FORM 10-Q SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 (Mark One) [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended March 31, 1999 OR [_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from _________________ to ______________________ Commission file number 0-28740 MIM CORPORATION (Exact name of registrant as specified in its charter) Delaware 05-0489664 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 100 Clearbrook Road, Elmsford, NY 10523 (Address of principal executive offices) (914) 460-1600 (Registrant's telephone number, including area code) --------------------------------------------------- (Former name, former address and former fiscal year if changed since last report) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes _X_ No ___ APPLICABLE ONLY TO CORPORATE ISSUERS: On May 10, 1999, there were outstanding 18,771,689 shares of the Company's common stock, $.0001 par value per share ("Common Stock").
INDEX Page Number ----------- PART I FINANCIAL INFORMATION Item 1 Financial Statements Consolidated Balance Sheets at March 31, 1999 (unaudited) and December 31, 1998 3 Unaudited Consolidated Statements of Operations for the three months ended March 31, 1999 and 1998 4 Unaudited Consolidated Statements of Cash Flows for the three months ended March 31, 1999 and 1998 5 Notes to the Consolidated Financial Statements 6-7 Item 2 Management's Discussion and Analysis of Financial Condition and Results of Operations 8-15 Item 3 Quantitative and Qualitative Disclosures about Market Risk 16 PART II OTHER INFORMATION Item 2 Changes in Securities and Use of Proceeds 17 Item 4 Submission of Matters to a Vote of Security Holders 18 Item 5 Other Information 18 Item 6 Exhibits and Reports on Form 8-K 18 SIGNATURES 19 Exhibit Index 20
PART 1 FINANCIAL INFORMATION Item 1. Financial Statements MIM CORPORATION AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS (In thousands, except share amounts) <TABLE> <CAPTION> March 31, December 31, 1999 1998 --------- ------------ (Unaudited) <S> <C> <C> ASSETS Current assets Cash and cash equivalents $ 3,753 $ 4,495 Investment securities 8,875 11,694 Receivables, less allowance for doubtful accounts of $2,185 and $2,239 at March 31, 1999 and December 31, 1998, respectively 57,164 64,747 Inventory 1,024 1,187 Prepaid expenses and other current assets 901 857 --------- --------- Total current assets 71,717 82,980 Other investments 2,317 2,311 Property and equipment, net 6,159 4,823 Due from affiliates, less allowance for doubtful accounts of $403 at March 31, 1999 and December 31, 1998, respectively 14 34 Other assets, net 165 293 Deferred income taxes 274 270 Intangible assets, net 19,145 19,395 --------- --------- Total assets $ 99,791 $ 110,106 ========= ========= LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities Current portion of capital lease obligations $ 463 $ 277 Current portion of long-term debt 387 208 Accounts payable 5,243 6,926 Claims payable 23,133 32,855 Payables to plan sponsors and others 20,721 16,490 Accrued expenses 6,193 6,401 --------- --------- Total current liabilities 56,140 63,157 Capital lease obligations, net of current portion 1,135 598 Long-term debt, net of current portion 1,842 6,185 Commitments and contingencies Minority interest 1,112 1,112 Stockholders' equity Preferred stock, $.0001 par value; 5,000,000 shares authorized, no shares issued or outstanding -- -- Common stock, $.0001 par value; 40,000,000 shares authorized, 18,651,698 and 18,090,748 shares issued and outstanding at March 31, 1999 and December 31, 1998, respectively 2 2 Treasury stock at cost (338) -- Additional paid-in capital 91,611 91,603 Accumulated deficit (50,186) (50,790) Stockholder notes receivable (1,527) (1,761) --------- --------- Total stockholders' equity 39,562 39,054 --------- --------- Total liabilities and stockholders' equity $ 99,791 $ 110,106 ========= ========= </TABLE> The accompanying notes are an integral part of these consolidated financial statements. 3
MIM CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF OPERATIONS (In thousands, except per share amounts) Three months ended March 31, ---------------------- 1999 1998 ---------------------- (Unaudited) Revenue $ 74,915 $ 97,963 Cost of revenue 66,733 92,384 -------- -------- Gross profit 8,182 5,579 Selling, general and administrative expenses 7,512 4,450 Amortization of goodwill and other intangibles 250 -- -------- -------- Income from operations 420 1,129 Interest income, net 196 507 Other (12) -- -------- -------- Net income $ 604 $ 1,636 ======== ======== Basic income per common share $ 0.03 $ 0.12 ======== ======== Diluted income per common share $ 0.03 $ 0.11 ======== ======== Weighted average common shares used in computing basic income per share 18,422 13,369 ======== ======== Weighted average common shares used in computing diluted income per share 18,910 15,132 ======== ======== The accompanying notes are an integral part of these consolidated financial statements. 4
MIM CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (In thousands) <TABLE> <CAPTION> Three Months Ended March 31, -------------------- 1999 1998 -------- -------- <S> <C> <C> Cash flows from operating activities: (unaudited) Net income $ 604 $ 1,636 Adjustments to reconcile net income to net cash provided by (used in) operating activities: Depreciation, amortization and other 626 361 Stock option charges 4 7 Changes in assets and liabilities: Receivables 7,583 (11,076) Inventory 163 -- Prepaid expenses and other current assets (44) 56 Accounts payable (1,683) (564) Deferred revenue -- (2,799) Claims payable (9,722) 2,483 Payables to plan sponsors and others 4,231 1,110 Accrued expenses (212) (690) -------- -------- Net cash provided by (used in) operating activities 1,550 (9,476) -------- -------- Cash flows from investing activities: Purchase of property and equipment (784) (487) Loans to affiliates, net 20 -- Stockholder loans, net 234 (12) Purchase of investment securities -- (4,000) Maturities of investment securities 2,819 10,293 Decrease (increase) in other assets 127 (43) -------- -------- Net cash provided by investing activities 2,416 5,751 -------- -------- Cash flows from financing activities: Principal payments on capital lease obligations (210) (53) Net payments to debt (4,164) -- Proceeds from exercise of stock options 4 1 Purchase of treasury stock (338) -- -------- -------- Net cash used in financing activities (4,708) (52) -------- -------- Net decrease in cash and cash equivalents (742) (3,777) Cash and cash equivalents--beginning of period $ 4,495 $ 9,593 -------- -------- Cash and cash equivalents--end of period $ 3,753 $ 5,816 ======== ======== SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION: Cash paid during the period for: Income taxes $ -- $ -- ======== ======== Interest $ 86 $ 19 ======== ======== SUPPLEMENTAL DISCLOSURE OF NONCASH TRANSACTIONS: Equipment acquired under capital lease obligations $ 933 $ -- ======== ======== </TABLE> The accompanying notes are an integral part of these consolidated financial statements. 4
