-----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, MJLyGMgwaav947TGYqk8zlP8sY9EGyTmGi+y1aLsCchsmWe8bV48yibTT/ihej66 an9GGcOpEyiyZ2uuNi2Egg== 0000831967-99-000012.txt : 19991115 0000831967-99-000012.hdr.sgml : 19991115 ACCESSION NUMBER: 0000831967-99-000012 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 2 CONFORMED PERIOD OF REPORT: 19990930 FILED AS OF DATE: 19991112 FILER: COMPANY DATA: COMPANY CONFORMED NAME: KINETIC CONCEPTS INC /TX/ CENTRAL INDEX KEY: 0000831967 STANDARD INDUSTRIAL CLASSIFICATION: MISCELLANEOUS FURNITURE & FIXTURES [2590] IRS NUMBER: 741891727 STATE OF INCORPORATION: TX FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: SEC FILE NUMBER: 001-09913 FILM NUMBER: 99748715 BUSINESS ADDRESS: STREET 1: 8023 VANTAGE DR CITY: SAN ANTONIO STATE: TX ZIP: 78230 BUSINESS PHONE: 2103083993 MAIL ADDRESS: STREET 1: P. 0. B0X 659508 CITY: SAN ANTONIO STATE: TX ZIP: 78230 10-Q 1 SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 Form 10-Q (Mark One) [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the Quarterly period ended September 30, 1999 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from _____________ to ________________ Commission file number 1-9913 KINETIC CONCEPTS, INC. _________________________________________________________________________ (Exact name of registrant as specified in its charter) Texas 74-1891727 _________________________________ ___________________________________ (State of Incorporation) (I.R.S. Employer Identification No.) 8023 Vantage Drive San Antonio, Texas 78230 (210) 524-9000 _________________________________ ___________________________________ (Address of principal executive (Registrant's phone number) offices and zip code) 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 the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date. Common Stock: 70,915,008 shares as of November 1, 1999 PART I - FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS - ----------------------------- KINETIC CONCEPTS, INC. AND SUBSIDIARIES Condensed Consolidated Balance Sheets (in thousands)
September 30, December 31, 1999 1998 ------------ ------------- (unaudited) Assets: Current assets: Cash and cash equivalents............. $ 6,598 $ 4,366 Accounts receivable, net.............. 77,976 79,411 Inventories........................... 25,370 28,662 Prepaid expenses and other............ 15,401 14,552 ------- ------- Total current assets............... 125,345 126,991 ------- ------- Net property, plant and equipment....... 79,576 77,950 Goodwill, less accumulated amortization of $20,407 in 1999 and $17,323 in 1998................................. 54,422 54,327 Loan issuance costs, less accumulated amortization of $4,423 in 1999 and $2,687 in 1998....................... 13,813 15,380 Other assets, less accumulated amortization of $3,929 in 1999 and $3,425 in 1998....................... 24,749 31,469 ------- ------- $ 297,905 $ 306,117 ======= ======= Liabilities and Shareholders' Deficit: Current liabilities: Accounts payable...................... $ 1,194 $ 3,438 Accrued expenses...................... 38,749 35,321 Current installments of long-term obligations......................... 14,800 8,800 Current installments of capital lease obligations......................... 111 150 Income tax payable.................... 1,451 2,689 ------- ------- Total current liabilities.......... 56,305 50,398 ------- ------- Long-term obligations, excluding current installments......................... 490,918 507,055 Capital lease obligations, excluding current installments................. 287 129 Deferred income taxes, net.............. 9,923 10,123 ------- ------- 557,433 567,705 ------- ------- Commitments and contingencies (Note 6) Shareholders' deficit: Common stock; issued and outstanding 70,915 in 1999 and in 1998......... 71 71 Retained deficit..................... (254,986) (259,121) Accumulated other comprehensive income............................. (4,613) (2,538) ------- ------- (259,528) (261,588) ------- ------- $ 297,905 $ 306,117 ======= =======
See accompanying notes to condensed consolidated financial statements. ITEM 1. FINANCIAL STATEMENTS (CONTINUED) - ----------------------------------------- KINETIC CONCEPTS, INC. AND SUBSIDIARIES Condensed Consolidated Statements of Earnings (in thousands, except per share data) (unaudited)
Three months ended Nine months ended September 30, September 30, ------------------ ----------------- 1999 1998 1999 1998 -------- -------- -------- -------- Revenue: Rental and service....... $ 60,307 $ 62,865 $183,532 $193,188 Sales and other.......... 19,382 18,183 56,373 51,115 ------ ------ ------- ------- Total revenue.......... 79,689 81,048 239,905 244,303 Rental expenses.......... 40,127 40,204 125,678 124,426 Cost of goods sold....... 7,163 6,717 21,895 19,146 ------ ------ ------- ------- 47,290 46,921 147,573 143,572 ------ ------ ------- ------- Gross profit........... 32,399 34,127 92,332 100,731 Selling, general and administrative expenses.. 17,772 15,458 49,676 49,312 ------ ------ ------- ------- Operating earnings..... 14,627 18,669 42,656 51,419 Interest income........... 73 85 234 477 Interest expense.......... (11,748) (12,155) (34,953) (36,473) Foreign currency loss..... (131) (280) (928) (521) ------ ------ ------- ------- Earnings before income taxes and minority interest............ 2,821 6,319 7,009 14,902 Income taxes.............. 1,199 2,528 2,874 5,971 Minority interest in subsidiary loss........ -- 1 -- 25 ------ ------ ------- ------- Net earnings........... $ 1,622 $ 3,792 $ 4,135 $ 8,956 ====== ====== ======= ======= Earnings per share..... $ 0.02 $ 0.05 $ 0.06 $ 0.13 ====== ====== ======= ======= Earnings per share - assuming dilution... $ 0.02 $ 0.05 $ 0.06 $ 0.12 ====== ====== ======= ======= Average common shares: Basic (weighted average outstand- ing shares)....... 70,915 70,872 70,915 70,872 ====== ====== ======= ======= Diluted (weighted average outstand- ing shares)....... 73,245 73,264 73,250 73,264 ====== ====== ======= =======
See accompanying notes to condensed consolidated financial statements. ITEM 1. FINANCIAL STATEMENTS (CONTINUED) - ----------------------------------------- KINETIC CONCEPTS, INC. AND SUBSIDIARIES Condensed Consolidated Statements of Cash Flows (in thousands) (unaudited)
Nine months ended September 30, -------------------- 1999 1998 --------- --------- Cash flows from operating activities: Net earnings............................... $ 4,135 $ 8,956 Adjustments to reconcile net earnings to net cash provided (used) by operating activities: Depreciation........................... 20,259 19,123 Amortization........................... 5,326 4,463 Provision for uncollectible accounts receivable........................... 3,499 1,575 Change in assets and liabilities net of effects from purchase of subsidiaries: Increase in accounts receivable, net. (2,660) (1,849) Decrease (increase) in inventories... 2,955 (3,169) Decrease in prepaid expenses and other.............................. (848) 4,168 Decrease in accounts payable......... (2,378) (36,493) Increase in accrued expenses......... 3,193 1,742 Increase (decrease) in income taxes payable............................ (1,238) 171 Increase (decrease) in deferred income taxes, net.................. (200) 1,105 ------ ------ Net cash provided (used) by operating activities........... 32,043 (208) ------ ------ Cash flows from investing activities: Additions to property, plant, and equipment................................ (20,485) (22,235) Increase in inventory to be converted into equipment for short-term rental..... (1,500) (5,900) Dispositions of property, plant, and equipment................................ 1,596 1,813 Businesses acquired in purchase transac- tions, net of cash acquired.............. (5,054) (2,827) Decrease (increase) in other assets........ 6,120 (1,546) ------ ------ Net cash used by investing activities..................... (19,323) (30,695) ------ ------ Cash flows from financing activities: Repayments of long-term obligations........ (10,137) (28,122) Borrowings (repayments) of capital lease obligations.............................. 120 (131) Proceeds from the sale of stock and exer- cise of stock options.................... -- 300 Reimbursement of recapitalization costs and other.................................... -- 2,087 ------ ------ Net cash used by financing activities..................... (10,017) (25,866) ------ ------ Effect of exchange rate changes on cash and cash equivalents........................... (471) (96) ------ ------ Net increase (decrease) in cash and cash equivalents................................ 2,232 (56,865) Cash and cash equivalents, beginning of period..................................... 4,366 61,754 ------ ------ Cash and cash equivalents, end of period..... $ 6,598 $ 4,889 ====== ====== Supplemental disclosure of cash flow information: Cash paid during the first nine months for: Interest................................. $ 27,902 $ 30,901 Income taxes............................. $ 6,385 $ 4,212
See accompanying notes to condensed consolidated financial statements. ITEM 1. FINANCIAL STATEMENTS (CONTINUED) - ----------------------------------------- KINETIC CONCEPTS, INC. AND SUBSIDIARIES NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited) (1) BASIS OF PRESENTATION --------------------- The financial statements presented herein include the accounts of Kinetic Concepts, Inc. and all subsidiaries (the "Company"). The condensed consolidated financial statements appearing in this quarterly report on Form 10-Q should be read in conjunction with the financial statements and notes thereto included in the Company's latest annual report on Form 10-K. Certain information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted. The foregoing financial information reflects all adjustments (consisting only of normal recurring adjustments) which are, in the opinion of management, necessary for a fair presentation of the financial position and results of operations for the interim periods presented. Interim period operating results are not necessarily indicative of the results to be expected for the full fiscal year. Certain reclassifications of amounts related to the prior year have been made to conform with the 1999 presentation. (2) INVENTORY COMPONENTS -------------------- Inventories are stated at the lower of cost (first-in, first-out) or market (net realizable value). Inventories are comprised of the following (in thousands): September 30, December 31, 1999 1998 ------------ ------------ Finished goods............... $ 8,847 $10,974 Work in progress............. 2,695 4,203 Raw materials, supplies and parts...................... 23,428 21,585 ------ ------ 34,970 36,762 Less amounts expected to be converted into equipment for short-term rental............ 