ASC Topic 820 requires financial assets and liabilities to be classified based on the lowest level of input that is significant to the fair value measurement.  The Company’s assessment of the significance of a particular input to the fair value measurement requires judgment, and may affect the valuation of the fair value of assets and liabilities and their placement within the fair value hierarchy levels. There were no transfers between the fair value hierarchy levels during the quarters ended September 30, 2016March 31, 2017 and 2015.2016.

The following table represents the Company’s financial assets and liabilities that were accounted for at fair value on a recurring basis as of December 31, 20152016 and September 30, 2016March 31, 2017 by level within the fair value hierarchy:

 

As part of an Office acquisition completed in 2009, the Company recorded contingent liabilities to recognize an estimated amount to be paid as part of the acquisition agreement.  These contingent liabilities are recorded at estimated fair values as of the date of acquisition, are payable upon the exercise of a put option by the seller beginning after four years fromafter the acquisition date and no later than ten years after the acquisition date, and are calculated at a multiple of the then trailing twelve-months operating cash flows.  The Company remeasures the contingent liability to fair value each reporting date until the contingency is resolved.  Any changes to the fair value are recognized into the income statement when determined.  As of September 30, 2016,March 31, 2017, approximately $321,000 of contingent liabilities were recorded on the consolidated balance sheets in other long-term obligations.

The statements contained in this report that are not historical in nature are forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, Section 21E of the Securities Exchange Act of 1934, as amended, and the Private Securities Litigation Reform Act of 1995. All statements, other than statements of historical fact, included in this report that address activities, events or developments that we expect, believe, intend or anticipate will or may occur in the future, are forward-looking statements. When used in this document, the words “estimate,” “believe,” “anticipate,” “project” and similar expressions are intended to identify forward-looking statements. Forward-looking statements are inherently subject to risks and uncertainties, many of which cannot be predicted with accuracy and some of which might not even be anticipated. These forward-looking statements include statements in this Item 2, “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” regarding intent, belief or current expectations of the Company or its officers with respect to among other things, future results of operations, additional incremental revenue from amended capitation agreements, the development of de novo offices or acquisition of additional Officesdental practices (“Offices”) and the successful integration of such Offices into the Company’s network, recruitment of additional dentists, funding and cash outlays of the Company,Company’s expansion, capital expenditures, payment or nonpayment of dividends and strategic orcash outlays for income taxes and other transactions the Company may undertake.purposes.

Such forward-looking statements involve certain risks and uncertainties that could cause actual results to differ materially from anticipated results. These risks and uncertainties include regulatory constraints, changes in laws or regulations concerning the practice of dentistry or dental practice management companies, the availability of suitable new markets and suitable locations within such markets, changes in the Company’s operating or expansion strategy, the general economy of the United States and the specific markets in which the Company’s Offices are located, trends in the health care, dental care and managed care industries, as well as the risk factors set forth in Item 1A. “Risk Factors” in the Company’s Annual Report on Form 10-K for the year ended December 31, 2015,2016, and other factors as may be identified from time to time in the Company’s filings with the Securities and Exchange Commission or in the Company’s press releases.

 

The following discussion relates to factors that have affected the results of operations and financial condition of the Company for the quarters ended March 31, 2017 and nine months ended September 30, 2016 and 2015.2016. This information should be read in conjunction with the Company’s condensed consolidated financial statements and related notes thereto included elsewhere in this report.

 

The Company was formed in May 1995 and currently manages 6968 Offices in Colorado, New Mexico and Arizona staffed by 6971 general dentists and 2931 specialists. The Company derives all of its revenue from its Management Agreements with professional corporations (“P.C.s”), which conduct the practice at each Office. In addition, the Company assumes a number of responsibilities when it develops a de novo Office or acquires an existing dental practice.  These responsibilities are set forth in a Management Agreement, as described below.

The Company was formed with the intention of becoming the leading provider of business services to dental practices in Colorado. The Company’s growth and success in the Colorado market led to its expansion into the New Mexico and Arizona markets. The Company’s growth strategy is to focus on greater utilization of existing physical capacity through recruiting more dentists and support staff and through development of de novo Offices and selective acquisitions.

TheDuring the first quarter of 2017, the Company opened a de novoconsolidated the dental services of one of its Fort Collins, Colorado Offices into another Office in Commerce City, Colorado in January 2016.  The Company does not intend to open any additional de novo Offices during 2016.  Instead, it will focus on gaining profitability in its most recently opened Offices and its existing facilities, filling excess capacity in its Offices, and paying down bank debt.subsequently closed the first Office.

