-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, G5au/z/uGM2ARdGXrAsUUdh1dvKl6SYPywE3h1s4sYSYNNLN+Y/iXD9yvnxej/sV A1vALP8XW4ojrMi1UQhZrw== 0000950117-02-002530.txt : 20021031 0000950117-02-002530.hdr.sgml : 20021031 20021031090444 ACCESSION NUMBER: 0000950117-02-002530 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 6 CONFORMED PERIOD OF REPORT: 20020930 FILED AS OF DATE: 20021031 FILER: COMPANY DATA: COMPANY CONFORMED NAME: QUEST DIAGNOSTICS INC CENTRAL INDEX KEY: 0001022079 STANDARD INDUSTRIAL CLASSIFICATION: SERVICES-MEDICAL LABORATORIES [8071] IRS NUMBER: 161387862 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: 1934 Act SEC FILE NUMBER: 001-12215 FILM NUMBER: 02803931 BUSINESS ADDRESS: STREET 1: ONE MALCOLM AVE CITY: TETERBORO STATE: NJ ZIP: 07608 BUSINESS PHONE: 2013935000 MAIL ADDRESS: STREET 1: ONE MALCOLM AVE CITY: TETERBORO STATE: NJ ZIP: 07601 FORMER COMPANY: FORMER CONFORMED NAME: CORNING CLINICAL LABORATORIES INC DATE OF NAME CHANGE: 19960903 10-Q 1 a33594.txt QUEST DIAGNOSTICS SECURITIES AND EXCHANGE COMMISSION WASHINGTON, DC 20549 - -------------------------------------------------------------------------------- FORM 10-Q QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the Quarter ended September 30, 2002 Commission file number 1-12215 Quest Diagnostics Incorporated One Malcolm Avenue Teterboro, NJ 07608 (201) 393-5000 Delaware (State of Incorporation) 16-1387862 (I.R.S. Employer Identification Number) - -------------------------------------------------------------------------------- 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 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 --- --- As of October 28, 2002, there were outstanding 97,796,624 shares of Common Stock, $.01 par value. PART I - FINANCIAL INFORMATION Item 1. Financial Statements Index to consolidated financial statements filed as part of this report:
Page Consolidated Statements of Operations for the Three and Nine months ended September 30, 2002 and 2001 2 Consolidated Balance Sheets as of September 30, 2002 and December 31, 2001 3 Consolidated Statements of Cash Flows for the Nine months ended September 30, 2002 and 2001 4 Notes to Consolidated Financial Statements 5 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations Management's Discussion and Analysis of Financial Condition and Results of Operations 19 Item 3. Quantitative and Qualitative Disclosures About Market Risk See Item 2. "Management's Discussion and Analysis of Financial Condition and Results of Operations" Item 4. Controls and Procedures Controls and Procedures 27
1 QUEST DIAGNOSTICS INCORPORATED AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF OPERATIONS FOR THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2002 AND 2001 (in thousands, except per share data) (unaudited)
Three Months Ended Nine Months Ended September 30, September 30, -------------------------- -------------------------- 2002 2001 2002 2001 ---- ---- ---- ---- Net revenues .......................................... $1,058,714 $903,189 $3,074,286 $2,717,331 ---------- -------- ---------- ---------- Costs and expenses: Cost of services ................................... 625,075 535,564 1,813,071 1,614,020 Selling, general and administrative ................ 272,587 251,048 807,811 760,324 Interest expense, net .............................. 13,388 14,810 40,979 57,968 Amortization of goodwill and other intangible assets 2,023 11,442 6,243 34,681 Provision for special charge ....................... - - - 5,997 Minority share of income ........................... 3,661 2,876 11,481 6,843 Other, net ......................................... (4,165) (2,437) (10,439) (3,571) ---------- -------- ---------- ---------- Total ............................................ 912,569 813,303 2,669,146 2,476,262 ---------- -------- ---------- ---------- Income before taxes and extraordinary loss ............ 146,145 89,886 405,140 241,069 Income tax expense .................................... 59,528 39,764 164,683 108,095 ---------- -------- ---------- ---------- Income before extraordinary loss ...................... 86,617 50,122 240,457 132,974 Extraordinary loss, net of taxes ...................... - - - (21,609) ---------- -------- ---------- ---------- Net income ............................................ $ 86,617 $ 50,122 $ 240,457 $ 111,365 ========== ======== ========== ========== Basic earnings per common share: Income before extraordinary loss ...................... $ 0.89 $ 0.54 $ 2.50 $ 1.43 Extraordinary loss, net of taxes ...................... - - - (0.23) ---------- -------- ---------- ---------- Net income ............................................ $ 0.89 $ 0.54 $ 2.50 $ 1.20 ========== ======== ========== ========== Diluted earnings per common share: Income before extraordinary loss ...................... $ 0.87 $ 0.51 $ 2.41 $ 1.37 Extraordinary loss, net of taxes ...................... - - - (0.23) ---------- -------- ---------- ---------- Net income ............................................ $ 0.87 $ 0.51 $ 2.41 $ 1.14 ========== ======== ========== ========== Weighted average common shares outstanding - basic ................................ 96,900 93,382 96,238 92,612 Weighted average common shares outstanding - diluted .............................. 99,712 98,046 99,772 97,323
The accompanying notes are an integral part of these statements. 2 QUEST DIAGNOSTICS INCORPORATED AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS SEPTEMBER 30, 2002 AND DECEMBER 31, 2001 (in thousands, except per share data) (unaudited)
September 30, December 31, 2002 2001 ---------- ---------- Assets Current assets: Cash and cash equivalents ................................................ $ 113,854 $ 122,332 Accounts receivable, net of allowance of $207,174 and $216,203 at September 30, 2002 and December 31, 2001, respectively ................. 576,461 508,340 Inventories .............................................................. 59,015 49,906 Deferred taxes on income ................................................. 139,812 157,649 Prepaid expenses and other current assets ................................ 41,003 38,287 ---------- ---------- Total current assets ................................................... 930,145 876,514 Property, plant and equipment, net .......................................... 571,516 508,619 Goodwill, net ............................................................... 1,789,452 1,351,123 Intangible assets, net ...................................................... 22,261 28,020 Deferred taxes on income .................................................... 53,087 52,678 Other assets ................................................................ 99,276 113,601 ---------- ---------- Total assets ................................................................ $3,465,737 $2,930,555 ========== ========== Liabilities and Stockholders' Equity Current liabilities: Accounts payable and accrued expenses .................................... $ 610,407 $ 657,219 Short-term borrowings and current portion of long-term debt .............. 251,100 1,404 ---------- ---------- Total current liabilities .............................................. 861,507 658,623 Long-term debt .............................................................. 796,778 820,337 Other liabilities ........................................................... 129,726 115,608 Commitments and contingencies Common stockholders' equity: Common stock, par value $0.01 per share; 300,000 shares authorized; 97,738 and 96,024 shares issued and outstanding at September 30, 2002 and December 31, 2001, respectively ............................... 977 960 Additional paid-in capital ............................................... 1,807,585 1,714,676 Accumulated deficit ...................................................... (122,469) (362,926) Unearned compensation .................................................... (5,530) (13,253) Accumulated other comprehensive loss ..................................... (2,837) (3,470) ---------- ---------- Total common stockholders' equity ...................................... 1,677,726 1,335,987 ---------- ---------- Total liabilities and stockholders' equity .................................. $3,465,737 $2,930,555 ========== ==========
The accompanying notes are an integral part of these statements. 3 QUEST DIAGNOSTICS INCORPORATED AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2002 AND 2001 (in thousands) (unaudited)
2002 2001 --------- --------- Cash flows from operating activities: Net income................................................................... $ 240,457 $ 111,365 Extraordinary loss, net of taxes............................................. - 21,609 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation and amortization............................................. 96,697 108,000 Provision for doubtful accounts........................................... 164,892 165,670 Provision for special charge.............................................. - 5,997 Deferred income tax provision............................................. 18,046 5,224 Minority share of income.................................................. 11,481 6,843 Stock compensation expense................................................ 6,829 16,457 Tax benefits associated with stock-based compensation plans............... 41,307 40,664 Other, net................................................................ (6,003) 1,078 Changes in operating assets and liabilities: Accounts receivable..................................................... (170,047) (193,734) Accounts payable and accrued expenses................................... (40,808) (2,254) Integration, settlement and other special charges....................... (26,469) (41,397) Other assets and liabilities, net....................................... 13,545 55,758 --------- --------- Net cash provided by operating activities.................................... 349,927 301,280 --------- --------- Cash flows from investing activities: Business acquisitions, net of cash acquired.................................. (333,512) (55,746) Capital expenditures......................................................... (118,403) (110,183) Collection of note receivable ............................................... 10,660 2,989 Proceeds from disposition of assets.......................................... 5,919 21,562 Increase in investments and other assets..................................... (4,450) (11,206) --------- --------- Net cash used in investing activities........................................ (439,786) (152,584) --------- --------- Cash flows from financing activities: Repayments of debt........................................................... (408,842) (790,126) Proceeds from borrowings..................................................... 475,237 722,439 Costs paid in connection with debt refinancing............................... - (25,164) Exercise of stock options.................................................... 24,251 17,512 Distributions to minority partners........................................... (9,071) (5,779) Preferred stock dividends paid............................................... - (176) Other........................................................................ (194) - --------- --------- Net cash provided by (used in) financing activities.......................... 81,381 (81,294) --------- --------- Net change in cash and cash equivalents...................................... (8,478) 67,402 Cash and cash equivalents, beginning of year................................. 122,332 171,477 --------- --------- Cash and cash equivalents, end of period..................................... $ 113,854 $ 238,879 ========= ========= Cash paid during the period for: Interest..................................................................... $ 52,224 $ 56,300 Income taxes................................................................. 82,776 23,048 Businesses acquired: Fair value of assets acquired................................................ $ 559,540 $ 55,746 Fair value of liabilities assumed............................................ 214,083 -
The accompanying notes are an integral part of these statements. 4 QUEST DIAGNOSTICS INCORPORATED AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (in thousands, unless otherwise indicated) (unaudited) 1. BASIS OF PRESENTATION Background Quest Diagnostics Incorporated and its subsidiaries ("Quest Diagnostics" or the "Company") is the largest clinical laboratory testing business in the United States. As the nation's leading provider of diagnostic testing and related services for the healthcare industry, Quest Diagnostics offers a broad range of clinical laboratory testing services to physicians, hospitals, managed care organizations, employers, governmental institutions and other independent clinical laboratories. Quest Diagnostics has the leading market share in clinical laboratory testing and esoteric testing, including molecular diagnostics, as well as non-hospital based anatomic pathology services and testing for drugs of abuse. Through the Company's national network of laboratories and patient service centers, and its esoteric testing laboratory and development facilities, Quest Diagnostics offers comprehensive and innovative diagnostic testing, information and related services used by physicians and other healthcare customers to diagnose, treat and monitor diseases and other medical conditions. Quest Diagnostics also offers clinical testing and services to support clinical trials of new pharmaceuticals worldwide. On an annualized basis, Quest Diagnostics processes over 115 million requisitions through its extensive network of laboratories and patient service centers in virtually every major metropolitan area throughout the United States. Basis of Presentation The interim consolidated financial statements reflect all adjustments which, in the opinion of management, are necessary for a fair statement of financial condition and results of operations for the periods presented. Except as otherwise disclosed, all such adjustments are of a normal recurring nature. The interim consolidated financial statements have been compiled without audit. Operating results for the interim periods are not necessarily indicative of the results that may be expected for the full year. These interim consolidated financial statements should be read in conjunction with the audited consolidated financial statements included in the Company's 2001 Annual Report on Form 10-K. Earnings Per Share Basic earnings per common share is calculated by dividing net income, less preferred stock dividends (approximately $30 thousand per quarter in 2001), by the weighted average number of common shares outstanding. Diluted earnings per common share is calculated by dividing net income, less preferred stock dividends, by the weighted average number of common shares outstanding after giving effect to all potentially dilutive common shares outstanding during the period. The if-converted method is used in determining the dilutive effect of the Company's 1 3/4% contingent convertible debentures in periods when the holders of such securities are permitted to exercise their conversion rights. Potentially dilutive common shares include outstanding stock options and restricted common shares granted under the Company's Employees Equity Participation Program. These dilutive securities increased the weighted average number of common shares outstanding by 2.8 and 3.5 million shares for the three and nine months ended September 30, 2002, respectively. For both the three and nine months ended September 30, 2001, these dilutive securities increased the weighted average number of common shares outstanding by 4.7 million shares. During the fourth quarter of 2001, the Company redeemed all of its then issued and outstanding shares of preferred stock. Stock-Based Compensation Quest Diagnostics has adopted the disclosure-only provisions of Statement of Financial Accounting Standards ("SFAS") No. 123, "Accounting for Stock-Based Compensation" ("SFAS 123"), and follows Accounting Principles Board Opinion ("APB") No. 25, "Accounting for Stock Issued to Employees" ("APB 25"), and related interpretations to account for its stock-based compensation plans. Under this approach, the cost of restricted stock awards is expensed over their vesting period, while the imputed cost of stock option grants and discounts offered under the Company's Employee Stock Purchase Plan ("ESPP") is disclosed, based on the vesting provisions of the individual grants, but not charged to expense. Stock-based compensation expense recorded in accordance with APB 25, related to restricted stock awards, was $1.9 million and $4.6 million for the three months ended September 30, 2002 and 2001, respectively, and $6.8 million and $16.5 million for the nine months ended September 30, 2002 and 2001, respectively. 5 QUEST DIAGNOSTICS INCORPORATED AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED (in thousands, unless otherwise indicated) (unaudited) The following table presents net income and basic and diluted earnings per common share, had the Company elected to recognize compensation cost based on the fair value at the grant dates for stock option awards and discounts granted for stock purchases under the Company's ESPP, consistent with the method prescribed by SFAS 123:
Three Months Ended Nine Months Ended September 30, September 30, ----------------------- ------------------------- 2002 2001 2002 2001 -------- ------- -------- -------- Net income: Net income ..................................... $ 86,617 $50,122 $240,457 $111,365 Impact of recognizing compensation cost pursuant to provisions of SFAS 123 ................... (10,232) (7,095) (28,185) (17,105) -------- ------- -------- -------- Net income, adjusted for impact of SFAS 123 .... $ 76,385 $43,027 $212,272 $ 94,260 ======== ======= ======== ======== Basic earnings per common share: Net income ..................................... $0.89 $0.54 $2.50 $1.20 Impact of recognizing compensation cost pursuant to provisions of SFAS 123 ................... (0.10) (0.08) (0.29) (0.18) -------- ------- -------- -------- Net income, adjusted for impact of SFAS 123 .... $0.79 $0.46 $2.21 $1.02 ======== ======= ======== ======== Diluted earnings per common share: Net income ..................................... $0.87 $0.51 $2.41 $1.14 Impact of recognizing compensation cost pursuant to provisions of SFAS 123 ................... (0.10) (0.07) (0.28) (0.17) -------- ------- -------- -------- Net income, adjusted for impact of SFAS 123 .... $0.77 $0.44 $2.13 $0.97 ======== ======= ======== ========
The fair value of each option grant was estimated on the date of grant using the Black-Scholes option-pricing model with the following weighted average assumptions:
Three Months Ended Nine Months Ended September 30, September 30, ------------------ -------------------- 2002 2001 2002 2001 ---- ---- ---- ---- Dividend yield ......................... 0.0% 0.0% 0.0% 0.0% Risk-free interest rate ................ 3.8% 5.1% 4.2% 5.2% Expected volatility .................... 46.2% 47.7% 45.2% 47.7% Expected holding period, in years ...... 5 5 5 5
New Accounting Standards In August 2001, the Financial Accounting Standards Board ("FASB") issued SFAS No. 144, "Accounting for Impairment or Disposal of Long-Lived Assets" ("SFAS 144"), which supercedes SFAS No. 121, "Accounting for the Impairment of Long-Lived Assets to be Disposed Of" ("SFAS 121"). SFAS 144 further refines SFAS 121's requirement that companies recognize an impairment loss if the carrying amount of a long-lived asset is not recoverable based on its undiscounted future cash flows and measure an impairment loss as the difference between the carrying amount and fair value of the asset. In addition, SFAS 144 provides guidance on accounting and disclosure issues surrounding long-lived assets to be disposed of by sale. SFAS 144 also extends the presentation of discontinued operations to include more disposal transactions. SFAS 144 is effective for all fiscal quarters of all fiscal years beginning after December 15, 2001 (January 1, 2002 for the Company). The Company's adoption of SFAS 144 did not result in any impairment loss being recorded. In April 2002, the FASB issued SFAS No. 145, "Rescission of FASB Statements No. 4, 44, and 64, Amendment of FASB Statement No. 13, and Technical Corrections" ("SFAS 145"). SFAS 145 rescinds SFAS No. 4, "Reporting Gains and Losses from Extinguishment of Debt" ("SFAS 4"), SFAS No. 44, "Accounting for Intangible Assets of Motor Carriers" ("SFAS 44") and SFAS No. 64, "Extinguishments of Debt Made to Satisfy Sinking-Fund Requirements" ("SFAS 64") and 6 QUEST DIAGNOSTICS INCORPORATED AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED (in thousands, unless otherwise indicated) (unaudited) amends SFAS No. 13, "Accounting for Leases" ("SFAS 13"). This statement updates, clarifies and simplifies existing accounting pronouncements. As a result of rescinding SFAS 4 and SFAS 64, the criteria in APB No. 30, "Reporting the Results of Operations-Reporting the Effects of Disposal of a Segment of a Business, and Extraordinary, Unusual and Infrequently Occurring Events and Transactions", will be used to classify gains and losses from extinguishment of debt. SFAS 44 was no longer necessary because the transitions under the Motor Carrier Act of 1980 were completed. SFAS 13 was amended to eliminate an inconsistency between the required accounting for sale-leaseback transactions and the required accounting for certain lease modifications that have economic effects that are similar to sale-leaseback transactions and makes technical corrections to existing pronouncements. The provisions of SFAS 145 are effective for fiscal years beginning after May 15, 2002, with earlier application encouraged. The Company expects to adopt SFAS 145 effective January 1, 2003 and reflect any necessary reclassifications in its consolidated statements of operations. The adoption of SFAS 145 will not have a material impact on the Company's financial position. In July 2002, the FASB issued SFAS No. 146, "Accounting for Costs Associated with Exit or Disposal Activities" ("SFAS 146"), which addresses the recognition, measurement, and reporting of costs associated with exit or disposal activities, and supercedes Emerging Issues Task Force Issue No. 94-3, "Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity (including Certain Costs Incurred in a Restructuring)" ("EITF 94-3"). The principal difference between SFAS 146 and EITF 94-3 relates to the requirements for recognition of a liability for a cost associated with an exit or disposal activity. SFAS 146 requires that a liability for a cost associated with an exit or disposal activity, including those related to employee termination benefits and obligations under operating leases and other contracts, be recognized when the liability is incurred, and not necessarily the date of an entity's commitment to an exit plan, as under EITF 94-3. SFAS 146 also establishes that the initial measurement of a liability recognized under SFAS 146 be based on fair value. The provisions of SFAS 146 are effective for exit or disposal activities that are initiated after December 31, 2002, with early application encouraged. The Company expects to adopt SFAS 146, effective January 1, 2003. 2. ACCOUNTING FOR GOODWILL AND OTHER INTANGIBLE ASSETS In July 2001, the FASB issued SFAS No. 142, "Goodwill and Other Intangible Assets" ("SFAS 142"), which broadens the criteria for recording intangible assets separate from goodwill. SFAS 142 requires the use of a nonamortization approach to account for purchased goodwill and certain intangibles. Under a nonamortization approach, goodwill and certain intangibles are not amortized into results of operations, but instead are reviewed for impairment and an impairment charge is recorded in the periods in which the recorded carrying value of goodwill and certain intangibles is more than its estimated fair value. The Company adopted SFAS 142 effective January 1, 2002. The provisions of SFAS 142 require that a transitional impairment test be performed as of the beginning of the year the statement is adopted. The provisions of SFAS 142 also require that a goodwill impairment test be performed annually or in the case of other events that indicate a potential impairment. The new criteria for recording intangible assets separate from goodwill did not require the Company to reclassify any of its intangible assets. The Company's transitional impairment test indicated that there was no impairment of goodwill upon adoption of SFAS 142. The annual impairment test of goodwill will be performed at the end of the Company's fiscal year on December 31st. Effective January 1, 2002, the Company evaluates the recoverability and measures the possible impairment of its goodwill under SFAS 142. The impairment test is a two-step process that begins with the estimation of the fair value of the reporting unit. The first step screens for potential impairment and the second step measures the amount of the impairment, if any. Management's estimate of fair value considers publicly available information regarding the market capitalization of the Company as well as (i) publicly available information regarding comparable publicly-traded companies in the clinical laboratory testing industry, (ii) the financial projections and future prospects of the Company's business, including its growth opportunities and likely operational improvements, and (iii) comparable sales prices, if available. As part of the first step to assess potential impairment, management compares the estimate of fair value for the Company to the book value of the Company's consolidated net assets. If the book value of the consolidated net assets is greater than the estimate of fair value, the Company would then proceed to the second step to measure the impairment, if any. The second step compares the implied fair value of goodwill with its carrying value. The implied fair value is determined by allocating the fair value of the reporting unit to all of the assets and liabilities of that unit as if the reporting unit had been acquired in a business combination and the fair value of the reporting unit was the purchase price paid to acquire the reporting unit. The excess of the fair value of the reporting unit over the amounts assigned to its assets and liabilities is the implied fair value of goodwill. If the carrying amount of the reporting unit's goodwill is greater than its implied fair value, an impairment loss will be recognized in the 7 QUEST DIAGNOSTICS INCORPORATED AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED (in thousands, unless otherwise indicated) (unaudited) amount of the excess. Management believes its estimation methods are reasonable and reflective of common valuation practices. On a quarterly basis, management performs a review of the Company's business to determine if events or changes in circumstances have occurred which could have a material adverse effect on the fair value of the Company and its goodwill. If such events or changes in circumstances were deemed to have occurred, the Company would perform an impairment test of goodwill as of the end of the quarter, consistent with the annual impairment test, and record any noted impairment loss. The following table presents net income and basic and diluted earnings per common share, adjusted to reflect results as if the nonamortization provisions of SFAS 142 had been in effect for the periods presented:
