-----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, MfCW2VVz7xJgciTU8kc/zAeDOpcmt2R6GUsSoAqx1L9PmCqxZcYte1Vb/YjaT1vn yUA4YZN//z8vXKJQblcYxw== 0000019411-96-000022.txt : 19960517 0000019411-96-000022.hdr.sgml : 19960517 ACCESSION NUMBER: 0000019411-96-000022 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 6 CONFORMED PERIOD OF REPORT: 19960331 FILED AS OF DATE: 19960514 SROS: AMEX FILER: COMPANY DATA: COMPANY CONFORMED NAME: MAGELLAN HEALTH SERVICES INC CENTRAL INDEX KEY: 0000019411 STANDARD INDUSTRIAL CLASSIFICATION: SERVICES-HOSPITALS [8060] IRS NUMBER: 581076937 STATE OF INCORPORATION: DE FISCAL YEAR END: 0930 FILING VALUES: FORM TYPE: 10-Q SEC ACT: 1934 Act SEC FILE NUMBER: 001-06639 FILM NUMBER: 96564676 BUSINESS ADDRESS: STREET 1: 3414 PEACHTREE RD N E STREET 2: STE 1400 CITY: ATLANTA STATE: GA ZIP: 30326 BUSINESS PHONE: 9127421161 FORMER COMPANY: FORMER CONFORMED NAME: CHARTER MEDICAL CORP DATE OF NAME CHANGE: 19920703 10-Q 1 - ------------------------------------------------------------------------------ FORM 10-Q SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 ------------------------------------ (Mark One) [X] QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended March 31, 1996 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from ________________ to _______________ Commission File No. 1-6639 MAGELLAN HEALTH SERVICES, INC. (Exact name of Registrant as specified in its charter) Delaware 58-1076937 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 3414 Peachtree Road, NE, Suite 1400 Atlanta, Georgia 30326 (Address of principal executive offices) (Zip Code) (404) 841-9200 (Registrant's telephone number, including area code) See Table of Additional Registrants below. ------------------------------------ Not Applicable (Former name, former address and former fiscal year, if changed since last report) ------------------------------------ Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No Indicate by check mark whether the registrant has filed all documents and reports required to be filed by Sections 12, 13 or 15(d) of the Securities Exchange Act of 1934 subsequent to the distribution of securities under a plan confirmed by a court. Yes X No The number of shares of the Registrant's Common Stock outstanding as of April 30, 1996, was 32,921,013. - ------------------------------------------------------------------------------ FORM 10-Q MAGELLAN HEALTH SERVICES, INC. AND SUBSIDIARIES INDEX Page No. -------- PART I - Financial Information: Condensed Consolidated Balance Sheets - September 30, 1995 and March 31, 1996..............................2 Condensed Consolidated Statements of Operations - For the Six Months and Quarters ended March 31, 1995 and 1996......4 Condensed Consolidated Statements of Cash Flows - For the Six Months ended March 31, 1995 and 1996...................5 Notes to Condensed Consolidated Financial Statements................6 Management's Discussion and Analysis of Financial Condition and Results of Operations...............................16 PART II - Other Information: Item 1. - Legal Proceedings........................................22 Item 4. - Submission of Matters to Vote of Security Holders........22 Item 5. - Other Information........................................22 Item 6. - Exhibits and Reports on Form 8-K.........................24 Signatures.........................................................26 MAGELLAN HEALTH SERVICES, INC. QUARTERLY REPORT UNDER SECTION 13 or 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 PART I - FINANCIAL INFORMATION
MAGELLAN HEALTH SERVICES, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED BALANCE SHEETS (Unaudited) (In thousands) September 30, March 31, 1995 1996 -------------- ------------- ASSETS Current Assets Cash and cash equivalents......................... $ 105,514 $ 123,674 Accounts receivable, net.......................... 181,163 222,365 Supplies.......................................... 5,768 5,726 Refundable income taxes........................... -- 7,036 Other current assets.............................. 13,130 21,947 ---------- ------------ Total Current Assets......................... 305,575 380,748 Property and Equipment Land.............................................. 88,019 87,737 Buildings and improvements........................ 377,169 388,732 Equipment......................................... 111,554 132,343 --------- ------------ 576,742 608,812 Accumulated depreciation.......................... (90,877) (110,611) --------- ------------ 485,865 498,201 Construction in progress.......................... 2,902 3,147 --------- ------------ 488,767 501,348 Assets Restricted for Settlement of Unpaid Claims........ 94,138 95,208 Other Long-Term Assets................................... 33,249 25,694 Goodwill, net............................................ 39,994 130,327 Other Intangible Assets, net............................. 21,835 44,187 --------- ------------ $ 983,558 $ 1,177,512 ========= ============
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MAGELLAN HEALTH SERVICES, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED BALANCE SHEETS (Unaudited) (In thousands, except per share data) September 30, March 31, 1995 1996 -------------- -------------- LIABILITIES AND STOCKHOLDERS' EQUITY Current Liabilities Accounts payable..................................... $ 71,020 $ 78,987 Accrued liabilities.................................. 140,343 181,238 Current maturities of long-term debt and capital lease obligations......................... 2,799 5,691 ----------- --------------- Total Current Liabilities................... 214,162 265,916 Long-Term Debt and Capital Lease Obligations................ 538,770 536,215 Deferred income tax liabilities............................. -- 13,344 Reserve for Unpaid Claims................................... 100,125 89,500 Deferred Credits and Other Long-Term Liabilities............ 34,455 28,786 Minority Interest........................................... 7,486 51,985 Commitments and Contingencies Stockholders' Equity Common Stock, par value $0.25 per share Authorized - 80,000 shares Issued and outstanding - 28,405 shares at September 30, 1995 and 32,915 shares at March 31, 1996........................... 7,101 8,229 Other Stockholders' Equity Additional paid-in capital........................ 253,295 326,601 Accumulated deficit............................... (161,840) (132,023) Warrants outstanding.............................. 64 64 Common Stock in Treasury, 462 at September 30, 1995 and March 31, 1996................. (9,238) (9,238) Cumulative foreign currency adjustments........... (822) (1,867) ---------- --------------- Stockholders' Equity........................ 88,560 191,766 ---------- --------------- $ 983,558 $ 1,177,512 ========== =============== The accompanying Notes to Condensed Consolidated Financial Statements are an integral part of these balance sheets.
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MAGELLAN HEALTH SERVICES, INC. CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (Unaudited) (In thousands, except per share data) For the Three Months For the Six Months ended ended March 31, March 31, ----------------------- -------------------------- 1995 1996 1995 1996 --------- -------- ----------- --------- Net revenue................................................. $ 299,81 $ 354,953 $ 563,658 $ 650,618 -------- --------- ----------- --------- Costs and expenses Salaries, supplies and other operating expenses..... 221,295 275,018 420,822 506,344 Bad debt expense..................................... 23,743 22,619 44,962 42,407 Depreciation and amortization........................ 10,061 13,120 18,418 23,300 Amortization of reorganization value in excess of amounts allocable to identifiable assets........ 7,800 -- 15,600 -- Interest, net........................................ 13,537 8,572 27,401 22,394 ESOP expense......................................... 14,273 -- 26,773 -- Stock option expense (credit)........................ (956) (409) (3,317) 1,414 Unusual items........................................ 29,800 -- 26,840 -- --------- --------- ----------- --------- 319,553 318,920 577,499 595,859 --------- --------- ----------- --------- Income (loss) before provision for income taxes and minority interest................................ (19,736) 36,033 (13,841) 54,759 Provision for (benefit from) income taxes................... (4,774) 14,413 704 22,372 --------- --------- ----------- --------- Income (loss) before minority interest...................... (14,962) 21,620 (14,545) 32,387 Minority interest........................................... 138 1,551 206 2,570 --------- --------- ----------- --------- Net income (loss)........................................... $ (15,100) $ 20,069 $ (14,751) $ 29,817 ========= ========= =========== ========= Earnings (loss) per common share: Primary.............................................. $ (0.53) $ 0.63 $ (0.53) $ 0.99 ========= ========= =========== ========= Fully diluted........................................ $ (0.53) $ 0.59 $ (0.53) $ 0.96 ========= ========= =========== ========= Weighted average number of common shares outstanding: Primary.............................................. 28,332 31,882 27,613 30,099 Fully diluted........................................ 28,332 34,715 27,613 31,851 The accompanying Notes to Consolidated Financial Statements are an integral part of these statements.
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MAGELLAN HEALTH SERVICES, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited) (In thousands) For the Six Months ended March 31 ---------------------------- 1995 1996 ---------- ----------- Cash Flows from Operating Activities Net income (loss)..................................................... $ (14,751) $ 29,817 ---------- ----------- Adjustments to reconcile net income to net cash provided by operating activities: Depreciation and amortization.................................. 34,018 23,300 ESOP expense................................................... 26,773 -- Non-cash portion of unusual items.............................. 18,800 -- Stock option expense (credit).................................. (3,317) 1,414 Non-cash interest expense...................................... 1,186 1,202 Gain on sale of assets......................................... (2,961) (503) Cash flows from changes in assets and liabilities, net of effects from sales and acquisitions of businesses: Accounts receivable, net................................ (16,051) (16,993) Other assets............................................ (10,133) 1,094 Accounts payable and other accrued liabilities.......... (9,739) (10,048) Reserve for unpaid claims............................... 6,044 (10,625) Income taxes receivable/payable......................... (1,700) 10,188 Other liabilities....................................... (13,529) (5,669) Minority interest, net of dividends paid................ (125) 4,099 Other................................................... 656 121 ---------- ----------- Total adjustments.................................. 29,922 (2,420) ---------- ----------- Net cash provided by operating activities..... 15,171 27,397 ---------- ----------- Cash Flows From Investing Activities Capital expenditures.................................................. (9,402) (12,787) Acquisitions of businesses, net of cash acquired...................... (64,970) (47,920) Increase in assets restricted for settlement of unpaid claims....................................................... (13,660) (6,070) Proceeds from sale of assets.......................................... 5,879 653 ---------- ----------- Net cash used in investing activities......... (82,153) (66,124) ---------- ----------- Cash Flows From Financing Activities Proceeds from issuance of debt........................................ 28,009 68,125 Payments on debt and capital lease obligations........................ (21,111) (80,037) Proceeds from issuance of common stock, net of issuance costs......... -- 68,669 Treasury stock transactions........................................... (729) -- Proceeds from exercise of stock options and warrants.................. 391 1,808 Income tax payments made on behalf of stock optionees................. -- (1,678) ---------- ----------- Net cash provided by financing activities..... 6,560 56,887 ---------- ----------- Net decrease in cash and cash equivalents.................................... (60,422) 18,160 Cash and cash equivalents at beginning of period............................. 129,603 105,514 ---------- ----------- Cash and cash equivalents at end of period................................... $ 69,181 $ 123,674 ========== =========== The accompanying Notes to Condensed Consolidated Financial Statements are an integral part of these statements.
5 MAGELLAN HEALTH SERVICES, INC. AND SUBSIDIARIES NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS March 31, 1996 (Unaudited) NOTE A - Basis of Presentation The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. In the opinion of management, all adjustments, consisting of normal recurring adjustments considered necessary for a fair presentation, have been included. These financial statements should be read in conjunction with the audited consolidated financial statements of the Company for the year ended September 30, 1995, included in the Company's Annual Report on Form 10-K. Certain reclassifications have been made to fiscal 1995 amounts to conform to fiscal 1996 presentation. NOTE B - Nature of Business The Company's hospital business is seasonal in nature, with a reduced demand for certain services generally occurring in the first fiscal quarter around major holidays, such as Thanksgiving and Christmas, and during the summer months comprising the fourth fiscal quarter. The Company's businesses are also subject to general economic conditions and other factors. Accordingly, the results of operations for the interim periods are not necessarily indicative of the actual results expected for the year. NOTE C - Supplemental Cash Flow Information Below is supplemental cash flow information related to the six months ended March 31, 1995 and 1996:
For the Six Months ended March 31 1995 1996 -------- -------- (In thousands) Income taxes paid, net of refunds received.............................. $ 2,431 $ 2,698 Interest paid, net of amounts capitalized............................... 26,241 28,080 Notes payable assumed in connection with acquisitions of businesses..... 947 12,100
The non-cash portion of unusual items for the six months ended March 31, 1995 represents the unpaid portion of the $29.8 million insurance settlement that was recorded during the quarter and the six months ended March 31, 1995. The current and long-term portion ($2.0 million and $16.8 million, respectively) of the insurance settlement are included in accounts payable and other accrued liabilities and other liabilities in the statement of cash flows for the six months ended March 31, 1995. 6 NOTE D - Long-Term Debt and Leases Information with regard to the Company's long-term debt and capital lease obligations at September 30, 1995 and March 31, 1996 follows:
September 30, March 31, 1995 1996 --------------- ---------------- (In thousands) Revolving Credit Agreement due through 1999 (7.625 % at March 31, 1996)............................. $ 80,593 $ 70,593 11.25% Senior Subordinated Notes due 2004...................... 375,000 375,000 6.66 % to 10.75% Mortgage and other notes payable through 1999.................................... 5,268 16,248 Variable rate secured notes due through 2013 (3.30% to 3.55% at March 31, 1996)...................... 62,025 61,625 7.5% Swiss Bonds............................................... 6,443 6,443 3.35% to 12.5% Capital lease obligations due through 2014...... 12,617 12,365 -------------- ------------- 541,946 542,274 Less amounts due within one year........................ 2,799 5,691 Less debt service funds................................. 377 368 -------------- ------------- $ 538,770 $ 536,215 ============== =============
NOTE E - Accrued Liabilities Accrued liabilities consist of the following (in thousands):
September 30, March 31, 1995 1996 -------------- ---------------- Salaries and wages....................... $ 28,597 $ 35,071 Amounts due health insurance programs.... 10,252 18,577 Medical claims payable................... -- 25,953 Interest................................. 20,561 21,027 Other.................................... 80,933 80,610 ------------ -------------- $ 140,343 $ 181,238 ============ ==============
NOTE F - Acquisition Acquisition On December 13, 1995, the Company acquired a 51% ownership interest in Green Spring Health Services, Inc. ("Green Spring") for approximately $68.9 million in cash, the issuance of 215,458 shares of Common Stock valued at approximately $4.3 million and the contribution of Group Practice Affiliates, Inc. ("GPA"), a wholly-owned subsidiary of the Company, which became a wholly-owned subsidiary of Green Spring. On December 20, 1995, the Company acquired an additional 10% ownership interest in Green Spring for approximately $16.7 million in cash as a result of an exercise by a minority stockholder of its Exchange Option (as hereinafter defined) for a portion of the stockholder's interest in Green Spring. The Company had a 61% ownership interest in Green Spring as of March 31, 1996. As of March 31, 1996, Green Spring provided managed behavioral healthcare services, which includes utilization management, care management and employee assistance programs through a 50-state provider network for approximately 12.6 million people nationwide. 7 The minority stockholders of Green Spring consist of four Blue Cross/Blue Shield organizations (the "Blues") that are key customers of Green Spring. In addition, two other Blues organizations that formerly owned a portion of Green Spring will continue as customers of Green Spring. As of March 31, 1996, the minority stockholders of Green Spring have the option, under certain circumstances, to exchange their ownership interests ("Exchange Option") in Green Spring for 2,831,739 shares of the Company's Common Stock or $65.1 million in subordinated notes. The Company may elect to pay cash in lieu of issuing the subordinated notes. The Exchange Option expires December 13, 1998. The Company recorded the investments in Green Spring using the purchase method of accounting. Green Spring's results of operations have been included in the condensed consolidated financial statements since the acquisition date, less minority interest. The cost of the investments in Green Spring have been allocated to the estimated fair value of assets acquired and liabilities assumed to the extent acquired by the Company. The remaining portion of Green Spring's assets and liabilities have been recorded at the historical cost basis of the minority stockholders. The purchase price allocation for the investments in Green Spring and the historical cost basis of the minority stockholders of Green Spring, in aggregate, resulted in goodwill of approximately $88 million and identifiable intangible assets of approximately $24 million. NOTE G - Facility Closures The Company recorded a charge of approximately $3.6 million related to facility closures during the fourth fiscal quarter of 1995, which consisted of approximately $2.1 million for severance and related benefits and $1.5 million for contract terminations and other costs. As of March 31, 1996, substantially all of the severance and related benefits have been paid. Other exit costs paid and charged against the resulting liability were not significant for the quarter and the six months ended March 31, 1996. The following table presents net revenue, salaries, supplies and other operating expenses and bad debt expense and net losses (excluding normal settlement of reimbursement issues from prior year periods, exit costs and impairment losses) of hospitals closed since the beginning of fiscal 1995 through March 31, 1996 (in thousands):
Quarter Ended Six Months Ended March 31, March 31, -------------------------- -------------------------- 1995 1996 1995 1996 ----------- ---------- ---------- ----------- Net revenue.................................. $ 17,182 $ 603 $ 34,815 $ 2,517 Salaries, supplies and other operating expenses and bad debt expense.............. 17,018 2,310 35,646 6,214 Net loss..................................... (897) (1,211) (2,076) (3,629)
The Company has consolidated or closed three hospitals during fiscal 1996 through March 31, 1996. The charges related to closing such facilities were not material. During April 1996, the Company closed three hospitals. The Company expects to record a charge of approximately $2.5 million during the quarter ended June 30, 1996 related to the costs necessary to exit the hospital operations. The following table presents net revenue, salaries, supplies and other operating expenses and bad debt expense and net losses (excluding normal settlement of reimbursement issues from prior periods and impairment losses) for the three hospitals closed in April 1996 (in thousands):
Quarter Ended Six Months Ended March 31, March 31, -------------------------- -------------------------- 1995 1996 1995 1996 ----------- ---------- ---------- ----------- Net revenue.................................. $ 3,740 $ 4,882 $ 6,351 $ 10,014 Salaries, supplies and other operating expenses and bad debt expense.............. 4,002 5,872 6,468 11,237 Net loss..................................... (324) (716) (470) (1,146)
8 NOTE H - Earnings (Loss) Per Common Share Primary earnings (loss) per common share equals net income (loss) divided by the weighted average number of common shares outstanding, after giving effect to dilutive common stock equivalents. Fully diluted earnings (loss) per common share gives effect to dilutive common stock equivalents and other potentially dilutive securities. The Exchange Option is classified as a potentially dilutive security for the quarter and the six months ended March 31, 1996 for the purpose of computing fully diluted earnings per common share. A reconciliation of the calculation of fully diluted earnings per common share, assuming conversion of the Exchange Option as of the beginning of the periods presented or December 13, 1995, whichever date is later, is as follows:
Three Months ended Six Months ended March 31, 1996 March 31, 1996 ------------------- ------------------- (in thousands) Net income....................................................... $ 20,069 $ 29,817 Adjustments for the assumed conversion of the Exchange Option: Minority interest......................................... 811 1,082 Amortization.............................................. (276) (341) ---------------- Adjusted net income - Fully diluted earnings per share........... $ 20,604 $ 30,558 ================ =================
