Back to GetFilings.com
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
___________
FORM 10-K
|X| Annual Report Pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934
For the fiscal year ended December 31, 1999
|_| Transition Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
Commission file number 1-12040
SUN HEALTHCARE GROUP, INC.
(Exact name of registrant as specified in its charter)
Delaware 85-0410612
(State of Incorporation) (I.R.S. Employer Identification No.)
101 Sun Avenue NE
Albuquerque, New Mexico 87109
(505) 821-3355
(Address and telephone number of Registrant)
Securities registered pursuant to Section 12(b)of the Act: None
Title of each class
Common Stock, par value $.01 per share,
and Preferred Stock Purchase Rights
Indicate by check mark whether the registrant has (1) filed all reports
required 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 |_| No |X|
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of the registrant's knowledge, in the definitive proxy statement
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. |_|
On May 5, 2000, Sun Healthcare Group, Inc. had 64,576,183 outstanding
shares of Common Stock. Of those, 64,103,305 shares of Common Stock were held by
nonaffiliates. The aggregate market value of such Common Stock held by
nonaffiliates, based on the last sales price of such shares on the
Over-the-Counter Bulletin Board on May 5, 2000 was approximately $5,769,297.
Indicate by check mark whether the registrant has filed all reports
required by Section 12, 13 or 15(d) of the Securities Exchange Act of 1934
subsequent to the distribution of securities under a plan confirmed by a court.
Yes |_| No |_| N/A |X| No plan of reorganization has been filed with the
bankruptcy court as of this date.
1
SUN HEALTHCARE GROUP, INC.
(Debtor-in-Possession)
FORM 10-K
FOR THE FISCAL YEAR ENDED DECEMBER 31, 1999
INDEX
Page
PART I
Item 1. Business....................................................................................... 3
Item 2. Properties..................................................................................... 20
Item 3. Legal Proceedings.............................................................................. 22
Item 4. Submission of Matters to a Vote of Security Holders............................................ 22
PART II
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters.......................... 23
Item 6. Selected Financial Data........................................................................ 23
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations.......... 27
Item 7A. Quantitative and Qualitative Disclosure About Market Risk...................................... 52
Item 8. Financial Statements and Supplementary Data.................................................... 52
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosures.......... 52
PART III
Item 10. Directors and Executive Officers of the Registrant............................................. 53
Item 11. Executive Compensation......................................................................... 58
Item 12. Security Ownership of Certain Beneficial Owners and Management................................. 63
Item 13. Certain Relationships and Related Transactions................................................. 64
PART IV
Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K................................ 66
Signatures..................................................................................... 73
SunBridge, SunDance, SunScript, SunSolution, SunCare, SunFactors, SunPlus,
SunChoice and CareerStaff Unlimited and related names herein are registered
trademarks of Sun Healthcare Group, Inc. and its subsidiaries.
___________
2
PART I
ITEM 1. BUSINESS
GENERAL
Sun Healthcare Group, Inc., through its direct and indirect subsidiaries
(collectively referred to herein as "Sun" or the "Company"), is one of the
largest providers of long-term, subacute and related specialty healthcare
services in the United States and the United Kingdom. The Company also has
operations in Spain, Germany and Australia. The Company operates through four
principal business segments: (i) inpatient services, (ii) rehabilitation and
respiratory therapy services, (iii) pharmaceutical and medical supply services
and (iv) international operations. In October 1999, the Company commenced cases
under Chapter 11 of the U.S. Bankruptcy Code and is currently operating its
business as a debtor-in-possession subject to the jurisdiction of the Bankruptcy
Court for the District of Delaware (the "Bankruptcy Court") (see "Recent
Developments - Bankruptcy"). The following describes the Company's business
segments and other operations. Financial information for the business segments
is set forth in "Note 21 - Segment Information in the Company's Consolidated
Financial Statements."
INPATIENT SERVICES. At December 31, 1999, Sun owned, leased or managed 354
long-term and subacute care facilities (consisting of 346 skilled nursing
facilities and eight hospitals, but not including 22 assisted living facilities)
in 27 states with 39,867 licensed beds in the United States primarily through
SunBridge Healthcare Corporation ("SunBridge"). The Company's long-term and
subacute care facilities provide inpatient skilled nursing and custodial
services as well as rehabilitative, restorative and transitional medical
services. The Company provides 24-hour nursing care in these facilities by
registered nurses, licensed practical nurses and certified nursing aides. The
Company is reviewing its portfolio of facilities and intends to continue
divesting marginal and unprofitable facilities. See "Recent Developments -
Divestitures", "Item 7 - Management's Discussion and Analysis of Financial
Condition and Results of Operations", "Note 5 - Acquisitions", "Note 7 -
Impairment of Long-Lived Assets and Assets Held for Sale" and "Note 24 -
Subsequent Events in the Company's Consolidated Financial Statements".
REHABILITATION AND RESPIRATORY THERAPY SERVICES. Sun provides
rehabilitation therapy through SunDance Rehabilitation Corporation ("SunDance")
and oxygen and respiratory therapy supplies and equipment through SunCare
Respiratory Services, Inc. ("SunCare"). At December 31, 1999, Sun provided
therapy services and supplies to 1,531 facilities in 37 states, 1,158 of which
were operated by nonaffiliated parties. The Company is currently pursuing the
divestiture of its SunCare respiratory therapy supply operations. See "Recent
Developments - Divestitures" and "Note 24 - Subsequent Events in the Company's
Consolidated Financial Statements.
PHARMACEUTICALS AND MEDICAL SUPPLY SERVICES. The Company provides
pharmaceutical services through SunScript Pharmacy Corporation ("SunScript") and
medical supplies through SunChoice Medical Supply,Inc. ("SunChoice").
Pharmaceutical services include dispensing pharmaceuticals for such purposes as
infusion therapy, pain management, antibiotic therapy and parenteral nutrition.
Additional services include providing consultant pharmacists and assistance in
preparation of billing documentation. SunScript services are typically provided
to nonaffiliated and affiliated facilities, including subacute and skilled
nursing care facilities, assisted living facilities, group houses, correctional
facilities, mental health facilities and home healthcare companies. As of
December 31, 1999, Sun operated 38 regional pharmacies, six in-house long-term
care pharmacies and one pharmaceutical billing and consulting center in the
United States, which together provided pharmaceutical products and services to a
total of 885 long-term and subacute care facilities in 22 states, 550 of which
were operated by nonaffiliated parties. As of December 31, 1999, Sun provided
medical supplies to approximately 1,622 affiliated and nonaffiliated facilities.
3
INTERNATIONAL OPERATIONS. Sun operated 145 long-term care facilities in the
United Kingdom with 8,320 licensed beds as of December 31, 1999. The Company
holds a majority interest in Eurosar, S.A. ("Eurosar"), a privately-owned
company that, as of December 31, 1999, operated 11 long-term care facilities in
Spain with 1,640 licensed beds. Sun holds 38.2% of the equity of Alpha
Healthcare Limited ("Alpha"), a publicly held acute care provider in Australia
that as of December 31, 1999 operated 10 facilities with 629 licensed beds. As
of December 31, 1999, Sun also operated five hospitals in Australia with 335
beds. Sun holds a majority interest in Heim Plan-Uternehmensgruppe, an operator
of 17 long-term care facilities with 1,217 licensed beds in Germany. In
addition, Sun provides pharmaceutical services in the United Kingdom, Germany
and Spain and medical supplies in Australia.
The Company is currently soliciting offers to purchase its international
operations. No assurance can be given that the international operations will be
sold or that, if they are sold, the Company will not experience a material loss
on the sale. As of May 31, 2000, the Company had divested 18 pharmacies that it
operated in the United Kingdom. See "Recent Developments - Divestitures" and
"Note 24 - Subsequent Events in the Company's Consolidated Financial
Statements."
OTHER OPERATIONS. The Company is also a nationwide provider of temporary
medical staffing to hospitals, nursing homes, therapy providers, home health
care providers and pharmacies through CareerStaff Unlimited, Inc.
("CareerStaff"). CareerStaff provides (i) licensed therapists skilled in the
areas of physical, occupational and speech therapy, (ii) nurses, (iii)
pharmacists, pharmacist technicians and medical imaging technicians and (iv)
related medical personnel. At December 31, 1999, CareerStaff had 25 division
offices providing temporary therapy and nursing staffing services in major
metropolitan areas and one division office specializing in placements of
temporary traveling therapists in smaller cities and rural areas.
The Company divested its hospice operations in the United States during the
fourth quarter of 1999. See "Recent Developments - Divestitures," and "Note 7 -
Impairment of Long-Lived Assets and Assets held for Sale in the Company's
Consolidated Financial Statements."
Through SunBridge, Inc., the Company also operated 22 assisted living
facilities with 2,582 beds in the United States as of December 31, 1999. These
facilities serve the elderly who do not need the full-time nursing care provided
by long-term or subacute care facilities but who do need some assistance with
the activities of daily living. During the first quarter of 2000, the Company
entered into an agreement to sell 16 of these assisted living facilities. See
"Recent Developments - Divestitures" and "Note 24 - Subsequent Events to the
Company's Consolidated Financial Statements." Through SunAlliance and SunPlus,
the Company also provides mobile radiology, medical laboratory and home
healthcare services in certain locations.
Through Shared Healthcare Systems, Inc., which also does business under the
trade name SHS.com, the Company develops certain software for use in the
long-term care industry. Shared Healthcare Systems, Inc. which is a
majority-owned subsidiary of the Company, did not commence a case under Chapter
11 of the U.S. Bankruptcy Code.
The Company's principal executive offices are located at 101 Sun Avenue,
NE, Albuquerque, NM 87109, and its telephone number at such address is (505)
821-3355. The Company maintains a Web site at http://www.sunh.com.
4
RECENT DEVELOPMENTS
BANKRUPTCY. On October 14, 1999, Sun Healthcare Group, Inc. and
substantially all of its U.S. operating subsidiaries filed voluntary petitions
for protection under Chapter 11 of the U.S. Bankruptcy Code with the U.S.
Bankruptcy Court for the District of Delaware ("the Bankruptcy Court") (case
nos. 99-3657 through 99-3841, inclusive). On February 3, 2000, HoMed
Convalescent Equipment, Inc. ("HoMed"), an indirect subsidiary of Sun, commenced
its chapter 11 case in the Bankruptcy Court (case no. 00-00841). The Company has
obtained debtor-in-possession financing and is currently operating its business
as a debtor-in-possession subject to the jurisdiction of the Bankruptcy Court.
On May 2, 2000, the Bankruptcy Court entered an order establishing (i) June 20,
2000 at 5:00 p.m. Eastern Time as the last date and time for each person or
entity to file a proof of claim against the Company, other than claims of
governmental units against HoMed, and (ii) August 1, 2000 at 5:00 p.m. Eastern
Time as the last date and time for governmental units only to file proofs of
claim against HoMed. See "Certain Additional Business Risks", "Item 7 -
Management's Discussion and Analysis of Financial Condition and Results of
Operations -- Liquidity and Capital Resources" and "Note 2, Petitions for
Reorganization under Chapter 11 in the Consolidated Financial Statements."
APPOINTMENT OF ACTING CHAIRMAN AND ACTING CHIEF EXECUTIVE OFFICER. On July
13, 2000, Andrew L. Turner took a leave of absence as the Company's Chairman of
the Board of Directors and as Chief Executive Officer pending the approval by
the Bankruptcy Court of a Settlement Agreement and an Expense Indemnification
Agreement between the Company and Mr. Turner. The Board of Directors elected
James R. Tolbert as the Acting Chairman of the Board and Mark G. Wimer as the
Acting Chief Executive Officer. Mr. Tolbert has been a director of the Company
since 1995 and lead independent director since 1999. Mr. Wimer has served with
the Company since 1993 and has been President and Chief Operating Officer since
1997. Upon approval by the Bankruptcy Court of the Settlement Agreement and the
Expense Indemnification Agreement, Mr. Turner will resign from all positions
that he holds with the Company and Mr. Tolbert will become the Chairman of the
Board and Mr. Wimer will become the Chief Executive Officer. See Item 10 -
"Directors and Executive Officers of the Registrant" and Item 11 - "Executive
Compensation - Employment Agreements."
DIVESTITURES. During the year ended December 31, 1999, Sun divested 49
skilled nursing facilities, twelve assisted living facilities (four of which the
Company managed through the first quarter of 2000), a parcel of land and its
hospice operations in the United States. The aggregate cash consideration
received was approximately $4.1 million, $4.6 million and $0.2 million for the
assisted living facilities, parcel of land and the hospice operations,
respectively. The Company did not receive any cash consideration from the
skilled nursing facility divestitures. In addition, the Company received parcels
of land valued at approximately $9.2 million and a note receivable of
approximately $1.0 million for the assisted living facility divestitures. The
aggregate debt, capital lease obligations, notes payable and other liabilities
assumed by the purchasers and successors of the skilled nursing facilities and
the assisted living facilities were approximately $10.7 million and $21.0
million, respectively. The aggregate net loss on the skilled nursing facility
divestitures was approximately $3.0 million dollars which was recorded to loss
on assets held for sale, net in 1999. The aggregate net loss on the assisted
living divestitures was approximately $68.4 million of which approximately $24.9
million and approximately $43.5 million was recorded to loss on assets held for
sale, net in 1999 and 1998, respectively. The sale of the parcel of land
resulted in a net gain recorded in 1999 of approximately $0.7 million. The net
loss on the sale of the hospice operations was approximately $7.2 million and
was recorded to loss on assets held for sale, net during 1999. See "Note 7 -
Impairment of Long-Lived Assets and Assets Held for Sale in the Company's
Consolidated Financial Statements."
5
During the period of January 1, 2000 through June 30, 2000, Sun divested
one skilled nursing facility, closed one skilled nursing facility and arranged
for the sale of 16 assisted living facilities in the United States. See "Note 24
- - Subsequent Events in the Company's Consolidated Financial Statements."
During the period of January 1, 2000 through May 31, 2000, Sun divested a
total of 18 pharmacies in the United Kingdom, resulting in an aggregate gain of
approximately $1.0 million. The aggregate cash consideration received for these
divestitures was approximately $9.7 million. See "Note 24 - Subsequent Events in
the Company's Consolidated Financial Statements."
The Company is actively reviewing its portfolio of properties and intends
to divest those properties that it believes do not meet acceptable financial
performance standards or do not fit strategically into the Company's operations.
This process is expected to be ongoing throughout its bankruptcy cases. The
Company is also pursuing the disposition of its international operations and
certain non-core businesses, including the sale of its SunCare respiratory
therapy supply business and the therapy equipment manufacturing operations of
one of the Company's subsidiaries, which is in the process of closing its
operations. No assurance can be given that these operations will be sold or
that, if they are sold, the Company will not experience a material loss on the
sales.
RESTRUCTURING. The Company commenced a comprehensive restructuring in 1998
which continued in 1999. The number of full and part-time employees of the
Company worldwide has decreased from approximately 80,700 on February 20, 1999
to approximately 57,100 on March 31, 2000. The decrease was primarily
attributable to the elimination of rehabilitation therapy employees through
attrition, layoffs and as a result of the disposition of a number of inpatient
facilities. The Company restructured its domestic operations to more closely
align the inpatient, rehabilitation and pharmaceutical services divisions. The
Company also decreased the number of layers in the management structure. The
Company also restructured all of its international operations under one
subsidiary, SunHealthcare Group International Corporation. There can be no
assurance as to the impact of the restructuring on the Company's financial
condition and results of operations.
REIMBURSEMENT FROM MEDICARE AND MEDICAID
The following table sets forth the total revenues by payor source for the
Company's U.S. operations for the periods indicated:
YEAR ENDED DECEMBER 31,
-----------------------------------------------------------------
Sources of Revenues
1997 1998 1999
(In thousands)
Medicaid....................................... $583,583 $ 957,058 $1,041,662
Medicare...................................... 479,201 834,200 446,820
Private pay and other (1) ..................... 749,881 1,011,935 743,651
____________________
(1) Includes revenues from the provision of ancillary services, which includes
payments for rehabilitation and respiratory therapy, temporary therapy
staffing services and pharmaceutical services provided to nonaffiliated
long-term and subacute facilities and not directly charged to Medicaid or
Medicare. Such private pay sources may themselves derive all or a portion
of their revenues from Medicaid and/or Medicare.
6
The Medicare Part A program provides reimbursement for extended
care services furnished to Medicare beneficiaries who are admitted to nursing
facilities after at least a three-day stay in an acute care hospital. The
Medicare Part B program provides reimbursement for patients receiving ancillary
services who have not had the required stay at a hospital. Medicaid is a
state-administrated program that provides assistance to the indigent and certain
other eligible persons. Private payment patients typically have financial
resources (including insurance coverage) to pay for their monthly services and
do not rely on government programs for financial support.
In the Balanced Budget Act of 1997 ("BBA"), Congress passed numerous
changes to the reimbursement policies applicable to certain hospital services,
skilled nursing, therapy and other ancillary services. The BBA mandated the
implementation of a prospective payment system ("PPS") for Medicare Part A
skilled nursing facility services to be phased in over a four-year period. PPS
became effective on July 1, 1998 for the Company's facilities that it acquired
from Retirement Care Associates, Inc. ("RCA") and on January 1, 1999 for the
remainder of its facilities. Under PPS, Medicare pays skilled nursing facilities
a fixed fee per patient per day based on the acuity level of the patient to
cover all Medicare Part A patients, including nursing, ancillary and capital
related costs for Medicare beneficiaries receiving skilled services. Currently,
under PPS, each patient is evaluated and assigned to one of 44 Resource
Utilization Group ("RUG") categories, which determines the per diem
reimbursement rate for that patient. The higher the acuity level of the patient,
the more services that are required by that patient. Accordingly, a higher
acuity patient that requires more services is assigned to a higher RUG category,
resulting in a higher per diem rate. The ability of the Company to offer the
ancillary services required by higher acuity patients in a cost effective manner
will be critical to the Company's success. Prior to the implementation of PPS,
the costs of many of such services were generally reimbursed on a "pass through"
basis. During the PPS phase-in, payments will generally be based on a blend of
the facility's adjusted historical costs based on 1995 cost data and a federally
established per diem rate as follows: (i) year one, 75% historical cost and 25%
federal rate; (ii) year two, 50% historical cost and 50% federal rate; (iii)
year three, 25% historical cost and 75% federal rate, and (iv) year four and
thereafter, 100% federal rate.
Effective January 1, 1999, for all Medicare Part B patients, Medicare
reimbursement for many ancillary services, including rehabilitation therapy,
medical supplies, and other ancillary services, are made to the skilled nursing
facility pursuant to fee schedules. The previous reimbursement methodology
reimbursed skilled nursing facilities based upon the cost of ancillary services
provided. The BBA also imposed an annual per-beneficiary cap of $1,500 per
provider for certain therapy services provided, also effective January 1, 1999.
The BBA also instituted consolidated billing for skilled nursing facility
services, under which all payments for certain non-physician services to
beneficiaries are made to the facility, regardless of whether the item or
service was directly furnished by the facility or by others under arrangement.
While this provision was to be effective for items or services furnished on or
after July 1, 1998, Congress has placed a moratorium on its enforcement, as
described below. Other provisions of the BBA limited Medicare payments to
skilled nursing facilities for certain drugs and biologicals, durable medical
equipment and parenteral and enteral nutrients and supplies.
The Company's revenues from its inpatient facilities have been
significantly affected by the BBA's federally established PPS per diem rates and
Medicare Part B changes. The following table sets forth the approximate amounts
of Medicare Part A revenues recorded by the Company's long-term care facilities
for the years 1997, 1998 and 1999:
7
AVERAGE MEDICARE PART A
REVENUE PER PATIENT, PER DAY(1)(2)
----------------------------------
1997 $451.09
1998 468.97
1999 300.33
____________________
(1) Includes estimated adjustments for routine cost limit ("RCL") exception
revenue.
(2) The year-to-year comparisons are not on a same-store basis.
In addition, the Company's average annual Medicare Part B revenue per
facility decreased approximately 83% from 1997 to 1999. Three factors
contributed to the decline in Medicare Part B revenue: volume decreased due to
staffing cuts that occurred as part of the cost control measures implemented by
the ancillary companies under the PPS system, the $1,500 annual per-beneficiary
cap contributed to the decline in Medicare Part B revenue by limiting access for
Part B patients requiring therapy, and finally, Part B therapy pricing was
affected negatively when Part B reimbursement changed to a procedure code
payment system. There can be no assurance that the provisions of the BBA, as
amended, will not continue to have a material adverse effect on the Company's
financial condition and results of operations.
On November 29, 1999, President Clinton signed into law the Balanced Budget
Refinement Act ("BBRA"), which was designed to mitigate the adverse effects of
the BBA. Prior to the implementation of PPS, the Health Care Financing
Administration ("HCFA") estimated that the BBA would reduce Medicare funding for
skilled nursing providers by approximately $12.9 billion for the five-year
period of 1998 to 2002. The BBRA was intended to restore approximately $2.7
billion in Medicare funding for skilled nursing providers over the years 2000,
2001 and 2002. However, in April 2000 the Congressional Budgeting Office
estimated that the BBA, even with the BBRA adjustments, will reduce Medicare
funding to skilled nursing providers by approximately $22.3 billion for the
five-year period of 1998 to 2002. The Company believes that the BBRA may restore
approximately 5% of the Company's reductions in revenues caused by the BBA.
The key provisions of the BBRA include: (i) the option for a skilled
nursing provider to choose between the higher of the current blended rate or
100% of the federally-determined acuity-adjusted rate, effective for cost
reporting periods starting on or after January 1, 2000; (ii) a temporary
increase of 20% in the federal adjusted per diem rates for 15 RUG categories
covering certain medically complex patients for the period from April 1, 2000
through September 30, 2000; at which time, if HCFA has not adopted refinements
for the medically complex patients in the RUG-III system, the 20% increase will
be extended until such time as the refinements are adopted; (iii) a 4% increase
in the federal adjusted per diem rates for all 44 RUG categories for each of the
periods October 1, 2000 through September 30, 2001 and October 1, 2001 through
September 30, 2002; and (iv) a two-year moratorium on implementing the Part B
$1,500 therapy limitations contained in the BBA, effective January 1, 2000
through January 1, 2002.
On April 10, 2000, HCFA released its proposed refinements to PPS. The
proposed changes include the following: (i) the number of RUG categories would
increase from 44 to 178; (ii) the BBRA's temporary 20% increase in 15 RUG
categories would terminate on September 30, 2000; and (iii) the nursing, wage
and other indices used to calculate the new reimbursement model would be updated
based on more recent claims data and cost reports. The proposed changes are
expected to decrease the planned annual increase in Medicare funding for skilled
nursing providers by approximately $1.0 billion during 2001. The proposed
refinements are subject to change, and the final refinements are intended to be
implemented on October 1, 2000. The Company will be unable to calculate the
effect of the proposed changes on the Company's operations until further
regulations are proposed by HCFA that would allow the Company to determine which
patients will be designated under each RUG category. There can be no assurance
that these proposed changes will not have a material adverse affect on the
Company's financial condition and results of operation.
8
In addition to the reduced reimbursement received by the Company's
facilities as a result of PPS, the implementation of PPS resulted in a greater
than expected decline in demand for the Company's therapy and pharmaceutical
services. For instance, the nursing home industry has responded to the lower
reimbursement levels under PPS by, among other things, seeking lower acuity
residents who need less ancillary services and by providing therapy services
in-house, which has resulted in a significant decline in the demand for the
Company's therapy services. Prior to the implementation of PPS, Sun's ancillary
services, such as rehabilitation and respiratory therapy services and
pharmaceutical services, had significantly higher operating margins than the
margins associated with Sun's long-term and subacute care facilities and
accordingly such services provided most of Sun's operating profits. Although the
Company has taken and continues to take actions to reduce its costs of providing
ancillary services, it is highly unlikely that the Company will be able to
achieve its pre-PPS profit margins on its ancillary services.
Various cost containment measures adopted by governmental and private pay
sources restrict the scope and amount of reimbursable healthcare expenses and
limit increases in reimbursement rates for medical services. Any reductions in
reimbursement levels under Medicaid, Medicare or private payor programs and any
changes in applicable government regulations or interpretations of existing
regulations could significantly adversely affect the Company's profitability.
Furthermore, government programs are subject to statutory and regulatory
changes, retroactive rate adjustments, administrative rulings and government
funding restrictions, all of which may materially affect the rate of payment to
the Company's facilities and its therapy and pharmaceutical services businesses.
There can be no assurance that payments under governmental or private payor
programs will remain at levels comparable to present levels or will be adequate
to cover the costs of providing services to patients eligible for assistance
under such programs. Significant decreases in utilization and changes in
reimbursement could have a material adverse effect on the Company's financial
condition and results of operations, including the possible impairment of
certain assets.
Prior to the implementation of PPS, reimbursement for therapy services was
evaluated under Medicare's reasonable cost principles. In 1995, and periodically
since then, HCFA provided information to fiscal intermediaries for use in
determining reasonable costs for therapy services. This information, although
not intended to impose limits on such costs, suggested that fiscal
intermediaries should carefully review costs, which appear to be in excess of
what a "prudent buyer" would pay for those services. Because PPS payments and
fee schedules have become the methods of reimbursement for these services, HCFA
directives and reasonable cost guidelines discussed in this paragraph have no
impact on the Company as to services rendered after January 1, 1999. A
retroactive adjustment of Medicare reimbursement could, however, be made for
some prior periods. With respect to nonaffiliated facilities, an adjustment of
reimbursement rates for therapy services could result in indemnity claims
against the Company, based on the terms of substantially all of the Company's
existing contracts with such facilities, for payments previously made by such
facilities to the Company that are reduced by Medicare in the audit process.
For periods prior to the effective date of PPS, certain Medicare
regulations applied to transactions between related parties, such as between the
Company's subsidiaries that operate skilled nursing facilities and subsidiaries
which provide ancillary services. These regulations are relevant to the amount
of Medicare reimbursement that the Company's skilled nursing facilities are
entitled to receive for certain rehabilitation and respiratory therapy and
pharmaceutical services provided by the Company's ancillary service
subsidiaries. An exception to the related party regulations is available
provided that, among other things, a substantial part of the services of the
relevant subsidiary supplier be transacted with nonaffiliated entities. When
that exception applies, the skilled nursing facility may receive reimbursement
for services provided by the Company's ancillary service subsidiaries at the
rates applicable to services provided to nonaffiliated entities. The related
party regulations do not indicate a specific level of services that must be
provided to nonaffiliated entities in order to satisfy the "substantial part"
requirement of this exception. In instances where this issue has been litigated
by others, no consistent standard has emerged as to the appropriate threshold
necessary to satisfy the "substantial part" requirement.
9
The implementation of PPS and the fee schedules have significantly reduced
the Medicare impact of the related party rule, but the related party rule
continues to affect certain Medicaid cost reports. The Company's net revenues
from rehabilitation therapy services, including net revenues from temporary
therapy staffing services, provided to nonaffiliated facilities represented 56%,
56% and 71% of total rehabilitation services net revenues for the years ended
December 31, 1999, 1998 and 1997, respectively. Respiratory therapy services
provided to nonaffiliated facilities represented 52%, 46% and 63% of total
respiratory therapy services net revenues for the years ended December 31, 1999,
1998 and 1997, respectively. Net revenues from pharmaceutical services billed to
nonaffiliated facilities represented 74%, 70% and 79% of total pharmaceutical
services revenues for the years ended December 31, 1999, 1998 and 1997,
respectively. The Company considers RCA a nonaffiliated entity for all periods
prior to its acquisition. The Company believes that it satisfies the
requirements of the exception to the regulations regarding nonaffiliated
business. Consequently, it has claimed and received reimbursement under Medicare
and Medicaid for rehabilitation and respiratory therapy and pharmaceutical
services provided to patients in its own facilities at fair market value, rather
than at Company cost, which would have applied if it did not satisfy the
exception. If the Company were deemed not to have satisfied these regulations,
the reimbursement that the Company receives for rehabilitation and respiratory
therapy and pharmaceutical services provided to its own facilities could be
significantly reduced, which would materially and adversely affect the Company's
financial condition and results of operations. If, upon audit by federal or
state reimbursement agencies, such agencies find that the exception has not been
satisfied, and if, after appeal, such findings are sustained, the Company could
be required to refund some or all of the difference between its cost of
providing these services to any entity found to be subject to the related party
regulations and the fair market value amount actually received. While the
Company believes that it has satisfied these regulations, there can be no
assurance that its position would prevail if contested by relevant reimbursement
agencies. The foregoing statements with respect to the Company's ability to
satisfy these regulations are forward looking and could be affected by a number
of factors, including the interpretation of regulations by federal or state
reimbursement agencies and the Company's ability to provide services to
nonaffiliated facilities.
GOVERNMENT REGULATION
REGULATORY REQUIREMENTS. The Company's subsidiaries, including those that
provide subacute and long-term care, rehabilitation and respiratory therapy and
pharmaceutical services, are engaged in industries that are extensively
regulated. As such, in the ordinary course of business, the operations of these
subsidiaries are continuously subject to state and federal regulatory scrutiny,
supervision and control. Such regulatory scrutiny often includes inquiries,
investigations, examinations, audits, site visits and surveys, some of which may
be non-routine. In addition to being subject to the direct regulatory oversight
of state and federal regulatory agencies, these industries are frequently
subject to the regulatory supervision of fiscal intermediaries. If a provider is
ever found by a court of competent jurisdiction to have engaged in improper
practices, it could be subject to civil, administrative, or criminal fines,
penalties or restitutionary relief, and reimbursement authorities could also
seek the suspension or exclusion of the provider or individuals from
participation in their program. If a facility is decertified by HCFA or a state
as a Medicare or Medicaid provider, the facility will not thereafter be
reimbursed by the federal government for caring for residents that are covered
by Medicare and Medicaid, and the facility would be forced to care for such
residents without being reimbursed or to transfer such residents.