MIM CORPORATION AND SUBSIDIARIES NOTES TO THE UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (In thousands, except per share amounts) NOTE 1 - BASIS OF PRESENTATION The accompanying unaudited consolidated interim financial statements of MIM Corporation and subsidiaries (the "Company") have been prepared pursuant to the rules and regulations of the U.S. Securities and Exchange Commission (the "Commission"). Pursuant to such rules and regulations, certain information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted. In the opinion of management, all adjustments considered necessary for a fair presentation of the financial statements, primarily consisting of normal recurring adjustments, have been included. The results of operations and cash flows for the three months ended March 31, 1999 are not necessarily indicative of the results of operations or cash flows which may be reported for the remainder of 1999. These unaudited consolidated financial statements should be read in conjunction with the Company's audited consolidated financial statements, notes and information included in the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 1998 filed with the Commission (the "Form 10-K"). The accounting policies followed for interim financial reporting are the same as those disclosed in Note 2 to the consolidated financial statements included in the Form 10-K. NOTE 2 - EARNINGS PER SHARE The following table sets forth the computation of basic earnings per share and diluted earnings per share: Three Months Ended March 31, 1999 1998 ------- ------- Numerator: Net income $ 604 $ 1,636 ======= ======= Denominator: Weighted average number of common shares outstanding 18,422 13,369 ------- ------- Basic earnings per share $ .03 $ .12 ======= ======= Denominator: Weighted average number of common shares outstanding 18,422 13,369 Common share equivalents of outstanding stock options 488 1,763 ------- ------- Total shares outstanding 18,910 15,132 ------- ------- Diluted earnings per share $ .03 $ .11 ======= ======= NOTE 3 - COMMITMENTS AND CONTINGENCIES On March 31, 1999, the State of Tennessee and Xantus Healthplan of Tennessee, Inc. ("Xantus") entered into a consent decree whereby, among other things, the Commissioner of Commerce and Insurance for the State of Tennessee was appointed receiver of Xantus for purposes of rehabilitation. At this time, the Company is unable to predict the effects of this action on the Company's ability to collect monies owed to it by Xantus for pharmacy benefit management ("PBM") services rendered by the Company from January 1, 1999 through April 1, 1999. As of April 1, 1999, Xantus owed the Company $10.7 million. To date, the Company has withheld from its pharmacy providers approximately $4.0 million of claims 6
submitted by them on behalf of Xantus members as permitted by the Company's agreements with these pharmacy providers. State of Tennessee officials have publicly indicated that the State will ensure that all TennCare providers negatively impacted by the appointment of the receiver for Xantus will eventually receive from Xantus or the State at least 50% of all outstanding amounts owed by Xantus to such providers as of April 1, 1999. The Company can give no assurance that Xantus or the State will eventually pay any or all of these amounts. The failure of the Company to collect from Xantus or the State all or a substantial portion of the monies owed to it by Xantus would have a material adverse effect on the Company's financial condition and results of operations. The receiver has begun to pay the Company on behalf of Xantus for services rendered to Xantus and its members following April 1, 1999. NOTE 4 - SUBSEQUENT EVENT In April 1999, the Company loaned to the Chairman and Chief Executive Officer of the Company $1,700, evidenced by a promissory note and a pledge of 1,500 shares of Common Stock to secure his obligations under the promissory note. The note requires repayment of principal and interest by March 31, 2004. Interest is accrued monthly at the Prime Rate (as defined in the note) then in effect. The loan was approved by the Company's Board of Directors in order to provide funds with which the Chairman could pay the tax liability associated with the exercise of stock options representing 1,500 shares of Common Stock in January 1998. As part of the Company's normal review process, the Company determined that two of the Company's capitated TennCare(R) contracts were not achieving profitability projections. Accordingly, in accordance with the terms of these contracts, the Company exercised its right to terminate these contracts effective on September 28, 1999. Representatives of the Company and these TennCare managed care organizations are presently renegotiating these contracts. While the Company believes it is reasonably likely that the terms of the contracts can be renegotiated, no assurance can be given that the Company will successfully renegotiate the contracts with either or both of these customers. In addition, no assurance can be given that the Company will not incur losses under either or both of these contracts during the interim period until termination becomes effective. The Company does not believe that the loss of these contracts, if they cannot be renegotiated, would have a material adverse effect on its liquidity. * * * * 7
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations The following discussion and analysis should be read in conjunction with the Consolidated Financial Statements, the related notes thereto and Management's Discussion and Analysis of Financial Condition and Results of Operations included in the Form 10-K, as well as the unaudited consolidated interim financial statements and the related notes thereto included in Part I, Item 1 of this Quarterly Report on Form 10-Q for the fiscal quarter ended March 31, 1999 filed with the Commission (this "Report"). This Report contains statements not purely historical and which may be considered forward looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended (the "Securities Act"), and Section 21E of the Securities Exchange Act of 1934, as amended (the "Exchange Act"), including statements regarding the Company's expectations, hopes, intentions or strategies regarding the future, as well as statements which are not historical fact. Forward looking statements may include statements relating to the Company's business development activities, its' sales and marketing efforts, the status of material contractual arrangements including the negotiation or re-negotiation of such arrangements, future capital expenditures, the effects of regulation and competition on the Company's business, future operating performance of the Company and the results, the benefits and