-----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, OGF0nW70IENi6E0fyxLXAh6pB/Ph1tCy57VXcglWfYdQaw0gJB4CuXNx4HfIahhI 5OwG06rZBwn3ScgjfCAbpg== 0000950144-98-006785.txt : 19980522 0000950144-98-006785.hdr.sgml : 19980522 ACCESSION NUMBER: 0000950144-98-006785 CONFORMED SUBMISSION TYPE: 10-K/A PUBLIC DOCUMENT COUNT: 1 CONFORMED PERIOD OF REPORT: 19970630 FILED AS OF DATE: 19980521 SROS: NYSE FILER: COMPANY DATA: COMPANY CONFORMED NAME: RETIREMENT CARE ASSOCIATES INC /CO/ CENTRAL INDEX KEY: 0000798540 STANDARD INDUSTRIAL CLASSIFICATION: SERVICES-SKILLED NURSING CARE FACILITIES [8051] IRS NUMBER: 431441789 STATE OF INCORPORATION: CO FISCAL YEAR END: 0630 FILING VALUES: FORM TYPE: 10-K/A SEC ACT: SEC FILE NUMBER: 001-14114 FILM NUMBER: 98629925 BUSINESS ADDRESS: STREET 1: 6000 LAKE FORREST DR STE 200 CITY: ATLANTA STATE: GA ZIP: 30328 BUSINESS PHONE: 4042557500 MAIL ADDRESS: STREET 1: 6000 LAKE FORREST DR STREET 2: STE 200 CITY: ATLANTA STATE: GA ZIP: 30328 10-K/A 1 RETIREMENT CARE ASSOCIATES, INC. 1 U. S. SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-K/A Amendment No. 3 (Amending Part II - Item 7) [X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 [FEE REQUIRED] For the Fiscal Year ended: June 30, 1997 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 [NO FEE REQUIRED] For the transition period from: Commission File No. 1-14114 RETIREMENT CARE ASSOCIATES, INC. (Exact Name of Registrant as Specified in its Charter) COLORADO 43-1441789 (State or Other Jurisdiction of (I.R.S. Employer Identi- Incorporation or Organization) fication Number) 6000 Lake Forrest Drive, Suite 200, Atlanta, Georgia 30328 (Address of Principal Executive Offices, Including Zip Code) Registrant's telephone number, including area code: (404) 255-7500 Securities registered pursuant to Section 12(b) of the Act: TITLE OF EACH CLASS NAME OF EACH EXCHANGE ON WHICH REGISTERED Common Stock, $.0001 Par Value New York Stock Exchange Securities registered pursuant to Section 12(g) of the Act: Common Stock $.0001 Par Value 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 [ ] As of September 18, 1997, 14,749,441 shares of common stock were outstanding. The aggregate market value of the common stock of the Registrant held by nonaffiliates on that date was approximately $84,064,500. Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of Registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [ ] Documents incorporated by reference: None. 2 PART II ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS. YEAR ENDED JUNE 30, 1997 COMPARED TO YEAR ENDED JUNE 30, 1996 The Company's total revenues for the year ended June 30, 1997 were $253,227,861 compared to $134,011,369 for the year ended June 30, 1996. Management fee revenue decreased from $3,781,433 in the year ended June 30, 1996, to $2,629,329 in the year ended June 30, 1997. The Company leased three long-term care facilities and four assisted living/independent living facilities and purchased two assisted living/independent living facilities during the fiscal year ended June 30, 1997, each of which the Company managed during the fiscal year ended June 30, 1996. All of these facilities were owned and controlled by Messrs. Brogdon and Lane. The Company purchased and leased these facilities to reduce the affiliated receivable due the Company and to increase the number of facilities owned or leased, rather than just managed, by the Company. Included in the Company's management fee revenue is $2,212,500 and $3,472,900 from affiliates during the year ended June 30, 1997 and 1996, respectively. Due to the increased number of facilities owned or leased by the Company, patient service revenue increased from $119,499,849 for the year ended June 30, 1996 to $202,603,841 for the year ended June 30, 1997. The cost of patient services in the amount of $148,520,849 for the year ended June 30, 1997, represent 73% of patient service revenue, as compared to $81,082,972 or 68%, of patient service revenue during the year ended June 30, 1996. The increase in the percentage is attributed to the Company's operation of twenty-one long-term care facilities compared to fourteen assisted living/independent living facilities in the year end June 30, 1997. The long-term care facilities require more everyday skilled patient services than assisted living/independent living facilities. Additionally, staffing a long-term care facility requires more nursing specialists, therapy services and higher staffing levels as compared to assisted living/independent living facilities. Owning or leasing a facility is distinctly different from managing a facility with respect to operating results and cash flows. For an owned or leased facility, the entire revenue/expense stream of the facility is recorded on the Company's income statement. In case of a management agreement, only the management fee is recorded. The expenses associated with management revenue are somewhat indirect as the infrastructure is already in place to manage the facility. Therefore, the profitability of managing a facility appears more lucrative on a margin basis than that of an owned/leased facility. However, the risk of managing a facility is that the contract generally can be canceled on a relatively short notice, which results in loss of all revenue attributable to the contract. Furthermore, with an owned or leased property the Company benefits from the increase in value of the facility as its performance increases. With a management contract, the owner of the facility maintains the equity value. From a cash flow standpoint, a management contract is more lucrative because the -28- 3 Company does not have to support the ongoing operating cash flow of the facility. The Company owned or leased 35 additional facilities during fiscal year ended June 30, 1997 compared to fiscal year ended June 30, 1996, which resulted in a corresponding increase in net revenues of $36 million during the fiscal year ended June 30, 1997. The number of leased or owned properties at year end are presented in the following table (which does not include managed facilities):
Type Fiscal 1995 Fiscal 1996 Fiscal 1997 Long-Term Care 30 48 69 Assisted Living/Independent Living 8 18 32 Total 38 66 101