Three Months Ended Nine Months Ended September 30, September 30, --------------------------- -------------------------- 2002 2001 2002 2001 ------- ------- -------- -------- Net income: Reported net income ............................. $86,617 $50,122 $240,457 $111,365 Add back: Amortization of goodwill, net of taxes - 8,887 - 27,077 ------- ------- -------- -------- Adjusted net income ............................. $86,617 $59,009 $240,457 $138,442 ======= ======= ======== ======== Income before extraordinary loss, adjusted to exclude amortization of goodwill, net of taxes $86,617 $59,009 $240,457 $160,051 Basic earnings per common share: Reported net income ............................. $ 0.89 $ 0.54 $ 2.50 $ 1.20 Amortization of goodwill, net of taxes .......... - 0.09 - 0.29 ------- ------- -------- -------- Adjusted net income ............................. $ 0.89 $ 0.63 $ 2.50 $ 1.49 ======= ======= ======== ======== Income before extraordinary loss, adjusted to exclude amortization of goodwill, net of taxes $ 0.89 $ 0.63 $ 2.50 $ 1.73 Diluted earnings per common share: Reported net income ............................. $ 0.87 $ 0.51 $ 2.41 $ 1.14 Amortization of goodwill, net of taxes .......... - 0.09 - 0.28 ------- ------- -------- -------- Adjusted net income ............................. $ 0.87 $ 0.60 $ 2.41 $ 1.42 ======= ======= ======== ======== Income before extraordinary loss, adjusted to exclude amortization of goodwill, net of taxes ........................................ $ 0.87 $ 0.60 $ 2.41 $ 1.64
8 QUEST DIAGNOSTICS INCORPORATED AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED (in thousands, unless otherwise indicated) (unaudited) Other intangible assets consist of the following:
Weighted Average Amortization Period September 30, 2002 December 31, 2001 ------------ ----------------------------------------- --------------------------------------- Accumulated Accumulated Cost Amortization Net Cost Amortization Net -------- ------------- ------- ------ ------------ ------- Non-compete agreements . 5 years $43,943 $(30,757) $13,186 $43,943 $(26,566) $17,377 Customer lists 15 years 41,301 (33,307) 7,994 41,331 (31,787) 9,544 Other ........ 12 years 3,267 (2,186) 1,081 3,067 (1,968) 1,099 ------- -------- ------- ------- -------- ------- Total ..... 8 years $88,511 $(66,250) $22,261 $88,341 $(60,321) $28,020 ======= ======== ======= ======= ======== =======
For the three months ended September 30, 2002 and 2001, amortization expense related to other intangible assets was $2,023 and $1,940, respectively. For the nine months ended September 30, 2002 and 2001, amortization expense related to other intangible assets was $6,243 and $5,792, respectively. The estimated amortization expense related to other intangible assets for each of the five succeeding fiscal years and thereafter as of September 30, 2002 is as follows:
Fiscal Year Ending December 31, ---------------------- Remainder of 2002 .... $ 1,845 2003 ................. 7,355 2004 ................. 5,830 2005 ................. 2,503 2006 ................. 1,389 2007 ................. 639 Thereafter ........... 2,700 ------- Total .............. $22,261 =======
3. BUSINESS ACQUISITION Acquisition of American Medical Laboratories, Incorporated On April 1, 2002, the Company completed its previously announced acquisition of all of the outstanding voting stock of American Medical Laboratories, Incorporated, ("AML") and an affiliated company of AML, LabPortal, Inc. ("LabPortal"), a provider of electronic connectivity products, in an all-cash transaction with a combined value of approximately $500 million, which included the assumption of approximately $160 million in debt. Through the acquisition of AML, Quest Diagnostics acquired all of AML's operations, including two full-service laboratories, 51 patient service centers, and hospital sales, service and logistics capabilities. The all-cash purchase price of approximately $335 million and related transaction costs, together with the repayment of approximately $150 million of principal and related accrued interest, representing substantially all of AML's debt, was financed by Quest Diagnostics with cash on-hand, $300 million of borrowings under its secured receivables credit facility and $175 million of borrowings under its unsecured revolving credit facility. During the second and third quarters of 2002, Quest Diagnostics repaid all of the $175 million borrowed under the Company's unsecured revolving credit facility and $75 million borrowed under the Company's 9 QUEST DIAGNOSTICS INCORPORATED AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED (in thousands, unless otherwise indicated) (unaudited) secured receivables credit facility, respectively. An additional $60 million of the secured receivables facility was repaid on October 24, 2002. The acquisition of AML was accounted for under the purchase method of accounting. As such, the cost to acquire AML has been allocated on a preliminary basis to the assets and liabilities acquired based on estimated fair values as of the closing date. The consolidated financial statements include the results of operations of AML subsequent to the closing of the acquisition. The following table summarizes the Company's preliminary purchase price allocation related to the acquisition of AML based on the estimated fair value of the assets acquired and liabilities assumed on the acquisition date. The purchase price allocation will be finalized after completion of the valuation of certain assets and liabilities.
Estimated Fair Values as of April 1, 2002 --------------- Current assets............................................ $ 83,403 Property, plant and equipment............................. 31,475 Goodwill.................................................. 429,664 Other assets.............................................. 3,134 -------- Total assets acquired................................... 547,676 -------- Current portion of long-term debt......................... 11,834 Other current liabilities................................. 49,676 Long-term debt............................................ 139,465 Other liabilities......................................... 4,925 -------- Total liabilities assumed............................... 205,900 -------- Net assets acquired..................................... $341,776 ========
Based on management's review of the net assets acquired and consultations with valuation specialists, no intangible assets meeting the criteria under SFAS No. 141, "Business Combinations", were identified. Of the $430 million allocated to goodwill, approximately $17 million is expected to be deductible for tax purposes. 10 QUEST DIAGNOSTICS INCORPORATED AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED (in thousands, unless otherwise indicated) (unaudited) The following unaudited pro forma combined financial information for the nine months ended September 30, 2002 and for the three and nine months ended September 30, 2001 assumes that the AML acquisition was effected on January 1, 2001 (in thousands, except per share data):
Three Months Ended Nine Months Ended September 30, September 30, 2002 2001 2001 ---------- ---------- -------- Net revenues ....................................... $3,152,701 $2,938,653 $979,691 Income before extraordinary loss ................... 240,054 142,478 53,055 Net income ......................................... 240,054 120,870 53,055 Basic earnings per common share: Income before extraordinary loss ................... $2.49 $1.54 $0.57 Net income ......................................... 2.49 1.31 0.57 Weighted average common shares outstanding - basic . 96,238 92,612 93,382 Diluted earnings per common share: Income before extraordinary loss ................... $2.41 $1.46 $0.54 Net income ......................................... 2.41 1.24 0.54 Weighted average common shares outstanding - diluted 99,772 97,323 98,046
Pro forma results for the nine months ended September 30, 2002 exclude $14.5 million of non-recurring merger costs, which were incurred and expensed by AML immediately prior to the closing of the AML acquisition. The all-cash purchase price for LabPortal of approximately $4 million and related transaction costs, together with the repayment of all of LabPortal's outstanding debt of approximately $7 million and related accrued interest, was financed by Quest Diagnostics with cash on-hand. The acquisition of LabPortal was accounted for under the purchase method of accounting. As such, the cost to acquire LabPortal has been allocated on a preliminary basis to the assets and liabilities acquired based on estimated fair values as of the closing date, including approximately $8 million of goodwill. The consolidated financial statements include the results of operations of LabPortal subsequent to the closing of the acquisition. Integration of AML During the third quarter of 2002, the Company finalized its plan related to the integration of AML into Quest Diagnostics' laboratory network. The plan focuses principally on improving customer service by enabling the Company to perform esoteric testing on the east and west coasts of the United States, and redirecting certain physician testing volumes within its national network to provide more local testing. As part of the plan, the Company's Chantilly, Virginia laboratory, acquired as part of the AML acquisition, will become the primary esoteric testing laboratory and hospital service center for the eastern United States and will complement the Company's Nichols Institute esoteric testing facility in San Juan Capistrano, California. Esoteric testing volumes will be redirected within the Company's national network to provide customers with improved turnaround time and customer service. Certain routine clinical laboratory testing currently performed in the Chantilly, Virginia laboratory will transition over time to other testing facilities within the Company's regional laboratory network. A reduction in staffing will occur as the Company executes the integration plan and consolidates duplicate or overlapping functions and facilities. Employee groups being affected as a result of this plan include those involved in the collection and testing of specimens, as well as administrative and other support functions. In connection with the AML integration plan, the Company recorded $11 million of costs associated with executing the plan. The majority of these integration costs related to employee severance and contractual obligations associated with leased facilities and equipment. Of the total costs indicated above, $9.5 million, related to actions that impact the employees and operations of AML, was accounted for as a cost of the AML acquisition and included in goodwill. Of the $9.5 million, $5.9 million related to employee severance benefits for approximately 200 employees, with the remainder primarily related to contractual obligations associated with leased facilities and equipment. In addition, $1.5 million of integration costs, related to actions that impact Quest Diagnostics' employees and operations and comprised principally of employee severance benefits 11 QUEST DIAGNOSTICS INCORPORATED AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED (in thousands, unless otherwise indicated) (unaudited) for approximately 100 employees, were accounted for as a charge to earnings in the third quarter of 2002 and included in "other, net" within the consolidated statements of operations. While the majority of the integration costs are expected to be paid in 2003, there are certain severance and facility exit costs that have payment terms extending beyond 2003. 4. PROVISION FOR SPECIAL CHARGE During the second quarter of 2001, the Company recorded a special charge of $6 million in connection with the refinancing of its debt and settlement of the Company's interest rate swap agreements. Prior to the Company's debt refinancing in June 2001, the Company's secured credit agreement required the Company to maintain interest rate swap agreements to mitigate the risk of changes in interest rates associated with a portion of its variable interest rate indebtedness. These interest rate swap agreements were considered a hedge against changes in the amount of future cash flows associated with the interest payments of the Company's variable rate debt obligations. Accordingly, the interest rate swap agreements were recorded at their estimated fair value in the Company's consolidated balance sheet and the related losses on these contracts were deferred in stockholders' equity as a component of comprehensive income. In conjunction with the debt refinancing, the interest rate swap agreements were terminated and the losses which were included in stockholders' equity as a component of comprehensive income were reflected as a special charge in the consolidated statement of operations for the nine months ended September 30, 2001. 5. EXTRAORDINARY LOSS In conjunction with the Company's debt refinancing in the second quarter of 2001, the Company recorded an extraordinary loss of $36 million, ($22 million, net of taxes). The loss represented the write-off of deferred financing costs of $23 million, associated with the Company's debt which was refinanced, and $12.8 million of payments related primarily to the tender premium incurred in connection with the Company's cash tender offer of the Company's 10 3/4% Senior Subordinated Notes. See Note 1,"New Accounting Standards", for a discussion regarding the impact of SFAS 145. 6. COMMITMENTS AND CONTINGENCIES The Company has entered into several settlement agreements with various governmental and private payers during recent years relating to industry-wide billing and marketing practices that had been substantially discontinued by early 1993. In addition, the Company is aware of several pending lawsuits filed under the qui tam provisions of the civil False Claims Act and has received notices of private claims relating to billing issues similar to those that were the subject of prior settlements with various governmental payers. Some of the proceedings against the Company involve claims that are substantial in amount. Some of the cases involve the operations of SmithKline Beecham Clinical Laboratories, Inc. ("SBCL") prior to the closing of the SBCL acquisition. SmithKline Beecham plc ("SmithKline Beecham") has agreed to indemnify Quest Diagnostics, on an after-tax basis, against monetary payments for governmental claims or investigations relating to the billing practices of SBCL that had been settled before or were pending as of the closing date of the SBCL acquisition. SmithKline Beecham has also agreed to indemnify the Company, on an after-tax basis, against all monetary payments relating to professional liability claims of SBCL for services provided prior to the closing of the SBCL acquisition. Amounts due from SmithKline Beecham at September 30, 2002, related principally to indemnified professional liability claims discussed above, totaled approximately $11 million. The estimated reserves and related amounts due from SmithKline Beecham are subject to change as additional information regarding the outstanding claims is gathered and evaluated. At September 30, 2002, recorded reserves relating to billing claims approximated $10 million. Although management believes that established reserves for both indemnified and non-indemnified claims are sufficient, it is possible that additional information (such as the indication by the government of criminal activity, additional tests being questioned or other changes in the government's or private claimants' theories of wrongdoing) may become available which may cause the final resolution of these matters to exceed established reserves by an amount which could be material to the Company's results of operations and cash flows in the period in which such claims are settled. The Company does not believe that these issues will have a material adverse effect on its overall financial condition. 12 QUEST DIAGNOSTICS INCORPORATED AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED (in thousands, unless otherwise indicated) (unaudited) In addition to the billing-related settlement reserves discussed above, the Company is involved in various legal proceedings arising in the ordinary course of business. Some of the proceedings against the Company involve claims that are substantial in amount. Some of these claims involve contracts of SBCL that were terminated following the Company's acquisition of SBCL. During the three and nine months ended September 30, 2002, the Company paid approximately $13 million and $18 million, respectively, to settle claims related to contracts of SBCL that were terminated following the Company's acquisition of SBCL. The settlements had been fully reserved for. Although management cannot predict the outcome of such proceedings or any claims made against the Company, management does not anticipate that the ultimate outcome of the various proceedings or claims will have a material adverse effect on the Company's financial position but may be material to the Company's results of operations and cash flows in the period in which such claims are resolved. As a general matter, providers of clinical laboratory testing services may be subject to lawsuits alleging negligence or other similar legal claims. These suits could involve claims for substantial damages. Any professional liability litigation could also have an adverse impact on the Company's client base and reputation. The Company maintains various liability insurance programs for claims that could result from providing or failing to provide clinical laboratory testing services, including inaccurate testing results and other exposures. The Company's insurance coverage limits its maximum exposure on individual claims; however, the Company is essentially self-insured for a significant portion of these claims. The basis for claims reserves incorporates the actuarially determined projected losses based upon the Company's historical and projected loss experience. Management believes that present insurance coverage and reserves are sufficient to cover currently estimated exposures. Although management cannot predict the outcome of any claims made against the Company, management does not anticipate that the ultimate outcome of any such proceedings or claims will have a material adverse effect on the Company's financial position but may be material to the Company's results of operations and cash flows in the period in which such claims are resolved. 7. COMMON STOCKHOLDERS' EQUITY Changes in common stockholders' equity for the nine months ended September 30, 2002 were as follows:
Accumulated Additional Other Common Paid-In Accumulated Unearned Comprehensive Comprehensive Stock Capital Deficit Compensation (Loss) Income ------------------------------------------------------------------------------------ Balance, December 31, 2001 $960 $1,714,676 $(362,926) $(13,253) $(3,470) Net income.................... 240,457 $240,457 Other comprehensive income.... 633 633 -------- Comprehensive income........ $241,090 ======== Issuance of common stock under benefit plans (373 common shares)..................... 4 27,364 Exercise of options (1,341 common shares).............. 13 24,238 Tax benefits associated with stock-based compensation plans ..................... 41,307 Amortization of unearned compensation................ 7,723 ------------------------------------------------------------------------ Balance, September 30, 2002 $977 $1,807,585 $(122,469) $ (5,530) $(2,837) ========================================================================
13 QUEST DIAGNOSTICS INCORPORATED AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED (in thousands, unless otherwise indicated) (unaudited) Changes in common stockholders' equity for the nine months ended September 30, 2001 were as follows:
Accumulated Additional Other Common Paid-In Accumulated Unearned Comprehensive Comprehensive Stock Capital Deficit Compensation (Loss) Income -------------------------------------------------------------------------------------- Balance, December 31, 2000 $465 $1,591,976 $(525,111) $(31,077) $(5,458) Net income.................... 111,365 $111,365 Other comprehensive income.... 2,218 2,218 -------- Comprehensive income........ $113,583 ======== Two-for-one stock split (47,149 common shares).............. 472 (472) Preferred dividends declared (88) Issuance of common stock under benefit plans (247 common shares)..................... 3 26,517 (3,599) Exercise of options (1,422 common shares).............. 14 17,498 Shares to cover employee payroll tax withholdings on exercised options (2 common shares)..................... (189) Tax benefits associated with stock-based compensation plans....................... 40,664 Amortization of unearned compensation................ 17,124 Other......................... 600 ------------------------------------------------------------------------ Balance, September 30, 2001 $954 $1,676,594 $(413,834) $(17,552) $(3,240) ========================================================================