Three Months ended Six Month ended March 31, 1996 March 31, 1996 ------------------ ----------------- (in thousands) Weighted average number of common shares outstanding for fully diluted earnings per share, excluding the assumed conversion of the Exchange Option................ 31,883 30,137 Assumed conversion of the Exchange Option................... ---------------- ----------------- Weighted average number of common shares outstanding - Fully diluted............................................. 34,71 31,851 ================ ================= Fully diluted earnings per common share..................... 0.5 0.96 ================ =================
NOTE I - Unusual Items In December 1994, the Company recorded an unusual item of approximately $3.0 million which represented the pre-tax gain on the sale of three psychiatric hospitals. In March 1995, the Company and a group of insurance carriers resolved disputes that arose in fiscal 1995 related to claims paid predominantly in the 1980's. As part of the resolution, the Company agreed to pay the insurance carriers $29.8 million in five installments over a three year period. NOTE J - Contingencies The Company is self-insured for a substantial portion of its general and professional liability risks. The reserves for self-insured general and professional liability losses, including loss adjustment expenses, are based on actuarial estimates that are discounted at an average rate of 6% to their present value based on the Company's historical claims experience adjusted for current industry trends. The undiscounted amount of the reserve for unpaid claims at September 30, 1995 was approximately $113.1 million. The reserve for unpaid claims is adjusted periodically as such claims mature, to reflect revised actuarial estimates based on actual experience. While management and its actuaries believe that the present reserves are reasonable, ultimate settlement of losses may vary from the amounts recorded. 9 Certain of the Company's subsidiaries are subject to or parties to claims, civil suits and governmental investigations and inquiries relating to their operations and certain alleged business practices. In the opinion of management, based on consultation with counsel, resolution of these matters will not have a material adverse effect on the Company's financial position or results of operations. In January 1996, the Company settled an ongoing dispute with the Resolution Trust Corporation ("RTC"), for itself or in its capacity as conservator or receiver for 12 financial institutions, which formerly held certain debt securities that were issued by the Company in 1988. In connection with the settlement, the Company, denying any liability or fault, paid $2.7 million to the RTC in exchange for a release of all claims. 10
NOTE K - Guarantor Condensed Consolidating Financial Statements MAGELLAN HEALTH SERVICES INC. AND SUBSIDIARIES CONDENSED CONSOLIDATING BALANCE SHEETS (In thousands, except per share amounts) March 31, 1996 ------------------------------------------------- Magellan Health Services, Inc. Guarantor Nonguarantor (Parent ASSETS Subsidiaries Subsidiaries Corporation) ------------ ------------ ---------------- Current Assets Cash and cash equivalents............................................ $ 51,927 $ 58,142 $ 13,605 Accounts receivable, net............................................. 173,985 48,304 76 Supplies............................................................. 4,888 404 434 Refundable income taxes.............................................. (720) (1,483) 11,944 Other current assets................................................. 9,297 6,437 8,603 ------------ ----------- -------------- Total Current Assets................................. 239,377 111,804 34,662 Property and Equipment Land................................................................. 78,953 7,770 1,014 Buildings and improvements........................................... 348,241 35,419 5,072 Equipment............................................................ 108,107 20,337 3,899 ------------ ----------- -------------- 535,301 63,526 9,985 Accumulated depreciation............................................. (100,717) (6,420) (3,474) Construction in progress............................................. 2,848 282 17 ------------ ----------- -------------- 437,432 57,388 6,528 Assets restricted for settlement of unpaid claims........................... -- 80,803 14,405 Goodwill.................................................................... 21,645 97,757 10,925 Other Long-Term Assets (1).................................................. 123,163 (86,508) 1,172,254 ------------ ----------- -------------- $ 821,617 $ 261,244 $ 1,238,774 ============ =========== ============== LIABILITIES AND STOCKHOLDERS' EQUITY Current Liabilities Accounts payable..................................................... $ 39,801 $ 27,086 $ 12,144 Accrued expenses and other current liabilities ...................... 61,691 50,059 69,488 Current maturities of long-term debt and capital lease obligations... 2,562 3,129 -- ------------ ----------- -------------- Total Current Liabilities............................ 104,054 80,274 81,632 Long-Term Debt and Capital Lease Obligations................................ (399,390) 11,513 924,092 Deferred income tax liabilities............................................. (378) (5,441) 3,091 Reserve for Unpaid Claims................................................... -- 81,729 10,161 Deferred Credits and Other Long-Term Liabilities (1)........................ 476,017 15,680 28,032 Minority Interest........................................................... -- -- 51,985 Commitments and Contingencies Stockholders' Equity Common Stock, par value $0.25 per share; Authorized - 80,000 shares Issued and outstanding - 32,915 shares.............................. 2,752 (483) 8,229 Other Stockholders' Equity Additional paid-in capital........................................... 611,354 34,595 326,601 Retained earnings (Accumulated deficit).............................. 28,252 46,806 (132,023) Warrants outstanding................................................. 64 Common shares in Treasury - 462 shares............................... -- (4,736) (9,238) Cumulative foreign currency adjustments.............................. (1,044) 1,307 (1,867) ------------ ----------- -------------- 641,314 77,489 191,766 ------------ ----------- -------------- $ 821,617 $ 261,244 $ 1,238,774 ============ =========== ============== Consolidated Elimination Consolidated ASSETS Entries Total -------------- -------------- Current Assets Cash and cash equivalents............................................ $ -- 123,674 Accounts receivable, net............................................. -- 222,365 Supplies............................................................. -- 5,726 Refundable income taxes.............................................. (2,705) 7,036 Other current assets................................................. (2,390) 21,947 ------------ ----------- Total Current Assets................................. (5,095) 380,748 Property and Equipment Land................................................................. -- 87,737 Buildings and improvements........................................... -- 388,732 Equipment............................................................ -- 132,343 ------------ ----------- -- 608,812 Accumulated depreciation............................................. -- (110,611) Construction in progress............................................. -- 3,147 ------------ ----------- -- 501,348 Assets restricted for settlement of unpaid claims........................... -- 95,208 Goodwill.................................................................... -- 130,327 Other Long-Term Assets (1).................................................. (1,139,028) 69,881 ------------ ----------- $ (1,144,123) $ 1,177,512 ============ =========== LIABILITIES AND STOCKHOLDERS' EQUITY Current Liabilities Accounts payable..................................................... $ (44) $ 78,987 Accrued expenses and other current liabilities ...................... -- 181,238 Current maturities of long-term debt and capital lease obligations... -- 5,691 ------------ ----------- Total Current Liabilities............................ (44) 265,916 Long-Term Debt and Capital Lease Obligations................................ -- 536,215 Deferred income tax liabilities............................................. 16,072 13,344 Reserve for Unpaid Claims................................................... (2,390) 89,500 Deferred Credits and Other Long-Term Liabilities (1)........................ (490,943) 28,786 Minority Interest........................................................... 51,985 Commitments and Contingencies Stockholders' Equity Common Stock, par value $0.25 per share; Authorized - 80,000 shares Issued and outstanding - 32,915 shares.............................. (2,269) 8,229 Other Stockholders' Equity Additional paid-in capital........................................... (645,949) 326,601 Retained earnings (Accumulated deficit).............................. (75,058) (132,023) Warrants outstanding................................................. 64 Common shares in Treasury - 462 shares............................... 4,736 (9,238) Cumulative foreign currency adjustments.............................. (263) (1,867) ------------ ----------- (718,803) 191,766 ------------ ----------- $ (1,144,123) $ 1,177,512 ============ =========== (1) Elimination entry related to intercompany receivables and payables and investment in consolidated subsidiaries. The accompanying Notes to Condensed Consolidating Financial Statements are an integral part of these statements.
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MAGELLAN HEALTH SERVICES INC. AND SUBSIDIARIES CONDENSED CONSOLIDATING BALANCE SHEETS (In thousands, except per share amounts) September 30, 1995 -------------------------------------------------- Magellan Health Services, Inc. Guarantor Nonguarantor (Parent Subsidiaries Subsidiaries Corporation) -------------- ------------- --------------- ASSETS Current Assets Cash and cash equivalents............................................ $ 60,719 $ 10,279 $ 34,516 Accounts receivable, net............................................. 170,855 10,251 57 Supplies............................................................. 5,081 224 463 Other current assets................................................. 10,004 (1,241) 19,151 ------------ ----------- ------------- Total Current Assets................................. 246,659 19,513 54,187 Property and Equipment Land................................................................. 79,807 7,199 1,013 Buildings and improvements........................................... 351,081 21,017 5,071 Equipment............................................................ 103,125 4,900 3,529 ------------ ----------- ------------- 534,013 33,116 9,613 Accumulated depreciation............................................. (87,503) (2,716) (658) Construction in progress............................................. 2,650 25 1 ------------ ----------- ------------- 449,160 30,651 8,956 Assets restricted for settlement of unpaid claims........................... -- 78,188 15,950 Other Long-Term Assets (1)................................................. 129,898 18,398 1,010,425 Other Intangible Assets, net................................................ 29,498 11,811 20,520 ------------ ----------- ------------- $ 855,215 $ 158,561 $ 1,110,038 ============ =========== ============= LIABILITIES AND STOCKHOLDERS' EQUITY Current Liabilities Accounts payable..................................................... $ 50,510 $ 8,424 $ 12,086 Accrued liabilities and income tax payable........................... 67,646 4,156 68,541 Current maturities of long-term debt and capital lease obligations... 2,673 126 -- ------------ ----------- ------------- Total Current Liabilities............................ 120,829 12,706 80,627 Long-Term Debt and Capital Lease Obligations................................ (344,312) 5,271 877,811 Reserve for Unpaid Claims................................................... -- 89,207 25,702 Deferred Credits and Other Long-Term Liabilities (1)........................ 512,426 476 37,338 Minority Interest........................................................... -- -- -- Commitments and Contingencies Stockholders' Equity........................................................ Common Stock, par value $0.25 per share; Authorized - 80,000 shares Issued and outstanding - 28,405 shares.............................. 2,765 837 7,101 Other Stockholders' Equity Additional paid-in capital........................................... 612,131 30,455 253,295 Retained earnings (Accumulated deficit).............................. (47,789) 22,601 (161,840) Warrants outstanding................................................. -- -- 64 Common stock in Treasury 462 shares........................................................ -- (4,736) (9,238) Cumulative foreign currency adjustments............................. (835) 1,744 (822) ------------ ----------- ------------- 566,272 50,901 88,560 ------------ ----------- ------------- $ 855,215 $ 158,561 $ 1,110,038 ============ =========== ============= September 30, 1995 -------------------------------- Consolidated Elimination Consolidated Entries Total -------------- -------------- ASSETS Current Assets Cash and cash equivalents............................................ $ -- $ 105,514 Accounts receivable, net............................................. -- 181,163 Supplies............................................................. -- 5,768 Other current assets................................................. (14,784) 13,130 ------------ ----------- Total Current Assets................................. (14,784) 305,575 Property and Equipment Land................................................................. -- 88,019 Buildings and improvements........................................... -- 377,169 Equipment............................................................ -- 111,554 ------------ ----------- -- 576,742 Accumulated depreciation............................................. -- (90,877) Construction in progress............................................. -- 2,902 ------------ ----------- -- 488,767 Assets restricted for settlement of unpaid claims........................... -- 94,138 Other Long-Term Assets (1)................................................. (1,125,472) 33,249 Other Intangible Assets, net................................................ -- 61,829 ------------ ----------- $ (1,140,256) $ 983,558 ============ =========== LIABILITIES AND STOCKHOLDERS' EQUITY Current Liabilities Accounts payable..................................................... $ -- $ 71,020 Accrued liabilities and income tax payable........................... -- 140,343 Current maturities of long-term debt and capital lease obligations... -- 2,799 ------------ ----------- Total Current Liabilities............................ -- 214,162 Long-Term Debt and Capital Lease Obligations................................ -- 538,770 Reserve for Unpaid Claims................................................... (14,784) 100,125 Deferred Credits and Other Long-Term Liabilities (1)........................ (515,785) 34,455 Minority Interest........................................................... 7,486 7,486 Commitments and Contingencies Stockholders' Equity........................................................ Common Stock, par value $0.25 per share; Authorized - 80,000 shares Issued and outstanding - 28,405 shares.............................. (3,602) 7,101 Other Stockholders' Equity Additional paid-in capital........................................... (642,586) 253,295 Retained earnings (Accumulated deficit).............................. 25,188 (161,840) Warrants outstanding................................................. -- 64 Common stock in Treasury 462 shares........................................................ 4,736 (9,238) Cumulative foreign currency adjustments............................. (909) (822) ------------ ----------- (617,173) 88,560 ------------ ----------- $ (1,140,256) $ 983,558 ============ ===========
12
MAGELLAN HEALTH SERVICES, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATING STATEMENTS OF OPERATIONS (In thousands) For the Quarter ended March 31, 1996 -------------------------------------------------- Magellan Health Services, Inc. Guarantor Nonguarantor (Parent Subsidiaries Subsidiaries Corporation) -------------- ------------- --------------- Net revenue................................................................. $ 264,824 $ 95,161 $ (220) Costs and expenses Salaries, supplies and other operating expenses..................... 198,177 84,731 (3,078) Bad debt expense..................................................... 21,074 1,319 226 Depreciation and amortization........................................ 9,283 3,647 190 Interest, net........................................................ (10,286) (348) 19,206 Stock option expense (credit)........................................ -- -- (409) ------------ ----------- ------------ 218,248 89,349 16,135 ------------ ----------- ------------ Income (loss) before income taxes and equity in earnings (loss) of subsidiaries................................. 46,576 5,812 (16,355) Provision for (benefit from) income taxes................................... 688 1,414 (61) ------------ ----------- ------------ Income (loss) before equity in earnings (loss of subsidiaries).............. 45,888 4,398 (16,294) Equity in earnings (loss) of subsidiaries................................... (79) 844 (36,363) ------------ ----------- ------------ Net income (loss)........................................................... $ 45,967 $ 3,554 $ 20,069 ============ =========== ============ For the Quarter ended March 31, 1995 -------------------------------------------------- Magellan Health Services, Inc. Guarantor Nonguarantor (Parent Subsidiaries Subsidiaries Corporation) ------------ ------------- -------------- Net revenue................................................................. $ 297,171 $ 10,802 $ (2,701) Costs and expenses Salaries, supplies and other operating expenses..................... 207,194 10,162 9,029 Bad debt expense..................................................... 23,586 168 (11) Depreciation and amortization........................................ 9,652 395 237 Amortization of reorganization value in excess of amounts allocable to identifiable assets................................... -- -- 7,800 Interest, net........................................................ (8,470) 30 21,968 ESOP expense......................................................... 13,431 -- 842 Stock option expense (credit)........................................ -- -- (956) Unusual item......................................................... -- -- 29,800 ------------ ----------- ------------ 245,393 10,755 68,709 ------------ ----------- ------------ Income (loss) before income taxes and equity in earnings (loss) of subsidiaries................................. 51,778 47 (71,410) Provision for (benefit from) income taxes................................... 647 -- -- ------------ ----------- ----------- Income (loss) before equity in earnings (loss of subsidiaries).............. 51,131 47 (71,410) Equity in earnings (loss) of subsidiaries................................... (530) -- (56,310) ------------ ----------- ----------- Net income (loss)........................................................... $ 51,661 $ 47 $ (15,100) ============ =========== =========== For the Quarter ended March 31, 1996 -------------------------------------- Consolidated Elimination Consolidated Entries Total -------------- -------------- Net revenue................................................................. $ (4,812) $ 354,953 Costs and expenses Salaries, supplies and other operating expenses..................... (4,812) 275,018 Bad debt expense..................................................... -- 22,619 Depreciation and amortization........................................ -- 13,120 Interest, net........................................................ -- 8,572 Stock option expense (credit)........................................ -- (409) ------------ ----------- (4,812) 318,920 ------------ ----------- Income (loss) before income taxes and equity in earnings (loss) of subsidiaries................................. -- 36,033 Provision for (benefit from) income taxes................................... 12,372 14,413 ------------ ----------- Income (loss) before equity in earnings (loss of subsidiaries).............. (12,372) 21,620 Equity in earnings (loss) of subsidiaries................................... 37,149 1,551 ------------ ----------- Net income (loss)........................................................... $ (49,521) $ 20,069 ============ =========== For the Quarter ended March 31, 1995 -------------------------------------------- Consolidated Elimination Consolidated Entries Total ------------- -------------- Net revenue................................................................. $ (5,455)....$......299,817 Costs and expenses Salaries, supplies and other operating expenses..................... (5,090) 221,295 Bad debt expense..................................................... -- 23,743 Depreciation and amortization........................................ (223) 10,061 Amortization of reorganization value in excess of amounts allocable to identifiable assets................................... -- 7,800 Interest, net........................................................ 9 13,537 ESOP expense......................................................... -- 14,273 Stock option expense (credit)........................................ -- (956) Unusual item......................................................... -- 29,800 ------------ -------------- (5,304) 319,553 ------------ -------------- Income (loss) before income taxes and equity in earnings (loss) of subsidiaries................................. (151) (19,736) Provision for (benefit from) income taxes................................... (5,421) (4,774) ------------ -------------- Income (loss) before equity in earnings (loss of subsidiaries).............. 5,270 (14,962) Equity in earnings (loss) of subsidiaries................................... 56,978 138 ------------ -------------- Net income (loss)........................................................... $ (51,708) $ (15,100) ============ ============== The accompanying Notes to Condensed Consolidating Financial Statements are an integral part of these statements.