9,600 8,100 ------ ------ Total inventories....... $25,370 $28,662 ====== ====== (3) DISPOSITIONS ------------ In February 1999, the Company liquidated the assets and discontinued the operations of KCI Insurance Company Co., Ltd. (the "Captive") resulting in the return of cash to the Company of approximately $5.2 million which was used to pay down a portion of the long-term credit facility and other liabilities. The obligations remaining under the Captive as of that date have been assumed by the Company. The Company did not recognize any gain or loss as a result of this transaction. ITEM 1. FINANCIAL STATEMENTS (CONTINUED) - ----------------------------------------- KINETIC CONCEPTS, INC. AND SUBSIDIARIES NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited) (4) LONG TERM OBLIGATIONS --------------------- Long-term obligations consist of the following (in thousands): September 30, December 31, 1999 1998 ------------- ------------ Senior Credit Facilities: Revolving bank credit facility.. $ 6,500 $ 10,000 Acquisition credit facility..... 10,000 10,000 Term loans: Tranche A due 2003........... 111,750 117,000 Tranche B due 2004........... 88,425 89,100 Tranche C due 2005........... 88,425 89,100 ------- ------- 305,100 315,200 9 5/8% Senior Subordinated Notes Due 2007......................... 200,000 200,000 ------- ------- 505,100 515,200 Less: Current installments......... 14,800 8,800 ------- ------- 490,300 506,400 Other.............................. 618 655 ------- ------- $490,918 $507,055 ======= ======= Senior Credit Facilities Indebtedness under the Senior Credit Facilities, including the Revolving Credit Facility (other than certain loans under the Revolving Credit Facility designated in foreign currency), the Term Loans and the Acquisition Facility initially bear interest at a rate based upon (i) the Base Rate (defined as the higher of (x) the rate of interest publicly announced by Bank of America as its "reference rate" or (y) the federal funds effective rate from time to time plus 0.50%), plus 1.25% in respect of the Tranche A Term Loans, the loans under the Revolving Credit Facility (the "Revolving Loans") and the loans under the Acquisition Facility (the "Acquisition Loans"), 1.50% in respect of the Tranche B Term Loans and 1.75% in respect of the Tranche C Term Loans, or at the Company's option, (ii) the Eurodollar Rate (as defined in the Sr. Credit Facility Agreement) for one, two, three or six months, in each case plus 2.25% in respect of Tranche A Term Loans, Revolving Loans and Acquisition Loans, 2.50% in respect of Tranche B Term Loans and 2.75% in respect of the Tranche C Term Loans. Certain Revolving Loans designated in foreign currency will initially bear interest at a rate based upon the cost of funds for such loans, plus 2.25% or 2.50%, depending on the type of foreign currency. Performance-based reductions of the interest rates under the Term Loans, the Revolving Loans and the Acquisition Loans are available. In December 1998, the Company entered into three interest rate protection agreements which effectively fix the base borrowing rate on 92% of the Company's variable rate debt as follows (dollars in millions): Base Annual Swap Interest Maturity Amount Rate ---------- ------ -------- 01/08/2002 $150.0 5.5775% 12/29/2000 95.0 4.8950% 12/31/1999 35.0 4.8550% ITEM 1. FINANCIAL STATEMENTS (CONTINUED) - ---------------------------------------- KINETIC CONCEPTS, INC. AND SUBSIDIARIES NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited) (4) LONG TERM OBLIGATIONS (continued) -------------------------------- As a result of the interest rate protection agreements, the Company recorded additional net interest expense of approximately $204,000 and $71,000 through the nine months ended September 30, 1999 and 1998, respectively. The fair value of these agreements at September 30, 1999 was not material. The Revolving Loans may be repaid and reborrowed throughout the year. At September 30, 1999, the aggregate availability under the Revolving Credit and Acquisition Facilities was $80.0 million. The Term Loans are subject to quarterly amortization payments which began on March 31, 1998. Commitments under the Acquisition Facility will expire December 31, 2000 and Acquisition Facility loans outstanding shall be repayable in equal quarterly payments commencing March 31, 2001. In addition, the Bank Credit Agreement provides for mandatory repayments, subject to certain exceptions, of the Term Loans, the Acquisition Facility and/or the Revolving Credit Facility based on certain net asset sales outside the ordinary course of business of the Company and its subsidiaries, the net proceeds of certain debt and equity issuances and excess cash flows. Indebtedness of the Company under the Senior Credit Agreement is guaranteed by certain of the subsidiaries of the Company and is secured by (i) a first priority security interest in all, subject to certain customary exceptions, of the tangible and intangible assets of the Company and its domestic subsidiaries, including, without limitation, intellectual property and real estate owned by the Company and its subsidiaries, (ii) a first priority perfected pledge of all capital stock of the Company's domestic subsidiaries and (iii) a first priority perfected pledge of up to 65% of the capital stock of foreign subsidiaries owned directly by the Company or its domestic subsidiaries. The Senior Credit Agreement requires the Company to meet certain financial tests, including minimum levels of EBITDA (as defined therein), minimum interest coverage, maximum leverage ratio and capital expenditures. The Bank Credit Agreement also contains covenants which, among other things, limit the incurrence of additional indebtedness, investments, dividends, loans and advances, capital expenditures, transactions with affiliates, asset sales, acquisitions, mergers and consolidations, prepayments of other indebtedness, liens and encumbrances and other matters customarily restricted in such agreements. The Company is in compliance with the applicable covenants at September 30, 1999. As of December 31, 1999, the minimum EBITDA required under the Senior Credit Agreement is $100 million on a trailing 12- month basis. The Senior Credit Agreement anticipated that the Company would have received Medicare Part B reimbursement coverage prior to the end of 1999. Without this reimbursement coverage, and due in part to the dramatic decrease in extended care rental revenue, the Company could potentially be out of compliance with its Senior Credit Agreement covenants as of December 31, 1999. The Company is vigorously pursuing the issuance of a Medicare Part B reimbursement code for the V.A.C. with the Health Care Financing Administration. The Company has recently been informed that decision-making ITEM 1. FINANCIAL STATEMENTS (CONTINUED) - ----------------------------------------- KINETIC CONCEPTS, INC. AND SUBSIDIARIES NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited) (4) LONG TERM OBLIGATIONS (continued) -------------------------------- authority for the establishment of a V.A.C. reimbursement code has been returned to the Medical Directors of the Durable Medical Equipment Regional Carriers ("DMERC's"). The Medical Directors have also indicated their support for a V.A.C. reimbursement code and criteria. 9 5/8% Senior Subordinated Notes Due 2007 The 9 5/8% Senior Subordinated Notes Due 2007 (the "Notes") are unsecured obligations of the Company, ranking subordinate in right of payment to all senior debt of the Company and will mature on November 1, 2007. Interest on the Notes accrues at the rate of 9 5/8% per annum and is payable semiannually in cash on each May 1 and November 1, commencing on May 1, 1998, to the persons who are registered Holders at the close of business on April 15 and October 15, respectively, immediately preceding the applicable interest payment date. Interest on the Notes accrues from and includes the most recent date to which interest has been paid or, if no interest has been paid, from and including the date of issuance. The Notes are not entitled to the benefit of any mandatory sinking fund. In addition, at any time, or from time to time, the Company may acquire a portion of the Notes through open- market purchases. (5) EARNINGS PER SHARE ------------------ The following table sets forth the reconciliation from basic to diluted average common shares and the calculations of net earnings per common share. Net earnings for basic and diluted calculations do not differ (In thousands, except per share): Three months ended Nine months ended September 30, September 30, ------------------ ------------------ 1999 1998 1999 1998 -------- -------- -------- -------- Net earnings.............. $ 1,622 $ 3,792 $ 4,135 $ 8,956 ====== ====== ====== ====== Average common shares: Basic (weighted-average outstanding shares)... 70,915 70,872 70,915 70,872 Dilutive potential common shares from stock options......... 2,330 2,392 2,335 2,392 ------ ------ ------ ------ Diluted (weighted- average outstanding shares)............... 73,245 73,264 73,250 73,264 ====== ====== ====== ====== Earnings per share........ $ 0.02 $ 0.05 $ 0.06 $ 0.13 ====== ====== ====== ====== Earnings per share - assuming dilution....... $ 0.02 $ 0.05 $ 0.06 $ 0.12 ====== ====== ====== ====== ITEM 1. FINANCIAL STATEMENTS (CONTINUED) - ---------------------------------------- KINETIC CONCEPTS, INC. AND SUBSIDIARIES NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited) (6) COMMITMENTS AND CONTINGENCIES ----------------------------- The Company is party to several lawsuits generally incidental to its business and is contesting certain adjustments proposed by the Internal Revenue Service to prior years' tax returns. Certain provisions have been made in the accompanying financial statements for estimated exposures related to these lawsuits and adjustments. In the opinion of management, the disposition of these items will not have a material effect on the Company's financial statements. Other than commitments for new product inventory, including disposable "for sale" products, of $1.6 million, the Company has no material long-term capital commitments and can adjust the level of capital expenditures as circumstances warrant. (7) OTHER COMPREHENSIVE INCOME -------------------------- The Company adopted Financial Accounting Standards Board ("FASB") Statement No. 130, "Reporting Comprehensive Income", in the first quarter of 1998. The adoption of this Statement has had no impact on the net earnings or shareholders' equity (deficit) of the Company. This standard requires disclosure of total non-owner changes in shareholders' equity, which is defined as net earnings plus direct adjustments to shareholders' equity, such as equity and cash investment adjustments and foreign currency translation adjustments. For KCI, other comprehensive income consists of net earnings plus foreign currency translation adjustments recorded in each period. The