During the nine months ended September 30, 2001, two thousand common shares were surrendered to cover employee payroll tax withholdings related to the exercise of stock options. For reporting purposes, these shares were accounted for as treasury purchases which were immediately retired. For the nine months ended September 30, 2001, other comprehensive income included the cumulative effect of the change in accounting for derivative financial instruments upon adoption of SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities", as amended, which reduced comprehensive income by approximately $1 million. In addition, in conjunction with the Company's debt refinancing, the interest rate swap agreements were terminated and the losses which were included in stockholders' equity as a component of comprehensive income were reflected as a special charge in the consolidated statements of operations for the nine months ended September 30, 2001 (see Note 4). 8. PENDING ACQUISITION Acquisition of Unilab Corporation On April 2, 2002, the Company entered into a definitive agreement with Unilab Corporation ("Unilab"), which provides that Quest Diagnostics will acquire all of the outstanding shares of Unilab common stock and assume Unilab's existing debt of approximately $200 million. In exchange for their Unilab shares, Unilab stockholders may elect to receive $26.50 in cash, 0.3256 shares of Quest Diagnostics common stock or a combination of cash and stock. The aggregate amount of cash available to Unilab stockholders will be limited to 30% of the total consideration available for the Unilab shares. Unilab has approximately 37.4 million shares of common stock outstanding on a fully diluted basis. If 14 QUEST DIAGNOSTICS INCORPORATED AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED (in thousands, unless otherwise indicated) (unaudited) Unilab stockholders elect to receive 30% of the consideration in cash and if all options are exercised, Quest Diagnostics would issue approximately 8.5 million shares and pay $297 million in cash to the stockholders of Unilab. If Unilab stockholders elect to receive 100% of the consideration in Quest Diagnostics common stock and all Unilab options were exercised, Quest Diagnostics would issue approximately 12.2 million common shares to the stockholders of Unilab. The transaction, which has been approved by the Boards of Directors of both companies, is subject to the satisfaction of customary conditions, including the tender of a majority of Unilab's common stock on a fully diluted basis, and regulatory review. During the second quarter of 2002, the Company and Unilab received a request for additional information (commonly referred to as a "second request") from the Federal Trade Commission ("FTC") under the Hart-Scott-Rodino Antitrust Improvements Act (the "HSR Act") in connection with the Company's pending acquisition of Unilab. The Company and Unilab are continuing their discussions with the FTC regarding the proposed transaction, including settlement discussions, and the process is taking longer than anticipated. During the third quarter of 2002, the Company and Unilab extended the termination date of their merger agreement to November 30, 2002. All other provisions of the agreement remain in effect. The completion of the transaction is subject to completion of the HSR process and satisfaction of the other conditions to the cash election exchange offer and the agreement and plan of merger. The Company continues to believe that the transaction is not anti-competitive, and hopes to close the transaction in the fourth quarter of 2002. As part of the acquisition, Quest Diagnostics would acquire all of Unilab's operations, including its primary testing facilities in Los Angeles, San Jose and Sacramento, California, its more than 400 regional service and testing facilities located throughout California and its operations in Arizona. The Company expects to finance the cash portion of the purchase price and any retirements of Unilab's existing debt with the proceeds from a new $450 million five-year amortizing term loan commitment, which is available for the acquisition of Unilab, available borrowings under its unsecured revolving credit facility and its secured receivables credit facility and cash on-hand. The term loan, which is contingent upon the completion of the Unilab transaction, will carry interest at LIBOR plus 1.3125% and require principal repayments of the initial amount borrowed equal to 15%, 20%, 20%, 20% and 25% in years one through five, respectively. Effective September 20, 2002, the term loan commitment was amended to extend the maturity of the commitment from September 30, 2002 to December 31, 2002. Since the transaction has yet to close, a preliminary purchase price allocation is not practical at this time. 9. SUMMARIZED FINANCIAL INFORMATION The Company's 6 3/4% senior notes due 2006, 7 1/2% senior notes due 2011 and 1 3/4% contingent convertible debentures due 2021 are guaranteed by each of the Company's wholly owned subsidiaries that operate clinical laboratories in the United States (the "Subsidiary Guarantors"). With the exception of Quest Diagnostics Receivables Incorporated (see paragraph below), the non-guarantor subsidiaries are primarily foreign and less than wholly owned subsidiaries. In conjunction with the Company's receivables financing in July 2000, the Company formed a new wholly owned non-guarantor subsidiary, Quest Diagnostics Receivables Incorporated ("QDRI"). The Company and the Subsidiary Guarantors, with the exception of AML, transfer all private domestic receivables (principally excluding receivables due from Medicare, Medicaid and other federal programs, and receivables due from customers of its joint ventures) to QDRI. QDRI utilizes the transferred receivables to collateralize the Company's secured receivables credit facility. The Company and the Subsidiary Guarantors provide collection services to QDRI. QDRI uses cash collections principally to purchase new receivables from the Company and the Subsidiary Guarantors. The following condensed consolidating financial data illustrates the composition of the combined guarantors. Investments in subsidiaries are accounted for by the parent using the equity method for purposes of the supplemental consolidating presentation. Earnings (losses) of subsidiaries are therefore reflected in the parent's investment accounts and earnings. The principal elimination entries relate to investments in subsidiaries and intercompany balances and transactions. On April 1, 2002, Quest Diagnostics acquired AML (see Note 3), which has been included in the accompanying condensed consolidating financial data, subsequent to the closing of the acquisition, as a Subsidiary Guarantor. 15 QUEST DIAGNOSTICS INCORPORATED AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED (in thousands, unless otherwise indicated) (unaudited) Condensed Consolidating Statement of Operations Nine months ended September 30, 2002
Subsidiary Non-Guarantor Parent Guarantors Subsidiaries Eliminations Consolidated ------ ---------- ------------ ------------ ------------ Net revenues.............................. $ 552,819 $2,361,661 $368,758 $(208,952) $3,074,286 Costs and expenses: Cost of services........................ 364,779 1,336,666 111,626 - 1,813,071 Selling, general and administrative..... 124,895 498,447 195,905 (11,436) 807,811 Interest, net........................... 59,120 172,689 6,686 (197,516) 40,979 Amortization of intangible assets....... 1,420 4,823 - - 6,243 Royalty (income) expense................ (186,533) 186,533 - - - Other, net.............................. 64 350 628 - 1,042 --------- ---------- -------- --------- ---------- Total.................................. 363,745 2,199,508 314,845 (208,952) 2,669,146 --------- ---------- -------- --------- ---------- Income before taxes....................... 189,074 162,153 53,913 - 405,140 Income tax expense........................ 75,091 64,861 24,731 - 164,683 --------- ---------- -------- --------- ---------- Income before equity earnings............. 113,983 97,292 29,182 - 240,457 Equity earnings from subsidiaries......... 126,474 - - (126,474) - --------- ---------- -------- --------- ---------- Net income................................ $ 240,457 $ 97,292 $ 29,182 $(126,474) $ 240,457 ========= ========== ======== ========= ==========
Condensed Consolidating Statement of Operations Nine months ended September 30, 2001
Subsidiary Non-Guarantor Parent Guarantors Subsidiaries Eliminations Consolidated ------- ---------- ------------ ------------ ------------ Net revenues.............................. $ 446,000 $2,156,202 $328,614 $(213,485) $2,717,331 Costs and expenses: Cost of services........................ 327,934 1,209,313 76,773 - 1,614,020 Selling, general and administrative..... 115,682 467,581 188,065 (11,004) 760,324 Interest, net........................... 47,987 194,931 17,531 (202,481) 57,968 Amortization of goodwill and other intangible assets..................... 3,436 30,803 442 - 34,681 Provision for special charge............ 5,997 - - - 5,997 Royalty (income) expense................ (183,325) 183,325 - - - Other, net.............................. 2,820 (938) 1,390 - 3,272 --------- ---------- --------- ---------- ---------- Total.................................. 320,531 2,085,015 284,201 (213,485) 2,476,262 --------- ---------- --------- ---------- ---------- Income before taxes and extraordinary loss 125,469 71,187 44,413 - 241,069 Income tax expense........................ 52,584 36,482 19,029 - 108,095 --------- ---------- --------- ---------- ---------- Income before equity earnings and extraordinary loss...................... 72,885 34,705 25,384 - 132,974 Equity earnings from subsidiaries......... 42,360 - - (42,360) - --------- ---------- --------- ---------- ---------- Income before extraordinary loss.......... 115,245 34,705 25,384 (42,360) 132,974 Extraordinary loss, net of taxes.......... (3,880) (15,567) (2,162) - (21,609) --------- ---------- --------- ---------- ---------- Net income................................ $ 111,365 $ 19,138 $ 23,222 $ (42,360) $ 111,365 ========= ========== ========= ========== ==========
16 QUEST DIAGNOSTICS INCORPORATED AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED (in thousands, unless otherwise indicated) (unaudited) Condensed Consolidating Balance Sheet September 30, 2002
Subsidiary Non-Guarantor Parent Guarantors Subsidiaries Eliminations Consolidated ------ ---------- ------------ ------------ ------------ Assets Current assets: Cash and cash equivalents................... $ 101,396 $ 3,736 $ 8,722 $ - $ 113,854 Accounts receivable, net.................... 10,285 107,835 458,341 - 576,461 Other current assets........................ 88,064 59,776 91,990 - 239,830 ---------- ---------- --------- ----------- ---------- Total current assets..................... 199,745 171,347 559,053 - 930,145 Property, plant and equipment, net.......... 226,629 319,492 25,395 - 571,516 Intangible assets, net ..................... 153,889 1,613,951 43,873 - 1,811,713 Intercompany receivable (payable)........... (39,070) 298,355 (259,285) - - Investment in subsidiaries.................. 1,746,049 - - (1,746,049) - Other assets................................ 72,988 38,015 41,360 - 152,363 ---------- ---------- --------- ----------- ---------- Total assets............................. $2,360,230 $2,441,160 $ 410,396 $(1,746,049) $3,465,737 ========== ========== ========= =========== ========== Liabilities and Stockholders' Equity Current liabilities: Accounts payable and accrued expenses....... $ 321,468 $ 261,907 $ 27,032 $ - $ 610,407 Short-term borrowings and current portion of long-term debt............................ - 25,757 225,343 - 251,100 ---------- ---------- --------- ----------- ---------- Total current liabilities................ 321,468 287,664 252,375 - 861,507 Long-term debt.............................. 315,247 478,997 2,534 - 796,778 Other liabilities........................... 45,789 66,125 17,812 - 129,726 Common stockholders' equity................. 1,677,726 1,608,374 137,675 (1,746,049) 1,677,726 ---------- ---------- --------- ----------- ---------- Total liabilities and stockholders' equity $2,360,230 $2,441,160 $ 410,396 $(1,746,049) $3,465,737 ========== ========== ========= =========== ==========
Condensed Consolidating Balance Sheet December 31, 2001
Subsidiary Non-Guarantor Parent Guarantors Subsidiaries Eliminations Consolidated ------ ---------- ------------ ------------ ------------ Assets Current assets: Cash and cash equivalents................... $ - $ 110,571 $ 11,761 $ - $ 122,332 Accounts receivable, net.................... 9,083 52,232 447,025 - 508,340 Other current assets........................ 93,144 52,755 99,943 - 245,842 ---------- ---------- --------- ----------- ---------- Total current assets..................... 102,227 215,558 558,729 - 876,514 Property, plant and equipment, net.......... 170,494 320,244 17,881 - 508,619 Intangible assets, net ..................... 154,809 1,188,031 36,303 - 1,379,143 Intercompany receivable (payable)........... 425,735 92,378 (518,113) - - Investment in subsidiaries.................. 1,096,647 - - (1,096,647) - Other assets................................ 75,633 54,998 35,648 - 166,279 ---------- ---------- --------- ----------- ---------- Total assets............................. $2,025,545 $1,871,209 $ 130,448 $(1,096,647) $2,930,555 ========== ========== ========= =========== ========== Liabilities and Stockholders' Equity Current liabilities: Accounts payable and accrued expenses....... $ 334,666 $ 290,039 $ 32,514 $ - $ 657,219 Short-term borrowings and current portion of long-term debt......................... 21 1,040 343 - 1,404 ---------- ---------- --------- ----------- ---------- Total current liabilities................ 334,687 291,079 32,857 - 658,623 Long-term debt.............................. 310,690 502,519 7,128 - 820,337 Other liabilities........................... 44,181 57,469 13,958 - 115,608 Common stockholders' equity................. 1,335,987 1,020,142 76,505 (1,096,647) 1,335,987 ---------- ---------- --------- ----------- ---------- Total liabilities and stockholders' equity $2,025,545 $1,871,209 $ 130,448 $(1,096,647) $2,930,555 ========== ========== ========= =========== ==========
17 QUEST DIAGNOSTICS INCORPORATED AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED (in thousands, unless otherwise indicated) (unaudited) Condensed Consolidating Statement of Cash Flows Nine months ended September 30, 2002
Subsidiary Non-Guarantor Parent Guarantors Subsidiaries Eliminations Consolidated ------ ---------- ------------ ------------ ------------ Cash flows from operating activities: Net income.................................. $ 240,457 $ 97,292 $ 29,182 $(126,474) $ 240,457 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation and amortization............. 33,779 57,541 5,377 - 96,697 Provision for doubtful accounts........... 4,307 23,773 136,812 - 164,892 Other, net................................ (78,037) 6,660 16,563 126,474 71,660 Changes in operating assets and liabilities 93,317 (176,487) (140,609) - (223,779) --------- --------- --------- --------- --------- Net cash provided by operating activities... 293,823 8,779 47,325 - 349,927 Net cash used in investing activities....... (219,894) (18,757) (3,147) (197,988) (439,786) Net cash provided by (used in) financing activities................................ 27,467 (96,857) (47,217) 197,988 81,381 --------- --------- --------- --------- --------- Net change in cash and cash equivalents..... 101,396 (106,835) (3,039) - (8,478) Cash and cash equivalents, beginning of year - 110,571 11,761 - 122,332 --------- --------- --------- --------- --------- Cash and cash equivalents, end of period.... $ 101,396 $ 3,736 $ 8,722 $ - $ 113,854 ========= ========= ========= ========= =========
Condensed Consolidating Statement of Cash Flows Nine months ended September 30, 2001
Subsidiary Non-Guarantor Parent Guarantors Subsidiaries Eliminations Consolidated ------ ---------- ------------ ------------ ------------ Cash flows from operating activities: Net income.................................. $ 111,365 $ 19,138 $ 23,222 $(42,360) $ 111,365 Extraordinary loss, net of taxes 3,880 15,567 2,162 - 21,609 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation and amortization............. 29,291 75,083 3,626 - 108,000 Provision for doubtful accounts........... 664 15,554 149,452 - 165,670 Provision for special charge.............. 5,997 - - - 5,997 Other, net................................ 21,797 41,771 (35,662) 42,360 70,266 Changes in operating assets and liabilities (147,125) 45,270 (79,772) - (181,627) --------- --------- -------- -------- --------- Net cash provided by operating activities... 25,869 212,383 63,028 - 301,280 Net cash used in investing activities....... (38,730) (107,404) (894) (5,556) (152,584) Net cash provided by (used in) financing activities................................ 12,861 (37,967) (61,744) 5,556 (81,294) --------- --------- -------- -------- --------- Net change in cash and cash equivalents..... - 67,012 390 - 67,402 Cash and cash equivalents, beginning of year - 163,863 7,614 - 171,477 --------- --------- -------- -------- --------- Cash and cash equivalents, end of period.... $ - $ 230,875 $ 8,004 $ - $ 238,879 ========= ========= ======== ======== =========
18 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations Critical Accounting Policies The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires us to make estimates and assumptions and select accounting policies that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements, as well as the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. While many operational aspects of our business are subject to complex federal, state and local regulations, the accounting for our business is generally straightforward with net revenues primarily recognized upon completion of the testing process. Our revenues are primarily comprised of a high volume of relatively low dollar transactions, and about half of all our costs and expenses consist of employee compensation and benefits. Due to the nature of our business, several of our accounting policies involve significant estimates and judgments. These accounting policies have been described in our 2001 Annual Report on Form 10-K, with the following accounting policy adopted effective January 1, 2002: Accounting for and recoverability of goodwill In July 2001, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards ("SFAS") No. 142, "Goodwill and Other Intangible Assets" ("SFAS 142"). The impact of adopting SFAS 142 is summarized in Note 2 to the interim consolidated financial statements. Effective January 1, 2002, we evaluate the recoverability and measure the possible impairment of our goodwill under SFAS 142. The impairment test is a two-step process that begins with the estimation of the fair value of the reporting unit. The first step screens for potential impairment and the second step measures the amount of the impairment, if any. Our estimate of fair value considers publicly available information regarding the market capitalization of our Company, as well as (i) publicly available information regarding comparable publicly-traded companies in the clinical laboratory testing industry, (ii) the financial projections and future prospects of our business, including its growth opportunities and likely operational improvements, and (iii) comparable sales prices, if available. As part of the first step to assess potential impairment, we compare our estimate of fair value for the Company to the book value of our consolidated net assets. If the book value of our consolidated net assets is greater than our estimate of fair value, we would then proceed to the second step to measure the impairment, if any. The second step compares the implied fair value of goodwill with its carrying value. The implied fair value is determined by allocating the fair value of the reporting unit to all of the assets and liabilities of that unit as if the reporting unit had been acquired in a business combination and the fair value of the reporting unit was the purchase price paid to acquire the reporting unit. The excess of the fair value of the reporting unit over the amounts assigned to its assets and liabilities is the implied fair value of goodwill. If the carrying amount of the reporting unit goodwill is greater than its implied fair value, an impairment loss will be recognized in the amount of the excess. We believe our estimation methods are reasonable and reflective of common valuation practices. On a quarterly basis, we perform a review of our business to determine if events or changes in circumstances have occurred which could have a material adverse effect on the fair value of the Company and its goodwill. If such events or changes in circumstances were deemed to have occurred, we would perform an impairment test of goodwill as of the end of the quarter, consistent with the annual impairment test, and record any noted impairment loss. Integration of Acquired Businesses American Medical Laboratories, Incorporated On April 1, 2002, we completed our previously announced acquisition of all of the outstanding voting stock of American Medical Laboratories, Incorporated, ("AML"). See Note 3 to the interim consolidated financial statements for a full discussion of this transaction. During the third quarter of 2002, we finalized our plan related to the integration of AML into our laboratory network. The plan focuses principally on improving customer service by enabling us to perform esoteric testing on the east and west coasts of the United States, and redirecting certain physician testing volumes within our national network to provide more local testing. As part of the plan, our Chantilly, Virginia laboratory, acquired as part of the AML acquisition, will become our primary esoteric testing laboratory and hospital service center for the eastern United States and will complement our Nichols Institute esoteric testing facility in San Juan Capistrano, California. Esoteric testing volumes will be redirected 19 within our national network to provide customers with improved turnaround time and customer service. Certain routine clinical laboratory testing currently performed in our Chantilly, Virginia laboratory will transition over time to other testing facilities within our regional laboratory network. A reduction in staffing will occur as we execute the integration plan and consolidate duplicate or overlapping functions and facilities. Employee groups being affected as a result of this plan include those involved in the collection and testing of specimens, as well as administrative and other support functions. In connection with the AML integration plan, we recorded $11 million of costs associated with executing the plan. The majority of these integration costs related to employee severance and contractual obligations associated with leased facilities and equipment. Of the total costs indicated above, $9.5 million, related to actions that impact the employees and operations of AML, was accounted for as a cost of the AML acquisition and included in goodwill. Of the $9.5 million, $5.9 million related to employee severance benefits for approximately 200 employees, with the remainder primarily related to contractual obligations associated with leased facilities and equipment. In addition, $1.5 million of integration costs, related to actions that impact Quest Diagnostics' employees and operations and comprised principally of employee severance benefits for approximately 100 employees, were accounted for as a charge to earnings in the third quarter of 2002 and included in "other, net" within the consolidated statements of operations. While the majority of the integration costs are expected to be paid in 2003, there are certain severance and facility exit costs that have payment terms extending beyond 2003. We plan to fund the costs to integrate AML through cash from operations. Upon completion of the AML integration, we expect to realize approximately $15 million of annual synergies and we expect to achieve this annual rate of synergies by the end of 2003. Unilab Corporation On April 2, 2002, we entered into a definitive agreement with Unilab Corporation ("Unilab"), which provides that we will acquire all of the outstanding shares of Unilab common stock. See Note 8 to the interim consolidated financial statements for a full discussion of this transaction. We hope to close the transaction in the fourth quarter of 2002, and estimate that we will incur up to $20 million of costs to integrate Quest Diagnostics and Unilab. A significant portion of these costs is expected to require cash outlays and is expected to primarily relate to severance and other integration-related costs during 2003, including the elimination of excess capacity and workforce reductions. These estimates are preliminary and will be subject to revisions as integration plans are developed and finalized. To the extent that the costs relate to actions that impact the employees and operations of Unilab, such costs will be accounted for as a cost of the Unilab acquisition and included in goodwill. To the extent that the costs relate to actions that impact Quest Diagnostics' employees and operations, such costs will be accounted for as a charge to earnings in the period that the integration plans