-----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, O6CX8L1YtXlD9bT4WyHeZZPfPqWyOQvy/4+pRrO1mYxq7w4G+gWiT28dCk0ePI6/ BPMlKlWl+prV9KUqtfoqww== 0000950148-99-001890.txt : 19990819 0000950148-99-001890.hdr.sgml : 19990819 ACCESSION NUMBER: 0000950148-99-001890 CONFORMED SUBMISSION TYPE: 10-Q/A PUBLIC DOCUMENT COUNT: 1 CONFORMED PERIOD OF REPORT: 19990630 FILED AS OF DATE: 19990818 FILER: COMPANY DATA: COMPANY CONFORMED NAME: VETERINARY CENTERS OF AMERICA INC CENTRAL INDEX KEY: 0000817366 STANDARD INDUSTRIAL CLASSIFICATION: AGRICULTURE SERVICES [0700] IRS NUMBER: 954097995 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q/A SEC ACT: SEC FILE NUMBER: 000-19935 FILM NUMBER: 99695446 BUSINESS ADDRESS: STREET 1: 3420 OCEAN PARK BLVD STE 1000 CITY: SANTA MONICA STATE: CA ZIP: 90405 BUSINESS PHONE: 3103929599 MAIL ADDRESS: STREET 1: 3420 OCEAN PARK BLVD STE 1000 CITY: SANTA MC STATE: CA ZIP: 90405 10-Q/A 1 FORM 10-Q/A 1 UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-Q/A (Mark One) [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended June 30, 1999 OR [ ] 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 incorporation or organization) Identification No.)
3420 OCEAN PARK BOULEVARD, SUITE 1000 SANTA MONICA, CALIFORNIA 90405 (Address of principal executive offices) (310) 392-9599 (Registrant's telephone number, including area code) NONE (Former name, address and fiscal year, if changed since last report) Check whether the issuer (1) has filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act during the past 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 [ ] State the number of shares outstanding of each of the issuer's class of common stock as of the latest practicable date: Common Stock, $.001 Par Value 21,580,172 shares as of August 6, 1999. 2 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Veterinary Centers of America, Inc. and subsidiaries ("VCA" or the "Company") is one of the nation's largest animal health care companies. The Company has established a premier position in two core businesses, animal hospitals ("Animal Hospitals") and veterinary diagnostic laboratories ("Laboratories"). The Company operates the largest nationwide networks of free-standing, full-service animal hospitals and veterinary-exclusive laboratories. Over the past several years, the Company has expanded its animal hospital network and veterinary diagnostic laboratory operations through acquisitions. Animal hospitals and veterinary diagnostic laboratories have been acquired through a combination of issuance of common stock, notes payable and cash. 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, including, without limitation, the information set forth under the heading "Risk Factors", as well as the information set forth below. RESULTS OF OPERATIONS REVENUES The following table summarizes the Company's revenues for the three and six months ended June 30, 1999 and 1998 (amounts in thousands):
Three Months Ended Six Months Ended June 30, June 30, 1999 1998 %Increase 1999 1998 %Increase ------- ------- --------- -------- -------- --------- Animal Hospitals .................. $60,434 $52,125 15.9% $110,160 $ 96,466 14.2% Laboratories ...................... 27,276 24,142 13.0% 52,845 43,244 22.2% Intercompany Sales ................ (1,546) (1,588) (3,003) (2,962) ------- ------- -------- -------- $86,164 $74,679 15.4% $160,002 $136,748 17.0% ======= ======= ======== ========
The increases in Animal Hospitals' revenues in the 1999 periods from the 1998 comparable periods were primarily the result of the increase in the number of facilities operated by the Company. The results for 1999 include the revenues of 29 animal hospitals acquired subsequent to June 30, 1998. 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, was approximately 1.6% and 2.2% for the three and six months ended June 30, 1999, respectively. Same-store facilities are animal hospitals that were owned as of the beginning of the prior year periods. At June 30, 1999, the Company owned and managed 189 animal hospitals, of which 38 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 professional corporations ("PCs") who provide all veterinary medical care and have the rights to all associated revenue. The Company owns all of the assets of these 38 animal hospitals and provides all administrative functions. In return for its services, the Company receives management fees from the PCs, which has 1 3 been included in the Company's revenues. The Company does not consolidate the operations of these 38 managed animal hospitals, as the Company has not met certain consolidation requirements. Combined revenues from animal hospitals owned and managed by VCA (had the managed hospitals' operations been consolidated with owned hospitals) increased 18.4% and 15.8% for the three and six months ended June 30, 1999, respectively, relative to the comparable 1998 periods. The increase in combined revenues from animal hospitals owned and managed by VCA resulting from changes in volume or prices at same-store facilities, as compared to the corresponding periods in the prior year, was approximately 2.7% and 2.5% for the three and six months ended June 30, 1999, respectively. Pursuant to the restructuring agreement and other related agreements between Heinz Pet Products (HPP) and the Company, the Company has agreed to provide certain consulting and management services for a three-year period commencing February 1, 1997 for an aggregate fee of $15.3 million receivable in semi-annual installments over a five-year period (the "Consulting Fees"). The Consulting Fees earned in the three months ended June 30, 1999 and 1998, of $1,275,000, for each quarter, are included in Animal Hospital revenues. The Consulting Fees earned in the six months ended June 30, 1999 and 1998 were $2,550,000 for each six-month period. The Company's consulting services to HPP will be completed in February 2000. The increase in Laboratories' revenues was primarily due to the $10.9 million acquisition on February 26, 1998, of certain assets of the veterinary diagnostics laboratory business from Laboratory Corporation of America Holdings ("LabCorp"). In addition, Laboratories' revenues have increased as the result of the acquisition of the business of two other veterinary diagnostic laboratories since March 31, 1998 and the success achieved with increased marketing efforts. GROSS PROFIT The following tables summarizes the Company's gross profit for the three and six months ended June 30, 1999 and 1998 (amounts in thousands):
Three Months Ended Six Months Ended June 30, June 30, ------------------- ------------------- 1999 1998 %Increase 1999 1998 %Increase ------- ------- --------- ------- ------- --------- Animal Hospitals ................. $15,057 $12,833 17.3% $24,085 $21,549 11.8% Laboratories ..................... 10,288 8,188 25.6% 19,821 14,277 38.8% ------- ------- ------- ------- $25,345 $21,021 20.6% $43,906 $35,826 22.6% ======= ======= ======= =======
Gross profit for the 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, supply costs and costs of goods sold associated with the retail sales of pet food and pet supplies. Animal Hospitals' gross profit represented 24.9% and 24.6% of Animal Hospitals' revenues for the three months ended June 30, 1999 and 1998, respectively. Animal Hospital gross profit represented 21.9% and 22.3% of Animal Hospital revenues for the six months ended June 30, 1999 and 1998, respectively. The gross profit margin for "same-store" hospitals owned by the Company prior to April 1, 1998 was 23.6% and 21.2% for the three months ended June 30, 1999 and 1998, respectively, and for those owned by the Company prior to January 1, 1998 was 19.9% and 19.0% for six months ended June 30, 1999 and 1998, respectively. The gross profit margins for "newly acquired" hospitals (those acquired by the Company after the beginning of the periods presented) were 20.1% and 20.0% for the three and six months ended June 30, 1999, respectively. Gross profit margins for "same-store" and "newly acquired" hospitals have been calculated excluding the Consulting Fees of $1,275,000 earned in each of the three months and $2,550,000 earned in each of the six months ended June 30, 1999 and 1998 respectively. Had the managed hospitals' operations been consolidated with owned hospitals, gross profit margins would have been 23.8% and 24.0% for the three months and 21.0% and 21.7% for the six months ended June 30, 1999 and 1998, respectively. "Same-store" gross profit margins from the combined operations of animal hospitals owned and 2 4 managed by VCA was 22.9% and 19.3% for the three-month periods and 18.5% for both the six-month periods ended June 30, 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, occupancy costs, and supply costs. Laboratories gross profit represented 37.7% and 33.9% of Laboratories revenues for the three months ended June 30, 1999 and 1998, respectively. For the six-month periods ended June 30, 1999 and 1998, Laboratory gross margins were 37.5% and 33.0%, respectively. The increase in the gross profit percentages for the three and six months ended June 30, 1999 when compared to the corresponding 1998 periods was primarily attributable to the phase-in of operations of LabCorp in 1998. While the Company recognized certain costs related to the phase-in of LabCorp during the six months ended June 30, 1998, revenue was not earned until April 1, 1998. The Company's Animal Hospitals historically has realized lower gross profits margins than that of its Laboratories business. If the portion of the Company's revenues attributable to its Animal Hospitals operations grows 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. SELLING, GENERAL AND ADMINISTRATIVE EXPENSES VCA Corporate selling, general and administrative expenses consists of administrative expense, including the salaries of corporate officers, other professional expenses, rent and occupancy costs associated with the Company's headquarters. Selling, general and administrative expense for the three and six months ended June 30, 1999 and 1998 is comprised of the following (amounts in thousands):
Three Months Ended Six Months Ended June 30, June 30, ------------------ ------------------- 1999 1998 1999 1998 ------ ------ ------- ------ VCA Corporate ............................ $4,079 $3,123 $8,210 $6,745 Laboratories ............................. 1,290 1,353 2,681 2,619 ------ ------ ------- ------ $5,369 $4,476 $10,891 $9,364 ====== ====== ======= ======
