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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2002
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: 001-14057
KINDRED HEALTHCARE, INC.
(Exact name of registrant as specified in its charter)
Delaware 61-1323993
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
680 South Fourth Street
Louisville, KY 40202-2412
(Address of principal executive offices) (Zip Code)
(502) 596-7300
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [_]
Indicate by check mark whether the registrant has filed all documents and
reports required to be filed by Sections 12, 13 or 15(d) of the Securities
Exchange Act of 1934 subsequent to the distribution of securities under a plan
confirmed by a court. Yes [X] No [_]
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
Class of Common Stock Outstanding at July 31, 2002
--------------------- ----------------------------
Common stock, $0.25 par value 17,682,817 shares
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1 of 33
KINDRED HEALTHCARE, INC.
FORM 10-Q
INDEX
PART I. FINANCIAL INFORMATION Page
----
Item 1. Financial Statements:
Condensed Consolidated Statement of Operations:
Reorganized Company -- for the three months ended June 30, 2002 and June 30, 2001 and
for the six months ended June 30, 2002
Predecessor Company -- for the three months ended March 31, 2001..................... 3
Condensed Consolidated Balance Sheet:
Reorganized Company -- June 30, 2002 and December 31, 2001........................... 4
Condensed Consolidated Statement of Cash Flows:
Reorganized Company -- for the three months ended June 30, 2002 and June 30, 2001 and
for the six months ended June 30, 2002
Predecessor Company -- for the three months ended March 31, 2001..................... 5
Notes to Condensed Consolidated Financial Statements.................................. 6
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations. 17
Item 3. Quantitative and Qualitative Disclosures About Market Risk............................ 29
PART II. OTHER INFORMATION
Item 1. Legal Proceedings..................................................................... 30
Item 4. Submission of Matters to a Vote of Security Holders................................... 31
Item 6. Exhibits and Reports on Form 8-K...................................................... 32
2
KINDRED HEALTHCARE, INC.
CONDENSED CONSOLIDATED STATEMENT OF OPERATIONS
(Unaudited)
(In thousands, except per share amounts)
| Predecessor
Reorganized Company | Company
------------------------------ | -----------
Three Three Six | Three
months months months | months
ended ended ended | ended
June 30, June 30, June 30, | March 31,
2002 2001 2002 | 2001
-------- -------- ---------- | -----------
Revenues........................................... $838,573 $770,764 $1,649,817 | $752,409
-------- -------- ---------- | --------
|
Salaries, wages and benefits....................... 478,520 432,182 945,921 | 427,649
Supplies........................................... 105,431 96,043 206,745 | 94,319
Rent............................................... 67,818 64,580 133,429 | 76,995
Other operating expenses........................... 134,045 127,655 261,342 | 126,701
Depreciation and amortization...................... 17,413 15,886 34,109 | 18,645
Interest expense................................... 3,818 8,463 7,550 | 14,000
Investment income.................................. (3,400) (3,438) (5,280)| (1,919)
-------- -------- ---------- | --------
803,645 741,371 1,583,816 | 756,390
-------- -------- ---------- | --------
|
Income (loss) before reorganization items and |
income taxes..................................... 34,928 29,393 66,001 | (3,981)
Reorganization items............................... (5,520) - (5,520)| (53,666)
-------- -------- ---------- | --------
Income before income taxes......................... 40,448 29,393 71,521 | 49,685
Provision for income taxes......................... 16,786 12,904 29,681 | 500
-------- -------- ---------- | --------
Income from operations........................ 23,662 16,489 41,840 | 49,185
Extraordinary gain on extinguishment of debt....... - 1,396 - | 422,791
-------- -------- ---------- | --------
Net income.................................... 23,662 17,885 41,840 | 471,976
Preferred stock dividend requirements.............. - - - | (261)
-------- -------- ---------- | --------
Income available to common stockholders....... $ 23,662 $ 17,885 $ 41,840 | $471,715
======== ======== ========== | ========
Earnings per common share: |
Basic: |
Income from operations.......................... $ 1.36 $ 1.09 $ 2.41 | $ 0.69
Extraordinary gain on extinguishment of debt.... - 0.09 - | 6.02
-------- -------- ---------- | --------
Net income.................................... $ 1.36 $ 1.18 $ 2.41 | $ 6.71
======== ======== ========== | ========
Diluted: |
Income from operations.......................... $ 1.21 $ 1.00 $ 2.16 | $ 0.69
Extraordinary gain on extinguishment of debt.... - 0.08 - | 5.90
-------- -------- ---------- | --------
Net income.................................... $ 1.21 $ 1.08 $ 2.16 | $ 6.59
======== ======== ========== | ========
Shares used in computing earnings per common share: |
Basic............................................. 17,345 15,090 17,327 | 70,261
Diluted........................................... 19,554 16,533 19,332 | 71,656
See accompanying notes.
3
KINDRED HEALTHCARE, INC.
CONDENSED CONSOLIDATED BALANCE SHEET
(Unaudited)
(In thousands, except per share amounts)
Reorganized Company
-----------------------
June 30, December 31,
2002 2001
---------- ------------
ASSETS
Current assets:
Cash and cash equivalents.............................................. $ 212,262 $ 190,799
Cash-restricted........................................................ 10,224 18,025
Insurance subsidiary investments....................................... 132,842 99,101
Accounts receivable less allowance for loss............................ 428,043 418,827
Inventories............................................................ 29,854 29,720
Other.................................................................. 66,149 75,501
---------- ----------
879,374 831,973
Property and equipment.................................................. 555,385 508,205
Accumulated depreciation................................................ (78,011) (44,323)
---------- ----------
477,374 463,882
Goodwill................................................................ 136,273 107,660
Other................................................................... 109,956 105,359
---------- ----------
$1,602,977 $1,508,874
========== ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable....................................................... $ 115,750 $ 100,473
Salaries, wages and other compensation................................. 214,970 198,471
Due to third-party payors.............................................. 30,263 37,285
Other accrued liabilities.............................................. 144,346 138,571
Income taxes........................................................... 45,766 39,908
Long-term debt due within one year..................................... 519 418
---------- ----------
551,614 515,126
Long-term debt.......................................................... 212,038 212,269
Professional liability risks............................................ 148,516 136,764
Deferred credits and other liabilities.................................. 54,484 54,234
Commitments and contingencies
Stockholders' equity:
Common stock, $0.25 par value; authorized 175,000 shares -- June 30 and
39,000 shares -- December 31; issued 17,683 shares -- June 30 and
December 31.......................................................... 4,421 4,421
Capital in excess of par value......................................... 548,727 549,169
Deferred compensation.................................................. (10,318) (14,764)
Retained earnings...................................................... 93,495 51,655
---------- ----------
636,325 590,481
---------- ----------
$1,602,977 $1,508,874
========== ==========
See accompanying notes.
4
KINDRED HEALTHCARE, INC.
CONDENSED CONSOLIDATED STATEMENT OF CASH FLOWS
(Unaudited)
(In thousands)
| Predecessor
Reorganized Company | Company
----------------------------------- | ------------
Three months Three months Six months | Three months
ended ended ended | ended
June 30, June 30, June 30, | March 31,
2002 2001 2002 | 2001
------------ ------------ ---------- | ------------
Cash flows from operating activities: |
Net income................................................. $ 23,662 $ 17,885 $ 41,840 | $ 471,976
Adjustments to reconcile net income to net cash provided |
by operating activities: |
Depreciation and amortization............................ 17,413 15,886 34,109 | 18,645
Amortization of deferred compensation costs.............. 1,320 1,918 3,906 | -
Provision for doubtful accounts.......................... 3,217 8,740 7,501 | 6,305
Unusual transactions..................................... 525 - 525 | -
Reorganization items..................................... (5,520) - (5,520) | (53,666)
Extraordinary gain on extinguishment of debt............. - (2,271) - | (422,791)
Other.................................................... 550 (1,647) 605 | 1,357
Change in operating assets and liabilities: |
Accounts receivable..................................... (4,147) (19,698) (3,548) | (14,668)
Inventories and other assets............................ 20,057 10,954 3,066 | 12,476
Accounts payable........................................ (8,352) (3,034) 7,175 | (10,845)
Income taxes............................................ 1,582 13,079 5,889 | 108
Due to third-party payors............................... 382 (13,886) (7,022) | 2,051
Other accrued liabilities............................... 42,754 37,061 40,076 | 28,628
-------- -------- -------- | ---------
Net cash provided by operating activities before |
reorganization items................................. 93,443 64,987 128,602 | 39,576
Payment of reorganization items............................ (1,214) (24,723) (3,676) | (3,745)
-------- -------- -------- | ---------
Net cash provided by operating activities............. 92,229 40,264 124,926 | 35,831
-------- -------- -------- | ---------
|
Cash flows from investing activities: |
Purchase of property and equipment......................... (19,359) (25,639) (29,227) | (22,038)
Acquisition of healthcare facilities....................... (45,551) - (45,551) | -
Sale of investment in Behavioral Healthcare Corporation.... - 40,000 - | -
Sale of other assets....................................... 752 5,162 752 | -
Surety bond deposits....................................... 9,676 (300) 9,676 | -
Net change in investments.................................. (33,177) (45,985) (31,513) | (28,178)
Other...................................................... 42 165 201 | 224
-------- -------- -------- | ---------
Net cash used in investing activities................. (87,617) (26,597) (95,662) | (49,992)
-------- -------- -------- | ---------
|
Cash flows from financing activities: |
Repayment of long-term debt................................ (178) (59,386) (279) | (4,355)
Payment of debtor-in-possession deferred financing costs... - - - | (100)
Payment of other deferred financing costs.................. (1,010) - (1,010) | -
Other...................................................... (2,018) (6,612) (6,512) | (5,971)
-------- -------- -------- | ---------
Net cash used in financing activities................. (3,206) (65,998) (7,801) | (10,426)
-------- -------- -------- | ---------
Change in cash and cash equivalents.......................... 1,406 (52,331) 21,463 | (24,587)
Cash and cash equivalents at beginning of period............. 210,856 155,154 190,799 | 184,642
-------- -------- -------- | ---------
Cash and cash equivalents at end of period................... $212,262 $102,823 $212,262 | $ 160,055
======== ======== ======== | =========
|
Supplemental information: |
Interest payments.......................................... $ 3,948 $ 950 $ 7,867 | $ 2,606
Income tax payments........................................ 15,174 749 23,792 | 392
See accompanying notes.
5
KINDRED HEALTHCARE, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
NOTE 1 - BASIS OF PRESENTATION
Business
Kindred Healthcare, Inc. ("Kindred" or the "Company") provides long-term
healthcare services primarily through the operation of nursing centers and
hospitals. At June 30, 2002, the Company's health services division operated
288 nursing centers in 32 states and a rehabilitation therapy business. The
Company's hospital division operated 63 hospitals in 24 states and an
institutional pharmacy business.
On April 1, 2002, the Company expanded its national network of long-term
acute care hospitals by acquiring all of the outstanding stock of Specialty
Healthcare Services, Inc. ("Specialty"), a private operator of six long-term
acute care hospitals (the "Specialty Acquisition"). The operating results of
Specialty have been included in the condensed consolidated financial statements
of the Company since the date of acquisition.
