-----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, SE0/Wzq7sRl/QRfra5EjNb/HBM0+nbqWG37b1otcUL790vTNADJXwmkXOsLkogUr opQgr+qdYxrK0KLkf207vA== 0000950152-99-006958.txt : 19990817 0000950152-99-006958.hdr.sgml : 19990817 ACCESSION NUMBER: 0000950152-99-006958 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 2 CONFORMED PERIOD OF REPORT: 19990630 FILED AS OF DATE: 19990816 FILER: COMPANY DATA: COMPANY CONFORMED NAME: HCR MANOR CARE INC CENTRAL INDEX KEY: 0000878736 STANDARD INDUSTRIAL CLASSIFICATION: SERVICES-SKILLED NURSING CARE FACILITIES [8051] IRS NUMBER: 341687107 STATE OF INCORPORATION: OH FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: SEC FILE NUMBER: 001-10858 FILM NUMBER: 99691529 BUSINESS ADDRESS: STREET 1: 333 N. SUMMIT STREET CITY: TOLEDO STATE: OH ZIP: 43604-2617 BUSINESS PHONE: 4192525500 MAIL ADDRESS: STREET 1: P.O. BOX 10086 CITY: TOLEDO STATE: OH ZIP: 43699-0086 FORMER COMPANY: FORMER CONFORMED NAME: HEALTH CARE & RETIREMENT CORP / DE DATE OF NAME CHANGE: 19930328 10-Q 1 HCR MANOR CARE, INC. FORM 10-Q 1 ================================================================================ FORM 10-Q SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 (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: 1-10858 HCR MANOR CARE, INC. (Exact name of registrant as specified in its charter) DELAWARE 34-1687107 (State or other jurisdiction of (IRS Employer incorporation or organization) Identification No.) 333 N. SUMMIT STREET, TOLEDO, OHIO 43604-2617 (Address of principal executive offices) (Zip Code) REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (419) 252-5500 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 close of business on July 31, 1999. Common stock, $0.01 par value -- 107,121,911 shares ================================================================================ 2 TABLE OF CONTENTS
Page Number ------ PART I. FINANCIAL INFORMATION Item 1. Financial Statements (Unaudited) Consolidated Balance Sheets - June 30, 1999 and December 31, 1998 3 Consolidated Statements of Income - Three months and six months ended June 30, 1999 and 1998 4 Consolidated Statements of Cash Flows - Six months ended June 30, 1999 and 1998 5 Notes to Consolidated Financial Statements 6 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 8 Item 3. Quantitative and Qualitative Disclosures About Market Risk 13 PART II. OTHER INFORMATION Item 1. Legal Proceedings 14 Item 2. Changes in Securities 15 Item 3. Defaults Upon Senior Securities 15 Item 4. Submission of Matters to a Vote of Security Holders 15 Item 5. Other Information 16 Item 6. Exhibits and Reports on Form 8-K 16 SIGNATURES 17
2 3 PART I. FINANCIAL INFORMATION Item 1. Financial Statements. --------------------- HCR MANOR CARE, INC. CONSOLIDATED BALANCE SHEETS
June 30, December 31, 1999 1998 ----------- ----------- (Unaudited) (Note 1) (In thousands) ASSETS Current assets: Cash and cash equivalents $ 15,361 $ 33,718 Receivables, less allowances for doubtful accounts of $57,286 and $58,125 374,400 314,883 Prepaid expenses and other assets 34,308 33,920 Deferred income taxes 35,235 35,235 ----------- ----------- Total current assets 459,304 417,756 Property and equipment, net of accumulated depreciation of $614,108 and $582,290 1,705,008 1,740,326 Intangible assets, net of amortization 86,763 80,802 Net investment in Genesis preferred stock 293,120 293,120 Other assets 187,263 183,136 ----------- ----------- Total assets $ 2,731,458 $ 2,715,140 =========== =========== LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities: Accounts payable $ 81,623 $ 107,341 Employee compensation and benefits 44,579 60,976 Accrued insurance liabilities 29,361 26,313 Other accrued liabilities 76,978 72,534 Revolving loans 271,000 230,000 Long-term debt due within one year 6,478 6,547 ----------- ----------- Total current liabilities 510,019 503,711 Long-term debt 675,978 693,180 Deferred income taxes 245,564 245,564 Other liabilities 75,095 73,517 Stockholders' equity: Preferred stock, $.01 par value, 5 million shares authorized Common stock, $.01 par value, 300 million shares authorized, 111.0 and 110.9 million shares issued 1,110 1,109 Capital in excess of par value 357,020 356,333 Retained earnings 923,260 841,726 ----------- ----------- 1,281,390 1,199,168 Less treasury stock, at cost (2.1 million shares) (56,588) ----------- ----------- Total stockholders' equity 1,224,802 1,199,168 ----------- ----------- Total liabilities and stockholders' equity $ 2,731,458 $ 2,715,140 =========== ===========
See notes to consolidated financial statements. 3 4 HCR MANOR CARE, INC. CONSOLIDATED STATEMENTS OF INCOME (Unaudited)