10
Long-term care facilities must comply with certain requirements to
participate under Medicare or Medicaid. Regulations promulgated pursuant to the
Omnibus Budget Reconciliation Act of 1987 obligate facilities to demonstrate
compliance with requirements relating to resident rights, resident assessment,
quality of care, quality of life, physician services, nursing services,
infection control, physical environment and administration. Regulations
governing survey, certification and enforcement procedures to be used by state
and federal survey agencies to determine facilities' level of compliance with
the participation requirements for Medicare and Medicaid were adopted by HCFA
effective July 1, 1995. These regulations require that surveys focus on
residents' outcomes of care and state that all deviations from participation
requirements will be considered deficiencies, but a facility may have
deficiencies and be in substantial compliance with the regulations. The
regulations identify alternative remedies against facilities and specify the
categories of deficiencies for which they will be applied. The alternative
remedies include, but are not limited to: civil money penalties of up to $10,000
per day; facility closure and/or transfer of residents in emergencies; denial of
payment for new or all admissions; directed plans of correction; and directed
in-service training. Failure to comply with certain standards as a condition to
participate in the Medicare and Medicaid programs may result in termination of
the provider's Medicare and Medicaid provider agreements.
Most states in which the Company operates have statutes which require that
prior to the addition or construction of new nursing home beds, the addition of
new services or certain capital expenditures in excess of defined levels, the
Company must obtain a Certificate of Need ("CON") which certifies that the state
has made a determination that a need exists for such new or additional beds, new
services or capital expenditures. The CON process is intended to promote quality
health care at the lowest possible cost and to avoid the unnecessary duplication
of services, equipment and facilities. These state determinations of need or CON
programs are designed to comply with certain minimum federal standards and to
enable states to participate in certain federal and state health-related
programs. Elimination or relaxation of CON requirements may result in increased
competition in such states and may also result in increased expansion.
The Medicare and Medicaid anti-kickback statute prohibits the knowing and
willful solicitation or receipt of any remuneration "in return for" referring an
individual, or for recommending or arranging for the purchase, lease or
ordering, of any item or service for which payment may be made under Medicare or
a state healthcare program. In addition, the statute prohibits the offer or
payment of remuneration "to induce" a person to refer an individual, or to
recommend or arrange for the purchase, lease, or ordering of any item or service
for which payment may be made under the Medicare or state healthcare programs.
False claims are prohibited pursuant to criminal and civil statutes.
Criminal provisions prohibit filing false claims or making false statements to
receive payment or certification under Medicare or Medicaid, or failing to
refund overpayments or improper payments; offenses for violation are felonies
punishable by up to five years imprisonment, and/or $25,000 fines. Civil
provisions prohibit the knowing filing of a false claim or the knowing use of
false statements to obtain payment; penalties for violations are fines of not
less than $5,000 nor more than $10,000, plus treble damages, for each claim
filed. Suits alleging false claims can be brought by individuals, including
employees and competitors. Allegations have been made under the civil provisions
of the statute in certain qui tam actions that the Company has filed false
claims. See "Item 7 - Management's Discussion and Analysis of Financial
Condition and Results of Operations - Litigation."
11
ENFORCEMENT ACTIVITY. Pursuant to the Health Insurance Portability and
Accountability Act of 1996, Congress has provided additional funding to the
Office of Inspector General ("OIG") and the U.S. Department of Justice ("DOJ")
to investigate potential cases of reimbursement abuse in the health care
services industry. This legislation also sets guidelines to encourage federal,
state, and local law enforcement agencies to share general information and to
coordinate specific law enforcement activities including conducting
investigations, audits, evaluations, and inspections relating to the delivery of
and payment for health care.
In 1995, a major anti-fraud demonstration project, "Operation Restore
Trust," was announced by the OIG. A primary purpose for the project was to
scrutinize the activities of healthcare providers who are reimbursed under the
Medicare and Medicaid programs. Investigative efforts focused on skilled nursing
facilities, home health and hospice agencies, and durable medical equipment
suppliers as well as several other types of healthcare services. Operation
Restore Trust investigative techniques will eventually be used in all 50 states,
and will be applied throughout the Medicare and Medicaid programs. The OIG has
issued, and will continue to issue, special fraud alert bulletins identifying
"suspect" characteristics of potentially illegal practices by providers, and
illegal arrangements between providers. The bulletins contain "Hot Line" numbers
and encourage Medicare beneficiaries, health care company employees,
competitors, and others to call to report suspected violations. Enforcement
actions could include criminal prosecutions, suit for civil penalties, and/or
Medicare and Medicaid program exclusion.
President Clinton has announced initiatives designed to improve the quality
of care in nursing homes and to reduce fraud in the Medicare program. On July
21, 1998, the President directed HCFA to ensure that states institute tougher
enforcement measures in surveying skilled nursing facilities, including the
onsite imposition of fines without grace periods, the imposition of fines per
violation rather than per day of noncompliance, and increased review of
facilities' systems to prevent resident neglect and abuse. On December 7, 1998,
the President announced that the Administration would continue its crackdown on
providers who commit Medicare program fraud by empowering specialized
contractors to track down Medicare fraud and program waste, and by requiring
providers to report evidence of fraud so patterns of fraud can be identified
early and stopped.
In 1999, the Clinton Administration launched a new National Health Care
Fraud Task Force, chaired by the Deputy Attorney General, in which Health and
Human Services ("HHS")/OIG, HCFA, DOJ and state and local prosecutors will work
together in formulating strategies to combat health care fraud and abuse and
safeguard the well-being of Medicare and Medicaid beneficiaries. A general data
sharing process was instituted between the Federal Bureau of Investigation
("FBI") and the HHS/OIG to ensure that complete, accurate and current
information on federal health care fraud investigations is maintained and
readily available. While this task force will focus on a wide range of health
care fraud and abuse policy issues, particular attention will be devoted to
fighting nursing home fraud and abuse and excluding providers from participation
in Medicare, Medicaid and other government-funded health care programs. The
Nursing Home Initiative, coordinated by the DOJ Civil Division, focuses on
enhanced enforcement; training; outreach to industry, resident advocates,
medical professionals, academics and others; new legislation to address gaps in
federal law; an analysis of the applicable state laws and improved inter-agency
and governmental coordination, use of data, and services to victims.
12
In March 2000, the OIG issued written guidance to help nursing facilities
design effective voluntary compliance programs to prevent fraud, waste and abuse
in health care programs, including Medicare and Medicaid. The Company
voluntarily implemented a compliance program in 1996, and believes its
compliance program substantially incorporates the guidance that the OIG has
proposed to be included in such programs. In addition, the Company believes that
if it reaches a global settlement of its outstanding government investigations,
any such settlement would include a requirement that the Company enter into a
corporate integrity agreement with the OIG requiring the Company to implement
further internal controls with respect to its quality of care standards and its
Medicare and Medicaid billing, reporting and claims submission processes. See
Item 7 - "Management's Discussion and Analysis of Financial Condition and
Results of Operations - Litigation."
SURVEY, CERTIFICATION AND ENFORCEMENT ACTIVITIES AGAINST THE COMPANY. The
Company believes that its facilities and service providers materially comply
with applicable regulatory requirements. From time to time, however, the Company
receives notice of noncompliance with various requirements for Medicare/Medicaid
participation or state licensure. The Company reviews such notices for factual
correctness, and based on such review, either takes appropriate corrective
action and/or challenges the stated basis for the allegation of noncompliance.
In most cases, the Company and the reviewing agency will agree upon any measures
to be taken to bring the facility or service provider into compliance. Under
certain circumstances, however, such as repeat violations or perceived severity
of the violations, the federal and/or state agencies have the authority to take
adverse actions against a facility or service provider, including the imposition
of monetary fines, the decertification of a facility or provider from
participation in the Medicare and/or Medicaid programs, or licensure revocation.
No such enforcement action against a Company operated facility or service
provider has had a material adverse impact on the Company. However, challenging
and appealing notices of noncompliance can require significant legal expenses
and management attention.
The Company believes that enforcement activities at both the federal and
state levels and QUI TAM actions brought by private parties have increased. See
"Item 7 - Management's Discussion and Analysis of Financial Condition and
Results of Operations - Litigation." In addition, as a result of the Company's
pending bankruptcy proceedings, the Company has experienced a further increase
in regulatory oversight from both federal and state regulatory bodies. The
increased oversight may result from such regulatory bodies' concerns that the
Company's current financial difficulties may result in a decrease in the quality
of care provided at the Company's inpatient and other facilities. There can be
no assurance that substantial amounts will not be expended by the Company to
cooperate with these investigations and proceedings or to defend allegations
arising therefrom. If it were found that any of the Company's practices failed
to comply with any of the anti-fraud provisions, including those discussed in
the paragraphs above, the Company could be materially and adversely affected.
If a facility is terminated from the Medicare and Medicaid programs, its
Medicare and Medicaid reimbursement is interrupted pending recertification, a
process that can take at least several months. In the interim, the facility may
continue to provide care to its residents without Medicare and Medicaid
reimbursement, or the government may involuntarily relocate Medicare and
Medicaid residents to other facilities. Terminations, bans on admission and
civil monetary penalties can cause material adverse financial and operational
effects on individual facilities. The federal government has, in the past,
proposed to terminate several of the Company's facilities from the Medicare and
Medicaid programs, and has, on occasion, imposed bans on admissions and civil
monetary penalties against facilities, on the basis of alleged regulatory
deficiencies. The Company typically vigorously contests such sanctions, and in
some cases has sought and obtained federal court injunctions against proposed
terminations. While the Company has been successful to date in preventing some
Medicare and Medicaid terminations that it has contested, such cases require
significant legal expenses and management attention. There can be no assurance
that the federal government will not attempt to terminate additional facilities
of the Company from the Medicare and Medicaid programs, or that the Company will
continue to be successful contesting such terminations.
13
COMPETITION
The long-term and subacute care industry is highly competitive. The nature
of competition varies by location. The Company's facilities generally operate in
communities that are also served by similar facilities operated by others. Some
competing facilities are located in buildings that are newer than those operated
by the Company and provide services not offered by the Company, and some are
operated by entities having greater financial and other resources and longer
operating histories than the Company. In addition, some facilities are operated
by nonprofit organizations or government agencies supported by endowments,
charitable contributions, tax revenues and other resources not available to the
Company. Some hospitals that either currently provide long-term and subacute
care services or are converting their under-utilized facilities into long-term
and subacute care facilities are also a potential source of competition to the
Company. The Company competes with other facilities based on key competitive
factors such as its reputation for the quality and comprehensiveness of care
provided; the commitment and expertise of its staff; the innovativeness of its
treatment programs; local physician and hospital support; marketing programs;
charges for services; and the physical appearance, location and condition of its
facilities. The range of specialized services, together with the price charged
for services, are also competitive factors in attracting patients from large
referral sources.
The Company also competes with other companies in providing rehabilitation
therapy services and pharmaceutical products and services to the long-term care
industry and in employing and retaining qualified therapists and other medical
personnel. Many of these competing companies have greater financial and other
resources than the Company. There can be no assurance that Sun will not
encounter increased competition in the future that would adversely affect its
financial condition and results of operations.
EMPLOYEES
As of March 31, 2000, the Company had approximately 57,100 full-time and
part-time employees. Of this total, there were approximately 36,900 employees at
the long-term and subacute care facilities in the United States, approximately
8,300 employees at the long-term care facilities in the United Kingdom,
approximately 800 employees at the long-term care facilities in Spain,
approximately 800 employees involved in providing long-term care services in
Germany, approximately 500 employees involved in providing acute care services
in Australia, approximately 4,400 employees involved in providing rehabilitation
therapy services in the United States, approximately 2,400 employees in the
pharmaceutical services operations in the United States, approximately 70
employees in foreign pharmaceutical operations, approximately 1,400 employees in
the temporary therapy staffing business, approximately 200 employees of the
respiratory therapy services business, approximately 1,180 employees at the
corporate and regional offices in the United States and approximately 150
employees in the foreign corporate offices.
Certain of the Company's employees in Alabama, California, Connecticut,
Georgia, Massachusetts, New Mexico, Ohio, Tennessee, Washington and West
Virginia are covered by collective bargaining contracts. The unions representing
certain of the Company's employees have from time to time gone on strike. There
can be no assurance that the unions will not go on strike in the future or that
such strikes will not have a material adverse effect on the Company's results of
operations or financial condition.
14
CERTAIN ADDITIONAL BUSINESS RISKS
Information provided in this Form 10-K by the Company contains
"forward-looking" information, as that term is defined by the Private Securities
Litigation Reform Act of 1995 (the "Act"). All statements regarding the
Company's expected future financial position, results of operations, results of
its bankruptcy proceedings, cash flows, liquidity, financing plans, business
strategy, budgets, projected costs and capital expenditures, competitive
position, growth opportunities, plans and objectives of management for future
operations and words such as "anticipate," "believe," "plan," "estimate,"
"expect," "intend," "may" and other similar expressions are forward-looking
statements. The forward-looking statements are qualified in their entirety by
these cautionary statements, which are being made pursuant to the provisions of
the Act and with the intention of obtaining the benefits of the "safe harbor"
provisions of the Act. The Company cautions investors that any forward-looking
statements made by the Company are not guarantees of future performance and that
actual results may differ materially from those in the forward-looking
statements as a result of various factors, including, but not limited to, those
set forth elsewhere herein and the following:
EFFECT OF BANKRUPTCY REORGANIZATION ON COMMON STOCK AND DEBT SECURITIES. On
October 14, 1999, Sun Healthcare Group, Inc. and substantially all of its U.S.
operating subsidiaries filed voluntary petitions for protection under Chapter 11
of the U.S. Bankruptcy Code with the U.S. Bankruptcy Court for the District of
Delaware ("the Bankruptcy Court"). The Company is currently operating its
business as a debtor-in-possession subject to the jurisdiction of the Bankruptcy
Court. On October 26, 1999, the Company announced that it had reached an
agreement in principle with representatives of its bank lenders and holders of
approximately two-thirds of its outstanding senior subordinated bonds on the
terms of an overall restructuring of the Company's capital structure.
If approved as part of the Company's chapter 11 plan of reorganization, the
agreement in principle would provide the Company's bank lenders with cash, new
senior long-term debt, new preferred stock, and new common stock. The Company's
senior subordinated bondholders would receive new common stock. The agreement in
principle would also provide new long-term debt, new preferred stock and new
common stock to general unsecured creditors, and reinstate a significant portion
of Sun's secured debt. The agreement in principle provides for no recoveries for
the holders of Sun's outstanding convertible subordinated debt, convertible
trust issued preferred securities, or common stock. The agreement in principle
expires on October 1, 2000. The Company and the other parties to the agreement
in principle have initiated discussions to amend the agreement in principle. No
assurance can be given that a plan of reorganization will be confirmed or that
any plan of reorganization that is confirmed will contain the terms of the
agreement in principle. During the pendency of the Company's bankruptcy
proceedings, the Company, absent an order of the Bankruptcy Court, is prohibited
from making payments on its debt securities. See "Item 7 - Management"s
Discussion and Analysis of Financial Condition and Results of Operations --
Liquidity and Capital Resources."
AVAILABLE LIQUIDITY, BORROWING CAPACITY UNDER FINANCING AGREEMENT. On
October 14, 1999, the Company entered into a Revolving Credit Agreement with CIT
Group/Business Credit, Inc. and Heller Healthcare Finance, Inc. to provide the
Company with up to $200.0 million in debtor-in-possession financing (the "DIP
Financing Agreement"). The DIP Financing Agreement provides for maximum
borrowings by the Company equal to the sum of (i) up to 85% of the then
outstanding domestic eligible accounts receivable and (ii) the lesser of $10.0
million or 50% of the aggregate value of eligible inventory. As of May 31, 2000,
up to approximately $132.0 million was available to the Company under the DIP
Financing Agreement, of which amount the Company had borrowed approximately
$40.1 million and had issued approximately $19.1 million in letters of credit.
In addition to the available funds under the DIP Financing Agreement, the
Company had cash book balances at May 31, 2000, of approximately $25.0 million.
15
There can be no assurance that the amount available to the Company under
the DIP Financing Agreement will be sufficient to fund the Company's operations
until a plan of reorganization is confirmed by the Bankruptcy Court or that the
Company will meet required financial and operating covenants under the DIP
Financing Agreement. In addition, 12 states have objected to the entry of the
order of the Bankruptcy Court approving the DIP Financing Agreement because the
order prohibited the states from offsetting certain amounts the Company may have
owed to the states against amounts the states owed to the Company under the
Medicaid program. The states contend that the order constituted a suit against
the states in violation of the Eleventh Amendment of the United States
Constitution. The Bankruptcy Court overruled such objection and the states have
appealed, which appeal is currently pending before the United States District
Court for the District of Delaware. A decision of the District Court reversing
the order of the Bankruptcy Court could reduce the amount of funds available to
the Company under the DIP Financing Agreement. See "Item 7 - Management's
Discussion and Analysis of Financial Condition and Results of Operations --
Liquidity and Capital Resources".
RISK OF POTENTIAL DEFAULTS UNDER THE DIP FINANCING AGREEMENT. In July 2000,
the Company obtained conditional waivers on several defaults under the DIP
Financing Agreement. If the Company is unable to comply with the covenants
contained in the DIP Financing Agreement and is unable to obtain a waiver of any
such future covenant violation, then the Company would lose its ability to
borrow under the DIP Financing Agreement for its working capital needs and could
lose access to a substantial portion of its operating cash until such time as
the outstanding debt under the DIP Financing Agreement was repaid. In such
event, the Company's liquidity would probably be insufficient to fund the
Company's ongoing operations. See "Note 8 - Debtor-in-Possession Financing, in
the Company's Consolidated Financial Statements."
RISK OF FAILURE TO OBTAIN FINANCING FOR EMERGENCE FROM BANKRUPTCY. The
Company has initiated discussions with potential lenders to enter into a
financing agreement to fund the Company's operations upon emergence from its
chapter 11 bankruptcy cases. The Company would probably not be able to conduct
its operations without such financing. There can be no assurance that the
Company will be able to obtain such financing on terms that will allow the
Company to successfully operate its businesses.
REDUCED REVENUES RESULTING FROM PROSPECTIVE PAYMENT SYSTEM. For a
description of certain risks related to PPS, see "Reimbursement from Medicare
and Medicaid".
RISKS RELATED TO INVESTIGATIONS AND LEGAL PROCEEDINGS. The Company's
subsidiaries, including but not limited to those which provide subacute and
long-term care, rehabilitation and respiratory therapy and pharmaceutical
services, are engaged in industries which are extensively regulated. See
"-Potential Adverse Impact from Extensive Regulation." As such, in the ordinary
course of business, the operations of these subsidiaries are continuously
subject to state and federal regulatory scrutiny, supervision and control. Such
regulatory scrutiny often includes inquiries, investigations, examinations,
audits, site visits and surveys, some of which may be non-routine. The Company's
subsidiaries have been subject to increased regulatory oversight as a result of
the Company's chapter 11 bankruptcy filings. The HHS and the DOJ periodically
investigate matters that have come to their attention concerning the Company,
including cost reporting matters. To expedite resolution of any outstanding
investigations, the Company has requested that the HHS and the DOJ inform it of
any such investigations or outstanding concerns. In response, the DOJ has
informed the Company of a number of outstanding inquiries, some of which were
prompted by the filing of QUI TAM lawsuits that remain under seal. The Company
intends to expeditiously address whatever concerns the HHS and the DOJ may have.
There can be no assurance that the outcome of any or all of these matters will
not have a material adverse effect on the results of operations and financial
condition of the Company.
16
If any of the Company's subsidiaries is ever found to have engaged in
improper practices, it could be subjected to civil, administrative, or criminal
fines, penalties or restitutionary relief and reimbursement authorities could
also seek the suspension or exclusion of the subsidiary or individuals from
participation in their program. From time to time, the existence of regulatory
investigations has hindered or prevented the Company from pursuing certain
business opportunities. There can be no assurance that the existence of any such
investigations will not affect the Company's ability to pursue future business
opportunities. See "Item 7 - Management's Discussion and Analysis of Financial
Condition and Results of Operations -- Litigation."
RISKS ASSOCIATED WITH REIMBURSEMENT PROCESS. The Company derives a
substantial percentage of its total revenues from Medicare, Medicaid and private
insurance. Net revenues realizable under third-party payor agreements are
subject to change due to examination and retroactive adjustment by payors during
the settlement process. Payors may disallow in whole or in part requests for
reimbursement based on determinations that certain costs are not reimbursable or
reasonable or because additional supporting documentation is necessary. The
Company recognizes revenues from third-party payors and accrues estimated
settlement amounts in the period in which the related services are provided. The
Company estimates these settlement balances by making determinations based on
its prior settlement experience and its understanding of the applicable
reimbursement rules and regulations. The majority of Medicare and Medicaid
balances are settled two to three years following the provision of services,
although the Company has from time to time experienced delays in receiving final
settlement and reimbursement.
The Company currently has a number of outstanding cost reports and requests
for exceptions to the routine cost limitations, including cost reports filed by
former operators of facilities acquired by the Company for which the Company has
assumed responsibility for any overpayments to the prior operators. Pursuant to
an agreement between the Company and the HHS, all Medicare payments directly due
to the Company for services rendered prior to October 14, 1999 (pre-bankruptcy),
and not previously paid to the Company, will be withheld until the confirmation
of a plan of reorganization. In addition, the Company will not be required to
pay any amounts alleged to be due to the federal government for periods prior to
October 14, 1999 until confirmation of a plan of reorganization. Upon the
confirmation of a plan of reorganization, the Company could file a motion in the
Bankruptcy Court seeking an adjudication of the funds withheld by the HHS if the
Company believes that such funds exceed the claims that the HHS has against the
Company. As of February 29, 2000, the Company estimated that it had net Medicare
accounts receivable of approximately $74.5 million that were being withheld by
the HHS pursuant to this agreement. It is unlikely that the Company will recover
any of these receivables because it is likely the HHS will claim more than such
amount.
Payment of amounts due to the Company by the HHS for services provided on
or after October 14, 1999 (post-bankruptcy) are largely unaffected by the
Company's bankruptcy cases; the HHS has agreed not to offset such amounts
against amounts alleged to be due to the federal government from the Company for
periods prior to October 14, 1999. However, if it is determined that there is a
pre-bankruptcy overpayment to the Company that is subject to offset against
post-bankruptcy payments due to the Company or previously made to the Company,
the HHS may seek to have such payments treated as an administrative expense
claim and withhold such amounts if not already paid. If the amounts have been
previously paid to the Company, the Company would have to return such funds to
the HHS upon the occurrence of certain events, including the confirmation of a
plan of reorganization. The Company's results of operations could be materially
and adversely affected if the amounts actually received from third-party payors
in any reporting period differs materially from the amounts accrued in prior
periods.
17
SELF-FUNDED INSURANCE. The Company's insurance carriers declined to renew
the Company's high deductible general and professional liability insurance
policies that expired on December 31, 1999. Several major insurance companies
are no longer providing this type of coverage to long-term care providers due to
general underwriting issues with the long-term care industry. In January 2000,
the Company established a self-funded insurance program for general and
professional liability claims up to a base amount of $1.0 million per claim, and
$3.0 million aggregate per location, and obtained excess insurance for coverage
above these levels. There can be no assurance that this self-funded insurance
program for 2000 will not have a material adverse impact on the Company's
financial condition and results of operations or that the Company will not be
required to continue this program in future years. In the recent past, the
Company's insurance companies have paid substantially more to third parties
under these policies than the Company paid in insurance premiums and
deductibles. In addition, in certain states in which the Company has significant
operations, including California, insurance coverage for the risk of punitive
damages arising from general and professional liability litigation is prohibited
by state law. There can be no assurance that the Company will not be liable for
punitive damages awarded in litigation arising in states for which punitive
damage insurance coverage is prohibited by law. See "Note 10 - Commitments and
Contingencies in the Company's Consolidated Financial Statements."
COLLECTABILITY OF CERTAIN ACCOUNTS RECEIVABLE. Although the Company's
accounts receivable decreased from approximately $617.3 million at December 31,
1998 to approximately $406.3 million at December 31, 1999, the Company's
allowance for doubtful accounts increased from approximately $79.0 million at
December 31, 1998 to approximately $151.8 million at December 31, 1999. The
Company believes that the implementation of PPS for certain nonaffiliated
ancillary service customers has negatively affected their cash flows, and in
many instances caused them to file for bankruptcy. As a result, the Company has
increased its provision for doubtful accounts. The Company's financial condition
and results of operation could be materially adversely affected by the inability
to collect its accounts receivable.
RISK OF ADVERSE EFFECT OF FUTURE HEALTHCARE REFORM. In recent years, an
increasing number of legislative proposals have been introduced or proposed in
Congress and in some state legislatures that would effect major changes in the
healthcare system, either nationally or at the state level. Among the proposals
that have been introduced are further changes in reimbursement by federal and
state payors such as Medicare and Medicaid and health insurance reforms. For
example, federal and state government officials are reviewing whether Medicare
and Medicaid pay too much for prescription drugs as a result of providers
allegedly inflating the average wholesale prices of such drugs. Some states have
implemented new policies for how much their Medicaid programs would pay for
these drugs, and other state or federal agencies are considering implementing
similar policies. If fully implemented by the states and federal agencies, these
policies could adversely affect the results of operations of the Company's
pharmaceutical business.
As another example of potential changes, HCFA recently proposed changes in
billing for outpatient rehabilitation services under the Medicare Part B
program. Such services are documented and billed using Current Procedural
Terminology ("CPT") code units. Many of the codes are billed in 15-minute
increments such that a single service unit represents 15 minutes of a certain
treatment procedure. Under the proposed changes, if a patient is treated for 8
minutes of a 15-minute CPT coded procedure, the therapist may bill one unit.
However, if several procedures that are represented by 15-minute CPT codes are
performed, the provider must consider the total treatment time of the session.
Thus, where three separately billable CPT code therapy treatments are completed
during a 30-minute treatment session, each procedure for 10 minutes, even though
the initial 8-minute threshold was met for each individual procedure, the total
treatment time of 30 minutes only allows for billing 2 units. Therefore,
although three therapeutic procedures were provided, only two units can be
billed. Under such circumstances, this two-tiered billing criteria could
decrease Medicare Part B reimbursement and adversely affect the results of
operations of the Company's outpatient rehabilitation services business.
18
It is not clear at this time when or whether any new proposals will be
adopted, or, if adopted, what effect, if any, such proposals would have on Sun's
business. There can be no assurance that future healthcare legislation or other
changes in the administration or interpretation of governmental healthcare
programs will not have a material adverse effect on Sun's financial condition or
results of operations. See "Reimbursement from Medicare and Medicaid."
POTENTIAL ADVERSE EFFECT OF CHANGE IN REVENUE SOURCES. Changes in the mix
of patients among the Medicaid, Medicare and private pay categories, and among
different types of private pay sources, could significantly affect the revenues
and the profitability of Sun's operations. There can be no assurance that Sun
will continue to attract and retain private pay patients or maintain its current
payor or revenue mix. In addition, there can be no assurance that the facilities
operated by Sun, or the provision of services and products by Sun, now or in the
future, will initially meet or continue to meet the requirements for
participation in the Medicare and Medicaid programs. A loss of Medicare or
Medicaid certification or a change in Sun's reimbursement under Medicare or
Medicaid could have an adverse effect on its financial condition and results of
operations. See "-Risks Related to Investigations and Legal Proceedings" and
"-Risk of Adverse Effect of Future Healthcare Reform."
POTENTIAL ADVERSE IMPACT FROM EXTENSIVE REGULATION. All of the facilities
operated or managed by Sun are required to be licensed in accordance with the
requirements of state and local agencies having jurisdiction over their
operations. Most of Sun's facilities are also certified as providers under the
Medicaid and Medicare programs. The failure to obtain or renew any required
regulatory approvals or licenses or to comply with applicable regulations in the
future could adversely affect Sun's financial condition and results of
operations. See "-Risks Related to Investigations and Legal Proceedings" and
"Item 7 - Management's Discussion and Analysis of Financial Condition and
Results of Operations -- Regulation." To the extent that CONs or other similar
approvals are required for expansion of Sun's operations, either through
acquisitions or additions to or provision of new services at such facilities,
such expansion could be adversely affected by the failure to obtain such CONs or
approvals. There can be no assurance that Sun's business in the future will not
be materially adversely affected by licensing and certification requirements of
state and federal authorities.
Medicare and Medicaid antifraud and abuse laws also prohibit certain
business practices and relationships that might affect the provision and cost of
healthcare services reimbursable under Medicare and Medicaid. Expressly
prohibited are kickbacks, bribes and rebates related to Medicare or Medicaid
referrals. Federal laws also provide civil and criminal penalties for any false
or fraudulent statements, knowingly made, in any claim for payment under a
federal or state health care program as well as any material omissions in such
claims. In addition, certain states have adopted fraud and abuse and false
claims laws that prohibit specified business practices. Sanctions for violating
these laws include criminal penalties and civil sanctions, including fines and
possible exclusion from the Medicare and Medicaid programs. See "Recent
Developments-Increase in Survey, Certification and Enforcement Activities."