risks associated with integration of acquired companies, the effect of year 2000 problems on the Company's operations and/or effect of legal proceedings or investigations and/or the resolution or settlement thereof. Investors are cautioned that any such forward looking statements are not guarantees of future performance and involve risks and uncertainties, and that actual results may differ materially from those in the forward looking statements as a result of various factors. These factors include, among other things, risks associated with risk-based or "capitated" contracts, increased government regulation related to the health care and insurance industries in general and more specifically, pharmacy benefit management organizations, increased competition from the Company's competitors, including competitors with greater financial, technical, marketing and other resources, and the existence of complex laws and regulations relating to the Company's business. This Report along with the Company's Form 10-K contain information regarding important factors that could cause such differences. The Company does not undertake any obligation to publicly release the results of any revisions to these forward looking statements that may be made to reflect any future events and circumstances. Overview RxCare of Tennessee, Inc. ("RxCare"), a pharmacy services administrative organization owned by the Tennessee Pharmacists Association and representing approximately 1,250 retail pharmacies, initially retained the Company in 1993 to assist in obtaining contracts with managed care organization's ("MCO's") applying to participate in the TennCare program to provide pharmacy benefit management ("PBM") services to those MCO's and their TennCare eligible and commercial recipients. In January 1994, the State of Tennessee instituted its TennCare program by contracting with MCO's to provide mandated health services to TennCare beneficiaries on a capitated basis. In turn, certain of these MCO's contracted with RxCare to provide TennCare mandated pharmaceutical benefits to their TennCare beneficiaries through RxCare's network of retail pharmacies, in most cases on a corresponding capitated basis. From January 1994 through December 31, 1998, the Company provided a broad range of PBM services with respect to RxCare's TennCare, TennCare Partners, the TennCare behavioral health program, and commercial PBM business under an agreement with RxCare (the "RxCare Contract"). Under the RxCare Contract, the Company performed essentially all of RxCare's obligations under its PBM contracts with plan sponsors, including designing and marketing PBM programs and services. Under the RxCare Contract, the Company paid certain amounts to RxCare and shared with RxCare the profit, if any, derived from services performed under RxCare's contracts with the plan sponsors. The Company and RxCare did not renew the RxCare Contract which expired on December 31, 1998. The negotiated termination of the Company's relationship with RxCare, among other things, allowed the Company to directly market its services to Tennessee customers, including those MCO's and commercial 8
customers then serviced by the Company through the RxCare Contract, prior to its expiration. The RxCare Contract had previously prohibited the Company from soliciting and/or marketing its PBM services in Tennessee other than on behalf of, and for the benefit of, RxCare. The Company's marketing efforts after its negotiated settlement resulted in the Company executing agreements, effective as of January 1, 1999, to provide PBM services directly to five of the six TennCare MCO's representing approximately 900,000 of the 1.2 million TennCare lives previously managed under the RxCare Contract, as well as substantially all third party administrators ("TPA's") and employer groups previously managed under the RxCare Contract. Effective May 1, 1999, the Company entered into a contract with the sixth TennCare MCO representing approximately 300,000 TennCare lives, thereby contracting with all of the TennCare MCO's that the Company managed through the RxCare Contract prior to December 31, 1998. To date, the Company has not contracted with the two TennCare behavioral health organizations ("BHO's") to which it previously provided PBM services under the RxCare Contract as the State presently administers the pharmacy benefit for these BHO's. For the year ended December 31, 1998, amounts paid to the Company by these BHO's represented approximately 27% of the Company's revenues. A majority of the Company's revenues are derived from providing PBM services in the State of Tennessee to MCO's participating in the State of Tennessee's TennCare program. At March 31, 1999, the Company provided PBM services to 140 health plan sponsors with an aggregate of approximately 1.7 million plan members, of which TennCare represented health plans with approximately 900,000 plan members. The five TennCare contracts accounted for 47.4% of the Company's revenues for the three months ended March 31, 1999 and 76.0% of the Company's revenues for the three months ended March 31, 1998. With the addition of the sixth TennCare MCO as of May 1, 1999, the Company anticipates that approximately 45% of its revenues for fiscal 1999 will be derived from providing PBM services to these six TennCare MCO's. Results of Operations Three months ended March 31, 1999 compared to three months ended March 31, 1998 For the three months ended March 31, 1999, the Company recorded revenue of $74.9 million, a decrease of $23.1 million from the same period a year ago. TennCare contracts accounted for decreased revenues of $38.9 million as the Company did not retain contracts as of January 1, 1999 with the sixth TennCare MCO and the two TennCare BHO's it previously managed under the RxCare Contract. The loss of these contracts represents $17.6 million and $23.6 million, respectively, of the decrease in revenue, partially offset by increases in other TennCare contracts. Commercial revenue increased $8.9 million, partially offset by a decrease of $8.5 million due to the loss of a contract with a Nevada based managed care organization, representing a net increase of $.4 million in commercial revenue. Revenue increased $15.4 million as a result of the Company's acquisition in August 1998 of the operations of Continental Managed Pharmacy Services Inc. ("Continental"). For the three months ended March 31, 1999, approximately 17% of the Company's revenues were generated from capitated or other risk-based contracts, compared to 39% for the three months ended March 31, 1998. This decrease resulted from the loss, as of January 1, 1999, of a major contract with on of the TennCare MCO's the Company managed on a capitated basis throughout 1998 under the RxCare Contract, as well as the addition of other business through the Company's acquisition of Continental. Cost of revenue for the three months ended March 31, 1999 decreased $25.7 million from $92.4 million to $66.7 million compared to the same period a year ago. TennCare contracts accounted for $36.4 million of such decrease due to the loss as of January 1, 1999 of the sixth TennCare MCO and the two TennCare BHO's previously managed under the RxCare Contract until December 31, 1998. The loss of these contracts represents $16.2 million and $22.2 million, respectively, of the decrease, partially offset by increases in other TennCare contracts. Cost of revenue increases of $6.7 million from commercial business were completely offset by a decrease in cost of revenue of $8.5 million due to the loss of a contract with a Nevada based managed care organization, representing a net decrease of $1.8 million. Such decreases in cost of revenue were partially offset by increases of $12.5 million generated from Continental. As a percentage of revenue, cost of revenue decreased to 89.1% for the three months ended March 31, 1999 9
