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NOTE 1 - NATURE OF BUSINESS AND BASIS OF PRESENTATION

9 Months Ended

Sep. 30, 2012

Notes to Financial Statements

Business Description and Basis of Presentation [Text Block]

At September 30, 2012, we operated a group of regional networks comprised of 236 centers, which we operate directly or indirectly through joint ventures located in seven states with operations in California, Maryland, Florida, Delaware, New Jersey, Rhode Island and New York. We provide diagnostic imaging services including magnetic resonance imaging (MRI), computed tomography (CT), positron emission tomography (PET), nuclear medicine, mammography, ultrasound, diagnostic radiology, or X-ray, fluoroscopy and other related procedures. Our operations comprise a single segment for financial reporting purposes.

The consolidated financial statements include the accounts of Radnet Management, Inc. (or “Radnet Management”) and Beverly Radiology Medical Group III, a professional partnership (“BRMG”). The consolidated financial statements also include Radnet Management I, Inc., Radnet Management II, Inc., Radiologix, Inc., Radnet Managed Imaging Services, Inc., Delaware Imaging Partners, Inc., New Jersey Imaging Partners, Inc. and Diagnostic Imaging Services, Inc. (“DIS”), all wholly owned subsidiaries of Radnet Management. All of these affiliated entities are referred to collectively as “RadNet”, “we”, “us”, “our” or the “Company” in this report.

Accounting Standards Codification (“ASC”) Section 810-10-15-14 stipulates that generally any entity with a) insufficient equity to finance its activities without additional subordinated financial support provided by other parties, or b) equity holders that, as a group, lack the characteristics specified in the ASC which evidence a controlling financial interest, is considered a Variable Interest Entity (“VIE”). We consolidate all VIE’s in which we own a majority voting interest and all VIE’s for which we are the primary beneficiary. We determine whether we are the primary beneficiary of a VIE through a qualitative analysis that identifies which variable interest holder has the controlling financial interest in the VIE. The variable interest holder who has both of the following has the controlling financial interest and is the primary beneficiary: (1) the power to direct the activities of the VIE that most significantly impact the VIE’s economic performance and (2) the obligation to absorb losses of, or the right to receive benefits from, the VIE that could potentially be significant to the VIE. In performing our analysis, we consider all relevant facts and circumstances, including: the design and activities of the VIE, the terms of the contracts the VIE has entered into, the nature of the VIE’s variable interests issued and how they were negotiated with or marketed to potential investors, and which parties participated significantly in the design or redesign of the entity.

Howard G. Berger, M.D. is our President and Chief Executive Officer, a member of our Board of Directors and is deemed to be the beneficial owner, directly and indirectly, of approximately 14.1% of our outstanding common stock as of September 30, 2012. Dr. Berger also owns, indirectly, 99% of the equity interests in BRMG. BRMG provides all of the professional medical services at the majority of our facilities located in California under a management agreement with us, and employs physicians or contracts with various other independent physicians and physician groups to provide the professional medical services at most of our other California facilities. We generally obtain professional medical services from BRMG in California, rather than provide such services directly or through subsidiaries, in order to comply with California’s prohibition against the corporate practice of medicine. However, as a result of our close relationship with Dr. Berger and BRMG, we believe that we are able to better ensure that medical service is provided at our California facilities in a manner consistent with our needs and expectations and those of our referring physicians, patients and payers than if we obtained these services from unaffiliated physician groups. BRMG is a partnership of ProNet Imaging Medical Group, Inc., Breastlink Medical Group, Inc. and Beverly Radiology Medical Group, Inc., each of which are 99% or 100% owned by Dr. Berger. RadNet provides non-medical, technical and administrative services to BRMG for which it receives a management fee, pursuant to the terms of the management agreement. Through the management agreement and our relationship with Dr. Berger, we have exclusive authority over all non-medical decision making related to the ongoing business operations of BRMG. Through our management agreement with BRMG we determine the annual budget of BRMG and make all physician employment decisions. BRMG has insignificant operating assets and liabilities, and de minimis equity. Through the management agreement with us, all of BRMG’s cash flows are transferred to us. We have determined that BRMG is a VIE, and that we are the primary beneficiary, and consequently, we consolidate the revenue and expenses of BRMG. BRMG recognized $15.0 million and $13.0 million, and $41.4 million and $40.6 million of net revenues for the three and nine months ended September 30, 2012 and 2011, respectively, and $15.0 million and $13.0 million, and $41.4 million and $40.6 million of operating expenses for the three and nine months ended September 30, 2012 and 2011, respectively. RadNet recognized $53.0 million and $47.0 million, and $156.6 million and $142.5 million of net revenues for the three and nine months ended September 30, 2012 and 2011, respectively, for management services provided to BRMG relating primarily to the technical portion of total billed revenue. The cash flows of BRMG are included in the accompanying condensed consolidated statements of cash flows. All intercompany balances and transactions have been eliminated in consolidation. The creditors of BRMG do not have recourse to our general credit and there are no other arrangements that could expose us to losses.

However, BRMG is managed to recognize no net income or net loss and, therefore, RadNet may be required to provide financial support to cover any operating expenses in excess of operating revenues.

Aside from centers in California where we contract with BRMG for the provision of professional medical services and consolidate 100% of the patient service revenue, at the remaining centers in California and at all of the centers which are located outside of California, we have entered into long-term contracts with independent radiology groups in the area to provide physician services at those facilities. These third party radiology practices provide professional services, including supervision and interpretation of diagnostic imaging procedures, in our diagnostic imaging centers. The radiology practices maintain full control over the provision of professional services. The contracted radiology practices generally have outstanding physician and practice credentials and reputations; strong competitive market positions; a broad sub-specialty mix of physicians; a history of growth and potential for continued growth. In these facilities we enter into long-term agreements with radiology practice groups (typically 40 years). Under these arrangements, we provide management services and receive a fee which includes 100% of the technical reimbursements associated with imaging procedures for the use of our diagnostic imaging equipment and the provision of technical services. Our service fees also include a portion of the practice group’s professional revenue, including revenue derived outside of our diagnostic imaging centers as well as fees for administrative services. The radiology practice groups retain the professional reimbursements associated with imaging procedures after deducting service fees paid to us. We have no financial interest in the independent (non-BRMG) radiology practices; accordingly, we do not consolidate the financial statements of those practices in our consolidated financial statements and record only our service fee revenue.

The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X and, therefore, do not include all information and footnotes necessary for a fair presentation of financial position, results of operations and cash flows in conformity with U.S. generally accepted accounting principles for complete financial statements; however, in the opinion of our management, all adjustments consisting of normal recurring adjustments necessary for a fair presentation of the financial position, results of operations and cash flows for the interim periods ended September 30, 2012 and 2011 have been made. The results of operations for any interim period are not necessarily indicative of the results for a full year. These interim condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and related notes thereto contained in our annual report on Form 10-K for the year ended December 31, 2011.

Significant accounting policies

For the period covered in this report, there have been no material changes to the significant accounting policies we use, and have explained, in our annual report on Form 10-K for the fiscal year ended December 31, 2011 with the exception of the following:

Revenues

Service fee revenue, net of contractual allowances and discounts, consists of net patient fees received from various payers and patients themselves based mainly upon established contractual billing rates, less allowances for contractual adjustments and discounts. As it relates to BRMG centers, this service fee revenue includes payments for both the professional medical interpretation revenue recognized by BRMG as well as the payment for all other aspects related to our providing the imaging services, for which we earn management fees from BRMG. As it relates to non-BRMG centers, this service fee revenue is earned through providing the use of our diagnostic imaging equipment and the provision of technical services as well as providing administration services such as clerical and administrative personnel, bookkeeping and accounting services, billing and collection, provision of medical and office supplies, secretarial, reception and transcription services, maintenance of medical records, and advertising, marketing and promotional activities.

Service fee revenues are recorded during the period the services are provided based upon the estimated amounts due from the patients and third-party payers. Third-party payers include federal and state agencies (under the Medicare and Medicaid programs), managed care health plans, commercial insurance companies and employers. Estimates of contractual allowances under managed care health plans are based upon the payment terms specified in the related contractual agreements. Contractual payment terms in managed care agreements are generally based upon predetermined rates per discounted fee-for-service rates. We also record a provision for doubtful accounts (based primarily on historical collection experience) related to patients and copayment and deductible amounts for patients who have health care coverage under one of our third-party payers.

Our service fee revenue, net of contractual allowances and discounts less the provision for bad debts for the three and nine months ended September 30, are summarized in the following table (in thousands):

		Three Months Ended								Nine Months Ended
		September 30,								September 30,
		2012				2011				2012				2011
Commercial Insurance/Managed Care Capitation		$	111,963			$	100,795			$	340,750			$	301,618
Medicare			33,492				28,840				103,899				87,539
Medicaid			5,663				4,759				16,250				14,734
Workers Compensation/Personal Injury			7,281				6,201				21,174				19,501
Other			8,629				7,985				25,200				22,640
Service fee revenue, net of contractual allowances and discounts			167,027				148,579	#			507,273				446,032

Provision for bad debts			(6,574	)			(5,558	)			(19,453	)			(16,260	)
Net service fee revenue		$	160,453			$	143,021			$	487,820			$	429,772

The break-out of our service fee revenue, net of contractual allowances and discounts, is calculated based upon global payments received from consolidated imaging centers from dates of service from each respective period illustrated.

Provision for Bad Debts

Although outcomes vary, our policy is to attempt to collect amounts due from patients, including co-payments and deductibles due from patients with insurance, at the time of service. We provide for an allowance against accounts receivable that could become uncollectible by establishing an allowance to reduce the carrying value of such receivables to their estimated net realizable value. We estimate this allowance based on the aging of our accounts receivable by each type of payer over an 18-month look-back period, and other relevant factors. A significant portion of our provision for bad debt relates to co-payments and deductibles owed to us by patients with insurance. There are various factors that can impact collection trends, such as changes in the economy, which in turn have an impact on the increased burden of co-payments and deductibles to be made by patients with insurance. These factors continuously change and can have an impact on collection trends and our estimation process.

Reclassifications

Certain reclassifications have been made to the three and nine months ended September 30, 2011 consolidated financial statements and accompanying notes to conform to the three and nine months ended September 30, 2012 presentation. Additionally, we have adjusted the prior year’s presentation as a result of the adoption of ASU 2011-07, Health Care Entities (Topic 954). In connection with this adjustment, we identified certain mechanical errors in our historical calculation of the provision for bad debts, resulting in the gross up of the provision for bad debts and revenues by $3.0 million and $9.0 million for the three and nine months ended September 30, 2011, respectively. The error has been corrected in these financial statements and upon adoption of the new guidance, resulted in no impact to net service fee revenue.

Liquidity and Capital Resources

We had a working capital balance of $31.3 million and $30.0 million at September 30, 2012 and December 31, 2011, respectively. We had net income attributable to RadNet, Inc.’s common stockholders of $7.9 million and $2.7 million for the nine months ended September 30, 2012 and 2011, respectively. We also had an equity deficit of $59.2 million and $69.8 million at September 30, 2012 and December 31, 2011, respectively.

We operate in a capital intensive, high fixed-cost industry that requires significant amounts of capital to fund operations. In addition to operations, we require a significant amount of capital for the initial start-up and development expense of new diagnostic imaging facilities, the acquisition of additional facilities and new diagnostic imaging equipment. Because our cash flows from operations have been insufficient to fund all of these capital requirements, we have depended on the availability of financing under credit arrangements with third parties.

Our business strategy with regard to operations focuses on the following:

		maximizing performance at our existing facilities;

		focusing on profitable contracting;

		expanding MRI, CT and PET applications;

		optimizing operating efficiencies; and

		expanding our networks.

At September 30, 2012, our outstanding indebtedness included our senior notes of $200.0 million aggregate principal outstanding as well as our senior secured credit facilities consisting of $277.9 million of senior secured term loan debt outstanding and $59.8 million outstanding under our revolving credit facility. We had $61.45 million of available credit under our revolving credit facility, subject to borrowing conditions under that facility as further described in our annual report on Form 10-K for the fiscal year ended December 31, 2011. As of September 30, 2012, we were in compliance with all covenants under our senior secured credit facilities and the senior notes.

On October 10, 2012 we completed the refinancing of our senior secured credit facilities in the aggregate amount of $451.25 million. The refinancing includes a new credit agreement providing for a $350 million senior secured term loan and a $101.25 million senior secured revolving credit facility.

The termination date for the $350 million term loan shall be on the earliest to occur of (i) the sixth anniversary of the closing date, (ii) the date on which all of the term loans shall become due and payable in full under the new credit agreement whether by acceleration or otherwise and (iii) October 1, 2017 if our senior notes due 2018 have not been refinanced by such date. The termination date for the $101.25 million revolving credit facility shall be on the earliest to occur of (i) the fifth anniversary of the closing date, (ii) the date the revolving credit facility is permanently reduced to zero pursuant to section 2.13(b) of the new credit agreement, (iii) the date of the termination of the revolving credit facility pursuant to section 8.01 of the new credit agreement and (iv) October 1, 2017 if our senior notes due 2018 have not been refinanced by such date.

The $350 million term loan and the $101.25 million revolving credit facility are floating rate facilities, and we may request the interest rate be based upon LIBOR (subject to a 1.25% LIBOR floor for the term loan) plus an applicable margin of 4.25%.

The proceeds from the new credit facilities were used to repay our existing senior secured term loan and revolving credit facility in full and certain other indebtedness, to pay fees and expenses related to the transaction.

The obligations of Radnet Management, Inc. under the new credit facilities are guaranteed by RadNet, Inc. and all of our current and future wholly-owned domestic subsidiaries and certain of our affiliates. The obligations under the new credit facilities and the guarantees are secured by a first priority security interest in substantially all of our assets as well as the assets of our wholly-owned subsidiaries and affiliates.

For more information on our refinancing, see our current report on Form 8-K filed with the SEC on October 10, 2012.