Reorganization
On April 20, 2001, the Company and its subsidiaries emerged from proceedings
under Chapter 11 of Title 11 of the United States Code (the "Bankruptcy Code")
pursuant to the terms of the Company's Fourth Amended Joint Plan of
Reorganization (the "Plan of Reorganization"), as modified at the confirmation
hearing by the United States Bankruptcy Court for the District of Delaware (the
"Bankruptcy Court"). In connection with its emergence, the Company changed its
name to Kindred Healthcare, Inc.
After filing for protection under the Bankruptcy Code on September 13, 1999,
the Company operated its businesses as a debtor-in-possession subject to the
jurisdiction of the Bankruptcy Court. Accordingly, the consolidated financial
statements of the Company were prepared in accordance with the American
Institute of Certified Public Accountants Statement of Position 90-7,
"Financial Reporting by Entities in Reorganization Under the Bankruptcy Code"
("SOP 90-7") and generally accepted accounting principles applicable to a going
concern, which assumed that assets would be realized and liabilities would be
discharged in the normal course of business.
In connection with its emergence from bankruptcy, the Company reflected the
terms of the Plan of Reorganization in its consolidated financial statements by
adopting the fresh-start accounting provisions of SOP 90-7. Under fresh-start
accounting, a new reporting entity is deemed to be created and the recorded
amounts of assets and liabilities are adjusted to reflect their estimated fair
values. For accounting purposes, the fresh-start adjustments were recorded in
the Company's consolidated financial statements as of April 1, 2001. Since
fresh-start accounting materially changed the amounts previously recorded in
the Company's consolidated financial statements, a black line separates the
post-emergence financial data from the pre-emergence financial data to signify
the difference in the basis of presentation of the financial statements for
each respective entity.
As used in this Form 10-Q, the term "Predecessor Company" refers to the
Company and its operations for periods prior to April 1, 2001, while the term
"Reorganized Company" is used to describe the Company and its operations for
periods thereafter.
Comparability of Financial Information
While the adoption of fresh-start accounting as of April 1, 2001 materially
changed the amounts previously recorded in the consolidated financial
statements of the Predecessor Company, management believes that business
segment operating income of the Predecessor Company is generally comparable to
that of the
6
KINDRED HEALTHCARE, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Unaudited)
NOTE 1 - BASIS OF PRESENTATION (Continued)
Comparability of Financial Information (Continued)
Reorganized Company. However, capital costs (rent, interest, depreciation and
amortization) of the Predecessor Company that were based on pre-petition
contractual agreements and historical costs are not comparable to those of the
Reorganized Company. In addition, the reported financial position and cash
flows of the Predecessor Company for periods prior to April 1, 2001 generally
are not comparable to those of the Reorganized Company.
In connection with the implementation of fresh-start accounting, the Company
recorded an extraordinary gain of $422.8 million from the restructuring of its
debt in accordance with the provisions of the Plan of Reorganization. Other
significant adjustments also were recorded to reflect the provisions of the
Plan of Reorganization and the fair values of the assets and liabilities of the
Reorganized Company as of April 1, 2001. For accounting purposes, these
transactions have been reflected in the operating results of the Predecessor
Company for the three months ended March 31, 2001.
Recent Accounting Pronouncements
In July 2002, the Financial Accounting Standards Board (the "FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 146 ("SFAS 146"),
"Accounting for Exit or Disposal Activities." SFAS 146 provides guidance
related to the recognition, measurement, and reporting of costs that are
associated with exit and disposal activities, including costs related to
terminating a contract that is not a capital lease and certain involuntary
termination benefits. SFAS 146 supersedes Emerging Issues Task Force Issue No.
94-3, "Liability Recognition for Certain Employee Termination Benefits and
Other Costs to Exit an Activity" ("EITF No. 94-3") and requires liabilities
associated with exit and disposal activities to be expensed as incurred. SFAS
146 will be effective for exit and disposal activities of the Company that are
initiated after December 31, 2002.
In October 2001, the FASB issued SFAS No. 144 ("SFAS 144"), "Accounting for
the Impairment or Disposal of Long-Lived Assets," which supersedes SFAS No.
121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived
Assets to Be Disposed Of" and amends Accounting Principles Board Opinion No. 30
("APB 30"), "Reporting Results of Operations - Reporting the Effects of
Disposal of a Segment of a Business," by requiring that long-lived assets that
are to be disposed of by sale be measured at the lower of book value or fair
value less the cost of disposal. SFAS 144 eliminated the APB 30 requirements
that discontinued operations be measured at net realizable value and that
estimated future operating losses be included under "discontinued operations"
in the financial statements before they occur. This new pronouncement became
effective for the Company on January 1, 2002.
In addition, the FASB issued in June 2001 SFAS No. 142 ("SFAS 142"),
"Goodwill and Other Intangible Assets," which establishes the accounting for
goodwill and other intangible assets following their recognition. SFAS 142
applies to all goodwill and other intangible assets whether acquired singly, as
part of a group, or in a business combination. The new pronouncement provides
that goodwill should not be amortized but should be tested for impairment
annually using a fair-value based approach. In addition, SFAS 142 provides that
intangible assets other than goodwill should be amortized over their useful
lives and reviewed for impairment in accordance with existing guidelines. SFAS
142 became effective for the Company on January 1, 2002. In conformity with the
provisions of SFAS 142, the Company performed a transitional impairment test
for goodwill as of January 1, 2002. No write-down of the carrying value of
goodwill was required.
7
KINDRED HEALTHCARE, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Unaudited)
NOTE 1 - BASIS OF PRESENTATION (Continued)
Recent Accounting Pronouncements (Continued)
The following table adjusts reported net income and earnings per share for
the periods presented to exclude the amortization of goodwill (in thousands,
except per share amounts):
Reorganized Company | Predecessor Company
------------------------------ | ---------------------------------
Three months ended June 30, 2001 | Three months ended March 31, 2001
------------------------------ | ---------------------------------
As Goodwill As | As Goodwill As
reported amortization adjusted | reported amortization adjusted
-------- ------------ -------- | -------- ------------ --------
Income from operations....... $16,489 $1,974 $18,463 | $ 49,185 $2,509 $ 51,694
Net income................... 17,885 1,974 19,859 | 471,976 2,509 474,485
Earnings per common share: |
Basic: |
Income from operations... $ 1.09 $ 0.13 $ 1.22 | $ 0.69 $ 0.04 $ 0.73
Net income............... 1.18 0.13 1.31 | 6.71 0.04 6.75
Diluted: |
Income from operations... $ 1.00 $ 0.12 $ 1.12 | $ 0.69 $ 0.03 $ 0.72
Net income............... 1.08 0.12 1.20 | 6.59 0.03 6.62
Changes in the carrying amount of goodwill for the six months ended June 30,
2002 follow:
Health
services Hospital
division division Total
-------- -------- --------
Balances, January 1, 2002.......................... $56,468 $51,192 $107,660
Specialty Acquisition goodwill..................... - 28,613 28,613
------- ------- --------
Balances, June 30, 2002............................ $56,468 $79,805 $136,273
======= ======= ========
Other Information
The accompanying unaudited condensed consolidated financial statements do
not include all of the disclosures normally required by generally accepted
accounting principles or those normally required in annual reports on Form
10-K. Accordingly, these financial statements should be read in conjunction
with the audited consolidated financial statements of the Company for the year
ended December 31, 2001 filed with the Securities and Exchange Commission (the
"Commission") on Form 10-K.
The accompanying unaudited condensed consolidated financial statements have
been prepared in accordance with the Company's customary accounting practices
and the provisions of SOP 90-7. Management believes that the financial
information included herein reflects all adjustments necessary for a fair
presentation of interim results and, except for the items described in Notes 2
and 8 and those recorded in connection with fresh-start accounting, all such
adjustments are of a normal and recurring nature.
NOTE 2 - REORGANIZATION ITEMS AND UNUSUAL TRANSACTIONS
Operating results for the three months ended June 30, 2002 included income
of $5.5 million resulting from changes in estimates for accrued professional
and administrative costs related to the Company's emergence from bankruptcy.
Operating results for the three months ended June 30, 2002 also included a
$525,000 lease termination charge for an unprofitable hospital.
8
KINDRED HEALTHCARE, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Unaudited)
NOTE 3 - SPECIALTY ACQUISITION
On April 1, 2002, the Company completed the Specialty Acquisition. The
transaction was financed through the use of existing cash. A summary of the
Specialty Acquisition follows (in thousands):
Fair value of assets acquired................................. $ 62,882
Fair value of liabilities assumed............................. (16,489)
--------
Net assets acquired........................................ 46,393
Cash acquired................................................. (842)
--------
Net cash paid.............................................. $ 45,551
========
The cost of the Specialty Acquisition resulted from negotiations with the
sellers that were based upon both the historical and expected future cash flows
of the enterprise. The purchase price paid in excess of the fair value of
identifiable net assets acquired aggregated $28.6 million. Additional
adjustments to the purchase price may occur through April 1, 2003 as a result
of the settlement of acquired working capital balances and contingent
consideration in accordance with the acquisition agreement.
The operating results of Specialty had no material effect on consolidated
net income for the second quarter of 2002.
NOTE 4 - PRO FORMA INFORMATION
The following unaudited pro forma condensed financial information gives
effect to the Plan of Reorganization assuming that the effective date occurred
on January 1, 2001 (in thousands, except per share amounts):
Six months
ended
June 30, 2001
-------------
Revenues.................................................. $1,523,173
Income from operations.................................... 27,175
Net income................................................ 28,571
Earnings per common share:
Basic:
Income from operations................................. $ 1.79
Net income............................................. 1.88
Diluted:
Income from operations................................. $ 1.63
Net income............................................. 1.72
The pro forma results exclude reorganization and extraordinary items
recorded prior to April 1, 2001. The pro forma results are not necessarily
indicative of the financial results that might have resulted had the effective
date of the Plan of Reorganization occurred on January 1, 2001.
9
KINDRED HEALTHCARE, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Unaudited)
NOTE 5 - REVENUES
Revenues are recorded based upon estimated amounts due from patients and
third-party payors for healthcare services provided, including anticipated
settlements under reimbursement agreements with Medicare, Medicaid and other
third-party payors.
A summary of revenues by payor type follows (in thousands):
| Predecessor
Reorganized Company | Company
------------------------------------ | ------------
Three months Three months Six months | Three months
ended ended ended | ended
June 30, June 30, June 30, | March 31,
2002 2001 2002 | 2001
------------ ------------ ---------- | ------------
Medicare................ $354,993 $298,671 $ 686,684 | $288,390
Medicaid................ 270,643 263,796 543,347 | 233,160
Private and other....... 228,893 223,593 451,705 | 245,532
-------- -------- ---------- | --------
854,529 786,060 1,681,736 | 767,082
Elimination............. (15,956) (15,296) (31,919) | (14,673)
-------- -------- ---------- | --------
$838,573 $770,764 $1,649,817 | $752,409
======== ======== ========== | ========
10
KINDRED HEALTHCARE, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Unaudited)
NOTE 6 - EARNINGS PER SHARE
Earnings per common share are based upon the weighted average number of
common shares outstanding during the respective periods. The diluted
calculation of earnings per common share for the Reorganized Company includes
the dilutive effect of warrants issued in connection with the Plan of
Reorganization and stock options and non-vested restricted stock issued under
various incentive plans. For the three months ended March 31, 2001, the diluted
calculation of earnings per common share for the Predecessor Company includes
the dilutive effect of its former convertible preferred stock.