VCA Corporate and Laboratories selling, general and administrative expense, as a percentage of Animal Hospitals and Laboratories revenues, was 6.2% and 6.0% for the three months ended June 30, 1999 and 1998, respectively. For the six months ended June 30, 1999 and 1998, VCA Corporate and Laboratories selling, general and administrative expenses as a percentage of Animal Hospitals and Laboratories revenues was 6.8% for both periods. DEPRECIATION AND AMORTIZATION Depreciation and amortization expense primarily relates to the depreciation of capital assets and the amortization of excess cost over the fair value of net assets acquired (goodwill) and certain other intangibles. Depreciation and amortization expense increased to $7,460,000 for the six months ended June 30, 1999 from $6,259,000 for the six months ended June 30, 1998. The increase in depreciation and amortization expense is due to the acquisition of animal hospitals and laboratories since the beginning of 1998. The Company's policy is to amortize goodwill over the expected period to be benefited, not exceeding forty years. RESTRUCTURING RESERVES During 1996, the Company adopted and implemented a restructuring plan (the "1996 Plan") designed to restructure the Company's animal hospital and laboratory operations in connection with its 1996 acquisitions. In addition, certain hospitals which did not meet the new standards for performance adopted by the Company in light of the increase in the size of its animal hospital operations, were to be closed or sold. During the six months ended 3 5 June 30, 1999, pursuant to the 1996 Plan, the Company incurred $285,000 of cash expenditures for lease and other contractual obligations. Also, during the six months ended June 30, 1999, the Company recognized a $320,000 favorable settlement from a laboratory operations' contract, terminated as part of the 1996 Plan. At June 30, 1999, the 1996 Plan restructuring reserve balance was $1,106,000, consisting primarily of lease and other contractual obligations, which will extend through 2014. During 1997, the Company reviewed the financial performance of its animal hospitals. As a result of this review, additional animal hospitals were determined not to meet the Company's performance standards. Accordingly, the Company adopted phase two of its restructuring plan (the "1997 Plan"). During the six months ended June 30, 1999, pursuant to the 1997 Plan, the Company incurred $35,000 of cash expenditures for lease obligations. In addition, the Company sold the building of a previously closed hospital resulting in an additional $4,000 asset write-down. At June 30, 1999, the 1997 Plan restructuring reserve balance was $1,189,000, consisting primarily of lease obligations and reserves for asset write-downs. The 1997 Plan is expected to be completed in 1999, although certain lease obligations will continue through 2005. YEAR 2000 REMEDIATION EXPENSES AND ACCELERATED DEPRECIATION The Company incurred $884,000 and $1,171,000 in Year 2000 remediation expenses for the three and six months ended June 30, 1999, respectively. The Company also recorded $270,000 and $614,000 in Year 2000-related accelerated depreciation for the three and six months ended June 30, 1999, respectively. See "Impact of Year 2000" for additional disclosures on the Company's Year 2000 plans and expenditures. LIQUIDITY AND CAPITAL RESOURCES Cash provided by operations during the six months ended June 30, 1999 was $25,411,000 compared to $17,626,000 for the comparable period in 1998, an increase of $7,785,000. The most significant component of this increase relates to the timing of certain receipts and disbursements. In addition, the results for 1999 include 29 animal hospitals and two veterinary diagnostic laboratory businesses acquired since June 30, 1998, as well as a full six months of LabCorp operations versus three months in 1998. The Company has plans to build, upgrade, expand or replace approximately 28 animal hospitals. The Company expended $2.1 million for such purposes during the six months ended June 30, 1999 and expects to incur additional costs of approximately $8.2 million over the next 12 months. Additionally, the Company spent $3.7 million on property, other equipment and software (not including year 2000 compliance) and expects to continue upgrades or replacements as needed. As of June 30, 1999, the Company has incurred approximately $3.2 million in expenditures relating to Year 2000 compliance, and projects spending an additional $4.4 million in the remainder of 1999. Of the total $7.8 million that will be expended, approximately $4.5 million is expected to be capitalized while $3.3 million is expected to be expensed. See "Impact of Year 2000" for more information on the Company's plans related to the Year 2000 compliance. 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 August 6, 1999, the Company has acquired 62,000 shares for a total consideration of $910,444. On April 1, 1999, the Company completed the acquisition of AAH Management Corp. ("AAH"), for a total consideration of approximately $28.5 million, consisting of $8.6 million in cash, $1.2 million notes, 517,568 shares of VCA common stock valued at approximately $7.8 million and the assumption of approximately $11 million in debt. In addition to the AAH acquisition, the Company acquired nine animal hospitals and two laboratories for a total consideration of $9.1 million, during the six months ended June 30, 1999. 