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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 March 31, 2003
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 is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act.) 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 April 30, 2003
--------------------- -----------------------------
Common stock, $0.25 par value 17,648,857 shares
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1 of 40
KINDRED HEALTHCARE, INC.
FORM 10-Q
INDEX
Page
PART I. FINANCIAL INFORMATION ----
Item 1. Financial Statements:
Condensed Consolidated Statement of Operations -- for the three months ended
March 31, 2003 and 2002............................................................ 3
Condensed Consolidated Balance Sheet -- March 31, 2003 and December 31, 2002......... 4
Condensed Consolidated Statement of Cash Flows -- for the three months ended
March 31, 2003 and 2002............................................................ 5
Notes to Condensed Consolidated Financial Statements................................. 6
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 18
Item 3. Quantitative and Qualitative Disclosures About Market Risk........................... 35
Item 4. Controls and Procedures.............................................................. 35
PART II. OTHER INFORMATION
Item 1. Legal Proceedings.................................................................... 36
Item 6. Exhibits and Reports on Form 8-K..................................................... 37
2
KINDRED HEALTHCARE, INC.
CONDENSED CONSOLIDATED STATEMENT OF OPERATIONS
(Unaudited)
(In thousands, except per share amounts)
Three months ended
March 31,
------------------
2003 2002
-------- --------
Revenues.................................................. $863,078 $811,244
-------- --------
Salaries, wages and benefits.............................. 501,312 467,401
Supplies.................................................. 110,095 101,314
Rent...................................................... 68,392 65,611
Other operating expenses.................................. 180,509 127,297
Depreciation.............................................. 20,083 16,696
Interest expense.......................................... 2,888 3,732
Investment income......................................... (1,638) (1,880)
-------- --------
881,641 780,171
-------- --------
Income (loss) before income taxes......................... (18,563) 31,073
Provision (benefit) for income taxes...................... (5,439) 12,895
-------- --------
Net income (loss)........................................ $(13,124) $ 18,178
======== ========
Earnings (loss) per common share:
Basic.................................................... $ (0.76) $ 1.05
Diluted.................................................. $ (0.76) $ 0.95
Shares used in computing earnings (loss) per common share:
Basic.................................................... 17,377 17,308
Diluted.................................................. 17,377 19,074
See accompanying notes.
3
KINDRED HEALTHCARE, INC.
CONDENSED CONSOLIDATED BALANCE SHEET
(Unaudited)
(In thousands, except per share amounts)
March 31, December 31,
2003 2002
---------- ------------
ASSETS
Current assets:
Cash and cash equivalents.............................................. $ 100,173 $ 244,070
Cash - restricted...................................................... 8,000 7,908
Insurance subsidiary investments....................................... 209,379 130,415
Accounts receivable less allowance for loss of $96,874 - March 31 and
$95,952 - December 31................................................ 467,240 420,611
Inventories............................................................ 30,491 30,460
Other.................................................................. 91,425 86,852
---------- ----------
906,708 920,316
Property and equipment.................................................. 622,830 611,944
Accumulated depreciation................................................ (135,479) (115,373)
---------- ----------
487,351 496,571
Goodwill................................................................ 88,658 88,259
Other................................................................... 168,162 139,032
---------- ----------
$1,650,879 $1,644,178
========== ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable....................................................... $ 120,700 $ 124,466
Salaries, wages and other compensation................................. 206,470 220,124
Due to third party payors.............................................. 28,728 25,177
Other accrued liabilities.............................................. 164,378 150,020
Income taxes........................................................... 56,613 62,111
Long-term debt due within one year..................................... 162 258
---------- ----------
577,051 582,156
Long-term debt.......................................................... 161,992 162,008
Professional liability risks............................................ 234,073 211,771
Deferred credits and other liabilities.................................. 58,153 56,615
Commitments and contingencies
Stockholders' equity:
Common stock, $0.25 par value; authorized 175,000 shares - March 31 and
December 31; issued 17,649 shares - March 31 and December 31......... 4,412 4,412
Capital in excess of par value......................................... 547,569 547,609
Deferred compensation.................................................. (5,674) (6,967)
Accumulated other comprehensive income................................. 313 460
Retained earnings...................................................... 72,990 86,114
---------- ----------
619,610 631,628
---------- ----------
$1,650,879 $1,644,178
========== ==========
See accompanying notes.
4
KINDRED HEALTHCARE, INC.
CONDENSED CONSOLIDATED STATEMENT OF CASH FLOWS
(Unaudited)
(In thousands)
Three months ended
March 31,
-------------------
2003 2002
--------- --------
Cash flows from operating activities:
Net income (loss)........................................................... $ (13,124) $ 18,178
Adjustments to reconcile net income (loss) to net cash provided by (used in)
operating activities:
Depreciation.............................................................. 20,083 16,696
Amortization of deferred compensation costs............................... 1,253 2,586
Provision for doubtful accounts........................................... 6,288 4,284
Other..................................................................... 506 55
Change in operating assets and liabilities:
Accounts receivable..................................................... (53,316) 599
Inventories and other assets............................................ (6,387) (16,991)
Accounts payable........................................................ (2,998) 15,527
Income taxes............................................................ (5,457) 4,307
Due to third party payors............................................... 3,551 (7,404)
Other accrued liabilities............................................... 28,330 (2,678)
--------- --------
Net cash provided by (used in) operating activities before
reorganization items................................................ (21,271) 35,159
Payment of reorganization items............................................. (395) (2,462)
--------- --------
Net cash provided by (used in) operating activities................... (21,666) 32,697
--------- --------
Cash flows from investing activities:
Purchase of property and equipment.......................................... (10,565) (9,868)
Net change in insurance subsidiary investments.............................. (99,973) 908
Net change in other investments............................................. (4,685) 756
Other....................................................................... (333) 159
--------- --------
Net cash used in investing activities................................. (115,556) (8,045)
--------- --------
Cash flows from financing activities:
Repayment of long-term debt................................................. (112) (101)
Payment of deferred financing costs......................................... (1,596) -
Other....................................................................... (4,967) (4,494)
--------- --------
Net cash used in financing activities................................. (6,675) (4,595)
--------- --------
Change in cash and cash equivalents.......................................... (143,897) 20,057
Cash and cash equivalents at beginning of period............................. 244,070 190,799
--------- --------
Cash and cash equivalents at end of period................................... $ 100,173 $210,856
========= ========
Supplemental information:
Interest payments........................................................... $ 2,835 $ 3,919
Income tax payments......................................................... 18 8,618
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,
hospitals and institutional pharmacies. At March 31, 2003, the Company's health
services division operated 285 nursing centers in 32 states and a
rehabilitation therapy business. The Company's hospital division operated 65
hospitals in 24 states. The Company also operated an institutional pharmacy
business with 30 pharmacies in 19 states which began operating as a separate
division on January 1, 2003.
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 consolidated financial statements of the
Company since the date of acquisition.
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.
Impact of Recent Accounting Pronouncements
In January 2003, the Financial Accounting Standards Board (the "FASB")
issued FASB Interpretation No. 46 ("FIN 46"), "Consolidation of Variable
Interest Entities, an interpretation of ARB No. 51." The primary objectives of
FIN 46 are to provide guidance on the identification of entities for which
control is achieved through means other than through voting rights ("variable
interest entities" or "VIEs") and how to determine when and which business
enterprise should consolidate the VIE (the "primary beneficiary"). This new
model for consolidation applies to an entity in which either (1) the equity
investors (if any) do not have a controlling financial interest or (2) the
equity investment at risk is insufficient to finance that entity's activities
without receiving additional subordinated financial support from other parties.
In addition, FIN 46 requires that both the primary beneficiary and all other
enterprises with a significant variable interest in a VIE make additional
disclosures. The provisions of FIN 46 are effective immediately for VIEs
created after January 31, 2003 and effective no later than July 1, 2003 for
VIEs created before February 1, 2003. The adoption of FIN 46 is not expected to
have an impact on the Company's financial position, results of operations or
liquidity.
In December 2002, the FASB issued Statement of Financial Accounting
Standards ("SFAS") No. 148 ("SFAS 148"), "Accounting for Stock-Based
Compensation - Transition and Disclosure - an amendment of SFAS 123." SFAS 148
provides transitional guidance for recognizing an entity's voluntary decision
to change its method of accounting for stock-based employee compensation to the
fair-value method. In addition, SFAS 148 amends the disclosure requirements of
SFAS No. 123 ("SFAS 123"), "Accounting for Stock-Based Compensation," so that
entities will have to (1) make more prominent disclosures regarding the pro
forma effects of using the fair-value method of accounting for stock-based
compensation, (2) present those disclosures in a more accessible format in the
footnotes to the annual financial statements, and (3) include those disclosures
in interim financial statements. The Company has elected not to change its
method of accounting for stock-based compensation under SFAS 123. The SFAS 148
transition and annual disclosure provisions became effective for the Company's
fiscal year ended December 31, 2002.
6
KINDRED HEALTHCARE, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Unaudited)
NOTE 1 - BASIS OF PRESENTATION (Continued)
Impact of Recent Accounting Pronouncements (Continued)
In November 2002, the FASB issued FASB Interpretation No. 45 ("FIN 45"),
"Guarantor's Accounting and Disclosure Requirements for Guarantees, Including
Indirect Guarantees of Indebtedness of Others, an interpretation of FASB
Statements No. 5, 57, and 107 and rescission of FASB Interpretation No. 34."
FIN 45 requires that upon issuance of a guarantee, the issuing entity must
recognize a liability for the fair value of the obligation it assumes under
that guarantee. FIN 45 requires disclosure about each guarantee even if the
likelihood of the guarantor having to make any payments under the guarantee is
remote. The provisions for initial recognition and measurement are effective on
a prospective basis for guarantees that are issued or modified after December
31, 2002. The adoption of FIN 45 is not expected to have a material impact on
the Company's financial position, results of operations or liquidity. See Note
7.
In July 2002, the FASB issued 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"
and requires liabilities associated with exit and disposal activities to be
expensed as incurred. SFAS 146 became effective for exit and disposal
activities of the Company that were initiated after December 31, 2002.