are approved and communicated. We hope to finalize and record these costs during the fourth quarter of 2002. Results of Operations Three and Nine months ended September 30, 2002 Compared with Three and Nine months ended September 30, 2001 Reported net income for the three months ended September 30, 2002 increased to $87 million from $50 million for the prior year period. Net income for the three months ended September 30, 2002 increased by $28 million, or 47%, from $59 million for the three months ended September 30, 2001, assuming that the nonamortization provisions of SFAS 142 had been in effect in 2001. This increase in earnings was primarily attributable to revenue growth, driven by improvements in clinical testing volume and average revenue per requisition, and improved efficiencies generated from our Six Sigma and Standardization initiatives, partially offset by increases in employee compensation and supply costs, depreciation expense and investments in our information technology strategy and strategic growth opportunities. In addition, we estimate that the September 11th, 2001 national tragedy reduced our net revenues for the third quarter of 2001 by approximately $8 million, or 1% of net revenues, and reduced net income during the third quarter of 2001 by approximately $3 million. Reported net income for the nine months ended September 30, 2002 increased to $240 million from $111 million for the prior year period. Assuming that the nonamortization provisions of SFAS 142 had been in effect in 2001, net income for the nine months ended September 30, 2001 would have been $138 million. In addition, results for the nine months ended September 30, 2001 included an extraordinary loss of $36 million ($22 million, net of taxes) and a special charge of $6.0 million ($3.6 million, net of taxes), both of which were incurred in conjunction with our debt refinancing in the second quarter of 2001. Assuming that SFAS 142 had been in effect during 2001, and excluding the extraordinary loss and special charge in 2001, income for the nine months ended September 30, 2002 increased by $77 million, compared to the prior year period, an 20 increase of 47%. This increase in earnings was primarily attributable to revenue growth, driven by improvements in clinical testing volume and average revenue per requisition, improved efficiencies generated from our Six Sigma and Standardization initiatives, and a reduction in net interest expense, partially offset by increases in employee compensation and supply costs, depreciation expense and investments in our information technology strategy and strategic growth opportunities. Net Revenues Net revenues for the three and nine months ended September 30, 2002 grew by 17.2% and 13.1%, respectively, compared to the prior year period. The acquisition of AML, which was completed on April 1, 2002, contributed approximately 55% and 45% to the increase in net revenues for the three and nine months ended September 30, 2002. For the three and nine months ended September 30, 2002, clinical testing volume, measured by the number of requisitions, increased 13.7% and 9.4%, respectively, compared to the prior year period. Assuming AML had been part of Quest Diagnostics in 2001, clinical testing volume would have increased above the prior year levels by 5.0% and 4.0%, respectively, on a pro forma basis, for the three and nine months ended September 30, 2002. Our clinical testing volume and revenue comparisons to the prior year were impacted by the events of September 11th, 2001, and reduced revenues by approximately $8 million and requisition volume by approximately 1% during the third quarter of 2001. We continue to see strong growth in our gene-based and esoteric testing with gene-based testing revenues growing at more than 20%, compared to the prior year. Our drugs-of-abuse testing business which accounted for approximately 8% of our volume and 4% of our revenues, remained essentially flat during the third quarter of 2002, compared to the prior year period. This is a significant improvement from the 9% year-over-year volume decline experienced in the second quarter of 2002, which had the impact of reducing total company volume by approximately 1%. The improvement is the result of a temporary increase in drug screenings for potential candidates for newly created airport security positions within the Federal Aviation Administration ("FAA"). The additional volume from the FAA is expected to scale back to normal levels early in the fourth quarter of 2002. Average revenue per requisition increased 2.9% and 3.1%, respectively, for the three and nine months ended September 30, 2002, compared to the prior year period. The improvement in average revenue per requisition was primarily attributable to a continuing shift in test mix to higher value testing, including gene-based testing, which contributed more than half of the improvement, and a shift in payer mix to higher priced fee-for-service reimbursement. Operating Costs and Expenses Total operating costs for the three and nine months ended September 30, 2002 increased $111 million and $247 million, respectively, from the prior year period primarily due to increases in our clinical testing volume, largely as a result of the AML acquisition, employee compensation and supply costs and depreciation expense; partially offset by a reduction in bad debt expense. While our cost structure has been favorably impacted by the synergies realized as a result of the integration of SmithKline Beecham Clinical Laboratories, Inc. ("SBCL") and the improved efficiencies generated from our Six Sigma and Standardization initiatives, we continue to make investments to enhance our infrastructure to pursue our overall business strategy. These investments include those related to: o Skills training for all employees, which together with our competitive pay and benefits, helps to increase employee satisfaction and performance, which we believe will result in better service to our customers; o Our information technology strategy, which is designed to result in better service to our customers; and o Our strategic growth opportunities. Cost of services, which includes the costs of obtaining, transporting and testing specimens was 59.0% of net revenues for the three months ended September 30, 2002, decreasing from 59.3% in the prior year period. For the nine months ended September 30, 2002, costs of services, as a percentage of net revenues, decreased to 59.0% from 59.4% a year ago. The positive impact of our Six Sigma and Standardization efforts and the increase in average revenue per requisition, which reduced cost of services as a percentage of net revenues, was partially offset by the addition of AML's higher cost of services as of April 1, 2002. Selling, general and administrative expenses, which include the costs of the sales force, billing operations, bad debt expense and general management and administrative support, decreased during the three months ended September 30, 2002 as a percentage of net revenues to 25.7% from 27.8% in the prior year period. For the nine months ended September 30, 2002, selling, general and administrative expenses decreased as a percentage of net revenues to 26.3% from 28.0% in the prior year period. These decreases were primarily due to efficiencies from our Six Sigma and Standardization efforts, in particular bad debt expense, the improvement in average revenue per requisition and the addition of AML's cost structure as 21 of April 1, 2002. During the third quarter of 2002, bad debt expense improved to 5.1% of net revenues, compared to 6.1% of net revenues a year ago. For the nine months ended September 30, 2002, bad debt expense was 5.4% of net revenues, compared to 6.1% of net revenues in the prior year. The improvements in bad debt expense were principally attributable to the continued progress that we have made in our overall collection experience through process improvements, driven by our Six Sigma and Standardization initiatives. These improvements primarily relate to the collection of diagnosis, patient and insurance information necessary to effectively bill for services performed. We believe that our Six Sigma and Standardization initiatives will provide additional opportunities to further improve our overall collection experience. Interest, Net Net interest expense for the three and nine months ended September 30, 2002 decreased from the prior year periods by $1.4 million and $17.0 million, respectively. For the three months ended September 30, 2002, the reduction was primarily due to a favorable interest rate environment, compared to the prior year period. For the nine months ended September 30, 2002, the reduction was primarily due to the favorable impact of our debt refinancings in 2001 and a favorable interest rate environment. Amortization of Goodwill and Other Intangible Assets Amortization of goodwill and other intangible assets for the three and nine months ended September 30, 2002 decreased from the prior year period by $9.4 million and $28 million, respectively, principally as the result of adopting SFAS 142, effective January 1, 2002. See Note 2 to the interim consolidated financial statements for further details regarding the impact of SFAS 142. Provision for Special Charge During the second quarter of 2001, we recorded a special charge of $6 million in connection with the refinancing of our debt and settlement of our interest rate swap agreements. Prior to our debt refinancing in June 2001, our secured credit agreement required us to maintain interest rate swap agreements to mitigate the risk of changes in interest rates associated with a portion of our variable interest rate indebtedness. These interest rate swap agreements were considered a hedge against changes in the amount of future cash flows associated with the interest payments of our variable rate debt obligations. Accordingly, the interest rate swap agreements were recorded at their estimated fair value in our consolidated balance sheet and the related losses on these contracts were deferred in stockholders' equity as a component of comprehensive income. In conjunction with the debt refinancing, the interest rate swap agreements were terminated and the losses, which were reflected in stockholders' equity as a component of comprehensive income, were reflected as a special charge in the consolidated statement of operations for the nine months ended September 30, 2001. Minority Share of Income Minority share of income for the three and nine months ended September 30, 2002 increased from the prior year level, primarily due to the improved performance of our consolidated joint ventures. Other, Net "Other, net", which represents income for each of the periods presented, and includes equity earnings from our unconsolidated joint ventures and miscellaneous gains and losses, increased $1.7 million and $6.9 million, for the three and nine months ended September 30, 2002, respectively. For the three-month period, the increase was primarily due to a $3.8 million gain on an investment, partially offset by a $1.5 million charge associated with the integration of AML, both of which were recorded in the third quarter of 2002. For the nine-month period, the increase was principally due to improved operating performance at our unconsolidated joint ventures, which generated an increase of $4.0 million in equity earnings. The nine-month period of 2001 reflects the net impact of writing off $7.0 million of impaired assets, partially offset by a $6.3 million gain on the sale of an investment. Income Taxes During 2001, our effective tax rate was significantly impacted by goodwill amortization, the majority of which was not deductible for tax purposes, and had the effect of increasing the overall tax rate. The reduction in the effective tax rate for 22 the three and nine months ended September 30, 2002 was primarily due to the reduction in amortization of goodwill (as a result of adopting SFAS 142, effective January 1, 2002) the majority of which was not deductible for tax purposes. Extraordinary Loss In conjunction with our debt refinancing in the second quarter of 2001, we recorded an extraordinary loss of $36 million, ($22 million, net of taxes). The loss represented the write-off of deferred financing costs of $23 million, associated with our debt which was refinanced, and $12.8 million of payments related primarily to the tender premium incurred in connection with our cash tender offer of our 10 3/4% senior subordinated notes due 2006 (the "Subordinated Notes"). EBITDA EBITDA represents income before net interest expense, income taxes, depreciation and amortization, and special items in 2001. The special items represented the extraordinary loss and the special charge associated with our debt refinancing in the second quarter of 2001. EBITDA is presented and discussed because management believes it is a useful adjunct to net income and other measurements under accounting principles generally accepted in the United States since it is a meaningful measure of a company's performance and ability to meet its future debt service requirements, fund capital expenditures and meet working capital requirements. EBITDA is not a measure of financial performance under accounting principles generally accepted in the United States and should not be considered as an alternative to (i) net income (or any other measure of performance under accounting principles generally accepted in the United States) as a measure of performance or (ii) cash flows from operating, investing or financing activities as an indicator of cash flows or as a measure of liquidity. EBITDA for the three months ended September 30, 2002 improved to $192 million, or 18.2% of net revenues, from $142 million, or 15.7% of net revenues, in 2001. For the nine months ended September 30, 2002, EBITDA improved to $543 million, or 17.7% of net revenues, from $413 million, or 15.2% of net revenues, in 2001. The increases in EBITDA were primarily due to revenue growth, driven by improvements in clinical testing volume and average revenue per requisition, and improved efficiencies generated from our Six Sigma and Standardization initiatives, partially offset by increases in employee compensation and supply costs, and investments in our information technology strategy and strategic growth opportunities. The improvements in EBITDA as a percentage of net revenues were also driven by these same factors and were partially offset by the acquisition of AML, which had EBITDA percentages lower than those of Quest Diagnostics. Impact of Contingent Convertible Debentures on Diluted Earnings per Common Share On November 26, 2001, we completed our $250 million offering of 1 3/4% contingent convertible debentures due 2021 (the "Debentures"). Each one thousand dollar principal amount of Debentures is convertible into 11.429 shares of our common stock, which represents an initial conversion price of $87.50 per share. Holders may surrender the Debentures for conversion into shares of our common stock under any of the following circumstances: (i) if the sales price of our common stock is above 120% of the conversion price (or $105 per share) for specified periods; (ii) if we call the Debentures or (iii) if specified corporate transactions have occurred. See Note 12 to the Consolidated Financial Statements contained in our 2001 Annual Report on Form 10-K for a further discussion of the Debentures. The if-converted method is used in determining the dilutive effect of the Debentures in periods when the holders of such securities are permitted to exercise their conversion rights. As of and for the three and nine months ended September 30, 2002, the holders of our Debentures did not have the ability to exercise their conversion rights. Had the requirements to allow the holders to exercise their conversion rights been met and the Debentures remained outstanding for the entire period, diluted earnings per common share would have been reduced by approximately 2% during the quarter and nine months ended September 30, 2002. Quantitative and Qualitative Disclosures About Market Risk We address our exposure to market risks, principally the market risk of changes in interest rates, through a controlled program of risk management that may include the use of derivative financial instruments. We do not hold or issue derivative financial instruments for trading purposes. We do not believe that our foreign exchange exposure is material to our financial position or results of operations taken as a whole. See Note 2 to the Consolidated Financial Statements contained in our 2001 Annual Report on Form 10-K for additional discussion of our financial instruments and hedging activities. 23 At September 30, 2002 and December 31, 2001, the fair value of our debt was estimated at approximately $1.1 billion and $857 million, respectively, using quoted market prices and yields for the same or similar types of borrowings, taking into account the underlying terms of the debt instruments. At September 30, 2002 and December 31, 2001, the estimated fair value exceeded the carrying value of the debt by approximately $78 million and $35 million, respectively. An assumed 10% increase in interest rates (representing approximately 50 basis points) would potentially reduce the estimated fair value of our debt by approximately $10 million and $26 million at September 30, 2002 and December 31, 2001, respectively. Our Debentures have a contingent interest component that will require us to pay contingent interest based on certain thresholds, as outlined in the Indenture. The contingent interest component, which is more fully described in Note 12 to the Consolidated Financial Statements contained in our 2001 Annual Report on Form 10-K, is considered to be a derivative instrument subject to SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities", as amended. As such, the derivative was recorded at its fair value in the consolidated balance sheet and was not material at September 30, 2002 and December 31, 2001. Borrowings under our unsecured revolving credit facility under our Credit Agreement and our secured receivables credit facility are subject to variable interest rates. Interest rates on our unsecured revolving credit facility are also subject to a pricing schedule that fluctuates over an approximate range of 50 basis points, based on changes in our credit rating. As such, our borrowing cost under these credit facilities will be subject to both fluctuations in interest rates and changes in our credit rating. As of September 30, 2002, our borrowing rate for LIBOR-based loans was LIBOR plus 1.3125%. At September 30, 2002 and December 31, 2001, we had approximately $232 million and $7 million, respectively, of variable interest rate debt outstanding, which included $225 million outstanding under our secured receivables credit facility at September 30, 2002. Based on our net exposure to interest rate changes, an assumed 10% change in interest rates on our variable rate indebtedness (representing approximately 20 basis points) would impact net interest expense by approximately $0.4 million on an annual basis, assuming no changes to the debt outstanding at September 30, 2002. Liquidity and Capital Resources Cash and Cash Equivalents Cash and cash equivalents at September 30, 2002 totaled $114 million, compared to $122 million at December 31, 2001. Cash flows from operating activities in 2002 provided cash of $350 million, which along with cash flows from financing activities of $81 million, were used to fund investing activities, which required cash of $440 million. Cash and cash equivalents at September 30, 2001 totaled $239 million, an increase of $67 million from December 31, 2000. Cash flows from operating activities in 2001 provided cash of $301 million, which was used to fund investing and financing activities, which required cash of $234 million. Cash From Operating Activities Net cash from operating activities for 2002 was $49 million higher than the 2001 level. This increase was primarily due to improved operating performance, efficiencies in our billing and collection processes, and a reduction in SBCL integration costs paid. The increase was partially offset by settlement payments, primarily related to contractual disputes previously reserved for, and a decrease in accrued interest expense reflecting a change in the timing of scheduled interest payments. The year-over-year comparisons were also impacted by the payment of indemnified tax matters in 2002 and cash received from Corning Incorporated in 2001 related to an indemnified billing-related claim. Days sales outstanding, a measure of billing and collection efficiency, decreased to 51 days at September 30, 2002 from 54 days at December 31, 2001. Cash From Investing Activities Net cash used in investing activities in 2002 was $440 million, consisting primarily of acquisition and related costs of $334 million, primarily to acquire the outstanding voting stock of AML, and capital expenditures of $118 million. Net cash used in investing activities in 2001 was $153 million, consisting primarily of capital expenditures of $110 million, acquisition and related costs of $56 million, including $47 million to acquire the assets of Clinical Laboratories of Colorado, Inc., and $22 million in proceeds from the disposition of assets, principally related to the sale of an investment in the second quarter of 2001. 