-----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, STiNPL8tNuG7/k7xxa7lvZnHHr1ztWcW1UBHVyHSEAJRMj4giFW1bWzDq9pq6snJ ESGNC9UAsaZqmaWFIsvWdA== /in/edgar/work/20000825/0000950148-00-001892/0000950148-00-001892.txt : 20000922 0000950148-00-001892.hdr.sgml : 20000922 ACCESSION NUMBER: 0000950148-00-001892 CONFORMED SUBMISSION TYPE: 10-K/A PUBLIC DOCUMENT COUNT: 3 CONFORMED PERIOD OF REPORT: 19991231 FILED AS OF DATE: 20000825 FILER: COMPANY DATA: COMPANY CONFORMED NAME: VETERINARY CENTERS OF AMERICA INC CENTRAL INDEX KEY: 0000817366 STANDARD INDUSTRIAL CLASSIFICATION: [0700 ] IRS NUMBER: 954097995 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K/A SEC ACT: SEC FILE NUMBER: 000-19935 FILM NUMBER: 710095 BUSINESS ADDRESS: STREET 1: 12401 WEST OLYMPIC BOULEVARD CITY: LOS ANGELES STATE: CA ZIP: 90064-1022 BUSINESS PHONE: 310-584-6500 MAIL ADDRESS: STREET 1: 12401 WEST OLYMPIC BOULEVARD CITY: LOS ANGELES STATE: CA ZIP: 90064-1022 10-K/A 1 e10-ka.txt FORM 10-K, AMENDMENT #3 1 ================================================================================ UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-K/A AMENDMENT NO. 3 [X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the fiscal year ended December 31, 1999 [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 Commission file number 1-10787 VETERINARY CENTERS OF AMERICA, INC. (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER) DELAWARE 95-4097995 (State or other jurisdiction of (I.R.S. Employer Identification No.) incorporation or organization) 12401 WEST OLYMPIC BOULEVARD LOS ANGELES, CALIFORNIA 90064-1022 (Address of principal executive offices and zip code) (310) 584-6500 (Registrant's telephone number, including area code) SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT: NONE SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT: Common stock, $.001 par value Preferred Stock Purchase Rights 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 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. [ ] At August 9, 2000, there were outstanding 15,875,646 shares of the Common Stock of Registrant and the aggregate market value of the shares held on that date by non-affiliates of Registrant, based on the closing price ($14.25 per share) of the Registrant's Common Stock on the NASDAQ National Market, was $226,227,956. For purposes of this computation, it has been assumed that the shares beneficially held by directors and officers of Registrant were "held by affiliates"; this assumption is not to be deemed to be an admission by such persons that they are affiliates of Registrant. DOCUMENTS INCORPORATED BY REFERENCE NONE 2 PART I ITEM 1. BUSINESS GENERAL Veterinary Centers of America, Inc. and subsidiaries ("VCA" or the "Company") was founded in 1986 and is a leading animal health care company. The Company has established a premier position in two core businesses, animal hospitals ("Animal Hospitals") and veterinary diagnostic laboratories ("Laboratories"). In addition, the Company owns a partnership interest in a joint venture, Vet's Choice, with Heinz Pet Products ("HPP"), which markets and distributes premium pet foods. The Company operates the largest network of free-standing, full-service animal hospitals in the country and the largest network of veterinary-exclusive laboratories in the nation. The Company's animal hospitals offer a full range of general medical and surgical services for companion animals, including dogs, cats, birds and other household pets. In addition to treating disease and injury, the Company's animal hospitals emphasize pet wellness and offer programs to encourage routine vaccinations, health examinations, spaying, neutering and dental care. The Company's veterinary laboratories offer a full range of diagnostic and reference tests. Laboratory tests are used by veterinarians to diagnose, monitor and treat diseases through the detection of substances in blood, urine or tissue samples and other specimens. The Company does not conduct experiments on animals and is not engaged in animal research. THE ANIMAL HEALTH CARE INDUSTRY The animal hospital and veterinary laboratory markets in which the Company operates had total domestic revenues in 1996 of approximately $11 billion. The Company's two market segments, Animal Hospitals and Laboratories, represented approximately 70% and 30%, respectively, of the Company's revenues for the year ended December 31, 1999. ANIMAL HOSPITALS Veterinarians diagnose and treat animal illnesses and injuries, perform surgeries, provide routine medical exams, and prescribe medication. Some veterinarians specialize by type of medicine, such as orthopedics, dentistry, ophthalmology or dermatology, and by type of animal. The United States market for veterinary services is highly fragmented with approximately 124 million dogs, cats and birds cared for by an estimated 55,000 veterinarians practicing at 16,000 animal hospitals. These animal hospitals are primarily single site, sole practitioner facilities. The Company believes that the principal factors in a pet owner's decision as to which veterinarian to use include convenient location, recommendation of friends, reasonable fees and convenient hours. The animal hospital industry is consolidating. Factors contributing to this trend include: (i) the desire of some owners of animal hospitals to diversify their investment portfolio by selling all or a portion of their investment in the animal hospital; (ii) the buying, marketing and administrative cost advantages which can be realized by a large, multiple location, multi-practitioner veterinary provider; (iii) the desire of veterinarians to practice veterinary medicine rather than spend a large portion of their working time performing administrative tasks necessary to operate an animal hospital; (iv) the cost of financing equipment purchases and upgrading technology necessary for a successful practice; and (v) the desire of many veterinarians for more flexible work hours and benefits than are typically available to a sole practitioner or single site provider. VETERINARY DIAGNOSTIC LABORATORIES Given the inability of the patient to communicate verbally with the doctor, laboratory testing is an important part of the diagnostic process in veterinary medicine. Clinical laboratory tests are used by veterinarians to diagnose, monitor and treat diseases through the detection of substances in blood, urine or tissue samples and other specimens. 2 3 Veterinary laboratory tests are performed primarily at the animal hospital, using on-site diagnostic equipment or at outside veterinary diagnostic laboratories. On-site diagnostic equipment is sold by a number of manufacturers. For many types of tests, on-site diagnostic equipment can provide more timely results than outside laboratories but requires the animal hospital or veterinarian to purchase the equipment and provide trained personnel to operate it. Veterinary diagnostic laboratories, such as those operated by the Company, can provide a wider range of tests than are generally available on-site at most animal hospitals and do not require any up-front investment on the part of the animal hospital or veterinarian. Also, the Company's laboratories are staffed by highly trained individuals who specialize in the detection and diagnosis of diseases. Veterinary laboratory services are also available through universities and several national laboratory companies. The veterinary laboratory industry is highly fragmented and is primarily characterized by local and regional competitors. The Company believes that veterinarians usually prefer to use laboratories that specialize in the veterinary market and that offer access to professional consultation services, rapid test reporting, response to inquiries by veterinary professionals, a broad spectrum of tests, convenient sample pick-up times and customized testing services. Achieving rapid sample pick-up, diagnostics and reporting at competitive prices is benefited by high throughput volumes. The Company believes that the industry will continue to consolidate as participants seek to gain a cost advantage. BUSINESS STRATEGY The Company's goal is to strengthen its position as a leading animal health care company serving the animal hospital and veterinary diagnostic laboratory markets. The Company intends to achieve this goal by continuing to: (i) expand its Animal Hospitals and Laboratories businesses through internal growth and acquisitions; (ii) achieve cost savings by consolidating operations and realizing economies of scale in marketing, purchasing and administrative support functions, and by implementing the Company's standard management programs; (iii) establish brand identification with the VCA name through signage, marketing and association with its pet healthcare publication, VCA Family Pet(TM); (iv) take advantage of its unique opportunity to deliver its products and services through multiple channels to its customers, primarily veterinarians and pet owners; and (v) capitalize on its leadership position within the animal health care industry to expand into other products and services for veterinarians and pet owners. EXPAND THROUGH ACQUISITIONS IN NEW AND EXISTING MARKETS Since 1986 the Company has expanded rapidly from a single animal hospital in Los Angeles to a nationwide network of 197 animal hospitals in 29 states at March 15, 2000. As a result of these acquisitions and their successful integration into the Company's operations, the Company has gained a leadership position in the animal hospital industry, allowing it to expand into the veterinary diagnostics laboratory business. Since March 1994 the Company has acquired the businesses of 18 veterinary diagnostic laboratories, which have been consolidated into 13 facilities, making it the nation's largest network of veterinary-exclusive diagnostic laboratories serving over 13,000 animal hospitals located in all 50 states. The Company plans to continue its aggressive hospital acquisition program. The Company will also consider acquiring multiple hospital organizations and veterinary diagnostic laboratories, as opportunities arise. CONSOLIDATE AND STANDARDIZE OPERATIONS TO ENHANCE PROFITABILITY Upon the acquisition of an animal hospital or veterinary diagnostic laboratory, the Company immediately implements management programs to enhance the productivity of veterinarians and to improve operating results. The Company's business model enables it to realize improved operating margins at its animal hospitals and veterinary diagnostic laboratories through a strategy of centralizing various corporate and administrative functions and leveraging fixed costs while providing its customers with improved services. This model includes the following objectives: 3 4 - PROVIDE MARKETING MATERIALS - The Company seeks to market additional services to clients at its animal hospitals by providing marketing and educational materials promoting pet health and quality pet care programs to its animal hospitals. - CENTRALIZE ADMINISTRATIVE FUNCTIONS - The Company centralizes most administrative functions at its corporate office, including: purchasing, accounting, payroll, data processing, personnel, accounts payable, information services, marketing, budgeting and other administrative functions. - CONSOLIDATE PURCHASING - The Company seeks advantageous circumstances where it can purchase supplies on a consolidated basis in order to negotiate better prices and terms from vendors. - STANDARDIZE TRAINING PROCEDURES - The Company implements standardized training procedures for its administrators and professional personnel. These programs are developed in conjunction with the Medical Advisory Board and Client Services Advisory Board, two entities which are staffed by Company personnel to recommend medical standards and to establish service and training standards for local animal hospitals and laboratories. INTERNAL REVENUE GROWTH The Company also seeks to expand through internal growth. To achieve growth, the Company: (i) increases veterinarian productivity by freeing the veterinarian from administrative tasks, providing state-of-the-art equipment and technical support; (ii) expands the services and operating hours of certain of its facilities in selected markets; (iii) provides its facilities with client education and marketing materials promoting pet health and quality pet health care programs; (iv) provides its facilities with access to medical specialists; (v) adds VCA's name to the acquired facilities to enhance customer awareness; (vi) implements sales programs to attract new customers; and (vii) publishes and distributes to over 800,000 of its clients a pet care magazine, VCA Family Pet(TM), which builds brand loyalty, educates consumers on the value of preventive pet health care and promotes utilization of the Company's animal hospitals. By implementing these strategies, VCA seeks to become the most convenient and most recognized provider of veterinary services in its markets. UPGRADE AND EXPAND FACILITIES The Company seeks to enhance client satisfaction by providing a pleasant, attractive and state-of-the-art hospital environment. The Company continually evaluates its facilities and seeks opportunities to upgrade or expand its animal hospitals in order to increase capacity, improve visibility and/or enhance its attractiveness. The Company is currently rebuilding or performing an extensive remodeling of 13 of its hospitals for a total projected cost of approximately $10.8 million. CONTINUE TO CAPITALIZE ON EXISTING RELATIONSHIPS TO LEVERAGE LINES OF BUSINESS The Company believes that its two lines of business -- Animal Hospitals and Laboratories -- are complementary. As a result of the Company's national presence and name recognition throughout the veterinary services industry, the Company believes it is building a reputation of professional integrity and trust among veterinary professionals and brand identification among pet owners. The Company's strategy is to leverage this professional reputation and leadership position to expand its operations, both in other geographic areas and related products and services. The Company uses its relationships, as well as its national presence and name recognition in one line of business, to facilitate growth in other lines. Often, new business opportunities arise in one line of business from contacts made in connection with and relations developed through the Company's other lines of business. For example, animal hospital acquisitions may be developed through contacts initially established in the Company's laboratory business. 4 5 ACQUISITION STRATEGY ANIMAL HOSPITALS The Company seeks to enter a new geographic market through the acquisition of one or more relatively large, high quality animal hospitals. It has been the Company's experience that this initial acquisition in a new market requires substantially more time to identify, negotiate and consummate than additional acquisitions in the same market. Following this initial acquisition, the Company seeks to increase its presence in such market as opportunities arise. The Company identifies potential candidates for acquisition through its reputation in the professional community, direct contacts, finder relationships and advertisements. The Company believes that acquisition opportunities will continue to increase as it expands the geographic scope of its operations and the products and services it offers to the animal health care community. The typical acquisition candidate targeted by the Company is located in a 4,000-6,000 square foot, free-standing facility, has annual revenues of between $1 million and $2 million per year, employs two to six veterinarians, has an operating history of at least five years, and has achieved positive cash flow, at an attractive location, with an established reputation in the community. VETERINARY DIAGNOSTIC LABORATORIES The Company intends to expand its nationwide network of veterinary-exclusive diagnostic laboratories through internal growth and selective acquisitions. The Company seeks acquisition opportunities in the veterinary diagnostics laboratory industry that will complement its existing business or will expand the geographic area that it services. Although the Company continues to evaluate laboratory acquisition opportunities, the Company anticipates that the pace of laboratory acquisitions will slow down in future periods when compared to historical activity. By obtaining additional testing volume for the laboratories and spreading fixed costs over a larger revenue base, the unit costs of providing laboratory services to clients should decline, producing improved operating margins. As a result of these economies of scale, the Company believes it is competitively positioned to continue to service its customers. ACQUISITION CONSIDERATION Historically, consideration for acquisitions has consisted of a combination of cash, the assumption of liabilities, promissory notes and VCA common stock. The Company typically executes non-competition and employment agreements with the selling owners. There can be no assurance, however, that the Company will be able to identify and acquire animal hospitals or veterinary diagnostic laboratories on terms favorable to the Company in the future, or in a timely manner, or successfully integrate the acquisitions into the operations of VCA. See further discussion in "Risk Factors" in "Item 7 -- Management's Discussion and Analysis of Financial Condition and Results of Operations." 5 6 OPERATIONS AND MARKETING ANIMAL HOSPITALS The Company operates the largest network of free-standing, full-service animal hospitals in the United States. At December 31, 1999, the Company operated 194 animal hospitals. From January 1, 2000 through March 15, 2000, the Company acquired six animal hospitals (two of which were merged into existing VCA facilities upon acquisition) and closed three animal hospitals. At March 15, 2000, the Company operated 197 animal hospitals in 29 states, as detailed in the following tables:
Western States Central States Eastern States ------------------- ------------------ ------------------------ Alaska 4 Illinois 15 Alabama 1 Arizona 1 Indiana 7 Connecticut 2 California 40 Michigan 12 Delaware 3 Colorado 2 Missouri 1 Florida 18 Hawaii 1 Nebraska 1 Georgia 1 Nevada 6 Ohio 5 Maryland 8 New Mexico 3 Massachusetts 8 Texas 9 New Jersey 9 Utah 2 New York 19 North Carolina 2 Pennsylvania 10 South Carolina 1 Virginia 5 West Virginia 1 --- --- --- Totals 68 41 88 === === ===
The Company's animal hospitals offer a full range of general medical and surgical services for companion animals, including: dogs, cats, birds and other household pets. In addition to treating disease and injury, animal hospitals emphasize pet wellness through pet health education and preventative care. The Company's animal hospital programs encourage routine vaccinations, health examinations, spaying, neutering and dental care. The Company also publishes and mails to its client base a magazine promoting the benefits of preventative pet health care. The Company offers specialized treatment, including: advanced diagnostic services, internal medicine, surgery, oncology, ophthalmology, dermatology and cardiology. Additional services provided by the Company at certain locations include grooming, bathing and boarding. The Company also sells specialty pet products at its hospitals, including: pet food, a full range of pharmaceuticals, vitamins, therapeutic shampoos and conditioners, flea collars and sprays, and other accessory products. The Company's facilities are open an average of 10 to 15 hours per day, six to seven days per week. Several of its facilities provide 24-hour emergency care service. The Company seeks to provide a broad range of uniform quality veterinary services. The Company actively recruits highly qualified veterinarians and technicians and is committed to supporting continuing professional education for its professional and lay staff. The Company operates post-graduate teaching programs for veterinarians at seven of its facilities, which trains approximately 40 doctors per year. The Company believes that these programs enhance its reputation in the veterinary profession and provide it with access to qualified recruits among graduating classes of veterinarians. The Company believes it is an employer of choice for veterinarians because it offers an increased patient flow and a diverse case mix, employee benefits not generally available to a sole practitioner, continuing education, management opportunities, scheduling flexibility to accommodate personal lifestyles and the ability to relocate to different regions of the country. VCA has established a Medical Advisory Board to support its operations. The Medical Advisory Board's function, under the direction of the Company's Chief Medical Officer, is to recommend medical standards for local animal hospitals. The committee is comprised of leading veterinarians representing different geographic regions and medical specialties served by the Company. Currently, four members of the Medical Advisory Board are esteemed faculty members at leading veterinary colleges in the U.S. They serve as medical consultants to VCA. 6 7 The Company seeks to provide state-of-the-art medical care in a clean, attractive environment, by renovating facilities and upgrading its equipment on a periodic basis. A broad range of services are available at the Company's facilities. The Company provides, at some of its locations, board certified or board eligible veterinarians in such specialized fields as internal medicine, surgery, oncology, ophthalmology, dermatology, orthopedics and cardiology. The Company's animal hospitals generally require a staff of between 10 to 60 full-time equivalent employees, depending upon the facility's size and customer base. The staff includes administrative and technical support personnel, two or more veterinarians, an office manager, who supervises the day-to-day activities of the facility, and a small office staff. The Company employs a relatively small corporate staff to provide centralized administrative services to all of its animal hospitals and laboratories. Financial control is maintained through uniform fiscal and accounting policies, which are established at the corporate level for use by operations. Financial information is centralized through a computerized data collection and processing system at the corporate level. Use of veterinary services has traditionally been seasonal. In addition, use of veterinary services may be affected by weather conditions, levels of infestation of fleas, heartworms and ticks, the number of daylight hours and general economic conditions. The seasonality of the use of veterinary services may cause operating results to vary significantly from quarter to quarter. Historically, demand for the Company's services has been greater in the second and third quarters than in the first and fourth quarters. The Company's internal marketing programs rely heavily on its existing client base in order to increase the frequency and intensity of the services used by its clients. Reminder notices are used to increase awareness among the Company's customers of the advantages of regular, comprehensive veterinary medical care, including preventive care such as vaccinations, dental screening and geriatric care. The Company seeks to obtain referrals from veterinarians by promoting its specialized diagnostic and treatment capabilities to veterinarians and veterinary practices which cannot offer their clients such services. As the number of hospitals in a single regional network grows, media advertising of the Company's services will become increasingly cost effective. The Company believes that an effective media advertising program will allow the Company to establish brand identification as well as expand the revenues derived from the sale of new and existing services and products. The Company believes such programs, services and products may increase the opportunities to expand the Company's market share in the regional markets for veterinary services in which it competes. The Company provides management services to certain professional corporations ("PCs") in states with laws that prohibit veterinarians from splitting fees with non-veterinarians and prohibit business corporations from providing veterinary services through the direct employment of veterinarians. As of March 15, 2000, the Company has established operations in seven of such states and believes these operations comply in all material respects with applicable laws. In these states, the Company has long-term management agreements ("Management Agreements") with PCs, ranging from 10 to 40 years with non-binding renewal options available. The PCs are owned by veterinarians who provide veterinary medical services at the animal hospitals located in their particular state. Pursuant to the Management Agreements, the PCs are each solely responsible for all aspects of the practice of veterinary medicine, as defined by their respective state. The Company is responsible for providing the following: (i) day-to-day financial and administrative supervision and management; (ii) non-veterinarian personnel needed to operate and support the animal hospital; (iii) maintenance of patient records; (iv) recruitment of veterinary staff; (v) marketing; and (vi) malpractice and general insurance. As compensation for these services, the Company receives management fees, which are included in revenues. The amount of such fees are not specifically defined in the Management Agreements. In most instances, the PCs receive a salary for its services, and the Company enjoys the risks and rewards related to the overall profitability of the animal hospital. 7 8 VETERINARY DIAGNOSTIC LABORATORIES The Company operates the largest network of veterinary-exclusive diagnostic laboratories in the United States, servicing over 13,000 animal hospitals located in all 50 states. The Company operates 13 full-service laboratories located in Irvine, California; Chicago, Illinois; Phoenix, Arizona; Farmingdale, New York; Dallas and Houston, Texas; Tampa, Florida; Portland, Oregon; San Jose, California; Atlanta, Georgia; Honolulu, Hawaii; Memphis, Tennessee; and Denver, Colorado. The Company regularly performs numerous types of diagnostic laboratory tests, including chemistry, hematology, cytology, anatomical pathology as well as other disease-specific tests. Clinical tests are performed on animal fluids such as blood or urine and provide information that is used by veterinarians for medical diagnosis. The Company does not conduct experiments on animals and is not engaged in animal research. The Company performs most of its clinical tests with state-of-the-art automated laboratory testing equipment. The first step in the testing process is for a veterinarian to take a specimen from the patient and complete a test request form indicating the tests to be performed on that specimen. The specimen is then picked up by the laboratory's driver or by a commercial courier service and delivered to one of the Company's laboratories for testing. When received at the laboratory, each specimen and related request form is checked for accuracy and completeness and then given a unique identification number to ensure that the results are attributed to the appropriate animal. The test request information is entered into the laboratory's computer system, where a file of testing and billing information is established for each specimen. Once this information is entered, the tests are performed by one of the laboratory technicians or by utilizing the Company's automated testing equipment. Test results are entered into the computer system through a computer interface or, in some instances, manually, depending upon the test and the type of equipment used to conduct the test. Most routine testing is performed at night and the test results are automatically transmitted via fax machine to the veterinarian before the start of business the next morning. In addition to diagnostic laboratory testing, the Company provides a variety of laboratory services to its veterinarian clients which the Company believes enhances its competitive position. Laboratory services include: - SPECIMEN TRANSPORTATION - The Company has developed an extensive network of drivers and independent couriers which enables the Company to provide timely pickup and delivery of specimens to its laboratories. Specimens are picked up from clients and transported to the Company's laboratory facilities on a daily basis, and in some areas, twice each day. Animal hospital clients located outside the areas serviced by the Company's pickup and delivery network are serviced using the Company's Test Express service whereby specimens are sent via Federal Express to the Company's Memphis, Tennessee laboratory. - RESULTS REPORTING - Rapid turn-around of test results is critical to the successful operation of a clinical laboratory. Usually, routine testing is performed overnight and results are transferred to the veterinarian by fax machine before 8:00 a.m. the following day. - STAT RESULTS REPORTING - The Company performs certain routine tests quickly and reports results to veterinarians within hours of being picked up from the veterinarian. The turn-around time for such STAT reporting is generally three hours or less. The laboratories that provide STAT reporting are located in geographic areas where there is a high concentration of veterinarians and an airline hub operation. The Company may establish or close laboratories with STAT reporting capabilities depending upon the volume of tests performed and the needs of its veterinarian clients. - CLIENT SERVICE - Veterinarians are not obligated to use the services of any particular laboratory and can change their laboratory service provider at any time. Therefore, the timeliness and quality of services offered by a laboratory are critical to client satisfaction and retention. In addition to emphasizing client service through rapid turnaround time and electronic reporting, the Company has veterinarian specialists on staff to assist the veterinarians in interpreting the lab's results and diagnosing or treating 8 9 diseases. Accordingly, the laboratories' professional staff include board certified specialists in pathology, internal medicine, oncology, cardiology, dermatology, neurology and endocrinology. - QUALITY ASSURANCE - The Company has quality assurance programs intended to: (i) ensure that specimens are collected and transported properly; (ii) tests are performed accurately; and (iii) client, patient and test information is reported and billed correctly. The quality assurance programs include quality control testing of specimens of known concentration or reactivity in order to ensure accuracy and precision, routine checks and preventive maintenance of laboratory testing equipment, and personnel standards which ensure that only qualified personnel perform testing. The Company has 31 full-time sales and field service representatives who market laboratory services and maintain relationships with existing customers. The Company supports its marketing efforts by developing marketing literature, attending trade shows, involving itself in trade associations and providing educational services, among other activities. FEES AND SOURCES OF PAYMENT The Company's fees for provision of veterinary and laboratory services vary upon the complexity of the required procedure, the relative involvement of the applicable professionals and local market conditions. The Company does not incur a significant amount of accounts receivable for the provision of veterinary services since payment for these services is generally received at the time services are provided. The Company offers its laboratory services on customary commercial terms, requiring payment within 30 days of the date the service is performed. The Company is not dependent upon third-party payors for collection of its fees. SYSTEMS The Company realized the importance of hospital management information systems in the past and thus has made a significant investment in these systems. Substantially all of the Company's animal hospitals utilize consistent patient accounting/point-of-sale software. All of the Company's financial and customer records and laboratory results are stored in computer databases, most of which may be accessed by the Company's management. The Company intends to further upgrade and integrate its hospital management information system creating a data warehouse. When completed, the Company believes that this enhanced management information system will allow for further cost savings and provide management with a powerful tool in implementing its marketing and operating strategies. COMPETITION The companion animal health care industry is highly competitive and subject to continual change in the manner in which services are delivered and providers are selected. The Company believes that the primary competitive factors in connection with animal hospitals are convenient location, recommendation of friends, reasonable fees, quality of care and convenient hours. The Company's primary competitors for its animal hospitals in most markets are individual practitioners or small, regional multi-clinic practices. In addition, certain national companies in the pet care industry, including the operators of super-stores, are developing multi-regional networks of animal hospitals in markets which include the Company's animal hospitals. Among veterinary diagnostic laboratories, the Company believes that quality, price and the time required to report results are the major competitive factors. There are many clinical laboratory companies which provide a broad range of laboratory testing services in the same markets serviced by the Company. In addition, several national companies provide on-site diagnostic equipment that allow veterinarians to perform their own laboratory tests. JOINT VENTURE AND INVESTMENT In February 1997, Vet's Choice was restructured and management of the joint venture was assumed by HPP. Pursuant to a restructuring agreement, the Company maintains its 50.5% equity interest in Vet's Choice. 