In May 2002, the FASB issued SFAS No. 145 ("SFAS 145"), "Rescission of SFAS
Nos. 4, 44, 64, Amendment of SFAS 13, and Technical Corrections as of April
2002." SFAS 145 rescinds SFAS No. 4, "Reporting Gains and Losses from
Extinguishment of Debt," which required that gains and losses from
extinguishment of debt that were included in the determination of net income be
aggregated and, if material, classified as an extraordinary item, net of the
related income tax effect. Under SFAS 145, gains or losses from extinguishment
of debt should be classified as extraordinary items only if they meet the
criteria in Accounting Principles Board Opinion ("APB") No. 30 ("APB 30"),
"Reporting Results of Operations - Reporting the Effects of Disposal of a
Segment of a Business." Applying the criteria in APB 30 will distinguish
transactions that are part of an entity's recurring operations from those that
are unusual or infrequent or that meet the criteria for classification as an
extraordinary item. SFAS 145 is applicable to the Company for all periods
beginning after December 31, 2002. Any gains or losses on extinguishment of
debt that were classified as extraordinary items in prior periods that do not
meet the new criteria of APB 30 for classification as extraordinary items will
be reclassified to income from operations.
Stock Option Accounting
The Company follows APB No. 25, "Accounting for Stock Issued to Employees,"
and related interpretations in accounting for its employee stock options
because the alternative fair value accounting provided for under SFAS 123
requires the use of option valuation models that were not developed for use in
valuing employee stock options.
7
KINDRED HEALTHCARE, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Unaudited)
NOTE 1 - BASIS OF PRESENTATION (Continued)
Stock Option Accounting (Continued)
Pro forma information regarding net income and earnings per share determined
as if the Company had accounted for its employee stock options under the fair
value method of SFAS 123 follows (in thousands, except per share amounts):
Three months ended
March 31,
-----------------
2003 2002
-------- -------
Net income (loss), as reported........................ $(13,124) $18,178
Adjustments:
Stock-based employee compensation expense included in
reported net income (loss)......................... 1,253 2,586
Stock-based employee compensation expense determined
under fair value based method...................... (2,511) (3,101)
-------- -------
Pro forma net income (loss)........................... $(14,382) $17,663
======== =======
Earnings (loss) per common share:
As reported:
Basic.............................................. $ (0.76) $ 1.05
Diluted............................................ $ (0.76) $ 0.95
Pro forma:
Basic.............................................. $ (0.83) $ 1.02
Diluted............................................ $ (0.83) $ 0.93
The effects of applying SFAS 123 in the pro forma disclosures are not likely
to be representative of the effects on pro forma net income for future years
since variables such as stock option grants, cancellations and stock price
volatility included in the disclosures may not be indicative of future activity.
Comprehensive Income
The following table sets forth the computation of comprehensive income
(loss) for the three months ended March 31, 2003 and 2002 (in thousands):
Three months ended
March 31,
-----------------
2003 2002
-------- -------
Net income (loss)........................... $(13,124) $18,178
Net unrealized investment losses, net of tax (147) (80)
-------- -------
Comprehensive income (loss)................. $(13,271) $18,098
======== =======
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, 2002 filed with the Securities and Exchange Commission (the
"SEC") on Form 10-K.
8
KINDRED HEALTHCARE, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Unaudited)
NOTE 1 - BASIS OF PRESENTATION (Continued)
Other Information (Continued)
The accompanying unaudited condensed consolidated financial statements have
been prepared in accordance with the Company's customary accounting practices.
Management believes that the financial information included herein reflects all
adjustments necessary for a fair presentation of interim results and all such
adjustments are of a normal and recurring nature.
Reclassifications
Certain prior year amounts have been reclassified to conform with the
current year presentation.
NOTE 2 - 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, including goodwill $ 63,123
Fair value of liabilities assumed................ (16,350)
--------
Net assets acquired............................. 46,773
Cash acquired.................................... (842)
--------
Net cash paid................................... $ 45,931
========
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 $30 million. Additional adjustments
to the purchase price will be recorded in the second quarter of 2003 as a
result of the settlement of acquired working capital balances and contingent
consideration in accordance with the acquisition agreement.
NOTE 3 - 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 first quarter revenues by payor type follows (in thousands):
Three months ended
March 31,
------------------
2003 2002
-------- --------
Medicare...................... $358,608 $331,691
Medicaid...................... 284,075 272,704
Private and other............. 237,820 222,812
-------- --------
880,503 827,207
Elimination................... (17,425) (15,963)
-------- --------
$863,078 $811,244
======== ========
9
KINDRED HEALTHCARE, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Unaudited)
NOTE 4 - 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 three months ended March 31,
2002 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, 2003, the
diluted calculation of loss per common share excluded the effect of warrants,
stock options and non-vested restricted stock because their effect was
anti-dilutive.
A computation of earnings (loss) per common share follows (in thousands,
except per share amounts):
Three months ended
March 31,
-----------------
2003 2002
-------- -------
Net income (loss).................................................. $(13,124) $18,178
======== =======
Shares used in the computation:
Weighted average shares outstanding - basic computation........... 17,377 17,308
Dilutive effect of warrants, employee stock options and non-vested
restricted stock................................................ - 1,766
-------- -------
Adjusted weighted average shares outstanding - diluted computation 17,377 19,074
======== =======
Earnings (loss) per common share:
Basic............................................................. $ (0.76) $ 1.05
Diluted........................................................... $ (0.76) $ 0.95
NOTE 5 - BUSINESS SEGMENT DATA
The Company operates three business segments: the health services division,
the hospital division and the pharmacy division. The health services division
operates nursing centers and a rehabilitation therapy business. The hospital
division primarily operates long-term acute care hospitals and the pharmacy
division provides institutional pharmacy services to nursing centers and other
healthcare providers. The Company defines operating income as earnings before
interest, income taxes, depreciation and rent. Operating income reported for
each of the Company's business segments excludes the allocation of corporate
overhead.
Operating data for 2002 have been reclassified to reflect certain cost
realignments between the nursing centers and rehabilitation services business
and the establishment of the Company's institutional pharmacy business as a
separate operating division, both of which were effective on January 1, 2003.
The Company identified its segments in accordance with the aggregation
provisions of SFAS No. 131, "Disclosures About Segments of an Enterprise and
Related Information." This information is consistent with data used by the
Company in managing its businesses and aggregates businesses with similar
economic characteristics.
10
KINDRED HEALTHCARE, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Unaudited)
NOTE 5 - BUSINESS SEGMENT DATA (Continued)
The following table sets forth certain data by business segment (in
thousands):
Three months ended
March 31,
------------------
2003 2002
-------- --------
Revenues:
Health services division:
Nursing centers..................................... $460,559 $461,887
Rehabilitation services............................. 8,502 7,830
-------- --------
469,061 469,717
Hospital division:
Hospitals........................................... 340,855 296,442
Ancillary services.................................. 1,759 1,870
-------- --------
342,614 298,312
Pharmacy division.................................... 68,828 59,178
-------- --------
880,503 827,207
Elimination of pharmacy charges to Company nursing
centers............................................. (17,425) (15,963)
-------- --------
$863,078 $811,244
======== ========
Net income (loss):
Operating income (loss):
Health services division:
Nursing centers..................................... $ 24,055 $ 82,727
Rehabilitation services............................. (959) (66)
-------- --------
23,096 82,661
Hospital division:
Hospitals........................................... 70,304 59,574
Ancillary services.................................. 180 135
-------- --------
70,484 59,709
Pharmacy division.................................... 6,902 5,537
Corporate overhead................................... (29,320) (32,675)
-------- --------
Operating income.................................... 71,162 115,232
Rent................................................... (68,392) (65,611)
Depreciation........................................... (20,083) (16,696)
Interest, net.......................................... (1,250) (1,852)
-------- --------
Income (loss) before income taxes...................... (18,563) 31,073
Provision (benefit) for income taxes................... (5,439) 12,895
-------- --------
$(13,124) $ 18,178
======== ========
11
KINDRED HEALTHCARE, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Unaudited)
NOTE 5 - BUSINESS SEGMENT DATA (Continued)
Three months ended
March 31,
-----------------------
2003 2002
---------- ------------
Rent:
Health services division:
Nursing centers..................................... $ 43,129 $ 41,276
Rehabilitation services............................. 69 24
---------- ----------
43,198 41,300
Hospital division:
Hospitals........................................... 24,204 23,336
Ancillary services.................................. 201 225
---------- ----------
24,405 23,561
Pharmacy division.................................... 725 717
Corporate............................................ 64 33
---------- ----------
$ 68,392 $ 65,611
========== ==========
Depreciation:
Health services division:
Nursing centers..................................... $ 6,927 $ 6,076
Rehabilitation services............................. 16 9
---------- ----------
6,943 6,085
Hospital division:
Hospitals........................................... 7,255 6,361
Ancillary services.................................. 119 146
---------- ----------
7,374 6,507
Pharmacy division.................................... 531 397
Corporate............................................ 5,235 3,707
---------- ----------
$ 20,083 $ 16,696
========== ==========
Capital expenditures, excluding acquisitions:
Health services division............................. $ 3,273 $ 2,116
Hospital division.................................... 2,822 3,316
Pharmacy division.................................... 616 396
Corporate:
Information systems................................. 3,207 3,330
Other............................................... 647 710
---------- ----------
$ 10,565 $ 9,868
========== ==========
March 31, December 31,
2003 2002
---------- ------------
Assets:
Health services division............................. $ 425,776 $ 422,713
Hospital division.................................... 576,862 538,171
Pharmacy division.................................... 43,833 43,085
Corporate............................................ 604,408 640,209
---------- ----------
$1,650,879 $1,644,178
========== ==========
Goodwill:
Health services division............................. $ 31,045 $ 31,045
Hospital division.................................... 55,567 55,168
Pharmacy division.................................... 2,046 2,046
---------- ----------
$ 88,658 $ 88,259
========== ==========
12
KINDRED HEALTHCARE, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Unaudited)
NOTE 6 - INSURANCE RISKS
The Company insures a substantial portion of its professional liability
risks and workers compensation risks through a wholly owned limited purpose
insurance subsidiary. Provisions for loss for these risks are based upon
independent actuarially determined estimates.
The allowance for professional liability risks includes an estimate of the
expected cost of reported claims and an amount, based upon past experiences,
for losses incurred but not reported. These liabilities are necessarily based
upon estimates and, while management believes that the provision for loss is
adequate, the ultimate liability may be in excess of or less than the amounts
recorded. To the extent that subsequent expected ultimate claims costs vary
from historical provisions for loss, future earnings will be charged or
credited.