Three Months Ended Six Months Ended June 30 June 30 -------------------------- ------------------------- 1999 1998 1999 1998 ---- ---- ---- ---- (In thousands, except earnings per share) Revenues $530,454 $545,393 $1,062,302 $1,096,542 Expenses: Operating 419,248 430,430 827,797 853,744 General and administrative 23,200 24,492 44,525 52,270 Depreciation and amortization 28,503 29,829 57,015 58,212 Provision for restructuring charge, merger expenses, asset impairment and other related charges 3,816 13,500 10,707 13,500 --------- --------- --------- --------- 474,767 498,251 940,044 977,726 --------- --------- --------- --------- Income from continuing operations before other income (expenses) and income taxes 55,687 47,142 122,258 118,816 Other income (expenses): Interest expense (13,249) (11,447) (26,246) (22,122) Dividend income 4,951 600 9,902 1,200 Equity earnings of affiliated companies 859 1,361 1,356 2,618 Interest income and other 310 1,891 989 3,251 --------- --------- -------- --------- Total other income (expenses) (7,129) (7,595) (13,999) (15,053) --------- --------- -------- --------- Income from continuing operations before income taxes 48,558 39,547 108,259 103,763 Income taxes 14,942 13,066 33,615 34,801 --------- --------- -------- --------- Income from continuing operations 33,616 26,481 74,644 68,962 Discontinued operations: Income from discontinued pharmacy operations (net of taxes of $3,173 and $7,111) 3,521 7,891 --------- --------- -------- --------- Income before extraordinary item and cumulative effect 33,616 30,002 74,644 76,853 Extraordinary item - gain on sale of assets (net of taxes of $4,405) 6,890 6,890 Cumulative effect of change in accounting principle (net of taxes of $3,759) (5,640) --------- --------- --------- --------- Net income $40,506 $30,002 $81,534 $71,213 ========= ========= ========= ========= Earnings per share - basic Income from continuing operations $.30 $.24 $.67 $.64 Income from discontinued pharmacy operations (net of taxes) .03 .07 Extraordinary item (net of taxes) .06 .06 Cumulative effect (net of taxes) (.05) --------- --------- ---------- ---------- Net income $.37* $.28* $.74* $.66 ========= ========= ========= ========= Earnings per share - diluted Income from continuing operations $.30 $.24 $.67 $.62 Income from discontinued pharmacy operations (net of taxes) .03 .07 Extraordinary item (net of taxes) .06 .06 Cumulative effect (net of taxes) (.05) --------- -------- --------- --------- Net income $.36 $.27 $.73 $.64 ========= ======== ========= ========== Weighted average shares: Basic 110,434 108,296 110,700 108,236 Diluted 111,689 111,007 111,967 111,078 *Doesn't add due to rounding
See notes to consolidated financial statements. 4 5 HCR MANOR CARE, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)
Six Months Ended June 30 ------------------------ 1999 1998 ---- ---- (In thousands) OPERATING ACTIVITIES Net income $ 81,534 $ 71,213 Adjustments to reconcile net income to net cash provided by operating activities: Income from discontinued pharmacy operations (7,891) Depreciation and amortization 57,014 59,744 Asset impairment and other non-cash charges 8,160 778 Provision for bad debts 10,741 13,919 Deferred income taxes (3,332) Gain on sale of assets (11,390) (5,519) Equity in earnings of affiliated companies (1,356) (2,618) Changes in assets and liabilities, excluding sold facilities and acquisitions: Receivables (68,999) (34,514) Prepaid expenses and other assets (7,496) 9,166 Liabilities (38,742) (13,810) --------- --------- Total adjustments (52,068) 15,923 --------- --------- Net cash provided by continuing operations 29,466 87,136 Net cash provided by discontinued pharmacy operations 27,386 --------- --------- Net cash provided by operating activities 29,466 114,522 --------- --------- INVESTING ACTIVITIES Investment in property and equipment (105,223) (154,722) Investment in systems development (12,556) Acquisition of businesses (7,593) (9,536) Proceeds from sale of assets 96,555 22,212 Decrease due to deconsolidation of subsidiary (13,948) Other, net 2,400 --------- --------- Net cash used in investing activities of continuing operations (16,261) (166,150) Net cash used in investing activities of discontinued pharmacy operations (6,273) --------- --------- Net cash used in investing activities (16,261) (172,423) --------- --------- FINANCING ACTIVITIES Net borrowings under bank credit agreements 26,100 87,899 Principal payments of long-term debt (2,371) (3,925) Proceeds from exercise of stock options 1,128 1,503 Purchase of common stock for treasury (56,419) (4,838) Dividends paid by Manor Care (2,805) --------- --------- Net cash provided by (used in) financing activities of continuing operations (31,562) 77,834 Net cash used in financing activities of discontinued operations (21,113) --------- --------- Net cash provided by (used in) financing activities (31,562) 56,721 --------- --------- Net decrease in cash and cash equivalents (18,357) (1,180) Net Manor Care cash flows for December 1997 (3,213) Cash and cash equivalents at beginning of period 33,718 47,933 --------- --------- Cash and cash equivalents at end of period $ 15,361 $ 43,540 ========= =========
See notes to consolidated financial statements. 5 6 HCR MANOR CARE, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) NOTE 1 - Basis Presentation - --------------------------- The accompanying unaudited consolidated financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. In the opinion of management of HCR Manor Care, Inc. (HCR Manor Care or the Company), the interim data includes all adjustments necessary for a fair statement of the results of the interim periods and, except as discussed in Note 2, all such adjustments are of a normal recurring nature. Operating results for the three months and six months ended June 30, 1999 are not necessarily indicative of the results that may be expected for the year ending December 31, 1999. The balance sheet at December 31, 1998 has been derived from the audited financial statements at that date but does not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. For further information, refer to the consolidated financial statements and footnotes thereto included in HCR Manor Care, Inc.'s annual report on Form 10-K for the year ended December 31, 1998. At June 30, 1999, the Company operated 298 skilled and 65 assisted living facilities, 84 outpatient therapy clinics, 1 acute care hospital, 101 medical specialty units and 33 home health offices. NOTE 2 - Restructuring Charge, Merger Expenses, Asset Impairment and Other - -------------------------------------------------------------------------- Related Charges - --------------- The components of the charge consist of the following (in thousands):