A computation of earnings per common share follows (in thousands, except per
share amounts):
| Predecessor
Reorganized Company | Company
------------------------------------ | ------------
Three months Three months Six months | Three months
ended ended ended | ended
June 30, June 30, June 30, | March 31,
2002 2001 2002 | 2001
------------ ------------ ---------- | ------------
Earnings: |
Income from operations......................... $23,662 $16,489 $41,840 | $ 49,185
Extraordinary gain on extinguishment of debt... - 1,396 - | 422,791
------- ------- ------- | --------
Net income..................................... 23,662 17,885 41,840 | 471,976
Preferred stock dividend requirements.......... - - - | (261)
------- ------- ------- | --------
Income available to common |
stockholders - basic computation............. 23,662 17,885 41,840 | 471,715
Elimination of preferred stock dividend |
requirements upon assumed conversion of |
preferred stock.............................. - - - | 261
------- ------- ------- | --------
Net income - diluted computation............... $23,662 $17,885 $41,840 | $471,976
======= ======= ======= | ========
|
Shares used in the computation: |
Weighted average shares |
outstanding - basic computation.............. 17,345 15,090 17,327 | 70,261
Dilutive effect of warrants, employee stock |
options and non-vested restricted stock...... 2,209 1,443 2,005 | -
Assumed conversion of preferred stock.......... - - - | 1,395
------- ------- ------- | --------
Adjusted weighted average shares |
outstanding - diluted computation............ 19,554 16,533 19,332 | 71,656
======= ======= ======= | ========
|
Earnings per common share: |
Basic: |
Income from operations....................... $ 1.36 $ 1.09 $ 2.41 | $ 0.69
Extraordinary gain on extinguishment of debt. - 0.09 - | 6.02
------- ------- ------- | --------
Net income................................. $ 1.36 $ 1.18 $ 2.41 | $ 6.71
======= ======= ======= | ========
|
Diluted: |
Income from operations....................... $ 1.21 $ 1.00 $ 2.16 | $ 0.69
Extraordinary gain on extinguishment of debt. - 0.08 - | 5.90
------- ------- ------- | --------
Net income................................. $ 1.21 $ 1.08 $ 2.16 | $ 6.59
======= ======= ======= | ========
11
KINDRED HEALTHCARE, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Unaudited)
NOTE 7 - BUSINESS SEGMENT DATA
The Company operates two business segments: the health services division and
the hospital division. The health services division operates nursing centers
and a rehabilitation therapy business. The hospital division operates hospitals
and an institutional pharmacy business. The Company defines operating income as
earnings before interest, income taxes, depreciation, amortization and rent.
Operating income reported for each of the Company's business segments excludes
the allocation of corporate overhead.
The following table sets forth certain data by business segment (in
thousands):
| Predecessor
Reorganized Company | Company
------------------------------------ | ------------
Three months Three months Six months | Three months
ended ended ended | ended
June 30, June 30, June 30, | March 31,
2002 2001 2002 | 2001
------------ ------------ ---------- | ------------
Revenues: |
Health services division: |
Nursing centers.......................... $460,973 $444,137 $ 922,860 | $429,523
Rehabilitation services.................. 8,566 9,244 16,396 | 10,695
-------- -------- ---------- | --------
469,539 453,381 939,256 | 440,218
Hospital division: |
Hospitals................................ 322,764 276,112 619,206 | 271,984
Pharmacy................................. 62,226 56,567 123,274 | 54,880
-------- -------- ---------- | --------
384,990 332,679 742,480 | 326,864
-------- -------- ---------- | --------
854,529 786,060 1,681,736 | 767,082
Elimination of pharmacy charges to Company |
nursing centers........................... (15,956) (15,296) (31,919) | (14,673)
-------- -------- ---------- | --------
$838,573 $770,764 $1,649,817 | $752,409
======== ======== ========== | ========
Income from operations: |
Operating income: |
Health services division: |
Nursing centers.......................... $ 81,082 $ 78,735 $ 161,796 | $ 70,543
Rehabilitation services.................. 1,883 1,809 3,796 | 690
Other ancillary services................. 145 103 179 | 250
-------- -------- ---------- | --------
83,110 80,647 165,771 | 71,483
Hospital division: |
Hospitals................................ 62,326 55,685 121,900 | 54,778
Pharmacy................................. 6,069 6,036 11,741 | 6,176
-------- -------- ---------- | --------
68,395 61,721 133,641 | 60,954
Corporate overhead......................... (30,403) (27,484) (63,078) | (28,697)
-------- -------- ---------- | --------
121,102 114,884 236,334 | 103,740
Unusual transactions....................... (525) - (525) | -
Reorganization items....................... 5,520 - 5,520 | 53,666
-------- -------- ---------- | --------
Operating income......................... 126,097 114,884 241,329 | 157,406
Rent......................................... (67,818) (64,580) (133,429) | (76,995)
Depreciation and amortization................ (17,413) (15,886) (34,109) | (18,645)
Interest, net................................ (418) (5,025) (2,270) | (12,081)
-------- -------- ---------- | --------
Income before income taxes................... 40,448 29,393 71,521 | 49,685
Provision for income taxes................... 16,786 12,904 29,681 | 500
-------- -------- ---------- | --------
$ 23,662 $ 16,489 $ 41,840 | $ 49,185
======== ======== ========== | ========
12
KINDRED HEALTHCARE, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Unaudited)
NOTE 7 - BUSINESS SEGMENT DATA (Continued)
| Predecessor
Reorganized Company | Company
------------------------------------ | ------------
Three months Three months Six months | Three months
ended ended ended | ended
June 30, June 30, June 30, | March 31,
2002 2001 2002 | 2001
------------ ------------ ---------- | ------------
Rent: |
Health services division: |
Nursing centers............ $42,098 $40,190 $ 83,384 | $ 44,253
Rehabilitation services.... 14 27 28 | 39
Other ancillary services... - 3 - | -
------- ------- ---------- | ----------
42,112 40,220 83,412 | 44,292
Hospital division: |
Hospitals.................. 24,675 22,917 48,011 | 30,839
Pharmacy................... 968 968 1,910 | 941
------- ------- ---------- | ----------
25,643 23,885 49,921 | 31,780
Corporate.................... 63 475 96 | 923
------- ------- ---------- | ----------
$67,818 $64,580 $ 133,429 | $ 76,995
======= ======= ========== | ==========
Depreciation and amortization: |
Health services division: |
Nursing centers............ $ 6,149 $ 5,055 $ 12,226 | $ 7,219
Rehabilitation services.... 6 11 14 | -
Other ancillary services... - - - | 129
------- ------- ---------- | ----------
6,155 5,066 12,240 | 7,348
Hospital division: |
Hospitals.................. 6,638 5,690 12,999 | 5,457
Pharmacy................... 628 447 1,171 | 627
------- ------- ---------- | ----------
7,266 6,137 14,170 | 6,084
Corporate.................... 3,992 4,683 7,699 | 5,213
------- ------- ---------- | ----------
$17,413 $15,886 $ 34,109 | $ 18,645
======= ======= ========== | ==========
Capital expenditures: |
Health services division..... $ 4,728 $ 4,529 $ 6,844 | $ 7,962
Hospital division............ 7,212 8,644 10,924 | 8,901
Corporate: |
Information systems........ 6,632 3,135 9,962 | 3,496
Other...................... 787 9,331 1,497 | 1,679
------- ------- ---------- | ----------
$19,359 $25,639 $ 29,227 | $ 22,038
======= ======= ========== | ==========
Reorganized Company
----------- ------------
June 30, December 31,
2002 2001
Assets: ---------- ------------
Health services division............................. $ 442,123 $ 392,938
Hospital division.................................... 605,332 497,057
Corporate............................................ 555,522 618,879
---------- ----------
$1,602,977 $1,508,874
========== ==========
Goodwill:
Health services division............................. $ 56,468
Hospital division.................................... 79,805
----------
$ 136,273
==========
13
KINDRED HEALTHCARE, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Unaudited)
NOTE 8 - LONG-TERM DEBT
On April 11, 2002, the Company announced that it had amended the terms of
its revolving credit facility and senior secured notes. The more significant
changes to these agreements allow the Company to make acquisitions and
investments in healthcare facilities up to an aggregate amount of $130 million
compared to $30 million before the amendments. In addition, the amendments
allow the Company to borrow up to $45 million under the revolving credit
facility to finance future acquisitions and investments in healthcare
facilities. The amount of credit under the revolving credit facility, which was
reduced to $75 million in connection with the Company's equity offering in the
fourth quarter of 2001, was restored to the $120 million level that was in
effect prior to the offering. The amendments also allow the Company to pay cash
dividends or repurchase its common stock in limited amounts based upon certain
annual liquidity calculations. Finally, the Company agreed to certain revised
financial covenants, none of which are expected to materially affect its
financial flexibility. Other material terms of the credit agreements, including
maturities, repayment terms and rates of interest, were unchanged.
On May 30, 2001, the Company prepaid the outstanding balance in full
satisfaction of its obligation under a loan repayment agreement with the
Centers for Medicare and Medicaid Services ("CMS"), resulting in an
extraordinary gain of $1.4 million.
NOTE 9 - STOCKHOLDERS' EQUITY
On April 16, 2002, the stockholders of the Company approved an increase in
the number of authorized shares of common stock from 39,000,000 to 175,000,000.
The stockholders also approved an additional 1,200,000 shares of common stock
that could be issued under the Company's incentive compensation plans.
NOTE 10 - LITIGATION
Summary descriptions of various significant legal and regulatory activities
follow.