RISK OF INTERNATIONAL OPERATIONS; FOREIGN EXCHANGE RISK. Sun currently
conducts business in the United Kingdom, Spain, Germany and Australia. Foreign
operations accounted for approximately 12.0%, 9.0% and 10.0% of Sun's total net
revenues during the years ended December 31, 1999, 1998, and 1997, respectively,
and approximately 19.0% and 17.0% of Sun's consolidated total assets as of
December 31, 1999, and 1998, respectively. Adverse results from Sun's
international operations have and continue to negatively affect Sun's financial
condition and results of operations. The success of Sun's operations in
international markets depends on numerous factors, many of which are beyond its
control. Such factors include, but are not limited to, economic conditions and
healthcare regulatory systems in the foreign countries in which Sun operates. In
addition, international operations increase Sun's exposure to certain risks
inherent in doing business outside the United States, including slower payment
cycles, unexpected changes in regulatory requirements, potentially adverse tax
consequences, currency fluctuations, restrictions on the repatriation of profits
and assets, compliance with foreign laws and standards and political risks.
Sun's financial condition and results of operations are also subject to foreign
exchange risk. See "Recent Developments - Divestitures."
19
INCREASED LABOR COSTS; AVAILABILITY OF PERSONNEL; RETENTION OF MANAGEMENT.
In recent years Sun has experienced increases in its labor costs primarily due
to higher wages and greater benefits required to attract and retain qualified
personnel and increased staffing levels in its long-term and subacute care
facilities. The Company and other providers in the long-term care industry have
had and continue to have difficulties in attracting qualified personnel to staff
its long-term care facilities, particularly nurses, and as a result the Company
often uses temporary employment agencies to provide additional personnel. In
addition, Sun's ability to hire and retain qualified employees has been affected
by, among other things, the Company's filing for bankruptcy protection in
October, 1999 and the perceived uncertainty about Sun's financial performance.
The Company has implemented an employee retention program to retain key
employees during the pendency of the chapter 11 bankruptcy proceedings, which
will further increase the Company's labor costs. There can be no assurance that
Sun will be able to retain its executive officers and key employees and to
continue to hire and retain a sufficient number of qualified personnel to
operate the Company effectively. See "Business-Employees."
ITEM 2. PROPERTIES
The company operated an aggregate of 554 long-term care, subacute care, and
assisted living facilities world-wide as of december 31, 1999, 464 of which were
subject to long-term operating leases or subleases, 12 of which were subject to
long-term management agreements and 78 of which were owned. The company
considers its properties to be in good operating condition and suitable for the
purposes for which they are being used. The company's facilities that are leased
are subject to long-term operating leases or subleases which require the
company, among other things, to fund all applicable capital expenditures, taxes,
insurance and maintenance costs. The annual rent payable under each of the
leases generally increases based on a fixed percentage or increases in the u.s.
Consumer Price Index. Many of the leases contain renewal options to extend the
term. The company's management agreements for long-term and subacute care
facilities generally provide the company with management fees based on a
percentage of the revenues of the managed facility and may also include a fixed
fee component.
Substantially all of the Company's facilities serve as collateral for its
obligations under the DIP Financing Agreement and other various credit
facilities. The Company is actively reviewing its portfolio of properties and is
seeking, and will continue to seek to divest those properties that it believes
do not meet acceptable financial performance standards or do not fit
strategically into the Company's operations. See "Recent Developments -
Divestitures" and "Note 7 - Impairment of Long-Lived Assets and Assets Held for
Sale in the Company's Consolidated Financial Statements.
The Company calculated its aggregate occupancy percentages for all of its
long-term care, subacute care and assisted living facilities as 90%, 90% and 87%
in the United States and 78%, 80% and 78% in the United Kingdom for the years
ended December 31, 1997, 1998, and 1999, respectively. However, the Company
believes that occupancy percentages, either individually or in the aggregate,
should not be relied upon alone to determine the profitability of a facility.
Other factors include, among other things, the sources of payment, terms of
reimbursement and the acuity level for each of the patients in such facilities.
The Company also believes there is not a consistent industry standard as to how
occupancy is measured and that the information may not be comparable among
long-term care providers. The Company computes average occupancy percentages by
dividing the total number of beds occupied by the total number of licensed beds
available for use during the periods indicated.
20
FACILITIES IN THE UNITED STATES. The following table sets forth certain
information concerning the long-term care, subacute care and assisted living
facilities leased, owned or managed by the Company in the United States as of
December 31, 1999. Included in the table are 354 facilities (346 skilled nursing
facilities and eight hospitals) that are included in the inpatient services
segment and 22 assisted living facilities that are included in the other
operations segment.
NUMBER OF NUMBER OF FACILITIES
STATE LICENSED BEDS(1) LEASED OWNED MANAGED TOTAL
- ----- ---------------- ------ ----- ------- -----
California 9,266 89 3 1 93
Massachusetts 4,733 32 2 2 36
Tennessee 3,015 21 6 - 27
Texas 2,979 25 - - 25
Washington 2,294 19 2 4 25
Georgia 2,266 12 12 - 24
Florida 2,984 13 9 - 22
Arizona 1,943 12 1 - 13
Connecticut 1,768 11 1 - 12
Illinois 1,302 9 - 3 12
North Carolina 1,291 11 - - 11
Alabama 947 9 - - 9
Idaho 805 8 1 - 9
New Hampshire 991 9 - - 9
New Mexico 653 8 - - 8
Ohio 982 5 3 - 8
Louisiana 1,135 7 - - 7
West Virginia 739 7 - - 7
New Jersey 580 4 - - 4
Colorado 341 2 1 - 3
Virginia 494 2 1 - 3
Kentucky 137 2 - - 2
Maryland 353 2 - - 2
Oklahoma 135 2 - - 2
Indiana 99 1 - - 1
Missouri 103 1 - - 1
Oregon 114 1 - - 1
-------- ---- --- --- ----
Total 42,449 324 42 10 376
(1) "Licensed Beds" refers to the number of beds for which a license has been
issued, which may vary in some instances from licensed beds available for
use.
21
INTERNATIONAL LONG-TERM CARE FACILITIES. The following table sets forth
certain information concerning the long-term care facilities leased, owned or
managed by the Company as of December 31, 1999.
NUMBER OF LICENSED NUMBER OF FACILITIES
------------------ ------------------------------------------------------------
COUNTRY BEDS(1) LEASED OWNED MANAGED TOTAL
- ------- ------- ------ ----- ------- -----
United Kingdom:
England 6,739 101 18 - 119
Scotland 709 9 - - 9
Wales 460 5 2 - 7
Northern Ireland 412 9 1 - 10
Germany 1,217 15 2 - 17
Spain 1,640 1 8 2 11
Australia 335 - 5 - 5
-------- ---- --- --- ----
TOTAL 11,512 140 36 2 178
(1) "Licensed Beds" refers to the number of beds for which a license has been
issued, which may vary in some instances from licensed beds available for
use.
PHARMACEUTICAL SERVICES. As of December 31, 1999, the Company operated 38
regional pharmacies, six in-house long-term care pharmacies, and one
pharmaceutical billing and consulting center in the United States. Also, as of
December 31, 1999, the Company operated 18 pharmacies and two supply
distribution centers in the United Kingdom. Subsequent to December 31, 1999, the
Company divested the 18 pharmacies in the United Kingdom. See "Note 24 -
Subsequent Events to the Company's Consolidated Financial Statements."
ITEM 3. LEGAL PROCEEDINGS
See "Item 7 - Management's Discussion and Analysis of Financial Condition
and Results of Operations - Litigation."
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of security holders during the fourth
quarter of fiscal 1999.
22
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
The Company's common stock was traded on the New York Stock Exchange (the
"NYSE") under the symbol "SHG" until June 29, 1999. Since that time, the
Company's common stock has traded on the Over-the-Counter ("OTC") Bulletin Board
under the symbol "SHGE". The following table shows the high and low sales prices
for the common stock as reported by the NYSE and the OTC Bulletin Board for the
periods indicated:
HIGH LOW
------ -----
1998
First Quarter . . . . . . . . . . . . $ 20.13 $ 18.13
Second Quarter . . . . . . . . . . . . 19.25 14.63
Third Quarter . . . . . . . . . . . . 17.69 6.50
Fourth Quarter . . . . . . . . . . . . 7.75 4.88
1999
First Quarter . . . . . . . . . . . .. $ 6.75 $ 0.81
Second Quarter . . . . . . . . . . . . 1.63 0.28
Third Quarter . . . . . . . . . . . . 0.50 0.21
Fourth Quarter . . . . . . . . . . . . 0.22 0.07
There were 6,925 holders of record as of May 5, 2000 of the Company's
common stock.
The Company has not paid nor declared any dividends on its common stock
since its inception. During the pendency of the Company's chapter 11 bankruptcy
proceedings, the Company is prohibited from paying dividends without obtaining
Bankruptcy Court approval. See "Item 1. Recent Developments."
Pursuant to an agreement in principle entered into between the Company and
representatives of its bank lenders and holders of a majority of its senior
subordinated bonds, the Company's plan of reorganization would provide that
holders of outstanding equity securities, including common stock and options to
acquire common stock, would not receive anything in recovery. No assurances can
be given that the plan of reorganization that is confirmed, if any, will include
the terms of the agreement in principle. See Item 1 - "Certain Additional
Business Risks - Effect of Bankruptcy Reorganization on Common Stock and Debt
Securities."
ITEM 6. SELECTED FINANCIAL DATA
The following Selected Consolidated Financial Data for the years ended
December 31, 1999, 1998, 1997, 1996, and 1995 have been derived from the
Company's Consolidated Financial Statements. The financial data set forth below
should be read in connection with "Item 7. Management's Discussion and Analysis
of Financial Condition and Results of Operations" and with the Company's
Consolidated Financial Statements and related notes thereto.
23
YEAR ENDED DECEMBER 31,
-----------------------
1999(1) 1998(2) 1997(3) 1996(4) 1995(5,6)
------- ------- ------- ------- ---------
(In thousands, except per share data)
Total net revenues................... $ 2,529,039 $ 3,088,460 $ 2,010,820 $ 1,316,308 $ 1,135,508
--------------- ------------------ ------------------ ----------------- ---------------
Earnings (losses) before income
taxes, extraordinary loss and
cumulative effect of change in
accounting principle.............. (1,076,481) (689,842) 95,882 52,466 12,794
--------------- ------------------ ------------------ ----------------- ---------------
Earnings (losses) before
extraordinary loss and cumulative
effect of change in accounting
principle........................ (1,076,642) (743,419) 54,729 21,536 (20,568)
Extraordinary loss.................. - (10,274) (19,928) - (3,413)
--------------- ------------------ ------------------ ----------------- ---------------
Cumulative effect of change in
accounting principle............. (12,816) - - - -
Net earnings (losses)............... $ (1,089,458) $ (753,693) $ 34,801 $ 21,536 $ (23,981)
=============== ================== ================== ================= ===============
Net earnings (losses) per common and
common equivalent share:
Net earnings (losses) before
Extraordinary loss and
cumulative effect of change
in accounting principle:
Basic.............................. $ (18.40) $ (14.29) $ 1.18 $ 0.46 $ (0.43)
=============== ================== ================== ================= ===============
Diluted............................ $ (18.40) $ (14.29) $ 1.12 $ 0.46 $ (0.43)
=============== ================== ================== ================= ===============
Net earning (losses):
Basic.............................. $ (18.62) $ (14.49) $ 0.75 $ 0.46 $ (0.51)
=============== ================== ================== ================= ===============
Diluted............................ $ (18.62) $ (14.49) $ 0.74 $ 0.46 $ (0.51)
=============== ================== ================== ================= ===============
Weighted Average number of common
and common equivalent shares:
Basic.............................. 58,504 52,008 46,329 46,360 47,419
=============== ================== ================== ================= ===============
Diluted............................ 58,504 52,008 51,851 46,868 47,419
=============== ================== ================== ================= ===============
Working Capital (Deficit)............ $ (17,282) $ (539,636) $ 307,025 $ 211,582 $ 237,147
=============== ================== ================== ================= ===============
Total Assets......................... $ 1,438,488 $ 2,468,038 $ 2,579,236 $ 1,229,426 $ 1,042,503
=============== ================== ================== ================= ===============
Liabilities subject to compromise.... $ 1,558,518 $ - $ - $ - $ -
=============== ================== ================== ================= ===============
Long term debt (7)................... $ 145,541 $ 1,518,274 $ 1,545,678 $ 512,435 $ 358,877
=============== ================== ================== ================= ===============
Stockholder's equity (deficit)....... $(1,044,141) $ 33,759 $ 617,053 $ 572,137 $ 569,042
=============== ================== ================== ================= ===============
(1) Results for the year ended December 31, 1999 include a non-cash charge of
$457.4 million related to the Company's estimate of goodwill and other
long-lived asset impairment (see Note 7, IMPAIRMENT OF LONG-LIVED ASSETS
AND ASSETS HELD FOR SALE, in the Company's Consolidated Financial
Statements), a net non-cash charge of $78.7 million due to the prepetition
termination of certain facility lease agreements, the sale of certain other
facilities, and to reduce the carrying amount of certain assets that the
Company had determined are not integral to its core business operations
(see Note 7, IMPAIRMENT OF LONG-LIVED ASSETS AND ASSETS HELD FOR SALE, in
the Company's Consolidated Financial Statements), a $27.4 million charge
for corporate and financial restructuring (see Note 4, RESTRUCTURING COSTS,
in the Company's Consolidated Financial Statements), a $2.5 million loss on
the termination of the interest rate swaps (see Note 9, LONG-TERM DEBT, in
the Company's Consolidated Financial Statements) and a $48.1 million charge
for reorganization items due to the Company's chapter 11 filings (see "Note
2, PETITIONS FOR REORGANIZATION UNDER CHAPTER 11, in the Company's
Consolidated Financial Statements").
24
(2) Results for the year ended December 31, 1998 include a non-cash charge of
$397.5 million related to the Company's estimate of goodwill and other
asset impairment (see Note 7, IMPAIRMENT OF LONG-LIVED ASSETS AND ASSETS
HELD FOR SALE, in the Company's Consolidated Financial Statements), a
non-cash charge of $206.2 million due to the termination of certain
facility lease agreements, the sale of certain other facilities, and to
reduce the carrying amount of certain assets that the Company had
determined are not integral to its core business operations (see Note 7,
IMPAIRMENT OF LONG-LIVED ASSETS AND ASSETS HELD FOR SALE, in the Company's
Consolidated Financial Statements), a $22.5 million charge for legal and
regulatory matters, a $4.6 million charge for restructuring cost in order
to more closely align the Company's inpatient, rehabilitation and
respiratory therapy, and pharmaceutical and medical supplies segments (see
Note 4, RESTRUCTURING COSTS, in the Company's Consolidated Financial
Statements), and an extraordinary loss of $10.3 million, net of income tax
benefit of $3.7 million, to permanently pay-down $300 million of the term
loan portion of the Company's senior credit facility in addition to the
$3.7 million to retire $5.0 million of the Contour Medical, Inc.
("Contour") convertible debentures purchased by the Company.
(3) Results for the year ended December 31, 1997 include a charge of $7.0
million recognized by the Company in order to reduce the carrying value of
the Canadian operations to fair value based on revised estimates of selling
value and of costs to sell. In addition, in 1997, the Company recorded an
extraordinary charge of $19.9 million, net of the related tax benefit, in
connection with the Company's purchase of Regency's 12.25% Junior
Subordinated Notes due 2003 and of Regency Health Services, Inc.'s
("Regency") 9.875% Senior Subordinated Notes due 2002 and an extraordinary
charge of $2.1 million, net of the related tax benefit, related to the
refinancing of the Company's senior credit facility.
(4) Results for the year ended December 31, 1996, include a $24.0 million
charge recognized by the Company to settle certain of the lawsuits brought
by shareholders and, as a reduction of this settlement charge, $9.0
million, which was received from the Company's director and officer
liability insurance carrier in connection with the settlement. In addition,
in 1996, the Company recorded additional expenses of $4.3 million related
to monitoring and responding to the investigation by the OIG and to
responding to the remaining shareholder litigation related to the
announcement of the OIG investigation. The charges do not contain any
estimated amounts for settlement of the OIG investigation or remaining
shareholder matters.
(5) Results for the year ended December 31, 1995 represent pro forma amount to
include pro forma taxes of CareerStaff and Golden Care prior to their
conversions to be taxed as C corporations, which occurred in June 1994 and
May 1995, respectively.
(6) Results for the year ended December 31, 1995 include a charge of $3.3
million in connection with the payment of an inducement fee to affect the
conversion in January 1995 of $39.4 million of the 61/2% Convertible
Subordinated Debentures and an extraordinary charge of $3.4 million, net of
the related income tax benefit, in connection with the tender offer of the
113/4 Senior Subordinated Notes. Also included in the results of operations
for the year ended December 31, 1995 is $5.8 million of transaction-related
merger costs incurred in connection with the merger of the Company with
CareerStaff (a temporary therapy staffing provider) and Golden Care (a
respiratory therapy provider), a $59.0 million impairment loss recorded by
the Company which primarily relates to goodwill associated with six of the
forty facilities acquired in conjunction with the Mediplex acquisition in
1994, $4.0 million related to averting a strike and negotiating new
contracts for certain unionized nursing home employees in Connecticut, and
a charge of $5.5 million related to monitoring and responding to the
investigation by the OIG and legal fees resulting from the shareholder
litigation.
25
(7) Long-term debt as of December 31, 1999 does not include $1,356.9 million of
long-term debt subject to compromise that would be classified as long-term
debt except for the Company's bankruptcy filing and the related application
of the guidance in SOP 90-7.
26
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
OVERVIEW
Sun Healthcare Group, Inc., through its direct and indirect subsidiaries
(collectively referred to as "Sun" or the "Company"), is one of the largest
providers of long-term, subacute and related specialty healthcare services in
the United States and the United Kingdom. The Company also has operations in
Spain, Germany and Australia. The Company operates through four principal
business segments. In October 1999, the Company commenced cases under Chapter 11
of the U.S. Bankruptcy Code and is currently operating its business as a
debtor-in-possession subject to the jurisdiction of the Bankruptcy Court (see
"Recent Developments - Bankruptcy").
INPATIENT SERVICES: This segment provides, among other services, inpatient
skilled nursing and custodial services as well as rehabilitative, restorative
and transitional medical services. The Company provides 24-hour nursing care in
these facilities by registered nurses, licensed practical nurses and certified
nursing aides. At December 31, 1999, the Company operated 354 inpatient
facilities with 39,867 licensed beds compared to 397 facilities with 44,941
licensed beds at December 31, 1998. Included in the 354 facilities as of
December 31, 1999, are 49 facilities with 5,702 licensed beds which the Company
has announced its intention to divest or not renew the facility leases.
Inpatient services facilities decreased by 43 on a net basis from 397 facilities
as of December 31, 1998 to 354 facilities as of December 31, 1999. The net
change is comprised of i) the divestiture of 49 facilities due to lease
termination through mutual agreements with the lessors, lease expirations or
sales, ii) the termination of management agreements on nine facilities,
partially offset by iii) the transfer of four assisted living facilities to the
inpatient services segment from the other operations segment, iv) the execution
of management agreements for six facilities and v) the execution of five lease
agreements. During the year ended December 31, 1998, the Company acquired on a
net basis, 76 facilities with 8,286 licensed beds including 75 facilities
acquired in connection with the RCA acquisition. During 1997, the Company
acquired a net 50 facilities with 5,988 licensed beds in addition to 111
facilities with 11,346 licensed beds acquired in connection with the Regency
acquisition.
REHABILITATION AND RESPIRATORY THERAPY SERVICES: This segment provides,
among other things, physical, occupational, speech and respiratory therapy
services, respiratory therapy supplies, equipment and oxygen to affiliated and
nonaffiliated skilled nursing facilities. As of December 31, 1999, the Company's
rehabilitation and respiratory therapy services segment provided services to
1,531 facilities in 37 states, of which 1,158 were operated by nonaffiliated
parties compared to 1,715 facilities as of December 31, 1998, of which 1,294
were nonaffiliated.
PHARMACEUTICAL AND MEDICAL SUPPLY SERVICES: This segment is comprised of an
institutional pharmaceutical subsidiary and a medical supply subsidiary. The
pharmaceutical subsidiary provides pharmaceutical products primarily to
long-term and subacute care facilities for such purposes as infusion therapy,
pain management, antibiotic therapy and parenteral nutrition as well as
providing consultant pharmacist services. The medical supply subsidiary
primarily provides medical supplies to long-term care and subacute care
facilities. The Company's pharmaceutical subsidiary provided pharmaceutical
products and services to 885 long-term and subacute care facilities, including
550 nonaffiliated facilities, as of December 31, 1999, through its 44 pharmacies
and one pharmaceutical billing and consulting center. At December 31, 1998,
pharmaceutical products and services were provided to approximately 930
facilities including 584 nonaffiliated facilities. The Company's medical supply
subsidiary provided products to over 1,622 and 2,100 affiliated and
nonaffiliated facilities as of December 31, 1999 and 1998, respectively.
27
INTERNATIONAL OPERATIONS: This segment consists of long-term care
facilities in the United Kingdom, Spain and Germany as well as acute care
hospitals in Australia. This segment also provides pharmaceutical services in
the United Kingdom, Germany and Spain and medical supplies in Australia. At
December 31, 1999, the Company operated 145 inpatient facilities with 8,320
licensed beds in the United Kingdom; 11 inpatient facilities with 1,640 licensed
beds in Spain; 17 facilities with 1,217 licensed beds in Germany and five
hospitals with 335 licensed beds in Australia compared to 155 facilities with
8,705 licensed beds in the United Kingdom; ten facilities with 1,604 licensed
beds in Spain; 16 facilities with 1,135 licensed beds in Germany; and five
hospitals with 309 licensed beds in Australia as of December 31, 1998. During
1999 on a net basis, the Company's international operations divested eight
facilities which decreased licensed beds by 241 on a net basis. During 1998, the
Company acquired or opened 18 facilities with 868 licensed beds in the United
Kingdom.
The Company's international operations also included outpatient therapy
services in Canada. The carrying amount of the Canadian assets held for sale was
$11.6 million as of December 31, 1998. The Company completed the sale of the
Canadian clinics during the first quarter of 1999. The Company recorded losses
of approximately $7.0 million, $11.4 million and $2.0 million on the sale of the
Canadian clinics during the years ended December 31, 1997, 1998 and 1999,
respectively. The results of operations of this business were not material to
the Company's consolidated results of operations.
The Company is currently soliciting offers to purchase its international
operations. No assurance can be given that the international operations will be
sold or that, if they are sold, the Company will not experience a material loss
on the sale.
As of May 31, 2000, the Company had divested 18 pharmacies in the United
Kingdom. See "Recent Developments - Divestitures" and "Note 24 - Subsequent
Events in the Company's Consolidated Financial Statements."
OTHER OPERATIONS
The Company's other operations include temporary therapy services, assisted
living services, home health and hospice, software development and other
ancillary services. The Company's temporary therapy service operations provided
approximately 1.1 million temporary therapy staffing hours to nonaffiliates in
1999 compared to 2.4 million hours in 1998. The assisted living subsidiary
operated 22 assisted living facilities with 2,582 beds in the United States as
of December 31, 1999 compared to 31 facilities with 3,380 beds at December 31,
1998. Subsequent to December 31, 1999, the Company entered into agreements to
sell 16 assisted living facilities See "Recent Developments - Divestitures" and
"Note 24 - Subsequent Events in the Company's Consolidated Financial
Statements."
On June 30, 1998, a wholly owned subsidiary of the Company merged with RCA,
an operator of 98 skilled nursing facilities and assisted living centers in
eight states primarily in the southeastern United States. RCA also owned
approximately 65% of the Contour Medical, Inc. ("Contour"), a national provider
of medical/surgical supplies. The Company also acquired the remaining 35% of
Contour on June 30, 1998. Both the RCA merger and the Contour acquisition were
accounted for as purchases.
28
IMPACT OF MEDICARE PPS
Effective July 1, 1998, Medicare began a four year phase-in of a
prospective payment system ("PPS") for Medicare Part A patients which provides
for reimbursement of all costs including ancillary services and capital-related
costs at a fixed fee. A small percentage of the long-term and subacute care
industry transitioned to PPS on July 1, 1998, including the Company's facilities
that were acquired in the RCA acquisition. The vast majority of the industry
transitioned to PPS on January 1, 1999. The Company's average per diem rates
under PPS are less than the amounts received under cost-based reimbursement. The
implementation of PPS at the Company's facilities resulted in a significant
decline in Medicare revenues. In addition, as a result of the industry-wide
reductions in Medicare reimbursement, the Company's nonaffiliated ancillary
service customers have significantly reduced their usage of such services. In
the first quarter of 1999, the Company experienced a significant and rapid
decline in the demand for its ancillary services from its nonaffiliated
customers following the implementation of PPS. This reduced demand continued
throughout 1999.
The following table sets forth certain operating data for the Company as of
December 31.
1999 1998 1997
---- ---- ----
Inpatient Services:
Facilities 354 397 321
Licensed beds 39,867 44,941 36,655
Rehabilitation and Respiratory Therapy Service Operations:
Nonaffiliated facilities served 1,158 1,294 1,278
Affiliated facilities served 373 421 287
---------- ---------- ---------
Total 1,531 1,715 1,565
========== ========== =========
Pharmaceutical and Medical Supply Services:
Nonaffiliated facilities served 1,805 2,099 546
Affiliated facilities served 702 936 255
---------- ---------- ---------
Total 2,507 3,035 801
========== ========== =========
International Operations:
Facilities
United Kingdom 145 155 137
Other foreign 33 31 25
---------- ---------- ---------
Total 178 186 162
========== ========== =========
Licensed beds
United Kingdom 8,320 8,705 7,837
Other foreign 3,192 3,048 2,611
---------- ---------- ---------
Total 11,512 11,753 10,448
========== ========== =========
29
BANKRUPTCY FILING
On October 14, 1999 (the "Filing Date"), Sun Healthcare Group, Inc. and
substantially all of its U.S. operating subsidiaries filed voluntary petitions
for reorganization under Chapter 11 of the U.S. Bankruptcy Code ("Chapter 11").
The Company is presently operating its business as a debtor-in-possession under
Chapter 11 and is subject to the jurisdiction of the U.S. Bankruptcy Court for
the District of Delaware (the "Bankruptcy Court"). The consolidated financial
statements of the Company have been presented in accordance with the American
Institute of Certified Public Accountants Statement of Position 90-7: "Financial
Reporting by Entities in Reorganization under the Bankruptcy Code" ("SOP 90-7")
and have been prepared in accordance with generally accepted accounting
principles applicable to a going concern, which principles, except as otherwise
disclosed, assume that assets will be realized and liabilities will be
discharged in the normal course of business. The chapter 11 filings, the
uncertainty regarding the eventual outcome of the reorganization cases, and the
effect of other unknown, adverse factors could threaten the Company's existence
as a going concern.
Under Chapter 11, certain claims against the Company in existence prior to
the Filing Date are stayed while the Company continues its operations as a
debtor-in-possession. These claims are reflected in the December 31, 1999
balance sheet as "Liabilities subject to compromise." Additional chapter 11
claims have arisen and may continue to arise subsequent to the Filing Date
resulting from the rejection of executory contracts, including leases, and from
the determination by the Bankruptcy Court of allowed claims for contingencies
and other disputed amounts. Claims secured by the Company's assets ("secured
claims") also are stayed, although the holders of such claims have the right to
petition the Bankruptcy Court for relief from the automatic stay to permit such
creditors to foreclose on the property securing their claim.
The Company has determined that, generally, the fair market value of the
collateral is less than the principal amount of its secured prepetition debt
obligations; accordingly, the Company has discontinued accruing interest on
substantially all of these obligations as of the Filing Date. The Company
received approval from the Bankruptcy Court to pay or otherwise honor certain of
its prepetition obligations, including employee wages and benefits.
Since October 14, 1999, the payment of certain prepetition claims
(principally employee wages and benefits and payments to critical vendors and
utilities) that were approved by the Bankruptcy Court have reduced "Liabilities
subject to compromise."
RESULTS OF OPERATIONS
The following table sets forth the amount and percentage of certain
elements of total net revenues for the years ended December 31 (dollars in
thousands):
1999 % 1998 % 1997 %
---- - ---- - ---- -
Inpatient Services................................. $ 1,697,518 67.1 $ 2,045,270 66.2 $1,249,861 62.2
Rehabilitation and Respiratory Therapy Services.... 234,008 9.3 678,803 22.0 466,358 23.2
Pharmaceutical and Medical Supply Services......... 300,959 11.9 254,455 8.2 157,336 7.8
International Operations........................... 296,906 11.7 285,267 9.2 198,155 9.9
Other Operations................................... 222,219 8.8 283,326 9.2 165,906 8.3
Corporate.......................................... - - - - - -
Intersegment Eliminations.......................... (222,571) (8.8) (458,661) (14.8) (226,796) (11.4)
------------- -------- ------------ -------- ------------ -------
Total Net Revenues................................. $ 2,529,039 100% $3,088,460 100% $2,010,820 100%
============= ======== ============ ======== ============ =======
Inpatient facilities revenues for long-term care, subacute care and
assisted living services include revenues billed to patients for therapy and
pharmaceutical services and medical supplies provided by the Company's
affiliated operations. Revenues for rehabilitation and respiratory therapy
services provided to domestic affiliated facilities were approximately $126.9
million, $344.1 million and $180.3 million for the years ended December 31,
1999, 1998 and 1997, respectively. Revenues for pharmaceutical and medical
supply services provided to domestic affiliated facilities were approximately
$80.9 million, $78.9 million and $32.6 million for the years ended December 31,
1999, 1998 and 1997, respectively. Revenues for services provided by other
non-reportable segments to affiliated facilities were approximately $14.1
million, $35.6 million and $13.8 million for the years ended December 31, 1999,
1998 and 1997, respectively.
