United States
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For The Fiscal Year Ended
December 31, 2005
Commission File Number
333-31932
Hythiam, Inc.
(Exact name of registrant as specified in its charter)
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Delaware
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88-0464853
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(State or other jurisdiction of incorporation)
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(I.R.S. Employer Identification Number)
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11150 Santa Monica Boulevard, Suite 1500
Los Angeles, California 90025
(Address of principal executive offices, including zip code)
(310) 444-4300
(Registrants telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, $0.0001 par value
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of
the Securities Act. Yes
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No
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Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or
Section 15(d) of the Act. Yes
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No
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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
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No
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Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is
not contained herein, and will not be contained, to the best of registrants knowledge, in
definitive proxy or information statements incorporated by reference in Part III of the Form 10-K
or any amendment to this Form 10-K.
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Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer,
or a non-accelerated filer. See definition of accelerated filer and large accelerated filer in
Rule 12b-2 of the Exchange Act. (Check one):
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Large accelerated filer
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Accelerated filer
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Non-accelerated filer
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Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the
Exchange Act). Yes
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No
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As of June 30, 2005, the aggregate market value of the common stock held by non-affiliates of
the registrant was approximately $90,777,518 based on the $5.60 closing price on NASDAQ on that
date. This amount excludes the value of 13,966,666 shares of common stock directly or indirectly
held by the registrants affiliates.
As of March 15, 2006 there were 39,575,246 shares of the registrants common stock
outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the registrants proxy statement for its 2006 annual meeting of stockholders to be
held on June 16, 2006, are incorporated by reference into Part III of this report.
1
HYTHIAM, INC.
Form 10-K Annual Report
For The Fiscal Year Ended December 31, 2005
TABLE OF CONTENTS
Forward-Looking Statements
This report contains forward-looking statements that involve risks and uncertainties. Our
actual results may differ materially from those discussed due to factors such as, among others,
limited operating history, difficulty in developing, exploiting and protecting proprietary
technologies, intense competition and substantial regulation in the healthcare industry. Additional
information concerning factors that could cause or contribute to such differences can be found in
the following discussion, as well as in Item 1.A Risk Factors and Item 7. Managements Discussion
and Analysis of Financial Condition and Results of Operations.
ITEM 1. BUSINESS
Overview
We research, develop, license and commercialize innovative physiological
treatment protocols designed for use by healthcare providers to treat individuals diagnosed with
dependencies to alcohol, cocaine and methamphetamine, as well as combinations of these drugs.
Unlike traditional treatment methodologies, our proprietary PROMETA
treatment protocols
include medically supervised treatments designed to address both the neurochemical imbalances in
the brain and some of the nutritional deficits caused or worsened by substance dependence. Changes
in brain chemistry and function play an important role in the physical and behavioral symptoms of
substance dependence, including tolerance, withdrawal symptoms, craving and relapse. PROMETA
represents an innovative approach to managing substance dependence that is designed to address
physiological, nutritional and psychosocial aspects of the disease, and is thereby intended to
offer patients an opportunity to achieve sustained recovery.
We have been unprofitable since our inception and may incur substantial additional operating
losses for at least the next twelve months as we incur expenditures on research and development,
continue to implement commercial operations and allocate significant and increasing resources to
sales, marketing and other activities. Accordingly, our activities to date are not as broad in
depth or scope as the activities we may undertake in the future, and our historical operations and
financial information are not necessarily indicative of the future operating results or financial
condition or ability to operate profitably as a commercial enterprise.
Traditional treatment approaches for substance dependence focus mainly on group therapy,
abstinence, and behavioral modification, while the diseases underlying physiology and pathology is
rarely addressed, resulting in fairly high relapse rates. Currently therapies are beginning to
target brain receptors thought to play a central role in the disease process. We believe that our
PROMETA protocols offer an improvement to traditional treatments
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because
treatments with PROMETA are designed to directly target the pathophysiology induced by
chronic use of alcohol or other drugs. Without specific treatment, the abnormalities in brain
function induced by chronic drug dependence may take months to years of drug abstinence to return
to normal function. We believe the PROMETA protocols offer an advantage to traditional alternatives
because they provide a treatment methodology that is discreet, mildly sedating and that can be
initiated in only two to three days, with a second two-day treatment three weeks later for
addictive stimulants. Our PROMETA protocols also provide for one-month of prescription medication
and nutritional supplements, combined with psychosocial or other recovery-oriented therapy chosen
by the patient in conjunction with their treatment provider. Initial clinical observations suggest
that our protocols may improve cognitive function, reduce withdrawal symptoms, be associated with
higher initial completion rates than conventional treatments, and reduce physical cravings which
can be a major factor in relapse, thus allowing patients to more meaningfully engage in counseling
or other forms of psychosocial therapy. These conclusions were reached during treatment of
approximately 400 patients and may not be confirmed by clinical research studies, may not be
statistically significant, have not been subjected to close scientific scrutiny, and may not be
indicative of the long-term future performance of our protocols.
We believe the short initial treatment period when using our PROMETA protocols is a major
advantage over traditional inpatient treatments and residential treatment programs, which typically
consist of approximately 21 days of combined inpatient detoxification and recovery in a
rehabilitation or residential treatment center. Treatment with PROMETA does not require an
extensive stay at an inpatient facility. Rather, the protocols offer the convenience of a two to
three day treatment (addictive stimulants require a second two day treatment three weeks later) and
can generally be administered on an outpatient basis. This is particularly relevant since
approximately 77% of adults classified with dependence or abuse are employed, and loss of time from
work can be a major deterrent for seeking treatment. Moreover, we believe PROMETA can be used at
various stages of recovery, including initiation of abstinence and during early recovery, and can
complement other forms of alcohol and drug abuse treatments. As such, our protocols offer a
potentially valuable alternative or addition to traditional behavioral or pharmotherapy treatments
that does not require chronic administration of a pharmacotherapy, thus minimizing compliance
issues. Many medications marketed to treat alcohol or drug dependence are not administered until
the patient is already abstinent, require long-term chronic administration and must be taken
several times a day to achieve the desired effect.
We believe that the structure of our business and operations as outlined above will be in
substantial compliance with applicable laws and regulations. However, the healthcare industry is
highly regulated, and the criteria are often vague and subject to change and interpretation by
various federal and state legislatures, courts, and enforcement and regulatory authorities. Our
commercial viability is therefore subject to the legal and regulatory risks outlined in Item 1.A
Risk Factors.
Our Operations
We commenced operations in July 2003 and signed our first licensing agreement in November
2003. Under our licensing agreements, we provide treatment providers access to our PROMETA
protocols and marketing and sales support to attract patient referrals. We receive a fee for the
licensed technology and related services generally on a per patient basis. As of December 31, 2005,
we had entered into licensing agreements with hospitals and healthcare providers for 32 sites
throughout the United States. We intend to enter into agreements with additional hospitals and
other healthcare providers to increase both geographic penetration and the number of patients
treated. As revenues are generally related to the number of patients treated, key indicators of
our financial performance will be the number of facilities and healthcare providers that license
our technology, and the number of patients that are treated by those providers using our PROMETA
protocols. Since July 2003, over 400 patients have completed treatment using our PROMETA protocols
at our licensed sites and in research studies and commercial pilots being conducted to study our
protocols.
In December 2005, our senior vice president, medical affairs and renowned addiction medicine
specialist, David Smith, M.D., opened the PROMETA Center, a new medical practice operating in a
state-of-the-art outpatient facility located in Santa Monica, California, that we built out under a
lease agreement. Under the terms of a full service management agreement with Dr. Smiths
professional corporation, we manage the medical practice in exchange for management and licensing
fees. The practice has a primary focus on offering the PROMETA protocols for dependencies on
alcohol, cocaine and methamphetamines but will also offer medical interventions for other
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substance dependencies, including buprenorphine therapy for the treatment of opiate
dependence. The PROMETA Center is the first location primarily dedicated to the treatment of
alcohol, cocaine or methamphetamine dependence with the PROMETA protocols. The revenues and
expenses of the PROMETA center are included in our consolidated financial statements.
Over the coming year, we will continue to expand our commercial operations, commence
substantial direct to consumer marketing activities, and allocate significant and increasing
resources to sales and marketing. To date, patients treated with the PROMETA protocols have been
primarily self-pay patients. However, in the first quarter 2006, Comprehensive Behavioral Care,
Inc. (CompCare), a leading managed behavioral health care organization, approved PROMETA as
reimbursable and entered into an agreement with us to market the PROMETA protocols to its managed
care network providers. We have also announced several pilot studies with state programs and drug
court systems to study the results of using of the PROMETA protocols in their programs. Significant
positive results from these studies would help in our efforts to gain third-party reimbursement for
providers using our protocols.
We do not currently operate our own healthcare facilities, employ our own treating physicians
or provide medical advice or treatment to patients. The hospitals, licensed healthcare facilities,
and physicians that contract for the use of our technology own their facilities or professional
licenses, and control and are responsible for the clinical activities provided on their premises.
Patients receive medical care in accordance with orders from their attending physicians.
Physicians with license rights to use the PROMETA protocols are responsible for exercising their
independent medical judgment in determining the specific application of our protocols, and the
appropriate course of care for each patient. Following the treatment procedure, local clinics and
healthcare providers specializing in drug abuse treatment administer
and provide continuing care treatment.
Our Market
Substance dependence is a worldwide problem with prevalence rates continuing to rise despite
the efforts by national and local health authorities to curtail its growth. Substance dependence
disorders affect many people and have wide-ranging social consequences. In 2004, an estimated 22.5
million Americans suffered from alcohol or other forms of drug abuse or dependence, according to
the National Survey on Drug Use and Health published by the Substance Abuse and Mental Health
Services Administration (SAMHSA), an agency of the U.S. Department of Health and Human Services.
Furthermore, according to the survey, approximately 12 million Americans age 12 and older, or 5
percent of the population, are reported as having tried methamphetamine, and the percentage of
methamphetamine use characterized as abuse or dependence doubled from 2002 to 2004. Findings from
The Drug and Alcohol Services Information System (DASIS) Report published by SAMHSAs Office of
Applied Studies in September 2004 show that methamphetamine hospital admissions as a percent of
substance abuse treatment admissions increased from 1% in 1992 to 7% in 2002.
It is commonly reported that addiction to methamphetamine is an epidemic rapidly spreading
throughout the U.S.
Methamphetamine addicts are highly resistant to treatment and, even
after intervention, relapse at very high rates. Methamphetamine use is also spreading to the workplace. A study funded by the Wal-Mart
Foundation in 2004 determined that each methamphetamine-using employee costs his or her employer
$47,500 per year in terms of lost productivity, absenteeism, higher healthcare costs and higher
workers compensation costs. For county governments and their taxpayers, methamphetamine abuse
causes legal, medical, environmental and social problems. A study entitled The Criminal Effect of
Meth on Communities conducted in 2005 by the National Association of Counties, which surveyed 500
counties in 45 states, reported that 58% of counties surveyed reported methamphetamine as their
largest drug problem, with 87% reporting increases in arrests involving methamphetamine starting 3
years ago. Cocaine was reported as the number one drug problem in 19% of the counties. There are
currently no generally accepted medical treatments for cocaine or methamphetamine dependence.
Summarizing data from the Office of National Drug Control Policy (ONDCP) and the National
Institute on Alcohol Abuse and Alcoholism (NIAAA), the economic cost of alcohol and drug abuse
exceeds $345 billion annually in the U.S., including $41 billion in healthcare costs and
approximately $245 billion in productivity losses. Despite these staggering figures, it is a
testament to the unmet need in the market that only 17% of those who need treatment actually
receive help. Traditional treatment methods are often not particularly effective, especially when
it comes to those who are dependent on stimulants. Often faith, willpower, and counseling are the
only options available. Compounding the lack of efficacious treatment options is the enormous
stigma of leaving ones life, income, and loved ones for weeks at a time to seek inpatient
treatment.
There are approximately 13,000 facilities reporting to SAMHSA that provide substance abuse
treatment on an inpatient or outpatient basis. Historically, the disease of substance dependence
has been treated primarily through behavioral intervention, with fairly high relapse rates. The
DASIS report states that in 2000 only 54% of those treated for alcoholism and 51% of those treated
for cocaine and other stimulants complete detoxification, and that combined alcohol and cocaine
outpatient treatment completion rates were only 41%. For patients who do complete treatment, the
NIAAA reports relapse rates three months following treatment for alcohol dependence to be 50%.
Relapse rates are higher for those suffering from cocaine dependence as opposed to alcohol. For
the behavioral treatment of cocaine dependence, the Drug Abuse Treatment Outcome Survey reports a
relapse rate of 69% one year
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following outpatient treatment lasting 90 or fewer days and 80% one year following long-term
residential treatment lasting 90 or fewer days.
While pharmacological options for alcohol dependence exist, none has proven to be effective
enough to be generally accepted as a treatment in and of itself. A number of pharmaceutical
companies have introduced or intend to introduce drugs to treat alcohol dependence; however, many
may require chronic or long-term administration and their safety and tolerability profiles and
relapse rates remain to be determined over periods of prolonged administration. In addition,
several of these drugs should not be used until the patient has already achieved abstinence, and
must be administered on a chronic or long-term continuing basis.
Substance Dependence as a Disease
Recent scientific research provides evidence that not only can drugs interfere with normal
brain functioning but can also have long-lasting effects that persist even after the drug is no
longer being used. At some point, changes may occur in the brain that can turn drug and alcohol
abuse into substance dependence, a chronic, relapsing and sometimes fatal disease. Those dependent
on drugs may suffer from compulsive drug craving and usage and be unable stop drug use or remain
drug abstinent without treatment. Professional medical treatment is often necessary to end this
physiologically based compulsive behavior. We believe that the ability to successfully treat the
physiological basis of substance dependence can improve treatment outcome, reduce the cost of
treating dependence, and reduce the cost to society of the adverse consequences of alcohol and drug
abuse by decreasing related criminality and violence and mitigating the costs associated with high
risk behavior.
Methamphetamine
According to a National Institute on Drug Abuse (NIDA) research report Methamphetamine: Abuse
and Addiction (January 2002), the effects of methamphetamine use can include addiction, psychotic
behavior, and brain damage. Methamphetamine is highly addictive and users trying to abstain from
use may suffer withdrawal symptoms that include depression, anxiety, fatigue, paranoia, aggression,
and intense cravings for the drug. Chronic methamphetamine use can cause violent behavior, anxiety,
confusion, and insomnia. Users can also exhibit psychotic behavior including auditory
hallucinations, mood disturbances, delusions, and paranoia, possibly resulting in homicidal or
suicidal thoughts. According to NIDAs report Methamphetamine Linked to Long-Term Damage to Brain
Cells (March 2000), use of methamphetamine can cause damage to the brain that is detectable months
after the use of the drug. The damage to the brain caused by methamphetamine use is similar to
damage caused by Alzheimers disease, stroke, and epilepsy.
Alcohol
According to NIAAA, 44% of all deaths due to liver cirrhosis are alcohol related, with most of
these deaths occurring in people 40 to 65 years old. One study found that 20 to 37% of all
emergency room trauma cases involve alcohol use (Roizen, J., Alcohol and Trauma, 1988). Another
study found that 46% of asymptomatic alcoholic men exhibited evidence of cardiomyopathy (Rubin, E.,
The Effects of Alcoholism on Skeletal and Cardiac Muscle, 1989).
The consequences of alcoholism and alcohol abuse affect most American families. One study
estimated that 20-25% of all injury-related hospital admissions are the result of alcoholism or
alcohol problems (Waller J., Diagnosis of Alcoholism in the Injured Patient, 1988). According to
the National Commission Against Drunk Driving, nearly 600,000 Americans are injured in
alcohol-related traffic crashes each year, resulting in 17,000 fatalities.
Cocaine and Crack Cocaine
Cocaine and crack use place a heavy load upon our criminal justice system. According to a
Bureau of Justice Statistics Bulletin, Prisoners in 2004, published in October 2005, 55% of the
170,000 federal prisoners and 21% of the 1.2 million state prisoners were convicted of drug
offenses. The ONDCP reports that over 30% of all arrestees test positive for cocaine or crack. In
2001, over 17% of all Federal defendants were charged with cocaine/crack drug offenses.
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The consequences of cocaine and crack use extend beyond the criminal justice system. NIDA
reports the medical complications of cocaine use to include heart arrhythmias and heart attacks,
chest pain and respiratory failure, strokes, seizures, and headaches, as well as abdominal pain and
nausea. NIDA also notes that there have been no medications available to treat cocaine dependence.
Our Solution: PROMETA
Those suffering from alcohol and/or drug dependence have often been characterized as having
social disorders or a lack of self-discipline and, as noted above, there are relatively high
relapse rates utilizing conventional treatment methods. While we believe the psychological approach
to substance dependence treatment is important, we recognize that physiological factors of
substance dependence should be addressed first to provide patients with an improved chance for
recovery. We believe our physiological approach, focused on addressing the neurochemical imbalances
in the brain caused or worsened by substance dependence, provides a substantial commercial
opportunity.
Current research indicates that substance dependence is associated with altered cortical
activity and changes in neurotransmitter function, which are critical to brain function. Moreover,
changes in the neurochemistry of the brain underlie the hallmarks of substance dependence,
including tolerance, withdrawal symptoms, craving, decrease in cognitive function and relapse. Our
PROMETA protocols include medically supervised treatments, prescription medications and nutritional
supplements, combined with psychosocial or other recovery-oriented therapy chosen by the patient in
conjunction with their treatment provider.
The PROMETA treatment protocols provide for:
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A comprehensive physical exam, including specific laboratory tests, prior to initiation of
treatment by the treating physician, to determine if the patient is appropriate for the PROMETA
protocol
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Medically supervised administration of prescription medications and nutritional supplements
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One-month of prescription medications and nutritional supplements following the initial treatment
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Individualized continuing care options
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Treatment with PROMETA involves the oral and intravenous administration of pharmaceuticals in
a medically supervised setting. The medications used in the PROMETA treatment protocols have been
approved by the FDA for uses other than treatment of substance dependence. The PROMETA treatment is
discreet and does not require long periods away from home or work. Treatment takes place at a
hospital facility, clinic or properly equipped outpatient setting by healthcare providers who have
licensed the rights to use our PROMETA protocols. The treatment begins with a two-to-three day
course of prescription medications and nutritional supplements. The PROMETA protocol for stimulant
dependence provides for a second, two-day course of treatment at the facility, which takes place
about three weeks after the initial treatment .Some patients may require an additional day of
treatment, subject to the treating physician making this decision during the course of the
treatment. In general, the intravenous treatment session typically lasts about an hour. Some
patients may receive their treatment in a hospital, or in-patient setting. For these patients,
the balance of time spent at the treatment facility or hospital is intended to ensure that the
patient is well-rested and comfortable between the relatively short treatment periods. Most
patients take meals and choose to sleep much of the time between treatments. For the patients
receiving care in an outpatient facility, such as a physicians office or treatment center, their
doctor may monitor them for a few hours following the treatment session. Typically, the patient
would then be released to an accompanying person and return the following day for completion of
their treatment. Following the medically supervised treatments, our protocols provide that patients
receive one month of prescription medication and nutritional supplements, and participation in
psychosocial or other recovery-oriented therapy they select with their physician.
While there may be mild discomfort from inserting and removing the I.V. needle (for
intravenous administration of medications), the PROMETA protocols are designed to ensure that the
patient is as comfortable as
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possible throughout the medically supervised procedures. The PROMETA protocols are designed to
minimize patient sedation. Some of the medications in the treatment regimen may cause temporary
drowsiness.
Based on our limited initial experience with a small number of patients in the U.S., patients
who have been through prior treatment programs report that cravings for alcohol or stimulants are
significantly reduced or eliminated with the PROMETA protocols, and that they emerge from treatment
with greater mental clarity.
We believe PROMETA can offer an advantage to traditional alternatives for several reasons:
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Treatment provided using PROMETA is designed to address a
spectrum of patient needs, including physiological, nutritional
and psychological elements
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The PROMETA treatment protocols are targeted, medically
supervised procedures designed to address the neurochemical
imbalances in the brain caused or worsened by substance
dependence. The rationale for the approach is that by
addressing the underlying physiological aspects of substance
dependence, dependent persons may be better able to address the
behavioral/psychological and environmental components of their
disease
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Treatment using PROMETA does not require long periods away from
home or work. PROMETA offers the convenience of a two to three
day treatment (for addictive stimulants there is a second two
day treatment three weeks later), as compared to traditional
inpatient treatments which typically consist of approximately
21 days of combined inpatient detoxification and recovery in a
rehabilitation or residential treatment center
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Our protocols may be appropriate for use at various stages of
recovery, including initiation of abstinence and during early
recovery, and can complement existing treatments.
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Additionally, we provide proprietary administrative services to assist physicians and
facilities with staff education, marketing and sales support, and outcomes tracking for data
analysis.
Our Strategy
Our business strategy is to provide quality, standard-of-care treatment protocols for those
suffering from alcoholism and other substance dependencies. We intend to grow our business through
increased penetration to new licensees and increased patient volumes.
Key elements of our business strategy include:
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Seeking to expand our base of treatment sites, focusing on major
metropolitan service areas within the U.S.
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Increasing awareness about PROMETA among consumers and
professional audiences through enhanced marketing and sales
initiatives
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Pursuing clinical data to make PROMETA a standard of care for
treatment of alcohol, cocaine, and methamphetamine dependence.
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Establishing initiatives to help gain third-party reimbursement for
providers from private insurers, managed care, state Medicaid
programs and criminal justice systems
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Acquiring or licensing new substance dependence treatment protocols
that may be developed in the future
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Our plan is to apply our technology to an existing industry we view as fragmented with
participants that include healthcare providers such as physicians, psychologists, nurses,
therapists, interventionists, counselors, hospitals, residential treatment centers, outpatient
treatment facilities, and self-help groups. Over time, we expect patients to be referred for
treatment to physicians and treatment centers using our technology and through self-referrals,
patients family members, friends, employers and associated unions, as well as employee assistance
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programs, criminal justice systems, healthcare providers, third party payors, and government
agencies. We believe that the PROMETA protocols can provide a significant improvement to current
treatment methodologies by addressing a spectrum of patient needs, including both physiological and
psychological elements of substance dependence.
Expand Number of Licensees in U.S.
We will focus on expanding our presence in the U.S. private payor market by targeting major
metropolitan service areas with high numbers of substance dependent individuals, and licensing our
protocols and providing our services to healthcare providers in those areas. We intend to add new
licensees in our existing markets where we have established capacity in order to leverage our sales
and marketing efforts on a cost-effective basis. We intend to utilize both local and national
marketing initiatives to raise awareness of the PROMETA approach in order to increase patient
awareness of the treatment protocols. The marketing strategy will initially focus on consumers, by
providing education and information that emphasizes substance dependence as a medically-treatable
disease, highlighting the potential benefits of PROMETA as an innovative, discreet and convenient
medically supervised treatment approach, and encouraging consumers to consult their treatment
providers or to phone our national call center for more information. As data from our research
studies become available, we plan to expand our marketing initiatives to more aggressively educate
the professional community (e.g., physicians, counselors, therapists, payors and other allied
professionals). This staged strategic approach to our marketing efforts takes into account: (i) the
need to increase patient awareness of licensee sites; and (ii) that a more robust data dossier will
be needed to facilitate broader adoption of PROMETA by the professional community.
The PROMETA Center
Under the guidance of Dr. David Smith, the PROMETA Center should result in creating and
expanding awareness of our protocols in the key metropolitan service area of Los Angeles. By
establishing a brand identity around this discreet, high-end medical facility for addiction
treatment, we intend to help lessen the stigma that surrounds those who are afflicted with this
disease. The added advantage that PROMETA is offered on an outpatient basis should encourage busy
professionals to seek treatment. With the addition of this center to our area licensees, we are in
position to begin an aggressive marketing campaign for Los Angeles and the Southern California
region beginning in the first half of 2006. After our campaign gains momentum, the PROMETA Center
and all Southern California licensees should benefit from the heightened visibility, resulting in
increased patient volumes and inquiries from referral sources. Furthermore, any press or media
exposure received by the PROMETA Center will create name recognition for our protocols, thereby
benefiting PROMETA licensees throughout the country. Clinical knowledge of PROMETA gathered by the
physicians of the Center will be available to current and potential licensees allowing third
parties to witness the PROMETA treatment paradigm.
Clinical Data from Research Studies
We believe that a key to our success will be the publication of results from research studies
evaluating the PROMETA protocols conducted by leading research institutions and preeminent
researchers in the field of alcohol and substance abuse. To date, studies that we have announced
include:
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A multi-site, randomized double-blind placebo controlled study of PROMETA for the
treatment of methamphetamine dependence conducted by Dr. Walter Ling of UCLA
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A randomized, double-blinded, placebo controlled study of PROMETA for the initiation,
and extension of abstinence of alcoholism conducted by Dr. Raymond Anton at Medical
University of South Carolina
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An open label study of PROMETA for methamphetamine dependence conducted by Dr. Harold
Urschel
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A controlled study of Hythiams PROMETA protocols in the treatment of alcohol dependence
conducted by Dr. Jeffery Wilkins at Cedars-Sinai Medical Center in Los Angeles
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A pharmacoeconomic study to be conducted by the Parallax Center in New York City to
compare outcomes achieved with the PROMETA protocol for alcohol dependency to the treatment
programs
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current protocol.
We expect the results from Dr. Harold Urschels study will be available in the first half of
2006 and will be significant, since we believe it may provide the first formal third-party
validation of PROMETA. Methamphetamine and cocaine dependence are top priorities at the state and
drug court levels, and because of the similar pathophysiologies of these drugs, a treatment
validated for one should be readily adopted for the other. We believe the results from these
studies will validate PROMETA as a method of care for treating alcoholism and stimulant dependence,
as well as serve to accelerate our growth.
Statewide Agencies (Including Medicaid), Criminal Justice Sectors
We plan to establish treatment using PROMETA as a covered treatment for state and county
agencies in the public and criminal justice sectors in several states in 2006 through leveraging
outcomes data results from the Dr. Urschel methamphetamine study and the results of several
commercial pilot studies that will be conducted in 2006 in these states. We anticipate that the
results of these pilots will serve as a template to rapidly increase adoption of PROMETA through
the public and criminal justice systems of these states and other states throughout the country.
To date, we have announced the following pilot studies:
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A pilot study by the City Court of Gary, Indiana to evaluate our PROMETA protocols
for use in drug courts for participants who are dependent on cocaine or cocaine and
alcohol
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A 30-patient, open label study conducted by Southern University in the state of
Louisiana to test the efficacy of PROMETA for treatment of alcohol and substance
dependent offenders accepted for drug court
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A pilot study, funded by the Idaho Department of Health and Welfare in collaboration
with the criminal justice system as represented by the Idaho Supreme Courts Statewide
Drug Court and Mental Health Court Coordinating Committee, using PROMETA to evaluate
its effectiveness as a medical treatment method for methamphetamine dependency, as well
as its effect on reducing recidivism among criminal offenders
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A commercial pilot conducted by the Department of Social and Health Services and
funded by the Pierce County Alliance in the State of Washington to evaluate the
success of treating methamphetamine dependent participants in the drug court system
using the PROMETA protocols
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Managed Care
We plan to position PROMETA with managed care providers and disease state management programs
in order to become a covered benefit within the next two years. In the first quarter 2006,
CompCare, a leading managed behavioral health care organization, approved PROMETA as reimbursable
and entered into an agreement with us to market the PROMETA protocols to its managed care network
providers. Through this agreement, we will extend awareness of the PROMETA protocols to the
employer groups and third party payors serviced by CompCare, and its strategic marketing partner
will work with CompCare to market PROMETA to additional large employers, government groups and
third party payers that are not current CompCare customers.
The pharmacoeconomic study to be conducted by the Parallax Center in New York City will
compare outcomes achieved with out PROMETA protocol for alcohol dependency to the Parallax
protocol, which is currently reimbursed by several insurers, including the largest membership based
HMO in New York. We believe that validation in this study will lead toward direct reimbursement for
treatment using the PROMETA protocols not only by the Parallax third party payors, but ultimately
by other managed care providers as we intend to leverage these initial results for use as a
template nationwide.
In 2006 we are planning to initiate several commercial pilot studies to demonstrate the
feasibility and effectiveness of PROMETA to additional managed care organizations.
8
International Operations
We intend to begin offering PROMETA at a clinic in Europe in the first half of 2006. We also
plan to begin operating small clinics on a pilot basis in Europe for the treatment of nicotine
or other dependencies in the first half of 2006. We will evaluate the success of these initial programs
before we pursue additional international expansion.
Sales and Marketing
We will focus our direct sales efforts on recruiting new healthcare providers in identified
target markets to expand our number of treatment site customers. Our primary focus will be in
major metropolitan service areas where we have already established a market presence in order to
leverage our site managers, marketing efforts and brand awareness of PROMETA and benefit from
resulting treatment volumes without capacity constraint.
Our marketing strategy is based on developing and promoting a comprehensive treatment approach
that integrates proprietary state-of-the-art treatment protocols, assessment tools, education, and
information about continuing care programs. We will co-promote programs with our licensees through
community outreach initiatives, local sponsorship of professional education programs, public
relations, local advocacy development and direct mail. On a national level, we will promote our
proprietary brands through Internet marketing, advocacy development, targeted advertising, and
public relations.
Our marketing of the PROMETA protocols will be done in two ways:
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Promoting broad awareness
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|
|
Focused target market initiatives
|
Broad awareness will be conducted via our consumer website, press releases,
endorsements, printed media advertising, Internet promotions and local radio, television and print
media coverage. We will support local targeted marketing efforts of the hospitals, healthcare
facilities and other healthcare providers that license our PROMETA protocols. Additional target
market campaigns may be accomplished via local publications, direct mail, seminars, forums,
tradeshows, community outreach and email to generate referral sources and referrals.
Community Relations
As noted above, a cornerstone to our marketing strategy will be to increase awareness among
consumer audiences by providing education and information about substance dependence as a brain
disease, and the PROMETA protocols as an innovative, convenient medically supervised treatment
approach. Working in concert with our licensees, we intend to create or leverage community forums
(e.g., community presentations, health fairs, etc.) that will provide opportunities to engage our
target segments, most notably consumers (i.e., potential patients, their families and friends),
leaders from the local business communities and professional referral sources within the healthcare
community. We also intend to utilize direct mail or other outreach vehicles to offer branded
educational and informational materials to promote a direct and iterative dialogue with consumers
(and, pending data availability, professional constituents).
Our community relations activities may also involve partnering with third-party organizations
on either a local or national level to further increase the penetration of these initiatives
within targeted market segments, as well as provide a potential public relations platform to
enhance the reach of the initiatives. In January 2006, we announced an award to the Gay and
Lesbian Medical Association (GLMA) of an unrestricted educational grant to examine methamphetamine
use in the gay community and related treatment options. The methamphetamine epidemic has been
ravaging the gay community for the last decade. Crystal meth is now directly linked to new HIV
infections as well as an unprecedented resurgence of syphilis and other sexually transmitted
diseases related to unsafe sexual behavior. Our grant will allow GLMA to examine the extent of
methamphetamine use among gay and bisexual men and the most promising options for treating
methamphetamine addiction, and to develop recommendations about how health care providers can get
patients dependent on methamphetamine into treatment.
9
Public Relations
The goal of our public relations program will be primarily to promote awareness and generate
leads from consumers (i.e., potential patients, their families and friends), with a secondary
emphasis on referral sources, healthcare professionals and third-party organizations. This may be
done via press releases, endorsements, and media placement campaigns. The forms of media that will
be targeted for placement will be print media, local radio segments and stories, Internet postings,
local, regional, and national television segments and stories. We believe this form of
awareness/lead generation to be superior to advertising both in terms of quality of awareness and
number of leads generated.
Advertising
We anticipate that advertising will generally be limited to local publications in regional
treatment center areas, specific trade publications for occupations with high substance dependence
rates, healthcare professional publications with subscribers who would be good referral sources and
top Internet search engines.
We plan to test market direct-to-consumer advertising campaigns for the PROMETA Center and our
PROMETA protocols beginning in Los Angeles in the first half of 2006, through the use of
billboards, local radio and major newspapers. If initial results are encouraging, we plan to begin
rolling out an aggressive marketing campaign for the Southern California area and other major
markets.
Target Payor Groups
In developing our marketing plan, we have taken into consideration the following market
dynamics for our efforts:
Traditional Payors
Private Pay
To date, patients treated with the PROMETA protocol have been primarily self-pay
patients. Until February 2006, when a leading managed behavioral health care organization
approved PROMETA as reimbursable for its provider network, our protocols had not been
approved for payment by any health insurance companies or other third-party payors.
According to reports by SAMHSA, of persons aged twelve or older who received any
alcohol or illicit drug treatment, more paid for all or part of their most recent treatment
with their own savings or earnings (or those of family or friends) than any other source
(47.4%). We will continue to focus our efforts on targeted communication to private pay
patients (and their families) emphasizing the convenience and potential benefits of
treatment using the PROMETA protocols. Moreover, as we are aware of no generally accepted
medical treatments for methamphetamine dependence, we will have the opportunity to
communicate the potential benefits of the PROMETA protocol to persons affected by
methamphetamine dependence.
Managed Care, Insurance and other Third-Party Reimbursement
In addition to our goal of the PROMETA protocols becoming a preferred treatment method
for individuals seeking to pay for treatment privately, we believe that third party payors,
including entities from both the government and private sectors, will be important to our
long-term growth. We will conduct business development initiatives to secure the acceptance
and endorsement of treatment using our protocols as appropriate for reimbursement by third
party payors, nationally recognized substance dependence treatment organizations and
governmental organizations.
In order to compete effectively for managed care agreements and receive adequate
reimbursement from payors for treatment using our protocols, clinical evidence must
demonstrate that use of the PROMETA protocols is a beneficial and cost effective treatment
approach. We will, through our clinical
10
and market research activities, gather and disseminate appropriate data to the payor
community that should validate the benefits and cost effectiveness of treatment using the
PROMETA protocols. We believe that studies involving the PROMETA protocols have the
potential to demonstrate cost effectiveness across patient populations.
In December 2005, we announced a pharmacoeconomic study by a preeminent researcher and
executive director of a substance abuse treatment center in New York City to compare
outcomes achieved with the PROMETA protocol for alcohol dependency to the treatment
programs current protocol, which is currently reimbursed by several insurers including the
largest membership based HMO in New York. As standardized treatment outcomes are
significant for the third party payor community, we anticipate that validation in this study
will lead toward direct reimbursement for PROMETA and ultimately, will allow for a solution
that can be replicated across their entire network. If successful, our intent is to leverage
these initial results nationwide for use as a template that other managed care providers can
rapidly integrate into their networks.
In February 2006, we announced that our PROMETA protocols have successfully passed
review by the technology committee of CompCare, and are now approved as reimbursable
treatments. CompCare is a leading provider of behavioral health care services to managed
care organizations, serving Medicaid, Medicare, and commercial payors. CompCare and its
strategic marketing partner will market PROMETA to its existing and new third party payor
clients as an integral component of a new substance abuse and addiction disease management
program.
Other Payor Groups
Criminal Justice Systems
Drug and alcohol offenders impact all divisions of criminal justice including law
enforcement, drug courts, probation, and correctional facilities. According to a Bureau of
Justice Statistics Bulletin, Prisoners in 2004, published in October 2005, approximately
21% of the 1.2 million state and 55% of the 170,000 federal prisoners were convicted of drug
offenses. A significant number of state and federal prisoners receive alcohol treatment
after admission into prison, or after incarceration during the re-entry period while under
community supervision. The ONDCP estimates that more than 40% of the sentenced federal
inmate population will have a diagnosable substance disorder which requires some type of
drug abuse treatment program. We believe that state and federal prison systems are in need
of a more beneficial and convenient treatment alternative and we intend to solicit major
prison systems to utilize our protocols. More importantly, we will seek to work with state
and federal criminal justice systems to intervene prior to incarceration with a goal of
reducing the number of drug offenders admitted into prison.
Drug courts first came to prominence in 1989 as a means to deal with the growing number
of alleged offenders involved with substance abuse. According to the National Drug Court
Institute there were over 1,600 drug courts in 2004 located in all 50 states. Drug courts
generally encourage the user to seek treatment in lieu of incarceration. We will seek to
engage and educate all parties (judges, attorneys, physicians, counselors) that influence
the selection of the drug treatment facility.
As discussed above, we have announced commercial pilots with the states of
Louisiana, Indiana, Idaho and Washington in to evaluate the effectiveness of our PROMETA
protocols as a medical treatment method for methamphetamine dependency, cocaine or cocaine
and alcohol, as well as its effect on reducing recidivism among criminal offenders.
If these and other state government and criminal justice system studies that we plan to
initiate over the coming year are successful in validating PROMETA as an effective treatment
approach, our intent is to leverage these initial results by marketing the outcomes from
these studies to other state agencies and criminal justice systems throughout the country.
11
Initial Data
The PROMETA treatment protocols have been in use since 2002 at The Little Company of Mary San
Pedro Hospital. Retrospective data collected on 53 alcohol and stimulant dependent patients treated
with PROMETA from November 2002 through December 2004 suggest promising results in terms of
treatment completion rates, abstinence rates and reduction of cravings based on patient follow-up
ranging from three to twelve months post-treatment.
The outcome results are summarized below for 34 alcohol patients and 19 stimulant patients, of
whom approximately 70% had unsuccessfully undergone prior treatment, who were followed for 90 days
and 180 days post treatment:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Days post treatment
|
|
Alcohol
|
|
90
|
|
|
|
|
|
|
180
|
|
|
|
|
|
Continuous Abstinence
|
|
|
20
|
|
|
|
59
|
%
|
|
|
18
|
|
|
|
53
|
%
|
Use with No Problems*
|
|
|
5
|
|
|
|
15
|
%
|
|
|
6
|
|
|
|
18
|
%
|
Relapsed
|
|
|
8
|
|
|
|
23
|
%
|
|
|
9
|
|
|
|
26
|
%
|
Unknown
|
|
|
1
|
|
|
|
3
|
%
|
|
|
1
|
|
|
|
3
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Patients
|
|
|
34
|
|
|
|
100
|
%
|
|
|
34
|
|
|
|
100
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Stimulants (Cocaine and
|
|
Days post treatment
|
|
Methamphetamine)
|
|
90
|
|
|
|
|
|
|
180
|
|
|
|
|
|
Continuous Abstinence
|
|
|
11
|
|
|
|
58
|
%
|
|
|
10
|
|
|
|
53
|
%
|
Use with No Problems*
|
|
|
1
|
|
|
|
5
|
%
|
|
|
1
|
|
|
|
5
|
%
|
Relapsed
|
|
|
6
|
|
|
|
32
|
%
|
|
|
7
|
|
|
|
37
|
%
|
Unknown
|
|
|
1
|
|
|
|
5
|
%
|
|
|
1
|
|
|
|
5
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Patients
|
|
|
19
|
|
|
|
100
|
%
|
|
|
19
|
|
|
|
100
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
*
|
|
Patients reporting use of the substance at least once post
treatment, but not returning to harmful or compulsive use.
|
Following treatment, patient self-reports include elimination of cravings and increased mental
clarity and focus (cognitive function). Further, patients were asked to rate their quality of life
before and after treatment, most of whom reported both immediate and sustained post-treatment
improvement in sleep, appetite, mood, concentration, memory, work, relationships and stress.