BeginningAs previously disclosed, beginning in May 2016, an activist shareholder group led by a former officer of the Company began making a series of public disclosures critical of the Company, its boardBoard of Directors and management. These included disclosures regarding private communications between the Company and its boardBoard of directorsDirectors and themselves and between the Company and certain other parties that have expressed an interest in the Company. The shareholder group also threatened to take certain actions against the Company and its boardBoard of directors. The Company addressed these matters in anDirectors.  In March 2017, the activist shareholder group, including several additional parties, filed a Schedule 13D with the SEC filing on June 6, 2016. Indisclosing that filing, the Company also disclosed that, as partit jointly held beneficial ownership of the board of directors’ ongoing evaluationapproximately 31.1% of the Company’s strategic options, it had engaged an investment banking firm with significant experienceCommon Stock.  As described in the Company’s industry as its financial advisor. TheSchedule 13D filing, the activist shareholder group has delivered a letter to the Company stated that the board has been closely monitoringseeking (i) to nominate a Class II director to the Company’s financial performance, assessing the Company’s strategic options and carefully considering expressionsBoard of interest in the Company. This process is ongoing. As stated in the June 6 filing, the board of directors will continueDirectors, (ii) to act in the best interests of all shareholders in its ongoing evaluationmake proposals to amend certain provisions of the Company’s strategic options.articles of incorporation and bylaws, including a proposal to increase the size of the Company’s Board of Directors to ten directors, and (iii) to nominate directors to fill the five new directorships proposed by the activist shareholder group.

As previously disclosed, the Company has expressed concerns that the matters involving the activist shareholder group were highly distracting to the management and employees of the Company and may be adversely affecting its business and results of operations.  During the six months ended September 30, 2016, revenue at the Company, as measured by daily productivity in the Offices, declined.  The Company believes this decline in revenue is related in part to employee distractions caused by these matters.  Additionally, the Company incurred additional expenses of approximately $300,000 during this periodthe last 12 months in connection with matters related to the activist shareholder group and its boardthe Board of directors’Directors’ ongoing evaluation of the Company’s strategic options.  The Company expects to continue to incur expenses of the kind described in this paragraph, including expenses related to the activist shareholder group’s most recent Schedule 13D filing, during the threesix months ended December 31, 2016June 30, 2017 and possibly in subsequent quarters.

Despite challenging comparisons of the quarter ended March 31, 2017 to the same quarter in 2016, the Company negotiated an increasebelieves there are meaningful signs of progress.  Management and the Board of Directors are intensely focused on reversing the negative trends in onethe Company’s results of its capitation agreements as well as an increaseoperations and have taken a number of actions in to accomplish this objective.

Related in part to the factors noted previously, the Company believes much of the decline in revenue and earnings before interest, taxes, depreciation, amortization and stock-based compensation expense (“Adjusted EBITDA”) has been driven by a decrease in the number of patientsdentists in the network from 116 dentists as of December 31, 2015 to a low of 98 dentists at September 30, 2016.  Two significant steps have been taken to reverse this adverse trend.

In late September 2016, the Company hired a new, fully dedicated dentist recruiter to replace the previous recruiter.  As shown in the table below, the Company believes the new recruiter is making progress in increasing its network. Thisnumber of dentists.  On January 30, 2017, the Company also added a highly experienced Chief Dental Officer to work directly with its network dentists in their offices, which the Company believes will help reduce dentist turnover, improve dentist performance and enhance dentist recruitment going forward.   The early results of this effort have been sufficiently encouraging that the Company has begun to work with an additional experienced dentist on a part time consulting basis to further improve retention and productivity.  In addition, the Company has begun to offer equity buy-in opportunities for dentists, which it believes will also aid in recruiting and retaining dentists and reducing dentist turnover.

In January 2016, the Company started the process of credentialing some of its Offices for Medicaid, a revenue source that the Company had not previously accessed.  As of March 31, 2017, the Company had 28 Offices credentialed for Medicaid in Colorado and 4 Offices credentialed for Medicaid in New Mexico.  Revenue from Medicaid accounted for 1.1% of the Company.Company’s revenue in 2016.  Revenue from Medicaid accounted for 2.9% of the Company’s revenue in the quarter ended March 31, 2017.  The Company expects revenue from Medicaid to increase in 2017.

The Company’s critical accounting policies are set forth in its Annual Report on Form 10-K for the year ended December 31, 2015.2016.  There have been no significant changes to these policies since the filing of that report.

 

Revenue represents the revenue of the Offices, reported at estimated realizable amounts, received from third-party payors and patients for dental services rendered at the Offices, net of contractual and other adjustments.  Substantially all of the Company’s patients are insured under third-party payor agreements.  The Company’s billing system generates contractual adjustments for each patient encounter based on fee schedules for the patient’s insurance plan.  The services provided are attached to the patient’s fee schedule based on the insurance the patient has at the time the service is provided.  Therefore, the revenue that is recorded by the billing system is based on insurance contractual amounts.  Additionally, each patient at the time of service signs a form agreeing that the patient is ultimately responsible for the contracted fee if the insurance company does not pay the fee for any reason.