24 Cash From Financing Activities Net cash provided by financing activities in 2002 was $81 million, consisting primarily of the net cash activity associated with our acquisition of AML and proceeds from the exercise of stock options. We financed AML's all-cash purchase price of approximately $335 million and related transaction costs, together with the repayment of approximately $150 million of acquired AML debt and accrued interest with cash on-hand, $300 million of borrowings under our existing secured receivables credit facility and $175 million of borrowings under our existing unsecured revolving credit facility. During the second and third quarters of 2002, we repaid all of the $175 million borrowed under our unsecured revolving credit facility and $75 million borrowed under our secured receivables credit facility, respectively. Net cash used in financing activities for 2001 was $81 million, consisting primarily of the net cash activity associated with our debt refinancing in the second quarter of 2001 and debt prepayments of $56 million in the third quarter of 2001, partially offset by $17.5 million of proceeds from the exercise of stock options. During the second quarter of 2001, we refinanced the majority of our long-term debt. The gross proceeds of $722 million from our senior notes offering and the new term loan under our unsecured credit agreement, together with cash on-hand, was used to repay the entire outstanding principal under our then existing secured credit agreement and to consummate the cash tender offer and consent solicitation for our Subordinated Notes. Of the $790 million in debt repayments for the nine months ended September 30, 2001, $584 million related to the repayment of the entire outstanding principal under our then existing secured credit agreement and $147 million represented the aggregate principal amount of outstanding Subordinated Notes which were tendered. During the remainder of 2001, we redeemed all of the remaining $3 million of our outstanding Subordinated Notes. During 2001, we incurred approximately $31 million of costs associated with the debt refinancing. Of that amount, $25 million was included in financing activities and principally represented $12 million of costs associated with placing the new debt, and a $12.8 million tender premium incurred in conjunction with our cash tender offer of the Subordinated Notes, which was included in the extraordinary loss recorded in the second quarter of 2001. The remaining $6 million was reflected in cash from operations and represented the cost to settle the interest rate swap agreements on the debt which was refinanced. Dividend Policy We have never declared or paid cash dividends on our common stock and do not anticipate paying dividends on our common stock in the foreseeable future. We currently intend to retain all available funds and any future earnings to retire debt and fund the growth of our business. Contractual Obligations and Commitments A full description of the terms of our indebtedness, related debt service requirements and our future payments under certain of our contractual obligations is contained in Note 12 to the Consolidated Financial Statements in our 2001 Annual Report on Form 10-K. A full discussion and analysis regarding our minimum rental commitments under noncancelable operating leases, noncancelable commitments to purchase products or services, and reserves with respect to insurance claims at December 31, 2001 is contained in Note 17 to the Consolidated Financial Statements in our 2001 Annual Report on Form 10-K. See Note 6 to the interim consolidated financial statements for information regarding the status of billing-related claims. See Note 3 to the interim consolidated financial statements for a full discussion and analysis regarding our acquisition of AML. Our Credit Agreement relating to our unsecured revolving credit facility contains various covenants and conditions, including the maintenance of certain financial ratios, that could impact our ability to, among other things, incur additional indebtedness, repurchase shares of our outstanding common stock, make additional investments and consummate acquisitions. We do not expect these covenants to adversely impact our ability to execute our growth strategy or conduct normal business operations. As more fully described in Note 12 to the Consolidated Financial Statements in our 2001 Annual Report on Form 10-K, the borrowings outstanding under our secured receivables credit facility are classified as a current liability. It is our current intention to roll-over this facility annually, as we have done since 2001. If we are not able to roll-over all or a part of this facility, we will need to refinance the secured receivables credit facility with cash on-hand, our unsecured revolving credit facility or a new financing agreement. On September 24, 2002, we reduced the size of our secured receivables credit facility from $300 million to $250 million, because our borrowing capacity and cash generation are more than sufficient to meet our current and anticipated needs. Prompting our decision to reduce the size of the secured receivables credit facility was the decision by one of the banks 25 to not renew its participation. Another bank in the group offered to increase its participation to fully offset the exiting bank. We did not accept this offer for the reasons cited above. On October 24, 2002, we repaid $60 million of the borrowings outstanding under our secured receivables credit facility. Since the acquisition of AML on April 1, 2002, we have repaid $310 million of the $475 million borrowed to complete the AML acquisition. On April 2, 2002, we entered into a definitive agreement with Unilab to acquire all of the outstanding shares of Unilab common stock and assume Unilab's debt of approximately $200 million. See Note 8 to the interim consolidated financial statements for a full discussion and analysis regarding the transaction. Unconsolidated Joint Ventures At September 30, 2002 and December 31, 2001, we had investments in unconsolidated joint ventures in Phoenix, Arizona; Indianapolis, Indiana; and Dayton, Ohio. At September 30, 2002, as a result of the AML acquisition, we also had an investment in an unconsolidated joint venture in Chesapeake, Virginia. Our investments in unconsolidated joint ventures are accounted for under the equity method of accounting. We believe that our transactions with our joint ventures are conducted at arm's length, reflecting current market conditions and pricing. Total annual net revenues of our unconsolidated joint ventures, on a combined basis, are less than 6% of our consolidated net revenues. As of September 30, 2002 and December 31, 2001, total assets associated with our unconsolidated joint ventures are less than 3% of our consolidated total assets. We have no material obligations or guarantees to, or in support of, our unconsolidated joint ventures and their operations. Requirements and Capital Resources We estimate that we will invest approximately $160 million to $165 million during 2002 for capital expenditures, principally related to investments in information technology, equipment, and facility upgrades and expansions. Other than the reduction for outstanding letters of credit under our unsecured revolving credit facility, which approximated $33 million at September 30, 2002, all of our $325 million unsecured revolving credit facility remains available to us for future borrowing. In addition, after repaying $60 million of principal outstanding under our secured receivables credit facility on October 24, 2002, $85 million of that facility remains available to us for future borrowing. We believe that cash from operations and our borrowing capacity under our revolving credit facilities will provide sufficient financial flexibility to meet seasonal working capital requirements and to fund capital expenditures, debt service requirements and additional growth opportunities for the foreseeable future. Improvements in our industry and in particular our financial performance have resulted in improvements to our credit ratings from both Standard & Poor's and Moody's Investor Services. Our investment grade credit ratings have had a favorable impact on our cost of and access to capital. We believe that our improved financial performance should provide us with access to additional financing, if necessary, to fund growth opportunities that cannot be funded from existing sources. As discussed above in "Contractual Obligations and Commitments", on April 2, 2002, we entered into a definitive agreement with Unilab to acquire all of the outstanding shares of Unilab common stock and assume Unilab's debt of approximately $200 million. We have obtained a commitment, which is contingent upon the completion of the Unilab acquisition, for a $450 million five-year amortizing term loan to be used to finance the transaction. See Note 8 to the interim consolidated financial statements for a full discussion and analysis regarding the transaction. Impact of New Accounting Standards In August 2001, the FASB issued SFAS No. 144 "Accounting for Impairment or Disposal of Long-Lived Assets". In April 2002, the FASB issued SFAS No. 145, "Rescission of FASB Statements No. 4, 44, and 64, Amendment of FASB Statement No. 13, and Technical Corrections". In July 2002, the FASB issued SFAS No. 146, "Accounting for Costs Associated with Exit or Disposal Activities". The impact of the above referenced accounting standards is discussed in Note 1 to the interim consolidated financial statements. 26 Forward Looking Statements Some statements and disclosures in this document are forward-looking statements. Forward-looking statements include all statements that do not relate solely to historical or current facts and can be identified by the use of words such as "may", "believe", "will", "expect", "project", "estimate", "anticipate", "plan" or "continue". These forward-looking statements are based on our current plans and expectations and are subject to a number of risks and uncertainties that could significantly cause our plans and expectations, including actual results, to differ materially from the forward-looking statements. The Private Securities Litigation Reform Act of 1995 provides a "safe harbor" for forward-looking statements to encourage companies to provide prospective information about their companies without fear of litigation. We would like to take advantage of the "safe harbor" provisions of the Litigation Reform Act in connection with the forward-looking statements included in this document. The risks and other factors that could cause our actual financial results to differ materially from those projected, forecasted or estimated by us in forward-looking statements may include, but are not limited to, unanticipated expenditures, changing relationships with customers, suppliers and strategic partners, conditions of the economy and other factors described in our 2001 Annual Report on Form 10-K and subsequent filings. Item 4. Controls and Procedures (a) Our Chief Executive Officer and Chief Financial Officer have evaluated the effectiveness of the design and operation of our disclosure controls and procedures (as defined under Rules 13a-14 and 15d-14 of the Securities Exchange Act of 1934, as amended) as of a date within ninety days of the filing date of this report. Based upon that evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that our disclosure controls and procedures are adequate and effective. (b) There were no significant changes in our internal controls or in other factors that could significantly affect our internal controls subsequent to the date of such evaluation. 27 PART II - OTHER INFORMATION Item 1. Legal Proceedings See Note 6 to the interim consolidated financial statements for information regarding the status of government investigations and private claims, including those related to SBCL. Item 6. Exhibits and Reports on Form 8-K (a) Exhibits: 10.1 First Amendment to Credit Agreement dated as of September 20, 2002 among Quest Diagnostics Incorporated, certain subsidiary guarantors of the Company, the lenders party thereto, and Bank of America, N.A., as Administrative Agent. 10.2 Waiver and Amendment No. 4 to the Amended and Restated Credit and Security Agreement dated as of September 24, 2002 among Quest Diagnostics Receivables Inc., as Borrower, the Company, as Initial Servicer, each of the lenders party thereto and Wachovia Bank, National Association, as Administrative Agent. 10.3 Omnibus Amendment to the Amended and Restated Credit and Security Agreement dated as of October 15, 2002 among Quest Diagnostics Receivables Inc., as Borrower, the Company, as Initial Servicer, each of the lenders party thereto and Wachovia Bank, National Association, as Administrative Agent. 10.4 Amendment No. 3 to the Agreement and Plan of Merger, dated as of September 25, 2002 among the Company, Quest Diagnostics Newco Incorporated and Unilab Corporation (incorporated by reference to Exhibit (a) (ii) of Amendment No. 12 to the Company's Schedule T-O with respect to Unilab Corporation). 10.5 The Quest Diagnostics Incorporated 1996 Employee Equity Participation Program, as amended. 10.6 The Quest Diagnostics Incorporated Stock Option Plan for Non-Employee Directors, as amended. (b) Report on Form 8-K: On August 13, 2002, the Company filed a current report on Form 8-K (Date of Report: August 12, 2002) reporting under Item 9 sworn statements of its Chief Executive Officer and Chief Financial Officer pursuant to Securities and Exchange Commission Order 4-460 and Section 906 of the Sarbanes-Oxley Act of 2002. 28 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. October 31, 2002 Quest Diagnostics Incorporated By /s/ Kenneth W. Freeman ----------------------- Kenneth W. Freeman Chairman of the Board and Chief Executive Officer By /s/ Robert A. Hagemann ----------------------- Robert A. Hagemann Vice President and Chief Financial Officer 29 Certifications I, Kenneth W. Freeman, certify that: 1. I have reviewed this quarterly report on Form 10-Q of Quest Diagnostics Incorporated; 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 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. October 31, 2002 By /s/ Kenneth W. Freeman ---------------------- Kenneth W. Freeman Chairman of the Board and Chief Executive Officer 30 I, Robert A. Hagemann, certify that: 1. I have reviewed this quarterly report on Form 10-Q of Quest Diagnostics Incorporated; 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 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. October 31, 2002 By /s/ Robert A. Hagemann ---------------------- Robert A. Hagemann Vice President and Chief Financial Officer 31 EX-10 3 ex10-1.txt EXHIBIT 10.1 Exhibit 10.1 FIRST AMENDMENT TO CREDIT AGREEMENT This FIRST AMENDMENT TO CREDIT AGREEMENT (this "Amendment") is entered into as of September 20, 2002 among QUEST DIAGNOSTICS INCORPORATED, a Delaware corporation (the "Borrower"), certain Subsidiaries of the Borrower as Guarantors, the Lenders party hereto and BANK OF AMERICA, N.A., as Administrative Agent for the Lenders (the "Administrative Agent"). Capitalized terms used herein and not otherwise defined shall have the meanings set forth in the Credit Agreement (as defined below). RECITALS WHEREAS, the Borrower, the Guarantors, the Lenders and the Administrative Agent entered into that certain Credit Agreement dated as of June 21, 2002 (as amended hereby and as the same may hereafter be further amended, modified or supplemented, the "Credit Agreement"); WHEREAS, the Credit Parties are requesting that the Lenders amend certain terms of the Credit Agreement in order to extend the Maturity Date; and WHEREAS, the Lenders have agreed to amend certain terms of the Credit Agreement in order to extend the Maturity Date, subject to the conditions set forth below. NOW THEREFORE, for good and valuable consideration, the receipt and sufficiency of which are hereby acknowledged, the parties hereto agree as follows: AGREEMENT 1. Amendment to Credit Agreement. (a) Section 1.1. The definition of "Maturity Date" set forth in Section 1.1 of the Credit Agreement is hereby amended and restated in its entirety to read as follows: "Maturity Date" means (i) December 31, 2002 if the Unilab Acquisition is not consummated on or prior to such date or (ii) June 21, 2007 if the Unilab Acquisition is consummated on or prior to December 31, 2002. (b) Section 3.4. Section 3.4 of the Credit Agreement is hereby amended by adding the following two sentences at the end of such Section to read as follows: The Borrower agrees to pay to the Administrative Agent, for the account of the Lenders on a pro rata basis based on their Term Loan Commitment Percentage, a ticking fee equal to 0.25% per annum (the "Ticking Fee") calculated on the then applicable Term Loan Committed Amount (giving effect to any reduction thereof pursuant to Section 2.1(d)). The Ticking Fee shall accrue daily from October 1, 2002 to the earlier of the Funding Date or the Maturity Date and shall be payable monthly in arrears on the last Business Day of each month and on the Funding Date or the Maturity Date, as applicable. 2. Effectiveness; Conditions Precedent. This Amendment shall be deemed to have become effective as of the date above written upon receipt by the Administrative Agent of copies of this Amendment duly executed by the Credit Parties and the Lenders. 3. Ratification of Credit Agreement. The term "Credit Agreement" as used in each of the Credit Documents shall hereafter mean the Credit Agreement as amended and modified by this Amendment. Except as herein specifically agreed, the Credit Agreement, as amended by this Amendment, is hereby ratified and confirmed and shall remain in full force and effect according to its terms. The Credit Parties acknowledge and consent to the modifications set forth herein and agree that this Amendment does not impair, reduce or limit any of their obligations under the Credit Documents (including, without limitation, the indemnity obligations set forth therein) and that this Amendment shall constitute a Credit Document. Notwithstanding anything herein to the contrary and without limiting the foregoing, each of the Guarantors reaffirms its guaranty obligations set forth in the Credit Agreement. 4. Authority/Enforceability. Each of the Credit Parties represents and warrants as follows: (a) It has taken all necessary action to authorize the execution, delivery and performance of this Amendment. (b) This Amendment has been duly executed and delivered by such Person and constitutes such Person's legal, valid and binding obligations, enforceable in accordance with its terms, except as such enforceability may be subject to (i) bankruptcy, insolvency, reorganization, fraudulent conveyance or transfer, moratorium or similar laws affecting creditors' rights generally and (ii) general principles of equity (regardless of whether such enforceability is considered in a proceeding at law or in equity). (c) No consent, approval, authorization or order of, or filing, registration or qualification with, any court or governmental authority or third party is required in connection with the execution, delivery or performance by such Person of this Amendment. (d) The execution and delivery of this Amendment does not violate, contravene or conflict with any Requirement of Law applicable to it or any of its Subsidiaries. 5. No Default. The Credit Parties represent and warrant to the Lenders that after giving effect to this Amendment (a) the representations and warranties of the Credit Parties set forth in Section 6 of the Credit Agreement are true and correct as of the date hereof and (b) no event has occurred and is continuing which constitutes a Default or an Event of Default. 2 6. Release. In consideration of entering into this Amendment, each of the Credit Parties releases the Agents, the Lenders, and each Agent's and each Lender's respective Affiliates, Subsidiaries, officers, employees, representatives, agents, counsel and directors from any and all actions, causes of action, claims, demands, damages and liabilities of whatever kind or nature, in law or in equity, now known or unknown, suspected or unsuspected to the extent that any of the foregoing arises from any action or failure to act with respect to the Credit Agreement or the other Credit Documents on or prior to the date hereof. 7. Counterparts/Telecopy. This Amendment may be executed in any number of counterparts, each of which when so executed and delivered shall be an original, but all of which shall constitute one and the same instrument. Delivery of executed counterparts of this Amendment by telecopy shall be effective as an original and shall constitute a representation that an original shall be delivered promptly upon request. 8. Entirety. This Amendment and the other Credit Documents embody the entire agreement between the parties hereto and supersede all prior agreements and understandings, oral or written, if any, relating to the subject matter hereof. 9. GOVERNING LAW. THIS AMENDMENT AND THE RIGHTS AND OBLIGATIONS OF THE PARTIES HEREUNDER SHALL BE GOVERNED BY AND CONSTRUED AND INTERPRETED IN ACCORDANCE WITH THE LAWS OF THE STATE OF NEW YORK. 10. Venue; Jurisdiction; Waivers. The venue, jurisdiction, waiver of jury trial and waiver of consequential damages provisions set forth in Sections 11.11 and 11.12 of the Credit Agreement are hereby incorporated by reference, mutatis mutandis. [remainder of page intentionally left blank] 3 Signature Page to First Amendment to Quest Diagnostics Incorporated Credit Agreement IN WITNESS WHEREOF, each of the parties hereto has caused a counterpart of this Amendment to be duly executed and delivered and this Amendment shall be effective as of the date first above written. BORROWER: QUEST DIAGNOSTICS INCORPORATED, A Delaware corporation By: ------------------------------------ Name: ---------------------------------- Title: --------------------------------- GUARANTORS: QUEST DIAGNOSTICS HOLDINGS INCORPORATED, a Delaware corporation QUEST DIAGNOSTICS CLINICAL LABORATORIES, INC., a Delaware corporation QUEST DIAGNOSTICS INCORPORATED, a California corporation QUEST DIAGNOSTICS INCORPORATED, a Maryland corporation QUEST DIAGNOSTICS INCORPORATED, a Michigan corporation QUEST DIAGNOSTICS OF PENNSYLVANIA, INC., a Delaware corporation METWEST, INC., a Delaware corporation NICHOLS INSTITUTE DIAGNOSTICS, a California corporation DPD HOLDINGS, INC., a Delaware corporation DIAGNOSTICS REFERENCE SERVICES INC., a Maryland corporation Signature Page to First Amendment to Quest Diagnostics Incorporated Credit Agreement AMERICAN MEDICAL LABORATORIES, INCORPORATED, a Delaware corporation AML INC., a Delaware corporation QUEST DIAGNOSTICS INCORPORATED (NV), a Nevada corporation MEDICAL LABORATORIES CORPORATION d/b/a American Medical Laboratories, a Virginia corporation QUEST DIAGNOSTICS LLC, an Illinois limited liability company QUEST DIAGNOSTICS LLC, a Connecticut limited liability company QUEST DIAGNOSTICS LLC, a Massachusetts limited liability company APL PROPERTIES, LLC, a Nevada limited liability company By: ------------------------------------ Name: Joseph P. Manory Title: Vice President and Treasurer PATHOLOGY BUILDING PARTNERSHIP, a Delaware general partnership By: Quest Diagnostics Incorporated, a Maryland corporation, its general partner By: -------------------------------- Name: Joseph P. Manory Title: Vice President and Treasurer Signature Page to First Amendment to Quest Diagnostics Incorporated Credit Agreement LENDERS: BANK OF AMERICA, N.A., individually in its capacity as a Lender and in its capacity as Administrative Agent By: ------------------------------------ Name: ---------------------------------- Title: --------------------------------- Signature Page to First Amendment to Quest Diagnostics Incorporated Credit Agreement ALLFIRST BANK By: ------------------------------------ Name: ---------------------------------- Title: --------------------------------- Signature Page to First Amendment to Quest Diagnostics Incorporated Credit Agreement BANK HAPOALIM B.M. By: ------------------------------------ Name: ---------------------------------- Title: --------------------------------- By: ------------------------------------ Name: ---------------------------------- Title: --------------------------------- Signature Page to First Amendment to Quest Diagnostics Incorporated Credit Agreement THE GOVERNOR & COMPANY OF THE BANK OF IRELAND By: ------------------------------------ Name: ---------------------------------- Title: --------------------------------- By: ------------------------------------ Name: ---------------------------------- Title: --------------------------------- Signature Page to First Amendment to Quest Diagnostics Incorporated Credit Agreement BANK LEUMI USA By: ------------------------------------ Name: ---------------------------------- Title: --------------------------------- Signature Page to First Amendment to Quest Diagnostics Incorporated Credit Agreement THE BANK OF NEW YORK By: ------------------------------------ Name: ---------------------------------- Title: --------------------------------- Signature Page to First Amendment to Quest Diagnostics Incorporated Credit Agreement BANK ONE, NA (MAIN OFFICE CHICAGO) By: ------------------------------------ Name: ---------------------------------- Title: --------------------------------- Signature Page to First Amendment to Quest Diagnostics Incorporated Credit Agreement BAYERISCHE HYPO- UND VEREINSBANK AG, NEW YORK BRANCH By: ------------------------------------ Name: ---------------------------------- Title: --------------------------------- By: ------------------------------------ Name: ---------------------------------- Title: --------------------------------- Signature Page to First Amendment to Quest Diagnostics Incorporated Credit Agreement BNP PARIBAS By: ------------------------------------ Name: ---------------------------------- Title: --------------------------------- By: ------------------------------------ Name: ---------------------------------- Title: --------------------------------- Signature Page to First Amendment to Quest Diagnostics Incorporated Credit Agreement CHANG HWA COMMERCIAL BANK, LTD., NEW YORK BRANCH By: ------------------------------------ Name: ---------------------------------- Title: --------------------------------- Signature Page to First Amendment to Quest Diagnostics Incorporated Credit Agreement CHINATRUST COMMERCIAL BANK, LTD., NEW YORK BRANCH By: ------------------------------------ Name: ---------------------------------- Title: --------------------------------- Signature Page to First Amendment to Quest Diagnostics Incorporated Credit Agreement CREDIT LYONNAIS NEW YORK BRANCH By: ------------------------------------ Name: ---------------------------------- Title: --------------------------------- Signature Page to First Amendment to Quest Diagnostics Incorporated Credit Agreement DEUTSCHE BANK AG, NEW YORK BRANCH By: ------------------------------------ Name: ---------------------------------- Title: --------------------------------- By: ------------------------------------ Name: ---------------------------------- Title: --------------------------------- Signature Page to First Amendment to Quest Diagnostics Incorporated Credit Agreement E. SUN COMMERCIAL BANK, LTD., LOS ANGELES BRANCH By: ------------------------------------ Name: ---------------------------------- Title: --------------------------------- Signature Page to First Amendment to Quest Diagnostics Incorporated Credit Agreement FLEET NATIONAL BANK By: ------------------------------------ Name: ---------------------------------- Title: --------------------------------- Signature Page to First Amendment to Quest Diagnostics Incorporated Credit Agreement GENERAL ELECTRIC CAPITAL CORPORATION By: ------------------------------------ Name: ---------------------------------- Title: --------------------------------- Signature Page to First Amendment to Quest Diagnostics Incorporated Credit Agreement KEY CORPORATE CAPITAL INC. By: ------------------------------------ Name: ---------------------------------- Title: --------------------------------- Signature Page to First Amendment to Quest Diagnostics Incorporated Credit Agreement LASALLE BANK NATIONAL ASSOCIATION By: ------------------------------------ Name: ---------------------------------- Title: --------------------------------- Signature Page to First Amendment to Quest Diagnostics Incorporated Credit Agreement MERRILL LYNCH CAPITAL CORPORATION By: ------------------------------------ Name: ---------------------------------- Title: --------------------------------- Signature Page to First Amendment to Quest Diagnostics Incorporated Credit Agreement MIZUHO CORPORATE BANK, LTD. By: ------------------------------------ Name: ---------------------------------- Title: --------------------------------- Signature Page to First Amendment to Quest Diagnostics Incorporated Credit Agreement NATIONAL CITY BANK By: ------------------------------------ Name: ---------------------------------- Title: --------------------------------- Signature Page to First Amendment to Quest Diagnostics Incorporated Credit Agreement THE NORINCHUKIN BANK, NEW YORK BRANCH By: ------------------------------------ Name: ---------------------------------- Title: --------------------------------- Signature Page to First Amendment to Quest Diagnostics Incorporated Credit Agreement PB CAPITAL CORPORATION By: ------------------------------------ Name: ---------------------------------- Title: --------------------------------- Signature Page to First Amendment to Quest Diagnostics Incorporated Credit Agreement PNC BANK, NATIONAL ASSOCIATION By: ------------------------------------ Name: ---------------------------------- Title: --------------------------------- Signature Page to First Amendment to Quest Diagnostics Incorporated Credit Agreement SUMITOMO MITSUI BANKING CORPORATION By: ------------------------------------ Name: ---------------------------------- Title: --------------------------------- Signature Page to First Amendment to Quest Diagnostics Incorporated Credit Agreement SUNTRUST BANK By: ------------------------------------ Name: ---------------------------------- Title: --------------------------------- Signature Page to First Amendment to Quest Diagnostics Incorporated Credit Agreement UNION BANK OF CALIFORNIA, N.A. By: ------------------------------------ Name: ---------------------------------- Title: --------------------------------- Signature Page to First Amendment to Quest Diagnostics Incorporated Credit Agreement WACHOVIA BANK, NATIONAL ASSOCIATION By: ------------------------------------ Name: ---------------------------------- Title: --------------------------------- EX-10 4 ex10-2.txt EXHIBIT 10.2 Exhibit 10.2 WAIVER AND AMENDMENT NO. 4 TO AMENDED AND RESTATED CREDIT AND SECURITY AGREEMENT THIS WAIVER AND AMENDMENT NO. 4 TO AMENDED AND RESTATED CREDIT AND SECURITY AGREEMENT (this "Waiver and Amendment") is entered into as of September 24, 2002, by and among: (1) QUEST DIAGNOSTICS RECEIVABLES INC., a Delaware corporation (the "Borrower"), (2) QUEST DIAGNOSTICS INCORPORATED, a Delaware corporation as initial servicer (together with the Borrower, the "Loan Parties"), (3) BLUE RIDGE ASSET FUNDING CORPORATION, a Delaware corporation, WACHOVIA BANK, NATIONAL ASSOCIATION, in its capacity as a Liquidity Bank to Blue Ridge, and LLOYDS TSB BANK PLC, in its capacity as a Liquidity Bank to Blue Ridge ("Lloyds"), (4) LA FAYETTE ASSET SECURITIZATION LLC, a Delaware limited liability company (together with its successors, "La Fayette"), and CREDIT LYONNAIS NEW YORK BRANCH, in its capacity as a Liquidity Bank to La Fayette, (5) WACHOVIA BANK, NATIONAL ASSOCIATION, in its capacity as agent for the Blue Ridge Group, and CREDIT LYONNAIS NEW YORK BRANCH, in its capacity as agent for the La Fayette Group (in such latter capacity, together with its successors in such latter capacity, the "La Fayette Agent" or a "Co-Agent"), and (6) WACHOVIA BANK, NATIONAL ASSOCIATION, as administrative agent for the Blue Ridge Group, the La Fayette Group and the Co-Agents (in such capacity, together with any successors thereto in such capacity, the "Administrative Agent" and together with each of the Co-Agents, the "Agents"), with respect to that certain Amended and Restated Credit and Security Agreement dated as of September 28, 2001, by and among the parties hereto (as heretofore amended, the "Existing Agreement" which, as amended hereby, is hereinafter referred to as the "Agreement"). Unless otherwise indicated, capitalized terms used in this Waiver and Amendment are used with the meanings attributed thereto in the Existing Agreement. W I T N E S S E T H : WHEREAS, the parties wish to modify the Existing Agreement as hereinafter set forth; NOW, THEREFORE, in consideration of the premises and the mutual agreements herein contained, the parties hereto hereby agree as follows: 1. Amendments to and Waiver of Existing Agreement. Subject to the terms and conditions hereinafter set forth, the parties hereby agree as follows: 1.1. Clause (i) of the definition of "Eligible Receivable" is hereby amended and restated in its entirety to read as follows: (i) which constitutes the legal, valid and binding obligation of the Obligor of such Receivable enforceable against such Obligor in accordance with its terms and is not subject to any actual or reasonably expected Contraction, dispute, offset (except as provided below), counterclaim or defense whatsoever; provided, however, that if such actual or reasonably expected Contraction or such dispute, offset, counterclaim or defense affects only a portion of the Unpaid Net Balance of such Receivable, then such Receivable may be deemed an Eligible Receivable to the extent of the portion of such Unpaid Net Balance which is not so affected; 1.2. The definition of "Obligor Concentration Limit" is hereby amended to reduce the Obligor Concentration Limit for Aetna U.S. Healthcare, Inc. and its Affiliated Obligors to 6% of Eligible Receivables. 1.3. Lloyds' Commitment and Lloyds' Liquidity Commitment are hereby cancelled, Lloyds is hereby removed as a Lender and as a Blue Ridge Liquidity Bank, Lloyds shall no longer be a party to the Agreement, and Lloyds hereby agrees that it no longer needs to be a party to any amendment to or waiver of the Agreement or the Blue Ridge Liquidity Agreement. 1.4. Wachovia's Commitment is hereby reduced to $200,000,000, and Wachovia's Liquidity Commitment is hereby reduced to $204,000,000. 1.5. The Aggregate Commitment is hereby reduced to $250,000,000. 1.6. The Agents and the Lenders hereby waive any Event of Default or Unmatured Default that may arise or have arisen by virtue of a breach of the representation contained in Section 6.1(m) of the Existing Agreement arising from the Loan Parties' failure (at any time on or prior to December 15, 2002) to exclude from Eligible Receivables in any Monthly Report (a) any Receivable that fails the test set forth in clause (m) of the definition of "Eligible Receivable" or (b) any Government Receivable as to which the Obligor is a state or local Governmental Authority (other than a Receivable arising under any state's Medicaid statutes and regulations, for services rendered to eligible beneficiaries thereunder). 2. Representations. 2.1. Each of the Loan Parties represents and warrants to the Lenders and the Agents that it has duly authorized, executed and delivered this Waiver and Amendment and that the Agreement constitutes, a legal, valid and binding obligation of such Loan Party, enforceable in accordance with its terms (except as enforceability may be limited by applicable bankruptcy, insolvency, or similar laws affecting the enforcement of creditors' rights generally or by equitable principles relating to enforceability). 2 2.2. Each of the Loan Parties further represents and warrants to the Lenders and the Agents that, after giving effect to this Waiver and Amendment, each of its representations and warranties set forth in Section 6.1 of the Agreement is true and correct as of the date hereof and that no Event of Default or Unmatured Default exists as of the date hereof and is continuing. 3. Condition Precedent. This Waiver and Amendment shall become effective as of the date first above written upon receipt by the Administrative Agent of a counterpart hereof duly executed by each of the parties hereto. 4. Miscellaneous. 4.1. Except as expressly amended hereby, the Existing Agreement and shall remain unaltered and in full force and effect, and each of the parties hereby ratifies and confirms the Agreement and each of the other Transaction Documents to which it is a party. 4.2. THIS WAIVER AND AMENDMENT SHALL BE GOVERNED BY, AND CONSTRUED IN ACCORDANCE WITH, THE INTERNAL LAWS OF THE STATE OF NEW YORK WITHOUT REFERENCE TO PRINCIPLES OF CONFLICTS OF LAW. 4.3. EACH LOAN PARTY HEREBY ACKNOWLEDGES AND AGREES THAT: 4.3.1. IT IRREVOCABLY (i) SUBMITS TO THE NON-EXCLUSIVE JURISDICTION, FIRST, OF ANY UNITED STATES FEDERAL COURT, AND SECOND, IF FEDERAL JURISDICTION IS NOT AVAILABLE, OF ANY NEW YORK STATE COURT, IN EITHER CASE SITTING IN NEW YORK COUNTY, NEW YORK, IN ANY ACTION OR PROCEEDING ARISING OUT OF OR RELATING TO THE AGREEMENT, AND (ii) WAIVES, TO THE FULLEST EXTENT IT MAY EFFECTIVELY DO SO, THE DEFENSE OF AN INCONVENIENT FORUM TO THE MAINTENANCE OF AN ACTION OR PROCEEDING IN SUCH COURTS. 4.3.2. TO THE EXTENT THAT IT HAS OR HEREAFTER MAY ACQUIRE ANY IMMUNITY FROM THE JURISDICTION OF ANY COURT OR FROM ANY LEGAL PROCESS (WHETHER THROUGH SERVICE OR NOTICE, ATTACHMENT PRIOR TO JUDGMENT, ATTACHMENT IN AID TO EXECUTION, EXECUTION OR OTHERWISE) WITH RESPECT TO ITSELF OR ITS PROPERTY, IT HEREBY IRREVOCABLY WAIVES SUCH IMMUNITY IN RESPECT OF ITS OBLIGATIONS UNDER OR IN CONNECTION WITH THE EXISTING AGREEMENT. 4.4. This Waiver and Amendment may be executed in any number of counterparts and by the different parties hereto in separate counterparts, each of which when so executed shall be deemed to be an original and all of which when taken together shall constitute one and the same Amendment. (Signature pages follow) 3 IN WITNESS WHEREOF, the parties hereto have executed this Waiver and Amendment as of the date first above written. QUEST DIAGNOSTICS RECEIVABLES INC. By: ------------------------------------------- Name: Title: QUEST DIAGNOSTICS INCORPORATED By: ------------------------------------------- Name: Title: 4 WACHOVIA BANK, NATIONAL ASSOCIATION, INDIVIDUALLY, AS ADMINISTRATIVE AGENT AND AS BLUE RIDGE AGENT By: ------------------------------------------- Name: Title: BLUE RIDGE ASSET FUNDING CORPORATION BY: WACHOVIA BANK, NATIONAL ASSOCIATION, ITS ATTORNEY-IN-FACT By: ------------------------------------------- Name: Title: 5 LA FAYETTE ASSET SECURITIZATION LLC BY: LA FAYETTE MEMBER, INC., AS ITS SOLE MEMBER By: ------------------------------------------- Name: Konstantina Kourmpetis Title: Director CREDIT LYONNAIS NEW YORK BRANCH, INDIVIDUALLY AND AS LA FAYETTE AGENT By: ------------------------------------------- Name: Konstantina Kourmpetis Title: Director 6 LLOYDS TSB BANK PLC By: ------------------------------------------- Name: Title: By: ------------------------------------------- Name: Title: 7 EX-10 5 ex10-3.txt EXHIBIT 10.3 Exhibit 10.3 OMNIBUS AMENDMENT THIS OMNIBUS AMENDMENT (this "Amendment") is entered into as of October 15, 2002, by and among: (1) QUEST DIAGNOSTICS RECEIVABLES INC., a Delaware corporation (the "Borrower"), (2) QUEST DIAGNOSTICS INCORPORATED, a Delaware corporation ("Quest Diagnostics") as initial servicer (together with the Borrower, the "Loan Parties"), (3) QUEST DIAGNOSTICS INCORPORATED, a Michigan corporation, QUEST DIAGNOSTICS INCORPORATED, a Maryland corporation, QUEST DIAGNOSTICS INCORPORATED, a California corporation, QUEST DIAGNOSTICS LLC, a Connecticut limited liability company, QUEST DIAGNOSTICS LLC, a Massachusetts limited liability company, QUEST DIAGNOSTICS OF PENNSYLVANIA INCORPORATED, a Delaware corporation, METWEST INC., a Delaware corporation, QUEST DIAGNOSTICS LLC, an Illinois limited liability company, QUEST DIAGNOSTICS CLINICAL LABORATORIES, INC., a Delaware corporation, QUEST DIAGNOSTICS LLC, a Massachusetts limited liability company, and QUEST DIAGNOSTICS LLC, a Connecticut limited liability company (all of the foregoing, together with Quest Diagnostics, collectively, the "Originators" and together with the Loan Parties, the "Companies"), (4) BLUE RIDGE ASSET FUNDING CORPORATION, a Delaware corporation ("Blue Ridge"), and WACHOVIA BANK, NATIONAL ASSOCIATION, in its capacity as a Liquidity Bank to Blue Ridge (collectively, the "Blue Ridge Group"), (5) LA FAYETTE ASSET SECURITIZATION LLC, a Delaware limited liability company (together with its successors, "La Fayette"), and CREDIT LYONNAIS NEW YORK BRANCH, in its capacity as a Liquidity Bank to La Fayette (collectively, the "La Fayette Group"), (6) WACHOVIA BANK, NATIONAL ASSOCIATION, in its capacity as agent for the Blue Ridge Group, and CREDIT LYONNAIS NEW YORK BRANCH, in its capacity as agent for the La Fayette Group (in such latter capacity, together with its successors in such latter capacity, the "La Fayette Agent" or a "Co-Agent"), and (7) WACHOVIA BANK, NATIONAL ASSOCIATION, as administrative agent for the Blue Ridge Group, the Blue Ridge Agent, the La Fayette Group and the La Fayette Agent (in such capacity, together with any successors thereto in such capacity, the "Administrative Agent" and together with each of the Co-Agents, the "Agents"), with respect to (a) that certain Receivables Sale Agreement, dated as of July 21, 2000, by and between the Originators, as sellers, and the Borrower, as purchaser (as heretofore amended or supplemented from time to time, the "Existing RSA"), and (b) that certain Amended and Restated Credit and Security Agreement dated as of September 28, 2001, by and among the Borrower, Quest Diagnostics, as initial Servicer, the Blue Ridge Group, the La Fayette Group and the Agents (as heretofore amended, the "Existing CSA" and, together with the Existing RSA, the "Existing Agreements"). The Existing Agreements as amended hereby are sometimes hereinafter collectively referred to as the "Agreements." Unless otherwise indicated, capitalized terms used in this Amendment are used with the meanings attributed thereto in the Existing CSA or Existing RSA, as applicable. W I T N E S S E T H : WHEREAS, the parties wish to modify the Existing RSA and Existing CSA to expand the definitions of "Receivable" contained therein as hereinafter set forth; NOW, THEREFORE, in consideration of the premises and the mutual agreements herein contained, the parties hereto hereby agree as follows: 1. Amendments to of Existing Agreements. Subject to the terms and conditions hereinafter set forth, the parties hereby agree as follows: 1.1. The definition of "Receivable" in the Existing RSA is hereby amended and restated in its entirety to read as follows: "Receivable" means any Account arising from the sale of Clinical Laboratory Services by a Seller, including, without limitation, the right to payment of any interest or finance charges and other amounts with respect thereto; provided, however, that the term "Receivable" shall not include (a) any Excluded JV Receivable, or (b) any Government Receivable except a Specified Government Receivable. Rights to payment arising from any one transaction, including, without limitation, rights to payment represented by an individual invoice, shall constitute a Receivable separate from a Receivable consisting of the rights to payment arising from any other transaction. 1.2. The following definitions in the Existing CSA are hereby amended and restated in their entirety to read, respectively, as follows: "Net Pool Balance" means, at any time, an amount equal to (i) Net Receivables, minus (ii) Specified Government Ineligibles. "Receivable" means any Account arising from the sale of Clinical Laboratory Services by an Originator, including, without limitation, the right to payment of any interest or finance charges and other amounts with respect thereto, which is sold or contributed to the Borrower under the Sale Agreement; provided, however, that the term "Receivable" shall not include (a) any Excluded JV Receivable, or (b) any Government Receivable except a Specified 2 Government Receivable. Rights to payment arising from any one transaction, including, without limitation, rights to payment represented by an individual invoice, shall constitute a Receivable separate from a Receivable consisting of the rights to payment arising from any other transaction. "Regulatory Change" shall mean any change after the date of this Agreement in United States (federal, state or municipal) or foreign laws, regulations (including Regulation D) or accounting principles or the adoption or making after such date of any interpretations, directives or requests applying to a class of banks (including the Liquidity Banks) of or under any United States (federal, state or municipal) or foreign laws, regulations (whether or not having the force of law) or accounting principles by any court, governmental or monetary authority, or accounting board or authority (whether or not part of government) charged with the establishment, interpretation or administration thereof. For the avoidance of doubt, any interpretation of Accounting Research Bulletin No. 51 by the Financial Accounting Standards Board shall constitute a Regulatory Change. 1.3. Each of the Existing Agreements is hereby amended to add the following new term in its appropriate alphabetical order: "Specified Government Receivable" means a Government Receivable as to which the Obligor is a state or local Governmental Authority (other than a Receivable arising under any state's Medicaid statutes and regulations, for services rendered to eligible beneficiaries thereunder). 1.4. The Existing CSA is hereby amended to add the following new terms in their appropriate alphabetical order: "Client-Billed Receivable" means a Receivable booked in the "client-billed receivables" category of accounts receivable in the billing and accounting process of the applicable Originator owing from a physician, hospital or other institutional Obligor (including a Governmental Authority or affiliated Obligor) which is billed monthly in arrears for the services provided with pricing typically based on a negotiated fee schedule. For the avoidance of doubt, no Client-Billed Receivable would be (a) a "Government Receivable" of the type described in clause (i), (ii) or (iii) of the definition of such term, or (b) owing from another payor type such as an individual "self-pay" patient or an insurance company or managed care plan. "Client-Billed Receivables for the Reserve Computation" means, at any time, an amount determined by multiplying the Client-Billed Receivables Percentage by Net Receivables. "Client-Billed Receivables Percentage" means, at any time, the percentage equal to (a) the Unpaid Net Balance of all Client-Billed Receivables, divided by (b) the Unpaid Net Balance of all Receivables, in each of the foregoing cases, determined as of the last day of the calendar month then most recently ended. 3 "Net Receivables" means, at any time, an amount equal to the aggregate Unpaid Net Balance of all Receivables at such time, minus (i) the aggregate Unpaid Net Balance of all Receivables that are not Eligible Receivables at such time, minus (ii) Receivables (other than those covered by any other clause of this definition) that are not yet Delinquent Receivables or Defaulted Receivables which are owing from any Top 10 Obligor as to which more than 50% of the aggregate Unpaid Net Balance of all Receivables owing from such Top 10 Obligor are Defaulted Receivables, minus (iii) the Excess Concentration Amount at such time, minus (iv) 5% of the aggregate Unpaid Net Balance of all Receivables owing from Obligors who are not Top 10 Obligors. "Specified Government Ineligibles" means, on any date of determination, 27% times Client-Billed Receivables for the Reserve Computation as of the last day of the calendar month then most recently ended. "Top 10 Obligor" means any of the following and its Affiliates considered as if it and its Affiliates were one and the same entity: (1) United Healthcare, (2) Aetna / US Healthcare / Prudential, (3) Cigna, (4) Independence Blue Cross / Amerihealth, (5) Private Health Care Systems (PHCS), (6) Beech Street, (7) Humana, (8) Anthem Health, (9) Empire BCBS, and (10) BCBS Mass. 1.5. Clause (m) of the definition of "Eligible Receivable" in the Existing CSA is hereby amended and restated in its entirety to read as follows: (m) [intentionally omitted]; 1.6. Each of the Existing Agreements is hereby amended to add the following new representation to Section 2.1 of the Existing RSA and to Section 5.1 of the Existing CSA: (z) Specified Government Receivables. All Specified Government Receivables are recorded in the Originators' billing and accounting systems solely as Client-Billed Receivables. 1.7. Section 4.1(c) of the Existing RSA is hereby amended to add the following sentence at the end thereof: In addition to the foregoing, such Seller shall be responsible for the costs and expenses of one additional Review during the period beginning on October 15, 2002 and ending on January 31, 2003 for purposes of auditing the Specified Government Receivables and the cross-aging of Receivables owing from the Top 10 Obligors. 1.8. Section 7.1(c) of the Existing CSA is hereby amended to add the following sentence at the end thereof: In addition to the foregoing, the Loan Parties shall be responsible for the costs and expenses of one additional Review during the period beginning on October 1, 2002 and ending on January 31, 2003 for purpose of auditing the 4 Specified Government Receivables and the cross-aging of Receivables owing from the Top 10 Obligors. 1.9. Section 7.1(C) of the Existing RSA is hereby amended and restated in its entirety to read as follows: (C) the failure by such Seller to comply with any applicable law, rule or regulation with respect to any of its Receivables or the related Contracts or Invoices, including, without limitation, any state or local assignment of claims act or similar legislation prohibiting or imposing notice and acknowledgement requirements or other limitations or conditions on the assignment of a Specified Government Receivable, or the nonconformity of any of such Seller's Receivables or the related Contracts or Invoices with any such applicable law, rule or regulation; 1.10. Section 13.1(a)(C) of the Existing CSA is hereby amended and restated in its entirety to read as follows: (C) the failure by any Loan Party to comply with any applicable law, rule or regulation with respect to any Receivable or the related Contract and/or Invoice, including, without limitation, any state or local assignment of claims act or similar legislation prohibiting or imposing notice and acknowledgement requirements or other limitations or conditions on the assignment of a Specified Government Receivable, or the nonconformity of any Receivable or the related Contract and/or Invoice with any such applicable law, rule or regulation; 2. Representations. 2.1. Each of the Companies represents and warrants to the Lenders and the Agents that it has duly authorized, executed and delivered this Amendment and that the Agreement constitutes, a legal, valid and binding obligation of such Company, enforceable in accordance with its terms (except as enforceability may be limited by applicable bankruptcy, insolvency, or similar laws affecting the enforcement of creditors' rights generally or by equitable principles relating to enforceability). 2.2. Each of the Originators further represents and warrants to the Borrower, the Lenders and the Agents that, after giving effect to this Amendment and the filing of the financing statement amendments contemplated by Section 3 below, each of its representations and warranties set forth in Section 2.1 of the Existing RSA is true and correct as of the date hereof. 2.3. Each of the Loan Parties further represents and warrants to the Lenders and the Agents that, after giving effect to this Amendment and the filing of the financing statement amendments contemplated by Section 3 below, each of its representations and warranties set forth in Section 6.1 of the Existing CSA is true and correct as of the date hereof and that no Event of Default or Unmatured Default exists as of the date hereof and is continuing. 5 3. Condition Precedent. This Amendment shall become effective as of the date first above written upon receipt by the Administrative Agent of a counterpart hereof duly executed by each of the parties hereto. 4. Miscellaneous. 