13
MAGELLAN HEALTH SERVICES, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATING STATEMENTS OF OPERATIONS (In thousands) For the Six Months ended March 31, 1995 -------------------------------------------------- Magellan Health Services, Inc. Guarantor Nonguarantor (Parent Subsidiaries Subsidiaries Corporation) ------------- -------------- --------------- Net revenue................................................................. $ 553,157 $ 24,866 $ (3,680) Costs and expenses Salaries, supplies and other operating expenses..................... 396,601 24,156 10,526 Bad debt expense..................................................... 46,796 177 (2,011) Depreciation and amortization........................................ 18,123 722 (204) Amortization or reorgnization value in excess of amounts allocable to identifiable assets................................... -- -- 15,600 Interest, net........................................................ (15,800) 38 43,163 ESOP expense......................................................... 26,969 -- (191) Unusual item......................................................... -- -- 26,840 Stock option expense (credit)........................................ -- -- (3,317) ------------ ----------- ------------- 472,689 25,093 90,406 ------------ ----------- ------------- Income (loss) before income taxes and equity in earnings (loss) of subsidiaries................................. 80,468 (227) (94,086) Provision for income taxes................................................. 692 -- -- ------------ ----------- ------------- Income (loss) before equity in earnings (loss) of subsidiaries.............. 79,776 (227) (94,086) Equity in earnings (loss) of subsidiaries................................... (1,049) -- (79,335) ------------ ----------- ------------- Net income (loss)........................................................... $ 80,825 $ (227) $ (14,751) ============ =========== ============= CONDENSED CONSOLIDATING STATEMENTS OF CASH FLOWS Cash provided by (used in) operating activities............................. $ 21,773 $ 11,475 $ (18,077) ------------ ----------- ------------- Cash Flows from Investing Activities: Capital expenditures................................................. (8,089) (396) (917) Proceeds from sale of assets......................................... -- -- 5,879. Acquisitions of businesses, net of cash acquired..................... (61,280) (3,690) --. Increase in assets restricted for the settlement of unpaid claims.... -- (9,798) (3,862) ------------ ----------- ------------- Cash provided by (used in) investing activities............................. (69,369) (13,884) 1,100. ------------ ----------- ------------- Cash Flows from Financing Activities: Proceeds from the issuance of debt................................... 28,009 -- --. Payments on debt and capital obligations............................. (7,315) (4,545) (9,251) Treasury stock transactions.......................................... -- -- (729) Proceeds from exercise of stock option and warrants.................. -- -- 391 ------------ ----------- ------------- Cash provided by (used in) financing activities............................. 20,964 (4,545) (9,589) ------------ ----------- ------------- Net increase (decrease) in cash and cash equivalents........................ (26,902) (6,954) (26,566) Cash and cash equivalents at beginning of period............................ 71,850 8,606 49,147. ------------ ----------- ------------- Cash and cash equivalents at end of period................................. $ 44,948 $ 1,652 $ 22,581. ============ =========== ============= For the Six Months ended March 31, 1995 ---------------------------------------- Consolidated Elimination Consolidated Entries Total --------------- -------------- Net revenue................................................................. $ (10,685) $ 563,658 Costs and expenses Salaries, supplies and other operating expenses..................... (10,461) 420,822 Bad debt expense..................................................... -- 44,962 Depreciation and amortization........................................ (223) 18,418 Amortization or reorgnization value in excess of amounts allocable to identifiable assets................................... -- 15,600 Interest, net........................................................ -- 27,401 ESOP expense......................................................... (5) 26,773 Unusual item......................................................... -- 26,840 Stock option expense (credit)........................................ -- (3,317) ------------- ----------- (10,689) 577,499 ------------- ----------- Income (loss) before income taxes and equity in earnings (loss) of subsidiaries................................. 4 (13,841) Provision for income taxes................................................. 12 704 ------------- ----------- Income (loss) before equity in earnings (loss) of subsidiaries.............. (8) (14,545) Equity in earnings (loss) of subsidiaries................................... 80,590 206 -------------- ----------- Net income (loss)........................................................... $ (80,598) $ (14,751) ============= =========== CONDENSED CONSOLIDATING STATEMENTS OF CASH FLOWS Cash provided by (used in) operating activities............................. $ -- $ 15,171 ------------ ----------- Cash Flows from Investing Activities: Capital expenditures................................................. -- (9,402) Proceeds from sale of assets......................................... -- 5,879 Acquisitions of businesses, net of cash acquired..................... -- (64,970) Increase in assets restricted for the settlement of unpaid claims.... -- (13,660) ------------ ----------- Cash provided by (used in) investing activities............................. -- (82,153) ------------ ----------- Cash Flows from Financing Activities: Proceeds from the issuance of debt................................... -- 28,009 Payments on debt and capital obligations............................. -- (21,111) Treasury stock transactions.......................................... -- (729) Proceeds from exercise of stock option and warrants.................. -- 391 ------------ ----------- Cash provided by (used in) financing activities............................. -- 6,560 ------------ ----------- Net increase (decrease) in cash and cash equivalents........................ -- (60,422) Cash and cash equivalents at beginning of period............................ -- 129,603 ------------ ----------- Cash and cash equivalents at end of period................................. $ -- $ 69,181 ============ =========== The accompanying Notes to Condensed Consolidating Financial Statements are an integral part of these statements.
14
MAGELLAN HEALTH SERVICES, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATING STATEMENTS OF OPERATIONS (In thousands) For the Six Months ended March 31, 1996 -------------------------------------------------- Magellan Health Services, Inc. Guarantor Nonguarantor (Parent Subsidiaries Subsidiaries Corporation) ------------- -------------- -------------- Net revenue................................................................. $ 512,578 $ 139,689 $ 7,627 Costs and expenses Salaries, supplies and other operating expenses..................... 392,023 122,091 1,506 Bad debt expense..................................................... 41,038 1,988 (619) Depreciation and amortization........................................ 18,028 4,903 369 Interest, net........................................................ (20,386) (268) 43,048 Stock option expense (credit)........................................ -- -- 1,414 ------------ ----------- ------------- 430,703 128,714 45,718 ------------ ----------- ------------- Income (loss) before income taxes and equity in earnings (loss) of subsidiaries................................. 81,875 10,975 (38,091) Provision for income taxes................................................. 1,341 2,046 208 ------------ ----------- ------------- Income (loss) before equity in earnings (loss) of subsidiaries.............. 80,534 8,929 (38,299) Equity in earnings (loss) of subsidiaries................................... (368) 1,145 (54,438) ------------ ----------- ------------- Net income (loss)........................................................... $ 80,902 $ 7,784 $ 16,139 ============ =========== ============= CONDENSED CONSOLIDATING STATEMENTS OF CASH FLOWS Cash provided by (used in) operating activities............................. $ 14,420 $ 17,954 $ (4,977) ------------ ----------- ------------- Cash Flows from Investing Activities: Capital expenditures................................................. (12,043) (356) (388) Proceeds from sale of assets......................................... 653 -- -- Acquisitions of businesses, net of cash acquired..................... (256) 38,226 (85,890) Increase in assets restricted for the settlement of unpaid claims.... (7,615) 1,545 ------------ ----------- ------------- Cash provided by (used in) investing activities............................. (11,646) 30,255 (84,733) ------------ ----------- ------------- Cash Flows from Financing Activities: Proceeds from the issuance of debt................................... -- 125 68,000 Payments on debt and capital obligations............................. (11,566) (471) (68,000) Proceeds from issuance of Common Stock, net of issuance costs........ -- -- 68,669 Income tax payments made on behalf of stock optionees................ -- -- (1,678) Proceeds from exercise of stock option and warrants.................. -- -- 1,808 ------------ ----------- ------------- Cash provided by (used in) financing activities............................. (11,566) (346) 68,799 ------------ ----------- ------------- Net increase (decrease) in cash and cash equivalents........................ (8,792) 47,863 (20,911) Cash and cash equivalents at beginning of period............................ 60,719 10,279 34,516 ------------ ----------- ------------- Cash and cash equivalents at end of period.................................. $ 51,927 $ 58,142 $ 13,605 ============ =========== ============= For the Six Months ended March 31, 1996 -------------------------------------------------- Consolidated Elimination Consolidated Entries Total -------------- -------------- Net revenue................................................................. (9,276) 650,618 Costs and expenses Salaries, supplies and other operating expenses..................... (9,276) 506,344 Bad debt expense..................................................... -- 42,407 Depreciation and amortization........................................ -- 23,300 Interest, net........................................................ -- 22,394 Stock option expense (credit)........................................ -- 1,414 ------------ ------------ (9,276) 595,859 ------------ ------------ Income (loss) before income taxes and equity in earnings (loss) of subsidiaries................................. -- 54,759 Provision for income taxes................................................. 18,777 22,372 ------------ ------------ Income (loss) before equity in earnings (loss) of subsidiaries.............. (18,777) 32,387 Equity in earnings (loss) of subsidiaries................................... 56,231 2,570 ------------ ------------ Net income (loss)........................................................... (75,008) 29,817 ============ ============ CONDENSED CONSOLIDAT Cash provided by (used in) operating activities............................. -- 27,397 ------------ -------------- Cash Flows from Investing Activities: Capital expenditures................................................. -- (12,787) Proceeds from sale of assets......................................... -- 653 Acquisitions of businesses, net of cash acquired..................... -- (47,920) Increase in assets restricted for the settlement of unpaid claims.... -- (6,070) ------------ -------------- Cash provided by (used in) investing activities............................. -- (66,124) ------------ -------------- Cash Flows from Financing Activities: Proceeds from the issuance of debt................................... -- 68,125 Payments on debt and capital obligations............................. -- (80,037) Proceeds from issuance of Common Stock, net of issuance costs........ -- 68,669 Income tax payments made on behalf of stock optionees................ -- (1,678) Proceeds from exercise of stock option and warrants.................. -- 1,808 ------------ -------------- Cash provided by (used in) financing activities............................. -- 56,887 ------------ -------------- Net increase (decrease) in cash and cash equivalents........................ -- 18,160 Cash and cash equivalents at beginning of period............................ -- 105,514 ------------ -------------- Cash and cash equivalents at end of period.................................. -- 123,674 ============ ============== The accompanying Notes to Condensed Consolidating Financial Statements are an integral part of these statements.