9 10 Profits and losses are allocated 99.9% to HPP and 0.1% to the Company. Additionally, the Company agreed to provide certain consulting and management services for a three-year period that commenced on February 1, 1997 for an aggregate fee of $15.3 million, payable in semi-annual installments over a five-year period (the "Consulting Fees"). The Consulting Fees earned for the 1999, 1998 and 1997 twelve-month periods ended December 31, of $5.1 million, $5.1 million and $4.7 million, respectively, are included in Animal Hospitals revenues. The Company ceased to earn these consulting fees on February 1, 2000. In December 1997 and January 1998, the Company made a combined $5 million strategic investment in Veterinary Pet Insurance, Inc. (VPI), the largest provider of pet health insurance in the United States. The Company accounts for this investment using the cost method. The Company sold its investment in VPI and received $8.25 million in cash in February 2000 resulting in a one-time gain of approximately $3.25 million. GOVERNMENT REGULATION All of the states in which the Company operates impose various registration requirements. To fulfill these requirements, the Company has properly registered each of its facilities with appropriate governmental agencies and, where required, has appointed a licensed veterinarian to act on behalf of each facility. All veterinary doctors practicing in the Company's clinics are required to maintain valid, unexpired and unrevoked state licenses to practice. In addition, the laws of many states prohibit veterinarians from splitting fees with non-veterinarians and prohibit business corporations from providing, or holding themselves out as providers of, veterinary medical care. These laws vary from state to state and are enforced by the courts and by regulatory authorities with broad discretion. While the Company seeks to structure its operations to comply with the corporate practice of veterinary medicine laws of each state in which it operates, there can be no assurance that, given varying and uncertain interpretations of such laws, the Company would be found to be in compliance with restrictions on the corporate practice of veterinary medicine in all states. A determination that the Company is in violation of applicable restrictions on the practice of veterinary medicine in any state in which it operates could have a material adverse effect on the Company, if the Company were unable to restructure its operations to comply with the requirements of such states. The Company's growth strategy is dependent principally on its ability to acquire existing animal hospitals. Acquisitions may be subject to pre-merger or post-merger review by governmental authorities for anti-trust and other legal compliance. Adverse regulatory action could negatively affect the Company's operations through the assessment of fines or penalties against the Company or the possible requirement of divestiture of one or more of the Company's operations. EMPLOYEES At December 31, 1999, the Company had approximately 3,465 full-time-equivalent employees, including approximately 650 licensed veterinarians. None of the Company's employees are covered by a collective bargaining agreement. The Company believes that its relations with its employees are satisfactory. ITEM 2. PROPERTIES The Company's corporate headquarters and principal executive offices are located in West Los Angeles, California, in approximately 30,000 square feet of leased space costing $47,712 per month. The Company maintains leased and owned facilities at 239 other locations which house its animal hospitals and laboratories. The Company owns 64 facilities and the remainder are leased. For the year ended December 31, 1999, the Company had lease costs of approximately $9,527,000 and the Company expects to have lease costs at facilities existing at December 31, 1999 of approximately $9,842,000 in 2000. Lease costs for the hospitals acquired between December 31, 1999 and March 15, 2000, will amount to approximately $105,000 in 2000. The Company believes that its real property facilities are adequate for its current needs. 10 11 ITEM 3. LEGAL PROCEEDINGS We are aware of six complaints that have been filed relating to the Merger (as defined in Item 7 below under the heading "Recent Developments"). The Company and members of the Board of Directors have been named as defendants in class actions lawsuits filed in the Delaware Court of Chancery and the California Superior Court. While the allegations contained in each complaint are not identical, the complaints generally assert that the $15.00 per share price to be paid to our public stockholders is inadequate and does not represent the value of the assets and future prospects of the Company. The complaints also generally allege that the defendants engaged in self-dealing without regard to conflicts of interest and that the defendants breached their fiduciary duties in approving the Merger Agreement (as defined in Item 7 below under the heading "Recent Developments"). The complaints seek certification of a class of all our stockholders whose stock will be acquired in connection with the Merger and seek injunctive relief that would, if granted, prevent the completion of the Merger. The complaints also seek unspecified damages, attorneys' fees and other relief. We believe that the allegations contained in the complaints are without merit and intend to contest the actions vigorously. The individual defendants have advised us that they also believe that the allegations in the complaints are without merit and that they intend to contest the actions vigorously. We cannot assure you that we will successfully defend the allegations included in the complaints or that a motion to enjoin the transactions contemplated by the Merger Agreement will not be made, and if made, that it would not be granted. The inability of the Company to resolve the claims that are the basis for the lawsuits or to prevail in any related litigation could result in the Company being required to pay substantial monetary damages for which the Company may not be adequately insured, which could have a material adverse effect on the Company's business, financial position and results of operations. Regardless of whether the Merger is consummated or the outcome of the lawsuits, the Company may incur significant related expenses and costs that could have an adverse effect on the Company's business and operations. Furthermore, the cases could involve a substantial diversion of the time of some members of management. Accordingly, we are unable to estimate the impact of any potential liabilities associated with the complaints. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS No matters were submitted to a vote of security holders of the Company during the fourth quarter of 1999. PART II ITEM 5. MARKET FOR REGISTRANT'S EQUITY AND RELATED STOCKHOLDER MATTERS The Company's common stock trades on the Nasdaq Stock Market under the symbol "VCAI." The following table sets forth the range of high and low last sale prices per share for the common stock as quoted on the Nasdaq Stock Market for the periods indicated:
High Low ------ ------- Fiscal 1998 by Quarter First ............................ 16 1/2 13 5/16 Second ........................... 19 7/16 15 1/2 Third ............................ 20 5/8 16 1/2 Fourth ........................... 20 3/16 13 3/8 Fiscal 1999 by Quarter First ............................ 20 1/8 14 1/8 Second ........................... 15 13 Third ............................ 14 7/16 10 15/16 Fourth ........................... 13 3/8 9 5/16
At August 9, 2000, the closing price of the common stock on the Nasdaq Stock Market was $14 1/4. At August 9, 2000, there were approximately 642 holders of record of the Company's common stock. The Company has not paid cash dividends on its common stock and does not anticipate that it will do so in the near future. The present policy of the Company is to retain earnings to finance the development and expansion of its operations. ITEM 6. SELECTED FINANCIAL DATA On June 19, 1996, VCA completed the merger with Pets' Rx, Inc. ("Pets' Rx"). This transaction has been accounted for as a pooling of interests. As a result of this merger, the Company has restated its historical financial statements to include the historical results of Pets' Rx with VCA. Certain adjustments to conform Pets' Rx's accounting policies to VCA's are reflected in these financial statements. The historical selected financial data set forth below for the three years ended December 31, 1999 are derived from the Company's Consolidated Financial Statements included elsewhere in this Annual Report on Form 10-K and should be read in conjunction with those financial statements and notes thereto. Those financial statements have been audited by Arthur Andersen LLP, independent public accountants, whose report with respect thereto appears elsewhere in this Annual Report on Form 10-K. The selected financial data set forth for the two years ended December 31, 1996 is derived from the Company's audited consolidated financial statements. Reference is made to Note 3 of Notes to Consolidated Financial Statements for information regarding the Company's acquisitions. 11 12 CONSOLIDATED STATEMENT OF OPERATIONS DATA: (In thousands, except for per share data)
For the Years Ended December 31, -------------------------------------------------------------------- 1999 1998 1997 1996 1995 --------- --------- --------- --------- --------- Revenues ............................................ $ 320,560 $ 281,039 $ 235,913 $ 181,428 $ 107,694 Gross profit ........................................ 86,902 71,659 57,283 42,574 27,595 Selling, general and administrative expense ......... 22,457 19,693 17,676 19,735 13,684 Depreciation and amortization expense ............... 15,496 13,132 11,199 7,496 4,144 Year 2000 remediation expenses ...................... 2,839 -- -- -- -- Year 2000 accelerated depreciation .................. 967 -- -- -- -- Merger costs ........................................ -- -- -- 2,901 -- Restructuring charges and write-down of assets ........................................... -- -- 2,074 15,213 3,234 Reversal of restructuring charges ................... (1,873) -- (2,074) -- -- Operating income (loss) ............................. 47,016 38,834 28,408 (2,771) 6,533 Interest income ..................................... 1,194 2,357 4,182 4,487 828 Interest expense .................................... 10,643 11,189 11,593 7,812 3,377 Minority interest in income of subsidiaries ......... 850 780 424 6,577 2,960 Provision for income taxes .......................... 16,462 12,954 9,347 1,959 2,238 Income tax adjustment ............................... (2,102) -- -- -- -- Net income (loss) ................................... 22,357 16,268 11,226 (14,632) (1,214) Diluted earnings per share: Net earnings (loss) per common share ............. $ 1.02 $ 0.74 $ 0.53 $ (0.92) $ (0.13) Shares used for computing diluted earnings (loss) per share ............. 21,985 21,940 21,013 15,942 9,224
CONSOLIDATED BALANCE SHEET DATA: (In thousands)
As of December 31, -------------------------------------------------------------------- 1999 1998 1997 1996 1995 --------- --------- --------- --------- --------- Cash and cash equivalents ........................... $ 10,620 $ 8,977 $ 19,882 $ 29,621 $ 5,396 Marketable securities ............................... 5,313 33,358 51,371 73,306 42,155 Total assets ........................................ 426,500 393,960 386,089 354,009 153,416 Current portion of long-term obligations and notes payable ................................ 21,901 17,431 19,369 14,055 7,496 Long-term obligations, less current portion ......... 139,634 142,356 154,506 134,767 36,778 Total stockholders' equity .......................... 231,229 202,685 180,851 167,350 90,217
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS GENERAL Veterinary Centers of America, Inc. and subsidiaries ("VCA" or the "Company") is a leading animal health care company. The Company has established a premier position in its two core businesses, Animal Hospitals and Laboratories. In addition, the Company owns a partnership interest in a joint venture with Heinz Pet Products ("HPP"), which markets and distributes premium pet foods. The Company operates the largest network of free-standing, full service animal hospitals and veterinary-exclusive laboratories in the nation. The Company made its first animal hospital acquisition in December 1986, when it acquired West Los Angeles Animal Hospital, one of the largest privately-owned teaching animal hospitals in the United States. Between 1987 and 1995, the Company's operations were directed primarily at establishing a corporate infrastructure and building a network of animal hospitals in selected regional markets. During this period, the Company grew 12 13 with the acquisition of 53 additional animal hospitals. In 1996, the Company completed two significant acquisitions which more than doubled the Company's animal hospital operations. Pets' Rx, Inc. ("Pets' Rx") was acquired in June 1996 (16 hospitals) in a business combination accounted for as a pooling of interests, and The Pet Practice, Inc. ("Pet Practice") was acquired in July 1996 (84 hospitals). The Company made these acquisitions in order to promote the growth of the Company's hospital network, broaden the geographic scope of the Company's operations, and to take advantage of synergies that the Company believes exist between its business lines. In addition to the two significant 1996 acquisitions, the Company has acquired 85 animal hospitals during the four years ended December 31, 1999. At December 31, 1999, the Company owned or operated 194 animal hospitals, throughout 28 states. In 1993, the Company began to expand the scope of its operations by launching into the veterinary diagnostic laboratory markets. The integration of the veterinary care, veterinary diagnostic laboratory and premium pet food markets is the foundation of the Company's business strategy to leverage its access to its primary customers, veterinarians and pet owners. In 1994, the Company expanded its veterinary diagnostic laboratory operations by acquiring a 70% interest in Professional Animal Laboratory ("PAL"). In 1995, the Company acquired the remaining 30% of PAL. Also in 1995, the Company acquired a 51% interest in Vet Research Laboratories, LLC ("Vet Research"), and acquired three smaller regional veterinary diagnostic laboratories. The Company's laboratory operations continued to grow with the acquisition of Southwest Veterinary Diagnostics Laboratory, Inc. ("Southwest") in 1996. Throughout 1996 and 1997, an additional eight laboratories were acquired, as well as the remaining interest in Vet Research in January 1997. In February 1998, the Company acquired certain assets of the veterinary diagnostic laboratory business of Laboratory Corporation of America Holdings ("LabCorp") for $10.9 million. This purchase from LabCorp has enhanced the Laboratories operations' presence in the Midwest and East coast and helped in the growth of the Test Express laboratory business. Test Express is a segment of the Laboratories operations that utilizes Federal Express to service our clients in remote areas. In 1999, the Company continued to expand its veterinary diagnostic laboratory operations by acquiring two additional laboratories, which were merged into existing VCA facilities upon acquisition. At December 31, 1999, the Company's network of veterinary diagnostic laboratories consisted of 13 full-service laboratories located throughout the United States. The Company entered into a joint venture, Vet's Choice, with HPP in 1993 to develop, manufacture and market a full-line of premium pet food. Vet's Choice was primarily engaged in developing and testing the formulas for its first product line, Select Balance, and building a marketing infrastructure in anticipation of commencing distribution in 1994. Vet's Choice began to generate revenue in 1994 with the launch of Select Balance. In 1995, Vet's Choice began selling its second product line, Select Care. Through 1996, the Company, as majority owner and managing general partner, exercised day-to-day operating control for all aspects of Vet's Choice, including sales, marketing, administration and distribution. As a result of the acquisition of two other premium pet food companies during 1996, HPP obtained expanded capabilities to manufacture, market and distribute premium pet foods. In order for the Vet's Choice business to benefit from the economies of scale in marketing, sales and distribution that HPP had attained with the acquisitions in 1996, the joint venture agreement was restructured effective February 1, 1997. Under the terms of the restructuring, HPP was made managing partner and assumed the day-to-day control of the joint venture. The operations of Vet's Choice were merged into HPP's other premium pet food business. In connection with the restructuring, the Company agreed to provide certain consulting and management services for a three-year period that commenced on February 1, 1997, for an aggregate fee of $15.3 million, payable in semi-annual installments over a five-year period (the "Consulting Fees"). The Consulting Fees earned during 1999, 1998 and 1997, of $5.1 million, $5.1 million and $4.7 million, respectively, are included in Animal Hospitals revenues. The Company ceased to earn these consulting fees on February 1, 2000. RECENT DEVELOPMENTS On August 11, 2000, the Company entered into an Amended and Restated Agreement and Plan of Merger (the "Merger Agreement") with Vicar Recap, Inc. ("Recap"), a Delaware corporation and wholly owned by Green Equity Investors III, L.P. ("GEIII"), and Vicar Operating Company, Inc., a Delaware corporation and wholly owned subsidiary of the Company. According to the terms of the Merger Agreement, the Company will be merged with and into Recap, with the Company as the surviving corporation (the "Merger"). In the Merger, each outstanding share of the Company's stock, par value $.001 per share, (other than shares held by certain members of management and employees that are retained as shares of the surviving company, shares held by dissenting stockholders, Recap, GEIII and in the Company's treasury) will be converted into the right to receive a cash payment of $15.00, without interest. Certain members of management and employees of the Company will retain shares of common stock of the Company as common stock of the surviving corporation or provide other consideration of equivalent value to acquire, in aggregate, approximately 266,666 shares of common stock of the surviving company. The Board of Directors, relying on the recommendation of a special committee of the Board of Directors, comprised of directors who have no financial interest in the Merger that is different from the interests of the company's public stockholders, unanimously approved the Merger Agreement. The Merger is subject to stockholder approval and other customary closing conditions. Completion of the proposed Merger is subject to, among other things, the condition that all financing necessary in connection with the completion of the transactions contemplated by the Merger Agreement shall have been obtained. The total amount expected to be required is approximately $540 million, to be comprised of approximately $251 million of credit facilities, $120 million of debentures, $156 million of equity contributions and $13 million of cash from the Company. During the second quarter of 2000, the Company invested $5.0 million in convertible preferred stock of yopet.com inc., a start-up corporation majority-owned and controlled by Robert A. Antin, the Chief Executive Officer and a director of the Company. On June 15, 2000, the Company entered into a credit agreement with Wells Fargo Bank, National Association to provide a $15 million line of credit. The proceeds from advances on the credit line are to be used to finance acquisitions and up to $3 million for working capital needs. The outstanding principal balance will bear interest at an annual rate equal to the prime rate minus one-quarter percent. The credit agreement expires on November 30, 2000. As of August 9, 2000, no advances had been drawn by the Company under this credit agreement. During 1999, the Company purchased 24 individual animal hospitals and two veterinary diagnostic laboratories all of which were accounted for as purchases. Of the purchases, five of the hospitals and both laboratories were merged upon acquisition into existing VCA facilities. Including acquisition costs, VCA paid an aggregate consideration of $24,240,000, consisting of $10,394,000 in cash, $12,402,000 in debt, 70,712 shares of 13 14 common stock of the Company with a value of $1,075,000, and the assumption of liabilities totaling $369,000. The aggregated purchase price was allocated as follows: $1,930,000 to tangible assets, $21,351,000 to goodwill and $959,000 to other intangibles. In addition to the 24 individual animal hospitals purchased, on April 1, 1999, the Company completed the acquisition of AAH Management Corp. ("AAH") for a total consideration (including acquisition costs) of $28,969,000, consisting of 517,585 shares of VCA common stock, with a value at the date of acquisition of $7,753,000, $9,103,000 in cash and acquisition costs, $1,192,000 in debt and the assumption of $10,921,000 in liabilities. AAH operated 15 animal hospitals located in New York and New Jersey. The acquisition of AAH was accounted for as a purchase. The purchase price has been allocated as follows, subject to final valuation of fixed assets: $6,340,000 to tangible assets and $22,629,000 to goodwill and other intangibles. From January 1, 2000 through August 9, 2000, the Company purchased 11 animal hospitals, three of which were merged into existing VCA facilities, and one veterinary diagnostic laboratory, which was also merged into an existing VCA facility, for an aggregate consideration (including acquisition costs) of $13,924,000, consisting of $5,897,000 in cash, $7,802,000 in debt and the assumption of liabilities totaling $225,000. The $13,924,000 aggregate purchase price was allocated as follows: $503,000 to tangible assets, $12,792,000 to goodwill and $629,000 to other intangible assets. BASIS OF REPORTING The Company reports its operations in two business lines -- Animal Hospitals and Laboratories. Animal Hospitals operations include the operations of the Company's animal hospitals. Laboratories operations include the operations of the Company's veterinary diagnostic laboratories. In December 1997 and January 1998, the Company made a combined $5 million strategic investment in Veterinary Pet Insurance, Inc. (VPI), the largest provider of pet health insurance in the United States. The Company accounts for this investment using the cost method. The Company sold its investment in VPI and received $8.25 million in cash in February 2000 resulting in a one-time gain in 2000 of approximately $3.25 million. The Company's animal hospitals use the Company's veterinary diagnostic laboratory services. Revenue and the corresponding expense from intercompany sales included in consolidated operating results, totaled $5,810,000, $5,845,000 and $4,696,000 in 1999, 1998 and 1997, respectively, have been eliminated from the Company's operating results. The Emerging Issues Task Force ("EITF") of the Financial Accounting Standards Board has recently issued its Consensus Opinion 97-2 ("EITF 97-2"). EITF 97-2 addresses certain specific matters pertaining to the contractual management relationships between entities that operate in the health care industry, which includes the practices of medicine, dentistry and veterinary science. EITF 97-2 has been adopted by the Company for its year ending December 31, 1998. EITF 97-2 addresses the ability of EITF 97-2 management companies to consolidate the results of practices with which it has an existing relationship. The Company has not met the EITF consolidation requirements for the 44 animal hospitals it manages. Management fees received pursuant to certain management agreements are included in revenues. The Company's financial statements for the year ended December 31, 1997 have been restated to conform to the 1998 and 1999 presentation. The adoption of EITF 97-2 had no effect on the Company's previously reported operating income (loss) or net income (loss). FUTURE OPERATING RESULTS This filing contains statements that constitute "forward-looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995. The words "expect", "estimate", "anticipate", "predict", "believe" and similar expressions and variations thereof are intended to identify forward-looking statements. Such statements appear in a number of places in this filing and include statements regarding the intent, belief or current expectations of the Company, its directors or its officers with respect to, among other things: (i) trends affecting the Company's financial condition or results of operations; and (ii) the Company's business and growth strategies. The readers of this filing are cautioned that any such forward-looking statements are not guarantees of future performance and involve risks and uncertainties, and that actual results may differ materially from those projected in this filing, 14 15 including, without limitation, the information set forth under the heading "Risk Factors," as well as the information set forth below. RESULTS OF OPERATIONS The following table sets forth, for the periods indicated, the percentage of certain items in relation to revenues:
Percentage of Revenues For the Years Ended December 31, 1999 1998 1997 ------------------------------------------ Revenues .................................... 100.0% 100.0% 100.0% Direct costs ................................ 72.9 74.5 75.7 ----- ----- ----- Gross profit ............................. 27.1 25.5 24.3 Selling, general and administrative expense . 7.0 7.0 7.5 Depreciation and amortization expense ....... 4.8 4.7 4.7 Year 2000 remediation expense ............... 0.9 -- -- Year 2000 accelerated depreciation .......... 0.3 -- -- Restructuring charges ....................... -- -- 0.9 Reversal of restructuring charges ........... (0.6) -- (0.9) ----- ----- ----- Operating income ......................... 14.7 13.8 12.1 Interest income ............................. 0.4 0.8 1.8 Interest expense ............................ 3.3 4.0 4.9 ----- ----- ----- Income before minority interest and income taxes ................................. 11.8 10.6 9.0 Minority interest in income of subsidiaries . 0.3 0.3 0.2 ----- ----- ----- Income before income taxes ............... 11.5 10.3 8.8 Provision for income taxes .................. 5.1 4.6 4.0 Income tax adjustment ....................... (0.6) -- -- ----- ----- ----- Net income ............................... 7.0% 5.7% 4.8% ===== ===== =====