from 94.3% for the three months ended March 31, 1998 primarily due to the contribution of Continental's drug distribution business which has experienced better margins than historically experienced by the Company's core PBM line of business. Generally, loss contracts arise only on capitated or other risk-based contracts and primarily result from higher than expected pharmacy utilization rates, higher than expected inflation in drug costs and the inability of the Company to restrict its MCO clients' formularies to the extent anticipated by the Company at the time contracted PBM services are implemented, thereby resulting in higher than expected drug costs. At such time as management estimates that a contract will sustain losses over its remaining contractual life, a reserve is established for these estimated losses. Management does not believe that there is an overall trend towards losses on its existing capitated contracts. Selling, general and administrative expenses were $7.5 million for the three months ended March 31, 1999, an increase of $3.0 million as compared to $4.5 million for the three months ended March 31, 1998. The acquisition of Continental accounted for $2.5 million of the increase. The remaining $0.5 million increase in expenses reflects expenditures incurred in connection with the Company's continuing commitment to enhance its ability to manage efficiently pharmacy benefits by investing in additional personnel and information systems to support new and existing customers and increased legal costs. As a percentage of revenue, selling, general and administrative expenses increased to 10.0% for the three months ended March 31, 1999 from 4.5% for the three months ended March 31, 1998 mainly attributable to revenue decrease experienced from the loss of the three TennCare contracts (as discussed above). For the three months ended March 31, 1999, the Company recorded amortization of goodwill and other intangibles of $0.3 million in connection with its acquisition of Continental. The Continental acquisition resulted in the recording of approximately $18.5 million of goodwill and $1.2 million of other intangible assets, which will be amortized over their estimated useful lives (25 years for goodwill and 6 years and 4 years for other intangible assets). For the three months ended March 31, 1999, the Company recorded interest income, net of interest expense, of $0.2 million. Interest income was $0.3 million, a decrease of $0.2 million from the same period a year ago, resulting from a reduced level of invested capital due to the additional working capital needs of the Company. See "Liquidity and Capital Resources." For the three months ended March 31, 1999, the Company recorded net income of $.6 million, or $.03 per diluted share. For the three months ended March 31, 1998, the Company recorded net income of $1.6 million, or $.11 per diluted share. For the three months ended March 31, 1999, accounts receivable decreased $7.5 million to $57.2 million from $64.7 million from December 31, 1998. The decrease resulted primarily from a proportionate decrease in PBM business during the period. Liquidity and Capital Resources The Company utilizes both funds generated from operations, if any, and funds raised in its initial public offering (the "Offering") for capital expenditures and working capital needs. For the three months ended March 31, 1999, net cash provided from operating activities totaled $1.6 million, due mainly to a decrease in accounts receivable of $7.6 million and an increase in payables to plan sponsors of $4.2 million partially offset by a decrease in claims payable of $9.7 million. The decrease in accounts receivable resulted primarily from a proportionate decrease in PBM business. Payables to plan sponsors increased due to changes in contractual terms, whereby the Company incurred additional sharing obligations upon contract renegotiations effective January 1, 1999. Claims payable decreased due primarily to the loss as of January 1, 1999 of the three TennCare contracts discussed above. Investing activities generated $2.4 million primarily from proceeds of maturities of investment securities of $2.8 million. This cash provided was partially offset by purchases of $.8 million of equipment primarily to upgrade and enhance information systems necessary to strengthen and support the Company's 10
ability to manage its customer's PBM programs and to be competitive in the PBM industry. Financing activities used $4.7 million of cash primarily from a decrease in revolving debt of $4.2 million. At March 31, 1999, the Company had working capital of $15.6 million, including $8.9 million in investment securities, compared to $19.8 million at December 31, 1998. Cash and cash equivalents decreased to $3.8 million at March 31, 1999 compared with $4.5 million at December 31, 1998. The Company had investment securities held to maturity of $8.9 million at March 31, 1999 and $11.7 million at December 31, 1998. The decrease in cash and investment securities was due to the Company's increased working capital requirements. With the exception of the Company's $2.3 million preferred stock investment in Wang Healthcare Information Systems, Inc., the Company's investments are primarily corporate debt securities rated AA or higher and government securities. Effective January 1, 1999, the Company began to provide PBM services directly to five of the six TennCare MCO's representing 900,000 of the 1.2 million TennCare lives previously managed under the RxCare Contract. Effective May 1, 1999, the Company entered into a contract with the sixth TennCare MCO representing approximately 300,000 TennCare lives, thereby contracting with all of the TennCare MCO's that the Company managed through the RxCare Contract prior to December 31, 1998. To date, however, the Company has not contracted with either of the two TennCare BHO's for which it previously provided PBM services under the RxCare Contract as the