4 6 The Company has achieved its growth in the past through acquisitions, and anticipates it will continue its growth in the future through the acquisition of animal hospitals acquisitions for cash, stock and notes. The Company anticipates it will complete the acquisition of an additional 15 to 20 individual animal hospitals during the next 12 months, which will require cash of up to $15 million. In addition, the Company continues to examine acquisition opportunities in the veterinary diagnostic laboratory field which may impose additional cash requirements. The Company intends to fund its future cash requirements primarily from its cash and marketable securities and funds generated from operations. The Company believes these sources of funds will be sufficient to support the Company's operations and planned capital expenditures for at least the next 12 months. A significant portion of the Company's cash requirements is determined by the pace and size of its acquisitions. IMPACT OF YEAR 2000 GENERAL DESCRIPTION OF THE YEAR 2000 ISSUE The Year 2000 issue is the result of computer hardware and software language which utilizes two digits rather than four digits to define the applicable year. As a result, some of the Company's software, hardware, equipment and building operating systems have date-sensitive software or embedded chips which may recognize a date using "00" as Year 1900 rather than as Year 2000 or not recognize the year at all. This could result in system failures that would disrupt Company operations, including a temporary inability of the Company to process transactions and customer invoices or engage in normal business activities. The Company will be required to modify or replace significant portions of its software, hardware, equipment and building operating systems so that those systems and equipment will properly function beyond December 31, 1999. The Company presently believes that with modification or replacement of certain existing software, hardware, equipment and building operating systems, the Year 2000 issue should be mitigated. However, if action is not timely, the Year 2000 issue could have a material impact on the operations of the Company. STATE OF READINESS The Company's plan to resolve its Year 2000 issues involves the following four phases: (i) completing an inventory of all software, hardware, equipment and building operating systems ("Inventory"); (ii) assessing the Year 2000 compliance status of all software, hardware, equipment and building operating systems ("Assessment"); (iii) repairing or replacing software, hardware, equipment and building operating systems that are determined not to be Year 2000 compliant ("Repair/Replace"); and (iv) testing software, hardware, equipment and building operating systems for Year 2000 compliance ("Testing"). The Company will assess each of its three divisions of business operations (Animal Hospitals, Laboratories and VCA Corporate) for Year 2000 compliance. As of June 30, 1999, the Company has completed its inventory of all software, hardware, equipment and building operating systems. The Company has completed its assessment of the IT (Information Technology) systems that could be significantly affected by the Year 2000 issue. The assessment of the non-IT systems and equipment resulted in the determination that the impact of the Year 2000 issue on such non-IT systems and equipment will not be material to the Company's overall operations. There are no significant IT projects that have currently been deferred due to the Year 2000 efforts. 5 7 The Company's Year 2000 compliance plan includes either upgrades to or replacement of software, hardware, equipment and building operating systems. The Company's Year 2000 efforts are progressing according to schedule. The status of the Company's progress, identified by phase and division, is summarized in the table below:
Estimated Projected Percentage Phase Division Start Date Completion Date Complete - ------------------ -------------------- ----------------- --------------- -------- Inventory Animal Hospitals September 1998 January 1999 100% VCA Corporate September 1998 January 1999 100% Laboratories September 1998 January 1999 100% Assessment Animal Hospitals October 1998 June 1999 100% VCA Corporate October 1998 March 1999 100% Laboratories September 1998 April 1999 100% Repair/Replace Animal Hospitals February 1999 November 1999 60% VCA Corporate October 1998 October 1999 70% Laboratories October 1998 October 1999 90% Testing Animal Hospitals February 1999 November 1999 60% VCA Corporate October 1998 October 1999 70% Laboratories October 1998 October 1999 90%