30
The following table sets forth the amount of net segment earnings (losses)
for the years ended December 31 (in thousands):
1999 1998 1997
---- ---- ----
Inpatient Services............................... $ (245,254) $ (109,722) $ 1,619
Rehabilitation and Respiratory Therapy Services.. (43,820) 159,844 119,014
Pharmaceutical and Medical Supply Services....... (29,633) (9,729) 7,227
International Operations......................... (41,878) (43,906) (26,646)
Other Operations................................. (51,547) (17,769) 3,518
--------------- ------------- --------------
Earnings (losses) before income taxes, corporate
allocation of interest and management fees..... (412,132) (21,282) 104,732
Corporate........................................ (50,216) (37,849) (1,850)
Intersegment eliminations........................ - - -
--------------- ------------- --------------
Net segment earnings (losses).................... $ (462,348) $(59,131) $102,882
=============== ============= ==============
The net segment earnings amounts detailed above do not include the
following items: legal and regulatory matters, net; loss on sale of assets, net;
loss on termination of interest rate swaps; impairment loss; restructuring
costs; reorganization costs, net; income taxes, extraordinary items; and
cumulative effect of a change in accounting principle.
In accordance with SOP 90-7, items of expense or income that are incurred
or realized by the Company because it is in reorganization are classified as
reorganization costs in the Company's Consolidated Statement of Earnings
(Losses). As a result, net segment earnings (losses) do not include interest
earned subsequent to the Filing Date on cash accumulated because the Company is
not paying its prepetition obligations. Interest earned prior to the Filing Date
is included in net segment earnings (losses). Debt discounts and deferred
issuance costs that were written-off after the Filing Date in accordance with
SOP 90-7 are not included in the net segment earnings (losses). The amortization
of debt discounts and deferred issuance costs prior to the Filing Date are
included in net segment earnings (losses). Losses on sales of assets and
professional fees related to the reorganization incurred subsequent to the
Filing Date are excluded from net segment earnings which is consistent with
their treatment prior to the Filing Date.
Corporate expenses include amounts for interest and corporate general and
overhead expenses including those related to managing the Company's
subsidiaries. The Company allocates these to its segments through management
fees and intercompany interest charges. Management fees are assessed based on
segment net revenues. Interest is charged based upon average net asset balances
at rates determined by management.
The following discussions of the "Year Ended December 31, 1999 compared to
the Year Ended December 31, 1998" and the "Year Ended December 31, 1998 compared
to the Year Ended December 31, 1997" is based on the financial information
presented in "Note 21 - Segment Information, in the Company's Consolidated
Financial Statements."
31
YEAR ENDED DECEMBER 31, 1999 COMPARED TO YEAR ENDED DECEMBER 31, 1998
INPATIENT SERVICES
Net revenues, which include revenues generated from therapy and
pharmaceutical services provided at the Inpatient Services facilities, decreased
approximately $347.8 million from $2,045.3 million for the year ended December
31, 1998, to $1,697.5 million for the year ended December 31, 1999, a 17%
decrease. Net revenues were negatively impacted in 1999 and 1998 by certain
changes in accounting estimates for third party settlements (see "Effects from
Changes in Reimbursement" and "Note 3 to the Company's Consolidated Financial
Statements" for information regarding the Company's revenue recognition policy).
In 1999, the Company recorded negative revenue adjustments totaling
approximately $105.0 million. The negative revenue adjustments included reserves
of approximately $83.9 million for certain Medicare cost reimbursements,
primarily requests for exceptions to the Medicare established routine cost
limitations which are not being paid pursuant to an agreement with the federal
government pending confirmation of a plan of reorganization. In addition, the
negative revenue adjustments included approximately $11.3 million for the
projected settlement of the 1998 facility cost reports based on the Company's
filing of the 1998 cost reports with its fiscal intermediary and approximately
$9.8 million of negative revenue adjustments related to the actual or projected
results of certain Medicare and Medicaid cost report audits. Historically, such
reimbursement was formula based and approval ordinarily given upon confirmation
of the calculation by the Company's fiscal intermediary. Revenue was recognized
when a reasonable estimate of the amount receivable was determined. As a result
of the agreement, the Company believes it is unlikely that it will recover these
receivables and accordingly has substantially reserved the amount outstanding.
See Item 1 - "Certain Additional Business Risks - Risks Associated with
Reimbursement Process."
In 1998, the Company recorded negative revenue adjustments totaling
approximately $22.3 million. The negative revenue adjustments included
approximately $11.8 million related to the actual or projected results of
certain Medicare and Medicaid cost report audits, reserves of approximately $8.1
million for certain Medicare cost reimbursements and approximately $1.8 million
for the projected settlement of the 1997 cost reports based on the Company's
filing of the 1997 cost reports with its fiscal intermediaries.
Excluding the effect of the negative revenue adjustments of approximately
$105.0 million and $22.3 million in 1999 and 1998, respectively, and $196.7
million and $119.9 million of net revenues in 1999 and 1998, respectively, from
the facilities acquired in the RCA acquisition on June 30, 1998, net revenues
declined $341.8 million or 17.6 %. This decrease is primarily the result of the
reduced Medicare rates received under PPS in 1999. Excluding the effect of the
RCA acquisition on Medicare revenues, average Medicare rates declined by
approximately 50.7%.
Operating expenses, which include rent expense of $207.0 million and $217.8
million for the years ended December 31, 1999 and 1998, respectively, decreased
10.8% from $1,921.2 million for the year ended December 31, 1998, to $1,713.2
million for the year ended December 31, 1999. After considering $194.3 million
and $126.3 million of operating expenses for 1999 and 1998, respectively related
to the facilities acquired in the RCA acquisition, operating expenses decreased
$276.0 million or 15.4%. The decrease resulted primarily from the restructuring
plan in response to PPS, including reduced ancillary service costs from
affiliated providers. Operating expenses as a percentage of net revenues
excluding the effect of the RCA acquisition and the negative revenue
adjustments, increased from 92.2% for the year ended December 31, 1998, to 94.6%
for the year ended December 31, 1999. The increase in operating expenses as a
percentage of net revenue is primarily due to decreased Medicare revenue as a
result of the implementation of PPS at the Company's facilities without a
corresponding decline in the level of service provided to Medicare patients. It
is expected that revenues and operating margins will continue to be
significantly and adversely affected by the rates under PPS.
32
Corporate general and administrative expenses, which include regional costs
for the supervision of operations, decreased 15.6% from $34.0 million for the
year ended December 31, 1998, to $28.7 million for the year ended December 31,
1999. Excluding the impact of the negative revenue adjustments, corporate
general and administrative expenses were 1.7% of the net revenues for the years
ended December 31, 1998 and 1999.
Provision for losses on accounts receivable increased 203.8% from $15.7
million for the year ended December 31, 1998, to $47.7 million for the year
ended December 31, 1999. Excluding the impact of the negative revenue
adjustments and the effect of the RCA acquisition, as a percentage of net
revenues, provision for losses on accounts receivable increased from 0.8% for
the year ended December 31, 1998, to 2.7% for the year ended December 31, 1999.
The Company increased its provision for losses on accounts receivable in
response to deterioration in the aging of the accounts receivable.
Excluding the impact of the negative revenue adjustment and the effect of
the RCA acquisition, depreciation and amortization decreased 32.6% from $39.3
million for the year ended December 31, 1998, to $29.0 million for the year
ended December 31, 1999. The decrease is primarily the result of the
determination that certain of the Company's long-lived assets were impaired,
which resulted in write-downs of certain fixed and intangible assets in the
fourth quarter of 1998 and the second quarter of 1999.
Net interest expense increased 53.1% from $6.4 million for the year ended
December 31, 1998 to $9.8 million for the year ended December 31, 1999. The
interest expense increase is primarily a result of certain facility specific
debt assumed in the RCA acquisition offset by the interest that was not paid or
accrued following the October 14, 1999 bankruptcy filing. See "Note 2 -
Petitions for Reorganization under Chapter 11 to the Company's Consolidated
Financial Statements."
REHABILITATION AND RESPIRATORY THERAPY SERVICES
Net revenues from rehabilitation and respiratory therapy services decreased
65.5% from $678.8 million for the year ended December 31, 1998 to $234.0 million
for the year ended December 31, 1999. Revenues from services provided to
affiliated facilities decreased from $344.1 million for the year ended December
31, 1998 to $126.9 million for the year ended December 31, 1999, a decrease of
63.1%. Revenues from services provided to nonaffiliated facilities decreased
approximately $227.6 million, or 68.0%, from $334.7 million for the year ended
December 31, 1998 to $107.1 million for the year ended December 31, 1999.
Nonaffiliated facilities served decreased 10.5% from 1,294 in 1998, to 1,158 in
1999. These decreases are a result of the industry's transition to PPS. PPS
resulted in a reduction of therapy provided (volume) and downward pressure on
market rates as contract therapy companies lowered prices in an effort to remain
competitive with other methods of therapy provision. Specifically, many
facilities moved away from the use of contract therapy companies in favor of
"in-house" rehabilitation and respiratory models in an effort to better control
costs under a fixed reimbursement system. This was especially existent within
respiratory therapy as this service was not covered under the ancillary
component of the new PPS rate structure. For rehabilitation services, therapy
hours worked decreased from approximately 10.1 million in 1998 to approximately
3.4 million in 1999, or 66.3%, indicating the volume decline; and revenues per
facility served decreased from approximately $33,300 per month in 1998 to
approximately $17,200 per month in 1999, or 48.3%.
33
Operating expenses decreased 50.1% from $428.9 million for the year ended
December 31, 1998, to $213.9 million for the year ended December 31, 1999.
Included in operating costs are write-downs to net realizable value of $19.0
million for inventory and software related to the Company's continued shut-down
of its therapy equipment manufacturing operation, the operating results of which
are immaterial. The operating expense decrease resulted primarily from the
decline in demand for the Company's therapy services resulting in a reduction in
the number of therapists employed by the Company. See "Other Special and
Non-Recurring Charges - Restructuring Costs." In addition, demand for the
Company's respiratory therapy services business has declined significantly,
since respiratory therapy is no longer reimbursed under PPS, while costs have
not declined proportionately as the Company's respiratory therapy services
develops new operating strategies. Operating expenses, excluding the
write-downs, as a percentage of total segment revenue increased from 63.2% for
the year ended December 31, 1998 to 83.3% for the year ended December 31, 1999.
This increase is attributable to the decline in average revenue per therapy mod
while salaries and wage costs per mod decreased by a smaller percentage.
Provision for losses on accounts receivable increased 15.2% from $29.6
million for the year ended December 31, 1998, to $34.1 million for the year
ended December 31, 1999. As a percentage of net revenues, provision for losses
on accounts receivable increased from 4.4% for the year ended December 31, 1998,
to 14.6% for the year ended December 31, 1999. The increase is a result of
additional reserves recorded due to the impact of PPS, which for certain
nonaffiliated customers has negatively affected their cash flows, adversely
affecting the collectibility of amounts due to the Company.
Depreciation and amortization decreased 25.8% from $9.7 million for the
year ended December 31, 1998 to $7.2 million for the year ended December 31,
1999. The decrease is primarily a result of the determination that certain of
the Company's long-lived assets were impaired, which resulted in write-downs of
certain fixed and intangible assets in the fourth quarter of 1998 and the second
quarter of 1999.
PHARMACEUTICAL AND MEDICAL SUPPLY OPERATIONS
Net revenues from pharmaceutical and medical supply services increased
18.3% from $254.5 million for the year ended December 31, 1998, to $301.0 for
the year ended December 31, 1999. Approximately $64.9 million of this increase
is a result of the Company's acquisition of Contour in connection with the RCA
acquisition in June 1998.
Operating expenses increased 22.6% from $222.1 million for the year ended
December 31, 1998, to $272.2 million for the year ended December 31, 1999. The
increase is primarily related to operating expenses attributable to the
increased revenue of the Company's medical supply operations. Operating expenses
as a percentage of revenue increased from 87.3% for the year ended December 31,
1998 to 90.4% for the year ended December 31, 1999. This increase is primarily a
result of the acquisition of Contour, whose business has higher operating costs
than the Company's pharmacy services operation.
Provision for losses on accounts receivable increased 163.7% from $10.2
million for the year ended December 31, 1998, to $26.9 million for the year
ended December 31, 1999. As a percentage of net revenues, the provision for
losses on accounts receivable increased from 4.0% for the year ended December
31, 1998 to 8.9% for the year ended December 31, 1999. This increase is a result
of the effect PPS has had on nonaffiliated customers' cash flow (as discussed
above under Rehabilitation and Respiratory Therapy Services). In addition, the
Company recorded additional reserves for its Medicare Part B billing operation
related to increased aging of accounts receivable.
34
Depreciation and amortization decreased 35.2% from $10.8 million for the
year ended December 31, 1998 to $7.0 million for the year ended December 31,
1999. As a percentage of net revenues, depreciation and amortization expense
decreased from 4.2% for the year ended December 31, 1998 to 2.3% for the year
ended December 31, 1999, respectively. The decrease is primarily the result of
the determination that certain of the Company's long-lived assets were impaired,
which resulted in write-downs of certain fixed and intangible assets in the
fourth quarter of 1998 and the second quarter of 1999.
INTERNATIONAL OPERATIONS
Revenue from international operations excluding the effect of the
disposition of the Canadian operation increased $26.8 million, or 9.9%, from
approximately $270.1 million for the year ended December 31, 1998 to $296.9
million for the year ended December 31, 1999. Approximately $12.0 million of the
increase is attributable to an increase in available beds and occupancy rates in
the United Kingdom, Spain and Germany during 1999. The Company experienced
general growth in pharmacy and supply distribution sales of approximately $5.0
million and an incremental increase of approximately $9.0 million from the
pharmacy operations it purchased in Australia during the fourth quarter of 1998.
Operating expenses, excluding the effect of the disposition of the Canadian
operations, which include rent expenses of $41.1 million and $31.1 million for
the years ended December 31, 1998 and 1999, respectively, increased
approximately 15.9% from $238.1 million for the year ended December 31, 1998 to
$275.9 million for the year ended December 31, 1999. As a percentage of net
revenues, operating expenses increased from 88.2% in 1998 to 92.9% in 1999. The
increase is primarily attributable to increased temporary staffing costs in the
U.K. due to a nursing shortage and increases in rent expense primarily as a
result of the sales-leaseback of 27 facilities completed in October 1998 and 11
facilities in July 1999.
Depreciation and amortization for international operations, excluding the
effect of the disposition of the Canadian operations, decreased $5.1 million
from $17.9 million for the year ended December 31, 1998, to $12.8 million for
the year ended December 31, 1999. The decrease is primarily the result of the
determination that certain of the Company's long-lived assets were impaired,
which resulted in write-downs of certain fixed and intangible assets in the
fourth quarter of 1998 and the second quarter of 1999.
Net interest expense, excluding the effect of the disposition of the
Canadian operations, decreased 31.3% from $19.2 million for the year ended
December 31, 1998 to $13.2 million for the year ended December 31, 1999. The
decrease is due to the reduction of long-term debt through the proceeds of the
sale-leaseback of 32 facilities completed in October 1998 and 11 facilities in
July 1999. Net interest expense as a percentage of net revenues decreased from
6.8% from the year ended December 31, 1998 to 4.4% for the year ended December
31, 1999.
The Company is currently soliciting offers to purchase its international
operations. No assurance can be given that the international operations will be
sold or that if they are sold, the Company will not experience a material loss
on the sale. See "Note 24 - Subsequent Events, in the Company's Consolidated
Financial Statements."
35
OTHER NON-REPORTABLE SEGMENTS AND CORPORATE GENERAL ADMINISTRATIVE DEPARTMENTS
Non-reportable segments include temporary therapy staffing, home health,
software development and other ancillary services. Revenues from other
non-reportable segments decreased 21.6% from $283.3 million for the year ended
December 31, 1998, to $222.2 million for the year ended December 31, 1999.
Operating expenses decreased 16.0% from $261.3 million for the year ended
December 31, 1998, to $219.6 million for the year ended December 31, 1999.
Operating expenses as a percentage of revenues were 98.8% and 92.2% for the
years ended December 31, 1999 and 1998, respectively. Total revenues and
operating expenses for non-reportable segments represent less than 10% of the
consolidated Company's results. Growth in revenues and operating expenses
related to acquisitions in the Company's home health, assisted living, disease
state management, laboratory and radiology subsidiaries were offset by
significant declines in revenues and operating expenses in the Company's
temporary therapy staffing majority owned subsidiary, which was adversely
affected by the long-term care industry's transition to PPS. Operating results
were also negatively impacted by expenses related to software development costs
incurred by the Company's majority owned subsidiary, Shared Healthcare Systems,
Inc. These costs are being expensed in accordance with Statement of Financial
Accounting Standards No. 86: Accounting for Costs of Computer Software to be
Sold, Leased or Otherwise Marketed. Development of the Company's software
products are not expected to reach the stage under which capitalization is
permitted until sometime in 2001.
Corporate general and administrative costs not directly attributed to
segments decreased 15.6% from $131.8 million for the year ended December 31,
1998, to $116.3 million for the year ended December 31, 1999. As a percentage of
consolidated net revenues of $3,088.5 million and $2,529.0 million for the years
ended December 31, 1998 and 1999, respectively, corporate general and
administrative expenses not directly attributed to segments increased from 4.5%
in 1998 to 4.6% in 1999. Although costs declined, corporate general and
administrative costs as a percentage of consolidated net revenues increased as
the Company was unable to reduce overhead costs as quickly as net revenues
decreased in 1999.
Net interest expense not directly attributed to segments decreased 6.2%
from $105.3 million for the year ended December 31, 1998 to $98.8 million for
the year ended December 31, 1999. As a percentage of consolidated net revenues,
interest expense increased from 3.4% for the year ended December 31, 1998 to
3.9% for the year ended December 31, 1999. The increase was related to (i) an
increase in the Company's weighted average interest rate resulting from the
issuance of $150 million of 9 3/8% Notes in May 1998, (ii) higher interest rates
and borrowing costs under the Company's Senior Credit Facility as a result of
non-compliance under certain financial covenants under the Senior Credit
Facility, and (iii) and increase in borrowings under the Company's Senior Credit
Facility principally related to various acquisitions during 1998. The preceding
was offset by approximately $30.5 million of interest expense that was not paid
or accrued in accordance with SOP 90-7 following the Filing Date.
DIVIDENDS ON CONVERTIBLE PREFERRED STOCK
In May 1998, the Company issued $345 million of 7% Convertible Trust Issued
Preferred Securities ("CTIPS"). The Company paid interest of approximately $12.8
million and $6.0 million in 1998 and 1999, respectively. Beginning with the
interest payment due on May 1, 1999, Sun exercised its right to defer interest
payments. As interest payments are deferred, interest on the CTIPS and the
deferred interest payments continues to accrue. See "Note 14 - Convertible Trust
Issued Securities in the Company's Consolidated Financial Statements."
36
The Company does not expect to make principal or interest payments on the
CTIPS in the future. In 1999, the amount of accrued and deferred interest was
approximately $17.3 million.
OTHER SPECIAL AND NON-RECURRING CHARGES
IMPAIRMENT OF GOODWILL AND OTHER LONG-LIVED ASSETS
The Company periodically evaluates the carrying value of goodwill and any
other related long-lived assets in relation to the future projected cash flows
of the underlying business segment. The long-lived assets are considered to be
impaired when the expected future cash flows of the inpatient facilities or
other business segment divisions do not exceed the carrying balances of the
goodwill or other long-lived assets. The Company recorded a non-cash impairment
charge of $397.4 million in 1998 due primarily to the anticipated decrease in
net revenue caused by the implementation of the Medicare PPS reimbursement
method. In the second quarter of 1999, the Company determined that its future
net revenues would be less than projected in connection with its 1998 impairment
analysis. As a result of the reduction in projected future net revenues, the
Company determined that its investment in certain facilities and operations was
impaired; a $400.0 million charge was recorded in the second quarter of 1999 for
long-lived asset impairment. In the third and fourth quarters of 1999, the
Company became aware that the projected net cash flows from additional
facilities and operations were not sufficient for the Company to recover its
investments in those facilities or operations. A loss of $57.4 million was
recorded in the second half of 1999 due to the impairment of these long-lived
assets. The 1998 charge included approximately $293.1 million related to its
inpatient services facilities segment, $41.0 million related to its
rehabilitation and respiratory therapy services segment, $36.7 million related
to certain inpatient facilities in the United Kingdom, $3.0 million related to
two pharmacies in its pharmaceutical and medical supply services segment and
approximately $23.6 million related to other operations. The 1999 charge
included approximately $295.0 million related to its inpatient services
facilities segment, $60.5 million related to its rehabilitation and respiratory
therapy services segment, $61.3 million related to its international operations
segment, $31.6 million related to its pharmaceutical and medical supply services
segment and approximately $9.0 million related to other operations.
The significant write-down of goodwill and other long-lived assets resulted
from the decline in the level of Medicare reimbursement and the demand for the
Company's rehabilitation and respiratory therapy and pharmaceutical and medical
supply services due to the industry changes mandated by PPS. Additionally,
certain of the United Kingdom facilities have not achieved profitability targets
established upon their acquisition. See "Note 7 - Impairment of Long-Lived
Assets and Assets Held for Sale in the Company's Consolidated Financial
Statements."
LOSS ON SALE OF ASSETS, NET
The Company recorded a non-cash charge of approximately $206.2 million in
1998 and a net non-cash charge of $85.7 million in 1999 due to lease
terminations through mutual agreements with the lessors, expiration of certain
facility lease agreements in the ordinary course of business and the sale of
certain other facilities and operations. See "Note 7 - Impairment of Long-Lived
Assets Held for Sale in the Company's Consolidated Financial Statements."
37
LEGAL AND REGULATORY MATTERS, NET
The Company recorded charges for litigation and investigation costs of
approximately $22.5 million for the year ended December 31, 1998 for
professional fees and settlement costs related to certain legal and regulatory
matters. The charge includes (i) approximately $8.0 million for the settlement
of a shareholder suit related to the Company's acquisition of SunCare in 1995;
(ii) approximately $8.2 million for estimated costs to resolve the investigation
by the Connecticut Department of Social Services; and (iii) approximately $5.5
million provided for certain monetary penalties and general legal costs of its
inpatient services segment.
In 1999, the Company reversed $3.1 million of the reserves recorded in 1998
that were determined to not be needed in 1999. Also in 1999, the Company
recorded a charge of $3.1 million related primarily to costs associated with
certain regulatory matters. See "Note 18 - Other Events in the Company's
Consolidated Financial Statements."
RESTRUCTURING COSTS
In the fourth quarter of 1998, the Company initiated a restructuring plan
focused primarily on reducing the operating expenses of its United States
operations. Related to the 1998 corporate restructuring plan, the Company
recorded a 1998 fourth quarter charge of approximately $4.6 million. The 1998
corporate restructuring plan included the elimination of approximately 7,500
positions, primarily in the Company's rehabilitation and respiratory therapy
operations and also included the closure of approximately 70 divisional and
regional offices. The 1998 corporate restructuring charge consists of
approximately $3.7 million related to employee terminations and approximately
$0.9 million related to lease termination costs. As of December 31, 1998, the
Company had terminated 1,440 employees, and paid approximately $1.4 million and
$0.1 million in termination benefits and lease termination costs, respectively.
As of December 31, 1998, the Company's 1998 corporate restructuring costs
reserve balances relating to employee terminations and lease termination costs
were approximately $2.3 million and $0.8 million, respectively. During 1999 the
Company paid approximately $1.1 million relating to employee terminations. As of
December 31, 1999, approximately $1.2 million of the 1998 corporate
restructuring costs reserve balance of approximately $2.0 million is comprised
of prepetition severance accruals that are classified as liabilities subject to
compromise. In 1999, the Company's 1998 corporate restructuring plan was
substantially complete.
In the first quarter of 1999, the Company initiated a second corporate
restructuring plan focused on further reducing the operating expenses of its
United States operations. Related to the 1999 corporate restructuring plan, the
Company recorded a first quarter charge of approximately $11.4 million. The 1999
corporate restructuring plan included the termination of approximately 3,000
employees, primarily in its rehabilitation and respiratory therapy services
operations. The 1999 restructuring plan also includes the closure of
approximately 23 divisional and regional offices. In addition, the plan included
the relocation of the management of the Company's medical supply subsidiary and
temporary therapy services subsidiary to the Company's corporate headquarters in
Albuquerque, New Mexico. As part of the relocation, the Company terminated 96
employees of these subsidiaries. The 1999 corporate restructuring charge
consisted of approximately $9.1 million related to employee terminations,
approximately $1.4 million related to lease termination costs and $0.9 million
related to asset disposals or write-offs. The amounts paid out during 1999 were
consistent with the charge recorded in 1999. As of December 31, 1999, the
Company's 1999 corporate restructuring plan was complete.
During 1999, the Company recorded financial restructuring costs of $16.0
million, primarily professional fees, related to the Company's activities in
response to the defaults under the Senior Credit Facility, the 9 3/8%
Subordinated Notes and the 9 1/2% Subordinated Notes and in preparation for its
filing for protection under Chapter 11 of the U.S. Bankruptcy Code.
38
REORGANIZATION COSTS, NET
Reorganization costs under chapter 11 are items of expense or income that
are incurred or realized by the Company because it is in reorganization. These
include, but are not limited to, professional fees and similar types of
expenditures incurred directly relating to the chapter 11 proceeding, loss
accruals or realized gains or losses resulting from activities of the
reorganization process, and interest earned on cash accumulated by the Company
because it is not paying its prepetition liabilities. The 1999 reorganization
costs included charges of $37.6 million for the write-off of debt discounts and
deferred issuance costs on indebtedness that is subject to compromise, $7.1
million to reserve for losses on skilled nursing facilities that the Company
decided to divest subsequent to the Filing Date, $4.1 million for professional
fees, and a credit of $0.7 million for interest earned on cash accumulated
because the Company is not paying its prepetition liabilities.
EXTRAORDINARY LOSS
In 1998, the Company recorded an extraordinary loss of $10.3 million, net
of income tax benefit of $3.7 million. Approximately $10.2 million of the gross
loss of $14.0 million relates to the permanent pay-down of $300 million of the
term loan portion of the Company's credit facility. The remaining $3.7 million
of the gross loss relates to the retirement of $5.0 million of Contour
convertible debentures which were purchased by the Company.
CUMULATIVE EFFECT OF CHANGE IN ACCOUNTING PRINCIPLE
In 1998, the American Institute of Certified Public Accountants issued
Statement of Position 98-5, "Reporting on the Costs of Start-up Activities"
("SOP 98-5"). This statement requires costs of start-up activities and
organization costs to be expensed as incurred. The statement is effective for
financial statements for fiscal years beginning after December 15, 1998. In the
first quarter of 1999, the Company adopted the provisions of SOP 98-5 which
resulted in a cumulative effect of a change in accounting principle charge of
$12.8 million.
CONSOLIDATED RESULTS OF OPERATIONS
The net loss for the year ended December 31, 1999 was $1,089.5 million
compared to a net loss of $753.7 million for the year ended December 31, 1998.
The net loss before extraordinary loss and cumulative effect of change in
accounting principle for the year ended December 31, 1999 was $1,076.6 million
compared to $743.4 million for the year ended December 31, 1998. The loss in
1998 and 1999 was due to the negative revenue adjustments for change in
estimates for third party settlements; the increased reserves for self-insured
workers compensation claims, the increased allowance for doubtful accounts and
the implementation of PPS and its resulting adverse impact on the demand for
ancillary services.
Income tax expense for the year ended December 31, 1999, was $0.2 million
compared to $53.6 million for the year ended December 31, 1998. In 1999, the
Company increased the valuation allowance by $311.7 million to fully reserve for
deferred tax assets (including net operating loss carryforwards and impairment
writedowns) which may not be realized. A compromise of debt resulting from an
approved plan of reorganization is likely to result in a significant reduction
in tax loss and tax credit carryforwards. In addition, a change in ownership in
an approved plan of reorganization could materially impact the Company's ability
to utilize any remaining tax loss and tax credit carryforwards. In 1998, the
Company increased the valuation allowance by $115.5 million for deferred tax
assets which may not be realized.
39
Income tax expense for the year ended December 31, 1998 was $53.5 million
compared to $41.2 million for the year ended December 31, 1997. In 1998, the
Company increased its valuation allowance by $115.5 million for deferred tax
assets which may not be realized as a result of the adverse effect of the new
operating environment under PPS. Also, in 1998 the Company established a
valuatin allowance of $12.5 million for U.K. deferred tax assets, which may not
be realizable. In addition, the Company's effective tax rate for 1998 was
unfavorably impacted by the significant loss incurred and the resulting
disproportionate effect of non-deductible items such as goodwill amortization.
Excluding the above increases in valuation allowances, the resulting tax benefit
is 10.8% of the consolidated net loss before income taxes and extraordinary loss
compared to an effective tax rate of 47.1% in 1997.
YEAR ENDED DECEMBER 31, 1998 COMPARED TO YEAR ENDED DECEMBER 31, 1997
INPATIENT SERVICES
Net revenues, which include revenues generated from therapy and
pharmaceutical services provided at the Inpatient Services facilities, increased
approximately $795.4 million from $1,249.9 million for the year ended December
31, 1997, to $2,045.3 million for the year ended December 31, 1998, a 63.6%
increase. Net revenues were negatively impacted in 1998 and 1997 by certain
changes in accounting estimates for third party settlements (See - Note 3 to the
Consolidated Financial Statements for information regarding the Company's
revenue recognition policy). In the fourth quarter of 1998, the Company recorded
negative revenue adjustments totaling approximately $33.3 million primarily for
the projected settlement of 1997 facility cost reports which were not final
settled as of December 31, 1998, and the projected settlement of the 1998 cost
reports based on historical information. The $33.3 million negative revenue
adjustments represent approximately 3.8% of total Medicare revenues. In the
fourth quarter of 1997, the Company recorded negative revenue adjustments
totaling approximately $15 million resulting from changes in accounting
estimates of amounts realizable from third party payors.
