospitals and other providers, identify care alternatives and work with injured employees to minimize lost time on the job. Each of the telephonic case management units is staffed with nurses who are experienced in medical case management. The telephonic case management units represent an important component of early intervention and act as a referral source of appropriate cases to CRA's local field case management offices. This service is offered from five locations across the country. INDEPENDENT MEDICAL EXAMS. IMEs are provided to assess independently the extent and nature of an employee's injury or illness. CRA provides its clients with access to independent physicians who perform the IMEs from 17 of the Company's service locations and, upon completion, prepare reports describing their findings. PEER REVIEWS. This service is provided by a physician, therapist, chiropractor or other provider who reviews medical files to confirm that the care being provided appears to be necessary and appropriate. The reviewer does not meet with the patient, but merely reviews the file as presented. HOSPITAL BILL AUDITS. This service is provided by the Company's registered nurses who review hospital bills for appropriateness, relatedness and medical necessity. The nurse may subsequently negotiate fees and obtain discounts for prompt payment or inappropriate charges. Through its recently announced acquisition of Prompt, the Company has expanded its client base for hospital bill audits to include the group health payor community. Prompt is a leading provider of out-of-network bill review services to the group health payor community. These services reduce clients' costs by utilizing the Company's team of negotiators and proprietary data base systems to reprice inpatient hospital and outpatient facility bills on a line-by-line basis. Such bills are repriced to either a usual and customary rate, a PPO contract rate, or a combination thereof. Prompt operates offices in Frederick, Maryland and Salt Lake City, Utah, with 107 full time employees. Prompt has created a data base over the past seven years from the details of inpatient hospital and outpatient facility bills from across the country which has allowed it to standardize a high percentage of hospital charge codes for a significant number of such institutions. AUTOMOBILE INSURANCE MANAGED CARE. The Company, through the acquisition of QMC3, has expanded its product line to offer an integrated service to the automobile insurance market that permits insurers to direct automobile accident victims into networks of medical providers. QMC3 currently provides this integrated service in Colorado and has produced significant savings for its insurance company clients since the initiation of its services. QMC3, in cooperation with a third party PPO, has been in discussions for more than a year with the State of New York Insurance Department regarding approval of this PPO as a certified provider of fully integrated managed care services to the New York automobile insurance market using QMC3 as its exclusive utilization review agent. The State of New York Insurance Department has approved this arrangement for the New York City metropolitan area and Long Island, effective as of June 1, 1996. Such an arrangement is the first to offer automobile insurance managed care services in New York. The Company and QMC3, in cooperation with the third party PPO, are continuing their discussions with the State of New York Insurance Department regarding further approvals for offerings of managed care services to automobile insurers in the balance of the State of New York. Services offered to the automobile insurance market include precertification, telephonic case management, direction of injured persons into specialized PPO networks, medical bill review and field case management. 8 CUSTOMERS CRA has over 1,250 customers across the United States and Canada, including most of the major underwriters of workers' compensation insurance, large TPAs and self-insured employers. The Company's largest customer in 1996 accounted for approximately 5% of total revenue. The Company is compensated primarily on a fee-for-service basis. Although the Company has entered into written agreements with certain of its customers from time to time, it has not been the Company's historical practice to enter into written agreements with its customers. Accordingly, the Company's customers generally can elect to terminate their relationships with the Company on short notice. SALES AND MARKETING The Company actively markets its services primarily to workers' compensation insurance companies, TPAs and self-insured employers and groups. The Company also markets to the automobile insurance market, group health and long-term disability marketplaces, but to a significantly lesser degree. The Company's marketing organization includes over 150 full-time sales and marketing personnel. While the majority of CRA's current business is generated from workers' compensation insurance companies, self-insured employers (often in connection with a TPA) also have been an important source of business and the Company believes they will likely become more important in the future as larger corporations continue to evaluate self-insuring their workers' compensation programs. Marketing of CRA's services occurs at both the local insurance company adjuster level for much of the field case management business as well as the corporate level for national managed care accounts and self-insured corporations where a more sophisticated sales presentation is required. The local marketing to insurance company adjusters for field case management referrals has been a critically important component of the Company's marketing strategy because of the decision-making authority that resides at the adjuster level and the relationship-driven nature of that portion of the business. However, with the advent of comprehensive managed care legislation, a more proactive environment for workers' compensation change and a more sophisticated product offered by CRA, the Company will continue to focus on the marketing of national headquarters offices of insurance companies and self-insured companies. CRA has a dedicated staff of national accounts salespeople responsible for marketing and coordinating a full selection of services to corporate offices. QUALITY ASSURANCE The Company regularly evaluates its quality of service delivery by means of audits of compliance with special instructions, completion of activities in a timely fashion, quality of reporting, identification of savings, accuracy of billing and professionalism in contacts with health care providers and the effectiveness of the Company's services. Audits are conducted on a nationwide basis for a particular customer or on a local office basis by selecting random files for review. A detailed report is generated outlining the audit findings and providing specific recommendations for service delivery improvements. When appropriate, follow-up audits are conducted to ensure that recommendations from the initial audit have been implemented. COMPETITION The workers' compensation managed care services market is fragmented, with a large number of competitors. CRA competes with numerous companies, including national managed care providers, insurance companies and HMOs. CRA's primary competitors are companies that offer one or more workers' compensation managed care services on a national basis. The Company also competes with numerous smaller companies which generally provide unbundled services on a local level where such companies often have a relationship with a local adjuster. Several large workers' compensation insurance carriers offer managed care services for their insurance customers either through the insurance 9 carrier's own personnel or by outsourcing various services to providers such as CRA. The Company also competes to some degree with large HMOs, which, CRA believes, have historically focused their networks primarily on controlling health care costs rather than managing the process of returning an injured employee to work. The Company believes that, as managed care techniques continue to gain acceptance in the workers' compensation marketplace, CRA's competitors will increasingly consist of nationally focused workers' compensation managed care service companies, insurance companies, HMOs and other significant providers of managed care products. Many of the Company's current and potential competitors are significantly larger and have greater financial and marketing resources than those of the Company. Within the past few years, several states have experienced decreases in workers' compensation insurance premium rates. The Company believes that managed care and return to work services will continue to be necessary in the future to sustain and increase workers' compensation cost savings. The Company competes on the basis of its specialized knowledge and expertise in the workers' compensation managed care services industry, effectiveness of services, ability to offer a range of services in multiple markets, information systems and price. DATA PROCESSING The Company uses computer systems to provide certain of its services and to provide accounting statements and financial reports. The Company uses licensed software from national vendors to maintain its financial records and perform other general business. The software used by the Company within its retrospective bill review operation is licensed from an independent third party software company pursuant to a non-exclusive license with a three-year term expiring February 1998, that may be terminated by either party upon six months' prior written notice. GOVERNMENT REGULATION General The Company's business is conducted within a regulated environment. The Company's activities are regulated principally at the state level, which means that the Company must comply with regulatory requirements which differ from state to state. Although the laws affecting the Company's operations vary widely from state to state, these laws fall into four principal categories: (i) workers' compensation laws that restrict the methods and procedures that the Company may employ in its workers' compensation managed care programs or require licensor, certification or other approval of such programs; (ii) laws that require licensing, certification or other approval of businesses, such as the Company, that provide medical review services; (iii) laws regulating the operation of managed care provider networks; and (iv) proposed laws which, if adopted, would have as their objective the reform of the health care system as a whole, such as proposals to implement 24-hour health coverage using a single insurance plan for work-related and non-work-related health problems. Laws and regulations affecting the Company's operations change frequently. The Company believes that it is in material compliance with regulatory requirements applicable to its business. Workers' Compensation Legislation In performing workers' compensation managed care services, the Company must comply with state workers' compensation laws. Workers' compensation laws require employers to assume financial responsibility for medical costs, a portion of lost wages and related legal costs of work-related illnesses and injuries. These laws establish the rights of workers to receive benefits and to appeal benefit denials. The workers' compensation laws also regulate the methods and procedures which the Company may employ in its workers' compensation managed care programs. For example, workers' compensation laws prohibit medical co-payments and deductibles by employees. In addition, certain states restrict employers' rights 10 to select health care providers and establish maximum fee levels for treatment of injured workers. See "-- Industry Overview." In several states, recent workers' compensation reform legislation has eased to some degree these regulatory restraints on managed care for injured workers. Legislative reforms in some states permit employers to designate health plans such as HMOs and PPOs to cover workers' compensation claimants. In some instances, such health plans are required to obtain licensor, certification or other approvals to cover workers' compensation claimants. Because many health plans have the capacity to manage health care for workers' compensation claimants, such legislation may intensify competition in the market served by the Company. Within the past few years, several states have experienced decreases in the number of workers' compensation claims and the cost per claim, which have been reflected in workers' compensation insurance premium rate reductions in those states. The Company believes that these declines in workers' compensation costs are due principally to intensified efforts by payors to manage and control claims costs, to improve risk management by employers and to legislative reforms. If declines in workers' compensation costs occur in many states and persist over the long-term, such declines may have an adverse impact upon the Company's business and results of operations. Specialized Cost Containment Services Many of the Company's specialized cost containment services include prospective or concurrent review of requests for medical care or therapy. Approximately half of the states have enacted laws that require licensor, certification or other approval of businesses, such as the Company, that provide medical review services. Some of these laws apply to medical review of care covered by workers' compensation. These laws typically establish minimum standards for qualifications of personnel, confidentiality, internal quality control, and dispute resolution procedures. These regulatory programs may result in increased costs of operation for the Company, which may have an adverse impact upon the Company's ability to compete with other available alternatives for health care cost control. Use Of Provider Networks The Company's ability to provide comprehensive workers' compensation managed care services depends in part on its ability to contract with or create networks of health care providers which share the Company's objectives. For some of its clients, the Company offers injured workers access to networks of providers who are selected by the Company for quality of care and pricing. New laws regulating the operation of managed care provider networks have been adopted by a number of states. These laws may apply to managed care provider networks having contracts with the Company or to provider networks which the Company may organize or acquire. To the extent the Company is governed by these regulations, it may be subject to additional licensing requirements, financial oversight and procedural standards for beneficiaries and providers. Automobile Insurance Legislation The automobile insurance industry, like the workers' compensation industry, is regulated on a state-by-state basis. While regulatory approval is not required for the Company to offer most of its services to the automobile insurance market, state regulatory approval is required in order to offer automobile insurers products that permit them to direct claimants into a network of medical providers. To date, only Colorado and New York have legislation that permits such direction of care and QMC3 offers this managed care service to automobile insurers in Colorado. QMC3, in cooperation with a third party PPO, has been in discussions for more than a year with the State of New York Insurance 11 Department regarding approval of this PPO as a certified provider of fully integrated managed care services to the New York automobile insurance market using QMC3 as its exclusive utilization review agent. The State of New York Insurance Department has approved this arrangement for the New York City metropolitan area and Long Island, effective as of June 1, 1996. Such an arrangement is the first to offer automobile insurance managed care services in New York. The Company and QMC3, in cooperation with the third party PPO, are continuing their discussions with the State of New York Insurance Department regarding further approvals for offerings of managed care services to automobile insurers in the balance of the State of New York. While the Company believes that approval from the State of New York Insurance Department will be forthcoming with respect to the remaining portions of the state, there can be no assurance that New York will issue such approval. In addition, no assurance can be given that other states will adopt legislation permitting such direction of care for automobile accident victims or, if such legislation is adopted, that the Company will be able to obtain regulatory approval to provide such services. Health Care Reform Increasing health care costs have caused the federal government and many states to advance health care reform proposals. One of the proposals being considered is 24-hour health coverage, in which the coverage of traditional employer-sponsored health plans is combined with workers' compensation coverage to provide a single insurance plan for work-related and non-work-related health problems. Incorporating workers' compensation coverage into conventional health plans may adversely affect the market for the Company's services. EMPLOYEES As of December 31, 1996, the Company had approximately 2,725 employees. None of CRA's employees is represented by a labor union. The Company has experienced no work stoppages and believes that its employee relations are good. EXECUTIVE OFFICERS AND DIRECTORS