The Company's subsidiary, formerly named TheraTx, Incorporated ("TheraTx"),
is a plaintiff in a declaratory judgment action entitled TheraTx, Incorporated
v. James W. Duncan, Jr., et al., No. 1:95-CV-3193, filed in the United States
District Court for the Northern District of Georgia. The defendants asserted
counterclaims against TheraTx under breach of contract, securities fraud,
negligent misrepresentation and other fraud theories for allegedly not
performing as promised under a merger agreement related to TheraTx's purchase
of a company called PersonaCare, Inc. and for allegedly failing to inform the
defendants/counterclaimants prior to the merger that TheraTx's possible
acquisition of Southern Management Services, Inc. might cause the suspension of
TheraTx's shelf registration under relevant rules of the Commission. The court
granted summary judgment for the defendants/counterclaimants and ruled that
TheraTx breached the shelf registration provision in the merger agreement, but
dismissed the defendants' remaining counterclaims. Additionally, the court
ruled after trial that defendants/counterclaimants were entitled to damages and
prejudgment interest in the amount of approximately $1.3 million and attorneys'
fees and other litigation expenses of approximately $700,000. The Company and
the defendants/counterclaimants both appealed the court's rulings. The United
States Court of Appeals for the Eleventh Circuit (the "Eleventh Circuit")
affirmed the trial court's rulings in TheraTx's favor, with the exception of
the damages award, and certified the question of the proper calculation of
damages under Delaware law to the Delaware Supreme Court. The Delaware Supreme
Court issued an opinion on June 1, 2001, which sets forth a rule for
determining such damages but did not calculate any actual damages. On June 25,
2001, the Eleventh Circuit remanded the action to the trial court to render a
decision consistent with the Delaware Supreme Court's ruling. On July 24, 2001,
the defendants filed a Notice of Bankruptcy Stay in the trial court. The
Company is defending the action vigorously.
14
KINDRED HEALTHCARE, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Unaudited)
NOTE 10 - LITIGATION (Continued)
On August 13, 2001, the Company and TheraTx filed an Objection and Complaint
in an action entitled Vencor, Inc. and TheraTx Inc. v. James W. Duncan, et al.,
Adversary Proceeding No. 01-6117 (MFW), in the Bankruptcy Court. The complaint
seeks to subordinate and disallow the defendants' bankruptcy claim or,
alternatively, to reduce the claim by and recover from the defendants a
preferential payment made by the debtors to the defendants. The complaint also
seeks an injunction against any efforts by the defendants to enforce the
judgment ultimately granted in the above related litigation pending in the
Northern District of Georgia.
The Company is pursuing various claims against private insurance companies
who issued Medicare supplement insurance policies to individuals who became
patients of the Company's hospitals. After the patients' Medicare benefits are
exhausted, the insurance companies become liable to pay the insureds' bills
pursuant to the terms of these policies. The Company has filed numerous
collection actions against various of these insurers to collect the difference
between what Medicare would have paid and the hospitals' usual and customary
charges. These disputes arise from differences in interpretation of the policy
provisions and federal and state laws governing such policies. Various courts
have issued various rulings on the different issues, some of which have been
adverse to the Company and most of which have been appealed. The Company
intends to continue to pursue these claims vigorously.
A class action lawsuit entitled A. Carl Helwig v. Vencor, Inc., et al., was
filed on December 24, 1997 in the United States District Court for the Western
District of Kentucky (Civil Action No. 3-97CV-8354). The class action claims
were brought by an alleged stockholder of the Company's predecessor, Ventas,
Inc. ("Ventas"), against the Company and Ventas and certain of the Company's
and Ventas's current and former executive officers and directors. The complaint
alleges that the Company, Ventas and certain of the Company's and Ventas's
current and former executive officers during a specified time frame violated
Sections 10(b) and 20(a) of the Securities Exchange Act of 1934 (the "Exchange
Act"), by, among other things, issuing to the investing public a series of
false and misleading statements concerning Ventas's then current operations and
the inherent value of its common stock. The complaint further alleges that as a
result of these purported false and misleading statements concerning Ventas's
revenues and successful acquisitions, the price of its common stock was
artificially inflated. In particular, the complaint alleges that the defendants
issued false and misleading financial statements during the first, second and
third calendar quarters of 1997 which misrepresented and understated the impact
that changes in Medicare reimbursement policies would have on Ventas's core
services and profitability. The complaint further alleges that the defendants
issued a series of materially false statements concerning the purportedly
successful integration of Ventas's acquisitions and prospective earnings per
share for 1997 and 1998 which the defendants knew lacked any reasonable basis
and were not being achieved. The suit seeks damages in an amount to be proven
at trial, pre-judgment and post-judgment interest, reasonable attorneys' fees,
expert witness fees and other costs, and any extraordinary equitable and/or
injunctive relief permitted by law or equity to assure that the plaintiff has
an effective remedy. In December 1998, the defendants filed a motion to dismiss
the case. The court converted the defendants' motion to dismiss into a motion
for summary judgment and granted summary judgment as to all defendants. The
plaintiff appealed the ruling to the United States Court of Appeals for the
Sixth Circuit (the "Sixth Circuit"). On April 24, 2000, the Sixth Circuit
affirmed the district court's dismissal of the action on the grounds that the
plaintiff failed to state a claim upon which relief could be granted. On July
14, 2000, the Sixth Circuit granted the plaintiff's petition for a rehearing en
banc. On May 31, 2001, the Sixth Circuit issued its en banc decision reversing
the trial court's dismissal of the complaint. The defendants filed a Petition
for Certiorari seeking review of the Sixth Circuit's decision in the United
States Supreme Court on September 27, 2001. The parties entered into a
stipulation and agreement of settlement of this action on December 26, 2001,
which was subject to approval by the federal district court. The settlement
payment to the certified class will be $3 million, which will include the costs
of administration and plaintiffs' attorney fees, plus interest, and will be
paid by the defendants' directors and officers insurance carrier. On May 13,
2002, the federal
15
KINDRED HEALTHCARE, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Unaudited)
NOTE 10 - LITIGATION (Continued)
district court conducted a fairness hearing and approved the settlement. In
June 2002, the federal district court's order approving the settlement and
dismissing the lawsuit became non-appealable, and the United States Supreme
Court dismissed the Petition for Certiorari.
A shareholder derivative suit entitled Thomas G. White on behalf of Vencor,
Inc. and Ventas, Inc. v. W. Bruce Lunsford, et al., Case No. 98CI03669, was
filed on July 2, 1998 in the Jefferson County, Kentucky, Circuit Court. The
suit was brought on behalf of the Company and Ventas against certain current
and former executive officers and directors of the Company and Ventas. The
complaint alleges that the defendants damaged the Company and Ventas by
engaging in violations of the securities laws, engaging in insider trading,
fraud and securities fraud and damaging the Company's reputation and that of
Ventas. The plaintiff asserts that such actions were taken deliberately, in bad
faith and constitute breaches of the defendants' duties of loyalty and due
care. The complaint is based on substantially similar assertions to those made
in the class action lawsuit entitled A. Carl Helwig v. Vencor, Inc., et al.,
discussed above. The suit seeks unspecified damages, interest, punitive
damages, reasonable attorneys' fees, expert witness fees and other costs, and
any extraordinary equitable and/or injunctive relief permitted by law or equity
to assure that the Company and Ventas have an effective remedy. The Company
believes that the allegations in the complaint are without merit and intends to
defend this action vigorously.
In connection with the Company's spin-off from Ventas in 1998, liabilities
arising from various legal proceedings and other actions were assumed by the
Company and the Company agreed to indemnify Ventas against any losses,
including any costs or expenses, it may incur arising out of or in connection
with such legal proceedings and other actions. The indemnification provided by
the Company also covers losses, including costs and expenses, which may arise
from any future claims asserted against Ventas based on the former healthcare
operations of Ventas. In connection with the Company's indemnification
obligation, the Company assumed the defense of various legal proceedings and
other actions. Under the Plan of Reorganization, the Company agreed to continue
to fulfill its indemnification obligations arising from the spin-off.
The Company is a party to certain legal actions and regulatory
investigations arising in the normal course of the Company's business. The
Company is unable to predict the ultimate outcome of pending litigation and
regulatory investigations. In addition, there can be no assurance that the U.S.
Department of Justice, CMS or other state and federal regulatory agencies will
not initiate additional investigations related to the Company's businesses in
the future, nor can there be any assurance that the resolution of any
litigation or investigations, either individually or in the aggregate, would
not have a material adverse effect on the Company's results of operations,
liquidity or financial position. In addition, the above litigation and
investigations (as well as future litigation and investigations) are expected
to consume the time and attention of management and may have a disruptive
effect upon the Company's operations.
NOTE 11 - SUBSEQUENT EVENT
On April 20, 2001, the Company announced that PricewaterhouseCoopers LLP
("PwC") had advised the Company that certain non-audit services provided to the
Company during PwC's engagement as the Company's independent accountants by a
subsidiary of PwC in connection with the Company's efforts to sell an equity
investment raised an issue as to PwC's independence. PwC disclosed the
situation to the Commission. On July 17, 2002, the Commission announced that it
had reached a settlement with PwC on this and other matters. As a result of the
settlement, the Company believes that this issue will have no impact on the
Company's past or future filings with the Commission or other third parties.
16
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
Cautionary Statement
This Form 10-Q includes forward-looking statements within the meaning of
Section 27A of the Securities Act of 1933, as amended, and Section 21E of the
Exchange Act, as amended. All statements regarding the Company's expected
future financial position, results of operations, cash flows, financing plans,
business strategy, budgets, capital expenditures, competitive positions, growth
opportunities, plans and objectives of management and statements containing the
words such as "anticipate," "approximate," "believe," "plan," "estimate,"
"expect," "projected," "could," "should," "will," "intend," "may" and other
similar expressions, are forward-looking statements.
Such forward-looking statements are inherently uncertain, and stockholders
and other potential investors must recognize that actual results may differ
materially from the Company's expectations as a result of a variety of factors,
including, without limitation, those discussed below. Such forward-looking
statements are based on management's current expectations and include known and
unknown risks, uncertainties and other factors, many of which the Company is
unable to predict or control, that may cause the Company's actual results or
performance to differ materially from any future results or performance
expressed or implied by such forward-looking statements. These statements
involve risks, uncertainties and other factors detailed from time to time in
the Company's filings with the Commission.
Factors that may affect the plans or results of the Company include, without
limitation, (a) the ability of the Company to operate pursuant to the terms of
its debt obligations and its master lease agreements with Ventas; (b) the
Company's ability to meet its rental and debt service obligations; (c) adverse
developments with respect to the Company's liquidity or results of operations;
(d) the ability of the Company to attract and retain key executives and other
healthcare personnel; (e) increased operating costs due to shortages in
qualified nurses and other healthcare professionals; (f) the effects of
healthcare reform and government regulations, interpretation of regulations and
changes in the nature and enforcement of regulations governing the healthcare
industry; (g) changes in the reimbursement rates or methods of payment from
third-party payors, including the Medicare and Medicaid programs and the newly
proposed prospective payment system for long-term acute care hospitals;
(h) national and regional economic conditions, including their effect on the
availability and cost of labor, materials and other services; (i) the Company's
ability to control costs, including labor and employee benefit costs, in
response to the prospective payment systems, implementation of the Company's
Corporate Integrity Agreement and other regulatory actions; (j) the ability of
the Company to comply with the terms of its Corporate Integrity Agreement; (k)
the effect of a restatement of the Company's previously issued consolidated
financial statements; (l) the Company's ability to integrate operations of
acquired facilities; and (m) the increase in the costs of defending and
insuring against alleged patient care liability claims. Many of these factors
are beyond the control of the Company and its management. The Company cautions
investors that any forward-looking statements made by the Company are not
guarantees of future performance. The Company disclaims any obligation to
update any such factors or to announce publicly the results of any revisions to
any of the forward-looking statements to reflect future events or developments.