The provision for loss for professional liability risks, including the cost
of coverage maintained with unaffiliated commercial insurance carriers,
aggregated $54 million and $16 million for the three months ended March 31,
2003 and 2002, respectively.
The provision for loss for workers compensation risks, including the cost of
coverage maintained with unaffiliated commercial insurance carriers, aggregated
$13 million and $12 million for the three months ended March 31, 2003 and 2002,
respectively.
A summary of the assets and liabilities related to insurance risks included
in the unaudited condensed consolidated balance sheet follows (in thousands):
March 31, 2003 December 31, 2002
---------------------------------- ----------------------------------
Professional Workers Professional Workers
liability compensation Total liability compensation Total
------------ ------------ -------- ------------ ------------ --------
Assets:
Current:
Insurance subsidiary
investments................ $151,726 $57,653 $209,379 $ 87,712 $42,703 $130,415
Reinsurance recoverables..... 1,128 - 1,128 6,713 - 6,713
Deposits..................... - 932 932 - 926 926
-------- ------- -------- -------- ------- --------
152,854 58,585 211,439 94,425 43,629 138,054
Non-current:
Insurance subsidiary
investments................ 39,180 - 39,180 18,171 - 18,171
Reinsurance recoverables..... 10,031 - 10,031 6,160 - 6,160
Deposits..................... 7,250 1,270 8,520 7,380 1,270 8,650
Other........................ 318 166 484 319 249 568
-------- ------- -------- -------- ------- --------
56,779 1,436 58,215 32,030 1,519 33,549
-------- ------- -------- -------- ------- --------
$209,633 $60,021 $269,654 $126,455 $45,148 $171,603
======== ======= ======== ======== ======= ========
Liabilities:
Allowance for insurance risks:
Current...................... $ 58,277 $13,405 $ 71,682 $ 45,346 $12,230 $ 57,576
Non-current.................. 234,073 43,634 277,707 211,771 40,756 252,527
-------- ------- -------- -------- ------- --------
$292,350 $57,039 $349,389 $257,117 $52,986 $310,103
======== ======= ======== ======== ======= ========
13
KINDRED HEALTHCARE, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Unaudited)
NOTE 6 - INSURANCE RISKS (Continued)
Provisions for loss for professional liability risks retained by the limited
purpose insurance subsidiary have been discounted based upon management's
estimate of long-term investment yields and independent actuarial estimates of
claim payment patterns. The interest rate used to discount funded professional
liability risks was 5%. Amounts equal to the discounted loss provision are
funded annually. The Company does not fund the portion of professional
liability risks related to estimated claims that have been incurred but not
reported. Accordingly, these liabilities are not discounted. If the Company did
not discount any of the allowance for professional liability risks, these
balances would have approximated $315 million at March 31, 2003 and $275
million at December 31, 2002.
Provisions for loss for workers compensation risks retained by the limited
purpose insurance subsidiary are not discounted and amounts equal to the loss
provision are funded annually.
NOTE 7 - CONTINGENCIES
Management continually evaluates contingencies based upon the best available
evidence. In addition, allowances for loss are provided currently for disputed
items that have continuing significance, such as certain third party
reimbursements and deductions that continue to be claims in current cost
reports and tax returns.
Management believes that allowances for losses have been provided to the
extent necessary and that its assessment of contingencies is reasonable.
Principal contingencies are described below:
Revenues-Certain third party payments are subject to examination by agencies
administering the various programs. The Company is contesting certain issues
raised in audits of prior year cost reports.
Professional liability risks-The Company has provided for loss for
professional liability risks based upon actuarially determined estimates.
Ultimate claims costs may differ from the provisions for loss. See Note 6.
Guarantees of indebtedness-Letters of credit and guarantees of indebtedness
aggregated $6.5 million at March 31, 2003.
Income taxes-The Internal Revenue Service is conducting its examination of
the Company's 2000 and 2001 federal income tax returns.
Litigation-The Company is a party to certain material litigation and
regulatory actions as well as various suits and claims arising in the ordinary
course of business. See Note 8.
Ventas indemnification-In connection with the Company's spin-off from
Ventas, Inc. ("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. The Company also
has agreed to hold Ventas harmless from all claims against Ventas arising from
third party leases and guarantee arrangements entered into before the spin-off.
Under the Plan of Reorganization, the Company agreed to continue to fulfill its
indemnification obligations arising from the spin-off.
14
KINDRED HEALTHCARE, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Unaudited)
NOTE 7 - CONTINGENCIES (Continued)
Other indemnifications-In the ordinary course of business, the Company
enters into contracts containing standard indemnification provisions and
indemnifications specific to a transaction such as a disposal of an operating
facility. These indemnifications may cover claims against employment-related
matters, governmental regulations, environmental issues, and tax matters, as
well as patient, third party payor, supplier and contractual relationships.
Obligations under these indemnities generally would be initiated by a breach of
the terms of the contract or by a third party claim or event. The Company
regularly evaluates the probability of incurring costs associated with these
indemnifications and has provided for expected losses that are probable.
NOTE 8 - LITIGATION
Summary descriptions of various significant legal and regulatory activities
follow.
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 alleges that 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 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.
In October 2002, the defendants filed a motion to dismiss for failure to
prosecute the case. The court granted the motion to dismiss but the plaintiff
subsequently moved the court to vacate the dismissal. The defendants filed an
opposition to the plaintiff's motion to vacate the dismissal, and the court has
not yet ruled on that motion. The Company believes that the allegations in the
complaint are without merit and intends to defend this action vigorously if the
dismissal is vacated.
A putative class action lawsuit entitled Massachusetts State Carpenters
Pension Fund v. Kindred Healthcare, Inc., et al., Civil Action No.
3:02CV-600-J, was filed against the Company and certain of the Company's
current and former officers and directors on October 16, 2002, in the United
States District Court for the Western District of Kentucky, Louisville
Division. The complaint alleges that from August 14, 2001 to October 10, 2002
the defendants violated Sections 10(b) and 20(a) of the Exchange Act by, among
other things, issuing to the investing public a series of allegedly false and
misleading statements that inaccurately indicated that the Company was
successfully emerging from bankruptcy and implementing a growth plan. In
particular, the complaint alleges that these statements were materially false
and misleading because they failed to disclose that
15
KINDRED HEALTHCARE, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Unaudited)
NOTE 8 - LITIGATION (Continued)
the 2001 Florida tort reform legislation had resulted in a marked increase in
claims against the Company in Florida, and also because the statements
reflected a materially understated reserve for professional liability costs.
The complaint further alleges that as a result of the purportedly false and
misleading statements, the price of the Company's common stock was artificially
inflated, the investing public was deceptively induced to purchase the stock at
those inflated prices, and the defendants profited by selling shares at those
prices. The suit seeks an unspecified amount of monetary damages plus interest,
reasonable attorneys' fees and other costs, and any other equitable, injunctive
or other relief that the court deems just and proper. After October 16, 2002,
several other purported class action complaints, which assert essentially
similar allegations as those contained in the Massachusetts State Carpenters
Pension Fund complaint discussed above, also were filed against the same
defendants in the United States District Court for the Western District of
Kentucky, Louisville Division, including but not limited to the cases entitled
Mark Ramsdell v. Kindred Healthcare, Inc., et al., Civil Action
No. 3:02CV-625-R; Paula Hillenbrand v. Kindred Healthcare, Inc., et al., Civil
Action No. 3:02CV-654-R; Marilyn Buck v. Kindred Healthcare, Inc., et al.,
Civil Action No. 3:02CV-732-S; and Eastside Holdings Ltd. v. Kindred
Healthcare, Inc., et al., Civil Action No. 3:02CV-617-H. All of these actions
have been consolidated by the District Court. The Company believes that the
allegations in all of these putative class action complaints are without merit,
and intends to defend these lawsuits vigorously.
Three shareholder derivative suits entitled Elizabeth Sommerfeld v. Kindred
Healthcare, Inc., et al., Civil Action No. 02 CI 08476; Ilse Denchfield v.
Kindred Healthcare, Inc., et al., Civil Action No. 02 CI 09475; and Fedorka v.
Edward L. Kuntz, et al., Civil Action No. 03 CI 02015 were filed in November
2002, December 2002 and March 2003, respectively, in the Jefferson Circuit
Court in Kentucky. The complaints, which recite purported facts substantially
similar to those set forth in the Massachusetts State Carpenters Pension Fund
putative class action and the other securities fraud class actions discussed
above, attempt to assert a claim against the individual defendants for breach
of fiduciary duties for insider selling and misappropriation of information.
Specifically, the complaints allege that each of the individual defendants knew
that the price of the Company's common stock would dramatically decrease when
the Company's inadequate reserves for professional liability risks were
disclosed and that the individual defendants' sales of the Company's common
stock with knowledge of this material non-public information constituted a
breach of their fiduciary duties of loyalty and good faith. The suits seek to
impose a constructive trust in favor of the Company for the amount of profits
each of the individual defendants or their firms may have received from their
November 2001 sales of the Company's common stock, as well as attorneys' fees
and other expenses. The Company believes that the allegations in the complaints
are without merit and intends to defend these actions vigorously.
The Company has been informed by the Kentucky Attorney General's Office that
the Company and certain of its present and former officers and employees are
the subject of several investigations into care issues at the Company's
Kentucky-based nursing facilities that may lead to civil and/or criminal
charges against the Company and/or the individual officers and employees.
Subsequently, the Company was informed that the Kentucky Attorney General's
Office has transferred these investigations to the Fayette County, Kentucky
prosecutor as a special prosecutor with statewide jurisdiction. Such charges
include, but may not be limited to, abuse or neglect of residents and Medicaid
billing fraud related to the alleged provision of substandard care. If civil or
criminal charges are brought against the Company and/or its officers and
employees, they could result in material civil damages, criminal penalties and
fines, and possible exclusion of the Company's nursing facilities from the
Medicare and Medicaid programs and related material defaults under its master
lease agreements with Ventas. The Company believes that these allegations are
without merit and intends to defend against them 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
16
KINDRED HEALTHCARE, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Unaudited)
NOTE 8 - LITIGATION (Continued)
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 the Company's indemnification obligations arising
from the spin-off.