CCMC maintains a cash management account where all operating cash funds of the Company's managed facilities are pooled into one bank account and invested daily. Notes and advances due from (to) affiliates consist of advances to facilities, net of advances from facilities, owned by affiliated entities of ($66,989) and $14,316,661 for the fiscal years 1997 and 1996, respectively. For facilities that were in place for the entire year ended June 30, 1996 and June 30, 1997, revenue increased approximately $1 million, or 2%, during the year ended June 30, 1997. For these same facilities, average rates increased approximately 4% while patient-days decreased approximately 2%. Medical supply revenue increased from $9,825,252 during the fiscal year ended June 30, 1996 to $45,500,712 during the fiscal year ended June 30, 1997. These revenues, which are the revenues of Contour, increased primarily due to the acquisition of Ameridyne Corporation on April 1, 1996 and Atlantic Medical Supply Company, Inc. on July 1, 1996. The cost of medical supplies sold during the fiscal year ended June 30, 1996, $5,350,817, represented 54% of the Company's total medical supply revenue for such period, compared to the cost of medical supplies sold during the year ended June 30, 1997, $31,045,671, which represents 68% of the Company's total medical supply revenue for such period. This increase is primarily due to increases in the cost of the goods sold and increased competition in the medical supply industry, which has decreased the sale prices of most products. Other revenues increased from $904,835 for the fiscal year ended June 30, 1996, to $2,463,979 for the fiscal year ended June 30, 1997. Financing fees increased from $150,000 for the fiscal year ended June 30, 1996 to approximately $700,000 for the fiscal year ended June 30, 1997. Financing fees represent fees received by the Company for assisting other companies to obtain financing for facilities. The Company recorded income under the equity method of $240,000 for investments in unconsolidated subsidiaries. The Company also experienced increases in other revenue not related to resident care, such as guest meals and beauty and barber services, due to the increased number of facilities the Company operated. Lease expense increased from $8,442,671 in the year ended June 30, 1996, to $14,117,392 in the year ended June 30, 1997. This increase is primarily attributable to the increased numbers of facilities leased during the year, as well as the full year effect of leased facilities that started during the year ended June 30, 1996. General and administrative expenses for the year ended June 30, 1997 were $46,346,051, representing 18% of total revenues, as compared to $23,192,250 representing 17% of total revenues, for the year ended June 30, 1996. During the year ended June 30, 1997, the Company recorded a $2,982,063 provision for bad debts. The amount of the provision for bad debts was based upon the aging and estimated collectibility of receivables from Medicare, Medicaid and private payors. During the year ended June 30, 1997, the aging of receivables increased compared with the aging of receivables at June 30, 1996. The increase in the allowance for doubtful accounts of Contour reflects an adjustment to the purchase price allocation for Contour's acquisition of Atlantic Medical and its subsidiaries. The adjustment was required to reduce acquired trade receivables, principally due from Medicare and Medicaid, to their net realizable value. During the year ended June 30, 1997, the Company had $673,655 in interest income and financing fees as compared to $1,847,868 in interest income and financing fees for the year ended June 30, 1996. The decrease in interest income is a result of the decreased amount of advances to related parties during the current year. -29- 4 Interest expense increased from $7,948,091 in the year ended June 30, 1996 to $14,111,843 in the year ended June 30, 1997. This increase is primarily attributable to the increased numbers of facilities acquired by the Company during the year, as well as the full year effect of facilities that were acquired by the Company during the year ended June 30, 1996. For the year ended June 30, 1997, the Company incurred benefits for income taxes of $2,343,256 which represents an effective tax benefit rate of 25% as compared to expenses for income taxes of $1,307,091, which represents an effective tax rate of 48% for the year ended June 30, 1996. The net loss of $7,535,810 for the year ended June 30, 1997 is lower than the net income of $1,746,808 for the year ended June 30, 1996, due to the fact that the Company's operations have deteriorated -30- 5 as a result of the pendency of and delays associated with the merger with Sun, including higher-than-normal turnover, costs associated with the integration and operation of the Company's recently-acquired Virginia and North Carolina facilities (including certain regulatory compliance problems), declines in Medicaid rates and occupancy rates during fiscal year 1997 without a corresponding reduction in operating costs, and accounting adjustments related to the restatement of the Company's financial statements. Although difficult to quantify, the Company believes that such staffing concerns led to increases in costs of patient care and selling, general and administrative expenses during fiscal year 1997. Occupancy rates have also impacted the Company's profitability this fiscal year versus fiscal year 1996. Occupancy rates have declined because of the turnover of administrators, social workers, and nurses. With both the expansion of the number of facilities the Company operated during fiscal year 1997 and the higher than normal staff turnover, the Company's existing management staff was spread very thin. Most of the revenue from the management services division of the Company's business is received pursuant to management agreements with entities controlled by Messrs. Brogdon and Lane, two of the Company's officers and directors. These management agreements have three to five year terms, however, they are all subject to termination on 60 days notice, with or without cause, by either the Company or the owners. Therefore, Messrs. Brogdon and Lane have full control over whether or not these management agreements, and thus the management services revenue, continue in the future. These fees represent .87% and 2.82% of the total revenues of the Company for the years ended June 30, 1997 and 1996, respectively. YEAR ENDED JUNE 30, 1996 COMPARED TO YEAR ENDED JUNE 30, 1995 The Company's management has evaluated the potential effect on periods prior to 1996 of certain errors that the Company has corrected in a restatement and reissuance of its 1996 financial statements. Based on such evaluation, the Company's management determined that a restatement of periods prior to 1996 was unnecessary. The following summarizes the principal considerations made by the Company's management in that regard: Allowance for uncollected accounts during 1996. The Company's accounts