Direct expenses consist of clinical salaries and benefits paid to dentists, dental hygienists and dental assistants and the expenses incurred by the Company in connection with managing the Offices, including salaries and benefits of other employees at the Offices, supplies, laboratory fees, occupancy costs, advertising and marketing, depreciation and amortization and general and administrative expenses (including office supplies, equipment leases, management information systems and other expenses related to dental practice operations). The Company also incurs personnel and administrative expenses in connection with maintaining a corporate function that provides management, administrative, marketing, development and professional services to the Offices.

Under each of the Management Agreements, the Company provides business and marketing services at the Offices, including (i) providing capital, (ii) designing and implementing advertising and marketing programs, (iii) negotiating for the purchase of supplies, (iv) staffing, (v) recruiting, (vi) training of non-dental personnel, (vii) billing and collecting patient fees, (viii) arranging for certain legal and accounting services and (ix) negotiating with managed care organizations. The P.C. is responsible for, among other things, (i) supervision of all dentists, dental hygienists and dental assistants, (ii) complying with all laws, rules and regulations relating to dentists, dental hygienists and dental assistants and (iii) maintaining proper patient records. The Company has made, and intends to make in the future, loans to P.C.s to fund their acquisition of dental assets from third parties in order to comply with state dental practice laws.  Because the Company’s financial statements are consolidated with the financial statements of the P.C.s, these loans are eliminated in consolidation.

Under the typical Management Agreement, the P.C. pays the Company a management fee equal to the Adjusted Gross Center Revenue of the P.C. less compensation paid to the dentists, dental hygienists and dental assistants employed at the Office of the P.C.  Adjusted Gross Center Revenue is comprised of all fees and charges booked each month by or on behalf of the P.C. as a result of dental services provided to patients at the Office, less any adjustments for uncollectible accounts, professional courtesies and other activities that do not generate a collectible fee. The Company’s costs include all direct and indirect costs, overhead and expenses relating to the Company’s provision of management services to the Office under the Management Agreement, including (i) salaries, benefits and other direct costs of Company employees who work at the Office, (ii) direct costs of all Company employees or consultants who provide services to or in connection with the Office, (iii) utilities, janitorial, laboratory, supplies, advertising and other expenses incurred by the Company in carrying out its obligations under the Management Agreement, (iv) depreciation expense associated with the P.C.’s assets and the assets of the Company used at the Office, and the amortization of intangible asset value relating to the Office, (v) interest expense on indebtedness incurred by the Company to finance any of its obligations under the Management Agreement, (vi) general and malpractice insurance expenses, lease expenses and dentist recruitment expenses, (vii) personal property and other taxes assessed on the Company’s or the P.C.’s assets used in connection with the operation of the Office, (viii) out-of-pocket expenses of the Company’s personnel related to mergers or acquisitions involving the P.C., (ix) corporate overhead charges or any other expenses of the Company including the P.C.’s pro rata share of the expenses of the accounting and computer services provided by the Company, and (x) a collection reserve in the amount of 5.0% of Adjusted Gross Center Revenue. As a result, substantially all costs associated with the provision of dental services at the Office are borne by the Company, except for the compensation of the dentists, dental hygienists and dental assistants who work at the Office.  This enables the Company to manage the profitability of the Offices.  Each Management Agreement is for a term of 40 years.  Each Management Agreement generally may be terminated by the P.C. only for cause, which includes a material default by or bankruptcy of the Company. Upon expiration or termination of a Management Agreement by either party, the P.C. must satisfy all obligations it has to the Company.

 

Revenue is derived principally from fee-for-service revenue and revenue from capitated managed dental care plans. Fee-for-service revenue consists of P.C. revenue received from indemnity dental plans, preferred provider plans and direct payments by patients not covered by any third-party payment arrangement. Managed dental care revenue consists of P.C. revenue received from capitated managed dental care plans, including capitation payments and patient co-payments. Capitated managed dental care contracts are between dental benefits organizations and the P.C.s. Under the Management Agreements, the Company negotiates and administers these contracts on behalf of the P.C.s. Under a capitated managed dental care contract, the dental group practice provides dental services to the members of the dental benefits organization and receives a fixed monthly capitation payment for each plan member covered for a specific schedule of services regardless of the quantity or cost of services to the participating dental group practice obligated to provide them. This arrangement shifts the risk of utilization of these services to the dental group practice providing the dental services. Because the Company assumes responsibility under the Management Agreements for all aspects of the operation of the dental practices (other than the practice of dentistry) and thus bears all costs of the P.C.s associated with the provision of dental services at the Office (other than compensation of dentists, dental hygienists and dental assistants), the risk of over-utilization of dental services at the Office under capitated managed dental care plans is effectively shifted to the Company. In addition, dental group practices participating in a capitated managed dental care plan often receive supplemental payments for more complicated or elective procedures. In contrast, under traditional indemnity insurance arrangements, the insurance company pays whatever reasonable charges are billed by the dental group practice for the dental services provided. 