15 MAGELLAN HEALTH SERVICES, INC. AND SUBSIDIARIES March 31, 1996 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS This document contains certain forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 including, without limitation, statements regarding the sufficiency of the Company's liquidity and sources of capital and the statements under the heading "Outlook". These forward-looking statements are subject to certain risks, uncertainties and other factors which could cause actual results to differ materially from those anticipated, including, without limitation, potential reductions in reimbursement by third-party payers and changes in hospital payer mix, governmental budgetary constraints and healthcare reform, the impact of potential hospital closures, competition in the provider business and the managed care business, and the regulatory environment for the Company's businesses, as well as the other factors discussed in Exhibit 99 hereto, which is hereby incorporated by reference. Acquisition On December 13, 1995, the Company acquired a 51% ownership interest in Green Spring for approximately $68.9 million in cash, the issuance of 215,458 shares of Common Stock valued at approximately $4.3 million and the contribution of GPA, a wholly-owned subsidiary of the Company, which became a wholly-owned subsidiary of Green Spring. On December 20, 1995, the Company acquired an additional 10% ownership interest in Green Spring for approximately $16.7 million in cash as a result of an exercise by a minority stockholder of its Exchange Option for a portion of the stockholder's interest in Green Spring. The Company has a 61% ownership interest in Green Spring as of March 31, 1996. Green Spring provides managed behavioral healthcare services, which includes utilization management, care management and employee assistance programs through a 50-state provider network for approximately 12.6 million people nationwide. The Company has accounted for the acquisition of Green Spring using the purchase method of accounting, which resulted in additional intangible assets of approximately $112 million. The minority stockholders of Green Spring consist of four Blue Cross/Blue Shield organizations (the "Blues") that are key customers of Green Spring. In addition, two other Blues organizations that formerly owned a portion of Green Spring will continue as customers of Green Spring. As of March 31, 1996, the minority stockholders of Green Spring have the option, under certain circumstances, to exchange their ownership interests in Green Spring for 2,831,739 shares of the Company's Common Stock or $65.1 million in subordinated notes. The Company may elect to pay cash in lieu of issuing the subordinated notes. The Exchange Option expires December 13, 1998. Psychiatric Hospital Results Selected statistics (from the date of acquisition for acquired facilities) for the psychiatric hospitals in operation by quarter for fiscal 1995 and fiscal 1996 are as follows: 16
Fiscal Fiscal % 1995 1996 Change ---------- ---------- ----------- Hospitals in operation: December 31..................... 113 102 (10) March 31........................ 110 99 (10) June 30......................... 108 September 30.................... 102 Average licensed beds at: Quarter: First..................... 9,198 9,110 (1)% Second.................... 9,567 9,040 (6) Third..................... 9,585 Fourth.................... 9,130 Year........................... 9,368 Net revenue (in thousands): Quarter: First..................... 249,105 $ 253,565 2 % Second.................... 269,85 257,690 (5) Third..................... 272,510 Fourth.................... 250,891 --------- Year........................... 1,042,360 . ========= Patient days: Quarter: First..................... 415,122 432,474 4 % Second.................... 456,885 463,327 1 Third..................... 456,698 Fourth.................... 429,374 --------- Year........................... 1,758,079 ========= Equivalent patient days: Quarter: First..................... 462,663 478,693 3 % Second.................... 509,222 513,502 1 Third..................... 509,354 Fourth.................... 476,270 --------- Year........................... 1,957,509 ========= Net revenue per equivalent patient day: Quarter: First...................... 538 530 (1)% Second..................... 530 502 (5) Third...................... 535 Fourth..................... 527 Year............................ 532 Admissions: Quarter: First...................... 30,626 32,865 7 % Second..................... 34,772 37,966 9 Third...................... 33,790 Fourth..................... 32,977 --------- Year............................ 132,165 ========= Average length of stay (days): Quarter: First...................... 13.3 12.4 (7)% Second..................... 12.7 12.2 (4) Third...................... 12.8 Fourth..................... 12.9 Year............................ 12.9
17 Results of Operations The following table summarizes, for the periods indicated, changes in selected operating indicators.
Percentage of Net Revenue ------------------------------------------------------------------------- Three Months ended March 31 Six Months ended March 31 ----------------------------------- ---------------------------------- 1995 1996 1995 1996 --------------- ---------------- -------------- -------------- Net revenue........................................ 100.0% 100.0% 100.0% 100.0% Salaries, supplies and other operating expenses.... 73.8 77.5 74.6 77.8 Bad debt expense................................... 7.9 6.4 8.0 6.5 -------------- ------------ ------------ ------------ Total expenses..................................... 81.7 83.9 82.6 84.3 Operating margin................................... 18.3 16.1 17.4 15.7 ============== ============ ============ ============
Patient days at the Company's hospitals increased 1% and 3% for the quarter and the six months ended March 31, 1996, respectively, compared to the same periods of fiscal 1995. These increases resulted primarily from (i) patient days attributable to the hospitals acquired during fiscal 1995 and (ii) admissions growth at same store hospitals offset by reductions in patient days resulting from the hospitals closed in fiscal 1995. Total admissions increased 9% and 8% for the quarter and the six months ended March 31, 1996, compared to the prior year periods. These increases resulted from continued admissions growth at the Company's hospitals and admissions attributable to hospitals acquired during fiscal 1995 offset by reductions resulting from hospitals closed in fiscal 1995 and 1996. The Company's net revenue for the quarter and the six months ended March 31, 1996 increased 18.4% and 15.4%, respectively, compared to the same periods in fiscal 1995. These increases resulted primarily from acquisitions less (i) the effect of hospitals closed during fiscal 1995 and 1996 and (ii) the decrease in revenue per equivalent patient day in fiscal 1996. National Mentor, Inc. ("Mentor"), which was acquired in January 1995, had revenue of $16.2 million and $33.1 million for the quarter and the six months ended March 31, 1996 compared to $13.9 million for the same periods in fiscal 1995. Green Spring (excluding GPA), which was acquired on December 13, 1995, had revenues of approximately $61.2 million and $71.9 million for the quarter and the six months ended March 31, 1996, respectively. Net revenue for the quarters ended March 31, 1995 and 1996 included $6.7 million and $3.3 million, respectively, for the normal settlement and adjustments reimbursement issues related to earlier fiscal periods ("reimbursement issues"). Net revenue for the six months ended March 31, 1995 and 1996 included $15.0 million and $11.1 million, respectively, related to reimbursement issues. Net revenue per equivalent patient day at the Company's psychiatric hospitals decreased in the quarter and the six months ending March 31, 1996 by 5% and 4%, respectively, compared to the same periods in the prior year. The decreases were primarily due to a continued shift in payer mix from private payer sources to managed care payers and governmental payers and lower settlements of reimbursement issues. Services to Medicare and Medicaid patients have increased due to increased recognition and treatment of behavioral illnesses of the elderly and disabled and, in some states, improved coverage of behavioral services in psychiatric hospitals for Medicaid beneficiaries. The Company's salaries, supplies and other operating expenses increased 24.3% and 20.3% in the quarter and the six months ended March 31, 1996, respectively, compared to the same periods in fiscal 1995. These increases resulted primarily from acquisitions less (i) the effect of hospitals closed in fiscal 1995 and 1996 and (ii) an adjustment, as a result of updated actuarial estimates to malpractice claim reserves, which resulted in a reduction of expenses of approximately $7.5 million during the quarter and the six months ended March 31, 1996. Expenses incurred by Mentor increased to $14.0 million and $28.4 million for the quarter and the six months ended March 31, 1996 compared to $12.3 million for the same periods in fiscal 1995. Green Spring expenses (excluding GPA) were approximately $55.6 million and $64.7 million, respectively, in the quarter and the six months ended March 31, 1996. 18 The Company's bad debt expense decreased 4.7% and 5.7% in the quarter and the six months ended March 31, 1996 compared to the same periods in fiscal 1995. These decreases were primarily due to the shift in the provider business to managed care payers, which reduces the Company's credit risk associated with individual patients and improved collections of hospital receivables. The decrease in bad debt expense as a result of the shift to managed care payers were partially offset by the increase in bad debt expense related to hospital-based acquisitions. Mentor and Green Spring bad debt expense was less than 1% of net revenue for their respective businesses in each period. The Company could experience future increases in bad debt expense in its provider business due to increased deductibles and co-insurance and reduced annual and lifetime psychiatric maximum payment limits for individual patients. Depreciation and amortization increased 30.4% and 26.5% in the quarter and the six months ended March 31, 1996 compared to the same periods in fiscal 1995. These increases resulted primarily from depreciation and amortization related to acquired businesses. Mentor had depreciation and amortization of approximately $643,000 and $1.2 million in the quarter and the six months ended March 31, 1996, respectively, compared to $626,000 for the same periods in fiscal 1995. Green Spring (excluding GPA) had depreciation and amortization of $2.6 million and $3.1 million for the quarter and the six months ended March 31, 1996, respectively. Reorganization value in excess of amounts allocable to identifiable assets was fully amortized effective July 31, 1995. Accordingly, no such amortization expense was recorded in the quarter and the six months ended March 31, 1996. Interest expense, net, decreased 36.7% and 18.3% for the quarter and the six months ended March 31, 1996 compared to the same periods in fiscal 1995. These decreases resulted primarily from approximately $5.0 million of interest income recorded during the quarter and the six months ended March 31, 1996 related to income tax refunds due from the State of California for the Company's income tax returns for fiscal 1982 through 1989. ESOP expense for the quarter and the six months ended March 31, 1996 was $0 compared to $14.3 million and $26.8 million in the prior year periods. The decrease resulted from the Company's commitment to allocate all existing shares held by the ESOP to the participants as of September 30, 1995. Stock option expense for the quarter and the six months ended March 31, 1996 increased $547,000 and $4.7 million, respectively, from the previous year periods primarily due to fluctuations in the market price of the Company's common stock and a reduced number of options outstanding under variable stock option plans. During the first quarter of fiscal 1995, the Company recorded an unusual item of approximately $3.0 million which represented the pre-tax gain on the sale of three psychiatric hospitals. During the second quarter of fiscal 1995, the Company recorded an unusual item of $29.8 million related to the settlement of insurance claims. The Company's effective tax rate was 40.0% and 40.9% in the quarter and the six months ended March 31, 1996. The change in the effective tax rate from the prior year periods is primarily attributable to (i) the elimination of non-deductible amortization of reorganization value in excess of amounts allocable to identifiable assets in fiscal 1996 and (ii) the reduction in the Company's effective tax rate as a result of the favorable resolution of the Company's California income tax returns for fiscal 1982 through 1989 offset by the increase in non-deductible intangible amortization in the fiscal 1996 periods as a result of the Mentor and Green Spring acquisitions. Minority interest increased $1.4 million and $2.4 million in the quarter and the six months ended March 31, 1996, respectively, compared to the prior year periods. The increase is primarily due to the Company acquiring a controlling interest in Green Spring in December 1995 and obtaining a controlling interest in other businesses during fiscal 1995 and 1996. Recent Accounting Pronouncements In October 1995, the FASB issued Statement of Financial Accounting Standards No. 123 ("FAS 123") "Accounting for Stock-Based Compensation," which becomes effective for fiscal years beginning after December 15, 1995. FAS 123 establishes new financial accounting and reporting standards for stock-based compensation plans. Entities will be 19 allowed to measure compensation expense for stock-based compensation under FAS 123 or APB Opinion No. 25, "Accounting for Stock Issued to Employees" ("APB 25"). Entities electing to remain with the accounting in APB 25 will be required to make pro forma disclosures of net income and earnings per share as if the provisions of FAS 123 had been applied. The Company is in the process of evaluating FAS 123. The potential impact on the Company adopting FAS 123 has not been quantified at this time. The Company must adopt FAS 123 no later than October 1, 1996. Liquidity and Sources of Capital Operating Activities. The Company's net cash provided by operating activities was approximately $15.2 million and $27.4 million for the six months ended March 31, 1995 and 1996, respectively. Management believes that the Company will have adequate cash flows from operations in fiscal 1996 to fund operations, capital expenditures and debt service obligations. Investing Activities. The Company acquired a 61% ownership interest in Green Spring during the six months ended March 31, 1996. The consideration paid for Green Spring and related acquisition costs have resulted in the use of cash of approximately $87.0 million compared to approximately $65.0 million in acquisition expenditures during the six months ended March 31, 1995. Management believes that its cash on hand, future cash flows from operations, borrowing capacity under the Revolving Credit Agreement and its ability to issue debt and equity securities under current market conditions will provide adequate capital resources to support the Company's anticipated investing strategies. Financing Activities. The Company borrowed approximately $28.0 million and $68.1 million, respectively, during the six months ended March 31, 1995 and 1996, primarily to fund the acquisition of 13 hospitals in fiscal 1995 and to fund the acquisition of Green Spring in fiscal 1996. The Company believes that its businesses will generate sufficient cash flows from operations to meet its future debt service requirements. On January 25, 1996, the Company issued 4,000,000 shares of Common Stock (the "Shares") along with a warrant to purchase an additional 2,000,000 shares of Common Stock (the "Warrant") pursuant to a Stock and Warrant Purchase Agreement. The Warrant, which expires in January, 2000 entitles the holder to purchase such additional shares of Common Stock at a per share price of $26.15, subject to adjustment for certain dilutive events, and provides registration rights for the shares of Common Stock underlying the Warrant. The aggregate purchase price for the Shares and the Warrant was $69,732,000. The Warrant becomes exercisable on January 25, 1997 and expires on January 25, 2000. The Company received proceeds of approximately $68.7 million, net of issuance costs, from the issuance of the Shares and the Warrant. Approximately $68.0 million of the proceeds were used to repay outstanding borrowings under the Revolving Credit Agreement. As of March 31, 1996, the Company had approximately $100.4 million of availability under the Revolving Credit Agreement. The Company was in compliance with all debt covenants at March 31, 1996. Outlook Management continually assesses events and changes in circumstances that could effect its business strategy and the viability of its operating facilities. During fiscal 1995, the Company consolidated, closed or sold fifteen psychiatric hospitals. During the first six months of fiscal 1996, the Company consolidated or closed three hospitals. During April 1996, the Company closed three additional hospitals. The Company expects to record a charge of approximately $2.5 million in the quarter ended June 30, 1996, related to the costs necessary to exit the hospital operations. See Note G for further information regarding facility closures. Management expects to consolidate services in selected markets and to close or sell additional facilities in future periods depending on market conditions and evolving business strategies. If the Company closes additional psychiatric hospitals in future periods, it could result in additional charges to income for the costs necessary to exit the hospital operations. 20 During the fourth quarter of fiscal 1995, the Company recorded impairment losses on property and equipment and intangible assets of approximately $23.0 million and $4.0 million, respectively. The impairment losses were primarily related to assets to be held and used subsequent to September 30, 1995. Such impairment losses resulted from changes in the manner that certain of the Company's assets will be used in future periods and from historical operating losses at certain of the Company's operating facilities combined with projected future operating losses. The effected businesses that were operating as of March 31, 1996 had negative operating income (net revenue less salaries, supplies and other operating expenses and bad debt expense) in aggregate during the six months ended March 31, 1996, excluding the normal settlement of reimbursement issues. When events or changes in circumstances are present that indicate the carrying amount of long-lived assets may not be recoverable, the Company assesses the recoverability of long-lived assets by determining whether the carrying value of such assets will be recovered through future cash flows expected from the use of the asset and its eventual disposition. The Company may record impairment losses in future periods as circumstances warrant. The Company's hospitals continue to experience a shift in payer mix to managed care payers from other payers, which contributed to a reduction in revenue per equivalent patient day compared to prior periods. Management anticipates continued shifting in its hospitals' payer mix towards managed care payers as a result of changes in the healthcare marketplace and the synergies created by the Green Spring acquisition. Future shifts in the Company's hospital payer mix to managed care payers could result in lower revenue per equivalent patient day in future quarterly periods for the Company's hospitals operations. The Company expects the Green Spring acquisition to result in increased revenue and operating income during fiscal 1996. However, increases in amortization expense and minority interest resulting from the acquisition of Green Spring may exceed the expected increase in operating income in fiscal 1996. In addition, the Exchange Option is potentially dilutive to earnings per share, on a fully diluted basis, in future quarterly periods during fiscal 1996. The issuance of the Shares in January 1996 resulted in the Company reducing its long term debt and future interest obligations, increasing its stockholders' equity and increasing its borrowing capacity. However, the additional Common Stock outstanding as a result of the issuance of the Shares will have a dilutive effect on earnings per share during future quarterly periods. 21 PART II - OTHER INFORMATION Item 1. - Legal Proceedings Certain of the Company's subsidiaries are subject to or parties to claims, civil suits and governmental investigations and inquiries relating to their operations and certain alleged business practices. In the opinion of management, based on consultation with counsel, resolution of these matters will not have a material adverse effect on the Company's financial position or results of operations. In January 1996, the Company settled an ongoing dispute with the Resolution Trust Corporation ("RTC") for itself or in its capacity as conservator or receiver for 12 financial institutions, which formerly held certain debt securities that were issued by the Company in 1988. In connection with the settlement, the Company, denying any liability or fault, paid $2.7 million to the RTC in exchange for a release of all claims. Item 4. - Submission of Matters to Vote of Security Holders. The Company held an annual meeting of stockholders on February 22, 1996. The tabulation of votes with respect to each matter voted upon at the meeting is as follows:
Votes cast ----------------------------------------------------------------- Authority Broker For Withheld Abstain Non-Votes --- -------- ------- --------- Election of: Edwin M. Banks as a Director (term expiring in 1999) 22,196,978 21,699 N/A N/A Broker For Against Abstain Non-Votes --- ------- ------- --------- Approval of: 1996 Stock Option Plan 12,372,711 4,202,295 65,221 5,578,450 1997 Employee Stock Purchase Plan 14,733,997 1,853,046 53,183 5,578,451 1996 Directors' Stock Option Plan 15,317,211 1,287,708 73,783 5,539,975
Item 5. - Other Information Acquisition On December 13, 1995, the Company acquired a 51% ownership interest in Green Spring for approximately $68.9 million in cash, the issuance of 215,458 shares of Common Stock valued at approximately $4.3 million and the contribution of GPA, a wholly-owned subsidiary of the Company, which became a wholly-owned subsidiary of Green Spring. On December 20, 1995, the Company acquired an additional 10% ownership interest in Green Spring for approximately $16.7 million in cash as a result of an exercise by a minority stockholder of its Exchange Option for a 22 portion of the stockholder's interest in Green Spring. The Company has 61% ownership interest in Green Spring as of March 31, 1996. The Company has accounted for the acquisition of Green Spring using the purchase method of accounting. The minority stockholders of Green Spring consist of four Blue Cross/Blue Shield organizations (the "Blues") that are key customers of Green Spring. In addition, two other Blues organizations that formerly owned a portion of Green Spring will continue as customers of Green Spring. As of March 31, 1996, the minority stockholders of Green Spring have the option, under certain circumstances, to exchange their ownership interests in Green Spring for 2,831,739 shares of Magellan Common Stock or $65.1 million in subordinated notes. The Company may elect to pay cash in lieu of issuing the subordinated notes. The Exchange Option expires December 13, 1998. Description of Green Spring's Business Green Spring is the nation's third largest managed behavioral healthcare organization specializing in mental health and substance abuse/dependency services through a network of more than 30,000 providers nationwide, serving approximately 12.6 million members at March 31, 1996. Green Spring was founded in 1991 by a group of clinicians who utilized a clinical model that emphasizes the treatment needs of individuals. Green Spring attempts to match each patient with an appropriate provider, focusing on the quality of care and cost effectiveness from both the clinical and service aspects. Green Spring's services include: Enhanced Utilization Management, a utilization review process that employs clinical criteria designed to provide each patient with accessible, appropriate and affordable treatment across the entire continuum of care and services; Care Management, a fully integrated healthcare model that offers utilization review services and provides care to patients through the management of a national network of providers and Green Spring-owned staff model clinics; Employee Assistance Plans, employer-paid assessment, counseling and referral programs that help employees address personal and workplace problems; and Comprehensive Administrative Services, including member assistance, management reporting, claims processing, clinical management information and provider referral systems that are adaptable to customer circumstances and requirements. Green Spring has several contractual funding arrangements with its customers ranging from full risk capitated contracts to non-risk administrative services only (ASO) arrangements. The primary funding arrangements for risk business include full capitation and partial capitation. Under full capitation arrangements, Green Spring assumes full risk for care under the contract and is paid a monthly fee for each at-risk member regardless of the actual utilization of services by the member. Partial capitation arrangements are similar to full capitation arrangements except that the underwriting gain or loss is split between the customer and Green Spring based on a pre-determined formula. Non-risk funding arrangements include administrative service fees, and incentive based administrative service fees. ASO funding arrangements call for the payment of a fee to Green Spring for providing varying levels of administrative support and management. Incentive-based administrative service fees are similar to incentive-based ASO arrangements except the ASO fee is subject to adjustment based on the level of performance achieved by Green Spring compared to a mutually agreed target level of performance. At March 31, 1996, Green Spring's risk and non-risk membership was approximately 3.5 million and 9.1 million, respectively. During the quarter and the six months ended March 31, 1996, risk and non-risk business comprised approximately 70% and 30%, respectively, of Green Spring revenues. 23 Green Spring's customers include Fortune 1000 companies, Blue Cross/Blue Shield organizations, major HMO's/PPO's, several State employee programs, labor unions and several State Medicaid programs. During the quarter and the six months ended March 31, 1996, approximately 70% of Green Spring's revenues were generated from the Blues organizations. Government Regulation Green Spring operations, in some states, are subject to utilization review licensure and related state regulation procedures. Green Spring provides managed behavioral healthcare services to various Blue Cross/Blue Shield plans that operate Medicare and Medicaid health maintenance organizations or other at-risk managed care programs and that participate in the Blue Cross Federal Employees health program. As a contractor to these Blue Cross/Blue Shield plans, Green Spring is indirectly subject to federal and, with respect to the Medicaid program, state monitoring and regulation of performance and financial reporting requirements. However, Green Spring must comply with all reporting and monitoring requirements of the Health Care Financing Administration ("HCFA") communicated to it from the prime contractor, Blue Cross/Blue Shield plans, for the behavioral healthcare portion for the Medicare risk business. The Office of Inspector General of the United States monitors and reviews financial reporting and performance of the Blue Cross Federal Employees Program for which Green Spring provides the behavioral healthcare benefit through several Blue Cross plans. Medicaid business is also subject to the financial reporting and performance monitoring requirements of the applicable state governments as well as HCFA as noted above. The management of Green Spring believe that it is in compliance, in all material respects, with all current state and federal regulatory requirements applicable to the business it conducts. Competition The managed healthcare industry is being affected by various external factors including rising healthcare costs, intense price competition, market consolidation by major managed care companies and proposed healthcare reform legislation. Green Spring faces competition from a number of sources, including other behavioral health managed care companies and traditional full service managed care companies that contract to provide behavioral healthcare benefits. Also, to a lesser extent, competition exists from fully capitated multi-specialty medical groups and individual practice associations that directly contract with managed care companies and other customers to provide and manage all components of healthcare for the members including the behavioral healthcare component. Green Spring believes that the most significant factors in a customer's selection of a managed behavioral healthcare company include price, the extent and depth of provider networks and flexibility and quality of services. The management of Green Spring believes that Green Spring competes effectively with respect to these factors. Item 6. - Exhibits and Reports on Form 8-K (a) Exhibits 4(a) Amendment No. 1 to Stock and Warrant Purchase Agreement, dated January 25, 1996, between the Company and Rainwater-Magellan Holdings, L.P., which was filed as Exhibit 4.7 to the Company's Registration Statement on Form S-3 dated February 26, 1996, and is incorporated herein by reference. *10(a) 1996 Stock Option Plan of the Company. *10(b) 1996 Directors' Stock Option Plan of the Company. 11 Statement re computation of per share earnings. 27 Financial Data Schedule 24 99 Safe Harbor for Forward-Looking Statements under Private Securities Litigation Reform Act of 1995; Certain Cautionary Statements. *Constitutes a management contract or compensatory plan arrangement. (b) Report on Form 8-K There were no current reports on Form 8-K filed by the Registrant with the Securities and Exchange Commission during the quarter ended March 31, 1996. 25 FORM 10-Q MAGELLAN HEALTH SERVICES, INC. AND SUBSIDIARIES 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. MAGELLAN HEALTH SERVICES, INC. ------------------------------ (Registrant) Date: May 14, 1996 /s/ Craig L. McKnight ------------------------ --------------------------- Craig L. McKnight Executive Vice President and Chief Financial Officer Date: May 14, 1996 /s/ Howard A. McLure ----------------------- -------------------- Howard A. McLure Vice President and Controller (Principal Accounting Officer) 26 EX-10.A 2 - 1 - MAGELLAN HEALTH SERVICES, INC. 1996 STOCK OPTION PLAN 1. Purpose. The purpose of the Magellan Health Services, Inc. 1996 Stock Option Plan is to motivate and retain officers and other key employees of Magellan Health Services, Inc. and its Subsidiaries who have major responsibility for the attainment of the primary long-term performance goals of Magellan Health Services, Inc. 2. Definitions. The following terms shall have the following meanings: "Board" means the Board of Directors of the Corporation. "Change in Control" means the effective date of the occurrence, at any time after November 30, 1995, of one or more of the following events: (i) the sale, lease, transfer or other disposition, in one or more related transactions, of all or substantially all of the Corporation's assets to any person or related group of persons, including a "group" as such term is used in Section 13(d)(3) of the Exchange Act, (ii) the merger or consolidation of the Corporation with or into another corporation, the merger of another corporation into the Corporation or any other transaction, to the extent that the stockholders of the Corporation immediately prior to any such transaction hold less than 50 percent of the total voting power or of the voting stock of the surviving corporation resulting from any such transaction, (iii) any person or related group of persons, including a "group" as such term is used in Section 13(d)(3) of the Exchange Act, whether such person or group of persons is a stockholder of the Corporation as of November 30, 1995, holds 30 percent or more of the voting power or of the voting stock of the Corporation, or (iv) the liquidation or dissolution of the Corporation. "Code" means the Internal Revenue Code of 1986, as amended, and the rules promulgated thereunder. "Committee" means a committee of two or more members of the Board constituted and empowered by the Board to administer the Plan in accordance with its terms. "Corporation" means Magellan Health Services, Inc., a Delaware corporation. "Director" means a member of the Board. "Disability" means a physical or mental condition under which the Participant qualifies for (or will qualify for after expiration of a waiting period) disability benefits under the long-term disability plan of the Corporation or a Subsidiary that employs such Participant. "Exchange Act" means the Securities Exchange Act of 1934, as amended. DC01/100718-2 // - 2 - "Fair Market Value" means: (1) if the Stock is listed on a national securities exchange (as such term is defined by the Exchange Act) or is traded on the Nasdaq National Market System on the date of award or other determination, the price equal to the mean between the high and low sales prices of a share of Stock on said national securities exchange or on said Nasdaq National Market System on that date (or if no shares of the Stock are traded on that date but there were shares traded on dates within a reasonable period both before and after such date, the Fair Market Value shall be the weighted average of the means between the high and low sales prices of the Stock on the nearest date before and the nearest date after that date on which shares of the Stock are traded); (2) if the Stock is traded both on a national securities exchange and in the over-the-counter market, the Fair Market Value shall be determined by the prices on the national securities exchange; and (3) if the Stock is not listed for trading on a national securities exchange and is not traded on the Nasdaq National Market System or otherwise in the over-the-counter market, then the Committee shall determine the Fair Market Value of the Stock from time to time in its sole discretion. "Option" means an Option granted pursuant to Section 6. "Participant" means an employee of the Corporation or any of its Subsidiaries who is selected to participate in the Plan in accordance with Section 4. "Plan" means the Magellan Health Services, Inc. 1996 Stock Option Plan. "Stock" means the common stock, par value $0.25 per share, of the Corporation. "Stock Option Agreement" means the written agreement or instrument which sets forth the terms of an Option granted to a Participant under this Plan. "Subsidiary" means any corporation, as defined in Section 7701 of the Internal Revenue Code of 1986, as amended, and the regulations promulgated thereunder, of which the Corporation, at the time, directly or indirectly, owns 50% or more of the outstanding securities having ordinary voting power to elect directors (other than securities having voting power only by reason of a contingency). 3. Administration. The Plan shall be administered by the Committee. Subject to the provisions of the Plan, the Committee, acting in its absolute discretion, shall exercise such powers and take such action as expressly called for under this Plan and, further, shall have the power to interpret the Plan, to determine the terms of each Stock Option Agreement (subject to the provisions of the Plan) and (subject to Section 18 and Rule 16b-3 under the Exchange Act, if applicable) to take such other action in the administration and operation of this Plan as the Committee deems equitable under the circumstances. All actions of the Committee shall be binding on the Corporation, on each affected Participant and on each other person directly or indirectly affected by such action. No member of the Board shall serve as a member of the DC01/100718-2 // - 3 - Committee unless such member is a "disinterested person" within the meaning of Rule 16b-3 under the Exchange Act. The Committee shall have the right to delegate to the chief executive officer of the Corporation the authority to select Participants and to grant Options (except to any person subject to Section 16 of the Exchange Act), subject to any review, approval or notification required by the Committee or as otherwise may be required by law. 4. Participation. Participants in the Plan shall be limited to those officers and employees of the Corporation or any of its Subsidiaries who have been selected to participate in the Plan by the Committee acting in its absolute discretion. 5. Maximum Number of Shares Subject to Options. Subject to the provisions of Section 9, there shall be 1,750,000 shares of Stock reserved for use under this Plan, and such shares of Stock shall be reserved to the extent that the Committee and the Board deems appropriate from authorized but unissued shares of Stock or from shares of Stock which have been reacquired by the Corporation. Any shares of Stock subject to any Option which remain unpurchased after the cancellation, expiration, exchange or forfeiture of such Option shall again become available for use under this Plan. All authorized and unissued shares issued upon exercise of Options under the Plan shall be fully paid and nonassessable shares. 6. Grant of Options. The Committee, acting in its absolute discretion, shall have the right to grant Options to Participants under this Plan from time to time; provided, that the maximum number of shares of Stock issuable upon exercise of Options shall not exceed 1,750,000, subject to adjustment as provided in Section 9. No Option shall be granted after December 31, 1999. The maximum number of Options that are granted to any Participant shall not exceed 500,000, subject to adjustment as provided in Section 9. 7. Terms and Conditions of Options. Options granted pursuant to the Plan shall be evidenced by Stock Option Agreements in such form as the Committee from time to time shall approve, including any such terms and conditions not inconsistent with the provisions set forth in the Plan as the Committee may determine; provided, that such Stock Option Agreements and the Options granted shall comply with and be subject to the following terms and conditions: (a) Employment. Each Participant shall agree to remain in the employ of and to render services to the Corporation or a Subsidiary thereof for such period as the Committee may require in the Stock Option Agreement; provided, that such agreement shall not impose upon the Corporation or any Subsidiary thereof any obligation to retain the Participant in its employ for any period. (b) Number of Shares. Each Stock Option Agreement shall state the total number of shares of Stock to which it pertains. DC01/100718-2 // - 4 - (c) Exercise Price. The exercise price per share for Options shall be Fair Market Value of the Stock on the date of grant, subject to adjustment as contemplated by Section 9. (d) Medium and Time of Payment. The exercise price shall be payable upon the exercise of the Option, or as provided in Section 7(e) if the Corporation adopts a broker-directed cashless exercise/resale procedure, in each case in an amount equal to the number of shares then being purchased times the per share exercise price. Payment shall be in cash, except that the Corporation, in its sole discretion, may permit payment by delivery to the Corporation of a certificate or certificates for shares of Stock duly endorsed for transfer to the Corporation with signature guaranteed by a member firm of the New York Stock Exchange or by a national banking association. In the event of any payment by delivery of shares of Stock, such shares shall be valued on the basis of their Fair Market Value determined as of the day prior to the date of delivery. If payment is made by delivery of shares of Stock, the value of such Stock may not exceed the total exercise price payment; provided, that the preceding clause shall not prevent delivery of a stock certificate for a number of shares having a greater value, if the number of shares to be applied to payment of the exercise price is designated by the Participant and the Participant requests that a certificate for the remainder shares be delivered to the Participant. In addition to the payment of the purchase price of the shares of Stock then being purchased, a Participant shall also, pursuant to Section 16, pay to the Corporation or otherwise provide for payment of an amount equal to the amount, if any, which the Corporation at the time of exercise is required to withhold under the income tax withholding provisions of the Code and other applicable income tax laws. (e) Method of Exercise. All Options shall be exercised (i) by written notice directed to the Secretary of the Corporation at its principal place of business, accompanied by payment of the option exercise price, in accordance with the foregoing subsection (d), for the number of shares specified in the notice of exercise and by any documents required by Section 14, or (ii) by complying with the exercise and other provisions of any broker-directed cashless exercise/resale procedure adopted by the Corporation and approved by the Committee, and by delivery of any documents required by Section 14. The Corporation shall make delivery of such shares within a reasonable period of time or in accordance with applicable provisions of any such broker-directed cashless exercise/resale procedure; provided, that if any law or regulation requires the Corporation to take any action (including but not limited to the filing of a registration statement under the Securities Act of 1933 and causing such registration statement to become effective) with respect to the shares specified in such notice before their issuance, then the date of delivery of such shares shall be extended for the period necessary to take such action. (f) Term of Options. Except as otherwise specifically provided in the Plan, the terms of all Options shall commence on the date of grant and shall expire not later than November 30, 2005. DC01/100718-2 // - 5 - (g) Exercise of Options. Options are exercisable only to the extent they are vested as provided in Section 8. After Options have vested in accordance with Section 8, such Options are exercisable at any time, in whole or in part during their terms if the Participant is at the time of exercise employed by the Company or a Subsidiary. If a Participant's employment with the Corporation or any Subsidiary is terminated for any reason other than death or disability, the vested portion of each Option held by such Participant on the date of such termination may be exercised for six (6) months following the date of termination of employment (but not after expiration of the term of the Option). In the event of the death or Disability of a Participant, the vested portion of each Option held by such Participant on the date of such event may be exercised within twelve months of the date of such event (but not after the expiration of the term of the Option). In the event of the death of a Participant, the vested portion of each Option previously held by such Participant may be exercised within the time set forth above by the executor, other legal representative or, if none, by the heir or legatee of such Participant. (h) Adjustments Upon Changes in Capitalization. Upon a change in capitalization pursuant to Section 9, the number of shares covered by an Option and the per share option exercise price shall be adjusted in accordance with the provisions of Section 9. (i) Transferability. No Option shall be assignable or transferable by the Participant except by will or by the laws of descent and distribution. The designation of a beneficiary shall not constitute a transfer; and, during the lifetime of a Participant, all Options held by such Participant shall be exercisable only by him or by his lawful representative in the event of his incapacity. (j) Rights as a Stockholder. A Participant shall have no rights as a stockholder with respect to shares covered by his Option until the date of the issuance of the shares to him and only after such shares are fully paid. Unless specified in Section 9, no adjustment will be made for dividends or other rights for which the record date is prior to the date of such issuance. (k) Miscellaneous Provisions. The Stock Option Agreements authorized under the Plan may contain such other provisions not inconsistent with the terms of this Plan as the Committee shall deem advisable. 