receivable nearly doubled during 1996, and the mix of such receivables also changed significantly. In 1995, amounts due from Medicare and Medicaid represented approximately 87% of the Company's total accounts receivable, versus 67% in 1996. Further, amounts due from patients increased from approximately $11,000 in 1995 to approximately $3,113,000 in 1996, and the Company's other trade receivables increased from approximately $761,000 in 1995 to approximately $2,595,000 in 1996. The Company reviewed its 1995 allowance on a payor category basis and concluded that the balance was appropriate for 1995. Nothing was noted that would indicate a misapplication of facts and circumstances during 1995, and nothing would indicate a potential error relating to the allowance for uncollectible accounts during 1995. Since 87% of the Company's accounts receivable in 1995 consisted of Medicare and Medicaid receivables, and since these amounts were billed and paid on a regular and timely basis from state and federal agencies, no allowance for uncollectible accounts for 1995 was deemed necessary. However, with the large increase during 1996 in accounts receivable from sources other than Medicare and Medicaid, such as private pay residents and insurance companies, the Company refined its method of evaluation of the collectibility of its accounts receivable and recorded the allowance for uncollectible accounts for fiscal year 1996. Additional accrual for claims incurred but not reported for self-insured worker's compensation and health care. Until April 1995, the Company had been acquiring commercial insurance, which transferred substantially all risk to a third party insurer. In conjunction with the Company's switch to self-insurance, the Company experienced significant growth during 1996 compared to 1995. During 1996, the Company acquired or leased an additional 28 facilities, a 74% increase in total facilities owned or leased. A similar increase in covered employees can be implied. As a result of the increase in facilities and the rapid increase in covered employees, the reasonable conclusion is that the expenses associated with these increases are properly accounted for in 1996. The Company evaluated what portion of the expenses, if any, would have been properly accrued in 1995 and determined that amount to be $174,000 net of the related tax effect. Accrual for compensated absences. The Company evaluated what portion of the expenses, if any, would have been properly accrued in 1995 and determined that amount to be $24,000 net of the related tax effect. Adjustment of previously recorded inventory. This adjustment applies only to the 1996 financial statements. Initially, the Company had erroneously included certain items, such as beds and other insignificant equipment ($200 or less per item), in its physical inventory b facility. The adjustment to inventory represents a correction to the inventory balance to only reflect those items appropriately included as inventory. Adjustment to lease expense. This adjustment represents the amount necessary to increase lease expense to reflect straight line expense for those leases which contained escalation clauses. This adjustment is principally related to 1996 when the Company acquired an additional 28 facilities. The Company evaluated what portion of the expenses, if any, would have been properly included in prior periods and determined that $143,000 and $52,000 net of the related tax effect should have been reflected in the 1995 and 1994 financial statements, respectively. If the amounts noted above had been reflected in the 1995 financial statements, they would have had the following effect:
1996 1995 Net income before cumulative effect of $1,374,808 $5,058,503 change in accounting principle - as reported Proforma effect of adjustments 393,000 (393,000) ---------- ---------- Proforma net income before cumulative effect $1,767,808 $4,719,503 of change in accounting principle ---------- ---------- Net income (loss) per common share $ (0.08) $ 0.40 Proforma effect of adjustments 0.03 (0.01) ---------- ---------- Proforma net income (loss) per common share $ (0.05) $ 0.39 ----------- ----------
The Company believes that the effect of such items does not warrant any adjustments to the 1995 financial statements. -31- 6 The Company's total revenues for the year ended June 30, 1996, were $134,011,369 compared to $79,616,053 for the year ended June 30, 1995. Management fee revenue decreased from $4,169,694 in the year ended June 30, 1995, to $3,781,433 in the year ended June 30, 1996. The Company leased one long-term care facility, purchased three long-term care facilities and purchased two assisted living/independent living facilities during the fiscal year ended June 30, 1996, each of which it managed during the fiscal year ended June 30, 1995. All of these facilities were owned and controlled by Messrs. Brogdon and Lane. The Company purchased and leased these facilities to reduce the affiliated receivable due the Company and to increase the number of facilities owned or leased, rather than just managed, by the Company. Included in the Company's management fee revenue is $3,472,900 and $3,517,500 from affiliates during the years ended June 30, 1996 and 1995, respectively. Due to the increased number of facilities owned or leased by the Company, patient service revenue increased from $69,949,822 for the year ended June 30, 1995 to $119,499,849 for the year ended June 30, 1996. The cost of patient services in the amount of $81,082,972 for the year ended June 30, 1996, represents 68% of patient service revenue, as compared to $47,778,410, or 68%, of patient service revenue during the year ended June 30, 1995. The decrease in the percentage is attributed to an increase in the ratio of assisted living/independent living facilities to long-term care facilities operated during the current year. Assisted living/independent living facilities require less patient services than long-term care facilities. The ratio of long-term care facilities to assisted living/independent living facilities decreased to 2.7 from 3.8 during the year ended June 30, 1996. Owning or leasing a facility is distinctly different from managing a facility with respect to operating results and cash flows. For an owned or leased facility, the entire revenue/expense stream of the facility is recorded on the Company's income statement. In the case of a management agreement, only the management fee is recorded. The expenses associated with management revenue are somewhat indirect as the infrastructure is already in place to manage the facility. Therefore, the profitability of