The Company seeks to increase its revenue by increasing the patient volume at existing Offices through effective advertising and marketing programs and by adding additional specialty services.  The Company also seeks to increase revenue by opening de novo Offices and by making selective acquisitions of dental practices.  The Company seeks to supplement fee-for-service revenue with revenue from contracts with capitated managed dental care plans. Although the Company’s fee-for-service business generally provides a greater margin than its capitated managed dental care business, capitated managed dental care business increases facility utilization and dentist productivity.  The relative percentage of the Company’s revenue derived from fee-for-service business and capitated managed dental care contracts varies from market to market depending on the availability of capitated managed dental care contracts in any particular market and the Company’s ability to negotiate favorable contractual terms. In addition, the profitability of capitated managed dental care revenue varies from market to market depending on the level of capitation payments and co-payments in proportion to the level of benefits required to be provided.

The Company’s policy is to collect any patient co-payments at the time the service is provided.  If the patient owes additional amounts that are not covered by insurance, Offices collect by sending monthly invoices, placing phone calls and sending collection letters.  Interest at 18% per annum is charged on all account balances greater than 90 days old.  Patient accounts receivable that are over 120 days past due and that appear to not be collectible are written off as bad debt, and those in excess of $100 are sent to an outside collections agency.

For the quarter ended September 30, 2016,March 31, 2017, revenue decreased $698,000,$771,000, or 4.4%4.7%, to $15.2$15.7 million compared to $15.9$16.4 million for the quarter ended September 30, 2015.March 31, 2016.  For the quarter ended September 30, 2016,March 31, 2017, net loss increased $290,000$125,000 to $(517,000)$(225,000), or $(.28)$(.12) per share, compared to $(227,000)$(100,000), or $(0.12)$(0.05) per share, for the quarter ended September 30, 2015.March 31, 2016.

The Company’s earnings before interest, taxes, depreciation, amortization and stock-based compensation expense (“Adjusted EBITDA”)EBITDA decreased $978,000,$227,000, or 31.2%22.7%, to $2.2$777,000 for the quarter ended March 31, 2017 compared to $1.0 million for the nine monthsquarter ended September 30, 2016 compared to $3.1 million for the nine months ended September 30, 2015.March 31, 2016.  Although Adjusted EBITDA is not a GAAP measure of performance or liquidity, the Company believes that it may be useful to an investor in evaluating the Company’s ability to meet future debt service, capital expenditures and working capital requirements. However, investors should not consider this measure in isolation or as a substitute for operating income, cash flows from operating activities or any other measure for determining the Company’s operating performance or liquidity that is calculated in accordance with GAAP. In addition, because Adjusted EBITDA is not calculated in accordance with GAAP, it may not necessarily be comparable to similarly titled measures employed by other companies. A reconciliation of Adjusted EBITDA to net loss is made by adding depreciation and amortization expense - Offices, depreciation and amortization expense – Corporate, stock-based compensation expense, interest expense, net and income tax benefit to net loss as in the following table:

The following table sets forth the percentages of revenue represented by certain items reflected in the Company’s condensed consolidated statements of operations. The information contained in the following table represents the historical results of the Company. The information that follows should be read in conjunction with the Company’s condensed consolidated financial statements and related notes thereto contained elsewhere in this report.  Percentage amounts may not add due to rounding.

For the quarter ended September 30, 2016,March 31, 2017, revenue decreased $698,000,$771,000, or 4.4%4.7%, to $15.2$15.7 million compared to $15.9$16.4 million for the quarter ended September 30, 2015.March 31, 2016.  The Company outlines the factors that it believes contributed to the decrease in revenue in “Results of Operations” and “Recent Developments” above.  TwoOne de novo Offices,Office, which opened during the third quarter of 2015 and the first quarter of 2016, accounted for an increase of $145,000$33,000 in revenue during the quarter ended September 30, 2016March 31, 2017 compared to the quarter ended September 30, 2015.March 31, 2016.

Clinical salaries and benefits. For the quarter ended September 30, 2016,March 31, 2017, clinical salaries and benefits decreased $405,000, or 4.1%, to $9.2$9.5 million compared to $9.5$9.9 million for the quarter ended September 30, 2015, aMarch 31, 2016.  Clinical salaries decreased $413,000 at the 67 Offices open during each full quarter primarily due to the lower dentist count in the quarter ended March 31, 2017.  This $413,000 decrease of $249,000, or 2.6%.  This decline in clinical salaries and benefits is net of an increase of $62,000$77,000 in salaries and benefits for the quarter ended September 30, 2016March 31, 2017 compared to the quarter ended September 30, 2015March 31, 2016 as the Company builds a centralized insurance accounts receivable and patient scheduling team.  Clinical salaries and benefits decreased $369,000 at the 67 Offices open during each full quarter due to expense management, while the twoThe de novo OfficesOffice accounted for an additional $120,000 ofoffsetting  $9,000 increase in clinical salaries and benefits during the quarter ended September 30, 2016.March 31, 2017.  As a percentage of revenue, clinical salaries and benefits increased to 61.0%60.4% for the quarter ended September 30, 2016March 31, 2017 compared to 59.9%60.1% for the quarter ended September 30, 2015.March 31, 2016.