NAME AGE POSITION(S) - ----------------------------------------------------- --- ----------------------------------------------------- Executive Officers Donald J. Larson 46 President, Chief Executive Officer and Director Joseph F. Pesce 48 Senior Vice President--Finance and Administration, Chief Financial Officer and Treasurer John A. McCarthy, Jr. 38 Senior Vice President--Cost Containment Services and Corporate Development Peter R, Gates 45 Senior Vice President--Marketing and Sales Anne E. Kirby 43 Vice President--Marketing and Product Development Directors Lois E. Silverman 56 Chairman of the Board George H. Conrades 58 Director Jeffrey R. Jay, M.D. 38 Director Mitchell T. Rabkin, M.D. 66 Director
Executive Officers Mr. Larson, a founder of the Company, has served as President and Chief Executive Officer of the Company since January 1, 1996 and as President and Chief Operating Officer of the Company since 1988. Prior to founding the Company, Mr. Larson held the position of New England Regional Manager at IntraCorp. Inc., a division of Cigna Corporation. Mr. Larson is a graduate of Boston College and Boston University. 12 Mr. Pesce has served as Senior Vice President--Finance and Administration since August 1996 and Chief Financial Officer and Treasurer of the Company since October 1994. Mr. Pesce served as Vice President--Finance and Administration of the Company from October 1994 to August 1996. From October 1981 to September 1994, Mr. Pesce held various financial positions with Computervision Corporation and its predecessor Prime Computer, Inc., including Director of Corporate Planning and Analysis, Director of Leasing, Corporate Controller, Treasurer and, most recently, Vice President--Finance and Chief Financial Officer. Prior to October 1981, Mr. Pesce held various financial positions with Compugraphic Corporation and GCA Corporation. Mr. Pesce is a graduate of Boston College and the Wharton School of Finance at the University of Pennsylvania. Mr. McCarthy has served as Senior Vice President--Cost Containment Services and Corporate Development since August 1996. He previously served as Vice President--Cost Containment Services and Corporate Development since August 1994. From June 1992 to July 1994, Mr. McCarthy was Senior Vice President and Chief Financial Officer of MedChem Products, Inc., a manufacturer of specialty medical products. From March 1989 to June 1992, Mr. McCarthy was a Partner at Kaufman & Company, an investment banking firm. From August 1987 to February 1989, Mr. McCarthy was an Associate at Morgan Stanley & Co. Incorporated, an investment banking firm. Mr. McCarthy is a graduate of Lehigh University and Harvard Business School. Mr. Gates has served as Senior Vice President--Marketing and Sales since August 1996. From May 1995 to July 1996, Mr. Gates was Vice President of Mercer Management Consulting. From January 1990 to January 1995, Mr. Gates was Manager of Business Development, and later General Manager of the x-ray business of GE Medical Systems. From April 1988 to December 1989, Mr. Gates was an independent management consultant and from July 1978 to April 1988, Mr. Gates was a Consultant and Vice President with Bain & Company, a management consulting firm. Mr. Gates is a graduate of Princeton University and Harvard Business School. Ms. Kirby joined the Company in July 1979 and has served as Vice President - -Marketing and Product Development since March 1990. From 1979 to 1990, Ms. Kirby served the Company in a variety of roles on a local and regional level, including Regional Vice President for the New England area. Prior to joining the Company, Ms. Kirby worked as a clinical nurse for Massachusetts General Hospital and managed a group medical practice in two different specialty areas. Ms. Kirby is a graduate of Boston College and the St. Louis University Accelerated Curriculum in Nursing. Directors Ms. Silverman, a founder of the Company, has served as the Chairman of the Board since March 1994 and served as its Chief Executive Officer from 1988 through January 1, 1996. Prior to founding the Company, Ms. Silverman held the position of Northeast Regional Manager at IntraCorp., a division of Cigna Corporation. Ms. Silverman is a director of Sun Healthcare Group, Inc. and CareGroup, Inc., parent corporation of Beth Israel Deaconess Medical Center, and serves as a Trustee of Simmons College and Overseer of Tufts Medical School. Ms. Silverman is a graduate of Beth Israel School of Nursing. Mr. Conrades has served as a Director of the Company since June 1994. Mr. Conrades has been President and Chief Executive Officer of BBN Corporation since 1994 and has been Chairman of the Board of BBN Corporation since November 1995. From 1992 to 1994, Mr. Conrades was a partner in Conrades/Reilly Associates, a business consulting company. From 1961 to 1992, Mr. Conrades held a number of management positions with International Business Machines Corp., most recently as Senior Vice President for Corporate Marketing and Services. Mr. Conrades is also a director of BBN Corporation, Westinghouse Electric Corp. and Cubist Pharmaceuticals, Inc.. Dr. Jay has served as a Director of the Company since March 1994. Dr. Jay has been a General Partner of J. H. Whitney & Co., a venture capital firm, since September 1993. Dr. Jay has more than ten years experience in venture capital investing. Dr. Jay is a graduate of Harvard Business School and received his 13 M.D. from the Boston University School of Medicine. Dr. Jay also serves as a director of Advance ParadigM, Inc., Nitinol Medical Technologies, Inc. and several other private companies. Dr. Rabkin has served as a Director of the Company since February 1995. From 1966 to September 1996, Dr. Rabkin served as Chief Executive Officer of Boston's Beth Israel Hospital, where he currently holds the rank of Professor of Medicine. Since October 1, 1996, Dr. Rabkin has been Chief Executive Officer of CareGroup, Inc., parent corporation of Beth Israel Deaconess Medical Center. Dr. Rabkin is a graduate of Harvard College and received his M.D. from Harvard Medical School. Mr. Larson, Whitney, the Whitney Equity Fund and the Whitney Debt Fund have agreed to vote their shares in favor of the reelection of Ms. Silverman as a director of the Company for so long as Ms. Silverman continues to hold, directly or indirectly, at least 407,490 shares. RISK FACTORS Potential Adverse Impact Of Government Regulation Many states, including a number of those in which the Company transacts business, have licensing and other regulatory requirements applicable to the Company's business. Approximately half of the states have enacted laws that require licensing of businesses which provide medical review services, such as the Company. Some of these laws apply to medical review of care covered by workers' compensation. These laws typically establish minimum standards for qualifications of personnel, confidentiality, internal quality control, and dispute resolution procedures. These regulatory programs may result in increased costs of operation for the Company, which may have an adverse impact upon the Company's ability to compete with other available alternatives for health care cost control. In addition, new laws regulating the operation of managed care provider networks have been adopted by a number of states. These laws may apply to managed care provider networks having contracts with the Company or to provider networks which the Company has organized and may organize in the future. To the extent the Company is governed by these regulations, it may be subject to additional licensing requirements, financial oversight and procedural standards for beneficiaries and providers. Regulation in the health care and workers' compensation fields is constantly evolving. The Company is unable to predict what additional government regulations, if any, affecting its business may be promulgated in the future. The Company's business may be adversely affected by failure to comply with existing laws and regulations, failure to obtain necessary licenses and government approvals or failure to adapt to new or modified regulatory requirements. In addition, the automobile insurance industry, like the workers' compensation industry, is regulated on a state-by-state basis. While regulatory approval is not required for the Company to offer most of its services to the automobile insurance market, state regulatory approval is required in order to offer automobile insurers products that permit them to direct claimants into a network of medical providers. Reliance On Data Processing And Licensed Software Certain aspects of the Company's business are dependent upon its ability to store, retrieve, process and manage data and to maintain and upgrade its data processing capabilities. Interruption of data processing capabilities for any extended length of time, loss of stored data, programming errors or other computer problems could have a material adverse effect on the Company's business and results of operations. The software used by the Company within its medical bill review operation is licensed from an independent third party software company pursuant to a non-exclusive license with a three-year term expiring February 1998 that may be terminated by either party upon six months' prior written notice. While the Company has historically maintained a good relationship with the licensor, there can be no assurance that this software license will not be terminated or that the licensor will renew the license upon expiration. Although management believes that alternative software would be available if the existing license were terminated, such termination could be disruptive and could have a material adverse effect on the Company's business and results of operations. 14 Risks Related to Growth Strategy; Fluctuations In Operating Results The Company's strategy is to continue its internal growth and, as strategic opportunities arise in the workers' compensation managed care industry and other related industries, to pursue additional acquisitions of, or relationships with, other companies. As a result, the Company is subject to certain growth-related risks, including the risk that it will be unable to retain personnel or acquire other resources necessary to service such growth adequately. Expenses arising from the Company's efforts to increase its market penetration may have a negative impact on operating results. In addition, there can be no assurance that any suitable opportunities for future strategic acquisitions or relationships will arise or, if they do arise, that the transactions contemplated thereby could be completed. There can be no assurance that the Company will be able to integrate effectively into the Company the businesses that the Company has acquired or those that it may acquire in the future. In addition, such transactions are subject to various risks generally associated with the acquisition of businesses, including the financial impact of expenses associated with the integration of businesses and the diversion of management resources. There can be no assurance that any recent or future acquisition or other strategic relationship will not have an adverse impact on the Company's business or results of operations. If suitable opportunities arise in the future, the Company anticipates that it would finance such transactions, as well as its internal growth, through working capital or, in certain instances, through additional debt or equity financing. There can be no assurance, however, that such debt or equity financing would be available to the Company on acceptable terms when, and if, suitable strategic opportunities arise. In addition, the Company's quarterly and annual results have varied and may vary significantly in the future due to a number of factors, including the impact of current or proposed governmental regulations related to the Company's businesses, expenses associated with the Company's growth strategy, the Company's ability to integrate strategic acquisitions with existing operations, competitive pressures, the loss of key management personnel and customer acceptance of current and new products and services. Possible Litigation And Legal Liability The Company, through its utilization management services, makes recommendations concerning the appropriateness of providers' proposed medical treatment plans of patients throughout the country, and it could share in potential liabilities for adverse medical consequences. The Company does not grant or deny claims for payment of benefits and the Company does not believe that it engages in the practice of medicine or the delivery of medical services. There can be no assurance, however, that the Company will not be subject to claims or litigation related to the grant or denial of claims for payment of benefits or allegations that the Company engages in the practice of medicine or the delivery of medical services. In addition, there can be no assurance that the Company will not be subject to other litigation that may adversely affect the Company's business or results of operations. The Company maintains professional liability insurance and such other coverages as the Company believes are reasonable in light of the Company's experience to date. There can be no assurance, however, that such insurance will be sufficient or available at reasonable cost to protect the Company from liability which might adversely affect the Company's business or results of operations. Competition The Company faces competition from large insurers, HMOs, PPOs, TPAs and other managed health care companies. The Company believes that, as managed care techniques continue to gain acceptance in the workers' compensation marketplace, CRA's competitors will increasingly consist of nationally focused workers' compensation managed care service companies, insurance companies, HMOs and other significant providers of managed care products. Legislative reforms in some states permit employers to designate health plans such as HMOs and PPOs to cover workers' compensation claimants. Because many health plans have the ability to manage medical costs for worker's compensation claimants, such legislation may intensify competition in the market served by the Company. Many of the Company's current and potential competitors are significantly larger and have greater financial and marketing resources than those of 15 the Company, and there can be no assurance that the Company will continue to maintain its existing performance or be successful with any new products or in any new geographical markets it may enter. Changes In Market Dynamics Legislative reforms in some states permit employers to designate health plans such as HMOs and PPOs to cover workers' compensation claimants. Because many health plans have the capacity to manage health care for workers' compensation claimants, such legislation may intensify competition in the market served by the Company. Within the past few years, several states have experienced decreases in the number of workers' compensation claims and the average cost per claim which have been reflected in workers' compensation insurance premium rate reductions in those states. The Company believes that declines in workers' compensation costs in these states are due principally to intensified efforts by payors to manage and control claim costs, to improved risk management by employers and to legislative reforms. If declines in workers' compensation costs occur in many states and persist over the long-term, they may have an adverse impact on the Company's business and results of operations. Importance Of Intellectual Property Rights The Company has made significant investments in the development and maintenance of its proprietary data, including proprietary data base information acquired through the acquisition of Prompt. The Company does not own any patents or federally-registered copyrights relating to its databases. The Company relies largely on its own security systems, confidentiality procedures and employee nondisclosure agreements to maintain the confidentiality and trade secrecy of its proprietary data. Misappropriation of the Company's proprietary information or independent development of similar products may have a material adverse effect on the Company's competitive position. Possible Volatility Of Stock Price There have been significant fluctuations in the market price for the Company's Common Stock. Factors such as variations in the Company's revenues, earnings and cash flow, general market trends in the workers' compensation managed care market, and announcements of innovations or acquisitions by the Company or its competitors could cause the market price of the Common Stock to fluctuate substantially. In addition, the stock market has experienced price and volume fluctuations that have particularly affected companies in the health care and managed care markets, resulting in changes in the market price of the stock of many companies which may not have been directly related to the operating performance of those companies. Such broad market fluctuations may adversely affect the market price of the Common Stock. Dependence Upon Key Personnel The Company is dependent to a substantial extent upon the continuing efforts and abilities of certain key management personnel. In addition, the Company faces competition for experienced employees with professional expertise in the workers' compensation managed care area. The loss of, or the inability to attract, qualified employees could have a material adverse effect on the Company's business and results of operations. Concentration Of Ownership At February 28, 1997, the Company's officers, directors, principal stockholders and their respective affiliates own approximately 16.3% of the outstanding Common Stock. As a result, these stockholders, if acting together, would be able to exert substantial influence over the Company and matters requiring approval by the stockholders of the Company, including the election of directors. The voting power of these stockholders under certain circumstances could have the effect of delaying or preventing a change in control of the Company. 