Company's comprehensive income for the three months ended September 30, 1999 and 1998 was approximately $1.7 million and $4.3 million, respectively, and for the first nine months of 1999 and 1998, was $2.1 million and $8.6 million, respectively. The earnings associated with the Company's investment in its foreign subsidiaries are considered to be permanently invested and no provision for U.S. federal and state income taxes on these earnings or translation adjustments has been made. (8) SEGMENT AND GEOGRAPHIC INFORMATION ---------------------------------- The Company is principally engaged in the sale and rental of innovative therapeutic systems throughout the United States and in twelve primary countries internationally. In June 1997, the FASB issued Statement No. 131 "Disclosures about Segments of an Enterprise and Related Information", which the Company adopted in 1998. The Company identifies its business segments based on management responsibility within the United States and geographically for all international units. As of August 1, 1999, KCI New Technologies, Inc. ("NuTech") merged into KCI Therapeutic Services ("KCI USA"). The Company measures segment profit as operating profit, which is defined as income before interest income or expense, foreign currency gains and losses, income taxes and minority interest. All inter-company ITEM 1. FINANCIAL STATEMENTS (CONTINUED) - ----------------------------------------- KINETIC CONCEPTS, INC. AND SUBSIDIARIES NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited) (8) SEGMENT AND GEOGRAPHIC INFORMATION (continued) ---------------------------------------------- transactions are eliminated in computing revenues, operating income and assets. Information on segments and a reconciliation to income before interest, income taxes, foreign currency gains and losses and minority interest are as follows (in thousands): Three Months Ended Nine Months Ended September 30, September 30, ------------------ ------------------- 1999 1998 1999 1998 -------- ------- -------- -------- Revenue: KCI USA.............. $ 58,189 $ 61,172 $175,716 $187,087 KCI International.... 20,989 19,464 63,395 56,459 Other (1)............ 511 412 794 757 ------- ------- ------- ------- $ 79,689 $ 81,048 $239,905 $244,303 ======= ======= ======= ======= Operating Earnings: KCI USA.............. $ 18,129 $ 21,653 $ 52,984 $ 62,669 KCI International.... 4,244 3,845 12,553 10,736 Other (2)............ (7,746) (6,828) (22,881) (21,986) ------- ------- ------- ------- $ 14,627 $ 18,669 $ 42,656 $ 51,419 ======= ======= ======= ======= (1) Other revenue consists primarily of contract metal fabrication income. (2) General headquarter expenses are not allocated to the individual segments and include executive, financial, legal and administrative expenses. (9) NEW ACCOUNTING PRONOUNCEMENTS ----------------------------- In June 1998, the FASB issued Statement No. 133, Accounting for Derivative Instruments and Hedging Activities, which must be adopted in years beginning after June 15, 1999. In June 1999, FASB Statement No. 137 was issued, which delays the adoption of Statement No. 133 to June 15, 2000. The Company expects to adopt the new Statement effective January 1, 2001. The Statement will require the Company to recognize all derivatives on its balance sheet at fair value. Derivatives that are not hedges must be adjusted to fair value through income. If the derivative is a hedge, depending on its nature, changes in the fair value of the derivative will either be (i) offset against the change in fair value of the hedged assets, liabilities, or firm commitments through earnings or (ii) recognized in other comprehensive income until the hedged item is recognized in earnings. The ineffective portion of a derivative's change in fair value will be immediately recognized in earnings. The Company has not yet determined what the effect of Statement 133 will be on the earnings and financial position of the Company. ITEM 1. FINANCIAL STATEMENTS (CONTINUED) - ---------------------------------------- KINETIC CONCEPTS, INC. AND SUBSIDIARIES NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited) (9) NEW ACCOUNTING PRONOUNCEMENTS (continued) ---------------------------------------- In March 1998, the Accounting Standards Executive Committee issued Statement of Position ("SOP") 98-1, "Accounting For the Costs of Computer Software Developed or Obtained for Internal Use." The SOP was effective beginning January 1, 1999. The SOP requires the capitalization of certain costs incurred after the date of adoption in connection with developing or obtaining software for internal use. The Company does not anticipate that the adoption of this SOP will have a material impact on the Company's future earnings or financial position. (10) GUARANTOR CONDENSED CONSOLIDATING FINANCIAL STATEMENTS ------------------------------------------------------ In November 1997, Kinetic Concepts, Inc. issued $200 million in subordinated debt securities to finance a tender offer to purchase certain of its outstanding common shares. In connection with the issuance of these securities, certain of its subsidiaries (the "guarantor subsidiaries") serve as guarantors. Certain other subsidiaries (the "nonguarantor subsidiaries") do not guarantee any Company debt. Each guarantor subsidiary is a wholly-owned subsidiary of the Company and has fully and unconditionally guaranteed the debt securities. The following tables present the condensed consolidating balance sheets of Kinetic Concepts, Inc. as a parent company, its guarantor subsidiaries and its non-guarantor subsidiaries as of September 30, 1999 and December 31, 1998 and the related condensed consolidating statements of earnings for the three and nine month periods ended September 30, 1999 and 1998 and the condensed consolidated statements of cash flows for the nine month periods ended September 30, 1999 and 1998, respectively. Condensed Consolidating Guarantor, Non-Guarantor and Parent Company Balance Sheet September 30, 1999 (in thousands) (unaudited)
Kinetic Concepts, Reclassi- Kinetic Inc. Non- fications Concepts, Parent Guarantor Guarantor and Inc. Company Sub- Sub- elimi- and Sub- Borrower sidiaries sidiaries nations sidiaries -------- --------- --------- -------- --------- ASSETS: Current assets: Cash and cash equivlents......... $ -- $ -- $ 9,405 $ (2,807) $ 6,598 Accounts receivable, net................ -- 66,226 17,635 (5,885) 77,976 Inventories.......... -- 15,340 10,030 -- 25,370 Prepaid expenses and other.............. -- 12,630 3,987 (1,216) 15,401 ------- ------- ------ ------- ------- Total current assets......... -- 94,196 41,057 (9,908) 125,345 Net property, plant and equipment............ -- 81,646 9,035 (11,105) 79,576 Goodwill, net.......... -- 49,387 5,035 -- 54,422 Loan issuance costs, net.................. -- 13,813 -- -- 13,813 Other assets, net...... -- 24,697 52 -- 24,749 Intercompany invest- ments and advances... (259,528) 463,926 4,032 (208,430) -- ------- ------- ------ ------- ------- Total assets..... $(259,528) $ 727,665 $ 59,211 $(229,443) $ 297,905 ======= ======= ====== ======= ======= LIABILITIES AND SHARE- HOLDERS'(DEFICIT) EQUITY: Accounts payable....... $ -- $ 2,694 $ 1,307 $ (2,807) $ 1,194 Accrued expenses....... -- 31,787 6,962 -- 38,749 Intercompany payables.. -- 5,704 4,905 (10,609) -- Current installments of long-term obligations -- 14,800 -- -- 14,800 Current installments of capital lease obli- gations.............. -- 111 -- -- 111 Income tax payable..... -- -- 2,667 (1,216) 1,451 ------- ------- ------- ------- ------- Total current liabilities.... -- 55,096 15,841 (14,632) 56,305 ------- ------- ------- ------- ------- Long-term obligations, excluding current installments......... -- 490,783 135 -- 490,918 Capital lease obliga- tions, excluding current installments. -- 284 3 -- 287 Deferred income taxes, net.................. -- 16,303 -- (6,380) 9,923 ------- ------- ------- ------- ------- Total liabilities -- 562,466 15,979 (21,012) 557,433 Shareholders' equity (deficit)............ (259,528) 165,199 43,232 (208,431) (259,528) ------- ------- ------- ------- ------- Total liabilities and equity (deficit)...... $(259,528) $727,665 $ 59,211 $(229,443) $ 297,905 ======= ======= ======= ======= =======
Condensed Consolidating Guarantor, Non-Guarantor and Parent Company Balance Sheet December 31, 1998 (in thousands)
Kinetic Concepts, Reclassi- Kinetic Inc. Non- fications Concepts, Parent Guarantor Guarantor and Inc. Company Sub- Sub- Elimi- and Sub- Borrower sidiaries sidiaries nations sidiaries -------- --------- --------- --------- --------- ASSETS: Current assets: Cash and cash equiv- alents............. $ -- $ -- $ 9,543 $ (5,177) $ 4,366 Accounts receivable, net................ -- 66,372 17,474 (4,435) 79,411 Inventories.......... -- 18,971 9,691 -- 28,662 Prepaid expenses and other.............. -- 11,240 3,312 -- 14,552 ------- ------- ------ ------- ------- Total current assets......... -- 96,583 40,020 (9,612) 126,991 Net property, plant and equipment...... -- 79,110 9,717 (10,877) 77,950 Goodwill, net........ -- 49,033 5,294 -- 54,327 Loan issuance, cost, net................ -- 15,380 -- -- 15,380 Other assets, net.... -- 31,417 52 -- 31,469 Intercompany invest- ments and advances. (261,588) 460,361 1,104 (199,877) -- ------- ------- ------ ------- ------- Total assets.... $(261,588) $731,884 $ 56,187 $(220,366) $306,117 ======= ======= ====== ======= ======= LIABILITIES AND SHARE- HOLDERS'(DEFICIT) EQUITY: Accounts payable....... $ -- $ 6,512 $ 2,104 $ (5,178) $ 3,438 Accrued expenses....... -- 27,015 8,306 -- 35,321 Intercompany payables.. -- 6,151 3,765 (9,916) -- Current installments on long-term obligations -- 8,800 -- -- 8,800 Current installments of capital lease obligations.......... -- 150 -- -- 150 Income tax payable..... -- 1,612 1,077 -- 2,689 ------- ------- ------ ------- ------- Total current liabilities... -- 50,240 15,252 (15,094) 50,398 ------- ------- ------ ------- ------- Long-term obligations excluding current installments......... -- 507,055 -- -- 507,055 Capital lease obliga- tions, excluding current installments. -- 99 30 -- 129 Deferred income taxes, net.................. -- 15,519 -- (5,396) 10,123 ------- ------- ------ ------- ------- Total liabilities -- 572,913 15,282 (20,490) 567,705 Shareholders' (deficit) equity............... (261,588) 158,971 40,905 (199,876) (261,588) ------- ------- ------ ------- ------- Total liabilities and equity (deficit)...... $(261,588) $731,884 $ 56,187 $(220,366) $306,117 ======= ======= ====== ======= =======
Condensed Consolidating Guarantor, Non-Guarantor and Parent Company Statement of Earnings For the three months ended September 30, 1999 (in thousands) (unaudited)