 

Dental supplies. For the quarter ended September 30, 2016,March 31, 2017, dental supplies decreased to $729,000$628,000 compared to $763,000$725,000 for the quarter ended September 30, 2015,March 31, 2016, a decrease of $33,000,$97,000, or 4.4%13.4%.  Dental supplies decreased $42,000 at the 67 Offices open during each full quarter.  This decrease is directly related to the decrease in revenue during the quarter ended September 30, 2016.  Additionally,March 31, 2017.  For the two67 Offices open during each full quarter, there were decreases of $41,000 in general dental supplies, $28,000 in specialty dental supplies and $23,000 in hygiene dental supplies.  The de novo OfficesOffice accounted for an increasea decrease of $8,000 in$5,000 of dental supplies during the quarter ended September 30, 2016.March 31, 2017.  As a percentage of revenue, dental supplies remained constant at 4.8%decreased to 4.0% for the quartersquarter ended September 30, 2016 and 2015.March 31, 2017 compared to 4.4% for the quarter ended March 31, 2016.

 

Laboratory fees. For the quarter ended September 30, 2016,March 31, 2017, laboratory fees increased to $869,000$881,000 compared to $852,000$872,000 for the quarter ended September 30, 2015,March 31, 2016, an increase of $17,000,$10,000, or 2.0%1.1%.  Laboratory fees increased $4,000$7,000 at the 67 Offices open during each full quarter while the twoquarter.  The de novo OfficesOffice accounted for an additional $13,000$3,000 of the increased laboratory fees during the quarter ended September 30, 2016.March 31, 2017.  The increase in laboratory fees is attributable to increases in surgically placed dental implants.  As a percentage of revenue, laboratory fees increased to 5.7%5.6% for the quarter ended September 30, 2016March 31, 2017 compared to 5.4%5.3% for the quarter ended September 30, 2015.March 31, 2016.

 

Occupancy. For the quarter ended September 30, 2016,March 31, 2017, occupancy expense increaseddecreased $17,000, or 1.1%, to $1.6 million compared to $1.5 million for the quarter ended September 30, 2015, an increaseMarch 31, 2016.  Because of $78,000, or 5.1%.  The twohigher expenses in the quarter ended March 31, 2016 related to the opening of the de novo OfficesOffice, the de novo Office accounted for an additional $63,000a decrease of $48,000 of occupancy expense during the quarter ended September 30, 2016, andMarch 31, 2017 while occupancy expense increased $15,000$31,000 at the 67 Offices open during each full quarter.  As a percentage of revenue, occupancy expense increased to 10.5%9.9% for the quarter ended September 30, 2016March 31, 2017 compared to 9.6%9.5% for the quarter ended September 30, 2015.March 31, 2016.

 

Advertising and marketing. For the quarter ended September 30, 2016,March 31, 2017, advertising and marketing expenses decreasedincreased to $176,000$170,000 compared to $327,000$159,000 for the quarter ended September 30, 2015, a decreaseMarch 31, 2016, an increase of $151,000,$11,000, or 46.1%6.9%.  ForAdvertising and marketing expenses increased $18,000 at the 67 Offices open during each full quarter television advertising expenses decreased $115,000, radio advertising expenses decreased $43,000, advertising creative and placement expenses decreased $15,000 and internet advertising expenses increased $30,000.  The twowhile the de novo OfficesOffice accounted for a decrease of $5,000 in$7,000 of advertising and marketing expenses during the quarter ended September 30, 2016.March 31, 2017.  The increase in advertising and marketing expenses is attributable to an increase in internet and social media advertising.  As a percentage of revenue, advertising and marketing expenses decreasedincreased to 1.2%1.1% for the quarter ended September 30, 2016March 31, 2017 compared to 2.1%1.0% for the quarter ended September 30, 2015.March 31, 2016.  The Company regularly adjusts its advertising and marketing expenditures in response to market conditions and performance in individual markets.

 

Depreciation and amortization-Offices.  For the quarter ended September 30, 2016,March 31, 2017, depreciation and amortization expenses attributable to the Offices decreased to $988,000$965,000 compared to $1.1$1.0 million for the quarter ended September 30, 2015,March 31, 2016, a decrease of $73,000,$55,000, or 6.9%5.4%.  DepreciationThere was a decrease of $56,000 in depreciation and amortization expenses decreased $124,000 atattributable to the 67 Offices open during each full quarter whilequarter.  Additionally, the two de novo OfficesOffice accounted for an additional $51,000$1,000 of depreciation and amortization expenses attributable to the Offices during the quarter ended September 30, 2016.March 31, 2017.  As a percentage of revenue, depreciation and amortization expenses attributable to the Offices decreased to 6.5%remained constant at 6.2% for the quarterquarters ended September 30, 2016 compared to 6.7% for the quarter ended September 30, 2015.March 31, 2017 and 2016.