Cash/ Liability at Liability at Non-cash 12/31/98 Charge Activity 6/30/99 -------- -------- ------ -------- ------- Manor Care planned spin-off: Employee benefits cash $ 617 $ 219 $ (592) $ 244 HCR and Manor Care merger: Employee benefits cash 28,294 (22,228) 6,066 Other exit costs cash 4,234 (696) 3,538 Other costs: Amortization non-cash 8,160 (8,160) Duplicate costs cash 2,328 (2,328) Other cash 1,000 1,000 ------- ------- -------- ------- Total $34,145 $10,707 $(34,004) $10,848 ======= ======= ======== =======
In Manor Care's planned spin-off, the employees did not receive lump-sum severance payments upon termination but receive their severance as biweekly payments through 1999. In the HCR and Manor Care merger, 531 employees received termination notices and at June 30, 1999 all but 12 6 7 employees have left the Company. A number of employees who left the Company continue to be paid severance payments on a biweekly basis through 1999. The non-cash charge for amortization primarily related to certain Manor Care software applications which are being used until the transition to HCR applications. The carrying value of the software is being amortized over its remaining estimated useful life ranging from six to nine months. Certain general and administrative costs of $2.3 million represented salaries and benefits for employees performing duplicate services in Toledo or Gaithersburg in the first quarter. NOTE 3 - Earnings Per Share - --------------------------- The calculation of earnings per share (EPS) is as follows:
Three months ended Six months ended June 30 June 30 ------------------------- -------------------------- 1999 1998 1999 1998 ---- ---- ---- ---- (In thousands, except earnings per share) Numerator: Income from continuing operations (income available to common stockholders) $33,616 $26,481 $74,644 $68,962 ======= ======= ======= ======= Denominator: Denominator for basic EPS - weighted-average shares 110,434 108,296 110,700 108,236 Effect of dilutive securities: Stock options 1,255 2,711 1,267 2,842 ------- ------- ------- ------- Denominator for diluted EPS - adjusted for weighted-average shares and assumed conversions 111,689 111,007 111,967 111,078 ======= ======= ======= ======= EPS - income from continuing operations Basic $.30 $.24 $.67 $.64 Diluted $.30 $.24 $.67 $.62
NOTE 4 - Divestitures - --------------------- During the second quarter, the Company exercised a purchase option on Manor Care's corporate headquarters in Gaithersburg, Maryland and sold the property realizing net proceeds of $25 million and a $10.3 million gain ($6.3 million after tax). In conjunction with selling the Manor Care corporate headquarters, three interest rate swaps with a notional amount of $30.3 million that hedged the operating lease payments for the property were terminated for a gain of $.5 million. The Company formed a strategic alliance with Alterra Healthcare Corporation (Alterra) in 1998. Two of the key provisions of the alliance include the sale of twenty-eight centers to Alterra in 1999 for approximately $200 million in cash and the creation of a joint venture to develop and construct up to $500 million of specialized assisted living residences in the Company's core markets over the next three to five years. During the second quarter HCR Manor Care closed on three of the twenty-eight assisted living facilities for $13 million realizing a $.6 million gain ($.3 million after 7 8 tax). The sale of seventeen additional facilities were closed in July 1999. As part of the development joint venture, the Company contributed fourteen properties (six of which were open) on June 30, 1999 recognizing no gain or loss. The gains on asset sales have all been recorded as extraordinary items as required after a business combination accounted for as a pooling of interests. NOTE 5 - Stock Purchase - ----------------------- On May 4, 1999 the Board of Directors of HCR Manor Care authorized the Company to purchase up to $200 million of its common stock through December 31, 2000. The shares may be used for internal stock option and 401(k) match programs and for other uses, such as possible future acquisitions. During the second quarter, the Company purchased 2,143,200 shares for $56 million. NOTE 6 - New Accounting Pronouncements - -------------------------------------- In June 1998, the FASB issued Statement No. 133, "Accounting for Derivative Instruments and Hedging Activities" (FAS 133), which is effective January 1, 2001. This Statement permits early adoption as of the beginning of any fiscal quarter after its issuance. This Statement requires the Company to recognize all derivatives on the balance sheet at fair value. Management has not