16 Company Does Not Anticipate Paying Dividends The Company does not anticipate paying any cash dividends in the foreseeable future. In addition, the Credit Facility limits the payment of dividends. Accordingly, it is not anticipated that holders of the Common Stock will receive any current income with respect to their shares of Common Stock for the foreseeable future. Anti-Takeover Effect Of Charter Provisions, By-Laws And State Laws; Possible Adverse Effects Of Issuance Of Preferred Stock The Company's Amended and Restated Articles of Organization and By-Laws, as well as Massachusetts law, contain provisions that could discourage a proxy contest, make more difficult the acquisition of a substantial block of the Company's Common Stock, which could make the payment of a premium to shareholders in connection with a change in control less likely, and increase the difficulty of removing incumbent management and board members. In addition, such provisions could limit the price that investors might be willing to pay in the future for shares of the Company's Common Stock. The Board of Directors is authorized to issue, without stockholder approval, Preferred Stock with voting, conversion and other rights and preferences that could adversely affect the voting power or other rights of the holders of Common Stock. Although the Company has no current plans to issue any shares of Preferred Stock, the issuance of Preferred Stock or rights to purchase Preferred Stock could be used to discourage an unsolicited acquisition proposal. The Board of Directors is divided into three "staggered" classes, with each class serving for a term of three years. Dividing the Board of Directors in this manner increases the difficulty of removing incumbent members and could discourage a proxy contest or the acquisition of a substantial block of the Company's Common Stock. Massachusetts law contains certain anti-takeover provisions, including a so-called Business Combination Statute that restricts certain stockholders that own (together with their affiliates) 5.0% or more of the outstanding voting stock of a Massachusetts corporation from engaging in certain business combinations with such corporation and a so-called Control Share Statute that limits any person or entity that has acquired 20% or more of a corporation's stock from voting such shares unless the corporation's stockholders, other than such acquiring person or entity, authorize such voting rights by a vote of the holders of the majority of stock of the corporation entitled to vote on such matters. Such provisions of Massachusetts law could have the effect of discouraging a potential acquiror from making an offer for the Common Stock, which would make the payment of a premium to stockholders in connection with a change in control less likely, and could increase the difficulty of removing incumbent management and board members. ITEM 2. PROPERTIES The Company's principal corporate office is located in Boston, Massachusetts. The Company leases the 11,000 square feet of space in this site pursuant to a lease agreement expiring in 2003. The Company also leases all of its offices located in 49 states and three Canadian provinces. Thirteen of the Company's offices are leased from Colonial Realty Trust, of which Ms. Silverman and Mr. Larson are the trustees and beneficiaries. The Company believes that its facilities are adequate for its current needs and that suitable additional space will be available as required. ITEM 3. LEGAL PROCEEDINGS The Company is party to certain claims and litigation in the ordinary course of business. The Company is not involved in any legal proceeding that it believes will result, individually or in the aggregate, in a material adverse effect upon its financial condition or results of operations. 17 ITEM 4. SUBMISSIONS OF MATTERS TO A VOTE OF SECURITY HOLDERS During the fourth quarter of 1996, no matter was submitted to a vote of security holders. PART II ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS The Nasdaq National Market is the principal market in which the Company's Common Stock is traded under the symbol "CRAA". At March 14, 1997, there were approximately 700 stockholders of record of the Company's Common Stock. The quarterly market prices subsequent to the Company's initial public offering on May 3, 1995 were as follows:
HIGH LOW --------- --------- 1995 Second Quarter $ 25.00 $ 16.50 Third Quarter $ 24.50 $ 19.00 Fourth Quarter $ 24.50 $ 20.75 1996 First Quarter $ 36.75 $ 22.13 Second Quarter $ 47.00 $ 34.00 Third Quarter $ 56.75 $ 33.00 Fourth Quarter $ 58.38 $ 42.50
The Company has neither declared nor paid cash dividends on its Common Stock during 1996. The Company intends to retain all of its earnings to finance the development and expansion of its business and therefore does not intend to pay dividends on its Common Stock in the foreseeable future. Any future declaration of dividends will be subject to the discretion of the Board of Directors of the Company, will be subject to applicable law and will depend upon the Company's results of operations, earnings, financial condition, contractual limitations, cash requirements, future prospects and other factors deemed relevant by the Company's Board of Directors. In addition, the Company's existing credit facility limits the payment of dividends on the Company's Common Stock to 25% of the Company's consolidated net income each fiscal year, subject to continued compliance with the financial covenants contained in the credit facility. ITEM 6. SELECTED FINANCIAL DATA Selected Financial Data appears on page 38 of the Company's 1996 Annual Report to Stockholders is incorporated herein by reference. ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATION "Management Discussion and Analysis of Financial Condition and Results of Operations" on pages 17 through 20 of the Company's 1996 Annual Report to Stockholders is incorporated herein by reference. ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA Consolidated Financial Statements and Notes to the Consolidated Financial Statements, which are included on pages 22 through 39 of the 1996 Annual Report to Stockholders, together with the "Report of 18 Independent Accountants" on page 21 of the 1996 Annual Report to Stockholders and unaudited supplementary data that is included in Note 14--Selected Quarterly Operating Results (Unaudited) on page 39 of the 1996 Annual Report to Stockholders are incorporated herein by reference. ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE Upon the recommendation of the Company's Board of Directors, effective December 5, 1994, the Company engaged Arthur Andersen LLP to serve as the Company's independent accountants, dismissing KPMG Peat Marwick LLP. KPMG Peat Marwick LLP's report on the Company's financial statements for the years ended December 31, 1992 and 1993 did not contain an adverse opinion or disclaimer of opinion nor were any reports qualified or modified as to uncertainty, audit scope or accounting principles. The change in independent accountants did not result from any disagreement between the Company and KPMG Peat Marwick LLP on any matter of accounting principles or practices, financial statement disclosure or auditing scope or procedure. PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT Information contained under the captions "Election of Directors" and "Information Concerning the Board of Directors" in the Company's definitive Proxy Statement, which will be filed with the Commission on or about April 4, 1997, is incorporated herein by reference. See ITEM 1 "Executive Officers and Directors" for information concerning the Company's executive officers and Directors. ITEM 11. EXECUTIVE COMPENSATION Information contained under the captions "Executive Compensation" in the Company's definitive Proxy Statement, which will be filed with the Commission on or about April 4, 1997, is incorporated herein by reference. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS, DIRECTORS AND OFFICERS Information contained under the captions "Security Ownership of Certain Beneficial Owners, Directors And Officers" in the Company's definitive Proxy Statement, which will be filed with the Commission on or about April 4, 1997, is incorporated herein by reference. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS Information contained under the captions "Compensation Committee Interlocks and Insider Participation" in the Company's definitive Proxy Statement, which will be filed with the Commission on or about April 4, 1997, is incorporated herein by reference. 19 PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K (a) (1) Consolidated Financial Statements The following Consolidated Financial Statements of CRA Managed Care, Inc. included in the Company's 1996 Annual Report to Stockholders, are incorporated herein by reference in Item 8 of Part II of this report. * Consolidated Balance Sheets for the years ended December 31, 1995 and 1996 on page 22 of the 1996 Annual report to Stockholders * Consolidated Statements of Operations for the years ended December 31, 1994, 1995, and 1996, on page 23 of the 1996 Annual Report to Stockholders * Consolidated Statements of Cash Flows for the years ended December 31, 1994, 1995 and 1996, on page 24 of the 1996 Annual Report to Stockholders * Consolidated Statements of Stockholders' Equity (Deficit) for the years ended December 31, 1994, 1995, and 1996 on page 25 of the 1996 Annual Report to Stockholders * Report of Independent Accountants on page 21 of the 1996 Annual Report to Stockholders (2) Financial Statement Schedule The financial statement schedule, Supplemental Schedule II--Allowance for Doubtful Accounts, is filed with this report and appears on page 24. The Report of Independent Accountants on Financial Statement Schedules is filed with this report and appears on page 25. All other schedules for which provision is made in Regulation S-X of the Securities and Exchange Commission, are not required under the related instructions or are not applicable and, therefore, have been omitted. (3) Exhibits The following is a list of exhibits filed as part of the Form 10-K: EXHIBIT NUMBER TITLE - ----------- -------------------------------------------------------- #2.1 Stock Purchase Agreement, dated as of March 19, 1996, by and between the Company and United Healthcare Services, Inc. *2.2 Agreement and Plan of Merger, dated as of October 28, 1996, by and among the Company, PAI Acquisition Corp., Prompt Associates, Inc., and certain other signatories thereto. *3.1 Restated Articles of Organization of the Company. *3.2 Form of Articles of Amendment to the Articles of Organization of the Company. *3.3 By-Laws of the Company, as amended and restated. **3.1 Articles of Organization of the Company, as amended. **3.2 Form of Amended and Restated Articles of Organization of the Company. **3.3 By-Laws of the Company. 20 **3.4 Form of By-Laws of the Company, as amended and restated. **4.1 Specimen stock certificate representing the shares of Common Stock. **4.2 Subordinated Note and Common Stock Purchase Agreement, dated as of March 8, 1994, among the Company, Whitney Subordinated Debt Fund, L.P., J.H. Whitney & Co., Lois E. Silverman and Donald J. Larson. **4.3 Subordinated Note and Common Stock Purchase Agreement, dated as of March 8, 1994, among the Company, First Union Corporation, Lois E. Silverman and Donald J. Larson. **10.1 Employment Agreement, dated as of March 8, 1994, between the Company and Lois E. Silverman. **10.2 Employment Agreement, dated as of March 8, 1994, between the Company and Donald J. Larson. **10.3 1994 Non-Qualified Stock Option Plan for Non-Employee Directors. **10.4 Form of Non-Qualified Stock Option Agreement pursuant to the 1994 Non-Qualified Option Plan for Non-Employee Directors. **10.5 1994 Non-Qualified Time Accelerated Restricted Stock Option Plan. **10.6 Form of Non-Qualified Stock Option Agreement pursuant to the 1994 Non-Qualified Time Accelerated Restricted Stock Option Plan. **10.7 Registration Rights Agreement, dated as of March 8, 1994, among the Company, J.H. Whitney & Co., Whitney 1990 Equity Fund, L.P., Whitney Subordinated Debt Fund, L.P., First Union Corporation, Lois E. Silverman and Donald J. Larson. **+10.8 Software License Agreement between CompReview, Inc. and the Company, dated February 10, 1995. **10.9 Lease Agreement, dated January 1, 1994, by and between Colonial Realty Trust and the Company for office space located at 168 U.S. Route 1, Falmouth, ME 04105. **10.10 Lease Agreement, dated January 1, 1994, by and between Colonial Realty Trust and the Company for office space located at 46 Austin Street, Newtonville, MA 02160. **10.11 Lease Agreement, dated January 1, 1994, by and between Colonial Realty Trust and the Company for office space located at 46 Austin Street, Newtonville, MA 02160. **10.12 Lease Agreement, dated January 1, 1994, by and between Colonial Realty Trust and the Company for office space located at 46 Austin Street, Newtonville, MA 02160. **10.13 Lease Agreement, dated January 1, 1994, by and between Colonial Realty Trust and the Company for office space located at 46 Austin Street, Newtonville, MA 02160. **10.14 Lease Agreement, dated January 1, 1994, by and between Colonial Realty Trust and the Company for office space located at 46 Austin Street, Newtonville, MA 02160. **10.15 Lease Agreement, dated January 1, 1994, by and between Colonial Realty Trust and the Company for office space located at 46 Austin Street, Newtonville, MA 02160. **10.16 Lease Agreement, dated January 1, 1994, by and between Colonial Realty Trust and the Company for office space located at 312 Union Wharf, Boston, MA 02109. **10.17 Lease Agreement, dated January 1, 1994, by and between Colonial Realty Trust and the Company for office space located at 565 Turnpike Street, North Andover, MA 01845. **10.18 Lease Agreement, dated January 1, 1994, by and between Colonial Realty Trust and the Company for office space located at 15A Riverway Place, Bedford, NH 03110. **10.19 Lease Agreement, dated January 1, 1994, by and between Colonial Realty Trust and the Company for office space located at 509 Stillwells Corner Road, Freehold, NJ 07728. **10.20 Lease Agreement, dated January 1, 1994, by and between Colonial Realty Trust and the Company for office space located at 732 Thimble Shoals Blvd., Newport News, VA 23606. **10.21 Lease Agreement, dated January 1, 1994, by and between Colonial Realty Trust and the Company for office space located at 10132 Colvin Run Road, Suite A, Great Falls, VA 22066. **10.22 Waiver of Registration Rights and Participation Notice, dated as of March 17, 1995, among the Company and the other parties to the Registration Rights Agreement. 21 **10.23 Termination of Management Fee and Amendment to Executive Bonus Plan among the Company, J.H. Whitney & Co., Whitney 1990 Equity Fund, L.P., Ms. Silverman and Mr. Larson. **10.24 1995 Employee Stock Purchase Plan. **10.25 Letter dated September 9, 1994 from the Company to Joseph F. Pesce regarding terms of employment. #10.26 Letter dated June 30, 1995 from the Company to Joseph F. Pesce regarding continuation of compensation. #10.27 Letter dated June 30, 1995 from the Company to John A. McCarthy Jr. regarding continuation of compensation. #10.28 Letter dated June 30, 1995 from the Company to Anne E. Kirby regarding continuation of compensation. #10.29 Amendment to Employment Agreement, dated as of January 24, 1996, between the Company and Lois E. Silverman. #10.30 Definitive agreement to acquire Focus HealthCare Management, Inc., dated March 19, 1996, between the Company and United HealthCare Corporation. #10.31 Amendment, dated as of March 29, 1996, to Loan Agreement, by and among the Company, First Union National Bank of North Carolina and certain other Lenders, and the First Union National Bank of North Carolina, as Agent. **10.32 Landlord Agreement, dated as of March 8, 1994, between Lois E. Silverman and Donald J. Larson, Trustees of Colonial Realty Trust and the Company in favor of First Union National Bank of North Carolina (previously filed as exhibit 4.12). **10.33 Loan Agreement, dated as of April 28, 1995, by and among the Company, First Union National Bank of North Carolina and certain other Lenders, and the First Union National Bank of North Carolina, as Agent (previously filed as exhibit 4.23). **10.34 Form of Revolving Credit Note issued by the Company to First Union National Bank of North Carolina (previously filed as exhibit 4.24). **10.35 Form of Security Agreement between the Company and First Union National Bank of North Carolina (previously filed as exhibit 4.25). **10.36 Form of Collateral Assignment of Leases between the Company and First Union National Bank of North Carolina (previously filed as exhibit 4.26). **10.37 Form of Trademark Security Agreement between the Company and First Union National Bank of North Carolina (previously filed as exhibit 4.27). **10.38 Form of Landlord Agreement between Lois E. Silverman and Donald J. Larson, Trustees of Colonial Realty Trust and the Company in favor of First Union National Bank of North Carolina (previously filed as exhibit 4.28). 