 

General and administrative-Offices.  For the quarter ended September 30, 2016,March 31, 2017, general and administrative expenses attributable to the Offices increased $44,000, or 3.3%,decreased to $1.3 million compared to $1.4 million compared tofor the quarter ended September 30, 2015.March 31, 2016, a decrease of $140,000, or 9.9%.  The increasedecrease in general and administrative expenses is attributable to increasesdecreases of $26,000 in professional fees and $23,000$75,000 in bad debt expense, $24,000 in taxes and $18,000 in equipment repairs and maintenance expenses at the 67 Offices open during each full quarter.  Additionally, the twoThe de novo OfficesOffice accounted for $10,000a decrease of $28,000 of general and administrative expenses during the quarter ended September 30, 2016.March 31, 2017.  As a percentage of revenue, general and administrative expenses attributabledecreased to the Offices increased to 9.2%.8.1% for the quarter ended September 30, 2016March 31, 2017 compared to 8.5% for the quarter ended September 30, 2015.March 31, 2016.

As a result of revenue decreasing $698,000$771,000 and direct expenses decreasing $367,000$692,000 during the quarter ended September 30, 2016,March 31, 2017, contribution from dental Offices decreased $332,000$78,000, or 67.0%9.6%, to $163,000$736,000 for the quarter ended September 30, 2016March 31, 2017 compared to $495,000$814,000 for the quarter ended September 30, 2015.March 31, 2016.  As a percentage of revenue, contribution from dental Offices decreased to 1.1%4.7% for the quarter ended September 30, 2016March 31, 2017 compared to 3.1%5.0% for the quarter ended September 30, 2015.March 31, 2016.

 

Corporate expenses - general and administrative. For the quarter ended September 30, 2016,March 31, 2017, corporate expenses – general and administrative increased to $848,000$959,000 compared to $780,000$877,000 for the quarter ended September 30, 2015,March 31, 2016, an increase of $69,000,$83,000, or 8.8%9.4%.  This increase is primarily attributable to an increase of $56,000$135,000 in professional fees primarily related to matters involving the activist shareholder group and to the boardBoard of directors’Directors’ ongoing evaluation of the Company’s strategic options, as discussed in “Recent Developments” above.above, offset by a decrease of $62,000 in health insurance.    As a percentage of revenue, corporate expenses - general and administrative increased to 5.6%6.1% for the quarter ended September 30, 2016March 31, 2017 compared to 4.9%5.3% for the quarter ended September 30, 2015.March 31, 2016.

 

Corporate expenses - depreciation and amortization. For the quarter ended September 30, 2016,March 31, 2017, corporate expenses - depreciation and amortization decreased to $47,000$46,000 compared to $63,000 for the quarter ended September 30, 2015,March 31, 2016, a decrease of $16,000,$17,000, or 24.8%26.6%.  As a percentage of revenue, corporate expenses – depreciation and amortization decreased to 0.3% for the quarter ended September 30, 2016March 31, 2017 compared to 0.4% for the quarter ended September 30, 2015.March 31, 2016.

 

As a result of the matters discussed above, the Company’s operating loss increased by $385,000$144,000 to $(732,000)$(269,000) for the quarter ended September 30, 2016March 31, 2017 compared to $(347,000)$(125,000) for the quarter ended September 30, 2015.March 31, 2016.  As a percentage of revenue, operating loss increased to (4.8)%(1.7%) for the quarter ended September 30, 2016March 31, 2017 compared to (2.2)%(0.8%) for the quarter ended September 30, 2015.March 31, 2016.

 

For the quarter ended September 30, 2016,March 31, 2017, interest expense, net increased to $70,000$72,000 compared to $24,000$39,000 for the quarter ended September 30, 2015,March 31, 2016, an increase of $46,000,$33,000, or 191.5%84.2%.  This increase is attributable toin interest expense, net was caused by a higher interest ratesrate on the Credit Facility.  As a percentage of revenue, interest expense net increased to 0.5% for the quarter ended September 30, 2016March 31, 2017 compared to 0.2% for the quarter ended September 30, 2015.March 31, 2016.