The Company projects that modifications to all software, hardware, equipment and building operating systems will be Year 2000 compliant by November 1999. It is expected that this will allow sufficient time for further modifications, if necessary, prior to the arrival of the Year 2000. There is no certainty that the schedule will proceed according to plan or that delays will not occur. Specific factors that might cause such delays include the availability of personnel and the ability to locate and correct all relevant IT and non-IT systems and equipment. The Company has completed the process of contacting material third parties (suppliers, vendors and subcontractors) to determine the extent to which the Company may be vulnerable as a result of a failure by any of these third parties to remedy their own Year 2000 issues. The Company has requested all material third parties to respond to a questionnaire, which was sent by the Company, on the status of their Year 2000 compliance, and to provide written assurance that they will be Year 2000 compliant. As of August 6, 1999, the Company has received approximately 72% of the required responses from material third parties. Most of the responses received from third parties indicated that they are in process of evaluating their Year 2000 compliance. The Company expects to evaluate and verify the status of all material third-party Year 2000 compliance status through follow-up questionnaires, letters and phone calls. The Company is uncertain whether the risks of non-Year 2000 compliance by third parties will materially affect the Company's operations or financial position. The Company has determined it is not substantially reliant on any one vendor or supplier and expects to find alternative resources in order to continue to conduct daily operations. However, there can be no assurance that material third parties will not suffer a Year 2000 business disruption which could have a material adverse effect on the Company's results of operations or financial position. COSTS TO ADDRESS YEAR 2000 COMPLIANCE The Company will utilize both internal and external resources to inventory, assess, repair or replace and test the software, hardware, equipment and building operating systems needed for Year 2000 modifications. The Company has prepared a budget relating to all aspects for Year 2000 compliance. This budget accounts for all labor, hardware, software, maintenance and equipment, including Animal Hospitals' medical billing systems, VCA Corporate's accounting system and Laboratories' billing and diagnostic systems. 6 8 The Company's expenditures in 1999 through August 6, 1999 amounted to approximately $3.6 million. Expenditures for Year 2000 compliance costs approximated $365,000 in 1998. The Company projects spending an additional $4.2 million in 1999. The total 1999 budget for the Year 2000 project is estimated at approximately $7.8 million. There can be no assurance that the actual cost of Year 2000 correction will not materially exceed these estimates. The projected costs will be funded through normal operations and leasing of hardware and software. Additionally, the Company has recently determined that certain software, hardware, equipment and building operating systems will not have useful lives beyond 1999 because of Year 2000 system issues. This results in shorter useful lives than originally projected. Total depreciation on such software, hardware, equipment and building operating systems in 1999 is estimated at $1.6 million, which includes approximately $1 million of additional accelerated depreciation as a result of the shorter projected useful lives. RISKS ASSOCIATED WITH YEAR 2000 ISSUES Unless the Company completes the planned upgrades and implementation of software, hardware, equipment and building operating systems, the Year 2000 issue will pose significant operational problems. If such conversions are not made, or are not completed in a timely manner, the Year 2000 issue could have a material impact on the operations of the Company. Failure to be Year 2000 compliant could result in potential unidentified liabilities, a decline in billing and collections, and the Company's inability to perform necessary day-to-day functions. At this time, the estimated lost revenues and the impact on the Company's operations and financial position cannot be determined. The following describes the most reasonably likely worst case Year 2000 scenarios for each division of the Company: (a) The Company's animal hospitals' medical billing systems would cease to function properly, resulting in an inability of the Company to access data or operate the computerized cash balancing features. Additionally, the medical non-IT systems and equipment would fail, resulting in an inability of the Company to provide certain services for clients. (b) The Company's accounting and payroll systems would fail or malfunction, resulting in the corruption of data files on a Company-wide basis. Such failure or malfunction would also prevent the accounts payable, accounts receivable and payroll functions from operating properly, resulting in the inability to produce checks and delays in billings and cash collections. (c) The Company's laboratories would experience problems if the computer interface with the lab equipment and/or fax machines fail. This would prohibit the computerization of lab reports, resulting in delayed reporting to clients. Certain non-IT medical systems and equipment also could fail, resulting in an inability of the Company to provide certain services for customers. (d) The Company's material third parties would fail to appropriately remedy their Year 2000 issues, such failure would have a material adverse effect on the Company's daily operations, results of operations and financial position. CONTINGENCY PLAN The Company's Year 2000 compliance plan will ultimately include the development of contingency plans for each division in the event that the Company has not completed all of its compliance phases in a timely manner or as a result of any third parties who are unable to provide goods or services essential to the Company's operations. The Company is in the process of developing the appropriate contingency plans should it fail to meet its Year 2000 compliance objectives by December 31, 1999. The Company expects to establish formal contingency plans for each division by September 1999. 