Approximately $413.7 million of the net revenue increase is attributed to
111 leased or owned facilities acquired from Regency in October 1997,
approximately $124.9 million of the increase resulted from the acquisition of 75
facilities from RCA in June 1998 and approximately $216.8 million of the
increase resulted from an additional 61 facilities acquired or opened at various
times since December 31, 1996. The remaining net revenue increase of
$40.0 million, after giving effect to a decrease in net revenues of
approximately $15.9 million relating to six facilities sold during 1998 and four
facilities sold during 1997, is primarily attributable to an increase in revenue
per patient day and an increase in occupancy levels since December 31, 1997 on a
same facility basis for the 160, net leased or owned facilities in operation for
all of 1997 and 1998. The increase in revenue per patient day was primarily a
result of payor rate increases and the expansion of the Company's subacute
services.
Operating expenses, which include rent expense of $217.8 million and
$122.9 million for the year ended December 31, 1998 and 1997, respectively,
increased 69.5% from $1,133.6 million for the year ended December 31, 1997, to
$1,921.2 million for the year ended December 31, 1998. The increase resulted
primarily from the net increase of 237 leased or owned facilities acquired at
various times since December 31, 1996. Operating expenses as a percentage of net
revenues increased from 90.7% for the year ended December 31, 1997 to 93.9% for
the year ended December 31, 1998. The increase in operating expenses as a
percentage of revenue is primarily due to decreased Medicare revenue as a result
of the implementation of PPS at the Company's RCA facilities effective July 1,
1998, and the effect of the negative revenue adjustments discussed above for
which there was not a corresponding reduction in operating expenses. In
addition, operating expenses were negatively impacted by state-mandated changes
in Regency workers' compensation self-insurance reserves, primarily related to
preacquisition periods and increases in rent expense for therapy and computer
equipment rentals.
40
Corporate general and administrative expenses, which include regional
costs, related to the supervision of operations, increased 125.2% from $15.1
million for the year ended December 31, 1997 to $34.0 million for the year ended
December 31, 1998. As a percentage of net revenues, corporate general and
administrative expenses increased from 1.2% for the year ended December 31,
1997, to 1.7% for the year ended December 31, 1998. The increase was primarily
due to an increase in costs relating to the expansion of the Inpatient Service
segment's corporate and regional infrastructure to support newly acquired
operations including the acquisition of Regency and RCA.
Provision for losses on accounts receivable increased 214.0% from $5.0
million for the year ended December 31, 1997, to $15.7 million for the year
ended December 31, 1998. As a percentage of net revenues, provision for losses
on accounts receivable increased from 0.4% for the year ended December 31, 1997,
to 0.8% for the year ended December 31, 1998. The change was primarily due to
increased aging of certain accounts receivable.
Depreciation and amortization increased 82.3% from $22.6 million for the
year ended December 31, 1997, to $41.2 million for the year ended December 31,
1998. As a percentage of net revenues, depreciation and amortization expense
increased from 1.8% for the year December 31, 1997, to 2.0% for the year ended
December 31, 1998. The increase is primarily a result of amortization of
goodwill recorded in connection with the acquisitions of Regency in October 1997
and RCA in June 1998.
Net interest expense increased 56.1% from $4.1 million for the year ended
December 31, 1997, to $6.4 million for the year ended December 31, 1998. As a
percentage of net revenues, interest expense remained consistent at 0.3% for the
years ended December 31, 1997 and 1998, respectively. The increase is primarily
a result of facility specific debt assumed in the RCA acquisition.
REHABILITATION AND RESPIRATORY THERAPY SERVICES
Net revenues from rehabilitation and respiratory therapy services increased
45.6% from $466.4 million for the year ended December 31, 1997, to $678.8 for
the year ended December 31, 1998. Revenues from services provided to affiliated
facilities increased from $180.3 million for the year ended December 31, 1997,
to $344.1 million for the year ended December 31, 1998, an increase of 90.8%.
This increase is a result of the net 237 inpatient facilities acquired or opened
at various times since December 31, 1996. Revenues from services provided to
nonaffiliated facilities increased approximately $48.5 million, or 16.9%, from
$286.1 million for the year ended December 31, 1997, to $334.6 million for the
year ended December 31, 1998. Nonaffiliated facilities served increased 1.3%
from 1,278 in 1997, to 1,294 in 1998. In the fourth quarter of 1998, revenues
from nonaffiliated facilities decreased significantly from $93.6 million in 1997
to $63.9 million in 1998, a 31.7% decrease. The decrease is a result of the
industry's transition to PPS and the resulting decline in demand for the
Company's therapy services.
In addition to the decline in demand for the Company's therapy services,
market rates for these services declined significantly in the fourth quarter of
1998 and the first quarter of 1999. This decline is attributed to downward
pricing pressure as a result of an excess supply of therapy service providers
due to the industry's restructuring in response to decreased reimbursement under
PPS.
41
Operating expenses increased 40.0% from $306.2 million for the year ended
December 31, 1997, to $428.8 million for the year ended December 31, 1998. The
increase resulted primarily from the increase in the number of facilities served
from 1,565 to 1,715 for the years ended December 31, 1998 and 1997,
respectively. Operating expenses as a percentage of total segment revenue
decreased from 65.7% for the year ended December 31, 1997, to 63.2% for the year
ended December 31, 1998.
Provision for losses on accounts receivable increased 215.0% from $9.4
million for the year ended December 31, 1997 to $29.6 million for the year ended
December 31, 1998. As a percentage of net revenues, provision for losses on
accounts receivable increased from 2.0% for the year ended December 31, 1997 to
4.4% for the year ended December 31, 1998. Approximately $11.7 million of this
increase was recognized in connection with the financial deterioration of a
major customer in the fourth quarter of 1997. The remaining increase is a result
of additional reserves recorded due to the impact of PPS, which for certain
nonaffiliated customers has negatively affected their cash flows, adversely
affecting the collectibility of amounts due to the Company. Other nonaffiliated
customers, in preparation for the impending transition to PPS have slowed,
reduced or stopped payment for service because of the adverse effect PPS will
have on their cash flow.
Depreciation and amortization increased 131.0% from $4.2 million for the
year ended December 31, 1997 to $9.7 million for the year ended December 31,
1998. As a percentage of net revenues, depreciation and amortization expense
increased from 0.9% for the year December 31, 1997 to 1.4% for the year ended
December 31, 1998. The increase is primarily a result of the expansion of the
Company's respiratory therapy and therapy equipment manufacturing businesses in
1998, as well as amortization of goodwill recorded in connection with the
acquisition of Regency's therapy subsidiary in October 1997.
PHARMACEUTICAL AND MEDICAL SUPPLY OPERATIONS
Net revenues from pharmaceutical and medical supply services increased
61.7% from $157.3 million for the year ended December 31, 1997 to $254.5 for the
year ended December 31, 1998. Approximately $28.5 million of this increase is a
result of the company's medical supply operations acquired in connection with
the RCA and Contour mergers in June 1998. Approximately $51.9 million is a
result of the addition of 10 pharmacies and related affiliated contracts
acquired from Regency. The remaining increase is a result of four pharmacies
opened or acquired in 1998.
Operating expenses increased 65.5% from $134.2 million for the year ended
December 31, 1997 to $222.1 million for the year ended December 31, 1998.
Operating expenses as a percentage of revenue increased from 85.3% for the year
ended December 31, 1997 to 87.3% for the year ended December 31, 1998. This
increase is primarily a result of the acquisition of Contour, which has higher
operating costs than the company's pharmacy services operation. Excluding
Contour, operating expenses as a percentage of revenue remained constant at
approximately 85.2%.
Provision for losses on accounts receivable increased 827.3% from $1.1
million for the year ended December 31, 1997 to $10.2 million for the year ended
December 31, 1998. As a percentage of net revenues, provision for losses on
accounts receivable increased from 0.7% for the year ended December 31, 1997 to
4.0% for the year ended December 31, 1998. This increase is a result of the
effect PPS has had on nonaffiliated customers' cash flow (as discussed above
under Rehabilitation and Respiratory Therapy Services). In addition, the Company
recorded additional reserves for its Medicare Part B billing operations related
to increased aging of accounts receivable.
42
Depreciation and amortization increased 227.3% from $3.3 million for the
year ended December 31, 1997 to $10.8 million for the year ended December 31,
1998. As a percentage of net revenues, depreciation and amortization expense
increased from 2.1% for the year December 31, 1997 to 4.2% for the year ended
December 31, 1998. The increase is primarily a result of the amortization of
goodwill recorded in connection with the acquisition of Regency's pharmacy
operation in October 1997 and the RCA and Contour acquisitions in June 1998.
INTERNATIONAL OPERATIONS
Revenues from international operations increased $87.1 million, or 44.0%,
from approximately $198.2 million for the year ended December 31, 1997 to $285.3
million for the year ended December 31, 1998. Approximately $43.4 million of
this increase is a result of acquisitions in late 1997 and 1998 in Germany and
Australia. An additional $44.5 million of this increase was provided by United
Kingdom inpatient services whose net revenues increased from $168.3 million for
the year ended December 31, 1997 to $212.8 million for the year ended
December 31, 1998. The increase in United Kingdom revenues is due to the
addition of 18 facilities during 1998 as well as an increase in occupancy rates
from 77.6% in 1997 to 80.3% in 1998.
Operating expenses, which include rent expense of $14.7 million and $31.2
million for the years ended December 31, 1997 and 1998, respectively, increased
approximately 53.3% from $163.6 million for the year ended December 31, 1997 to
$250.8 million for the year ended December 31, 1998. As a percentage of
revenues, operating expenses increased from 82.6% in 1997 to 87.9% in 1998. In
addition to increased operating costs associated with acquisitions in new
international markets, operating costs in the United Kingdom were impacted by
increased temporary staffing costs due to a nursing shortage. Increases in rent
expense are primarily a result of expansion into new international markets and
the sale-leaseback of 32 facilities completed in October 1998.
Depreciation and amortization for international operations increased $3.8
million from $15.5 million for the year ended December 31, 1997 to $19.3 million
for the year ended December 31, 1998. Approximately $2.4 million of this
increase is directly attributed to acquisitions in late 1997 and 1998 in Germany
and Australia.
OTHER NON-REPORTABLE SEGMENTS AND CORPORATE GENERAL AND ADMINISTRATIVE
DEPARTMENTS
Non-reportable segments include temporary therapy staffing, home health,
software development and other ancillary services. Revenues from other
non-reportable segments increased 70.6% from $165.9 million for the year ended
December 31, 1997 to $283.1 million for the year ended December 31, 1998.
Operating expenses increased 76.4% from $148.1 million for the year ended
December 31, 1997 to $261.3 million for the year ended December 31, 1998.
Operating expenses as a percentage of revenues were 89.3% and 92.2% for the
years ended December 31, 1997 and 1998, respectively. Total revenues and
operating expenses for non-reportable segments represent less than 10% of the
consolidated Company's results. Growth in revenues and operating expenses
relates primarily to acquisitions in the Company's home health, disease state
management, laboratory and radiology subsidiaries. Operating results were
negatively impacted by expenses related to software development costs incurred
by the Company's subsidiary, Shared Healthcare Systems, Inc. These costs are
being expensed in accordance with Statement of Financial Accounting Standards
No. 86: Accounting for Costs of Computer Software to be Sold, Leased or
Otherwise Marketed. Development of the Company's products are not expected to
reach the stage under which capitalization is permitted until late 1999 or 2000.
In addition, the Company's temporary therapy staffing business' results were
adversely affected by the long-term care industry's transition to PPS.
Nonaffiliated revenues declined 73.8% in the fourth quarter of 1998 as compared
to the same period in 1997.
43
Corporate general and administrative costs not directly attributed to
segments increased 93.8% from $71.1 million for the year ended December 31, 1997
to $137.8 million at December 31, 1998. As a percentage of consolidated net
revenues of $3,088.5 million and $2,010.8 million for the years ended
December 31, 1998 and 1997, respectively, corporate general and administrative
expenses not directly attributed to segments increased from 3.5% to 4.5%. This
increase was primarily due to an increase in costs relating to the expansion of
the Company's corporate infrastructure to support newly acquired domestic
operations including Regency and RCA, as well as implementation of new business
strategies.
Net interest expense not directly attributed to segments increased 95.7%
from $53.8 million for the year ended December 31, 1997 to $105.3 million for
the year ended December 31, 1998. As a percentage of consolidated net revenues,
interest expense increased from 2.7% for the year ended December 31, 1997 to
3.4% for the year ended December 31, 1998. The increase was related to (i) an
increase in the Company's weighted average interest rate resulting from the
issuance of $250 million of 9 1/2% Notes in July 1997 and the Company's issuance
of $150 million of 93/8% Notes in May 1998, (ii) higher interest rates and
borrowing costs under the Company's Senior Credit Facility as compared to the
previous credit facility that was retired in October 1997, (iii) an increase in
borrowings under the Company's Senior Credit Facility principally related to
various acquisitions during 1997 and 1998 and (iv) offset partially by the
Company's hedging strategy (see "Liquidity and Capital Resources").
LIQUIDITY AND CAPITAL RESOURCES
On October 14, 1999, the Company and substantially all of its U.S.
operating subsidiaries filed voluntary petitions for protection under Chapter 11
of the U.S. Bankruptcy Code with the Bankruptcy Court (case nos. 99-3657 through
99-3841, inclusive). On February 3, 2000, an additional indirect subsidiary of
the Company commenced its Chapter 11 case with the Bankruptcy Court (case no.
00-00841). The Company is currently operating its business as a
debtor-in-possession subject to the jurisdiction of the Bankruptcy Court.
On October 14, 1999, the Company entered into a Revolving Credit Agreement
with CIT Group/Business Credit, Inc. and Heller Healthcare Finance, Inc. to
provide the Company with up to $200.0 million in debtor-in-possession financing
(the "DIP Financing Agreement"). The DIP Financing Agreement provides for
maximum borrowings by the Company equal to the sum of (i) up to 85% of the then
outstanding domestic eligible accounts receivable and (ii) the lesser of $10.0
million or 50% of the aggregate value of eligible inventory.
On November 12, 1999, the Bankruptcy Court granted final approval of the
DIP Financing Agreement. As of May 31, 2000, up to approximately $132.0 million
was available to the Company under the DIP Financing Agreement, of which amount
the Company had borrowed approximately $40.1 million and had issued
approximately $19.1 million in letters of credit. In addition to the available
funds under the DIP financing agreement, the Company had cash book balances at
May 31, 2000 of approximately $25.0 million. In July 2000, the Company obtained
waivers on several defaults under the DIP Financing Agreement, subject to
certain conditions. If the Company is unable to comply with the covenants
contained in the DIP Financing Agreement or is unable to obtain a waiver of any
such future covenant violation, then the Company would lose its ability to
borrow under the DIP Financing Agreement for its working capital needs and could
lose access to a substantial portion of its operating cash until such time as
the outstanding debt under the DIP Financing Agreement was repaid. In such
event, the Company's liquidity would be insufficient to fund the Company's
ongoing operations. See "Note 8 - Debtor-in-Possession Financing in the
Company's Consolidated Financial Statements."
44
Under the Bankruptcy Code, actions to collect prepetition indebtedness are
enjoined. In addition, the Company may reject real estate leases, unexpired
lease obligations and other prepetition executory contracts under the Bankruptcy
Code. The Company is analyzing and reviewing its lease portfolio and expects to
terminate certain leases and/or seek rent relief for certain facilities. Parties
affected by these rejections may file claims with the Bankruptcy Court. If the
Company is able to successfully reorganize, substantially all liabilities as of
the petition date would be treated under a plan of reorganization to be voted
upon by all impaired classes of creditors and equity security holders and
approved by the Bankruptcy Court.
On October 26, 1999, the Company announced that it had reached an agreement
in principle with representatives of its bank lenders and holders of
approximately two-thirds of its outstanding senior subordinated bonds on the
terms of an overall restructuring of the Company's capital structure. The
specific terms of the agreement in principle are reflected in a restructuring
term sheet dated October 26, 1999, a copy of which was filed with the Securities
and Exchange Commission as an exhibit to the Company's Form 8-K dated October
14, 1999 and filed October 26, 1999. Implementation of the agreement in
principle is subject to appropriate documentation, including a Chapter 11 plan
of reorganization, and approval by the Bankruptcy Court, among other things. If
approved, the agreement in principle would provide Sun's bank lenders with cash,
new senior long-term debt, new preferred stock and new common stock. Sun's
senior subordinated bondholders would receive new common stock. The agreement in
principle would also provide new long-term debt, new preferred stock and new
common stock to general unsecured creditors, and reinstate a significant portion
of Sun's secured debt. The agreement in principle provides no recoveries for the
holders of Sun's outstanding convertible subordinated debt, convertible trust
issued preferred securities, or common stock. The Company and other parties to
the agreement in principle have initiated discussions to amend the agreement in
principle. No assurance can be given that a plan of reorganization will be
confirmed or that any plan of reorganization that is confirmed will contain the
terms of the agreement in principle.
The accompanying Consolidated Financial Statements have been prepared on a
going concern basis, which contemplates continuity of operations, realization of
assets and liquidation of liabilities in the ordinary course of business.
However, as a result of the chapter 11 filing and circumstances relating to this
event, including the Company's leveraged financial structure and losses from
operations, such realization of assets and liquidation of liabilities is subject
to significant uncertainty. While under the protection of Chapter 11, the
Company may sell or otherwise dispose of assets, and liquidate or settle
liabilities, for amounts other than those reflected in the consolidated
financial statements. Further, a plan of reorganization could materially change
the amounts reported in the Consolidated Financial Statements, which do not give
effect to all adjustments of the carrying value of assets or liabilities that
might be necessary as a consequence of a plan of reorganization. The
appropriateness of using the going concern basis is dependent upon, among other
things, confirmation of a plan of reorganization, future successful operations,
the ability to comply with the terms of the DIP Financing Agreement and the
ability to generate sufficient cash from operations and financing arrangements
to meet obligations.
Due to the failure to make payments and comply with certain financial
covenants and to the commencement of the chapter 11 cases, the Company is in
default on substantially all of its long-term obligations. These obligations are
classified as current liabilities as of December 31, 1998 and as liabilities
subject to compromise as of December 31, 1999 in the Company's Consolidated
Balance Sheets.
45
For the year ended December 31, 1999, net cash provided by operations was
$7.3 million compared to net cash used for operations for the year ended
December 31, 1998 of $45.6 million. The net cash provided by operations for the
year ended December 31, 1999 is primarily the result of the receipt of income
tax refunds of $49.4 million. Excluding the income tax refunds, net cash used by
operations was $42.1 million, which reflects lower cash received from
non-affiliated ancillary customers. The decrease was partially offset by a
slowdown in accounts payable and interest payments.
The Company incurred $102.5 million in capital expenditures during the year
ended December 31, 1999. Expenditures related primarily to the construction of a
corporate office building, the construction of two inpatient facilities in the
United States and two inpatient facilities in the United Kingdom and routine
capital expenditures. The Company had construction commitments as of December
31, 1999, under various contracts of $7.2 million in the United States. These
include contractual commitments to improve existing facilities and to develop,
construct and complete a corporate office building and a long-term care
facility.
In the fourth quarter of 1998, the Company initiated a restructuring plan
focused primarily on reducing the operating expenses of its United States
operations. Related to the 1998 corporate restructuring plan, the Company
recorded a 1998 fourth quarter charge of approximately $4.6 million. The 1998
corporate restructuring plan included the elimination of approximately 7,500
positions, primarily in the Company's rehabilitation and respiratory therapy
operations and also included the closure of approximately 70 divisional and
regional offices. The 1998 corporate restructuring charge consists of
approximately $3.7 million related to employee terminations and approximately
$0.9 million related to lease termination costs. As of December 31, 1998, the
Company had terminated 1,440 employees, and paid approximately $1.4 million and
$0.1 million in termination benefits and lease termination costs, respectively.
As of December 31, 1998, the Company's 1998 corporate restructuring costs
reserve balances relating to employee terminations and lease termination costs
were approximately $2.3 million and $0.8 million, respectively. During 1999 the
Company paid approximately $1.1 million relating to employee terminations. As of
December 31, 1999, approximately $1.2 million of the 1998 corporate
restructuring costs reserve balance of approximately $2.0 million is comprised
of prepetition severance accruals that are classified as liabilities subject to
compromise. In 1999, the Company's 1998 corporate restructuring plan was
substantially complete.
In the first quarter of 1999, the Company initiated a second corporate
restructuring plan focused on further reducing the operating expenses of its
United States operations. Related to the 1999 corporate restructuring plan, the
Company recorded a first quarter charge of approximately $11.4 million. The 1999
corporate restructuring plan included the termination of approximately 3,000
employees, primarily in its rehabilitation and respiratory therapy services
operations. The 1999 restructuring plan also includes the closure of
approximately 23 divisional and regional offices. In addition, the plan included
the relocation of the management of the Company's medical supply subsidiary and
temporary therapy services subsidiary to the Company's corporate headquarters in
Albuquerque, New Mexico. As part of the relocation, the Company terminated 96
employees of these subsidiaries. The 1999 corporate restructuring charge
consisted of approximately $9.1 million related to employee terminations,
approximately $1.4 million related to lease termination costs and $0.9 million
related to asset disposals or write-offs. The amounts paid out during 1999 were
consistent with the charge recorded in 1999. As of December 31, 1999, the
Company's 1999 corporate restructuring plan was complete.
During 1999, the Company recorded financial restructuring costs of $16.0
million, primarily professional fees, related to the Company's activities in
response to the defaults under the Senior Credit Facility, the 9 3/8%
Subordinated Notes and the 9 1/2% Subordinated Notes and in preparation for its
filing for protection under Chapter 11 of the U.S. Bankruptcy Code.
46
The Company's insurance carriers declined to renew the Company's high
deductible general and professional liability insurance policies that expired on
December 31, 1999. Several major insurance companies are no longer providing
this type of coverage to long-term care providers due to general underwriting
issues with the long-term care industry. In January 2000, the Company
established a self-funded insurance program for general and professional
liability claims up to a base amount of $1.0 million per claim, and $3.0 million
aggregate per location, and obtained excess insurance for coverage above these
levels. There can be no assurance that this self-funded insurance program for
2000 will not have a material adverse impact on the Company's financial
condition and results of operations or that the Company will not be required to
continue this program in future years. In the recent past, the Company's
insurance companies have paid substantially more to third parties under these
policies than the Company paid insurance in premiums and deductibles.
The Company also conducts business in the United Kingdom, Spain, Australia
and Germany. International operations accounted for 12.0%, 9.0% and 10.0% of the
Company's total net revenues during the years ended December 31, 1999, 1998 and
1997, respectively, and 19.0% and 17.0% of the Company's consolidated total
assets as of December 31, 1999 and 1998, respectively. The Company's financial
condition and results of operations are subject to foreign exchange risk.
Exceptional planned foreign currency cash flow requirements, such as
acquisitions overseas, are hedged selectively to prevent fluctuations in the
anticipated foreign currency value. Changes in the net worth of the Company's
foreign subsidiaries arising from currency fluctuations are reflected in the
accumulated other comprehensive income component of stockholders' equity.
The Company, through its United Kingdom subsidiary, entered into
sales-leaseback transactions in 1999, 1998 and 1997. During 1999, the Company's
United Kingdom subsidiary sold 11 long-term care facilities for approximately
$38.6 million in cash and leased the 11 facilities back under twelve-year lease
terms. During 1998, the Company's United Kingdom subsidiary sold 7 of its
long-term care facilities and land for approximately $117.9 million in cash.
Five of the long-term care facilities were leased-back under operating leases
with lease terms ranging from 11 to 20 years. During 1997, the Company's United
Kingdom subsdiary sold 27 long-term care facilities for approximately $49.3
million and leased them back under twelve-year terms. Also during 1997, the
Company sold five of its long-term care and subacute care facilities in the
United States for approximately $31.2 million in cash and approximately $5.6
million in assumption of debt. The five facilities were leased-back under
fourteen-year leases.
Subsequent to December 31, 1998, the Company decided to dispose of several
non-core businesses including assisted living facilities, rehabilitation
hospitals, certain other inpatient facilities and other non-core businesses. The
Company recorded a loss of $159.8 million in the fourth quarter of 1998 to
reduce the carrying amount of these businesses identified for disposal to fair
value based on estimates of selling value and costs to sell. The aggregate
carrying amount of assets held for sale is $192.4 million at December 31, 1998.
During 1999, the Company decided not to divest the rehabilitation hospitals,
certain other inpatient facilities and certain other non-core businesses because
the Company believed that the offers it received for these businesses were not
sufficient. In 1999, the Company identified additional inpatient facilities for
disposal. Certain of these facilities were operated under long-term operating
leases which the Company has or intends to terminate based on mutual agreements
with the lessors or will transfer to other parties. The aggregate carrying
amount of the assets held for sale is $70.6 million at December 31, 1999. The
Company recorded a net loss on the sale of assets of $85.8 million for the year
ended December 31, 1999, which is recorded in loss on sale of assets, net and
reorganization costs in the Company's Consolidated Statements of Earnings
(Losses).
47
During the year ended December 31, 1999, Sun divested 49 skilled nursing
facilities, twelve assisted living facilities (four of which the Company managed
through the first quarter of 2000), a parcel of land and its hospice operations
in the United States. The aggregate cash consideration received was
approximately $4.1 million, $4.6 million and $0.2 million for the assisted
living facilities, parcel of land and the hospice operations, respectively. The
Company did not receive any cash consideration from the skilled nursing facility
divestitures. In addition, the Company received parcels of land valued at
approximately $9.2 million and a note receivable of approximately $1.0 million
for the assisted living facility divestitures. The aggregate debt, capital lease
obligations, notes payable and other liabilities assumed by the purchasers and
successors of the skilled nursing facilities and the assisted living facilities
were approximately $10.7 million and $21.0 million, respectively. The aggregate
net loss on the skilled nursing facility divestitures was approximately $3.0
million dollars which was recorded to loss on assets held for sale, net in 1999.
The aggregate net loss on the assisted living divestitures was approximately
$68.4 million of which approximately $24.9 million and approximately $43.5
million was recorded to loss on assets held for sale, net in 1999 and 1998,
respectively. The sale of the parcel of land resulted in a net gain recorded in
1999 of approximately $0.7 million. The net loss on the sale of the hospice
operations was approximately $7.2 million and was recorded to loss on assets
held for sale, net during 1999. See "Note 7 - Impairment of Long-Lived Assets
and Assets Held for Sale in the Company's Consolidated Financial Statements."
In the first quarter of 2000, the Company entered into an agreement to sell
16 assisted living facilities, one of which includes a skilled nursing facility.
The transaction closed during the second and third quarters of 2000. The cash
consideration received from this transaction was approximately $1.0 million. In
addition, the Company received a note receivable of approximately $0.5 million.
The aggregate debt, capital leases and other liabilities assumed by the
purchaser totaled approximately $66.7 million. The estimated aggregate net loss,
which has been reserved for this transaction, was approximately $71.2 million,
of which approximately $17.4 million and $53.8 million was recorded to loss on
assets held for sale, net in 1999 and 1998, respectively. See "Note 24 -
Subsequent Events in the Company's Consolidated Financial Statements
During the period of January 1, 2000 through May 31, 2000, Sun divested a
total of 18 pharmacies in the United Kingdom, resulting in an aggregate gain of
approximately $1.0 million. The aggregate cash consideration received for these
divestitures was approximately $9.7 million. See "Note 24 - Subsequent Events in
the Company's Consolidated Financial Statements."
During the period of January 1, 2000 through June 30, 2000, the Company
divested one skilled nursing facility and closed one skilled nursing facility.
During 1998, certain leases were not renewed. In connection with these
lease terminations, the Company recorded a loss of $25.6 million related
primarily to the carrying amount of building improvements, equipment, and
goodwill related to the facilities.
In May 1998, the Company issued $345.0 million of 7% CTIPS and $150.0
million of 9 3/8% Senior Subordinated Notes due 2008 (yield of 9.425%)
(collectively the "Offerings"). Each convertible preferred security is
convertible into 1.2419 shares of Sun common stock, par value $0.01 per share,
of Sun (equivalent to an initial conversion price of $20.13 per share of Sun
common stock). Of the net proceeds, $300.0 million from the Offerings was used
by the Company to permanently repay certain outstanding borrowings under the
term loan portion of the Senior Credit Facility and the remainder of the net
proceeds from the Offerings was used to reduce certain outstanding borrowings
under the revolving credit portion of the Company's Senior Credit Facility. See
"Note 14 - Convertible Trust Issued Preferred Securities in the Company's
Consolidated Financial Statements."
48
On May 5, 1998, the Company entered into certain interest rate
transactions, with an aggregate notional value of $850.0 million, to minimize
the risks and/or costs associated with certain long-term debt of the Company. On
April 9, 1999, the interest rate swap transactions were terminated due to an
event of default relating to the Company's non-compliance with certain covenants
contained in the Senior Credit Facility. The termination resulted in a pre-tax
loss of $2.5 million in the first quarter of 1999. The Company does not
otherwise utilize financial instruments for trading or other speculative
purposes. The interest rate swap transactions were designated as hedges for
accounting purposes.
On June 30, 1998, a wholly owned subsidiary of the Company merged with RCA,
an operator of skilled nursing facilities and assisted living centers in eight
states principally in the southeastern United States (the "RCA Merger"). In
connection with the RCA Merger, the Company recorded purchase liabilities
including $24.7 million for severance and related costs and $1.4 million for
costs associated with the shutdown of certain administrative facilities. As of
December 31, 1999, the Company's purchase liabilities reserve balance was
approximately $15.5 million.