11.1 Statement regarding computation of earnings per share. 13.1 Excerpts from the Company's 1996 Annual Report to stockholders. **16.1 Letter from KPMG Peat Marwick LLP regarding change in principal accountant. 21.1 List of Subsidiaries. 23.1 Consent of Arthur Andersen LLP. 29.1 Financial Data Schedule - ------------------------ * Incorporated by reference to the Company's Registration Statement on Form S-3 (No. 33-90426), as filed on November 7, 1996. ** Incorporated by reference to the Company's Registration Statement on Form S-1 (No. 33-90426), as filed on March 17, 1995, as amended. + Confidential treatment granted. # Incorporated by reference to the Annual Report on Form 10-K for the year ended December 31, 1995, as filed on March 29, 1996. 22 (b) Reports on Form 8-K. Form 8-K, dated January 7, 1997, regarding the acquisition of Prompt Associates, Inc. including audited financial statements for the three years ended December 31, 1995, consolidated pro forma statements of operations of the Company and Prompt for the year ended December 31, 1995 and the nine months ended September 30, 1996. SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this Report to be signed on its behalf by the undersigned, therunto duly authorized, on the 28th day of March, 1997. CRA MANAGED CARE, INC. By:/s/ JOSEPH F. PESCE -------------------------- Jospeph F. Pesce Senior Vice President-Finance and Administration, Chief Financial Officer and Treasurer (Principal Financial and Accounting Officer) Pursuant to the requirements of the Securities Exchange Act of 1934, this Report has been signed below by the following persons on behalf of the Registrant and in the capacities indicated. Signature Title Date --------- ----- ---- /s/ DONALD J. LARSON President, Chief Executive March 28, 1997 - ----------------------- Officer and Director Donald J. Larson (Principal Executive Officer /s/ JOSEPH F. PESCE Senior Vice President-Finance March 28, 1997 - ----------------------- and Administration, Chief Financial Officer and Treasurer (Principal Financial and Accounting Officer) /s/ LOIS E. SILVERMAN Chairman of the Board of March 28, 1997 - ----------------------- Directors Lois E. Silverman /s/ JEFFREY R. JAY Director March 28, 1997 - ----------------------- Jeffrey R. Jay /s/ GEORGE H. CONRADES Director March 28, 1997 - ----------------------- George H. Conrades /s/ MITCHELL T. RABKIN Director March 28, 1997 - ----------------------- Mitchell T. Rabkin 23 CRA MANAGED CARE, INC. Allowance for Doubtful Accounts for the Years Ended December 31, 1994, 1995 and 1996 SCHEDULE II
BALANCE BALANCE THE THE ADDITIONS ADDITIONS AT AT CHARGED TO ACQUIRED DEDUCTIONS END BEGINNING COSTS AND THROUGH FROM OF THE OF THE YEAR EXPENSES ACQUISITIONS RESERVES YEAR ------------- ----------- ----------- ---------- ---------- Allowance for Doubtful Accounts: 1994 $ 80,000 $ 353,000 $ -- $ 53,000 $ 380,000 1995 380,000 186,000 -- 136,000 430,000 1996 430,000 1,213,000 1,735,000 1,211,000 2,167,000
24 REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS ON SCHEDULES To CRA Managed Care, Inc.: We have audited in accordance with generally accepted auditing standards, the financial statements of CRA Managed Care, Inc. incorporated by reference in this Form 10-K and have issued our report thereon dated January 27, 1997. Our audit was made for the purpose of forming an opinion on the basic financial statements taken as a whole. The schedule listed in the index of the financial statement schedules is presented for the purpose of complying with the Securities and Exchange Commission's rules and is not part of the basic financial statements. This schedule has been subjected to the auditing procedures applied in the audit of the basic financial statements and, in our opinion, fairly states in all material respects the financial data required to be set forth therein in relation to the basic financial statements taken as a whole. Arthur Andersen LLP Boston, Massachusetts January 27, 1997 25 INDEX TO EXHIBITS
EXHIBIT PAGE NUMBER NUMBER - ----------- ------ 11.1 Statement regarding calculation of shares used in determining earnings per share and pro forma earnings per share. 13.1 Excerpts from the Company's 1996 Annual Report to Stockholders. 21.1 List of Subsidiaries. 23.1 Consent of Arthur Andersen LLP. 27.1 Financial Data Schedule
26 EX-11.1 2 EXHIBIT 11 (CIRCLE 27) CRA MANAGED CARE, INC. Calculation of Shares Used in Determining Earnings Per Share and Pro Forma Earnings Per Share for the Years Ended December 31, 1994, 1995 and 1996 Exhibit 11.1 1994 1995 1996 --------- --------- --------- Weighted average number of shares of 4,700,000 6,413,000 8,284,000 common stock outstanding during the period Common stock equivalents, under the 115,000 127,000 191,000 treasury stock method --------- --------- --------- 4,815,000 6,540,000 8,475,000 --------- --------- --------- --------- --------- ---------
27 EX-13 3 EX 13 (CIRCLE 28-53) MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS This document contains forward-looking statements that involve risks and uncertainties. The Company's actual results may differ significantly from the results discussed in the forward-looking statements. Reference is hereby made to the Company's Annual Report on Form 10-K for the year ended December 31, 1996 filed with the Securities and Exchange Commission for certain considerations that could cause actual results to differ materially from those contained in this document. Overview CRA provides field case management and specialized cost containment services designed to reduce workers' compensation costs. Field case management services involve working on a one-on-one basis with injured employees and their various health care professionals, employers and insurance company adjusters to assist in maximizing medical improvement and, where appropriate, to expedite return to work. Specialized cost containment services include various techniques designed to reduce the cost of workers' compensation claims and automobile accident injury claims. The Company operates one of the largest field case management organizations in the United States, consisting of 118 field case management offices with approximately 1,125 field case managers who provide medical management and return to work services in 49 states and the District of Columbia. CRA also provides a broad range of specialized cost containment services, including utilization management, telephonic case management and retrospective medical bill review services, that are designed to reduce costs associated with work-related injuries. The Company markets its services to workers' compensation insurers, third-party administrators and self-insured employers through a direct sales and marketing organization consisting of over 150 dedicated personnel. CRA currently has over 1,250 customers nationwide. The Company was founded in 1978 to provide field case management services to workers' compensation payors. In 1990, as part of its strategy to provide a comprehensive range of managed care services to its customers and to leverage its national organization and local office network in field case management, CRA began introducing specialized cost containment services designed to reduce the cost of workers' compensation claims. The Company believes that specialized cost containment services represent an important growth opportunity for CRA and that the majority of such services generate higher gross margins than traditional field case management services. Historically, the Company's field case management revenue growth has resulted from both local market share gains as well as geographic office expansion. The Company opened 15 new field case management offices in 1994, eight in 1995, all of which were in connection with the acquisition of Alta Pacific Corporation and eight in 1996. The Company believes that its field case management office network is of sufficient size to serve adequately the needs of its nationwide customers. As a result, the Company expects that it will need to open only a few new field case management offices per year to satisfy client needs in selected regions. Since 1990, the Company has offered specialized cost containment services which in 1996 represented approximately 33.8% of revenues. The Company provides specialized cost containment services from 70 service locations across the country. The Company opened 13 new specialized cost containment locations in 1994, two in 1995 and 20 in 1996. Set forth below for each of the three most recent years is the percentage of the Company's revenues generated from its field case management services and its specialized cost containment services. YEARS ENDED DECEMBER 31, ------------------------------- 1994 1995 1996 --------- --------- --------- Field case management services 76.0% 72.9% 66.2% Specialized cost containment services 24.0% 27.1% 33.8% On March 8, 1994, the Company completed a recapitalization ("Recapitalization"), pursuant to which the Company redeemed an aggregate of 49.0% of the then outstanding shares of Common Stock from the Company's principal stockholders for a total consideration of $50,412,000 in cash and $5,000,000 in junior subordinated notes ("Junior Subordinated Notes"). To finance these redemptions and related expenses, the Company issued an aggregate of $10,000,000 of Preferred Stock, borrowed $17,000,000 in term loans ("Term Loans")and $5,000,000 in revolving credit ("Former Revolving Credit Facility")and issued $21,000,000 in senior subordinated notes ("Senior Subordinated Notes"). On May 10, 1995, the Company completed the sale of 2,515,625 shares of its Common Stock, including the exercise of the underwriters over-allotment option, at a price of $16.00 per share, generating net proceeds to the Company of $36,507,000. These proceeds, supplemented by borrowings under a new credit facility ("Credit Facility") ($5,000,000) were used to repay fully the Term Loan ($16,250,000), the Former Revolving Credit Facility ($4,226,000) and the Senior Subordinated Notes ($21,000,000). The early repayment of this debt resulted in a loss on the retirement of debt of $2,460,000. On October 23, 1995, the Company acquired Alta Pacific Corporation, a workers' compensation case management company with eight offices in the state of Washington, with revenues of approximately $3,000,000, in a pooling of interests for 136,150 shares of Common Stock, or approximately $2,900,000 in value, based upon the market value of the stock on the acquisition date. This acquisition was not material to the Company's financial statements and the Company restated its opening retained earnings as of the acquisition date to reflect the net assets of Alta Pacific Corporation. As such, the results for the year ended December 31, 1995 only include the operating results of Alta Pacific Corporation subsequent to the acquisition date. On April 2, 1996, the Company purchased FOCUS HealthCare Management, Inc. ("FOCUS") from United HealthCare Corporation for $21,000,000 in cash. FOCUS, based in Brentwood, Tennessee, has built and maintains one of the nation's largest workers' compensation preferred provider organization ("PPO") networks, and had annual revenues of approximately $9,900,000 for the year ended December 31, 1995. In order to finance this acquisition, the Company and First Union Bank signed an amendment to expand the Company's borrowing capacity under the Credit Facility to $40,000,000 under similar terms and conditions. On May 29, 1996, the Company acquired all the outstanding capital stock of QMC3, Inc. ("QMC3") in exchange for 230,441 shares of the Company's Common Stock in a pooling of interests, which was valued at approximately $8,500,000 as of the date of the acquisition agreement. QMC3, based in Denver, Colorado, is a leading managed care services company serving the automobile liability insurance market, and has been instrumental in helping to obtain the passage of legislation in Colorado and New York enabling the mandatory direction of medical care for automobile accident victims. QMC3 had annual revenues in 1995 of approximately $2,000,000. This acquisition, which was accounted for as a pooling of interests, was not material to the Company's financial statements and the Company restated its opening retained earnings as of the acquisition date to reflect the net assets of QMC3. As such, the results for the year ended December 31, 1996 only include the operating results of QMC3 subsequent to the acquisition date. On June 7, 1996, the Company completed the sale of 2,875,000 shares of its Common Stock, including the exercise of the underwriters' over-allotment option, at a price of $46.00 per share. Of the aggregate shares of Common Stock sold, 1,200,000 shares were sold for the account of the Company generating net proceeds to the Company of approximately $51,840,000 and 1,675,000 shares were sold for account of certain stockholders of the Company. The Company used approximately $29,000,000 of the net proceeds to repay borrowings under the expanded Credit Facility with First Union Bank. On October 29, 1996, the Company purchased Prompt Associates, Inc. ("Prompt") for approximately $30,000,000 in cash. Prompt, which is based in Salt Lake City, Utah, is one of the leading providers of hospital bill audit services to the group health payor community for claims that fall outside of an indemnity carrier's, third-party administrator's ("TPA") or health maintenance organization's ("HMO") network of hospital or outpatient facilities. Prompt had annual revenues of approximately $10,000,000 for the year ended December 31, 1995. In order to finance this acquisition, the Company utilized approximately $25,000,000 of its existing cash, supplemented by borrowings of approximately $5,000,000 under the Company's Credit Facility. The Company currently derives most of its revenues on a fee-for-service basis. Although risk sharing arrangements are not common in today's workers' compensation managed care services industry, the Company believes that these arrangements may become more prevalent in the future. Result of Operations Years Ended December 31, 1996 and 1995 Revenues Revenues increased 23.0% in 1996 to $179,652,000 from $146,055,000 in 1995. Field case management revenues increased 11.6% in 1996 to $118,864,000 from $106,462,000 in 1995, while specialized cost containment revenues increased 53.5% in 1996 to $60,788,000 from $39,593,000 in 1995. The field case management revenue growth is primarily attributable to the acquisition of Alta Pacific Corporation in the fourth quarter of 1995, the opening of eight offices during 1996 and growth in revenues from existing service locations. The specialized cost containment revenue growth is primarily attributable to the acquisition of FOCUS on April 2, 1996, QMC3 on May 29, 1996 and Prompt on October 29, 1996. Excluding these acquisitions, cost containment revenues would have increased approximately 27.0% over 1995. This revenue growth is attributable to the addition of 15 service locations during 1996, excluding the service locations associated with the FOCUS, QMC3 and Prompt acquisitions, and continued growth in retrospective bill review and telephonic case management services in existing service locations. The Company expects to experience substantial revenue growth from its specialized cost containment offerings in 1996 due to its acquisitions and continued growth in its other cost containment product offerings. Cost Of Services Cost of services increased 20.5% in 1996 to $147,747,000 from $122,615,000 in 1995 due to an increase in revenues and the acquisitions of FOCUS, QMC3 and Prompt. Cost of services as a percentage of revenue decreased to 82.2% in 1996 compared to 84.0% in 1995. This improvement in gross margin is primarily the result of productivity gains in field case management services coupled with a shift in the Company's revenue mix towards specialized cost containment services, including the services provided by FOCUS, QMC3 and Prompt, which historically have had higher gross profit margins than revenues derived from field case management services. The Company's cost of services consists primarily of salaries and related benefits, rent, travel, marketing, telephone expenses and other office-related costs. General and Administrative Expenses General and administrative expensesincreased 31.0% in 1996 to $14,439,000 from $11,021,000 in 1995, or to 8.0% from 7.5% as a percentage of revenue for 1996 and 1995, respectively. The increase in general and administrative expenses in 1996 primarily was due to increased expenditures for marketing initiatives, additional investments in the information technology group and general and administrative expense associated with FOCUS and Prompt. Other Expense Other expense for 1996 consisting entirely of interest income and expense, decreased by $2,285,000 to $199,000 in 1996 from $2,484,000 in 1995. The Company recorded interest income of $571,000 which was the result of the investment of excess proceeds from the sale of Common Stock in June of 1996 until such cash was utilized for the purchase of Prompt in October 1996. Interest expense decreased $1,714,000 in 1996 to $770,000 compared to interest expense of $2,484,000 in 1995. The decrease in interest expense in 1996 was due primarily to the repayment of the Term Loan and Senior Subordinated Notes with the proceeds from the sale of Common Stock in May 1995. This decrease in interest expense was partially offset by interest expense associated with Credit Facility borrowings utilized to finance the FOCUS acquisition in April of 1996 (until repaid with a portion of the proceeds from the Company's sale of Common Stock in June of 1996) and additional Credit Facility borrowings utilized to finance the Prompt acquisition in October 1996. Provision for Income Taxes The Company's provision for income taxes for 1996 was $7,166,000, or an effective tax rate of 41.5%, compared to a tax provision for 1995 of $3,974,000, or an effective tax rate of 40.3%. The Company expects its effective tax rate to increase to approximately 44% for 1997 due to the non-deductibility of goodwill amortization associated with the FOCUS and Prompt acquisitions. Years Ended December 31, 1995 and 1994 Revenues Revenues increased 20.4% in 1995 to $146,055,000 from $121,295,000 in 1994. Field case management revenue increased 15.4% in 1995 to $106,462,000 from $92,232,000 in 1994, while specialized cost containment revenue grew by 36.2% in 1995 to $39,593,000 from $29,063,000 in 1994. This growth is attributable to the opening of 23 new field case management and 15 new specialized cost containment service locations throughout 1994 and 1995 as well as growth in revenues from existing service locations. The Company experienced significant revenue growth from its specialized cost containment offerings in 1995, as revenues from the Company's bill review, telephonic case management and precertification services increased by over 60% from the prior year. Cost of Services Cost of services increased 18.1% in 1995 to $122,615,000 from $103,796,000 in 1994. Cost of services increased in 1995 primarily due to expenses associated with the opening of additional service locations and compensation of related personnel. Cost of services as a percentage of revenue for 1995 decreased to 84.0% from 85.6% in 1994. This improvement is the result of increased field case management gross profit margins due to productivity gains coupled with a further shift in the Company's revenue mix towards the specialized cost containment services, especially bill review, which historically have had higher gross profit margins than field case management services. General and Administrative Expenses General and administrative expenses increased 25.9% in 1995 to $11,021,000 from $8,753,000 in 1994, or 7.5% and 7.2% as a percentage of revenue for 1995 and 1994, respectively. This increase was due primarily to increased expenses for additional senior corporate management and to significant investments in the information technology group, national marketing, PPO network development and other administrative functions. These additions and investments occurred primarily in the second half of 1994. Other Expense Other expense for 1995 consisted entirely of interest expense. Interest expense for 1995 decreased $1,603,000 to $2,484,000 in 1995 from $4,087,000 in 1994 due to the repayment of debt in connection with the sale of Common Stock on May 10, 1995. Provision for Income Taxes The Company's effective tax rate was 40.3% for 1995 which resulted in a tax provision of $3,974,000. In connection with the Recapitalization during 1994, the Company converted from S to C corporation status and was required to report income on an accrual basis for tax purposes rather than on a cash basis. Loss on Retirement of Debt The Company used the net proceeds ($36,507,000) from the sale of Common Stock, supplemented by borrowings under the New Credit Facility ($5,000,000) to fully repay the Term Loan ($16,250,000), the Former Revolving Credit Facility ($4,226,000) and the Senior Subordinated Notes ($21,000,000). The early repayment of this debt resulted in the Company recording a loss on the retirement of debt of $2,460,000 comprised of the write-off of associated deferred finance costs ($1,772,000), debt discount on the Senior Subordinated Notes ($2,140,000) and fees associated with the termination of the interest rate swaps previously required by the loan agreement ($158,000), offset by a tax benefit of $1,610,000. Liquidity and Capital Resources The Company has historically funded its working capital requirements and capital expenditures primarily from cash flow generated from operations supplemented by short-term borrowings under revolving credit facilities and the proceeds of its public offerings of Common Stock. Cash flows generated from operations were $5,594,000, $4,114,000 and $2,723,000 for the years ended December 31, 1994, 1995 and 1996, respectively. During 1996, working capital used $10,368,000 of cash primarily due to an increase in accounts receivable of $8,299,000 and a decrease in accounts payable and accrued expenses of $2,494,000, offset by a decrease in prepaid expenses of $425,000. Accounts receivable increased due to continued revenue growth while accounts payable and accrued expenses decreased due to the timing of payments, especially those associated with the Company's acquisition of FOCUS and Prompt. Prepaid expenses decreased primarily due to the decrease in prepaid income taxes. The Company used net cash of $49,973,000 in connection with the acquisitions of FOCUS and Prompt. The Company purchased FOCUS in April 1996 for approximately $21,000,000 in cash and Prompt in October 1996for approximately $30,000,000 in cash. The Company also used $3,907,000 of cash to purchase property and equipment during 1996, the majority of which was spent on new computers and software packages. On January 16, 1996, the Company utilized borrowings under the Credit Facility to retire the $5,000,000 10% Junior Subordinated Notes issued in connection with the Recapitalization. In June of 1996, the Company sold an aggregate of 1,200,000 shares of its Common Stock, including the exercise of the underwriters' over-allotment option, at a price of $46.00 per share generating net proceeds to the Company of approximately $51,840,000. The Company used approximately $29,000,000 of the net proceeds to repay all of the outstanding borrowings under the Credit Facility with First Union Bank. The Company has a $40,000,000 Credit Facility with First Union Bank. The Company's obligations under the Credit Facility are secured by a first priority security interest in substantially all of the Company's properties and assets. At December 31, 1996, the Company had borrowings under the Credit Facility of $5,700,000 at an average rate of interest of 7.61%. The Company's long-term liquidity needs consist of working capital and capital expenditure requirements, repayment of borrowings under the Credit Facility and the funding of any future acquisitions. The Company intends to fund these long-term liquidity needs from cash generated from operations, available borrowings under the Credit Facility and, if necessary, future debt or equity financing. There can be no assurance that any future debt or equity financing will be available on terms favorable to the Company. REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS To the Stockholders and Board of Directors of CRA Managed Care, Inc.: We have audited the accompanying consolidated balance sheets of CRA Managed Care, Inc. (a Massachusetts corporation) as of December 31, 1996 and 1995, and the related consolidated statements of operations, cash flows and stockholders' equity (deficit) for each of the three years in the period ended December 31, 1996. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of CRA Managed Care, Inc. as of December 31, 1996 and 1995, and the results of its operations and its cash flows for each of the three years in the period ended December 31, 1996, in conformity with generally accepted accounting principles. Arthur Andersen LLP Boston, Massachusetts January 27, 1997 CRA MANAGED CARE, INC. CONSOLIDATED BALANCE SHEETS
DECEMBER 31, --------------------------------- ASSETS 1995 1996 - ------------------------------------------- ----------- ----------- CURRENT ASSETS: Cash and cash equivalents $3,005,000 $2,596,000 Accounts receivable, less allowance for doubtful accounts of $430,000 and $2,167,000 respectively 26,380,000 36,446,000 Prepaid expenses 629,000 1,012,000 Prepaid taxes 319,000 -- ----------- ----------- Total current assets 30,333,000 40,054,000 PROPERTY AND EQUIPMENT, AT COST 11,732,000 20,906,000 Less: Accumulated depreciation and amortization 5,864,000 12,016,000 ----------- ----------- Net property and equipment 5,868,000 8,890,000 OTHER ASSETS: Goodwill, net of amortization -- 48,788,000 Other assets 355,000 396,000 ----------- ----------- Total other assets 355,000 49,184,000 ----------- ----------- $36,556,000 $98,128,000 ----------- ----------- LIABILITIES AND STOCKHOLDERS' EQUITY - ------------------------------------------- CURRENT LIABILITIES: Revolving credit facilities $4,300,000 $5,700,000 Current portion of long-term debt 5,000,000 56,000 Accrued interest expense 18,000 -- Accounts payable and accrued expenses 5,927,000 7,975,000 Accrued payroll and related expenses 7,595,000 6,663,000 Accrued income taxes -- 315,000 ----------- ----------- Total current liabilities 22,840,000 20,709,000 LONG-TERM DEFERRED TAX LIABILITIES 2,056,000 841,000 COMMITMENTS AND CONTINGENCIES (Notes 8 and 12) STOCKHOLDERS' EQUITY: Preferred Stock -- $.01 par value;1,000,000 authorized; none issued and outstanding -- -- Common stock-- $.01 par value; 10,000,000 and 40,000,000 authorized; 7,372,424 and 8,921,403 shares issued and outstanding, respectively 74,000 89,000 Paid-in capital 36,839,000 91,234,000 Retained deficit (25,253,000) (14,745,000) ----------- ----------- Total stockholders' equity 11,660,000 76,578,500 ----------- ----------- $36,556,000 $98,128,000 ----------- ----------- ----------- -----------
The accompanying notes are an integral part of these consolidated financial statements. CRA MANAGED CARE, INC. CONSOLIDATED STATEMENTS OF OPERATIONS
YEARS ENDED DECEMBER 31, ---------------------------------------- 1994 1995 1996 ------------ ------------ ------------ REVENUES............................... $121,295,000 $146,055,000 $179,652,000 COST OF SERVICES....................... 103,796,000 122,615,000 147,747,000 ------------ ------------ ------------ GROSS PROFIT....................... 17,499,000 23,440,000 31,905,000 GENERAL AND ADMINISTRATIVE EXPENSES.... 8,753,000 11,021,000 14,439,00 ------------ ------------ ------------ OPERATING INCOME....................... 8,746,000 12,419,000 17,466,000 OTHER (INCOME) EXPENSE: Interest (income)..................... (62,000) -- (571,000) Interest expense...................... 4,087,000 2,484,000 770,000 Other expense......................... 132,000 -- -- ------------ ------------ ------------ Total other (income) expense....... 4,157,000 2,484,000 199,000 INCOME BEFORE INCOME TAXES......... 4,589,000 9,935,000 17,267,000 PROVISION FOR INCOME TAXES Current year operations............... 1,530,000 3,974,000 7,166,000 Change in tax status.................. 3,772,000 -- -- ------------ ------------ ------------ Total provision for income taxes... 5,302,000 3,974,000 7,166,000 ------------ ------------ ------------ NET INCOME (LOSS) BEFORE EXTRAORDINARY ITEMS................................ (713,000) 5,961,000 10,101,000 LOSS ON RETIREMENT OF DEBT, NET OF TAXES OF $1,610,000.................. -- (2,460,000) -- ------------ ------------ ------------ NET INCOME (LOSS)...................... ($713,000) $3,501,000 $10,101,000 ------------ ------------ ------------ ------------ ------------ ------------ ACTUAL AND PRO FORMA EARNINGS PER SHARE: Pro forma net income (Note 2)........ 2,753,000 ------------ ------------ Net income before extraordinary items............................... $0.57 $0.91 $1.19 Loss on retirement of debt, net of taxes............................... -- (0.37) -- ------------ ------------ ------------ Net income............................ $0.57 $0.54 $1.19 ------------ ------------ ------------ Weighted average shares outstanding... 4,815,000 6,540,000 8,475,000 ------------ ------------ ------------
The accompanying notes are an integral part of these consolidated financial statements. CRA MANAGED CARE, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS
YEARS ENDED DECEMBER 31, ----------------------------------- 1994 1995 1996 ---------- ---------- ----------- CASH FLOWS FROM OPERATIONS: Net income (loss)................. ($713,000) $3,501,000 $10,101,000 Items not requiring cash: Depreciation of property and equipment 1,274,000 1,601,000 2,330,000 Amortization of goodwill.......... -- -- 662,000 Provision for doubtful accounts... 353,000 186,000 1,213,000 Amortization of deferred finance costs and debt discount......... 521,000 228,000 -- Loss on retirement of debt........ -- 3,912,000 -- Loss on disposal of fixed assets.......................... 134,000 -- -- Provision for deferred taxes...... 2,758,000 208,000 (1,215,000) Change in assets and liabilities: Accounts receivable............... (4,730,000) (5,570,000) (8,299,000) Prepaid expenses and deposits..... (1,407,000) 344,000 425,000 Accounts payable, accrued expenses and income taxes................ 7,404,000 (296,000) (2,494,000) ---------- ---------- ----------- Cash flows from operations...... 5,594,000 4,114,000 2,723,000 CASH FLOWS FROM INVESTING ACTIVITIES: Acquisition of FOCUS, QMC3 and Prompt, net of cash acquired.... -- -- (49,973,000) Purchase of property and equipment....................... (2,788,000) (2,492,000) (3,907,000) Other investing activities........ (10,000) (12,000) (8,000) ---------- ---------- ----------- Cash flows used for investing activities................... (2,798,000) (2,504,000) (53,888,000) CASH FLOWS FROM FINANCING ACTIVITIES: Borrowings (payments) under revolving credit facilities, net............................. 4,716,000 (416,000) 1,400,000 Proceeds from the issuance of Term Loan............................ 17,000,000 -- -- Payments on Term Loan............. (750,000) (16,250,000) -- Proceeds (payment) on Senior Subordinated Notes.............. 21,000,000 (21,000,000) -- Proceeds (payment) on Junior Subordinated Notes.............. 5,000,000 -- (5,000,000) Payments on other long-term debt............................ -- -- (52,000) Net proceeds from the issuance of Preferred Stock................. 9,249,000 -- -- Net proceeds from the sale of Common Stock..................... -- 36,507,000 51,840,000 Proceeds for the sale of Common Stock under the employee stock purchase plan and stock option plans........................... -- 357,000 2,568,000 Costs associated with the issuance of debt......................... (2,154,000) -- -- Repurchase of common stock........ (55,412,000) -- -- ---------- ---------- ----------- Cash flows provided by (used for) financing activities........... (1,351,000) (802,000) 50,756,000 ---------- ---------- ----------- NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS.............. 1,445,000 808,000 (409,000) CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR................. 752,000 2,197,000 3,005,000 ---------- ---------- ----------- CASH AND CASH EQUIVALENTS, END OF PERIOD............................ $2,197,000 $3,005,000 $2,596,000 SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION: Interest paid...................... $2,902,000 $2,865,000 $987,000 Income taxes paid.................. $3,690,000 $3,392,000 $6,579,000
The accompanying notes are an integral part of these consolidated financial statements. CRA MANAGED CARE, INC. CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)