4.1. Except as expressly amended hereby, the Existing Agreements shall remain unaltered and in full force and effect, and each of the parties hereby ratifies and confirms each of the Transaction Documents to which it is a party. 4.2. THIS AMENDMENT SHALL BE GOVERNED BY, AND CONSTRUED IN ACCORDANCE WITH, THE INTERNAL LAWS OF THE STATE OF NEW YORK WITHOUT REFERENCE TO PRINCIPLES OF CONFLICTS OF LAW. 4.3. EACH OF THE COMPANIES HEREBY ACKNOWLEDGES AND AGREES THAT: 4.3.1. IT IRREVOCABLY (i) SUBMITS TO THE NON-EXCLUSIVE JURISDICTION, FIRST, OF ANY UNITED STATES FEDERAL COURT, AND SECOND, IF FEDERAL JURISDICTION IS NOT AVAILABLE, OF ANY NEW YORK STATE COURT, IN EITHER CASE SITTING IN NEW YORK COUNTY, NEW YORK, IN ANY ACTION OR PROCEEDING ARISING OUT OF OR RELATING TO THE AGREEMENTS, AND (ii) WAIVES, TO THE FULLEST EXTENT IT MAY EFFECTIVELY DO SO, THE DEFENSE OF AN INCONVENIENT FORUM TO THE MAINTENANCE OF AN ACTION OR PROCEEDING IN SUCH COURTS. 4.3.2. TO THE EXTENT THAT IT HAS OR HEREAFTER MAY ACQUIRE ANY IMMUNITY FROM THE JURISDICTION OF ANY COURT OR FROM ANY LEGAL PROCESS (WHETHER THROUGH SERVICE OR NOTICE, ATTACHMENT PRIOR TO JUDGMENT, ATTACHMENT IN AID TO EXECUTION, EXECUTION OR OTHERWISE) WITH RESPECT TO ITSELF OR ITS PROPERTY, IT HEREBY IRREVOCABLY WAIVES SUCH IMMUNITY IN RESPECT OF ITS OBLIGATIONS UNDER OR IN CONNECTION WITH THE EXISTING AGREEMENT (OR EXISTING AGREEMENTS) TO WHICH IT IS A PARTY. 4.4. This Amendment may be executed in any number of counterparts and by the different parties hereto in separate counterparts, each of which when so executed shall be deemed to be an original and all of which when taken together shall constitute one and the same Amendment. 4.5. The Administrative Agent is hereby authorized to prepare and file amendments to all financing statements filed in the jurisdiction of organization of each of the Companies in connection with the Existing RSA and/or Existing CSA revising the definition of "Receivable" contained therein in a manner consistent with the applicable amendment contained in Section 1 hereof. (Signature pages follow) 6 IN WITNESS WHEREOF, the parties hereto have executed this Amendment as of the date first above written. WACHOVIA BANK, NATIONAL ASSOCIATION, INDIVIDUALLY, AS ADMINISTRATIVE AGENT AND AS BLUE RIDGE AGENT By: -------------------------------------------- Name: Title: BLUE RIDGE ASSET FUNDING CORPORATION BY: WACHOVIA BANK, NATIONAL ASSOCIATION, ITS ATTORNEY-IN-FACT By: -------------------------------------------- Name: Title: 7 LA FAYETTE ASSET SECURITIZATION LLC BY: LA FAYETTE MEMBER, INC., AS ITS SOLE MEMBER By: -------------------------------------------- Name: Konstantina Kourmpetis Title: Director CREDIT LYONNAIS NEW YORK BRANCH, INDIVIDUALLY AND AS LA FAYETTE AGENT By: -------------------------------------------- Name: Konstantina Kourmpetis Title: Director 8 QUEST DIAGNOSTICS RECEIVABLES INC. By: -------------------------------------------- Name: Title: QUEST DIAGNOSTICS INCORPORATED By: -------------------------------------------- Name: Title: QUEST DIAGNOSTICS INCORPORATED, A MICHIGAN CORPORATION By: -------------------------------------------- Name: Title: QUEST DIAGNOSTICS INCORPORATED, A MARYLAND CORPORATION By: -------------------------------------------- Name: Title: 9 QUEST DIAGNOSTICS INCORPORATED, A CALIFORNIA CORPORATION By: -------------------------------------------- Name: Title: QUEST DIAGNOSTICS LLC, A CONNECTICUT LIMITED LIABILITY COMPANY By: -------------------------------------------- Name: Title: QUEST DIAGNOSTICS LLC, A MASSACHUSETTS LIMITED LIABILITY COMPANY By: -------------------------------------------- Name: Title: QUEST DIAGNOSTICS OF PENNSYLVANIA INCORPORATED, A DELAWARE CORPORATION By: -------------------------------------------- Name: Title: 10 QUEST DIAGNOSTICS LLC, AN ILLINOIS LIMITED LIABILITY COMPANY By: -------------------------------------------- Name: Title: METWEST INC., A DELAWARE CORPORATION By: -------------------------------------------- Name: Title: QUEST DIAGNOSTICS CLINICAL LABORATORIES, INC., A DELAWARE CORPORATION By: -------------------------------------------- Name: Title: QUEST DIAGNOSTICS LLC, A MASSACHUSETTS LIMITED LIABILITY COMPANY By: -------------------------------------------- Name: Title: QUEST DIAGNOSTICS LLC, A CONNECTICUT LIMITED LIABILITY COMPANY By: -------------------------------------------- Name: Title: 11 EX-10 6 ex10-5.txt EXHIBIT 10.5 Exhibit 10.5 As Amended as of October 30, 2002 QUEST DIAGNOSTICS INCORPORATED EMPLOYEE EQUITY PARTICIPATION PROGRAM QUEST DIAGNOSTICS INCORPORATED EMPLOYEE EQUITY PARTICIPATION PROGRAM 1. Purpose ------- The Employee Equity Participation Program (the "Program") is intended to encourage executive, managerial, technical and other employees of (i) Quest Diagnostics Incorporated (the "Corporation"), (ii) any "subsidiary corporation" of the Corporation within the meaning of Section 424 of the Internal Revenue Code of 1986, as amended (the "Code") or of any successor section, or (iii) any other entity in which the Corporation holds beneficially at least one-half of the ownership interest (such entity or "subsidiary corporation" being referred to herein as a "Subsidiary") to become owners of stock of the Corporation in order to increase their proprietary interest in the Corporation's success; to stimulate the efforts of certain key executive, managerial, technical and other employees by giving suitable recognition to services which contribute materially to the Corporation's success; and to provide such employees with additional incentive and reward opportunity based, in part, upon the attainment of predetermined goals over specified periods. The Program shall consist of two plans: (a) the Stock Option Plan and (b) the Incentive Stock Plan. 2. Administration -------------- The Program shall be administered by a committee appointed by the Board of Directors of the Corporation, to be known as the "Compensation Committee" (the "Committee"), consisting of not less than two members of the Corporation's Board of Directors, each member of which shall be a "non-employee director" within the meaning of Rule 16b-3(b)(3)(i) promulgated under the Securities Exchange Act of 1934 (the "1934 Act") or any successor thereto and an "outside director" within the meaning set forth in regulations promulgated under Section 162(m) of the Code. Without limiting the foregoing, unless and to the extent those definitions are amended, no member of the Committee shall be an officer or employee of the Corporation or a subsidiary thereof, a former officer of the Corporation, a former employee of the Corporation who receives compensation for prior services (other than benefits under a tax-qualified retirement plan) during the taxable year, any other person who receives directly or indirectly in any capacity (other than as a director) remuneration in excess of the lesser of $60,000 or 5 percent of the gross income realized by the entity employing such member during such entity's taxable year ending with or within the Corporation's taxable year or any person who is a member of a law firm retained by, or a partner or executive officer of an investment banking firm that performs services for, the Corporation. No member of the Committee shall have been eligible to participate in the Program in the preceding year nor be eligible to participate in the Program while serving on the 1 Committee. The Committee shall select periodically the executive, managerial, technical and other employees who shall participate in the Program and the extent of their participation in any particular Plan under the Program and shall report such selections and levels of participation to the Board of Directors.The Committee's interpretation and construction of any provisions of this Program or any Plan or any right, option or award granted or contract executed under it shall be final unless otherwise determined by the Board of Directors, which determination shall be final. No member of the Board of Directors or the Committee shall be liable for any action or determination made in good faith. 3. Eligibility ----------- The Committee shall from time to time select the executive, managerial, technical and other employees (including officers and employees who are directors) of the Corporation and of any Subsidiary who shall be eligible to participate in any Plan under the Program. 4. Stock ----- The shares subject to options, grants or incentive stock rights under the Program shall be shares of the Corporation's Common Stock par value $.01 per share, either authorized but unissued or issued and held in treasury or such other securities as may be issued by the Corporation in substitution therefor. The total amount of the Common Stock of the Corporation which may be (i) sold pursuant to options granted under the Stock Option Plan and (ii) granted, or issued pursuant to incentive stock rights awarded, under the Incentive Stock Plan shall not exceed 3,000,000 shares. There may be awarded under the Incentive Stock Plan in lieu of shares the cash equivalent thereof valued at the date that the Committee determines whether, or to what extent, performance objectives have been met. In each case, the number of shares shall be subject to adjustment in accordance with the provisions of Section 5. Shares from the unexercised portion of the options which expire or of the options which are terminated during the period when options may be granted and shares forfeited or not earned under the Incentive Stock Plan may again either (i) be the subject of an option under the Stock Option Plan or (ii) be awarded or be the subject of rights granted under the Incentive Stock Plan. Shares of the Common Stock of the Corporation used by an optionee as full or partial payment to the Corporation for the purchase price of shares subject to an option agreement, the terms of which explicitly provide for the grant of an additional option as contemplated by Section 6(a)(i) hereof, shall again be made available for use under the Program. Shares otherwise surrendered upon the exercise of stock options may not again be the subject of options or awards granted under the Program. Shares surrendered under the Program in payment of taxes due upon the exercise of stock options or upon the recognition of income for shares issued under the Incentive Stock Plan may not be issued again under the Program. No single eligible employee under the Stock Option Plan may receive grants of stock options covering in excess of 600,000, or 20% of the total, shares authorized under the Program. 2 5. Recapitalization ---------------- The number of shares of Common Stock which may be granted, awarded or earned under the Incentive Stock Plan or made subject to options granted under the Stock Option Plan in the aggregate and to any single eligible employee, the number of shares covered by each outstanding option, and the price per share thereunder, and the number of shares granted or subject to incentive stock rights under the Incentive Stock Plan shall all be proportionally adjusted for any increase or decrease in the number of issued shares of Common Stock of the Corporation resulting from a subdivision or consolidation of shares or other capital adjustment, the distribution of shares of capital stock to stockholders of the Corporation, the payment of a stock dividend or other increase or decrease in such shares effected without receipt of consideration by the Corporation, or any distribution or spin-off of assets (other than a normal cash dividend) to the stockholders of the Corporation. Subject to any required action by the stockholders, if the Corporation shall be the surviving corporation in any merger or consolidation, any option granted under the Stock Option Plan and any incentive stock right granted under the Incentive Stock Plan shall apply to the securities to which a holder of the number of shares of Common Stock subject to the option or such right, as the case may be, would have been entitled before the occurrence of such event. A dissolution or liquidation of the Corporation, or a merger or consolidation in which the Corporation is not the surviving corporation, shall cause every option outstanding under the Stock Option Plan to terminate, except that the surviving corporation may, in its absolute and uncontrolled discretion, tender an option or options to purchase its shares on terms and conditions, both as to number of shares and otherwise, which will substantially preserve the rights and benefits of any option then outstanding under the Stock Option Plan. Upon the dissolution or liquidation of the Corporation, or upon the effective date of any merger or consolidation in which the Corporation is not the survivor and in which the survivor has not tendered options as provided in the preceding sentence, the Corporation shall deliver to each optionee whose incentive stock options are being terminated an amount in cash equal to the difference between the option price and the fair market value of a share of the Corporation's Common Stock determined in good faith by the Committee. In the case of such a merger or consolidation in which the Corporation is not the survivor, the Corporation shall also deliver to each person whose incentive stock options are being terminated and to each person who had exercised an incentive stock option and who was holding the shares so purchased for long-term capital gains treatment an amount equal to the difference between the federal income tax which the person would be required to pay as a result of being unable to hold such shares for long-term capital gains purposes (assuming a sale price equal to the fair market value as provided above) and the tax such person is required to pay as a result of having to dispose of shares on account of such merger or consolidation. In the event of a change in the Corporation's presently authorized Common Stock which is limited to a change of authorized shares with par value into the same number of shares with a different par value or into the same number of shares without par value, the shares resulting from any such change shall be deemed to be Common Stock within the meaning of the Program. 3 6. Stock Option Plan ----------------- (a) The Committee may from time to time grant options, including but not limited to performance-based stock options and to incentive stock options permitted by Section 422 of the Code, to purchase shares of Common Stock, evidenced by agreements in such form as the Committee may, from time to time, approve, containing in substance the following terms and conditions: (i) The option price may be paid either in United States dollars, or under rules established and maintained from time to time by the Committee, in shares of the Common Stock of the Corporation owned by the optionee, or a combination of cash and shares, at such time (but in no event later than the date on which any shares are issued on exercise of an option) as is determined by the Committee. Under such rules, an optionee paying the purchase price of an option in already-owned, freely transferable, unencumbered shares of Common Stock of the Corporation may receive new options to purchase shares of Common Stock of the Corporation at the then current market price (being the mean between the high and low selling prices of the Corporation's Common Stock on the New York Stock Exchange Composite Transactions list on the date of exercise; provided, however, that if on the date of exercise, an optionee sells through a broker designated by the Corporation any of the shares purchased as a result of the exercise of the option, then the shares shall be valued at the average sales price of such shares sold on such date as reported to the Corporation by such broker) for the same number of shares surrendered upon exercise of the original option. In no circumstance will the total number of shares subject to the new option granted exceed the number of shares surrendered upon exercise of the original option, will the new option be exercisable within twelve months of the date of exercise or will the new option have a life beyond that of the original option. Shares of the Corporation's Common Stock tendered for payment (either actually or by attestation) shall be valued at the mean between the high and low selling prices of the Corporation's Common Stock on the New York Stock Exchange Composite Transactions list on the date of exercise; provided, however, that if on the date of exercise, an optionee sells through a broker designated by the Corporation any of the shares purchased as a result of the exercise of the option, then the shares shall be valued at the average sales price of such shares sold on such date as reported to the Corporation by such broker). (ii) The option shall state the total number of shares to which it pertains. (iii) The option price shall be not less than 100% of the fair market value of the shares on the date of the granting of the option. 4 (iv) Each option granted under the Stock Option Plan shall expire on the date designated by the Committee but in no event more than ten years from the date the option is granted. (v) The Committee may in its discretion provide that an option may not be exercised in whole or in part for any period or periods of time specified by the Committee. Except as may be so provided by the Committee and except as otherwise provided herein, any option may be exercised in whole at any time or in part from time to time after the option has vested in accordance with the terms of the applicable agreement and during its term; provided, however, that, except in the event of a change of control (as determined by the Committee) in no circumstance will an option under the Stock Option Plan become exercisable in less than twelve months from the date of grant. (vi) The aggregate fair market value (determined as of the time the option is granted) of the stock for which any employee may be granted incentive stock options under this Plan or any other plans of the Corporation or any subsidiary of the Corporation shall not exceed $100,000 (or such other limit as may be in effect from time to time under Section 422 of the Code or any statutory successor thereto) in any calendar year in which such option or any portion thereof first becomes exercisable pursuant to the terms of the agreement between such employee and the Corporation. (vii) If, in the opinion of counsel for the Corporation, the listing, registration or qualification of the shares subject to option under any securities exchange or under any state or Federal law, or the consent or approval of any governmental regulatory body, or an exemption from registration, is necessary or desirable, each option shall be subject to the requirement that such option may not be exercised in whole or in part unless such listing, registration, qualification, consent, approval or exemption shall have been effected or obtained free of any conditions not acceptable to the Committee. (viii) An optionee shall have no rights as a stockholder with respect to shares covered by his option to purchase until the date of the issuance or transfer of the shares to him and only after such shares are fully paid. No adjustment will be made for dividends or other rights for which the record date is prior to the date of such issuance or transfer, except as provided in Section 5. (ix) The option agreements authorized under the Stock Option Plan shall contain such other provisions not inconsistent with this Program as the Committee may deem advisable. (b) Options may be granted under the Stock Option Plan from time to time in substitution for (i) stock options held by consultants to or directors or employees of other corporations who are about to become and who do concurrently with the grant of such options become consultants to or directors or employees of the Corporation or a Subsidiary as the result 5 of a merger or consolidation of the employing corporation with the Corporation or a Subsidiary, or the acquisition by the Corporation or a Subsidiary of the assets of the employing corporation, or the acquisition by the Corporation or a Subsidiary of stock of the employing corporation as the result of which it becomes a Subsidiary or (ii) in substitution stock options to acquire common stock of Corning Incorporated ("Corning"), which options are held by employees of the Corporation and are canceled as a result of the spinoff distribution by Corning of all of the Corporation's outstanding common stock to the stockholders of Corning. The terms and conditions of the substitute options so granted may vary from the terms and conditions set forth in Section 6 of this Program to such extent as the Committee at the time of grant may deem appropriate to conform, in whole or in part, to the provisions of the stock options in substitution for which they are granted. Options granted under this paragraph (b) or pursuant to the terms of the agreements contemplated by Section 6(a)(i) hereof shall not reduce the shares available for options, grants or incentive stock rights under the Program as set forth in Section 4 hereof. (c) If the optionee's employment by the Corporation or a Subsidiary shall terminate, his option shall terminate unless otherwise determined by the Committee, or specific provision has been otherwise made as evidenced by the terms of the option agreement approved by the Committee. The Committee shall have full power and authority to determine whether, to what extent and under what circumstances any option shall be exercisable, suspended or canceled in the event of an optionee's termination of employment. If an optionee dies while in the employ of the Corporation or a Subsidiary, or within three months after termination of employment with options exercisable pursuant to action taken by the Committee or otherwise in accordance with the preceding sentences, the optionee's estate, personal representative or beneficiary shall have the right to exercise such option in accordance with the terms of the option agreement with respect to all shares subject to option on the date of death. If an optionee shall be transferred from the Corporation to a Subsidiary or from a Subsidiary to the Corporation or from a Subsidiary to another Subsidiary, his employment shall not be deemed to have terminated. If an optionee shall be employed by a corporation or an entity which ceases to be a Subsidiary, the Committee may, subject to the provisions of clauses (iv) and (v) of Paragraph (a) of this Section 6, permit the participant to exercise options held for such period of time as it determines with respect to all shares which were available for purchase by the optionee on the date the corporation or entity ceased to be a Subsidiary. 