In May, 1997, the Company announced its intent to sell and divest of its
outpatient rehabilitation clinics in the United States as well as Canada. The
carrying amount of the assets held for sale was $11.6 million and $22.5 million
as of December 31, 1998 and 1997, respectively. The Company completed the sale
of certain of the U.S. rehabilitation clinics and a portion of the Canadian
clinics during 1998. The remaining Canadian clinics were sold during March 1999.
The Company recorded a loss of $2.0 million, $11.4 million and $7.0 million
during 1999, 1998 and 1997, respectively, in order to reduce the carrying value
of the Canadian operations to fair value based on revised estimates of selling
value less costs to sell. The results of operations of these businesses is not
material to the Company's consolidated results of operations.
The common stock of the Company was suspended and then delisted from
trading on the New York Stock Exchange (the "Exchange") on June 29, 1999 and
August 20, 1999, respectively. The delisting was the result of the Company
falling below the Exchange's minimum continued listing criteria relating to the
Company's (i) net tangible assets available to common stock (less than $12
million) and (ii) average net income after taxes for the past three years (less
than $600,000). The Company's common stock has subsequently traded on the
Over-the-Counter Bulletin Board under the symbol "SHGE".
LITIGATION
The Company and substantially all of its U.S. operating subsidiaries filed
voluntary petitions for protection under Chapter 11 of the U.S. Bankruptcy Code
with the Bankruptcy Court (case nos. 99-3657 through 99-3841, inclusive). On
February 3, 2000, an additional indirect subsidiary of the Company commenced its
Chapter 11 case in the Bankruptcy Court (case no. 00-00841). The Company is
currently operating its business as a debtor-in-possession subject to the
jurisdiction of the Bankruptcy Court.
In May 1999, a former employee of SunBridge filed a proposed class action
complaint against SunBridge in the Western District of Washington (the
"SunBridge Action"). The plaintiff sought to represent certain current and
former employees of SunBridge who were allegedly not paid appropriate wages
under federal and state law since May 1996. In August 1999, several former
employees of SunDance filed a proposed class action complaint against SunDance
in the Western District of Washington (the "SunDance Action"). The plaintiffs
sought to represent certain current and former employees of SunDance who were
allegedly not paid appropriate wages under federal and state law since August
1996. The plaintiffs in both of these actions are represented by the same legal
counsel. These lawsuits are currently stayed as a result of the Company's
pending Chapter 11 cases. In June 2000, the plaintiffs in the SunBridge Action
and the SunDance Action filed motions in the Bankruptcy Court seeking to certify
their respective classes they seek to represent and an enlargement of the bar
date for their class members. Plaintiffs filed claims in the pending Chapter 11
cases in the amount of $780 million in the SunDance Action and $242 million in
the SunBridge Action, plus interest, costs and attorney fees. Although the
Company and its subsidiaries intend to vigorously defend themselves in these
matters, there can be no assurance that the outcome of either of these matters
will not have a material adverse effect on the results of operations and
financial condition of the Company.
49
In March 1999 and through April 19, 1999, several stockholders of the
Company filed class action lawsuits against the Company and three officers of
the Company in the United States District Court for the District of New Mexico.
The lawsuits allege, among other things, that the Company did not disclose
material facts concerning the impact that PPS would have on the Company's
results of operations. The lawsuits seek compensatory damages and other relief
for stockholders who purchased the Company's common stock during the
class-action period. As a result of the Company's commencement of its Chapter 11
cases, these lawsuits are stayed with respect to the Company. The Company has
filed a motion with the Bankruptcy Court requesting an extension of the stay to
the individual defendants. Although the Company intends to vigorously defend
itself and its officers in this matter, there can be no assurance that the
outcome of this matter will not have a material adverse effect on the results of
operations and financial condition of the Company.
In January 1999, the state of Florida filed criminal charges in the Circuit
Court of the Eighth Judicial Circuit for Alachua County, Florida against three
subsidiaries which were acquired by the Company on June 30, 1998: RCA, Capitol
Care Management Co., Inc. and Gainesville Health Care Center, Inc. All of the
allegations of wrongdoing related to activities prior to June 30, 1998.
Florida's allegations included violations of certain RICO laws, abuse or neglect
of elderly or disabled persons, grand theft and Medicaid fraud at a nursing home
facility in Florida. Also named as defendants were five individuals who were
involved in the operation of the facility in their capacities as officers,
directors or employees of the defendant entities. In December 1999, the state of
Florida agreed to settle the action for an amount not considered by the Company
to be material to its operations. In January 2000, the state dismissed all
charges against the three subsidiaries and five individuals. The settlement
agreement was approved by the Bankruptcy Court on May 11, 2000.
The Company and certain of its subsidiaries are defendants in two QUI TAM
lawsuits brought by private citizens in the United States District Court for the
Eastern District of California alleging violations of the Federal False Claims
Act. The plaintiffs allege that skilled nursing facilities operated by the
subsidiaries and others conspired over the last decade to (i) falsely certify
compliance with regulatory requirements in order to participate in the Medicare
and Medicaid programs, and (ii) falsify records to conceal failures to provide
services in accordance with such regulatory requirements. Although the Company
and its subsidiaries intend to vigorously defend themselves in these matters,
there can be no assurance that the outcome of any one of these matters will not
have a material adverse effect on the results of operations and financial
condition of the Company. These lawsuits are currently stayed as a result of the
Company's filing for chapter 11 bankruptcy protection.
The Company and certain of its subsidiaries are defendants in a QUI TAM
lawsuit brought by a private citizen in the United States District Court of the
Central District of California alleging violations of the Federal False Claims
Act and a related wrongful termination. The plaintiff alleges that a home health
agency operated by one of the Company's subsidiaries submitted bills for several
years that were improper for various reasons, including bills for patients whose
treatment had not been authorized by their physicians. The government intervened
to the extent that the lawsuit alleges billing without obtaining proper and
timely physician authorization, but declined to intervene in the remainder of
the lawsuit. Although the Company and its subsidiaries intend to vigorously
defend themselves in this matter, there can be no assurance that the outcome of
this matter will not have a material adverse effect on the results of operations
and financial condition of the Company. This lawsuit is currently stayed as a
result of the Company's filing for chapter 11 bankruptcy protection.
50
In addition, the Department of Health & Human Services (the "HHS") and the
Department of Justice (the "DOJ") periodically investigate matters that have
come to their attention concerning the Company, including cost reporting
matters. To expedite resolution of any outstanding investigations, the Company
has requested that the HHS and the DOJ inform it of any such investigations or
outstanding concerns. In response, the DOJ informed the Company of the existence
of a number of outstanding inquiries, some of which were prompted by the filing
of qui tam lawsuits that remain under seal and which are not described above.
The DOJ has recently advised the Company of the nature of several of the
allegations under investigation regarding the Company's subsidiaries, including
allegations that the Company's subsidiaries were inappropriately reimbursed for
(i) certain management fees related to the provision of therapy services,
(ii) nursing services provided by skilled nursing facilities for which there was
inadequate documentation and (iii) respiratory therapy services.
The DOJ and the Company are having ongoing discussions regarding a possible
global settlement of these investigations. The Company believes that any such
settlement would include a monetary payment to the government and a requirement
that the Company enter into a corporate integrity agreement with the HHS' Office
of Inspector General requiring the Company to implement further internal
controls with respect to its quality of care standards and its Medicare and
Medicaid billing, reporting and claims submission processes. Although the
Company and its subsidiaries intend to vigorously defend themselves in these
matters, the Company is unable to determine at this time when the investigations
will be concluded, how large a monetary payment, if any, the parties would agree
on, the nature of any other remedies that may be sought by the government,
whether or when a settlement will in fact occur or whether any such settlement
or any other outcome of the investigations will have a material adverse effect
on the Company's financial condition or results of operations.
In 1997, the Company was notified by a law firm representing several
national insurance companies that these companies believed that the Company had
engaged in improper billing and other practices in connection with the Company's
delivery of therapy and related services. In response, the Company began
discussions directly with these insurers, hoping to resolve these matters
without litigation; however, the Company is unable at this time to predict
whether it will be able to do so, what the eventual outcome may be or the extent
of its liability, if any, to these insurers.
The Company is a party to various other legal actions and administrative
proceedings and is subject to various claims arising in the ordinary course of
its business, including claims that its services have resulted in injury or
death to the residents of its facilities. The Company has experienced an
increasing trend in the number and severity of litigation claims asserted
against the Company. The Company believes that this trend is endemic to the
long-term care industry and is a result of the increasing number of large
judgments, including large punitive damage awards, against long-term care
providers in recent years resulting in an increased awareness by plaintiff's
lawyers of potentially large recoveries. In certain states in which the Company
has significant operations, including California, insurance coverage for the
risk of punitive damages arising from general and professional liability
litigation is not available due to state law public policy prohibitions. There
can be no assurance that the Company will not be liable for punitive damages
awarded in litigation arising in states for which punitive damage insurance
coverage is not available. The Company also believes that there has been, and
will continue to be, an increase in governmental investigations of long-term
care providers, particularly in the area of Medicare/Medicaid false claims as
well as an increase in enforcement actions resulting from these investigations.
Adverse determinations in legal proceedings or governmental investigations,
whether currently asserted or arising in the future, could have a material
adverse effect on the Company.
51
YEAR 2000 UPDATE
The Company did not experience any significant problems in its operating or
business systems as a result of the year 2000 date change. Based on operations
since January 1, 2000, the Company does not expect any significant impact to its
ongoing operations as a result of the Year 2000 issues related to its computer
systems. The Company estimates that its aggregate costs directly related to Year
2000 compliance efforts were approximately $6.2 million. Of these costs, the
Company estimates that approximately $3.1 million were spent to repair systems
and equipment and $3.1 million were spent to replace systems and equipment.
EFFECTS OF INFLATION
Healthcare costs have been rising and are expected to continue to rise at a
rate higher than that anticipated for consumer goods as a whole. The Company's
operations could be adversely affected if it experiences significant delays in
receiving reimbursement rate increases from Medicaid and Medicare sources for
its labor and other costs.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
Not applicable.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Information with respect to Item 8 is contained in the Company's
Consolidated Financial Statements and financial statement schedules and are set
forth herein beginning on Page F-1.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
52
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The directors and executive officers of Sun as of July 13, 2000 were:
Name Position with Sun
- ---- -----------------
Mark G. Wimer Acting Chief Executive Officer, President, Chief
Operating Officer and Director
Andrew L. Turner Chairman of the Board of Directors and Chief Executive
Officer
Robert D. Woltil Chief Financial Officer and Director
Robert F. Murphy General Counsel and Secretary
Warren C. Schelling President and Chief Operating Officer-Sun Healthcare
Group International Corporation
Matthew G. Patrick Vice President and Treasurer
Jack V. Tindal Chief Administrative Officer
Andrew P. Masetti Vice President-Finance
William R. Anixter Director
John E. Bingaman Director
Martin G. Mand Director
Lois E. Silverman Director
James R. Tolbert, III Acting Chairman of the Board
R. James Woolsey Director
Set forth below are the names of the executive officers and directors of
Sun and their ages as of July 13, 2000. The Board of Directors is divided into
three classes elected for staggered terms. Each director holds office until the
next annual meeting of stockholders at which the class of directors of which he
or she is a member is elected or until his or her successor has been elected.
The terms of Mr. Wimer and Ms. Silverman expired in 1999, however, no annual
meeting of stockholders was held in 1999, and therefore they will continue to
hold office until the next annual meeting of stockholders is held or until his
or her successor has been elected. The terms of Messrs. Turner, Anixter and
Woltil expire in 2000 and the terms of Messrs. Bingaman, Mand, Tolbert and
Woolsey expire in 2001. The executive officers of Sun are chosen annually to
serve until the first meeting of the Board of Directors following the next
annual meeting of stockholders and until their successors are elected and have
qualified, or until death, resignation or removal, whichever is sooner.
On October 14, 1999, Sun filed in the United States Bankruptcy Court for
the District of Delaware a voluntary petition for relief under Chapter 11 of
Title 11, United States Bankruptcy Code. The executive officers and directors
set forth below, with the exception of Jack V. Tindal, all occupied their
positions with the Company on the date of such bankruptcy filing.
Mark G. Wimer, age 47, has been a director of the Company since 1993 and
the President and Chief Operating Officer of the Company since September 1997.
In July 2000, Mr. Wimer was appointed Acting Chief Executive Officer of the
Company. See Item 1 - "Business - Recent Developments - Appointment of Acting
Chairman of the Board and Acting Chief Executive Officer." Mr. Wimer had
previously served as Senior Vice President for Inpatient Services from 1996
until September 1997, and as the President of SunRise Healthcare Corporation
("SunRise"), the Company's subsidiary responsible for operations of the
Company's long-term care facilities, from 1993 until 1995. From 1988 to 1993,
Mr. Wimer was President and Chief Operating Officer of Franciscan Eldercare
Corporation, a non-profit organization that develops and manages long-term care
facilities. From 1984 through 1988, Mr. Wimer was Regional Vice President of
Operations for Hillhaven and had responsibility for management of long-term care
facilities for Hillhaven in Washington, Oregon, Idaho and Montana.
53
Andrew L. Turner, age 53, has been the Chairman of the Board of Directors
and Chief Executive Officer of the Company since its formation and served as
President of the Company from the Company's formation until September 1997. Mr.
Turner is also the founder of the Company and has overseen the development of
the Company's business since its inception in 1989. In July 2000, Mr. Turner
began a leave of absence as the Company's Chairman of the Board and Chief
Executive Officer. See Item 1 - "Business - Recent Developments - Appointment of
Acting Chairman of the Board and Acting Chief Executive Officer." Mr. Turner was
also a founder and previously served as Chief Operating Officer of Horizon
Healthcare Corporation, a healthcare services provider, from 1986 to 1989. Prior
to 1986, Mr. Turner served as a Senior Vice President of Operations of The
Hillhaven Corporation ("Hillhaven"). Mr. Turner has over 25 years of experience
in the long-term care industry. Mr. Turner is also a member of the Board of
Directors of Watson Pharmaceuticals, Inc., a pharmaceutical products company,
and of The Sports Club Company, Inc., an operator of sports and fitness clubs.
Robert D. Woltil, age 45, has been a director of the Company since 1996 and
the Chief Financial Officer of the Company since 1996. From 1982 to 1996,
Mr. Woltil served in various capacities for Beverly Enterprises, Inc.
("Beverly"), a healthcare services provider. From 1995 until 1996, Mr. Woltil
was President and Chief Executive Officer of Pharmacy Corporation of America, a
subsidiary of Beverly. From 1992 to 1995, he was the Chief Financial Officer of
Beverly, and from 1990 to 1992, Mr. Woltil was the Vice President-Financial
Planning and Control for Beverly. Mr. Woltil is also a certified public
accountant.
Robert F. Murphy, age 47, has been General Counsel of the Company since
1995 and Secretary of the Company since 1996. From 1986 to 1995 Mr. Murphy
served in several capacities as an officer and legal counsel to FHP
International Corporation, and his last position with them was as Vice President
and Associate General Counsel. Prior to 1986, Mr. Murphy was in private practice
for several years.
Warren C. Schelling, age 47, has been President and Chief Operating Officer
of Sun Healthcare Group International since February 1999. Previously, Mr.
Schelling was the Senior Vice President for Pharmaceuticals of the Company from
1996 to February 1999, a director of the Company from 1996 to 1998 and President
of SunScript from 1994 to 1996. Prior to joining the Company, Mr. Schelling was
the President and Chief Operating Officer of HPI Health Care Services, Inc., a
subsidiary of Diagnostek, Inc., which provides pharmacy management services to
hospitals, HMOs, long-term care facilities and health systems, from 1993 to July
1994. From January 1994 to July 1994, Mr. Schelling also served as the Executive
Vice President/Pharmacy Services Officer at Diagnostek, Inc. From 1985 to 1993,
Mr. Schelling was a manager in HPI Health Care Services, Inc.
Matthew G. Patrick, age 40, has been Vice President and Treasurer of the
Company since 1998. From 1993 to 1998, Mr. Patrick was Vice President of the
Dallas Agency of The Sanwa Bank, Ltd. From 1992 to 1993, Mr. Patrick served as
financial consultant for Merrill, Lynch, Pierce, Fenner and Smith, Inc.'s
Private Client Group in Dallas and from 1985 to 1990 he held various financial
positions in the International Division of National Westminster Bank, PLC.
Jack V. Tindal, age 45, has been Chief Administrative Officer of the
Company since January, 2000. From 1997 to January 2000 he was Senior Vice
President of Human Resources for the Company's Inpatient Services. From 1995 to
1997 he was Vice President of Human Resources for SunDance Rehabilitation
Corporation, the subsidiary responsible for the Company's rehabilitative
services.
54
Andrew P. Masetti, age 42, has been Vice-President-Finance of the Company
since October 1997. From June 1997 to October 1997, Mr. Masetti was Vice
President and Controller of Rehab Services of Sun. Prior to joining Sun,
Mr. Masetti was Divisional Chief Financial Officer of Harte- Hanks from 1996 to
1997, Chief Financial Officer of Vista Healthcare from 1995 to 1996, Chief
Financial Officer of Diagnostek from 1994 to 1995 and he held various financial
management positions with Martin Marietta/General Electric from 1979 to 1994.
William R. Anixter, age 76, became a director of the Company in April 1998.
Mr. Anixter has been the President of Chama Resources, Inc., a privately held
real estate management company, since 1990. He was co-founder and vice chairman
of Anixter Bros., Inc., a publicly owned international distributor of wire,
cable, fiber optics and related networking products, which was sold to an
investor group in 1986. Mr. Anixter also serves on the boards of Anicom, Inc., a
publicly owned distributor of communications-related equipment, the United World
College and the Boys Club of Albuquerque.
John E. Bingaman, age 54, became a director of the Company in 1993.
Mr. Bingaman also served as a consultant to the Company from 1994 to 1996. Since
1993, Mr. Bingaman has been Vice President of BKS Properties. From 1991 to 1993,
Mr. Bingaman was the President of Four Seasons Healthcare Management, Inc.,
which was the Company's subsidiary that managed certain long-term care
facilities through management contracts. Between 1984 and July 1993,
Mr. Bingaman was Chief Executive Officer of Honorcare Corporation ("Honorcare"),
a provider of long-term care services, responsible for the overall management
and strategic planning of Honorcare. Mr. Bingaman has over 25 years of
experience in the long-term care industry.
Martin G. Mand, age 63, became a director of the Company in 1996. Since
1995, Mr. Mand has been Chairman, President and Chief Executive Officer of Mand
Associates, Limited, a financial consulting, speaking and writing firm. Mr. Mand
was previously Executive Vice President and Chief Financial Officer of Northern
Telecom, Ltd., a global manufacturer of telecommunications equipment, from 1990
to 1994. Mr. Mand also previously served as Vice President and Treasurer of E.I.
du Pont de Nemours & Co., a chemical, allied products and energy company.
Mr. Mand also serves on the Board of Directors of the Fuji Bank and Trust
Company and Imagyn Medical Technologies, Inc. and Townsends, Inc.
Lois E. Silverman, age 59, became a director of the Company in 1995.
Ms. Silverman was a co-founder, served as the Chairman of the Board of CRA
Managed Care, Inc. from 1994 to September 1997 and as its Chief Executive
Officer from 1988 to 1995. Ms. Silverman is the President of the Commonwealth
Institute, a nonprofit organization she established in 1997 for the advancement
of women entrepreneurs. Ms. Silverman is also a Trustee at Beth Israel Deaconess
Medical Center, an overseer of Tufts University Medical School, a Trustee at
Simmous College and Brandeis University, and a Director of Immunetics.
James R. Tolbert, III, age 65, became a director of the Company in 1995 and
was appointed Lead Independent Director of the Board of Directors in 1998. In
July 2000, Mr. Tolbert was appointed Acting Chairman of the Board of Directors
of the Company. See Item 1 - "Business - Recent Developments - Appointment of
Acting Chairman of the Board and Acting Chief Executive Officer." Mr. Tolbert
has served as the Chairman, President, Chief Executive Officer and Treasurer of
First Oklahoma Corporation, a holding company, since 1986. Mr. Tolbert has over
15 years of experience in the nursing home industry. In addition, Mr. Tolbert is
a member of the Board of Directors of Bonray Drilling Corporation, a corporation
engaged in domestic onshore contract drilling of oil and gas wells.
55
R. James Woolsey, age 58, became a director of the Company in 1995.
Mr. Woolsey has been a partner in the law firm of Shea & Gardner since 1995,
where he previously had been a partner from 1980 to 1989 and from 1991 to 1993.
From 1993 to 1995, Mr. Woolsey served as the Director of Central Intelligence
for the U.S. government. From 1989 to 1991, Mr. Woolsey was the Ambassador and
U.S. Representative to the Negotiation on Conventional Armed Forces in Europe.
56
SECTION 16(A) BENEFICIAL OWNERSHIP REPORTING COMPLIANCE
Section 16(a) of the Exchange Act and the rules promulgated thereunder
require the Company's directors and executive officers and persons who own more
than ten percent of the Company's Common Stock to report their ownership and
changes in their ownership of Common Stock to the Securities and Exchange
Commission (the "Commission") and the New York Stock Exchange. Copies of the
reports must also be furnished to the Company. Specific due dates for the
reports have been established by the Commission and the Company is required to
report in this Proxy Statement any failure of its directors, executive officers
and more than ten percent stockholders to file by these dates.
Based solely on a review of the copies of such forms received by it, or
written representations from certain reporting persons, the Company believes
that during 1999 all Section 16(a) filing requirements applicable to its
directors, executive officers and greater than ten percent beneficial owners
were met with the exception of Kenneth C. Noonan (a former executive officer of
the Company) and Andrew L. Turner, each of whom reported transactions reportable
on Form 4 one month late due to oversights.
57
ITEM 11. EXECUTIVE COMPENSATION
SUMMARY COMPENSATION TABLE
The following table provides information concerning the annual and
long-term compensation for services as employees of the Company and its
subsidiaries for the fiscal years shown of those persons ("Named Executive
Officers") who were, during the year ended December 31, 1999, (i) the chief
executive officer and (ii) the other four most highly compensated executive
officers of the Company:
LONG-TERM COMPENSATION AWARDS
-----------------------------
SECURITIES
NAME AND ANNUAL COMPENSATION RESTRICTED STOCK UNDERLYING ALL OTHER
PRINCIPAL POSITION YEAR SALARY($) BONUS($) AWARDS($)(1) OPTIONS(#) COMPENSATION($)
------------------ ---- --------- -------- ------------ ---------- ---------------
Andrew L. Turner 1999 $ 700,024 $ - $ - 38,000(2) $ 6,998(3)
Chief Executive 1998 659,634 - - 50,000 26,873
Officer 1997 537,312 550,000 5,490,625 - 5,771
Mark G. Wimer 1999 450,008 - - 16,960(2) 3,313(4)
President and Chief 1998 443,274 - - 25,000 9,424
Operating Officer 1997 367,387 255,000 2,712,500 - 1,503
Robert D. Woltil 1999 425,022 - - 14,000(2) 1,810(5)
Chief Financial 1998 418,288 - - 25,000 10,069
Officer 1997 374,428 240,000 1,443,750 - 870
Warren C. Schelling 1999 320,008 - - 13,600(2) 1,587(6)
President of Sun 1998 277,892 - - 30,000 4,848
Healthcare Group 1997 247,385 90,000 1,268,750 - 4,662
International
Corporation
Robert F. Murphy 1999 285,012 - - 11,200(2) 2,458(7)
General Counsel and 1998 280,973 - - 30,000 5,872
Secretary 1997 267,469 108,000 1,290,625 - 685
______________________
(1) All unvested shares of restricted stock awarded in 1997 were cancelled and
rescinded effective January 2000. The 1997 restricted stock awards were
valued at the Company's closing stock price ($21.875) on the date of grant
(January 20, 1997).
(2) Represents options issued by the Company in exchange for the cancellation
of previously granted stock options in May 1999.
(3) Consists of $1,200 of matching contributions under the Company's 401(k)
Plan and the value of $5,798 of life insurance premiums paid on his behalf
by the Company.
(4) Consists of $1,040 of matching contributions under the Company's 401(k)
Plan and the value of $2,273 of life insurance premiums paid on his behalf
by the Company.
58
(5) Consists of $1,200 of matching contributions under the Company's 401(k)
Plan and the value of $610 of life insurance premiums paid on his behalf by
the Company.
(6) Consists of the value of life insurance premiums paid on his behalf by the
Company.
(7) Consists of $1,056 of matching contributions under the Company's 401(k)
Plan and the value of $1,402 of life insurance premiums paid on his behalf
by the Company.
OPTION GRANTS IN LAST FISCAL YEAR
The following table sets forth certain information concerning individual
grants of stock options made to each of the Named Executive Officers during the
year ended December 31, 1999:
INDIVIDUAL GRANTS
-----------------------------------------------------------
POTENTIAL
% OF TOTAL REALIZABLE VALUE
OPTIONS AT ASSUMED ANNUAL
NUMBER OF GRANTED TO RATES OF STOCK PRICE
SECURITIES EMPLOYEES IN EXERCISE OR APPRECIATION FOR
UNDERLYING FISCAL BASE PRICE EXPIRATION OPTION TERM (3)
NAME OPTIONS (1) YEAR (%) ($/SH) (2) DATE 5% 10%
---- ----------- -------- ---------- ---- -- ---
Andrew L. Turner 38,000 5.0% $1.0625 05/19/09 $22,260 $54,827
Mark G. Wimer 16,960 2.2 1.0625 05/19/09 9,935 24,470
Robert D. Woltil 14,000 1.8 1.0625 05/19/09 8,201 20,199
Warren C. Schelling 13,600 1.8 1.0625 05/19/09 7,967 19,622
Robert F. Murphy 11,200 1.4 1.0625 05/19/09 6,560 16,160
__________________________
(1) All options were granted under the Company's 1997 Incentive Stock Plan. The
amounts shown represent options issued on May 19, 1999 in exchange for the
cancellation of previously granted stock options.
(2) All options were granted at an exercise price equal to the fair market
value of Common Stock on the option grant date. The closing price of the
Company's stock on May 19, 1999 was $1.0625 per share. All options will
vest and become exercisable at a rate of one-third each year beginning on
the first anniversary of the date of grant. All options become fully
exercisable on the occurrence of a change in control as described in the
plan pursuant to which each option was granted.
(3) Pursuant to an agreement in principle entered into between the Company and
representatives of its bank lenders and holders of a majority of its senior
subordinated bonds, the Company's plan of reorganization would provide that
holders of outstanding equity securities, including common stock and
options to acquire common stock, would not receive anything in recovery. No
assurances can be given that the plan of reorganization that is confirmed,
if any, will include the terms of the agreement in principle. See Item 1 -
"Certain Additional Business Risks - Effect of Bankruptcy Reorganization on
Common Stock and Debt Securities."
59
FISCAL YEAR-END OPTION VALUES
Set forth in the table below is information concerning the value of stock
options held as of December 31, 1999 by each of the Named Executive Officers.
None of the Named Executive Officers exercised any stock options during the year
ended December 31, 1999.
NUMBER OF SECURITIES VALUE OF UNEXERCISED
UNDERLYING UNEXERCISED IN-THE-MONEY OPTIONS
OPTIONS-AT-YEAR-END (#)(1) AT-YEAR-END ($)(2)
-------------------------- ------------------
NAME EXERCISABLE UNEXERCISABLE EXERCISABLE UNEXERCISABLE
- ---- ----------- ------------- ----------- -------------
Andrew L. Turner -0- 38,000 $ -0- $ -0-
Mark G. Wimer -0- 16,960 -0- -0-
Robert D. Woltil -0- 14,000 -0- -0-
Warren C. Schelling -0- 13,600 -0- -0-
Robert F. Murphy -0- 11,200 -0- -0-
___________
(1) Pursuant to an agreement in principle entered into between the Company and
representatives of its bank lenders and holders of a majority of its senior
subordinated bonds, the Company's plan of reorganization would provide that
holders of outstanding equity securities, including common stock and
options to acquire common stock, would not receive anything in recovery. No
assurances can be given that the plan of reorganization that is confirmed,
if any, will include the terms of the agreement in principle. See Item 1 -
"Certain Additional Business Risks - Effect of Bankruptcy Reorganization on
Common Stock and Debt Securities."
(2) Based on the last reported sales price of the Common Stock, as reported on
the Over-The-Counter Bulletin Board, at December 31, 1999, which was $.042
per share.
COMPENSATION OF DIRECTORS
Non-employee directors of the Company are entitled to receive an annual fee
of $24,000, which is payable in four equal quarterly installments. In addition,
each Chairperson of a committee of the Board of Directors is entitled to receive
an additional annual fee of $4,000, payable in four equal quarterly
installments. The Lead Independent Director of the Board of Directors is
entitled to an additional annual fee of $42,000, which is payable in four equal
quarterly installments. Prior to December 1999, non-employee directors and
Committee Chairpersons had the election of receiving (i) the entire annual
retainer and Committee Chairpersons fees, if applicable, in cash, or
(ii) one-half of the retainer and Committee Chairperson fees, if applicable, in
cash and the remaining one-half in the form of restricted common stock awards
pursuant to the 1997 Non-Employee Directors' Stock Plan. If restricted stock was
elected, for every dollar of cash given up, the recipient would receive
restricted stock worth $1.10. In December 1999, the Board of Directors
terminated the 1997 Non-Employee Directors Stock Plan.