determined when it will adopt this Statement nor has it determined the impact of adoption. Item 2. Management's Discussion and Analysis of Financial Condition and Results ----------------------------------------------------------------------- of Operations ------------- OVERVIEW HCR Manor Care is a provider of a range of health care services, including skilled nursing care, assisted living, subacute medical care, rehabilitation therapy, home health care and management services for subacute care, rehabilitation therapy, vision care and eye surgery. The most significant portion of the Company's business relates to skilled nursing care and assisted living facilities. At June 30, 1999, the Company operated 298 skilled and 65 assisted living facilities. During the first half of 1999, the Company opened one skilled nursing and eleven assisted living facilities, and sold nine assisted living facilities as explained below. The Company formed a strategic alliance with Alterra Healthcare Corporation (Alterra) in 1998. Two of the key provisions of the alliance include the sale of twenty-eight centers to Alterra in 1999 for approximately $200 million in cash and the creation of a joint venture to develop and construct up to $500 million of specialized assisted living residences in the Company's core markets over the next three to five years. During the second quarter of 1999, the Company closed on three of the twenty-eight assisted living facilities to be sold to Alterra and contributed fourteen properties (six of which were open) to the development joint venture. RESULTS OF OPERATIONS Revenues for the three months ended June 30, 1999 decreased $14.9 million or 3% to $530.5 million as compared to the same period in 1998. Revenues from skilled nursing and assisted living facilities decreased $13.6 million or 3% due to decreases in rates ($12.5 million) and occupancy ($27.5 million) partially offset by an increase in capacity ($26.4 million). 8 9 Revenues for the six months ended June 30, 1999 decreased $34.2 million or 3% to $1.1 billion as compared to the same period in 1998. Revenues from skilled nursing and assisted living facilities decreased $33.2 million or 3% due to decreases in rates ($36.5 million) and occupancy ($48.6 million) partially offset by an increase in capacity ($51.9 million). The decrease in revenues for the ancillary businesses due to the impact of PPS was offset by the revenues recorded in association with the development activities and strategic alliance with Alterra. The decline in rates was primarily attributable to transitioning the former HCR long-term care facilities onto the new Medicare Prospective Payment System (PPS) in January 1999 and the former Manor Care facilities in June 1999. The occupancy levels for all facilities including start-ups were 89% for the three months and six months ended June 30, 1998 compared to 85% for the same periods in 1999, respectively. The occupancy for the Company's skilled nursing facilities declined from 90% in the three months and six months ended June 30, 1998 to 87% in the same periods in 1999, respectively, reflecting the impact of transitioning onto the Medicare PPS and a decline in private pay mix over the last year. The growth in bed capacity between the first half of 1999 and 1998 was due to the opening of 25 assisted living and 3 skilled facilities in the last six months of 1998 and first six months of 1999 partially offset by the divestiture of 9 assisted living facilities in the second quarter of 1999. The quality mix of revenue from Medicare, private pay and insured patients related to skilled nursing and assisted living facilities and rehabilitation operations decreased from 72% for the three months and six months ended June 30, 1998 to 68% for the same periods in 1999, respectively. This decline was a result of the decrease in Medicare rates and census due to the Medicare PPS, decline in private pay mix, and decrease in insurance rates and census. Operating expenses for the three months ended June 30, 1999 decreased $11.2 million or 3% to $419.2 million from the comparable period in 1998. Operating expenses from skilled nursing and assisted living facilities decreased $10.8 million or 3% which was primarily attributable to the decline in ancillary costs as a result of the Medicare PPS. Operating expenses for the six months ended June 30, 1999 decreased $25.9 million or 3% to $827.8 million from the comparable period in 1998. Operating expenses from skilled nursing and assisted living facilities decreased $26.1 million or 3%. By excluding the effect of start-up facilities in the first half of 1999 and 1998, operating expenses decreased $34.6 million which was primarily attributable to the decline in ancillary costs as a result of the Medicare PPS. General and administrative expenses decreased $1.3 million and $7.7 million for the three months and six months ended June 30, 1999, respectively, as compared to the same periods in 1998. By excluding the net gains from sale of assets in 1998, general and administrative expenses decreased $5.9 million and $12.4 million for the same periods primarily as a result of synergies obtained from combining HCR and Manor Care and reclassifying $2.3 million of duplicate costs in the first quarter to the provision for the restructuring charge and other related charges, as explained below. Depreciation and amortization decreased $1.3 million and $1.2 million for the three months and six months ended June 30, 1999 compared to the same periods in 1998 due to a decline in the amortization of Manor Care's computer software and the Company's goodwill related to the write down of assets in 1998. 9 10 In the first half of 1999, the Company recorded a charge of $10.7 million. The components of the charge and the remaining liability at June 30, 1999 consist of the following (in thousands):