Kinetic Concepts, Reclassi- Kinetic Inc. Non- fications Concepts, Parent Guarantor Guarantor and Inc. Company Sub- Sub- Elimi- and Sub- Borrower sidiaries sidiaries nations sidiaries -------- --------- --------- --------- --------- Revenue: Rental and service.... $ -- $ 46,354 $ 13,953 $ -- $ 60,307 Sales and other....... -- 14,802 7,598 (3,018) 19,382 ------ ------ ------ ----- ------ Total revenue...... -- 61,156 21,551 (3,018) 79,689 Rental expenses....... -- 29,593 10,534 -- 40,127 Cost of goods sold.... -- 7,311 1,841 (1,989) 7,163 ------ ------ ------ ----- ------ -- 36,904 12,375 (1,989) 47,290 ------ ------ ------ ----- ------ Gross profit....... -- 24,252 9,176 (1,029) 32,399 Selling, general and administrative expenses............ -- 15,866 1,906 -- 17,772 ------ ------ ------ ----- ------ Operating earnings -- 8,386 7,270 (1,029) 14,627 Interest income....... -- 46 27 -- 73 Interest expense...... -- (11,748) -- -- (11,748) Foreign currency gain (loss).............. -- (161) 30 -- (131) ------ ------ ------ ----- ------ Earnings (loss) before income taxes............ -- (3,477) 7,327 (1,029) 2,821 Income taxes.......... -- (1,453) 3,063 (411) 1,199 ------ ------ ------ ----- ------ Earnings (loss) before equity in earnings of subsidiaries..... -- (2,024) 4,264 (618) 1,622 Equity in earnings of subsidiaries.. 1,622 4,264 -- (5,886) -- ------ ------ ------ ----- ------ Net earnings....... $ 1,622 $ 2,240 $ 4,264 $ (6,504) $ 1,622 ====== ====== ====== ===== ======
Condensed Consolidating Guarantor, Non-Guarantor and Parent Company Statement of Earnings For the three months ended September 30, 1998 (in thousands) (unaudited)
Kinetic Concepts, Reclassi- Kinetic Inc. Non- fications Concepts, Parent Guarantor Guarantor and Inc. Company Sub- Sub- Elimi- and Sub- Borrower sidiaries sidiaries nations sidiaries -------- --------- --------- --------- --------- Revenue: Rental and service..... $ -- $ 50,399 $ 12,466 $ -- $ 62,865 Sales and other........ -- 15,839 5,933 (3,589) 18,183 ------ ------ ------ ----- ------ Total revenue....... -- 66,238 18,399 (3,589) 81,048 Rental expenses........ -- 29,233 10,971 -- 40,204 Cost of goods sold..... -- 5,397 3,225 (1,905) 6,717 ------ ------ ------ ----- ------ -- 34,630 14,196 (1,905) 46,921 ------ ------ ------ ----- ------ Gross profit........ -- 31,608 4,203 (1,684) 34,127 Selling, general and administrative expenses............. -- 14,530 928 -- 15,458 ------ ------ ------ ----- ------ Operating earnings.. -- 17,078 3,275 (1,684) 18,669 Interest income........ -- 46 39 -- 85 Interest expense....... -- (12,155) -- -- (12,155) Foreign currency gain (loss)............... -- (6) (275) 1 (280) ------ ------ ------ ----- ------ Earnings before income taxes and minority interest. -- 4,963 3,039 (1,683) 6,319 Income taxes........... -- 2,005 1,247 (724) 2,528 Minority interest...... -- -- (1) -- (1) ------ ------ ------ ----- ------ Earnings before equity in earnings of subsidiaries... -- 2,958 1,793 (959) 3,792 Equity in earnings of subsidiaries... 3,792 1,793 -- (5,585) -- ------ ------ ------ ----- ------ Net earnings........ $ 3,792 $ 4,751 $ 1,793 $(6,544) $ 3,792 ====== ====== ====== ===== ======
Condensed Consolidating Guarantor, Non-Guarantor and Parent Company Statement of Earnings For the nine months ended September 30, 1999 (in thousands) (unaudited)
Kinetic Concepts, Reclassi- Kinetic Inc. Non- fications Concepts, Parent Guarantor Guarantor And Inc. Company Sub- Sub- Elimi- and Sub- Borrower sidiaries sidiaries nations sidiaries --------- --------- --------- --------- --------- Revenue: Rental and service....... $ -- $141,498 $ 42,034 $ -- $183,532 Sales and other.......... -- 45,793 19,897 (9,317) 56,373 ------ ------- ------ ------ ------- Total revenue......... -- 187,291 61,931 (9,317) 239,905 Rental expenses.......... -- 90,283 35,395 -- 125,678 Cost of goods sold....... -- 19,782 7,944 (5,831) 21,895 ------ ------- ------ ------ ------- -- 110,065 43,339 (5,831) 147,573 ------ ------- ------ ------ ------- Gross profit.......... -- 77,226 18,592 (3,486) 92,332 Selling, general and administrative expenses -- 45,586 4,090 -- 49,676 ------ ------- ------ ------ ------- Operating earnings.... -- 31,640 14,502 (3,486) 42,656 Interest income.......... -- 103 131 -- 234 Interest expense......... -- (34,953) -- -- (34,953) Foreign currency loss.... -- (888) (40) -- (928) ------ ------- ------ ------ ------- Earnings(loss) before income taxes........ -- (4,098) 14,593 (3,486) 7,009 Income taxes............. -- (1,834) 6,102 (1,394) 2,874 ------ ------- ------ ------ ------- Earnings (loss) before equity in earnings of subsidiaries..... -- (2,264) 8,491 (2,092) 4,135 Equity in earnings of subsidiaries..... 4,135 8,491 -- (12,626) -- ------ ------ ------ ------ ------- Net earnings.......... $ 4,135 $ 6,227 $ 8,491 $(14,718) $ 4,135 ====== ====== ====== ====== =======
Condensed Consolidating Guarantor, Non-Guarantor and Parent Company Statement of Earnings For the nine months ended September 30, 1998 (in thousands) (unaudited)
Kinetic Concepts, Reclassi- Kinetic Inc. Non- fications Concepts, Parent Guarantor Guarantor and Inc. Company Sub- Sub- Elimi- and Sub- Borrower sidiaries sidiaries nations sidiaries -------- --------- --------- --------- --------- Revenue: Rental and service....... $ -- $156,796 $ 36,392 $ -- $193,188 Sales and other.......... -- 42,341 17,332 (8,558) 51,115 ------ ------- ------- ------ ------- Total revenue......... -- 199,137 53,724 (8,558) 244,303 Rental expenses.......... -- 91,996 32,430 -- 124,426 Cost of goods sold....... -- 14,399 9,269 (4,522) 19,146 ------ ------- ------ ------ ------- -- 106,395 41,699 (4,522) 143,572 ------ ------- ------ ------ ------- Gross profit.......... -- 92,742 12,025 (4,036) 100,731 Selling, general and administrative expenses -- 46,207 3,105 -- 49,312 ------ ------- ------ ------ ------- Operating earnings.... -- 46,535 8,920 (4,036) 51,419 Interest income.......... -- 303 174 -- 477 Interest expense......... -- (36,473) -- -- (36,473) Foreign currency gain (loss)................. -- 408 (930) 1 (521) ------ ------- ------ ------ ------- Earnings before income taxes and minority interest... -- 10,773 8,164 (4,035) 14,902 Income taxes............. -- 4,354 3,349 (1,732) 5,971 Minority interest........ -- -- (25) -- (25) ------ ------- ------ ------ ------- Earnings before equity in earnings of subsidiaries..... -- 6,419 4,840 (2,303) 8,956 Equity in earnings of subsidiaries.... 8,956 4,840 -- (13,796) -- ------ ------- ------ ------ ------- Net earnings.......... $ 8,956 $ 11,259 $ 4,840 $(16,099) $ 8,956 ====== ======= ====== ====== =======
Condensed Consolidating Guarantor, Non-Guarantor and Parent Company Statement of Cash Flows For the nine months ended September 30, 1999 (in thousands) (unaudited)
Kinetic Concepts, Reclassi- Kinetic Inc. Non- fications Concepts, Parent Guarantor Guarantor and Inc. Company Sub- Sub- Elimi- and Sub- Borrower sidiaries sidiaries nations sidiaries -------- --------- --------- --------- --------- Cash flows from operating activities: Net earnings........... $ 4,135 $ 6,227 $ 8,491 $(14,718) $ 4,135 Adjustments to reconcile net earnings to net cash provided by operating activities. (4,135) 19,494 2,944 9,605 27,908 ----- ------ ------ ------ ------ Net cash provided by operating activities. -- 25,721 11,435 (5,113) 32,043 Cash flows from investing activities: Additions to property, plant and equipment...... -- (22,298) (4,273) 6,086 (20,485) Increase in inventory to be converted into equipment for short-term rental.. -- (1,500) -- -- (1,500) Dispositions of property, plant and equipment...... -- 962 634 -- 1,596 Businesses acquired in purchase transactions, net of cash acquired... -- (5,054) -- -- (5,054) Decrease (increase) in other assets.... -- 6,213 (93) -- 6,120 ----- ------ ------ ------ ------ Net cash used by investing activities. -- (21,677) (3,732) 6,086 (19,323) Cash flows from financing activities: Borrowings (repay- ments) of notes payable and long- term obligations... -- (10,272) 135 -- (10,137) Borrowing (repay- ments) of capital lease obligations.. -- 146 (26) -- 120 Proceeds (payments) on intercompany investments and advances........... 78 6,474 (262) (6,290) -- Cash dividends paid to shareholders.... -- -- (5,643) 5,643 -- Other................ (78) (392) (2,045) 2,515 -- ----- ------ ------ ------ ------ Net cash used by financing activi- ties............... -- (4,044) (7,841) 1,868 (10,017) Effect of exchange rate changes on cash and cash equivalents........ -- -- -- (471) (471) ----- ------ ------ ------ ------ Net increase (decrease) in cash and cash equiva- lents.............. -- -- (138) 2,370 2,232 Cash and cash equiva- lents, beginning of period............. -- -- 9,543 (5,177) 4,366 ----- ------ ------ ------ ------ Cash and cash equiva- lents, end of period............. $ -- $ -- $ 9,405 $ (2,807) $ 6,598 ===== ====== ====== ====== ======
Condensed Consolidating Guarantor, Non-Guarantor and Parent Company Statement of Cash Flows For the nine months ended September 30, 1998 (in thousands) (unaudited)
Kinetic Concepts, Reclassi- Kinetic Inc. Non- fications Concepts, Parent Guarantor Guarantor and Inc. Company Sub- Sub- Elimi- and Sub- Borrower sidiaries sidiaries nations sidiaries -------- --------- --------- --------- --------- Cash flows from operating activities: Net earnings........... $ 8,956 $ 11,259 $ 4,840 $(16,099) $ 8,956 Adjustments to reconcile net earnings to net cash provided (used) by operating activities. (8,956) (7,853) 2,570 5,075 (9,164) ----- ------ ------ ------ ------ Net cash provided (used) by operating activities.......... -- 3,406 7,410 (11,024) (208) Cash flows from invest- ing activities: Additions to property, plant and equipment..... -- (22,393) (5,709) 5,867 (22,235) Increase in inven- tory to be con- verted into equipment for short-term rental. -- (5,900) -- -- (5,900) Dispositions of property, plant and equipment..... -- 656 1,157 -- 1,813 Businesses acquired in purchase trans- actions,net of cash acquired..... -- (2,500) (327) -- (2,827) Decrease (increase) in other assets... -- (1,826) 280 -- (1,546) ----- ------ ------ ------ ------ Net cash used by investing activities. -- (31,963) (4,599) 5,867 (30,695) Cash flows from financing activities: Repayments of notes payable and long- term obligations... -- (28,122) -- -- (28,122) Repayments of capital lease obligations........ -- (110) (21) -- (131) Proceeds from the sale of stock...... 300 -- -- -- 300 Proceeds (payments) on intercompany investments and advances........... (4,012) 14,072 (3,197) (6,863) -- Recapitalization costs - fees and expenses........... 2,087 -- -- -- 2,087 Cash dividends paid to shareholders.... -- -- (8,651) 8,651 -- Other................ 1,625 (1,722) 248 (151) -- ----- ------ ------ ------ ------ Net cash used by financing activities. -- (15,882) (11,621) 1,637 (25,866) Effect of exchange rate changes on cash and cash equivalents. -- -- -- (96) (96) ----- ------ ------ ------ ------ Net decrease in cash and cash equivalents. -- (44,439) (8,810) (3,616) (56,865) Cash and cash equiva- lents, beginning of period............... -- 44,439 17,315 -- 61,754 ----- ------ ------ ------ ------ Cash and cash equiva- lents, end of period. $ -- $ -- $ 8,505 $ (3,616) $ 4,889 ===== ====== ====== ====== ======