managing a facility appears more lucrative on a margin basis than that of an owned/leased facility. However, the risk of managing a facility is that the contract generally can be canceled on a relatively short notice, which results in loss of all revenue attributable to the contract. Furthermore, with an owned or leased property the Company benefits from the increase in value of the facility as its performance increases. With a management contract, the owner of the facility maintains the equity value. From a cash flow standpoint, a management contract is more lucrative because the Company does not have to support the ongoing operating cash flow of the facility. -32- 7 The Company converted four managed properties to leased properties during the fiscal year ended June 30, 1996, which resulted in an increase in net revenues of $1 million during the fiscal year ended June 30, 1996 compared to the fiscal year ended June 30, 1995. The number of leased or owned properties at year-end are presented in the table below (the table does not included managed facilities):
TYPE FISCAL 1994 FISCAL 1995 FISCAL 1996 ---- ----------- ----------- ----------- Long-term Care 20 30 48 Assisted Living/Independent Living 6 8 18 ----- ----- ------ Total 26 38 66
For facilities that were in place for the entire year ended June 30, 1995 and June 30, 1996, revenue increased approximately $3 million, or 5%, during the year ended June 30, 1996. For these same facilities, average rates increased approximately 3% while patient-days increased approximately 2%. During the year ended June 30, 1996, the Company had revenue from medical supply sales of $14,542,421, an approximately $6.2 million increase compared to fiscal year ended June 30, 1995, of which $4,717,169 was intercompany sales which were eliminated in consolidation. These sales reflect the operations of Contour Medical, Inc., of which the Company acquired a majority interest on September 30, 1994. Because the Company acquired Contour on September 30, 1994, only nine months of activity were recorded for fiscal year ended June 30, 1995. Sales for those nine months of $3,617,439 have been annualized and recorded for the year ended June 30, 1995 and comprise $1.2 million of the $6.2 million increase in medical supplies revenue for the fiscal year ended June 30, 1995. Sales for the nine month period following the Contour acquisition have been annualized so as not to distort the net increase in revenues from the fiscal year ended June 30, 1995 to the fiscal year ended June 30, 1996. Moreover, Contour acquired AmeriDyne on March 1, 1996, which contributed $3.6 million of revenue for the fiscal year ended June 30, 1996 (see Contour 6/30/96 10-K, page 16). While AmeriDyne contributed $3.6 million of revenue for the fiscal year ended June 30, 1996 (as set forth correctly in Contour's 6/30/96 10-K), Contour's $4.7 million in sales should not have been labeled intercompany because this amount was not attributable to sales to RCA. The remaining $1.4 million increase in sales increase is attributable to the internal growth of the business. The change in costs of goods sold as a percentage of sales during fiscal year ended June 30, 1996 versus fiscal year ended June 30, 1995 is not meaningful because the method of recording intercompany elimination changed during the fiscal year ended June 30, 1996. During the fiscal year ended June 30, 1995, intercompany sales of $4,995,346 were recorded as an elimination of medical supply revenue and an elimination of routine and ancillary costs. During the fiscal year ended June 30, 1996, intercompany sales of $4,717,169 was recorded as an elimination of medical supply revenue and an elimination of medical supply costs of goods sold. If fiscal year ended June 30, 1996 is treated identically to fiscal year ended June 30, 1995, the costs of goods sold margin would be 107% of sales as compared to 87% of sales during fiscal year ended June 30, 1995. The increase in costs of goods sold margin is primarily attributable to the fact that sales to RCA comprised 32% of Contour's sales during fiscal year ended June 30, 1996 (representing costs without associated revenues), while sales to RCA comprised only 22% of Contour's sales during fiscal year ended June 30, 1995. The Cost of Goods Sold for the year ended June 30, 1996, was $5,773,934. Lease expense increased from $5,769,232 in the year ended June 30, 1995, to $8,442,671 in the year ended June 30, 1996. This increase is primarily attributable to the increased numbers of facilities leased during the year, as well as the full year effect of leased facilities that started during the year ended June 30, 1995. There were ten new facilities leased during the fiscal year ended June 30, 1996. -33- 8 General and administrative expenses for the year ended June 30, 1996, were $23,192,250, representing 17% of total revenues, as compared to $12,769,582 representing 16% of total revenues, for the year ended June 30, 1995. During the year ended June 30, 1996, the Company recorded a $3,423,117 provision for bad debts. The amount of the provision for bad debts was based upon the aging and estimated collectibility of receivables from Medicare, Medicaid and private payors. During the year ended June 30, 1996, the aging of receivables increased compared with the aging of receivables at June 30, 1995. In addition, at June 30, 1996, a larger amount of the receivables was deemed to be uncollectible than at June 30, 1995. As of June 30, 1995, the estimated allowance for bad debts was immaterial to the financial statements and was, therefore, not recorded. The Company's consideration of several factors related to the current accounts receivable balance for fiscal year 1996 resulted in the Company recording a $2.7 million bad debt reserve. The Company considered the overall increase in patient account balances (approximately 80%) resulting from the Company's acquisitions during fiscal year 1996, the deterioration in the aging categories due to untimely collection practices by individual facilities which in several cases resulted in the expiration of allowable time periods to bill accounts, the significant rise in accounts receivable net days, the growth in self-pay balances and the lack of timely write-off of uncollectible accounts throughout the fiscal year. During the year ended June 30, 1996, the Company had $1,847,868 in interest income and financing fees as compared to $658,215 in interest income and financing fees for the year ended June 30, 1995. Financing fees, which totaled $150,000 for the year ended June 30, 1996, represents fees received by the Company for assisting other