The Company is a party to various legal actions (some of which are not
insured), and regulatory investigations and sanctions 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 (the "DOJ"), the
Centers for Medicare and Medicaid Services ("CMS") or other state and federal
enforcement and 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 financial position, results of operations or liquidity. 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 9 - SUBSEQUENT EVENTS
Transaction with Ventas
On May 14, 2003, the Company announced that it had entered into an agreement
to purchase 15 Florida nursing centers and one Texas nursing center (the
"Facilities") that it leases from Ventas. In the proposed transaction, the
Company will pay approximately $60 million to purchase the Facilities and $4
million in lease termination fees. In addition, the Company has agreed to
certain amendments to its master leases with Ventas to: (1) pay incremental
rent in varying amounts generally over seven years, the net present value of
which will approximate $44 million using a discount rate of 11%, (2) provide
that all annual rent escalators under the master leases will be in cash at all
times, and (3) expand certain cooperation and information sharing provisions of
the master leases. The current annual rent of approximately $9 million on the
Facilities to be purchased will terminate on the closing of the proposed
transaction.
For accounting purposes, the $44 million present value rent obligation to
Ventas will be recorded by the Company as long-term debt upon consummation of
the proposed transaction. The Company expects to record a loss on the proposed
transaction equal to the difference between the present value of the total
consideration paid to Ventas and the estimated fair value of the assets
acquired. The estimation of the fair value of the assets acquired and related
loss will be determined in conjunction with the Company's ongoing divestiture
negotiations with third parties. The Company expects to finance its obligations
at closing through the use of existing cash.
The consummation of the proposed transaction is subject to several material
conditions, including, but not limited to, the receipt of required approvals
from the Company's lenders. The Company has agreed to provide a $5 million
deposit to Ventas that is subject to forfeiture if, among other things, the
Company cannot obtain lender approval by June 25, 2003 or close the transaction
by June 30, 2003. The deposit would be refundable to the Company in the event
of a breach by Ventas.
The Company currently operates 18 nursing centers in Florida and two nursing
centers in Texas. Management intends to divest these operations as soon as
practicable. In addition, the Company plans to consider various other strategic
alternatives for each of its businesses that may lead to enhanced shareholder
value.
Tax Escrow Settlement
On April 3, 2003, the Company received approximately $14 million of
previously escrowed tax refunds as a result of the favorable conclusion of
certain federal income tax examinations for the 1996, 1997 and 1998 tax years
that were shared with Ventas. The receipt of the $14 million will have no
impact on the Company's second quarter earnings because the fresh-start
accounting rules required that this transaction be recorded as a reduction of
goodwill.
17
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," "project," "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 discussed below and detailed
from time to time in the Company's filings with the SEC. Factors that may
affect the Company's plans or results include, without limitation:
. the Company's ability to operate pursuant to the terms of its debt
obligations and its master lease agreements with Ventas,
. the Company's ability to meet its rental and debt services obligations,
. adverse developments with respect to the Company's results of operations
or liquidity,
. the Company's ability to attract and retain key executives and other
healthcare personnel,
. increased operating costs due to shortages in qualified nurses and other
healthcare personnel,
. the effects of healthcare reform and government regulations,
interpretation of regulations and changes in the nature and enforcement
of regulations governing the healthcare industry,
. changes in the reimbursement rates or methods of payment from third party
payors, including the Medicare and Medicaid programs and the new
prospective payment system for long-term acute care hospitals,
. national and regional economic conditions, including their effect on the
availability and cost of labor, materials and other services,
. the Company's ability to control costs, particularly labor and employee
benefit costs,
. the Company's ability to comply with the terms of its Corporate Integrity
Agreement,
. the Company's ability to integrate operations of acquired facilities,
. the increase in the costs of defending and insuring against professional
liability claims and the Company's ability to predict the estimated costs
related to such claims, and
. the Company's ability to successfully reduce (by divestiture or
otherwise) its exposure to professional liability claims in the state of
Florida and other states.
Many of these factors are beyond the Company's control. 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.
18
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (Continued)
General
The business segment data in Note 5 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, hospitals and institutional pharmacies. At March
31, 2003, the Company's health services division operated 285 nursing centers
(37,352 licensed beds) in 32 states and a rehabilitation therapy business. The
Company's hospital division operated 65 hospitals (5,408 licensed beds) in 24
states. The Company also operated an institutional pharmacy business with 30
pharmacies in 19 states which began operating as a separate division on January
1, 2003.
On April 20, 2001, the Company and its subsidiaries emerged from proceedings
under Chapter 11 of Title 11 of the Bankruptcy Code pursuant to the terms of
the Plan of Reorganization.
Critical Accounting Policies
Management's discussion and analysis of financial condition and results of
operations are based upon the Company's unaudited condensed consolidated
financial statements, which have been prepared in accordance with accounting
principles generally accepted in the United States. The preparation of these
financial statements requires the use of estimates and judgments that affect
the reported amounts and related disclosures of commitments and contingencies.
The Company relies on historical experience and on various other assumptions
that management believes to be reasonable under the circumstances to make
judgments about the carrying values of assets and liabilities that are not
readily apparent from other sources. Actual results may differ materially from
these estimates.
The Company believes the following critical accounting policies, among
others, affect the more significant judgments and estimates used in the
preparation of the Company's unaudited condensed consolidated financial
statements.
Revenue recognition
The Company has agreements with third party payors that provide for payments
to its nursing centers, hospitals and pharmacies. These payment arrangements
may be based upon prospective rates, reimbursable costs, established charges,
discounted charges or per diem payments. Net patient service revenue is
reported at the estimated net realizable amounts from Medicare, Medicaid, other
third party payors and individual patients for services rendered. Retroactive
adjustments that are likely to result from future examinations by third party
payors are accrued on an estimated basis in the period the related services are
rendered and adjusted as necessary in future periods based upon final
settlements.
Collectibility of accounts receivable
Accounts receivable consist primarily of amounts due from the Medicare and
Medicaid programs, other government programs, managed care health plans,
commercial insurance companies and individual patients. Estimated provisions
for doubtful accounts are recorded to the extent it is probable that a portion
or all of a particular account will not be collected.
In evaluating the collectibility of accounts receivable, the Company
considers a number of factors, including the age of the accounts, changes in
collection patterns, the composition of patient accounts by payor type, the
19
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (Continued)
Critical Accounting Policies (Continued)
Collectibility of accounts receivable (Continued)
status of ongoing disputes with third party payors and general industry
conditions. Actual collections of accounts receivable in subsequent periods may
require changes in the estimated provision for loss. Changes in these estimates
are charged or credited to the results of operations in the period of the
change.
The provision for doubtful accounts totaled $6 million and $4 million for
the three months ended March 31, 2003 and 2002, respectively.
Allowances for insurance risks
The Company insures a substantial portion of its professional liability
risks and workers compensation risks through a wholly owned limited purpose
insurance subsidiary. Provisions for loss for these risks are based upon
independent actuarially determined estimates.
The allowance for professional liability risks includes an estimate of the
expected cost of reported claims and an amount, based upon past experiences,
for losses incurred but not reported. These liabilities are necessarily based
upon estimates and, while management believes that the provision for loss is
adequate, the ultimate liability may be in excess of or less than the amounts
recorded. To the extent that subsequent expected ultimate claims costs vary
from historical provisions for loss, future earnings will be charged or
credited.
Provisions for loss for professional liability risks retained by the limited
purpose insurance subsidiary have been discounted based upon management's
estimate of long-term investment yields and independent actuarial estimates of
claim payment patterns. The interest rate used to discount funded professional
liability risks was 5%. Amounts equal to the discounted loss provision are
funded annually. The Company does not fund the portion of professional
liability risks related to estimated claims that have been incurred but not
reported. Accordingly, these liabilities are not discounted. The allowance for
professional liability risks recorded in the Company's unaudited condensed
consolidated financial statements aggregated $292 million at March 31, 2003 and
$257 million at December 31, 2002. If the Company did not discount any of the
allowance for professional liability risks, these balances would have
approximated $315 million at March 31, 2003 and $275 million at December 31,
2002.
During 2002, the Company recorded substantial cost increases related to
professional liability risks. A portion of these costs were not funded into the
Company's limited purpose insurance subsidiary in 2002. Based upon actuarially
determined estimates, the Company funded approximately $63 million into its
limited purpose insurance subsidiary on March 31, 2003 to satisfy fiscal 2002
funding requirements.
Changes in the number of professional liability claims and the increasing
cost of these claims significantly impact the allowance for professional
liability risks. A relatively small variance between the Company's estimated
and ultimate actual number of claims or average cost per claim could have a
material impact, either favorable or unfavorable, on the adequacy of the
allowance for professional liability risks. For example, a 1% variance in the
allowance for professional liability risks at March 31, 2003 would have
impacted the Company's operating income by approximately $3 million.
The provision for loss for professional liability risks, including the cost
of coverage maintained with unaffiliated commercial insurance carriers,
aggregated $54 million and $16 million for the three months ended March 31,
2003 and 2002, respectively. The provision for loss for professional liability
risks is subject to ongoing volatility as a result of continued claims
experience, differences between subsequent expected ultimate claims costs and
historical provisions for loss and revisions to actuarial assumptions. In
addition, the cost of commercial insurance coverages related to professional
liability risks is expected to approximate $17 million in 2003 compared to $6
million in 2002.
20
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (Continued)
Critical Accounting Policies (Continued)
Allowances for insurance risks (Continued)
Provisions for loss for workers compensation risks retained by the limited
purpose insurance subsidiary are not discounted and amounts equal to the loss
provision are funded annually. The allowance for workers compensation risks
aggregated $57 million at March 31, 2003 and $53 million at December 31, 2002.
The provision for loss for workers compensation risks, including the cost of
coverage maintained with unaffiliated commercial insurance carriers, aggregated
$13 million and $12 million for the three months ended March 31, 2003 and 2002,
respectively.
See Note 6 of the Notes to Condensed Consolidated Financial Statements.
Accounting for income taxes
The provision for income taxes is based upon the Company's estimate of
taxable income or loss for each respective accounting period. The Company
recognizes an asset or liability for the deferred tax consequences of temporary
differences between the tax bases of assets and liabilities and their reported
amounts in the financial statements. These temporary differences will result in
taxable or deductible amounts in future years when the reported amounts of the
assets are recovered or liabilities are settled. The Company also recognizes as
deferred tax assets the future tax benefits from net operating and capital loss
carryforwards.