REVENUES Animal Hospitals represented 69.6%, 70.1% and 72.3% of total Company revenues in 1999, 1998 and 1997, respectively. Laboratories represented 30.4%, 29.9% and 27.3% of total Company revenues in 1999, 1998 and 1997, respectively. Premium Pet Food operations represented 0.4% of total Company revenues in 1997. The Company's consolidated revenues in 1997 only include one month of revenue from Premium Pet Food operations, as the Company ceased consolidating the results of operations of Vet's Choice, effective February 1, 1997. The Company anticipates that Animal Hospitals revenues as a percentage of total revenues will increase in future periods as a result of the expansion of the Animal Hospitals. The reported revenues of Animal Hospitals consists of the revenues of animal hospitals owned by the Company and the management fees charged to independent professional corporations ("PCs"). At December 31, 1999, the Company owned and managed 194 animal hospitals, of which 44 were located in states that prohibit veterinarians from splitting fees with non-veterinarians and prohibit business corporations from providing or holding themselves out as providers of veterinary medical care. In these states, the Company has contracted with PCs who provide all veterinary medical care. The Company provides all administrative functions with respect to these 44 animal hospitals. In return for its services, the Company receives management fees from the PCs, which have been included in the reported revenues for Animal Hospitals. The Company does not consolidate the operations of the PCs. The following are the components in the table below. When added together, the components equal the reported revenues of Animal Hospitals: VETERINARY PRACTICES OWNED AND MANAGED -- represents the aggregate of revenues for animal hospitals owned directly by the Company and the unconsolidated revenues of the PCs. This aggregate would be the total reported Animal Hospitals revenues if the Company recognized and consolidated the revenues of the PCs. 15 16 REVENUES OF PCS -- represents the unconsolidated and unrecognized revenues of the PCs. MANAGEMENT FEES CHARGED TO PCS -- represents the fees that the PCs pay to the Company in return for the Company's services. The following table summarizes the Company's revenues for each of the three years ended December 31, 1999 (amounts in thousands):
1999 % 1998 % 1999 1998 1997 Increase Increase --------- --------- --------- --------- --------- Veterinary Practices Owned and Managed ......... 235,715 202,577 174,024 16.4% 16.4% Less: Revenues of PCs .......................... (42,829) (24,914) (15,603) 71.9% 59.7% Add: Management fees charged to PC's ........... 30,202 19,325 12,127 56.3% 59.4% --------- --------- --------- Animal Hospitals, reported ..................... 223,088 196,988 170,548 13.2% 15.5% Laboratories ................................... 103,282 89,896 68,997 14.9% 30.3% Premium Pet Food ............................... -- -- 1,064 -- -- Intercompany Sales ............................. (5,810) (5,845) (4,696) -- -- --------- --------- --------- $ 320,560 $ 281,039 $ 235,913 14.1% 19.1% ========= ========= =========
Revenues of PCs and the corresponding management fees have increased from 1997 through 1999 due to an increase in PCs. The Company managed 44, 22 and 20 veterinary practices owned by PCs in 1999, 1998 and 1997, respectively. The increases in reported Animal Hospitals revenues from 1997 through 1999 were primarily the result of the increase in the number of facilities owned and the number of PCs managed by the Company. The results for 1999 include the revenues and management fees of an additional 39 veterinary practices added subsequent to December 31, 1998. The results for 1998 include the revenues and management fees of an additional 11 veterinary practices added subsequent to December 31, 1997. The increase in revenues that resulted from increases in volume or prices at same-store facilities, as compared to the corresponding period in the prior year, were approximately 2.5% and 5.9% for the years ended December 31, 1999 and 1998, respectively. Same-store facilities are animal hospitals that were owned as of the beginning of the prior-year periods. Had the revenues of the PCs been consolidated with owned veterinary practices, the increases in combined revenues resulting from changes in volume or prices at same-store facilities, as compared to the corresponding period in the prior year, would have been 2.6% and 5.8% for the years ended December 31, 1999 and 1998, respectively. The increase in Laboratories' revenues for the year ended December 31, 1999 is primarily due to success achieved with increased marketing efforts and the acquisition of the business of two veterinary diagnostic laboratories since December 31, 1998. In addition to the these items revenues have primarily increased due to the $10.9 million acquisition on February 26, 1998, of certain assets of the veterinary diagnostics laboratory business from LabCorp, which generated revenues beginning April 1998. Effective February 1, 1997, Vet's Choice was no longer reported as part of the Company's consolidated results of operations. Pursuant to the restructuring agreement and other related agreements between HPP and the Company, the Company has agreed to provide certain consulting and management services for a three-year period that commenced February 1, 1997 and to continue to support and sell the Select Balance and Select Care brands through its network of animal hospitals. The agreements call for the Company to receive an aggregate of $15.3 million payable in semi-annual installments over a five-year period (the "Consulting Fees"). The Consulting Fees earned and recognized in the years ended December 31, 1999, 1998 and 1997 of $5.1 million for both 1999 and 1998 and $4.7 million for 1997, are included in Animal Hospitals revenues. 16 17 GROSS PROFIT The following table summarizes the Company's gross profit for each of the three years ended December 31, 1999 (amounts in thousands):
1999 % 1998 % 1999 1998 1997 Increase Increase ------- ------- ------- -------- ------- Animal Hospitals ......... $49,019 $41,969 $32,390 16.8% 29.6% Laboratories ............. 37,883 29,690 24,325 27.6% 22.1% Premium Pet Food ......... -- -- 568 -- -- ------- ------- ------- $86,902 $71,659 $57,283 21.3% 25.1% ======= ======= =======
Gross profit for Animal Hospitals is comprised of revenues less all costs of services and products at the hospitals, including: salaries of veterinarians, technicians and all other hospital-based personnel, facilities rent, occupancy costs, medical supply costs and costs of goods sold associated with the retail sales of pet food and pet supplies. Animal Hospitals gross profit represented 22.0%, 21.3% and 19.0% of Animal Hospitals revenues for the years ended December 31, 1999, 1998 and 1997, respectively. The increase in the 1999 gross profit margin from 1998 and the increase in the 1998 gross profit margin from 1997 is the result of internal revenue growth, better prices obtained for medical supplies and improved inventory management procedures. The Company continues to take actions designed to improve gross margins at the animal hospitals. However, there can be no assurance that in the future the Company will be successful in its efforts to improve gross profit margins at these facilities. The gross profit margin for "same-store" hospitals owned by the Company prior to January 1, 1998 was 20.2% and 19.1% for the years ended December 31, 1999 and 1998, respectively. The gross profit margin for "newly acquired" hospitals, those acquired by the Company after January 1, 1998, was 19.4% for the year ended December 31, 1999. Gross profit margins for "same-store" and "newly acquired" hospitals have been calculated excluding the Consulting Fees of $5,100,000 earned and recognized in each of the years ended December 31, 1999 and 1998, respectively. Had the PCs' operations been consolidated with owned veterinary practices ("Combined Hospital Operations"), gross profit margins would have been 20.8% and 20.7% for the years ended December 31, 1999 and 1998, respectively. "Same-store" gross profit margins from the Combined Hospital Operations was 19.1% and 18.6% for the years ended December 31, 1999 and 1998, respectively. Gross profit of the Laboratories is comprised of revenues less all direct costs of services, including salaries of veterinarians, technicians and other non-administrative laboratory-based personnel, facilities rent and occupancy costs and supply costs. Laboratories gross profit represented 36.7%, 33.0% and 35.3% of Laboratories revenues for the years ended December 31, 1999, 1998 and 1997, respectively. The increase in the gross profit margin for 1999 compared to 1998 was primarily attributable to the completed integration of operations from the acquisition of LabCorp's veterinary diagnostic laboratory business. The decrease in the gross profit margin for 1998 compared to 1997 was primarily attributable to costs incurred in connection with the phase-in of operations from the acquisition of LabCorp's veterinary diagnostic laboratory business. Premium Pet Food gross profit is comprised of revenues less cost of goods sold, including freight and distribution costs. Premium Pet Food gross profit, as a percentage of revenues, was 53.4% in 1997. The Company's Animal Hospitals business historically has realized gross profit margins that are lower than that of the Laboratories business. As the portion of the Company's revenues attributable to its Animal Hospitals operations grow in the future, the historical gross profit margins for the Company as a whole may not be indicative of those to be expected in the future. 17 18 SELLING, GENERAL AND ADMINISTRATIVE EXPENSE VCA Corporate selling, general and administrative expense consists of administrative expense at the Company's headquarters, including the salaries of corporate officers, accounting, legal and other professional expenses, rent and occupancy costs. Laboratories selling, general and administrative expense consists primarily of sales and administrative personnel and selling, marketing and promotional expense. Selling, general and administrative expense ("SG&A") for the three years ended December 31, 1999, is comprised of the following (amounts in thousands):
1999 1998 1997 ------- ------- ------- VCA Corporate ............ $16,847 $14,218 $13,093 Laboratories ............. 5,610 5,475 4,183 Premium Pet Food ......... -- -- 400 ------- ------- ------- $22,457 $19,693 $17,676 ======= ======= =======
SG&A, as a percentage of total revenues, was 7.0%, 7.0% and 7.5% for the years ended December 31, 1999, 1998 and 1997, respectively. The 1998 decrease in SG&A as a percentage of revenues from 1997 was primarily attributable to an increase in revenues without a comparable increase in expenses. Premium Pet Food selling, general and administrative expense consists primarily of sales and administrative personnel and selling, marketing and promotional expense. Premium Pet Food general and administrative expense did not exist after 1997, due to the assumption of management responsibilities for Vet's Choice by HPP in February 1997. DEPRECIATION AND AMORTIZATION EXPENSE Depreciation and amortization expense primarily relates to the depreciation of capital assets and the amortization of goodwill (excess cost over the fair value of net assets acquired) and certain other intangibles. Depreciation and amortization expense increased $2,364,000, or 18%, from 1998 to 1999, and $1,933,000, or 17.3%, from 1997 to 1998. The Company's policy is to amortize goodwill over the expected period to be benefited, not exceeding forty years. The increase in depreciation and amortization expense is primarily due to the acquisition of animal hospitals and veterinary diagnostic laboratories. RESTRUCTURING AND ASSET WRITE-DOWN During 1996, the Company adopted and implemented a restructuring plan (the "1996 Plan") and recorded a restructuring charge of $5,701,000 and an asset write-down charge of $9,512,000. The major components of the 1996 Plan included: (1) the termination of leases, the write-down of intangibles, property and equipment, and employee terminations in connection with the closure, sale or consolidation of 12 animal hospitals; (2) the termination of contracts and leases, the write-down of certain property and equipment, and the termination of employees in connection with the restructuring of the Company's laboratory operations; and (3) contract terminations and write-down of assets in connection with the migration to common communications and computer systems. Collectively, the 12 hospitals had aggregate revenue of $6,814,000 and net operating loss of $350,000 for the year ended December 31, 1996. The restructuring of the laboratory operations consisted primarily of: (i) plans to relocate the Company's facility in Indiana to Chicago; (ii) the downsizing of its Arizona operations; (iii) the standardization of laboratory and testing methods throughout all the Company's laboratories, resulting in the write-down of equipment that will no longer be utilized; and (iv) the shut-down of another of its facilities in the Midwest. During 1999, pursuant to the 1996 Plan, the Company incurred the following: (a) Cash expenditures of $345,000 for lease and other contractual obligations. (b) Non-cash asset write-downs of $157,000, primarily pertaining to hospitals previously closed and to the Company's shut-down of certain computer systems. 18 19 (c) The Company recognized a $321,000 favorable settlement related to a laboratory operations' contract that was terminated as part of the 1996 Plan. (d) During the fourth quarter of 1999, the Company was released from its contractual obligation pertaining to certain facility leases for hospitals that were sold in 1997. In addition, the Company reached a favorable settlement on contractual obligations pertaining to its migration to common communications and computer systems, a component of the 1996 Plan. As a result of these two favorable outcomes, the Company reversed $889,000 of restructuring charges. During 1998, the actions taken pursuant to the 1996 Plan were as follows: (a) The Company closed one animal hospital. (b) The Company shut-down certain computer hardware and software, as part of its migration to common computer systems. (c) The Company decided that two hospitals will continue to be operated instead of closed as was originally outlined in the 1996 Plan. The hospitals' local markets improved since the 1996 Plan was determined, causing the Company's management to revise its plan. (d) The Company terminated its attempts to sell one hospital because it has been unable to negotiate a fair sales price based on the hospital's operating results. Reserves of $593,000 related to the three hospitals discussed in (c) and (d) above, were utilized to offset increases in the expected cost to extinguish lease commitments and contract obligations that were part of the 1996 Plan. The activity that occurred within the 1996 Plan during 1997 was as follows: (a) The Company sold four of its animal hospitals. (b) The Company's laboratory division relocated its facility in Indiana to Illinois, downsized its Arizona operations, substantially completed its standardization of laboratory and testing methods, and replaced its communications system. (c) The Company's hospital division completed its evaluation of the property value at one of its hospitals and replaced certain equipment and software. (d) At September 30, 1997, the Company reversed $2,074,000 of the restructuring reserve established for the 1996 Plan. The events that triggered the need to reverse a portion of the 1996 Plan charge were as follows: (i) A favorable termination of a communications system contract was negotiated and became effective October 1, 1997. (ii) A hospital practice was acquired on May 15, 1997 and was merged into an animal hospital that was scheduled to be closed. The Company evaluated the performance of the merged practices during the 1997 third quarter and decided to rescind its decision to close the animal hospital. (iii) The Company completed negotiations to terminate a lease agreement early for one of the hospitals scheduled to be closed at a favorable amount. (iv) The Company rescinded its decision to close three other animal hospitals due to their improved performance. 19 20 As of December 31, 1999, all phases of the 1996 Plan were complete and no restructuring reserves remain on the Company's balance sheet. During 1997, the Company reviewed the financial performance of its hospitals. As a result of this review, an additional 12 hospitals were determined not to meet the Company's performance standards. Accordingly, the Company adopted phase two of its restructuring plan (the "1997 Plan"), resulting in restructuring and asset write-down charges of $2,074,000. The major components of the 1997 Plan consisted of the termination of leases, amounting to $1,198,000, and the write-down of intangibles, property and equipment, amounting to $876,000, in connection with the closure or sale of 12 animal hospitals. Collectively, the 12 hospitals had aggregate revenue of $5,378,000 and net operating income of $176,000 for the year ended December 31, 1997. During 1999, the actions taken pursuant to the 1997 Plan were as follows: (a) The Company sold one hospital resulting in cash expenditures of $2,000 and non-cash asset write-downs of $64,000. (b) The Company closed three hospitals resulting in cash expenditures of $4,000 and non-cash asset write-downs of $53,000. (c) The Company incurred cash expenditures of $71,000 for lease and other contractual obligations. (d) The Company recorded an additional $28,000 non-cash asset write-down pertaining to a hospital previously closed. (e) During the fourth quarter of 1999 the Company reached favorable outcomes from the sale and/or closure of the hospitals noted in (a) and (b) above. As a result the Company reversed $663,000 of restructuring charges. During 1998, the Company closed three animal hospitals pursuant to the 1997 Plan, resulting in the write-off of $299,000 of property and equipment and cash expenditures of $81,000 for lease obligations and closing costs. Also during 1998, the Company determined that five of the animal hospitals that were to be sold as part of the 1997 Plan would be kept due to their improved performance. During 1997, the Company, as part of the 1997 Plan, recorded $466,000 of non-cash asset write-downs, consisting primarily of a write-down of intangibles. At December 31, 1999, $343,000 of the restructuring reserve from the 1997 Plan remains on the Company's balance sheet, consisting primarily of lease and other contractual obligations. All significant phases of the 1997 Plan have been completed as of December 31, 1999, although certain lease obligations will continue through 2005. OPERATING INCOME Operating income increased to $47,016,000 for 1999 from $38,834,000 for 1998, which had increased from $28,408,000 for 1997. The operating income in 1999 includes a reversal of restructuring charges, Year 2000 remediation expenses and Year 2000 accelerated depreciation totaling $1,933,000. Excluding these items, operating income would have been $48,949,000 for 1999, a $10,115,000, or 26% increase from 1998 to 1999. The increases experienced in 1999, excluding the reversal of restructuring charges, Year 2000 remediation expenses and Year 2000 accelerated depreciation, and 1998 are primarily the result of the increased number of animal hospitals and veterinary diagnostic laboratories owned and operated by the Company. As a percentage of revenues, operating income, excluding the restructuring credit, Year 2000 remediation expenses and Year 2000 accelerated depreciation, would have been 15.3% for 1999, 13.8% for 1998 and 11.9% for 1997. 20 21 INTEREST INCOME Interest income decreased to $1,194,000 in 1999 from $2,357,000 for 1998 and $4,182,000 for 1997. The decreases over the three-year period were the result of decreases in the Company's cash and marketable securities balances resulting primarily from cash used in capital expenditures and acquisitions. INTEREST EXPENSE Interest expense was $10,643,000 for 1999, $11,189,000 for 1998 and $11,593,000 for 1997, representing a decrease of $546,000, or 4.9%, in 1999 and $404,000, or 3.5%, in 1998. The decrease in 1998 from 1997 is the result in a decrease in total debt. Interest expense also decreased in 1999 relative to 1998 resulting from debt paydowns throughout 1999. The debt balance did not decrease from December 31, 1998 to December 31, 1999 due to additional long-term debt issued in connection with animal hospital acquisitions in December 1999. INCOME TAXES Income tax expense was $14,360,000, $12,954,000, and $9,347,000 for 1999, 1998 and 1997, respectively. A reconciliation of the provision for income taxes to the amount computed at the Federal statutory rate for each of the three years in the period ended December 31, 1999 is included in Note 11 of Notes to Consolidated Financial Statements. The Company's effective income tax rate for each of the years was higher than the statutory rate, and the Company expects that its effective income tax rate will be higher than the statutory rate in the future, primarily due to the nondeductibility for income tax purposes of the amortization of certain goodwill. As a result of a favorable change in the U.S. tax regulations with respect to limitations on the use of net operating loss carryforwards, the Company recorded a deferred tax benefit of $2,102,000 in 1999. MINORITY INTEREST Minority interest in income of the consolidated subsidiaries was $850,000, $780,000 and $424,000 for 1999, 1998 and 1997, respectively. LIQUIDITY AND CAPITAL RESOURCES The Company requires continued access to cash, primarily to fund acquisitions, to reduce long-term debt obligations, and to fund capital expenditures. Cash provided by operations during the years ended December 31, 1999, 1998 and 1997 was $38,467,000, $27,123,000 and $22,674,000, respectively. The increases are primarily attributable to increases in income as a result of the growth in the number of facilities operated by the Company and increases in operating margins. During 1999, 1998 and 1997, in connection with acquisitions, the Company used cash in the amounts of $20,320,000 (acquisition of 39 hospitals and two veterinary diagnostic laboratories), $21,378,000, (acquisition of 11 hospitals and one veterinary diagnostic laboratory) and $28,988,000 (acquisition of 15 hospitals, three veterinary diagnostic laboratories and the remaining interest in Vet Research), respectively. From January 1, 2000 through March 15, 2000, the Company used cash of approximately $2,275,000 to acquire six animal hospitals and one veterinary diagnostic laboratory. During 1999, 1998 and 1997, the Company used $21,803,000, $11,678,000 and $7,241,000, respectively, to purchase property and equipment and $18,922,000, $20,591,000 and $16,198,000 to reduce long-term obligations, respectively. At December 31, 1999, the Company had cash and cash equivalents of $10,620,000 and no bank or institutional indebtedness. The Company has achieved its growth in the past, and anticipates it will continue its growth in the future, through the acquisition of animal hospitals for cash, stock and notes. The Company anticipates it will complete the acquisition of an additional 15 to 20 individual animal hospitals in 2000, which will require cash 21 22 of up to $15 million. In addition, the Company continues to examine acquisition opportunities in the veterinary laboratory field, which may impose additional cash requirements. Although the Company does not have sufficient cash reserves at March 15, 2000 to fund this growth plan, the Company believes that it can access sufficient debt financing to fund its planned growth for more than the next 12 months. The Company has debt payment obligations related to the Animal Hospitals and Laboratories operations owned as of December 31, 1999, of approximately $21.9 million and $17.5 million in the years ended December 31, 2000 and 2001, respectively. Interest payments on the convertible debentures amount to $4,430,000 annually. In addition, the Company is building or has plans to upgrade, expand or replace facilities for 13 animal hospitals for a total cost of approximately $10.8 million, as well as to replace or upgrade equipment, as needed. The Company also expects to continue to upgrade its management information systems in 2000 for approximately $3.0 million. On March 23, 1999, the Company's Board of Directors authorized the Company to repurchase up to $15 million of its common stock on the open market. As of March 15, 2000, the Company has acquired 393,000 shares for a total consideration of $4,761,000. During the first quarter of 2000, the Company committed to loan up to $5.0 million to Yopet.com, Inc., a start-up corporation founded and controlled by Robert A. Antin, the Chief Executive Officer and a director of the Company. The Company believes it is able to fund its future operational cash requirements primarily from cash on hand, the sale of its marketable securities, new debt financing and internally generated funds. The Company believes these sources of funds will be sufficient to continue the Company's operations and planned capital expenditures for at least the next 12 months. However, a significant portion of the Company's cash requirements is determined by the pace and size of its acquisitions. The Company believes that it can access sufficient funding from financial institutions, if needed. In connection with certain acquisitions, the Company assumed certain contractual arrangements whereby additional shares of the Company's common stock and/or cash ("Earn-Out Payments") may be issued to former owners of acquired hospitals upon attainment of specified financial criteria over periods of three to five years, as set forth in the respective agreements (the "Earn-Out Arrangements"). The Earn-Out Arrangements provide for contingent Earn-Out Payments if the acquired entity achieves or exceeds contractually defined revenue targets during the defined earn-out period. The payments are either fixed in amount or are based on a multiplier of revenue. When the contingency is resolved and the additional consideration is distributed, the Company records the consideration issued as an additional cost of the acquired entity. The additional consideration of affected assets, usually goodwill, is amortized over the remaining life of the asset. Earn-Out Payments in 1999 amounted to approximately $326,000 consisting entirely of cash. Earn-Out Payments in 1998 amounted to approximately $358,000 consisting of $311,000 in cash and 2,394 shares of common stock valued on the date of issuance at $47,000. At March 15, 2000, the Company was obligated under four Earn-Out Arrangements, two of which expire in 2000 and the remaining two expire in 2001 with payment due dates extending into 2002. The following table summarizes projected annual payments, based upon historical activity and management's estimates of future operating results, to be made under existing Earn-Out Arrangements (in thousands): 2000 ....................... $293 2001 ....................... 158 2002 ....................... 55
IMPACT OF YEAR 2000 The Company did not experience any system failures or any material effects as a result of the Year 2000 issues. The Company also did not experience any business disruptions with its material third parties as a result of 22 23 the Year 2000 issues. Consequently, there were no Year 2000 problems that materially impacted the Company's financial condition or results of operations. The Company did not postpone any significant information technology projects or other capital expenditures in 1999 due to the Year 2000 compliance. The Company originally estimated $7.7 million in Year 2000 compliance expenditures. However, the Company's expenditures relating to the Year 2000 compliance in 1999 amounted to approximately $6.3 million. Expenditures for Year 2000 compliance costs approximated $365,000 in 1998. Total depreciation on certain software, hardware, equipment and building operating systems in 1999 approximated $1.6 million, which includes approximately $1.0 million of additional accelerated depreciation as a result of the shorter projected useful lives. The Company has assessed its Year 2000 position and does not foresee any future problems relating to any Year 2000 issues that would have a material impact on the Company's operations and financial condition. NEW ACCOUNTING PRONOUNCEMENTS In March 1998, the American Institute of Certified Public Accountants issued Statement of Position 98-1 "Accounting for the Costs of Computer Software Developed or Obtained for Internal Use" ("SOP 98-1"), which is effective for fiscal years beginning after December 15, 1998. The adoption of SOP 98-1 in the first quarter of 1999 did not have a material effect on the Company's financial position or its results of operations. In June 1998, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards No. 133 "Accounting for Derivative Instruments and Hedging Activities" ("SFAS 133"), which is effective for all fiscal quarters of fiscal years beginning after June 15, 2000, as per the issuance of SFAS 137. SFAS 133 establishes accounting and reporting standards for derivative instruments, including certain derivative instruments embedded in other contracts, (collectively referred to as derivatives) and for hedging activities. It requires that an entity recognize all derivatives as either assets or liabilities in the statement of financial position and measure those instruments at fair value. The Company has not yet assessed the impact of the adoption of SFAS 133. On October 25, 1999, the FASB's Emerging Issues Task Force ("EITF") reached consensus in Issue 99-15, "Accounting for Decreases in Deferred Tax Asset Valuation Allowances Established in a Purchase Business Combination as a Result of a Change in Tax Regulations" ("Issue No. 99-15"). Issue No. 99-15 is the EITF's response to the Internal Revenue Service's June 25, 1999 ruling, as stated in Section 1.1502-21 Treasury Regulations, reducing the requirements for using certain net operating loss carryovers and carrybacks ("NOLs"). As a result, the Company recorded a deferred tax benefit during the year ended December 31, 1999 equal to $2,102,000. In the future, the Company will continue to evaluate its NOLs based on the above rulings and future circumstances. SEASONALITY AND QUARTERLY FLUCTUATIONS Although not readily detectable because of the impact of acquisitions, the Company's operations are somewhat seasonal. In particular, revenues at the Company's Animal Hospitals and Laboratories operations historically have been greater in the second and third quarters than in the first and fourth quarters. The demand for the Company's veterinary services are significantly higher during warmer months because pets spend a greater amount of time outdoors, where they are more likely to be injured and are more susceptible to disease and parasites. In addition, use of veterinary services may be affected by levels of infestation of fleas, heartworms and ticks, the number of daylight hours, as well as general economic conditions. A substantial portion of the Company's costs are fixed and do not vary with the level of demand. Consequently, net income for the second and third quarters, at individual animal hospitals, generally has been higher than that experienced in the first and fourth quarters. 23 24 The following table sets forth revenues, gross profit, net income and diluted earnings per share for each of the quarters in 1999 and 1998 (in thousands, except per share amounts):