State presently administers the pharmacy benefit for these BHO's. The Company does not believe that the loss of these contracts will have a material adverse effect on its liquidity. As part of the Company's normal review process, the Company determined that two of the Company's capitated TennCare contracts were not achieving profitability projections. Accordingly, in accordance with the terms of these contracts, the Company exercised its right to terminate these contracts effective on September 28, 1999. Representatives of the Company and these TennCare MCO's are presently renegotiating these contracts. While the Company believes it is reasonably likely that the terms of the contracts can be renegotiated, no assurance can be given that the Company will successfully renegotiate the contracts with either or both of these customers. In addition, no assurance can be given that the Company will not incur losses under either or both of these contracts during the interim period until termination becomes effective. The Company does not believe that the loss of these contracts, if they cannot be renegotiated, would have a material adverse effect on its liquidity. On March 31, 1999, the State of Tennessee and Xantus Healthplan of Tennessee, Inc. ("Xantus") entered into a consent decree whereby, among other things, the Commissioner of Commerce and Insurance for the State of Tennessee was appointed receiver of Xantus for purposes of rehabilitation. At this time, the Company is unable to predict the effects of this action on the Company's ability to collect monies owed to it by Xantus for PBM services rendered by the Company from January 1, 1999 through April 1, 1999. As of April 1, 1999, Xantus owed the Company $10.7 million. To date, the Company has withheld from its pharmacy providers approximately $4.0 million of claims submitted by them on behalf of Xantus members as permitted by the Company's agreements with these pharmacy providers. State of Tennessee officials have publicly indicated that the State will ensure that all TennCare providers negatively impacted by the appointment of the receiver for Xantus will eventually receive from Xantus or the State at least 50% of all outstanding amounts owed by Xantus to such providers as of April 1, 1999. The Company can give no assurance that Xantus or the State will eventually pay any or all of these amounts. The failure of the Company to collect from Xantus or the State all or a substantial portion of the monies owed to it by Xantus would have a material adverse effect on the Company's financial condition and results of operations. The receiver has begun to pay the Company on behalf of Xantus for services rendered to Xantus and its members following April 1, 1999. In April 1999, the Company loaned to the Chairman and Chief Executive Officer of the Company $1.7 million, evidenced by a promissory note and a pledge of 1.5 million shares of Common Stock to secure his obligations under the promissory note. The note requires repayment of principal and interest by March 31, 2004. Interest is accrued monthly at the Prime Rate (as defined in the note) then in effect. The loan was approved by the Company's Board of Directors in order to provide funds with which the Chairman could pay the tax liability associated with the exercise of stock options representing 1.5 million shares of Common Stock in January 1998. 11
Under Section 145 of the Delaware General Corporation Law ("Section 145") and the Company's Amended and Restated By-Laws ("By-Laws"), the Company is obligated to indemnify two former officers of the Company (one of which is also a former director and still a principal stockholder of the Company) who are the subject of the indictments brought in the United States District Court for the Western District of Tennessee (as more fully described in the Form 10-K), unless it is ultimately determined by the Company's Board of Directors that these former officers failed to act in good faith and in a manner they reasonably believed to be in the best interests of the Company, that they had reason to believe that their conduct was unlawful of for any other reason under which indemnification would not be required Section 145 or the By-Laws. In addition, until the Board makes such a determination, the Company is also obligated under Section 145 and its By-Laws to advance the costs of defense to such persons; however, if the Board determines that either or both of these former officers are not entitled to indemnification, such individuals would be obligated to reimburse the Company for all amounts so advanced. The Company is not presently in a position to assess the likelihood that either or both of these former officers will be entitled to such indemnification and continued advancement of defense costs or to estimate the total amount that it may have to pay in connection with such obligations or the time period over which such amounts will have to be advanced. No assurance can be given, however, that the Company's obligations to either or both of these former officers would not have a material adverse effect on the Company's results of operations or financial condition. At December 31, 1998, the Company had, for tax purposes, unused net operating loss ("NOL") carryforwards of approximately $47 million which will begin expiring in 2008. As it is uncertain whether the Company will realize the full benefit from these NOL carryforwards, the Company has recorded a valuation allowance equal to the deferred tax asset generated by the carryforwards. The Company assesses the need for a valuation allowance at each balance sheet date. The Company has undergone a "change in control" as defined in the Internal Revenue Code of 1986, as amended ("Code"), and the rules and regulations promulgated thereunder. The amount of NOL carryforwards that may be utilized in any given year will be subject to a limitation as a result of this change. The annual limitation approximates $2.7 million. Actual utilization in any year will vary based on the Company's tax position in that year. As the Company continues to grow, it anticipates that its working capital needs will also continue to increase. The Company expects to spend approximately $1.7 million on capital expenditures during fiscal 1999 (no substantial portion of which was expended in the first quarter of 1999) primarily for expansion and continued upgrading of information systems. The Company believes that it has sufficient cash on hand or available to fund the Company's anticipated working capital and other cash needs for at least the next 12 months. The Company may also pursue joint venture arrangements, business acquisitions and other strategic transactions and arrangements designed to expand its business, which the Company would expect to fund from cash on hand or future indebtedness or, if appropriate, the sale or exchange of equity securities of the Company. Other Matters The