The outcomes shown above are for patients treated with the current PROMETA protocols in one
treatment center. Outcome information was obtained by follow-up phone interview by the clinical
site manager. The limited initial results of the retrospective evaluation were not obtained in a
formal research study, may not provide a sufficient sample size to draw any conclusions regarding
effectiveness, and may not be indicative of the long-term future performance of our protocols. In
addition, patients statuses may change after longer periods of post-treatment follow-up,
negatively affecting the overall results of the treatment outcomes that were collected during the
post treatment period.
We have awarded and are in the process of awarding additional unrestricted grants for research
studies in special populations and controlled studies to evaluate the use of the PROMETA protocols.
Formal research, further studies, independent research reports or reviews may qualify or contradict
the limited results that we have observed.
Research and Development
We have announced a number of clinical studies by preeminent researchers in the field of
substance dependence to evaluate the use of PROMETA in treating alcohol and stimulant dependence.
We anticipate that these studies will be the basis for publication in scientific journals. We
expect initial data from the first methamphetamine study to be made available in the first half of
2006. In addition, we have contracted with a contract research
12
organization (CRO) to establish a clinical outcomes registry for the monitoring and evaluation
of up to 750 patients undergoing treatment using PROMETA at our commercial licensee sites. We have
also announced several pilot studies with state programs and drug court systems to study the
results of using the PROMETA protocols in their programs. Significant positive results would help
in our efforts to gain third-party reimbursement for providers using our protocols. Patients
treated to date with PROMETA have been substantially self-pay patients. We believe that favorable
clinical data in combination with third-party reimbursement would help accelerate broader adoption
of PROMETA.
We intend to continually enhance our substance dependence treatment technology and products as
well as research and develop new products to maintain technological competitiveness and deliver
increasing value to new and existing customers. We also intend to continue to expand our target
markets by acquiring or licensing treatment methods for other substance dependencies as new
technology is developed and becomes available.
Competition
Conventional
forms of treatment for alcohol dependence are usually divided into phases:
detoxification or withdrawal, which is typically conducted in medically supervised environments;
and relapse prevention, which is often conducted through short- or long-term therapeutic facilities
or programs, most of which do not offer medical management options. Typically such medically
managed programs require long-term usage of pharmaceuticals, resulting in low patient compliance.
Conventional forms of treatment for stimulant dependence consist only
of relapse prevention, which is conducted through therapeutic
programs, which do not offer medical management options. Regardless of the approach, there is great variability in the duration of treatment procedures,
level of medical supervision, cost to the patients and relapse rates.
Currently accepted practice for withdrawing patients from a dependence on alcohol consists of
heavily sedating the patient at an inpatient hospital facility for a period of 3 to 5 days. Due to
the heavy sedation, the patient typically is stabilized for an additional 5 to 7 days. This
procedure, while medically necessary to prevent medically severe withdrawal seizures or delirium
tremens when withdrawing alcoholics from alcohol, does not relieve the patients cravings or desire
to drink. Further, the drugs typically used during this procedure (the most commonly utilized
medications are Valium
®
(diazepam), Ativan
®
(lorazepam), and
Xanax
®
(alprazolam)) can be addictive, require a time-intensive dose tapering and
washout period and may cause side effects.
While withdrawal from cocaine dependence is not considered to involve a significant risk of
death, withdrawal symptoms from current detoxification procedures are unpleasant. Following an
extended period of dependence, cocaine addicts generally are unable to experience the feeling of
pleasure during and following detoxification as a result of the effects of cocaine on the brain.
Detoxification procedures typically involve the use of sedatives to assist patients through this
difficult period. Following treatment, cue induced cravings, however, are especially pronounced and
may re-occur for months to years.
Treatment Programs
There are approximately 13,000 facilities reporting to the Substance Abuse and Mental Health
Services Administration (SAMSHA) that provide substance dependence medical treatment services on an
inpatient or outpatient basis. Well-known examples of residential treatment programs include the
Betty Ford Center, Caron Foundation, Hazelden and Sierra Tucson. In addition, individual physicians
may provide substance dependence treatment in the course of their practices.
There appears to be no reliable information about the success rates of these programs, nor
agreed upon standards of how outcomes should be measured (e.g., self-reported abstinence or
reduction in days of heavy drinking).
Many of these traditional treatment programs have established name recognition and their
treatments may be covered in large part by insurance or other third party payors. To date,
treatments using our protocols have generally not been covered by insurance, and patients treated
with the PROMETA protocols have been substantially self-pay patients, currently our primary market
for the PROMETA protocol. However, in February 2006, a leading managed behavioral health care
organization approved PROMETA as reimbursable, and entered into an agreement with us to market the
PROMETA protocols to its managed care network providers.
13
Treatment Medications
There are currently no accepted medical treatments for methamphetamine dependence.
Anti-depressants and dopamine agonists have been investigated as possible maintenance therapies,
but none have been FDA approved or are generally accepted for medical practice.
There are a number of companies developing or marketing medications for reducing craving in
the treatment of alcoholism. These include:
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|
The addiction medication naltrexone, an opiate receptor antagonist, is
marketed by a number of generic pharmaceutical companies as well as
under the trade name ReVia
®
by Bristol Myers Squib, for
treatment of alcohol dependence. However, naltrexone must be
administered on a chronic or continuing basis and is associated with
relatively high rates of side effects, including nausea. U.S. sales
are estimated to be just under $25 million per year for this
treatment.
|
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|
|
Alkermes is developing a long-acting injectable form of naltrexone,
VIVITROL, intended to be administered by a physician via monthly
injections. The company reported results from a phase III clinical
study indicated that in the overall study population, patients treated
with VIVITROL 380 mg experienced approximately a 25% reduction in the
rate of heavy drinking relative to placebo. Alkermes, in partnership
with Cephalon, reports it intends to launch VIVITROL in the second
quarter of 2006, pending final FDA approval.
|
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|
|
Forest Laboratories holds the license in the U.S. to market
Campral
®
Delayed-Release Tablets (acamprosate calcium),
approved by the FDA in 2004. Acamprosate is an NMDA receptor
antagonist. The product must be taken two to three times per day on a
chronic or long-term basis. Clinical studies supported the
effectiveness in the maintenance of abstinence for alcohol-dependent
patients who had undergone inpatient detoxification and were already
abstinent from alcohol, but the product was not effective for patients
who had not undergone detoxification and who were not abstinent prior
to treatment.
|
Several classes of pharmaceutical agents have been investigated as potential maintenance
agents (e.g.,anti-depressants and dopamine agonists) for cocaine dependence; however, none are FDA
approved for treatment of cocaine dependence or generally accepted in medical practice. Their
effects are variable in terms of providing symptomatic relief, and many of the agents may cause
side effects or may not be well tolerated by patients.
As noted above, we believe the PROMETA protocols can be used at various stages of recovery,
including initiation of abstinence and during early recovery, and can complement other existing
treatments. As such, our protocols offer a potentially valuable addition to traditional medical
treatment. Moreover, because treatment with the PROMETA protocols is designed to target
neurochemical imbalances in the brain over a short course of treatment, we do not view the current
medical therapies as directly competitive. We believe that the total cost of providing treatment
using the PROMETA protocols falls within the typical range of prices for conventional treatment
programs. We also believe, based on the limited initial results discussed below, that treatment
using our protocols may have higher completion rates, greater compliance, reduction or elimination
of withdrawal symptoms, reduction or elimination of cravings, improved cognitive functioning and
potentially lower relapse rates.
Development of Our Technology
Much of our proprietary, patented and patent pending substance dependence technology, known as
the PROMETA treatment protocols, was developed by Dr. Juan José Legarda, a European scientist
educated at University of London who has spent most of his professional career conducting research
related to substance abuse. Through his studies and research, Dr. Legarda identified some of the
adverse physical effects of substance abuse on the brain and began to develop technologies that
specifically focused on the neurochemistry of the brain as a core part of addictive behavior
modification. In 2002, Dr. Legarda filed Patent Cooperation Treaty (PCT) applications in Spain for
treatment protocols that he developed for dependencies to alcohol and cocaine. We acquired the
rights to these patent filings in March 2003 through a technology purchase and license agreement
with Dr. Legardas company, Tratamientos Avanzados de la Adiccion S.L., to which we pay a royalty
of three percent of the amount the
14
patient pays for treatment using our protocols. After acquiring these rights, we filed U.S.
patent applications and other national phase patent applications based on the PCT filings, as well
as provisional U.S. patent applications for additional treatment protocols for alcohol, cocaine and
other addictive stimulants. If any of these patents are issued, they will expire 20 years from the
dates of original filing.
Proprietary Rights and Licensing
Our success depends upon a number of factors, including our ability to protect our proprietary
technology and operate without infringing on the proprietary rights of others. We rely on a
combination of patent, trademark, trade secret and copyright laws and contractual restrictions to
protect the proprietary aspects of our technology. To help ensure compliance with our license/joint
venture agreements, we employ site managers in each of our major markets. We have the following
branded trade names:
|
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Hythiam
®
|
|
|
|
|
PROMETA
|
|
|
|
|
PROMETA Protocol
|
|
|
|
|
PROMETA Protocols
|
|
|
|
|
PROMETA Treatment Protocol
|
|
|
|
|
PROMETA Treatment Protocols
|
|
|
|
|
PROMETA Center
|
|
|
|
|
PROMETA Centers
|
|
|
|
|
PROMETA Treatment
|
|
|
|
|
PROMETA Treatments
|
We impose restrictions in our protocol license agreements on our customers rights to utilize
and disclose our technology. We also seek to protect our intellectual property by generally
requiring employees and consultants with access to our proprietary information to execute
confidentiality agreements and by restricting access to our proprietary information. We require
that, as a condition of their employment, employees assign to us their interests in inventions,
original works of authorship, copyrights and similar intellectual property rights conceived or
developed by them during their employment with us.
Financial Information about Segments
We currently operate in one reportable segment. Substantially all of our services are provided
within the United States, and substantially all of our assets are located within the United States.
Employees
As of December 31, 2005, we employed approximately 90 persons. We anticipate hiring additional
employees over the next year to meet our growth expectations.
Our Offices
We are incorporated under the laws of the State of Delaware. Our principal executive offices
are located at 11150 Santa Monica Boulevard, Suite 1500, Los Angeles, California 90025, and our
telephone number is (310) 444-4300.
15
Executive Officers and Directors
The following table sets forth certain information regarding our directors and executive
officers.
|
|
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|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Director
|
|
Name
|
|
Age
|
|
|
Position
|
|
Since
|
|
|
Terren S. Peizer
|
|
|
46
|
|
|
Director, Chairman of the Board and Chief Executive Officer
|
|
|
2003
|
|
Richard A. Anderson
|
|
|
36
|
|
|
Director, Chief Administrative Officer
|
|
|
2003
|
|
Anthony M. LaMacchia
|
|
|
52
|
|
|
Director, Chief Operating Officer
|
|
|
2003
|
|
Chuck Timpe
|
|
|
59
|
|
|
Chief Financial Officer
|
|
|
|
|
Monica Alfaro Welling
|
|
|
45
|
|
|
Senior Vice President Marketing
|
|
|
|
|
David E. Smith, M.D.
|
|
|
67
|
|
|
Senior Vice President Medical Affairs
|
|
|
|
|
Sanjay Sabnani
|
|
|
33
|
|
|
Senior Vice President Strategic Development
|
|
|
|
|
Donald R. Wesson, M.D.
|
|
|
64
|
|
|
Senior Vice President Scientific Affairs
|
|
|
|
|
Leslie F. Bell, Esq.
|
|
|
65
|
|
|
Director, Chair of Audit Committee,
Member of Compensation Committee
|
|
|
2003
|
|
Hervé de Kergrohen, M.D.
|
|
|
48
|
|
|
Director, Chair of Nominations and
Governance Committee, Member of Audit Committee
|
|
|
2003
|
|
Ivan M. Lieberburg, Ph.D.,
M.D.
|
|
|
56
|
|
|
Director, Chair of Compensation Committee
|
|
|
2003
|
|
Marc G. Cummins
|
|
|
46
|
|
|
Director, Member of Audit
Committee, Nominations and Governance Committee
|
|
|
2004
|
|
Andrea Grubb Barthwell, M.D.
|
|
|
51
|
|
|
Director
|
|
|
2005
|
|
Terren S. Peizer
served until October 2003 as Chief Executive Officer of Clearant, Inc., which
he founded in April 1999 to develop and commercialize a universal pathogen inactivation technology.
He served as Chairman of its board of directors from April 1999 to October 2004 and a Director
until February 2005. From February 1997 to February 1999, Mr. Peizer served as President and Vice
Chairman of Hollis-Eden Pharmaceuticals, Inc., a NasdaqNM listed company. In addition, from June
1999 through May 2003 he was a Director, and from June 1999 through December 2000 he was Chairman
of the Board, of supercomputer designer and builder Cray Inc., a NasdaqNM company, and remains its
largest beneficial stockholder. Mr. Peizer has been the largest beneficial stockholder and held
various senior executive positions with several technology and biotech companies. In these
capacities he has assisted the companies with assembling management teams, boards of directors and
scientific advisory boards, formulating business and financial strategies, investor and public
relations, and capital formation. Mr. Peizer has a background in venture capital, investing,
mergers and acquisitions, corporate finance, and previously held senior executive positions with
the investment banking firms Goldman Sachs, First Boston and Drexel Burnham Lambert. He received
his B.S.E. in Finance from The Wharton School of Finance and Commerce.
Richard A. Anderson
has more than a decade of experience in business development, strategic
planning and financial management. He was the Chief Financial Officer of Clearant, Inc. from
November 1999 until becoming our Chief Administrative Officer in March 2005, and served as a
Director from November 1999 to March 2006. He served as Chief Financial Officer of Intellect
Capital Group from October 1999 through December 2001. From February through September 1999, he was
an independent financial consultant. From August 1991 to January 1999, Mr. Anderson was with
PriceWaterhouseCoopers, LLP, most recently a Director and founding member of PriceWaterhouseCoopers
Los Angeles Office Transaction Support Group, where he was involved in operational and financial
due diligence, valuations and structuring for high technology companies. He received a B.A. in
Business Economics from University of California, Santa Barbara.
Anthony M. LaMacchia
is a senior healthcare executive who, prior to joining the company in
July 2003, was the Business Development Principal of GME Solutions, a healthcare financial
consulting company providing Medicare graduate medical education and kidney acquisition cost
recovery services, since October 2002. From November 1999 to April 2002, he was President & Chief
Executive Officer of Response Oncology, Inc., a diversified physician practice management company.
He was recruited to this financially distressed company to direct a high-risk turnaround, and when
continued market declines and debt covenant breaches compelled a bankruptcy filing, directed the
company through all phases of the chapter 11 process, the sale of all assets and the closure of its
facilities. In June 1999, Mr. LaMacchia left Salick Health Care, Inc., which developed and operated
outpatient cancer and kidney treatment centers and a clinical research organization engaging in
pharmaceutical and
16
clinical treatment trials, as Executive Vice President & Chief Operating Officer, having started
with the company as Director of Strategic Planning & Reimbursement in 1984. Previously, Mr.
LaMacchia held positions of increasing responsibility with Blue Cross of California, Ernst & Young
and Cedars-Sinai Medical Center. He is a Certified Public Accountant who received his B.S. in
Business Administration, Accounting from California State University, Northridge.
Chuck Timpe
is a senior healthcare financial executive with over 35 years experience in the
healthcare industry. Since March 1998 he has served as a Director and since June 2002 as Chairman
of the Audit Committee for IPC-The Hospitalist Company, a $100 million physician specialty practice
business. Prior to joining the company in June 2003, Mr. Timpe was Chief Financial Officer from its
inception in February 1998 of Protocare, Inc., a clinical research and pharmaceutical outsourcing
company which merged with Radiant Research, Inc. in March 2003, creating one of the countrys
largest clinical research site management organizations. Previously, he was a principal in private
healthcare management consulting firms he co-founded, Chief Financial Officer of National Pain
Institute, Treasurer and Corporate Controller for American Medical International (now Tenet
Healthcare Corp., an NYSE company), and a member of Arthur Andersen LLPs healthcare practice,
specializing in public company and hospital system audits. Mr. Timpe received his B.S. from
University of Missouri, School of Business and Public Administration, and is a Certified Public
Accountant.
Monica Alfaro Welling
has over 15 years of experience in all areas of U.S. and global
marketing, sales and new product planning within endocrinology, nephrology, osteoporosis, CNS,
gastroenterology, and genitourology. Prior to joining the company in March 2004, she was Senior
Director Global Strategic Marketing for BOTOX for Allergan, Inc., where she directed market
development, product development, and strategic planning for a brand with annual sales exceeding
$360 million. Prior to joining Allergan, from August 1989 to February 2000, Ms. Welling held
various positions at Novo Nordisk A/S in Denmark, most recently as Head of International hGH
Strategic Marketing. As the head of marketing, new business development and new product marketing
for all growth hormone related products/devices and therapeutic areas, she was responsible for
brands with annual global sales of $260 million. She received a B.S. in Biology from University of
California, Irvine and an M.B.A. in International Marketing from South Danish University.
David E. Smith, M.D.
has more than thirty-five years of experience in the treatment of
addictive disease, the psychopharmacology of drugs, and research strategies in the management of
drug abuse problems. Until March 2006, Dr. Smith served as President and Medical Director of Haight Ashbury Free Clinics,
Inc. which he founded in 1967, and has been Medical Consultant, Professional Recovery Program at
The Betty Ford Center since 1994, and Medical Director of the California State Alcohol and Drug
Programs and of the California Collaborative Center for Substance Abuse Policy Research since 1998.
He has held consultancies and other positions at numerous professional organizations, including
Doping Control Officer for the Winter Olympics in February 2002. Dr. Smith has authored over 300
scientific articles and has been named to a number of honors, including a Drug Abuse Treatment
Award, National Association, State Alcohol and Drug Abuse Coordinators in 1984, Career Achievement
Award, National Association of State Alcohol and Drug Abuse Directors in 1994, and Best Doctors in
America, Pacific Region in 1996-97. He is a member of the Editorial Boards of numerous professional
publications, has been Editor-in-Chief of AlcoholMD.com, a medical education and information
website focusing on alcohol problems and alcoholism, since January 2000, and is Executive Editor of
the Journal of Psychoactive Drugs which he founded in 1967. He was granted Fellow status by the
American Society of Addiction Medicine (A.S.A.M.) in 1996, is past President of A.S.A.M. and the
California Society of Addiction Medicine, and was named to the Council of Fellows of the California
Association of Alcoholism and Drug Abuse Counselors in 1998. Dr. Smith received a B.S. in Zoology
from University of California, Berkley and an M.S. in Pharmacology and his M.D. from University of
California, San Francisco, where he has been an Associate Clinical Professor of Clinical Toxicology
since 1967.
Sanjay Sabnani
prior to joining the company in April 2004 was acting Director of Business
Development and Strategy at OSI Systems, Inc., where he was part of a senior team that delivered
tremendous growth in revenues and market capitalization. Prior to joining OSI Systems, from May
1999 to December 2000, Mr. Sabnani was President and Director at Venture Catalyst, Inc., where he
spearheaded the Companys venture capital division, as well as managed the Companys web services
business. Mr. Sabnani has authored or co-authored numerous articles and served as an expert speaker
on topics as diverse as mergers and acquisitions, homeland security, entrepreneurship, and internet
strategy. He received his B.A. in English from University of California, Los Angeles.
17
Donald R. Wesson, M.D.
is a psychiatrist with more than 35 years of experience in private
practice and drug development focused upon medications for treating central nervous system
disorders. Prior to joining the company in November 2004, he was in private practice. He has been
the principal investigator for more than 20 clinical trials sponsored by the National Institute on
Drug Abuse or pharmaceutical companies. From 1998 to 2002 Dr. Wesson was with Drug Abuse Sciences,
Inc., where his most recent position was Senior Vice President of Scientific Affairs. He has
authored or co-authored more than 100 articles, and many books and book chapters. Dr. Wesson is the
medical advisor to the California Health Care Professionals Diversion Program, a member of the
Executive Council of the California Society of Addiction Medicine, a member of the Research
Advisory Panel of California, Editor of the California Society of Addiction Medicine News, a member
of the Advisory Board of Journal of Psychoactive Drugs, and of the editorial board of Journal of
Addictive Diseases. Dr. Wesson received a B.S. degree in chemistry from the University of Alabama
and his M.D. from Medical College of Alabama.
Leslie F. Bell
has more than 35 years of experience in business and the practice of corporate
and healthcare law. He is a director and senior executive of Salick Cardiovascular Centers LLC.
From late 1997 until 2004 he was a Director and Senior Executive of Bentley Health Care, Inc. and
certain of its subsidiaries, each of which was a developer and provider of disease-state
outpatient, health care facilities and services. Mr. Bell was Co-Chairman and Co-Chief Executive
Officer of Tractus Medical, Inc., a provider of patented relocatable ambulatory surgical
center/operating rooms, which he co-founded in January 2002 until its sale in October 2004. From
its inception in 1983 through several public offerings and until its sale completed in 1997 for a
total of approximately $480 million, he served as a Director, Executive Vice President and Chief
Financial Officer and from 1996 to 1997 was President of Salick Health Care, Inc. Mr. Bell has also
served as a Director of YES Clothing Co. from 1990 to 1995. He was previously a Deputy Attorney
General of the State of California, and managing partner of the law firm Katz, Hoyt & Bell. Mr.
Bell attended the University of Illinois, received a J.D. (with honors) from University of Arizona
College of Law, and is a member of the University of Arizona College of Law Board of Visitors and
Deans Economic Council. Mr. Bell is licensed to practice law and is the sole director and
President of Leslie F. Bell, Inc., a professional law corporation. He is also a director of various
tax-exempt organizations principally formed to support research and education for specified health
problems.
Hervé de Kergrohen, M.D.
since August 2002 has been a Partner with CDC Enterprises Innovation
in Paris, a European venture capital firm, and since January 2001 has been Chairman of BioData, an
international healthcare conference in Geneva. He sits on several boards with U.S. and European
private health care companies, including Kuros BioSurgery and Bioring SA in Switzerland since
January 2003, Praxim SA and Exonhit in France since September 2002, and Clearant, Inc. since
December 2001. From February 1999 to December 2001 he was Head Analyst for Darier Hentsch & Co.,
then the third largest Geneva private bank and manager of its CHF 700 million health care fund.
From February 1997 to February 1998 he was the Head Strategist for the international health care
sector with UBS AGin Zurich. Dr. de Kergrohen started his involvement with financial institutions
in 1995 with Bellevue Asset Management in Zug, Switzerland, the fund manager of BB Biotech and BB
Medtech, where he covered the healthcare services sector. He was previously Marketing Director with
large U.S. pharmaceutical companies such as Sandoz USA and G.D. Searle, specialized in managed
care. Dr. de Kergrohen received his M.D. from Université Louis Pasteur, Strasbourg, and holds an
M.B.A. from Insead, Fontainebleau.
Ivan M. Lieberburg, Ph.D., M.D.
is currently Executive Vice President, Chief Medical Officer
at Elan Company, plc, a worldwide biopharmaceutical company listed on the NYSE, where he has held a
number of positions over the last 18 years, most recently Senior Vice President of Research. Dr.
Lieberburg is a director of Neuromolecular Pharmaceuticals, and he sits on the scientific advisory
boards of Health Care Ventures, Flagship Ventures, NewcoGen, Neuromolecular, CovX, and the Keystone
Symposium. Prior to joining Elan in 1987, he performed his postdoctoral research at The Rockefeller
University and his medical residency and postdoctoral fellowship at University of California, San
Francisco, where he is presently a Clinical Professor of Medicine. He previously held faculty
positions at Albert Einstein School of Medicine and Mt. Sinai School of Medicine. Dr. Lieberburg
has authored over 100 scientific publications, and has been named to a number of honors including
Rockefeller University Fellow, Public Health Corps Scholar, National Research Service Award,
Hartford Foundation Scholar and McKnight Foundation Fellow in Neuroscience. He is board certified
in internal medicine
and endocrinology/metabolism. Dr. Lieberburg received an A.B. in biology from Cornell University, a
Ph.D. in Neurobiology from The Rockefeller University and an M.D. from University of Miami School
of Medicine.
18
Marc G. Cummins
is a Managing Partner of
Prime Capital, LLC, a private investment firm focused on consumer
companies. Prior to founding Prime Capital, Mr. Cummins was managing
partner of Catterton Partners, a private equity investor in
consumer products and service companies with over $1 billion of assets under management. Prior to
joining Catterton in 1998, Mr. Cummins spent fourteen years at Donaldson, Lufkin & Jenrette
Securities Corporation where he was Managing Director of the Consumer Products and Specialty
Distribution Group, and was also involved in leveraged buyouts, private equity and high yield
financings.
Mr. Cummins received a B.A. in
Economics, magna cum laude, from Middlebury College, where he was honored as a Middlebury College
Scholar and is a member of Phi Beta Kappa. He also received an M.B.A. in Finance with honors from
The Wharton School at University of Pennsylvania.
Andrea Grubb Barthwell, M.D.
has served as the founder and Chief Executive Officer of the
global health care and policy-consulting firm EMGlobal LLC since February 2005. From January 2002
through July 2004, she served as Deputy Director for Demand Reduction in the Office of National
Drug Control Policy with the title of Deputy Drug Czar, was a principal advisor in the Executive
Office of the President on policies aimed at reducing the demand for illicit drugs, and was an
active member of the White House Task Force on Disadvantaged Youth and the White House Domestic
Violence Working Group, working closely with the National Institute on Drug Abuse to define the
scope of its Health Services Research portfolio. From June 2000 through January 2002, Dr. Barthwell
served as Executive Vice President and Chief Clinical Officer of Human Resources Development
Institute drug treatment center, where she served as Deputy Executive Director and Medical Director
from 1985 through 1987. From 1999 through January 2002, she served as President and CEO of BRASS
Foundation drug treatment center, where she was Medical Director since 1995. From 1996 through
January 2002, Dr. Barthwell served as President of Encounter Medical Group (an affiliate of
EMGlobal). From 1987 through 1996 she served as Medical Director of Interventions. in Chicago,
Illinois. She was a founding member of the Chicago Area AIDS Task Force, hosted a weekly local
cable show on AIDS, and is a past president of the American Society of Addiction Medicine. In 2003,
Dr. Barthwell received the Betty Ford Award, given by the Association for Medical Education and
Research in Substance Abuse. In 1997, Dr. Barthwells peers named her one of the Best Doctors in
America in addiction medicine. Dr. Barthwell received a B.A. in Psychology from Wesleyan
University, an M.D. from University of Michigan Medical School, and post-graduate training at
University of Chicago and Northwestern University Medical Center.
Organization of Company
Hythiam, Inc. was formed and incorporated in New York on February 13, 2003, by Reserva, LLC, a
non operating company wholly owned by the companys chief executive officer. The registrant, which
was formerly known as Alaska Freightways, Inc. (Alaska), was incorporated in the state of Nevada on
June 1, 2000, and previously provided transportation and freight brokerage services in the state of
Alaska. In September and October 2003, Alaska sold substantially all of its operating assets and
liabilities, merged with the Company, changed its name to Hythiam, Inc. and reincorporated in
Delaware on September 29, 2003. Following merger, reincorporation and consolidation transactions,
the registrant is now the sole surviving entity. Because the Company was the sole operating company
at the time of the merger with Alaska, the merger was accounted for as a reverse acquisition, with
the Company deemed the acquirer for accounting purposes.
Available Information
We make our annual reports on Form 10-K, our quarterly reports on Form 10-Q, our current
reports on Form 8-K, and all amendments to these reports available free of charge on our corporate
website as soon as reasonably practicable after such reports are filed with, or furnished to, the
SEC. Our corporate website is located at www.Hythiam.com. The information contained on our website
is not part of this report or incorporated by reference herein.
19
ITEM 1A. RISK FACTORS
You should carefully consider and evaluate all of the information in this report, including
the risk factors listed below. Risks and uncertainties in addition to those we describe below, that
may not be presently known to us, or that we currently believe are immaterial, may also harm our
business and operations. If any of these risks occurs, our business, results of operations and
financial condition could be harmed, the price of our common stock could decline, and future events
and circumstances could differ significantly from those anticipated in the forward-looking
statements contained in this report.
Risks Related to Our Business
We have a limited operating history, making it difficult to evaluate our future performance
We have a limited history of operations. We were formed in February 2003 and commenced
operations in June 2003. Investors have limited substantive financial information on prior
operations to evaluate the company as an investment. Our potential must be viewed in light of the
problems, expenses, difficulties, delays and complications often encountered in the operation of a
new business. We will be subject to the risks inherent in the ownership and operation of a company
with a limited operating history such as regulatory setbacks and delays, fluctuations in expenses,
competition, the general strength of regional and national economies, and governmental regulation.
Any failure to successfully address these risks and uncertainties would seriously harm our business
and prospects.
We expect to continue to incur operating losses, and if we are not able to raise necessary
additional funds we may have to reduce or stop operations
We have not generated significant revenues or become profitable, may never do so, and may not
generate sufficient working capital to cover the cost of operations. Our revenues since
commencement of operations in June 2003 were $1.4 million through December 31, 2005. Our
accumulated deficit through December 31, 2005 was $39.4 million. We anticipate that operating
deficits will continue for at least the next twelve months of our operations. Because many of our
costs generally will increase, the cost of operating the company will exceed the income therefrom
during this period. No party has guaranteed to advance additional funds to us to provide for any
such operating deficits. Our cash and marketable securities totaled approximately $47 million as of
December 31, 2005. Our fourth quarter 2005 net cash burn rate was approximately $2.6 million per
month. We expect to increase our monthly expenditures over the next twelve months as we increase
staff, commence marketing activities, expand the number of licensees and provide funding for
research studies. If our revenues do not meet expectations and our expenses continue to increase,
our cash reserves will be exhausted in fifteen to eighteen months, and we will be required to seek
additional funds.
We may seek additional funding through public or private financings or collaborative
arrangements. If we obtain additional capital through collaborative arrangements, these
arrangements may require us to relinquish greater rights to our technologies and protocols than we
might otherwise have done. If we raise additional capital through the sale of equity, or securities
convertible into equity, further dilution to our then existing stockholders will result. If we
raise additional capital through the incurrence of debt, our business may be affected by the amount
of leverage we incur, and our borrowings may subject us to restrictive covenants. Additional
funding may not be available to us on acceptable terms, or at all. If we are unable to obtain
adequate financing on a timely basis, we may be required to delay, reduce or stop operations, any
of which would have a material adverse effect on our business.
We are dependent on third party healthcare providers licensing and using our protocols, and if they
delay or fail to do so our revenues and earnings could be adversely affected
Only a physician may treat or supervise the treatment of patients using the
PROMETA
protocols, which requires us to enter into licenses with physicians, hospitals,
properly equipped outpatient settings or other treatment facilities in order to provide convenient
treatment access points for patients. Our revenues are therefore dependent to a significant degree
upon the relationships we can establish with physicians, hospitals and other healthcare facilities
to license our protocols for treating their patients. In 2005, approximately 63% of our revenues
were derived from only three licensees. As of December 31, 2005, we had entered into licensing
agreements for 32 sites throughout the
20
United States, of which 25 were added in 2005. The number of patients who were treated by our
licensees in 2005 was approximately 215, and in the last six months of 2005 was approximately 135.
Additional rollout is anticipated to be dependent on our ability to negotiate and conclude
licensing agreements with such healthcare providers across the country and their ability to
generate patients. If we are unable to enter into similar arrangements with these additional
healthcare providers for any reason, that would significantly limit our growth potential and
negatively impact our business prospects. In addition, if physicians, hospitals and healthcare
providers do not attract sufficient patient volume and revenue they may not be willing to continue
to offer our protocols.
The success of our protocols is largely dependent upon referrals of patients to facilities
that license our technology and upon the use of our protocols by physicians in treating their
patients. There is no requirement for physicians to refer their patients to facilities that license
our protocols, or to use our protocols in treating their patients. They are free to refer patients
to any other substance dependence treatment service, program or facility, and to treat their
patients using whatever method they determine to be in the patients best interests. The failure of
physicians to treat a sufficient number of patients using our protocols, or to refer patients to
facilities that use our protocols, or the loss of physicians that use our protocols would have a
material adverse effect on our operations and could adversely affect our revenues and earnings.
We may fail to successfully manage and maintain the growth of our business, which could adversely
affect our results of operations
As we continue expanding our operations, sales and marketing activities, this expansion could
put significant strain on our management, operational and financial resources. To manage future
growth, we will need to continue to hire, train and manage additional employees, particularly a
specially-trained sales force to market our protocols. Concurrent with expanding our operational
and marketing activities, we will also be increasing our research and development activities,
including the development of protocols for other types of addictions, with the expectation of
ultimately commercializing those products. We have maintained a small financial and accounting
staff, and our reporting obligations as a public company, as well as our need to comply with the
requirements of the Sarbanes-Oxley Act of 2002, the rules and regulations of the SEC and The Nasdaq
National Market, will continue to place significant demands on our financial and accounting staff,
on our financial, accounting and information systems and on our internal controls. As we grow, we
will need to add additional accounting staff and continue to improve our financial, accounting and
information systems and internal controls in order to fulfill our reporting responsibilities and to
support expected growth in our business. Our current and planned personnel, systems, procedures and
controls may not be adequate to support our anticipated growth or management may not be able to
effectively hire, train, retain, motivate and manage required personnel. Our failure to manage
growth effectively could limit our ability to achieve our marketing and commercialization goals or
to satisfy our reporting and other obligations as a public company.
Our treatment protocols may not be as effective as we believe them to be, which could limit or
prevent us from maintaining revenues
Our belief in the efficacy of our treatment protocols is based on a limited number of
unpublished studies, primarily in Spain, and our limited initial experience with a small number of
patients in the United States. Such results may not be statistically significant, have not been
subjected to close scientific scrutiny, and may not be indicative of the long-term future
performance and safety of our protocols. Controlled scientific studies, including those that have
been announced and planned for the future, may yield results that are unfavorable or demonstrate
that our protocols are not clinically effective or safe. While we have not experienced such
problems to date, if the initially indicated results cannot be successfully replicated or
maintained over time, utilization of our protocols could decline substantially.
Our marketing efforts may not result in acceptance of our protocols in the marketplace, which could
adversely affect our revenues and earnings
While we have been able to generate initial interest in our protocols among a limited number
of healthcare providers, there can be no assurance that our efforts or the efforts of others will
be successful in fostering acceptance of our protocols in the target markets. If our marketing and
promotional efforts are not as successful as we expect them to be, the likelihood of expending all
of our funds prior to reaching a level of profitability will be increased.
21
Marketplace acceptance of our protocols may largely depend upon healthcare providers
interpretation of our limited data, the results of pending studies, or upon reviews and reports
that may be given by independent researchers. We have awarded and are in the process of awarding
additional unrestricted grants to academic and affiliated research institutions and other research
organizations interested in conducting research studies of our PROMETA protocols. As of December
31, 2005, we have committed to spending approximately $4.4 million over the next twenty-four months
to fund unrestricted grants. In the event such research does not give our treatment technology high
approval ratings, it is unlikely we will be able to achieve significant market acceptance.
Our industry is highly competitive, and we may not be able to compete successfully
The healthcare business in general, and the substance dependence treatment business in
particular, are highly competitive. Hospitals and healthcare providers that treat substance
dependence are highly competitive, and we must convince them that they will benefit by use of our
protocols. We will compete with many types of substance dependence treatment methods, treatment
facilities and other service providers, many of whom are more established and better funded than we
are. Many of these other treatment methodsmost of which involve only a single drugand facilities
are well established in the same markets we will target, have substantial sales volume, and are
provided and marketed by companies with much greater financial resources, facilities, organization,
reputation and experience than we have.
There are a number of companies developing or marketing medications for reducing craving in
the treatment of alcoholism. These include:
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The addiction medication naltrexone, an opiate receptor antagonist, is
marketed by a number of generic pharmaceutical companies as well as
under the trade name ReVia
®
by Bristol Myers Squib, for treatment of
alcohol dependence. However, naltrexone must be administered on a
chronic or continuing basis and is associated with relatively high
rates of side effects, including nausea. U.S. sales are estimated to
be just under $25 million per year for this treatment.
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Alkermes is developing a long-acting injectable form of naltrexone,
VIVITROL, intended to be administered by a physician via monthly
injections. The company reported results from a phase III clinical
study indicating that in the overall study population, patients
treated with VIVITROL 380 mg experienced approximately a 25% reduction
in the rate of heavy drinking relative to placebo. Alkermes, in
partnership with Cephalon, reports it intends to launch VIVITROL in
the second quarter of 2006, pending final FDA approval.
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Forest Laboratories holds the license in the U.S. to market Campral
®
Delayed-Release Tablets (acamprosate calcium), approved by the FDA in
2004. Acamprosate is an NMDA receptor antagonist. The product must be
taken two to three times per day on a chronic or long-term basis.
Clinical studies supported the effectiveness in the maintenance of
abstinence for alcohol-dependent patients who had undergone inpatient
detoxification and were already abstinent from alcohol, but the
product was not effective for patients who had not undergone
detoxification and who were not abstinent prior to treatment.
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22
We see these products as being potentially useful during the continuing care phase of
treatment following treatment using the PROMETA protocols, but not being directly competitive. To
the best of our knowledge, there are no treatment protocols or medications approved, marketed or in
development within the U.S. that reduce the cravings for cocaine, methamphetamine or other additive
prescription psychostimulants. However, our competitors may develop and introduce new processes and
products that are equal or superior to our protocols in treating substance dependencies.
Accordingly, we may be adversely affected by any new processes and technology developed by our
competitors.
There are approximately 13,000 facilities reporting to the Substance Abuse and Mental Health
Services Administration that provide substance abuse treatment on an inpatient or outpatient basis.
Well known examples of residential treatment programs include the Betty Ford Center, Caron
Foundation, Hazelden and Sierra Tucson. In addition, individual physicians may provide substance
dependence treatment in the course of their practices. There are several points of resistance to
penetrating the substance dependence treatment market. First, there is the historical focus on the
use of psychological or behavioral therapies as opposed to medical or physiological treatments for
substance dependence. Healthcare providers and potential patients may be resistant to the
transition of treating substance dependence as a disease rather than as a behavioral aberration.
Second, healthcare providers may be reluctant to use our protocols due to the absence of published
clinical studies supporting their efficacy. Research studies of the PROMETA protocols may not lead
to acceptable results or the results may not be published. If we are unable to penetrate these
substantial barriers to entry we may not be able to successfully implement our business plan.