There are significant uncertainties with respect to professional liability
costs and future Medicare payments to both the Company's nursing centers and
hospitals which could affect materially the realization of certain deferred tax
assets. Accordingly, the Company has recognized deferred tax assets to the
extent it is more likely than not they will be realized. A valuation allowance
is provided for deferred tax assets to the extent the realizability of the
deferred tax assets is uncertain. Deferred tax assets recognized by the Company
approximated $75 million at both March 31, 2003 and December 31, 2002.
If all or a portion of the pre-reorganization deferred tax asset is realized
in the future, or considered "more likely than not" to be realized by the
Company, goodwill recorded in connection with fresh-start accounting will be
reduced accordingly. If goodwill is eliminated in full, any excess will be
treated as an increase to capital in excess of par value. Goodwill has been
reduced by approximately $93 million since the Company's emergence from
bankruptcy related to the recognition of pre-reorganization deferred tax assets.
Valuation of long-lived assets and goodwill
The Company regularly reviews the carrying value of certain long-lived
assets and the related identifiable intangible assets with respect to any
events or circumstances that indicate an impairment or an adjustment to the
amortization period is necessary. If circumstances suggest the recorded amounts
cannot be recovered, calculated based upon estimated future undiscounted cash
flows, the carrying values of such assets are reduced to fair value.
In assessing the carrying values of long-lived assets, the Company estimates
future cash flows at the lowest level for which there are independent,
identifiable cash flows. For this purpose, these cash flows are aggregated
based upon the contractual agreements underlying the operation of the facility
or group of facilities. Generally, an individual operating facility is
considered the lowest level for which there are independent, identifiable cash
flows. However, to the extent that groups of facilities are leased under a
master lease agreement in which the operations of a facility and compliance
with the lease terms are interdependent upon other facilities in the agreement
(including the Company's ability to renew the lease or divest a particular
property), the Company defines the group of facilities under the master lease
as the lowest level for which there are independent, identifiable cash flows.
Accordingly, the estimated cash flows of all facilities within a master lease
are aggregated for purposes of evaluating the carrying values of long-lived
assets.
21
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (Continued)
Critical Accounting Policies (Continued)
Valuation of long-lived assets and goodwill (Continued)
In connection with the June 2001 issuance of SFAS No. 142 ("SFAS 142"),
"Goodwill and Other Intangible Assets," the Company ceased the amortization of
goodwill beginning on January 1, 2002. In lieu of amortization, the Company is
required to perform an impairment test for goodwill at least annually or more
frequently if adverse events or changes in circumstances indicate that the
asset may be impaired. The Company performs its annual impairment test at the
end of each year.
Regulatory Changes
The Balanced Budget Act of 1997 (the "Balanced 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 Balanced Budget Act has
affected adversely the revenues in the Company's health services division and
hospital division.
The Balanced 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 July 1, 1998.
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 Balanced 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 bad debts and
payments for services to patients transferred from a general short-term acute
care hospital. In addition, the Balanced Budget Act reduced allowable costs for
capital expenditures by 15%. These reductions have had a material adverse
impact on hospital revenues.
Under PPS, the ability to bill Medicare separately for ancillary services
provided 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 is 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 Balanced Budget Act. In November 1999, the Balanced
Budget Refinement Act (the "BBRA") was enacted. Effective April 1, 2000, 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.
22
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (Continued)
Regulatory Changes (Continued)
On May 8, 2003, 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 and $9 million for the three
months ended March 31, 2003 and 2002, respectively.
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.
BIPA also extended the two-year moratorium on outpatient therapy limitations
for skilled nursing center patients under the BBRA through December 31, 2002.
On February 7, 2003, CMS instructed fiscal intermediaries to apply the therapy
limitations for all outpatient rehabilitation services provided by skilled
nursing centers in a prospective manner beginning with claims submitted for
dates of service on or after July 1, 2003. For each subsequent year, the
therapy limitation will be effective for the entire calendar year.
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.
As previously discussed, certain Medicare reimbursement provisions under the
BBRA and BIPA expired as scheduled on October 1, 2002. Accordingly, Medicare
reimbursement to the Company's nursing centers declined by approximately $35
per patient day or $15 million in the first quarter of 2003 compared to the
first quarter of 2002, resulting in a material reduction in nursing center
operating income. The Company's nursing centers received reimbursement under
the BBRA (including amounts related to the 20% upward adjustment discussed
above) of approximately $10 million and $14 million for the three months ended
March 31, 2003 and 2002, respectively. Revenues associated with BIPA aggregated
approximately $11 million for the three months ended March 31, 2002.
On October 1, 2002, the provision under the Balanced Budget Act reducing
allowable hospital capital expenditures by 15% expired. As a result, hospital
Medicare revenues increased by approximately $2 million in the first quarter of
2003.
On August 30, 2002, CMS issued final regulations for the new prospective
payment system for long-term acute care hospitals ("LTAC PPS") that became
effective on October 1, 2002. Because of the Company's Medicare cost reporting
periods, this new payment system will not become effective for all but two of
the Company's long-term acute care hospitals until September 1, 2003.
As anticipated, LTAC PPS is based on discharge-based diagnosis related
groups ("DRGs") similar to the system used to pay short-term acute care
hospitals. While the clinical system which groups procedures and diagnoses is
identical to the prospective payment system for short-term acute care
hospitals, the new payment system utilizes different rates and formulas. Three
types of payments will be used in the new system: (a) short stay outlier
payment, which will provide for patients whose length of stay is less than
5/6th of the average length of stay for that DRG, based upon the lesser of (1)
a per diem based upon the average payment for that DRG, (2) the estimated costs
plus 20%, or (3) the full DRG payment; (b) DRG fixed payment which provides a
single
23
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (Continued)
Regulatory Changes (Continued)
payment for all patients with a given DRG, regardless of length of stay, cost
of care or place of discharge; and (c) high cost outlier that will provide a
partial coverage of costs for patients whose cost of care far exceeds the DRG
reimbursement. For patients in the high cost outlier category, Medicare will
reimburse 80% of the costs incurred above the DRG reimbursement plus a fixed
cost outlier threshold of $24,450 per discharge.
The new system provides for an adjustment for differences in area wages
resulting from salary and benefit variations. There also are additional rules
for payment for patients who are transferred from a long-term care hospital to
another healthcare setting and are subsequently re-admitted to the long-term
care hospital. The LTAC PPS payment rates also are subject to annual
adjustments.
The new system maintains long-term acute care hospitals as a distinct
provider type, separate from short-term acute care hospitals. Only providers
certified as long-term acute care hospitals may be paid under the new system.
To maintain certification under the new payment system, the average length of
stay of Medicare patients must be at least 25 days. Under the previous system,
compliance with the 25-day average length of stay threshold was based on all
patient discharges.
As previously noted, the new system became effective for cost reporting
periods beginning after October 1, 2002. As an alternative to the immediate
adoption of LTAC PPS, long-term acute care hospitals may elect to phase in the
new system over five years. These phase-in provisions will enable providers to
make the necessary operational changes over the next several years to support a
smooth clinical and financial transition to the new payment system.
The Company's hospitals currently receive interim cash payments under TEFRA
as a result of submitting interim and final patient bills twice each month.
Under LTAC PPS, a provider will choose one of two methods of receiving interim
cash payments: (1) by billing each patient at the earlier of the time of
discharge or 60 days from the time of admission or (2) by electing a periodic
interim payment methodology which estimates the total annual LTAC PPS
reimbursement by hospital and converts that amount into a bi-weekly cash
payment. Either payment system may negatively impact the hospital division's
operating cash flows in the third and fourth quarters of 2003.
The Company continues to review the extensive regulations associated with
the new LTAC PPS. Based upon the Company's analysis to date, management
believes that the new system should not have a material impact on its hospital
operating results but may negatively impact operating cash flows in the short
term. These preliminary estimates are based upon current patient acuity and
expense levels in the Company's hospitals. These factors, among others, are
subject to significant change. Slight variations in patient acuity could
significantly change Medicare revenues generated under LTAC PPS. In addition,
the Company's hospitals may not be able to appropriately adjust their operating
costs as patient acuity levels change. As a result of these uncertainties, the
Company cannot predict the ultimate impact of the new LTAC PPS on its hospital
operating results and there can be no assurance that such regulations or
operational changes resulting from these regulations will not have a material
adverse impact on the Company's financial position, results of operations or
liquidity. In addition, there can be no assurance that the new LTAC PPS will
not have a material adverse effect on revenues from non-government third party
payors.
There continue to be legislative and regulatory proposals that would impose
further limitations on government and private payments to providers of
healthcare services. By repealing the Boren Amendment, the Balanced 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. In addition, budgetary pressures currently
impacting a number of states may further reduce Medicaid payments to the
Company's nursing centers.
24
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (Continued)
Regulatory Changes (Continued)
Some states also are considering regulatory changes that include a moratorium
on the designation of additional long-term acute care hospitals. Additionally,
regulatory changes in the Medicaid reimbursement system applicable to the
Company's hospitals and pharmacies have been enacted or 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 and Medicare supplemental insurance policies will remain at
levels comparable to present levels or will be sufficient to cover the costs
allocable to patients eligible for reimbursement pursuant to these 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 financial
position, results of operations or liquidity.
Results of Operations
Health Services Division - Nursing Centers
Revenues decreased slightly to $461 million in the first quarter of 2003
from $462 million in the same quarter a year ago. Patient days on both a
reported basis and same-store basis declined 1% in the first quarter of 2003
compared to the first quarter last year.
Aggregate revenues per patient day increased 1% in the first quarter of 2003
compared to the same period of 2002. Medicare revenues per patient day
decreased 6% to $337 from $358 in the same quarter a year ago. As previously
discussed, the expiration of certain Medicare reimbursement provisions under
the BBRA and BIPA on October 1, 2002 reduced first quarter Medicare revenues by
approximately $35 per patient day or $15 million in the aggregate. Medicaid
revenues per patient day increased 5% in the first quarter of 2003 while
private rates rose 4%.
Nursing center operating income was $24 million for the first quarter of
2003 compared to $83 million for the first quarter last year. Operating margins
decreased to 5.2% for the first quarter of 2003 from 17.9% for the first
quarter last year. The decline in operating income was primarily attributable
to the reduction in Medicare funding and increases in professional liability
costs.