General
The business segment data in Note 7 of the Notes to Condensed Consolidated
Financial Statements should be read in conjunction with the following
discussion and analysis.
The Company provides long-term healthcare services primarily through the
operation of nursing centers and hospitals. At June 30, 2002, the Company's
health services division operated 288 nursing centers (37,637 licensed beds) in
32 states and a rehabilitation therapy business. The Company's hospital
division operated 63 hospitals (5,276 licensed beds) in 24 states and an
institutional pharmacy business.
17
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (Continued)
General (Continued)
On April 1, 2002, the Company completed the Specialty Acquisition. See Note
3 of the Notes to Condensed Consolidated Financial Statements.
On April 20, 2001, the Company and its subsidiaries emerged from the
proceedings under Chapter 11 of Title 11 of the Bankruptcy Code pursuant to the
terms of the Plan of Reorganization.
From September 13, 1999 until April 20, 2001, the Company operated its
businesses as a debtor-in-possession subject to the jurisdiction of the
Bankruptcy Court. Accordingly, the consolidated financial statements of the
Company were prepared in accordance with SOP 90-7 and generally accepted
accounting principles applicable to a going concern, which assumed that assets
would be realized and liabilities would be discharged in the normal course of
business.
In connection with its emergence from bankruptcy, the Company reflected the
terms of the Plan of Reorganization in its consolidated financial statements by
adopting the fresh-start accounting provisions of SOP 90-7. Under fresh-start
accounting, a new reporting entity is deemed to be created and the recorded
amounts of assets and liabilities are adjusted to reflect their estimated fair
values. For accounting purposes, the fresh-start adjustments were recorded in
the Company's consolidated financial statements as of April 1, 2001. Since
fresh-start accounting materially changed the amounts previously recorded in
the Company's consolidated financial statements, a black line separates the
post-emergence financial data from the pre-emergence financial data to signify
the difference in the basis of preparation of the financial statements for each
respective entity.
Comparability of Financial Information
While the adoption of fresh-start accounting as of April 1, 2001 materially
changed the amounts previously recorded in the consolidated financial
statements of the Predecessor Company, management believes that business
segment operating income of the Predecessor Company is generally comparable to
that of the Reorganized Company. However, capital costs (rent, interest,
depreciation and amortization) of the Predecessor Company that were based on
pre-petition contractual agreements and historical costs are not comparable to
those of the Reorganized Company. In addition, the reported financial position
and cash flows of the Predecessor Company for periods prior to April 1, 2001
generally are not comparable to those of the Reorganized Company.
In connection with the implementation of fresh-start accounting, the Company
recorded an extraordinary gain of $422.8 million from the restructuring of its
debt in accordance with the provisions of the Plan of Reorganization. Other
significant adjustments also were recorded to reflect the provisions of the
Plan of Reorganization and the fair values of the assets and liabilities of the
Reorganized Company as of April 1, 2001. For accounting purposes, these
transactions have been reflected in the operating results of the Predecessor
Company for the three months ended March 31, 2001.
Regulatory Changes
The Balanced Budget Act of 1997 (the "Budget Act") contained extensive
changes to the Medicare and Medicaid programs intended to reduce the projected
amount of increase in payments under those programs over a five year period.
Virtually all spending reductions were derived from reimbursements to providers
and changes in program components. The Budget Act has affected adversely the
revenues in each of the Company's operating divisions.
The Budget Act established a Medicare prospective payment system ("PPS") for
nursing centers for cost reporting periods beginning on or after July 1, 1998.
All of the Company's nursing centers adopted PPS on
18
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (Continued)
Regulatory Changes (Continued)
July 1, 1998. During the first three years, the per diem rates for nursing
centers were based on a blend of facility-specific costs and federal rates.
Effective July 1, 2001, the per diem rates are based solely on federal rates.
The payments received under PPS cover substantially all services for Medicare
patients including all ancillary services, such as respiratory therapy,
physical therapy, occupational therapy, speech therapy and certain covered
pharmaceuticals.
The Budget Act also reduced payments made to the Company's hospitals by
reducing incentive payments pursuant to the Tax Equity and Fiscal
Responsibility Act of 1982 ("TEFRA"), allowable costs for capital expenditures
and bad debts, and payments for services to patients transferred from a general
acute care hospital. These reductions have had a material adverse impact on
hospital revenues. In addition, these reductions also may affect adversely the
hospital division's ability to develop or acquire additional free-standing,
long-term acute care hospitals in the future.
Under PPS, the volume of ancillary services provided per patient day to
nursing center patients also has declined dramatically. Medicare reimbursements
to nursing centers under PPS include substantially all services provided to
patients, including ancillary services. Prior to the implementation of PPS, the
costs of such services were reimbursed under cost-based reimbursement rules.
The decline in the demand for ancillary services since the implementation of
PPS was mostly attributable to efforts by nursing centers to reduce operating
costs. As a result, many nursing centers have elected to provide ancillary
services to their patients through internal staff. In response to PPS and a
significant decline in the demand for ancillary services, the Company realigned
its former ancillary services division in 1999 by integrating the physical
rehabilitation, speech and occupational therapy businesses into the health
services division and assigning the institutional pharmacy business to the
hospital division. The Company's respiratory therapy and other ancillary
businesses were discontinued.
Various legislative and regulatory actions have provided a measure of relief
from the impact of the Budget Act. Effective April 1, 2000, the Balanced Budget
Refinement Act (the "BBRA") (a) implemented a 20% upward adjustment in the
payment rates for the care of higher acuity patients and (b) allowed nursing
centers to transition more rapidly to the federal payment rates. The BBRA also
imposed a two-year moratorium on certain therapy limitations for skilled
nursing center patients covered under Medicare Part B. Effective October 1,
2000, the BBRA increased all PPS payment categories by 4% through September 30,
2002.
The 20% upward adjustment in the payment rates for the care of higher acuity
patients under the BBRA will remain in effect until a revised Resource
Utilization Grouping ("RUG") payment system is established by CMS. On April 23,
2002, CMS announced that it will further delay the establishment of a revised
RUG classification system. Accordingly, the 20% upward adjustment for certain
higher acuity RUG categories set forth in the BBRA will be extended until the
RUG refinements are enacted. Nursing center revenues associated with the 20%
upward adjustment approximated $10 million in the second quarter of 2002.
In December 2000, the Medicare, Medicaid, and State Child Health Insurance
Program Benefits Improvement and Protection Act of 2000 ("BIPA") was enacted to
provide up to $35 billion in additional funding to the Medicare and Medicaid
programs over the next five years. Under BIPA, the nursing component for each
RUG category increased by 16.66% over the existing rates for skilled nursing
care for the period April 1, 2001 through September 30, 2002. BIPA also
provided some relief from scheduled reductions to the annual inflation
adjustments to the RUG payment rates through September 2002. In addition, BIPA
extended the two-year moratorium on therapy limitations for skilled nursing
center patients under the BBRA through December 31, 2002.
19
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (Continued)
Regulatory Changes (Continued)
In addition, BIPA slightly increased payments for inpatient services and
TEFRA incentive payments for long-term acute care hospitals. Allowable costs
for bad debts also were increased by 15%. Both of these provisions became
effective for cost reporting periods beginning on or after September 1, 2001.
Despite the recent legislation and regulatory actions discussed above,
Medicare revenues recorded under PPS in the Company's health services division
are less than the cost-based reimbursement it received before the enactment of
the Budget Act. In addition, the recent legislation did not impact materially
the reductions in Medicare revenues received by the Company's hospitals as a
result of the Budget Act. Furthermore, there can be no assurance that the
increased revenues from BIPA and certain provisions of the BBRA will continue
after September 30, 2002.
There continue to be legislative and regulatory proposals that would impose
more limitations on government and private payments to providers of healthcare
services. Congress has directed the Secretary of the U.S. Department of Health
and Human Services (the "Secretary") to develop a prospective payment system
applicable specifically to long-term acute care hospitals. On March 22, 2002,
CMS issued proposed regulations for a prospective payment system covering
long-term acute care providers. The proposed effective date for the new rules
is October 1, 2002. Because of the Company's Medicare cost reporting periods,
this new payment system is not expected to impact the Company's hospitals until
September 1, 2003. If the Secretary is unable to implement a prospective
payment system specific to long-term acute care hospitals by October 1, 2002,
Congress has directed the Secretary to implement, as of such date, a
prospective payment system for long-term acute care hospitals based upon
existing hospital diagnosis-related groups modified where feasible to account
for resource use of long-term acute care hospital patients. The Company cannot
predict the content or timing of the final prospective payment regulations or
their impact on the Company's hospitals. There can be no assurance that such
regulations will not have a material adverse impact on the Company's results of
operations, liquidity or financial position.
By repealing the Boren Amendment, the Budget Act eased existing impediments
on the ability of states to reduce their Medicaid reimbursement levels. Many
states are considering or have enacted measures that are designed to reduce
their Medicaid expenditures and to make certain changes to private healthcare
insurance. Some states also are considering regulatory changes that include a
moratorium on the designation of additional long-term care hospitals.
Additionally, regulatory changes in the Medicaid reimbursement system
applicable to the Company's hospitals and pharmacies are being considered.
There also are legislative proposals including cost caps and the establishment
of Medicaid prospective payment systems for nursing centers.
The Company could be affected adversely by the continuing efforts of
governmental and private third-party payors to contain healthcare costs. There
can be no assurance that payments under governmental and private third-party
payor programs will remain at levels comparable to present levels or will be
sufficient to cover the costs allocable to patients eligible for reimbursement
pursuant to such programs. In addition, there can be no assurance that
facilities operated by the Company, or the provision of services and supplies
by the Company, will meet the requirements for participation in such programs.
There can be no assurance that future healthcare legislation or other
changes in the administration or interpretation of governmental healthcare
programs will not have a material adverse effect on the Company's results of
operations, liquidity or financial position.
20
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (Continued)
Results of Operations
Second Quarter 2002 compared to Second Quarter 2001
Health Services Division - Nursing Centers
Revenues increased 4% to $461 million in the second quarter of 2002 from
$444 million in the same quarter of 2001. Average daily patient census was
relatively unchanged from last year. The increase in revenues was attributable
to increased Medicare and Medicaid funding and price increases to private
payors. Medicaid revenues per patient day increased 3% in the second quarter of
2002, while private rates grew 1% compared to the second quarter of 2001.
Medicare revenues per patient day grew 4% to $358 in the second quarter of 2002
compared to $344 in the second quarter a year ago. Funding received by the
Company's nursing center under the provisions of the BBRA approximated $15
million in the second quarter of 2002 and $11 million in the second quarter of
2001. Revenues associated with BIPA aggregated approximately $10 million in the
second quarter of both periods.
Nursing center operating income was $81 million for the second quarter of
2002 compared to $79 million for the second quarter last year. Operating
margins for the second quarter of 2002 were 17.6%, relatively unchanged from
17.7% last year. Aggregate operating costs increased 4% in the second quarter
of 2002 compared to the same quarter last year. Labor costs in the second
quarter of 2002 grew approximately 4% primarily as a result of wage pressures,
while employee health benefit costs rose to $17 million in the second quarter
of 2002 compared to $12 million last year, and professional liability costs
increased to $15 million from $14 million in the second quarter of 2001.