Company's pharmaceutical claims costs historically have been subject to significant increases from October through February, which the Company believes is due to the need for increased medical attention to, and intervention with, MCO's members during the colder months. The resulting increase in pharmaceutical costs impacts the profitability of capitated contracts or other risk-based arrangements. Risk-based business represented approximately 17% of the Company's revenues while non-risk business (including the provision of mail order services) represented approximately 83% of the Company's revenues for the three months ended March 31, 1999. Non-risk arrangements mitigate the adverse effect on profitability of higher pharmaceutical costs incurred under risk-based contracts. The Company presently anticipates that approximately 36% of its revenues in fiscal 1999 will be derived from risk-based arrangements. Changes in prices charged by manufacturers and wholesalers or distributors for pharmaceuticals, a component of pharmaceutical claims, have historically affected the Company's cost of revenue. The 12
Company believes that it is likely that prices will continue to increase which could have an adverse effect on the Company's gross profit. To the extent such cost increases adversely effect the Company's gross profit, the Company may be required to increase contract rates on new contracts and upon renewal of existing contracts. However, there can be no assurance that the Company will be successful in obtaining these rate increases. The higher level of non-risk contracts with the Company's customers in 1999 compared to prior years mitigates the adverse effects of price increases, although no assurance can be given that the recent trend towards no-risk arrangements will continue. Year 2000 disclosure The so-called "year 2000 problem," which is common to many companies, concerns the inability of information systems, primarily computer hardware and software programs, to recognize properly and process date sensitive information following December 31, 1999. The Company has committed substantial resources (approximately $2.6 million) over the past two years to improve its information systems ("IS project"). The Company has used this IS project as an opportunity to evaluate its state of readiness, estimate expected costs and identify and quantify risks associated with any potential year 2000 issues. State of Readiness: In evaluating the Company's potential exposure to the year 2000 problem, management first identified those systems that were critical to the ongoing business of the Company and that would require significant manual intervention should those systems be unable to process dates correctly following December 31, 1999. Those systems were the Company's claims adjudication and processing system and the internal accounting system (which includes pharmacy reimbursement). Once those systems were identified, the following steps were identified as those that would be required to be taken to ascertain the Company's state of readiness: I. Obtaining letters from software and hardware vendors concerning the ability of their products to properly process dates after December 31, 1999; II. Testing the operating systems of all hardware used in the identified information systems to determine if dates after December 31, 1999 can be processed correctly; III. Surveying other parties who provide or process information in electronic format to the Company as to their state of readiness and ability to process dates after December 31, 1999; and IV. Testing the identified information systems to confirm that they will properly recognize and process dates after December 31, 1999. The Company (excluding for purposes of this year 2000 discussion only, Continental) has completed Step I. The Company will continue to obtain letters from new hardware and software vendors. The Company is currently in the process of implementing Step II. The Company has begun testing its operating systems, and where appropriate software patches have been acquired. Any software or hardware determined to be non-compliant will be modified, repaired or replaced. Installation of patches and full operating systems testing is anticipated to be completed during the second quarter of 1999. The Company cannot estimate the costs of such modifications, repairs and replacements at this time, but does not believe that the costs of such modifications, repairs or replacements will be material. The Company will disclose the results of its testing and attempt to further quantify this estimate in future periodic reports following its completion of Step II. With respect to Step III above, the Company has engaged in discussions with the third party vendors that transmit data from member pharmacies and based upon such discussions it believes that such third party vendors' systems will be able to properly recognize and process dates after December 31, 1999. The Company is in the process of surveying member pharmacies in its network as to their ability to transmit data correctly to such third party vendors and anticipates completing this survey during the second quarter of 1999. Once this survey is complete, the Company will evaluate any additional steps required to allow member pharmacies to transmit data after December 31, 1999 and will disclose such additional steps, if any, and their related costs in future periodic reports. 13
With respect to Step IV above, the Company intends to perform a comprehensive year 2000 compliance test of the claims adjudication and processing systems as part of the next regularly scheduled disaster recovery drill, which is currently planned for June 1999. This date has been postponed from the previously scheduled March 1999 test in order to incorporate software upgrades during the second quarter of 1999. The Company's internal accounting and other administrative systems generally have been internally developed during the last few years or are presently being developed. Accordingly, in light of the fact that such systems were developed with a view to year 2000 compliance, the Company fully expects that these systems will be able to properly recognize and process dates after December 31, 1999. The Company intends to test these systems for year 2000 compliance as part of the disaster recovery drill described above. Continental's computer systems related to the delivery of pharmaceutical products through mail order were upgraded in the fourth quarter of 1998 to become year 2000 compliant. All internal systems at Continental are scheduled to be compliant by the end of the third quarter of 1999. Costs: As noted above, the Company spent approximately $2.6 million over the past two years to improve its information systems. In addition, the Company anticipates that it will spend approximately $1.7 million during 1999 to further improve its information systems. These improvements were not, and are