SERIES A CONVERTIBLE CLASS A $0.01 PAR VALUE PREFERRED STOCK COMMON STOCK COMMON STOCK -------------------------- ----------------------- -----------------------[caad 214] NUMBER NUMBER NUMBER PAID-IN RETAINED OF SHARES VALUE OF SHARES VALUE OF SHARES VALUE CAPITAL EARNINGS ------------ ------------ ----------- ----------- ----------- ---------- ---------- ------------- BALANCE -- DECEMBER 31, 1993.. $ -- 4,700,000 $ 1,000 -- $ -- $ -- $ 15,855,000 Treasury -- Stock Purchase.. -- -- -- -- -- -- -- Treasury -- Stock Reissuance.. -- -- -- -- -- -- (12,039,000) Issuance of 1,698,463 Preferred Stock..... 9,249,000 -- -- -- -- -- -- Net Loss.... -- -- -- -- -- -- -- (713,000) BALANCE 1,698,463 DECEMBER 31,1994... 9,249,000 4,700,000 1,000 -- -- -- 3,103,000 Conversion (1,698,463) of Convertible Preferred Stock into Class A Common Stock..... -- (9,249,000) -- -- -- -- -- (31,617,000) Conversion of Class A into $0.01 par value Common Stock..... -- -- (4,700,000) (1,000) 4,700,000 47,000 -- (46,000) Sale of Common Stock..... -- -- -- -- 2,515,625 25,000 36,482,000 Common Stock -- issued for the acquisition of Alta Pacific Corporation.. -- -- -- 136,150 2,000 -- (194,000) Common Stock -- issued under employee stock purchase and option plans..... -- -- -- 20,649 -- 357,000 -- Net Income.. -- -- -- -- -- -- -- 3,501,000 ---------- --------- --------- ---------- --------- -------- ----------- ----------- BALANCE -- DECEMBER 31, 1995.. -- -- -- 7,372,424 74,000 36,839,000 (25,253,000) ---------- --------- --------- ---------- --------- -------- ----------- ----------- ---------- --------- --------- ---------- --------- -------- ----------- ----------- Sale of Common Stock..... -- -- -- -- 1,200,000 12,000 51,828,000 Common Stock issued for the acquisition of QMC3... -- -- -- -- 230,441 2,000 -- 407,000 Common Stock issued under employee stock purchase and option plans..... -- -- -- -- 118,538 1,000 2,567,000 -- Net Income.. -- -- -- -- -- -- -- 10,101,000 ---------- --------- --------- ---------- --------- -------- ----------- ----------- BALANCE DECEMBER 31, 1996.. -- $ -- -- $ -- 8,921,403 $ 89,000 $ 91,234,000 ($ 14,745,000) ---------- --------- --------- ---------- --------- -------- ----------- ----------- ---------- --------- --------- ---------- --------- -------- ----------- ----------- SERIES A TREASURY STOCK STOCK- ------------------------- HOLDERS' NUMBER EQUITY OF SHARES VALUE (DEFICIT) ------------ ----------- ------------- BALANCE DECEMBER 31, 1993.. -- $ -- $ 15,856,000 Treasury Stock Purchase.. (2,303,000) (55,412,000) (55,412,000) Treasury Stock Reissuance.. 604,537 14,546,000 2,507,000 Issuance of Preferred Stock..... -- -- 9,249,000 Net Loss.... -- -- (713,000) ----------- ------------ ------------ BALANCE DECEMBER 31, 1994.. (1,698,463) (40,866,000) (28,513,000) ----------- ------------ ------------ ----------- ------------ ------------ Conversion of Convertible Preferred Stock into Class A Common Stock..... 1,698,463 40,866,000 -- Conversion of Class A into $0.01 par value Common Stock..... -- -- -- Sale of Common Stock..... -- -- 36,507,000 Common Stock issued for the acquisition of Alta Pacific Corporation -- -- (192,000) Common Stock issued under employee stock purchase and option plans..... -- -- 357,000 Net Income.. -- -- 3,501,000 ----------- ------------ ------------ BALANCE DECEMBER 31, 1995.. -- -- 11,660,000 ----------- ------------ ------------ ----------- ------------ ------------ Sale of Common Stock..... -- -- 51,840,000 Common Stock issued for the acquisition of QMC3... -- -- 409,000 Common Stock issued under employee stock purchase and option plans..... -- -- 2,568,000 Net Income.. -- -- 10,101,000 ----------- ------------ ------------ BALANCE DECEMBER 31, 1996.. -- $ -- $ 76,578,000 ----------- ------------ ------------ ----------- ------------ ------------
The accompanying notes are an integral part of these consolidated financial statements. CRA MANAGED CARE, INC. NOTES TO FINANCIAL STATEMENTS (1) Organization, Capitalization and Acquisitions CRA Managed Care, Inc. (the "Company") was founded in 1978 and is a provider of field case management and specialized cost containment services designed to reduce workers' compensation costs. On March 8, 1994 the Company completed a recapitalization (the "Recapitalization"), which included the repurchase of 2,303,000 shares of Common Stock from the two principal stockholders of the Company for $55,412,000; and the sale of 1) 1,698,463 shares of Series A Preferred Stock for $10,000,000 to J.H. Whitney & Co. and affiliated companies ("Whitney", $9,000,000) and the First Union Corporation ("First Union", $1,000,000), with each share being convertible into one share of Common Stock, 2) $17,000,000 principal amount of term loans (the "Term Loan") and a $10,000,000 revolving credit facility (the "Former Revolving Credit Facility") due March 31, 1999 at an interest rate of the Base Rate plus 1 1/2% or LIBOR plus 3% to First Union Bank of North Carolina ("First Union Bank"), 3) $21,000,000 principal amount of senior subordinated promissory notes (the "Senior Subordinated Notes") due March 8, 2001 at an interest rate of the 10.101% to Whitney ($19,000,000) and First Union ($2,000,000), and 4) $5,000,000 principal amount of junior subordinated notes (the "Junior Subordinated Notes") due March 9, 2002 at an interest rate of 10.0% to the Company's two principal stockholders. The Company incurred costs of $2,905,000 in connection with the Recapitalization of which $751,000 was assigned to the issuance of the Preferred Stock and $2,154,000 to the issuance of the debt. Furthermore, the Company issued 604,538 shares of Common Stock from its treasury stock to Whitney (546,963 shares) and First Union (57,575 shares) in connection with the issuance of the Senior Subordinated Notes. The Company assigned a value of $2,507,000 to these shares which was recorded as debt discount on the Senior Subordinated Notes. On March 15, 1995 the Board of Directors voted to restate the Company's Amended and Restated Articles of Organization. The effect of the restatement was (i) to increase to 10,000,000 the number of authorized shares of Common Stock, to change the par value of the Common Stock to $.01 per share and to create a new class of preferred stock, $.01 par value. On May 10, 1995, the Company completed its initial public offering of 2,515,625 shares of its Common Stock, including the exercise of the underwriters over-allotment option, at a price of $16.00 per share, generating net proceeds to the Company of $36,507,000. These proceeds, supplemented by borrowings of $5,000,000 under a new $25,000,000 credit facility (the "Credit Facility") with First Union Bank were used to repay fully the Term Loan ($16,250,000) and the Former Revolving Credit Facility ($4,226,000) with First Union Bank and the Senior Subordinated Notes ($21,000,000) issued to Whitney and First Union. The early repayment of this debt resulted in a loss on the retirement of debt of $2,460,000 comprised of the write-off of associated deferred finance costs ($1,772,000), debt discount on the Senior Subordinated Notes ($2,140,000) and fees associated with the termination of the interest rate swaps required by the former loan agreement ($158,000), offset by a tax benefit of $1,610,000. On October 23, 1995, the Company acquired Alta Pacific Corporation, a workers' compensation case management company with eight offices in the state of Washington, with revenues of approximately $3,000,000, in a pooling transaction for 136,150 shares of Common Stock, or approximately $2,900,000 in value, based upon the market value of the stock on the acquisition date. This acquisition was not material and the Company restated its opening retained earnings as of the acquisition date to reflect the net assets of Alta Pacific Corporation. As such, the results for the year ended December 31, 1995 include the operating results of Alta Pacific Corporation subsequent to the acquisition date. On April 2, 1996, the Company purchased FOCUS HealthCare Management, Inc. ("FOCUS") from United HealthCare Corporation for $21,000,000 in cash. FOCUS, based in Brentwood, Tennessee, has built and maintains one of the nation's and had annual revenues of approximately $9,900,000 for the year ended December 31, 1995. In order to finance this acquisition, the Company and First Union Bank signed an amendment to expand the Company's borrowing capacity under the Credit Facility to $40,000,000 under similar terms and conditions. 5 On May 21, 1996, at the Company's Stockholder Meeting, the Stockholders voted to restate the Company's Amended and Restated Articles of Organization to increase to 40,000,000 the number of authorized shares of Common Stock. On May 29, 1996, the Company acquired all the outstanding capital stock of QMC3, Inc. ("QMC3") in exchange for 230,441 shares of the Company's Common Stock in a pooling of interest transaction, which was valued at approximately $8,500,000 as of the date of the acquisition agreement. QMC3, based in Denver, Colorado, is a leading managed care services company serving the automobile liability insurance market which was instrumental in helping to obtain the passage of legislation in Colorado and New York enabling the mandatory direction of medical care for automobile accident victims. QMC3 had annual revenues of approximately $2,000,000 for the year ended December 31, 1995. This acquisition, which was accounted for as a pooling of interests, was not material to the Company's financial statements and the Company restated its opening retained earnings as of the acquisition date to reflect the net assets of QMC3. As such, the results for the year ended December 31, 1996 include the operating results of QMC3 subsequent to the acquisition date. On June 7, 1996, the Company completed the sale of 2,875,000 shares of its Common Stock, including the exercise of the underwriters' over-allotment option, at a price of $46.00 per share. Of the aggregate shares of Common Stock sold, 1,200,000 were sold for the account of the Company generating net proceeds to the Company of approximately $51,840,000 and 1,675,000 shares were sold for the account of certain stockholders of the Company. The Company used approximately $29,000,000 of the net proceeds to repay borrowings under the expanded Credit Facility with First Union Bank. On October 29, 1996, the Company purchased Prompt Associates, Inc. ("Prompt") for $30,000,000 in cash. Prompt, which is based in Salt Lake City, Utah, is one of the leading providers of hospital bill audit services to the group health payor community for claims that fall outside of an indemnity carrier's, third-party administrator's ("TPA") or health maintenance organization's ("HMO") network of hospital or outpatient facilities and had annual revenues of approximately $10,000,000 for the year ended December 31, 1995. In order to finance this acquisition, the Company utilized approximately $25,000,000 of its existing cash, supplemented by borrowings of approximately $5,000,000 under the Company's Credit Facility. The acquisitions of FOCUS and Prompt have been accounted for by the Company as purchases whereby the basis for accounting for FOCUS' and Prompt's assets and liabilities are based upon their fair values at the dates of acquisition. The allocation of the purchase price to these assets and liabilities is as follows with the excess of cost over fair value of net assets acquired (goodwill) being amortized over thirty years:
FOCUS PROMPT -------------- ------------- Purchase price including fees and expenses:.................... $ 21,555,000 $ 30,594,000 Purchase price allocated to: Current assets................................................. 1,795,000 2,181,000 Property and equipment......................................... 929,000 450,000 Other long term assets......................................... 5,000 -- Current liabilities............................................ (711,000) (1,587,000) Long-term deferred tax liabilities............................. (324,000) -- Other long-term debt........................................... (39,000) -- ------------- ------------- Net assets acquired............................................ 1,655,000 1,044,000 ------------- ------------- Excess of cost over fair value of net assets acquired (goodwill)................................................... $ 19,900,000 $ 29,550,000 ------------- ------------- ------------- -------------
6 (2) Actual, Pro Forma and Supplemental Pro Forma Earnings Per Share (a) Earnings per share Earnings per share for the years ended December 31, 1995 and 1996 has been calculated based on the weighted average number of shares of Common Stock and Common Stock equivalents outstanding during the year. (b) Pro forma earnings per share Pro forma earnings per share for the year ended December 31, 1994 has been calculated as if the Company had been subject to federal and state income taxes for the period based upon an effective tax rate indicative of the statutory rates in effect during the period (prior to the Recapitalization on March 8, 1994, the Company elected to be taxed as an S corporation on a cash basis, and accordingly, was not subject to federal income taxes and certain state income tax jurisdictions). (c) Supplemental Pro Forma Earnings Per Share--1995 (Unaudited) Supplemental pro forma earnings per share has been calculated as if the Company repaid the Term Loan, Former Revolving Credit Facility and Senior Subordinated Notes at the beginning of 1995 utilizing the net proceeds ($36,507,000) from its sale of Common Stock and borrowings under the Credit Facility ($5,000,000). The weighted average number of shares (7,376,000) is the actual weighted average number of common shares and common share equivalents outstanding plus the impact of the 2,515,625 shares of Common Stock that were sold on May 10, 1995. Supplemental pro forma net income and earnings per share for the year ended December 31, 1995 were $6,871,000 or $0.93 per share. (d) Supplemental Pro Forma Earnings Per Share--1996 (Unaudited) Supplemental pro forma earnings per share for 1996 has been calculated as if (i) the acquisitions of FOCUS and Prompt had been consummated on January 1, 1996, (ii) the Company repaid all its outstanding debt at the beginning of 1996 utilizing the net proceeds of $51,840,000 from the sale of 1,200,000 shares of Common Stock in June, 1996 and (iii) the Company borrowed under its Revolving Credit Facility at an interest rate of 7.0% for its remaining borrowing requirements. Supplemental pro forma revenue, net income and earnings per share for the year ended December 31, 1996 would have been $194,508,000 and $10,972,000 and $1.22, respectively. The supplemental pro forma weighted average number of shares of 8,975,000 is the actual weighted average number of shares of Common Stock and Common Stock equivalents outstanding plus the impact of the 1,200,000 shares of Common Stock that were sold. (3) Summary of Significant Accounting Policies (a) Consolidation The consolidated financial statements include the accounts of the Company and its wholly-owned subsidiaries. All significant intercompany accounts and transactions are eliminated in consolidation. (b) Cash and Cash Equivalents The Company considers all highly liquid debt instruments purchased with original maturities of three months or less to be cash equivalents. The carrying amount approximates fair value due to the short maturity of those instruments. (c) Revenue Recognition The Company recognizes revenue primarily as services have been rendered based upon time and expenses incurred. A certain portion of the Company's revenues are derived from fee schedule auditing which is based on the number of charges reviewed, and to a limited extent, based on a percentage of savings achieved for the Company's customers. Accounts receivable at December 31, 1995 and 1996 include $4,350,000 and $4,500,000, respectively, of unbilled accounts receivable relating to services rendered during the period but not invoiced until after the period-end. 7 A portion of the alllowance for doubful accounts attributable to Prompt is based on historical experience of ineligible claims which are either charged back or given a negotiated discount. Prompt utilizes several methods to project unpresented discounts and chargebacks including a tracking of the actual experience of contractual discounts. Other factors that affect collectibility and bad debts for each service line are also evaluated and additional allowance amounts may be provided. Insurance claims are modeled by Prompt prior to the insurance company's review procedures to determine if the claims are payable. During the insurance company's review process, some claims have PPO or HMO arrangements, pre-existing conditions, or other disqualifying situations. When these situations occur, a refund (chargeback) is requested for the amounts paid (invoiced) on these claims. Prompt's policy is to record the allowance as an offset to sales and accounts receivable based on the historical tracking of discounts and/or chargebacks. Prompt recorded net provisions to the allowance for the two months ended December 31, 1996 of $689,000. (d) Depreciation The Company provides for depreciation on property and equipment using straight-line and accelerated methods by charges to operations in amounts that allocate the cost of depreciable assets over their estimated lives as follows:
ASSET CLASSIFICATION ESTIMATED USEFUL LIFE - -------------------------------------------------------- -------------------------------------------------------- Furniture and fixtures 7 Years Office and computer equipment 3--5 Years Automobiles 5 Years Leasehold improvements The shorter of the life of lease or asset life