1999 Quarter Ended, ------------------------------------------------------- Mar. 31 June 30 Sept. 30 Dec. 31 ------- ------- ------- ------- 1999 Revenues ........................... $73,838 $86,164 $83,590 $76,968 Gross profit ....................... 18,561 25,345 23,426 19,570 Net income ......................... 3,700 6,890 7,462 4,305 Diluted earnings per share ......... 0.17 0.31 0.34 0.20
1998 Quarter Ended, ------------------------------------------------------- Mar. 31 June 30 Sept. 30 Dec. 31 ------- ------- ------- ------- 1998 Revenues ........................... $62,069 $74,680 $74,599 $69,691 Gross profit ....................... 14,805 21,021 19,414 16,419 Net income ......................... 2,307 6,082 4,841 3,038 Diluted earnings per share ......... 0.11 0.28 0.22 0.14
1997 Quarter Ended, ------------------------------------------------------- Mar. 31 June 30 Sept. 30 Dec. 31 ------- ------- -------- ------- 1997 Revenues ........................... $55,428 $62,348 $61,230 $56,907 Gross profit ....................... 12,503 17,412 15,670 11,698 Net income ......................... 1,410 4,351 3,415 2,050 Diluted earnings per share ......... 0.07 0.21 0.16 0.10
Net income reported during 1999 includes Year 2000 remediation expenses, Year 2000 accelerated depreciation, a reversal of restructuring charges and an income tax adjustment, aggregating a beneficial after tax effect on net income of approximately $961,000 for the 12 months ended December 31, 1999. Excluding these items, net income and diluted earnings per share would have been $3,883,000 or $0.18, $7,571,000 or $0.34, $6,139,000 or $0.28, and $3,803,000, or $0.18 for the quarters ended March 31, June 30, September 30, and December 31, 1999, respectively. INFLATION Historically, the Company's operations have not been materially affected by inflation. There can be no assurance that the Company's operations will not be affected by inflation in the future. RISK FACTORS WE MAY NOT BE ABLE TO MANAGE OUR GROWTH Since January 1, 1996, we have experienced rapid growth and expansion. In 1996, we acquired The Pet Practice Inc. ("Pet Practice"), Pets' Rx, Inc. ("Pets' Rx"), as well as 22 individual animal hospitals and six veterinary diagnostic laboratories. In 1997, we acquired 15 animal hospitals and three veterinary diagnostic laboratories. In 1998, we acquired 11 animal hospitals and one veterinary diagnostic laboratory. In 1999, we acquired 39 animal hospitals and two veterinary diagnostic laboratories. As a result of these acquisitions, our revenues grew from $235.9 million in 1997 to $281.0 million in 1998 to $320.6 million in 1999. In 2000, through August 9, 2000, we acquired 11 animal hospitals, of which three were merged upon acquisition into existing VCA facilities, and one veterinary diagnostic laboratory, which was also merged upon acquisition into an existing VCA facility. 24 25 We have experienced, and will continue to experience, a strain on our administrative and operating resources. Our growth has also increased the demands on our information systems and controls. We cannot guarantee that we will be able to identify, consummate and integrate acquired companies without substantial delays, costs or other problems. Once integrated, these acquired companies may not be profitable. In addition, acquisitions involve several other risks including: - short-term effects on our reported operating results - impairments of goodwill and other intangible assets - the diversion of management's attention - the dependence on retention, hiring and training of key personnel - the amortization of intangible assets - risks associated with unanticipated problems or legal liabilities Our failure to manage our growth effectively will have a material adverse effect on our results of operations and our ability to execute our business strategy. DEPENDENCE ON ACQUISITIONS FOR GROWTH - IF WE DO NOT ACHIEVE OUR ACQUISITION PROGRAM STRATEGY OUR GROWTH WILL BE DIMINISHED. We plan to grow primarily by acquisitions of established animal hospitals. Our acquisition strategy involves a number of factors which are difficult to control including: - the identification of potential acquisition candidates - the willingness of the owners to sell on reasonable terms - the satisfactory completion of negotiations - minimal disruption to our existing operations Also, our acquisitions may be subject to pre-merger or post-merger review by governmental authorities for antitrust and other legal compliance. Any adverse regulatory decision may negatively affect our operations by assessing fines or penalties or requiring us to divest one or more of our operations. Our acquisition strategy may cause us to divert our time from operating matters, which may cause the loss of business and personnel. There are also possible adverse effects on earnings resulting from the possible loss of acquired customer bases, amortization of goodwill created in purchase transactions and the contingent and latent risks associated with the past operations of, and other unanticipated problems arising in, the acquired business. If we have sufficient capital, our acquisition strategy involves the acquisition of at least 15 to 25 facilities per year. Our success is dependent upon our ability to timely identify, acquire, integrate and manage profitability of acquired businesses. If we cannot do this, our business and growth may be harmed. SUBSTANTIAL LEVERAGE - OUR SIGNIFICANT AMOUNT OF INDEBTEDNESS COULD ADVERSELY AFFECT OUR FINANCIAL HEALTH. We have a significant amount of indebtedness. We incurred our debt primarily in connection with the acquisition of our animal hospitals and veterinary diagnostic laboratories and through the sale of the $84,385,000 of 5.25% convertible debentures in April 1996. In certain instances, the debt we incur in connection with the acquisition of animal hospitals is secured by the assets of the acquired hospital. At December 31, 1999, we have consolidated long-term obligations (including current portion) of $161.5 million and our ratio of long-term debt (including current portion) to total stockholders' equity was 70%. We will require substantial capital to finance our anticipated growth, so we expect to incur additional debt in the future. WE HAVE RISKS ASSOCIATED WITH OUR INTANGIBLE ASSETS A substantial portion of our assets consists of intangible assets, including goodwill and covenants not to compete relating to the acquisition of animal hospitals and veterinary diagnostic laboratories. At December 31, 1999, our balance sheet reflected $295.7 million of intangible assets of these types, which is a substantial portion of 25 26 our total assets of $426.5 million at that date. We expect that the aggregate amount of goodwill and other intangible assets on our balance sheet will increase as a result of future acquisitions. An increase will have an adverse impact on earnings because goodwill and other intangible assets will be amortized against earnings. If VCA is sold or liquidated, we cannot assure you that the value of these intangible assets will be realized. We continually evaluate whether events and circumstances have occurred that suggest that we may not be able to recover the remaining balance of our intangible assets or that the estimated useful lives of our intangible assets has changed. If we determine that certain intangible assets have been impaired, we will reduce the carrying value of those intangible assets, which could have a material adverse effect on our results of operations during the period in which we recognize the reduction. Also, if we determine that the estimated useful life of certain intangible assets has decreased, we will accelerate depreciation or amortization of that asset, which could have a material adverse effect on our results of operations. We recognized a write-down of goodwill and related assets in the amount of $9.5 million as part of our restructuring plan adopted during the third and fourth quarters of 1996. We may have further write-downs in future periods. FLUCTUATIONS IN QUARTERLY RESULTS - OUR OPERATING RESULTS VARY SIGNIFICANTLY FROM QUARTER TO QUARTER WHICH COULD IMPACT OUR STOCK PRICE. Our operating results may fluctuate significantly in the future. We believe that quarter to quarter or annual comparisons of our operating results are not a good indication of our future performance. Historically, we have experienced higher sales in the second and third quarters than in the first and fourth quarters. The demand for our veterinary services is higher during warmer months because pets spend a greater amount of time outdoors, where they are more likely to be injured and are more susceptible to disease and parasites. Also, use of veterinary services may be affected by levels of infestation of fleas, heartworms and ticks, and the number of daylight hours, as well as general economic conditions. A substantial portion of our costs are fixed and do not vary with the level of demand for our services. Therefore, net income for the second and third quarters at individual animal hospitals and veterinary diagnostic laboratories generally is higher than in the first and fourth quarters. OUR SUCCESS DEPENDS ON KEY MEMBERS OF MANAGEMENT Our success will continue to depend on our executive officers and other key management personnel, particularly our Chief Executive Officer, Robert L. Antin. VCA has employment contracts with Mr. Robert Antin, Mr. Arthur Antin, Chief Operating Officer and Mr. Neil Tauber, Senior Vice President. Each of these agreements terminates in January 2002. VCA has no other employment contracts with its officers. None of VCA's officers is a party to non-competition covenants which extend beyond the term of their employment with VCA. VCA does not maintain any key man life insurance coverage on the lives of its senior management. As we continue to grow, we will continue to hire, appoint or otherwise change senior managers and other key executives. We cannot assure you that we will be able to retain our executive officers and key personnel or attract additional qualified members to management in the future. Also, the success of certain of our acquisitions may depend on our ability to retain selling veterinarians of the acquired companies. If we lose the services of any key manager or selling veterinarian, our business may be materially adversely affected. COMPETITION The animal health care industry is highly competitive. We believe that the primary competitive factors in connection with animal hospitals include: - convenient location - recommendation of friends - reasonable fees - quality of care - convenient hours 26 27 Our primary competitors for our animal hospitals in most markets are individual practitioners or small, regional, multi-clinic practices. Also, regional pet care companies and certain national companies, including operators of super-stores, are developing multi-regional networks of animal hospitals in markets in which we operate. We believe that the primary competitive factors in connection with veterinary diagnostic laboratories include: - quality - price - time required to report results There are many clinical laboratory companies which provide a broad range of laboratory testing services in the same markets we service. Also, several national companies provide on-site diagnostic equipment that allows veterinarians to perform their own laboratory tests. OUR BUSINESS IS SUBJECT TO GOVERNMENT REGULATION The laws of many states prohibit veterinarians from splitting fees with non-veterinarians and prohibit business corporations from providing, or holding themselves out as providers of, veterinary medical care. These laws vary from state to state and are enforced by the courts and by regulatory authorities with broad discretion. While we seek to comply with these laws in each state in which we operate, we cannot assure you that, given varying and uncertain interpretations of these laws, we are in compliance with these restrictions in all states. A determination that we violate any applicable restriction on the practice of veterinary medicine in any state in which we operate could have a material adverse effect on our operations if we are unable to restructure our operations to comply with the requirements of those states. WE ARE SUBJECT TO ANTI-TAKEOVER PROVISIONS The Board of Directors is authorized to issue up to 2,000,000 shares of preferred stock. The Board also is authorized to determine the price, rights, preferences and privileges of those shares without any further vote or action by the stockholders. The rights of the holders of any preferred stock may adversely affect the rights of holders of common stock. Our ability to issue preferred stock gives us flexibility concerning possible acquisitions and financing, but it could make it more difficult for a third party to acquire a majority of our outstanding voting stock. In addition, any preferred stock to be issued may have other rights, including economic rights, senior to the common stock, which could have a material adverse effect on the market value of the common stock. We are subject to Delaware laws that could have the effect of delaying, deterring or preventing a change in control of the Company. One of these laws prohibits us from engaging in a business combination with any interested stockholder for a period of three years from the date the person became an interested stockholder, unless some conditions are met. In addition, provisions of our Certificate of Incorporation and By-laws could have the effect of discouraging potential takeover attempts or making it more difficult for stockholders to change management. Also, H.J. Heinz Company has an option to purchase our interest in the Vet's Choice joint venture if there is a change in control (as defined in that agreement), which may have the same effect. As a result, stockholders may not have the opportunity to sell their shares at a substantial premium over the market price of the shares. In addition, we have adopted a Stockholder Rights Plan (see Note 6 of Notes to Consolidated Financial Statements). Under the Rights Plan, we distributed a dividend of one right for each outstanding share of our common stock. These rights will cause substantial dilution to the ownership of a person or group that attempts to acquire us on terms not approved by our Board of Directors and may have the effect of deterring hostile takeover attempts. 27 28 SHARES ELIGIBLE FOR FUTURE SALE MAY IMPACT OUR STOCK PRICE Future sales by existing stockholders could adversely affect the prevailing market price of the common stock. As of August 9, 2000, VCA had 21,321,124 shares of common stock outstanding, most of which are either freely tradable in the public market without restriction or tradable in accordance with Rule 144 under the Securities Act. In addition, there are 620,511 shares held in treasury. There are also 3,734,482 shares of common stock issuable upon exercise of outstanding stock options; and 2,456,623 shares issuable upon conversion of convertible debentures. Shares may also be issued under price guarantees delivered in connection with acquisitions. VOLATILITY OF STOCK PRICE Historically, our stock price has been volatile. Factors that may have significant impact on the market price of our stock include: - variations in quarterly operating results - litigation involving VCA - announcements by VCA or its competitors - general conditions in the animal health care industry The stock market in recent years has fluctuated in price and volume significantly. These fluctuations have been unrelated or disproportionate to the operating performance of publicly traded companies. Our future earnings and stock price may be subject to significant volatility, particularly on a quarterly basis. Shortfalls in our revenues or earnings in any given period relative to the levels expected by securities analysts could immediately, significantly and adversely affect the trading price of our common stock. 28 29 ITEM 8. FINANCIAL STATEMENTS INDEX TO CONSOLIDATED FINANCIAL STATEMENTS VETERINARY CENTERS OF AMERICA, INC. AND SUBSIDIARIES -----------------
PAGE ---- Report of Independent Public Accountants........................................................................ 30 Consolidated Balance Sheets as of December 31, 1999 and 1998.................................................... 31 Consolidated Income Statements For the Years Ended December 31, 1999, 1998 and 1997............................. 32 Consolidated Statements of Stockholders' Equity and Comprehensive Income for the Years Ended December 31, 1999, 1998 and 1997............................................................................. 33 Consolidated Statements of Cash Flows For the Years Ended December 31, 1999, 1998 and 1997...................... 34 Notes to Consolidated Financial Statements...................................................................... 36
29 30 REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS To the Board of Directors and Stockholders of Veterinary Centers of America, Inc.: We have audited the accompanying consolidated balance sheets of Veterinary Centers of America, Inc. (a Delaware corporation) and subsidiaries as of December 31, 1999 and 1998, and the related consolidated income statements, stockholders' equity and comprehensive income, and cash flows for each of the three years in the period ended December 31, 1999. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards in the United States. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of Veterinary Centers of America, Inc. and subsidiaries as of December 31, 1999 and 1998, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 1999, in conformity with generally accepted accounting principles in the United States. /s/ Arthur Andersen LLP ARTHUR ANDERSEN LLP Los Angeles, California February 21, 2000 30 31 VETERINARY CENTERS OF AMERICA, INC. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS AS OF DECEMBER 31, 1999 AND 1998 (IN THOUSANDS, EXCEPT PAR VALUES) A S S E T S
1999 1998 --------- --------- CURRENT ASSETS: Cash and cash equivalents ............................................. $ 10,620 $ 8,977 Marketable securities ................................................. 5,313 33,358 Trade accounts receivable, less allowance for uncollectible accounts of $7,162 and $6,407 at December 31, 1999 and 1998, respectively ..... 15,276 11,561 Inventory ............................................................. 5,455 4,608 Prepaid expenses and other ............................................ 4,544 4,366 Deferred income taxes ................................................. 4,213 4,111 Prepaid income taxes .................................................. 3,986 5,040 --------- --------- Total current assets ............................................... 49,407 72,021 PROPERTY AND EQUIPMENT, NET ............................................ 70,336 50,140 OTHER ASSETS: Goodwill, net ......................................................... 291,286 256,505 Covenants not to compete, net ......................................... 4,450 4,722 Notes receivable, net ................................................. 1,891 1,963 Investment in Veterinary Pet Insurance ................................ 5,000 5,000 Deferred costs and other, net ......................................... 4,130 3,609 --------- --------- $ 426,500 $ 393,960 ========= ========= LIABILITIES AND STOCKHOLDERS' EQUITY CURRENT LIABILITIES: Current portion of long-term obligations .............................. $ 21,901 $ 17,431 Accounts payable ...................................................... 8,715 5,208 Accrued payroll and related liabilities ............................... 7,258 5,426 Accrued restructuring costs ........................................... 478 2,834 Other accrued liabilities ............................................. 7,418 9,524 --------- --------- Total current liabilities .......................................... 45,770 40,423 LONG-TERM OBLIGATIONS, less current portion ............................ 139,634 142,356 DEFERRED INCOME TAXES .................................................. 6,655 5,800 MINORITY INTEREST ...................................................... 3,212 2,696 COMMITMENTS AND CONTINGENCIES STOCKHOLDERS' EQUITY: Common stock; $.001 par value; authorized -- 60,000 shares: Issued and outstanding, including shares in treasury -- 21,708 and 20,816 at December 31, 1999 and 1998, respectively ........... 20 20 Additional paid-in capital ........................................... 213,728 202,850 Retained earnings .................................................... 25,737 3,380 Other comprehensive income - unrealized loss on investment ........... (361) (468) Notes receivable from stockholders ................................... (654) (617) Less cost of common stock held in treasury -- 620 and 227 shares at December 31, 1999 and 1998, respectively ........................ (7,241) (2,480) --------- --------- Total stockholders' equity ......................................... 231,229 202,685 --------- --------- $ 426,500 $ 393,960 ========= =========
The accompanying notes are an integral part of these consolidated balance sheets. 31 32 VETERINARY CENTERS OF AMERICA, INC. AND SUBSIDIARIES CONSOLIDATED INCOME STATEMENTS FOR THE YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997 (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
1999 1998 1997 --------- --------- --------- Revenues .......................................................... $ 320,560 $ 281,039 $ 235,913 Direct costs ...................................................... 233,658 209,380 178,630 --------- --------- --------- Gross profit ................................................. 86,902 71,659 57,283 Selling, general and administrative expense ....................... 22,457 19,693 17,676 Depreciation and amortization expense ............................. 15,496 13,132 11,199 Year 2000 remediation expenses .................................... 2,839 -- -- Year 2000 accelerated depreciation ................................ 967 -- -- Reversal of restructuring charges ................................. (1,873) -- (2,074) Restructuring charges ............................................. -- -- 2,074 --------- --------- --------- Operating income ............................................. 47,016 38,834 28,408 Interest income ................................................... 1,194 2,357 4,182 Interest expense .................................................. 10,643 11,189 11,593 --------- --------- --------- Income before minority interest and provision for income taxes .............................................. 37,567 30,002 20,997 Minority interest in income of subsidiaries ....................... 850 780 424 --------- --------- --------- Income before provision for income taxes ..................... 36,717 29,222 20,573 Provision for income taxes ........................................ 16,462 12,954 9,347 Income tax adjustment ............................................. (2,102) -- -- --------- --------- --------- Net income ................................................... $ 22,357 $ 16,268 $ 11,226 ========= ========= ========= Basic earnings per common share .............................. $ 1.06 $ 0.80 $ 0.57 ========= ========= ========= Diluted earnings per common share ............................ $ 1.02 $ 0.74 $ 0.53 ========= ========= ========= Shares used for computing basic earnings per share ........... 21,063 20,350 19,626 ========= ========= ========= Shares used for computing diluted earnings per share ......... 21,985 21,940 21,013 ========= ========= =========
The accompanying notes are an integral part of these consolidated financial statements. 32 33 VETERINARY CENTERS OF AMERICA, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY AND COMPREHENSIVE INCOME FOR THE YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997 (IN THOUSANDS)
Common Stock Additional Treasury Stock ------------------------- Paid-In ------------------------- Shares Amount Capital Shares Amount -------- -------- ----------- -------- -------- BALANCES, December 31, 1996 ......................... 19,249 $ 20 $192,167 (78) $ (724) Net and comprehensive income ...................... -- -- -- -- -- Exercise of stock options ......................... 278 -- 2,455 -- -- Business acquisitions and earn-outs ............... 176 -- 2,122 -- -- Settlement of guaranteed purchase price ........... -- -- -- contingently payable in cash or common stock..... 34 -- -- -- -- Conversion of preferred stock to common stock...... 583 -- 1 -- -- Purchase of treasury shares ....................... -- -- -- (149) (1,756) -------- -------- -------- -------- -------- BALANCES, December 31, 1997 ......................... 20,320 20 196,745 (227) (2,480) Net income ........................................ -- -- -- -- -- Other comprehensive income - unrealized loss on investments (no tax benefit recognized).......... Unrealized loss recognized on investments ......... Comprehensive income .............................. Exercise of stock options ......................... 194 -- 2,037 -- -- Interest on notes ................................. -- -- -- -- -- Business acquisitions and earnouts ................ 174 -- 3,147 -- -- Conversion of convertible debt .................... 12 -- 85 -- -- Settlement of guaranteed purchase price contingently payable in cash or common stock..... 21 -- -- -- -- Restricted stock bonus ............................ 95 -- 836 -- -- -------- -------- -------- -------- -------- BALANCES, December 31, 1998 ......................... 20,816 20 202,850 (227) (2,480) Net income .......................................... -- -- -- -- -- Other comprehensive income - unrealized loss on investments (no tax benefit recognized) ......... -- -- -- -- -- Unrealized loss recognized on investments ........... Comprehensive income ................................ -- -- -- -- -- Exercise of stock options ......................... 50 -- 535 -- -- Exercise of warrants .............................. 3 -- -- -- -- Interest on notes ................................. -- -- -- -- -- Business acquisitions ............................. 588 -- 8,828 -- -- Conversion of convertible debt .................... 10 -- 74 -- -- Restricted stock bonus ............................ 241 -- 1,441 -- -- Purchase of treasury shares ....................... -- -- -- (393) (4,761) -------- -------- -------- -------- -------- BALANCES, December 31, 1999 ......................... 21,708 $ 20 $213,728 (620) $ (7,241) ======== ======== ======== ======== ======== Notes Receivable Retained Other From Earnings Comprehensive Comprehensive Stockholders (Deficit) Income Income ------------ -------- ------------- ------------ BALANCES, December 31, 1996 ......................... -- $(24,114) $-- Net and comprehensive income ...................... -- 11,226 -- $ 11,226 ======== Exercise of stock options ......................... (546) -- -- Business acquisitions and earn-outs ............... -- -- -- Settlement of guaranteed purchase price contingently payable in cash or common stock..... -- -- -- Conversion of preferred stock to common stock ..... -- -- -- Purchase of treasury shares ....................... -- -- -- -------- -------- -------- BALANCES, December 31, 1997 ......................... (546) (12,888) Net income ........................................ -- 16,268 -- 16,268 Other comprehensive income - unrealized loss on (870) (870) investments (no tax benefit recognized).......... Unrealized loss recognized on investments ......... 402 402 -------- Comprehensive income .............................. 15,800 ======== Exercise of stock options ......................... -- -- -- Interest on notes ................................. (71) -- -- Business acquisitions and earnouts ................ -- -- -- Conversion of convertible debt .................... -- -- -- Settlement of guaranteed purchase price contingently payable in cash or common stock .... -- -- -- Restricted stock bonus ............................ -- -- -- -------- -------- -------- BALANCES, December 31, 1998 ......................... (617) 3,380 (468) Net income .......................................... -- 22,357 -- 22,357 Other comprehensive income - unrealized loss on investments (no tax benefit recognized) ......... -- -- (218) (218) Unrealized loss recognized on investments ........... 325 325 -------- Comprehensive income ................................ -- -- -- $ 22,464 ======== Exercise of stock options ......................... -- -- -- Exercise of warrants .............................. -- -- -- Interest on notes ................................. (37) -- -- Business acquisitions ............................. -- -- -- Conversion of convertible debt .................... -- -- -- Restricted stock bonus ............................ -- -- -- Purchase of treasury shares ....................... -- -- -- -------- -------- -------- BALANCES, December 31, 1999 ......................... $ (654) $ 25,737 $ (361) ======== ======== ========
The accompanying notes are an integral part of these consolidated financial statements. 33 34 VETERINARY CENTERS OF AMERICA, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS FOR THE YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997 (IN THOUSANDS)
1999 1998 1997 --------- --------- --------- CASH FLOWS FROM OPERATING ACTIVITIES: Net income .................................................................. $ 22,357 $ 16,268 $ 11,226 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation and amortization ........................................... 16,463 13,132 11,199 Provision for uncollectible accounts .................................... 2,515 2,898 2,726 Amortization of debt discount ........................................... 241 431 392 Reversal of restructuring charges ....................................... (1,552) -- -- Minority interest in income of subsidiaries ............................. 850 780 424 Distributions to minority interest partners ............................. (926) (627) (424) Increase in accounts receivable, net .................................... (5,535) (3,749) (3,176) Decrease (increase) in inventory ........................................ (347) (242) 201 Decrease (increase) in prepaid income taxes ............................. 1,054 594 (3,497) Decrease (increase) in prepaid expenses and other ....................... (414) (1,061) 655 Decrease (increase) in deferred income tax asset ........................ (102) (1,043) 615 Increase (decrease) in accounts payable and accrued liabilities ......... 169 (4,872) 1,147 Increase (decrease) in deferred income tax liability .................... 3,694 4,614 1,186 --------- --------- --------- Net cash provided by operating activities ............................... 38,467 27,123 22,674 --------- --------- --------- CASH FLOWS FROM INVESTING ACTIVITIES: Business acquisitions, net of cash acquired ............................. (20,320) (21,378) (28,988) Property and equipment additions, net ................................... (21,803) (11,678) (7,241) Investments in marketable securities .................................... (58,258) (44,902) (102,363) Proceeds from sales or maturities of marketable securities .............. 86,410 62,447 124,298 Proceeds from the sale of property and equipment ........................ 198 239 153 Capital contribution of minority interest partners ...................... -- 13 246 Capital distribution to minority interest partner ....................... -- -- (1,318) Investment in Veterinary Pet Insurance .................................. -- (4,000) (1,000) Other ................................................................... 97 (215) (155) --------- --------- --------- Net cash used in investing activities ................................... (13,676) (19,474) (16,368) --------- --------- --------- CASH FLOWS FROM FINANCING ACTIVITIES: Reduction of long-term obligations and notes payable .................... (18,922) (20,591) (16,198) Proceeds from issuance of common stock under stock option plans ......... 535 2,037 1,909 Purchase of treasury stock .............................................. (4,761) -- (1,756) --------- --------- --------- Net cash used in financing activities ................................... (23,148) (18,554) (16,045) --------- --------- --------- INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS .............................. 1,643 (10,905) (9,739) CASH AND CASH EQUIVALENTS AT BEGINNING OF YEAR ................................ 8,977 19,882 29,621 --------- --------- --------- CASH AND CASH EQUIVALENTS AT END OF YEAR ...................................... $ 10,620 $ 8,977 $ 19,882 ========= ========= =========