Cash/ Liability at Liability at Non-cash 12/31/98 Charge Activity 6/30/99 -------- -------- ------ -------- ------- Manor Care planned spin-off: Employee benefits cash $ 617 $ 219 $ (592) $ 244 HCR and Manor Care merger: Employee benefits cash 28,294 (22,228) 6,066 Other exit costs cash 4,234 (696) 3,538 Other costs: Amortization non-cash 8,160 (8,160) Duplicate costs cash 2,328 (2,328) Other cash 1,000 1,000 ------- ------- -------- ------- Total $34,145 $10,707 $(34,004) $10,848 ======= ======= ======== =======
In Manor Care's planned spin-off, the employees did not receive lump-sum severance payments upon termination but receive their severance as biweekly payments through 1999. In the HCR and Manor Care merger, 531 employees received termination notices and at June 30, 1999 all but 12 employees have left the Company. A number of employees who left the Company continue to be paid severance payments on a biweekly basis through 1999. The non-cash charge for amortization primarily related to certain Manor Care software applications which are being used until the transition to HCR applications. The carrying value of the software is being amortized over its remaining estimated useful life ranging from six to nine months. Certain general and administrative costs of $2.3 million represented salaries and benefits for employees performing duplicate services in Toledo or Gaithersburg in the first quarter. In the second quarter of 1998, Manor Care recorded a restructuring charge of $13.5 million in connection with its plan to separate its business which did not occur as a result of the merger with HCR. Interest expense increased in 1999 compared to the prior year periods due to an increase in debt outstanding under bank credit facilities. Dividend income increased during 1999 due to the $4.4 million quarterly dividend related to the Company's ownership of Series G Cumulative Convertible Preferred Stock of Genesis Health Ventures, Inc (Genesis). The decrease in equity earnings of affiliated companies was attributable to a decline in earnings of the pharmacy partnership due to a reduction in prices as a result of the Medicare PPS. Interest income and other decreased between 1999 and 1998 primarily due to a decline in rental income from Manor Care's corporate office buildings that were sold during 1998. The effective tax rate for the six months ended June 30, 1999 was 31.1% compared to 36.1% for the year ended December 31, 1998 after excluding the tax effects of the provision for restructuring charge, merger expenses, asset impairment and other related charges, as some of these items are not deductible for income tax purposes. The decrease was attributable to an increase in the exclusion on dividends received as a result of the Genesis dividend and an adjustment of the Company's prior years' tax accruals. 10 11 In the second quarter of 1999, the Company recorded the gains on sale of assets as extraordinary items as required after a business combination accounted for as a pooling of interests. The Company exercised a purchase option on Manor Care's corporate headquarters in Gaithersburg, Maryland and sold the property realizing net proceeds of $25 million and a $10.3 million gain ($6.3 million after tax). In conjunction with selling the Manor Care corporate headquarters, three interest rate swaps with a notional amount of $30.3 million that hedged the operating lease payments for the property were terminated for a gain of $.5 million. HCR Manor Care closed on three of the twenty-eight assisted living facilities sold to Alterra for $13 million realizing a $.6 million gain ($.3 million after tax). FINANCIAL CONDITION The increase in receivables of $59.5 million between June 30, 1999 and December 31, 1998 was primarily related to the $58 million receivable for the fourteen properties contributed to the development joint venture. The funds are expected to be received in the third quarter. NEW ACCOUNTING PRONOUNCEMENTS In June 1998, the FASB issued Statement No. 133, "Accounting for Derivative Instruments and Hedging Activities" (FAS 133), which is effective January 1, 2001. This Statement permits early adoption as of the beginning of any fiscal quarter after its issuance. This Statement requires the Company to recognize all derivatives on the balance sheet at fair value. Management has not determined when it will adopt this Statement nor has it determined the impact of adoption. LIQUIDITY AND CAPITAL RESOURCES During the first half of 1999, the Company satisfied its cash requirements from a combination of cash generated from operating activities, borrowings under bank credit agreements and proceeds from sale of assets. The Company used the cash principally for capital expenditures and the purchase of HCR Manor Care common stock. At June 30, 1999, the Company maintained $15.4 million in cash and cash equivalents. Expenditures