 

As a result of the above, the Company’s net loss was $(517,000)$(225,000) for the quarter ended September 30, 2016March 31, 2017 compared to net loss of $(227,000)$(100,000) for the quarter ended September 30, 2015,March 31, 2016, an increase of $290,000.$125,000, or 124.1%.  Net loss for the quarter ended September 30,March 31, 2017 was net of income tax benefit of $(117,000), while net loss for the quarter ended March 31, 2016 was net of income tax benefit of $(286,000), while net loss for the quarter ended September 30, 2015 was net of income tax benefit of $(145,000)$(64,000).  The effective tax rate was 35.6% for the quarter ended September 30, 2016 and 39.0%March 31, 2017 was 34.1%, while the effective tax rate for the quarter ended September 30, 2015.March 31, 2016 was 39.0%.  As a percentage of revenue, net loss increased to (3.4)%(1.4%) for the quarter ended September 30, 2016March 31, 2017 compared to (1.4)%(0.6%) for the quarter ended September 30, 2015.March 31, 2016.

 

The Company finances its operations and growth through a combination of cash provided by operating activities and bank credit facilities.  As of September 30, 2016,March 31, 2017, the Company had a working capital deficit of approximately $3.4$5.2 million, an accumulated deficit of $(646,000)$1.4 million and a cash balance of $221,000.$209,000.

 

On March 29, 2016, the Company entered into a new Loan and Security Agreement with Guaranty Bank and Trust Company (“the Bank”), which was subsequently amended, most recently on July 29, 2016 and November 14, 2016March 30, 2017 (as amended, the “Credit Facility”).  The Credit Facility consistsinitially consisted of a $2.0 million revolving line of credit and a $10.0 million reducing revolving loan.  The revolving line of credit matures on March 31, 2018.  As amended by the March 2017 amendment, the revolving line of credit commitment reduces in four $300,000 increments during 2017 through maturity from $2.0 million to $800,000.  The reducing revolving loan matures on March 31, 2021 and requires mandatory reductions of $500,000 per calendar quarter, beginning July 1, 2016.with a further reduction on April 30, 2018 equal to the product of (i) 50% multiplied by (ii) EBITDA for 2017 minus capital expenditures for 2017, interest payments on the Credit Facility paid in 2017, $2.0 million, and cash taxes paid during 2017.  The reducing revolving loan allows the Company to drawdown, repay and re-draw loans advanced to it within the available balance.  Interest varies between LIBOR plus 2.90%3.10% and LIBOR plus 2.25%3.75% depending on the Company’s funded debt-to-EBITDA ratio.  As of September 30, 2016,March 31, 2017, the revolving line of credit rate was 3.42%4.73% and the reducing revolving loan rate was 3.42%4.73%.  There is no commitment fee or origination fee on the Credit Facility.  At September 30, 2016,March 31, 2017, the Company had approximately $1.0$1.3 million of borrowings outstanding under the revolving line of credit and approximately $1.0 million$716,000 available for borrowing under the revolving line of credit.  At September 30, 2016,March 31, 2017, the Company had $9.0$8.0 million of borrowings outstanding under the reducing revolving loan.  The Credit Facility is collateralized by substantially all of the assets of the Company.  TheAs amended by the March 2017 amendment, the Credit Facility requires the Company to complymaintain (i) a funded debt-to-EBITDA ratio of no more than 2.5 to 1.00 for the twelve months ending December 31, 2017 and thereafter, (ii) a fixed charge coverage ratio for the immediately preceding twelve months of not less than 1.25 to 1.00 for the quarter ending December 31, 2017 and each quarter thereafter, and (iii) to generate at least $870,000 of EBITDA in each of the first three quarters of 2017.

As disclosed in “Recent Developments”, the Company decided to discontinue the strategic assessment begun in the second quarter of 2016 and as a result incurred $104,000 in expenses associated with certain affirmativethis strategic assessment in the first quarter of 2017.  When the Credit Facility was amended in March 2017, the Bank agreed to exclude up to $120,000 of such expenses in determining compliance with the Credit Facility EBITDA covenant for each of the first three quarters of 2017.  Therefore, for purposes of determining compliance with the Credit Facility EBITDA covenant in the first quarter of 2017, the Company generated $881,000 in EBITDA and negativewas in compliance with EBITDA covenant as of March 31, 2017.  The Company also was in compliance with the other amended Credit Facility covenants including maintaining (i)as of March 31, 2017.  In addition, capital expenditures may not exceed $180,000 per quarter.  After entering into the Credit Facility in March 2016, dividends and stock repurchases were prohibited under the Credit Facility and, as a result of the March 2017 amendment to the Credit Facility, dividends and stock repurchases currently are not permitted under the Credit Facility.