We depend on key personnel, the loss of which could impact the ability to manage our business
Our future success depends on the performance of our senior management and our key
professional personnel. It therefore depends to a significant extent on retaining the services of
our key executive officers, in particular our Chairman and Chief Executive Officer, Terren S.
Peizer, our Director and Chief Administrative Officer, Richard Anderson, our Director and Chief
Operating Officer, Anthony M. LaMacchia, and our Chief Financial Officer, Chuck Timpe. Each of
these key executives is party to an employment agreement which, subject to termination for cause or
good reason, has a remaining term of two to three years. While we believe our relationships with
our executives are good and do not anticipate any of them leaving in the near future, the loss of
the services of Mr. Peizer or any other key member of management could have a material adverse
effect on our ability to manage our business. While we have not experienced any problems in
attracting and retaining desirable employees, our success is dependent upon our ability to continue
to attract and retain qualified management, professional, administrative and sales personnel to
support our future growth.
We are subject to personal injury claims, which could result in substantial liabilities that may
exceed our insurance coverage
All significant medical treatments and procedures, including treatment utilizing our
protocols, involve the risk of serious injury or death. Even under proper medical supervision,
withdrawal from alcohol may cause severe physical reactions. While we do not treat patients or
determine whether treatment using our protocols is appropriate for any particular patient, and have
not been the subject of any personal injury claims for patients treated by providers using our
protocols, our business entails an inherent risk of claims for personal injuries, which are subject
to the attendant risk of substantial damage awards. We cannot control whether individual physicians
will properly select patients, apply the appropriate standard of care, or conform to our protocols
in determining how to treat their patients. A significant source of potential liability is
negligence or alleged negligence by physicians treating patients using our protocols. While our
agreements typically require them to indemnify us for their negligence, there can be no assurance
they will be willing and financially able to do so if claims are made. In addition, our license
agreements require us to indemnify physicians, hospitals or their affiliates for losses resulting
from our negligence. There can be no assurance that a future claim or claims will not be successful
or, including the cost of legal defense, will not exceed the limits of available insurance
coverage.
We currently have insurance coverage for up to $5 million per year for personal injury claims.
We may not be able to maintain adequate liability insurance, in accordance with standard industry
practice, with appropriate coverage based on the nature and risks of our business, at acceptable
costs and on favorable terms. Insurance carriers are often reluctant to provide liability insurance
for new healthcare services companies and products due to the
23
limited claims history for such companies and products. In addition, based on current
insurance markets, we expect that liability insurance will be more difficult to obtain and that
premiums will increase over time and as the volume of patients treated with our protocols
increases. In the event of litigation, regardless of its merit or eventual outcome, or an award
against us during a time when we have no available insurance or insufficient insurance, we may
sustain significant losses of our operating capital which may substantially impair or destroy the
investments of stockholders.
If government and third-party payors fail to provide coverage and adequate payment rates for
treatment using our protocols, our revenue and prospects for profitability will be harmed
Our future revenue growth will depend in part upon the availability of reimbursement from
third-party payors for treatment providers using our protocols. Such third-party payors include
government health programs such as Medicare and Medicaid, managed care providers, private health
insurers and other organizations. These third-party payors are increasingly attempting to contain
healthcare costs by demanding price discounts or rebates and limiting both coverage on which
procedures they will pay for and the amounts that they will pay for new procedures. As a result,
they may not cover or provide adequate payment for treatment using our protocols. We might need to
conduct studies in order to demonstrate the cost-effectiveness of treatment using our protocols to
such payors satisfaction. Such studies might require us to commit a significant amount of
management time and financial and other resources. Adequate third-party reimbursement might not be
available to enable us to realize an appropriate return on investment in research and product
development, and the lack of such reimbursement could have a material adverse effect on our
operations and could adversely affect our revenues and earnings.
Our planned international operations may be subject
to foreign regulation, and the success of our foreign operations will
depend on many factors.
While we will establish policies and procedures that we believe will be sufficient to ensure that
we operate in substantial compliance with applicable foreign laws, regulations and requirements,
the criteria are often vague and subject to change and interpretation. Our international operations
may become the subject of foreign regulatory, civil, criminal or other investigations or proceedings, and our
interpretations of applicable laws and regulations may be challenged. The defense of any such
challenge could result in substantial cost and a diversion of managements time and attention.
Thus, any such challenge could have a material adverse effect on our international business and our
plan to expand our international operations, regardless of whether it ultimately is successful. If
we fail to comply with any applicable international laws, or a determination is made that we have failed to
comply with these laws, our financial condition and results of operations, including our domestic
operations, could be adversely affected.
In
addition private pay healthcare system in Europe is not as developed as in the US and as a result
it may be more difficult to convince patients in these countries to pay or to pay substantial
amounts for treatment.
We will be reliant on relationships that we establish with local companies, thought leaders
and governments. There can be no assurance we will be able to establish these relationships,
maintain them or that the partners will retain their influence in the market.
It may take longer than we expect to commence operations or to operate our business at
profitable levels as we do not have the established relationships and knowledge of the regulations
and business practices in the markets we are entering.
Risks Related to our Intellectual Property
We may not be able to adequately protect the proprietary treatment protocols which are the core of
our business
We consider the protection of our proprietary treatment protocols to be critical to our
business prospects.
24
We obtained the rights to some of our most significant patent-pending technologies through a
license agreement which is subject to a number of conditions and restrictions, and a breach or
termination of that agreement could significantly impact our ability to use and develop our
technologies. We currently have no issued U.S. patents covering our PROMETA protocols. In addition,
the patent applications we have filed and licensed may not issue as patents, and any issued patents
may be too narrow in scope to provide us with a competitive advantage. Our patent position is
uncertain and includes complex factual and legal issues, including the existence of prior art that
may preclude or limit the scope of patent protection. Other inventors may have filed earlier patent
applications of which we are unaware and which may prevent our applications from being granted.
Patent examiners and third parties may object to the validity or scope of some or all of our
claims. Any of the patents that may be issued to us will expire twenty years after they were first
filed.
Competitors or others may institute challenges against the validity or enforceability of any
patent owned by us, and if successful our patents may be denied, rendered unenforceable, or
invalidated. The cost of litigation to uphold the validity of patents, and to protect and prevent
infringement of patents can be substantial. Maintaining, prosecuting, and enforcing a patent
portfolio might require funds that may not be available.
We may not be able to adequately protect the aspects of our treatment protocols that are not
subject to patent protection, or are subject to only limited patent protection. Furthermore,
competitors and others may independently develop similar or more advanced treatment protocols and
technologies, may design around aspects of our technology, or may discover or duplicate our trade
secrets and proprietary methods.
To the extent we utilize processes and technology that constitute trade secrets under
applicable laws, we must implement appropriate levels of security for those trade secrets to secure
the protection of such laws, which we may not do effectively. For some of our proprietary rights,
we may need to secure assignments of rights from independent contractors and third parties to
perfect our rights, and if we fail to do so they may retain ownership rights in the intellectual
property upon which our business is based. Policing compliance with our confidentiality agreements
and unauthorized use of our technology is difficult, and we may be unable to determine whether
piracy of our technology has occurred. In addition, the laws of many foreign countries do not
protect proprietary rights as fully as the laws of the United States.
While we have not had any significant issues to date, the loss of any of our trade secrets or
proprietary rights which may be protected under the foregoing intellectual property safeguards may
result in the loss of our competitive advantage over present and potential competitors.
Confidentiality agreements with employees, licensees and others may not adequately prevent
disclosure of trade secrets and other proprietary information
In order to protect our proprietary technology and processes, we rely in part on
confidentiality provisions in our agreements with employees, licensees, treating physicians and
others. These agreements may not effectively prevent disclosure of confidential information and may
not provide an adequate remedy in the event of unauthorized disclosure of confidential information.
In addition, others may independently discover trade secrets and proprietary information. Costly
and time-consuming litigation could be necessary to enforce and determine the scope of our
proprietary rights, and failure to obtain or maintain trade secret protection could adversely
affect our competitive business position. To date we have had one instance, in February 2004, in
which it was necessary to send a formal demand to cease and desist using our protocols to treat
patients to a consultant who had signed a confidentiality agreement. He subsequently complied with
the demand and signed an innovation, proprietary information and confidentiality agreement, and an
intellectual property assignment agreement.
We may not be able to adequately protect our other intellectual property rights, which could limit
our ability to compete
While we believe we have proprietary ownership, assigned or licensed rights in intellectual
property which is capable of protection under federal trademark, copyright and/or patent laws, and
under state laws regarding trade secrets, we may not have taken, or in the future may not take,
appropriate legal measures, and may not be able to adequately secure the necessary protections for
our intellectual property. We currently have no issued U.S. patents protecting our PROMETA
protocols, and have not yet registered all of our trademarks or copyrights and, until we do
25
so, we must rely on various state and common law rights for enforcement of the rights to exclusive
use of our trade secrets, trademark and copyrights.
Although Hythiam
®
is a registered trademark, our trademark applications for our
PROMETA trademarks are pending before the U.S. Patent and Trademark Office, and we have not yet
been granted registration for these marks. If our trademark registrations are objected to or denied
that may impact our ability to use and protect our brand names and company and product identity.
Although we have applied for trademarks for some of our brand names, and patents on some of
our technology, in the future we may decide not to secure federal protection of certain copyrights,
trademarks or patents to which we may be entitled. Failure to do so, in the case of copyrights and
trademarks, may reduce our access to the courts, and to certain remedies of statutory damages and
attorneys fees, to which we may be entitled in the event of a violation of our proprietary and
intellectual rights by third parties. Similarly, the failure to seek issuance of any patents to
which we may be entitled may result in loss of patent protection should a third party copy the
patentable technology. The loss of any proprietary rights which are protectable under any of the
foregoing intellectual property safeguards may result in the loss of a competitive advantage over
present or potential competitors, with a resulting decrease in revenues and profitability for us.
There is no guarantee that such a loss of competitive advantage could be remedied or overcome by us
at a price which we would be willing or able to pay, which could have a material adverse effect on
our operations and could adversely affect our revenues and earnings.
We may be subject to claims that we infringe the intellectual property rights of others, and
unfavorable outcomes could harm our business
Our future operations may be subject to claims, and potential litigation, arising from our
alleged infringement of patents, trade secrets or copyrights owned by other third parties. We
intend to fully comply with the law in avoiding such infringements. However, within the healthcare,
drug and bio-technology industry, established companies have actively pursued such infringements,
and have initiated such claims and litigation, which has made the entry of competitive products
more difficult. We may experience such claims or litigation initiated by existing, better-funded
competitors. Court-ordered injunctions may prevent us from bringing new products to market, and the
outcome of litigation and any resulting loss of revenues and expenses of litigation may
substantially affect our ability to meet our expenses and continue operations.
Risks Related to our Industry
The healthcare industry in which we operate is subject to substantial regulation by state and
federal authorities, which could hinder, delay or prevent us from commercializing our protocols
The healthcare industry is highly regulated and continues to undergo significant changes as
third-party payors, such as Medicare and Medicaid, traditional indemnity insurers, managed care
organizations and other private payors increase efforts to control cost, utilization and delivery
of healthcare services. Although our licensees do not currently bill or seek reimbursement from
Medicare, Medicaid or other governmental organizations for the treatment of patients using the
PROMETA protocols, we are nevertheless subject to the overall effect of the changes created by
increased cost control and financial pressures on the industry.
Healthcare companies are subject to extensive and complex federal, state and local laws,
regulations and judicial decisions governing various matters such as the licensing and
certification of facilities and personnel, the conduct of operations, billing policies and
practices, policies and practices with regard to patient privacy and confidentiality, and
prohibitions on payments for the referral of business and self-referrals. There are federal and
state laws, regulations and judicial decisions that govern patient referrals, physician financial
relationships, submission of healthcare claims and inducement to beneficiaries of federal
healthcare programs. Many states prohibit business corporations from practicing medicine, employing
or maintaining control over physicians who practice medicine, or engaging in certain business
practices, such as splitting fees with healthcare providers. Many healthcare laws and regulations
applicable to our business are complex, applied broadly and subject to interpretation by courts and
government agencies. Our failure, or the failure of our licensees, to comply with these healthcare
laws and regulations could create liability for us and negatively impact our business.
26
In addition, the Food and Drug Administration (FDA), regulates development, testing, labeling,
manufacturing, marketing, promotion, distribution, record-keeping and reporting requirements for
prescription drugs, medical devices and biologics. Other regulatory requirements apply to dietary
supplements (including vitamins). Compliance with laws and regulations enforced by the FDA and
other regulatory agencies may be required relative to our protocols or any other medical products
or services developed or used by us. Failure to comply with applicable laws and regulations may
result in various adverse consequences, including withdrawal of our protocols from the market, the
imposition of civil or criminal sanctions, or the required modification or redesign of our
protocols. We may not have the financial resources to modify our protocols or implement new
techniques. Accordingly, our ability to market our protocols in compliance with applicable laws and
regulations may be a threshold test for our survival.
We believe that this industry will continue to be subject to increasing regulation, political
and legal action and pricing pressures, the scope and effect of which we cannot predict.
Legislation is continuously being proposed, enacted and interpreted at the federal, state and local
levels to regulate healthcare delivery and relationships between and among participants in the
healthcare industry. Any such changes could prevent us from marketing some or all of our products
and services for a period of time or permanently.
We may be subject to regulatory and investigative proceedings, which may find that our policies and
procedures do not fully comply with complex and changing healthcare regulations
While we have established policies and procedures that we believe will be sufficient to ensure
that we operate in substantial compliance with applicable laws, regulations and requirements, the
criteria are often vague and subject to change and interpretation. We may become the subject of
regulatory or other investigations or proceedings, and our interpretations of applicable laws and
regulations may be challenged. The defense of any such challenge could result in substantial cost
and a diversion of managements time and attention. Thus, any such challenge could have a material
adverse effect on our business, regardless of whether it ultimately is successful. If we fail to
comply with any applicable laws, or a determination is made that we have failed to comply with
these laws, our financial condition and results of operations could be adversely affected.
The promotion of our protocols may be found to violate federal law concerning off-label uses of
prescription drugs, which could prevent us from marketing our protocols
The Food Drug & Cosmetic (FDC) Act, requires that prescription drugs be approved for a
specific medical indication by the FDA prior to their marketing in interstate commerce. In
addition, promotion of dietary supplements for uses beyond those permitted by law may be treated as
the unlawful promotion of drugs absent FDA approval. Violations of the FDC Act may result in either
civil (seizure or injunction) or criminal penalties. Our procedural medical protocols call for the
use of prescription drugs for the treatment of chemical dependence and drug addiction, conditions
not approved for use in the drugs official labeling, and physicians prescribe and use these drugs
when treating patients using our protocols. In addition, our protocols include the use of
nutritional supplements. While the FDA generally does not regulate licensed physicians who
prescribe approved drugs for non-approved or off-label uses in the independent practice of
medicine, our promotion of our protocols through advertising and other means may be found to
violate FDA regulations or the FDC Act. The FDA has broad discretion in interpreting those
regulations. If the FDA determines that our promotion of our medical treatment protocols violates
the FDC Act or brings an enforcement action against us for violating the FDC Act or FDA regulations
that is successful, our promotion of our protocols will have to stop and we may be unable to
continue operating under our current business model. Even if we defeat any FDA challenge, the
expenses associated with defending the claim or negative publicity concerning the off-label use of
drugs in our protocols could adversely affect our business and results of operation.
Treatment using our protocols may be found to require review or approval, which could delay or
prevent the study or use of our protocols
The FDA asserts jurisdiction over many clinical trials, or experiments, in which a drug is
administered to human subjects. Hospitals and clinics have established Institutional Review Boards,
or IRBs, to review and approve clinical trials using investigational treatments in their
facilities. Certain investigations involving new drugs or off-label uses for approved drugs must be
the subject of an FDA investigational New Drug exemption (IND). Use of our
27
treatment protocol by individual physicians in treating their patients may be found to
constitute a clinical trial or investigation that requires IRB review or an IND. FDA has broad
authority in interpreting and applying its regulations, so it may find that use of our protocols by
our licensees or collection of outcomes data on that use constitutes a clinical investigation
subject to IRB and FDA jurisdiction and may take enforcement action against us. Individual
hospitals and physicians may also submit their use of our protocols in treatment to their IRBs and
individual IRBs may find that use to be a clinical trial that requires FDA approval or they may
prohibit or place restrictions on that use. Any of these results may adversely affect our business
and the ability of our customers to use our protocols.
Failure to comply with the Federal Trade Commission Act or similar state laws could result in
sanctions or limit the claims we can make
The companys promotional activities and materials, including advertising to consumers and
physicians, and materials provided to licensees for their use in promoting our protocols, are
regulated by the Federal Trade Commission (FTC) under the FTC Act, which prohibits unfair and
deceptive acts and practices, including claims which are false, misleading or inadequately
substantiated. The FTC typically requires competent and reliable scientific tests or studies to
substantiate express or implied claims that a product or service is effective. If the FTC were to
interpret our promotional materials as making express or implied claims that our protocols are
effective for the treatment of alcohol, cocaine or methamphetamine addiction, it may find that we
do not have adequate substantiation for such claims. Failure to comply with the FTC Act or similar
laws enforced by state attorneys general and other state and local officials could result in
administrative or judicial orders limiting or eliminating the claims we can make about our
protocols, and other sanctions including fines.
Our business practices may be found to constitute illegal fee-splitting or corporate practice of
medicine, which may lead to penalties and adversely affect our business
Many states, including California in which our principal executive offices are located, have
laws that prohibit business corporations, such as us, from practicing medicine, exercising control
over medical judgments or decisions of physicians, or engaging in certain arrangements, such as
employment or fee-splitting, with physicians. Courts, regulatory authorities or other parties,
including physicians, may assert that we are engaged in the unlawful corporate practice of medicine
by providing administrative and ancillary services in connection with our protocols, or that
licensing our technology for a portion of the patient fees, or subleasing space and providing
turn-key business management to affiliated medical groups in exchange for management and licensing
fees, constitute improper fee-splitting, in which case we could be subject to civil and criminal
penalties, our contracts could be found legally invalid and unenforceable, in whole or in part, or
we could be required to restructure our contractual arrangements. There can be no assurance that
this will not occur or, if it does, that we would be able to restructure our contractual
arrangements on favorable terms.
Our business practices may be found to violate anti-kickback, self-referral or false claims laws,
which may lead to penalties and adversely affect our business
The healthcare industry is subject to extensive federal and state regulation with respect to
financial relationships and kickbacks involving healthcare providers, physician self-referral
arrangements, filing of false claims and other fraud and abuse issues. Federal anti-kickback laws
and regulations prohibit certain offers, payments or receipts of remuneration in return for (i)
referring patients covered by Medicare, Medicaid or other federal health care program, or (ii)
purchasing, leasing, ordering or arranging for or recommending any service, good, item or facility
for which payment may be made by a federal health care program. In addition, federal physician
self-referral legislation, commonly known as the Stark law, generally prohibits a physician from
ordering certain services reimbursable by Medicare, Medicaid or other federal healthcare program
from any entity with which the physician has a financial relationship. While providers who license
our protocols currently do not seek such third party reimbursement for treatment using our
protocols, we anticipate they may do so in the future. In addition, many states have similar laws,
some of which are not limited to services reimbursed by federal healthcare programs. Other federal
and state laws govern the submission of claims for reimbursement, or false claims laws. One of the
most prominent of these laws is the federal False Claims Act, and violations of other laws, such as
the anti-kickback laws or the FDA prohibitions against promotion of off-label uses of drugs, may
also be prosecuted as violations of the False Claims Act.
28
While we believe we have structured our relationships to comply with all applicable
requirements, federal or state authorities may claim that our fee arrangements, agreements and
relationships with contractors, hospitals and physicians violate these anti-kickback, self-referral
or false claims laws and regulations. These laws are broadly worded and have been broadly
interpreted by courts. It is often difficult to predict how these laws will be applied, and they
potentially subject many typical business arrangements to government investigation and prosecution,
which can be costly and time consuming. Violations of these laws are punishable by monetary fines,
civil and criminal penalties, exclusion from participation in government-sponsored health care
programs and forfeiture of amounts collected in violation of such laws. Some states also have
similar anti-kickback and self-referral laws, imposing substantial penalties for violations. If our
business practices are found to violate any of these provisions, we may be unable to continue with
our relationships or implement our business plans, which would have an adverse effect on our
business and results of operations.
We may be subject to healthcare anti-fraud initiatives, which may lead to penalties and adversely
affect our business
State and federal governments are devoting increased attention and resources to anti-fraud
initiatives against healthcare providers, taking an expansive definition of fraud that includes
receiving fees in connection with a healthcare business that is found to violate any of the complex
regulations described above. While to our knowledge we have not been the subject of any anti-fraud
investigations, if such a claim were made defending our business practices could be time consuming
and expensive, and an adverse finding could result in substantial penalties or require us to
restructure our operations, which we may not be able to do successfully.
Our use and disclosure of patient information is subject to privacy and security regulations, which
may result in increased costs
In conducting research or providing administrative services to healthcare providers in
connection with the use of our protocols, we may collect, use, maintain and transmit patient
information in ways that will be subject to many of the numerous state, federal and international
laws and regulations governing the collection, dissemination, use and confidentiality of
patient-identifiable health information, including the federal Health Insurance Portability and
Accountability Act (HIPAA) and related rules. The three rules that were promulgated pursuant to
HIPAA that could most significantly affect our business are the Standards for Electronic
Transactions, or Transactions Rule; the Standards for Privacy of Individually Identifiable Health
Information, or Privacy Rule; and the Health Insurance Reform: Security Standards, or Security
Rule. HIPAA applies to covered entities, which include most healthcare facilities and health plans
that will contract for the use of our protocols and our services. The HIPAA rules require covered
entities to bind contractors like us to compliance with certain burdensome HIPAA rule requirements.
Other federal and state laws restricting the use and protecting the privacy of patient information
also apply to our licensees directly and to us, either directly or indirectly.
The HIPAA Transactions Rule establishes format and data content standards for eight of the
most common healthcare transactions. When we perform billing and collection services on behalf of
our licensees we may be engaging in one of more of these standard transactions and will be required
to conduct those transactions in compliance with the required standards. The HIPAA Privacy Rule
restricts the use and disclosure of patient information, requires entities to safeguard that
information and to provide certain rights to individuals with respect to that information. The
HIPAA Security Rule establishes elaborate requirements for safeguarding patient information
transmitted or stored electronically. We may be required to make costly system purchases and
modifications to comply with the HIPAA rule requirements that are imposed on us and our failure to
comply may result in liability and adversely affect our business.
Federal and state consumer protection laws are being applied increasingly by the FTC and state
attorneys general to regulate the collection, use and disclosure of personal or patient
information, through web sites or otherwise, and to regulate the presentation of web site content.
Courts may also adopt the standards for fair information practices promulgated by the FTC, which
concern consumer notice, choice, security and access.
Numerous other federal and state laws protect the confidentiality of personal and patient
information. These laws in many cases are not preempted by the HIPAA rules and may be subject to
varying interpretations by courts and government agencies, creating complex compliance issues for
us and our licensees and potentially exposing us
29
to additional expense, adverse publicity and liability. Other countries also have, or are
developing, laws governing the collection, use and transmission of personal or patient information
and these laws could create liability for us or increase our cost of doing business.
We may not be able to profitably adapt to the changing healthcare and substance dependence
treatment industry, which may reduce or eliminate our commercial opportunity
Healthcare organizations, public and private, continue to change the manner in which they
operate and pay for services. In recent years, the healthcare industry has been subject to
increasing levels of government regulation of reimbursement rates and capital expenditures, among
other things. We cannot predict the likelihood of all future changes in the healthcare industry in
general, or the substance dependence treatment industry in particular, or what impact they may have
on our earnings, financial condition or business.
Risks Related to our Common Stock
Our stock price may be subject to substantial volatility, and you may lose all or a substantial
part of your investment
Our common stock is traded on The Nasdaq National Market. Over the last year, it traded
between $4.26 and $9.30 per share on limited and sporadic volume ranging from approximately 14,900
to 1,449,400 shares per day. As a result, the current price for our common stock on the Nasdaq is
not necessarily a reliable indicator of our fair market value. The price at which our common stock
will trade may be highly volatile and may fluctuate as a result of a number of factors, including
the number of shares available for sale in the market, quarterly variations in our operating
results, actual or anticipated announcements of new data, studies, products or services by us or
competitors, regulatory investigations or determinations, acquisitions or strategic alliances by us
or our competitors, recruitment or departures of key personnel, the gain or loss of significant
customers, changes in the estimates of our operating performance, market conditions in our industry
and the economy as a whole.
Over one-third of our stock is controlled by a single stockholder who has the ability to
substantially influence the election of directors and the outcome of matters submitted to
stockholders
As of December 31, 2005, Reserva Capital, LLC, a limited liability company whose sole managing
member is Terren S. Peizer, our chairman and chief executive officer, directly owned 13,700,000
shares, which represent approximately 35% of our 39,504,330 shares of outstanding common stock. As
a result, Mr. Peizer presently and is expected to continue to have the ability to substantially
influence the election of our board of directors and the outcome of all other issues submitted to
our stockholders. The interests of this stockholder may not always coincide with our interests or
the interests of other stockholders, and it may act in a manner that advances its best interests
and not necessarily those of other stockholders. One consequence to this substantial stockholders
interest is that it may be difficult for investors to remove management of the company. It could
also deter unsolicited takeovers, including transactions in which stockholders might otherwise
receive a premium for their shares over then current market prices.
Provisions in our certificate of incorporation, bylaws and Delaware law could discourage a change
in control, and adversely affect existing stockholders
Our certificate of incorporation and the Delaware General Corporation Law contain provisions
that may have the effect of making more difficult or delaying attempts by others to obtain control
of our company, even when these attempts may be in the best interests of stockholders. Our
certificate of incorporation also authorizes our board of directors, without stockholder approval,
to issue one or more series of preferred stock, which could have voting and conversion rights that
adversely affect or dilute the voting power of the holders of common stock. Delaware law also
imposes conditions on certain business combination transactions with interested stockholders.
These provisions and others that could be adopted in the future could deter unsolicited
takeovers or delay or prevent changes in our control or management, including transactions in which
stockholders might otherwise receive a premium for their shares over then current market prices.
These provisions may also limit the ability of stockholders to approve transactions that they may
deem to be in their best interests.
30
We have never paid cash dividends and do not intend to do so
We have never declared or paid cash dividends on our common stock. We currently plan to retain
any earnings to finance the growth of our business rather than to pay cash dividends. Payments of
any cash dividends in the future will depend on our financial condition, results of operations and
capital requirements, as well as other factors deemed relevant by our board of directors.
ITEM 1B
.
UNRESOLVED STAFF COMMENTS
Not applicable.
ITEM 2
.
PROPERTY
Our principal executive offices, including substantially all of our sales, marketing and
administrative functions, are located in leased office space of a total of approximately 15,000
square feet in Los Angeles, California. The lease commenced in December 2003, and was amended in
May 2005, to increase the space by approximately 4,200 square feet. The base rent is currently
approximately $46,000 per month, subject to annual adjustment over the remaining original
seven-year term. We are currently negotiating an amendment to the lease to add an additional 5,000 square feet to
accommodate our continued expansion of our executive offices and additional staffing requirements.
As we expand in the future, we may lease additional regional office facilities, as necessary, to
service our customer base. We believe that the current office space is adequate to meet our current
needs, and that additional facilities will be available for lease to meet our future needs.
In April 2005 we entered into a five year lease for approximately 5,400 square feet of medical
office space at an initial base rent of approximately $19,000 per month commencing in August 2005.
The space is occupied by The PROMETA Center, an affiliated medical practice, under a full service
management agreement. We believe that the space is adequate to meet our current and future needs
for this practice.
ITEM 3. LEGAL PROCEEDINGS
Not applicable.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not applicable.
31
ITEM 5. MARKET FOR REGISTRANTS COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
Our common stock is listed for trading on The NASDAQ National Market under the symbol HYTM.
Prior to March 8, 2005, the stock traded on the American Stock Exchange under the symbol HTM.
Prior to December 15, 2003, the stock was quoted on the OTC Bulletin Board. As of March 1, 2006,
there were approximately 105 record holders representing approximately 3,679 beneficial owners of
our common stock. Following is a list by fiscal quarters of the closing sales prices of our stock:
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Closing Sales Prices
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2005
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|
High
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|
|
Low
|
|
4th Quarter
|
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$
|
6.85
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|
|
$
|
4.45
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3rd Quarter
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|
$
|
7.30
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|
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$
|
5.12
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2nd Quarter
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|
$
|
8.54
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|
|
$
|
4.95
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|
1st Quarter
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|
$
|
9.02
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|
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$
|
5.24
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|
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|
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2004
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|
High
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Low
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4th Quarter
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|
$
|
6.51
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|
|
$
|
3.39
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3rd Quarter
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|
$
|
4.47
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|
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$
|
2.00
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2nd Quarter
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$
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6.45
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|
|
$
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3.00
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|
1st Quarter
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|
$
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8.40
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|
|
$
|
5.56
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We have never declared or paid any dividends. We may, as our board of directors deems
appropriate, continue to retain all earnings for use in our business or may consider paying
dividends in the future.
Information regarding securities authorized for issuance under equity compensation plans is
incorporated by reference to Part III of this report.
32
ITEM 6. SELECTED FINANCIAL DATA
The following table sets forth selected financial data that is qualified by reference to, and
should be read in conjunction with, Item 7. Managements Discussion and Analysis of Results of
Financial Condition and Results of Operations and Item 8. Financial Statements and Supplementary
Data included elsewhere in this report.
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Period from
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|
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February 13, 2003
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Year Ended
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(Inception) to
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December 31,
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December 31,
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(In thousands, except per share amounts)
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2005
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|
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2004
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2003
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Revenues
|
|
$
|
1,164
|
|
|
$
|
192
|
|
|
$
|
75
|
|
Operating expenses
|
|
|
|
|
|
|
|
|
|
|
|
|
General and administrative
|
|
|
|
|
|
|
|
|
|
|
|
|
Salaries and benefits
|
|
|
9,247
|
|
|
|
5,117
|
|
|
|
1,617
|
|
Research and development
|
|
|
2,646
|
|
|
|
177
|
|
|
|
|
|
Other expenses
|
|
|
13,264
|
|
|
|
6,173
|
|
|
|
1,928
|
|
Depreciation and amortization
|
|
|
879
|
|
|
|
670
|
|
|
|
75
|
|
|
|
|
|
|
|
|
|
|
|
Total operating expenses
|
|
|
26,036
|
|
|
|
12,137
|
|
|
|
3,620
|
|
|
|
|
|
|
|
|
|
|
|
Loss from operations
|
|
|
(24,872
|
)
|
|
|
(11,945
|
)
|
|
|
(3,545
|
)
|
Interest income
|
|
|
834
|
|
|
|
171
|
|
|
|
41
|
|
|
|
|
|
|
|
|
|
|
|
Loss before provision for income taxes
|
|
|
(24,038
|
)
|
|
|
(11,774
|
)
|
|
|
(3,504
|
)
|
Provision for income taxes
|
|
|
|
|
|
|
1
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net loss
|
|
$
|
(24,038
|
)
|
|
$
|
(11,775
|
)
|
|
$
|
(3,504
|
)
|
|
|
|
|
|
|
|
|
|
|
Basic and diluted net loss per share
|
|
$
|
(0.77
|
)
|
|
$
|
(0.47
|
)
|
|
$
|
(0.21
|
)
|
|
|
|
|
|
|
|
|
|
|
Weighted average shares outstanding
|
|
|
31,173
|
|
|
|
24,877
|
|
|
|
16,888
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
CASH FLOW DATA
|
|
|
|
|
|
|
|
|
|
|
|
|
Net cash used in operating activities
|
|
$
|
(18,789
|
)
|
|
$
|
(10,248
|
)
|
|
$
|
(1,374
|
)
|
Net cash used in investing activities
|
|
|
(22,236
|
)
|
|
|
(10,612
|
)
|
|
|
(16,527
|
)
|
Net cash provided by financing activities
|
|
|
40,442
|
|
|
|
21,416
|
|
|
|
21,345
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
As of December 31,
|
|
|
|
2005
|
|
|
2004
|
|
|
2003
|
|
BALANCE SHEET DATA
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash, cash equivalents and marketable securities
|
|
$
|
47,000
|
|
|
$
|
27,479
|
|
|
$
|
16,640
|
|
Total current assets
|
|
|
47,720
|
|
|
|
28,093
|
|
|
|
17,344
|
|
Total assets
|
|
|
54,462
|
|
|
|
33,962
|
|
|
|
22,580
|
|
Total liabilities
|
|
|
4,723
|
|
|
|
2,128
|
|
|
|
2,092
|
|
Stockholders equity
|
|
|
49,739
|
|
|
|
31,834
|
|
|
|
20,488
|
|
33
ITEM 7. MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Forward-Looking Statements
The forward-looking comments contained in the following discussion involve risks and
uncertainties. Our actual results may differ materially from those discussed here due to factors
such as, among others, limited operating history, difficulty in developing, exploiting and
protecting proprietary technologies, intense competition and substantial regulation in the
healthcare industry. Additional factors that could cause or contribute to such differences can be
found in the following discussion, as well as under Item 1.A Risks Factors above.
Overview
We research, develop, license and commercialize innovative physiological
treatment protocols designed for use by healthcare providers to treat individuals diagnosed with
dependencies to alcohol, cocaine and methamphetamine, as well as combinations of these drugs. We
have been unprofitable since our inception and may incur substantial additional operating losses
for at least the next twelve months as we incur expenditures on research and development, continue
to implement commercial operations and allocate significant and increasing resources to sales,
marketing and other start-up activities. Accordingly, our activities to date are not as broad in
depth or scope as the activities we may undertake in the future, and our historical operations and
financial information are not necessarily indicative of the future operating results or financial
condition or ability to operate profitably as a commercial enterprise. In 2005 we transitioned from
a development stage company to an operational company, increasing our number of licensed sites from
seven to 32 as of December 31, 2005, and reporting over $1 million in revenues.
Operations
We commenced operations in July 2003 and signed our first licensing agreement in November
2003. Under our licensing agreements, we provide treatment providers access to our PROMETA
protocols and marketing support to attract patient referrals. We receive a fee for the licensed
technology and related services generally on a per patient basis. Until the fourth quarter 2004, we
had signed only two license agreements and had generated a limited amount of revenues from only one hospital. In the fourth quarter 2004, our
business development efforts resulted in signing five additional license agreements with hospitals
and other healthcare providers. In 2005, through increased efforts to obtain additional licensing
agreements with hospitals and healthcare providers in major U.S. markets, we licensed an additional
25 sites, bringing the total number of licensed sites to 32 throughout the United States as of
December 31, 2005.
Most new licensees become operational after a two to six month period that is required for
training and other site initiation activities, but others may take longer before their programs
advance beyond the training phase. We believe that the number of patients treated by our licensees
will increase over time as our marketing, advertising and branding activities are implemented and
clinical outcomes data from research studies become available.
In December 2005, we commenced management of The PROMETA Center, Inc., a new affiliated
medical practice operating in a state-of-the-art outpatient facility located in Santa Monica,
California. Under the terms of a full service management agreement, we manage the medical practice
in exchange for management and licensing fees. The practice has a primary focus on using the
PROMETA protocols for dependencies on alcohol, cocaine and methamphetamines but will also offer
medical interventions for other substance dependencies. The PROMETA Center is the first location
solely dedicated to the treatment of alcohol, cocaine and methamphetamine dependencies with the
PROMETA protocols. The revenues and expenses of the PROMETA center are included in our
consolidated financial statements under accounting standards applicable to variable interest
entities.
Research and Development
In 2005 we announced a number of clinical research studies by preeminent researchers in the
field of substance dependence, to evaluate the efficacy of PROMETA in treating alcohol and
stimulant dependence. We anticipate that these studies will be the basis for publication in
scientific journals. We expect initial data from the
34
first methamphetamine study to be made available in the first half of 2006. In addition, we
have contracted with a contract research organization (CRO) to establish a clinical outcomes
registry for the monitoring and evaluation of up to 750 patients undergoing treatment using PROMETA
at our commercial licensee sites. We have also announced several pilot studies with state programs
and drug court systems to study the efficacy of the PROMETA protocols. In 2005 our expenditures
related to research and development was $2.6 million as compared to $177,000 in the prior year, and
we plan to spend over $8 million in 2006 and 2007 for research grants, commercial pilots and the
patient outcomes registry.
International Licensing
In 2004 and 2005 we established several wholly-owned foreign subsidiaries for the purpose of
licensing our intellectual property in foreign markets, and entered into an agreement to acquire
protocols for the treatment of nicotine and drug dependence in Europe. Our foreign activities to
date have consisted of funding of legal and other consulting services, development and start-up
activities for potential business opportunities in Europe. As of December 31, 2005, we had not
commenced any foreign operations.
Results of Operations
In 2005, we increased the number of licensed sites from seven to 32 as of December 31, 2005.
Eight of our licensees each contributed over 5% of our revenues in 2005, compared to only one in
2004 which contributed 93% of our revenues that year. We expect that an increasing number of our
licensees will become operational in 2006, and plan to continue to expand the number of licensees
in major metropolitan service areas throughout the country.
Revenues
Our revenues are generated from fees that we charge to hospitals, healthcare facilities and
other healthcare providers that license our PROMETA protocols. Our license agreements provide for a
combined fee for the licensed technology and related services, set on a per patient basis, and thus
our revenues are generally related to the number of patients treated. We also consolidate the
revenues and expenses of the PROMETA center under accounting standards applicable to variable
interest entities. Key indicators of our financial performance are the number of facilities and
healthcare providers that contract with us to license our technology and the number of patients
that are treated by those providers using the PROMETA protocols.
Revenues for the 12 months ended December 31, 2005 and 2004 were $1,164,000 and $192,000,
respectively, and $75,000 for the period from February 13, 2003 (inception) to December 31, 2003.
The total number of patients treated by our licensees was approximately 215 in 2005, 40 in 2004 and
15 in 2003. The increases in revenues each year is directly attributable to the increasing number
of patients treated at our licensed sites, with fourteen licensees contributing to revenues at some
level in 2005 as compared to three in 2004 and one in 2003. Our average license fees per patient
also increased from approximately $4,800 in 2004 to $5,400 in 2005 as the relative percentage of
patients treated by our licensees who were offered partial or full discounts during the site
start-up period or for training purposes declined in 2005 from 2004. There have been no
significant changes in our licensing fees charged to our licensees between the periods.
Operating Expenses
Our operating expenses more than doubled from 2004 to 2005 to approximately $26 million as we
commercialized operations, increased our management and support staff, commenced marketing and
advertising our PROMETA protocols, funded clinical research studies and invested in development of
international opportunities.