Health Services Division - Rehabilitation Services
Revenues declined 7% to $9 million for the second quarter of 2002. Operating
income totaled $2 million for both periods. While the health services division
will continue to provide rehabilitation services to nursing center customers,
revenues related to these services may continue to decline.
Health Services Division - Other Ancillary Services
Other ancillary services refers to certain ancillary businesses (primarily
respiratory therapy) that were discontinued as part of the realignment of the
Company's former ancillary services business in a prior year.
Hospital Division - Hospitals
Revenues increased 17% to $323 million in the second quarter of 2002 from
$276 million in the same period a year ago. The Specialty Acquisition generated
approximately $21 million in revenues during the second quarter of 2002.
Patient days increased 14% from the same period a year ago. On a same-store
basis, revenues increased 8% and patient days increased 3%. The increase in
same-store revenues was primarily attributable to growth in volumes and a 4%
growth in aggregate revenues per patient day, most of which was attributable to
increased Medicare funding. Same-store revenues per patient day from private
payors increased 2% from the second quarter of 2001.
Hospital operating income totaled $62 million in the second quarter of 2002
compared to $56 million last year. The Specialty Acquisition generated
approximately $3 million in operating income during the second quarter of 2002.
Hospital operating margins declined to 19.3% in the second quarter of 2002 from
20.2% in the second quarter of 2001, primarily as a result of growth in labor
and benefit costs. On a per patient day basis, labor and benefit costs
increased 7% to $544 in the second quarter of 2002 from $508 in the second
quarter of 2001. The rise in labor and benefit costs was primarily attributable
to increased rates of pay necessary to attract and retain qualified nurses and
other healthcare professionals and the increased use of contract labor.
Hospital operating margins may continue to decline in the future as a result of
these wage and benefit cost pressures. Professional liability costs increased
to $3 million in the second quarter of 2002 from $1 million in the same period
last year.
21
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (Continued)
Results of Operations (Continued)
Hospital Division - Pharmacy
Revenues increased 10% to $62 million in the second quarter of 2002 compared
to $57 million a year ago. The increase resulted primarily from growth in the
number of nursing center customers and price increases. At June 30, 2002, the
Company provided pharmacy services to nursing centers containing 57,700
licensed beds, including 30,600 licensed beds operated by the Company. At June
30, 2001, the Company provided pharmacy services to nursing centers containing
51,900 licensed beds, including 29,800 licensed beds operated by the Company.
Pharmacy operating income totaled $6 million for both periods. Despite
increases in revenues, pharmacy operating margins declined to 9.8% in the
second quarter of 2002 compared to 10.7% last year. The cost of goods sold as a
percentage of revenues increased to 61.3% in the second quarter of 2002 from
60.9% in 2001. Operating margins also were negatively impacted by an increase
in the provision for doubtful accounts in the second quarter of 2002 compared
to the same period of 2001.
Corporate Overhead
Operating income for the Company's operating divisions excludes allocation
of corporate overhead. These costs aggregated $30 million in the second quarter
of 2002 and $27 million a year ago. As a percentage of revenues (before
eliminations), the overhead ratio was 3.6% in the second quarter of 2002
compared to 3.5% in the same period of 2001.
Capital Costs
Capital costs for the second quarter of 2002 and 2001 reflected the terms of
the Plan of Reorganization and included the effects of the Company's
restructured rent and debt obligations. Depreciation and amortization were
recorded based on asset carrying amounts that were adjusted in fresh-start
accounting to reflect fair value on April 1, 2001.
Interest expense in the second quarter of 2002, substantially all of which
relates to the Company's floating rate senior secured notes, aggregated $4
million. The reduction in interest costs from last year's second quarter
resulted from prepayments of long-term debt and reductions in interest rates.
At June 30, 2002, the effective interest rate of the senior secured notes was
5.7%.
Investment income related to the Company's excess cash balances and
insurance subsidiary investments totaled $3 million in the second quarter of
both 2002 and 2001. Investment income for the second quarter of 2002 included
approximately $1 million related to the release of surety bond collateral.
As discussed in Note 1 of the Notes to Condensed Consolidated Financial
Statements, the Company adopted the provisions of SFAS 142, which, among other
things, required that goodwill should no longer be amortized effective January
1, 2002. The adoption of this new pronouncement increased second quarter 2002
net income by approximately $1.8 million.
Consolidated Results
The Company reported pretax income of $40 million for the second quarter of
2002 compared to $29 million for the second quarter of 2001. Income from
operations in the second quarter of 2002 aggregated $24 million compared to $16
million in the second quarter of 2001.
22
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (Continued)
Results of Operations (Continued)
Consolidated Results (Continued)
Operating results for both periods included certain unusual items. For the
second quarter of 2002, operating results included income of $5.5 million ($3.4
million net of tax) resulting from changes in estimates for accrued
professional and administrative costs related to the Company's emergence from
bankruptcy. The Company also recorded a lease termination charge of $0.5
million ($0.3 million net of tax) in the second quarter of 2002 related to an
unprofitable hospital. Operating results for the second quarter of 2001
reflected an extraordinary gain on extinguishment of debt aggregating $1.4
million.
Liquidity
Cash flows from operations before reorganization items aggregated $93
million for the second quarter of 2002 compared to $65 million for the same
period a year ago. Operating cash flows in both periods were sufficient to fund
the Company's routine capital expenditures. During both periods, the Company
maintained excess cash balances. In the second quarter of 2002, approximately
$46 million of these balances were used to finance the Specialty Acquisition.
In the second quarter last year, excess cash balances were used to prepay
long-term debt and fund reorganization costs.
Cash and cash equivalents totaled $212 million at June 30, 2002. Based upon
existing cash levels, expected operating cash flows and capital spending, and
the availability of borrowings under the revolving credit facility, the Company
believes that it has the necessary financial resources to satisfy its expected
liquidity needs on both a short-term and long-term basis.
On April 11, 2002, the Company announced that it had amended the terms of
its revolving credit facility and senior secured notes. The more significant
changes to these agreements allow the Company to make acquisitions and
investments in healthcare facilities up to an aggregate amount of $130 million
compared to $30 million before the amendments. In addition, the amendments
allow the Company to borrow up to $45 million under the revolving credit
facility to finance future acquisitions and investments in healthcare
facilities. The amount of credit under the revolving credit facility, which was
reduced to $75 million in connection with the Company's equity offering in the
fourth quarter of 2001, was restored to the $120 million level that was in
effect prior to the offering. The amendments also allow the Company to pay cash
dividends or repurchase its common stock in limited amounts based upon certain
annual liquidity calculations. Finally, the Company agreed to certain revised
financial covenants, none of which are expected to materially affect its
financial flexibility. Other material terms of the credit agreements, including
maturities, repayment terms and rates of interest, were unchanged.
At June 30, 2002, the Company was in compliance with the terms of its
revolving credit facility and senior secured notes.
Capital Resources
Including the Specialty Acquisition, capital expenditures totaled $65
million and $26 million for the three months ended June 30, 2002 and 2001,
respectively. Routine capital expenditures could approximate $75 million in
2002. Management believes that its capital expenditure program is adequate to
improve and equip existing facilities.
Capital expenditures in both periods were financed primarily through
internally generated funds. At June 30, 2002, the estimated cost to complete
and equip construction in progress approximated $9 million.
The terms of the Company's revolving credit facility and senior secured
notes include certain covenants which limit the Company's annual capital
expenditures. In addition, these agreements limit the Company's ability to
transfer funds to the parent company, repurchase common stock or pay cash
dividends.
23
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (Continued)
Other Information
Effects of Inflation and Changing Prices
The Company derives a substantial portion of its revenues from the Medicare
and Medicaid programs. In recent years, significant cost containment measures
enacted by Congress and certain state legislatures have limited the Company's
ability to recover its cost increases through increased pricing of its
healthcare services. Medicare revenues in the Company's nursing centers are
subject to fixed payments under PPS. Medicaid reimbursement rates in many
states in which the Company operates nursing centers also are based on fixed
payment systems. Generally, these rates are adjusted annually for inflation,
but may not reflect the actual increase in the costs of providing services. In
addition, by repealing the Boren Amendment, the Budget Act eased existing
impediments on the ability of states to reduce their Medicaid reimbursement
levels to the Company's nursing centers. Medicare revenues in the Company's
hospitals also have been reduced by the Budget Act.
Beginning in 2000, the BBRA provided a measure of relief to the Medicare
reimbursement reductions imposed by the Budget Act. Effective April 1, 2001,
BIPA provided additional Medicare reimbursement to the Company's nursing
centers and hospitals. The Company believes that the provisions of the BBRA and
BIPA will have a positive effect on its operating results in 2002, particularly
in the health services division. However, the 4% increase in all PPS payments
under the BBRA and the 16.66% increase in the skilled nursing care component of
each RUG category under BIPA are scheduled to expire on September 30, 2002.
There can be no assurance that these Medicare reimbursement increases will
continue after September 30, 2002.
Management believes that the Company's operating margins may continue to be
under pressure because of continuing regulatory scrutiny and growth in
operating expenses, particularly labor, employee benefits and professional
liability costs, in excess of increases in payments by third-party payors. In
addition, as a result of competitive pressures, the Company's ability to
maintain operating margins through price increases to private patients is
limited.
Recent Accounting Pronouncements
In July 2002, the FASB issued SFAS 146 which provides guidance related to
the recognition, measurement, and reporting of costs that are associated with
exit and disposal activities, including costs related to terminating a contract
that is not a capital lease and certain involuntary termination benefits. SFAS
146 supersedes EITF No. 94-3 and requires liabilities associated with exit and
disposal activities to be expensed as incurred. SFAS 146 will be effective for
exit and disposal activities of the Company that are initiated after December
31, 2002.
Litigation
The Company is a party to certain material litigation. See Note 10 of the
Notes to Condensed Consolidated Financial Statements.