8. Vesting. Options granted under this Plan shall be exercisable only to the extent such Options have become vested pursuant to this Section 8. An Option shall vest at the rate of 25 percent of the shares covered by the Option on each of the first four anniversary dates of the grant of the Option if the Participant is an employee of the Company or a Subsidiary on such dates. DC01/100718-2 // - 6 - 9. Change in Capitalization. If the Stock should, as a result of a stock split or stock dividend, combination of shares, recapitalization or other change in the capital structure of the Corporation or exchange of Stock for other securities by reclassification or otherwise, be increased or decreased or changed into, or exchanged for, a different number or kind of shares or other securities of the Corporation, or any other corporation, then the number of shares covered by Options, the number and kind of shares which thereafter may be distributed or issued under the Plan and the per share option price of Options shall be appropriately adjusted consistent with such change in such manner as the Committee may deem equitable to prevent dilution of or increase in the rights granted to, or available for, Participants. 10. Fractional Shares. In the event that any provision of this Plan or a Stock Option Agreement would create a right to acquire a fractional share of Stock, such fractional share shall be disregarded. 11. Successor Corporation. If the Corporation is merged or consolidated with another corporation or other legal entity and the Corporation is not the surviving corporation or legal entity, or in the event all or substantially all of the assets or common stock of the Corporation is acquired by another corporation or legal entity, or in the case of a dissolution, reorganization or liquidation of the Corporation, the Board, or the board of directors or governing body of any corporation or other legal entity assuming the obligations of the Corporation hereunder, shall either: (i) make appropriate provision for the preservation of Participants' rights under the Plan in any agreement or plan it may enter into or adopt to effect any of the foregoing transactions; or (ii) upon written notice to each Participant, provide that all Options, whether or not vested, may be exercised within thirty days of the date of such notice and if not so exercised, shall be terminated. 12. Change in Control. Notwithstanding any provisions in the Plan to the contrary, in the event of a Change in Control, any unvested and outstanding Options awarded to Participants under the Plan automatically shall become fully vested and exercisable in accordance with the terms thereof. 13. Non-Alienation of Benefits. Except insofar as applicable law otherwise may require, (i) no Options, rights or interest of Participants or Stock deliverable to any Participant at any time under the Plan shall be subject in any manner to alienation by anticipation, sale, transfer, assignment, bankruptcy, pledge, attachment, charge or encumbrance of any kind, and any attempt to so alienate, sell, transfer, assign, pledge, attach, charge or otherwise encumber any such amount, whether presently or thereafter payable, shall be void; and (ii) to the fullest extent permitted by law, the Plan shall in no manner be liable for, or subject to, claims, liens, attachments or other like proceedings or the debts, liabilities, contracts, engagements or torts of any Participant or beneficiary. Nothing in this Section 13 shall prevent a Participant's rights and interests under the Plan from being transferred by will or by the laws of descent and distribution; provided, that no transfer by will or by the laws of descent and distribution shall be effective to DC01/100718-2 // - 7 - bind the Corporation unless the Committee or its designee shall have been furnished before or after the death of such Participant with a copy of such will or such other evidence as the Committee may deem necessary to establish the validity of the transfer. 14. Listing and Qualification of Shares. The Corporation, in its discretion, may postpone the issuance or delivery of shares of Stock until completion of any stock exchange listing, or other qualification or registration of such shares under any state or federal law, rule or regulation, as the Corporation may consider appropriate, and may require any Participant to make such representations, including, but not limited to, a written representation that the shares are to be acquired for investment and not for resale or with a view to the distribution thereof, and to furnish such information as it may consider appropriate in connection with the issuance or delivery of the shares in compliance with applicable law, rules and regulations. The Corporation may cause a legend or legends to be placed on such certificates to make appropriate reference to such representation and to restrict transfer in the absence of compliance with applicable federal or state securities laws. 15. No Claim or Right Under the Plan. No employee of the Corporation or any Subsidiary shall at any time have the right to be selected as a Participant in the Plan nor, having been selected as a Participant and granted an Option, to be granted any additional Option. Neither the action of the Corporation in establishing the Plan, nor any action taken by it or by the Board or the Committee thereunder, nor any provision of the Plan, nor participation in the Plan, shall be construed to give, and does not give, to any person the right to be retained in the employ of the Corporation or any Subsidiary, or interfere in any way with the right of the Corporation or any Subsidiary to discharge or terminate any person at any time without regard to the effect such discharge or termination may have upon such person's rights, if any, under the Plan. 16. 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, (i) deducting the amount required to be withheld from salary or any other amount then or thereafter payable to a Participant, beneficiary or legal representative, (ii) requiring a Participant, beneficiary or legal representative to pay to the Corporation the amount required to be withheld as a condition of releasing the Stock, or (iii) complying with applicable provisions of any broker-directed cashless exercise/resale procedure adopted by the Corporation pursuant to Section 7(e). 17. No Liability of Directors. No member of the Board or the Committee shall be personally liable by reason of any contract or other instrument executed by such member on his behalf in his capacity as a member of the Board or Committee, nor for any mistake of judgment made in good faith, and the Corporation shall indemnify and hold harmless each employee, officer and Director, 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 DC01/100718-2 // - 8 - 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 to the fullest extent permitted or required by the Corporation's governing instruments and, in addition, to the fullest extent of any applicable insurance policy purchased by the Corporation. 18. Other Plans. Nothing contained in the Plan is intended to amend, modify or rescind any previously approved compensation plans or programs entered into by the Corporation or its Subsidiaries. The Plan shall be construed to be in addition to any and all such plans or programs. No award of Options under the Plan shall be construed as compensation under any other executive compensation or employee benefit plan of the Corporation or any of its Subsidiaries, except as specifically provided in any such plan or as otherwise provided by the Committee. The adoption of the Plan by the Board shall not be construed as creating any limitations on the power or authority of the Board to adopt such additional compensation or incentive arrangements as the Board may deem necessary or desirable. 19. Amendment or Termination. This Plan may be amended by the Board from time to time to the extent that the Board deems necessary or appropriate; provided, no such amendment shall be made absent the approval of the stockholders of the Corporation: (1) if stockholder approval of such amendment is required for continued compliance with Rule 16b-3 of the Exchange Act, or (2) if stockholder approval of such amendment is required by any other applicable laws or regulations or by the rules of any stock exchange as long as the Stock is listed for trading on such exchange. The Committee also may suspend the granting of Options under this Plan at any time and may terminate this Plan at any time; provided, the Corporation shall not have the right to modify, amend or cancel any Option granted before such suspension or termination unless (1) the Participant consents in writing to such modification, amendment or cancellation or (2) there is a dissolution or liquidation of the Corporation or a transaction described in Section 11 of this Plan. 20. 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. 21. Governing Law. The Plan and all rights thereunder shall be governed by, and construed in accordance with, the laws of the State of Georgia, without reference to the principles of conflicts of law thereof. 22. Expenses. All expenses of administering the Plan shall be borne by the Corporation. 23. Effective Date. The Plan shall be effective as of the date of its adoption by the Board, subject to approval of this Plan by the stockholders of the Corporation after the date of its adoption in accordance with the requirements of Rule 16b-3 under the Exchange Act. DC01/100718-2 // EX-10.B 3 -1- MAGELLAN HEALTH SERVICES, INC. 1996 DIRECTORS' STOCK OPTION PLAN 1. Purpose. The Magellan Health Services, Inc. 1996 Directors' Stock Option Plan (the "Plan") is intended as an incentive and as a means of encouraging stock ownership by non-employee members of the Board of Directors of Magellan Health Services, Inc. (the "Company"). 2. Administration. (a) The Plan shall be administered, construed and interpreted by the Compensation Committee (the "Committee") of the Board of Directors. During any time that the Board of Directors does not have a Compensation Committee, the duties of the Committee under the Plan shall be performed by the Board of Directors. (b) The interpretation and construction by the Committee of any provision of the Plan, any option granted under it or any written agreement that sets forth the terms of an option (the "Stock Option Agreement") and any determination by the Committee, pursuant to any provision of the Plan, any such option or any provisions of a Stock Option Agreement, shall be final and conclusive. The terms and conditions of each individual Stock Option Agreement shall be in accordance with the provisions of the Plan, but the Committee may provide for such additional terms and conditions, not in conflict with the provisions of the Plan, as it deems advisable. 3. Eligibility. Members of the Board of Directors who are not employees of the Company or any subsidiary shall be granted options under and pursuant to the terms of the Plan. 4. Stock. The stock subject to the options and other provisions of the Plan shall be authorized but unissued or reacquired shares of the $.25 par value Common Stock of the Company (the "Common Stock"). Subject to readjustment in accordance with the provisions of Section 6(h), the total amount of Common Stock on which options may be granted to Directors under the Plan shall not exceed in the aggregate 250,000 shares. If any outstanding option (or portion thereof) under the Plan for any reason expires unexercised or is terminated without exercise prior to the end of the period during which options may be granted, the shares of Common Stock allocable to the unexercised portion of such option again may be subject to an option under the Plan. 5. Grant of Options. Each eligible Director shall be granted on the later of November 30, 1995, or the date he or she first becomes a Director an option to purchase 25,000 shares of Common Stock, for so long as shares are available under the Plan, but no option shall be granted after December 31, 1999. Options granted shall be subject to the vesting and other terms and conditions of the Plan and each optionee's Stock Option Agreement. DC01/100716-2 // -2- 6. Terms and Conditions of Options. Stock options granted pursuant to the Plan shall be evidenced by Stock Option Agreements in such form as the Committee from time to time shall approve; such agreements and the stock options granted thereby shall comply with and be subject to the following terms and conditions: (a) Number of Shares. Each Stock Option Agreement shall state the total number of shares of Common Stock to which it pertains. (b) Exercise Price. The exercise price per share shall be the Fair Market Value per share of the Common Stock on the date of the grant. (c) Medium and Time of Payment. The exercise price shall be payable upon the exercise of the option, or as provided in Section 6(f) if the Company adopts a broker-directed cashless exercise/resale procedure, in each case in an amount equal to the number of shares then being purchased times the per share exercise price. Payment shall be in cash, except that the Company, in its sole discretion, may permit payment by delivery to the Company of a certificate or certificates for shares of Common Stock, duly endorsed for transfer to the Company with signature guaranteed by a member firm of the New York Stock Exchange or by a national banking association. In the event of any payment by delivery of shares of Common Stock, such shares shall be valued on the basis of their Fair Market Value determined as of the day prior to the date of delivery. If payment is made by delivery of shares of Common Stock, the value of such shares may not exceed the total exercise price payment; but the preceding clause shall not prevent delivery of a stock certificate for a number of shares having a greater value, if the number of shares to be applied to payment of the exercise price is designated by the optionee and the optionee requests that a certificate for the remainder shares be delivered to the optionee. In addition to the payment of the purchase price of the shares then being purchased, an optionee shall also, pursuant to Section 12, pay to the Company or otherwise provide for an amount equal to the amount, if any, which the Company at the time of exercise is required to withhold under the income tax withholding provisions of the Internal Revenue Code and other applicable income tax laws. (d) Fair Market Value. For purposes of Sections 6(b) and (c), Fair Market Value of Common Stock shall be determined on the applicable date as follows. If the Common Stock is listed on a national securities exchange (as such term is defined by the Securities Exchange Act of 1934) or is traded in the over-the-counter market on the date of determination, the Fair Market Value per share of the Common Stock shall be equal to the mean between the high and low sales prices of a share of the Common Stock on said DC01/100716-2 // -3- national securities exchange on that day (or, for purposes of Section 6(c), if no shares of the Common Stock are traded on that date but there were shares traded on dates within a reasonable period both before and after such date, the Fair Market Value shall be the weighted average of the means between the high and low sales prices of the Common Stock on the nearest date before and the nearest date after that date on which shares of the stock are traded) or the mean between the high "bid" and low "asked" prices per share in said over-the-counter market on that date, as reported by the National Association of Securities Dealers Automated Quotation System (or a successor to such system). If the Common Stock is traded on two exchanges, the Fair Market Value shall be determined by the weighted average Fair Market Value on such exchanges unless one of such exchanges is the American Stock Exchange, in which case Fair Market Value shall be determined by prices on that exchange. If the Common Stock is traded both on a national securities exchange and in the over-the-counter market, the Fair Market Value shall be determined by the prices on the national securities exchange, unless transactions on such exchange and in the over-the-counter market are jointly reported on a consolidated reporting system in which case the Fair Market Value shall be determined by reference to such consolidated reporting system. If the Common Stock is not listed for trading on a national securities exchange and is not regularly traded in the over-the-counter market, then the Committee shall determine the Fair Market Value of the stock from all relevant available facts which may include opinions of independent experts as to value and may take into account any recent sales and purchases of such stock to the extent they are representative. (e) Terms of Options; Date of Exercise. Terms of options granted under the Plan shall commence on the date of grant and shall expire on November 30, 2005, subject to Section 6(g). Each option shall become exercisable when vested. (f) Method of Exercise. Options shall be exercised (i) by written notice directed to the Secretary of the Company at its principal place of business, accompanied by payment made in accordance with Section 6(c), in cash or personal check (which will be accepted subject to collection), or by certificates for shares of the Common Stock, or by a combination of the foregoing, of the option price for the number of shares specified in the notice of exercise and by any documents required by Section 6(j), or (ii) by complying with the exercise and other provisions of any broker-directed cashless exercise/resale procedure adopted by the Company and approved by the Committee, and by delivery of any documents required by Section 6(j). The Company shall make delivery of such shares within a reasonable period of time or in accordance with applicable provisions of any such broker-directed cashless exercise/resale procedure; provided, that if any law or regulation requires the Company to take any action (including but not limited to the filing of a registration statement under the Securities Act of 1933 and causing such registration statement to become effective) with respect to the DC01/100716-2 // -4- shares specified in such notice before the issuance thereof, then the date of delivery of such shares shall be extended for the period necessary to take such action. (g) Effect of Termination of Service as a Director. If an optionee during his life ceases to be a non-employee Director of the Company (including its subsidiaries) due to voluntary resignation as a Director, voluntary decision not to stand for reelection or removal as a Director by the stockholders for cause, then the unvested portion of any option shall terminate on the earlier to occur of (i) the expiration date of the option, or (ii) the date of termination of service as a non-employee Director. If an optionee ceases to be a Director for any other reason, the unvested portion of options shall vest on the date of termination of service and may thereafter be exercised in accordance with their terms. In the event of the death of the optionee while he is a non-employee Director of the Company or after termination of such service, the vested portion of any option may be exercised by his personal representatives, heirs or legatees at any time prior to the expiration of one (1) year from the date of death of the optionee, but in no event later than the date of expiration of the option. (h) Adjustments Upon Changes in Capitalization. If the Common Stock should, as a result of a stock split or stock dividend, combination of shares, recapitalization or other change in the capital structure of the Company or exchange of Common Stock for other securities by reclassification or otherwise, be increased or decreased or changed into, or exchanged for, a different number or kind of shares of other securities of the Company, or any other corporation, then the number of shares covered by options, the number and kind of shares which thereafter may be distributed or issued under the Plan and the per share option price of options shall be appropriately adjusted consistent with such change in such manner as the Committee may deem equitable to prevent dilution of or increase in the rights granted to, or available for, optionees. (i) Who May Exercise. No option shall be assignable or transferable by the optionee except by will or by the laws of descent and distribution, and during the lifetime of an optionee, the option shall be exercisable only by him. (j) Optionee's Agreement. If, in the opinion of counsel for the Company, such action is necessary or desirable, no option shall be granted to any optionee unless at such time such optionee represents and warrants that the stock will be acquired for investment only and not for purposes of resale or distribution and makes such further representations and warranties as are deemed necessary or desirable by counsel to the Company with regard to holding and resale of the stock. If, at the time of the exercise of any option, in the opinion of counsel for the Company, it is necessary or desirable, in order to comply with any applicable laws or regulations relating to the sale of securities, that the optionee shall represent and warrant that he is purchasing the shares that are subject to the option for investment and not with any DC01/100716-2 // -5- present intention to resell or distribute the same or make other and further representations and warranties with regard to the holding and resale of the shares, the optionee, upon the request of the Committee, will execute and deliver to the Company an agreement or affidavit to such effect. All certificates issued pursuant to the exercise of any option shall be marked with a restrictive legend, if such marking, in the opinion of counsel to the Company, is necessary or desirable. (k) Rights as a Stockholder. An optionee shall have no rights as a stockholder with respect to shares covered by his option until the date of the issuance of the shares to him and only after such shares are fully paid. Unless specified in Section 6(h), no adjustment will be made for dividends or other rights for which the record date is prior to the date of such issuance. (l) Vesting. An option shall vest at the rate of 25 percent of the shares of Common Stock covered by the option on each of the four anniversary dates of the grant of the option if the Participant is a non-employee Director of the Company on such dates. (m) Miscellaneous Provisions. The Stock Option Agreements authorized under the Plan shall contain such other provisions, including, without limitation, restrictions upon the exercise of the option as the Committee shall deem advisable. 