The accompanying notes are an integral part of these consolidated financial statements. 34 35 VETERINARY CENTERS OF AMERICA, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS FOR THE YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997 (CONTINUED) (IN THOUSANDS)
1999 1998 1997 -------- -------- -------- SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION: Interest paid ............................................................... $ 10,517 $ 11,301 $ 10,900 Income taxes paid ........................................................... 9,603 10,944 9,664 SUPPLEMENTAL SCHEDULE OF NONCASH INVESTING AND FINANCING ACTIVITIES: In connection with acquisitions, assets acquired and liabilities assumed were as follows: Fair value of assets acquired .............................................. $ 53,209 $ 30,740 $ 72,331 Less consideration given: Cash paid and acquisition costs .......................................... (19,497) (20,255) (28,880) Cash paid in settlement of assumed liabilities ........................... (517) (812) (108) Common stock issued ...................................................... (8,828) (3,100) (2,122) -------- -------- -------- Liabilities assumed including notes payable issued ......................... $ 24,367 $ 6,573 $ 41,221 ======== ======== ========
The accompanying notes are an integral part of these consolidated financial statements. 35 36 VETERINARY CENTERS OF AMERICA, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 1999 1. THE COMPANY Veterinary Centers of America, Inc. ("VCA" or the "Company"), a Delaware corporation, was founded in 1986 and is a leading animal health care company. The Company has established a premier position in two core businesses, animal hospitals and veterinary diagnostic laboratories. In addition, the Company owns a partnership interest in a joint venture with Heinz Pet Products ("HPP"), which markets and distributes premium pet foods. The Company also has an investment in Veterinary Pet Insurance, Inc., the nation's largest pet health insurance company. The Company operates one of the largest networks of free-standing, full service animal hospitals in the country and one of the largest networks of veterinary-exclusive diagnostic laboratories in the nation. In 1993, the Company began to expand the scope of its operations by launching into the veterinary diagnostic laboratory and premium pet food markets. The integration of the veterinary care, veterinary diagnostic laboratory and premium pet food markets is the foundation of the Company's business strategy to leverage its access to its primary customers, veterinarians and pet owners. From 1993 through 1995, the Company acquired and integrated into its operations 36 animal hospitals. In 1996, the Company completed two significant acquisitions, which more than doubled the Company's animal hospital operations. Pets' Rx, Inc. ("Pets' Rx") was acquired in June 1996 (16 hospitals) in a business combination accounted for as a pooling of interests, and The Pet Practice, Inc. ("Pet Practice") was acquired in July 1996 (84 hospitals). The Company made these acquisitions in order to promote the growth of the Company's hospital network, broaden the geographic scope of the Company's operations, and to take advantage of synergies that the Company believes exist between its business lines. In addition to the two significant 1996 acquisitions, the Company has purchased 85 animal hospitals in the four years ended December 31, 1999. At December 31, 1999, the Company owned or operated 194 animal hospitals, throughout 28 states, as detailed in the following tables:
Western States Central States Eastern States -------------------- ---------------------- --------------------------- Alaska 4 Illinois 15 Connecticut 2 Arizona 1 Indiana 7 Delaware 3 California 40 Michigan 12 Florida 18 Colorado 2 Missouri 1 Georgia 1 Hawaii 1 Nebraska 1 Maryland 8 Nevada 6 Ohio 5 Massachusetts 7 New Mexico 3 New Jersey 9 Texas 9 New York 18 Utah 2 North Carolina 2 Pennsylvania 10 South Carolina 1 Virginia 5 West Virginia 1 -- -- -- Totals 68 41 85 == == ==
In 1994, the Company expanded its veterinary diagnostic laboratory operations by acquiring a 70% interest in Professional Animal Laboratory ("PAL"). In 1995, the Company acquired the remaining 30% of PAL. Also in 1995, the Company acquired a 51% interest in Vet Research Laboratories, LLC ("Vet Research"), and acquired three smaller regional veterinary diagnostic laboratories. The Company's laboratory operations continued to grow with the acquisition of Southwest Veterinary Diagnostics Laboratory, Inc. ("Southwest") in 1996. Throughout 1996 and 1997, an additional eight laboratories were acquired, as well as the remaining 49% interest in Vet Research in January 1997. In February 1998, the Company acquired certain assets of the veterinary diagnostic laboratory business of Laboratory Corporation of America Holdings ("LabCorp") for $10.9 million. This purchase from LabCorp has enhanced the Company's laboratory operations' presence in the Midwest and East coast and helped in the growth of the Test Express laboratory business. Test Express is a component of the Company's laboratory operations that utilizes Federal Express to pick-up lab specimens from clients in remote areas. In 1999, the 36 37 Company continued to expand its veterinary diagnostic laboratory operations by acquiring two additional laboratories, which were merged into existing VCA facilities upon acquisition. At December 31, 1999, the Company's network of veterinary diagnostic laboratories consisted of 13 full-service laboratories located throughout the country. 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES a. Principles of Consolidation The consolidated financial statements include the accounts of the Company and all those majority-owned subsidiaries where the Company has control. Significant intercompany transactions and balances have been eliminated. The Company provides management services to certain professional corporation ("PCs") in states with laws that prohibit veterinarians from splitting fees with non-veterinarians and prohibit business corporations from providing veterinary services through the direct employment of veterinarians. As of December 31, 1999, the Company has established operations in six of such states that it believes comply in all material respects with applicable laws. In these states, the Company has long-term management agreements ("Management Agreements") with PCs, ranging from 10 to 40 years with non-binding renewal options available. The PCs are owned by veterinarians who provide veterinary medical services at the animal hospitals located in their particular state. Pursuant to the Management Agreements, the PCs are each solely responsible for all aspects of the practice of veterinary medicine, as defined by their respective state. The Company is responsible for providing the following: (i) day-to-day financial and administrative supervision and management; (ii) non-veterinarian personnel needed to operate and support the animal hospital; (iii) maintenance of patient records; (iv) recruitment of veterinary staff; (v) marketing; and (vi) malpractice and general insurance. As compensation for these services, the Company receives a monthly management fee. The amount of such fees are not specifically defined in the Management Agreements. In most instances, the PCs receive a salary for its services, and the Company enjoys the risks and rewards related to the overall profitability of the animal hospital. The Company has adopted EITF 97-2 and has not met the requirements to consolidate 44 animal hospitals it manages. Management fees received pursuant to the Management Agreements are included in revenues. The Company's financial statements for the years ended December 31, 1998 and 1997 have been restated to conform to the 1999 presentation. b. Cash and Cash Equivalents For purposes of the balance sheets and statements of cash flows, the Company considers only highly liquid investments to be cash equivalents. Cash and cash equivalents at December 31 consisted of (in thousands):
1999 1998 ------- ------- Cash ....................... $ 8,160 $ 5,526 Money market funds ......... 2,460 3,451 ------- ------- $10,620 $ 8,977 ======= =======
37 38 c. Marketable Securities All marketable securities are classified as available for sale and are recorded at market value with unrealized gains and losses reported as a separate component of stockholders' equity. Marketable securities are available to support current operations and acquisitions. The following table details specific characteristics of the Company's investment portfolio at December 31 (in thousands):
Portfolio Composition ----------------------------------- Gross Gross High Quality Higher Yielding Unrealized Unrealized Short-term Short-term Losses Gains ------------ --------------- ---------- ------------ 1999 57% 43% $361 $ -- 1998 90% 10% $468 $ --
There were no significant realized gains or losses for the years ended December 31, 1999 and 1998. Additionally, $325,000 and $402,000 in unrealized losses were recognized for the years ended December 31, 1999 and 1998, respectively. These losses resulted from management's determination that impairments on certain investments may not be recoverable. The Company considers gain or losses based on the specific identification method. Marketable securities at fair market value at December 31, consisted of (in thousands):
1999 1998 ------- ------- Corporate bonds ............................................. $ 522 $ 4,918 Mutual funds - municipalities ............................... 2,005 20,178 Municipal bonds ............................................. 203 623 Short-term notes ............................................ 306 1,530 Mutual funds - taxable auction securities ................... -- 2,804 Preferred stock ............................................. -- 865 Mutual funds - corporate bonds .............................. 2,277 2,440 ------- ------- $ 5,313 $33,358 ======= =======
Investments in marketable securities were $58,258,000, $44,902,000 and $102,363,000 for the years ended December 31, 1999, 1998 and 1997, respectively. Gross proceeds on sales and maturities of marketable securities were $86,410,000, $62,447,000 and $124,298,000 for the years ended December 31, 1999, 1998 and 1997, respectively. As of December 31, 1999, maturity dates for corporate bonds, municipal bonds and short-term notes were June 28, 2000, July 1, 2020 and June 30, 2000, respectively. d. Inventory Inventory is valued at the lower of cost or market using the first-in, first-out method. e. Notes Receivable Notes receivable are not market traded financial instruments. The amounts recorded approximate fair value, and are shown net of valuation allowances of $270,000 and $125,000 as of December 31, 1999 and 1998, respectively. The notes bear interest at rates varying from 7% to 9% per annum. f. Property and Equipment Property and equipment is recorded at cost. Equipment held under capital leases is recorded at the lower of the present value of the minimum lease payments or the fair value of the equipment at the beginning of the lease term. 38 39 Depreciation and amortization are provided for on the straight-line method over the following estimated useful lives: Buildings and improvements ................. 5 to 30 years Leasehold improvements ..................... Lesser of lease term or 15 years Furniture and equipment .................... 5 to 7 years Property held under capital leases ......... 5 to 30 years
Property and equipment at December 31, consisted of (in thousands):
1999 1998 -------- -------- Land ...................................................... $ 14,423 $ 10,976 Building and improvements ................................. 24,615 19,005 Leasehold improvements .................................... 13,428 8,095 Construction in progress .................................. 4,479 1,853 Furniture and equipment ................................... 35,206 24,261 Equipment held under capital leases ....................... 1,552 1,552 -------- -------- Total fixed assets ........................................ 93,703 65,742 Less -- Accumulated depreciation and amortization ......... (23,367) (15,602) -------- -------- $ 70,336 $ 50,140 ======== ========
Accumulated depreciation on equipment held under capital leases amounted to $1,162,000 and $946,000 at December 31, 1999 and 1998, respectively. g. Goodwill and Other Intangible Assets Goodwill relating to acquisitions represents the purchase price paid and liabilities assumed in excess of the fair market value of net assets acquired. Goodwill is amortized on a straight-line basis over the expected period to be benefited, not exceeding 40 years. The Company continually evaluates whether events, circumstances or net losses on the entity level have occurred that indicate the remaining estimated useful life of goodwill may warrant revision or that the remaining balance of goodwill may not be recoverable. When factors indicate that goodwill should be evaluated for possible impairment, the Company uses an estimate of the related facility's undiscounted, tax adjusted net income over the remaining life of the goodwill to measure whether the goodwill is recoverable. If it is determined that goodwill on a given entity is partially or totally unrecoverable, losses will be recognized to the extent that projected aggregate tax adjusted net income over the life of the goodwill does not cover the goodwill balance at the date of impairment. Other intangible assets principally include covenants not to compete. The value assigned to the covenants not to compete is amortized on a straight-line basis over the term of the agreements (principally 5 to 10 years). Accumulated amortization of goodwill and covenants not to compete at December 31, 1999 was $37,792,000 and $7,761,000, respectively. Accumulated amortization of goodwill and covenants not to compete at December 31, 1998 was $30,315,000 and $6,577,000, respectively. In connection with the restructuring plans adopted and implemented by the Company in 1996 and 1997, $432,000 of goodwill and other intangibles were written-off during the year ended December 31, 1997. h. Investment in Veterinary Pet Insurance In December 1997 and January 1998, the Company made a combined $5 million strategic investment in Veterinary Pet Insurance, Inc. ("VPI"), a provider of pet health insurance in the United States. The Company accounts for this investment on a cost basis. The Company periodically evaluates this investment for potential 39 40 impairment of value and has determined that fair market value of the initial investments has not been impaired as of December 31, 1999. i. Fair Value of Financial Instruments and Concentration of Credit Risk The carrying amount reported in the balance sheets for cash, accounts receivable, accounts payable and accrued liabilities approximates fair value because of the immediate or short-term maturity of these financial instruments. Concentration of credit risk with respect to accounts receivable are limited due to the diversity of the Company's client base. j. Use of Estimates in Preparation of Financial Statements The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and contingent liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. k. Recent Accounting Pronouncements In March 1998, the American Institute of Certified Public Accountants issued Statement of Position 98-1 "Accounting for the Costs of Computer Software Developed or Obtained for Internal Use" ("SOP 98-1"), which is effective for fiscal years beginning after December 15, 1998. The adoption of SOP 98-1 in the first quarter of 1999 did not have a material effect on the Company's financial position or its results of operations. In June 1998, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards No. 133 "Accounting for Derivative Instruments and Hedging Activities" ("SFAS 133"), which is effective for all fiscal quarters of fiscal years beginning after June 15, 2000, as per the issuance of SFAS 137. SFAS 133 establishes accounting and reporting standards for derivative instruments, including certain derivative instruments embedded in other contracts (collectively referred to as "derivatives") and for hedging activities. It requires that an entity recognize all derivatives as either assets or liabilities in the statement of financial position and measure those instruments at fair value. The Company has not yet assessed the impact of the adoption of SFAS 133. On October 25, 1999, the FASB's Emerging Issues Task Force ("EITF") reached consensus in Issue 99-15, "Accounting for Decreases in Deferred Tax Asset Valuation Allowances Established in a Purchase Business Combination as a Result of a Change in Tax Regulations" ("Issue No. 99-15"). Issue No. 99-15 is the EITF's response to the Internal Revenue Service's June 25, 1999 ruling, as stated in Treasury Regulation 1.1502-21, reducing the requirements for using certain net operating loss carryovers and carrybacks ("NOLs"). As a result, the Company recorded a deferred tax benefit during the year ended December 31, 1999 equal to $2,102,000. In the future, the Company will continue to evaluate its NOLs based on the above rulings and future circumstances. l. Reclassifications Certain 1998 and 1997 balances have been reclassified to conform with the 1999 financial statement presentation. m. Revenue Revenue is recognized only after the following criteria are met: there exists adequate evidence of the transactions, delivery of goods has occurred or services have been rendered, the price is not contingent on future activity and collectibility is reasonably assured. 40 41 n. Related Party Transactions As part of an often-used acquisition strategy, the Company hires the selling doctor upon sale of their practice. The Company issues notes payable as a component of the purchase price and the Company may lease facilities from the selling doctor. These arrangements are negotiated, arm's-length transactions that take place as part of the acquisition process before the doctor is hired. These arrangements are not contingent upon the current or future employment of the doctors. o. Marketing and Advertising Marketing and advertising production costs are expensed as incurred or the first time the advertisement is run. Media (primarily print) placement costs are expensed in the month the advertising appears. Total marketing and advertising expense is included in direct costs and amounted to $4.3 million, $3.2 million and $3.3 million for the years ended December 31, 1999, 1998 and 1997, respectively. 3. ACQUISITIONS During 1999, the Company purchased 24 animal hospitals and two veterinary diagnostic laboratories all of which were accounted for as purchases. Five of the acquired animal hospitals and both laboratories were merged into existing VCA facilities upon acquisition. Including acquisition costs, VCA paid an aggregate consideration of $24,240,000, consisting of $10,394,000 in cash and acquisition costs, $12,402,000 in debt, 70,712 shares of common stock of the Company with a value of $1,075,000, and the assumption of liabilities totaling $369,000. The aggregated purchase price was allocated as follows: $1,930,000 to tangible assets, $21,351,000 to goodwill and $959,000 to other intangibles. In addition, on April 1, 1999, the Company completed the acquisition of AAH Management Corp. ("AAH") for a total consideration (including acquisition costs) of $28,969,000, consisting of 517,585 shares of VCA common stock, with a value at the date of acquisition of $7,753,000, $9,103,000 in cash and acquisition costs, $1,192,000 in notes payable and the assumption of $10,921,000 in liabilities. AAH operated 15 animal hospitals located in New York and New Jersey. The acquisition of AAH was accounted for as a purchase. The purchase price has been allocated as follows: $6,340,000 to tangible assets, $21,904,000 to goodwill, and $725,000 to other intangible assets. During 1998, the Company purchased 11 animal hospitals and one veterinary diagnostic laboratory for an aggregate consideration (including acquisition costs) of $30,740,000, consisting of $20,255,000 in cash, $6,482,000 in debt, 171,564 shares of VCA common stock with a value of $3,100,000, and the assumption of liabilities totaling $903,000. The $30,740,000 aggregate purchase price was allocated $6,156,000 to tangible assets, $23,395,000 to goodwill and $1,189,000 to other intangible assets. In January 1997, the Company acquired the remaining 49% interest in the Vet Research joint venture for a price as computed in accordance with the operating agreement, amounting to $18,703,000 in cash and a $29,002,000 note, payable in quarterly installments over six years. During 1997, the Company purchased 15 animal hospitals and three veterinary diagnostic laboratories for an aggregate consideration (including acquisition costs) of $22,198,000, consisting of $9,358,000 in cash, $10,531,000 in debt, 155,924 shares of VCA common stock with a value of $1,900,000, and the assumption of liabilities totaling $409,000. The $69,903,000 aggregate purchase price was allocated $5,099,000 to tangible assets, $64,012,000 to goodwill and $792,000 to other intangible assets. The pro forma results listed below are unaudited and reflect purchase price accounting adjustments assuming 1999 and 1998 acquisitions occurred at January 1, 1998. The pro forma results are not necessarily indicative of what actually would have occurred if the acquisitions had been in effect for the entire periods presented. In addition, they are not intended to be a projection of future results and do not reflect any efficiencies that might be achieved from the combined operation. 41 42
For the Years Ended December 31, (In thousands, except per share amounts) (Unaudited) 1999 1998 -------- -------- Revenues .................................. $338,704 $329,828 Net income ................................ $ 22,339 $ 17,541 Diluted earnings per share ................ $ 1.02 $ 0.80 Shares used for computing diluted earnings per share .................... 21,985 21,940
In connection with certain acquisitions, the Company assumed certain contractual arrangements whereby additional shares of the Company's common stock and/or cash ("Earn-Out Payments") may be issued to former owners of acquired hospitals upon attainment of specified financial criteria over periods of three to five years, as set forth in the respective agreements (the "Earn-Out Arrangements"). The Earn-Out Arrangements provide for contingent Earn-Out Payments if the acquired entity achieves or exceeds contractually defined revenue targets during the defined earn-out period. The payments are either fixed in amount or are based on a multiplier of revenue. When the contingency is resolved and the additional consideration is distributed, the Company records the consideration issued as an additional cost of the acquired entity. The additional consideration of affected assets, usually goodwill, is amortized over the remaining life of the asset. Earn-Out Payments in 1999 amounted to approximately $326,000, consisting entirely of cash. Earn-Out Payments in 1998 amounted to approximately $358,000, consisting of $311,000 in cash and 2,394 shares of common stock valued on the date of issuance at $47,000. 4. JOINT VENTURES AND INVESTMENT In February 1997, the Company's joint venture, Vet's Choice, was restructured and management of the joint venture was assumed by the Company's partner, HPP. Pursuant to a restructuring agreement, the Company maintains its 50.5% equity interest in Vet's Choice. Profits and losses are allocated 99.9% to HPP and 0.1% to the Company, and all management control has been transferred from the Company to HPP. Additionally, the Company agreed to provide certain consulting and management services for a three-year period commencing on February 1, 1997, for an aggregate fee of $15.3 million payable in semi-annual installments over a five-year period. Consulting and management fees earned under this agreement are included in revenues and amounted to $5.1 million, $5.1 million and $4.7 million, for the years ended December 31, 1999, 1998 and 1997, respectively. The Company will cease to earn these consulting fees on February 1, 2000. On or after the earlier of a change of control in the Company or January 1, 2000, HPP may purchase all of the Company's interest in the joint venture at a purchase price equal to 51% of 1.3 times the annual sales of all products bearing the Select Balance or Select Care brand (the "annual sales") less $4.5 million. If HPP fails to exercise its option prior to January 1, 2001, the Company may purchase all of the interest of HPP in the joint venture at a purchase price equal to 49.5% of 1.3 times the annual sales plus $4.5 million. The estimated purchase price for HPP to purchase all of the Company's interest in the joint venture will range from $2 million to $3 million based on projected annual sales of the Select Balance and Select Care products. Effective February 1, 1997, the Company no longer reports the results of operations of Vet's Choice on a consolidated basis. In December 1997 and January 1998, the Company made a combined $5 million strategic investment in Veterinary Pet Insurance, Inc. (VPI), the largest provider of pet health insurance in the United States. The Company accounts for this investment using the cost method. The Company sold its investment in VPI and received $8.25 million in cash in February 2000 resulting in a one-time gain of approximately $3.25 million. 42 43 5. LONG-TERM OBLIGATIONS Long-term obligations consisted of the following at December 31 (in thousands):
1999 1998 -------- -------- Mortgage debt Notes payable and other obligations, various maturities through 2008, secured by land and buildings of certain subsidiaries, various interest rates ranging from 7.0% to 9.0% with a weighted average of 8.3% and 7.6% at December 31, 1999 and 1998, respectively............................ $ 3,212 $ 1,961 Secured debt Notes payable and other obligations, various maturities through 2014, secured by assets and stock of certain subsidiaries, various interest rates ranging from 5.3% to 12.0% with a weighted average of 7.8% at both December 31, 1999 and 1998 ......................................... 69,213 69,964 Convertible debt Notes payable, convertible into VCA common stock at prices ranging from $7.00 to $15.00 per share, due through 2013, secured by stock of certain subsidiaries at interests rates ranging from 7.0% to 10.0% with a weighted average of 9.7% and 8.3% at December 31, 1999 and 1998, respectively ............................................. 1,803 816 Unsecured debt Notes payable, various maturities through 2004, adjustable interest rates of 6.2% and fixed interest rates ranging from 7.0% to 12.0% with a weighted average of 6.4% and 6.1% at December 31, 1999 and 1998, respectively ....................................................... 2,982 2,843 Debentures Convertible subordinated 5.25% debentures, due in 2006, convertible into approximately 2.5 million shares of VCA common stock at $34.35 per share ............................... 84,385 84,385 -------- -------- Total debt obligations ............................................. 161,595 159,969 Capital lease obligations .......................................... 187 306 Less - unamortized discount ........................................ (247) (488) -------- -------- 161,535 159,787 Less--current portion .............................................. (21,901) (17,431) -------- -------- $139,634 $142,356 ======== ========
The annual aggregate scheduled maturities of debt obligations for the five years subsequent to December 31, 1999 are presented below (in thousands): 2000 ........................... $ 21,901 2001 ........................... 17,466 2002 ........................... 16,467 2003 ........................... 8,574 2004 ........................... 4,027 Thereafter ..................... 93,100 -------- $161,535 ========
The convertible subordinated debentures may be redeemed at the option of the Company in whole or in part at any time after May 15, 1999 at 103%, after May 15, 2000 at 102%, after May 15, 2001 at 101% and after May 15, 2002 at 100%. Certain acquisition debt of the Company included above and amounting to $72,425,000 and $71,925,000 at December 31, 1999 and 1998, respectively, is non-recourse debt secured solely by the assets or the stock of the 43 44 veterinary hospital acquired under security arrangements whereby the creditor's sole remedy in the event of default is the contractual right to take possession of the entire veterinary hospital regardless of the outstanding indebtedness at the time of default. The following disclosure of the estimated fair value of the Company's debt at December 31, 1999 is made in accordance with the requirements of Statement of Financial Accounting Standards No. 107 "Disclosures about Fair Value of Financial Instruments." The estimated fair value amounts have been determined by the Company using available market information and appropriate valuation methodologies. Considerable judgment is required to develop the estimates of fair value, and the estimates provided herein are not necessarily indicative of the amounts that could be realized in a current market exchange.