not intended to specifically address the year 2000 issue, but rather to address other business needs and issues. Nonetheless, the IS project has provided the Company with a platform from which to address any year 2000 issues. Management does not believe that the amount of funds expended in connection with the IS project would have differed materially in the absence of the year 2000 problem. The Company's cash on hand as a result of the Offering has provided all of the funds expended to date on the IS project and is expected to provide substantially all of the funds expected to be spent during 1999 on the IS project. Risks: On July 29, 1998, the Commission issued Release No. 33-7558 (the "Release") in an effort to provide further guidance to reporting companies concerning disclosure of the year 2000 problem. In this Release the Commission required that registrants include in its year 2000 disclosure a description of its "most reasonably likely worst case scenario." Based on the Company's assessment and the results of remediation performed to date as described above, the Company believes that all problems related to the year 2000 will be addressed in a timely manner so that the Company will experience little or no disruption in its business immediately following December 31, 1999. However, if unforeseen difficulties arise, if the Company's assessment of Continental uncovers significant problems (which is not presently expected to occur) or if compliance testing is delayed or necessary remediation efforts are not accomplished in accordance with the Company's plans described above, the Company anticipates that its "most reasonably likely worst case scenario" (as required to be described by the Release) is that some percentage of the Company's claims would need to be processed manually for some limited period of time. At this point in time, the Company cannot reasonably estimate the number of pharmacies or the level of claims involved or the costs that would be incurred if the Company were required to hire temporary staff and incur other expenses to manually process such claims. The Company expects to be better able to quantify the number of pharmacies and level of claims involved as well as the related costs following its completion of the survey of member pharmacies in the second quarter of 1999 and presently intends to disclose such estimates in future periodic reports. In addition, the Company anticipates that all businesses (regardless of their state of readiness), including the Company, will encounter some minimal level of disruption in its business (e.g., phone and fax systems, alarm systems, etc.) as a result of the year 2000 problem. However, the Company does not believe that it will incur any material expenses or suffer any material loss of revenues in connection with such minimal disruptions. Contingency Plans: As discussed above, in the event of the occurrence of the "most reasonably likely worst case scenario" the Company would hire an appropriate level of temporary staff to manually process the pharmacy claims 14
submitted on paper. As discussed above, at this time the Company cannot reasonably estimate the number of pharmacies or level of claims involved or the costs that would be incurred if the Company were required to hire temporary staff and incur other expenses to manually process such claims. While some level of manual processing is common in the industry and while manual processing increases the time it takes the Company to pay the member pharmacies and invoice the related payors, the Company does not foresee any material lost revenues or other material expenses in connection with this scenario. However, an extended delay in processing claims, making payments to pharmacies and billing the Company's customers could materially adversely impact the Company's liquidity. In addition, while not part of the "most reasonably likely worst case scenario," the delay in paying such pharmacies for their claims could result in adverse relations between the Company and the pharmacies. Such adverse relations could cause certain pharmacies to drop out of the Company's networks which in turn could cause the Company to be in breach under service area provisions under certain of its services agreements with its customers. The Company does not believe that any material relationship with any pharmacy will be so affected or that any material number of pharmacies would withdraw from the Company's networks or that it will breach any such service area provision of any contract with its customers. Notwithstanding the foregoing, based upon past experience, the Company believes that it could quickly replace any such withdrawing pharmacy so as to prevent any breach of any such provision. The Company cannot presently reasonably estimate the possible impact in terms of lost revenues, additional expenses or litigation damages or expenses that could result from such events. Forward Looking Statements: Certain information set forth above regarding the year 2000 problem and the Company's plans to address those problems are forward looking statements under the Securities Act and the Exchange Act. See the first paragraph in "Management's Discussion and Analysis of Financial Condition and Results of Operations" for a discussion of forward looking statements and related risks and uncertainties. In addition, certain factors particular to the year 2000 problem could cause actual results to differ materially from those contained in the forward looking statements, including, without limitation: failure to identify critical information systems which experience failures, delays and errors in the compliance and remediation efforts described above, unexpected failures by key vendors, member pharmacies, software providers or business partners to be year 2000 compliant or the inability to repair critical information systems in the time frames described above. In any such event, the Company's results of operations and financial condition could be materially adversely affected. In addition, the failure to be year 2000 compliant of third parties outside of the Company's control such as electric utilities or financial institutions could adversely effect the Company's results of operations and financial condition. * * * * 15