companies to obtain financing for nursing homes and retirement facilities. The increase in interest income is a result of the increased amount of advances to related parties during the current year. Interest expense increased from $1,179,052 in the year ended June 30, 1995, to $7,948,091 in the year ended June 30, 1996. This increase is primarily attributable to the increased numbers of facilities acquired by the Company during the year, as well as the full year effect of facilities that were acquired by the Company during the year ended June 30, 1995. For the year ended June 30, 1996, the Company incurred expenses for income taxes of $1,307,091, which represents an effective tax rate of 48%, as compared to expenses for income taxes of $3,419,092, which represents an effective tax rate of 40%, for the year ended June 30, 1995. The increase in the effective tax rate is mainly the result of a non-deductible tax penalty of approximately $400,000 which was assessed during the year ended June 30, 1996. The net income of $1,746,808 for the year ended June 30, 1996, is less than the net income of $5,058,503 for the year ended June 30, 1995, due to the provision of an additional allowance for bad debts and increased interest expense because of the larger number of facilities acquired during the most recent fiscal year. Most of the revenue from the management services division of the Company's business is received pursuant to management agreements with entities controlled by Messrs. Brogdon and Lane, two of the Company's officers and directors. These management agreements have three to five year terms; however, they are all subject to termination on 60 days notice, with or without cause, by either the Company or the owners. Therefore, Messrs. Brogdon and Lane have full control over whether or not these management agreements, and thus the management services revenue, continue in the future. These fees represent 2.82% and 5.24% of total revenues of the Company for the years ended June 30, 1996 and 1995, respectively. -34- 9 LIQUIDITY AND CAPITAL RESOURCES At June 30, 1997, the Company had a deficit of $10,489,285 in working capital compared to a $1,496,160 deficit at June 30, 1996. The funds needed to reduce such working capital deficit could be provided by a new line of credit secured by accounts receivable, increased collection efforts on the existing accounts receivable balances, extended payment terms to major vendors and possible refinancing of selected facilities. During the year ended June 30, 1997, cash provided by or (used in) operating activities was ($3,838,000) as compared to $5,549,626 for the year ended June 30, 1996. The $9,387,626 decrease was primarily due to the net loss of $7,535,810 for the year ended June 30, 1997, increases in deferred income taxes of $11,111,558 arising from the carryback of the loss and refunds of estimated tax payments, and increases in accounts receivable of $20,987,667 due to the addition of thirty five facilities for the year ended June 30, 1997. Cash provided by operating activities was primarily attributed to depreciation and amortization of $6,514,713 on the facilities and an increase in accounts payable and accrued expenses of $29,187,587 due to the addition of thirty five facilities for the year ended June 30, 1997. Cash used in investing activities during the year ended June 30, 1997, was $23,581,023. The expenditures primarily related to purchases of property and equipment of 12,734,389 and acquisitions of facilities and a medical supply company of $18,807,777. On August 6, 1996, Contour Medical, Inc., a majority-owned subsidiary of the Company, purchased all of the outstanding stock of Atlantic Medical, a distributor of disposable medical supplies and a provider of third-party billing services to the nursing home and home health care markets. The acquisition was accounted for as a purchase and made retroactively to July 1, 1996. Contour paid $1.4 million in cash and $10.5 million in promissory notes for all of the outstanding stock of Atlantic Medical. The promissory notes bore interest at 7% per annum and were paid in full on January 10, 1997. On October 14, 1996, Winter Haven sold two retirement facilities to the Company at their fair market value, based on an independent appraisal, for a total purchase price of $19,200,000. The facilities were the Jackson Oaks retirement facility in Jackson, Tennessee, which the Company previously leased, and the Cumberland Green retirement facility which the Company previously managed. The purchase prices for these facilities were $12,400,000 and $6,800,000, respectively. These facilities were acquired subject to total bond debt of $7,670,000, resulting $11,530,000 due to Winter Haven, which was applied to eliminate the $11,214,320 owed to the Company by Winter Haven. On September 27, 1996, Gordon Jensen transferred 399,426 shares of the Company's common stock to the Company with a fair market value equal to $3,000,000 in exchange for the cancellation of its debt totalling $2,982,000. The Company subsequently retired these shares. These shares were loaned to Gordon Jensen by Edward E. Lane, Chris Brogdon and Connie Brogdon. Gordon Jensen must repay the debt to Mr. Lane, Mr. Brogdon and Ms. Brogdon with either stock or cash within five years. The advances were due on demand. Cash provided by financing activities during the year ended June 30, 1997, totaled $31,012,336. Sources of cash included proceeds of $9,340,000 from the issuance of 1,000,000 shares of $10.00 Series F Convertible Preferred Stock which were sold in an offering to foreign investors in September, 1996. Holders of the Series F Preferred Stock have no voting rights except as required by law, and have a liquidation preference of $10.00 per share plus 4% per annum from the date of issuance. The shares of Series F Preferred Stock are convertible into shares of common stock at a conversion price of $7.425 or 85% of the average closing bid price for the five trading days prior to the date of conversion, whichever is lower. At the time of conversion, the holder is also entitled to additional shares equal to $10.00 per share of Series F Preferred Stock multiplied by 8% per annum from the date of issuance divided by the applicable conversion price. Sources of cash also included proceeds from stock options and warrants exercised of $1,900,306, and proceeds from long-term debt and lines of credit of $33,919,190. The Company's net borrowing from lines of credit was $9,935,036, with interest rates ranging from prime plus .25% to prime plus 1.25%. Available borrowings at June 30, 1997 was $14,050,000. The Company incurred