(in thousands) Carrying Fair Amount Value -------- -------- Fixed-rate long-term debt ...................... $160,172 $121,182 Variable-rate long-term debt ................... 1,363 1,363
The estimated fair value of the Company's fixed-rate long-term debt is based on market value or prime plus an estimated spread at December 31, 1999 for similar securities with similar remaining maturities. The carrying value of variable-rate long-term debt is a reasonable estimate of its fair value. 6. PREFERRED STOCK On December 22, 1997, the Company adopted a Stockholder Rights Plan (the "Rights Agreement") and in connection therewith, out of its authorized but unissued shares of preferred Stock, designated 400,000 shares as Series B Preferred Stock, par value $0.001 per share (the "Series B Preferred Stock"). Pursuant to the Rights Agreement, the Company distributed to its stockholders rights entitling the holders to purchase one one-hundredth of a share of Series B Preferred Stock for each share of common stock then held at an exercise price of $60.00. One one-hundredth of a share of Series B Preferred Stock is functionally equivalent in all respects, including voting and dividend rights, to one share of common stock. Upon the occurrence of certain "triggering events," each right entitles its holder to purchase, at the rights then-current exercise price, a number of one one-hundredths of a share of Series B Preferred Stock having a market value equal to twice the exercise price. A triggering event occurs ten days following the date a person or group (other than an "Exempt Person"), without the consent of the Company's board of directors, acquires 15% or more of the Company's common stock or upon the announcement of a tender offer or an exchange offer, the consummation of which would result in the ownership by a person or group of 15% or more of the Company's common stock. The rights will expire on January 5, 2008. The Company's Certificate of Incorporation initially authorized 1,000,000 shares of preferred stock. At the 1998 Annual Meeting, the stockholders approved an amendment to the Certificate of Incorporation to increase the authorized number of shares of preferred stock to 2,000,000. The rights, preferences and privileges of the preferred stock are to be determined by the board of directors and do not require stockholder approval. During 1997, 583,333 shares of Series A Preferred Stock, par value 0.001 per share (the "Series A Preferred Stock"), were converted into 583,333 shares of common stock. HPP held all shares of the Series A Preferred Stock. At December 31, 1999, 1,016,667 of the shares of preferred stock are authorized and remain unreserved and unissued. The Series B Preferred Stock is not convertible into shares of common stock. 7. COMMON STOCK During 1999, the Company issued 588,297 shares of its common stock valued at $8,828,000, the fair market value at the date of commitment, as a portion of the consideration for certain acquisitions. At December 31, 1999, the Company held two notes receivable with balances totaling $654,000 from certain management stockholders of the Company. These notes arose from transactions whereby the Company loaned funds to the management stockholders to purchase an aggregate of 182,666 shares of the Company's 44 45 common stock. These notes, which bear interest at 6.1% per annum, mature on January 22, 2001. The receivables are shown in the accompanying consolidated balance sheets as a reduction of stockholders' equity. During 1999, the Company repurchased 393,346 shares of its common stock for $4,761,000. During 1998, the Company issued 171,564 shares of its common stock valued at $3,100,000, the fair market value at the date of commitment, as a portion of the consideration for certain acquisitions. 8. STOCK-BASED COMPENSATION PLANS The Company has granted stock options to various employees and directors. The Company accounts for these plans under APB Opinion 25, under which no compensation cost has been recognized. In November 1995, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 123 "Accounting for Stock-Based Compensation" ("SFAS 123"). SFAS 123 recommends changes in accounting for employee stock-based compensation plans and requires certain disclosures with respect to these plans. SFAS 123 disclosures have been adopted by the Company effective January 1, 1996. Had compensation cost for these plans been determined consistent with SFAS 123, the Company's net income and earnings per share would have been reduced to the following pro forma amounts (in thousands, except per share amounts):
1999 1998 1997 ---------- ---------- ---------- Net income: As reported ....................... $ 22,357 $ 16,268 $ 11,226 Pro forma ......................... 19,214 12,040 8,276 Diluted earnings per share: As reported ....................... $ 1.02 $ 0.74 $ 0.53 Pro forma ......................... 0.87 0.55 0.42
Because the SFAS 123 method of accounting has not been applied to options granted prior to January 1, 1995, the resulting pro forma compensation cost may not be representative of that to be expected in future years. The fair value of each option grant is estimated on the date of grant using the Black-Scholes option pricing model with the following weighted-average assumptions:
1999 1998 1997 ------ ------ ------ Risk free interest rate .............. 5.8% 5.0% 6.4% Dividend yield ....................... 0% 0% 0% Expected volatility .................. 54.2% 64.5% 60.6% Weighted fair value average .......... $ 7.97 $ 9.25 $ 6.85 Expected option life (years) ......... 7 7 7
Under the provisions of the Company's non-qualified and incentive stock option plans for officers and key employees, 1,789,281 shares of common stock were reserved for issuance at December 31, 1999. The options become exercisable over a two to five-year period, commencing at the date of grant or one year from the date of grant depending on the option. All options expire 10 years from the date of grant. The prices of all options granted were greater than or equal to the fair market value at the date of the grant. In addition to the options granted under VCA's stock option plans, the Company had 2,030,333 options outstanding at December 31, 1999 and 1998, to certain members of the board of directors and to the previous 45 46 owners of certain acquired companies. During 1997, the Company granted to certain officers of the Company 2,025,000 options with an exercise price of $10.25 per share. The options vest in 60 equal monthly installments commencing in September 1997. The table below summarizes the transactions in the Company's stock option plans (in thousands, except per share amounts):
1999 1998 1997 ------ ------ ------ Options outstanding at beginning of year ......... 3,821 3,584 1,739 Granted .......................................... 166 485 2,171 Exercised ........................................ (50) (194) (278) Canceled ......................................... (117) (54) (48) ------ ------ ------ Options outstanding at end of year ($3.25 to $36.79 per share) ................... 3,820 3,821 3,584 ====== ====== ====== Exercisable at end of year ....................... 2,031 1,674 1,318 ====== ====== ======
The following table summarizes information about certain options in the stock option plans outstanding (in thousands except weighted average) as of December 31, 1999 in accordance with SFAS 123:
Options Outstanding Options Exercisable - --------------------------------------------------------------------------------------- ------------------------------ Weighted Avg. Range of Number Remaining Weighted Avg. Number Weighted Avg. Exercise Price Outstanding Contractual Life Exercise Price Exercisable Exercise Price - ----------------------------- ----------- ---------------- -------------- ------------ -------------- Less than $9.00 ............. 237 4.98 $ 4.98 237 $ 4.98 $9.00 to $19.00 ............. 3,551 7.05 10.79 1,792 10.44 Greater than $19.00 ......... 24 8.84 27.71 2 30.00 ----- ----- 3,812 2,031 ===== =====
9. COMMITMENTS AND CONTINGENCIES The Company operates many of its animal hospitals from premises that are leased from the hospitals' previous owners under operating leases with terms, including renewal options, ranging from one to 35 years. Certain leases include purchase options which can be exercised at the Company's discretion at various times within the lease terms. The annual lease payments under the lease agreements have provisions for annual increases based on the Consumer Price Index or other amounts specified within the lease contracts. The future minimum lease payments on operating leases at December 31, 1999, including renewal option periods, are as follows (in thousands): 2000 ............................ $ 10,452 2001 ............................ 10,453 2002 ............................ 10,399 2003 ............................ 10,287 2004 ............................ 10,159 Thereafter ...................... 107,343 -------- $159,093 ========
Rent expense totaled $10,397,000, $9,122,000 and $8,624,000 for the years ended December 31, 1999, 1998 and 1997, respectively. Rental income totaled $310,000, $203,000 and $235,000 for the years ended December 31, 1999, 1998, and 1997, respectively. 46 47 At December 31, 1999, the Company was obligated under three Earn-Out Arrangements, two of which expire in the year 2000 and the remaining one expiring in the year 2001 with payment due dates extending into 2002. The following table summarizes projected annual payments, based upon historical activity and management's estimates of future operating results, to be made under existing Earn-Out Arrangements (unaudited and in thousands): 2000 ................................ $262 2001 ................................ 55 2001 ................................ 55
The Company has employment agreements with three officers of the Company which currently expire on December 31, 2002. Each of the agreements provide for annual compensation (subject to upward adjustment) which aggregated $816,000 for the year ended December 31, 1999. Any upward adjustment in the annual compensation of the three officers of the Company is at the discretion of the Compensation Committee of the Board of Directors. In establishing the amount of any upward adjustment for these officers, the Compensation Committee will engage a reputable compensation consulting firm to determine comparable compensation packages provided to officers in similarly situated companies. There is no set range for any upward adjustment of the three officers' annual compensation. 10. CALCULATION OF PER SHARE AMOUNTS A reconciliation of the income and shares used in the computations of the basic and diluted earnings per share ("EPS") for each of the three years in the period ended December 31, 1999 follows (amounts shown in thousands, except earnings per share):
For the Year Ended December 31, 1999 ---------------------------------------- Per Share Income Shares Amount ------- ------- -------- Basic EPS Net income ........................ $22,357 21,063 $ 1.06 ======= Effect of dilutive securities Stock options ..................... -- 922 ------- ------- Diluted EPS ........................... $22,357 21,985 $ 1.02 ======= ======= =======
For the Year Ended December 31, 1998 ---------------------------------------- Per Share Income Shares Amount ------- ------- -------- Basic EPS Net income ........................ $16,268 20,350 $ 0.80 ======= Effect of dilutive securities Convertible preferred stock ....... -- -- Stock options ..................... -- 1,545 Stock guarantees .................. 13 20 Convertible debt .................. -- 25 ------- ------- Diluted EPS ........................... $16,281 21,940 $ 0.74 ======= ======= =======
47 48
For the Year Ended December 31, 1997 ---------------------------------------- Per Share Income Shares Amount ------- ------- -------- Basic EPS Net income ........................ $11,226 19,626 $ 0.57 ======= Effect of dilutive securities Convertible preferred stock ....... -- 451 Stock options ..................... -- 688 Stock guarantees .................. 13 25 Convertible debt .................. -- 223 ------- ------- Diluted EPS ........................... $11,239 21,013 $ 0.53 ======= ======= =======
During 1999 and 1998, $84,385,000 of 5.25% convertible debentures, convertible into 2,456,623 shares of common stock, were outstanding but were not included in the computation of Diluted EPS because conversion would have an antidilutive effect on Diluted EPS. 11. INCOME TAXES The provision for income taxes is comprised of the following for the years ended December 31, (in thousands):
1999 1998 1997 ------- ------- ------- Federal: Current ............................. $10,161 $ 8,064 $ 5,952 Deferred ............................ 515 2,080 1,534 ------- ------- ------- 10,676 10,144 7,486 ------- ------- ------- State: Current ............................. 2,850 2,157 1,594 Deferred ............................ 834 653 267 ------- ------- ------- 3,684 2,810 1,861 ------- ------- ------- $14,360 $12,954 $ 9,347 ======= ======= =======
The Company accounts for income taxes under the provisions of Statement of Financial Accounting Standards 109, "Accounting for Income Taxes" ("SFAS 109"). SFAS 109 requires recognition of deferred tax liabilities and assets for the expected future consequences of events that have been included in the financial statements or tax returns. Under this method, deferred tax liabilities and assets are determined based on the difference between the financial statement and tax bases of assets and liabilities using enacted tax rates for the year in which the differences are expected to reverse. The net deferred tax asset (liability) at December 31 is comprised of (in thousands):
1999 1998 ------- ------- Current deferred tax assets (liabilities): Accounts receivable ................................ $ 2,782 $ 2,827 State taxes ........................................ (457) (988) Other liabilities and reserves ..................... 2,347 2,393 Start-up costs ..................................... 66 66 Restructuring charges .............................. 815 1,069 Other assets ....................................... (299) (216) Inventory .......................................... 817 818 Valuation allowance ................................ (1,858) (1,858) ------- ------- Total current deferred tax asset, net ......... $ 4,213 $ 4,111 ======= =======
48 49
1999 1998 ------- ------- Non-current deferred tax (liabilities) assets: Net operating loss carryforwards .................. $ 5,704 $ 7,996 Write-down of assets .............................. 1,433 1,479 Start-up costs .................................... 300 298 Other assets ...................................... 445 293 Intangible assets ................................. (9,204) (5,414) Property and equipment ............................ (1,267) (1,131) Unrealized loss on investments .................... 355 191 Valuation allowance ............................... (4,421) (9,512) ------- ------- Total non-current deferred tax liability, net ... $(6,655) $(5,800) ======= =======
At December 31, 1999, the Company has federal net operating loss ("NOL") carryforwards of approximately $15,323,000, comprised principally of NOL carryforwards acquired in the Pets' Rx and Pet Practice mergers. These NOL carryforwards expire at various dates through 2010. Under the Tax Reform Act of 1986, the utilization of NOL carryforwards to reduce taxable income will be restricted under certain circumstances. Events which cause such a limitation include, but are not limited to, a cumulative ownership change of more than 50% over a three-year period. Management believes that the Pets' Rx and Pet Practice mergers caused such a change of ownership and, accordingly, utilization of the NOL carryforwards may be limited in future years. Accordingly, the valuation allowance is principally related to subsidiaries' NOL carryforwards as well as certain acquisition related expenditures where the realization of this deduction is uncertain at this time. As a result of a favorable change in the U.S. Tax regulations with respect to limitations on the use of NOL carryforwards, the Company reduced its valuation allowance by $5,091,000; $2,102,000 of income was recorded as Income Tax Adjustment in the accompanying 1999 Income Statement, and the remainder was recorded as a reduction of goodwill. A reconciliation of the provision for income taxes to the amount computed at the federal statutory rate for the years ended December 31, is as follows:
1999 1998 1997 ---- ---- ---- Federal income tax at statutory rate ...................................... 35% 35% 35% Effect of amortization of goodwill ........................................ 4 3 4 State taxes, net of federal benefit ....................................... 7 6 6 Tax exempt income ......................................................... (1) (1) (1) Change in valuation allowance associated with utilization of NOL, certain write-down of assets, restructuring and acquisition related costs and other ................................................ (6) -- -- Other ..................................................................... -- 1 1 --- --- --- 39% 44% 45% === === ===
12. 401(k) PLAN During 1992, the Company established a voluntary retirement plan under Section 401(k) of the Internal Revenue Code. The plan covers all eligible employees, those with at least six months of employment with the Company, and provides for annual matching contributions by the Company at the discretion of the Company's board of directors. In 1999, 1998 and 1997, the Company provided a total matching contribution approximating $353,000, $942,000 and $496,000, respectively. 49 50 13. RESTRUCTURING AND ASSET WRITE-DOWN During 1996, the Company adopted and implemented a restructuring plan (the "1996 Plan") and recorded a restructuring charge of $5,701,000 and an asset write-down charge of $9,512,000. The major components of the 1996 Plan included: (1) the termination of leases, the write-down of intangibles, property and equipment, and employee terminations in connection with the closure, sale or consolidation of 12 animal hospitals; (2) the termination of contracts and leases, the write-down of certain property and equipment, and the termination of employees in connection with the restructuring of the Company's laboratory operations; and (3) contract terminations and write-down of assets in connection with the migration to common communications and computer systems. Collectively, the 12 hospitals had aggregate revenue of $6,814,000 and net operating loss of $350,000 for the year ended December 31, 1996. The restructuring of the laboratory operations consisted primarily of: (i) plans to relocate the Company's facility in Indiana to Chicago; (ii) the downsizing of its Arizona operations; (iii) the standardization of laboratory and testing methods throughout all the Company's laboratories, resulting in the write-down of equipment that will no longer be utilized; and (iv) the shut-down of another of its facilities in the Midwest. During 1999, pursuant to the 1996 Plan, the Company incurred the following: (a) Cash expenditures of $345,000 for lease and other contractual obligations. (b) Non-cash asset write-downs of $157,000, primarily pertaining to hospitals previously closed and to the Company's shut-down of certain computer systems. (c) The Company recognized a $321,000 favorable settlement related to a laboratory operations' contract that was terminated as part of the 1996 Plan. (d) During the fourth quarter of 1999, the Company was released from its contractual obligation pertaining to certain facility leases for hospitals that were sold in 1997. In addition, the Company reached a favorable settlement on contractual obligations pertaining to its migration to common communications and computer systems, a component of the 1996 Plan. As a result of these two favorable outcomes, the Company reversed $889,000 of restructuring charges. During 1998, the actions taken pursuant to the 1996 Plan were as follows: (a) The Company closed one animal hospital. (b) The Company shut-down certain computer hardware and software, as part of its migration to common computer systems. (c) The Company decided that two hospitals will continue to be operated instead of closed as was originally outlined in the 1996 Plan. The hospitals' local markets improved since the 1996 Plan was determined, causing the Company's management to revise its plan. (d) The Company terminated its attempts to sell one hospital because it has been unable to negotiate a fair sales price based on the hospital's operating results. Reserves of $593,000 related to the three hospitals discussed in (c) and (d) above, were utilized to offset increases in the expected cost to extinguish lease commitments and contract obligations that were part of the 1996 Plan. The activity that occurred within the 1996 Plan during 1997 was as follows: (a) The Company sold four of its animal hospitals. 50 51 (b) The Company's laboratory division relocated its facility in Indiana to Illinois, downsized its Arizona operations, substantially completed its standardization of laboratory and testing methods, and replaced its communications system. (c) The Company's hospital division completed its evaluation of the property value at one of its hospitals and replaced certain equipment and software. (d) At September 30, 1997, the Company reversed $2,074,000 of the restructuring reserve established for the 1996 Plan. The events that triggered the need to reverse a portion of the 1996 Plan charge were as follows: (i) A favorable termination of a communications system contract was negotiated and became effective October 1, 1997. (ii) A hospital practice was acquired on May 15, 1997 and was merged into an animal hospital that was scheduled to be closed. The Company evaluated the performance of the merged practices during the 1997 third quarter and decided to rescind its decision to close the animal hospital. (iii) The Company completed negotiations to terminate a lease agreement early for one of the hospitals scheduled to be closed at a favorable amount. (iv) The Company rescinded its decision to close three other animal hospitals due to their improved performance. As of December 31, 1999, all phases of the 1996 Plan were complete and no restructuring reserves remain on the Company's balance sheet. During 1997, the Company reviewed the financial performance of its hospitals. As a result of this review, an additional 12 hospitals were determined not to meet the Company's performance standards. Accordingly, the Company adopted phase two of its restructuring plan (the "1997 Plan"), resulting in restructuring and asset write-down charges of $2,074,000. The major components of the 1997 Plan consisted of the termination of leases, amounting to $1,198,000, and the write-down of intangibles, property and equipment, amounting to $876,000, in connection with the closure or sale of 12 animal hospitals. Collectively, the 12 hospitals had aggregate revenue of $5,378,000 and net operating income of $176,000 for the year ended December 31, 1997. During 1999, the actions taken pursuant to the 1997 Plan were as follows: (a) The Company sold one hospital resulting in cash expenditures of $2,000 and non-cash asset write-downs of $64,000. (b) The Company closed three hospitals resulting in cash expenditures of $4,000 and non-cash asset write-downs of $53,000. (c) The Company incurred cash expenditures of $71,000 for lease and other contractual obligations. (d) The Company recorded an additional $28,000 non-cash asset write-down pertaining to a hospital previously closed. (e) During the fourth quarter of 1999 the Company reached favorable outcomes from the sale and/or closure of the hospitals noted in (a) and (b) above. As a result the Company reversed $663,000 of restructuring charges. During 1998, the Company closed three animal hospitals pursuant to the 1997 Plan, resulting in the write-off of $299,000 of property and equipment and cash expenditures of $81,000 for lease obligations and closing costs. Also during 1998, the Company determined that five of the animal hospitals that were to be sold as part of the 1997 Plan would be kept due to their improved performance. 51 52 During 1997, the Company, as part of the 1997 Plan, recorded $466,000 of non-cash asset write-downs, consisting primarily of a write-down of intangibles. At December 31, 1999, $343,000 of the restructuring reserve from the 1997 Plan remains on the Company's balance sheet, consisting primarily of lease and other contractual obligations. All significant phases of the 1997 Plan have been completed as of December 31, 1999, although certain lease obligations will continue through 2005. The following tables summarize the activity in the Company's restructuring reserves (in thousands):
The 1996 Plan ------------- Cash Non-Cash Charges Charges Total ------- -------- ------- Balance, December 31, 1996................................................... $ 5,690 $ 2,781 $ 8,471 Cash expenditures for lease and other contractual obligations.......... (1,264) -- (1,264) Non-cash net assets write-downs........................................ -- (2,121) (2,121) Reverse excess reserves for: Communications system contract termination....................... (1,198) -- (1,198) Net asset write-downs and closing costs.......................... (459) (283) (742) Closed hospital facilities leases and other, net................. (134) -- (134) ------- ------- ------- Balance, December 31, 1997 .................................................. $ 2,635 $ 377 $ 3,012 Cash expenditures for lease and other contractual obligations ......... (989) -- (989) Non-cash net assets write-downs ....................................... -- (632) (632) Reclassifications ..................................................... (255) 255 -- ------- ------- ------- Balance, December 31, 1998 .................................................. 1,391 -- 1,391 Cash expenditures for lease and other contractual obligations ......... (345) -- (345) Non-cash net asset write-downs ........................................ -- (157) (157) Reclassifications ..................................................... (157) 157 -- Reversal of restructuring reserves .................................... (889) -- (889) ------- ------- ------- Balance, December 31, 1999 .................................................. $ -- $ -- $ -- ======= ======= =======
The 1997 Plan ------------- Cash Non-Cash Charges Charges Total ------- -------- ------- Balance, December 31, 1996................................................... $ -- $ -- $ -- Restructuring charge reserve established............................... 842 1,232 2,074 Non-cash net assets write-downs........................................ -- (466) (466) ------- ------- ------- Balance, December 31, 1997 .................................................. $ 842 $ 766 $ 1,608 Cash expenditures for lease and other contractual obligations ......... (81) -- (81) Non-cash net assets write-downs ....................................... -- (299) (299) Reclassifications ..................................................... 105 (105) -- ------- ------- ------- Balance, December 31, 1998 .................................................. 866 362 1,228 Cash expenditures for lease and other contractual obligations ......... (77) -- (77) Non-cash net asset write-downs ........................................ -- (145) (145) Reversal of restructuring reserves .................................... (446) (217) (663) ------- ------- ------- Balance, December 31, 1999 .................................................. $ (343) $ -- $ (343) ======= ======= =======
14. LINES OF BUSINESS During the three years ending December 31, 1999 the Company had four reportable segments: Animal Hospitals, Laboratories, Premium Pet Food and Corporate. These segments are strategic business units that have different products, services and functions. The segments are managed separately because each is a distinct and different business venture with unique challenges, rewards and risks. The Animal Hospitals segment provides veterinary services for companion animals and sells related retail products. The Laboratories segment provides testing services for veterinarians both associated with the Company and independent of the Company. The Premium Pet Food segment manufactures and sells premium pet food both to independent third parties and to the Company's animal hospitals. Commencing February 1, 1997, the day-to-day management of the Premium Pet Food segment was assumed by HPP, and the Company no longer reports the results of operations for this segment on a consolidated basis. Corporate provides selling, general and administrative support for the other segments. Though Corporate does not generate revenue, it is being included as a reportable segment to provide a better understanding of the Company as a whole. The accounting policies of the segments are the same as those described in the summary of significant accounting policies. The Company evaluates performance of segments based on profit or loss before income taxes, interest income, interest expense and minority interest, which are evaluated on a consolidated level. For purposes of 52 53 reviewing the operating performance of the segments, all inter-segment sales and purchases are accounted for as if they were transactions with independent third parties at current market prices. The following is a summary of certain financial data for each of the four segments (in thousands):
Inter-Segment Animal Premium Sales Hospitals Laboratories Pet Food Corporate Eliminations Total --------- ------------ -------- --------- -------------- -------- 1999 Revenues .......................... $223,088 $103,282 $ -- $ -- $ (5,810) $320,560 Operating income (loss) ........... 38,547 28,039 -- (19,570) -- 47,016 Year 2000 remediation costs ....... -- -- (3,806) (3,806) Reversal of restructuring charges.. 1,873 1,873 Depreciation/amortization expense.. 10,472 4,234 -- 790 -- 15,496 Identifiable assets ............... 280,742 105,224 -- 40,534 -- 426,500 Capital expenditures .............. 15,970 1,997 -- 3,836 -- 21,803 1998 Revenues .......................... $196,988 $ 89,896 $ -- $ -- $ (5,845) $281,039 Operating income (loss) ........... 33,481 20,141 -- (14,788) -- 38,834 Depreciation/amortization expense.. 8,488 4,074 -- 570 -- 13,132 Identifiable assets ............... 226,182 106,217 -- 60,484 -- 392,883 Capital expenditures .............. 7,450 3,813 -- 415 -- 11,678 1997 Revenues .......................... $170,548 $ 68,997 $ 1,064 $ -- $ (4,696) $235,913 Operating income (loss) ........... 25,027 16,813 156 (13,588) -- 28,408 Depreciation/amortization expense.. 7,363 3,329 12 495 -- 11,199 Identifiable assets ............... 205,653 95,073 -- 85,363 -- 386,089 Capital expenditures .............. 5,578 1,088 -- 575 -- 7,241
Corporate operating loss includes salaries, general and administrative expense for the executive, finance, accounting, human resources, marketing, purchasing and regional operational management functions that support the Animal Hospitals, Laboratories and Premium Pet Food segments. The following is a reconciliation between total segment operating income after eliminations and consolidated income before provision for income taxes as reported on the consolidated statements of operations.