Non-employee directors are also entitled to receive fees of $1,750 for each
Board of Directors meeting attended in person. Directors are entitled to an
additional $500 for each subsequent meeting attended that same day. The fees for
any meetings that are attended by telephone are $500. Non-employee directors are
also reimbursed for out-of-pocket expenses for attendance at such meetings.
Prior to December 1999, pursuant to the 1997 Non-Employee Directors' Stock Plan,
(i) non-employee directors already serving on the Board were awarded annually
2,000 shares of restricted common stock and non-qualified stock options to
purchase 4,000 shares of common stock and (ii) non-employee directors who were
elected to the Board for the first time or after a period of not serving on the
Board were entitled to one-time awards of 5,000 shares of restricted common
stock and non-qualified stock options to purchase 10,000 shares of common stock.
60
EMPLOYMENT AGREEMENT
Mr. Turner and the Company entered into a five-year Employment Agreement as
of June 2, 1998. The Employment Agreement provides for an annual salary of
$700,000 which was effective April 1, 1998. The Agreement provides for salary
increases of $150,000 on each of April 1, 1999 and 2000 and for an annual bonus
determined pursuant to a formula. Mr. Turner has elected to forego his salary
increases scheduled for April 1, 1999 and 2000. The Agreement contains a
two-year non-competition covenant and a covenant prohibiting Mr. Turner from
disclosing any confidential information of the Company.
The Company intends to enter into a Settlement Agreement and an Expense
Indemnification Agreement with Mr. Turner, both of which are subject to the
approval of the Bankruptcy Court. The Settlement Agreement would provide for,
among other things, (i) Mr. Turner resigning from all positions that he holds
with the Company, (ii) the termination of Mr. Turner's Employment Agreement and
all obligations thereunder, and (iii) Mr. Turner and the Company releasing the
other from all claims against each other that are existing as of the effective
date of the Settlement Agreement. The Expense Indemnification Agreement would
provide for, among other things, (i) the Company indemnifying Mr. Turner against
certain potential expenses incurred by him, (ii) the advancement of expenses
prior to any determination of whether indemnification is appropriate, and (iii)
the payment of Mr. Turner's reasonable legal fees and expenses in the event of
any litigation concerning the Expense Indemnification Agreement. The Expense
Indemnification Agreement uses the same standards as are contained in the
Indemnification Agreement between the Company and Mr. Turner dated July 3, 1996.
RETENTION PLAN AND SEVERANCE AGREEMENT
On December 15, 1999, the U.S. Bankruptcy Court approved the Company's
Employee Retention Program (the "Program") that authorized retention payments to
approximately 930 employees and to certain executives. As part of the Program,
Messrs. Turner, Wimer, Woltil and Murphy will receive incentive payments on the
effective date of a plan of reorganization in the amounts of $500,000, $350,000,
$350,000 and $200,000, respectively, if they remain employees of the Company on
that date. These amounts will be increased by 5% for each full month prior to
September 30, 2000 that a reorganization plan becomes effective, or decreased by
5% (up to a maximum reduction of 15%) for each full month following September
30, 2000 that the reorganization plan becomes effective.
Pursuant to the Program, these executives are also eligible for severance
payments in the event of termination without cause. The severance payments will
be equal to 24 months of salary (based on rates in effect at termination). In
addition to the severance payments, the Program provides them, and their
eligible dependents, with the right to participate in the medical, dental,
health, life and other fringe benefit plans and arrangements applicable to them
immediately prior to termination. The right to this participation will expire at
either the earlier of two years from the date of termination or until such time
that they become eligible, through a subsequent employer, to receive
substantially equivalent or greater benefits. Severance payments will be made in
accordance with an election made by the Company. If so elected, the Company can
make the severance payments over time, which would cause the executive to be
released from existing non-compete restrictions. Under this option, if the
executive finds employment during the severance period, his severance payment
will be reduced by the amount of the salary earned by him, up to a maximum of
50% of the aggregate severance payments. Otherwise, the payments may be made in
a lump sum with the executive made subject to certain competitive prohibitions.
61
Mr. Woltil has an agreement with the Company whereby, in return for a
commitment to remain employed until December 31, 2000, he will be entitled to
receive a payment equal to 12 months of his current salary if he voluntarily
terminates his employment with the Company at the end of such period. The
Company is bound to this payment even if the payment is to be paid on a date
that is a post-effective date of a confirmed plan of reorganization.
The Company has a severance agreement with Mr. Schelling dated January 7,
1997 which provides, among other things, for a severance payment equal to two
times his salary plus accrued but unpaid salary and incentive bonus payments.
This agreement has not been assumed or rejected in the Chapter 11 case. The
Company intends to replace this agreement with a new severance and bonus
agreement between Mr. Schelling and one of the Company's non-domestic
subsidiaries. The new agreement will provide Mr. Schelling with essentially the
same severance and fringe benefits as described above for Messrs. Turner, Wimer,
Woltil and Murphy. Mr. Schelling will also be entitled to a $75,000 retention
payment on September 30, 2000, a $75,000 retention payment on January 1, 2001,
and an incentive payment of $200,000 on completion of the sale of the Company's
international division.
62
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The following table and footnotes set forth certain information regarding
the beneficial ownership of Common Stock as of March 15, 2000 by (i) each
director, (ii) the Named Executive Officers (as defined below), (iii) all
directors and executive officers of the Company as a group, and each person
believed by the Company to be the beneficial owner of more than five percent of
Common Stock of the Company. Pursuant to an agreement in principle entered into
between the Company and representatives of its bank lenders and holders of a
majority of its senior subordinated bonds, the Company's plan of reorganization
would provide that holders of outstanding equity securities, including common
stock and options to acquire common stock, would not receive anything in
recovery. No assurances can be given that the plan of reorganization that is
confirmed, if any, will include the terms of the agreement in principle. See
Item 1 - "Certain Additional Business Risks - Effect of Bankruptcy
Reorganization on Common Stock and Debt Securities."
SHARES PERCENT OF
NAME OF BENEFICIAL OWNER BENEFICIALLY OWNED(1) CLASS(1)(%)
- ------------------------ --------------------- -----------
Andrew L. Turner 359,604 (2) *
William R. Anixter 22,792 (3)(4) *
John E. Bingaman 193,610 (3)(5) *
Martin G. Mand 10,979 (3)(6) *
Robert F. Murphy 22,507 (7) *
Warren C. Schelling 4,533 (8) *
Lois E. Silverman 12,960 (3)(9) *
James R. Tolbert, III 18,897 (3)(9)(10) *
Mark G. Wimer 5,653 (11) *
Robert D. Woltil 12,167 (12) *
R. James Woolsey 10,333 (3)(9) *
Peter C. Kern 3,502,777 (13) 5.7%
206 St. Johns Road
Pilot Point, TX 76258
All directors and executive officers
As a group (14 persons, including
those named above) 579,416 (14) *
___________
* Less than 1%
(1) Beneficial ownership is determined in accordance with the rules of the
Commission and generally includes voting or investment power with respect
to securities. Options exercisable within 60 days of March 15, 2000 are
deemed to be currently exercisable. Except as indicated in the footnotes to
this table and pursuant to applicable community property laws, the persons
named in the table have sole voting and investment power with respect to
all shares of Common Stock beneficially owned.
(2) Includes 84,372 shares of Common Stock owned by the Turner Children's
Trust, 1,500 shares of Common Stock owned by the Andrew and Nora Turner
Trust and 261,065 shares of Common Stock owned by the Turner Family
Foundation (Mr. Turner disclaims beneficial ownership of these shares).
Also includes currently exercisable options to purchase 12,667 shares of
Common Stock.
63
(3) Includes restricted shares awarded under the Company's 1997 Non-Employee
Directors' Plan which may be subject to a substantial risk of forfeiture.
The number of restricted shares included for each person listed above as
having restricted shares is as follows: Mr. Anixter - 5,000; Mr. Bingaman -
3,333; Mr. Mand - 3,333; Ms. Silverman - 3,333; Mr. Tolbert - 3,333; and
Mr. Woolsey - 3,333.
(4) Includes 15,000 shares of Common Stock owned by the William and Nancy
Anixter Trust.
(5) Includes currently exercisable options to purchase 44,583 shares of Common
Stock.
(6) Includes currently exercisable options to purchase 5,583 shares of Common
Stock.
(7) Includes currently exercisable options to purchase 3,733 shares of Common
Stock.
(8) Includes currently exercisable options to purchase 4,533 shares of Common
Stock.
(9) Includes currently exercisable options to purchase 6,333 shares of Common
Stock.
(10) Includes 5,000 shares held by First Oklahoma Corporation, the sole
shareholder of which is Mr. Tolbert.
(11) Includes currently exercisable options to purchase 5,653 shares of Common
Stock.
(12) Includes 5,000 shares owned by Mr. Woltil and his wife, as to which Mr.
Woltil has shared voting and investment power. Also includes currently
exercisable options to purchase 4,667 shares of Common Stock.
(13) Based upon a Schedule 13G filed with the Commission in April, 1999.
(14) Includes an aggregate of 106,538 shares of Common Stock issuable upon the
exercise of options that are currently exercisable.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Mr. Woolsey, in his capacity as a partner in the law firm of Shea &
Gardner, provided certain legal services to the Company in 1999. The total
amount paid to Shea & Gardner in 1999 for such services was approximately
$131,536.
As of December 31, 1999, the Company's nursing home subsidiaries,
(collectively "SunBridge"), were lessees or sublessees of 45 facilities from
partnerships or corporations in which Mr. Zev Karkomi, who resigned from the
Company's Board of Directors in July 1999, was a partner, stockholder or
director. These arrangements were entered into from 1989 to 1999, with varying
lease terms. The aggregate lease payments, including base rents, contingent
rents and other miscellaneous payments in connection with leases in which Mr.
Karkomi held an interest totaled approximately $18.1 million in 1999. During
1999, the Company terminated leases to 11 facilities that were leased from
affiliates of Mr. Karkomi.
64
In 1994, a subsidiary of the Company entered into a lease agreement for a
nursing facility in Bellingham, Washington with Bellingham Associates
("Bellingham"), an affiliate of Mr. Karkomi. Subsequently, the Company
determined to build a replacement facility in Bellingham, Washington, and
entered into a construction agreement in June 1998 with a third party for the
construction of a 122 bed nursing home. The lease with Bellingham on the
existing facility was bought out, and the facility was purchased, by the Company
with a purchase mortgage from Bellingham in April 1999. The replacement facility
was completed in 1999 but the opening was delayed as a result of a dispute
between the Company and Bellingham over their rights and obligations with
respect to the existing facility and the replacement facility. In February 2000,
the Company and Bellingham entered into an agreement to resolve the disputes
related to the two Bellingham facilities as well as a number of other facilities
leased by the Company from Mr. Karkomi and his affiliates, as well as other
issues between the parties, which includes the following features: (i) the
return to affiliates of Mr. Karkomi of 17 leased nursing homes and assisted
living facilities; (ii) the release of all damage claims by Mr. Karkomi or his
affiliates related to prepetition claims and certain postpetition claims on
those 17 facilities, including lease rejection damages; (iii) the forfeiture by
the Company of an aggregate of approximately $1.3 of security deposits on the 17
facilities; and (iv) the assumption by the Company of leases covering 28 other
nursing homes, including certain modifications to the terms of some leases
including rent concessions, options to purchase or close certain facilities,
shortening of lease maturities and rights of first refusal to purchase the
facilities.
Additionally, the Company entered into a lease agreement with the
construction company that built the replacement facility which supercedes the
construction agreement and allowed that facility to be opened concurrently with
the closure of the existing facility. Both of the above-referenced settlement
agreements were approved by the Bankruptcy Court in May 2000 and are currently
being implemented, and as a result the existing facility was closed and the
replacement facility opened in June 2000.
As of December 31, 1999, SunBridge was a lessee or assignee of seven
facilities from partnerships in which Mr. Bingaman, a current director of the
Company, had an equity interest of greater than ten percent. Each of these lease
arrangements was entered into prior to the closing of the acquisition of
Honorcare. All of the leases commenced on July 13, 1993 and terminate in 2001.
The aggregate lease payments, including base rents, contingent rents and other
miscellaneous payments in connection with these leases, totaled approximately
$2.2 million in 1999.
The Company believes the terms of all of the foregoing transactions are as
favorable to the Company as those that could have been obtained from
non-affiliated parties in arm's-length transactions. However, the Company's
contractual relationship with entities affiliated with members of the Board of
Directors creates the potential for conflicts of interest.
65
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(a) Financial Statements and Financial Statement Schedules
(i) Financial Statements:
Report of Independent Public Accountants
Consolidated Balance Sheets for the years ended December 31, 1999
and 1998
Consolidated Statements of Earnings (Losses) for the years ended
December 31, 1999, 1998 and 1997
Consolidated Statements of Stockholders' Equity (Deficit) for
the years ended December 31, 1999, 1998 and 1997
Consolidated Statements of Cash Flows for the years ended December
31, 1999, 1998 and 1997
Notes to Consolidated Financial Statements
(ii) Financial Statement Schedules:
Consent of Independent Public Accountants
Schedule II Valuation and Qualifying Accounts for the years ended
December 31, 1999, 1998 and 1997
(All other financial statement schedules required by Rule 5-04 of
Regulation S-X are not applicable or not required).
(b) Reports on Form 8-K
Report dated October 14, 1999 and filed October 27, 1999 reporting that the
Company and its U.S. operating subsidiaries filed voluntary petitions for
protection under Chapter 11 of the U.S. Bankruptcy Code with the U.S. Bankruptcy
Court for the District of Delaware (case numbers 99-3657 through 99-3841,
inclusive).
Report dated November 24, 1999 and filed November 24, 1999 reporting the
August, 1999 summary financial projections that the Company provided to the
representatives of its bank lenders and senior subordinated bondholders as part
of the negotiations regarding the terms of an overall restructuring of the
Company's capital structure.
(c) Exhibits
66
EXHIBIT NUMBER DESCRIPTION OF EXHIBITS
- -------------- -----------------------
2.1(9) Agreement and Plan of Merger and Reorganization, dated
as of February 17, 1997 among the Company, Peach
Acquisition Corporation and Retirement Care Associates,
Inc.
2.2(9) Agreement and Plan of Merger and Reorganization, dated
as of February 17, 1997 among the Company, Nectarine
Acquisition Corporation and Contour Medical, Inc.
2.3(14) Amendment No. 1 to the Agreement and Plan of Merger and
Reorganization dated as of February 17, 1997 among the
Company, Retirement Care Associates, Inc. and Peach
Acquisition Corporation dated May 27, 1997
2.4(15) Amendment No. 2 to the Agreement and Plan of Merger and
Reorganization dated as of February 17, 1997 among the
Company, Retirement Care Associates, Inc. and Peach
Acquisition Corporation dated August 21, 1997
2.5(15) Amendment No. 1 to the Agreement and Plan of Merger and
Reorganization dated as of February 17, 1997 among
the Company, Contour Medical, Inc. and Nectarine
Acquisition Corporation dated August 21, 1997
2.6(16) Amendment No. 3 to the Agreement and Plan of Merger and
Reorganization dated as of February 17, 1997 among
the Company, Retirement Care Associates, Inc. and Peach
Acquisition Corporation dated November 25, 1997
2.7(16) Amendment No. 2 to the Agreement and Plan of Merger and
Reorganization dated as of February 17, 1997 among
the Company, Contour Medical, Inc. and Nectarine
Acquisition Corporation dated November 25, 1997
2.8(13) Agreement and Plan of Merger, dated as of July 26,
1997, among the Company, Sunreg Acquisition Corp. and
Regency Health Services, Inc.
2.9(21) Amendment No. 4 to the Agreement and Plan of Merger and
Reorganization dated as of February 17, 1997 among
the Company, Retirement Care Associates, Inc. and Peach
Acquisition Corporation, dated April 3, 1998
2.10(21) Amendment No. 3 to the Agreement and Plan of Merger
and Reorganization dated as of February 17, 1997
among the Company, Contour Medical, Inc. and Nectarine
Acquisition Corporation dated April 3, 1998
3.1(19) Certificate of Incorporation of the Company, as amended
3.2(1)(4) Bylaws of the Company, as amended
4.1(2) Fiscal Agency Agreement dated as of March 1, 1994
between the Company and NationsBank of Texas, N.A., as
Fiscal Agent
67
4.2(6) Form of Rights Agreement, dated as of June 2, 1995,
between the Company and Boatmen's Trust Company, which
includes the form of Certificate of Designations for
the Series A Preferred Stock as Exhibit A, the form of
Right Certificate as Exhibit B and the form of Summary
of Preferred Stock Purchase Rights as Exhibit C
4.3(7) First Amendment to Rights Agreement, dated as of August
11, 1995, amending the Rights Agreement, dated as
of June 2, 1995, between the Company and Boatmen's Trust
Company
4.4(22) Removal of Rights Agent, Appointment and Acceptance of
Successor Rights Agent and Amendment No. 2 to Rights
Agreement among the Company, Chase Mellon Shareholder
Services, LLC and American Stock Transfer & Trust
Company
4.5(19) Certificate of Designations of Series A Preferred Stock
of the Company
4.6(18) Amended and Restated Declaration of Trust of Sun
Financing I among the Company, as sponsor, Robert F.
Murphy, Robert D. Woltil and William Warrick, as
trustees, the Bank of New York (Delaware), as trustee,
and the Bank of New York, dated as of May 4, 1998
4.7(18) Preferred Securities Guarantee among the Company and the
Bank of New York, as trustee, dated as of May 4, 1998
4.8(18) Registration Rights Agreement among the Company, certain
guarantors and Bear, Stearns & Co., Inc., Donaldson,
Lufkin & Jenrette Securities Corporation, J.P. Morgan
Securities, Inc., NationsBanc Montgomery Securities LLC
and Schroder & Co., Inc., dated as of May 4, 1998 (7%
Convertible Trust Issued Preferred Securities)
4.9(18) Registration Rights Agreement among Sun Financing I,
the Company and Bear, Stearns & Co., Inc., Donaldson,
Lufkin & Jenrette Securities Corporation, J.P. Morgan
Securities, Inc., NationsBanc Montgomery Securities
LLC and Schroder & Co., Inc., dated as of May 4, 1998
(93/8% Senior Subordinated Debentures due 2008)
10.1(3) Amendment and Restatement of Loan Agreement [Brookline]
by and between Mediplex of Massachusetts, Inc. and
Meditrust Mortgage Investments, Inc., dated June 23,
1994
10.2(3) Amendment and Restatement of Loan Agreement [Columbus]
by and between Mediplex Rehabilitation of Massachusetts,
Inc. and Meditrust Mortgage Investments, Inc., dated
June 23, 1994
10.3(3) Loan Agreement [Denver] by and between Mediplex of
Colorado, Inc. and Valley View Psychiatric Services,
Inc. and Meditrust Mortgage Investments, Inc., dated
June 23, 1994
68
10.4(8) Omnibus Amendment to Loan Agreements, dated as of March
28, 1996, by and between certain subsidiaries of The
Mediplex Group, Inc. and certain subsidiaries of the
Company
10.5(12) Credit Agreement among the Company, certain lenders,
certain co-agents, and NationsBank of Texas, N.A., as
Administrative Lender, dated October 8, 1997
10.6(12) Form of First Amendment to Credit Agreement dated
October 8, 1997 among the Company, certain lenders,
certain co-agents, and NationsBank of Texas, N.A., as
Administrative Lender, to be dated as of November 12,
1997
10.7(5) First Amendment to the Company's 1992 Director Stock
Option Plan
10.8(1) The Company's 1993 Combined Incentive and Nonqualifie
Stock Option Plan
10.9(1) The Company's 1993 Directors Stock Option Plan
10.10(5) Amendments to the Company's 1993 Combined Incentive and
Nonqualified Stock Option Plan
10.11(8) The Company's 1995 Non-Employee Directors' Stock Option
Plan
10.12(8) The Company's Employee Stock Purchase Plan
10.13(8) 1996 Combined Incentive and Nonqualified Stock Option
Plan
10.14(1) Form of Indemnity Agreement between the Company and each
of the Company's Directors before July 3, 1996
10.15(18) Form of Indemnity Agreement between the Company and
each of the Company's Directors from and after July 3,
1996
10.16(10) Form of Severance Agreement entered into between the
Company and its President, Chief Financial Officer and
Senior Vice Presidents
10.17(11) The Company's 1997 Non-Employee Directors' Stock Plan
10.18(11) The Company's 1997 Stock Incentive Plan
10.19(18) Second Amendment to Credit Agreement dated October 8,
1997 among the Company, certain lenders, certain
co-agents, and NationsBank of Texas, N.A., as
Administrative Lender, dated as of March 27, 1998
10.20(20) Fourth Amendment to Credit Agreement dated October 8,
1997 among the Company, certain lenders, certain
co-agents, and NationsBank of Texas, N.A., as
Administrative Lender, dated as of October 30, 1998
10.21(20) Employment Agreement dated June 2, 1998 between Andrew
L. Turner and the Company.
69
10.22(17) Indenture dated July 8, 1997 by and between the Company,
the Guarantors named therein, and First Trust
National Association (9 1/2% Senior Subordinated Notes
due 2007)
10.23(3) Amended and Restated Indenture, dated October 1, 1994,
among the Company, The Mediplex Group, Inc. and Fleet
Bank of Massachusetts, N.A. as Trustee (6% Convertible
Subordinated Debentures due 2004)
10.24(3) Amended and Restated First Supplemental Indenture to
Amended and Restated Indenture, dated October 1, 1994,
among the Company, The Mediplex Group, Inc. and Fleet
Bank of Massachusetts, N.A. as Trustee (6 1/2%
Convertible Subordinated Debentures due 2003)
10.25(18) Indenture dated May 4, 1998 among the Company, the Bank
of New York, as trustee (7% Convertible Junior
Subordinated Debentures due 2028)
10.26(18) Indenture dated May 4, 1998 among the Company, U.S.
Bank Trust National Association, as trustee, and
certain guarantors (93/8% Senior Subordinated Notes due
2008)
10.27(23) Limited Waiver and Agreement, dated as of April 27,
1999, to Credit Agreement among the Company, certain
lenders, certain co-agents, and NationsBank of Texas,
N.A. as Administrative Lender
10.28(24) Revolving Credit Agreement dated October 14, 1999 among
the Company and each of its subsidiaries named
therein (as borrowers). The CIT Group/Business Credit,
Inc. (as Lender's Agent) and Heller Financial, Inc.
(as Collateral Agent)
10.29(25) Term Sheet for Plan of Reorganization Prepared by Senior
Lenders' Working Group dated October 26, 1999.
21* Subsidiaries of the Registrant
23* Consent of Arthur Andersen LLP
27* Financial Data Schedule
______________________
* Filed herewith.
(1) Incorporated by reference from exhibits to the Company's Registration
Statement (No. 33-62670) on Form S-1.
(2) Incorporated by reference from exhibits to the Company's Form 8-K dated
March 11, 1994.
(3) Incorporated by reference from exhibits to the Company's Form 10-Q for the
quarter ended September 30, 1994.
(4) Incorporated by reference from exhibits to the Company's Registration
Statement (No. 33-77870) on Form S-1.
70
(5) Incorporated by reference from exhibits to the Company's Annual Report on
Form 10-K for the fiscal year ended December 31, 1994.
(6) Incorporated by reference from exhibits to the Company's Form 8-A filed
June 6, 1995.
(7) Incorporated by reference from exhibits to the Company's Form 8-A/A-1 filed
August 17, 1995.
(8) Incorporated by reference from exhibits to the Company's Form 10-Q for the
quarter ended March 31, 1996.
(9) Incorporated by reference from exhibits to the Company's Form 8-K dated
February 17, 1997.
(10) Incorporated by reference from exhibits to the Company's Annual Report on
Form 10-K for the fiscal year ended December 31, 1996.
(11) Incorporated by reference from exhibits to the Company's Form 10-Q for the
quarter ended March 31, 1997.
(12) Incorporated by reference from exhibits to the Company's Form 10-Q for the
quarter ended September 30, 1997.
(13) Incorporated by reference from exhibits to the Company's Form 8-K dated
October 8, 1997.
(14) Incorporated by reference from exhibits to the Company's Form 8-K dated May
27, 1997.
(15) Incorporated by reference from exhibits to the Company's Form 8-K dated
August 21, 1997.
(16) Incorporated by reference from exhibits to the Company's Form 8-K dated
November 25, 1997.
(17) Incorporated by reference from exhibits to the Company's Form 10-Q for the
quarter ended June 30, 1997.
(18) Incorporated by reference from exhibits to the Company's Form 10-Q for the
quarter ended March 31, 1998.
(19) Incorporated by reference from exhibits to the Company's Form 10-Q for the
quarter ended June 30, 1998.
(20) Incorporated by reference from exhibits to the Company's Form 10-Q for the
quarter ended September 30, 1998.
(21) Incorporated by reference from exhibits to the Company's Form 8-K dated
April 3, 1998.
(22) Incorporated by reference from exhibits to the Company's Annual Report on
Form 10-K for the fiscal year ended December 31, 1998.
(23) Incorporated by reference from exhibits to the Company's Form 10-Q for the
quarter ended March 31, 1999.
71
(24) Incorporated by reference from exhibits to the Company's Form 10-Q for the
quarter ended September 30, 1999.
(25) Incorporated by reference from exhibits to the Company's Form 8-K dated
October 27, 1999.
72
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this Report to be signed on
its behalf by the undersigned, thereunto duly authorized.
SUN HEALTHCARE GROUP, INC.
By: /s/ Mark G. Wimer
------------------------
Mark G. Wimer
Acting Chief Executive
Officer, President and
Chief Operating Officer
July 13, 2000
POWER OF ATTORNEY
Each person whose signature appears below hereby appoints each of Robert D.
Woltil and Robert F. Murphy, as his attorney-in-fact to sign this Report on his
behalf individually and in the capacity stated below and to file all supplements
and amendments to this Report and any and all instruments or documents filed as
a part of or in connection with this Report or any amendment or supplement
thereto, and any such attorney-in-fact may make such changes and additions to
this Report as such attorney-in-fact may deem necessary or appropriate.
Pursuant to the requirements of the Securities Exchange Act of 1934, this
Report has been signed below by the following persons on behalf of the
registrant on July 13, 2000 in the capacities indicated.
SIGNATURES TITLE
---------- -----
/s/ Mark G. Wimer Acting Chief Executive Officer, President,
- ----------------- Chief Operating Officer and Director
Mark G. Wimer (Principal Executive Officer)
Chairman of the Board of Directors and Chief
Executive Officer (1)
- ---------------------
Andrew L. Turner
Chief Financial Officer and Director (Principal
/s/ Robert D. Woltil Financial Officer)
- ---------------------
Robert D. Woltil
73
Vice President-Finance (Principal Accounting
/s/ Andrew P. Masetti (Officer)
- ---------------------
Andrew P. Masetti
/s/ James R. Tolbert Acting Chairman of the Board
- --------------------
James R. Tolbert
/s/ William R. Anixter Director
- -----------------------
William R. Anixter
/s/ John E. Bingaman Director
- --------------------
John E. Bingaman
/s/ Martin G. Mand Director
- ------------------
Martin G. Mand
/s/ Lois Silverman Director
- ------------------
Lois Silverman
/s/ R. James Woolsey Director
- --------------------
R. James Woolsey
(1) On July 13, 2000, Mr. Turner began a leave of absence from all of his
positions with the Company. See "Item 1 - Business - Recent Developments -
Appointment of Acting Chairman of the Board and Acting Chief Executive
Officer.
74
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1999
PAGE
----
Report of Independent Public Accountants......................................................... F-2
Consolidated Balance Sheets as of December 31, 1999 and 1998..................................... F-3
Consolidated Statements of Earnings (Losses) for the years ended December 31, 1999,5
1998 and 1997................................................................................. F-5
Consolidated Statements of Stockholders' Equity (Deficit) for the years ended December 31,
1999, 1998 and 1997........................................................................... F-6
Consolidated Statements of Cash Flows for the years ended December 31, 1999, 1998
and 1997...................................................................................... F-7
Notes to Consolidated Financial Statements....................................................... F-8
F-1
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Stockholders and Board of Directors of Sun Healthcare Group, Inc.:
We have audited the accompanying consolidated balance sheets of Sun
Healthcare Group, Inc. (a Delaware corporation) and subsidiaries as of December
31, 1999 and 1998, and the related consolidated statements of earnings (losses),
stockholders' equity (deficit) and cash flows for each of the three years in the
period ended December 31, 1999. These financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally
accepted in the United States. Those standards require that we plan and perform
the audit to obtain reasonable assurance about whether the financial statements
are free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements. An
audit also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
The Company is the subject of Federal investigations, including allegations
of inappropriate reimbursement for certain services, and other litigation. See
Note 18 to the Consolidated Financial Statements for further information
regarding these matters.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the financial position of Sun Healthcare Group, Inc.
and subsidiaries as of December 31, 1999 and 1998, and the results of its
operations and its cash flows for the three years in the period ended December
31, 1999, in conformity with accounting principles generally accepted in the
United States.
As explained in Note 3(p) to the financial statements, effective January 1,
1999 the Company changed its method of accounting for costs of start-up
activities.