35
Salaries and benefits expenses were $9.2 million and $5.1 million for the years ended December
31, 2005 and 2004, respectively, and $1.6 million for the period from February 13, 2003 (inception)
to December 31, 2003. The significant increases in 2005 over 2004 reflect the increase in
personnel from 37 to approximately 90 employees in 2005, as we have added managers in the field to
support our 32 licensed sites and have increased our corporate staff to support our rapid growth in
operations, research, sales and marketing efforts, new business initiatives and general
administrative functions.
In 2005 we expensed approximately $2.6 million for research and development, compared to
$177,000 in 2004, as we funded unrestricted grants for research studies to evaluate our PROMETA
protocols, initiated the patient outcomes registry and commenced commercial pilot studies. We plan
to spend over $8 million over the next two years for such studies. We believe the results from
these studies will validate PROMETA as a method of care for treating alcoholism and stimulant
dependence, as well as serve to accelerate our growth. The fist outcomes data from these studies
are expected to be published in the first half of 2006.
Other operating expenses were $13.3 million and $6.2 million for the years ended December 31,
2005 and 2004, respectively, and $1.9 million for the period from February 13, 2003 (inception) to
December 31, 2003. Included in other operating expenses were non-cash charges for share-based
expense of $1.7 million, $1.2 million and $345,000 for the years ended December 31, 2005 and 2004
and for the period from February 13, 2003 (inception) to December 31, 2003, respectively. Other
operating expenses include legal, audit, insurance, rent, travel and entertainment, investor
relations, marketing, advertising, business development and other professional consulting costs.
Most expenditures increased significantly in 2005 from 2004 due to the rapid growth of our business
and the resulting increase in our corporate infrastructure to support the increase in staffing in
2005. In addition, beginning in the second half of 2005, we invested significant funds in test
piloting local advertising campaigns and the development of corporate advertising and marketing
programs to increase public awareness of our PROMETA treatment, as well as development of a
consumer website. We also incurred over $400,000 in 2005 for consultants and additional audit fees
to meet the new internal control reporting requirements of Section 404 of the Sarbanes-Oxley Act of
2002.
Interest Income
The increase in interest income from $171,000 in 2004 to $834,000 in 2005 is primarily due to
additional proceeds from our equity offerings of $21 million in December 2004 and $40 million in
November 2005, and an increase in the weighted average interest
rates during 2005.
Liquidity and Capital Resources
We have financed our operations since inception primarily through the sale of shares of our
stock. In September 2003 we received net proceeds of approximately $21 million from the private
placement of our equity securities, and in December 2004 we received net proceeds of approximately
$21 million from a second private placement of our stock. In November 2005, we raised an additional
$40 million in net proceeds from a follow-on underwritten offering of 9.2 million shares of our
common stock. As of December 31, 2005 we had a balance of approximately $47 million in cash, cash
equivalents and marketable securities.
Since we are a rapidly growing business, our prior operating costs are not representative of
our expected on-going costs. As we continue to implement commercial operations and allocate
significant and increasing resources to sales, marketing and other start-up activities, we expect
our monthly cash operating expenditures to steadily increase from our current average of
approximately $2.3 million per month to approximately $3.2 million per month over the next twelve
months, excluding research and development costs. We plan to spend approximately $8 million over
the next two years for research and development.
In 2005, we expended approximately $1.8 million in capital expenditures for the build-out and
furnishing of The Prometa Center, the purchase of computers and office equipment for our new staff
and expansion of our corporate office facilities, additional investment in the development of our
information systems and other equipment needs. In 2006, we expect our capital expenditures to be
approximately $1.5 million.
36
We will continue to invest in the infrastructure we believe we will need, both in management
as well as systems and equipment, to develop, market and implement our business plan. Our future
capital requirements will depend upon many factors, including progress with marketing our
technologies, the time and costs involved in preparing, filing, prosecuting, maintaining and
enforcing patent claims and other proprietary rights, the necessity of, and time and costs involved
in obtaining, regulatory approvals, competing technological and market developments, and our
ability to establish collaborative arrangements, effective commercialization, marketing activities
and other arrangements.
We expect to continue to incur negative cash flows and net losses for at least the next twelve
months. Based upon our current plans, including anticipated growth in our revenues, we believe that
our existing cash reserves totaling approximately $47 million as of December 31, 2005 will be
sufficient to meet our operating expenses and capital requirements until we achieve profitability.
However, changes in our business strategy, technology development or marketing plans or other
events affecting our operating plans and expenses may result in the expenditure of existing cash
before that time. If this occurs, our ability to meet our cash obligations as they become due and
payable will depend on our ability to sell securities, borrow funds or some combination thereof. We
may seek additional funding through public or private financing or through collaborative
arrangements with strategic partners. We may also seek to raise additional capital through public
or private financing in order to increase the amount of our cash reserves on hand. We may not be
successful in raising necessary funds on acceptable terms, or at all.
Legal Proceedings
From time to time, we may be involved in litigation relating to claims arising out of our
operations in the normal course of business. As of the date of this report, we are not currently
involved in any legal proceeding that we believe would have a material adverse effect on our
business, financial condition or operating results.
Contractual Obligations and Commercial Commitments
The following table sets forth a summary of our material contractual obligations and
commercial commitments as of December 31, 2005:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Less than 1
|
|
|
|
|
|
|
|
|
|
|
More than 5
|
|
Contractual Obligations
|
|
Total
|
|
|
year
|
|
|
1 - 3 years
|
|
|
3 - 5 years
|
|
|
years
|
|
Operating lease obligations (1)
|
|
$
|
4,024,000
|
|
|
$
|
783,000
|
|
|
$
|
1,636,000
|
|
|
$
|
1,605,000
|
|
|
|
|
|
Contractual Commitments for Clinical
Studies
|
|
$
|
4,387,000
|
|
|
$
|
2,408,000
|
|
|
$
|
1,979,000
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$
|
8,411,000
|
|
|
$
|
3,191,000
|
|
|
$
|
3,615,000
|
|
|
$
|
1,605,000
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1)
|
|
Operating lease commitment for our corporate office facilities and the PROMETA
Center, including deferred rent liability.
|
Off-Balance Sheet Arrangements
As of December 31, 2005 we had no off-balance sheet arrangements.
Effects of Inflation
Our most liquid assets are cash, cash equivalents and marketable securities. Because of their
liquidity, these assets are not directly affected by inflation. Because we intend to retain and
continue to use our equipment, furniture and fixtures and leasehold improvements, we believe that
the incremental inflation related to replacement costs of such items will not materially affect our
operations. However, the rate of inflation affects our expenses, such as those for employee
compensation and contract services, which could increase our level of expenses and the rate at
which we use our resources.
37
Critical Accounting Estimates
The discussion and analysis of our financial condition and results of operations is based upon
our financial statements, which have been prepared in accordance with accounting principles
generally accepted in the United States. Generally accepted accounting principles require
management to make estimates, judgments and assumptions that affect the reported amounts of assets,
liabilities, revenues and expenses, and the disclosure of contingent assets and liabilities. We
base our estimates on experience and on various other assumptions that we believe to be reasonable
under the circumstances, the results of which form the basis for making judgments about the
carrying values of assets and liabilities that may not be readily apparent from other sources. Our
actual results may differ from those estimates.
We consider our critical accounting estimates to be those that (1) involve significant
judgments and uncertainties, (2) require estimates that are more difficult for management to
determine, and (3) may produce materially different results when using different assumptions.
Management has discussed these critical accounting estimates, the basis for their underlying
assumptions and estimates and the nature of our related disclosures herein with the Audit Committee
of the Board of Directors. Our critical accounting estimates cover the following areas:
Share-based Expense
We account for the issuance of options and warrants for services from non-employees in
accordance with Statement of Financial Accounting Standards (SFAS) 123, Accounting for Stock-Based
Compensation, by estimating the fair value of options and warrants issued using the Black-Scholes
pricing model. This models calculations include the exercise price, the market price of shares on
grant date, weighted average assumptions for risk-free interest rates, expected life of the option
or warrant, expected volatility of our stock and expected dividend yield. The amounts recorded in
the financial statements for share-based expense could vary significantly if we were to use
different assumptions. For example, the assumptions we have made for the expected volatility of our
stock price have been made using volatility averages of other public healthcare companies, since we
have a limited history as a public company and our actual stock price volatility would not be
meaningful. If we were to use the actual volatility of our stock price, there may be a significant
variance in the amounts of share-based expense from the amounts reported. Based on the 2005
assumptions used for the Black-Scholes pricing model, a 50% increase in stock price volatility
would have increased the fair values of options by approximately 25%.
Commencing January 1, 2006, we implemented the accounting provisions of SFAS 123R on a
modified-prospective basis to recognize stock-based compensation for employee stock option awards
in our statements of operations for future periods. See Recent Accounting Pronouncements below
for a discussion of SFAS 123R.
Impairment of Intangible Assets
We have capitalized significant costs, and plan to capitalize additional costs, for acquiring
patents and other intellectual property directly related to our products and services. We will
continue to evaluate our intangible assets for impairment on an ongoing basis by assessing the
future recoverability of such capitalized costs based on estimates of our future revenues less
estimated costs. Since we have not recognized significant revenues to date, our estimates of future
revenues may not be realized and the net realizable value of our capitalized costs of intellectual
property may become impaired. In December 2005, we recorded an impairment charge of $272,000 to
write off the capitalized costs of intellectual property relating to an acquired patent for a
treatment method for opiate addiction that we have determined would not likely be utilized in our
current business plan.
Segment Reporting
We currently operate in one reportable segment. Substantially all of our services are provided
within the United States, and substantially all of our assets are located within the United States.
Recent Accounting Pronouncements
In December 2004, the Financial Accounting Standards Board (FASB) issued SFAS 123R,
Share-Based Payment, which addresses the accounting for employee stock options. SFAS 123R
revises the disclosure provisions of SFAS 123 and supersedes APB 25. SFAS 123R requires that the
cost of all employee stock options
38
be reflected in the financial statements based on the estimated fair value of the awards at date of
grant. Share-based compensation for non-employees is accounted for in accordance with FASB Emerging
Issues Task Force (EITF) No. 96-18 Accounting For Equity Instruments That Are Issued To Other Than
Employees For Acquiring Or In Conjunction With Selling Goods Or Services. In April 2005, the
Securities and Exchange Commission (SEC) amended Rule 4-01(a) of Regulation S-X to defer the
required date for compliance with SFAS 123R to the first interim or annual reporting period of the
registrants first fiscal year beginning on or after June 15, 2005. We have adopted SFAS 123R on
January 1, 2006, which complies with the amended Rule 4-01(a). Under SFAS 123R, we will transition
to the fair-value-based method using a modified prospective application Under that transition
method, compensation cost will be recognized commencing in 2006 for the portion of outstanding
awards for which the requisite service has not yet been rendered. We do not expect the provisions
of SFAS 123R to result in a significant change in the compensation expense we currently disclose on
a pro forma basis under SFAS 123. Through December 31, 2005, we accounted for share-based payments
to employees using the intrinsic value method under APB 25 and, as such, generally recognized no
compensation cost for employee stock options. Accordingly, the adoption of fair value method under
SFAS 123R will increase our operating costs, but will not have a material impact on our overall
financial position. The specific magnitude of the impact of adoption of SFAS 123R cannot be
predicted at this time because it will depend on levels of share-based incentive awards granted in
the future. However, had we adopted SFAS 123R in prior periods, the impact of that standard would
have approximated the impact of SFAS 123 as described in the disclosure of pro forma net loss and
loss per share in the footnotes to our financial statements.
In May 2005, the FASB issued SFAS 154, Accounting Changes and Error Corrections. SFAS 154
replaces Accounting Principals Board (APB) Opinion No. 20, Accounting Changes and SFAS 3,
Reporting Accounting Changes in Interim Financial Statements and establishes retrospective
application as the required method for reporting a change in accounting principle. SFAS 154
provides guidance for determining whether retrospective application of a change in accounting
principle is impracticable and for reporting a change when retrospective application is
impracticable. The reporting of a correction of an error by restating previously issued financial
statements is also addressed. SFAS 154 is effective for accounting changes and corrections of
errors made in fiscal years beginning after December 15, 2005. We do not expect the adoption of
this statement to have a material impact on our financial statements.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We invest our cash in short term commercial paper, certificates of deposit, money market
accounts and marketable securities. We consider any liquid investment with an original maturity of
three months or less when purchased to be cash equivalents. We classify investments with maturity
dates greater than three months when purchased as marketable securities, which have readily
determined fair values as available-for-sale securities. Our investment policy requires that all
investments be investment grade quality and no more than ten percent of our portfolio may be
invested in any one security or with one institution. At December 31, 2005, our investment
portfolio consisted of investments in highly liquid, high grade commercial paper, variable rate
securities and certificates of deposit. The weighted average interest rate of cash equivalents and
marketable securities held at December 31, 2005 was 4.2%.
Investments in both fixed rate and floating rate interest earning instruments carry a degree
of interest rate risk. Fixed rate securities may have their fair market value adversely impacted
due to a rise in interest rates, while floating rate securities with shorter maturities may produce
less income if interest rates fall. The market risk associated with our investments in debt
securities is substantially mitigated by the frequent turnover of our portfolio.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Our consolidated financial statements and related financial information required to be filed
hereunder are indexed under Item 15 of this report and are incorporated herein by reference.
39
ITEM 9A. CONTROLS AND PROCEDURES
Disclosure Controls
We have evaluated, with the participation of our Chief Executive Officer and our Chief
Financial Officer, the effectiveness of our system of disclosure controls and procedures as of the
end of the period covered by this report. Based on this evaluation our Chief Executive Officer and
our Chief Financial Officer have determined that they are effective in connection with the
preparation of this report.
There were no changes in our internal controls over financial reporting during the quarter
ended December 31, 2005 that have materially affected, or are reasonably likely to materially
affect, our internal control over financial reporting.
Managements Report on Internal Control over Financial Reporting
Our management is responsible for establishing and maintaining adequate internal control over
financial reporting (as defined in Rule 13a-15(f) under the Exchange Act) and for assessing the
effectiveness of our internal control over financial reporting. Our internal control system is
designed to provide reasonable assurance to our management and Board of Directors regarding the
preparation and fair presentation of published financial statements in accordance with United
States generally accepted accounting principles.
Our internal control over financial reporting is supported by written policies and procedures
that:
|
|
|
pertain to the maintenance of records that, in reasonable detail, accurately
and fairly reflect the transactions and dispositions of our assets;
|
|
|
|
|
provide reasonable assurance that transactions are recorded as necessary to
permit preparation of financial statements in accordance with generally accepted
accounting principles and that our receipts and expenditures are being made only in
accordance with authorizations of our management and our Board of Directors; and
|
|
|
|
|
provide reasonable assurance regarding prevention or timely detection of
unauthorized acquisition, use or disposition of our assets that could have a material
effect on our financial statements.
|
Our management assessed the effectiveness of our internal control over financial reporting as
of December 31, 2005 using the criteria set forth by the Committee of Sponsoring Organizations of
the Treadway Commission (COSO) in
Internal Control-Integrated Framework
. Managements assessment
included an evaluation of the design of our internal control over financial reporting and testing
of the operational effectiveness of our internal control over financial reporting. Based on this
assessment, our management concluded that, as of December 31, 2005, our internal control over
financial reporting was effective.
Because of its inherent limitations, a system of internal control over financial reporting can
provide only reasonable assurance and may not prevent or detect misstatements. In addition,
projections of any evaluation of effectiveness to future periods are subject to the risks that
controls may become inadequate because of changes in conditions and that the degree of compliance
with the policies or procedures may deteriorate.
BDO Seidman, LLP, the independent registered public accounting firm that audited the financial
statements included in this Annual Report on Form 10-K, was engaged to attest to and report on
managements assessment of the effectiveness of our internal control over financial reporting as of
December 31, 2005. A copy of this report is included at page F-3 of this Annual Report on Form
10-K.
ITEM 9B. OTHER INFORMATION
Not applicable.
40
The information required by Items 10 through 14 of Part III is incorporated by reference
from Item 1 of this report and from registrants proxy statement that will be mailed to
stockholders in connection with the registrants 2006 annual meeting of stockholders.
41
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES
(a)(1),(2)
Financial Statements
The Financial Statements and Financial Statement Schedules listed on page F-1 of this document
are filed as part of this filing.
(a)(3)
Exhibits
The following exhibits are filed as part of this report:
|
|
|
Exhibit No.
|
|
Description
|
3.1
|
|
Certificate of Incorporation of Hythiam, Inc., a Delaware corporation,
filed with the Secretary of State of Delaware on September 29,
2003
(1)
|
|
|
|
3.2
|
|
By-Laws of Hythiam, Inc., a Delaware corporation
(1)
|
|
|
|
4.1
|
|
Specimen Common Stock Certificate
|
|
|
|
10.1*
|
|
2003 Stock Incentive Plan
(1)
|
|
|
|
10.2*
|
|
Employment Agreement of Terren S. Peizer
|
|
|
|
10.3*
|
|
Employment Agreement of Richard Anderson
|
|
|
|
10.4*
|
|
Employment Agreement of Anthony LaMacchia
|
|
|
|
10.5*
|
|
Employment Agreement of Chuck Timpe
|
|
|
|
10.6*
|
|
Employment Agreement of David E.
Smith, M.D.
|
|
|
|
10.7*
|
|
Consulting Services Agreement
between Hythiam, Inc. and David E. Smith & Associates
|
|
|
|
10.8*
|
|
Management and Support Services Agreement between Hythiam, Inc. and David
E. Smith, M.D. Medical Group, Inc.
|
|
|
|
14.1
|
|
Code of Conduct and Ethics
(2)
|
|
|
|
14.2
|
|
Code of Ethics for CEO and Senior Financial Officers
(2)
|
|
|
|
21.1
|
|
Subsidiaries of the Company
|
|
|
|
23.1
|
|
Consent of Independent Registered Public Accounting Firm BDO Seidman, LLP
|
|
|
|
31.1
|
|
Certification by the Chief Executive Officer, pursuant to Rule 13-a-14(a)
and 15d-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley
Act of 2002
|
|
|
|
31.2
|
|
Certification by the Chief Financial Officer, pursuant to Rule 13-a-14(a)
and 15d-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley
Act of 2002
|
|
|
|
32.1
|
|
Certification by the Chief Executive Officer, pursuant to 18 U.S.C.
Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act
of 2002
|
|
|
|
32.2
|
|
Certification by the Chief Financial Officer, pursuant to 18 U.S.C.
Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act
of 2002
|
42
|
|
|
(1)
|
|
Incorporated by reference to exhibit of the same number to the registrants Form 8-K
filed September 30, 2003.
|
|
(2)
|
|
Incorporated by reference to exhibit of the same number to the registrants annual
report on Form 10-K for the year ended December 31, 2003.
|
|
* Management contract or compensatory plan or arrangement.
|
43
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934,
the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto
duly authorized.
|
|
|
|
|
|
|
HYTHIAM, INC.
|
|
|
|
|
|
Date: March 16, 2006
|
|
By:
|
|
/s/ TERREN S. PEIZER
|
|
|
|
|
|
|
|
|
|
Terren S. Peizer
|
|
|
|
|
President and Chief Executive Officer
|
POWER OF ATTORNEY
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been
signed by the following persons on behalf of the registrant and in the capacities and on the dates
indicated.
|
|
|
|
|
Signature
|
|
Title(s)
|
|
Date
|
/s/ TERREN S. PEIZER
Terren S. Peizer
|
|
Chairman of the Board of Directors and
Chief Executive Officer
(Principal
Executive Officer)
|
|
March 16, 2006
|
|
|
|
|
|
/s/ CHUCK TIMPE
Chuck Timpe
|
|
Chief Financial Officer (Principal
Financial and
Accounting Officer)
|
|
March 16, 2006
|
|
|
|
|
|
/s/ RICHARD A. ANDERSON
Richard A. Anderson
|
|
Director and Chief Administrative Officer
|
|
March 16, 2006
|
|
|
|
|
|
/s/ ANTHONY M. LAMACCHIA
Anthony M. LaMacchia
|
|
Director and Chief Operating Officer
|
|
March 16, 2006
|
|
|
|
|
|
/s/ LESLIE F. BELL
Leslie F. Bell
|
|
Director
|
|
March 16, 2006
|
|
|
|
|
|
/s/ HERVÉ DE KERGROHEN
Hervé de Kergrohen
|
|
Director
|
|
March 16, 2006
|
|
|
|
|
|
/s/ IVAN M. LIEBERBURG
Ivan M. Lieberburg
|
|
Director
|
|
March 16, 2006
|
|
|
|
|
|
/s/ MARC G. CUMMINS
Marc G. Cummins
|
|
Director
|
|
March 16, 2006
|
|
|
|
|
|
/s/ ANDREA GRUBB BARTHWELL
Andrea Grubb Barthwell
|
|
Director
|
|
March 16, 2006
|
44
HYTHIAM, INC. AND SUBSIDIARIES
Index to Financial Statements and Financial Statement Schedules
Financial Statements
|
|
|
|
|
F-2
|
|
|
|
|
|
F-3
|
|
|
|
|
|
F-4
|
|
|
|
|
|
F-5
|
|
|
|
|
|
F-6
|
|
|
|
|
|
F-7
|
|
|
|
|
|
F-8
|
Financial Statement Schedules
All financial statement schedules are omitted because they are not applicable, not required,
or the information is shown in the Financial Statements or Notes thereto.
F-1
Report of Independent Registered Public Accounting Firm
Board of Directors and Stockholders
Hythiam, Inc.
Los Angeles, California
We have audited the accompanying consolidated balance sheets of Hythiam, Inc. and subsidiaries
(the Company) as of December 31, 2005 and 2004 and the related consolidated statements of
operations, stockholders equity and cash flows for the years ended December 31, 2005 and 2004 and
the period from February 13, 2003 (inception) to December 31, 2003. These financial statements are
the responsibility of the Companys management. Our responsibility is to express an opinion on
these financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting
Oversight Board (United States). Those standards require that we plan and perform the audits to
obtain reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and
disclosures in the financial statements, assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, such consolidated financial statements present fairly, in all material
respects, the financial position of Hythiam, Inc. and subsidiaries as of December 31, 2005 and 2004
and the consolidated results of its operations and its cash flows for the years ended December 31,
2005 and 2004 and the period from inception to December 31, 2003, in conformity with accounting
principles generally accepted in the United States of America.
We have also audited, in accordance with the standards of the Public Company Accounting
Oversight Board (United States), the effectiveness of the Companys internal control over financial
reporting as of December 31, 2005, based on the criteria established in
Internal ControlIntegrated
Framework
issued by the Committee of Sponsoring Organizations of the Treadway Commission and our
report dated March 15, 2006 expressed an unqualified opinion thereon.
/s/ BDO Seidman, LLP
Los Angeles, California
March 15, 2006
F-2
Report of Independent Registered Public Accounting Firm
To the Stockholders and Board of Directors
Hythiam, Inc.
Los Angeles, California
We have audited managements assessment, included in
Managements Report on Internal Control
over Financial Reporting
appearing in Item 9A of the accompanying Annual Report on Form 10-K, that
Hythiam, Inc. and subsidiaries (the Company) maintained effective internal control over financial
reporting as of December 31, 2005, based on criteria established in
Internal Control-Integrated
Framework
issued by the Committee of Sponsoring Organizations of the Treadway Commission. The
Companys management is responsible for maintaining effective internal control over financial
reporting and for its assessment of the effectiveness of internal control over financial reporting.
Our responsibility is to express an opinion on managements assessment and an opinion on the
effectiveness of the Companys internal control over financial reporting based on our audit.
We conducted our audit in accordance with the standards of the Public Company Accounting
Oversight Board (United States). Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether effective internal control over financial reporting was
maintained in all material respects. Our audit included obtaining an understanding of internal
control over financial reporting, evaluating managements assessment, testing and evaluating the
design and operating effectiveness of internal control, and performing such other procedures as we
considered necessary in the circumstances. We believe that our audit provides a reasonable basis
for our opinion.
A companys internal control over financial reporting is a process designed to provide
reasonable assurance regarding the reliability of financial reporting and the preparation of
financial statements for external purposes in accordance with accounting principles generally
accepted in the United States of America. A companys internal control over financial reporting
includes those policies and procedures that (i) pertain to the maintenance of records that, in
reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of
the company; (ii) provide reasonable assurance that transactions are recorded as necessary to
permit preparation of financial statements in accordance with accounting principles generally
accepted in the United States of America, and that receipts and expenditures of the company are
being made only in accordance with authorizations of management and directors of the company; and
(iii) provide reasonable assurance regarding prevention or timely detection of unauthorized
acquisition, use or disposition of the companys assets that could have a material effect on the
financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent
or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are
subject to the risk that controls may become inadequate because of changes in conditions, or that
the degree of compliance with the policies or procedures may deteriorate.
In our opinion, managements assessment that the Company maintained effective internal control
over financial reporting as of December 31, 2005 is fairly stated, in all material respects, based
on the criteria established in Internal Control-Integrated Framework issued by the Committee of
Sponsoring Organizations of the Treadway Commission. Also, in our opinion, the Company maintained,
in all material respects, effective internal control over financial reporting as of December 31,
2005, based on the criteria established in Internal Control-Integrated Framework issued by the
Committee of Sponsoring Organizations of the Treadway Commission.
We have also audited, in accordance with the standards of the Public Company Accounting
Oversight Board (United States), the consolidated financial statements as of December 31, 2005 and
2004 and the related statements of operations, stockholders equity and cash flows for the years
ended December 31, 2005 and 2004 and the period from February 13, 2003 (inception) to December 31,
2003, and our report dated March 15, 2006 expressed an unqualified opinion on those financial
statements.
/s/ BDO Seidman, LLP
Los Angeles, California
March 15, 2006
F-3
HYTHIAM, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(Dollars in thousands, except share data)
|
|
|
|
|
|
|
|
|
|
|
December 31,
|
|
|
|
2005
|
|
|
2004
|
|
ASSETS
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Current assets
|
|
|
|
|
|
|
|
|
Cash and cash equivalents
|
|
$
|
3,417
|
|
|
$
|
4,000
|
|
Marketable securities
|
|
|
43,583
|
|
|
|
23,479
|
|
Restricted cash and marketable securities
|
|
|
44
|
|
|
|
|
|
Receivables, net
|
|
|
249
|
|
|
|
168
|
|
Prepaids and other current assets
|
|
|
427
|
|
|
|
446
|
|
|
|
|
|
|
|
|
Total current assets
|
|
|
47,720
|
|
|
|
28,093
|
|
|
|
|
|
|
|
|
|
|
Long-term assets
|
|
|
|
|
|
|
|
|
Property and equipment, net
|
|
|
3,498
|
|
|
|
2,424
|
|
Intellectual property, net
|
|
|
2,733
|
|
|
|
3,080
|
|
Deposits and other assets
|
|
|
511
|
|
|
|
365
|
|
|
|
|
|
|
|
|
|
|
$
|
54,462
|
|
|
$
|
33,962
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
LIABILITIES AND STOCKHOLDERS EQUITY
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Current liabilities
|
|
|
|
|
|
|
|
|
Accounts payable
|
|
$
|
2,652
|
|
|
$
|
609
|
|
Accrued compensation and benefits
|
|
|
1,285
|
|
|
|
826
|
|
Other accrued liabilities
|
|
|
298
|
|
|
|
329
|
|
|
|
|
|
|
|
|
Total current liabilities
|
|
|
4,235
|
|
|
|
1,764
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Long-term liabilities
|
|
|
|
|
|
|
|
|
Deferred rent liability
|
|
|
488
|
|
|
|
364
|
|
|
|
|
|
|
|
|
|
|
Commitments and contingencies
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Stockholders equity
|
|
|
|
|
|
|
|
|
Preferred stock, $.0001 par value; 50,000,000 shares authorized;
no shares issued and outstanding
|
|
|
|
|
|
|
|
|
Common stock, $.0001 par value; 200,000,000 shares authorized;
39,504,000 and 30,111,000 shares issued and 39,144,000
and 29,751,000 shares outstanding at December 31, 2005
and December 31, 2004, respectively
|
|
|
4
|
|
|
|
3
|
|
Additional paid-in-capital
|
|
|
89,176
|
|
|
|
47,234
|
|
Accumulated deficit
|
|
|
(39,441
|
)
|
|
|
(15,403
|
)
|
|
|
|
|
|
|
|
|
|
|
49,739
|
|
|
|
31,834
|
|
|
|
|
|
|
|
|
|
|
$
|
54,462
|
|
|
$
|
33,962
|
|
|
|
|
|
|
|
|
See accompanying notes to consolidated financial statements.
F-4
HYTHIAM, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Period from
|
|
|
|
|
|
|
|
|
|
|
|
February 13,
|
|
|
|
|
|
|
|
|
|
|
|
2003
|
|
|
|
|
|
|
|
|
|
|
|
(Inception) to
|
|
|
|
Year Ended December 31,
|
|
|
December 31,
|
|
(In thousands, except per share amounts)
|
|
2005
|
|
|
2004
|
|
|
2003
|
|
Revenues
|
|
$
|
1,164
|
|
|
$
|
192
|
|
|
$
|
75
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating Expenses
|
|
|
|
|
|
|
|
|
|
|
|
|
General and administrative
|
|
|
|
|
|
|
|
|
|
|
|
|
Salaries and benefits
|
|
|
9,247
|
|
|
|
5,117
|
|
|
|
1,617
|
|
Research and development
|
|
|
2,646
|
|
|
|
177
|
|
|
|
|
|
Other operating expenses
|
|
|
13,264
|
|
|
|
6,173
|
|
|
|
1,928
|
|
Depreciation and amortization
|
|
|
879
|
|
|
|
670
|
|
|
|
75
|
|
|
|
|
|
|
|
|
|
|
|
Total operating expenses
|
|
|
26,036
|
|
|
|
12,137
|
|
|
|
3,620
|
|
|
|
|
|
|
|
|
|
|
|
Loss from operations
|
|
|
(24,872
|
)
|
|
|
(11,945
|
)
|
|
|
(3,545
|
)
|
Interest income
|
|
|
834
|
|
|
|
171
|
|
|
|
41
|
|
|
|
|
|
|
|
|
|
|
|
Loss before provision for income taxes
|
|
|
(24,038
|
)
|
|
|
(11,774
|
)
|
|
|
(3,504
|
)
|
Provision for income taxes
|
|
|
|
|
|
|
1
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net loss
|
|
$
|
(24,038
|
)
|
|
$
|
(11,775
|
)
|
|
$
|
(3,504
|
)
|
|
|
|
|
|
|
|
|
|
|
Basic and diluted net loss per share
|
|
$
|
(0.77
|
)
|
|
$
|
(0.47
|
)
|
|
$
|
(0.21
|
)
|
|
|
|
|
|
|
|
|
|
|
See accompanying notes to consolidated financial statements.
F-5
HYTHIAM, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF STOCKHOLDERS EQUITY
Period from February, 13, 2003 (Inception) to December 31, 2005
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(In thousands)
|
|
Preferred Stock
|
|
|
Common Stock
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Additional
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Paid-in-
|
|
|
Accumulated
|
|
|
|
|
|
|
Shares
|
|
|
Amount
|
|
|
Shares
|
|
|
Amount
|
|
|
Capital
|
|
|
Deficit
|
|
|
Total
|
|
Common stock issued at inception
|
|
|
|
|
|
$
|
|
|
|
|
13,740
|
|
|
$
|
|
|
|
$
|
1
|
|
|
$
|
|
|
|
$
|
1
|
|
Common stock issued in merger
transaction
|
|
|
|
|
|
|
|
|
|
|
1,120
|
|
|
|
1
|
|
|
|
(1
|
)
|
|
|
|
|
|
|
|
|
Preferrred stock and warrants
issued for cash
|
|
|
1,876
|
|
|
|
2
|
|
|
|
|
|
|
|
|
|
|
|
4,688
|
|
|
|
|
|
|
|
4,690
|
|
Beneficial conversion feature of
preferred stock
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
124
|
|
|
|
(124
|
)
|
|
|
|
|
Common stock issued in private
placement offering, net of expenses
|
|
|
|
|
|
|
|
|
|
|
7,035
|
|
|
|
7
|
|
|
|
16,647
|
|
|
|
|
|
|
|
16,654
|
|
Conversion of preferred stock to
common stock
|
|
|
(1,876
|
)
|
|
|
(2
|
)
|
|
|
1,876
|
|
|
|
2
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Par value change from $0.001
to $0.0001
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(8
|
)
|
|
|
8
|
|
|
|
|
|
|
|
|
|
Common stock and warrants issued for
intellectual property acquired
|
|
|
|
|
|
|
|
|
|
|
836
|
|
|
|
1
|
|
|
|
2,280
|
|
|
|
|
|
|
|
2,281
|
|
Stock options and warrants issued for
outside services
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
366
|
|
|
|
|
|
|
|
366
|
|
Net loss
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(3,504
|
)
|
|
|
(3,504
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance at December 31, 2003
|
|
|
|
|
|
|
|
|
|
|
24,607
|
|
|
|
3
|
|
|
|
24,113
|
|
|
|
(3,628
|
)
|
|
|
20,488
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Common stock and warrants
issued for outside services
|
|
|
|
|
|
|
|
|
|
|
17
|
|
|
|
|
|
|
|
1,351
|
|
|
|
|
|
|
|
1,351
|
|
Common stock issued in private
placement offering, net of expenses
|
|
|
|
|
|
|
|
|
|
|
5,017
|
|
|
|
|
|
|
|
21,349
|
|
|
|
|
|
|
|
21,349
|
|
Common stock issued
for intellectual property acquired
|
|
|
|
|
|
|
|
|
|
|
83
|
|
|
|
|
|
|
|
354
|
|
|
|
|
|
|
|
354
|
|
Exercise of warrants
|
|
|
|
|
|
|
|
|
|
|
27
|
|
|
|
|
|
|
|
67
|
|
|
|
|
|
|
|
67
|
|
Net loss
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(11,775
|
)
|
|
|
(11,775
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance at December 31, 2004
|
|
|
|
|
|
|
|
|
|
|
29,751
|
|
|
|
3
|
|
|
|
47,234
|
|
|
|
(15,403
|
)
|
|
|
31,834
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Common stock, options and warrants
issued for outside services
|
|
|
|
|
|
|
|
|
|
|
23
|
|
|
|
|
|
|
|
1,501
|
|
|
|
|
|
|
|
1,501
|
|
Exercise of options and warrants
|
|
|
|
|
|
|
|
|
|
|
170
|
|
|
|
|
|
|
|
265
|
|
|
|
|
|
|
|
265
|
|
Issuance of shares in connection with
public offering, net of expenses
|
|
|
|
|
|
|
|
|
|
|
9,200
|
|
|
|
1
|
|
|
|
40,176
|
|
|
|
|
|
|
|
40,177
|
|
Net loss
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(24,038
|
)
|
|
|
(24,038
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance at December 31, 2005
|
|
|
|
|
|
$
|
|
|
|
|
39,144
|
|
|
$
|
4
|
|
|
$
|
89,176
|
|
|
$
|
(39,441
|
)
|
|
$
|
49,739
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
See accompanying notes to consolidated financial statements.
F-6
HYTHIAM, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Period from
|
|
|
|
|
|
|
|
|
|
|
|
February 13, 2003
|
|
|
|
Year Ended
|
|
|
(Inception) to
|
|
(In thousands)
|
|
December 31,
|
|
|
December 31,
|
|
|
|
2005
|
|
|
2004
|
|
|
2003
|
|
Operating activities
|
|
|
|
|
|
|
|
|
|
|
|
|
Net loss
|
|
$
|
(24,038
|
)
|
|
$
|
(11,775
|
)
|
|
$
|
(3,504
|
)
|
Adjustments to reconcile net loss to net cash used in
operating activities:
|
|
|
|
|
|
|
|
|
|
|
|
|
Depreciation and amortization
|
|
|
879
|
|
|
|
670
|
|
|
|
75
|
|
Deferred rent
|
|
|
124
|
|
|
|
(17
|
)
|
|
|
64
|
|
Share-based expense
|
|
|
1,701
|
|
|
|
1,172
|
|
|
|
345
|
|
Asset impairment
|
|
|
272
|
|
|
|
|
|
|
|
|
|
Loss on disposition of fixed assets
|
|
|
64
|
|
|
|
|
|
|
|
|
|
Changes in current assets and liabilities:
|
|
|
|
|
|
|
|
|
|
|
|
|
Receivables
|
|
|
(81
|
)
|
|
|
(14
|
)
|
|
|
(154
|
)
|
Prepaids and other current assets
|
|
|
(181
|
)
|
|
|
(20
|
)
|
|
|
(228
|
)
|
Accounts payable
|
|
|
2,043
|
|
|
|
(650
|
)
|
|
|
1,259
|
|
Accrued compensation and benefits
|
|
|
459
|
|
|
|
508
|
|
|
|
318
|
|
Other accrued liabilities
|
|
|
(31
|
)
|
|
|
(122
|
)
|
|
|
451
|
|
|
|
|
|
|
|
|
|
|
|
Net cash used in operating activities
|
|
|
(18,789
|
)
|
|
|
(10,248
|
)
|
|
|
(1,374
|
)
|
|
|
|
|
|
|
|
|
|
|
Investing activities
|
|
|
|
|
|
|
|
|
|
|
|
|
Purchase of marketable securities
|
|
|
(80,704
|
)
|
|
|
(31,914
|
)
|
|
|
(18,240
|
)
|
Proceeds from sales and maturities of marketable securities
|
|
|
60,600
|
|
|
|
21,631
|
|
|
|
5,044
|
|
Restricted cash
|
|
|
(44
|
)
|
|
|
|
|
|
|
|
|
Purchases of property and equipment
|
|
|
(1,803
|
)
|
|
|
(205
|
)
|
|
|
(2,443
|
)
|
Intellectual property costs
|
|
|
(139
|
)
|
|
|
(126
|
)
|
|
|
(538
|
)
|
Deposits and other assets
|
|
|
(146
|
)
|
|
|
2
|
|
|
|
(350
|
)
|
|
|
|
|
|
|
|
|
|
|
Net cash used in investing activities
|
|
|
(22,236
|
)
|
|
|
(10,612
|
)
|
|
|
(16,527
|
)
|
|
|
|
|
|
|
|
|
|
|
Financing activities
|
|
|
|
|
|
|
|
|
|
|
|
|
Net proceeds from sale of common and preferred stock and
warrants
|
|
|
40,177
|
|
|
|
21,349
|
|
|
|
21,345
|
|
Exercises of stock options and warrants
|
|
|
265
|
|
|
|
67
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net cash provided by financing activities
|
|
|
40,442
|
|
|
|
21,416
|
|
|
|
21,345
|
|
|
|
|
|
|
|
|
|
|
|
Net (decrease) increase in cash and cash equivalents
|
|
|
(583
|
)
|
|
|
556
|
|
|
|
3,444
|
|
|
|
|
|
|
|
|
|
|
|
Cash and cash equivalents at beginning of period
|
|
|
4,000
|
|
|
|
3,444
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash and cash equivalents at end of period
|
|
$
|
3,417
|
|
|
$
|
4,000
|
|
|
$
|
3,444
|
|
|
|
|
|
|
|
|
|
|
|
Supplemental disclosure of non-cash activity
|
|
|
|
|
|
|
|
|
|
|
|
|
Common stock and warrants issued for intellectual property
|
|
$
|
|
|
|
$
|
354
|
|
|
$
|
2,280
|
|
Common stock, options and warrants issued for outside
services
|
|
|
200
|
|
|
|
1,351
|
|
|
|
139
|
|
Common stock and warrants issued as commissions on
private placement
|
|
|
|
|
|
|
|
|
|
|
265
|
|
|
|
|
|
|
|
|
|
|
|
See accompanying notes to consolidated financial statements.
F-7
HYTHIAM, INC. AND SUBSIDIARY
Notes to Consolidated Financial Statements
Note 1. Summary of Significant Accounting Policies
Organization
Hythiam, Inc., (the Company), was formed and incorporated in New York on February 13, 2003,
by Reserva, LLC, a non operating company wholly owned by the companys chief executive officer. The
Company was formed to research, develop, license and commercialize innovative physiological
treatment protocols for substance dependence. The registrant, which was formerly known as Alaska
Freightways, Inc. (Alaska), was incorporated in the state of Nevada on June 1, 2000, and
previously provided transportation and freight brokerage services in the state of Alaska. In
September and October 2003, Alaska sold substantially all of its operating assets and liabilities,
merged with the Company, changed its name to Hythiam, Inc. and reincorporated in Delaware.
Following merger, reincorporation and consolidation transactions, the registrant is now the sole
surviving entity. Because the Company was the sole operating company at the time of the merger with
Alaska, the merger was accounted for as a reverse acquisition, with the Company deemed the acquirer
for accounting purposes.
References to Hythiam, the Company, we and us, and the discussion and analysis of
financial condition and results of operations set forth in this report, are based upon the
financial condition and operations of Hythiam, Inc. prior to the merger and of the
newly-constituted registrant following the merger, together with its wholly-owned subsidiaries.
In December 2004, we established a wholly-owned foreign subsidiary for the purpose of
licensing our proprietary intellectual property in foreign markets, and in 2005, we established
additional foreign subsidiaries in Europe for this purpose.
Basis of Presentation
The consolidated financial statements include the accounts of the Company, our wholly-owned
subsidiaries and the accounts of The PROMETA Center, Inc., a California professional corporation,
which is beneficially owned and controlled by our senior vice president of medical affairs. Under
the terms of a management services agreement with the PROMETA Center, we provide and perform all
nonmedical management and administrative services for the medical group. We also agreed to provide
a working capital loan to the PROMETA Center up to a maximum of $500,000 to allow for the medical
group to pay for its obligations. Payment of our management fee is subordinate to payments of the
obligations of the medical group, and repayment of the working capital loan is not guaranteed by
the shareholder or other third party. Based on the provisions of the these agreements, we have
determined that the PROMETA Center is a variable interest entity, and that we are the primary
beneficiary as defined in FASB Interpretation 46, Consolidation of Variable Interest Entities, an
Interpretation of ARB No. 51 (FIN 46). As a variable interest entity, we are required to
consolidate the revenues and expenses of the PROMETA Center.
All intercompany transactions and balances have been eliminated in consolidation. Certain
reclassifications have been made in the prior period to be consistent with current period
presentation.
In 2005 we transitioned from a development stage company to an operational company, increasing
our number of licensed sites from seven to 32 as of December 31, 2005, and reporting over $1
million in revenues.
Use of Estimates
The preparation of financial statements in conformity with generally accepted accounting
principles requires management to make estimates and assumptions that affect the reported amounts
of assets and liabilities, disclosure of contingent assets and liabilities, and the reported amounts of expenses. Actual
results could differ from those estimates.
F-8
Cash Equivalents and Marketable Securities
We invest available cash in short-term commercial paper, certificates of deposit and high
grade variable rate securities. Liquid investments with an original maturity of three months or
less when purchased are considered to be cash equivalents.
Investments, including auction rate securities and certificates of deposit, with maturity
dates greater than three months when purchased which have readily determined fair values are
classified as available-for-sale investments and reflected in current assets as marketable
securities at fair market value. Auction rate securities are recorded at par value, which equals
fair market value, as the rate on such securities resets generally every 7, 28 or 35 days. Our
marketable securities at December 31 consisted of the following investments with the following
maturities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fair Market
|
|
|
Less than
|
|
|
1-5
|
|
|
5-10
|
|
|
More than
|
|
|
|
Value
|
|
|
1 Year
|
|
|
Years
|
|
|
Years
|
|
|
10 Years
|
|
December 31, 2005
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Variable auction rate taxable municipal
securities
|
|
$
|
43,241,000
|
|
|
$
|
|
|
|
$
|
|
|
|
$
|
|
|
|
$
|
43,241,000
|
|
Certificates of deposits
|
|
|
342,000
|
|
|
|
342,000
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$
|
43,583,000
|
|
|
$
|
342,000
|
|
|
$
|
|
|
|
$
|
|
|
|
$
|
43,241,000
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2004
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Variable auction rate taxable municipal
securities
|
|
$
|
22,474,000
|
|
|
$
|
|
|
|
$
|
|
|
|
$
|
|
|
|
$
|
22,474,000
|
|
U.S. government agency securities
|
|
|
1,005,000
|
|
|
|
1,005,000
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$
|
23,479,000
|
|
|
$
|
1,005,000
|
|
|
$
|
|
|
|
$
|
|
|
|
$
|
22,474,000
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The cost of the above securities approximated fair market value at December 31.
Restricted cash and marketable securities represent deposits secured as collateral for a bank
credit card program.
Fair Value of Financial Instruments and Concentration of Credit Risk
The carrying amounts reported in the balance sheet for cash, cash equivalents, marketable
securities, accounts receivable, accounts payable and accrued liabilities approximate fair value
because of the immediate or short-term maturity of these financial instruments. At December 31,
2005, all of our cash equivalents and marketable securities were invested in highly liquid, high
grade auction rate securities and certificates of deposit. At December 31, 2005, all cash
equivalents and marketable securities were recorded at fair market value and no single investment
represented more than 9% of the investment portfolio.
Property and Equipment
Property and equipment are stated at cost, less accumulated depreciation. Additions and
improvements to property and equipment are capitalized at cost. Expenditures for maintenance and
repairs are charged to expense as incurred. Depreciation is computed using the straight-line method
over the estimated useful lives of the related assets, which range from two to seven years for
furniture and equipment. Leasehold improvements are amortized over the lesser of the estimated
useful lives of the assets or the related lease term, principally five to seven years.
Intellectual Property and Other Intangibles
Intellectual property consists primarily of certain technology, patents, patents pending,
know-how and
related intangible assets with respect to protocols for treatment of dependence to alcohol,
cocaine, methamphetamine, and other addictive stimulants. These assets are stated at cost and are
being amortized on a
straight-line basis from the date costs are incurred over the remaining life of the respective
patents, which range from twelve to sixteen years.
F-9
Impairment of Long-Lived Assets
In accordance with Statement of Financial Accounting Standards (SFAS) No. 144, Accounting for
the Impairment or Disposal of Long-Lived Assets, long-lived assets such as property, equipment and
intangibles subject to amortization are reviewed for impairment whenever events or circumstances
indicate that the carrying amount of an asset may not be recoverable.
In reviewing for impairment, we compare the carrying value of such
assets to the estimated undiscounted future cash flows expected from
the use of the assets and their eventual disposition. When the
estimated undiscounted future cash flows are less than their carrying
amount, an impairment loss is recognized equal to the difference
between the assets fair value and their carrying value.
In December 2005, we recorded
an impairment charge of $272,000 in other operating expense to write off the capitalized costs of
intellectual property relating to an acquired patent for a treatment method for opiate addiction
that we have determined would not likely be utilized in our current business plan.
Revenue Recognition
Our revenues are derived from licensing our treatment protocols and providing administrative
services to hospitals, treatment facilities and other healthcare providers. We determine revenues
earned based on the terms of these contracts, which determination requires the use of judgment,
including the assessment of the collectibility of receivables. Licensing agreements typically
provide for a fixed fee on a per-patient basis, payable to us following commencement of the
patients initial treatment using our protocol. For revenue recognition purposes, we treat the
protocol licensing and related administrative services as one unit of accounting. We record the
fees owed to us under the terms of the agreements at the time we have performed substantially all
required services for each patients treatment, which for the significant majority of our license
agreements to date is in the period in which the patients medically supervised treatment has
commenced, and, in other cases, is at the time the medical treatment has been completed.
In 2005, three of our licensees accounted for over 10% of our revenues each, representing 25%,
20% and 18% of our revenues. In 2004 and 2003, one licensee accounted for 93% and 100%,
respectively.
The revenues of the PROMETA Center, which we include in our consolidated financial statements,
are derived from charging fees directly to patients for treatments using the PROMETA protocols.
Revenues from patients treated at the PROMETA Center, which were
approximately $59,000 in 2005, are
recorded based on the number of days of treatment completed during the period as a percentage of
the total number treatment days for the protocols. Revenues relating to the aftercare portion of
the treatment are deferred and recorded over the period that the aftercare services are provided.
Advertising Costs
Costs incurred for advertising, including production costs, are generally expensed when
incurred or on a straight-line basis over the periods that advertisements are run. Our advertising
costs were approximately $1.1 million in 2005. We had no direct advertising costs in 2004 or 2003.
Foreign Currency
Assets and liabilities of foreign subsidiaries are translated into U.S. dollars at year-end
exchange rates. Income and expense items are translated at average exchange rates prevailing
during the year. The local currency is the functional currency. Foreign currency transaction
gains of approximately $21,000 for the year ended December 31, 2005, are primarily related to
intercompany receivables and payables for which settlement is planned in the foreseeable future,
and are included in the Consolidated Statements of Operations. There were no foreign currency
translation adjustments recorded in the Consolidated Statements of Comprehensive Income because the
amounts were immaterial.
Income Taxes
We account for income taxes pursuant to SFAS 109, Accounting for Income Taxes, which uses
the
liability method to calculate deferred income taxes. To date, we have not recorded any income
tax liability due to our accumulated losses. Also, no income tax benefit has been recorded due to
the uncertainty of our ability to realize the net operating loss carryforwards.
F-10
Basic and Diluted Loss per Share
In accordance with SFAS 128, Computation of Earnings Per Share, basic loss per share is
computed by dividing the net loss to common stockholders for the period by the weighted average
number of common shares outstanding during the period. Diluted loss per share is computed by
dividing the net loss for the period by the weighted average number of common and dilutive common
equivalent shares outstanding during the period.
Common equivalent shares, consisting of approximately 6,901,000, 6,379,000 and 5,174,000 of
incremental common shares as of December 31, 2005, 2004 and 2003, respectively, issuable upon the
exercise of
stock options and warrants have been excluded from the diluted earnings per share calculation
because their effect is anti-dilutive.
A summary of the net loss and shares used to compute net loss per share is as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2005
|
|
|
2004
|
|
|
2003
|
|
Net loss
|
|
$
|
(24,038,000
|
)
|
|
$
|
(11,775,000
|
)
|
|
$
|
(3,504,000
|
)
|
|
|
|
|
|
|
|
|
|
|
Less: Beneficial conversion feature of preferred stock
|
|
|
|
|
|
|
|
|
|
$
|
(124,000
|
)
|
|
|
|
|
|
|
|
|
|
|
Net loss to common stockholders
|
|
$
|
(24,038,000
|
)
|
|
$
|
(11,775,000
|
)
|
|
$
|
(3,628,000
|
)
|
|
|
|
|
|
|
|
|
|
|
Basic and diluted loss per share
|
|
$
|
(0.77
|
)
|
|
$
|
(0.47
|
)
|
|
$
|
(0.21
|
)
|
|
|
|
|
|
|
|
|
|
|
Weighted average common shares used to compute
basic and diluted loss per share
|
|
|
31,173,000
|
|
|
|
24,877,000
|
|
|
|
16,888,000
|
|
|
|
|
|
|
|
|
|
|
|
All share and per share data have been restated to reflect a stock split of 100 to 1
declared on July 1, 2003.
Accounting for Share-Based Compensation
We account for the issuance of employee stock options using the intrinsic value method under
Accounting Principles Board Opinion (APB) No. 25, Accounting for Stock Issued to Employees. In
1995, the Financial Accounting Standards Board (FASB) issued SFAS 123, Accounting for Stock-Based
Compensation, which defines fair-value-based method of accounting for stock compensation plans.
However, it also allows a company to continue to measure compensation costs for options issued to
employees and directors using APB 25. Had we determined compensation cost based on the fair value
at the grant date for such stock options under SFAS 123, the pro forma effect on net loss and net
loss per share would have been as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2005
|
|
|
2004
|
|
|
2003
|
|
Net loss as reported
|
|
$
|
(24,038,000
|
)
|
|
$
|
(11,775,000
|
)
|
|
$
|
(3,504,000
|
)
|
Add: Stock-based compensation expense
|
|
|
20,000
|
|
|
|
|
|
|
|
|
|
Less: Stock-based expense determined under
fair value based method
|
|
|
(901,000
|
)
|
|
|
(463,000
|
)
|
|
|
(73,000
|
)
|
|
|
|
|
|
|
|
|
|
|
Pro forma net loss
|
|
|
(24,919,000
|
)
|
|
|
(12,238,000
|
)
|
|
|
(3,577,000
|
)
|
Less: Beneficial conversion feature of
preferred stock
|
|
|
|
|
|
|
|
|
|
|
(124,000
|
)
|
|
|
|
|
|
|
|
|
|
|
Net loss to common stockholders
|
|
$
|
(24,919,000
|
)
|
|
$
|
(12,238,000
|
)
|
|
$
|
(3,701,000
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net loss per share:
|
|
|
|
|
|
|
|
|
|
|
|
|
As reported basic and diluted
|
|
$
|
(0.77
|
)
|
|
$
|
(0.47
|
)
|
|
$
|
(0.21
|
)
|
Pro forma basic and diluted
|
|
$
|
(0.80
|
)
|
|
$
|
(0.49
|
)
|
|
$
|
(0.22
|
)
|
F-11
The estimated weighted average fair values of options granted during 2005, 2004 and 2003
were $4.83, $3.10 and $0.83 per share, respectively, calculated using the Black-Scholes pricing
model with the following assumptions:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2005
|
|
2004
|
|
2003
|
Expected volatility
|
|
|
58
|
%
|
|
|
61
|
%
|
|
|
0
|
%
|
Risk-free interest rate
|
|
|
4.18
|
%
|
|
|
4.24
|
%
|
|
|
4.09
|
%
|
Weighted average expected lives
|
|
10 years
|
|
10 years
|
|
10 years
|
Expected dividend yield
|
|
|
0
|
%
|
|
|
0
|
%
|
|
|
0
|
%
|
The volatility in 2003 was assumed to be zero, since all options were granted prior to
the date our stock was first publicly traded.
See Recent Accounting Pronouncements below for a discussion of SFAS 123R, which requires
changes to our accounting for share-based compensation effective January 1, 2006.
We account for the issuance of warrants for services from non-employees in accordance with
SFAS 123, Accounting for Stock-Based Compensation, by estimating the fair value of warrants
issued using the Black-Scholes pricing model. This models calculations include the warrant
exercise price, the market price of shares on grant date, the weighted average information for
risk-free interest, expected life of warrant, expected volatility of our stock and expected
dividends.
For warrants issued as compensation to non-employees for services that are fully vested and
non-forfeitable at the time of issuance, the estimated value is recorded in equity and expensed
when the services are performed and benefit is received as provided by Financial Accounting
Standards Board Emerging Issues Task Force (EITF) No. 96-18 Accounting For Equity Instruments That
Are Issued To Other Than Employees For Acquiring Or In Conjunction With Selling Goods Or Services.
Recent Accounting Pronouncements
In December 2004, the FASB issued SFAS 123R, Share-Based Payment, which addresses the
accounting for employee stock options. SFAS 123R revises the disclosure provisions of SFAS 123
and supersedes APB 25. SFAS 123R requires that the cost of all employee stock options be reflected
in the financial statements based on the estimated fair value of the awards at date of grant.
Share-based compensation for non-employees is accounted for in accordance with EITF No. 96-18. In
April 2005, the Securities and Exchange Commission (SEC) amended Rule 4-01(a) of Regulation S-X to
defer the required date for compliance with SFAS 123(R ) to the first interim or annual reporting
period of the registrants first fiscal year beginning on or after June 15, 2005. We have adopted
SFAS 123R on January 1, 2006, which complies with the amended Rule 4-01(a). Under SFAS 123R, we
will transition to the fair-value-based method using a modified prospective application Under that
transition method, compensation cost will be recognized commencing in 2006 for the portion of
outstanding awards for which the requisite service has not yet been rendered. We do not expect the
provisions of SFAS 123R to result in a significant change in the compensation expense we currently
disclose on a pro forma basis under SFAS 123. Through December 31, 2005, we accounted for
share-based payments to employees using the intrinsic value method under APB 25 and, as such,
generally recognized no compensation cost for employee stock options. Accordingly, the adoption of
fair value method under SFAS 123R will increase our operating expenses, but will not have a
material impact on our overall financial position. The specific magnitude of the impact of adoption
of SFAS 123R cannot be predicted at this time because it will depend on levels of share-based
incentive awards granted in the future. However, had we adopted SFAS 123R in prior periods, the
impact of that standard would have approximated the impact of SFAS 123 as described in the
disclosure of pro forma net loss and loss per share as noted above.
In May 2005, the FASB issued SFAS 154, Accounting Changes and Error Corrections. SFAS 154
replaces APB 20, Accounting Changes and SFAS 3, Reporting Accounting Changes in Interim
Financial Statements and establishes retrospective application as the required method for
reporting a change in accounting
principle. SFAS 154 provides guidance for determining whether retrospective application of a
change in accounting principle is impracticable and for reporting a change when retrospective
application is impracticable. The reporting
F-12
of a correction of an error by restating previously
issued financial statements is also addressed. SFAS 154 is effective for accounting changes and
corrections of errors made in fiscal years beginning after December 15, 2005. We do not expect the
adoption of this statement to have a material impact on our financial statements.
Note 2. Management Services Agreement
In November 2005, we executed a management services agreement with David E. Smith, M.D.
Medical Group, Inc., a California professional corporation, d.b.a. The PROMETA Center, Inc., which
is beneficially owned and controlled by our senior vice president of medical affairs. The term of
the agreement is one year, and will continue on a month-to-month basis thereafter, unless
terminated for cause.
We licensed the medical group the right to use our proprietary treatment protocols and related
trademarks and agreed to provide the medical group all required day-to-day management services,
including general administrative support services, information systems, recordkeeping, scheduling,
billing, collection, marketing and local business development, and assistance in obtaining and
maintaining all federal, state and local licenses, certifications and regulatory permits required
for, or in connection with, the medical groups operation and equipment located at any of its
offices. The medical group retains the sole right and obligation to provide medical services to its
patients.
We provide medical office space to the medical group located in Santa Monica, California, on a
non-exclusive basis, and we are responsible for all costs associated with rent and utilities. The
medical group will pay us a monthly fee equal to the aggregate amount of (a) our costs of providing
management services (including reasonable overhead allocable to the delivery of our services and
including start-up costs such as pre-operating salaries, rent, equipment, and tenant improvements
incurred for the benefit of the medical group, provided that any capitalized costs, including all
start-up expense, will be amortized over a five year period), (b) 10% of the foregoing costs, and
(c) any performance bonus amount, as determined by the medical group in its sole discretion. The
medical groups payment of our fee is subordinate to payment of the medical groups obligations,
including physician fees and medical group employee compensation.
We also agreed to provide a credit facility to the PROMETA Center to be available as a working
capital loan up to a maximum of $500,000 to allow for the medical group to pay for its obligations,
pursuant to a revolving credit note. Funds will be advanced pursuant to the terms of the management
services agreement described above. We will earn interest at the rate of 2% over the prime rate.
The note will become due on demand, or upon termination of the management services agreement.
Note 3. Receivables
Receivables consisted of the following as of December 31:
|
|
|
|
|
|
|
|
|
|
|
2005
|
|
|
2004
|
|
License fees receivable
|
|
$
|
168,000
|
|
|
$
|
124,000
|
|
Tenant improvement allowance (1)
|
|
|
68,000
|
|
|
|
|
|
Other receivables
|
|
|
32,000
|
|
|
|
54,000
|
|
|
|
|
|
|
|
|
|
|
|
268,000
|
|
|
|
178,000
|
|
Less-allowance for doubtful accounts
|
|
|
(19,000
|
)
|
|
|
(10,000
|
)
|
|
|
|
|
|
|
|
|
|
$
|
249,000
|
|
|
$
|
168,000
|
|
|
|
|
|
|
|
|
|
|
|
(1)
|
|
Amounts receivable from landlord upon completion of lease
build-out of new office space
|
We use the specific identification method for recording the provision for doubtful
accounts, which was $25,000 and $7,000 for the years ended December 31, 2005 and 2004,
respectively, and $14,000 for the period from February 13, 2003 (inception) to December 31, 2003.
Accounts written off against the allowance for doubtful
F-13
accounts was $16,000 and $11,000 for the
years ended December 31, 2005 and 2004, respectively.
Note 4. Property and Equipment
Property and equipment consisted of the following as of December 31:
|
|
|
|
|
|
|
|
|
|
|
2005
|
|
|
2004
|
|
Furniture and equipment
|
|
$
|
2,154,000
|
|
|
$
|
1,501,000
|
|
Leasehold improvements
|
|
|
2,516,000
|
|
|
|
1,439,000
|
|
|
|
|
|
|
|
|
|
|
|
4,670,000
|
|
|
|
2,940,000
|
|
Less-accumulated depreciation
|
|
|
(1,172,000
|
)
|
|
|
(516,000
|
)
|
|
|
|
|
|
|
|
|
|
$
|
3,498,000
|
|
|
$
|
2,424,000
|
|
|
|
|
|
|
|
|
Depreciation expense was $665,000 and $499,000 for the years ended December 31, 2005 and
2004, respectively, and $28,000 for the period from February 13 (inception) to December 31, 2003.
Note 5. Intellectual Property
PROMETA Protocols
In March 2003, we entered into a Technology Purchase and License Agreement (Technology
Agreement) with Tratamientos Avanzados de la Adicción S.L., a Spanish corporation (Seller), to
acquire, on an exclusive basis, all of the rights, title and interest to use and or sell the
products and services and license the intellectual property owned by Seller with respect to a
method for the treatment of alcohol and cocaine dependence, known as the PROMETA protocols, on a
worldwide basis except in Spain (as amended in September 2003). We have granted Seller a security
interest in the intellectual property to secure the payments and performance obligations under the
Technology Agreement. As consideration for the intellectual property acquired, we issued to Seller
approximately 836,000 shares of our common stock in September 2003 at a fair market value of $2.50
per share, plus warrants to purchase approximately 532,000 shares of our common stock at an
exercise price of $2.50 per share, valued at approximately $192,000. Warrants for 160,000 shares
are exercisable at any time through September 29, 2008, and the remaining warrants for 372,000
shares become exercisable equally over five years and expire ten years from date of grant.
In addition to the purchase price for the above intellectual property, we agreed to pay a
royalty fee to Seller equal to three percent (3%) of gross revenues from the PROMETA protocols
using the acquired intellectual property for so long as we (or any licensee) use the acquired
intellectual property. For purposes of the royalty calculations, gross revenue is defined as all
payments made by patients for the treatment, including payments made to our licensees. Royalty
fees, which totaled $71,000 and $18,000 for the years ended December 31, 2005 and 2004,
respectively, and $3,000 for the period from February 13, 2003 (inception) to December 31, 2003,
are reflected in operating expense as revenues are recognized.
In October 2004, the Technology Agreement was amended (Amendment) to expand the definition of
Processes, limited to alcohol and cocaine in the original agreement dated March 2003, to also
include crack cocaine and methamphetamine treatment processes, and the term Intellectual Property
was expanded to include all improvements through September 14, 2004. As consideration for the
Amendment, we agreed to pay $75,000 and issue 83,221 shares of our common stock, valued at
$354,000.
Under the Technology Agreement, we are obligated to allocate each year a minimum of 50% of the
funds we expend on sales, marketing, research and development to such activities relating to the
use of the intellectual property acquired. If we do not expend at least the requisite percentage on
such activities, the Seller has the right to have the intellectual property revert to the Seller.
We may terminate Sellers reversion rights by making an additional payment of an amount which,
taken together with previously paid royalties and additional payments, would aggregate $1,000,000.
In 2003, 2004 and 2005 we met our obligations with respect to this requirement.
The total cost of the assets acquired, plus additional costs incurred by us related to filing
patent applications
F-14
on such assets have been reflected in long-term assets as intellectual
property. Amortization is being recorded on a straight-line basis over the remaining 16.5 year life
of the pending patents, commencing July 1, 2003.
Patent for Opiate Addiction Treatment
In August 2003, we acquired a patent for a treatment method for opiate addiction at a
foreclosure sale held by Reserva Capital, LLC, a company owned and controlled by our chief
executive officer and substantial shareholder, through a foreclosure sale in satisfaction of debt
owed to Reserva by a medical technology development company. We paid approximately $314,000 in cash
and agreed to issue 360,000 shares of our common stock to the technology development company at a
future date conditional upon the occurrence of certain events, including a full release of claims
by all of the technology development companys creditors. As of December 31, 2005, such
contingencies had not been satisfied, and we have not recorded any value for the shares that may be
issued as additional consideration.
In December 2005, we evaluated our potential use of this patent and determined that it would
not likely be utilized in our current business plan. Accordingly, we recorded an impairment charge
of $272,000 to write off the remaining capitalized costs of intellectual property relating to this
patent. If and when it becomes probable that we will release all or a portion of the 360,000
contingent shares, which are currently subject to a stock pledge agreement, the fair market value
of the shares released will be recorded as an additional non-cash impairment charge. Based on our
closing stock price of $6.15 per share on December 31, 2005, the fair market value of the 360,000
contingent shares was approximately $2.2 million.
Treatment for Nicotine Dependence
In June 2005, we and a wholly-owned foreign subsidiary entered into an asset purchase
agreement with Dr. Jacob Hiller to obtain the worldwide rights to his trade secret protocols for
the treatment of nicotine and drug dependence, in exchange for a percentage of future net profits
from exploitation of the protocols. We have engaged Dr. Hiller as a consultant to explore
opportunities in Europe to open treatment clinics for the treatment of nicotine dependence using
these protocols.
Amortization
Amortization expense for intellectual property was $214,000 and $171,000 for the year ended
December 31, 2005 and 2004, respectively, and $47,000 for the period from February 13, 2003
(inception) to December 31, 2003, and is estimated to be $200,000 for each of the next five years.
The accumulated amortization as of December 31, 2005 and 2004 was $374,000 and $218,000,
respectively.
Note 6. Income Taxes
As of December 31, 2005, we had net federal operating loss carry forwards and net state
operating loss carry forwards of approximately $33,317,000 and $31,644,000, respectively. The net
federal operating loss carry forwards begin expiring in 2025 and net state operating loss carry forwards
begin expiring in 2013. Foreign net operating loss carryforwards were approximately $1,140,000,
of which $970,000 will expire in 7 years and $170,000 will carry
forward indefinitely.
The primary components of temporary differences which give rise to our net deferred tax are as
follows:
|
|
|
|
|
|
|
|
|
|
|
2005
|
|
|
2004
|
|
Deferred tax asset
|
|
|
|
|
|
|
|
|
Federal and foreign net operating losses
|
|
$
|
13,281,000
|
|
|
$
|
5,996,000
|
|
Stock based
compensation
|
|
|
1,283,000
|
|
|
|
979,000
|
|
Accrued liabilities
|
|
|
425,000
|
|
|
|
|
|
Other temporary differences
|
|
|
248,000
|
|
|
|
(7,000
|
)
|
Valuation allowance
|
|
|
(15,237,000
|
)
|
|
|
(6,968,000
|
)
|
|
|
|
|
|
|
|
|
|
$
|
|
|
|
$
|
|
|
|
|
|
|
|
|
|
As of December 31, 2003, our valuation allowance on deferred tax assets was $1,241,000.
F-15
We have provided a valuation allowance in full on our net deferred tax assets in accordance
with SFAS 109, Accounting for Income Taxes. Because of our continued losses, management has
assessed the realizability of our net deferred tax assets as being less than the
more-likely-than-not criteria set forth for SFAS 109. Furthermore, certain portions of our net
operating loss carryforwards were acquired, and therefore subject to further limitation set forth
under the Federal tax code which could further limit our ability to realize our deferred tax assets
and provides that if there is a change in control for tax purposes the use of the net operating
loss carryforwards is limited per year.
The difference between our effective tax rate and that computed under the federal statutory
rate is as follows:
|
|
|
|
|
|
|
|
|
|
|
2005
|
|
|
2004
|
|
Federal statutory rate
|
|
|
-34.0
|
%
|
|
|
-34.0
|
%
|
State taxes
|
|
|
-5.3
|
%
|
|
|
-6.0
|
%
|
Other
|
|
|
-1.5
|
%
|
|
|
0.0
|
%
|
Change in valuation allowance
|
|
|
40.8
|
%
|
|
|
40.0
|
%
|
|
|
|
|
|
|
|
|
|
|
0.0
|
%
|
|
|
0.0
|
%
|
|
|
|
|
|
|
|
Note 7. Equity Financings
In September 2003, we completed a private placement offering (2003 Offering) for a total of
$21,927,500 in proceeds from private investors. We raised $4,690,000 of these proceeds during the
period July through September 2003 in a bridge financing through the issuance of 1,876,000 shares
of convertible preferred stock at a price of $2.50 per share, plus warrants for 385,000 shares of
common stock at an exercise price of $2.50 per share. The remaining proceeds from the 2003 Offering
were raised through the issuance of 6,895,000 restricted shares of our common stock at a price of
$2.50 per share. The preferred stock was converted into restricted shares of common stock on a
one-to-one basis upon the completion of the 2003 Offering. The warrants have a fair market value
using the Black-Scholes pricing model of $124,000, which has been reflected as a beneficial
conversion feature in the financial statements. The warrants expire from three to five years after
issuance.
In connection with the 2003 Offering, we paid commissions to registered broker-dealers
aggregating approximately $321,000 in cash, issued 100,000 shares of common stock valued at $2.50
per share and issued approximately 209,000 warrants for the purchase of common stock at exercise
prices of $2.50 to $3.00 per share. We also paid approximately $70,000 in cash, issued 40,000
shares of common stock valued at $2.50 per share and issued approximately 28,000 warrants for the
purchase of common stock at a price of $2.50 per share to financial consultants for services
rendered in connection with the 2003 Offering. The warrants expire from three to four years from
date of issue and have a combined fair market value of approximately $26,000 using the
Black-Scholes pricing model.
In December, 2004, we issued 5,017,331 shares of common stock at a price of $4.50 per share in
a private placement offering (2004 Offering) for a total of $22,578,000 in proceeds from private
investors, including two Company board members who invested a total of $1,200,000. We paid
$1,229,000 in commissions to placement agents in connection with the transaction.
In November 2005, we completed an underwritten equity offering of 9,200,000 shares at a price
of $4.75 per share for a total of $43,700,000 in proceeds. We paid $3,059,000 in commissions to
the underwriters in connection with the transaction.
Note 8. Stock, Stock Options and Warrants
Common Stock
In July 2003, we effected a stock split of 100 to 1, thereby increasing our shares then
outstanding from
137,400 to 13,740,000. In September 2003, in connection with the reverse acquisition, we
reincorporated in Delaware and issued newly authorized common stock to all stockholders. The
accompanying financial statements and loss per share have been adjusted retroactively to reflect
the stock split.
F-16
We issued 23,400 and 16,644 shares of our common stock in 2005 and 2004, respectively, for
services relating to investor relations. The stock-based expense relating to such shares amounted
to $134,000 and $86,000 for the years ended December 31, 2005 and 2004, respectively.
Preferred Stock
In July 2003, 15,000,000 shares of preferred stock, $.001 par value, were authorized. During
the third quarter, 2003, we issued 1,876,000 preferred shares in connection with the 2003 Offering.
Upon completion of the 2003 Offering, all of the outstanding preferred shares were exchanged for
common shares on a one-to-one basis. In September 2003, we reincorporated in Delaware and increased
the authorized number of preferred shares to 50,000,000 at a $.0001 par value.
Stock Options
In September 2003, our directors and shareholders approved the 2003 Stock Incentive Plan
(Plan) to reserve 5.0 million shares of common stock for issuance to employees, officers, directors
and consultants of the Company. The board of directors determines the terms of stock option
agreements, including vesting requirements. The exercise price of incentive stock options must be
no less than the fair market value on the date of grant. The options expire not later than ten
years from the date of grant.
In June 2004, our directors and shareholders approved an amendment to the Plan to increase the
total number of shares issuable under the Plan from 5.0 million to 6.0 million shares.
In June 2005, our directors and shareholders approved an amendment to the Plan to increase the
total number of shares issuable under the Plan from 6.0 million to 7.0 million shares.
In 2003, we granted options for 4.0 million shares to employees, officers, directors and
consultants, at exercise prices ranging from $2.50 to $2.75 per share and with vesting over periods
from three to five years from the date of grant. In 2004, we granted options under the Plan at
exercise prices ranging from $2.80 to $7.50 per share and with vesting over periods from three to
five years. In 2005, we granted options under the Plan at exercise prices ranging from $5.72 to
$7.34 per share and with vesting over periods from zero to five years.
Stock option activity under the Plan is summarized as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted Avg
|
|
|
|
Shares
|
|
|
Exercise Price
|
|
2003
|
|
|
|
|
|
|
|
|
Granted
|
|
|
4,000,000
|
|
|
|
2.56
|
|
Exercised
|
|
|
|
|
|
|
|
|
Cancelled
|
|
|
(60,000
|
)
|
|
|
2.50
|
|
|
|
|
|
|
|
|
Balance, December 31, 2003
|
|
|
3,940,000
|
|
|
|
2.56
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2004
|
|
|
|
|
|
|
|
|
Granted
|
|
|
1,479,000
|
|
|
|
4.31
|
|
Exercised
|
|
|
|
|
|
|
|
|
Cancelled
|
|
|
(542,000
|
)
|
|
|
3.69
|
|
|
|
|
|
|
|
|
Balance, December 31, 2004
|
|
|
4,877,000
|
|
|
|
2.98
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2005
|
|
|
|
|
|
|
|
|
Granted
|
|
|
1,382,000
|
|
|
|
6.45
|
|
Exercised
|
|
|
(54,000
|
)
|
|
|
3.29
|
|
Cancelled
|
|
|
(677,000
|
)
|
|
|
4.35
|
|
|
|
|
|
|
|
|
Balance, December 31, 2005
|
|
|
5,528,000
|
|
|
|
3.71
|
|
|
|
|
|
|
|
|
F-17
The weighted average remaining contractual life and weighted average exercise price of
options outstanding as of December 31, 2005 were as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Options Outstanding
|
|
Options Exercisable
|
|
|
|
|
|
|
Weighted
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Average
|
|
Weighted
|
|
|
|
|
|
Weighted
|
|
|
|
|
|
|
Remaining
|
|
Average
|
|
|
|
|
|
Average
|
Range of Exercise Prices
|
|
Shares
|
|
Life (yrs)
|
|
Price
|
|
Shares
|
|
Price
|
As of December 31, 2005
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$2.50 to $3.50
|
|
|
3,847,000
|
|
|
|
6.2
|
|
|
$
|
2.60
|
|
|
|
1,621,000
|
|
|
$
|
2.58
|
|
$3.51 to $5.50
|
|
|
224,000
|
|
|
|
7.8
|
|
|
$
|
4.51
|
|
|
|
35,000
|
|
|
$
|
4.25
|
|
$5.51 to $6.50
|
|
|
762,000
|
|
|
|
8.4
|
|
|
$
|
5.73
|
|
|
|
97,000
|
|
|
$
|
5.62
|
|
$6.51 to $7.50
|
|
|
695,000
|
|
|
|
9.1
|
|
|
$
|
7.36
|
|
|
|
20,000
|
|
|
$
|
7.50
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
5,528,000
|
|
|
|
|
|
|
|
|
|
|
|
1,773,000
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
As
of December 31, 2004 and the period from February 13, 2003
(inception) to December 31, 2003, options exercisable were 864,000
and 25,000, respectively.
Included in the table above, at December 31, 2005 and 2004, were options outstanding for
495,000 and 520,000 shares, respectively, granted to consultants and directors providing outside
services. These options vest over periods ranging from three to five years and are expensed when
the services are performed and benefit is received as provided by EITF 96-18. During the years
ended December 31, 2005, 2004, and the period from February 13, 2003 (inception) to December 31,
2003, stock-based expense relating to such stock options amounted $1,230,000, $600,000 and
$337,000, respectively. Non-vested options had an estimated fair value of approximately $992,000
and $1,666,000, respectively, as of December 31, 2005 and 2004, using the Black-Scholes pricing
model. During the years ended December 31, 2005, 2004 and the period from February 13, 2003
(inception) to December 31, 2003, such options granted to consultants were 65,000, 75,000 and
445,000, respectively, at weighted average exercise prices of $5.49, $5.56 and $2.50 per share,
respectively, the fair market values at the dates of grant.
Warrants
In addition to the warrants issued in 2003 in connection with the Technology Agreement and the
2003 Offering, in September 2003, we issued an immediately-exercisable, five-year warrant to
purchase 80,000 shares of common stock at $2.50 per share, to a management advisor for investment
relation services to be performed over a one-year period. The warrant had an estimated value of
approximately $29,000 using the Black-Scholes pricing model and was capitalized as a prepaid asset
and amortized over the one-year service period.
In January 2004, we issued a warrant to purchase 150,000 shares of common stock at $7.00 per
share to a management advisor for investor relations services, with vesting over one year and an
expiration date three years from date of issue. In July 2004, we issued a warrant to purchase
20,000 shares of common stock at $2.80 per share to a consultant for legal services, with vesting
over a 36-month period and an expiration date five years from date of issue. In October 2004, we
issued a warrant to purchase 100,000 shares of common stock at $2.50 per share to a management
advisor for investor relations services with immediate vesting and an expiration date three years
from date of issue. In December 2004, we issued a warrant to purchase 25,000 shares of common stock
at $3.75 per share to a management advisor for investor relations services with immediate vesting
and an expiration date three years from date of issue.
In January 2005, we issued a warrant to purchase 25,000 shares of common stock at $5.72 per
share to a management advisor for investor relations services. The warrant vested immediately and
expires three years from date of grant. We also issued warrants to purchase 20,000 shares of common
stock to a management consultant, of which a warrant for 10,000 shares was issued at $2.80 per
share, with immediate vesting and expires in 2014, and a warrant for the remaining 10,000 shares
was issued at $5.80 per share, with immediate vesting and expires in 2006.
F-18
Warrant activity is summarized as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted
|
|
|
|
|
|
|
|
Average
|
|
|
|
Shares
|
|
|
Exercise Price
|
|
2003
|
|
|
|
|
|
|
|
|
Granted
|
|
|
1,234,000
|
|
|
|
2.54
|
|
Exercised
|
|
|
|
|
|
|
|
|
Cancelled
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance, December 31, 2003
|
|
|
1,234,000
|
|
|
|
2.54
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2004
|
|
|
|
|
|
|
|
|
Granted
|
|
|
295,000
|
|
|
|
5.04
|
|
Exercised
|
|
|
(27,000
|
)
|
|
|
2.50
|
|
Cancelled
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance, December 31, 2004
|
|
|
1,502,000
|
|
|
|
3.03
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2005
|
|
|
|
|
|
|
|
|
Granted
|
|
|
45,000
|
|
|
|
5.09
|
|
Exercised
|
|
|
(174,000
|
)
|
|
|
2.50
|
|
Cancelled
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance, December 31, 2005
|
|
|
1,373,000
|
|
|
|
3.14
|
|
|
|
|
|
|
|
|
Warrants outstanding at December 31, 2005 are summarized as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted
|
|
|
|
|
|
|
|
|
|
|
Average
|
|
|
Weighted
|
|
|
|
|
|
|
|
Remaining
|
|
|
Average
|
|
|
|
|
|
|
|
Contractual
|
|
|
Exercise
|
|
Description
|
|
Shares
|
|
|
Life (yrs)
|
|
|
Price
|
|
Warrants issued for intellectual property
|
|
|
532,000
|
|
|
|
6.2
|
|
|
$
|
2.50
|
|
Warrants issued to preferred stockholders
|
|
|
352,000
|
|
|
|
2.1
|
|
|
|
2.50
|
|
Warrants issued in connection with equity offering
|
|
|
166,000
|
|
|
|
1.3
|
|
|
|
2.76
|
|
Warrants issued to consultants
|
|
|
323,000
|
|
|
|
2.8
|
|
|
|
5.06
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
1,373,000
|
|
|
|
3.8
|
|
|
$
|
3.14
|
|
|
|
|
|
|
|
|
|
|
|
At December 31, 2005, unvested warrants had an estimated value of approximately $44,000 using
the Black-Scholes pricing model.
Stock-based expense relating to warrants amounted to $337,000, $486,000 and $8,000 for the
years ended December 31, 2005, 2004 and the period from February 13, 2003 (inception) to December
31, 2003, respectively.
Note 9. Commitments and Contingencies
Lease Commitments
We incurred rent expense of approximately $600,992 and $378,000 for the years ended December
31, 2005, and 2004, respectively, and $82,000 for the period from February 13, 2003 (inception) to
December 31, 2003. In September 2003, we signed a lease agreement for our corporate offices at an
initial lease cost of approximately $33,000 per month, with increases scheduled annually over the
lease term. The term of the lease is seven years beginning on the lease commencement date, December
15, 2003, with a right to extend the lease for an additional five years. In April, 2005 we amended
the lease to expand our corporate office facilities at an additional base rent of
approximately $11,000 per month, subject to annual adjustment over the remaining initial
six-year term. As a condition to signing the original lease, we secured a $350,000 letter of
credit for the landlord as a form of security
F-19
deposit. The letter of credit is collateralized by a
certificate of deposit in the amount of $350,000.
In April 2005 we entered into a five year lease for approximately 4,600 square feet of medical
office space at an initial base rent of approximately $19,000 per month commencing in August 2005.
The space is occupied by The PROMETA Center, an affiliated medical practice, under a full service
management agreement. As a condition to signing the lease, we secured a $90,000 letter of credit
for the landlord as a form of security deposit. The letter of credit is collateralized by a
certificate of deposit in the amount of $90,000.
Rent expense is calculated using the straight-line method based on the total minimum lease
payments over the initial term of the lease. Unamortized landlord tenant improvement allowances and
rent expense exceeding actual rent payments are accounted for as deferred rent liability in the
balance sheet.
Future minimum lease payments on the non-cancelable lease are as follows:
|
|
|
|
|
|
|
Base Rental
|
Year Ending December 31,
|
|
Payments
|
2006
|
|
|
783,000
|
|
2007
|
|
|
806,000
|
|
2008
|
|
|
830,000
|
|
2009
|
|
|
854,000
|
|
2010
|
|
|
751,000
|
|
Thereafter
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
4,024,000
|
|
|
|
|
|
|
Legal Proceedings
We are subject to claims and lawsuits in our normal course of business. As of December 31,
2005, we were not involved in any legal proceeding that would have a material adverse effect on the
business, financial condition or operating results.
Note 10. Related Party Transactions
Andrea Grubb Barthwell, M.D., a director, is the founder and chief executive officer of a
healthcare and policy consulting firm providing consulting services to us. In 2005, we paid or
accrued approximately $83,000 in fees to the consulting firm. There were no other material related
party transactions in 2005, 2004 or 2003.
Note 11. Interim Financial Information (Unaudited)
Summarized quarterly supplemental financial information is as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Quarter Ended
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
March
|
|
June
|
|
September
|
|
December
|
|
Year
|
|
|
(In thousands, except per share amounts)
|
|
|
|
|
Year Ended December, 31, 2005
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net revenues
|
|
$
|
203
|
|
|
$
|
230
|
|
|
$
|
361
|
|
|
$
|
370
|
|
|
$
|
1,164
|
|
Operating loss
|
|
|
(4,480
|
)
|
|
|
(4,866
|
)
|
|
|
(6,756
|
)
|
|
|
(8,770
|
)
|
|
|
(24,872
|
)
|
Net loss
|
|
|
(4,319
|
)
|
|
|
(4,692
|
)
|
|
|
(6,604
|
)
|
|
|
(8,423
|
)
|
|
|
(24,038
|
)
|
Basic and diluted loss per share
|
|
|
(0.15
|
)
|
|
|
(0.16
|
)
|
|
|
(0.22
|
)
|
|
|
(0.24
|
)
|
|
|
(0.77
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended December, 31, 2004
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net revenues
|
|
$
|
67
|
|
|
$
|
5
|
|
|
$
|
41
|
|
|
$
|
79
|
|
|
$
|
192
|
|
Operating loss
|
|
|
(3,050
|
)
|
|
|
(2,542
|
)
|
|
|
(3,020
|
)
|
|
|
(3,333
|
)
|
|
|
(11,945
|
)
|
Net loss
|
|
|
(3,012
|
)
|
|
|
(2,505
|
)
|
|
|
(2,980
|
)
|
|
|
(3,278
|
)
|
|
|
(11,775
|
)
|
Basic and diluted loss per share
|
|
|
(0.12
|
)
|
|
|
(0.10
|
)
|
|
|
(0.12
|
)
|
|
|
(0.13
|
)
|
|
|
(0.47
|
)
|
F-20
EXHIBIT 10.6
MANAGEMENT AND SUPPORT SERVICES AGREEMENT
BETWEEN
HYTHIAM, INC.
AND
David E. Smith, M.D., Medical Group, Inc.
TABLE OF CONTENTS
|
|
|
|
|
|
|
|
|
|
|
Page
|
ARTICLE 1. DEFINITIONS AND INTERPRETATION
|
|
|
2
|
|
|
|
|
|
|
|
|
1.1
|
|
Definitions
|
|
|
2
|
|
1.2
|
|
Sections and Headings
|
|
|
4
|
|
1.3
|
|
Number and Gender
|
|
|
4
|
|
1.4
|
|
Currency
|
|
|
4
|
|
1.5
|
|
Time of Essence
|
|
|
4
|
|
1.6
|
|
Applicable Law
|
|
|
4
|
|
1.7
|
|
Severability
|
|
|
4
|
|
1.8
|
|
No Waiver
|
|
|
4
|
|
1.9
|
|
Date of any Action
|
|
|
5
|
|
1.10
|
|
Interpretation
|
|
|
5
|
|
|
|
|
|
|
|
|
ARTICLE 2. APPOINTMENT AND AUTHORITY OF THE MANAGER
|
|
|
5
|
|
|
|
|
|
|
|
|
2.1
|
|
Appointment
|
|
|
5
|
|
2.2
|
|
Authority
|
|
|
5
|
|
|
|
2.2.1 Authority of the Manager
|
|
|
5
|
|
|
|
2.2.2 The PC Retains Medical Authority
|
|
|
5
|
|
2.3
|
|
Patient Referrals
|
|
|
6
|
|
2.4
|
|
Practice of Medicine
|
|
|
6
|
|
|
|
|
|
|
|
|
ARTICLE 3. RESPONSIBILITIES OF THE MANAGER
|
|
|
6
|
|
|
|
|
|
|
|
|
3.1
|
|
Services Generally
|
|
|
6
|
|
3.2
|
|
Office Space
|
|
|
6
|
|
|
|
3.2.1 During the Term
|
|
|
6
|
|
|
|
3.2.2 Non-Exclusive Basis
|
|
|
7
|
|
|
|
3.2.3 Premise Use
|
|
|
7
|
|
3.3
|
|
Equipment and Supplies
|
|
|
7
|
|
3.4
|
|
Employees
|
|
|
7
|
|
|
|
3.4.1 Manager Employees
|
|
|
7
|
|
|
|
3.4.2 Medical Contractors
|
|
|
7
|
|
3.5
|
|
Quality Assurance and Risk Management
|
|
|
8
|
|
3.6
|
|
Third Party Contracts
|
|
|
8
|
|
3.7
|
|
Billing and Collection; Power of Attorney
|
|
|
8
|
|
|
|
3.7.1 Billing
|
|
|
8
|
|
|
|
3.7.2 Accounts Receivable
|
|
|
9
|
|
|
|
3.7.3 Deposits
|
|
|
9
|
|
|
|
3.7.4 Deposits
|
|
|
9
|
|
|
|
3.7.5 Governmental Third Party Payors
|
|
|
9
|
|
|
|
3.7.6 Government Payor Account
|
|
|
9
|
|
|
|
3.7.7 Other Actions
|
|
|
10
|
|
i
|
|
|
|
|
|
|
|
|
|
|
Page
|
3.8
|
|
PC Determines Medical Fees
|
|
|
10
|
|
3.9
|
|
Payment of PC Expenses
|
|
|
10
|
|
3.10
|
|
Administrative Services
|
|
|
11
|
|
|
|
3.10.1 Scheduling
|
|
|
11
|
|
|
|
3.10.2 Records
|
|
|
11
|
|
|
|
3.10.3 Personnel Policies
|
|
|
11
|
|
|
|
3.10.4 Non-Medical Quality Assurance
|
|
|
11
|
|
|
|
3.10.5 Current Business Information
|
|
|
11
|
|
|
|
3.10.6 Consent Forms
|
|
|
11
|
|
|
|
3.10.7 Non-Clinical Training
|
|
|
11
|
|
|
|
3.10.8 Financing Programs
|
|
|
12
|
|
|
|
3.10.9 Aftercare Programs
|
|
|
12
|
|
3.11
|
|
Bank Account
|
|
|
12
|
|
3.12
|
|
Fiscal Matters
|
|
|
12
|
|
3.13
|
|
Medical Records
|
|
|
12
|
|
3.14
|
|
Business Reports
|
|
|
13
|
|
3.15
|
|
Other Reports and Records
|
|
|
13
|
|
3.16
|
|
Licensing of PROMETA Protocols
|
|
|
13
|
|
|
|
3.16.1 Grant of License Rights to PC
|
|
|
13
|
|
|
|
3.16.2 Term of License
|
|
|
13
|
|
|
|
3.16.3 License Restrictions
|
|
|
13
|
|
|
|
3.16.4 PC Obligations
|
|
|
14
|
|
|
|
3.16.5 Data Collection and Reporting
|
|
|
14
|
|
|
|
3.16.6 Aftercare Services
|
|
|
14
|
|
|
|
3.16.7 Use of Licensed Technology
|
|
|
14
|
|
|
|
3.16.8 Clinical Activities
|
|
|
14
|
|
|
|
3.16.9 Subject Data
|
|
|
15
|
|
|
|
3.16.10 Patient Consents; Regulatory Approvals
|
|
|
15
|
|
|
|
3.16.11 Reservation of Rights
|
|
|
15
|
|
|
|
3.16.12 Manager Ownership
|
|
|
15
|
|
|
|
3.16.13 Intellectual Property
|
|
|
16
|
|
|
|
3.16.14 Disclaimer Of Warranties
|
|
|
17
|
|
|
|
3.16.15 Limitation of Liability
|
|
|
17
|
|
|
|
3.16.16 Debarment or Exclusion
|
|
|
18
|
|
|
|
3.16.17 Government Access
|
|
|
18
|
|
3.17
|
|
Licensing of Name
|
|
|
18
|
|
|
|
3.17.1 Grant of License
|
|
|
18
|
|
|
|
3.17.2 Termination of License
|
|
|
19
|
|
|
|
3.17.3 Injunctive Relief
|
|
|
19
|
|
3.18
|
|
Advertising, Marketing and Promotional Services
|
|
|
19
|
|
|
|
3.18.1 Advertising Services
|
|
|
19
|
|
3.19
|
|
Non-Exclusivity
|
|
|
20
|
|
|
|
|
|
|
|
|
ARTICLE 4. COVENANTS AND RESPONSIBILITIES OF THE PC
|
|
|
20
|
|
|
|
|
|
|
|
|
4.1
|
|
Organization and Operation
|
|
|
20
|
|
4.2
|
|
Retention of Medical Contractors
|
|
|
20
|
|
ii
|
|
|
|
|
|
|
|
|
|
|
Page
|
4.3
|
|
Professional Standards
|
|
|
21
|
|
4.4
|
|
Medical Practice
|
|
|
21
|
|
4.5
|
|
Compliance with Laws
|
|
|
21
|
|
4.6
|
|
Premises and Equipment
|
|
|
22
|
|
4.7
|
|
Delegation by the Provider
|
|
|
22
|
|
|
|
|
|
|
|
|
ARTICLE 5. RELATIONSHIP OF THE PARTIES
|
|
|
22
|
|
|
|
|
|
|
|
|
5.1
|
|
Medical Practices
|
|
|
22
|
|
|
|
5.1.1 Delivery of Medical Services
|
|
|
22
|
|
|
|
5.1.2 Quality
|
|
|
23
|
|
|
|
5.1.3 Manager Not Practicing Medicine
|
|
|
23
|
|
5.2
|
|
Independent Contractors
|
|
|
23
|
|
|
|
|
|
|
|
|
ARTICLE 6. FINANCIAL TERMS
|
|
|
23
|
|
|
|
|
|
|
|
|
6.1
|
|
Manager Compensation
|
|
|
23
|
|
6.2
|
|
Payment of Management Fee
|
|
|
24
|
|
6.3
|
|
Invoices
|
|
|
24
|
|
6.4
|
|
Authorization to Pay Invoices
|
|
|
24
|
|
6.5
|
|
Records and Audit of Accounts
|
|
|
25
|
|
6.6
|
|
Physician Contractor Compensation
|
|
|
25
|
|
|
|
6.6.1 Medical Fee; Initial Term
|
|
|
25
|
|
|
|
6.6.2 Renewal Terms
|
|
|
25
|
|
|
|
6.6.3 Payment and Statements
|
|
|
25
|
|
6.7
|
|
Grant of Security Interest in Accounts
|
|
|
25
|
|
|
|
6.7.1 Grant of Security Interest
|
|
|
25
|
|
|
|
6.7.2 Exercising Remedies
|
|
|
26
|
|
|
|
6.7.3 Financial Statements
|
|
|
26
|
|
6.8
|
|
License Fee
|
|
|
26
|
|
|
|
6.8.1 License Fees
|
|
|
26
|
|
|
|
6.8.2 Payment Terms
|
|
|
26
|
|
|
|
6.8.3 Reconciliation
|
|
|
27
|
|
|
|
|
|
|
|
|
ARTICLE 7. REPRESENTATIONS AND WARRANTIES
|
|
|
27
|
|
|
|
|
|
|
|
|
7.1
|
|
Representations and Warranties of the PC
|
|
|
27
|
|
|
|
7.1.1 Organization
|
|
|
27
|
|
|
|
7.1.2 No Violation Professional Services Agreement
|
|
|
27
|
|
|
|
7.1.3 No Violation Medical Contractor Agreements
|
|
|
28
|
|
|
|
7.1.4 Covenant Regarding Trade Secrets
|
|
|
28
|
|
|
|
7.1.5 Licensed Medical Contractors
|
|
|
28
|
|
|
|
7.1.6 Insurance
|
|
|
28
|
|
7.2
|
|
Representations and Warranties of the Manager
|
|
|
28
|
|
|
|
7.2.1 Organization
|
|
|
29
|
|
|
|
7.2.2 No Violation
|
|
|
29
|
|
|
|
7.2.3 Trade Name
|
|
|
29
|
|
iii
|
|
|
|
|
|
|
|
|
|
|
Page
|
ARTICLE 8. INSURANCE
|
|
|
29
|
|
|
|
|
|
|
|
|
8.1
|
|
Insurance Obligations of the Manager
|
|
|
29
|
|
8.2
|
|
Insurance Obligations of the PC
|
|
|
29
|
|
8.3
|
|
Notices from Insurance Companies
|
|
|
30
|
|
|
|
|
|
|
|
|
ARTICLE 9. TERM AND TERMINATION
|
|
|
30
|
|
|
|
|
|
|
|
|
9.1
|
|
Initial and Renewal Term
|
|
|
30
|
|
9.2
|
|
Termination
|
|
|
30
|
|
|
|
9.2.1 Without Cause
|
|
|
30
|
|
|
|
9.2.2 With Cause
|
|
|
30
|
|
|
|
9.2.3 Disciplinary Actions
|
|
|
31
|
|
9.3
|
|
Effect of Termination
|
|
|
31
|
|
|
|
|
|
|
|
|
ARTICLE 10. CONFIDENTIAL AND PROPRIETARY INFORMATION
|
|
|
31
|
|
|
|
|
|
|
|
|
10.1
|
|
Confidential Information
|
|
|
31
|
|
10.2
|
|
Confidentiality and Non-Disclosure
|
|
|
32
|
|
10.3
|
|
Patient Medical Records; HIPAA Compliance
|
|
|
32
|
|
|
|
|
|
|
|
|
ARTICLE 11. INDEMNIFICATION
|
|
|
33
|
|
|
|
|
|
|
|
|
11.1
|
|
Indemnification
|
|
|
33
|
|
|
|
|
|
|
|
|
ARTICLE 12. MISCELLANEOUS
|
|
|
33
|
|
|
|
|
|
|
|
|
12.1
|
|
Access to Records
|
|
|
33
|
|
12.2
|
|
Amendment
|
|
|
34
|
|
|
|
12.2.1 Amendment
|
|
|
34
|
|
|
|
12.2.2 Contract Modification for Prospective Legal Event
|
|
|
34
|
|
12.3
|
|
Assignment
|
|
|
34
|
|
12.4
|
|
Rights and Remedies; Injunctive Relief
|
|
|
34
|
|
12.5
|
|
Status as Independent Contractor
|
|
|
35
|
|
12.6
|
|
Notices
|
|
|
35
|
|
12.7
|
|
Collateral Agreements
|
|
|
35
|
|
12.8
|
|
Survival
|
|
|
35
|
|
EXHIBIT A
Trademarks
EXHIBIT B
Licensed Technology
EXHIBIT C
Professional Services Agreement
EXHIBIT D
Business Associate and Data Use Agreement
Schedule 7.1.6
Insurance Policies
iv
MANAGEMENT AND SUPPORT SERVICES AGREEMENT
THIS AGREEMENT
made as of the 15th day of November, 2005.
Hythiam, Inc.
a corporation existing under the laws of the
State of Delaware,
(hereinafter referred to as the
Manager
),
- and -
David E. Smith, M.D. Medical Group, Inc.
a professional corporation existing under the
laws of the State of California,
(hereinafter referred to as
PC
) (each a
Party
and collectively, the
Parties
).
WHEREAS PC is a professional corporation engaged in the private practice of medicine that
specializes in various methods of health care services, including without limitation, the provision
of addiction treatment services (the
Medical Services
) in California;
WHEREAS Manager is engaged in the business of licensing to providers its proprietary PROMETA
protocols for the treatment of addiction and providing management and administrative services to
professional practices and/or facilities, to which it also may license the use of certain
registered marks (the
Company Business
); and
WHEREAS PC recognizes that the intellectual property and services described in the preceding
recital are of great value and that PC can benefit from the availability and use of that
intellectual property and those services.
NOW THEREFORE, in consideration of the mutual terms, covenants and conditions contained in
this Agreement and other good and valuable consideration, the receipt and sufficiency of which is
confirmed, the Parties agree as follows:
ARTICLE 1.
DEFINITIONS AND INTERPRETATION
1.1 Definitions
For the purposes of this Agreement (including the recitals and the Schedules), the following
terms shall have the respective meanings set out below and grammatical variations of such terms
shall have corresponding meanings:
Accounts
has the meaning set out in
Section 6.7.1
.
Advertising Materials
has the meaning set out in
Section 3.18.1(a)
.
Aftercare
has the meaning set out in
Exhibit B
.
Aftercare Services
has the meaning set out in
Section 3.16.6
.
Authorized Period
has the meaning set out in
Exhibit B
.
Authorized User
has the meaning set out in
Exhibit B
.
Bank Account
has the meaning set out in
Section 3.11
.
Collateral
has the meaning set out in
Section 6.7.1
.
Company
means Hythiam, Inc.
Company Business
has the meaning set out in the recitals.
Confidential Information
has the meaning set out in
Section 10.1
.
Data Collection and Reporting
has the meaning set out in
Section 3.16.5
.
Data Reports
has the meaning set out in
Section 3.16.5
.
Effective Date
means November 15, 2005.
Equipment
has the meaning set out in
Section 3.3
.
HIPAA
has the meaning set out in
Section 10.3
.
HIPAA Regulations
has the meaning set out in
Section 10.3
.
Hythiam License
has the meaning set out in
Section 3.16.1
.
Governmental Third Party Payors
has the meaning set forth in
Section 3.7.5
.
Government Payor Account
has the meaning set forth in
Section 3.7.6
.
2
Intellectual Property
has the meaning set out in
Section 3.16.13
.
Law
has the meaning set out in
Section 4.5
.
License Fees
has the meaning set out in
Section 6.8.1
.
Licensee Modifications
has the meaning set out in
Section 3.16.12
.
Licensed Technology
has the meaning set out in
Exhibit B
.
Management Fee
has the meaning set out in
Section 6.1
.
Management Services
has the meaning set out in
Section 2.1
.
Managers Costs
has the meaning set out in
Section 6.1
.
Manager Employee
has the meaning set out in
Section 3.2.2
.
Manager Statement
has the meaning set out in
Section 6.3
.
Media
has the meaning set out in
Section 3.18.1 (b)
.
Medical Contractor Agreements
has the meaning set out in
Section 7.1.3
.
Medical Contractors
has the meaning set out in
Section 2.2.2
.
Medical Fees
has the meaning set out in
Section 6.6.1
.
Medical Services
has the meaning set out in the recitals.
Notice
has the meaning set out in
Section 12.6
.
Obligations
has the meaning set out in
Section 6.4
.
Payer Discount
has the meaning set out in
Exhibit B
.
PHI
has the meaning set out in
Section 10.3
.
Physician Contractors
has the meaning set out in
Section 4.2
.
Physician Corporation
has the meaning set out in
Section 4.2
.
Policies
has the meaning set out in
Section 7.1.6
.
Power of Attorney
has the meaning set out in
Section 3.7
.
Premises
has the meaning set out in
Section 3.2.1
.
Private Pay Patient
has the meaning set out in
Exhibit B
.
3
Professional Services Agreement
has the meaning set out in
Section 4.2.
Subject Data
has the meaning set out in
Section 3.16.9.
Term
has the meaning set out in
Section 9.1.
Third Party Contracts
has the meaning set out in
Section 3.6.
Trademarks
has the meaning set out in
Section 3.17.1
.
Trade Name
has the meaning set out in
Section 3.17.1
.
1.2 Sections and Headings
The division of this Agreement into sections and the insertion of headings are for reference
purposes only and shall not affect the interpretation of this Agreement.
1.3 Number and Gender
In this Agreement, words importing the singular number only shall include the plural and
vice
versa
and words importing any gender shall include all genders.
1.4 Currency
Unless otherwise indicated, all dollar amounts referred to in this Agreement are expressed in
U.S. funds.
1.5 Time of Essence
Time shall be of the essence of this Agreement.
1.6 Applicable Law
This Agreement shall be construed, interpreted and enforced in accordance with, and the
respective rights and obligations of the Parties shall be governed by, the laws of the State of
California.
1.7 Severability
If any provision of this Agreement is determined by a court of competent jurisdiction to be
invalid, illegal or unenforceable in any respect, such determination shall not impair or affect the
validity, legality or enforceability of the remaining provisions hereof and each provision is
hereby declared to be separate, severable and distinct.
1.8 No Waiver
The failure of any Party to insist upon strict adherence to any provision of this Agreement on
any occasion shall not be considered a waiver or deprive that Party of the right thereafter to
insist upon strict adherence to such provision or any other
4
provision of this Agreement. No
purported waiver shall be effective as against any Party unless consented to in writing by such
Party. The waiver by any Party of a breach of any provision of this Agreement shall not operate or
be construed as a waiver of any subsequent or other breach.
1.9 Date of any Action
If any date on which any action is required to be taken under this Agreement is not a Business
Day, that action shall be required to be taken on the next following Business Day.
1.10 Interpretation
Should any provision of this Agreement require judicial interpretation, it is agreed that the
court interpreting or construing this Agreement shall not construe it against one Party more
strictly by reason of the rule of construction that a document is to be construed more strictly
against the Party who itself or through its agent or counsel prepared such document, it being
agreed that all Parties were afforded adequate opportunity to consult legal counsel prior to
execution of this Agreement.
ARTICLE 2.
APPOINTMENT AND AUTHORITY OF THE MANAGER
2.1 Appointment
The PC hereby appoints the Manager as its sole and exclusive agent for the provision of
services related to the management and administration of the PCs business functions and affairs in
California (the
Management Services
), and the Manager hereby accepts that appointment.
2.2 Authority
2.2.1 Authority of the Manager.
Subject to the terms of this Agreement, the PC expressly
authorizes the Manager to provide the Management Services in any reasonable manner the Manager
deems appropriate to meet the PCs day-to-day requirements. The PC also expressly authorizes the
Manager to negotiate on the PCs behalf all Third Party Contracts related to the provision of
Management Services by the Manager and the business components of the Medical Services provided by
the PC as set forth in
Section 3.6
.
2.2.2 The PC Retains Medical Authority.
The Parties acknowledge that the PC, through
physicians and through non-physician medical assistants employed by or provided by the PC
(collectively, the
Medical Contractors
), shall be responsible for, and shall have authority,
responsibility, supervision and control over, the provision of all Medical Services, and that all
diagnoses, treatments, procedures and other professional Medical Services shall be provided and
performed exclusively by the PC, through Medical Contractors acting within the scope of their
respective licensure and
5
exercising their independent medical judgment. The PC agrees that the
Medical Services performed at the Premises shall be defined and limited as set forth in the
Professional Services Agreement.
2.3 Patient Referrals
The Manager and the PC agree that the benefits afforded either Party under this Agreement are
not payment for, and are not in any way contingent upon, the volume or value of referrals for
Medical Services or other items or services.
2.4 Practice of Medicine
The Parties acknowledge that the Manager is not authorized or qualified to engage in any
activity that may be construed or deemed to constitute the practice of medicine. To the extent
that any act or service required to be performed by the Manager under this Agreement should be
construed by a court of competent jurisdiction or by the Medical Board of California to constitute
the practice of medicine, the Managers obligation to perform that act or service shall be deemed
waived and unenforceable.
ARTICLE 3.
RESPONSIBILITIES OF THE MANAGER
3.1 Services Generally
The Manager shall, and shall cause its employees, independent contractors and agents to,
provide all Management Services in accordance with all applicable laws, rules, regulations and
guidelines and generally recognized standards within the industry. Management Services shall
include, among other things, (a) general administrative support services including secretarial,
telephone, fax, office equipment, information systems, recordkeeping, scheduling, billing and
collection; (b) establishing budgets and business planning; (c) marketing Medical Services and
local business development; (d) arranging for financing of capital requirements; and (e) assisting
the PC in obtaining and maintaining all federal, state and local licenses, certifications and
regulatory permits required for, or in connection with, the PCs operation and equipment located at
any office of the PC.
3.2 Office Space
3.2.1 During the Term.
The Manager hereby agrees to provide, or cause an affiliate to
provide, to the PC, on a non-exclusive and non-assignable basis, office space at 1315 Lincoln
Boulevard, Santa Monica, CA 90401 (the
Premises
) for the conduct of the practice of the PC. The
Manager shall be responsible for all costs in connection with the rent, maintenance, utilities,
repairs and real estate taxes included in connection with, and all such other expenses associated
with, the operation of the Premises and such costs shall be included in the Managers Costs (as
defined in
Section 6.1
); provided, however, the PC shall be responsible for the repair of
all
6
damages to the Premises caused by the PCs negligence or intentional misconduct, or which is
beyond normal wear and tear. This Agreement shall not constitute an assignment to the PC of any
rights of the Manager or any of its affiliates to the use of the Premises, nor does it constitute a
requirement that the PC practice at any specific location not of the PCs choosing.
3.2.2 Non-Exclusive Basis.
The term non-exclusive basis shall mean that the Premises shall
also be occupied by Manager employees who shall provide the Management Services to the PC (as more
fully described in this Agreement) (
Manager Employees
). In addition, the Manager Employees or
Managers affiliates may also perform the Company Business at the Premises.
3.2.3 Premise Use.
The PC shall use the Premises exclusively for the provision of the Medical
Services. The PC shall comply with all applicable rules and regulations of governmental bodies
having jurisdiction over the PC with respect to the provision of the Medical Services at the
Premises.
3.3 Equipment and Supplies
The Manager shall be responsible for providing, or arranging for the provision to the PC, for
use in providing Medical Services, office equipment, computer equipment, medical equipment,
telephone lines, furniture, fixtures, leasehold improvements, information systems and office
supplies (the
Equipment
) as reasonably necessary for the conduct of the practice of the PC. The
costs of purchasing, leasing, providing, maintaining, repairing and replacing such items shall be
included in the Managers Costs. The Manager (or lessor thereof if any such item is leased rather
then owned) shall retain title to all such items. The Manager will consult from time to time with
the PC concerning the Equipment to be provided by the Manager and may make recommendations to the
PC; provided, however, that the final decision with respect to the Equipment to be provided by the
Manager that is medical shall be made by the PC.
Without limiting the generality of the foregoing, the PC and not the Manager shall be solely
responsible for the selection of any and all pharmaceutical products and ancillary medical services
(e.g., lab) ordered by or on behalf of the PC.
3.4 Employees
3.4.1 Manager Employees.
The Manager shall employ or otherwise retain, and shall be
responsible for selecting, hiring or arranging for, training, supervising and terminating, all
non-medical personnel (
Manager Employees
) as the Manager deems necessary and appropriate for the
Managers performance of the Management Services under this Agreement. The Manager shall determine
the salaries or contract payments, provide employee benefits (if appropriate), and administer
payroll withholding for all Manager Employees as required by applicable laws or regulations.
3.4.2 Medical Contractors.
The Manager shall also assist the PC in the recruitment of new
Medical Contractors and other medical professionals to become employees of, or otherwise be
retained by, the PC, individually or through a Physician
7
Corporation (as defined in
Section
4.2
). The Manager shall provide the PC with model agreements to document the PCs employment,
retention or other service arrangements with such individuals. Notwithstanding the foregoing, the
PC shall employ or otherwise retain, and shall be solely responsible for training, directing,
supervising, credentialing, controlling and terminating, any and all Medical Contractors and other
medical professionals performing Medical Services or other professional services for or on behalf
of the PC.
3.5 Quality Assurance and Risk Management
The Manager shall assist the PC in the PCs establishment and implementation of procedures to
ensure the consistency, quality and appropriateness of Medical Services that the PCs Medical
Contractors provide. The Manager shall also provide administrative support for the PCs overall
quality assurance and risk management programs. The Manager shall use commercially reasonable
efforts to perform these tasks so as to ensure the confidentiality of, and the privileged status
afforded to, these programs and procedures to the fullest extent allowable under state and federal
law.
3.6 Third Party Contracts
The Manager shall assist the PC with and negotiate, either directly or on the PCs behalf, as
appropriate, all contractual arrangements with third parties as are reasonably necessary and
appropriate for the business operation of the PC, including, without limitation, agreements with
equipment and supply vendors and, after and only after approval of the terms by PC, third party
payors (
Third Party Contracts
). The Manager shall provide oversight and management of all such
Third Party Contracts. As
provided in
Section 2.2.1
, the PC authorizes the Manager to execute on the PCs behalf
all Third Party Contracts that the Manager determines are necessary and appropriate for the conduct
of the PCs practice.
3.7 Billing and Collection; Power of Attorney
In the name of and on behalf of the PC, the Manager shall establish and maintain billing and
collection policies and procedures, and shall timely bill and collect all professional and other
fees of the PC for its provision of Medical Services to patients. The PC hereby grants to the
Manager an exclusive special power of attorney (the
Power of Attorney
) and appoints the Manager
as the PCs exclusive true and lawful agent and attorney-in-fact, and the Manager hereby accepts
such special power of attorney and appointment, for the following purposes:
3.7.1 Billing.
To bill, on behalf of the PC, patients to whom the PC has contracted to
provide the Medical Services, and, where not prohibited by applicable law or regulatory
requirements or the rules and regulations or a particular third party payor, to bill patients in
advance of the provision of the Medical Services, subject to a reconciliation of the amounts so
billed with the charges for the Medical Services actually provided. The Manager, in billing third
party payors, shall render such bills in accordance with all applicable rules, regulations and
policies of such payors;
8
3.7.2 Accounts Receivable.
Except for Governmental Third Party Payors as defined in
Section 3.7.5
, to collect on behalf of the PC accounts receivable generated by billings
done in the name of the PC relating to the Medical Services provided or to be provided by the PC,
whether from patients or from third party payors on behalf of patients; provided, however, that
such obligation does not encompass the institution of collection proceedings by the Manager;
3.7.3 Deposits.
Except for payments from Governmental Third Party Payors, to receive on
behalf of the PC payments from whatever source for the provision of the Medical Services by the PC,
including, but not limited to, payments, where not prohibited, in the form of advances or deposits
from patients in anticipation of receipt of the Medical Services and payments from insurance
companies and any other third party payors, and the PC hereby covenants to turn over to the
Manager, for deposit in a Bank Account (as defined in
Section 3.11
), all payments that it
receives or collects from patients or from third party payors (other than Governmental Third Party
Payors) on behalf of patients receiving Medical Services at the Premises;
3.7.4 Deposits.
Except for payments from Governmental Third Party Payors, to take possession of, and endorse
in the name of the PC, and cause to be deposited any notes, checks, money orders, insurance
payments, and any other instruments received in payment of Medical Services performed, or to be
performed, payable to the PC or to any of the Medical Contractors engaged by the PC to provide the
Medical Services, and to deposit the same as provided in
Section 3.11
;
3.7.5 Governmental Third Party Payors.
For all accounts receivable generated by billings
and claims to Governmental Third Party Payors, PC shall instruct such Governmental Third Party
Payor to deposit all claims payments directly into the account described in
Section 3.7.6
below. The term
Governmental Third Party Payor
means third party payors providing reimbursement
for eligible beneficiaries under a federal, state or local governmental health insurance program,
including Medicare and Medicaid, under which direct payment to Manager is not permitted under
applicable law or regulation.
3.7.6 Government Payor Account.
PC shall open, and at all times during the Term of this
Agreement maintain, an account at a bank that does not provide financing to PC or the Physician
Contractors, either directly or on behalf of another party, including Manager (the Government
Payor Account). All payments from Governmental Third Party Payors shall be deposited in the
Government Payor Account. PC covenants that : (i) at all times during the Term of this Agreement,
PC shall maintain sole and exclusive control over the Government Payor Account; and (ii) the terms
on which the Government Payor Account are established shall provide that the bank at which such
account is maintained shall be subject only to the instructions of PC with respect to such account.
Subject to the requirements of this
Section 3.7.6
, PC shall instruct the bank at which the
Government Payor Account is maintained to transfer on a daily basis all of the funds deposited in
the Government Payor Account on such day to a Bank Account (as defined in
Section 3.11
).
Upon Managers reasonable request, PC shall execute and deliver to the financial institution where
the Government
9
Payor Account is maintained, such additional documents or instruments as may be
necessary to effect the provisions of this Agreement.
3.7.7 Other Actions.
To take such other actions relative to billing, collection of fees, and
financial matters, including the review and revision, as necessary, of the PCs credit and
collection policies, in connection with the PC provision of the Medical Services as are appropriate
and consistent with sound business practice and the purposes of this Agreement.
The Power of Attorney shall be coupled with an interest and shall be irrevocable during the
Term. The Power of Attorney shall expire on the later of the (i) termination
of this Agreement, or (ii) the collection, sale or release of all accounts receivable
generated by the PCs practice prior to the effective date of such termination, and the payment of
all amounts due to the Manager as of such effective date. The Parties agree to revise the terms of
this
Section 3.7
as necessary to comply with applicable law.
3.8 PC Determines Medical Fees
In no event shall the Manager have any control over or responsibility for the establishment or
determination of the professional fees charged by the PC for the Medical Services. Subject to the
foregoing, the Manager shall provide to the PC such information and materials as are appropriate to
assist the PC in maintaining a competitive fee schedule, and shall have the right to review and
comment on the professional fee schedule proposed to be charged by the PC for the Medical Services
prior to the implementation of such fee schedule; provided, however, that the final decision
regarding all fees charged by the PC for Medical Services shall be made by the PC in its sole and
absolute discretion. The PC hereby agrees that all fees charged for the Medical Services shall be
reasonable and customary for the locality of its medical practice at the Premises. The PC further
agrees to consult with the Manager prior to the implementation of any discounts or discounted fee
schedules so that the Manager may assist in making recommendations based on standards that are
reasonable and customary for the locality of the PCs medical practice at the Premises.
3.9 Payment of PC Expenses
Except as provided otherwise in this Agreement, (i) the Manager shall pay, in the name of and
on behalf of the PC, all bills, costs and expenses incurred by the Manager on behalf of the PC, or
otherwise incurred by the PC, in accordance with this Agreement, including the payment of the
Medical Fee as set forth in
Section 6.6.1
; and (ii) bills, costs and expenses incurred by
the Manager on behalf of the PC, or otherwise incurred by the PC, in accordance with this
Agreement, and paid by the Manager, other than the Medical Fee, shall constitute Manager Costs.
Any and all payment of salaries and benefits for PC employees or independent contractors, purchases
of pharmaceutical products or ancillary medical services (e.g., lab), and medical malpractice
insurance shall be paid in the name of and on behalf of the PC.
10
3.10 Administrative Services
The Manager, subject to the ongoing supervision and control of the PC, shall conduct, or
arrange for, manage, and coordinate all business and administrative aspects of the PCs provision
of the Medical Services to patients at the Premises. In connection therewith, the Manager shall
supply, or arrange for the supply of, to the PC the ordinary, necessary, or appropriate services
for the efficient provision of the Medical Services at the Premises, including, without limitation,
necessary clerical, accounting, purchasing, payroll, legal, bookkeeping, banking and computer
services, information management, printing, postage and duplication services and medical
transcribing services, unless expressly provided otherwise in this Agreement. Without
limiting the generality of the foregoing, the Manager shall:
3.10.1 Scheduling.
Handle the clerical aspects of patient intake registration procedures and
perform the clerical tasks necessary to schedule patient appointments for the Medical Services,
including follow-up services;
3.10.2 Records.
Subject to applicable bookkeeping requirements, and the provisions of this
Agreement, provide administrative assistance to the PC in connection with the maintenance and
retention of the PC patient records developed in connection with the provision of the Medical
Services (but shall have no responsibility for the creation or the contents of any such medical
records);
3.10.3 Personnel Policies.
Assist and consult with the PC in developing, reviewing and
revising, as appropriate, non-medical personnel policies and procedures if and when requested by
the PC;
3.10.4 Non-Medical Quality Assurance.
Assist in non-medical quality assurance functions and
provide all administrative support services, such as administrative and secretarial services needed
for the PC to undertake quality assurance activities and to enhance the provision of the Medical
Services;
3.10.5 Current Business Information.
Keep current on medical, technical, scientific and
business information regarding the provision of Medical Services, and provide such information to
the PC for use in its clinical practice, if the PC so desires, subject to confidentiality and
non-disclosure covenants;
3.10.6 Consent Forms.
As directed by the PC, complete the clerical aspects necessary for
preparing patient consent forms; provided, however, that the content of such forms shall be
determined by the PC and provided further that the communication of medical information to patients
shall solely be the responsibility of the PC and the Medical Contractors;
3.10.7 Non-Clinical Training.
Assist in providing non-clinical educational programs for, and supervise non-clinical aspects
of the training of the Medical Contractors at the Premises;
11
3.10.8 Financing Programs.
Research, recommend and arrange for financing programs for
prospective patients who wish to have the Medical Services performed; and
3.10.9 Aftercare Programs.
Arrange for the provision of certain Aftercare programs and
services, such as researching area Aftercare providers for the PC and handling any administrative
functions of payment, if and when applicable; provided that the referral to, or selection of, any
particular Aftercare provider for a patient shall be solely within PCs discretion and medical
judgment.
3.11 Bank Account
Following execution of this Agreement, the Manager shall establish one or more bank accounts
as agent for the PC (each a
Bank Account
). Subject to
Sections 3.7.5 and 3.7.6
, on
behalf of the PC, all funds collected from patients receiving Medical Services at the Premises,
whether collected by the PC, the Physician Corporation or the Medical Contractors or by the Manager
on behalf of the PC, which relate to the provision of the Medical Services at the Premises, shall
be deposited in one or more Bank Accounts. To the extent permitted by law, the Managers
administrative functions hereunder shall include maintenance of the Bank Account(s). The Manager
may establish one or more deposit Bank Accounts (each a
Deposit Account
) and one or more
operating Bank Accounts (each an
Operating Account
) and arrange for funds in any Deposit Account
to be automatically swept by the depository bank on a daily or other periodic basis into any
Operating Account. The Manager shall be the sole signatory on the Operating Account(s).
3.12 Fiscal Matters
The Manager shall establish and administer, or arrange for the establishment and
administration of, adequate accounting procedures, controls and systems for the development,
preparation and safekeeping of administrative and financial records in connection with its duties
and responsibilities, all of which shall be prepared and maintained in accordance with applicable
laws and regulations. The Manager shall prepare or assist in the preparation of any other
financial statements or records that the PC may reasonably request. In addition, the Manager shall
prepare, or arrange for the preparation of, the PCs tax returns.
3.13 Medical Records
The Manager shall advise and assist the PC in establishing, monitoring and maintaining
procedures and policies for the timely creation, preparation, filing and
retrieval of all medical records. All such medical records shall be retained and maintained
in accordance with all applicable state and federal laws, provided that neither the Manager nor the
PC will limit the rights of patients to access their medical records. The PC shall obtain all
patient consents, authorizations or acknowledgements necessary or required by law to permit the
Manager access to such medical records for purposes of providing the Management Services.
12
3.14 Business Reports
The Manager shall prepare management and decision support reports with respect to PC
efficiency and research on cost of labor and competitor pricing relative to comparable markets.
3.15 Other Reports and Records
The Manager shall timely create, prepare, file, review, analyze, and interpret such additional
reports and records as are reasonably necessary or appropriate for the PCs provision of high
quality, cost-effective Medical Services, and as reasonably requested by the PC.
3.16 Licensing of PROMETA Protocols
3.16.1 Grant of License Rights to PC.
Subject to the terms and conditions of this Agreement,
Manager hereby grants to and PC hereby accepts, a limited nontransferable (except as set forth in
this
Section 3.16
), non-exclusive, commercial license to operate and use the Licensed
Technology identified generally in more detail on
Exhibit B
in the provision of the Medical
Services at the Premises for the purposes set forth on
Exhibit B
without the right to
sublicense the foregoing rights (
Hythiam License
). PC acknowledges that (i) this Agreement does
not transfer any interest in the ownership or title of any portion of the Licensed Technology; and
(ii) PC shall not own any portion of the Licensed Technology.
3.16.2 Term of License.
The Hythiam License shall terminate in total simultaneously with the
expiration or termination for any reason of this Agreement and shall terminate with respect to any
Medical Contractor simultaneously with the termination for any reason of the Professional Services
Agreement with that Medical Contractor.
3.16.3 License Restrictions.
PC may use all or any part of the Hythiam Licensed Technology
only for the purposes set forth in this Agreement and only at the Premises. Without limiting the
generality of the foregoing, PC shall not, nor shall authorize any third party to (and shall take
reasonable measures designed to prevent any third party from doing the same without authorization),
(a) copy, modify, market, reproduce, sell or distribute the
Hythiam Licensed Technology other than as actually necessary and then only in strict
accordance with this Agreement for delivery of Medical Services; (b) make the Licensed Technology
or services available to any Person, except the Medical Contractors who have been authorized by
Manager in writing as set forth on
Exhibit B
and who have been informed by PC of the terms
and conditions of this Agreement; (c) modify or create derivative works based upon the Licensed
Technology; (d) rent, lease, grant a security interest in, or otherwise transfer or attempt to
transfer any rights in or to the Licensed Technology; or (e) remove, alter or deface any legends,
restrictions, product identification, copyright, trademark or other proprietary notices from the
Licensed Technology.
13
3.16.4 PC Obligations.
PC shall (a) keep the Licensed Technology free and clear of any and
all claims, liens and encumbrances incurred or caused by PC, (b) ensure that the Professional
Services Agreements it enters into with Physician Contractors or any Physician Corporation obligate
the Physician Contractors and the Physician Corporation to comply with the terms and conditions of
this
Section 3.16
, and (c) notify Manager promptly if and when it becomes aware of any use
or disclosure of all or part of the Licensed Technology not authorized by this Agreement. ANY USE
OF ALL OR ANY PORTION OF THE LICENSED TECHNOLOGY OUTSIDE THE SCOPE OF THE RIGHTS GRANTED IN THIS
SECTION 3.16
IS STRICTLY PROHIBITED.
3.16.5 Data Collection and Reporting.
Manager has developed proprietary business processes
that it uses to process and report data generated from the use of the Licensed Technology (
Data
Reports
) on behalf of PC. As part of the Management Services, Manager or its designated
contractor may collect encounter, treatment and outcomes data on behalf of PC, including follow-up
patient surveys, in which event it will provide, or arrange for the provision of, Data Reports to
PC for treatment performed by or on behalf of PC using the Licensed Technology, all as set forth in
more detail on
Exhibit B
(
Data Collection and Reporting
).
3.16.6 Aftercare Services.
On PCs behalf, Manager will arrange for Aftercare (as defined in
Exhibit B
) for PC patients treated using the Licensed Technology (
Aftercare Services
).
3.16.7 Use of Licensed Technology.
PC agrees that its use of the Licensed Technology will be
in accordance with the terms of this Agreement and will comply with all applicable Laws and third
party payer requirements. Only PC Medical Contractors who have received education and training on
the use of the Licensed Technology may use it and will have and maintain all training, licenses,
approvals, certification, equipment and information necessary for
them to safely and properly use the Licensed Technology. PC will report promptly to Manager
any knowledge it acquires that the Licensed Technology is being used in a manner not in accordance
with this
Section 3.16
, or otherwise with this Agreement. Notwithstanding the foregoing,
this
Section 3.16.7
is not intended to restrict or limit in any way each Medical
Contractors responsibility to exercise his or her clinical judgment in treating patients, but
instead to protect Managers interest in and to its Licensed Technology and the integrity of that
Licensed Technology. For the avoidance of doubt, PC has no obligation to treat any patient using
the Licensed Technology and the decision about how to treat any patient and whether or not to use
the Licensed Technology or any other treatment protocol or regimen is solely within PCs
discretion.
3.16.8 Clinical Activities.
The Licensed Technology is provided by Manager to PC and/or to
any Medical Contractor as additional points of information and not, in whole or in part, as medical
advice, diagnosis or treatment recommendations. The Parties acknowledge and agree that Manager in
performing its obligations under this Agreement is providing access to technology and management
and support services only and will not be delivering patient care and will not be sponsoring or
performing human subjects research. PC , as between the Parties, and/or Medical Contractors, as
14
appropriate consistent with applicable Law, control and are fully responsible for any and all
patient care, Aftercare and/or research activity delivered by PC or Medical Contractors using the
Licensed Technology. PC and Medical Contractors shall at all times exercise their independent
medical judgments when treating patients, providing Aftercare, referring to other providers, or
performing research using the Licensed Technology.
3.16.9 Subject Data.
Manager acknowledges and agrees that, as between the Parties, all
patient medical records shall be the property of PC. PC agrees that to the extent necessary for
Manager to perform its obligations under this Agreement and to the extent permitted by Law,
including but not limited to in accordance with any patient authorizations that meet the
requirements of applicable Law, Manager shall have access at all times to all patient records for
patients provided care using the Licensed Technology (
Subject Data
). In addition, PC shall
provide the Subject Data to Manager for prompt downloading and/or processing in an agreed-upon
format to the extent maintained by PC, PC personnel or PC staff physicians, to the extent permitted
by Law. The Business Associate/Data Use Agreement attached to this Agreement as
Exhibit D
shall govern the use and disclosure by Manager of the Subject Data.
3.16.10 Patient Consents; Regulatory Approvals.
PC shall be solely responsible for seeking
any and all necessary patient consents or authorizations, and obtaining any and all approvals or
licenses from regulatory bodies or other authorities that are required by applicable Laws or PC
policy for Managers delivery of the Management Services, PCs use of the Licensed
Technology, and the provision of the Subject Data to Manager, all in accordance with this
Agreement, including but not limited to, seeking any authorizations or consents necessary for
disclosure of data to Manager by Aftercare providers to the extent Manager requires such data to
perform its obligations under this Agreement. Without limiting PCs obligations in the foregoing
sentence, PC shall provide Manager advance written notice if it determines it needs any regulatory
approvals or licenses for its use of the Licensed Technology. PC acknowledges Manager may conduct
or sponsor research that is not part of Managers obligations under this Agreement and PC shall
seek patient authorizations or consents as required by Law and in accordance with Law for provision
of the Subject Data to Manager for its own research purposes.
3.16.11 Reservation of Rights.
All rights and licenses of any kind in the Licensed Technology
not expressly granted in this Agreement are reserved exclusively to Manager. There shall be no
licenses by implication to the PC or any Medical Contractor under this Agreement, and PC agrees not
to attack or contest Managers ownership and rights to the Licensed Technology in connection with
this Agreement.
3.16.12 Manager Ownership.
PC acknowledges and agrees that all right, title and interest in
and to the Licensed Technology shall be solely and exclusively owned by Manager. If PC creates,
conceives, develops, invents or reduces to practice any inventions (whether or not patentable),
documented records of invention or patent disclosures, derivative works, continuations,
continuations-in-part, enhancements, trade secrets, know-how, show-how, discoveries, improvements,
innovations, ideas, industrial
15
models, processes, methods, formulae, compositions, findings,
research and development information, data, databases, content, electronic data files, training
manuals, user guides, manufacturing, engineering and technical drawings, manufacturing and
production processes and techniques, software and computer programs (in object code and source
code), business information and plans, technical knowledge and information, maintenance
information, mask works, integrated circuit topographies, confidential information, and all other
items with similar characteristics, arising out of or related to the Licensed Technology
(collectively, the
Licensee Modifications
), PC agrees to assign, and hereby irrevocably assigns,
all of PCs right, title and interest in and to the Licensee Modifications to Manager, including
any Intellectual Property rights. PC agrees to take or cause to be taken such further actions, to
execute, deliver and file or cause to be executed, delivered and filed such further instruments,
documents and agreements, and will obtain such consents or waivers, as may be necessary or as may
be reasonably requested in order to fully effectuate the purposes, terms and conditions of this
Agreement at Managers cost. PC further agrees to ensure that all PC and Medical Contractors who
are involved in any way with the Licensee Modifications agree (i) to assign and do assign all of
their right, title and interest in the Licensee Modifications, including, without limitation, all
Intellectual Property, to PC (who in turn shall assign and hereby assigns the same to Manager as
set forth in this
Section 3.16.12
) and/or to assign all such rights directly to Manager; and (ii) to
waive all moral rights and agree to never assert any moral rights in the Licensee Modifications.
PC agrees that for purposes of this Agreement the term moral rights means any rights of paternity
or integrity, including any right to claim authorship of a copyrightable work, to object to a
modification of such copyrightable work, and any similar right existing under the judicial or
statutory law of any country in the world or under any treaty, regardless of whether or not such
right is denominated or generally referred to as a moral right. PC hereby waives and agrees
never to assert any moral rights that PC may have in any Licensee Modifications, and PC hereby
further agrees to obtain waivers from PC and Medical Contractors to any moral rights that they may
have in any Licensee Modifications. Manager shall be solely entitled to and shall be solely
responsible for, at its sole expense, filing, having filed, prosecuting, having prosecuted,
maintaining and having maintained all patents and patent applications, as applicable, relating to
the Licensee Modifications. Notwithstanding the foregoing, PC shall be solely responsible for, at
its sole expense, compliance with any and all applicable laws, regulations, policies, procedures
and guidelines relating to the use of the Licensed Technology as set forth in this Agreement. The
Parties acknowledge and agree that upon creation and assignment to Manager, the Licensee
Modifications shall automatically without further action by either Party become part of the
Licensed Technology. PC will promptly disclose and deliver to Manager all Licensee Modifications.
3.16.13 Intellectual Property.
For purposes of this Agreement,
Intellectual Property
shall
mean all intellectual property and proprietary rights worldwide (whether or not registered or
registrable, patented or patentable) including, without limitation, patents, patent applications or
filings, copyrights, trademark rights, trade secret rights, discoveries, improvements, moral
rights, semiconductor chip rights, and rights in ideas,
16
inventions, innovations, industrial models,
processes, methods, formulae, compositions, findings, research and development information,
databases, industrial designs, content, electronic data files, training manuals, user guides,
drawings, techniques, software, computer programs (in object code and source code), business
information, business plans, technical knowledge, technical information, maintenance information,
brochures, labels, mask works, integrated circuit topographies, and all other items with similar
characteristics, along with all other similar rights and all applications, registrations,
divisionals, continuations, continuations-in-part, re-examinations, extensions, reissues and
foreign counterparts and documented records of invention or patent disclosures or the like in and
to any and all of the foregoing. Intellectual Property shall not include the Subject Data, but
will include (i) any de-identified information or database created using the Subject Data, (ii) the
underlying formats and designs of any reports or other materials containing all or any part of the
Subject Data and capable of intellectual property protection, and (iii) other information or other
materials created, derived, developed, improved or otherwise obtained by or on behalf of a party
directly or indirectly using the Subject Data.
3.16.14 Disclaimer Of Warranties.
PC ACKNOWLEDGES AND AGREES THAT THE LICENSED TECHNOLOGY AND
SERVICES PROVIDED, BEING LOANED, AND/OR LICENSED TO PC ARE PROVIDED ON AN AS IS AND AS
AVAILABLE BASIS WITH NO WARRANTY OF ANY KIND. WITH RESPECT TO THIS AGREEMENT HYTHIAM MAKES NO
WARRANTIES, EXPRESS OR IMPLIED, INCLUDING WITHOUT LIMITATION, ANY IMPLIED WARRANTIES OF
MERCHANTABILITY OR FITNESS FOR A PARTICULAR PURPOSE REGARDING THE LICENSED TECHNOLOGY OR ANY OTHER
MATERIALS OR INFORMATION PROVIDED UNDER THIS AGREEMENT. ADDITIONALLY, WITH RESPECT TO THIS
AGREEMENT HYTHIAM MAKES NO REPRESENTATIONS OF ANY KIND, EXPRESS OR IMPLIED, REGARDING THE SAFETY OR
EFFICACY OF THE LICENSED TECHNOLOGY, THAT THE LICENSED TECHNOLOGY WILL OPERATE IN A MANNER THAT IS
UNINTERRUPTED OR ERROR-FREE, OR REGARDING ANY OTHER SUBJECT MATTER OF THE AGREEMENT.
3.16.15 Limitation of Liability.
HYTHIAM ASSUMES NO LIABILITY OR RESPON-SIBILITY FOR HOW PC
OR ANY MEDICAL CONTRACTOR USES THE LICENSED TECHNOLOGY FOR OR IN CONNECTION WITH ANY DIAGNOSIS OR
TREATMENT MADE OR PROVIDED IN CONNECTION WITH OR RELIANCE ON THE LICENSED TECHNOLOGY, OR FOR INJURY
TO PERSONS OR PROPERTY ARISING FROM THE USE OF THE LICENSED TECHNOLOGY. NOT WITHSTANDING ANY OTHER
PROVISION OF THIS AGREEMENT, IN NO EVENT SHALL EITHER PARTY HAVE ANY LIABILITY FOR ANY INDIRECT,
SPECIAL, CONSEQUENTIAL, PUNITIVE OR EXEMPLARY DAMAGES OF ANY KIND, INCLUDING BUT NOT LIMITED TO
LOST REVENUES OR LOST PROFITS, LOSS OF BUSINESS OR GOODWILL OR LOSS OF DATA, IN ANY WAY ARISING OUT
OF, RELATED TO OR IN CONNECTION WITH THIS AGREEMENT, EVEN IF ADVISED OR OTHERWISE HAS REASON TO
KNOW OR KNOWS OF THE POSSIBILITY OF SUCH DAMAGES.
17
3.16.16 Debarment or Exclusion.
Each Party hereby represents and warrants that neither it,
nor any of its principals, officers, employees or agents providing services under this Agreement,
is and at no time has been excluded from participation in any federally funded health care program,
including Medicare and Medicaid. Each Party hereby agrees to immediately notify the other Party of
any threatened, proposed, or actual exclusion from any federally funded health care program,
including Medicare and Medicaid. In the event that either Party is excluded from participation in
any federally funded health care program during the Term of this Agreement, or if at any time after
the Effective Date of this Agreement it is determined that the excluded Party is in breach of this
Section, this Agreement shall, as of the effective date of such exclusion or breach, automatically
terminate.
3.16.17 Government Access.
If applicable, the Parties shall comply with the provisions of
Section 1861(v)(1)(l) of the Social Security Act and shall make available, upon written request of
the Comptroller General of the United States or the Secretary of the United States Department of
Health and Human Services or any of their duly authorized representatives, any books, documents and
records that are necessary to verify the nature and extent of the costs incurred by either Party
under this Agreement. In addition, each Party shall cooperate with the other Party and provide
reasonable access to books and records pertaining to this Agreement and the performance of its
obligations to the extent reasonably necessary for compliance with any governmental agency review
or audit of the other Party.
3.17 Licensing of Name
3.17.1 Grant of License.
In conjunction with the provision of the Medical Services at the
Premises, the Manager hereby grants to the PC a non-exclusive and non-assignable license, during
the Term to use the Trademarks set forth on
Exhibit A
(
Trademarks
), and such other trade
name as may be chosen by the PC with the prior consent of the Manager in the future, subject to the
PCs compliance with applicable legal and regulatory requirements including, without limitation,
fictitious name statutes (collectively referred to as the
Trade Name
). The PC shall use the
Trade Name only in connection with the provision of the Medical Services at the Premises in
accordance with this Agreement. All intellectual property rights in and to the Trade Name, and any
additions thereto, shall be and remain the property of the Manager. Any application for
registration by the PC for such Trade Name which may be permitted or required by the statutes or
laws of any governing body, except for any applicable fictitious name statutes in the State of
California, shall specify that the PCs use of the Trade Name is pursuant to a license from Manager
and is limited to the Premises at which the Medical Services are provided and further limited by
the terms of this Agreement. Except as provided in
Section 3.17.2
, no property right in or
privilege to use the Trade Name is created hereby which will extend beyond the expiration or
termination of this Agreement. The PC agrees to assist the Manager, at the expense of the Manager,
to the extent necessary in the procurement of any protection of the Managers right to the Trade
Name including, without limitation, the filing of a trademark application with the U.S. Patent and
Trademark Office. Recognizing the special and unique value of the Trade Name to the Manager, the
PC agrees that it shall take no action nor permit any
18
action to be taken that shall materially
detract from the high level of quality and value associated with the Trade Name and the ownership
and enjoyment of same by the Manager, except for action which has been approved by the Manager
pursuant to the terms of this Agreement.
3.17.2 Termination of License.
After the expiration or termination of this Agreement for any reason, the PC shall (a) cease
using the Trade Name in all respects and refrain from making any reference on its letterhead or
other publicly disseminated information and materials to its former relationship with the Manager;
(b) take any and all action required, including execution of appropriate documents, to make the
Trade Name available for use by another person or entity designated by the Manager; and (c) not use
or otherwise seek the benefits of the Trade Name so as to derogate from the full and complete
ownership and enjoyment of the same by and for the benefit of the Manager.
3.17.3 Injunctive Relief.
The PC acknowledges that the PCs failure to comply with this
Section 3.17
will result in immediate and irreparable damage to the Manager and its
affiliates. The PC acknowledges and agrees that in the event of such failure, the Manager shall be
entitled to seek injunctive or other equitable relief without posting bond or other security, in
addition to any other remedies which may be available in accordance with this Agreement.
3.18 Advertising, Marketing and Promotional Services
3.18.1 Advertising Services.
The Manager shall conduct, manage, and coordinate all
advertising, marketing and promotional services in connection with the PCs provision of the
Medical Services at the Premises. The PC shall cooperate with the Manager in the performance of
such services including, without limitation, consulting with the Manager concerning the content of
proposed Advertising Materials (as defined in
Section 3.18.1(a)
). It is hereby understood
and agreed between the Parties that, subject to applicable legal and regulatory requirements, the
Manager may advertise, market and promote the Medical Services and the Company Business jointly in
the same programs and through the same Media. Without limiting the generality of the foregoing and
subject to applicable standards of medical ethics, laws, and regulations, the Manager may:
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(a)
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Develop, create, implement and produce, or arrange for the production of, all
forms of advertising, marketing and promotional programs and materials, including,
without limitation, network television and cable television commercials and
infomercials, radio commercials, brochures, pamphlets and other materials of a similar
nature (collectively,
Advertising Materials
) promoting the Medical Services at the
Premises;
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(b)
|
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Purchase media for the broadcast, cablecast, radiocast, publication, non-active
electronic (excluding interactive media) or other distribution of commercial
advertisements (collectively,
Media
) produced by or on
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19
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behalf of the Manager to
promote the Medical Services and the Company Business;
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(c)
|
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Provide and/or arrange for the provision and maintenance of one or more Web
sites to provide information about and/or promote the Medical Services; and
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(c)
|
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Conduct public information programs concerning the Medical Services offered at
the Premises.
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3.19 Non-Exclusivity
The PC acknowledges that the Manager will be performing the Company Business at the Premises
and at other locations during the Term. This Agreement shall not prevent the Manager from
performing the Management Services or other services for any of its affiliates or other independent
contractors, or restrict the Manager from using for the benefit of any of its affiliates or other
independent contractors, the Trade Name, or any of the Manager Employees or other persons who are
performing Management Services pursuant to this Agreement. The decision as to which Manager
Employees are to be employed at what time and for what purposes shall be solely within the
Managers discretion.
ARTICLE 4.
COVENANTS AND RESPONSIBILITIES OF THE PC
4.1 Organization and Operation
The PC shall at all times during the Term be, and remain, legally organized and operated to
provide the Medical Services in a manner consistent with all state and federal laws. The PC
represents and warrants that it shall not provide any patient care services in the Premises other
than professional services related to the Medical Services, and shall not use any facilities,
equipment, supplies or services in the Premises other than in connection with the Medical Services,
all in accordance with this Agreement.
4.2 Retention of Medical Contractors
The PC shall have complete control and responsibility for the hiring, compensation,
supervision, training, evolution and terminations of its Medical Contractors, although at the
request of the PC, the Manager may consult with the PC with respect to such matters. The Manager
acknowledges and agrees that the PC shall be retaining the services of its Medical Contractors who
are physicians (the
Physician Contractors
) through a medical services agreement (
Professional
Services Agreement
), a current copy of which is attached to this Agreement as
Exhibit C
.
PC may retain Physician Contractors by entering into a Professional Services Agreement with a third
party professional corporation that employs or retains those Medical Contractors (
Physician
Corporation
). Any reference in this Agreement to Medical
20
Contractors or Physician Contractors
shall include any Physician Corporation. If at any
time PC and any Physician Contractor materially amend the Professional Services Agreement, PC
promptly shall provide Manager with a copy of the amended agreement. Pursuant to the Professional
Services Agreement, the Physician Contractor will provide to the PC the Medical Services as
described in the Professional Services Agreement. None of the PC, any Physician Corporation or the
Medical Contractors shall have any claim under this Agreement or otherwise against the Manager for
workers compensation, unemployment compensation or social security benefits, all of which shall be
the responsibility of the PC and/or the Physician Corporation. It shall be the PCs sole
responsibility to ensure that the Physician Corporation and its Physician Contractors and other
employees who may have malpractice exposure or liability, are insurable and have maintained
appropriate amounts of professional liability insurance.
4.3 Professional Standards
The PC shall provide Medical Services to patients at the Premises in compliance at all times
with ethical standards, laws, rules and regulations applicable to the operations of the PC and
Medical Contractors. The PC shall ensure that each Medical Contractor has all required licenses,
credentials, approvals or other certifications to perform his or her duties and services for the PC
at the Premises. In the event that any disciplinary action or medical malpractice action is
initiated against any Medical Contractor, the PC shall promptly inform the Manager of such action
and the underlying facts and circumstances. The PC shall develop and carry out a program to
monitor the quality of medical care practices at the Premises to ensure that it meets the standard
of care that is customary for the locality of the medical practice at the Premises. The PC shall
retain a sufficient number of properly trained and experienced Medical Contractors as are necessary
to provide the Medical Services to the average number of patients of the PC at the Premises as
reasonably estimated by the Parties on a monthly basis consistent with the volume of patients that
received Medical Services in the previous month.
4.4 Medical Practice
The PC shall use and occupy the Premises exclusively for providing Medical Services. It is
expressly acknowledged by the Parties that the medical practice shall be conducted solely by
Medical Contractors and no other physician or medical practitioner shall be permitted to occupy the
Premises without the Managers written consent.
4.5 Compliance with Laws
The PC shall, and it shall use its best efforts to cause the Medical Contractors to, comply
with all applicable federal, state and local laws, rules, regulations and restrictions (
Law
) in
the provision of the Medical Services. Without limiting the generality of the foregoing, the PC
shall comply, and shall use its best efforts to cause each Medical Contractor to comply, with all
Medical Waste Laws applicable to the operation of the Premises in the generation, transportation,
treatment, storage, disposal
21
or other handling of Medical Waste (to the extent that the PC or the Medical Contractors
engage in such activities), and the PC shall not, and shall use its best efforts to forbid any
Medical Contractor, to enter into any contract, lease, agreement or arrangement, including, but not
limited to, any joint venture or consulting agreement, to provide services, lease space, lease
equipment or engage in any other venture or activity with any physician, hospital, pharmacy, home
health agency or other person or entity which is in a position to make or influence referrals to,
or otherwise generate business for, the PC, if such transaction is in violation of any applicable
law, rule or regulation.
4.6 Premises and Equipment
The PC shall use commercially reasonable efforts to prevent damage, excessive wear and tear,
and malfunction or other breakdown of the Premises and Equipment or any part thereof by the Medical
Contractors. The PC shall promptly inform the Manager of any and all necessary replacements,
repairs or maintenance to any of the Premises or Equipment and any failures of Equipment of which
the PC becomes aware. Once provided to the PC, the PC shall comply with all of the covenants and
provisions regarding the use of the Premises as set forth in the subleases for the Premises and all
covenants and provisions regarding actual use of the Equipment as set forth in any applicable
Equipment leases, but only to the extent that any such Equipment leases have been delivered to the
PC.
4.7 Delegation by the Provider
Except as otherwise allowed under this Agreement, the PC shall not delegate any of its
obligations under this Agreement to any other person or entity, hire any non-medical employees or
engage any non-medical independent contractors or consultants in connection with the provision of
the Medical Services, without the consent of the Manager.
ARTICLE 5.
RELATIONSHIP OF THE PARTIES
5.1 Medical Practices
5.1.1 Delivery of Medical Services.
The PC shall be solely and exclusively in control of all
aspects of the practice of medicine and the delivery of Medical Services at the Premises. The
provision of all medical professional services, including, but not limited to, medical consultation
with patients, both prospective and actual, diagnosis, treatment, surgery, therapy, the
prescription of medicine and drugs, and the supervision and preparation of medical reports and
records shall be the sole responsibility of the PC.
22
5.1.2 Quality.
The PC shall at all times be solely responsible for the quality of the Medical Services it
provides, it being agreed that the Manager shall have no responsibility or liability for such
services.
5.1.3 Manager Not Practicing Medicine.
It is acknowledged that the Manager is not competent
or authorized to engage in any activity that constitutes the practice of medicine and that nothing
contained in this Agreement is intended to authorize the Manager or the Manager Employees to engage
in the practice of medicine. To the extent that any act or service required of the Manager under
the terms of this Agreement is construed or considered to constitute the practice of medicine, this
Agreement shall be immediately and automatically amended so as not to require the performance of
such act or service by the Manager.
5.2 Independent Contractors
The PC and the Manager intend to act and perform as independent contractors, and the
provisions of this Agreement are not intended to create any partnership, joint venture, agency
(other than as provided herein) or employment relationship between the Parties. The PC and the
Manager agree that the PC shall retain the exclusive authority to direct the medical, professional
and ethical aspects of its medical practice. The Manager shall neither exercise control over nor
interfere with the physician-patient relationships of the PC, which shall be maintained strictly
between the Medical Contractors and the PCs patients. The Management Fee has been determined by
the Parties through good faith and arms-length bargaining to be the fair market value of the
Management Services. No amount paid or advanced hereunder is intended to be, nor shall it be
construed to be, an inducement or payment for referral of patients by the Manager to the PC and any
such inducement or payment for referral of patients is expressly prohibited under this Agreement.
ARTICLE 6.
FINANCIAL TERMS
6.1 Manager Compensation
In consideration for the Management Services that the Manager provides to the PC in accordance
with this Agreement, the PC agrees to pay the Manager on a monthly basis, and the Manager shall
accept as payment in full, a fee equal to the aggregate amount of (a) the Managers costs of
providing the Management Services (including reasonable overhead costs of the Manager allocable to
the delivery of Management Services and including start-up costs such as pre-operating salaries,
rent, equipment, and tenant improvements incurred for the benefit of the PC; provided that any
capitalized expenses (including, for purposes of this paragraph, all start-up expense) shall be
amortized over a five year period of time for purposes of inclusion) (the
Managers Costs
), (b)
ten percent (10%) of the Managers Costs and (c) any
performance bonus amount, as determined by the PC, in its sole discretion (collectively, the
Management Fee
). For greater certainty, any performance bonus paid by the PC
23
to the Manager
shall be based solely on the Managers performance of the Management Services and shall in no way
be based on the provision of Medical Services by the PC. Notwithstanding the foregoing, (i) third
party medical care expenses (e.g., the cost for any blood work, pharmaceutical products, or lab
work ordered by the PC) shall be included in Managers Costs at the Managers actual cost for the
payment for the service or supply for or on behalf of the PC, without the application of any
overhead costs of the Manager, and the cost of these items will be deducted from Managers Costs
prior to calculation of the ten percent (10%) of Managers Costs set forth in (b) above; and (ii)
any sales commissions paid to Manager Employees or independent sales agents retained by the Manager
shall be excluded from Managers Costs.
6.2 Payment of Management Fee
On or before the thirtieth (30th) day of each month during the Term of this Agreement,
beginning with the second such month, and continuing through the month following the expiration or
termination of this Agreement, the PC shall pay the Manager the Management Fee, which payment shall
relate to Management Services furnished by the Manager for the preceding month.
6.3 Invoices
In order to facilitate the payment by the PC for the Management Services, the Parties agree
that the Manager will prepare an invoice, in a format agreed upon by the Parties (the
Manager
Statement
) setting forth the Managers Costs for the preceding month on an accrual basis and the
monthly Management Fee payment due to the Manager. The invoice shall be submitted to the PC on or
before the twentieth (20th) business day of the month following the month during which the
Management Services were provided.
6.4 Authorization to Pay Invoices
The PC hereby authorizes and directs the Manager to make the following payments on behalf of
the PC from any Bank Account, in the order specified: (1) the Medical Fee; (2) any obligations of
PC related to PCs employees (e.g., salary, benefits and administrative expenses specifically
approved by PC); (3) all third party obligations; and (4) any invoice owed by the PC to the Manager
and all other monetary obligations of the PC to the Manager hereunder on the date such amount is
due and payable (including, without limitation, the Management Fee), (subparagraphs (1) through (4)
above are referred to collectively as the
Obligations
). In the event there are not sufficient
monies in the Bank Account(s) to pay any of the Obligations, Manager shall provide the PC a
revolving line of credit to be available as a working capital loan up to a maximum amount of five
hundred thousand dollars ($500,000) (
Working Capital Loan
) to allow PC to pay such Obligations.
PC shall execute and deliver to
Manager a promissory note, dated the Effective Date and payable to the order of Manager,
evidencing PCs unconditional obligation to repay Manager for the Working Capital Loan. The
Working Capital Loan shall be repaid by PC, with interest equal to prime
24
plus two percent (2%), as
funds become available;
provided, however
, upon termination of this Agreement, the entire
principal balance and all other costs, fees and expenses, if any, shall be due and payable in full.
The Working Capital Loan shall be secured as provided in
Section 6.7.1
. The Manager
agrees that all third party obligations shall be paid prior to any payments of the Management Fee
each month.
6.5 Records and Audit of Accounts
The Manager shall keep records of the Manager Costs for each month during the Term of this
Agreement. The Manager shall provide the PC with all data that the PC deems necessary to verify
the Management Services performed and the Manager Costs during each calendar month. Either Party
shall have the right, at its sole expense, through an auditor mutually acceptable to the Parties,
to audit the other Partys books and records to confirm the accuracy of the Manager Costs, the
Management Fee, and/or any other financial information relating to this Agreement. Such audits may
be conducted at any time upon reasonable notice, and such audits shall be conducted at such times
and locations as are reasonably acceptable to the Parties.
6.6 Physician Contractor Compensation
6.6.1 Medical Fee; Initial Term.
As full and complete compensation for the Medical Services
that any Physician Contractor will provide to the PC, the PC shall pay, and the Physician
Contractor shall receive, the medical fees set forth in the applicable Professional Services
Agreement (the
Medical Fees
).
6.6.2 Renewal Terms.
Payment of the Medical Fees for any Renewal Term shall be determined as
set forth in the Professional Services Agreement.
6.6.3 Payment and Statements.
The Manager shall pay, in the name of and on behalf of the PC,
payments of the Medical Fees from the Bank Account. The payment of the Medical Fees shall have
priority over the payment of the Management Fee. Each payment of the Medical Fees shall be
accompanied by a statement prepared by the Manager setting forth the manner in which the Medical
Fees for the preceding calendar month was calculated. Upon written request by PC, Manager will
provide PC with a copy of the bank statement for the Bank Account for the month at issue.
6.7 Grant of Security Interest in Accounts
6.7.1 Grant of Security Interest.
The PC hereby grants, pledges and assigns to the Manager a
security interest in all of the PCs assets, including, but not limited to, accounts receivable
(including all rights to payment by any insurance company or prepaid managed care organization to
the extent permitted by law), whether now existing or hereafter acquired and in and to all products
and proceeds thereof, substitutions therefore and additions thereto (collectively, the
Collateral
), to secure the payment of the Working Capital Loan. Collateral shall not include any
assets separately (personally) owned by Physician Contractors.
25
In furtherance of the grant of the security interest, the PC hereby agrees (i) to deliver to
the Administrative Agent any and all instruments constituting part of the Collateral, each endorsed
and/or accompanied by any instrument of assignment and (ii) to authorize, execute and deliver, and
consents to the filing of, all financing statements, notices, instruments, documents or other
papers, each as may be necessary or desirable, or as the Manager may direct, to create, preserve,
perfect or validate the security interest granted above or to enable the Manager to exercise and
enforce its rights hereunder.
6.7.2 Exercising Remedies.
In the event any of the Obligations are not paid when due or upon
any default by the PC of any term or condition hereunder with respect to the Obligations, the
Manager may, with or without terminating this Agreement, exercise all rights and remedies afforded
a secured party under the Uniform Commercial Code in the State of California.
6.7.3 Financial Statements.
The PC agrees to execute all financing or continuation statements
or other documents which may be necessary or desirable, or as the Manager may request, in order to
perfect and preserve the security interest(s) granted or purported to be granted under this
Agreement. The PC authorizes the Manager to file one or more financing or continuation statements,
and amendments thereto, relative to all or any part of the collateral without the signature of the
PC where permitted by law. The PC hereby appoints the Manager as the PCs true and lawful
attorney-in-fact, with full power of assignment and substitution, to take possession of the
Accounts of the PC and endorse in the name of the PC any notes, checks, money orders, insurance
payments or other instruments received in payment of such Accounts, or any part thereof; to
collect, sue on and satisfy the obligation of monies due on such Accounts; and to initiate or
withdraw claims, lawsuits or proceedings pertaining to, arising out of, or relating to the
Managers right to such Accounts or any collections therefrom.
6.8 License Fee
6.8.1 License Fees.
PC shall pay Manager the license fees set forth on
Exhibit B
(
License Fees
).
6.8.2 Payment Terms.
PC will deliver every two (2) weeks during the Term to Manager (i) a
report identifying the number and type of patients treated using the Licensed Technology during the
two-week period covered by the report, the total fees charged to those patients, the amounts
collected to date with respect to those patients, and License Fees payable to Manager based on
those treatments; and (ii) a check or other readily available funds payable to Manager in the
amount of the License Fees (computed as provided in this
Section 6.8.2
and
Exhibit
B
), and including any Aftercare Service Fees that may have accrued since the cutoff date for
the previous report (or from the Effective Date in the case of the first report), by mailing or
delivering them to the Managers address and person identified on the first page of this Agreement
(unless and until otherwise directed by Manager). Within ten (10) days after receipt of each
report and/or following each reconciliation meeting (as defined in
Section 6.8.3
),
26
Manager will invoice PC for any additional License Fees due under this Agreement, and PC will pay any
undisputed invoices within thirty (30) days after receipt by PC. Notwithstanding any other
provision of this Agreement and subject to the terms of the Aftercare Services set forth in
Exhibit B
, Manager in no event or circumstance is or shall be responsible for any costs of,
or related to, patient care provided by PC, or extended or unanticipated care required for patients
treated using the Licensed Technology.
6.8.3 Reconciliation.
To facilitate payment and compliance with the terms of this Agreement,
at Managers request, the Parties will meet no less frequently than monthly and no more frequently
than every two weeks for purposes of reconciling License Fees. In addition, PC will investigate
and resolve promptly and thoroughly any evidence that all or any part of the Licensed Technology is
being used at PC in cases that are not reported for purposes of this
Section 6.8
. Any such
unreported uses of the Licensed Technology shall be included by PC in the next two-week report (as
defined in
Section 6.8.2
). Manager shall have the right at least once during any 12-month
period during the Term and upon at least fifteen (15) days advance notice to engage a third party
accounting firm to review and audit PC books and records during normal business hours to the extent
reasonably necessary to reconcile License Fees and ensure Manager receives the License Fees in
compliance with this Agreement
ARTICLE 7.
REPRESENTATIONS AND WARRANTIES
7.1 Representations and Warranties of the PC
The PC hereby makes the following representations and warranties to the Manager:
7.1.1 Organization.
The PC is a professional corporation duly organized, validly existing and in
good standing under the laws of the State of California, has full power and authority to own or
lease its property and to carry on its business as now being conducted.
7.1.2 No Violation Professional Services Agreement.
To the best of its knowledge, neither the
execution and delivery of this Agreement or any Professional Services Agreement, nor the
consummation of any transactions contemplated hereby or thereby, nor the performance of the PCs
obligations hereunder or thereunder, will (a) violate any constitution, law, statute, regulation,
or rule, (b) violate any injunction, judgment, order, decree, ruling, charge or other restriction
of any government, governmental agency, or court to which the PC is subject, (c) violate any
provision of the Certificate of Incorporation or bylaws of the PC or any Physician Corporation, or
(d)(i) conflict with, (ii) result in a breach of, (iii) constitute a default under, (iv) result in
the acceleration of, (v) create in any Party the right to accelerate, terminate, modify, or cancel,
or (vi) require any notice under, any other agreement, contract, lease, license, instrument,
franchise, permit or other arrangement to which the PC or Medical Contractor is a party or by which
the PC or Medical Contractor is bound.
27
7.1.3 No Violation Medical Contractor Agreements.
PC represents and warrants, and has required
each Medical Contractor to represent and warrant, to the best of its knowledge that neither the
execution and delivery of this Agreement or the Professional Services Agreements entered into with
the Medical Contractors (the
Medical Contractor Agreements
), nor the consummation of the
transactions contemplated under any of the foregoing agreements, nor the performance of the PCs or
Medical Contractors obligations under any of the foregoing agreements, will (a) violate any
constitution, law, statute, regulation or rule, (b) violate any injunction, judgment, order,
decree, ruling, charge or other restriction of any government, governmental agency, or court to
which such parties are subject, (c) violate any provision of the Certificate of Incorporation or
bylaws of PC or any Physician Corporation, or (d)(i) conflict with, (ii) result in a breach of,
(iii) constitute a default under, (iv) result in the acceleration of, (v) create in any party the
right to accelerate, terminate, modify, or cancel, or (vi) require any notice under, any agreement,
contract, lease, license, instrument, franchise, permit or other arrangement
to which the PC or Medical Contractor is a party or by which the PC or the Medical Contractor is
bound.
7.1.4 Covenant Regarding Trade Secrets.
That it has required any Physician Corporation to
represent and warrant that the Physician Corporation has entered into a Medical Contractor
Agreement with each of the Physician Contractors and that each of such Medical Contractor
Agreements contains a covenant prohibiting the Physician Contractors unauthorized use or
disclosure of the PCs or Managers trade secrets.
7.1.5 Licensed Medical Contractors.
Each of the Medical Contractors are (or will be prior to
providing any services hereunder or under the Professional Services Agreement) duly licensed, as
applicable, within their respective professions in the State of California and hold (or will hold
prior to providing any services hereunder or under the Professional Services Agreement) all
necessary licenses and rights to enable the PC to perform its obligations hereunder. The PC has
all permits, license, orders and approvals of all federal, state and local government or regulatory
bodies required of it to carry out its obligations hereunder. To the best of its knowledge, the PC
is in compliance with all applicable laws and regulations.
7.1.6 Insurance
. The PC has (or will have prior to the commencement of the Medical Services) all
the professional liability insurance described in
Section 8.2
(collectively, the
"
Policies
). Schedule 7.1.6 sets forth a true and correct list of all Policies (including binders,
declaration pages and endorsements) that the PC has or will have prior to the commencement of the
Medical Services. The PC shall deliver true and complete copies of all Policies to the Manager
prior to the commencement of the Medical Services.
7.2 Representations and Warranties of the Manager
The Manager hereby makes the following representations and warranties to the PC:
28
7.2.1 Organization.
The Manager is a corporation duly organized, validly existing and in
good standing under the laws of the State of Delaware, is duly qualified as a foreign corporation
in the State of California and has full power and authority to own or lease its property and to
carry on its business as now being conducted.
7.2.2 No Violation.
To the best of its knowledge, neither the execution and delivery of this Agreement, nor the
consummation of the transactions contemplated hereby, nor the performance of the Managers
obligations hereunder, will (a) violate any constitution, law, statute, regulation or rule, (b)
violate any injunction, judgment, order, decree, ruling, charge or other restriction of any
government, governmental agency, or court to which the Manager is subject, (c) violate any
provision of the Certificate of Formation or Operating Agreement of the Manager, or (d)(i) conflict
with, (ii) result in a breach of, (iii) constitute a default under, (iv) result in the acceleration
of, (v) create in any party the right to accelerate, terminate, modify, or cancel, or (vi) require
any notice under, any agreement, contract, lease, license, instrument, franchise, permit or other
arrangement to which the Manager is a party or by which the Manager is bound. The Manager has all
permits, licenses, orders and approvals of all federal, state and local government or regulatory
bodies required of it to carry out its obligations hereunder. To the best of its knowledge the
Manager is in compliance with all applicable laws and regulations.
7.2.3 Trade Name.
The Manager is duly authorized to license the Trade Name to PC and, to the
knowledge of the Manager, neither the Trade Name nor the license granted to the PC, infringe upon
the intellectual property rights of any third party.
ARTICLE 8.
INSURANCE
8.1 Insurance Obligations of the Manager
During the Term, the Manager will provide and maintain comprehensive general liability and
property insurance covering the Premises with such limits and coverages as may reasonably be
determined to be appropriate by the Manager. The Manager shall use reasonable commercial efforts
to have the PC named as an additional insured on its comprehensive general liability and property
insurance policies. Certificates of insurance evidencing such policies shall be presented to the
PC within thirty (30) days after the execution of this Agreement
8.2 Insurance Obligations of the PC
The PC shall obtain or require any Physician Corporation and each of its Physician Contractors
to obtain continuing liability insurance coverage under either a tail policy, prior acts policy
or other policy covering malpractice actions asserted against the PC for a period of not less than
two (2) years from the termination of such Physician Contractors relationship with the PC, in the
minimum amounts of $1,000,000
29
per incident, $3,000,000 in the aggregate, upon the termination of
such Physician Contractors relationship with the PC for any reason.
8.3 Notices from Insurance Companies
Each of the parities shall arrange for its insurance carriers to agree to provide the other
Party with written notice, at least ten (10) days in advance of the effective date, of any
reduction, amendment, cancellation or termination of any insurance required to be carried by such
Party under this Agreement.
ARTICLE 9.
TERM AND TERMINATION
9.1 Initial and Renewal Term
This Agreement shall commence on the Effective Date and shall continue until terminated as
provided in
Section 9.2
(the
Term
).
9.2 Termination
The Agreement shall terminate upon the occurrence of any of the following events:
9.2.1 Without Cause.
After the first year of the Term, at any time upon thirty (30) days
written notice by Manager to PC;
9.2.2 With Cause.
Upon ten (10) days written notice by either Party to the other:
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(a)
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in the event that the other Party shall admit in writing its inability to
generally pay its debts when due, apply for or consent to the appointment of a
receiver, trustee or liquidator of all or substantially all of its assets, file a
petition in bankruptcy or make an assignment for the benefit of creditors, or upon
other action taken or suffered by such Party, voluntarily or involuntarily, under any
federal or state law for the benefit or creditors, except for the filing of a petition
in involuntary bankruptcy against such Party which is dismissed within sixty (60) days
thereafter; or
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(b)
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in the event of a breach by the other Party of any of the material terms or
conditions of this Agreement, which is not remedied within thirty (30) days prior
notice to such Party, if capable of being remedied or, if capable of being remedied but
not within such period, such remedy has not been commenced in good faith within such
period; or
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(c)
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in the event of a breach by the other Party of any material representation or
warranty contained in this Agreement; or
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(d)
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as provided in
Section 12.2.2
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9.2.3 Disciplinary Actions.
By the Manager at any time, upon ten (10) days prior notice to
the PC, if (a) the PC or any Physician Contractor is convicted of or disciplined for violating any
federal, state or local law, rule or regulation applicable to the PC or such Medical Contractor; or
(b) the PC or any Medical Contractor is otherwise disciplined by any licensing or regulatory
authority, the result of any of which events described in clause (a) or (b) does or reasonably
would be expected to materially adversely affect the PC.
9.3 Effect of Termination
Upon termination of this Agreement, neither Party shall have any further obligations hereunder
except for obligations accruing prior to the date of termination of this Agreement. Without
limiting the foregoing, the PC and the Manager specifically acknowledge and agree that the Manager
shall continue to bill and collect and receive on the PCs behalf, in accordance with
Section
3.7
, all charges and cash collections for accounts receivable with respect to all items and
services provided by or through the PC or the Medical Contractors prior to the time of termination,
it being understood that such cash collections will be applied in accordance with
Section
3.7
, and will represent, in part, the Managers compensation for Management Services already
rendered. The PC shall pay the Manager fair market value for any services provided by the Manager
pursuant to this
Section 9.3
after termination of this Agreement.
Upon the expiration or termination of this Agreement, the PC shall promptly relinquish to the
Manager all files, data or materials in its possession that are Confidential Information (as
defined in
Section 10
), except that the PC may keep a copy of patient records to the extent
permitted by and in compliance with applicable law.
ARTICLE 10.
CONFIDENTIAL AND PROPRIETARY INFORMATION
10.1 Confidential Information
In the operation and development of the Managers business, the Manager generates technology,
other intellectual property, information and data, which is and will be proprietary and
confidential (the
Confidential Information
), the disclosure of which would be extremely
detrimental to its business and of assistance to its competitors. The Confidential Information
includes, but is not limited to:
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(i)
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Statistical, financial, cost and accounting data;
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(ii)
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Data, plans and projections regarding the location, development and expansion
of existing and proposed facilities;
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(iii)
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The Licensed Technology and any other technology, software and other
intellectual property;
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(iv)
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Administrative, accounting, operations and policy and procedure manuals;
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(v)
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Market surveys, studies and analyses;
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(vi)
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Personnel and other the Manager business records;
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(vii)
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Information concerning legislative, administrative, regulatory and zoning
requirements, bodies and officials;
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(viii)
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Private or secret processes, methods and ideas;
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(ix)
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Training methods;
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(x)
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Information concerning the identities, locations and qualifications of
professionals and other persons presently, or prospectively to be, employed by the
Manager; and
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(xi)
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Information concerning the identities, locations, prices, costs, and other
terms of dealings with referral and reimbursement sources, suppliers, providers and
supplier and provider organizations and entities.
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10.2 Confidentiality and Non-Disclosure
Due to the highly competitive nature of the health care industry and the business of the
Manager, unauthorized use or disclosure of any of the Confidential Information would be extremely
damaging to the Manager. The PC shall not (i) use any Confidential Information except as necessary
to deliver the Medical Services in the Premises in accordance with this Agreement; or (ii) copy or
divulge to any third party any Confidential Information without the prior written consent of the
Manager. The obligations set forth in this
Section 10.2
restraining use and disclosure of
Confidential Information shall survive the expiration or termination of this Agreement for any
reason. Confidential Information shall not include protected health information as defined under
HIPAA (
PHI
), but shall include (i) any de-identified information or database created using PHI,
(ii) the underlying formats and designs of any reports or other materials containing all or any
part of the PHI, and (iii) other information or materials created, derived, developed, improved, or
otherwise obtained by or on behalf of a Party directly or indirectly using the PHI. Any
unauthorized use of Confidential Information or disclosure to the extent, but only to the extent,
required by Law to be made as the result of legal process or proceedings is not a violation of this
Section 10
.
10.3 Patient Medical Records; HIPAA Compliance
The PC agrees that it shall, and in the Professional Services Agreements shall require the
Physician Corporation and the Medical Contractors to, comply at all times
with all federal, state and local statutes, regulations and rules relating to the use,
disclosure and confidentiality of patient medical information, including, without limitation, the
privacy, security or transactions and code sets regulations (
HIPAA Regulations
) promulgated
pursuant to the Health Insurance Portability and Accountability Act of 1996 (
HIPAA
). The Parties
acknowledge and agree that data or other information disclosed to or obtained by Manager in
performance of its obligations
32
under this Agreement may be protected health information (
PHI
) as defined in HIPAA
or the HIPAA regulations, and agree to comply with the terms and conditions of the Business
Associate and Data Use Agreement attached at
Exhibit D
.
ARTICLE 11.
INDEMNIFICATION
Each Party shall indemnify and hold harmless the other Party, its directors, officers,
employees and agents from and against any and all liabilities, losses, damages, claims, causes of
action, judgments, liens and expenses (including reasonable attorneys fees and court costs),
whether or not covered by insurance (collectively
Claims
), resulting from or related to (a) the
acts or omissions of such Party, or such Partys officers, directors, employees, agents or
subcontractors in connection with the performance of this Agreement, or (b) the breach by such
Party of any provision of this Agreement.
PC shall indemnify and hold harmless Manager, its directors, officers, employees and agents
from and against any and all Claims resulting from or related to any claims made by a third party
alleging malpractice by the PC or any of the Medical Contractors with respect to the provision of
the Medical Services.
The Parties indemnification obligations set forth in this
Section 11.1
shall survive
the expiration or termination of this Agreement for any reason.
ARTICLE 12.
MISCELLANEOUS
For a period of six (6) years after Management Services are furnished under this Agreement,
the PC shall make available to the Secretary of the U.S. Department of Health and Human Services
(the
Secretary
), the U.S. Comptroller General (the
Comptroller General
) and their
representatives, this Agreement and all books, documents and records necessary to certify the
nature and extent of the costs of those Management Services and will provide such documentation as
they may reasonably
require pursuant to Section 1861(v)1(l) of the U.S. Social Security Act (42 U.S.C. §
1395(x)(v)(1)(l)) as amended and regulations thereunder or any successor provisions. If the PC
carries out any of the duties of this Agreement through a subcontract worth Ten Thousand Dollars
($10,000) or more over a twelve-month period with a related organization, the subcontract will also
contain a clause to permit access by the Secretary, Comptroller General and their representatives
to the related organization books and records pursuant to such statute.
33
12.2.1 Amendment.
No amendment of this Agreement shall be effective unless set forth in writing and
signed by the PC and the Manager.
12.2.2 Contract Modification for Prospective Legal Event.
If both Parties to this Agreement
determine that any state or federal laws or regulations, now existing or enacted or promulgated
after the date of execution of this Agreement are interpreted by judicial decision, a regulatory
agency, or legal counsel in such a manner as to indicate that this Agreement or any provision
hereof may be in violation of such laws or regulations, then the Parties shall immediately enter
into good faith negotiations regarding a new service arrangement or basis for compensation for the
Management Services furnished pursuant to this Agreement that complies with the changed conditions
and that approximates as closely as possible the economic position of the Parties prior to the
change. If a court of competent jurisdiction compels or requires a Party hereto to refrain from
performing its duties and obligations hereunder, or a Partys performance hereunder shall be
directly violative of a court order directed at such Party, then, to the extent necessary to comply
with such court order, this Agreement shall be deemed suspended. In no event shall such suspension
be construed to relieve either Partys obligation under this
Section 12.2.2
and the Parties
will immediately commence good faith negotiations regarding a new service arrangement or
compensation structure that is in compliance with any such court order, which arrangement or
structure will allocate the economic aspects of the relationship between the Parties in a manner as
nearly as possible to that intended by this Agreement.
The PC may not assign this Agreement without the Managers prior written consent. This
Agreement may be assigned by the Manager to any parent, subsidiary, affiliate or successor entity
without the prior written consent of the PC, with all other assignments requiring the written
consent of the PC, which consent shall not be unreasonably withheld. Except as may be specifically
provided in this Agreement to the contrary, this Agreement shall inure to the benefit of and be
binding upon the Parties and their respective legal representatives, successors and permitted
assigns.
Whenever a reference is made in this Agreement to the PC or the Manager, such reference shall
be deemed to include a reference to the heirs, executors, legal representatives, successors and
permitted assigns of such Party.
12.4
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Rights and Remedies; Injunctive Relief
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Either Party may, at its option, elect to institute and prosecute proceedings in any court of
competent jurisdiction, either in law or equity, to enforce specific performance of any Party to
this Agreement, to enjoin any threatened or actual breach of this Agreement by the other Party as
appropriate and/or to recover any damages resulting from the breach of this Agreement.
34
12.5
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Status as Independent Contractor
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In the performance of this Agreement, the Manager shall at all times be and shall act as an
independent contractor.
Any notice provided for in this Agreement and any other notice, demand or communication
required or permitted to be given under this Agreement or which any Party may wish to send to
another (
Notice
) shall be in writing and shall be served by (i) personal delivery; (ii)
registered or certified U.S. Mail, or by comparable private carrier, First Class, return receipt
requested in a sealed envelope, postage or other charges prepaid; or (iii) telegram, telecopy,
facsimile, telex or other similar form of communication, addressed to the Party for whom the Notice
is intended as follows:
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PC:
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David E. Smith, MD, Medical Group, Inc.
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1315 Lincoln Boulevard
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Santa Monica, CA 90401
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Attn: David E. Smith, MD
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The Manager:
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Hythiam, Inc.
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11150 Santa Monica Blvd.
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Suite 1500
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Los Angeles, CA 90025
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Attn: Chief Operating Officer
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All Notices given pursuant to this
Section 12.6
shall be deemed given and effective
when received if personally delivered or sent by telegram, telecopy, telex or similar form of
communication, or, if mailed, on the date shown on the return receipt, or, if a receipt has not
then been received, five (5) days after mailing, or, if sent by overnight courier, on the date
shown for receipt on the couriers records. Either Party may change to whom or where Notice is to
be given by providing Notice to the other Party of such change at such other Partys last address
provided pursuant to this Agreement.
12.7
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Collateral Agreements
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This Agreement constitutes the final and entire agreement between the Parties respecting the
Management Services of the Manager, and there are no representations, warranties or commitments
concerning those Management Services, except as set forth in this Agreement.
The provisions of
Sections 1.6, 1.7, 1.8, 1.10, 2.4, 3.7, 3.16.12, 3.16.14, 3.16.15,
3.16.17, 3.17.3, 6.7.2, 6.7.3, 8.2, 9.3, 10, 11, 12.1, 12.4 and this 12.8
of this Agreement
shall survive the termination of this Agreement in accordance with their terms.
35
[REMAINDER OF THIS PAGE INTENTIONALLY LEFT BLANK]
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IN WITNESS WHEREOF, the PC and the Manager have caused this Management and Support Services
Agreement to be executed by their duly authorized representatives, as of the day and year first
above written.
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David E. Smith, MD Medical Group, Inc.
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HYTHIAM, INC.
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By:
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By:
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Print Name:
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Print Name:
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Print Title:
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Print Title:
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37
EXHIBIT A
Trademarks
PROMETA
The PROMETA Center
EXHIBIT B
Licensed Technology
1.
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Description of Licensed Technology to be Provided to PC:
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Any and all Manager treatment protocols provided by Manager during the Term to PC for, or
related to, a medically supervised treatment protocol for neurostabilization and detoxification
from alcohol or addictive psycho-stimulants, including but not limited to: Managers PROMETA
treatment Protocol; PROMETA for Addictions; PROMETA for Alcohol; PROMETA for Cocaine; PROMETA
for Crack Cocaine; PROMETA for Methamphetamines; PROMETA for Poly-Drug; PROMETA for Alcohol and
Cocaine; along with all related Intellectual Property, Confidential Information, Services and other
materials and information provided by Manager to PC, including without limitation all Licensee
Modifications.
2.
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Authorized Purposes for Use of Licensed Technology:
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For provision of substance abuse and/or addiction treatment related to alcohol and/or
psycho-stimulants in accordance with the terms of this Agreement.
3.
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Authorization to be Provided by Manager:
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Manager will designate each individual authorized to use the Licensed Technology upon the
execution by qualified individuals of confidentiality and proprietary information agreements with
Manager (each an
Authorized User
). Notwithstanding the foregoing, execution by Authorized Users
of confidentiality agreements with Manager shall not eliminate or limit in any way PCs obligations
as set forth in this Agreement with respect to disclosure and use to and by PC and each Medical
Contractor of the Licensed Technology. The list of Authorized Users is set forth on
Schedule
B
, as amended from time to time. Unless a shorter period is specified in writing by Manager,
during the Term each Authorized User must undergo reauthorization at least every twenty-four (24)
months (
Authorized Period
) after notification thereof by Manager to PC. Any Medical Contractors
who are not reauthorized within the specified time frame must immediately cease any and all use of
the Licensed Technology at the end of the Authorized Period. Notwithstanding the foregoing, all
Medical Contractors must immediately cease any and all use of the Licensed Technology upon
termination of this Agreement for any reason. Designation of an individual by Manager as an
Authorized User is in no way an evaluation or certification by Manager of that individuals ability
or fitness to deliver patient care services, but instead is only a mechanism for protection of
Managers Intellectual Property and other rights in and to the Licensed Technology.
4.
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Terms for Provision by PC of PC Data to Manager:
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PC will provide Manager access to its files and records to the extent reasonably necessary for
Manager to access and make use of the Subject Data, including but not limited to seeking all
necessary patient authorizations and consents for Manager to be able to collect from Aftercare
providers, and to authorize Aftercare providers to disclose to Manager, patient data with respect
to PC patients treated using the Licensed Technology for a period of up to two years following that
PC treatment, all in compliance with all applicable Laws and this Agreement. In addition, at
Managers request and expense, PC shall cooperate with Manager in enabling the interface of the PC
information system with Managers information system to the extent reasonably necessary to
facilitate Managers access to the Subject Data, subject to compliance of the interface with
applicable Laws.
5.
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Terms for Provision by Manager of Data Collection and Reporting to PC:
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Any data collection and reporting services or data aggregation services provided to PC will be
provided in accordance with the HIPAA Privacy Rule. Managers data collection services may include
interviews with patients and administration of certain questionnaires. Manager will provide any of
the data collection services that involve direct patient contact only in strict accordance with
protocols, procedures and questionnaires provided by or approved by PC in writing and in advance.
Manager shall not provide under any circumstances any medical advice, diagnosis or treatment
services to patients. Nothing in this paragraph 5 or elsewhere in this Agreement shall limit in
any way PCs obligations under
Section 6.6
to seek all patient consents or authorizations
required for Manager to collect Subject Data, including from Aftercare (as defined in paragraph 6
of this
Exhibit B
) providers.
6.
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Terms for Administration by Manager of Aftercare Services to PC:
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The term
Aftercare
, as used in this
Exhibit B
and otherwise in the Agreement, refers
to a program of follow-up care provided to a patient treated using the Licensed Technology where
services are provided by a certified or licensed health care provider (which may be PC). All on
behalf of PC, and in consideration for PCs payment to Manager (as provided in
Section 5.2
)
of the applicable Aftercare Service Fee (as defined in paragraph 7 of this
Exhibit B
),
Manager shall arrange and pay up to an amount equal to the Aftercare Service Fee for Aftercare for
each patient treated using the Licensed Technology, provided that within thirty (30) days after
receiving that treatment, the patient enrolls in an appropriate Aftercare program. Manager shall
provide PC and treating Medical Contractors with options for Aftercare providers for their patients
from a list maintained by Manager. Notwithstanding the foregoing, Manager does not and shall not
endorse or recommend any specific provider and is not and shall not be responsible or accountable
in any way for the care provided by any Aftercare provider. Manager, at its discretion and for its
own behalf, with appropriate patient authorization, may collect data (for a period of up to two
years following treatment) concerning the recovery follow-up treatment for PC patients provided
treatment using the Licensed Technology. Nothing in this Agreement shall limit a
2
patients
ability to choose a provider other than PC for Aftercare, nor shall this Agreement require any
Party to refer patients or otherwise generate business for the other Party.
7.
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License Fees; Aftercare Service Fees:
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License Fees
: PC shall pay Manager the following License Fees for any patient who is
not covered by, eligible for coverage by, or reimbursed by, on a primary or secondary basis,
Medicare, Medicaid, or any other federal healthcare payer or funding
source (
Private Pay
Patient
):
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Private Pay Patients
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Treated Using Licensed Technology
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Manager
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Fee
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Each episode of treatment for alcohol dependency
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$
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4,500
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Each episode of treatment for psycho-stimulant dependency
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$
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6,000
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The License Fees set forth in this paragraph 7 are for treatment of private pay patients only
and
not
for treatment of commercially insured patients or patients reimbursed, on a primary or
secondary basis, by Medicare or Medicaid or any other governmental payer or funding source. Before
treating any such excluded patient, PC will advise Manager of its desire so to do, whereupon the
Parties will meet and attempt in good faith to negotiate appropriate fees for such treatments, and
will advise the patient in advance of the non-covered status of the treatment and obtain an
appropriate waiver therefrom.
Aftercare Service Fees
: PC shall pay Manager an Aftercare Service Fee (
Aftercare
Service Fee
) of $1,500 for each patient treated at or by PC using the Licensed Technology,
provided such patient timely initiates a qualifying Aftercare program (
see
paragraph 6 of this
Exhibit B
).
For purposes of this paragraph 7, except as set forth in paragraph 8 of this
Exhibit
B
, any treatment provided to any patient by, at or on behalf of the PC using all or any part of
the Licensed Technology shall be included in the calculation of the License Fees with respect to
such patient.
For purposes of this Agreement, an Episode of Treatment shall include:
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Alcohol dependency- two administrations of the PROMETA for alcohol protocol
provided during a consecutive two-day treatment period.
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Psycho-stimulant dependency or poly-addictions Five administrations of the
PROMETA for cocaine, crack cocaine or methamphetamines protocol provided during a
consecutive three-day initial treatment period plus a follow-up treatment three
weeks later for two consecutive days.
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3
EXHIBIT C
Professional Services Agreement
EXHIBIT D
BUSINESS ASSOCIATE AND DATA USE AGREEMENT
PC
AND
HYTHIAM, INC.
This Business Associate Agreement (
B.A. Agreement
), effective as of November 15, 2005
(
Effective Date
), is entered into by and between David E. Smith, MD Medical Group, Inc. (
Covered
Entity
) and Hythiam, Inc. (
Hythiam
) (each a
Party
and collectively the
Parties
)
.
1.
BACKGROUND AND PURPOSE
.
The Parties have entered or are entering into an agreement for
the provision by Hythiam of technology and services to Covered Entity (
Agreement
). Performance
of the Agreement may involve Protected Health Information (as defined in 45 C.F.R. §160.103)
(
PHI
) subject to the federal privacy and security regulations issued pursuant to the Health
Insurance Portability and Accountability Act (
HIPAA
) and codified at 45 C.F.R. parts 160 and 164
(
Privacy and Security Rule
). The purpose of this B.A. Agreement is to amend the Agreement to the
extent and only to the extent necessary to allow for Covered Entitys compliance with the Privacy
and Security Rule.
2.
DEFINITIONS
. Unless otherwise defined in this B.A. Agreement, all capitalized terms
used in this B.A. Agreement have the meanings ascribed in HIPAA and/or the Privacy and Security
Rule.
3.
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OBLIGATIONS OF THE PARTIES WITH RESPECT TO PHI.
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3.1
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Uses and Disclosures of PHI by Hythiam
. Except as otherwise specified in this B.A.
Agreement, Hythiam may make any and all uses and disclosures of PHI necessary to perform its
obligations under the Agreement. In addition, unless otherwise limited in this B.A.
Agreement, Hythiam may (a) use the PHI in its possession for its proper management and
administration and to carry out the legal responsibilities of Hythiam; (b) disclose the
Minimum Necessary information in its possession to a third party for the purpose of Hythiams
proper management and administration or to carry out the legal responsibilities of Hythiam,
provided, that such disclosure is required by law or Hythiam obtains reasonable assurances in
writing from the third party regarding the confidential handling of such PHI as required under
the Privacy and Security Rule; (c)
provide Data Aggregation services relating to the health care operations of the
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Covered
Entity; (d) use the PHI to create a Limited Data Set (LDS), the use and disclosure of
which shall be governed by the Data Use Agreement set forth in 5 of this B.A. Agreement and
by the Privacy and Security Rule; and (e) de-identify any and all PHI obtained by Hythiam
under this B.A. Agreement, and use such de-identified data, all in accordance with the
de-identification requirements of the Privacy and Security Rule.
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3.2
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Obligations of Hythiam
. With regard to its use and/or disclosure of PHI that is not
in an LDS, Hythiam agrees to:
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a.
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not use or further disclose the PHI other than as permitted or required by this
B.A. Agreement or as Required By Law;
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b.
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use appropriate safeguards to prevent use or disclosure of PHI other than as
permitted in
Section 3.2(a)
;
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c.
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report to Covered Entity in writing any use or disclosure of PHI not permitted
in
Section 3.2(a
) and any Security Incident involving electronic PHI of which
Hythiam becomes aware and, to the extent practicable, minimize harmful effects of that
use or disclosure or Security Incident;
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d.
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ensure that any agents and subcontractors to which Hythiam provides PHI agree
in writing to the same restrictions and conditions that apply to Hythiam with respect
to such PHI;
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e.
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make available within fifteen (15) days after request by the Covered Entity PHI
necessary for Covered Entity to respond to an Individuals request for access to PHI
about them in the event that the PHI in Hythiams possession constitutes a Designated
Record Set;
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f.
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make available PHI for amendment and incorporate within ten (10) days after
request by Covered Entity any amendments to the PHI in accordance with the Privacy Rule
in the event that the PHI in Hythiams possession constitutes a Designated Record Set;
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g.
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document such disclosures of PHI as would be required for Covered Entity to
respond to a request by an Individual for an accounting of disclosures in accordance
with 45 CFR § 164.528 and provide, within 20 days after Covered Entity requests the
information in writing, an accounting of any disclosures of PHI for up to the six-year
period preceding the date of the request for an accounting that includes the date of
the disclosure, the name and address of the person or entity to whom the PHI was
disclosed, a brief description of the PHI disclosed and a brief statement of the
purpose of the disclosure and an explanation of the basis for the disclosure;
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h.
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make its internal practices, books and records relating to the use and
disclosure of PHI available to the Secretary of HHS within a reasonable timeframe as
required by the Secretary for purposes Section of determining Covered Entitys
compliance with the Privacy Rule; and
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i.
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return to Covered Entity or destroy, within ninety (90) days of the termination
of this B.A. Agreement, the PHI in its possession as a result of the Agreement and
retain no copies, if it is feasible to do so. If Hythiam in its reasonable discretion
determines that return or destruction is infeasible, Hythiam agrees to extend all
protections contained in this B.A. Agreement to Hythiams use and/or disclosure of any
retained PHI, and to limit any further uses and/or disclosures to the purposes that
make the return or destruction of the PHI infeasible. Notwithstanding the foregoing,
this 3.2(i) shall not apply to any PHI in an LDS, the use and disclosure of which shall
be governed by
Section 5
of this B.A. Agreement.
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j.
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Hythiam agrees to implement administrative, physical and technical safeguards
that reasonably and appropriately protect the confidentiality, integrity and
availability of any electronic PHI that it creates, receives, maintains or transmits to
or on behalf of Covered Entity, as required by the Security Regulations as set forth at
45 C.F.R. Parts 160 and 164. Hythiam further agrees to ensure that any agent,
including a subcontractor to whom it provides such information, will implement
reasonable and appropriate safeguards to protect it.
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3.3
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Obligations of Covered Entity
. Covered Entity agrees to timely notify Hythiam in
writing of any arrangements between Covered Entity and the individual that is the subject of
PHI that may impact in any manner the use and/or disclosure of that PHI by Hythiam under this
B.A. Agreement.
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3.4
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Effect of Changes to the Privacy and Security Rule
. To the extent that any relevant
provision of the Privacy and Security Rule is materially amended in a manner that changes the
obligations of Business Associates or Covered Entities that are embodied in the terms of this
B.A. Agreement, the Parties agree to negotiate in good faith appropriate amendment(s) to this
B.A. Agreement to give effect to these revised obligations. If the Parties in good faith are
unable to agree to appropriate amendment(s) satisfactory to both Parties by the required
compliance date, either Party may terminate this B.A. Agreement and the Agreement upon fifteen
(15) days prior written notice to the other Party.
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4.
TERMINATION BY COVERED ENTITY
.
With respect to the Agreement, upon Covered Entitys
knowledge of a material breach of the terms of this B.A. Agreement by Hythiam, Covered Entity shall
provide Hythiam written notice of that breach in sufficient detail to enable Hythiam to understand
the specific nature of that breach and afford Hythiam an opportunity to cure the breach to the
extent cure is possible in Covered Entitys reasonable discretion. If Hythiam fails to cure the
breach within a reasonable
time specified by Covered Entity (in any event not less than ten (10) days and if
3
Hythiam is making
reasonable efforts to cure, Covered Entity may extend the cure period to allow for that cure), or
if cure is not possible, Covered Entity may terminate this B.A. Agreement as well as terminate
those portions, but only those portions, of the Agreement that, by their express terms or in
practice, require or permit Hythiam access to PHI and only to the extent of that requirement or
permission. In such instance, the remaining provisions of the Agreement that do not, by their
express terms or in practice, require or permit Hythiam access to PHI shall remain in full force
and effect, including any and all of Covered Entitys payment and performance obligations (to the
extent any such performance obligations do not require Hythiam access to PHI); provided that,
notwithstanding the foregoing, Covered Entity shall be entitled to terminate the Agreement in its
entirety if and to the extent that the overall intent and purpose of the Agreement (i) is directly
and materially related to and dependent upon Hythiam access to PHI, and (ii) would be frustrated if
Covered Entity were not permitted to terminate the Agreement. In addition, if Covered Entity, in
its sole discretion, determines that Hythiam can perform the Agreement with information that has
been de-identified under the Privacy Rule or with an LDS, the Agreement will remain in full force
and effect, except with respect to, and only with respect to, those provisions that require or
permit Hythiam access to PHI that is not in an LDS, which provisions shall be deemed modified to
provide Hythiam access to PHI that has been de-identified under the Privacy and Security Rule and
access to PHI in an LDS.
5.
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DATA USE AGREEMENT
.
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5.1
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Preparation of the LDS
. Hythiam may prepare an LDS in accordance with the Privacy
and Security Rule and specifically the standards set forth at 45 C.F.R § 164.513(e)(2)
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5.2
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Minimum Necessary Data
. In preparing the LDS, Hythiam will include only those data
fields which are the minimum necessary to accomplish the purposes set forth in
Section
5.3
of this B.A. Agreement.
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5.3
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Permitted Uses and Disclosures of the LDS
. Hythiam may only use the LDS for its
Research and Public Health activities, for the Health Care Operations of Covered Entity, and
as Required By Law. Hythiam may only disclose the LDS for the same purposes in accordance
with the Privacy and Security Rule.
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5.4
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Responsibilities of Hythiam
. With regard to its use and/or disclosure of the LDS,
Hythiam agrees to:
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a.
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not use or further disclose the LDS other than as permitted by
Section
5.3
of this B.A. Agreement;
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b.
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use appropriate safeguards to prevent use or disclosure of the LDS other than
as permitted by
Section 5.3
of this B.A. Agreement;
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c.
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report to Covered Entity in writing any use or disclosure of the LDS that is
not permitted by
Section 5.3
of this B.A. Agreement of which Hythiams
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management becomes aware and, to the extent practicable, minimize harmful effects of
that use or disclosure;
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d.
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ensure that any agents, subcontractors, or other third parties to which Hythiam
provides the LDS agree in writing to the same restrictions and conditions that apply to
Hythiam with respect to such LDS; and
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e.
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not use the information in the LDS to identify or contact individuals who are
the data subjects.
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6.
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MISCELLANEOUS
.
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6.1
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Agreement
. The Agreement is hereby amended to incorporate the terms of this B.A.
Agreement. The terms of this B.A. Agreement shall prevail in the case of any conflict with
the terms of the Agreement to the extent and only to the extent necessary to allow Covered
Entity to comply with the Privacy and Security Rule.
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6.2
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Survival
. With respect to the Agreement,
Sections 1, 2, 3.2, 3.3, 3.4, 4
. and
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of this B.A. Agreement shall survive termination of this B.A. Agreement and continue
indefinitely solely with respect to PHI Hythiam retains in accordance with
Section
3.2.i
. With respect to the Agreement,
Section 5
of this B.A. Agreement shall
survive termination of this B.A. Agreement and continue indefinitely solely with respect to
any LDS that Hythiam possesses.
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6.3
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No Third Party Beneficiaries
. Nothing in this B.A. Agreement shall confer upon any
person other than the Parties and their respective successors or assigns, any rights,
remedies, obligations, or liabilities whatsoever.
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IN WITNESS WHEREOF, each of the undersigned has caused this B.A. Agreement to be duly executed in
its name and on its behalf.
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David E. Smith, MD Medical Group, Inc.
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HYTHIAM, INC.
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By:
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By:
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Print Name:
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Print Name:
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Print Title:
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Print Title:
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5
Schedule 7.1.6
Insurance Policies