7. Effective Date and Termination of Plan. (a) The Plan shall become effective upon adoption by the Board of Directors of the Company, provided the Plan is approved by the holders of a majority of the shares of Common Stock voting on the matter at an annual or special meeting of stockholders held within twelve months of adoption by the Board of Directors. (b) The Plan, with respect to the granting of options, shall terminate at midnight on December 31, 1999, but the Board of Directors may terminate the Plan at any time prior to said time and date. Such termination of the Plan by the Board of Directors shall not alter or impair any of the rights or obligations under any option theretofore granted under the Plan unless the affected optionee shall so consent. 8. Fractional Shares. If any provision of this Plan or a Stock Option Agreement would create a right to acquire a fractional share, such fractional share shall be disregarded. 9. Successor Corporation. The obligations of the Company under the Plan shall be binding upon any successor corporation or organization succeeding to substantially all of the assets and business of the Company and shall continue to be binding upon the Company notwithstanding any change in ownership of the Company. The Company agrees that it will make appropriate provision for the preservation of optionees' rights under the Plan in any DC01/100716-2 // -6- agreement or plan which it may enter into or adopt to effect any such transfer of assets or ownership. 10. Non-Alienation of Benefits. Except insofar as applicable law may otherwise require, (i) no options, rights or interest of optionees or Common Stock deliverable to any optionee at any time under the Plan shall be subject in any manner to alienation by anticipation, sale, transfer, assignment, bankruptcy, pledge, attachment, charges or encumbrance of any kind, and any attempt to so alienate, sell, transfer, assign, pledge, attach, charge or otherwise encumber any such amount, whether presently or thereafter payable, shall be void; and (ii), to the fullest extent permitted by law, the Plan shall in no manner be liable for, or subject to, claims, liens, attachments or other like proceedings or the debts, liabilities, contracts, engagements or torts of any optionee. Nothing in this Section 10 shall prevent an optionee's rights and interests under the Plan from being transferred by will or by the laws of descent and distribution; provided, that no transfer by will or by the laws of descent and distribution shall be effective to bind the Company unless the Committee or its designee shall have been furnished before or after the death of such optionee with a copy of such will or such other evidence as the Committee may deem necessary to establish the validity of the transfer. 11. Listing and Qualification of Shares. The Company, in its discretion, may postpone the issuance or delivery of shares of Common Stock until completion of any stock exchange listing, or other qualification or registration of such shares under any state or federal law, rule or regulation, as the Company may consider appropriate, and may require any optionee to 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. 12. Taxes. The Company 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 (i) deducting the amount required to be withheld from any amount then or thereafter payable to an optionee, beneficiary or legal representative, (ii) requiring an optionee, beneficiary or legal representative to pay to the Company the amount required to be withheld as a condition of releasing shares, or (iii) complying with applicable provisions of any broker-directed cashless exercise/resale procedure adopted by the Company pursuant to Section 6(f). If, in the exercise of an option, the Company requires payment pursuant to (ii), then, to the extent permitted by the Company in its discretion, payment may be made in any medium provided for in subsection (c) of Section 6. 13. No Liability of Directors. No member of the Board or the Committee shall be personally liable by reason of any contract or other instrument executed by such member on his behalf in his capacity as a member of the Board or Committee, nor for any mistake of judgment DC01/100716-2 // -7- made in good faith, and the Company shall indemnify and hold harmless each employee, officer and Director of the Company, 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 to the fullest extent permitted or required by the Company's governing instruments and, in addition, to the fullest extent of any applicable insurance policy purchased by the Company. 14. Amendments. This Plan may be amended by the Board from time to time to the extent that the Board deems necessary or appropriate; provided, no such amendment shall be made absent the approval of the stockholders of the Company: (1) if stockholder approval of such amendment is required for continued compliance with Rule 16b-3 of the Securities Exchange Act, or (2) if stockholder approval of such amendment is required by any other applicable laws or regulations or by the rules of the American Stock Exchange as long as the Common Stock is listed for trading on such Exchange. The Committee also may suspend the granting of options under this Plan at any time; provided, the Company shall not have the right initially to modify, amend or cancel any option granted before such suspension unless (1) the optionee consents in writing to such modification, amendment or cancellation or (2) there is a dissolution or liquidation of the Company or a transaction described in Section 6(h) of this Plan. 15. 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. 16. Governing Law. The Plan and all rights thereunder shall be governed by, and construed in accordance with, the laws of the State of Georgia, without reference to the principles of conflicts of law thereof. 17. Expenses. All expenses of administering the Plan shall be borne by the Company. DC01/100716-2 // EX-11 4
MAGELLAN HEALTH SERVICES, INC. AND SUBSIDIARIES EXHIBIT 11 COMPUTATION OF PER SHARE EARNINGS Three Months Three Months Six Months Six Months Ended Ended Ended Ended March 31, 1995 March 31, 1996 March 31, 1995 March 31, 1996 -------------- -------------- -------------- -------------- (in thousands, except per share data) Net income(loss) $ (15,100) $ 20,069 $ (14,751) $ 29,817 ============= ============= ============== ============== Weighted average number of common shares outstanding: Common shares outstanding 28,332 31,247 27,613 29,612 Stock Options and Rights - 615 - 468 Warrants - 20 - 19 ------------- ------------- -------------- -------------- 28,332 31,882 27,613 30,099 ============= ============= ============== ============== Primary earnings(loss) per share $ (0.53) $ 0.63 $ (0.53) $ 0.99 ============= ============= ============== ============== Net income(loss) $ (15,100) $ 20,069 $ (14,751) $ 29,817 Adjustments for the assumed conversion of the Exchange Option: Minority interest - 811 - 1,082 Amortization - (276) - (341) ------------- ------------ -------------- -------------- Adjusted net income $ (15,100) $ 20,604 $ (14,751) $ 30,558 ============= ============ ============== ============== Weighted average number of common shares outstanding: Common shares outstanding 28,332 31,247 27,613 29,612 Stock Options and Rights - 616 - 505 Warrants - 2,832 - 1,714 ------------- ------------ -------------- -------------- 28,332 34,715 27,613 31,851 ============= ============ ============== ============== Fully diluted earnings(loss) per share $ (0.53) $ 0.59 $ (0.53) $ 0.96 ============= ============ ============== ============== Note: Common stock equivalents(stock options,rights and warrants) were anti-dilutive for the three months and six months ended March 31, 1995. Accordingly, they are not presented herein.
EX-99 5 EXHIBIT 99 SAFE HARBOR FOR FORWARD-LOOKING STATEMENTS UNDER PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995; CERTAIN CAUTIONARY STATEMENTS The Company or its representatives from time to time may make or may have made certain forward-looking statements, whether orally or in writing, including without limitation any such statements made or to be made in the Management's Discussion and Analysis of Financial Condition and Results of Operations contained in its various filings with the Securities and Exchange Commission. The Company wishes to ensure that such statements are accompanied by meaningful cautionary statements, so as to ensure to the fullest extent possible, the protections of the safe harbor established in the Private Securities Litigation Reform Act of 1995. Accordingly, such statements are qualified in their entirety by reference to and are accompanied by the following discussion of certain important factors that could cause actual results to differ materially from those projected in such forward-looking statements. The Company cautions the reader that this list of factors may not be exhaustive. The Company operates in a rapidly changing business, and new risk factors emerge from time to time. Management cannot predict such risk factors, nor can it assess the impact, if any, of such risk factors on the Company's business or the extent to which any factors, or combination of factors, may cause actual results to differ materially from those projected in any forward-looking statements. Accordingly, forward-looking statements should not be relied upon as a prediction of actual results. Many of the important factors discussed below have been discussed previously in the Company's filing with the Securities and Exchange Commission, including without limitation, in the Company's most recent S-3 Registration Statement, Registration No. 333-01217. Acquisition Growth Strategy The Company has historically grown through acquisitions and internal growth. There can be no assurance that the Company will be able to make successful acquisitions in the future or that any such acquisitions will be successfully integrated into its operations. In addition, future acquisitions could have an adverse effect upon the Company's operating results, particularly in the fiscal quarters immediately following the consummation of such transactions while the acquired operations are being integrated into its operations. Green Spring Health Services, Inc. Acquisition and Potential Adverse Reaction On December 13, 1995, the Company acquired a controlling interest in Green Spring Health Services, Inc. ("Green Spring"), a leading provider of managed behavioral healthcare services. The Company's hospitals have contracts with behavioral managed care companies other than Green Spring. Such other companies could decide to terminate their contracts with the Company's hospitals in reaction to the Company's acquisition of a majority interest in one of their major competitors. In addition, there can be no assurance that Green Spring will be successfully integrated into the Company's operations. Historical Operating Losses The Company has experienced losses from continuing operations before reorganization items, extraordinary items and the cumulative effect of a change in accounting principle in each fiscal year since the completion of a management buyout in 1988. Such losses amounted to $167.2 million for the fiscal year ended September 30, 1991, $81.7 million for the ten-month period ended July 31, 1992, $8.1 million for the two-month period ended September 30, 1992 and $39.6 million, $47.0 million and $43.0 million for the fiscal years ended September 30, 1993, 1994 and 1995, respectively. The Company reported net revenue and loss from continuing operations of approximately $299.8 million and $15.1 million, respectively, for the quarter ended March 31, 1995 compared to net revenue and income from continuing operations of approximately $355.0 million and $20.1 million, respectively, for the quarter ended March 31, 1996. The Company also reported net revenue and loss from continuing operations of approximately $563.7 million and $14.8 million, respectively, for the six months ended March 31, 1995 compared to net revenue and income from continuing operations of approximately $650.6 million and $29.8 million, respectively, for the six months ended March 31, 1996. The results of operations for such interim periods are not necessarily indicative of the actual results expected for the year. There can be no assurance that the Company's profitability in the quarter and the six months ended March 31, 1996 will continue in future periods. The Company's history of losses could have an adverse effect on its operations. Potential Hospital Closures The Company continually assesses events and changes in circumstances that could affect its business strategy and the viability of its operating facilities. During fiscal 1995, the Company consolidated, closed or sold fifteen psychiatric hospitals. The Company has consolidated or closed six psychiatric hospitals during fiscal 1996, including the April 1996 decision to close three psychiatric hospitals. The Company recorded charges of approximately $200,000 in the quarterly period ended March 31, 1996 and anticipates recording a charge of approximately $2.5 million in the quarterly period ended June 30, 1996, as a result of these consolidations and closures. The Company may elect to consolidate services in selected markets and to close or sell additional facilities in future periods depending on market conditions and evolving business strategies. If the Company closes additional psychiatric hospitals in future periods, it could result in charges to income for the cost necessary to exit the hospital operations. Potential Reductions in Reimbursement by Third-Party Payers and Changes in Hospital Payor Mix The Company's hospitals have been adversely affected by factors influencing the entire psychiatric hospital industry. Factors which affect the Company include (i) the imposition of more stringent length of stay and admission criteria and other cost containment measures by payers; (ii) the failure of reimbursement rate increases from certain payers that reimburse on a per diem or other discounted basis to offset increases in the cost of providing services; (iii) an increase in the percentage of its business that the Company derives from payers that reimburse on a per diem or other discounted basis; (iv) a trend toward higher deductible and co-insurance for individual patients; and (v) a trend toward limiting employee health benefits, such as reductions in annual and lifetime limits on mental health coverage. All of these factors may result in reductions in the amounts that the Company's hospitals can expect to collect per patient day for services provided. For the fiscal year ended September 30, 1995, the Company derived approximately 47% of its gross psychiatric patient service revenue from private-pay sources (including HMOs, PPOs, commercial insurance and Blue Cross), 26% from Medicare, 17% from Medicaid, 4% from the Civilian Health and Medical Program for the Uniformed Services ("CHAMPUS") and 6% from other government programs. Changes in the mix of the Company's patients among the private-pay, Medicare and Medicaid categories, and among different types of private-pay sources, can significantly affect the profitability of the Company's hospital operations. Therefore, there can be no assurance that payments under governmental and private third-party payor programs will remain at levels comparable to present levels or will, in the future, be sufficient to cover the costs of providing care to patients covered by such programs. Previous Bankruptcy Reorganization The Company was reorganized pursuant to Chapter 11 of the United States Bankruptcy Code, effective on July 21, 1992 (the "Reorganization"). Prior to the Reorganization, the Company's total indebtedness was approximately $1.8 billion; and from February 1991 until July 1992, the Company was in default in the payment of interest and principal, or both, on substantially all such indebtedness. The indebtedness was incurred by the Company in connection with a management buy-out of the Company in 1988 and a hospital-construction program. As a result of the Reorganization, the Company's long-term debt was reduced by approximately $700 million and its redeemable preferred stock of $233 million was eliminated. The holders of such debt and preferred stock received approximately 97% of Magellan's Common Stock outstanding on July 21, 1992. Governmental Budgetary Constraints and Healthcare Reform In the 1995 and 1996 sessions of the United States Congress, the focus of healthcare legislation has been on budgetary and related funding mechanism issues. A number of reports, including the 1995 Annual Report of the Board of Trustees of the Federal Hospital Insurance Program (Medicare) have projected that the Medicare "trust fund" is likely to become insolvent by the year 2002 if the current growth rate of approximately 10% per annum in Medicare expenditures continues. Similarly, federal and state expenditures under the Medicaid program are projected to increase significantly during the same seven-year period. In response to these projected expenditure increases, and as part of an effort to balance the federal budget, both the Congress and the Clinton Administration have made proposals to reduce the rate of increase in projected Medicare and Medicaid expenditures and to change funding mechanisms and other aspects of both programs. Congress has passed legislation that would reduce projected expenditure increases substantially and would make significant changes in the Medicare and the Medicaid programs. The Clinton Administration has proposed alternate measures to reduce, to a lesser extent, projected increases in Medicare and Medicaid expenditures. As of the date of this Prospectus, neither proposal has become law. The Medicare legislation that has been adopted by Congress would, with some differences, reduce projected expenditure increases by a variety of means, including reduced payments to providers (including the Company), increased beneficiary premiums for physician and certain other services, and creation of incentives for Medicare beneficiaries to enroll in managed care plans or to accept Medicare coverage with a substantially increased deductible. Changes in the Medicaid program would reduce the number and extent of federal mandates concerning how state Medicaid programs operate (including levels of benefits provided and levels of payments to providers) and would change the funding mechanism from a sharing formula between the federal government and a state to "block grant" funding. The Company cannot predict the effect of any such legislation, if adopted, on its operations; but the Company anticipates that, although overall