1999 1998 1997 ------- ------- ------- Total segment operating income after eliminations .................................. $47,016 $38,834 $28,408 Interest income .................................. 1,194 2,357 4,182 Interest expense ................................. 10,643 11,189 11,593 Minority interest ................................ 850 780 424 ------- ------- ------- Income before provision for income taxes ......... $36,717 $29,222 $20,573 ======= ======= =======
15. SUBSEQUENT EVENTS From January 1, 2000 through February 21, 2000, the Company has acquired four animal hospitals, of which two were merged upon acquisition into existing VCA facilities, for an aggregate consideration (including acquisition costs) of $2,080,000, consisting of $1,000,000 in cash, $1,050,000 in debt and the assumption of liabilities totaling $30,000. In February 2000, the Company sold its investment in VPI for $8.25 million. 53 54 ITEM 9. CHANGE IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE There have been no events or transactions requiring reporting under this Item. 54 55 PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT The following table sets forth certain information with respect to the directors and executive officers of Veterinary Centers of America, Inc. (the "Company" or "VCA") as of March 31, 2000:
YEAR FIRST ELECTED OR APPOINTED NAME AGE DIRECTOR PRINCIPAL OCCUPATION ---- --- ----------- -------------------- Directors Arthur J. Antin 53 1986 Chief Operating Officer, Senior Vice President, Secretary and Director Robert L. Antin 50 1986 Chairman of the Board and Chief Executive Officer John B. Chickering, Jr. 51 1988 Director Richard Gillespie, M.D. 66 1995 Director John A. Heill 46 1995 Director Neil Tauber 49 1992 Senior Vice president of Development and Director EXECUTIVE OFFICERS Tomas W. Fuller 42 Chief Financial Officer, Vice President and Assistant Secretary Dawn R. Olsen 41 Vice President, Controller
The executive officers of VCA are appointed by and serve at the discretion of the Board of Directors. Robert L. Antin and Arthur J. Antin are brothers. There are no other family relationships between any director and/or any executive officer of VCA. DIRECTORS MR. ARTHUR J. ANTIN, a founder of VCA, has served as Chief Operating Officer, Senior Vice President, Secretary and a Director of VCA since its inception, and currently is responsible for managing animal hospital and veterinary laboratory operations for VCA. From October 1983 to September 1986, Mr. Antin served as Director of Marketing/Investor Relations of AlternaCare Corp. ("AlternaCare"), a publicly held company which owned, operated and developed freestanding out-patient surgical centers. AlternaCare was acquired by Medical Care International in 1988. At AlternaCare, Mr. Antin developed and implemented marketing strategies for a network of outpatient surgical centers. Mr. Antin received a MA degree in Community Health from New York University and a Post Graduate Certificate in Structured Programming and Business Application design from Columbia University. MR. ROBERT L. ANTIN, a founder of VCA, has served as Chief Executive Officer, President and Chairman of the Board of VCA since its inception. Mr. Antin is responsible for directing all aspects of VCA's business. From September 1983 until founding VCA, Mr. Antin was President, Chief Executive Officer, a director and co-found of AlternaCare. From July 1978 until September 1983, Mr. Antin was employed as an officer by American Medical International, Inc. ("AMI"), an owner and operator of health care facilities. While at AMI, Mr. Antin initially served as Director of Marketing of Professional Hospital Services, then as Director of New Business Development responsible for non-hospital related acquisitions and development, and most recently as a Vice President of AMI and President of AMI Ambulatory Center, Inc., a subsidiary of AMI operating a chain of ambulatory care centers. Mr. Antin received his MBA degree with a certification in hospital and health adminstration from Cornell University in 1975. MR. JOHN B. CHICKERING, JR., a certified public accountant, currently is a private investor and independent consultant. Mr. Chickering served in a variety of executive positions within Time Warner, Inc. and Warner Bros., 55 56 Inc., most recently as the Vice President - Financial Administration for Warner Bros. International Television Distribution until February 1996. Prior to his employment at Warner Bros., Mr. Chickering served as a staff accountant at KPMG Peat Marwick from August 1975 to June 1977. Mr. Chickering holds a MBA degree with emphasis in accounting and finance from Cornell University. RICHARD GILLESPIE, M.D., was elected to the Board of Directors in June 1995. Dr. Gillespie is a private investor who has investments in several companies in the United States. From 1983 to 1987, Dr. Gillespie was Vice president, a director and co-founder of AlternaCare. Dr. Gillespie also has served as a director for several other companies, including Lansinoh Laboratories, Inc. and Geriatric Medical Center, and as the general partner of Outpatient Diagnostics Center. Dr. Gillespie holds a MD degree from the University of Tennessee College of Medicine. MR. JOHN A. HEIL, currently serves as the President - Heinz Specialty Pet Food. Since 1978, Mr. Heil has served in various capacities with the H.J. Heinz Company, including Vice President-Marketing for Heinz Pet Products, General Manager, Marketing of Ore-Ida Foods, Inc. and Vice President - Marketing and Sales of Star-Kist Foods, Inc. Mr. Heil holds a BA degree in economics from Lycoming College. MR. NEIL TAUBER, a founder of VCA, has served as Senior Vice President of Development and a Director of VCA since its inception and is currently responsible for identifying and effecting the acquisition of independent animal hospitals and veterinary diagnostic laboratories. From 1984 to 1986, Mr. Tauber served as the Director of Corporate Development at AlternaCare. At AlternaCare, Mr. Tauber was responsible for the acquisition of new businesses and syndication to hospitals and physician groups. From 1981 to 1984, Mr. Tauber served as Chief Operating Officer of MDM Services, a wholly owned subsidiary of Mediq, a publicly held health care company, where he was responsible for operating and developing a network of retail dental centers and industrial medical clinics. Mr. Tauber hold a MBA from Wagner College. EXECUTIVE OFFICERS MR. THOMAS W. FULLER joined VCA in January 1988 and served as Vice President and Controller until November 1990 when he became Chief Financial Officer. Prior to joining VCA, from 1980 to 1987, Mr. Fullter served as an audit manager for Arthur Andersen LLP. Mr. Fuller holds a BA degree in business/economics from the University of California at Los Angeles. MS. DAWN R. OLSEN joined VCA in January 1997 as Vice President, Controller. Prior to joining VCA, from November 1993 to March 1996, Ms. Olsen served as Senior Vice President, Controller of OpTel, Inc., a privately held telecommunications company. From 1987 to 1993, Ms. Olsen served as Assistant Controller and later as Vice president, Controller of Qintex Entertainment, Inc., a publicly held television film distribution and production company. From 1981 to 1987, Ms. Olsen served as an audit manager for Arthur Andersen LLP. Ms. Olsen is a certified public accountant and holds a BS degree from California State University, Northridge. SECTION 16(A) BENEFICIAL OWNERSHIP REPORTING COMPLIANCE Section 16(a) of the Securities Exchange Act of 1934 requires the Company's executive officers, directors, and persons who own more than ten percent of a registered class of the Company's equity securities to file reports of ownership and changes in ownership with the Securities and Exchange Commission (the "SEC"). Executive officers, directors and greater-than-ten percent stockholders are required by SEC regulations to furnish the Company with all Section 16(a) forms they file. Based solely on its review of the copies of the forms received by it and written representations from certain reporting persons that they have complied with the relevant filing requirements, the Company believes that, during the year ended December 31, 1999, all the Company's executive officers, directors and greater-than-ten percent stockholders complied with all Section 16(a) filing requirements, except that each of the Named Executive Officers (as defined below in Item 11) did not timely file a Form 5 with respect to Section 16(b) exempt restricted stock bonus awards granted in February 1999. 56 57 ITEM 11. EXECUTIVE COMPENSATION SUMMARY COMPENSATION TABLE The following table sets forth, as to the Chief Executive Officer and as to each of the other four most highly compensated officers whose compensation exceeded $100,000 during the last fiscal year (the "Named Executive Officers"), information concerning all compensation paid for services to the Company in all capacities for each of the three years ended December 31 indicated below. SUMMARY COMPENSATION TABLE
LONG TERM COMPENSATION NUMBER OF FISCAL YEAR ANNUAL COMPENSATION SECURITIES ENDED ---------------------------- UNDERLYING ALL OTHER NAME AND PRINCIPAL POSITION (1) DECEMBER 31 SALARY BONUS OPTIONS (2) COMPENSATION (3) - ------------------------------- ------------ -------- -------- ------------ ---------------- Robert L. Antin 1999 $364,000 $327,600(4) -- $ 21,390 Chairman of the Board and 1998 350,000 315,000(5) -- 16,750 Chief Executive Officer 1997 296,385 315,000(6) 900,000 16,500 Arthur J. Antin 1999 $260,000 $208,000(4) -- $ 22,885 Chief Operating Officer, 1998 250,000 200,000(5) -- 18,510 Senior Vice President and 1997 211,523 190,000(6) 450,000 15,700 Secretary Neil Tauber 1999 $197,600 $138,320(4) -- $ 19,467 Senior Vice President of 1998 190,000 70,989(5) -- 14,250 Development 1997 172,338 104,738(6) 360,000 14,200 Tomas W. Fuller 1999 $187,200 $131,040(4) -- $ 16,330 Chief Financial Officer, 1998 180,000 121,406(5) -- 9,750 Vice President and 1997 152,246 78,625(6) 315,000 12,000 Assistant Secretary Dawn R. Olsen 1999 $131,000 $ 9,770(7) -- -- Vice President and 1998 125,000 13,300(5) 15,500 -- Controller 1997 103,231 16,500(6) 15,000 --
- --------------------------- (1) For a description of the employment contract between each officer and the Company, see "Certain Relationships and Related Party Transactions", below. (2) All numbers reflect the number of shares of Common Stock subject to options granted during the fiscal year. (3) Includes automobile expense. (4) Reflects the fair market value on January 20, 2000 of restricted stock bonus awards granted in January 2000 for services rendered during the fiscal year ended December 31, 1999. These shares vest in full on the second anniversary of the date of grant. (5) Reflects the fair market value on February 12, 1999 of restricted stock bonus awards granted in February 1999 for services rendered during the fiscal year ended December 31, 1998. These shares vest in full on the second anniversary of the date of grant. 57 58 (6) Reflects the fair market value on January 2, 1998 of restricted stock bonus awards granted in January 1998 for services rendered during the fiscal year ended December 31, 1997. These shares became fully vested on the second anniversary of the date of grant. (7) Reflects the fair market value on January 20, 2000 of restricted stock bonus awards granted in January 2000 for services rendered during the fiscal year ended December 31, 1999. These shares vest in equal installments over three years commencing on the first anniversary of the date of grant. OPTION GRANTS IN LAST FISCAL YEAR The Company did not grant any stock options during the fiscal year ended December 31, 1999 to the Named Executive Officers. STOCK OPTIONS HELD AT FISCAL YEAR END The following table sets forth, for each of the Name Executive Officers, certain information regarding the exercise of stock options during the fiscal year ended December 31, 1999, the number of shares of Common Stock underlying stock options held at fiscal year end and the value of options held at fiscal year end based upon the last reported sales price of the Common Stock on the Nasdaq Stock Market's National Market on December 31, 1999 ($12.88 per share). AGGREGATED OPTION/SAR EXERCISE IN LAST FISCAL YEAR AND FISCAL YEAR-END OPTION/SAR VALUES
NUMBER OF SECURITIES UNDERLYING UNEXERCISED VALUE OF UNEXERCISED SHARES OPTIONS AT IN-THE MONEY OPTIONS AT ACQUIRED DECEMBER 31, 1999 DECEMBER 31, 1998 ON VALUE --------------------------------- ---------------------------------- NAME EXERCISE REALIZED EXERCISABLE UNEXERCISABLE EXERCISABLE UNEXERCISABLE - ---- -------- -------- ----------- ------------- ----------- ------------- Robert L. Antin -- -- 755,000 450,000 $2,056,275 $1,183,500 Arthur J. Antin -- -- 453,000 225,000 1,683,875 591,750 Neil Tauber -- -- 345,000 180,000 1,099,375 473,400 Tomas W. Fuller -- -- 303,167 157,500 973,231 414,225 Dawn R. Olsen -- -- 10,938 19,562 19,725 19,725
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT PRINCIPAL STOCKHOLDERS The following table sets forth as of June 30, 2000, certain information relating to the ownership of the Common Stock by (i) each person known by the Company to be the beneficial owner of more than five percent of the outstanding shares of the Company's Common Stock, (ii) each of the Company's directors, (iii) each of the Named Executive Officers, and (iv) all of the Company's executive officers and directors as a group. Except as may be indicated in the footnotes to the table and subject to applicable community property laws, each such person has the sole voting and investment power with respect to the shares owned. The address of each person listed is in care of the Company, 12401 West Olympic Boulevard, Los Angeles, California 90064, unless otherwise set forth below such person's name. 58 59
Number of Shares of Common Stock Name and Address Beneficially Owned(1) Percent(1) ---------------- --------------------- ---------- Robert L. Antin (2) .............................. 1,794,259 8.1% Arthur J. Antin (3) .............................. 776,131 3.6 Neil Tauber (4) .................................. 487,058 2.2 Tomas W. Fuller (5) .............................. 392,645 1.8 Dawn R. Olsen (6) ................................ 22,902 * John B. Chickering, Jr. (7) ...................... 13,750 * Richard Gillespie, M.D. (8) ...................... 48,075 * John A. Heil (9) ................................. 26,667 * ICM Asset Management, Inc. (10).................. 1,572,455 7.3 Merrill Lynch & Co., Inc. (11).................... 1,337,997 6.2 Dimensional Fund Advisory, Inc. (12).............. 1,272,400 5.9 Directors and executive officers As a group (8 persons) (13) ................... 3,480,821 14.8%
- -------------------- * Less than one percent (1) Under Rule 13d-3, certain shares may be deemed to be beneficially owned by more than one person (if, for example, persons share the power to vote or the power to dispose of the shares). In addition, shares are deemed to be beneficially owned by a person if the person has the right to acquire the shares (for example, upon exercise of an option) within 60 days of the date as of which the information is provided. In computing the percentage ownership of any person, the amount of shares outstanding is deemed to include the amount of shares beneficially owned by such person (and only such person) by reason of these acquisition rights. As a result, the percentage of outstanding shares of any person as shown in this table does not necessarily reflect the person's actual ownership or voting power with respect to the number of shares of Common Stock actually outstanding at June 30, 2000. (2) Includes (i) 146,866 shares held by Mr. Robert Antin's minor children and (ii) 875,000 shares of Common Stock reserved for issuance upon exercise of stock options which are or will become exercisable on or prior to August 31, 2000. (3) Includes (i) 80,666 shares which Mr. Arthur Antin holds as custodian for Mr. Robert Antin's minor children under the California Uniform Gifts to Minor's Act; (ii) 48,666 shares held by Mr. Arthur Antin's minor children; and (iii) 513,500 shares of Common Stock reserved for issuance upon exercise of stock options which are or will become exercisable on or prior to August 31, 2000. (4) Includes 393,000 shares of Common Stock reserved for issuance upon exercise of stock options, which are or will become exercisable on or prior to August 31, 2000. (5) Includes 345,167 shares of Common Stock reserved for issuance upon exercise of stock options, which are or will become exercisable on or prior to August 31, 2000. (6) Includes 17,361 shares of Common Stock reserved for issuance upon exercise of stock options, which are or will become exercisable on or prior to August 31, 2000. (7) Consists of 13,750 shares of Common Stock reserved for issuance upon exercise of stock options, which are or will become exercisable on or prior to August 31, 2000. (8) Includes 33,750 shares of Common Stock reserved for issuance upon exercise of stock options, which are or will become exercisable on or prior to August 31, 2000. (9) Consists of 26,667 shares of Common Stock reserved for issuance upon exercise of stock options, which are or will become exercisable on or prior to August 31, 20000. (10) Based on information contained in a Schedule 13G dated February 8, 2000. ICM Asset Management, Inc. is Located at 601 West Main Avenue, Suite 600, Spokane, Washington 99201. (11) Based on information contained in a Schedule 13G dated February 4, 2000. Merrill Lynch & Co., Inc. is located at World Financial Center, North Tower, 250 Vesey Street, New York, New York 10381. (12) Based on information contained in a Schedule 13G dated February 3, 2000. Dimensional Fund Advisors Inc. is located at 1299 Ocean Avenue, 11th floor, Santa Monica, California 90401. (13) Includes 2,218,195 shares of Common Stock reserved for issuance upon exercise of stock options, which are or will become exercisable on or prior to August 31, 2000. 59 60 ITEM 13. CERTAIN RELATIONSHIPS AND RELATED PARTY TRANSACTIONS On January 1, 1994, VCA entered into employment agreements (the "Original Agreements") with each of Robert Antin, Arthur Antin, and Neil Tauber, which were amended on February 1, 1997 and November 22, 1999 (the "Amended Agreements"). Upon amendment to extend the term of each Original Agreement, base salaries were not modified. Pursuant to the terms of the Amended Agreements, the Compensation Committee of the Board retained a compensation consulting firm to determine comparable compensation packages provided to executives in similarly situated companies. In accordance with the recommendations of the compensation consulting firm, the Compensation Committee increased the base salaries of each of Robert Antin, Arthur Antin and Neil Tauber to $350,000, $250,000, $190,000, respectively. In 1999 the Compensation Committee increased the base salaries of each of Robert Antin, Arthur Antin and Neil Tauber to $364,000, $260,000 and $197, 600, respectively. Pursuant to the Amended Agreements each of Robert Antin, Arthur Antin and Neil Tauber were granted options to purchase 900,000, 450,000 and 360,000 shares of Common Stock of the Company, respectively, in 1997. These grants of stock options are expected to serve as long-term compensation for these officers over the next five years. In addition, the Board has determined that executive officers of VCA may earn bonuses during each calendar year based upon management achieving performance goals established by the Compensation Committee of the Board of Directors on an annual basis. If employment is terminated due to the death or disability of the employee, the agreements provide that VCA will pay the affected employee severance pay equal to five years' base salary. If employment is terminated by VCA without cause or by the employee for cause, the affected employee is entitled to severance pay in an amount equal to five years' base salary plus an amount equal to five times (a) in the event no previous bonus has been paid or is payable to the affected employee, 20% of the affected employee's base salary, and (b) in the event at least one bonus has been paid or is payable to the affected employee, the average bonus based on all bonuses paid or payable to the affected employee. If employment is terminated due to a change in control of VCA, the affected employee is entitled to severance pay in an amount equal to five years' base salary plus an amount equal to five times (a) in the event no previous bonus has been paid or is payable to the affected employee, 20% of the affected employee's salary, and (b) in the event at least one bonus has been paid or is payable to the affected employee, the greater of (x) the last annual bonus paid or payable to the affected employee, or (y) the average bonus based on all bonuses paid or payable to the affected employee. If employment is terminated due to the scheduled expiration of an employment agreement, the affected employee is entitled to severance pay in an amount equal to five years' base salary. Any shares of restricted common stock of VCA issued to the employee in lieu of cash bonuses, for purposes of computing the amount of severance pay, shall be valued at (x) in the case of a change of control, the per share price paid or payable by the acquirer in the change of control transaction, or (y) in all other cases, at the per share fair market value of the restricted common stock (taking into account any restrictions imposed thereon) on the date such shares were granted from VCA to the employee. In each of these employment agreements, events constituting "termination by the employee for cause" include (i) the willful breach of any of the material obligations of VCA to the employee under his employment agreement; (ii) the relocation of the chief executive offices of VCA outside of Los Angeles County, California; or (iii) in the case of employees who also serve as members of the Board, the failure of the employee to be reelected to, or the removal of the employee from, the Board. "Change of control" is defined in each of these agreements to include (a) a consolidation or merger of VCA into another entity in which VCA is not the continuing or surviving corporation or pursuant to which shares of Common Stock of the Company would be converted into cash, securities or other property, other than a merger of VCA in which the stockholders of VCA immediately prior to the merger have the same proportionate ownership of Common Stock of the surviving corporation immediately after the merger, (b) any sale, lease or other transfer of all or a significant portion of the assets of VCA, (c) the approval by the stockholders of VCA of any plan or proposal for the liquidation or dissolution of VCA, (d) the ownership by any person, who at the effective date of the employment agreement owned less than 10% of the Common Stock of the Company, shall become the beneficial owner of 20%, or more of the Common Stock of the Company or (e) during any consecutive two-year periods, individuals who at the beginning of such period constitute the entire Board of Directors shall cease for any reason to constitute a majority thereof unless the election, or the nomination for election by the stockholders of VCA, of each new director was approved by a vote of at least two-thirds of the directors then still in office who were directors at the beginning of the period. 60 61 VCA has entered into agreements with Tomas Fuller, Chief Financial Officer, Vice President and Assistant Secretary of VCA, pursuant to which VCA will pay Mr. Fuller a severance payment (i) equal to six months salary if Mr. Fuller's employment is terminated without cause (as defined above) and (ii) upon the occurrence of a change of control of VCA with the same terms and conditions as the Amended Agreements described above. Pursuant to the Amended Agreements between the Company and each of Messrs. Robert Antin and Arthur Antin on January 22, 1997, both of these officers executed a promissory note in favor of the Company in the amounts of $459,399 and $86,000, respectively, as payment for the exercise price of certain stock options. Each note bears interest at the midterm applicable federal rate and all outstanding principal and interest is due and payable on January 22, 2001. These officers executed a Security Agreement in favor of the Company providing that the shares of Common Stock purchased upon exercise of the options serve as collateral to secure each officer's obligations under his respective note. Mr. John A. Heil is a director of VCA and since 1978 has served in various capacities with affiliates of the H.J. Heinz Company ("Heinz"). In January 1993, VCA Specialty Pet Products, Inc., a wholly owned subsidiary of VCA ("VCA Pet Products"), and HPP Specialty Pet Products, Inc., an affiliate of Heinz ("HPP"), entered into a Partnership Agreement (the "Partnership Agreement") to develop, manufacture and market a full-line of premium pet food. Through 1996, VCA Pet Products, as majority owner and managing general partner, exercised day-to-day operating control for all aspects of the partnership. In 1997, the parties executed an amendment (the "Amendment") to the Partnership Agreement pursuant to which HPP was made managing partner and assumed the day-to-day control of the partnership. In connection with the Amendment, VCA Pet Products, VCA and HPP entered into certain consulting and management services agreements whereby VCA Pet Products and VCA will provide certain consulting and marketing services and continue to support the Select Balance and Select Care products in the veterinary marketplace. Mr. Heil did not participate in the VCA Board of Directors' discussions regarding the Partnership Agreement, the Amendment or the related documents and did not vote on any of these matters. The disinterested members of the VCA Board of Directors unanimously adopted the Partnership Agreement, the Amendment and the related documents. On August 11, 2000, the Company entered into an Amended and Restated Agreement and Plan of Merger (the "Merger Agreement") with Vicar Recap, Inc. ("Recap"), a Delaware corporation and wholly owned by Green Equity Investors III, L.P. ("GEIII"), and Vicar Operating Company, Inc., a Delaware corporation and wholly owned subsidiary of the Company. According to the terms of the Merger Agreement, the Company will be merged with and into Recap, with the Company as the surviving corporation (the "Merger"). In the Merger, each outstanding share of the Company's stock, par value $.001 per share, (other then shares held by dissenting stockholders, Recap, GEIII and in the Company's treasury) will be converted into the right to receive a cash payment of $15.00, without interest. Prior to the consummation of the Merger, certain directors and officers of the Company will exchange a certain number of their shares of Company stock in exchange for shares of Recap stock. The Board of Directors, relying on the recommendation of a special committee of the Board of Directors, comprised of directors who have no financial interest in the Merger, unanimously approved the Merger Agreement. The Merger is subject to shareholder approval and other customary closing conditions. 61 62 PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K (a) Exhibits: See attached exhibit index. (b) Financial Statement Schedules: Report of Independent Public Accounts Schedules for the years ended December 31, 1999, 1998, 1997 II - Valuation and Qualifying Accounts Schedules other than those listed above are omitted since they are not applicable, not required or the information required to be set forth herein is included in the consolidated financial statements or notes thereto. (c) Reports on Form 8-K: None 62 63 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, as amended, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized, this 22nd day of August, 2000. VETERINARY CENTERS OF AMERICA, INC. (Registrant) By: /S/ Robert L. Antin ------------------------------- Robert L. Antin Its: Chief Executive Officer Pursuant to the requirements of the Securities Exchange Act of 1934, as amended, this report has been signed below by the following persons on behalf of the Registrant and in the capacities indicated and on the dates indicated.