CAUTIONARY STATEMENT FOR PURPOSES OF THE "SAFE HARBOR" PROVISIONS OF THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995 The Private Securities Litigation Reform Act of 1995 provides a "safe harbor" for certain forward-looking statements. The forward- looking statements made in "Management's Discussion and Analysis of Financial Condition and Results of Operations," which reflect management's best judgment based on currently known market and other factors, involve risks and uncertainties. When used in this Report, the words "estimate," "project," "anticipate," "expect," "intend," "believe" and similar expressions are intended to identify forward- looking statements. All of these forward-looking statements are based on estimates and assumptions made by management of the Company, which, although believed to be reasonable, are inherently uncertain. Therefore, undue reliance should not be placed upon such estimates and statements. No assurance can be given that any of such statements or estimates will be realized and actual results will differ from those contemplated by such forward-looking statements. ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - ------------------------------------------------ Results of Operations Third Quarter of 1999 Compared to Third Quarter of 1998 - ------------------------------------------------------- The following table sets forth, for the periods indicated, the percentage relationship of each item to total revenue as well as the change in each line item as compared to the third quarter of the prior year ($ in thousands): Three Months Ended September 30, ------------------------------------------ Variance Revenue Relationship Increase (Decrease) -------------------- ------------------- 1999 1998 $ Pct --------- --------- -------- --------- Revenue: Rental and service......... 76% 78% $(2,558) (4%) Sales and other............ 24 22 1,199 7 --- --- ----- Total revenue............ 100% 100% (1,359) (2) Rental expenses.............. 50 50 (77) -- Cost of goods sold........... 9 8 446 7 --- --- ----- Gross profit............. 41 42 (1,728) (5) Selling, general and administrative expenses.... 22 19 2,314 15 --- --- ----- Operating earnings....... 19 23 (4,042) (22) Interest income.............. -- -- (12) (14) Interest expense............. (15) (15) 407 3 Foreign currency loss........ -- -- 149 53 --- --- ----- Earnings before income taxes and minority interest............... 4 8 (3,498) (55) Income taxes................. 2 3 1,329 53 Minority interest in subsidiary loss............ -- -- (1) nm --- --- ----- Net earnings............. 2% 5% $(2,170) (57%) === === ===== The Company's revenue is derived from two primary operating segments. The following table sets forth, for the periods indicated, the amount of revenue derived from each of these segments ($ in millions): Three months ended Variance September 30, Inc (Dec) ----------------------- ------------ 1999 1998 Pct --------- ------------ ------------ KCI USA................... $ 58.2 $ 61.2 (5%) KCI International......... 21.0 19.5 8% Other..................... 0.5 0.3 nm ---- ---- $ 79.7 $ 81.0 (2%) ==== ==== ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED) - ----------------------------------------------------------- Total revenue in the third quarter of 1999 decreased $1.3 million, or 1.6%, to $79.7 million from $81.0 million in the third quarter of 1998. KCI USA revenue was $58.2 million, down $3.0 million, or 4.9% from $61.2 million in the third quarter of the prior year. The decreased revenue was due to a $5.0 million, or 39.3%, decrease in extended care surface revenue which resulted from the extended care market's reaction to the Balanced Budget Act of 1997. The market's reaction was characterized by lower patient therapy days, lower product pricing and a product mix shift from framed products to overlays. In addition, there was a $612,000 decline in V.A.C. revenue from Medicare Part B due to the delay in receiving a V.A.C. reimbursement code. These revenue decreases were partially offset by a $2.9 million, or 42.8%, increase in V.A.C. revenue from payors other than Medicare Part B. Domestic patient days, overall, were 3.0% lower than the prior year due to the extended care decline which were partially offset by the increased market penetration of the V.A.C. and a 1.8% increase in acute care patient days. Sales for the period grew as a percentage of total revenue due, for the most part, to increased sales of disposable products associated with the Company's medical devices. Higher sales volumes in the period were partially offset by lower overall sale prices. Revenue from the Company's international operating unit increased 7.7% to $21.0 million from $19.5 million in the third quarter of 1998. The international revenue increase reflects higher patient therapy days in virtually all of the Company's markets, and growth of $1.1 million, or 57.5%, in the V.A.C. product line. On a local currency basis, revenue increased $3.5 million compared to the same period one year ago. Rental, or field, expenses of $40.1 million represented 66.5% of total rental revenue in the third quarter of 1999 compared to 64.0% in the third quarter of 1998. This increase is primarily attributable to the decrease in rental revenue because the majority of the Company's rental or field expenses are relatively fixed. Overall, field expenses of $40.1 million were essentially flat with the prior year period. Cost of goods sold increased 6.6% to $7.2 million in the third quarter of 1999 from $6.7 million in the third quarter of 1998. Cost of goods sold has increased primarily due to increased sales of disposables associated with the Company's medical devices. Sales margins were consistent year-to-year at 63% for the three month periods. Gross profit decreased $1.7 million, or 5.1%, to $32.4 million in the third quarter of 1999 from $34.1 million in the third quarter of 1998 due to decreased rental revenue. Gross profit margin for the third quarter, as a percentage of total revenue, was 40.7%, down from 42.1% for the third quarter of 1998, due to the decrease in rental revenue as discussed previously. Selling, general and administrative expenses increased $2.3 million, or 15.0%, to $17.8 million in the third quarter of 1999 from $15.5 million in the third quarter of 1998. This increase was due primarily to an increase in legal and professional fees of $893,000 and increased provisions for bad debt of $1.6 million resulting primarily from the delay in receiving a Medicare Part B code. As a percentage of total revenue, selling, general and administrative expenses were 22.3% in the third quarter of 1999 compared to 19.1% in the third quarter of 1998. ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED) - ----------------------------------------------------------- Operating earnings for the period decreased 21.7% to $14.6 million compared to $18.7 million in the prior-year quarter. The decrease in operating earnings is primarily due to the decrease in extended care and V.A.C. Medicare Part B revenue, net of related expenses, of $6.6 million which were partially offset by an increase in V.A.C. revenue from non-Medicare Part B payors, net of related expenses, of $2.0 million; and a $600,000 net increase in other operations, including international. Interest expense for the three months ended September 30, 1999 was $11.7 million compared to $12.2 million for the third quarter of 1998. The interest expense decrease was due to repayments of long- term obligations made since the third quarter of 1998. Net earnings for the third quarter of 1999 decreased $2.2 million, or 57.2%, from the prior year to $1.6 million due substantially to the decrease in operating earnings discussed above. ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED) - ----------------------------------------------------------- First Nine Months of 1999 Compared to First Nine Months of 1998 - --------------------------------------------------------------- The following table sets forth, for the periods indicated, the percentage relationship of each item to total revenue as well as the change in each line item as compared to the first nine months of the prior year ($ in thousands): Nine Months Ended September 30, ----------------------------------------- Variance Revenue Relationship Increase (Decrease) -------------------- ------------------- 1999 1998 $ Pct --------- --------- --------- --------- Revenue: Rental and service......... 77% 79% $ (9,656) (5%) Sales and other............ 23 21 5,258 10 --- --- ----- Total revenue............ 100% 100% (4,398) (2) Rental expenses.............. 52 51 1,252 1 Cost of goods sold........... 9 8 2,749 14 --- --- ----- Gross profit............. 39 41 (8,399) (8) Selling, general and administrative expenses.... 21 20 364 1 --- --- ----- Operating earnings....... 18 21 (8,763) (17) Interest income.............. -- -- (243) (51) Interest expense............. (15) (15) 1,520 4 Foreign currency loss........ -- -- (407) (78) --- --- ----- Earnings before income taxes and minority interest............... 3 6 (7,893) (53) Income taxes................. 1 2 3,097 52 Minority interest in subsidiary loss............ -- -- (25) nm --- --- ----- Net earnings............. 2% 4% $ (4,821) (54%) === === ===== The Company's revenue is divided between two primary operating segments. The following table sets forth, for the periods indicated, the amount of revenue derived from each of these segments ($ in millions): Nine months ended Variance September 30, Inc (Dec) --------------------- ------------ 1999 1998 Pct --------- ---------- ------------ KCI USA................... $ 175.7 $ 187.1 (6%) KCI International......... 63.4 56.5 12% Other..................... 