for property and equipment during the first half of 1999 consisted of $52.5 million for construction of new facilities and $52.7 million for renovation and maintenance of existing facilities. The proceeds from the sale of assets of $96.6 million included the sale of the former Manor Care corporate headquarters, three assisted living facilities to Alterra and fourteen properties to the development joint venture. During the second quarter of 1999, the Company received $21 million from Alterra related to the closing of three centers and development fees related to the twenty-eight centers. In July 1999, the Company completed the sale of 17 centers for approximately $106 million. The remaining asset sales are expected to be completed in the third quarter of 1999. The Company received $8 million in June 1999 from the development joint venture related to the sale of 14 properties and the receivable of $58 million is expected to be received in the third quarter. In May 1999 the Company exercised the purchase option and simultaneously sold the Manor Care headquarters in Gaithersburg, Maryland with a net cash receipt of approximately $25 million. On May 4, 1999 the Board of Directors of HCR Manor Care authorized the Company to purchase up to $200 million of its common stock through December 31, 2000. The shares may be used for internal stock option and 401(k) match programs and for other uses, such as possible future 11 12 acquisitions. The Company purchased 2,143,200 shares for $56.4 million in the second quarter and an additional 1,760,000 shares for $36.5 million in July 1999. At June 30, 1999, outstanding borrowings aggregated $732.1 million under the bank credit agreements. After consideration of usage for letters of credit, the remaining credit availability under the agreements totaled $54.6 million. After the sale of assets in July, the remaining credit availability increased to $132.0 million. The Company has cash flow commitments related to the HCR and Manor Care merger restructuring plan that will require approximately $11 million in the remainder of 1999, primarily for employee benefits. HCR Manor Care believes that its cash flow from operations will be sufficient to cover debt payments, future capital expenditures and operating needs. It is likely that the Company will pursue growth from acquisitions, partnerships and other ventures which would be funded from excess cash from operations, credit available under the bank credit agreement and other financing arrangements that are normally available in the marketplace. YEAR 2000 The Year 2000 issue is the result of computer programs being written using two digits rather than four digits to define the year. Any of the HCR Manor Care computer software and hardware that are date sensitive and all of our embedded chip devices could recognize a two digit date of `00' as `1900' rather than `2000'. This could result in system failures and miscalculations causing disruptions to our operations. In 1995, HCR began an evaluation and upgrade to all of its technical infrastructure including hardware, operating systems and business applications. With the completion of that upgrade process, the Company will have in place, a complete package of technical solutions that properly utilize dates beyond December 31, 1999. The estimated costs of this package are expected to be $35 million. Most of these costs will be capitalized and amortized over a five to twelve year period. Since inception of the project, the Company has incurred approximately $25.6 million ($3.0 million expensed and $22.6 million capitalized) as of June 30, 1999. The Company has completed the technical solution definition and is 85% complete with the implementation. All computer hardware, software and operating system upgrades are expected to be in place by the end of the third quarter of 1999. It has not been necessary to accelerate our original implementation plan due to the Year 2000 issue. To insure that our embedded chip devices, vendor and supplier interfaces are also Year 2000 compliant, the Company has put into place an assessment, remediation, testing, implementation and contingency plan for all products, services and relationships that do not meet our Year 2000 compliance standards. The Company expects all phases along with the contingency plan to be completed by the end of the third quarter of 1999 with internal resources. The Company has queried our significant suppliers and at this point, based on their representations, the Company does not believe that Year 2000 presents a material exposure as it relates to our embedded chip devices, system interfaces, significant suppliers or vendors. The Company believes today that the most likely worst case scenario, if it occurred, would involve temporary disruptions in delivery of medical and other supplies and temporary disruptions in payments, especially payments from Medicare and other government programs. 