Medicare and Medicaid funding may be reduced from projected levels, the changes in such programs may provide opportunities to the Company to obtain increased Medicare and Medicaid business through risk-sharing or partial risk-sharing contracts with managed care plans and state Medicaid programs. Although the United States Congress, in 1995 and 1996, has not considered healthcare reform proposals, the Company anticipates that numerous healthcare reform proposals will continue to be introduced in future sessions of Congress. The Company cannot predict whether any such proposal will be adopted or the effect on the Company of any proposal that does become law. A number of states in which the Company has operations have either adopted or are considering the adoption of healthcare reform proposals of general applicability or Medicaid reform proposals, partly in response to possible changes in Medicaid law. Where adopted, these state reform laws have often not yet been fully implemented. The Company cannot predict the effect of these state healthcare reform and Medicaid reform laws on its operations. Provider Business-Competition Each of the Company's hospitals competes with other hospitals, some of which are larger and have greater financial resources. Some competing hospitals are owned and operated by governmental agencies, others by nonprofit organizations supported by endowments and charitable contributions and others by proprietary hospital corporations. The hospitals frequently draw patients from areas outside their immediate locale and, therefore, the Company's hospitals may, in certain markets, compete with both local and distant hospitals. In addition, the Company's hospitals compete not only with other psychiatric hospitals, but also with psychiatric units in general hospitals, and outpatient services provided by the Company may compete with private practicing mental health professionals and publicly funded mental health centers. The competitive position of a hospital is, to a significant degree, dependent upon the number and quality of physicians who practice at the hospital and who are members of its medical staff. The Company has entered into joint venture arrangements with other healthcare providers in certain markets to promote more efficiency in the local delivery system. The Company believes that its provider business competes effectively with respect to the aforementioned factors. However, there can be no assurance that Magellan will be able to compete successfully in the provider business in the future. Competition among hospitals and other healthcare providers for patients has intensified in recent years. During this period, hospital occupancy rates for inpatient behavioral care patients in the United States have declined as a result of cost containment pressures, changing technology, changes in reimbursement, changes in practice patterns from inpatient to outpatient treatment and other factors. In recent years, the competitive position of hospitals has been affected by the ability of such hospitals to obtain contracts with Preferred Provider Organizations ("PPO's"), Health Maintenance Organizations ("HMO's") and other managed care programs to provide inpatient and other services. Such contracts normally involve a discount from the hospital's established charges, but provide a base of patient referrals. These contracts also frequently provide for pre-admission certification and for concurrent length of stay reviews. The importance of obtaining contracts with HMO's, PPO's and other managed care companies varies from market to market, depending on the individual market strength of the managed care companies. State certificate of need laws place limitations on the Company's and its competitors' ability to build new hospitals and to expand existing hospitals. Protection from new competition is reduced in those states where there is no certificate of need law, and opportunities for growth are limited by the certificate of need requirement in states having such laws. As of April 30, 1996, the Company operated 40 hospitals in 12 states (Arizona, Arkansas, California, Colorado, Indiana, Kansas, Louisiana, Nevada, New Mexico, South Dakota, Texas and Utah) which do not have certificate of need laws applicable to hospitals. In most cases, these laws do not restrict the ability of the Company or its competitors to offer new outpatient services. Proposals have been made in a number of jurisdictions to repeal currently applicable certificate of need laws. Several states have instituted moratoria on new certificates of need or otherwise stated their intent not to grant approval for new facilities. Managed Care Business - Competition The Company, through its Green Spring subsidiary, now operates in the managed healthcare industry. The managed healthcare industry is being affected by various external factors including rising healthcare costs, intense price competition, and market consolidation by major managed care companies. Magellan faces competition from a number of sources including other behavioral health managed care companies and traditional full service managed care companies that contract to provide behavioral healthcare benefits. Also, to a lesser extent, competition exists from fully capitated multi-specialty medical groups and individual practice associations that directly contract with managed care companies and other customers to provide and manage all components of healthcare for the members including the behavioral healthcare component. The Company believes that the most significant factors in a customer's selection of a managed behavioral healthcare company include price, the extent and depth of provider networks and quality of services. The Company also believes that the acquisition of Green Spring creates opportunities to enhance its revenues through managed care contracts utilizing the continuum of care and through information systems that support care management and at-risk pricing mechanisms, although no such assurance can be given. Management believes that its managed care business competes effectively with respect to these factors. However, there can be no assurance that Magellan will be able to compete successfully in the managed care business in the future. Limitations Imposed by the Credit Agreement and Senior Note Indenture In May 1994, the Company entered into a Second Amended and Restated Credit Agreement (the "Credit Agreement") with certain financial institutions and issued $375 million of Senior Subordinated Notes (the "Senior Notes") to institutional investors. The Credit Agreement and the indenture for the Senior Notes contain a number of restrictive covenants which, among other things, limit the ability of the Company and certain of its subsidiaries to incur other indebtedness, enter into certain joint venture transactions, incur liens, make certain restricted payments and investments, enter into certain business combination and asset sale transactions and make capital expenditures. These restrictions could adversely affect the Company's ability to conduct its operations, finance its capital needs or to pursue attractive business combinations and joint ventures if such opportunities arise. Under the Credit Agreement, the Company also is required to maintain certain specified financial ratios. Failure by the Company to maintain such financial ratios or to comply with the restrictions contained in the Credit Agreement and the indenture for the Senior Notes could cause such indebtedness (and by reason of cross-acceleration provisions, other indebtedness) to become immediately due and payable and/or could cause the cessation of funding under the Credit Agreement. Regulatory Environment The federal government and all states in which the Company operates regulate various aspects of the Company's businesses. Such regulations provide for periodic inspections or other reviews of the Company's provider operations by, among others, state agencies, the United States Department of Health and Human Services (the "Department") and CHAMPUS to determine compliance with their respective standards of care and other applicable conditions of participation which is necessary for continued licensure or participation in identified healthcare programs, including, but not limited to, Medicare, Medicaid and CHAMPUS. The Company is also subject to state regulation regarding the admission and treatment of patients and federal regulations regarding confidentiality of medical records of substance abuse patients. Although the Company endeavors to comply with such regulatory requirements, there can be no assurance that the Company will always be in full compliance. The failure to obtain or renew any required regulatory approvals or licenses or to qualify for continued participation in identified healthcare programs could adversely affect the Company's operations. In addition, there is currently pending before Congress legislation that would establish a program to control fraud and abuse with respect to health plans maintained by all public and private payers, as opposed to current fraud and abuse laws that relate only to specified governmental payers. The Company is also subject to federal and state laws that govern financial and other arrangements between healthcare providers. These laws often prohibit certain direct and indirect payments between healthcare providers that are designed to induce overutilization of services paid for by Medicare or Medicaid. Such laws include the anti-kickback provisions of the federal Medicare and Medicaid Patients and Program Protection Act of 1987. These provisions prohibit, among other things, the offer, payment, solicitation or receipt of any form of remuneration in return for the referral of Medicare and Medicaid patients. GPA, the Company's subsidiary that owns or manages professional group practices, is subject to the federal and the state illegal remuneration, practice of medicine and certain other laws which prohibit the subsidiary from owning, but not managing, professional practices. In addition, some states prohibit business corporations from providing, or holding themselves out as a provider of, medical care. The Company endeavors to comply with all federal and state laws applicable to its business. However, a violation of these federal and state laws may result in civil or criminal penalties for individuals or entities or exclusion from participation in identified healthcare programs. Magellan's managed care business operations, in some states, are subject to utilization review, licensure and related state regulation procedures. Green Spring provides managed behavioral healthcare services to various Blue Cross/Blue Shield plans that operate Medicare and Medicaid health maintenance organizations or other at-risk managed care programs and that participate in the Blue Cross Federal Employees health program. As a contractor to these Blue Cross/Blue Shield plans, Green Spring is indirectly subject to federal and, with respect to the Medicaid program, state monitoring and regulation of performance and financial reporting requirements. Although Magellan believes that it is in compliance with all current state and federal regulatory requirements applicable to the managed care business it conducts, failure to do so could adversely affect its operations. Physician ownership of or investment in healthcare entities to which they refer patients has come under increasing scrutiny at both state and federal levels. Congress passed legislation (commonly referred to as "Stark I") which prohibits physicians from referring Medicare patients for clinical laboratory services to an entity with which the physician has a financial relationship. The Department recently published final Stark I regulations on August 14, 1995. Such regulations will govern how the Department views and reviews these financial relationships. Additionally, Congress passed legislation (commonly referred to as "Stark II") which prohibits physicians from referring Medicare or Medicaid patients for certain designated health services, including inpatient and outpatient hospital services, to entities in which they have an ownership or investment interest or with which they have a compensation arrangement. The entity is also prohibited from billing the Medicare or Medicaid programs for such services rendered pursuant to a prohibited referral. To the extent designated services are provided by the Company's provider and managed care operations, physicians who have a financial relationship with the Company and the Company will be subject to the provisions of Stark II. Some states have passed similar legislation which prohibits the referral of private pay patients. To date, the Department has not published Stark II regulations. However, the Department indicated that it will review referrals involving any of the designated services under the language and interpretations set forth in the Stark I rule. The Company's acquisitions and joint venture activities are also subject to federal antitrust laws. The healthcare industry has recently been an active area of antitrust enforcement action by the United States Federal Trade Commission (the "FTC") and the Department of Justice ("DOJ"). The Company's acquisitions and joint venture arrangements could be the subject of a DOJ or an FTC enforcement action which, if determined adversely to the Company, could have a material adverse effect upon the Company's operations. Changes in laws or regulations or new interpretations of existing laws or regulations can have an adverse effect on the Company's operating methods, costs, reimbursement amounts and acquisition and joint venture activities. In addition, the healthcare industry is subject to increasing governmental scrutiny, and additional laws and regulations may be enacted which could require changes in the Company's operations. A federal or state agency charged with enforcement of such laws and regulations might assert an interpretation of such laws and resolutions or may increase scrutiny of a previously ignored area, which may require changes in the Company's operations. Dependence on Healthcare Professionals Physicians traditionally have been the source of a significant portion of the patients treated at the Company's hospitals. Therefore, the success of the Company's hospitals is dependent in part on the number and quality of the physicians on the medical staffs of its hospitals and their admission practices. A small number of physicians account for a significant portion of patient admissions at some of the Company's hospitals. There can be no assurance that the Company can retain its current physicians on staff or that additional physician relationships will be developed in the future. Furthermore, hospital physicians generally are not employees of the Company and in general Magellan does not have contractual arrangements with hospital physicians restricting the ability of such physicians to practice elsewhere. Potential General and Professional Liability Effective June 1, 1995, Plymouth Insurance Company, Ltd. ("Plymouth"), a wholly-owned Bermuda subsidiary of the Company, provides general and hospital professional liability insurance up to $25 million per occurrence for the Company's hospitals. All of the risk of losses from $1.5 million to $25 million per occurrence has been reinsured with unaffiliated insurers. The Company also insures with an unaffiliated insurer 100% of the risk of losses between $25 million and $100 million per occurrence, subject to an annual aggregate limit of $75 million. The Company's general and professional liability coverage is written on a "claims made or circumstances reported" basis. For reinsured claims between $10 and $25 million per occurrence, the Company has an annual aggregate limit of coverage of $30 million. For reinsured claims between $1.5 million and $10 million per occurrence, the Company has no significant limitations on the aggregate dollar amounts of coverage. For the six years from June 1, 1989 through May 31, 1995, the Company had a similar general and hospital professional liability insurance program. For those years, the per occurrence deductible (with respect to which the Company was self-insured) was $2.5 million for the years ended May 31, 1990 and 1991, $2 million for the years ended May 31, 1992 and 1993 and $1.5 million (relating to the Company's general hospitals sold on September 30, 1993) for the year ended May 31, 1994. For psychiatric hospitals, Plymouth's coverage did not contain a per occurrence deductible for the years ended May 31, 1994 and 1995. In December 1994, the per occurrence deductible for the years ended May 31, 1989 and 1990 was eliminated. Plymouth provides coverage with no per occurrence deductible for hospital system claims which had not been paid prior to December 31, 1994. Plymouth does not underwrite any insurance policies with any parties other than the Company or its affiliates and subsidiaries. The amount of expense relating to Magellan's malpractice insurance may materially increase or decrease from year to year depending, among other things, on the nature and number of new reported claims against Magellan and amounts of settlements of previously reported claims. To date, Magellan has not experienced a loss in excess of policy limits. Management believes that its coverage limits are adequate. However, losses in excess of the limits described above or for which insurance is otherwise unavailable could have a material adverse effect upon the Company. Potential Expiration and Realization Uncertainties Related to Estimated Tax Net Operating Loss Carryforwards As of September 30, 1995, the Company had estimated tax net operating loss ('NOL") carryforwards of approximately $233 million available to reduce future federal taxable income. These NOL carryforwards expire in 2006 through 2009 and are subject to adjustment upon examination by the Internal Revenue Service. Due to the ownership change which occurred as a result of the Reorganization, the Company's utilization of NOLs generated prior to the effective date of the Reorganization is limited. Based on this limitation and certain other factors, the Company has recorded a valuation allowance of approximately $93.2 million against the amount of the NOL deferred tax asset that in Management's opinion, is not likely to be recovered. There can be no assurance that these NOL carryforwards will not expire, be reduced or be made subject to further limitations prior to their potential utilization in future periods. Capitation Arrangements The Company's managed care business contracts with companies holding state HMO or insurance company licenses on a capitated or "at-risk" basis where the risk of patient care is assumed by the Company in exchange for a monthly fee per member regardless of utilization level. As of March 31, 1996, approximately 30% of Green Spring's managed care members were under capitated arrangements. During 1995, approximately 70% of Green Spring's revenues were from at-risk contracts. Increases in utilization levels under capitated contractual arrangements could adversely effect the operations of the managed care business. Some jurisdictions are taking the position that capitated agreements in which the provider bears the risk should be regulated by insurance laws. In this regard, Green Spring's primary customers are comprised of Blue Cross/Blue Shield Plans and other insurance entities which are licensed insurance organizations in their respective states. Green Spring offers "carved out" managed mental health benefits, on a wholesale basis, as a vendor to the regulated insurance organizations. Most current employer group relationships are also contracted through the respective regulated insurance organizations. However, as Magellan and Green Spring develop more direct risk arrangements on a retail basis directly with employer groups or other non-insurance entity customers, the Company may be required to obtain insurance licenses in the respective states where the direct risk arrangements are to be pursued. There can be no assurance that the Company can obtain the insurance licenses required by the respective states in a timely or cost effective manner to respond to market demand. Possible Volatility of Stock Price The Company believes factors such as announcements with respect to healthcare reform measures, reductions in government healthcare program projected expenditures, acquisitions and quarter-to-quarter and year-to-year variations in financial results could cause the market price of Magellan Common Stock to fluctuate substantially. Any such adverse announcement with respect to healthcare reform measures or program expenditures, acquisitions or any shortfall in revenue or earnings from levels expected by securities analysts could have an immediate and significant adverse effect on the trading price of Magellan Common Stock in any given period. As a result, the market for Magellan Common Stock may experience price and volume fluctuations unrelated to the operating performance of Magellan. EX-27 6
5 THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE CONSOLIDATED BALANCE SHEETS AND CONSOLIDATED STATEMENTS OF OPERATIONS FOUND ON PAGES 2, 3, AND 4 OF THE COMPANY'S FORM 10-Q FOR THE YEAR-TO-DATE, AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS. 6-MOS SEP-30-1996 MAR-31-1996 123,674,000 0 222,365,000 0 5,726,000 375,748,000 611,959,000 110,611,000 1,177,512,000 265,916,000 536,215,000 0 0 8,229,000 183,537,000 1,177,512,000 650,618,000 650,618,000 0 0 531,058,000 42,407,000 22,394,000 54,594,000 22,372,000 29,817,000 0 0 0 29,817,000 0.99 0.96
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