24
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (Continued)
Condensed Consolidated Statement of Operations
(Unaudited)
(In thousands, except per share amounts)
Predecessor | Reorganized Company
Company | ------------------------------------------------
----------- | 2001 2002
First | ---------------------------- ------------------
Quarter | Second Third Fourth First Second
2001 | Quarter Quarter Quarter Quarter Quarter
----------- | -------- -------- -------- -------- --------
Revenues............................. $752,409 | $770,764 $768,680 $789,575 $811,244 $838,573
-------- | -------- -------- -------- -------- --------
Salaries, wages and benefits......... 427,649 | 432,182 436,196 448,203 467,401 478,520
Supplies............................. 94,319 | 96,043 97,089 102,466 101,314 105,431
Rent................................. 76,995 | 64,580 65,233 65,471 65,611 67,818
Other operating expenses............. 126,701 | 127,655 123,000 124,435 127,297 134,045
Depreciation and amortization........ 18,645 | 15,886 16,768 17,565 16,696 17,413
Interest expense..................... 14,000 | 8,463 7,523 5,754 3,732 3,818
Investment income.................... (1,919) | (3,438) (3,210) (2,637) (1,880) (3,400)
-------- | -------- -------- -------- -------- --------
756,390 | 741,371 742,599 761,257 780,171 803,645
-------- | -------- -------- -------- -------- --------
Income (loss) before reorganization |
items and income taxes............. (3,981) | 29,393 26,081 28,318 31,073 34,928
Reorganization items................. (53,666) | - - - - (5,520)
-------- | -------- -------- -------- -------- --------
Income before income taxes........... 49,685 | 29,393 26,081 28,318 31,073 40,448
Provision for income taxes........... 500 | 12,904 11,282 12,264 12,895 16,786
-------- | -------- -------- -------- -------- --------
Income from operations............ 49,185 | 16,489 14,799 16,054 18,178 23,662
Extraordinary gain on extinguishment |
of debt............................ 422,791 | 1,396 - 2,917 - -
-------- | -------- -------- -------- -------- --------
Net income........................ 471,976 | 17,885 14,799 18,971 18,178 23,662
Preferred stock dividend |
requirements....................... (261) | - - - - -
-------- | -------- -------- -------- -------- --------
Income available to common |
stockholders.................... $471,715 | $ 17,885 $ 14,799 $ 18,971 $ 18,178 $ 23,662
======== | ======== ======== ======== ======== ========
Earnings per common share: |
Basic: |
Income from operations............ $ 0.69 | $ 1.09 $ 0.97 $ 0.99 $ 1.05 $ 1.36
Extraordinary gain on |
extinguishment of debt.......... 6.02 | 0.09 - 0.18 - -
-------- | -------- -------- -------- -------- --------
Net income...................... $ 6.71 | $ 1.18 $ 0.97 $ 1.17 $ 1.05 $ 1.36
======== | ======== ======== ======== ======== ========
Diluted: |
Income from operations............ $ 0.69 | $ 1.00 $ 0.80 $ 0.83 $ 0.95 $ 1.21
Extraordinary gain on |
extinguishment of debt.......... 5.90 | 0.08 - 0.15 - -
-------- | -------- -------- -------- -------- --------
Net income...................... $ 6.59 | $ 1.08 $ 0.80 $ 0.98 $ 0.95 $ 1.21
======== | ======== ======== ======== ======== ========
Shares used in computing earnings per |
common share: |
Basic............................... 70,261 | 15,090 15,202 16,210 17,308 17,345
Diluted............................. 71,656 | 16,533 18,497 19,304 19,074 19,554
25
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (Continued)
Operating Data
(Unaudited)
(In thousands)
Predecessor | Reorganized Company
Company | ------------------------------------------------
----------- | 2001 2002
First | ---------------------------- ------------------
Quarter | Second Third Fourth First Second
2001 | Quarter Quarter Quarter Quarter Quarter
----------- | -------- -------- -------- -------- --------
Revenues: |
Health services division: |
Nursing centers................. $429,523 | $444,137 $447,428 $456,671 $461,887 $460,973
Rehabilitation services......... 10,695 | 9,244 9,122 9,085 7,830 8,566
-------- | -------- -------- -------- -------- --------
440,218 | 453,381 456,550 465,756 469,717 469,539
Hospital division: |
Hospitals....................... 271,984 | 276,112 268,578 278,245 296,442 322,764
Pharmacy........................ 54,880 | 56,567 58,750 60,788 61,048 62,226
-------- | -------- -------- -------- -------- --------
326,864 | 332,679 327,328 339,033 357,490 384,990
-------- | -------- -------- -------- -------- --------
767,082 | 786,060 783,878 804,789 827,207 854,529
Elimination of pharmacy charges to |
Company nursing centers......... (14,673) | (15,296) (15,198) (15,214) (15,963) (15,956)
-------- | -------- -------- -------- -------- --------
$752,409 | $770,764 $768,680 $789,575 $811,244 $838,573
======== | ======== ======== ======== ======== ========
Income from operations: |
Operating income: |
Health services division: |
Nursing centers................. $ 70,543 | $ 78,735 $ 80,339 $ 75,426 $ 80,714 $ 81,082
Rehabilitation services......... 690 | 1,809 2,178 4,125 1,913 1,883
Other ancillary services........ 250 | 103 226 179 34 145
-------- | -------- -------- -------- -------- --------
71,483 | 80,647 82,743 79,730 82,661 83,110
Hospital division: |
Hospitals....................... 54,778 | 55,685 49,809 52,119 59,574 62,326
Pharmacy........................ 6,176 | 6,036 7,002 7,793 5,672 6,069
-------- | -------- -------- -------- -------- --------
60,954 | 61,721 56,811 59,912 65,246 68,395
Corporate overhead................ (28,697) | (27,484) (30,397) (27,358) (32,675) (30,403)
-------- | -------- -------- -------- -------- --------
103,740 | 114,884 109,157 112,284 115,232 121,102
Unusual transactions.............. - | - 3,238 2,187 - (525)
Reorganization items.............. 53,666 | - - - - 5,520
-------- | -------- -------- -------- -------- --------
Operating income................ 157,406 | 114,884 112,395 114,471 115,232 126,097
Rent............................... (76,995) | (64,580) (65,233) (65,471) (65,611) (67,818)
Depreciation and amortization...... (18,645) | (15,886) (16,768) (17,565) (16,696) (17,413)
Interest, net...................... (12,081) | (5,025) (4,313) (3,117) (1,852) (418)
-------- | -------- -------- -------- -------- --------
Income before income taxes......... 49,685 | 29,393 26,081 28,318 31,073 40,448
Provision for income taxes......... 500 | 12,904 11,282 12,264 12,895 16,786
-------- | -------- -------- -------- -------- --------
$ 49,185 | $ 16,489 $ 14,799 $ 16,054 $ 18,178 $ 23,662
======== | ======== ======== ======== ======== ========
26
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (Continued)
Operating Data (Continued)
(Unaudited)
(In thousands)
Predecessor | Reorganized Company
Company | ---------------------------------------
----------- | 2001 2002
First | ----------------------- ---------------
Quarter | Second Third Fourth First Second
2001 | Quarter Quarter Quarter Quarter Quarter
----------- | ------- ------- ------- ------- -------
Rent: |
Health services division: |
Nursing centers............ $44,253 | $40,190 $41,311 $41,546 $41,286 $42,098
Rehabilitation services.... 39 | 27 24 24 14 14
Other ancillary services... - | 3 1 - - -
------- | ------- ------- ------- ------- -------
44,292 | 40,220 41,336 41,570 41,300 42,112
Hospital division: |
Hospitals.................. 30,839 | 22,917 22,771 22,883 23,336 24,675
Pharmacy................... 941 | 968 984 1,001 942 968
------- | ------- ------- ------- ------- -------
31,780 | 23,885 23,755 23,884 24,278 25,643
Corporate.................... 923 | 475 142 17 33 63
------- | ------- ------- ------- ------- -------
$76,995 | $64,580 $65,233 $65,471 $65,611 $67,818
======= | ======= ======= ======= ======= =======
Depreciation and amortization: |
Health services division: |
Nursing centers............ $ 7,219 | $ 5,055 $ 5,713 $ 5,925 $ 6,077 $ 6,149
Rehabilitation services.... - | 11 2 11 8 6
Other ancillary services... 129 | - - - - -
------- | ------- ------- ------- ------- -------
7,348 | 5,066 5,715 5,936 6,085 6,155
Hospital division: |
Hospitals.................. 5,457 | 5,690 5,742 6,087 6,361 6,638
Pharmacy................... 627 | 447 476 523 543 628
------- | ------- ------- ------- ------- -------
6,084 | 6,137 6,218 6,610 6,904 7,266
Corporate.................... 5,213 | 4,683 4,835 5,019 3,707 3,992
------- | ------- ------- ------- ------- -------
$18,645 | $15,886 $16,768 $17,565 $16,696 $17,413
======= | ======= ======= ======= ======= =======
Capital expenditures: |
Health services division..... $ 7,962 | $ 4,529 $ 5,184 $ 3,602 $ 2,116 $ 4,728
Hospital division............ 8,901 | 8,644 3,244 7,942 3,712 7,212
Corporate: |
Information systems........ 3,496 | 3,135 7,841 9,290 3,330 6,632
Other...................... 1,679 | 9,331 1,317 1,184 710 787
------- | ------- ------- ------- ------- -------
$22,038 | $25,639 $17,586 $22,018 $ 9,868 $19,359
======= | ======= ======= ======= ======= =======
27
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (Continued)
Operating Data (Continued)
(Unaudited)
| Reorganized Company
Predecessor | ------------------------------------------------------
Company | 2001 2002
----------- | -------------------------------- ---------------------
First |
Quarter | Second Third Fourth First Second
2001 | Quarter Quarter Quarter Quarter Quarter
----------- | ---------- ---------- ---------- ---------- ----------
Nursing Center Data: |
End of period data: |
Number of nursing centers: |
Owned or leased........... 278 | 280 280 282 280 278
Managed................... 35 | 35 34 23 14 10
---------- | ---------- ---------- ---------- ---------- ----------
313 | 315 314 305 294 288
========== | ========== ========== ========== ========== ==========
Number of licensed beds: |
Owned or leased........... 36,469 | 36,746 36,729 36,926 36,615 36,620
Managed................... 3,861 | 3,861 3,626 2,367 1,417 1,017
---------- | ---------- ---------- ---------- ---------- ----------
40,330 | 40,607 40,355 39,293 38,032 37,637
========== | ========== ========== ========== ========== ==========
Revenue mix %: |
Medicare.................... 31 | 32 31 31 34 34
Medicaid.................... 47 | 47 48 48 46 47
Private and other........... 22 | 21 21 21 20 19
|
Patient days (excludes managed |
facilities): |
Medicare.................... 411,783 | 417,065 399,441 402,157 439,715 439,913
Medicaid.................... 1,860,256 | 1,871,895 1,933,822 1,945,232 1,883,679 1,890,725
Private and other........... 532,943 | 533,792 542,284 537,582 502,996 500,934
---------- | ---------- ---------- ---------- ---------- ----------
2,804,982 | 2,822,752 2,875,547 2,884,971 2,826,390 2,831,572
========== | ========== ========== ========== ========== ==========
Revenues per patient day: |
Medicare.................... $ 325 | $ 344 $ 348 $ 357 $ 358 $ 358
Medicaid.................... 109 | 110 111 113 114 113
Private and other........... 175 | 176 174 174 179 178
Weighted average............ 153 | 157 156 158 163 163
|
Hospital Data: |
End of period data: |
Number of hospitals......... 56 | 56 56 57 57 63
Number of licensed beds..... 4,867 | 4,867 4,867 4,961 4,961 5,276
|
Revenue mix %: |
Medicare.................... 56 | 56 56 59 58 61
Medicaid.................... 11 | 11 11 6 10 8
Private and other........... 33 | 33 33 35 32 31
|
Patient days: |
Medicare.................... 185,731 | 182,906 172,692 178,985 196,057 218,392
Medicaid.................... 34,872 | 34,799 35,098 33,480 33,864 32,635
Private and other........... 52,426 | 53,016 55,050 56,399 58,437 57,266
---------- | ---------- ---------- ---------- ---------- ----------
273,029 | 270,721 262,840 268,864 288,358 308,293
========== | ========== ========== ========== ========== ==========
Revenues per patient day: |
Medicare.................... $ 820 | $ 839 $ 872 $ 920 $ 880 $ 893
Medicaid.................... 871 | 872 807 511 880 811
Private and other........... 1,703 | 1,742 1,628 1,712 1,609 1,768
Weighted average............ 996 | 1,020 1,022 1,035 1,028 1,047
28
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The following discussion of the Company's exposure to market risk contains
"forward-looking statements" that involve risks and uncertainties. The
information presented has been prepared using certain assumptions considered
reasonable in light of information currently available to the Company. Given
the unpredictability of interest rates as well as other factors, actual results
could differ materially from those projected in such forward-looking
information.