12 13 If the federal and state healthcare reimbursement agencies or their intermediaries were to fail to implement Year 2000 compliant technologies before December 31, 1999, a temporary cash flow disruption could result. Those agencies and intermediaries have Year 2000 plans in place and the Company continues to monitor the status of those projects. However, all of the governmental agencies have stated that interim payment procedures would be implemented if their Year 2000 solutions are not in place by January 1, 2000. The foregoing assessment is based on information currently available to the Company. The Company will revise its assessment as it implements its Year 2000 strategy. The Company's Year 2000 compliance program is an ongoing process and the risk assessments and estimates of costs and completion dates for various phases of the program are subject to change. The cost of the Year 2000 program and the dates on which the Company believes the phases of the program will be completed are based on management's best estimates, which were derived using numerous assumptions of future events. Factors that could cause such changes include availability of qualified personnel and consultants, the actions of third parties and material changes in governmental regulations. There can be no guarantee that these estimates will be achieved and actual results could differ materially from those anticipated. CAUTIONARY STATEMENT CONCERNING FORWARD-LOOKING STATEMENTS Statements contained in this Form 10-Q which are not historical facts may be forward-looking statements within the meaning of federal law. Such forward-looking statements reflect management's beliefs and assumptions and are based on information currently available to management. Forward-looking statements involve known and unknown risks, uncertainties and other factors that may cause the actual results, performance or achievements of the Company or industry results to be materially different from any future results, performance or achievements expressed or implied by such forward-looking statements. Such factors include, among others, the following: general economic and business conditions, both nationally and in the regions in which the Company operates; industry capacity; demographic changes; existing government regulations and changes in, or the failure to comply with, governmental regulations; legislative proposals for health care reform; the ability to enter into managed care provider arrangements on acceptable terms; changes in Medicare and Medicaid reimbursement levels; liability and other claims asserted against the Company; competition; changes in business strategy or development plans; and the ability to attract and retain qualified personnel. All subsequent written and oral forward-looking statements attributable to the Company or persons acting on its behalf are expressly qualified in their entirety by the cautionary statements set forth or referred to above in this paragraph. The Company disclaims any obligation to update such factors or to publicly announce the result of any revisions to any of the forward-looking statements contained herein to reflect future events or developments. Item 3. Quantitative and Qualitative Disclosures About Market Risk ---------------------------------------------------------- There have been no significant changes in the Company's long-term debt since December 31, 1998. During the second quarter of 1999, the Company exercised a purchase option on Manor Care's corporate headquarters in Gaithersburg, Maryland and sold the property. In conjunction with selling the Manor Care corporate headquarters, three interest rate swaps with a notional amount of $30.3 million that hedged the operating lease payments for the property were terminated for a gain of $.5 million. 13 14 PART II. OTHER INFORMATION Item 1. Legal Proceedings. ------------------ On May 7, 1999 Genesis Health Ventures ("Genesis") filed suit in the United States District Court for the District of Delaware (the "Delaware Action") against the Company, Manor Care, Inc., Paul A. Ormond and Stewart Bainum, Jr. (collectively, the "Delaware Action Defendants"). Manor Care, Inc. has been a wholly-owned subsidiary of the company since September 25, 1998. Mr. Ormond is President and Chief Executive Officer of the Company and Mr. Bainum is Chairman of the Board of Directors of the Company and formerly was Chairman of the Board, President and Chief Executive Officer of Manor Care, Inc. The complaint alleges that the Delaware Action Defendants fraudulently induced Genesis to acquire, in August, 1998, all of the outstanding stock of Vitalink Pharmacy Services, Inc. ("Vitalink") and that such alleged conduct constituted violations of Section 10(b) of the Securities and Exchange Act of 1934, common law fraudulent misrepresentation, negligent misrepresentation and breach of contract. The suit seeks compensatory and punitive damages in excess of $100 million and preliminary and permanent injunctive relief enforcing a covenant not to compete allegedly applicable to the Company. On June 10, 1999, Genesis filed an amended complaint that was substantively identical to the original complaint. The Company believes that the material allegations of the amended complaint are untrue and that it has substantial defenses to the factual and legal assertions therein. On June 29, 1999, the Delaware Action Defendants moved to dismiss or, in the alternative, to stay the Delaware Action. That motion is presently pending before the court. The Company intends to vigorously defend the lawsuit. Although the ultimate outcome of the case is uncertain, management believes that it is not likely to have a material adverse effect on the financial condition of the Company. In addition to the Delaware Action, on May 7, 