In the first quarter of 2003, the Company recorded significant increases in
professional liability costs in its nursing center business. These costs
aggregated $47 million in the first quarter of 2003 compared to $13 million in
the first quarter last year and $33 million in the fourth quarter of 2002. The
results of the Company's regular quarterly independent actuarial valuation
indicated that the increase in nursing center professional liability costs from
fourth quarter 2002 levels primarily reflected an increase in claims activity
in the first quarter of 2003 in certain states other than Florida.
Approximately $8 million of the first quarter 2003 provision for loss related
to changes in estimates of prior year costs.
Professional liability costs in the first quarter of 2003 related to the
Company's Florida and Texas nursing center operations approximated $22 million
and $1 million, respectively. Pretax losses for these facilities totaled
$19 million and $2 million, respectively, in the first quarter of 2003. See
Note 9 of the Notes to Condensed Consolidated Financial Statements for a
discussion of the Company's Florida and Texas nursing center divestiture
activities.
25
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (Continued)
Results of Operations (Continued)
Health Services Division - Nursing Centers (Continued)
Wage and benefit costs (including contract labor) increased 5% to $284
million in the first quarter of 2003 from $271 million in the first quarter a
year ago. The Company continues to experience wage rate pressures related to a
highly competitive market for healthcare professionals. Average hourly wage
rates rose 5% while employee benefit costs grew 5% per patient day in the first
quarter of 2003 compared to the first quarter of 2002.
The Company expects that the previously discussed reductions in Medicare
reimbursement and significant increases in professional liability costs will
continue to have a material adverse affect on its nursing center business.
Health Services Division - Rehabilitation Services
Revenues increased 9% to $9 million for the first quarter of 2003 from $8
million for the first quarter of 2002. The increase in revenues was primarily
attributable to increased services provided under existing external contracts.
Rehabilitation services reported an operating loss of $1.0 million for the
first quarter of 2003 compared to an operating loss of $0.1 million for the
first quarter of 2002. Operating results for the first quarter of 2002
reflected the favorable impact of collections of old customer accounts that had
been reserved in prior periods.
Hospital Division - Hospitals
Revenues increased 15% to $341 million in the first quarter of 2003 from
$296 million in the same period a year ago. Patient days increased 9% in the
first quarter of 2003 from the same period a year ago. On a same-store basis,
revenues increased 9% and patient days increased 2% compared to the same period
a year ago.
In addition to increased patient volumes, higher rates generally contributed
to growth in hospital revenues. Aggregate rates increased approximately 6% in
the first quarter of 2003 compared to the first quarter of 2002. The growth in
aggregate rates was primarily attributable to increases in private rates, which
grew 17% to $1,877 in the first quarter of 2003 from $1,609 last year due in
part to the collection of certain disputed accounts that had been reserved in
prior years.
Hospital operating income rose 18% in the first quarter of 2003 to $70
million from $60 million in the first quarter of 2002. The acquisition of
Specialty increased first quarter 2003 operating income by $5 million.
Operating margins were 20.6% in the first quarter of 2003 compared to 20.1% in
the same period last year. Hospital operating income in the first quarter of
2002 included proceeds of approximately $1.5 million from an insurance recovery.
Wage and benefit costs (including contract labor) increased 14% to $175
million in the first quarter of 2003 from $153 million in the same period of
2002. Substantially all of the growth in wages during the first quarter of 2003
was attributable to wage rate pressures and growth in patient volumes. As a
result of a highly competitive marketplace for healthcare professionals
(particularly registered nurses), the average hourly wage rate rose 4% in the
first quarter of 2003 compared to the first quarter of 2002, while employee
benefit costs rose 10% per patient day in the first quarter of 2003 compared to
the first quarter of 2002. Average wage rates reflected a decline in contract
labor costs to $8 million in the first quarter of 2003 from $11 million in the
first quarter last year.
Professional liability costs were $7 million and $3 million in the first
quarter of 2003 and 2002, respectively.
26
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (Continued)
Results of Operations (Continued)
Pharmacy Division
Revenues increased 16% in the first quarter of 2003 to $69 million compared
to $59 million a year ago. The increase resulted primarily from growth in the
number of nursing center customers and price increases. Revenues for the first
quarter of 2003 also were favorably impacted by increased utilization of higher
priced drugs. Beginning January 1, 2003, intercompany prices charged to the
Company's nursing centers (related primarily to Medicare-eligible patients)
were based upon a fee-for-service arrangement. Prior thereto, intercompany
charges were based on a fixed per-diem amount adjusted annually for inflation.
Intercompany revenues from the Company's nursing centers increased 9% to $17
million in the first quarter of 2003 compared to $16 million in the first
quarter of last year.
At March 31, 2003, the Company provided pharmacy services to nursing centers
containing 58,200 licensed beds, including 29,800 licensed beds that the
Company operates. The Company provided pharmacy services to nursing centers
containing 56,200 licensed beds, including 30,500 licensed beds that the
Company operated at March 31, 2002.
Pharmacy division operating income totaled $7 million in the first quarter
of 2003 compared to $6 million in the first quarter of 2002. Pharmacy operating
margins increased to 10% in the first quarter of 2003 compared to 9.4% in the
first quarter a year ago. The improvement in pharmacy operating income was
primarily attributable to the new fee-for-service pricing arrangement with
Company-operated nursing centers that became effective in 2003. The cost of
goods sold as a percentage of revenues increased to 62.4% in the first quarter
of 2003 compared to 61% in the first quarter last year, primarily as a result
of Medicaid reimbursement reductions in certain states.
Corporate Overhead
Operating income for the Company's operating divisions excludes allocation
of corporate overhead. These costs aggregated $29 million in the first quarter
of 2003 compared to $33 million in the first quarter of 2002. Corporate
overhead in the first quarter of 2002 included severance costs of approximately
$1.5 million. As a percentage of revenues (before eliminations), the overhead
ratio was 3.3% in the first quarter of 2003 compared to 4% in the same period
of 2002.
Capital Costs
Rent expense increased 4% to $68 million in the first quarter of 2003
compared to $66 million in the first quarter last year. A substantial portion
of the increase resulted from contractual inflation increases.
Depreciation expense increased to $20 million in the first quarter of 2003
compared to $17 million in the first quarter last year primarily as a result of
the Company's ongoing capital expenditure program.
Interest expense in the first quarter of 2003, substantially all of which
related to the Company's floating rate senior secured notes, aggregated $3
million compared to $4 million in the same period last year. The reduction in
interest costs from last year's first quarter resulted from prepayments of
long-term debt and reductions in interest rates. At March 31, 2003, the
effective interest rate of the senior secured notes was 5.1%.
Investment income related to the Company's excess cash balances and
insurance subsidiary investments totaled $2 million in the first quarters of
both 2003 and 2002.
27
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (Continued)
Results of Operations (Continued)
Consolidated Results
The Company reported a pretax loss of $19 million for the first quarter of
2003 compared to pretax income of $31 million for the first quarter of 2002.
The net loss in the first quarter of 2003 aggregated $13 million compared to
net income of $18 million in the first quarter of 2002.
Liquidity
Cash flows used in operations before reorganization items aggregated $21
million for the first quarter of 2003 compared to cash flows provided by
operations before reorganization items of $35 million for the same period a
year ago. During both periods, the Company maintained adequate liquidity to
fund its capital expenditures.
Cash and cash equivalents totaled $100 million at March 31, 2003 compared to
$244 million at December 31, 2002. As previously announced, the Company funded
approximately $63 million into its limited purpose insurance subsidiary on
March 31, 2003 in satisfaction of its 2002 professional liability funding
requirements. Operating cash flows in the first quarter of 2003 reflected a $53
million increase in accounts receivable. Medicare and private receivables in
the Company's hospitals increased by approximately $27 million and $12 million,
respectively, in the first quarter, while slower Medicaid payments to the
Company's nursing centers accounted for approximately $9 million of the
increase. Based upon existing cash levels, expected operating cash flows and
capital spending, and the availability of borrowings under the revolving credit
facility, management believes that the Company has the necessary financial
resources to satisfy expected short-term liquidity needs.
Collections of accounts receivable are expected to improve in the second
quarter of 2003, primarily through normal Medicare settlements and lump-sum
payments based on recently filed annual hospital cost reports.
On March 19, 2003, the Company amended certain financial covenants for
periods after December 31, 2002 under the Company's revolving credit facility
and senior secured notes. These amendments reflected the estimated future
financial impact of certain Medicare reimbursement reductions to the Company's
nursing centers that became effective on October 1, 2002 and expected
significant increases in professional liability costs. In connection with the
amendments, the provisions in the agreements allowing the Company to repurchase
its common stock, pay limited dividends and increase annual capital
expenditures beginning in fiscal 2003 were rescinded. In addition, the amount
of allowable acquisitions and investments in healthcare facilities was reduced
to $50 million from $130 million. Through March 31, 2003, the Company had
expended approximately $30 million in allowable acquisitions and investments in
healthcare facilities. Other material terms of the credit agreements, including
maturities, repayment terms and rates of interest, were unchanged.
The Company was in compliance with the covenants related to its revolving
credit facility and senior secured notes at March 31, 2003. Long-term debt at
March 31, 2003 aggregated $162 million, relatively unchanged from December 31,
2002. There were no outstanding borrowings under the Company's revolving credit
facility at March 31, 2003. If the Company is unable to stem its operating
losses, the Company may be required to seek covenant amendments to its
revolving credit facility and senior secured notes agreements.
As previously discussed, the Company has recently experienced a significant
increase in professional liability costs. These costs are expected to continue
to increase in the foreseeable future. In addition, the expiration of certain
Medicare funding the BBRA and BIPA on October 1, 2002 reduced the average
Medicare rate received by the Company's nursing centers by approximately $35
per patient day (approximately
28
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (Continued)
Liquidity (Continued)
$15 million in the first quarter of 2003). Accordingly, the Company believes
that the combined effect of these changes in revenues and expenses will have a
material adverse effect on the Company's financial position, results of
operations and liquidity in the future.
Capital Resources
Capital expenditures totaled $11 million in the first quarter of 2003
compared to $10 million in the first quarter of 2002. Excluding acquisitions,
capital expenditures could approximate $75 million in 2003. Management believes
that its capital expenditure program is adequate to improve and equip existing
facilities.
Capital expenditures in both periods were financed through the use of
existing liquidity. At March 31, 2003, the estimated cost to complete and equip
construction in progress approximated $5 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 and generally prohibit repurchases of
common stock and the payment of cash dividends.