0.8 0.7 nm ----- ----- $ 239.9 $ 244.3 (2%) ===== ===== ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED) - ----------------------------------------------------------- Total revenue in the first nine months of 1999 decreased $4.4 million, or 1.8%, to $239.9 million from $244.3 million in the first nine months of 1998. Revenue from KCI USA was $175.7 million, down $11.4 million, or 6.1% from $187.1 million in the first nine months of the prior year. The decreased revenue was due to a decrease in extended care surface revenue of $18.7 million, or 43.9%, which resulted from the extended care market's negative reaction to the Balanced Budget Act of 1997. This reaction was characterized by lower patient therapy days, lower product pricing and a product mix shift from framed products to overlays. In addition, there was a $5.0 million decline in V.A.C. revenue from Medicare Part B due to the delay in receiving a V.A.C. reimbursement code. These revenue decreases were partially offset by a $9.4 million, or 58.3%, increase in V.A.C. revenue from payors other than Medicare Part B and a 2% increase in acute care surfaces revenue. Domestic patient days, overall, were up 2.0% from the prior year due in part to the increased market penetration of the V.A.C. combined with higher acute care days. The therapy day increase was offset by lower prices and a product mix shift to lower-cost overlays, particularly in the extended care marketplace. Sales for the period increased $5.3 million, or 10.3%, due substantially to sales of disposable products associated with the Company's medical devices. Revenue from the Company's international operating unit increased 12.2% to $63.4 million from $56.5 million in the first nine months of 1998. The international revenue increase reflects higher patient therapy days in virtually all of the Company's markets, and growth of $3.1 million, or 64.1%, in the V.A.C. product line. On a local currency basis, revenue increased $10.8 million compared to the same period a year ago. Rental, or field, expenses of $125.7 million were 68.5% of total rental revenue in the first nine months of 1999 compared to 64.4% in the first nine months of 1998. This increase is primarily attributable to the decrease in rental revenue because the majority of the Company's rental or field expenses are relatively fixed. Overall, field expenses of $125.7 million increased approximately $1.3 million, or 1.0%, from the prior year period due, in part, to increased equipment depreciation. Cost of goods sold increased 14.4% to $21.9 million in the first nine months of 1999 from $19.1 million in the first nine months of 1998. Cost of goods sold has increased primarily due to increased sales of disposables associated with the Company's medical devices. Sales margins decreased slightly during the first nine months of 1999 due primarily to lower sales prices and the fact that the Company continued to place the V.A.C. on Medicare Part B patients until August of 1999 despite the lack of a unique reimbursement code. Gross profit decreased $8.4 million, or 8.3%, to $92.3 million in the first nine months of 1999 from $100.7 million in the first nine months of 1998 due substantially to the decline in rental revenue. Gross profit margin for the first nine months, as a percentage of total revenue, was 38.5%, down from 41.2% for the first nine months of 1998, due primarily to the decrease in rental revenue for the period. Selling, general and administrative expenses increased $365,000, or 0.7%, to $49.7 million in the first nine months of 1999 from $49.3 million in the first nine months of 1998. This increase was due primarily to increased legal and professional fees, partially offset by lower labor costs in the period. As a percentage of total revenue, selling, general and administrative expenses were 20.7% in the first nine months of 1999 as compared with 20.2% in the first nine months of 1998. ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED) - ----------------------------------------------------------- Operating earnings for the period decreased $8.8 million, or 17.0%, to $42.7 million compared to $51.4 million in the prior-year period. This decrease is primarily due to a decrease in extended care, home care and V.A.C. Medicare Part B revenue, net of related expenses, of $22.8 million; partially offset by (i) an increase in V.A.C. revenue from non-Medicare Part B payors, net of related expenses, of $10.3 million; (ii) a $1.5 million net increase in international operations; and (iii) miscellaneous cost reductions of approximately $2.2 million. Interest income for the nine months ended September 30, 1999 was approximately $234,000 compared to $477,000 in the prior period. The decrease in interest income resulted from lower invested cash balances due primarily to acquisition activities since the first quarter of 1998. Interest expense for the nine months ended September 30, 1999 was $35.0 million compared to $36.5 million for the first nine months of 1998. The interest expense decrease was due to repayments of long- term obligations made since the first quarter of 1998. Net earnings for the first nine months of 1999 decreased $4.8 million, or 53.8%, from the prior year to $4.1 million due to the decrease in operating earnings as discussed above. Financial Condition - ------------------- The change in revenue and expenses experienced by the Company during the nine months ended September 30, 1999 and other factors resulted in changes to the Company's balance sheet as follows: Cash and cash equivalents were $6.6 million at September 30, 1999, an increase of $2.2 million from December 31, 1998. The cash increase is primarily attributable to net earnings during the nine months combined with controlled capital spending. Net accounts receivable at September 30, 1999 decreased $1.4 million, or 1.8%, to $78.0 million from $79.4 million at December 31, 1998. This decrease was primarily due to additional reserves for uncollectible accounts, partially offset by a $1.5 million increase in KCI International receivables related to revenue growth and an increase in receivables related to third party payors, including Medicare and Medicaid, which have longer collection periods. Other assets at September 30, 1999 were $24.7 million, a $6.7 million, or 21.4%, decrease from year-end. This decrease is primarily attributable to the liquidation of the assets of KCI Insurance Co., Ltd. during the first quarter of 1999. Accrued expenses at September 30, 1999 were $38.7 million compared to $35.3 million at the end of 1998. This increase was due to accrued interest expense recorded during the first nine months of 1999 on the $200 million in subordinated notes. Long-term debt obligations, including the current maturities, decreased $10.1 million to $505.7 million as of September 30, 1999 due to the repayment of a portion of the Company's revolving credit facility made as a result of the liquidation of the assets of KCI Insurance Co., Ltd. and scheduled principal payments on the Company's long-term debt. ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED) - ----------------------------------------------------------- Liquidity and Capital Resources - ------------------------------- At September 30, 1999 the Company had current assets of $125.3 million and current liabilities of $56.3 million resulting in a working capital surplus of $69.0 million, compared to a surplus of $76.6 million at December 31, 1998. During the first nine months of 1999, the Company made net capital expenditures of $20.4 million. Other than commitments for new product inventory, including disposable "for sale" products, of $1.6 million, the Company has no material long-term capital commitments and can adjust the level of capital expenditures as circumstances warrant. The Company's principal sources of liquidity are expected to be cash flow from operating activities and borrowings under the Senior Credit Facilities. It is anticipated that the Company's principal uses of liquidity will be to fund capital expenditures related to the Company's rental products, provide needed working capital, meet debt service requirements and finance the Company's strategic plans. The Senior Credit Facilities originally totaled $400.0 million and consist of (i) a $50.0 million six-year Revolving Credit Facility, (ii) a $50.0 million six-year Acquisition Facility, (iii) a $120.0 million six-year amortizing Term Loan A, (iv) a $90.0 million seven-year amortizing Term Loan B and (v) a $90.0 million eight-year amortizing Term Loan C, (collectively, the "Term Loans"). The Acquisition Facility provides the Company with financing to pursue strategic acquisition opportunities, and will remain available to the Company until December 31, 2000, at which time it will begin to amortize over the remaining three years of the facility. The Company originally utilized borrowings under the Revolving Facility to help effect the Recapitalization and pay related fees and expenses. Although the Company decreased borrowings under this facility by $3.5 million in the first nine months of 1999, it has borrowed and will borrow funds from this facility as needed to fund capital expenditures and meet working capital needs. The Revolving Facility will remain available to the Company until December 31, 2003, subject to certain terms and conditions. The Term Loans and the Notes are subject to customary terms, covenants and conditions which partially restrict the uses of future cash flow by the Company. The Company does not expect that these covenants and conditions will have a material adverse impact on its operations. At September 30, 1999, the Acquisition Facility and the Revolving Credit Facility had balances of $10.0 million and $6.5 million, respectively. Additionally, the Company has two outstanding letters of credit totaling $3.5 million benefiting KCI Insurance Co., Ltd. Accordingly, the aggregate availability under these two facilities was $80.0 million. The Senior Credit Agreement requires the Company to meet certain financial tests, including minimum levels of EBITDA (as defined therein), minimum interest coverage, maximum leverage ratio and capital expenditures. The Senior Credit Agreement also contains covenants which, among other things, limit the incurrence of additional indebtedness, investments, dividends, loans and advances, capital expenditures, transactions with affiliates, asset sales, acquisitions, mergers and consolidations, prepayments of other indebtedness (including the Notes), liens and encumbrances and other matters customarily restricted in such agreements. The Company is in compliance with the applicable covenants at September 30, 1999. ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED) - ----------------------------------------------------------- Liquidity and Capital Resources (continued) - ------------------------------------------ As of December 31, 1999, the minimum EBITDA required under the Senior Credit Agreement is $100 million on a trailing 12-month basis. The Senior Credit Agreement anticipated that the Company would have received Medicare Part B reimbursement coverage prior to the end of 1999. Without this reimbursement coverage, and due in part to the dramatic decrease in extended care rental revenue, the Company might be out of compliance with its Senior Credit Agreement covenants as of December 31, 1999. The Company is vigorously pursuing the issuance of a Medicare Part B reimbursement code for the V.A.C. with the Health Care Financing Administration. See Known Trends or Uncertainties - Reimbursement for further discussion of Medicare reimbursement for the V.A.C. The Senior Credit Agreement also contains customary events of default, including payment defaults, breach of representations and warranties, covenant defaults, cross-defaults to certain other indebtedness, certain events of bankruptcy and insolvency, failures under ERISA plans, judgment defaults, failure of any guaranty, security document, security interest or subordination provision supporting the Bank Credit Agreement to be in full force and effect and any change of control of the Company. As part of the Recapitalization transactions, the Company issued $200.0 million of Senior Subordinated Notes (the "Notes") due 2007. The Notes are unsecured obligations of the Company, ranking subordinate in right of payment to all senior debt of the Company and will mature on November 1, 2007. The Notes are not entitled to the benefit of any mandatory sinking fund. The Notes will be redeemable, at the Company's option, in whole at any time or in part from time to time, on and after November 1, 2002, upon not less than 30 nor more than 60 days' notice, at the following redemption prices (expressed as percentages of the principal amount thereof) if redeemed during the twelve-month period commencing on November 1 of the year set forth below, plus, in each case, accrued and unpaid interest thereon, if any, to the date of redemption. Year Percentage ---- ---------- 2002.................................. 104.813% 2003.................................. 103.208% 2004.................................. 101.604% 2005 and thereafter................... 100.000% As of September 30, 1999, the entire $200.0 million of Senior Subordinated Notes was issued and outstanding. At September 30, 1999, the Company was committed to purchase approximately $1.6 million of inventory associated with new products over the remainder of this year. The Company did not have any other material purchase commitments. ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED) - ----------------------------------------------------------- Known Trends or Uncertainties - ----------------------------- The health care industry continues to face various challenges, including increased pressure on health care providers to control costs as a result of the Balanced Budget Act of 1997, the accelerating migration of patients from acute care facilities into extended care (e.g. skilled nursing facilities and rehabilitation centers) and home care settings, the consolidation of health care providers and national and regional group purchasing organizations and the growing demand for clinically proven therapies which lower the total cost of providing care. More recently, sales have increased as a portion of the Company's revenue. The Company believes this trend will continue because customers are purchasing disposables associated with the Company's growing installed base of medical devices and select low- end products that are less expensive and easier to maintain. In addition, international health care providers tend to purchase products more often than U.S. health care providers. Reimbursement - ------------- The implementation of a prospective payment system for extended care facilities has changed the way skilled nursing facilities buy and rent the Company's products. The effect of this change has been to sharply reduce the Company's rental revenues in the extended care market. The Company believes that in the long term, under a fixed payment system, decisions with respect to the products and services used in patient care will be based on clinical and cost effectiveness. The Company's innovative and extensive product continuum which significantly improves clinical outcomes while reducing the cost of patient care should allow it to compete effectively in this environment. The Company currently rents and sells the V.A.C. in all care settings and market acceptance of this product has been better than expected as evidenced by the revenue growth experienced during the time that the product has been available domestically. In the home care setting, however, Medicare coverage guidelines have not been established addressing under what circumstances, if any, Medicare reimbursement will be provided for the V.A.C. The Company has placed the V.A.C. in the home care setting since April 1996. Although the Company believes it will receive a Medicare Part B reimbursement code for the V.A.C. in the next several months, the Company has discontinued the placement of the V.A.C. for Medicare Part B patients until such time as an appropriate reimbursement code has been received. In addition, pending the receipt of Medicare reimbursement coverage, the Company has established a reserve to equal 100% of the revenue recognized for prior placements. The Company continues to vigorously pursue this reimbursement coverage. If the Company obtains reimbursement coverage for the V.A.C., it may be able to recognize revenue and recoup earnings for placement of the V.A.C. on Medicare Part B patients which occurred prior to the issuance of a reimbursement code. Although the Company believes it will be able to recoup a substantial amount of revenue for such placements, the timing and amount, if any, of such reimbursement cannot be predicted at this time. ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED) - ----------------------------------------------------------- Legal Proceedings - ----------------- On February 21, 1992, Novamedix Limited ("Novamedix") filed a lawsuit against the Company in the United States District Court for the Western District of Texas. Novamedix manufactures the principal product which directly competes with the PlexiPulse. The suit alleges that the PlexiPulse infringes several patents held by Novamedix, that the Company breached a confidential relationship with Novamedix and a variety of ancillary claims. Novamedix seeks injunctive relief and monetary damages. Although it is not possible to reliably predict the outcome of this litigation or the damages which could be awarded, the Company believes that its defenses to these claims are meritorious and that the litigation will not have a material adverse effect on the Company's business, financial condition or results of operations. On August 16, 1995, the Company filed a civil antitrust lawsuit against Hillenbrand Industries, Inc. and one of its subsidiaries, Hill-Rom. The suit was filed in the United States District Court for the Western District of Texas. The suit alleges that Hill-Rom used its monopoly power in the standard hospital bed business to gain an unfair advantage in the specialty hospital bed business. Specifically, the allegations set forth in the suit include a claim that Hill-Rom required hospitals and purchasing groups to agree to exclusively rent specialty beds in order to receive substantial discounts on products over which they have monopoly power - hospital beds and head wall units. The suit further alleges that Hill-Rom engaged in activities which constitute predatory pricing and refusals to deal. Hill-Rom has filed an answer denying the allegations in the suit. Although discovery has not been completed and it is not possible to reliably predict the outcome of this litigation or the damages which might be awarded, the Company believes that its claims are meritorious. On October 31, 1996, the Company received a counterclaim which had been filed by Hillenbrand Industries, Inc. in the antitrust lawsuit which the Company filed in 1995. The counterclaim alleges that the Company's antitrust lawsuit and other actions were designed to enable KCI to monopolize the specialty therapeutic surface market. Although it is not possible to reliably predict the outcome of this litigation, the Company believes that the counterclaim is without merit. The Company is a party to several lawsuits arising in the ordinary course of its business, and the Company is contesting adjustments proposed by the Internal Revenue Service to prior years' tax returns in Tax Court. Provisions have been made in the Company's financial statements for estimated exposures related to these lawsuits and adjustments. In the opinion of management, the disposition of these matters will not have a material adverse effect on the Company's business, financial condition or results of operations. The manufacturing and marketing of medical products necessarily entails an inherent risk of product liability claims. The Company currently has certain product liability claims pending for which provision has been made in the Company's financial statements. Management believes that resolution of these claims will not have a material adverse effect on the Company's business, financial condition or results of operations. The Company has not experienced any significant losses due to product liability claims and management believes that the Company currently maintains adequate liability insurance coverage. ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED) - ----------------------------------------------------------- Year 2000 Issue - --------------- The Year 2000 issue arose as a result of computer software programs being written using two digits rather than four digits to define the date field. Based on a recent assessment, the Company determined that it needed to modify or replace key portions of its software so that its information technology ("IT") systems will function properly with respect to dates beyond December 31, 1999. While there can be no guarantee that the Year 2000 will not impact the Company's operations, the Company presently believes that through its conversion to the Oracle applications platform and with modifications to other mission-critical software, the Year 2000 issue will not have a material impact on the operations of the Company. The Company's plan to resolve the Year 2000 issue involved the following four phases: assessment, remediation, testing and implementation. Assessment - ---------- The Company has completed its assessment of all IT systems that could be significantly affected by the Year 2000. The completed assessment indicated that most of the Company's significant IT systems could be affected by the Year 2000 issue, particularly the general ledger, billing and manufacturing inventory systems. That assessment also indicated that software and hardware used in production, distribution and time and attendance systems also were at risk. However, based on a review of its product line, the Company has determined that the products it has sold and will continue to sell do not require remediation to be Year 2000 compliant. Accordingly, the Company does not believe that the Year 2000 presents a material exposure as it relates to the Company's products. In addition, the Company has gathered information about the Year 2000 compliance status of its significant suppliers and customers and continues to monitor their compliance. Remediation - ----------- The Company has substantially completed the remediation phase for its IT systems. To date, the Company has completed installations/modifications on all mission-critical domestic and international systems. Testing - ------- Testing is in process or has been completed for all systems for which remediation has been completed. To date, this testing has identified the need for certain additional program modifications. The additional modifications have been made and tested. An integration test has also been performed on the domestic systems. The Company has substantially completed the testing phase of all system modifications. Implementation - -------------- To the best of the Company's knowledge, all affected applications and systems have been placed into production. These include servers, personal computers and various software programs. Applications and systems are put into production once they have been tested. ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED) - ----------------------------------------------------------- Year 2000 Issue (continued) - -------------------------- Third Parties and Related Systems - --------------------------------- The Company's third party payor ("claims") billing system interfaces directly with certain third party payor programs. The Company believes that its billing software is Year 2000 compliant and has completed testing of the interfaces to ensure that the Company's claims billing interface systems are Year 2000 compliant. In addition, the Company has surveyed its significant suppliers and large customers that do not share information systems with the Company. To date, the Company is not aware of any significant customer or supplier with a Year 2000 issue that would materially impact the Company's results of operations, liquidity or capital resources. However, the Company has no means of ensuring that all third parties will be ready for the Year 2000. There can be no guarantee that the inability of a significant customer or supplier to complete their Year 2000 readiness program in a timely manner would not materially impact the operations of the Company. Costs - ----- The total cost of the Year 2000 project is estimated to be $8.6 million and is being funded through operating cash flows. Of this total, $7.2 million will be used to purchase new software that will be capitalized and the remaining $1.4 million will be expensed as incurred. Through September 30, 1999, the Company incurred approximately $8.6 million ($1.4 million expensed and $7.2 million capitalized for new software) related to the assessment of the Year 2000 issue, development of a modification plan, preliminary software modifications, purchasing of new software and testing of implemented systems. Risks and Contingency Plan - -------------------------- Management of the Company believes it has an effective program in place to resolve the Year 2000 issue in a timely manner. As a precaution, however, the Company is in the process of determining the risks it could face in the event certain aspects of its Year 2000 remediation program failed. Under a "worst case" scenario, the Company's international operations would be unable to deliver, track and bill for products due to internal system failures and the Company, as a whole, would be unable to deliver key products due to the inability of external vendors to deliver such products. Alternative suppliers are being identified and inventory levels of certain key products and/or components may be temporarily increased. While virtually all internal systems can be replaced with manual systems on a temporary basis, the failure of any mission-critical system will have at least a short-term negative effect on operations. All contingency planning, approval and testing should be finalized during the fourth quarter. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK - ------------------------------------------------------------------- The Company is exposed to various market risks, including fluctuations in interest rates and variability in currency exchange rates. The Company has established policies, procedures and internal processes governing its management of market risks and the use of financial instruments to manage its exposure to such risks. Interest Rate Risk - ------------------ At September 30, 1999, approximately $305.7 million of the Company's long-term debt bore interest at variable rates. These variable-rate facilities bore interest at a stated rate based upon a Base Rate (defined as the higher of (i) the rate of interest publicly announced by Bank of America as its "reference rate" or (ii) the federal funds effective rate from time to time plus 0.50%) or the Eurodollar Rate (as defined) for one, two, three or six months plus associated credit risk factors from 1.50% to 2.75% depending on the base rate and maturity (see Note 4 to the Company's condensed consolidated financial statements). In an effort to minimize the risk of adverse interest rate fluctuations, the Company has entered into three interest rate protection agreements which effectively fix the base borrowing rate on 92% of the Company's variable rate debt as follows (dollars in millions): Base Annual Swap Interest Maturity Amount Rate ------------ ----------- ---------- 01/08/2002 $150.0 5.5775% 12/29/2000 95.0 4.8950% 12/31/1999 35.0 4.8550% As a result of these interest rate protection agreements, the Company believes that movements in short term interest rates would not materially affect the financial position of the Company. Foreign Currency and Market Risk - -------------------------------- The Company has direct operations in Western Europe, Canada and Australia and distributor relationships in many other parts of the world. The Company's foreign operations are measured in their local currencies. As a result, the Company's financial results could be affected by factors such as changes in foreign currency exchange rates or weak economic conditions in the foreign markets in which the Company has operations. Exposure to this variability is managed primarily through the use of natural hedges, whereby funding obligations and assets are both managed in the local currency. The Company does not maintain any derivative instruments to mitigate its exposure to translation and/or transaction risk. International operations reported operating profit of $12.6 million for the nine months ended September 30, 1999. It is estimated that a 10% fluctuation in the value of the dollar relative to these foreign currencies at September 30, 1999 would change the Company's net income for the nine months ended September 30, 1999 by approximately $860,000. The Company's analysis does not consider the implications that such fluctuations could have on the overall economic activity that could exist in such an environment in the U.S. or the foreign countries or on the results of operations of its foreign subsidiaries. PART II - OTHER INFORMATION ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K - ----------------------------------------- (a) EXHIBITS A list of all exhibits filed or included as part of this quarterly report on Form 10-Q is as follows: Exhibit Description ------- ----------- 3.1 Restatement of Articles of Incorporation (filed as Exhibit 3.2 to the Company's Registration Statement on Form S-1, as amended (Registration No. 33-21353), and incorporated herein by reference). 3.2 Restated By-Laws of the Company (filed as Exhibit 3.3 to the Company's Registration Statement on Form S-1, as amended (Registration No. 33-21353), and incorporated herein by reference). 4.1 Specimen Common Stock Certificate of the Company (filed as Exhibit 4.1 to the Annual Report on Form 10-K for the year ended December 31, 1988, and incorporated herein by reference). 10.1 KCI Employee Benefits Trust Agreement (filed as Exhibit 10.21 to the Company's Annual Report on Form 10-K/A dated December 31, 1994, and incorporated herein by reference). 10.2 Letter, dated September 19, 1994, from the Company to Raymond R. Hannigan outlining the terms of his employment (filed as Exhibit 10.22 to the Company's Annual Report on Form 10-K/A dated December 31, 1994, and incorporated herein by reference). 10.3 Letter, dated November 22, 1994, from the Company to Christopher M. Fashek outlining the terms of his employment (filed as Exhibit 10.23 to the Company's Annual Report on Form 10-K/A dated December 31, 1994, and incorporated herein by reference). 10.4 Deferred Compensation Plan (filed as Exhibit 99.2 to the Company's Quarterly Report on Form 10-Q for the quarter ended September 30, 1995 and incorporated herein by reference). 10.5 Kinetic Concepts, Inc. Senior Executive Stock Option Plan (filed as Exhibit 10.31 to the Company's Annual Report on Form 10-K for the year ended December 31, 1996, and incorporated herein by reference). Exhibits (continued) ------------------- 10.6 Form of Option Instrument with respect to Senior Executive Stock Option Plan (filed as Exhibit 10.32 to the Company's Annual Report on Form 10-K for the year ended December 31, 1996, and incorporated herein by reference). 10.7 Kinetic Concepts Management Equity Plan effective October 1, 1997 (filed as Exhibit 10.33 on Form 10-K for the year ended December 31, 1997, and incorporated herein by reference). 10.8 Director Equity Agreement, dated May 12, 1998, between the Company and Charles N. Martin (filed as Exhibit 10.8 on Form 10-K for the year ended December 31, 1998, and incorporated herein by reference). 10.9 Director Equity Agreement, dated May 12, 1998, between the Company and Donald E. Steen (filed as Exhibit 10.9 on Form 10-K for the year ended December 31, 1998, and incorporated herein by reference). 10.10 Letter, dated June 4, 1998, from the Company to William M. Brown outlining the terms of his employment (filed as Exhibit 10.10 on Form 10-K for the year ended December 31, 1998, and incorporated herein by reference). 10.11 Supplier Agreement, dated December 1, 1998, between Novation, LLC and Kinetic Concepts, Inc. (filed as Exhibit 10.11 on Form 10-K for the year ended December 31, 1998, and incorporated herein by reference). 21.1 List of Subsidiaries (filed as Exhibit 21.1 to the Company's Annual Report on Form 10-K for the year ended December 31, 1996, and incorporated herein by reference). * 27.1 Financial Data Schedule. Note: (*) Exhibits filed herewith. (b) REPORTS ON FORM 8-K No reports on Form 8-K have been filed during the quarter for which this report is filed. SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. KINETIC CONCEPTS, INC. (REGISTRANT) By: /s/ RAYMOND R. HANNIGAN ----------------------- Raymond R. Hannigan President and Chief Executive Officer By: /s/ WILLIAM M. BROWN -------------------- William M. Brown Vice President and Chief Financial Officer Date: November 12, 1999 EX-27 2
5 9-MOS DEC-31-1999 SEP-30-1999 6,598,272 0 82,535,495 4,534,069 25,369,886 125,632,700 217,691,058 138,114,870 298,192,627 56,592,195 490,722,190 0 0 70,915 (259,599,187) 298,192,627 56,373,362 239,905,216 21,895,055 175,354,755 0 3,499,010 34,952,708 7,009,117 2,873,738 4,135,380 0 0 0 4,135,380 $0.06 $0.06
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