long-term debt of approximately $24 million, due through 2026, with interest rates ranging from 7.0% to 12.5%. Included in the long-term debt is a $9,750,000 loan with Sun, used to repay the notes payable associated with the Contour acquisition of Atlantic Medical, with interest accruing at rates of 11% and would increase to 15% during any period of default. Principal is due 120 days following the termination of the agreement or merger with Sun. In connection with bond indentures, the Company is required to meet certain covenants, including monthly sinking fund deposits, adequate balances in debt service reserve funds, timely payment of tax obligations and adequate insurance coverage. At June 30, 1997, the Company was in violation of several of these covenants creating a technical default on approximately $51 million of bond indentures. These violations included the failure to make monthly payments to the bond sinking funds for certain of these facilities and inadequate debt service reserves for certain of these facilities. The Company is also delinquent with regard to approximately $1.2 million of property taxes at several facilities. The trustees have not called the bonds in the past for these violations and management does not foresee the bonds being called at this time. -35- 10 All semi-annual interest and principal payments have been made in a timely fashion. Cash used in financing activities primarily consisted of $13,329,520 in payments of long-term debt, $600,000 in redemption of Series AA Preferred Stock, $841,318 in purchases of treasury stock, and $240,000 for dividends on preferred stock. Subsequent to June 30, 1997, the Company obtained an additional note payable from Sun of $5,000,000 for working capital purposes on July 10, 1997. Interest accrues at the rate of 12% and would increase to 16% during any period of default. Principal is due 120 days following the termination of the agreement or merger with Sun. All of the Company's notes receivable and advances to affiliated entities issued during fiscal year 1996 were paid in full during 1997, including interest on the notes receivable at a rate of 12% per annum. Affiliated entities that received notes receivable and advances during 1996 were Gordon Jensen Health Care Association, Inc. ("Gordon Jensen"), Winter Haven Homes, Inc. ("Winter Haven"), Southeastern Cottages, Inc. ("SCI"), National Assistance Bureau, Inc. ("NAB"), Chamber Health Care Society, Inc. ("Chamber") and Senior Care, Inc. ("Senior Care"), all of which are owned or controlled by officers and directors of the Company or family members of such officers and directors, and Sea Breeze Health Care Center ("Sea Breeze"), a wholly-owned subsidiary of the Company. Further, the affiliated entities overpaid such notes receivable and advances during the fiscal year ended June 30, 1997 by $66,989, which includes the payment of interest on the notes receivable at a rate of 12% per annum. The Company used such overpayment to fund additional advances to such entities. For the fiscal year ended June 30, 1997, the Company advanced a total $143,876 to affiliated entities while recognizing management fee revenue of $2,212,500 for the same period. Management fee revenue recognized by the Company from affiliated entities is decreasing as the Company purchases or leases facilities from affiliated entities, thereby decreasing the number of affiliated facilities managed by the Company. At June 30, 1996, the Company had a deficit of $1,496,160 in working capital compared to a surplus of $2,925,302 at June 30, 1995. -36- 11 During the year ended June 30, 1996, cash provided by operating activities was $5,549,626 as compared to $4,208,048 for the year ended June 30, 1995. The $1,341,578 increase was primarily due to net income of $1,746,808 for the year ended June 30, 1996, depreciation and amortization of $3,406,986 on the facilities, provisions for bad debts of $3,423,117 on accounts receivable and increases in accounts payable and accrued expenses of $9,964,620 due to the addition of twenty eight facilities for the year ended June 30, 1996. Cash used in operating activities was primarily due to the increase in accounts receivable of $10,672,485 due to the addition of twenty eight facilities for the year ended June 30, 1996 and increases in inventories of $2,245,194 on the nursing facilities and Contour Medical Supply, Inc. Cash used in investing activities during the year ended June 30, 1996, was $44,981,326. The expenditures primarily related to purchases of property and equipment of $12,490,298 and acquisitions of facilities of $21,938,513. On December 15, 1995, the Company obtained both a sole general and a limited partnership interest, totaling 74.25% interest, in Encore Partners, L.P. in exchange for a capital contribution to Encore of $3.5 million. Encore owns three assisted living/independent living and two long-term care facilities. The acquisition was accounted under the purchase method of accounting. Profits and losses of Encore are allocated 74.25% to the Company and 25.75% to other partners. Available cash, if any, is distributed 74.25% to the Company and 25.75% to the other partners. On February 27, 1996, the Company purchased a thirty six unit assisted living/independent living facility from individuals who are officers and directors of the Company. The purchase price was $2,000,000 and was financed with a $1,600,000 mortgage loan from an unrelated third-party real estate investment trust and $400,000 from the Company, which offset an advance to the facility of $278,119 from the Company and created an advance from the facility of $121,881 to the Company. The advance was repaid by the Company during fiscal year 1997. During the fiscal year ended June 30, 1996, the Company issued notes receivable and advances in the aggregate amount of $8,935,677 to Gordon Jensen, Winter Haven, SCI, NAB, Chamber, Senior Care and Sea Breeze, while recognizing management fee revenue of $3,472,900 during the same period. These affiliated entities overpaid such notes receivable and advances during the 1997 fiscal year by $66,989, which includes the payment of interest on the notes receivable at a rate of 12% per annum. The Company has used such overpayment to fund additional advances to such entities. The Company's management fee revenue from affiliated entities is decreasing as the Company purchases or leases facilities from the affiliated entities, thereby decreasing the number of affiliated facilities managed by the Company. Gordon Jensen owned one facility, Magnolia Manor, which was constructed and opened in fiscal year 1995 and required construction funding and start-up working capital during fiscal year 1996. This facility's financial condition has improved as resident census has increased. The facility might, however, require additional advances until a stable occupancy level is achieved. Winter Haven owned two facilities which required significant advances to fund working capital and capital improvements during fiscal year 1996. In addition, Renaissance of Titusville, a partnership of which Winter Haven is the sole general partner, required advances during 1996 to fund construction of forty additional units. Renaissance of Titusville has performed poorly historically because of the need for additional units to offset overhead expenses. SCI and NAB each required advances during fiscal year 1996 to fund working capital and capital improvements at Summer's Landing -- Vidalia, SCI's only facility, and Summer's Landing -- Lynn Haven, NAB's only facility. Both of the facilities have historically operated poorly financially due to poor residence census at such facilities. Chamber constructed Parkway Health Care Center, a 120-bed long-term care facility, in 1996, and the Company advanced funds to Chamber for construction, preliminary staffing and planning at the Parkway facility. After Parkway's opening in September 1996, the facility also required additional advances to fund start-up operations. The Company made advances of approximately $80,000 to Senior Care during fiscal year 1996 after the Company's acquisition of the Deerfield Nursing Facility. Senior Care used such advances to satisfy its accounts payable. The Company's Board of Directors believed that such advances were necessary to avoid the possibility of any claims against the Company or its assets by Senior Care's former vendors and suppliers solely by virtue of the Company's succession to the Deerfield Nursing Facility. Any actions involving the Company or its assets could be distracting to management and cause the Company to expend resources in frivolous litigation. The Company purchased Sea Breeze with a low census caused by state imposed sanctions created by quality-of-care issues that arose under its former operators. Sea Breeze, therefore, required significant working capital and capital improvements during fiscal year 1996 to cure such sanctions and allow the admission of new residents. Sea Breeze's financial condition has improved gradually and admissions have increased, but Sea Breeze may require additional working capital until a stable occupancy level is reached. The Company's management fee revenue from its affiliated entities totalled $2,212,500 and $3,472,900 for fiscal years 1997 and 1996, respectively. -37- 12 The Company funded an additional $4,720,047 in restricted bond funds used for debt service reserve requirements, semi-annual principal and interest payments and project funds for facilities under construction or renovation. Cash provided by investment activities was primarily the repayment of a $2,200,000 note receivable from an unrelated third-party. The Company issues advances and notes receivable to affiliated companies controlled by Messrs. Brogdon and Lane to finance working capital deficits and capital expenditures of facilities which are managed by the Company. In the opinion of the Company's Board of Directors, these advances represent a good use of the Company's funds because they enable such affiliated companies to develop their properties, increase census revenue and increase the fair market value of the facilities, which gives the Company greater assurances that the facilities will continue to pay management fees to the Company. Further, as census revenues increase, management fees payable to the Company will likewise increase. In addition, as properties mature and develop, they may be acquired by the Company with a portion of the purchase price payable through the cancellation of advances and notes receivable due the Company. Cash provided by financing activities during the year ended June 30, 1996, totaled $34,269,880. Sources of cash included proceeds of $9,300,000 from the issuance of 1,000,000 shares of $10.00 Series E Convertible Preferred Stock which were sold in an offering to foreign investors in April, 1996. Holders of the Series E Preferred Stock have no voting rights except as required by law, and have a liquidation preference of $10.00 per share plus 4% per annum from the date of issuance. The shares of Series E Preferred Stock are convertible into shares of common stock at a conversion price of $11.55 or 85% of the average closing bid price for the five trading days prior to the date of conversion, whichever is lower (but no lower than $5.00). At the time of conversion, the holder is also entitled to additional shares equal to $10.00 per share of Series E Preferred Stock multiplied by 8% annum from the date of issuance divided by the applicable conversion price. Sources of cash also included proceeds from stock options and warrants exercised of $559,593, and proceeds from long-term debt and lines of credit of $35,329,244. The Company's net borrowing from lines of credit was $3,556,535, with interest rates ranging from prime plus .25% to prime plus 1.25%. Available borrowings at June 30, 1996 was $5,075,000. The Company incurred long-term debt of approximately $31 million, due through 2025, with interest rates ranging from 6.75% to 11.28%. In connection with bond indentures, the Company is required to meet certain covenants, including monthly sinking fund deposits, adequate balances in debt service reserve funds, timely payment of tax obligations and adequate insurance coverage. At June 30, 1996, the Company was in violation of several of these covenants creating a technical default on approximately $14 million of bond indentures. These violations included the failure to make monthly payments to the bond sinking funds for certain of these facilities and inadequate debt service reserves for certain of these facilities. The Company is also delinquent with regard to approximately $800,000 of property taxes at several facilities. The trustees have not called the bonds in the past for these violations and management does not foresee the bonds being called at this time. All semi-annual interest and principal payments have been made in a timely fashion. Cash used in financing activities primarily consisted of $9,443,626 in payments of long-term debt, $600,000 in redemption of Series AA Preferred Stock, $274,040 in purchases of treasury stock, and $270,000 for dividends on preferred stock. During the year ended June 30, 1995, cash provided by operating activities -38- 13 was $4,208,048 as compared to $1,523,311 for the year ended June 30, 1994. The $2,684,737 increase was primarily due to the increased net income for the year ended June 30, 1995. Cash used in investing activities during the year ended June 30, 1995, was $(10,644,726). The expenditures primarily related to purchases of property and equipment of $6,079,610, purchases of bonds receivable of $4,487,936, increases in investments and advances to The Atrium Ltd. of $2,985,833 and advances to affiliates of $1,742,147 due to capital expenditures and working capital deficits of the affiliates. These were partially offset by the proceeds from a sale-leaseback transaction of $4,500,000. At June 30, 1995, advances to affiliates had increased to $7,328,222 from $5,605,250 at June 30, 1994, due to additional capital expenditures and working capital deficits of the affiliates. Cash provided by financing activities during the year ended June 30, 1995, totalled $10,683,801. Sources of cash included capital investment by minority shareholders of a subsidiary of $1,729,469, net borrowings under lines of credit of $1,745,316 and proceeds from long-term debt of $9,564,670. Cash used in financing activities primarily consisted of $2,130,654 in payments of long-term debt and $225,000 for dividends on preferred stock. Management's objective is to acquire only those facilities it believes will be able to generate sufficient revenue to pay all operating costs, management fees, lease payments or debt service, and still return a 3% to 4% cash flow. Management believes that the Company's cash flow from operations, together with lines of credit and the sale of securities described below, will be sufficient to meet the Company's liquidity needs for the current year. The Company maintains various lines of credit with interest rates ranging from prime plus .25% to prime plus 1.25%. At June 30, 1997, the Company had approximately $4,115,000 in unused credit available under such lines. On September 30, 1994, the Company purchased a majority of the stock of Contour Medical, Inc. in exchange for shares of the Company's common stock and preferred stock. The Company is obligated to redeem the preferred stock issued in the transaction over the five years for $3,000,000 in cash. $600,000 was paid on September 30, 1996 pursuant to this obligation. Management intends to fund these redemptions from cash flow generated from operations. In the event the merger with Sun does not take place, management's plans include a complete reorganization of operations of the Company and Contour. With respect to the Company, this reorganization plan would include new personnel to implement increased census and develop and implement ancillary businesses (e.g., pharmacy and therapy). A comprehensive plan is being developed to implement these changes, if necessary. The personnel for this plan have been identified and could be immediately available. The funds needed to implement this plan would be provided from a new line of credit, sale and lease-back transactions for certain identified properties of the Company, as well as refinancing of other of the Company's targeted facilities. The Company believes that its long-term liquidity needs will generally be met by income from operations. If necessary, the Company believes that it can obtain an extension of its current line of credit and/or other lines of credit from commercial sources. Except as described above, the Company is not aware of any trends, demands, commitments or understandings that would impact its liquidity. The Company intends to use long-term debt financing in connection with the purchase of additional assisted living/independent living and long-term care facilities on terms which can be paid out of the cash flow generated by the property. -39- 14 The Company intends to continue to lease or purchase additional retirement care and/or nursing home facilities in the future. IMPACT OF INFLATION AND PENDING FEDERAL HEALTH CARE LEGISLATION Management does not expect inflation to have a material impact on the Company's revenues or income in the foreseeable future so long as inflation remains below the 9% level. The Company's business is labor intensive and wages and other labor costs are sensitive to inflation. Management believes that any increases in labor costs in its management services segment can be offset over the long term by increasing the management fees. With respect to the operations segment, approximately 52% of the Company's net patient service revenue is received from state Medicaid programs. The two states which make Medicaid payments to the Company have inflation factors built into the rates which they will pay. Georgia's inflation factor is nine percent and Tennessee's inflation is eleven percent. Therefore, increases in operating costs due to inflation should be covered by increased Medicaid reimbursements. Management is uncertain what the final impact will be of pending federal health care reform packages since the legislation has not been finalized. However, based on information which has been released to the public thus far, Management doesn't believe that there will be cuts in reimbursements paid to nursing homes. Legislative and regulatory action, at the state and federal level, has resulted in continuing changes in the Medicare and Medicaid reimbursement programs. The changes have limited payment increases under these programs. Also, the timing of payments made under the Medicare and Medicaid programs are subject to regulatory action and governmental budgetary constraints. Within the statutory framework of the Medicare and Medicaid programs, there are substantial areas subject to administrative rulings and interpretations which may further affect payments made under these programs. Further, the federal and state governments may reduce the funds available under those programs in the future or require more stringent utilization and quality review of health care facilities. ACCOUNTING PRONOUNCEMENT The Financial Accounting Standard Board has adopted Statement of Financial Accounting Standards No. 115, "Accounting for Certain Investments in Debt and Equity Securities" (SFAS No. 115). The Company has adopted this standard in fiscal 1995. In management's opinion, adopting SFAS No. 115 did not materially affect the Company's financial statements for the year ended June 30, 1995. -40- 15 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) 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. RETIREMENT CARE ASSOCIATES, INC. Dated: May 21, 1998 By: /s/ Darrell C. Tucker --------------------------------- Darrell C. Tucker, Treasurer -----END PRIVACY-ENHANCED MESSAGE-----