SIGNATURE TITLE DATE - --------- ----- ---- President, Chief Executive Officer And Chairman of the Board (Principal Executive /S/ ROBERT L. ANTIN Officer and Director) August 22 , 2000 - ------------------------------- Robert L. Antin Senior Vice President, Chief Operating Officer, * Secretary and Director August 22, 2000 - ------------------------------- Arthur J. Antin Senior Vice President, * Treasurer and Director August 22, 2000 - ------------------------------- Neil Tauber Vice President, Chief Financial Officer and Assistant Secretary * (Principal Accounting Officer) August 22, 2000 - ------------------------------- Tomas W. Fuller
63 64 Director August 22, 2000 - ------------------------------- John Heil * Director August 22, 2000 - ------------------------------- John Chickering Director August 22, 2000 - ------------------------------- Dr. Richard Gillespie *By: /S/ ROBERT L. ANTIN -------------------------- Robert L. Antin, Attorney-In-Fact
64 65 POWER OF ATTORNEY KNOW ALL MEN BY THESE PRESENTS, that each person whose signature appears below constitutes and appoints Robert L. Antin and Arthur J. Antin, or any one of them, his attorney-in-fact and agent, with full power of substitution, for him in any and all capacities, to sign any amendments to this Annual Report, and to file the same, with exhibits thereto and other documents in connection therewith, with the Securities and Exchange Commission, hereby ratifying and confirming all that said attorneys-in-fact, or their substitutes, may do or cause to be done by virtue hereof. In accordance with the Exchange Act, this Report has been signed below by the following persons on behalf of the Registrant and in the capacities indicated and on the dates indicated.
Signature Title Date - --------- ----- ---- President, Chief Executive Officer and Chairman of the Board (Principal Executive /s/ Robert L. Antin Officer and Director) March 15, 2000 - ------------------------------------- Robert L. Antin Senior Vice President, Chief Operating Officer, /s/ Arthur J. Antin Secretary and Director March 15, 2000 - ------------------------------------- Arthur J. Antin Senior Vice President, /s/ Neil Tauber Treasurer and Director March 15, 2000 - ------------------------------------- Neil Tauber Vice President, Chief Financial Officer and Assistant Secretary /s/ Tomas W. Fuller (Principal Accounting Officer) March 15, 2000 - ------------------------------------- Tomas W. Fuller Director - ------------------------------------- John Heil /s/ John Chickering Director March 15, 2000 - ------------------------------------- John Chickering Director - ------------------------------------- Dr. Richard Gillespie
65 66 EXHIBIT INDEX
ITEM NO. EXHIBIT - --------- -------- 3.1 Certificate of Incorporation of Registrant, as amended to date (1) 3.2 Certificate of Amendment of Certificate of Incorporation of Registrant (8) 3.3 Bylaws of Registrant, as currently in effect (2) 4.1 Specimen certificate evidencing Common Stock of Registrant (3) 4.2 Indenture, dated as of April 17, 1996, between Veterinary Centers of America, Inc. and the Chase Manhattan Bank, N.A. (4) 4.3 Form of Rights Agreement, dated as of December 30, 1997, between the Corporation and Continental Stock Transfer & Trust Company as Rights Agent (5) 4.4 Certificate of Designation of Rights, Preferences and Privileges of Preferred Stock (5) 4.5 Form of Rights Certificate (5) 10.1 1987 Stock Option Plan of Company and form of Stock Option Agreement used therewith, as amended (6) 10.2 Form of Indemnification Agreement between the Company and its Directors (2) 10.3 Amended and Restated Employment Agreement made and entered into as of February 1, 1997, by and between Robert L. Antin and the Company (7) 10.4 Amended and Restated Employment Agreement made and entered into as of February 1, 1997, by and between Arthur J. Antin and the Company (7) 10.5 Amended and Restated Employment Agreement made and entered into as of February 1, 1997, by and between Neil Tauber and the Company (7) 10.6 Letter Agreement dated November 22, 1999, amending the Amended and Restated Employment Agreement made and entered into as of February 1, 1997, by and between Robert J. Antin and the Company (8) 10.7 Letter Agreement dated November 22, 1999, amending the Amended and Restated Employment Agreement made and entered into as of February 1, 1997, by and between Arthur J. Antin and the Company (8) 10.8 Letter Agreement dated November 22, 1999, amending the Amended and Restated Employment Agreement made and entered into as of February 1, 1997, by and between Neil Tauber and the Company (8) 10.9 Agreement made and entered into as of October 13, 1999, by and between Tomas Fuller and the Company (8)
66 67 10.10 Partnership Agreement, dated January 1, 1993, of Specialty Pet Products partners (6) 10.11 1993 Incentive Stock Plan of the Company and form of Stock Plan Option Agreement used therewith (9) 10.12 First Amendment to Partnership Agreement, dated as of January 11, 1995 by and between HPP Specialty Pet Products Inc. and VCA Specialty Pet Products, Inc. (10) 10.13 Letter Agreement dated September 9, 1996 between VCA Specialty Pet Products, Inc., Veterinary Centers of America, Inc., HPP Specialty Pet Products, Inc. and Heinz Pet Products (11) 10.14 Restructuring Agreement between HPP Specialty Products, Inc., Heinz Pet Products, VCA Specialty Products, Inc. and Veterinary Centers of America, Inc. (11) 10.15 VCA 1996 Stock Incentive Plan (4) 10.16 VCA 1996 Employee Stock Purchase Plan (4) 21.1 Subsidiaries of Registrant 23.1 Consent of Arthur Andersen LLP 27.1 Financial Data Schedule (12)
- -------------------- (1) Incorporated by reference from Registrant's Report on Form 10-K/A, Amendment No. 1, for the year ended December 31, 1996 (2) Incorporated by reference for Registrant's Registration Statement on Form S-1, File No. 33-40095 (3) Incorporated by reference from Registrant's Registration Statement on Form S-1, File No. 33-42504 (4) Incorporated by reference from Registrant's Registration Statement on Form S-4, File No. 333-6667 (5) Incorporated by reference from Registrant's Report on Form 8-K filed on January 5, 1998 (6) Incorporated by reference from Registrant's Report on Form 10-KSB, for the year ended December 31, 1992 (7) Incorporated by reference from Registrant's Report on Form 10-K/A, Amendment No. 1, for the year ended December 31, 1998 (8) Incorporated by reference from Registrant's Report on Form 10-K/A, Amendment No. 1, for the year ended December 31, 1999. (9) Incorporated by reference from Registrant's Report on Form 10-KSB, for the year ended December 31, 1993 (10) Incorporated by reference from Registrant's Report on Form 10-KSB, for the year ended December 31, 1994 (11) Incorporated by reference from Registrant's Report on Form 10-K, for the year ended December 31, 1996 (12) Incorporated by reference from Registrant's Report on Form 10-K, for the year ended December 31, 1999 67 68 REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS To the Board of Directors and Stockholders of Veterinary Centers of America, Inc.: We have audited in accordance with generally accepted auditing standards in the United States, the consolidated financial statements of Veterinary Centers of America, Inc. and subsidiaries included in this Form 10-K and have issued our report thereon dated February 21, 2000. Our audits were made for the purpose of forming an opinion on the basic financial statements taken as a whole. The schedule identified as "Schedule II - Valuation and Qualifying Accounts" is the responsibility of the Company's management and is presented for purposes of complying with the Securities and Exchange Commission's rules and is not part of the basic consolidated financial statements. This schedule has been subjected to the auditing procedures applied in the audit of the basic consolidated financial statements and, in our opinion, fairly states in all material respects the financial data required to be set forth therein in relation to the basic consolidated financial statements taken as a whole. /s/ Arthur Andersen LLP ARTHUR ANDERSEN LLP Los Angeles, California February 21, 2000 68 69 VETERINARY CENTERS OF AMERICA, INC. AND SUBSIDIARIES SCHEDULE II -- VALUATION AND QUALIFYING ACCOUNTS FOR THE YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997 (IN THOUSANDS)
Balance at Charged to beginning costs and Balance at of period expenses Write-offs Other (1) end of period ---------- ----------- ---------- --------- ------------- Year ended December 31, 1999 .................... $ 6,532 $ 2,515 $(2,252) $ 637 $ 7,432 Allowance for uncollectible accounts Year ended December 31, 1998 .................... 5,128 2,898 (1,831) 337 6,532 Allowance for uncollectible accounts Year ended December 31, 1997 .................... 4,212 2,726 (2,184) 374 5,128 Allowance for uncollectible accounts
(1) "Other" changes in the allowance for uncollectible accounts include allowances acquired with Animal Hospitals and Laboratories acquisitions. 69 EX-21.1 2 ex21-1.txt EXHIBIT 21.1 1 EXHIBIT 21.1 LIST OF SUBSIDIARIES
NAME OF SUBSIDIARY STATE OF INCORPORATION DOING BUSINESS AS OR ORGANIZATION - ------------------ ---------------------- West Los Angeles Veterinary Medical Group, Inc. California VCA Clinical Veterinary Labs, Inc. California Lakewood Animal Hospital, Inc. California VCA Lakewood Animal Hospital Robertson Blvd. Animal Hospital, Inc. California VCA Robertson Blvd. Animal Hospital VCA Bay Area Animal Hospital, Inc. California Northern Animal Hospital Inc. Arizona VCA Northern Animal Hospital VCA of San Jose, Inc. California VCA Crocker Animal Hospital VCA Real Property Acquisition Corporation California VCA of Colorado - Anderson, Inc. California VCA Anderson Animal Hospital Anderson Animal Hospital, Inc. Colorado VCA - Animal Hospital West, Inc. California Westwood Dog and Cat Hospital, Inc. California VCA Animal Hospital West VCA of Teresita, Inc. California VCA Teresita Animal Hospital VCA - Asher, Inc. California VCA Asher Animal Hospital Asher Veterinary Medical Clinic - a general partnership California Wingate, Inc. Colorado VCA Wingate Animal Hospital VCA - Mission, Inc. California VCA Mission Animal Hospital VCA Albuquerque, Inc. California VCA Veterinary Care Animal Hospital
1 2
NAME OF SUBSIDIARY STATE OF INCORPORATION DOING BUSINESS AS OR ORGANIZATION - ------------------ ---------------------- VCA Wyoming Animal Hospital, Inc. California Animal Emergency Clinic, P.C. Illinois Berwyn Animal Emergency Clinic, Inc. Animal Health Care and Emergency Clinic, P.C. and Animal Health Care, P.C. VCA Specialty Pet Products, Inc. California VCA Rossmoor, Inc. California Rossmoor - El Dorado Animal Hospital, Inc. California VCA-Rossmoor El Dorado Animal Hospital Rossmoor Center Animal Clinic, Inc. California VCA Albany Animal Hospital, Inc. California VCA Albany Animal Hospital Albany Veterinary Clinic, Inc. California VCA Howell Branch Animal Hospital, Inc. California Howell Branch Animal Hospital, P.A. Florida VCA Cacoosing Animal Hospital, Inc. California Cacoosing Animal Hospital, Ltd. Pennsylvania Cacoosing Pet Care & Nutrition Center, Inc. Pennsylvania Vet Research Laboratories, LLC Delaware VCA Anderson of California Animal Hospital, Inc. California South County Veterinary Clinic, Inc. California South County Animal Hospital, LLC California VCA Clinipath Labs, Inc. California VCA Eagle River Animal Hospital, Inc. California Eagle River Animal Hospital, Inc. California VCA Miller Animal Hospital, Inc. California Miller Animal Hospital, Inc. California VCA Marina Animal Hospital, Inc. California
2 3
NAME OF SUBSIDIARY STATE OF INCORPORATION DOING BUSINESS AS OR ORGANIZATION - ------------------ ---------------------- Veterinary Hospitals, Inc. California Marina Veterinary Clinic VCA All Pets Animal Complex, Inc. California All Pets Complex (GP) Utah VCA Castle Shannon Animal Hospital, Inc. California VCA APAC Animal Hospital, Inc. California VCA Northwest Veterinary Diagnostics, Inc. California VCA Information Systems, Inc. California VCA East Anchorage Animal Hospital, Inc. California Fox Chapel Animal Hospital, Inc. Pennsylvania MS Animal Hospitals, Inc. California VCA Professional Animal Laboratory, Inc. California Antech Diagnostics VCA Detwiler Animal Hospital, Inc. California Detwiler Veterinary Clinic, Inc. Pennsylvania VCA Lakeside Animal Hospital, Inc. California Lakeside Animal Partnership California VCA Cenvet, Inc. California VCA Golden Cove Animal Hospital, Inc. California Golden Cove Animal Clinic BerLa, Inc. California VCA Golden Cove Animal Hospital Golden Cove Animal Clinic Avian Animal Clinic, Etc. Animal Clinic of Golden Cove Tampa Animal Medical Center, Inc. Florida VCA Tampa Animal Hospital VCA Silver Spur Animal Hospital, Inc. California Silver Spur Animal Hospital, Inc. California
3 4
NAME OF SUBSIDIARY STATE OF INCORPORATION DOING BUSINESS AS OR ORGANIZATION - ------------------ ---------------------- VCA Lewis Animal Hospital, Inc. California Lewelling Veterinary Clinic, Inc. California VCA South Shore Animal Hospital, Inc. California VCA Alpine Animal Hospital, Inc. California VCA Greater Savannah Animal Hospital, Inc. California VCA Kaneohe Animal Hospital, Inc. California VCA Lammers Animal Hospital, Inc. California Lammers Veterinary Hospital, Inc. California VCA Referral Associates Animal Hospital, Inc. California VCA Clarmar Animal Hospital, Inc. California Clarmar Animal Hospital, Inc. California VCA St. Petersburg Animal Hospital, Inc. California St. Petersburg Animal Hospital, LLC California VCA Northboro Animal Hospital, Inc. California VCA Animal Hospitals, Inc. California VCA Parkwood Animal Hospital VCA Agoura Meadows Veterinary Clinic VCA Santa Anita Animal Hospital VCA Bering Sea Animal Hospital VCA Animal Care Center VCA Rock Creek Animal Hospital VCA Animal Medical Center VCA All Creatures Animal Hospital VCA Rohrig Animal Hospital VCA New York Veterinary Hospital Animal Medical Center VCA Cat Hospital of Philadelphia Pets' Rx, Inc. Delaware Pets' Rx Nevada, Inc. Nevada William C. Fouts, Ltd. Nevada Decatur Animal Clinic
4 5
NAME OF SUBSIDIARY STATE OF INCORPORATION DOING BUSINESS AS OR ORGANIZATION - ------------------ ---------------------- H.B Animal Clinics, Inc. California Blossom Veterinary Clinic Princeton Animal Hospital California Almaden Valley Veterinary Hospital Spring Mountain Animal Hospital, L.L.C. Nevada Old Town Veterinary Hospital, Inc. Virginia VCA North Rockville Animal Hospital, Inc. California North Rockville Veterinary Hospital, Inc. Maryland VCA Lamb & Steward Animal Hospital, Inc. California VCA Squire Animal Hospital, Inc. California VCA Texas Management, Inc. California VCA Centers - Texas, Inc. Texas Veterinary Centers of America - Texas, L.P. Texas VCA Animal Hospital - Texas, L.P. Texas VCA I30 Animal Hospitals - Texas, L.P. Texas VCA Coast Animal Hospital, LLC California Golden Merger Corporation Delaware La Grange Park Animal Hospital Eagle Park Animal Clinic, Inc. Indiana Newark Animal Hospital, Inc. Delaware Academy Animal, Inc. Maryland Edgebrook, Inc. New Jersey Riviera Animal Hospital, Inc. Florida PPI of Pennsylvania, Inc. Delaware Noyes Animal Hospital, Inc. Illinois
5 6
NAME OF SUBSIDIARY STATE OF INCORPORATION DOING BUSINESS AS OR ORGANIZATION - ------------------ ---------------------- Professional Veterinary Services, Inc. Indiana Village Park Animal Center Cross Pointe Animal Hospital Indianapolis Spay Neuter Animal Hospital Wellington Animal Clinic Templeton Animal Hospital Greenwood Spay Neuter Animal Hospital Southeastern Animal Hospital The Pet Practice (Florida), Inc. Delaware The Pet Practice (Illinois), Inc. Delaware The Pet Practice of Michigan, Inc. Delaware The Pet Practice (Massachusetts), Inc. Delaware The Pet Practice (Massachusetts), Inc. Massachusetts VCA Twin Rivers Animal Hospital LLC Delaware VCA Spanish River Animal Hospital L.P. Delaware Spanish River Animal Hospital, Inc. Florida VCA Closter, Inc. New Jersey AAH Merger Corporation Delaware Freehold, Inc. New Jersey San Vicente Animal Clinic, Inc. California VCA Villa Animal Hospital, L.P. California VCA Triangle Tower Animal Hospital, L.P. California VCA of New York, Inc. Delaware VCA MacArthur Animal Hospital, L.P. California VCA Oneida Animal Hospital, L.P. California VCA New London Animal Hospital, L.P. California W.E. Zuschlag, D.V.M. Worth Animal Hospital, Chartered Illinois VCA Rohrig Animal Hospital, Inc. California Highlands Animal Hospital, Inc. Virginia
6 7
NAME OF SUBSIDIARY STATE OF INCORPORATION DOING BUSINESS AS OR ORGANIZATION - ------------------ ---------------------- Oak Hill Animal Hospital, Inc. Massachusetts Diagnostic Veterinary Service, Inc. California VCA Ana Brook Animal Hospital - a general partnership California Vet's Choice - a general partnership California The Wisdom Group, LP California Florida Veterinary Labs, Inc. Florida VCA Ana Brook Animal Hospital - a general partnership California
7 EX-23.1 3 ex23-1.txt EXHIBIT 23.1 1 EXHIBIT-23.1 CONSENT OF INDEPENDENT PUBLIC ACCOUNTANTS As independent public accountants, we hereby consent to the incorporation of our reports included in this Form 10-K, into the Company's previously filed Registration Statements on Form S-1 and Form S-3 File 33-42504, on Form S-8 File 33-44622, File 33-56846, File 33-56848, File 33-57768, File 33-57770, File 33-57772, File 33-67588 and File 333-19017, on Form S-3 File 33-80212, File 333-97682, File 333-00376, File 333-7677, File 333-8441 and File 333-18261 and on Form S-4 File 333-6667 and File 333-9119, on Form S-3 File 33-91678, on Form S-3 File 33-92582, on Form S-3 File 333-00324. /s/ Arthur Andersen LLP ARTHUR ANDERSEN LLP Los Angeles, California August 22, 2000 -----END PRIVACY-ENHANCED MESSAGE-----