The March 2017 amendment to the Credit Facility also included a forbearance by the Bank regarding covenant defaults by the Company as of December 31, 2016 with respect to the then-existing funded debt-to-EBITDA ratio of no more than 3.15 to 1.00 for the twelve months endingended December 31, 2016, and 3.00 to 1.00 for the twelve months ending March 31, 2017, declining to 2.10 to 1.00 for the twelve months ending June 30, 2017, 2.00 to 1.00 for the twelve months ending September 30, 2017 and 1.90 to 1.00 thereafter, (ii) net worth of at least $1.0 million (increased by 25% of any net income after taxes of the Company in 2016 and thereafter), and (iii) a fixed charge coverage ratio of not less thanat least 1.35 to 1.00.  In addition, the Company must generate at least $650,000 of EBITDA in1.00 for the quarter endingended December 31, 2016 and EBITDA of at least $1,830,000 of EBITDA$650,000 for the quarter ended December 31, 2016.  The forbearance remains in the six months ending March 31, 2017.  At September 30, 2016,effect provided that the Company wascomplies with the amended Credit Facility covenants.  There can be no assurances that the Bank will not inchange the terms of the Credit Facility or cease to forbear or continue to extend credit to the Company.  Any such actions or failure by the Company to maintain compliance with the Credit Facility covenant that requiredin the future could have a funded debt-to-EBITDA ratio of 2.40 to 1.00 formaterial adverse effect on the annualized period ending September 30, 2016.  The Company obtained a waiver of compliance with such covenant in connection with the November 2016 amendment to the Credit Facility, which also relaxed the funded debt-to-EBITDA ratio covenant for the twelve months ending December 31, 2016 and March 31, 2017 and added the EBITDA covenant described above.  Through the remainder of 2016, dividends are prohibited under the Credit Facility.  Beginning in 2017, dividends are permitted so long as the pro forma fixed charge coverage ratio is greater than 1.20 to 1.00 after giving effect to the dividend.

Net cash provided by operating activities was approximately $1.3 million$854,000 and $2.3 million$14,000 for the nine monthsquarters ended September 30,March 31, 2017 and 2016, and 2015, respectively.  During the nine monthsquarter ended September 30,March 31, 2017, excluding net loss and after adding back non-cash items, the Company’s cash provided by operating activities consisted primarily of increases of approximately $775,000 in accounts payable and accrued expenses, $122,000 in income taxes payable and $24,000 in prepaid expenses and other assets, offset by an increase in accounts receivable of approximately $797,000.  During the quarter ended March 31, 2016, excluding net loss and after adding back non-cash items, the Company’s cash provided by operating activities consisted primarily of increases of approximately $172,000$225,000 in income taxes payable and $87,000 in other long-term obligations, and $84,000 in income taxes payable, offset by an increase in accounts receivable of approximately $942,000,$674,000, a decrease in accounts payable and accrued expenses of approximately $352,000$460,000 and an increase in prepaid expenses and other assets of approximately $203,000.  During the nine months ended September 30, 2015, excluding net loss and after adding back non-cash items, the Company’s cash provided by operating activities consisted of an increase in income taxes payable of approximately $234,000, offset by an increase in accounts receivable of approximately $740,000, a decrease in accounts payable and accrued expenses of approximately $297,000, an increase in prepaid expenses and other assets of approximately $136,000 and a decrease in other long-term obligations of approximately $65,000.$224,000.

 

Net cash used in investing activities was approximately $666,000$148,000 and $1.6 million$239,000 for the nine monthsquarters ended September 30,March 31, 2017 and 2016, and 2015, respectively.  For the nine monthsquarter ended September 30,March 31, 2017, the Company invested approximately $156,000 in capital expenditures, offset by a decrease in a note receivable of $8,000.  For the quarter ended March 31, 2016, the Company invested approximately $685,000$246,000 in capital expenditures, including approximately $62,000$121,000 for a de novo Office that opened during the first quarter of 2016 and $56,000 related to one Office that was converted to digital radiography, offset by a decrease in a note receivable of $19,000.  For the nine months ended September 30, 2015, the Company invested approximately $1.6 million in capital expenditures, including approximately $864,000 for the two de novo Offices that opened in September 2015 and January 2016, offset by a decrease in notes receivable of $21,000 and proceeds from the sale of assets of $5,000.$7,000.

 

Net cash used in financing activities was approximately $687,000 and $660,000$655,000 for the nine monthsquarter ended September 30, 2016March 31, 2017 and 2015, respectively.net cash provided by financing activities was approximately $492,000 for the quarter ended March 31, 2016.  During the nine monthsquarter ended September 30, 2016,March 31, 2017, net cash used in financing activities was comprised of approximately $269,000$655,000 used to pay down the Credit Facility, $409,000 for the payment of dividends and $9,000 used in the purchase and retirement of Common Stock.Facility.  During the nine monthsquarter ended September 30, 2015,March 31, 2016, net cash used inprovided by financing activities was comprised of approximately $1.2 million$910,000  in net advances under the Credit Facility after giving effect to the repayment of the Compass Bank credit facility, offset by approximately $409,000 for the payment of dividends, offset by approximately $564,000 individends.  Partially contributing to the net advances under the new Credit Facility.Facility was a requirement that the Company leave excess cash at Compass Bank to satisfy outstanding checks. 

As of September 30, 2016,March 31, 2017, the Company had the following debt and lease obligations: