1
                    U. S. SECURITIES AND EXCHANGE COMMISSION
                             WASHINGTON, D.C. 20549
                             ______________________
                                   FORM 10-QSB
     (Mark One)

            QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
     [ X ]  SECURITIES EXCHANGE ACT OF 1934

     For the quarterly period ended December 31, 1995
                                    _________________
                                       OR

            TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
     [   ]  SECURITIES EXCHANGE ACT OF 1934

     For the transition period from  ______________ to  ___________________

                         Commission file number 0-13801
                                                _______

                             QUALITY SYSTEMS, INC.
       _________________________________________________________________
       (Exact name of small business issuer as specified in its charter)

           California                                      95-2888568
     _______________________________                 ___________________
     (State or other jurisdiction of                   (I.R.S. Employer
     incorporation or organization)                  Identification No.)

     17822 East 17th Street, Tustin, California                    92680
     __________________________________________                  __________
      (Address of principal executive offices)                   (Zip Code)

     Issuer's telephone number, including area code: (714) 731-7171
                                                     ______________
                          NOT APPLICABLE
        ________________________________________________________________
        (Former name, former address and former fiscal year, if changed,
         since last year)

     Indicate by check mark whether the issuer (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   XX       No
                    _____         _____

                   APPLICABLE ONLY TO CORPORATE ISSUERS:

     Indicate the number of shares outstanding of each of the issuer's
     classes of common stock, as of the latest practicable date.

              4,638,491 shares of Common Stock, $.01 par value,
                             as of February 12, 1996



                                                               Page 1 of 16

  2
                         PART I  FINANCIAL INFORMATION
                         ------  ---------------------
     Item 1.  Financial Statements
     -----------------------------

                             QUALITY SYSTEMS, INC.

                                 BALANCE SHEETS



                                     ASSETS


December 31, March 31, 1995 1995 ------------- ----------- Current assets: Cash and cash equivalents $ 6,396,800 $ 6,085,300 Short-term investments 1,265,200 1,237,200 Accounts receivable, net 4,364,900 2,996,500 Inventories 724,600 782,900 Deferred tax asset - 199,000 Prepaid income taxes 93,600 - Other current assets 61,800 74,300 ------------- ----------- Total current assets 12,906,900 11,375,200 Equipment and improvements, net 466,900 535,300 Capitalized software costs, net 579,500 501,300 Investment, Clinitec International, Inc. 985,800 - Cash surrender value of life insurance 316,200 185,100 Deferred offering costs 68,400 - Other assets 61,900 70,900 ------------- ----------- Total assets $ 15,385,600 $12,667,800 ============= =========== LIABILITIES AND SHAREHOLDERS' EQUITY Current liabilities: Accounts payable $ 942,900 $ 597,400 Accrued payroll and related expenses 492,900 427,100 Accrued expenses 474,600 492,400 Deferred service revenue 1,030,300 951,500 Deferred compensation 316,200 185,100 Estimated costs to complete system installations 336,800 216,500 Deferred tax liability 10,900 - Income taxes payable - 473,400 ----------- ----------- Total current liabilities 3,604,600 3,343,400 Deferred tax liability 100,100 136,800 ----------- ----------- Total liabilities 3,704,700 3,480,200 ----------- ----------- Shareholders' equity: Common stock, $.01 par value, 20,000,000 shares authorized, 4,638,491 and 4,535,866 shares issued and outstanding respectively 46,400 45,400 Additional paid-in capital 6,763,600 5,977,600 Unrealized loss on available-for-sale securities, net of tax benefit of $35,400 and $63,300 respectively (46,400) (83,000) Retained earnings 4,917,300 3,247,600 ----------- ----------- Total shareholders' equity 11,680,900 9,187,600 ----------- ----------- Total liabilities and shareholders' equity $15,385,600 $12,667,800 =========== ===========
The accompanying notes are an integral part of the financial statements. 3 QUALITY SYSTEMS, INC. STATEMENTS OF OPERATIONS (Unaudited)
Three Months Ended Nine Months Ended --------------------- --------------------- December 31, December 31, 1995 1994 1995 1994 ---------- ---------- ---------- ---------- Net revenues: Sales of computer systems, upgrades and supplies $2,514,200 $1,165,800 $7,161,600 $3,895,300 Maintenance and other services 1,819,100 1,588,900 5,159,400 4,726,400 ---------- ---------- ---------- ---------- 4,333,300 2,754,700 12,321,000 8,621,700 Cost of products and services 2,080,500 1,389,900 5,865,400 4,498,100 ---------- ---------- ---------- ---------- Gross profit 2,252,800 1,364,800 6,455,600 4,123,600 ---------- ---------- ---------- ---------- Operating expenses: Selling, general and administrative 919,400 901,600 2,846,800 2,581,400 Research and development 464,300 393,200 1,120,500 1,109,600 ---------- ---------- ---------- ---------- 1,383,700 1,294,800 3,967,300 3,691,000 ---------- ---------- ---------- ---------- Earnings from operations 869,100 70,000 2,488,300 432,600 Interest and investment income 135,000 129,100 339,300 249,800 Equity in loss of Clinitec International, Inc. (23,300) - (41,000) - ---------- ---------- ---------- ---------- Earnings before income tax provision 980,800 199,100 2,786,600 682,400 Income tax provision 376,100 60,300 1,116,900 158,100 ---------- ---------- ---------- ---------- Net earnings $ 604,700 $ 138,800 $1,669,700 $ 524,300 ========== ========== ========== ========== Earnings per share: Primary $ .13 $ .03 $ .35 $ .11 Fully diluted $ .13 $ .03 $ .35 $ .11 ======= ======= ======= ======= Equivalent number of shares outstanding: Primary 4,725,007 4,628,550 4,708,996 4,640,509 Fully diluted 4,728,314 4,628,550 4,724,448 4,640,509 ========== ========== ========== ==========
The accompanying notes are an integral part of the financial statements. 4 QUALITY SYSTEMS, INC. STATEMENTS OF CASH FLOWS (Unaudited)
Nine Months Ended -------------------------- December 31 1995 1994 ------------ ------------ Cash flows from operating activities: Net earnings $1,669,700 $ 524,300 Adjustments to reconcile net earnings to net cash provided by (used in) operating activities: Depreciation and amortization of equipment and improvements 161,400 166,400 Amortization of capitalized software costs 203,000 145,200 Realized (gains) losses from sales of short-term investments 8,600 (28,200) Unrealized gains on trading securities (54,700) (92,500) Equity in loss of Clinitec International, Inc. 41,000 - Gain on sales of fixed assets (8,300) - Deferred income taxes 173,200 (91,300) Changes in: Accounts receivable (1,368,400) (60,500) Inventories 58,300 4,300 Other current assets 12,500 1,500 Accounts payable 345,500 (196,400) Accrued expenses 48,000 30,500 Deferred service revenue 78,800 72,200 Estimated costs to complete system installations 120,300 (145,300) Income taxes payable, and taxes related to equity accounts 33,000 249,400 ------------ ------------ Net cash provided by operating activities 1,521,900 579,600 ------------ ------------ Cash flows from investing activities: Proceeds from sales of short-term investments 1,092,400 10,343,800 Purchases of short-term investments (1,009,700) (8,500,600) Net additions to equipment and improvements, net (101,400) (71,100) Additions to capitalized software costs (281,200) (136,100) Proceeds from sales of fixed assets 16,700 - Investment in Clinitec (1,026,800) - Increase in deferred offering costs (68,400) - Change in other assets 9,000 31,500 ------------ ------------ Net cash provided by (used in) investing activities: (1,369,400) 1,667,500 ------------ ------------ Cash flows from financing activities: Proceeds from exercise of stock options 159,000 44,200 ----------- ----------- Net increase (decrease) in cash and cash equivalents 311,500 2,291,300 Cash and cash equivalents, beginning of period 6,085,300 1,092,900 ----------- ----------- Cash and cash equivalents, end of period $6,396,800 $3,384,200 =========== ===========
Supplemental information - During the nine months ended December 31, 1995 and 1994 the Company made income tax payments of $910,700 and $9,900 respectively. The accompanying notes are an integral part of the financial statements. 5 QUALITY SYSTEMS, INC. NOTES TO FINANCIAL STATEMENTS December 31, 1995 and 1994 NOTE 1 - BASIS OF PRESENTATION ------ --------------------- The accompanying unaudited condensed financial statements have been prepared in accordance with the requirements of Form 10-QSB and, therefore, do not include all information and footnotes which would be presented were such financial statements prepared in accordance with generally accepted accounting principles, and should be read in conjunction with the audited financial statements presented in the Company's Annual Report for the fiscal year ended March 31, 1995. In the opinion of management, the accompanying financial statements reflect all adjustments which are necessary for a fair presentation of the results of operations for the interim periods presented. The results of operations for such interim periods are not necessarily indicative of results of operations to be expected for the full year. NOTE 2 - EARNINGS PER SHARE ------ ------------------ Earnings per share for the nine months ended December 31, 1995 and December 31, 1994 was computed based on the weighted average number of shares actually outstanding, plus the shares that would be outstanding, using the treasury stock method, assuming the exercise of all outstanding options which were considered to be common stock equivalents. NOTE 3 - RELATED PARTY TRANSACTION ------ ------------------------- The Company sold a computer system for $334,600 to Heart Institute of Nevada during the quarter ended December 31, 1995. John Bowers, M.D., the Founder and Chief Executive Officer of Heart Institute of Nevada is a member of Quality Systems, Inc. Board of Directors. The Company's gross profit on the sale is comparable to the gross profit on sales of similar computer systems. NOTE 4 - NEW ACCOUNTING PRONOUNCEMENT ------ ---------------------------- The Financial Accounting Standards Board has recently issued Financial Accounting Standards No. 123, "Accounting for Stock-based Compensation", which requires the determination and disclosure of compensation costs implicit in stock option grants. The Company is required to adopt this standard beginning in fiscal 1997. The Company does not plan to implement this standard until that time and has not been able to quantify the effect of this standard. 6 Item 2. Management's Discussion and Analysis of Financial Condition ------- ----------------------------------------------------------- and Results of Operations ------------------------- General ------- Since fiscal 1993, approximately one-half of the Company's revenues have been derived from sales of computer systems, upgrades and supplies, with the balance derived from systems maintenance agreements and other support services. On sales of its systems, upgrades and supplies, the Company recognizes revenues upon shipment of products. Revenues attributable to the Company's software products included with the systems are also recognized upon shipment, unless the Company's installation obligations after shipment are significant, in which case revenues are recognized on a percentage of completion basis. Revenues from systems maintenance are typically recognized ratably over the life of the contract. In the last five years, more than 90% of the Company's clients have elected to purchase the Company's maintenance and support services. During the past five years, the Company's systems sales have been impacted by a number of factors which have had the effect of reducing systems sales and systems upgrade sales while at the same time increasing the relative profitability of these sales. Historically, the costs for the hardware components used in the Company's systems have consistently declined while the performance and capacity of such components have continually increased. Consistent with the marketplace, the Company has adjusted its systems pricing to its clients to reflect these decreased hardware costs. In addition, the Company increasingly encounters prospective clients that already own, or desire to acquire from third parties, significant quantities of hardware which may be utilized with the Company's software. In such instances, the sales generated from such clients are lower than they otherwise would be. As of result of these market changes, the Company has increasingly focused its efforts on the sale of its software user licenses and services, resulting in higher margins. Aiding these efforts has been the continuing increase in the capacity of the hardware components which the Company markets. The Company has had a growing market for the sale of additional software user licenses to its existing clients as such clients can often add more software user capacity to their system with minimal or no change to their current central processing unit. Such clients frequently also purchase hardware peripherals from the Company for use with the newly purchased software user licenses. The first nine months of fiscal 1996 have seen a marked increase in the Company's system revenues. The Company attributes this increase to the dynamic changes currently occurring in the health care industry and to growing acceptance of the Company's products and services. Health care providers, faced with economic pressures to reduce costs and increase productivity, are increasingly aligning with HMOs, hospitals and other health care organizations as well as consolidating with other health care providers into larger, more 7 efficient business entities. This trend results in an increase in the number of large and complex health care organizations that are potential clients for the Company's sophisticated systems. In addition, the continued growth of these organizations after they become clients of the Company presents the potential for the Company to increase sales of upgrades and additional software user licenses. The Company's ability to address the complex software requirements of such newly forming or growing business entities, in particular in the area of managed care, is a key to success in this changing health care delivery environment. The sales cycle for the Company's systems typically ranges from three to 12 months from initial contact to contract execution. The installation cycle is typically two to three months from contract execution to completion of installation. Because a significant percentage of the Company's expenses are relatively fixed, a variation in the timing of systems sales and installations can cause significant variations in operating results from quarter to quarter. The Company's products are generally shipped as orders are received and accordingly, the Company has historically operated with little backlog. As a result, sales in any quarter are dependent on orders booked and shipped in that quarter and are not predictable with any degree of certainty. As a result, the company believes that interim period-to-period comparisons of its results of operations are not necessarily meaningful and should not be relied upon as indications of future performance. The Company's research and development expenses consist primarily of personnel and equipment costs required to conduct the Company's product development effort. The Company believes that significant investments in research and development are required to remain competitive. As a consequence, in recent years, the Company has increased the amount of its expenditures on research and development, mainly through the employment of additional development personnel. Development costs incurred in the research and development of new software products and enhancements to existing software products are expensed as incurred until technological feasibility has been established. After technological feasibility is established, any additional development costs are capitalized and amortized over periods ranging from three to five years. Historical results of operations, percentage margin fluctuations and any trends that may be inferred from the discussion below are not necessarily indicative of the operating results for any future period. 8 Results of Operations --------------------- The following table sets forth for the periods indicated, the percentage of net revenues represented by each item in the Company's statement of operations.
Three Months Nine Months Ended Ended December 31, December 31, ------------ ------------ 1995 1994 1995 1994 ----- ----- ----- ----- Net revenues: Sales of computer systems, upgrades and supplies.............. 58.0% 42.3% 58.1% 45.2% Maintenance and other services...... 42.0 57.7 41.9 54.8 ----- ----- ----- ----- 100.0 100.0 100.0 100.0 Cost of products and services ........ 48.0 50.5 47.6 52.2 ----- ----- ----- ----- Gross profit ......................... 52.0 49.5 52.4 47.8 Operating expenses: Selling, general and administrative. 21.2 32.7 23.1 29.9 Research and development............ 10.7 14.3 9.1 12.9 ----- ----- ----- ----- Total operating expenses.............. 31.9 47.0 32.2 42.8 ----- ----- ----- ----- Earnings from operations.............. 20.1 2.5 20.2 5.0 Interest and investment income........ 3.1 4.7 2.7 2.9 Equity in loss of Clinitec............ (.6) - (.3) - ----- ----- ----- ----- Earnings before income tax provision.. 22.6 7.2 22.6 7.9 Income tax provision.................. 8.7 2.2 9.0 1.8 ----- ----- ----- ----- Net earnings.......................... 13.9% 5.0% 13.6% 6.1% ===== ===== ===== =====