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.
However, these adjustments may not reflect the actual increase in the costs of
providing healthcare services. In addition, by repealing the Boren Amendment,
the Balanced 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
Balanced Budget Act.
Beginning in 2000, the BBRA provided a measure of relief to the Medicare
reimbursement reductions imposed by the Balanced Budget Act. Effective April 1,
2001, BIPA provided additional Medicare reimbursement to the Company's nursing
centers and hospitals. The provisions of the BBRA and BIPA positively impacted
the Company's 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 expired on October 1, 2002. The expiration of these provisions
reduced the Company's average Medicare rate paid to its nursing centers by
approximately $35 per patient day. In addition, the Company continues to
experience substantial increases in professional liability costs in its nursing
center business.
Management believes that the Company's operating margins will continue to be
under pressure, particularly in the Company's nursing center business, as the
growth in operating expenses, particularly professional liability, labor and
employee benefits costs, exceeds payment increases from 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.
29
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (Continued)
Other Information (Continued)
Litigation
The Company is a party to certain material litigation. See Note 8 of the
Notes to Condensed Consolidated Financial Statements.
30
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)
2002 Quarters First
-------------------------------------- Quarter
First Second Third (a) Fourth Year (a) 2003
-------- -------- --------- -------- ---------- --------
Revenues............................ $811,244 $838,573 $859,721 $848,284 $3,357,822 $863,078
-------- -------- -------- -------- ---------- --------
Salaries, wages and benefits........ 467,401 478,520 487,397 491,121 1,924,439 501,312
Supplies............................ 101,314 105,431 108,335 109,097 424,177 110,095
Rent................................ 65,611 67,818 68,327 68,806 270,562 68,392
Other operating expenses............ 127,297 134,045 191,520 153,532 606,394 180,509
Depreciation........................ 16,696 17,413 18,287 18,960 71,356 20,083
Interest expense.................... 3,732 3,818 1,368 3,135 12,053 2,888
Investment income................... (1,880) (3,400) (2,344) (2,050) (9,674) (1,638)
-------- -------- -------- -------- ---------- --------
780,171 803,645 872,890 842,601 3,299,307 881,641
-------- -------- -------- -------- ---------- --------
Income (loss) before reorganization
items and income taxes............ 31,073 34,928 (13,169) 5,683 58,515 (18,563)
Reorganization items................ - (5,520) - - (5,520) -
-------- -------- -------- -------- ---------- --------
Income (loss) before income taxes... 31,073 40,448 (13,169) 5,683 64,035 (18,563)
Provision (benefit) for income taxes 12,895 16,786 (3,013) 2,614 29,282 (5,439)
-------- -------- -------- -------- ---------- --------
Net income (loss).................. $ 18,178 $ 23,662 $(10,156) $ 3,069 $ 34,753 $(13,124)
======== ======== ======== ======== ========== ========
Earnings (loss) per common share:
Basic.............................. $ 1.05 $ 1.36 $ (0.58) $ 0.18 $ 2.00 $ (0.76)
Diluted............................ $ 0.95 $ 1.21 $ (0.58) $ 0.18 $ 1.93 $ (0.76)
Shares used in computing earnings
(loss) per common share:
Basic.............................. 17,308 17,345 17,380 17,377 17,361 17,377
Diluted............................ 19,074 19,554 17,380 17,384 18,001 17,377
- --------
(a) In accordance with SFAS 145, a $1.4 million gain on the extinguishment of
debt previously classified as an extraordinary item was reclassified to
income (loss) from operations.
31
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (Continued)
Operating Data
(Unaudited)
(In thousands)
2002 Quarters (a) First
-------------------------------------- Quarter
First Second Third (b) Fourth Year (b) 2003
-------- -------- --------- -------- ---------- --------
Revenues:
Health services division:
Nursing centers.................. $461,887 $460,973 $470,676 $460,595 $1,854,131 $460,559
Rehabilitation services.......... 7,830 8,566 8,697 9,203 34,296 8,502
-------- -------- -------- -------- ---------- --------
469,717 469,539 479,373 469,798 1,888,427 469,061
Hospital division:
Hospitals........................ 296,442 322,764 330,910 326,183 1,276,299 340,855
Ancillary services............... 1,870 2,278 1,639 1,766 7,553 1,759
-------- -------- -------- -------- ---------- --------
298,312 325,042 332,549 327,949 1,283,852 342,614
Pharmacy division.................. 59,178 59,948 64,014 67,089 250,229 68,828
-------- -------- -------- -------- ---------- --------
827,207 854,529 875,936 864,836 3,422,508 880,503
Elimination of pharmacy charges to
Company nursing centers.......... (15,963) (15,956) (16,215) (16,552) (64,686) (17,425)
-------- -------- -------- -------- ---------- --------
$811,244 $838,573 $859,721 $848,284 $3,357,822 $863,078
======== ======== ======== ======== ========== ========
Net income (loss):
Operating income (loss):
Health services division:
Nursing centers.................. $ 82,727 $ 82,822 $ 27,276 $ 41,687 $ 234,512 $ 24,055
Rehabilitation services.......... (66) 288 1,155 (1,639) (262) (959)
-------- -------- -------- -------- ---------- --------
82,661 83,110 28,431 40,048 234,250 23,096
Hospital division:
Hospitals........................ 59,574 62,326 70,979 67,561 260,440 70,304
Ancillary services............... 135 246 (240) 118 259 180
-------- -------- -------- -------- ---------- --------
59,709 62,572 70,739 67,679 260,699 70,484
Pharmacy division.................. 5,537 5,823 5,856 6,056 23,272 6,902
Corporate overhead................. (32,675) (30,403) (32,557) (21,569) (117,204) (29,320)
-------- -------- -------- -------- ---------- --------
115,232 121,102 72,469 92,214 401,017 71,162
Unusual transactions............... - (525) - 2,320 1,795 -
Reorganization items............... - 5,520 - - 5,520 -
-------- -------- -------- -------- ---------- --------
Operating income................. 115,232 126,097 72,469 94,534 408,332 71,162
Rent................................ (65,611) (67,818) (68,327) (68,806) (270,562) (68,392)
Depreciation........................ (16,696) (17,413) (18,287) (18,960) (71,356) (20,083)
Interest, net....................... (1,852) (418) 976 (1,085) (2,379) (1,250)
-------- -------- -------- -------- ---------- --------
Income (loss) before income taxes... 31,073 40,448 (13,169) 5,683 64,035 (18,563)
Provision (benefit) for income taxes 12,895 16,786 (3,013) 2,614 29,282 (5,439)
-------- -------- -------- -------- ---------- --------
$ 18,178 $ 23,662 $(10,156) $ 3,069 $ 34,753 $(13,124)
======== ======== ======== ======== ========== ========
- --------
(a) Operating data for 2002 have been reclassified to reflect certain cost
realignments between the nursing centers and rehabilitation services
business and the establishment of the Company's institutional pharmacy
business as a separate operating division, both of which were effective on
January 1, 2003.
(b) In accordance with SFAS 145, a $1.4 million gain on the extinguishment of
debt previously classified as an extraordinary item was reclassified to
income (loss) from operations.
32
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (Continued)
Operating Data (Continued)
(Unaudited)
(In thousands)
2002 Quarters (a) First
------------------------------- Quarter
First Second Third Fourth Year 2003
------- ------- ------- ------- -------- -------
Rent:
Health services division:
Nursing centers...................... $41,276 $42,088 $42,759 $43,092 $169,215 $43,129
Rehabilitation services.............. 24 24 37 43 128 69
------- ------- ------- ------- -------- -------
41,300 42,112 42,796 43,135 169,343 43,198
Hospital division:
Hospitals............................ 23,336 24,675 24,513 24,375 96,899 24,204
Ancillary services................... 225 234 225 232 916 201
------- ------- ------- ------- -------- -------
23,561 24,909 24,738 24,607 97,815 24,405
Pharmacy division..................... 717 734 741 998 3,190 725
Corporate............................. 33 63 52 66 214 64
------- ------- ------- ------- -------- -------
$65,611 $67,818 $68,327 $68,806 $270,562 $68,392
======= ======= ======= ======= ======== =======
Depreciation:
Health services division:
Nursing centers...................... $ 6,076 $ 6,149 $ 6,598 $ 6,617 $ 25,440 $ 6,927
Rehabilitation services.............. 9 6 13 15 43 16
------- ------- ------- ------- -------- -------
6,085 6,155 6,611 6,632 25,483 6,943
Hospital division:
Hospitals............................ 6,361 6,638 6,994 7,087 27,080 7,255
Ancillary services................... 146 200 131 103 580 119
------- ------- ------- ------- -------- -------
6,507 6,838 7,125 7,190 27,660 7,374
Pharmacy division..................... 397 428 469 513 1,807 531
Corporate............................. 3,707 3,992 4,082 4,625 16,406 5,235
------- ------- ------- ------- -------- -------
$16,696 $17,413 $18,287 $18,960 $ 71,356 $20,083
======= ======= ======= ======= ======== =======
Capital expenditures, excluding
acquisitions:
Health services division.............. $ 2,116 $ 4,728 $ 6,498 $10,785 $ 24,127 $ 3,273
Hospital division..................... 3,316 6,430 6,056 10,831 26,633 2,822
Pharmacy division..................... 396 782 882 1,431 3,491 616
Corporate:
Information systems.................. 3,330 6,632 6,474 9,140 25,576 3,207
Other................................ 710 787 1,056 1,691 4,244 647
------- ------- ------- ------- -------- -------
$ 9,868 $19,359 $20,966 $33,878 $ 84,071 $10,565
======= ======= ======= ======= ======== =======
- --------
(a) Operating data for 2002 have been reclassified to reflect certain cost
realignments between the nursing centers and rehabilitation services
business and the establishment of the Company's institutional pharmacy
business as a separate operating division, both of which were effective on
January 1, 2003.