(e) Goodwill Goodwill associated with the FOCUS and Prompt acquisitions is being amortized using the straight-line method over a period of thirty years. Accumulated amortization was $659,000 at December 31, 1996. The Company periodically evaluates whether changes have occurred which would require revision of the remaining estimated useful life of the assigned goodwill or render the goodwill non-recoverable. (f) Deferred finance costs Costs of $2,154,000 associated with the debt issued in connection with the Recapitalization was allocated to each debt instrument and was being amortized as interest expense over the life of the debt instruments with lives ranging from five to six years. All deferred finance costs were written off as a result of the early retirement of debt in connection with the sale of Common Stock on May 10, 1995. (g) Income Taxes Prior to the Recapitalization, the Company had elected "S" corporation status under Section 1362 of the Internal Revenue Code. Accordingly, the Company was not liable for federal income taxes as income was taxed directly to the Company's stockholders. However, certain states in which the Company conducts its operations did not recognize "S" corporation status. As a result, the Company had provided for state income tax for these states. In connection with the Recapitalization, the Company was required to change from an "S" corporation to a "C" corporation and to report income on an accrual basis for tax purposes as opposed to a cash basis. This change resulted in the Company recording an incremental tax provision of $3,772,000 in 1994. 8 (h) Foreign Currency Translation All assets and liabilities of the Company's Canadian offices are translated at the year-end exchange rate while revenues and expenses are translated at the average exchange rate for the year. (i) Use of Estimates The preparation of financial statements in accordance with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. (4) Revolving Credit Facilities (a) Credit Facility On April 28, 1995, the Company entered into the $25,000,000 Credit Facility with First Union Bank. On March 29, 1996, the Company and First Union Bank signed an amendment to expand the Company's borrowing capacity under the Credit Facility to $40,000,000 under similar terms and conditions in order to finance the acquisition of FOCUS. Interest on borrowings under the Credit Facility is payable, at the Company's option, at First Union Bank's prime rate plus an additional percentage of up to .375%, or LIBOR plus an additional percentage of up to 1.875%, depending on certain financial criteria. At December 31, 1995 and 1996, the Company had borrowings under the Credit Facility of $4,300,000 and $5,700,000, respectively, at an average rate of interest of 7.36% and 7.61%, respectively. The Credit Facility contains customary covenants, including, without limitation, restrictions on the incurrence of indebtedness, the sale of assets, certain mergers and acquisitions, the payment of dividends on the Company's capital stock, the repurchase or redemption of capital stock, transactions with affiliates, investments, capital expenditures and changes in control of the Company. Under the Credit Facility, the Company is also required to satisfy certain financial covenants, such as cash flow, capital expenditures and other financial ratio tests including current ratios and interest expense coverage ratios. The Company was in compliance with all such covenants during 1996. The ability of the Company to meet its debt service requirements and to comply with such covenants is dependent upon the Company's future performance, which is subject to financial, economic, competitive and other factors affecting the Company, some of which are beyond its control. The entire $40,000,000 of revolving credit is available for borrowing by the Company provided that the Company is prohibited from borrowing under the Credit Facility in order to finance the acquisition of other businesses unless the Company will have, immediately following any such acquisition, at least $5,000,000 available for additional working capital borrowings under the Credit Facility. The Company's obligations under the Credit Facility are secured by a first priority security interest in substantially all of the Company's properties and assets. The Company is required to pay First Union Bank a facility fee of .25% to .375% per annum, depending on certain financial criteria, on the unused portion of the Credit Facility as well as a quarterly agent fee of $3,750, payable in advance. 9 (b) Former Revolving Credit Facility As part of the Recapitalization, the Company obtained the Former Revolving Credit Facility of $10,000,000 and the Term Loan of $17,000,000 (see below) through First Union Bank pursuant to a loan agreement (the "Former Loan Agreement"). The Former Revolving Credit Facility permitted borrowings by the Company of up to a maximum of $10,000,000, subject to certain borrowing base requirements, until maturity on March 31, 1999 at an interest rate of the Base Rate plus 1 1/2% or LIBOR plus 3%. The Company was required to pay First Union Bank a facility fee of .5% per annum on the unused portion of the Former Revolving Credit Facility, quarterly in arrears, as well as a yearly agent fee of $25,000. For the years ended December 31, 1994, 1995 and 1996, the weighted average borrowings under these revolving credit facilities were $3,404,000, $4,903,000 and $8,184,000, respectively, and the weighted average interest rates were 7.39%, 8.55% and 6.94%, respectively. (5) Long-term Debt (a) Term Loan Pursuant to the Former Loan Agreement with First Union Bank, the Company obtained a $17,000,000 Term Loan due March 31, 1999 at an interest rate of the base rate plus 1 1/2% or LIBOR plus 3% (9.375% at December 31, 1994). The Term Loan required quarterly principal payments of $250,000 beginning June 30, 1994 through March 31, 1995, $750,000 beginning June 30, 1995 through March 31, 1997, $1,000,000 beginning June 30, 1997 through December 31, 1998 and a final payment of $3,000,000 on March 31, 1999. The Term Loan was repaid in full on May 10, 1995. (b) Senior Subordinated Notes The Company issued $21,000,000, principal amount, of 10.101% Senior Subordinated Notes due March 8, 2001 to Whitney ($19,000,000) and First Union ($2,000,000). Furthermore, the Company issued 604,538 shares of its treasury stock to Whitney (546,963 shares) and First Union (57,575 shares) in connection with the issuance of the Senior Subordinated Notes, to which the Company assigned a value of $2,507,000 at the date of issuance, which was reflected as debt discount on the Senior Subordinated Notes and was being amortized as interest expense over the life of the debt. The Senior Subordinated Notes were repaid in full on May 10, 1995 and the associated debt discount was written off and was included in Loss on Retirement of Debt. (c) Junior Subordinated Notes In connection with the repurchase of 2,303,000 shares of Common Stock from the two principal stockholders of the Company as part of the Recapitalization, the Company issued $5,000,000, principal amount, of 10% Junior Subordinated Notes due March 9, 2002. On January 16, 1996 the Company retired the 10% Junior Subordinated Notes utilizing borrowings under the Credit Facility. 10 (6) Income Taxes The provision for income taxes consists of the following for the years ended December 31, 1994, 1995 and 1996:
1994 1995 1996 -------------- ------------ ------------ Current: Federal................................................................. $ 1,777,000 $ 1,658,000 $ 6,713,000 State................................................................... 767,000 498,000 1,668,000 ------------ ------------ ------------ 2,544,000 2,156,000 8,381,000 Deferred: Federal................................................................. 2,822,000 166,000 (964,000) State................................................................... (64,000) 42,000 (251,000) ------------ ------------ ------------ 2,758,000 208,000 (1,215,000) ------------ ------------ ------------ Total................................................................... $ 5,302,000 $ 2,364,000 $ 7,166,000 ------------ ------------ ------------ ------------ ------------ ------------
Significant items making up deferred tax liabilities and deferred tax assets were as follows at December 31:
1995 1996 -------------- ------------ Deferred Tax Assets: Allowance for doubtful............................................ $ 169,00 $ 312,000 Accrued expenses.................................................. 452,000 543,000 ------------ ------------ $ 621,000 $ 855,000 ------------ ------------ ------------ ------------ Deferred Tax Liabilities: Book to tax depreciation.......................................... $ 180,000 $ 418,000 Change in tax status.............................................. 2,497,000 1,278,000 ------------ ------------ $ 2,677,000 $ 1,696,000 ------------ ------------ ------------ ------------
A reconciliation of the federal statutory rate to the Company's effective tax rate for the years ended December 31, 1994, 1995 and 1996 is as follows:
1994 % 1995 % 1996 ----------- --------- --------- --------- ------------ Tax provision at federal statutory rate.................... $ 1,560,000 34.0% $ 1,994,000 34.0% $ 6,044,000 Income prior to Recapitalization, taxed as an "S" corporation.............................................. (352,000) -7.7% -- -% -- State taxes, net of federal income tax benefit............. 228,000 5.0% 356,000 6.1% 898,000 Items not deductible for tax purposes...................... 94,000 2.0% 14,000 0.2% 224,000 ------------ --- ------------ --- ------------ $ 1,530,000 33.3% $ 2,364,000 40.3% $ 7,166,000 ------------ --- ------------ --- ------------ ------------ --- ------------ --- ------------ % ---------- Tax provision at federal statutory rate.................... 35.0% Income prior to Recapitalization, taxed as an "S" corporation.............................................. -% State taxes, net of federal income tax benefit............. 5.2% Items not deductible for tax purposes...................... 1.3% --- 41.5% --- ---
Prior to the Recapitalization, the Company was an "S" corporation under Section 1362 of the Internal Revenue Code. In connection with the Recapitalization, the Company was required to change from an "S" corporation to a "C" corporation and to report income on a accrual basis for tax purposes as opposed to a cash basis. This change resulted in an incremental tax provision of $3,772,000 in 1994. 11 (7) Stockholders' Equity (a) Convertible Preferred Stock Each share of the Series A Convertible Preferred Stock could have been converted by the holder into a share of Class A Common Stock, subject to certain anti-dilution adjustments. The holders of the Series A Convertible Preferred Stock were entitled to receive dividends or distributions on an as-converted basis equal to amounts declared by the Company on its Common Stock. The holders of Series A Convertible Preferred Stock were entitled to vote with the holders of Class A Common Stock on an as converted basis. The Company could require the conversion of all outstanding Series A Convertible Preferred Stock in connection with a qualified initial public offering. The Company exercised this option in connection with the sale of Common Stock on May 10, 1995 and subsequently canceled, retired and eliminated all shares of Series A Convertible Preferred Stock from the Company's authorized shares. (b) Class A Common Stock All shares of Class A Common Stock were converted into $.01 par value Common Stock in connection with the sale of Common Stock on May 10, 1995 and the Company subsequently canceled, retired and eliminated all shares of Class A Common Stock from the Company's authorized shares. (8) Commitments The Company leases certain office facilities from related parties under leases that expire on various dates through December 31, 2003. Certain leases require the Company to pay increases in operating costs and real estate taxes. In addition, the Company leases certain office facilities from unrelated parties under operating lease agreements that expire on various dates to July 31, 2000. Motor vehicles and office equipment are leased from unrelated parties under non-cancelable operating leases that expire on various dates through December 31, 1999. The following is a schedule of rent expense by major category for the years ended December 31:
1994 1995 1996 ------------ ------------ ------------ Facilities--related parties............................................. $ 714,000 $ 726,000 $ 726,000 Facilities--unrelated parties........................................... 2,673,000 3,199,000 4,374,000 ------------ ------------ ------------ 3,387,000 3,925,000 5,100,000 Office equipment........................................................ 150,000 190,000 206,000 Automobiles............................................................. 2,181,000 2,638,000 2,729,000 ------------ ------------ ------------ Total rent expense...................................................... $ 5,718,000 $ 6,753,000 $ 8,035,000 ------------ ------------ ------------ ------------ ------------ ------------
12 The following is a schedule of future minimum lease payments under non-cancelable operating leases for the years ending December 31:
RELATED UNRELATED YEAR PARTIES PARTIES TOTAL - ------------------------------------------------------- ------------ ------------- ------------- 1998 726,000 3,094,000 3,820,000 1999 726,000 1,924,000 2,650,000 2000 726,000 922,000 1,648,000 2001 726,000 338,000 1,064,000 Thereafter............................................. 1,453,000 181,000 1,634,000 ------------ ------------- ------------- $ 5,083,000 $ 10,620,000 $ 15,703,000 ------------ ------------- ------------- ------------ ------------- -------------
In addition, the Company, through its wholly owned subsidiary Prompt, has an exclusive agreement with MEDSTAT Systems, Inc. ("MEDSTAT"), a provider of researched data in the health care industry, to provide outpatient surgical facility charge data. Amounts paid to MEDSTAT under this agreement for the year ended December 31, 1996 were $706,000. Recurring minimum payments associated with this agreement are approximately $831,000, $956,000 and $525,000 for the years ended at December 31, 1997, 1998 and 1999, respectively. (9) Employee Benefit Programs (a) 401(k) Plan The Company has a defined contribution plan (the "401(k) Plan") pursuant to which employees who are at least 21 years of age and who have completed at least six months of service are eligible to participate. Participants in the 401(k) Plan may not contribute more than the lesser of a specified statutory amount or 15% of his or her pre-tax total compensation. The 401(k) Plan permits, but does not require, additional contributions to the 401(k) Plan by the Company. Employees are 100% vested in their own contributions while Company contributions vest 20% after three years and vest an additional 20% each year thereafter. Under the 401(k) Plan, the Company has the option of matching up to 50% of participants' pretax contributions up to a maximum of 6% of compensation. For the years ended December 31, 1994, 1995 and 1996, the Board of Directors has elected to match 50% of up to 4% of compensation. The Company made net contributions to this plan of $518,000, $581,000 and $855,000 for the years ended December 31, 1994, 1995 and 1996, respectively. (b) Alta Pacific 401(k) Profit Sharing Plan The Company's subsidiary, Alta Pacific Corporation has a defined contribution plan (the "Alta Pacific 401(k) Profit Sharing Plan") pursuant to which employees of Alta Pacific Corporation who are at least 21 years of age and who have completed at least six months of service are eligible to participate. Participants in the Alta Pacific 401(k) Plan may not contribute more than the specified statutory amount. The Alta Pacific Profit Sharing 401(k) Plan permits, but does not require, additional contributions to the Alta Pacific 401(k) Profit Sharing Plan by Alta Pacific Corporation. Alta Pacific Corporation does not make contributions for any employees unless they have worked at least 1,000 hours. Employees are 100% vested in their own contributions while contributions by Alta Pacific Corporation vest 20% after two years and 20% each year thereafter. 13 Alta Pacific Corporation made contributions to this plan of $64,000 and $73,000 for the years ended December 31, 1994 and 1995, respectively. This plan was consolidated and combined with the 401(k) Plan effective January 1, 1996. (c) Employment Agreements Lois E. Silverman and Donald J. Larson are each party to separate employment agreements with the Company, dated as of March 8, 1994 (the "Employment Agreements"). The Employment Agreements have initial terms of five years unless earlier terminated as provided therein. The terms of the Employment Agreements may be automatically renewed for additional one year terms, subject to limitations contained therein. The Company may terminate Ms. Silverman and/or Mr. Larson for cause, as defined therein, and Ms. Silverman and Mr. Larson may terminate their respective Employment Agreements for Good Reason, as defined therein. The Employment Agreements contain provisions pursuant to which Ms. Silverman and Mr. Larson agree not to disclose any proprietary information of the Company and also agree not to compete with the Company (in the U.S., Canada or any other country in which the Company does business, or took steps to do business before termination of their employment), or solicit its employees, for the term of the Employment Agreements and up to two years after termination of employment, for any reason. Three other executive officers have been afforded continuation of salary protection for one year if their employment with the Company is terminated without cause. (10) Stock Purchase Plan and Stock Option Plans (a) 1995 Employee Stock Purchase Plan The 1995 Employee Stock Purchase Plan (the "1995 Purchase Plan") for employees of the Company authorizes the issuance of a maximum of 235,000 shares of Common Stock pursuant to the exercise of nontransferable options granted to participating employees. The 1995 Purchase Plan is administered by the Compensation Committee of the Board of Directors. All employees of the Company whose customary employment is 20 hours or more per week and have been employed by the Company for at least six months are eligible to participate in the 1995 Purchase Plan. Employees who own 5% or more of the Company's stock and directors who are not employees of the Company may not participate in the 1995 Purchase Plan. To participate in the 1995 Purchase Plan, an employee must authorize the Company in writing to deduct an amount (not less than 1% nor more than 10% of a participant's base compensation and in any event not more than $12,500) from his or her pay during six month periods commencing on January 1 and July 1 of each year (each a "Purchase Period"). On the first day of each Purchase Period, the Company grants to each participating employee an option to purchase up to 500 shares of Common Stock. The exercise price for shares purchased under the 1995 Purchase Plan for each Purchase Period is the lesser of 85% of the fair market value of the Common Stock on the first or last business day of the Purchase Period. The fair market value will be the closing selling price of the Common Stock as quoted. If an employee is not a participant on the last day of the Purchase Period, such employee is not entitled to purchase any shares during such Purchase Period , and the amount of his or her accumulated payroll deduction will be refunded to the employee. An employee's rights under the 1995 Purchase Plan terminate upon his or her voluntary withdrawal from the plan at any time or upon termination of employment. 13 Common Stock for the 1995 Purchase Plan will be made available either from authorized but unissued shares of Common Stock or from shares of Common Stock reacquired by the Company, including shares repurchased in the open market. The Company issued the following shares of Common Stock for each of the Purchase Periods:
NUMBER PRICE PURCHASE PERIOD ENDED OF SHARES PER SHARE - ------------------------------------------------------------------------ ----------- ----------- December 31, 1995....................................................... 18,299 $ 18.73 June 30, 1996........................................................... 16,287 $ 18.92 December 31, 1996....................................................... 11,671 $ 38.04
(b) 1994 Non-Qualified Stock Option Plan for Non-Employee Directors. The Non-Employee Director Plan (the "Director Plan") provides for the grant of options to acquire up to 94,000 shares of Common Stock, in such amounts, on such terms and to such non-employee Directors as the administrators of the Director Plan may select, in accordance with the terms of the Director Plan. Options granted under the Director Plan are not intended to qualify as Incentive Stock Options under Section 422 of the Internal Revenue Code of 1986, as amended (the "Code"). The Director Plan is administered by a committee of the Board of Directors of the Company, consisting of two or more members appointed by the Board of Directors of the Company, which selects the optionees and determines the number of shares, vesting schedule and duration of each option (not to exceed 10 years). Options granted under the Director Plan must have an exercise price equal to the fair value of the Common Stock of the Company, as determined by such committee, on the date of grant. As of December 31, 1995, options to purchase 47,000 shares of Common Stock at an exercise price of $5.89 per share had been granted under the Director Plan, all of which were outstanding and 23,500 of which were exercisable. Options granted under the Director Plan automatically vest no later than 10 years from the date of grant; however, pursuant to separate option agreements between the Company and its optionees under the Director Plan, the options granted to date become vested ratably over a three year period on the anniversary of the grant date. Upon the sale of all stock or assets of the Company, the options fully vest and become exercisable immediately. (c) 1994 Time Accelerated Restricted Stock Option Plan. The Company's 1994 Time Accelerated Restricted Stock Option Plan (the "1994 Stock Option Plan") provides for the grant of options to acquire up to 976,000 shares of Common Stock, in such amounts, on such terms and to such officers and other key employees as the administrators of the 1994 Stock Option Plan may select. Options granted under the 1994 Stock Option Plan are not intended to qualify as Incentive Stock Options under the Code. The 1994 Stock Option Plan is administered by the Board of Directors of the Company and provides that all of the options shall have a per share exercise price equal to the fair market value of the Common Stock on the date of such grant, as determined by the Board of Directors. At December 31, 1996, options to purchase 840,689 shares of Common Stock at an average exercise price of $32.92 per share were outstanding, of which 148,991 were exercisable. Options granted under the 1994 Stock Option Plan become fully exercisable no later than the tenth anniversary of the date of grant, and no option may have a term in excess of ten years and six months from the date of grant. The stock option agreements pursuant to which options have been granted under the 1994 Stock Option Plan provide for accelerated vesting each year of 10% to 20% of the shares subject to the option in the event certain financial tests are met, commencing with respect to the fiscal year ended December 31, 1994. The Board of Directors may accelerate all options upon a sale or conveyance of all or substantially all of the assets, or a change in control of the Company, which includes, among other events, the acquisition by any person who owned less than 10% of the outstanding Common Stock becoming the beneficial owner of at least 51% of the Common Stock. All recipients of options under the 1994 Stock Option Plan to date were required to execute a Non-Competition and Non-Disclosure Agreement as a condition to any such option grant. 14 A summary of the status of the Company's two stock option plans at December 31, 1994, 1995 and 1996 and changes during the years then ended is presented in the table below:
OUTSTADING OPTIONS --------------------------------------------- WEIGHTED RESERVED NUMBER PRICE PER AVERAGE PRICE SHARES OF SHARES SHARE PER SHARE ---------- -------------- -------------- ------------- Balance December 31, 1993............................. -- -- $ -- $ -- Reserved.............................................. 470,000 Granted............................................... 251,450 $ 5.89 $ 5.89 Exercised............................................. -- -- -- Canceled.............................................. -- -- -- ---------- -------------- -------------- ------ Balance December 31, 1994............................. 470,000 251,450 $ 5.89 $ 5.89 Reserved.............................................. -- Granted............................................... 145,500 $ 5.89-22.75 $ 16.76 Exercised............................................. (2,350) $ 5.89 $ 5.89 Canceled.............................................. (9,400) $ 5.89 $ 5.89 ---------- -------------- -------------- ------ Balance December 31, 1995............................. 470,000 385,200 $ 5.89-$22.75 $ 10.00 Reserved.............................................. 600,000 Granted............................................... 656,169 $ 7.41-$48.75 $ 40.54 Exercised............................................. (90,580) $ 5.89-$22.75 $ 7.76 Canceled.............................................. (63,100) $ 5.89-$36.12 $ 28.52 ---------- -------------- -------------- ------ Balance December 31, 1996............................. 1,070,000 887,689 $ 5.89-$48.75 $ 31.49 ---------- -------------- -------------- ------ ---------- -------------- -------------- ------
A further breakdown of the outstanding options at December 31, 1996 is as follows:
EXERCISE PRICE WEIGHTED AVERAGE WEIGHTED AVERAGE OUTSTANDING EXERCISABLE RANGE EXERCISE PRICE CONTRACTUAL LIFE OPTIONS OPTIONS - ------------------- ----------------- ------------------- ----------- ----------- $5.89--$8.15....... $ 6.07 8.3 216,149 84,671 $22.12--$22.75..... $ 22.54 9.3 119,740 34,460 $36.12............. $ 36.12 9.8 196,800 39,360 $41.38--$48.50..... $ 47.41 10.3 355,000 14,000
The Company accounts for these plans under APB No. 25, under which no compensation cost has been recognized. Had compensation cost for these plans been determined consistent with Financial Accounting Standards Board Statement No. 123 "Accounting for Stock-Based Compensation" ("FASB 123"), the Company's net income and earnings per share would have been reduced to the following pro forma amounts:
1995 1996 ------------- -------------- Net Income Before Extraordinary Items:... As reported $ 5,961,000 $ 10,101,000 Pro forma $ 5,346,000 $ 4,093,000 Earnings Per Share:...................... As reported $ 0.91 $ 1.19 Pro forma $ 0.82 $ 0.48
Because FASB 123 method of accounting has not been applied to options granted prior to January 1, 1995, the resulting pro forma compensation cost may not be representative of that to be expected in future years. Additionally, the 1995 and 1996 pro forma amounts include $69,000 and $151,000, respectively related to purchase discount offered on the 1995 Purchase Plan. The fair value of each option granted is estimated on the date of grant using the Black-Scholes option pricing model with the following weighted-average assumptions used for grants in 1995 and 1996, respectively: risk-free interest rates of 6.17% and 6.12%; expected dividend yield of zero for both years; expected lives of 3.4 for the Director Plan and the 1994 Stock Option Plan; and expected volatility of 47 percent for both years. 15 (11) Related Party Transactions The Company had the following related party transactions during the years ended December 31, 1994, 1995 and 1996 (also see Footnote 4, "Revolving Credit Facilities," Footnote 5, "Long-term Debt" and Footnote 8, "Commitments"): (a) Colonial Realty Trust The Company made rental payments to Colonial Realty Trust of $714,000, $726,000 and $726,000 for the years ended December 31, 1994, 1995 and 1996, respectively. Colonial Realty Trust is a real estate company owned by two stockholders of the Company. (b) Whitney Whitney was paid an equity placement fee of $500,000 in connection with the issuance of the Series A Convertible Preferred Stock, a debt placement fee of $630,000 in connection with the issuance of the Senior Subordinated Notes and management fees of $100,000 for the year ended December 31, 1994. The Company also reimburses Whitney for reasonable out-of-pocket expenses incurred in connection with attending to the Company's business. (c) First Union Bank In connection with the Recapitalization, the Company paid First Union Bank a commitment fee of $405,000 and an up front agent fee of $50,000. The Company also paid First Union Bank a commitment fee of $63,000 in connection with the establishment of the Credit Facility and an amendment fee of $88,500 associated with the expansion of the Credit Facility's borrowing capacity to $40,000,000. (12) Legal Matters The Company is party to certain claims and litigation initiated in the ordinary course of business. The Company is not involved in any legal proceeding that it believes will result, individually or in the aggregate, in a material adverse effect upon its financial condition or results of operations. (13) Selected Financial Data
Years ended December31, ----------------------------------------------------------------------------- 1992 1993 1994 1995 1996 ------------- -------------- -------------- -------------- -------------- Statement of Operations Data: Revenue......................... $ 80,851,000 $ 100,546,000 $ 121,295,000 $ 146,055,000 $ 179,652,000 Operating income (1)............ 4,990,000 4,533,000 8,746,000 12,419,000 17,466,000 Income before taxes (1)......... 4,984,000 4,533,000 4,589,000 9,935,000 17,267,000 Provision for income taxes (2)........................... 307,000 355,000 5,302,000 3,974,000 7,166,000 Net income before extraordinary items (1)(2).................. 4,677,000 4,178,000 (713,000) 5,961,000 10,101,000 Pro forma (3) and actual earnings per share............ $ 0.57 $ 0.91 $ 1.19 Weighted average shares outstanding................... 4,815,000 6,540,000 8,475,000 Balance Sheet: Working capital................. $ 9,114,000 $ 12,126,000 $ 5,609,000 $ 7,493,000 $ 19,345,000 Total assets.................... 15,894,000 20,836,000 31,345,000 36,556,000 98,128,000 Total debt...................... 337,000 -- 44,716,000 9,300,000 5,756,000
16 1) Expenses for the period to the recapitalization include certain compensation and other expenses, the levels of which are not comparable to the levels of such expenses for 1994. Expenses for 1994 include increased investments in management information systems, personnel and certain other items. See "Management Discussion and Analysis of Financial Condition and Results of Operations." 2) Prior to the Recapitalization, the Company elected to be taxed as an "S" corporation. In connection with the Recapitalization, the Company was required to change from an "S" to a "C" corporation. This change resulted in the Company recording an incremental tax provision of $3,772,000 in the first quarter of 1994. 3) The pro forma net income of $2,752,000 and earnings per share have been computed as if the Company had been subject to federal and state income taxes during the entire period based upon an effective tax rate indicative of the statutory rate in effect during the period. (14) Selected Quarterly Operating Results (Unaudited) The following table sets forth certain unaudited quarterly results of operations for each of the eight quarters ended December 31, 1996. In management's opinion, this unaudited information has been prepared on the same basis as the annual financial statements and includes all adjustments (consisting only of normal recurring adjustments) necessary for a fair presentation of the information for the quarters presented, when read in conjunction with the financial statements and notes thereto included elsewhere in this document. The operating results for any quarter are not necessarily indicative of results for any subsequent quarter.
QUARTER ENDED ----------------------------------------------------------------- MARCH 31, JUNE 30, SEPTEMBER 30, DECEMBER 31, 1996 1996 1996 1996 ------------- ------------- -------------- ------------- Revenue..................................... $ 40,225,000 $ 44,759,000 $ 46,048,000 $ 48,620,000 Cost of sales............................... 33,422,000 36,747,000 37,812,000 39,766,000 ------------- ------------- -------------- ------------- Gross Profit................................ 6,803,000 8,012,000 8,236,000 8,854,000 General and administrative expenses......... 3,109,000 3,636,000 3,746,000 3,948,000 ------------- ------------- -------------- ------------- Operating income............................ 3,694,000 4,376,000 4,490,000 4,906,000 (313,000) Other (income) expense...................... 194,000 331,000 (13,000) Provision for income taxes.................. 1,453,000 1,678,000 1,993,000 2,042,000 ------------- ------------- -------------- ------------- Net income.................................. $ 2,047,000 $ 2,367,000 $ 2,810,000 $ 2,877,000 ------------- ------------- -------------- ------------- ------------- ------------- -------------- -------------
QUARTER ENDED ---------------------------------------------------------- MARCH 31, JUNE 30, SEPTEMBER 30, DECEMBER 31, 1995 1995 1995 1995 ------------- ------------- ------------- ------------- Revenue............................................. $ 34,930,000 $ 36,125,000 $ 36,826,000 $ 38,174,000 Cost of sales....................................... 29,545,000 30,212,000 30,843,000 32,015,000 ------------- ------------- ------------- ------------- Gross Profit........................................ 5,385,000 5,913,000 5,983,000 6,159,000 General and administrative expenses................. 2,677,000 2,744,000 2,759,000 2,841,000 ------------- ------------- ------------- ------------- Operating income.................................... 2,708,000 3,169,000 3,224,000 3,318,000 Other expenses...................................... 1,354,000 655,000 251,000 224,000 Provision for income taxes.......................... 542,000 1,005,000 1,189,000 1,238,000 ------------- ------------- ------------- ------------- Net income before extraordinary items............... 812,000 1,509,000 1,784,000 1,856,000 Loss on retirement of debt, net of taxes............ -- (2,460,000) -- -- Net income (loss)................................... $ 812,000 ($ 951,000) $ 1,784,000 $ 1,856,000 ------------- ------------- ------------- ------------- ------------- ------------- ------------- -------------
17 EX-21.1 4 EX 21.1 (CIRCLE 54) CRA MANAGED CARE, INC. List of Subsidiaries EXHIBIT 21.1 CRA Managed Care, Inc., of Washington (formerly known as Alta Pacific Corporation) Focus HealthCare Management, Inc. QMC3, Inc. Prompt Associates, Inc. 28 EX-23.1 5 EX 23.1 (CIRCLE 55) EXHIBIT 23.1 CONSENT OF INDEPENDENT PUBLIC ACCOUNTANTS As independent public accountants, we hereby consent to the use of our reports (and to all references to our Firm) included in or made part of this filing on Form 10-K. ARTHUR ANDERSEN LLP Boston, Massachusetts March 21, 1997 29 EX-27 6 EX 27
5 0000942136 CRA MANAGED CARE INC. YEAR DEC-31-1996 JAN-01-1996 DEC-31-1996 2,596,000 0 38,613,000 2,167,000 0 40,054,000 20,906,000 12,016,000 98,128,000 20,709,000 0 0 0 89,000 76,489,000 98,128,000 0 179,652,000 0 147,747,000 14,439,000 1,213,000 770,000 17,267,000 7,166,000 10,101,000 0 0 0 10,101,000 1.19 0
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