7. Incentive Stock Plan -------------------- The Committee may from time to time award shares of Incentive Stock and grant incentive stock rights, or either, to eligible employees on the terms set forth herein. (a) "Incentive Stock" shall be shares of the Corporation's Common Stock awarded pursuant to the terms of the Incentive Stock Plan. 6 (b) An "incentive stock right" shall, subject to the terms, conditions and limitations of this Section 7, give the holder thereof the right to receive in consideration of services performed for, but without payment of cash to, the Corporation such shares of Common Stock, cash or a combination of the two as the Committee may determine. (c) Subject to the limitations of Section 4, the Committee shall from time to time select, and report to the Board of Directors, (i) the individual employees who are to receive shares of Incentive Stock or incentive stock rights, or a combination thereof, (ii) the number of shares of Incentive Stock a designated employee is to receive, either directly or upon maturation of an incentive stock right, (iii) whether ownership of, or any portion of, such shares of Incentive Stock is to be vested in the designated employee without the possibility of forfeiture or other restrictions at the time of the Committee's action or at one or more specified dates in the future, (iv) whether ownership of such, or any portion of such, shares of Incentive Stock is to be vested in the designated employee at the time of the Committee's action, but subject to the possibility of forfeiture or other restrictions, and (v) the specific dates from the date of the Committee's award over which the possibility of forfeiture or other restrictions are to lapse. Shares of Incentive Stock shall be issued in the name of, and distributed to, those employees from time to time designated by the Board as recipients of Incentive Stock as follows: (1) Each employee designated as a recipient of shares of Incentive Stock shall receive, promptly after the date or dates the Committee determines the number of such shares which such employee is to receive not subject to the possibility of forfeiture and other restrictions, one or more stock certificates registered in the name of the designated employee for such number of shares, the ownership of which is vested non-forfeitably and without restriction in such employee; and (2) Certificates covering shares of Incentive Stock subject to the possibility of forfeiture and other restrictions shall be issued promptly after the date or dates the Committee determines the number of such shares to be issued in the name of the designated employee but held by the Corporation as provided in clause (e) below. (d) The shares which are granted subject to restrictions and the possibility of forfeiture (and all shares issued or distributed by means of dividends, splits, combinations, reclassifications, or other capital changes thereon) (i) may not be sold, assigned, transferred, pledged or otherwise encumbered, except (a) for gifts to a spouse, ancestors, or descendants, or to trusts for their benefit and (b) pursuant to the qualified domestic relations orders referred to in Section 9 hereof, subject, however, in each such case to the restrictions and possibility of forfeiture applicable to such shares and (ii) except as otherwise provided in an agreement approved by the Committee are to be forfeitable to the Corporation upon termination of employment for any reason other than death, disability approved by the Corporation or retirement with the consent of the Corporation. The restrictions and possibility of forfeiture 7 imposed by this clause (d) shall lapse at such time and in such proportions as the Committee shall, subject to limitations of clause (c) above, determine. (e) Each certificate issued in respect of shares granted under the Incentive Stock Plan subject to restrictions on transfer and the possibility of forfeiture shall be registered in the name of the employee but shall be held by the Corporation in safekeeping for the employee and until such restrictions and the possibility of forfeiture shall lapse. Such certificates shall bear a legend substantially as follows: "The transferability of this certificate and the shares of stock represented hereby are restricted and the shares are subject to the further terms and conditions (including forfeiture) contained in the Incentive Stock Plan of Quest Diagnostics Incorporated and an agreement executed pursuant thereto. A copy of such Plan and such agreement are on file in the office of the Secretary of Quest Diagnostics Incorporated, Teterboro, New Jersey." (f) An employee who is to receive shares of Incentive Stock only upon the expiration of certain specified periods or who is the holder of an incentive stock right shall have no rights as a stockholder with respect to any shares which may become vested in, or be awarded to, him, as the case may be, until such shares have been actually issued. (g) The value of shares of the Incentive Stock or the value of the shares of Common Stock granted by the Corporation to the holder of an incentive stock right shall be the mean between the high and low selling prices of the Corporation's Common Stock on the New York Stock Exchange Composite Transactions list on the date the Committee determines that the applicable performance objectives were met or the date the possibility of forfeiture shall terminate, as the case may be. (h) At the time an incentive stock right is granted, the Committee shall establish with respect to each holder one or more performance periods and performance objectives. If the objectives have been met and are being maintained at the end of the applicable performance period to the satisfaction of the Committee, the holder of the incentive stock right shall receive promptly the shares and/or cash which are subject to the agreement referred to below. (i) Any provisions hereof the contrary notwithstanding, the Committee shall have the authority and the power to adjust performance periods, performance objectives and the number of shares which may be awarded pursuant to an incentive stock right if it determines that conditions so warrant. Such conditions may include, but need not be limited to, changes in functional responsibilities of a holder of an incentive stock right, changes in laws or government regulations, changes in accounting treatment or in generally accepted accounting principles, acquisitions, dispositions or distributions deemed to be material, or extraordinary events which significantly impact consolidated financial performance. (j) Incentive stock rights shall be evidenced by agreements in such form and not inconsistent with the Incentive Stock Plan as the Committee shall approve from time to time, which 8 agreements shall, among other things, contain in substance the following terms, conditions and provisions: (i) The number of shares to which the incentive stock right relates and whether such rights are to be paid in shares, in cash or in a combination or the two; (ii) The length of the performance period or periods; (iii) The performance objectives applicable to an individual granted an incentive stock right, which objectives may relate, but shall not be limited, to overall corporate performance measures, such as earnings per share, return on stockholders' equity and return on capital, or to divisional, subsidiary or other business unit performance measures, or to a combination of each; and (iv) Such other rules, as determined by the Committee, governing the continuation of an incentive stock right after the holder terminates, either voluntarily or involuntarily, his employment with the Corporation. (k) Unless otherwise determined by the Committee or set forth in the agreement contemplated by subsection (j) above, if the holder of an incentive stock right shall cease to be employed by the Corporation or a Subsidiary, his incentive stock right shall terminate immediately. [However, if employment is terminated on account of death, retirement or termination of employment with the consent of the Corporation (including termination by reason of retirement, disability or a Subsidiary ceasing to be such), the Committee may award to such employee such shares or cash at such time and under such conditions as it shall in its sole discretion determine.] 8. Amendment and Administration of the Program ------------------------------------------- The Board of Directors may, upon the recommendation of the Committee, from time to time alter, amend, suspend, or discontinue the Program or either Plan thereunder, except that no alteration or amendment shall, without the approval of the holders of a majority of the outstanding shares entitled to vote thereon, increase the total number of shares which may be sold or awarded under the Program, decrease the price at which options may be granted, change the standards of eligibility of employees eligible to participate, materially increase the benefits of the Program or either Plan thereunder to participants, or extend the term of the Program or of options granted thereunder. Adjustments in the total number of shares purchasable or awardable under the Program or optioned to any individual and adjustments of the option price may be made, however, without stockholder approval pursuant to the adjustment provisions described under the provisions of Section 5 hereof. No amendment or modification shall apply to affect adversely any employee with respect to incentive stock or incentive stock rights already awarded to him or an option already granted. Anything to the contrary in this Section 8 notwithstanding, should the provisions of Rule 16b-3, or any successor rule, under the 1934 Act be amended, the Board may amend the Program in accordance with any modifications to such Rule. 9 With respect to persons subject to Section 16 of the 1934 Act, transactions under the Program are intended to comply with all applicable conditions of Rule 16b-3, or any successor rule, under the 1934 Act. To the extent any provision of the Program or action by the Committee, the Board of Directors or any administrator fails to so comply, it shall be deemed null and void, to the extent permitted by law and deemed advisable by the Committee or the Board of Directors. 9. Assignability ------------- No option or right granted under the Program shall be assignable or transferable except by Will, by the laws of descent and distribution, or except for an incentive stock option pursuant to domestic relations orders as defined in or meeting the requirements of the Code or Title I of the Employee Retirement Income Security Act of 1974, as amended. During the lifetime of an optionee, an option shall be exercisable only by him and any shares purchased upon the exercise of an option shall be issued in the name of the optionee alone. 10. Effective Date and Term of Program. ----------------------------------- The Program shall become effective when approved by a majority of the votes cast at a meeting of the Corporation's stockholders by stockholders entitled to vote thereon. No shares may be optioned or awarded (except upon the attainment of performance goals contemplated by Section 7(h) hereof) and no incentive stock rights may be granted under the Program after the fifth anniversary, plus 60 calendar days, of the Program's effective date. 11. Use of Proceeds --------------- Proceeds from the sale of stock under the Program shall constitute general funds of the Corporation. 12. Withholding ----------- Whenever under the Program shares are to be issued in satisfaction of options, awards or rights granted thereunder, the Corporation shall have the right to require the employee to remit to it an amount in cash, in shares of the Corporation's Common Stock, or though the reduction of options, awards or rights to be issued thereof, necessary to satisfy federal, state and local withholding tax requirements prior to the delivery of any certificate or certificates for shares. Whenever under the Program payments are to be made in cash, such payment shall be net of an amount necessary to satisfy federal, state and local withholding tax requirements. 10 EX-10 7 ex10-6.txt EXHIBIT 10.6 Exhibit 10.6 QUEST DIAGNOSTICS INCORPORATED STOCK OPTION PLAN FOR NON-EMPLOYEE DIRECTORS (As amended as of October 30, 2002) Section 1. Purpose. The purpose of the Quest Diagnostics Incorporated Stock Option Plan for Non-Employee Directors is to secure for the Company and its stockholders the benefits of the incentive inherent in increased common stock ownership by the members of the Board of Directors who are not employees of the Company or any of its subsidiaries. Section 2. Definitions. When used herein, the following terms shall have the following meanings: "Administrator' means the Board, or a committee of the Board, duty appointed to administer the Plan. "Board" means the Board of Directors of the Corporation. "Code" means the Internal Revenue Code of 1986, as amended. "Common Stock" means ($.01 par value) common stock of the Corporation. "Corporation" means Quest Diagnostics Incorporated, a Delaware corporation. "Effective Date" shall mean January 13, 1998. "Exercise Price" means the price per share specified in the Option agreement at which the Participant may purchase Common Stock through the exercise of his/her Option, as the same may be adjusted in accordance with Section 7(h). "Fair Market Value" means, as of any date, the mean of the high and low sales price of a share of Common Stock on The New York Stock Exchange Composite list on such date (or if no sale took place on such exchange on such date, the mean between the high and the low on such exchange on the most recent preceding date on which a sale took place) provided, however, that for the purposes of Section 7(d), if on the date of exercise of an Option, a Participant sells through a broker designated by the Corporation any of the shares purchased as a result of the exercise of the Option, then the shares shall be valued at the average sales price of such shares sold on such date as reported to the Corporation by such broker. "Option" means a right granted under the Plan to a Participant to purchase shares of Common Stock as a Nonqualified Stock Option which is not intended to qualify as an Incentive Stock Option under Section 422 of the Code. "Option Period" means the period within which the Option may be exercised pursuant to the Plan. "Participant" means a member of the Board of Directors of Quest Diagnostics Incorporated who is not an employee of Quest Diagnostics Incorporated or any subsidiary thereof. "Plan" means the Quest Diagnostics Incorporated Stock Option Plan for Non-Employee Directors. Section 3. Administration. The Plan shall be administered by the Administrator who shall establish from time to time regulations for the administration of the Plan, interpret the Plan, delegate in writing administrative matters to committees of the Board or to other persons, and make such other determinations and take such other action as it deems necessary or advisable for the administration of the Plan. All decisions, actions and interpretations of the Administrator shall be final, conclusive and binding upon all parses. Section 4. Participation. All Non-Employee Directors who become members of the Board shall automatically be participants in the Plan. Section 5. Shares Subject to the Plan. (a) Participants shall receive under the Plan grants of Options to purchase not more than an aggregate of 500,000 shares of Common Stock and 500,000 shares shall be reserved for Options granted under the Plan (subject to adjustment as provided in Section 7(h)). The shares issued upon the exercise of Options granted under the Plan may be authorized and unissued shares or shares held in the treasury of the Corporation including shares purchased on the open market by the Corporation (at such time or times and in such manner as it may determine). The Corporation shall be under no obligation to acquire Common Stock for distribution to Participants before payment in shares of Common Stock is due. If any Option granted under the Plan shall be canceled or expire, new options may thereafter be granted covering such shares. Section 6. Grants of Options. (a) On the Effective Date and on the date of the Annual Meeting of Shareholders of each year commencing on January 1, 1999, each Participant shall be granted an Option to acquire 9,000 shares of Common Stock. (b) Each Participant may elect to receive an Option in lieu of the cash compensation payable to such director in any year. The number of shares of Common Stock underlying the Option available to such director shall be computed using the same Black-Scholes methodology as is used for the Quest Diagnostics Employees Equity Participation Program (or any successor plan) so as to achieve a value equal to the cash compensation that would otherwise have been paid. Any such election shall be irrevocable and shall be made by December 31, effective for the fees payable during the following year and with an Option being granted on each day on which the fees would otherwise have been payable (generally expected to be the first day of each calendar quarter). However, for 1998 such election may be made by March 31, 1998 for fees payable on or after April 1, 1998. Section 7. Terms and Conditions of Options. Each Option granted under the Plan shall be evidenced by a written agreement, in form approved by the Administrator and executed by the Chairman of the Board, President or Senior Vice President of the Corporation, which shall be subject to the following express terms and conditions and to such other terms and conditions as the Administrator may deem appropriate. (a) Option Period. Each Option agreement shall specify that the Option granted thereunder is granted for a period of ten (10) years from the date of grant and shall provide that the Option shall expire on such ten year anniversary. (b) Exercise Price. The Exercise Price per share shall be the Fair Market Value at the time the Option is granted. (c) Exercise of Option. Subject to Section 7(e), Options granted under Section 6(a) hereof shall become exercisable in three equal annual installments beginning on the first anniversary of the date of grant. Options granted under Section 6(b) vest and become exercisable immediately on the date of grant. (d) Payment of Exercise Price Upon Exercise. The Exercise Price of the shares as to which an Option shall be exercised shall be paid to the Corporation at such time (but in no event later than the date on which any shares are issued on exercise of an Option) as is determined by the Administrator. . The Administrator may authorize in its sole discretion, the payment of the Option Price by (i) delivering Common Stock of the Corporation already owned by the Participant and having a total Fair Market Value on the date of such delivery equal to the Option Price, (ii) delivering a combination of cash and Common Stock of the Corporation having a total Fair Market Value on the date of such delivery equal to the Exercise Price, or (iii) by delivery of a notice of cancellation of vested Options held by the participant having a spread equal to the Exercise Price of the number of shares being exercised, including any taxes required to be withheld by the corporation in connection with such exercise. For purposes of the preceding sentence "spread" shall mean the difference between the Fair Market Value of the Common Stock on the date of exercise and the Exercise Price multiplied by the number of shares covered by the vested Options being canceled. (e) Termination of Service on the Board. In the event service on the Board of a Participant terminates for any reason, all Options previously granted to such Participant under the Plan may be exercised by the Participant (or, if the Participant is deceased, by his/her representative) at any time, from time to time, through the tenth anniversary of the date of grant on the terms set forth herein. Notwithstanding the foregoing, any options granted on the Effective Date shall be forfeited in the event that the Participant ceases to be a member of the Board of Directors on the date of the 1998 Annual Meeting. (f) Transferability of Options. No Option granted under the Plan and no right arising under such Option shall be transferable other than by will or by the laws of descent and distribution. During the lifetime of the optionee, an Option shall be exercisable only by him/her. (g) Investment Representation. Each Option agreement may contain an undertaking that, upon demand by the administrator for such a representation, the optionee (or any person acting under Section 7(c)) shall deliver to the Administrator at the time of any exercise of an Option a written representation that the shares to be acquired upon such exercise are to be acquired for investment and not for resale or with a view to the distribution thereof. Upon such demand, delivery of such representation prior to the delivery of any shares issued upon exercise of an Option shall be a condition precedent to the right of the optionee or such other person to purchase any shares. (h) Adjustments in Event of Change in Common Stock. In the event of any change in the Common Stock by reason of any stock dividend recapitalization, reorganization, merger, consolidation, split-up, combination or exchange of shares, or of any similar change affecting the Common Stock, the number and kind of shares which thereafter be optioned and sold under the Plan and the number and kind of shares subject to Option in outstanding Option agreements and the Exercise Price per share thereof shall be appropriately adjusted consistent with such change in such manner as the administrator may deem equitable to prevent substantial dilution or enlargement of the right granted to, or available for, Participants in the Plan. (i) Participants to Have No Rights as Stockholders. No Participant shall have any rights as a stockholder with respect to any shares subject to his or her Option prior to the date on which he or she is recorded as the holder of such shares on the records of the Corporation. (j) Other Option Provisions. The form of Option agreement authorized by the Plan may contain such other provisions as the Board may, from time to time, determine. Section 8. Listing and Qualification of Shares. The Plan, the grant and exercise of Options thereunder, and the obligation of the Corporation to sell and deliver shares under such Options, shall be subject to all applicable federal and state laws, rules and regulations and to such approvals by any government or regulatory agency as may be required. The Corporation, in its discretion, may postpone the issuance or delivery of shares upon any exercise of an Option until completion of any stock exchange listing, or other qualification of such shares under any state or federal law, rule or regulation as the Corporation may consider appropriate, and may require any Participant, beneficiary or legal representative to make such representations and furnish such information as it may consider appropriate in connection with the issuance or delivery of the shares in compliance with applicable laws, rules and regulations. Section 9. Taxes. The Corporation may make such provisions and take such steps as it may deem necessary or appropriate for the withholding of all federal, state, local and other taxes required by law to be withheld with respect to Options under the Plan including, but not limited to (a) reducing the number of shares of Common Stock otherwise deliverable, based upon their Fair Market Value on the date of exercise, to permit deduction of the amount of any such withholding taxes from the amount otherwise payable under the Plan, (b) deducting the amount of any such withholding taxes from any other amount then or thereafter payable to a Participant, or (c) requiring a participant, beneficiary or legal representative to pay in cash to the Corporation the amount required to be withheld or to execute such documents as the Corporation deems necessary or desirable to enable it to satisfy its withholding obligations as a condition of releasing the Common Stock. Section 10. No Liability of Board Members. No member of the Board shall be personally liable by reason of any contract or other instrument executed by such member or on his behalf in his/her capacity as a member of the Board or the Administrator nor for any mistake of judgment made in good faith, and the Corporation shall indemnify and hold hairless to the fullest extent permitted by the Corporation's Restated Certificate of Incorporation and By-Laws and Delaware General Corporation Law, each employee, officer or director of the Corporation to whom any duty or power relating to the administration or interpretation of the Plan may be allocated or delegated, against any cost or expense (including counsel fees) or liability (including any sum paid in settlement of a claim with the approval of the Board) arising out of any act or omission to act in connection with the Plan. Section 11. Amendment or Termination. The Board may, with prospective or retroactive effect, amend, suspend or terminate the Plan or any portion thereof at any time; provided, however, that no amendment, suspension or termination of the Plan shall deprive any Participant of any right with respect to any Option granted under the Plan without his written consent; and provided, further, that unless duly approved by the holders of stock entitled to vote thereon at a meeting (which may be the annual meeting) duly called and held for such purpose, except as provided in paragraph 7(h), no amendment or change shall be made in the Plan (i) increasing the total number of shares which may be issued or transferred under the Plan; (ii) changing the exercise price specified for the shares subject to Options; (iii) changing the maximum period during which Options may be exercised; (iv) extending the period during which Options may be granted under the Plan; or (v) expanding the class of individuals eligible to receive Options under the Plan. Section 12. Captions. The captions preceding the sections of the Plan have been inserted solely as a matter of convenience and shall not in any manner define or limit the scope or intent of any provisions of the Plan. Section 13. Governing Law. The Plan and all rights thereunder shall be governed by and construed in accordance with the laws of the State of Delaware applicable to contracts made and to be performed entirely within such State. Section 14. Effective Date and Duration of Plan. The Plan shall, subject to approval of the stockholders of the Company at the 1998 Annual Meeting, become effective as of the Effective Date. This Plan shall terminate at the close of business on the last day of January 2008, and no Option may be granted under the Plan after such date, but such termination shall not affect any Option previously granted. -----END PRIVACY-ENHANCED MESSAGE-----