33
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (Continued)
Operating Data (Continued)
(Unaudited)
2002 Quarters First
------------------------------------------- Quarter
First Second Third Fourth Year 2003
---------- ---------- ---------- ---------- ----------- ----------
Nursing Center Data:
End of period data:
Number of nursing centers:
Owned or leased........................ 280 278 278 278 278
Managed................................ 14 10 10 7 7
---------- ---------- ---------- ---------- ----------
294 288 288 285 285
========== ========== ========== ========== ==========
Number of licensed beds:
Owned or leased........................ 36,615 36,620 36,592 36,573 36,549
Managed................................ 1,417 1,017 1,017 803 803
---------- ---------- ---------- ---------- ----------
38,032 37,637 37,609 37,376 37,352
========== ========== ========== ========== ==========
Revenue mix %:
Medicare................................. 34 34 33 31 33 33
Medicaid................................. 46 47 48 50 48 48
Private and other........................ 20 19 19 19 19 19
Patient days (excludes managed facilities):
Medicare................................. 439,715 439,913 427,688 420,916 1,728,232 448,291
Medicaid................................. 1,883,679 1,890,725 1,937,000 1,945,576 7,656,980 1,875,858
Private and other........................ 502,996 500,934 501,298 492,888 1,998,116 462,782
---------- ---------- ---------- ---------- ----------- ----------
2,826,390 2,831,572 2,865,986 2,859,380 11,383,328 2,786,931
========== ========== ========== ========== =========== ==========
Revenues per patient day:
Medicare................................. $ 358 $ 358 $ 361 $ 334 $ 353 $ 337
Medicaid................................. 114 113 116 119 116 119
Private and other........................ 179 178 181 181 180 187
Weighted average......................... 163 163 164 161 163 165
Hospital Data:
End of period data:
Number of hospitals...................... 57 63 64 65 65
Number of licensed beds.................. 4,961 5,276 5,344 5,385 5,408
Revenue mix % (a):
Medicare................................. 58 61 58 61 59 60
Medicaid................................. 10 8 8 9 9 8
Private and other........................ 32 31 34 30 32 32
Patient days:
Medicare................................. 196,057 218,392 209,158 211,990 835,597 222,919
Medicaid................................. 33,864 32,635 33,590 34,733 134,822 32,266
Private and other........................ 58,437 57,266 56,623 57,279 229,605 58,369
---------- ---------- ---------- ---------- ----------- ----------
288,358 308,293 299,371 304,002 1,200,024 313,554
========== ========== ========== ========== =========== ==========
Revenues per patient day (a):
Medicare................................. $ 880 $ 893 $ 913 $ 940 $ 907 $ 918
Medicaid................................. 880 811 831 821 836 825
Private and other........................ 1,609 1,768 1,977 1,719 1,767 1,877
Weighted average......................... 1,028 1,047 1,105 1,073 1,064 1,087
Pharmacy Data:
Number of customer licensed beds at end
of period:
Company-operated......................... 30,471 30,568 30,279 29,966 29,804
Non-affiliated........................... 25,695 27,148 28,460 28,873 28,365
---------- ---------- ---------- ---------- ----------
56,166 57,716 58,739 58,839 58,169
========== ========== ========== ========== ==========
- --------
(a) Includes $12.1 million related to a favorable settlement with a private
insurance company recorded in the third quarter of 2002.
34
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 utilizing 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
2003 2004 2005 2006 2007 Thereafter Total 3/31/03
---- ---- ---- ---- ---- ---------- -------- --------
Liabilities:
Long-term debt, including amounts due
within one year:
Fixed rate......................... $146 $ 64 $ 70 $ 76 $ 83 $ 1,215 $ 1,654 $ 1,679
Average interest rate.............. 9.6% 8.8% 8.8% 8.8% 8.8% 8.8%
Variable rate...................... $ - $ - $ - $ - $ - $160,500 $160,500 $148,462
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%.
ITEM 4. CONTROLS AND PROCEDURES
Evaluation of Disclosure Controls and Procedures
Within the 90 days prior to the date of this report, the Company carried out
an evaluation under the supervision and with the participation of the Company's
management, including the Chief Executive Officer and Chief Financial Officer,
of the effectiveness of the design and operation of the Company's disclosure
controls and procedures. There are inherent limitations to the effectiveness of
any system of disclosure controls and procedures, including the possibility of
human error and the circumvention or overriding of the controls and procedures.
Accordingly, even effective disclosure controls and procedures can only provide
reasonable assurance of achieving their control objectives. Based upon and as
of the date of the Company's evaluation, the Chief Executive Officer and Chief
Financial Officer concluded that the disclosure controls and procedures are
effective in all material respects to ensure that information required to be
disclosed in the reports the Company files and submits under the Exchange Act
are recorded, processed, summarized and reported as and when required.
There have been no significant changes in the Company's internal controls or
in other factors that could significantly affect the Company's internal
controls subsequent to the date of the evaluation, including any corrective
actions with regard to significant deficiencies and material weaknesses.
35
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
Summary descriptions of various significant legal and regulatory activities
follow.
The Company has been informed by the Kentucky Attorney General's Office that
the Company and certain of its present and former officers and employees are
the subject of several investigations into care issues at the Company's
Kentucky-based nursing facilities that may lead to civil and/or criminal
charges against the Company and/or the individual officers and employees.
Subsequently, the Company was informed that the Kentucky Attorney General's
Office has transferred these investigations to the Fayette County, Kentucky
prosecutor as a special prosecutor with statewide jurisdiction. Such charges
include, but may not be limited to, abuse or neglect of residents and Medicaid
billing fraud related to the alleged provision of substandard care. If civil or
criminal charges are brought against the Company and/or its officers and
employees, they could result in material civil damages, criminal penalties and
fines, and possible exclusion of the Company's nursing facilities from the
Medicare and Medicaid programs and related material defaults under its master
lease agreements with Ventas. The Company believes that these allegations are
without merit and intends to defend against them 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 the Company's indemnification obligations arising from the spin-off.
The Company is a party to various legal actions (some of which are not
insured), and regulatory investigations and sanctions 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 DOJ, CMS or other state and federal enforcement
and 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 financial
position, results of operations or liquidity. 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.
36
PART II. OTHER INFORMATION (Continued)
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits:
3.1 Amended and Restated Bylaws of the Company. Exhibit 3.3 to the Company's Form 10-K for
the year ended December 31, 2002 (Comm. File No. 001-14057) is hereby incorporated by
reference.
10.1 Amendment No. 4, dated as of March 19, 2003, 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 and Collateral Agent, and General Electric Capital
Corporation, as Documentation Agent and Collateral Monitoring Agent. Exhibit 99.1 to the
Company's Current Report on Form 8-K dated March 19, 2003 (Comm. File No. 001-14057)
is hereby incorporated by reference.
10.2 Amendment No. 4, dated as of March 19, 2003, 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 99.2 to the Company's Current Report on Form 8-K
dated March 19, 2003 (Comm. File No. 001-14057) is hereby incorporated by reference.
10.3 Employment Agreement dated as of March 24, 2003 by and between Kindred Healthcare, Inc.
and Edward L. Kuntz.
10.4 Employment Agreement dated as of February 25, 2003 by and among Kindred Healthcare
Operating, Inc. and Mark A. McCullough.
10.5 Change-in-Control Severance Agreement dated as of February 25, 2003 by and between
Kindred Healthcare Operating, Inc. and Mark A. McCullough.
10.6 Employment Agreement dated as of February 25, 2003 by and among Kindred Healthcare
Operating, Inc. and Joseph L. Landenwich.
10.7 Change-in-Control Severance Agreement dated as of February 25, 2003 by and between
Kindred Healthcare Operating, Inc. and Joseph L. Landenwich.
99.1 Certificate pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
99.2 Corporate Governance Guidelines. Exhibit 99.5 to the Company's Form 10-K for the year
ended December 31, 2002 (Comm. File No. 001-14057) is hereby incorporated by reference.
(b) Reports on Form 8-K:
On March 19, 2003, the Company filed a Current Report on Form 8-K announcing
that it had successfully completed certain amendments to its $120 million
revolving credit agreement and its $300 million senior secured note agreement.
On March 24, 2003, the Company filed a Current Report on Form 8-K announcing
its financial results for the fourth quarter and fiscal year ended December 31,
2002.
37
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: May 15, 2003 /s/ EDWARD L. KUNTZ
-------------------------------
Edward L. Kuntz
Chairman of the Board and
Chief Executive Officer
Date: May 15, 2003 /s/ RICHARD A. LECHLEITER
-------------------------------
Richard A. Lechleiter
Senior Vice President, Chief
Financial Officer and Treasurer
38
Certification Required By Rules 13a-14 and 15d-14
under the Securities Exchange Act of 1934
I, Edward L. Kuntz, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Kindred Healthcare,
Inc.;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and cash
flows of the registrant as of, and for, the periods presented in this
quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
(a) Designed such disclosure controls and procedures to ensure that material
information relating to the registrant, including its consolidated
subsidiaries, is made known to us by others within those entities,
particularly during the period in which this quarterly report is being
prepared;
(b) Evaluated the effectiveness of the registrant's disclosure controls and
procedures as of a date within 90 days prior to the filing date of this
quarterly report (the "Evaluation Date"); and
(c) Presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit
committee of the registrant's board of directors (or persons performing the
equivalent function):
(a) All significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data and have identified
for the registrant's auditors any material weaknesses in internal
controls; and
(b) Any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation, including any
corrective actions with regard to significant deficiencies and material
weaknesses.
Date: May 15, 2003 /s/ EDWARD L. KUNTZ
-------------------------
Edward L. Kuntz
Chairman of the Board and
Chief Executive Officer
39
Certification Required By Rules 13a-14 and 15d-14
under the Securities Exchange Act of 1934
I, Richard A. Lechleiter, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Kindred Healthcare,
Inc.;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and cash
flows of the registrant as of, and for, the periods presented in this
quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
(a) Designed such disclosure controls and procedures to ensure that material
information relating to the registrant, including its consolidated
subsidiaries, is made known to us by others within those entities,
particularly during the period in which this quarterly report is being
prepared;
(b) Evaluated the effectiveness of the registrant's disclosure controls and
procedures as of a date within 90 days prior to the filing date of this
quarterly report (the "Evaluation Date"); and
(c) Presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit
committee of the registrant's board of directors (or persons performing the
equivalent function):
(a) All significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data and have identified
for the registrant's auditors any material weaknesses in internal
controls; and
(b) Any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation, including any
corrective actions with regard to significant deficiencies and material
weaknesses.
Date: May 15, 2003 /s/ RICHARD A. LECHLEITER
-------------------------------
Richard A. Lechleiter
Senior Vice President, Chief
Financial Officer and Treasurer
40