7 9 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. As a result of these acquisitions, our revenues grew from $181.4 million in 1996 to $235.9 million in 1997 to $281.0 million in 1998. In 1999 through June 30, we acquired 24 animal hospitals and two veterinary diagnostic laboratories. 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: o adverse short-term effects on our reported operating results o impairments of goodwill and other intangible assets o the diversion of management's attention o the dependence on retention, hiring and training of key personnel o the amortization of intangible assets o 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: o the identification of potential acquisition candidates o the willingness of the owners to sell on reasonable terms o the satisfactory completion of negotiations o 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 and regulatory 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 20 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. 8 10 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 June 30, 1999, we have consolidated long-term obligations (including current portion) of $162 million and our ratio of long-term debt (including current portion) to total stockholders' equity was .73 to 1.0. 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 June 30, 1999, our balance sheet reflected $288 million of intangible assets of these types, which is a substantial portion of our total assets of $424 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 may 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. 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. 9 11 COMPETITION The animal health care industry is highly competitive. We believe that the primary competitive factors in connection with animal hospitals include: o convenient location o recommendation of friends o reasonable fees o quality of care o convenient hours 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: o quality o price o 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 state or local 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 financings, 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, 10 12 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, under which 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. 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 6, 1999, VCA had 21,580,172 shares of common stock outstanding (including 289,165 shares held in treasury), most of which are either freely tradable in the public market without restriction or tradable in accordance with Rule 144 under the Securities Act. There are also 7,110 shares which VCA is obligated to issue in connection with the Pets' Rx and Pet Practice mergers and certain acquisitions; 3,722,559 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: o variations in quarterly operating results o litigation involving VCA o announcements by VCA or its competitors o 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. PENDING LITIGATION The Company and certain of its current and former officers and directors were named as defendants in lawsuits filed in both Los Angeles Superior Court and the United States District Court for the Central District of California, each entitled Pegasus Holdings and Pacific Strategic Funds Group, Inc. v. Veterinary Centers of America, Inc., et al., each filed on June 19, 1998. These lawsuits primarily involve claims alleging securities fraud. Settlements in principle have been reached with respect to these lawsuits. Under the proposed settlement, the claims against VCA and all other defendants will be dismissed without presumption or admission of any liability or wrongdoing. The full amount of the settlement and associated legal costs have either been previously reserved or will be covered by VCA's insurance carriers. We cannot assure you however that a final binding settlement agreement embodying these terms will be executed by the parties. If a final agreement is not reached between the parties and we are unable to resolve the claims that are the basis of the lawsuits or to prevail in any related litigation, we may be obligated to pay a substantial monetary amount in damages for which we may not be adequately insured, which could have a material adverse effect on our business, financial position and results of operations. In any event, our defense of these lawsuits may result in substantial cost to VCA as well as significant dedication of management resources, as we intend to vigorously defend against them. 11 13 SIGNATURE Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. VETERINARY CENTERS OF AMERICA, INC Date: August 6, 1999 /s/ Tomas W. Fuller ------------------------------------ Tomas W. Fuller Chief Financial Officer 12 -----END PRIVACY-ENHANCED MESSAGE-----