The Company's only significant exposure to market risk relates to changes in
the London Interbank Offered Rate which affect the interest paid on its
borrowings.
The following table provides information about the Company's financial
instruments that are sensitive to changes in interest rates. The table presents
principal cash flows and related weighted average interest rates by expected
maturity date.
Interest Rate Sensitivity
Principal (Notional) Amount by Expected Maturity
Average Interest Rate
(Dollars in thousands)
Expected Maturities Fair
---------------------------------------------------- Value
2002 2003 2004 2005 2006 Thereafter Total 6/30/02
----- ---- ---- ----- ----- ---------- -------- --------
Liabilities:
Long-term debt, including amounts due
within one year:
Fixed rate........................ $ 288 $258 $ 63 $ 69 $ 75 $ 1,304 $ 2,057 $ 2,042
Average interest rate............. 10.8% 9.7% 8.8% 8.8% 8.8% 8.8%
Variable rate..................... $ - $ - $ - $ - $ - $210,500 $210,500 $210,763
Average interest rate (a)
- --------
(a) Interest is payable, at the option of the Company, at the one, two, three
or six month London Interbank Offered Rate plus 4 1/2%.
29
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
Summary descriptions of various significant legal and regulatory activities
follow.
A class action lawsuit entitled A. Carl Helwig v. Vencor, Inc., et al., was
filed on December 24, 1997 in the United States District Court for the Western
District of Kentucky (Civil Action No. 3-97CV-8354). The class action claims
were brought by an alleged stockholder of Ventas, against the Company and
Ventas and certain of the Company's and Ventas's current and former executive
officers and directors. The complaint alleges that the Company, Ventas and
certain of the Company's and Ventas's current and former executive officers
during a specified time frame violated Sections 10(b) and 20(a) of the Exchange
Act, by, among other things, issuing to the investing public a series of false
and misleading statements concerning Ventas's then current operations and the
inherent value of its common stock. The complaint further alleges that as a
result of these purported false and misleading statements concerning Ventas's
revenues and successful acquisitions, the price of its common stock was
artificially inflated. In particular, the complaint alleges that the defendants
issued false and misleading financial statements during the first, second and
third calendar quarters of 1997 which misrepresented and understated the impact
that changes in Medicare reimbursement policies would have on Ventas's core
services and profitability. The complaint further alleges that the defendants
issued a series of materially false statements concerning the purportedly
successful integration of Ventas's acquisitions and prospective earnings per
share for 1997 and 1998 which the defendants knew lacked any reasonable basis
and were not being achieved. The suit seeks damages in an amount to be proven
at trial, pre-judgment and post-judgment interest, reasonable attorneys' fees,
expert witness fees and other costs, and any extraordinary equitable and/or
injunctive relief permitted by law or equity to assure that the plaintiff has
an effective remedy. In December 1998, the defendants filed a motion to dismiss
the case. The court converted the defendants' motion to dismiss into a motion
for summary judgment and granted summary judgment as to all defendants. The
plaintiff appealed the ruling to the Sixth Circuit. On April 24, 2000, the
Sixth Circuit affirmed the district court's dismissal of the action on the
grounds that the plaintiff failed to state a claim upon which relief could be
granted. On July 14, 2000, the Sixth Circuit granted the plaintiff's petition
for a rehearing en banc. On May 31, 2001, the Sixth Circuit issued its en banc
decision reversing the trial court's dismissal of the complaint. The defendants
filed a Petition for Certiorari seeking review of the Sixth Circuit's decision
in the United States Supreme Court on September 27, 2001. The parties entered
into a stipulation and agreement of settlement of this action on December 26,
2001, which was subject to approval by the federal district court. The
settlement payment to the certified class will be $3 million, which will
include the costs of administration and plaintiffs' attorney fees, plus
interest, and will be paid by the defendants' directors and officers insurance
carrier. On May 13, 2002, the federal district court conducted a fairness
hearing and approved the settlement. In June 2002, the federal district court's
order approving the settlement and dismissing the lawsuit became
non-appealable, and the United States Supreme Court dismissed the Petition for
Certiorari.
In connection with the Company's spin-off from Ventas in 1998, liabilities
arising from various legal proceedings and other actions were assumed by the
Company and the Company agreed to indemnify Ventas against any losses,
including any costs or expenses, it may incur arising out of or in connection
with such legal proceedings and other actions. The indemnification provided by
the Company also covers losses, including costs and expenses, which may arise
from any future claims asserted against Ventas based on the former healthcare
operations of Ventas. In connection with the Company's indemnification
obligation, the Company assumed the defense of various legal proceedings and
other actions. Under the Plan of Reorganization, the Company agreed to continue
to fulfill its indemnification obligations arising from the spin-off.
The Company is a party to certain legal actions and regulatory
investigations arising in the normal course of the Company's business. The
Company is unable to predict the ultimate outcome of pending litigation and
regulatory investigations. In addition, there can be no assurance that the U.S.
Department of Justice, CMS or other state and federal regulatory agencies will
not initiate additional investigations related to the Company's
30
PART II. OTHER INFORMATION (Continued)
Item 1. Legal Proceedings (Continued)
businesses in the future, nor can there be any assurance that the resolution of
any litigation or investigations, either individually or in the aggregate,
would not have a material adverse effect on the Company's results of
operations, liquidity or financial position. In addition, the above litigation
and investigations (as well as future litigation and investigations) are
expected to consume the time and attention of management and may have a
disruptive effect upon the Company's operations.
Item 4. Submission of Matters to a Vote of Security Holders
The Company's Annual Meeting of Stockholders was held on April 16, 2002 in
Louisville, Kentucky. At the meeting, stockholders of the Company elected a
board of seven directors pursuant to the following votes:
Votes in Votes
Director Favor Withheld
-------- ---------- ---------
James Bolin......... 15,570,651 49,426
Michael J. Embler... 15,573,650 46,427
Garry N. Garrison... 15,580,562 39,515
Isaac Kaufman....... 15,580,460 39,617
John H. Klein....... 15,580,515 39,562
Edward L. Kuntz..... 14,551,609 1,068,468
David A. Tepper..... 15,458,785 161,292
In addition to electing directors, stockholders of the Company approved the
following actions:
(a) A proposal to ratify the Kindred Healthcare, Inc. 2000 Stock Option Plan
by the vote of 12,893,198 in favor, 871,684 against and 17,708
abstentions;
(b) A proposal to approve the Kindred Healthcare, Inc. 2001 Stock Incentive
Plan by the vote of 10,730,478 in favor, 3,034,900 against and 17,212
abstentions;
(c) A proposal to ratify the Kindred Healthcare, Inc. 2000 Long-Term
Incentive Plan by the vote of 12,770,505 in favor, 995,451 against and
16,634 abstentions;
(d) A proposal to approve the Kindred Healthcare, Inc. Short-Term Incentive
Plan by the vote of 14,413,985 in favor, 1,190,692 against and 15,400
abstentions; and
(e) A proposal to amend the Company's Amended and Restated Certificate of
Incorporation to increase the number of authorized shares of the
Company's common stock, par value $0.25 per share, from 39,000,000
shares to 175,000,000 shares by the vote of 11,432,841 in favor,
4,172,646 against and 14,590 abstentions.
31
PART II. OTHER INFORMATION (Continued)
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits:
2.1* Stock Purchase Agreement by and among Specialty Healthcare Services, Inc., the Stockholders
Listed on Schedule I attached hereto and Kindred Healthcare, Inc. and Kindred Healthcare
Operating, Inc. dated as of April 1, 2002. Exhibit 2.1 to the Company's Form 10-Q for the
quarterly period ended March 31, 2002 (Comm. File No. 001-14057) is hereby incorporated by
reference.
3.1 Certificate of Amendment of Amended and Restated Certificate of Incorporation. Exhibit 3.1 to
the Company's Form 10-Q for the quarterly period ended March 31, 2002 (Comm. File No.
001-14057) is hereby incorporated by reference.
10.1 Amendment No. 2 dated as of March 22, 2002, under the $120,000,000 Credit Agreement dated
as of April 20, 2001 among Kindred Healthcare Operating, Inc., the Company, the Lenders,
Swingline Bank and LC Issuing Banks party thereto, JPMorgan Chase Bank (formerly The
Chase Manhattan Bank, successor-by-merger to Morgan Guaranty Trust Company of New
York), as Administrative Agent and Collateral Agent, and General Electric Capital Corporation,
as Documentation Agent and Collateral Monitoring Agent. Exhibit 10.1 to the Company's Form
10-Q for the quarterly period ended March 31, 2002 (Comm. File No. 001-14057) is hereby
incorporated by reference.
10.2 Amendment No. 2 dated as of March 22, 2002, under the $300,000,000 Credit Agreement dated
as of April 20, 2001 among Kindred Healthcare Operating, Inc., the Company, the Lenders
party thereto and JPMorgan Chase Bank (formerly The Chase Manhattan Bank, successor-by-
merger to Morgan Guaranty Trust Company of New York), as Administrative Agent and
Collateral Agent. Exhibit 10.2 to the Company's Form 10-Q for the quarterly period ended
March 31, 2002 (Comm. File No. 001-14057) is hereby incorporated by reference.
10.3 Letter Agreement dated June 5, 2002 between Ventas Realty, Limited Partnership, Kindred
Healthcare, Inc. and Kindred Healthcare Operating, Inc.
- --------
* The registrant agrees to furnish supplementally a copy of any omitted
schedule or exhibits to this agreement to the Commission upon request.
(b) Reports on Form 8-K:
On April 2, 2002, the Company filed a Current Report on Form 8-K announcing
the acquisition of Specialty Healthcare Services, Inc.
32
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.
KINDRED HEALTHCARE, INC.
Date: August 13, 2002 /s/ EDWARD L. KUNTZ
--------------------- -------------------------------
Edward L. Kuntz
Chairman of the Board and
Chief Executive Officer
Date: August 13, 2002 /s/ RICHARD A. LECHLEITER
--------------------- -------------------------------
Richard A. Lechleiter
Senior Vice President, Chief
Financial Officer and Treasurer
33