For the Three-Month Periods Ended December 31, 1995 and 1994. ------------------------------------------------------------- Net Revenues. Net revenues for the three months ended December 31, 1995 increased 57.3% to $4.3 million from $2.8 million for the three months ended December 31, 1994. This increase was due primarily to sales of computer systems, upgrades, including software user licenses, and supplies, which grew 115.7% to $2.5 million from $1.2 million. This growth resulted from an increase in the number of systems sold and from increased sales of upgrades. Net revenues from maintenance and other services grew 14.5% to $1.8 million from $1.6 million. This growth resulted from a larger client base for recurring revenues and increased time and material billings for additional services. Cost of Products and Services. Cost of products and services for the three months ended December 31, 1995 increased 49.7% to $2.1 million from $1.4 million for the three months ended December 31, 1994. This increase was due to the increase in systems sold and net revenues. As a percentage of net revenues, cost of products and services decreased to 48.0% from 50.5%. This decrease was due to an increase in the proportion of revenue from lower cost items. 9 Selling, General and Administrative Expenses. Selling, general and administrative expenses for the three months ended December 31, 1995 increased 2.0% to $919,400 from $901,600 for the three months ended December 31, 1994. This increase was due to an increase in selling expenses. This increase was more than offset by increased sales during the same period, resulting in a decrease in selling, general and administrative expenses, as a percentage of net revenues, to 21.2% from 32.7%. Research and Development Expenses. Research and development expenses for the three months ended December 31, 1995 increased 18.1% to $464,300 from $393,200 for the three months ended December 31, 1994. This increase was attributable to enhancements and additions to the Company's systems. Interest and Investment Income. Interest and investment income for the three months ended December 31, 1995 increased 4.6% to $135,000 from $129,100 from the three months ended December 31, 1994. This increase was due to an increase in funds available for investment. Income Tax Provision. Income tax provision for the three months ended December 31, 1995 increased 523.7% to $376,100 from $60,300 for the three months ended December 31, 1994. This increase was due to increased earnings before income tax provision and an increase in effective tax rates. The effective tax rates for the respective periods were 38.3% and 30.3%. The lower than normal tax rate for the three months ended December 31, 1994 was due to utilization of a deferred tax valuation allowance related to net operating loss carryforwards. For the Nine Month Periods Ended December 31, 1995 and 1994. ------------------------------------------------------------ Net Revenues. Net revenues for the nine months ended December 31, 1995 increased 42.9% to $12.3 million from $8.6 million for the nine month ended December 31, 1994. This increase was due primarily to sales of computer systems, upgrades, including software user licenses, and supplies, which grew 83.9% to $7.2 million from $3.9 million. This growth resulted from an increase in the number of larger systems and increased sales of upgrades. Net revenues from maintenance and other services grew 9.2% to $5.2 million from $4.7 million. This growth resulted from a larger client base for recurring revenues and increased time and material billings for additional services. Cost of Products and Services. Cost of products and services for the nine months ended December 31, 1995 increased 30.4% to $5.9 from $4.5 million for the nine months ended December 31, 1994. This increase was due primarily to the increase in systems sold and in net revenues. As a percentage of net revenues, cost of products and service decreased to 47.6% form 52.2%. This decrease was due to and increase in the proportion of revenues from lower cost items. Selling, General and Administrative. Selling, general and administrative expenses for the nine months ended December 31, 1995 increased 10.3% to $2.8 from $2.6 million for the nine months ended December 31, 1994. This increase was attributable to increases in sales and administrative personnel. These increases were more than 10 offset by increased sales during the same period, resulting in a decrease in selling, general and administrative expenses, as a percentage of net revenues, to 23.1% from 29.9%. Research and Development. Research and development expenses for the nine months ended December 31, 1995 remained unchanged at $1.1 million compared to the nine months ended December 31, 1994. This lower than normal increase resulted from a higher proportion of capitalized software. Total research