Item 3. Quantitative and Qualitative Disclosures About Market Risk The Company believes that interest rate risk represents the only market risk exposure applicable to the Company. The Company's exposure to market risks associated with changes in interest rates relates primarily to the Company's investments in marketable securities in accordance with the Company's corporate investment policies and guidelines. All of these instruments are classified as "held-to-maturity" on the Company's consolidated balance sheets and were entered into by the Company solely for investment purposes and not for trading purposes. The Company does not invest in or otherwise use derivative financial instruments. The Company's investments consist primarily of corporate debt securities, corporate preferred stock and State and local governmental obligations, each rated AA or higher. The table below presents principal cash flow amounts and related weighted average effective interest rates by expected (contractual) maturity dates for the Company's financial instruments subject to interest rate risk: 1999 2000 2001 2002 2003 Thereafter ---- ---- ---- ---- ---- ---------- Short-term investments Fixed rate investments 8,850 -- -- -- -- -- Weighted average rate 6.57% -- -- -- -- -- Long-term investments: Fixed rate investments -- -- -- -- -- -- Weighted average rate -- -- -- -- -- -- Long-term debt: Variable rate instruments 112 312 1,773 -- -- -- Weighted average rate 9.00% 9.00% 7.78% -- -- -- In the table above, the weighted average interest rate for fixed and variable rate financial instruments in each year was computed utilizing the effective interest rate at March 31, 1999 for that instrument multiplied by the percentage obtained by dividing the principal payments expected in that year with respect to that instrument by the aggregate expected principal payments with respect to all financial instruments within the same class of instrument. At March 31, 1999, the carrying values of cash and cash equivalents, accounts receivable, accounts payable, claims payable and payables to plan sponsors and others approximate fair value due to their short-term nature. Because management does not believe that its exposure to interest rate market risk is material at this time, the Company has not developed or implemented a strategy to manage this market risk through the use of derivative financial instruments or otherwise. The Company will assess the significance of interest rate market risk from time to time and will develop and implement strategies to manage that risk as appropriate. * * * * 16
PART II OTHER INFORMATION Item 1. Legal Proceedings On March 31, 1999, the State of Tennessee and Xantus Healthplan of Tennessee, Inc. ("Xantus") entered into a consent decree whereby, among other things, the Commissioner of Commerce and Insurance for the State of Tennessee was appointed receiver of Xantus for purposes of rehabilitation. At this time, the Company is unable to predict the effects of this action on the Company's ability to collect monies owed to it by Xantus for pharmacy benefit management services rendered by the Company from January 1, 1999 through April 1, 1999. As of April 1, 1999, Xantus owed the Company $10.7 million. To date, the Company has withheld from its pharmacy providers approximately $4.0 million of claims submitted by them on behalf of Xantus members as permitted by the Company's agreements with these pharmacy providers. State of Tennessee officials have publicly indicated that the State will ensure that all TennCare providers negatively impacted by the appointment of the receiver for Xantus will eventually receive from Xantus or the State at least 50% of all outstanding amounts owed by Xantus to such providers as of April 1, 1999. The Company can give no assurance that Xantus or the State will eventually pay any or all of these amounts. The failure of the Company to collect from Xantus or the State all or a substantial portion of the monies owed to it by Xantus would have a material adverse effect on the Company's financial condition and results of operations. The receiver has begun to pay the Company on behalf of Xantus for services rendered to Xantus and its members following April 1, 1999. Item 2. Changes in Securities and Use of Proceeds From August 14, 1996 through March 31, 1999, the $46,788,000 net proceeds from the initial public offering (the "Offering"), pursuant to a Registration Statement assigned file number 333-05327 by the Securities and Exchange Commission and declared effective by the Commission on August 14, 1996, have been applied in the following approximate amounts: Construction of plant, building and facilities .............. $ -- Purchase and installation of machinery and equipment ........ $ 5,069,000 Purchases of real estate .................................... $ -- Acquisition of other business ............................... $ 2,341,000 Repayment of indebtedness ................................... $ -- Working capital ............................................. $26,750,000 Temporary investments: Marketable securities .................................. $ 8,875,000 Overnight cash deposits ................................ $ 3,753,000 To date, the Company has expended a relatively insignificant portion of the Offering proceeds on expansion of the Company's "preferred generics" business which was described more fully in the Offering prospectus and the Company's Annual Report on Form 10-K for the year ended December 31, 1996. At the time of the Offering, however, as disclosed in the Offering prospectus and subsequent Forms SR, the Company intended to apply approximately $18.6 million of Offering proceeds to fund an expansion of the "preferred generics" program. The Company has determined not to apply any material portion of the Offering proceeds to fund any expansion of this program. The Company presently intends to use the remaining Offering proceeds to support the continued growth of its PBM and mail order business. Item 4. Submission of Matters to a Vote of Security Holders No matters were submitted to a vote of the Company's security holders during the first quarter of fiscal 1999. 17
Item 5. Other Information None. Item 6. Exhibits and Reports on Form 8-K (a) Exhibits Exhibit Number Description - -------------- ----------- 10.58 Commercial Term Promissory Note, dated April 14, 1999, by Richard H. Friedman in favor of MIM Corporation 10.59 Pledge Agreement, dated April 14, 1999, by Richard H. Friedman in favor of MIM Corporation 10.60 Amended and Restated 1996 Non-Employee Directors Stock Incentive Plan (effective as of March 1, 1999) 10.61 1999 Cash Bonus Plan for Key Employees 27 Financial Data Schedule (b) Reports on Form 8-K The Company did not file any reports on Form 8-K during the first quarter of fiscal 1999. 18
SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this Report to be signed on its behalf by the undersigned thereunto duly authorized. MIM CORPORATION Date: May 17, 1999 /s/ Edward J. Sitar ----------------------------------- Edward J. Sitar Chief Financial Officer (Principal Financial Officer) 19
Exhibit Index (Exhibits being filed with this Quarterly Report on Form 10-Q) 10.58 Commercial Term Promissory Note, dated April 14, 1999, by Richard H. Friedman in favor of MIM Corporation 10.59 Pledge Agreement, dated April 14, 1999, by Richard H. Friedman in favor of MIM Corporation 10.60 Amended and Restated 1996 Non-Employee Directors Stock Incentive Plan (effective as of March 1, 1999) 10.61 1999 Cash Bonus Plan for Key Employees 27 Financial Data Schedule