1999 Vitalink instituted a lawsuit in the Circuit Court for Baltimore City, Maryland (the "Maryland Action") against the Company, Manor Care, Inc. and ManorCare Health Services, Inc. (collectively, the "Maryland Defendants") seeking damages, preliminary and permanent injunctive relief and a declaratory judgment related to allegations that the Maryland Defendants have improperly sought to terminate certain pharmacy related contracts between Vitalink and ManorCare Health Services, Inc. Vitalink has also purported to institute arbitration proceedings (the "Arbitration") against the Maryland Defendants with the American Arbitration Association, seeking substantially the same relief as sought in the Maryland Action with respect to one of the pharmacy related contracts at issue in the Maryland Action and also certain additional permanent relief with respect to that contract. On May 13, 1999, Vitalink and the Maryland Defendants agreed: (i) to consolidate the Maryland Action into the Arbitration; (ii) to dismiss the Maryland Action with prejudice as to jurisdiction and without prejudice as to the merits; (iii) to stay termination of the agreements at issue until a decision can be reached in the Arbitration; and (iv) that Vitalink shall not proceed on its claims for preliminary relief in the Maryland Action or the Arbitration in view of the May 13, 1999 agreement. Vitalink has since dismissed the Maryland Action 14 15 and consolidated certain of those claims into the Arbitration by filing an Amended Demand for Arbitration. The Company believes that the material allegations in the Amended Demand for Arbitration are untrue and that it has substantial factual and legal defenses thereto. The Company intends to vigorously defend the Arbitration. Although the ultimate outcome of the Arbitration is uncertain, management believes that it is not likely to have a material adverse effect on the financial condition of the Company. One or more subsidiaries or affiliates of Manor Care have been identified as potentially responsible parties (PRPs) in a variety of actions (the Actions) relating to waste disposal sites which allegedly are subject to remedial action under the Comprehensive Environmental Response Compensation Liability Act, as amended, 42 U.S.C. Sections 9601 et seq. (CERCLA) and similar state laws. CERCLA imposes retroactive, strict joint and several liability on PRPs for the costs of hazardous waste clean-up. The Actions arise out of the alleged activities of Cenco, Incorporated and its subsidiary and affiliated companies (Cenco). Cenco was acquired in 1981 by a wholly owned subsidiary of Manor Care. The Actions allege that Cenco transported and/or generated hazardous substances that came to be located at the sites in question. The Company believes the waste disposal activities at issue occurred prior to the Manor Care subsidiary's acquisition of Cenco. Environmental proceedings such as the Actions may involve owners and/or operators of the hazardous waste site, multiple waste generators and multiple waste transportation disposal companies. Such proceedings involve efforts by governmental entities and/or private parties to allocate or recover site investigation and clean-up costs, which costs may be substantial. The potential liability exposure for currently pending environmental claims and litigation, without regard to insurance coverage, cannot be quantified with precision because of the inherent uncertainties of litigation in the Actions and the fact that the ultimate cost of the remedial actions for some of the waste disposal sites where Manor Care is alleged to be a potentially responsible party has not yet been quantified. Based upon its current assessment of the likely outcome of the Actions, the Company believes that the potential environmental liability exposure, after consideration of insurance coverage, is approximately $4.5 million. The Company is party to various other legal proceedings arising in the ordinary course of business. The Company does not believe the results of such proceedings, even if unfavorable to the Company, would have a material adverse effect on its financial position. Item 2. Changes in Securities. ---------------------- None Item 3. Defaults Upon Senior Securities. -------------------------------- None Item 4. Submission of Matters to a Vote of Security Holders. ---------------------------------------------------- None 15 16 Item 5. Other Information. ------------------ None Item 6. Exhibits and Reports on Form 8-K. --------------------------------- (a)Exhibits S-K Item 601 No. ------- 27 Financial Data Schedule for the six months ended June 30, 1999 (b) Reports on Form 8-K None 16 17 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. HCR Manor Care, Inc. (Registrant) Date August 16, 1999 By /s/ Geoffrey G. Meyers ------------------ -------------------------------------- Geoffrey G. Meyers, Executive Vice President and Chief Financial Officer 17 18 EXHIBIT INDEX Exhibit - ------- 27 Financial Data Schedule for the six months ended June 30, 1999 18 EX-27 2 EXHIBIT 27
5 1,000 6-MOS DEC-31-1999 JAN-01-1999 JUN-30-1999 15,361 0 431,686 57,286 0 459,304 2,319,116 614,108 2,731,458 510,019 675,978 0 0 1,110 1,223,692 2,731,458 0 1,062,302 0 827,797 57,015 10,741 26,246 108,259 33,615 74,644 0 6,890 0 81,534 0.74 0.73
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