and development expenditures and capitalized software increased to $1.2 million from $1.1 million. The Company anticipates increased expenditures in capitalized software in connection with developing an alternate version of certain of its products for the client/server environment to take advantage of new more powerful technologies and to allow for a more seamless integration of the Company's and Clinitec's NextGen applications. Interest and Investment Income. Interest and investment income for the nine months ended December 31, 1995 increased 35.8% to $339,300 from $249,800 for the nine months ended December 31, 1994. Current period investment results represent an annualized yield of approximately 6% on the Company's combined balances for cash and cash equivalents and short-term investments. Interest and investment income for the nine months ended December 31, 1994 included prior year first quarter realized losses of $81,000 from sales of short-term investments and first quarter unrealized losses of $10,000 from trading securities. Income Tax Provision. Income tax provision for the nine months ended December 31, 1995 increased 606.5% to $1,116,900 from $158,100 for the nine months ended December 31, 1994. This increase was due to increased earnings before income tax provision and an increase in effective tax rates. The effective tax rates for the respective periods were 40.1% and 23.2%. The rate for the prior period was lower due to utilization of a deferred tax valuation allowance related to net operating loss carryforwards. Liquidity and Capital Resources. -------------------------------- Since inception, the Company has financed its operations primarily through cash generated from operations. Net cash provided by operating activities was $1.5 million for the nine months ended December 31, 1995 and consisted principally of net earnings. An increase in accounts receivable of $1.4 million, resulting from increased net revenues, was offset by depreciation and amortization of $364,400 and changes in other working capital items. Net cash provided from operating activities was $579,600 for the nine months ended December 31, 1994 and consisted principally of net earnings of $524,300 and depreciation and amortization of $311,600, offset by a $196,400 reduction in accounts payable. Net cash used in investing activities was $1.4 million for the nine months ended December 31, 1995 and consisted of a $1 million purchase of a 25% equity interest in Clinitec International, Inc. and additions to equipment and improvements and capitalized software. Net cash provided by investing activities was $1.7 million for the nine 11 months ended December 31, 1995 and consisted principally of changes in short-term investments offset by additions to equipment and improvements and capitalized software. At December 31, 1995, the Company had cash and cash equivalents of $6.4 million and short-term investments of $1.3 million. Short-term investments include debt securities issued by foreign governments of $311,000 and an investment in a hedge fund which trades in special situations securities of $530,000. The Company does not believe these investments have significant principal risk; however, there can be no assurance that the market for these securities will not change, causing a loss of principal. 12 PART II. OTHER INFORMATION -------- ------------------ Item 6. Exhibits and Reports on Form 8-K ----------------------------------------- (a) Exhibits: --------- The Exhibits listed on the accompanying Index to Exhibits on page 16 are file as part of this report. (b) Reports on Form 8-K: None -------------------- 13 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. QUALITY SYSTEMS, INC. Date February 12, 1996 By /s/ Sheldon Razin ----------------- ---------------------------------- Sheldon Razin President and Chairman of the Board of Directors; Principal Executive Officer Date February 12, 1996 By /s/ Irma G. Carmona ---------------- ---------------------------------- Irma G. Carmona Corporate Controller; Principal Accounting Officer
14 INDEX TO EXHIBITS Sequential Page Exhibit No. ------- ---------- 11.0 Earnings per share computation, is filed herewith 15 27.0 Financial Data Schedule, is filed herewith. 16 15 EXHIBIT 11.0 ------------ Earnings per share for the nine months ended December 31, 1995 and December 31, 1994 was computed based on the weighted average number of shares actually outstanding, plus the shares that would be outstanding, using the treasury stock method, assuming the exercise of all outstanding options which were considered to be common stock equivalents. Primary and fully diluted net earnings per share amounts are based on weighted average number of shares outstanding of 4,708,969 and 4,724,448 for December 31, 1995 respectively and 4,640,509 for both primary and fully diluted net earnings per share for December 31, 1994.
 

5 9-MOS MAR-31-1996 DEC-31-1995 6,396,800 1,265,200 4,364,900 0 724,600 12,906,900 466,900 0 15,385,600 3,604,600 0 46,400 0 0 11,634,500 15,385,600 7,161,600 12,321,000 0 5,865,400 3,967,300 0 0 2,786,600 1,116,900 1,669,700 0 0 0 1,669,700 .35 .35