The accompanying financial statements have been prepared assuming that the
Company will continue as a going concern. As discussed in Note 2 to the
Consolidated Financial Statements, the Company incurred net losses for the years
ended December 31, 1999 and 1998 of $1,089.5 million and $753.7 million,
respectively, and as of December 31, 1999 has a stockholders' deficit of
$1,044.1 million and a working capital deficiency of $17.3 million. As a result
of its recurring losses, the Company was not in compliance with certain
financial covenants of its Debtor-in-Possession Financing Agreement. The Company
has received a waiver for the non-compliant covenants subject to certain
conditions. This matter is discussed in Note 8 to the Consolidated Financial
Statements. Also, on October 14, 1999, the Company and substantially all of its
domestic subsidiaries filed separate voluntary petitions for relief under
Chapter XI of the U.S. Bankruptcy Code and continue to operate under the
protection of Chapter XI. These matters, among others, raise substantial doubt
about the Company's ability to continue as a going concern. Management's plans
in regard to these matters, including its intent to file a plan of
reorganization that will be acceptable to the Bankruptcy Court and the Company's
creditors, are also described in Note 2. In the event a plan of reorganization
is accepted, continuation of the business thereafter is dependent on the
Company's ability to achieve successful future operations. The accompanying
financial statements do not include any adjustments relating to the
recoverability and classification of recorded asset amounts or the amounts and
classification of liabilities that might be necessary should the Company be
unable to continue as a going concern.
/s/ Arthur Andersen LLP
- -----------------------
Arthur Andersen LLP
Albuquerque, New Mexico
July 13, 2000
F-2
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
CONSOLIDATED BALANCE SHEETS
AS OF DECEMBER 31, 1999 AND 1998
(IN THOUSANDS)
1999 1998
---- ----
ASSETS
Cash and cash equivalents............................................................. $ 25,047 $ 27,504
Accounts receivable, net of allowance for doubtful accounts of $151,841 and
$79,015 at December 31, 1999 and 1998, respectively................................. 254,464 538,329
Other receivables, net................................................................ 15,916 48,073
Inventory, net........................................................................ 42,983 48,862
Prepaids and other assets............................................................. 15,087 13,091
Income tax receivables................................................................ - 15,874
--------------- ----------------
Total current assets.................................................................. 353,497 691,733
Property and equipment, net............................................................. 446,176 601,270
Goodwill, net........................................................................... 475,567 795,945
Notes receivable, net of allowance of $6,556 and $1,712 at December 31, 1999 and 1998,
respectively.......................................................................... 22,698 32,334
Assets held for sale.................................................................... 70,609 192,447
Other assets, net....................................................................... 69,941 148,309
Deferred tax assets..................................................................... - 6,000
--------------- ----------------
Total assets.......................................................................... $ 1,438,488 $ 2,468,038
=============== ================
The accompanying notes are an integral part of these consolidated
balance sheets.
F-3
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
CONSOLIDATED BALANCE SHEETS (CONTINUED)
AS OF DECEMBER 31, 1999 AND 1998
(IN THOUSANDS EXCEPT SHARE DATA)
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)
1999 1998
---- ----
Current liabilities:
Current portion of long-term debt..................................................... $ 44,776 $ 812,621
Current portion of obligations under capital leases................................... 433 3,703
Accounts payable...................................................................... 53,787 94,143
Accrued compensation and benefits..................................................... 84,117 102,091
Accrued interest...................................................................... 2,972 26,095
Accrued self-insurance obligations.................................................... 59,075 54,865
Other accrued liabilities............................................................. 116,489 137,851
Income tax payables................................................................... 9,130 -
---------------- ----------------
Total current liabilities............................................................. 370,779 1,231,369
Long-term debt, net of current portion................................................. 100,765 705,653
Obligations under capital leases, net of current portion............................... 65,675 103,679
Other long-term liabilities............................................................ 36,794 41,061
Liabilities subject to compromise (see Note 2)......................................... 1,558,518 -
---------------- ----------------
Total liabilities..................................................................... 2,132,531 2,081,762
Commitments and contingencies..........................................................
Minority interest...................................................................... 5,979 7,517
---------------- ----------------
Company-obligated mandatorily redeemable convertible preferred securities of a
subsidiary trust holding solely 7% convertible junior subordinated debentures of the 344,119 345,000
Company...............................................................................
---------------- ----------------
Stockholders' equity (deficit):
Preferred stock of $.01 par value, authorized 5,000,000 shares, none issued........... - -
Common stock of $.01 par value, authorized 155,000,000 shares, 63,937,302
and 61,930,159 shares issued and outstanding as of December 31, 1999
and 1998, respectively............................................................... 639 619
Additional paid-in capital............................................................ 777,164 774,860
Accumulated deficit................................................................... (1,785,507) (696,049)
Accumulated other comprehensive income (loss) ........................................ (5,017) 2,902
---------------- ----------------
(1,012,721) 82,332
Less:
Unearned compensation............................................................. (3,966) (8,552)
Common stock held in treasury, at cost, 2,212,983 and 2,124,868 shares as
of December 31, 1999 and 1998, respectively...................................... (27,376) (26,967)
Grantor stock trust, at market, 1,915,935 and 1,989,132 shares as of
December 31, 1999 and 1998, respectively........................................ (78) (13,054)
---------------- ----------------
Total stockholders' equity (deficit) ................................................. (1,044,141) 33,759
---------------- ----------------
Total liabilities and stockholders' equity (deficit).................................. $ 1,438,488 $2,468,038
================ ================
The accompanying notes are an integral part of these consolidated
balance sheets.
F-4
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
CONSOLIDATED STATEMENTS OF EARNINGS (LOSSES)
FOR THE YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997
(IN THOUSANDS EXCEPT PER SHARE DATA)
1999 1998 1997
---- ---- ----
Total net revenues............................................................... $ 2,529,039 $ 3,088,460 $ 2,010,820
------------- -------------- ---------------
Costs and expenses:
Operating costs................................................................ 2,477,713 2,629,485 1,662,818
Impairment loss................................................................ 457,449 397,492 -
Corporate general and administrative........................................... 159,671 180,934 98,169
Interest, net (contractual interest expense $166,101).......................... 129,054 135,411 74,482
Provision for losses on accounts receivable.................................... 123,217 83,083 15,839
Depreciation and amortization.................................................. 81,325 102,515 56,630
Loss on sale of assets, net.................................................... 78,673 206,205 7,000
Restructuring costs............................................................ 27,353 4,558 -
Loss on termination of interest rate swaps............................. ....... 2,488 - -
Legal and regulatory matters, net.............................................. 38 22,456 -
------------- -------------- ----------------
Total costs and expenses before reorganization items........................... 3,536,981 3,762,139 1,914,938
Dividends on convertible preferred securities of subsidiary...................... 20,407 16,163 -
------------- -------------- ---------------
Earnings (losses) before reorganization costs, income taxes, extraordinary loss and
cumulative effect of change in accounting principle............................ (1,028,349) (689,842) 95,882
Reorganization costs, net........................................................ 48,132 - -
------------- -------------- ---------------
Earnings (losses) before income taxes, extraordinary loss and cumulative effect of
change in accounting principle................................................. (1,076,481) (689,842) 95,882
Income taxes..................................................................... 161 53,577 41,153
------------- -------------- ---------------
Earnings (losses) before extraordinary loss and cumulative effect of change in
accounting principle........................................................... (1,076,642) (743,419) 54,729
Extraordinary loss from early extinguishment of debt, net of income tax benefit of
$3,700 and $9,815 in 1998 and 1997, respectively............................... - (10,274) (19,928)
Cumulative effect of change in accounting principle.............................. (12,816) - -
------------- -------------- ---------------
Net earnings (losses)............................................................ $(1,089,458) $ (753,693) $ 34,801
============= ============== ===============
Net earnings (losses) per common and common equivalent share:
Earnings (losses) before extraordinary loss and cumulative effect of change in
accounting principle
Basic.......................................................................... $ (18.40) $ (14.29) $ 1.18
============= ============== ===============
Diluted........................................................................ $ (18.40) $ (14.29) $ 1.12
============= ============== ===============
Net earnings (losses):
Basic.......................................................................... $ (18.62) $ (14.49) $ 0.75
============= ============== ===============
Diluted........................................................................ $ (18.62) $ (14.49) $ 0.74
============= ============== ===============
Weighted average number of common and common equivalent shares outstanding:
Basic.......................................................................... 58,504 52,008 46,329
============= ============== ===============
Diluted........................................................................ 58,504 52,008 51,851
============= ============== ===============
The accompanying notes are an integral part of these Consolidated
Financial Statements.
F-5
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)
FOR THE YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997
(IN THOUSANDS)
1999 1998 1997
--------------------------------------------------------------------
Shares Amount Shares Amount Shares Amount
------ ------ ------ ------ ------ ------
COMMON STOCK
Issued and outstanding at beginning of year................. 61,930 $ 619 51,698 $ 517 51,143 $ 511
Issuance of common stock for employee benefits.............. - - 37 - 487 5
Conversion of 61/2% Convertible Subordinated Debentures due 774 8 2 - 68 1
2003......................................................
Conversion of 7% Convertible Trust Issued Preferred
Securities................................................ 1,094 11 - - - -
Cancellation of Restricted Stock Awards..................... (18) - - - - -
Employee Stock Purchase and other........................... 157 1 - - - -
Common stock issued in connection with acquisitions......... - - 9,981 100 - -
Common stock issued in connection with immaterial poolings.. - - 212 2 - -
-------- ------------- --------- ---------- --------- -----------
Issued and outstanding at end of year....................... 63,937 639 61,930 619 51,698 517
-------- ------------- --------- ---------- --------- -----------
ADDITIONAL PAID-IN CAPITAL
Balance at beginning of year................................ 774,860 639,637 611,434
Issuance of common stock for employee benefits.............. - 522 5,518
Tax benefit of stock options exercised...................... - 57 1,741
Conversion of 61/2% Convertible Subordinated Debentures due 12,626 33 1,109
2003......................................................
Conversion of 7% Convertible Trust Issued Preferred
Securities................................................ 870 121 191
Adjustment to market value of common stock held by the
Grantor Stock Trust....................................... (12,512) (26,895) 19,644
Conversion of Mediplex convertible debt..................... 1,579 - -
Cancellation of Restricted Stock Awards..................... (259) - -
Common stock issued in connection with acquisitions......... - 161,376 -
Common stock issued in connection with immaterial poolings.. - 9 -
-------- ------------- --------- ---------- --------- -----------
Additional paid-in capital at end of year................... 777,164 774,860 639,637
-------- ------------- --------- ---------- --------- -----------
RETAINED EARNINGS
Balance at beginning of year................................ (696,049) 57,114 22,313
Net earnings (losses)....................................... (1,089,458) (753,693) 34,801
Common stock issued in connection with immaterial poolings.. - 530 -
-------- ------------- --------- ---------- --------- -----------
Retained earnings (deficit) at end of year.................. (1,785,507) (696,049) 57,114
-------- ------------- --------- ---------- --------- -----------
ACCUMULATED OTHER COMPREHENSIVE INCOME
Balance at beginning of year................................ 2,902 1,766 3,718
Foreign currency translation adjustment, net of tax......... (7,919) 1,136 (1,952)
-------- ------------- --------- ---------- --------- -----------
Accumulated other comprehensive income at end of year....... (5,017) 2,902 1,766
-------- ------------- --------- ---------- --------- -----------
Total....................................................... 63,937 (1,012,721) 61,930 82,332 51,698 699,034
-------- ------------- --------- ---------- --------- -----------
UNEARNED COMPENSATION
Balance at beginning of year................................ (8,552) (14,203) -
Issuance of shares of restricted common stock............... - (564) (17,458)
Cancellation of Restricted Stock Awards .................... 260 - -
Amortization of stock issued under restricted stock option
plan...................................................... 4,326 6,215 3,255
-------- ------------- --------- ---------- --------- -----------
Unearned compensation at end of year........................ (3,966) (8,552) (14,203)
-------- ------------- --------- ---------- --------- -----------
COMMON STOCK IN TREASURY
Balance at beginning of year................................ (26,967) (25,574) (25,069)
Acquired at cost............................................ (409) (1,393) (505)
-------- ------------- --------- ---------- --------- -----------
Common stock in treasury at end of year..................... (27,376) (26,967) (25,574)
-------- ------------- --------- ---------- --------- -----------
GRANTOR STOCK TRUST
Balance at beginning of year................................ (13,054) (42,204) (40,770)
Issuance of common stock from the Grantor Stock Trust....... 464 1,692 752
Issuance of shares of restricted common stock............... - 563 17,458
Adjustment to market value of common stock held by the
Grantor Stock Trust....................................... 12,512 26,895 (19,644)
-------- ------------- --------- ---------- --------- -----------
Grantor stock trust at end of year.......................... (78) (13,054) (42,204)
-------- ------------- --------- ---------- --------- -----------
Total stockholders' equity (deficit)........................ 63,937 $(1,044,141) 61,930 $ 33,759 51,698 $ 617,053
======== ============ ========== ========== ========= ==========
The accompanying notes are an integral part of these consolidated
financial statements.
F-6
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997
(IN THOUSANDS)
1999 1998 1997
---- ---- ----
CASH FLOWS FROM OPERATING ACTIVITIES:
Net earnings (losses).......................................................... $ (1,089,458) $ (753,693) $ 34,801
-------------- -------------- ------------
Adjustments to reconcile net earnings (losses) to net cash provided by (used for)
operating activities:
Extraordinary loss........................................................... - 10,274 19,928
Loss on sale of assets, net.................................................. 78,673 206,205 7,000
Impairment loss.............................................................. 457,449 397,492 -
Cumulative effect of change in accounting principle.......................... 12,816 - -
Reorganization costs, net.................................................... 48,132 - -
Depreciation and amortization................................................ 81,325 102,515 56,630
Provision for losses on accounts receivable.................................. 123,217 83,083 15,839
Other, net................................................................... 18,055 9,068 3,312
Changes in operating assets and liabilities:
Accounts receivable.......................................................... 160,864 (61,679) (164,966)
Other current assets......................................................... 8,412 (19,557) (6,323)
Other current liabilities.................................................... 72,607 (41,530) 24,228
Income taxes payable......................................................... 35,430 22,242 31,284
-------------- -------------- ------------
Net cash provided by (used for) operating activities before reorganization costs. 7,522 (45,580) 21,733
--------------- -------------- ------------
Net cash paid for reorganization costs .......................................... (269) - -
Net cash provided by (used for) operating activities............................. 7,253 (45,580) 21,733
-------------- -------------- ------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital expenditures, net...................................................... (102,453) (160,416) (103,162)
Acquisitions, net of cash acquired............................................. (5,731) (60,641) (564,134)
Proceeds from sale of assets held for sale..................................... 8,735 - -
Proceeds from sale and leaseback of property and equipment..................... 38,600 134,375 80,457
Decrease (increase) in long-term notes receivable.............................. 15,857 (5,977) (57,431)
Decrease (increase) in other assets............................................ 45,179 6,794 (35,851)
--------------- -------------- ------------
Net cash provided by (used for) investing activities........................ 187 (85,865) (680,121)
--------------- -------------- ------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Net borrowings under Revolving Credit Agreement (postpetition) ............... 12,125 - -
Long-term debt borrowings...................................................... 126,062 248,818 1,837,062
Long-term debt repayments (prepetition)........................................ (92,502) (438,607) (966,024)
Principal payments on prepetition debt authorized by Bankruptcy Court........ (36,118) - -
Conversion of Mediplex 6.5% Convertible Subordinated Debentures due 2003..... (6,649) - -
Repurchase of 12.25% Junior Subordinated Notes and 9.875% Senior Subordinated Notes - - (182,070)
Net proceeds from issuance of convertible trust issued preferred securities of
subsidiary..................................................................... - 334,044 -
Net proceeds from issuance of common stock..................................... 1,784 2,337 6,275
Purchases of treasury stock.................................................... (409) (1,393) (505)
Other financing activities..................................................... (14,480) (8,151) (33,411)
-------------- -------------- ------------
Net cash provided by (used for) financing activities........................ (10,187) 137,048 661,327
-------------- -------------- ------------
Effect of exchange rate on cash and cash equivalents............................. (290) 881 3,201
-------------- -------------- ------------
Net increase (decrease) in cash and cash equivalents............................. (2,457) 6,484 6,140
Cash and cash equivalents at beginning of year................................... 27,504 21,020 14,880
-------------- -------------- ------------
Cash and cash equivalents at end of year......................................... $ 25,047 $ 27,504 $ 21,020
============== ============== ============
The accompanying notes are an integral part of these consolidated
financial statements.
F-7
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1999
(1) NATURE OF BUSINESS
Sun Healthcare Group, Inc., a Delaware corporation, through its direct and
indirect subsidiaries (hereinafter collectively referred to as "Sun" or the
"Company"), is a provider of long-term, subacute and related specialty
healthcare services, including rehabilitation and respiratory therapy services
and pharmaceutical and medical supply services. Long-term and subacute care and
outpatient therapy services are provided through Company-operated facilities.
Therapy services and pharmaceutical and medical supply services are provided
both in Company-operated and in other nonaffiliated facilities located in the
United States. The Company also provides long-term care services in the United
Kingdom, Spain and Germany, acute care services in Australia and pharmaceutical
services in the United Kingdom and Spain.
(2) PETITIONS FOR REORGANIZATION UNDER CHAPTER 11
The Company has incurred net losses of $1,089.5 million and $753.7 million
in 1999 and 1998, respectively. At December 31, 1999, the Company has a working
capital deficiency of $17.3 million and a stockholders' deficit of $1,044.1
million. As a result of the Company's net losses and the related non-compliance
with most of its long-term debt agreements, on October 14, 1999 (the "Filing
Date"), Sun Healthcare Group, Inc. and substantially all of its U.S. operating
subsidiaries filed voluntary petitions for reorganization under Chapter 11 of
the U.S. Bankruptcy Code ("Chapter 11"). The Company is presently operating its
business as a debtor-in-possession under Chapter 11 and is subject to the
jurisdiction of the U.S. Bankruptcy Court for the District of Delaware (the
"Bankruptcy Court"). The Consolidated Financial Statements of the Company have
been presented in accordance with the American Institute of Certified Public
Accountants Statement of Position 90-7: "Financial Reporting by Entities in
Reorganization under the Bankruptcy Code" ("SOP 90-7") and have been prepared in
accordance with generally accepted accounting principles applicable to a going
concern, which principles, except as otherwise disclosed, assume that assets
will be realized and liabilities will be discharged in the normal course of
business. The chapter 11 filings, the uncertainty regarding the eventual outcome
of the reorganization cases, and the effect of other unknown, adverse factors
raise substantial doubt about the Company's ability to continue as a going
concern.
On October 26, 1999, the Company announced that it had reached an agreement
in principle with representatives of its bank lenders and holders of
approximately two-thirds of it outstanding senior subordinated bonds on the
terms of an overall restructuring of the Company's capital structure. If
approved as part of the Company's chapter 11 plan of reorganization, the
agreement in principle would provide the Company's bank lenders with cash, new
senior long-term debt, new preferred stock, and new common stock. The Company's
senior subordinated bondholders would receive new common stock. The agreement in
principle would also provide new long-term debt, new preferred stock and new
common stock to general unsecured creditors, and reinstate a significant portion
of Sun's secured debt. The agreement in principle provides that holders of Sun's
outstanding convertible subordinated debt, convertible trust issued preferred
securities and common stock would not receive any recovery in the plan of
reorganization. The Company and the other parties to the agreement in principle
have initiated discussions to amend the agreement in principle. No assurance can
be given that a plan of reorganization will be confirmed or that any plan of
reorganization that is confirmed will contain the terms of the agreement in
principle. The agreement in principle expires on September 30, 2000.
F-8
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
Under Chapter 11, certain claims against the Company in existence prior to
the Filing Date are stayed while the Company continues its operations as a
debtor-in-possession. These claims are reflected in the December 31, 1999
balance sheet as "Liabilities subject to compromise." Additional chapter 11
claims have arisen and may continue to arise subsequent to the Filing Date
resulting from the rejection of executory contracts, including leases, and from
the determination by the Bankruptcy Court of allowed claims for contingencies
and other disputed amounts. Claims secured by the Company's assets ("secured
claims") also are stayed, although the holders of such claims have the right to
petition the Bankruptcy Court for relief from the automatic stay to permit such
creditors to foreclose on the property securing their claim.
The Company has determined that, generally, the fair market value of the
collateral is less than the principal amount of its secured prepetition debt
obligations; accordingly, the Company has discontinued accruing interest on
substantially all of these obligations as of the Filing Date. The Company
received approval from the Bankruptcy Court to pay or otherwise honor certain of
its prepetition obligations, including employee wages and benefits.
The principal categories and the balances of chapter 11 claims reclassified
in the Consolidated Balance Sheet and included in "Liabilities subject to
compromise" at December 31, 1999 are identified below. These amounts may be
subject to future adjustments depending upon Bankruptcy Court actions, further
developments with respect to disputed claims, whether or not such claims are
secured, and the value of any security interests securing such claims or other
events.
DECEMBER 31, 1999
(dollars in thousands)
-------------------------
Revolving Credit Facility $ 411,137
Credit Facility Term Loans 375,115
Senior Subordinated Notes due 2008 150,000
Senior Subordinated Notes dues 2007 250,000
Interest payable 102,467
Convertible Subordinated Debentures due 2004 83,300
Prepetition trade and other miscellaneous claims 79,948
Mortgage notes payable due at various dates through 2005 47,703
Other long-term debt 21,200
Capital leases 19,170
Industrial Revenue Bonds 10,935
Senior Subordinated Notes due 2002 6,161
Convertible Subordinated Debentures due 2003 1,382
-------------------------
Total liabilities subject to compromise $ 1,558,518
=========================
F-9
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
Since October 14, 1999, the payment of certain prepetition claims
(principally employee wages and benefits and payments to critical vendors and
utilities) that were approved by the Bankruptcy Court have reduced "Liabilities
subject to compromise."
It is not possible to fully or completely estimate the fair value of
"Liabilities subject to compromise" at December 31, 1999 due to the Company's
chapter 11 filing and the uncertainty surrounding the ultimate amount and
settlement terms for such liabilities.
Under the Bankruptcy Code, the Company may elect to assume or reject real
estate leases, employment contracts, personal property leases, service
contracts, and other unexpired executory prepetition contracts, subject to
Bankruptcy Court approval. The Company cannot presently determine with certainty
the ultimate aggregate liability which will result from the filing of claims
relating to such contracts which have been or may be rejected. The Bankruptcy
Code generally accords priority to claims and expenses in the following order.
First, distributions are made to secured creditors to the extent of their
interest in collateral. Unencumbered assets, or the value thereof, are
distributed in the following order: to holders of super-priority claims, such as
the lenders under the debtor-in-possesion financing (the "DIP Financing
Agreement"), holders of administrative expense claims, holder of claims for
wages and salaries, holders of claims with respect to contributions to employee
benefit plans, holders of certain tax claims, holders of unsecured claims and
holders of equity interests.
The Company is in default with respect to substantially all of its
prepetition borrowings. The Company's prepetition bank debt is collateralized by
(i) a pledge of stock in the Company's U.S. subsidiaries, (ii) a pledge of
approximately 66 percent of the stock in certain of the Company's direct foreign
subsidiaries, (iii) a security interest in intercompany debt owed by
subsidiaries to the Company and (iv) a pledge of certain notes held by the
Company.
Schedules were filed with the Bankruptcy Court setting forth the assets and
liabilities of the Company and its filing subsidiaries as of the Filing Date as
shown by the Company's accounting records. Differences between amounts shown by
the Company and claims filed by creditors are being investigated and resolved.
The ultimate amount and the settlement terms for such liabilities are subject to
a plan of reorganization. The plan, when filed, is subject to a vote by the
Company's impaired creditors and stockholders and confirmation by the Bankruptcy
Court, and accordingly, is not presently determinable.
REORGANIZATION COSTS
Reorganization costs under chapter 11 are items of expense or income that
are incurred or realized by the Company because it is in reorganization. These
include, but are not limited to, professional fees and similar types of
expenditures incurred directly relating to the chapter 11 proceeding, loss
accruals or realized gains or losses resulting from activities of the
reorganization process, and interest earned on cash accumulated by the Company
because it is not paying its prepetition liabilities.
F-10
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
For the period from the Filing Date to December 31, 1999, reorganization
costs, net were $48.1 million and the components are as follows:
AMOUNT
REORGANIZATION COST (in thousands)
Write-off of debt discounts and deferred issuance costs $37,614
Loss on sale of assets 7,085
Professional fees 4,115
Less interest earned on accumulated cash (682)
-------
Total $48,132
=======
(3) SUMMARY OF SIGNIFICANT ACCOUNTING AND FINANCIAL REPORTING POLICIES
(A) PRINCIPLES OF CONSOLIDATION
The Consolidated Financial Statements include the accounts of the Company
and its greater than 50% owned subsidiaries. Investments in affiliates, in which
the Company owns 20% to 50%, are carried on the equity method. Investments in
companies owned less than 20% are carried at cost. All significant intercompany
accounts and transactions have been eliminated in consolidation. As a
consequence of the bankruptcy filing in 1999, the non-filing subsidiaries of the
Company fully reserved for intercompany receivables from filing subsidiaries.
These amounts were not material.
(B) CASH EQUIVALENTS
The Company considers all highly liquid, unrestricted investments with
original maturities of three months or less to be cash equivalents. Cash
equivalents are stated at cost.
(C) NET REVENUES
Net revenues consist of long-term and subacute care revenues, therapy
services revenues, temporary therapy staffing services revenues, pharmaceutical
and medical supply services revenues and other ancillary services revenues. Net
revenues are recognized as services are provided. Revenues are recorded net of
provisions for discount arrangements with commercial payors and contractual
allowances with third-party payors, primarily Medicare and Medicaid. Net
revenues realizable under third-party payor agreements are subject to change due
to examination and retroactive adjustment. Estimated third-party payor
settlements are recorded in the period the related services are rendered. The
methods of making such estimates are reviewed frequently, and differences
between the net amounts accrued and subsequent settlements or estimates of
expected settlements are reflected in current results of operations.
The Company has submitted to the Health Care Financing Administration
("HCFA") various requests for exceptions to the Medicare established routine
cost limits ("RCLs") for reimbursement. The requests for exceptions to the RCLs
relate to services rendered in periods prior to the Company's transition to the
Prospective Payment System ("PPS"). Prior to PPS, Medicare regulations permitted
providers to file exception requests in order to be reimbursed for the cost of
treating higher acuity patients. For the years ended December 31, 1998 and 1997,
included in net revenues are amounts related to exceptions to the RCLs of
approximately $30.9 million and $16.6 million, respectively. These amounts
reflected management's estimate based on its prior experience with the Medicare
Program's regulations and the Company's records of service provided, of the
amounts that would ultimately be approved and paid by HCFA related to the
requests for exceptions to the RCLs. Included in accounts receivable at December
31, 1998 were requests for exceptions to RCLs of approximately $41.0 million.
F-11
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
During 1999, HCFA denied requests for exceptions to the RCLs filed by the
Company related to prior years. Additionally, HCFA retroactively denied requests
for exceptions that had previously been approved. The Company established a
reserve of approximately $67.7 million at December 31, 1999 related to these
denials. The reserve, which is included in accounts receivable, was recorded as
an adjustment to net patient revenues. Differences between the net amounts
accrued and subsequent settlements or estimates of expected settlements are
recorded in operations in the period they occur.
(D) ACCOUNTS RECEIVABLE
The Company's accounts receivable relate to services provided by its
various operating divisions to a variety of payors and customers. The primary
payors for services provided in long-term and subacute care facilities that the
Company operates in the United States are the Medicare program and the various
state Medicaid programs. The rehabilitation and respiratory therapy service
operations in the United States provides services to patients in unaffiliated
long-term, rehabilitation and acute care facilities. The billings for those
services are submitted to the unaffiliated facilities. Many of the unaffiliated
long-term care facilities receive a large majority of their revenues from the
Medicare program and the state Medicaid programs. Because of the significant
reduction in average payments per patient day as a result of the implementation
of PPS, the Company's estimate of uncollectible accounts receivable from
unaffiliated long-term care facilities has substantially increased over time
(see Note 18).
(E) INVENTORIES
The majority of the Company's inventories consist of merchandise purchased
for resale which are stated at the lower of FIFO (first-in, first-out) cost or
market.
(F) PROPERTY AND EQUIPMENT
Property and equipment are stated at cost. Major renewals or improvements
are capitalized, whereas ordinary maintenance and repairs are expensed as
incurred. Depreciation and amortization is computed using the straight-line
method over the estimated useful lives of the assets as follows: buildings and
improvements - 5 to 40 years; leasehold improvements-the shorter of the
estimated useful lives of the assets or the life of the lease including renewal
options; equipment - 3 to 20 years.
The Company capitalizes certain costs associated with developing and
acquiring healthcare facilities and related outpatient programs. Capitalized
costs include site investigation, negotiation, development, acquisition and
preconstruction costs; indirect and general expenses related to such activities
are expensed as incurred. Preconstruction costs include the direct costs of
securing control of the development site, obtaining the requisite certificate of
need and other approvals, as well as the direct costs of preparing for actual
development and construction. The capitalized costs are transferred to
construction in progress as construction begins and transferred to depreciable
asset categories when completed. The Company capitalizes interest directly
related to the development and construction of new facilities as a cost of the
related asset.
F-12
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
(G) GOODWILL
The excess of the purchase price over the fair value of the net assets of
the businesses acquired by the Company is amortized using the straight-line
method over periods ranging from 20 to 40 years. Accumulated amortization of
such costs was approximately $91.7 million and $82.4 million as of December 31,
1999 and 1998, respectively.
(H) IMPAIRMENT OF LONG-LIVED ASSETS
The Company periodically evaluates the carrying value of goodwill along
with other related long-lived assets in relation to the future undiscounted cash
flows of the underlying businesses to assess recoverability in accordance with
Statement of Financial Accounting Standards No. 121 "Accounting for the
Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed Of"
("SFAS 121"). Under SFAS 121, an impairment loss is recognized if the sum of the
expected cash flows is less than the carrying amount of the goodwill and other
long-lived assets being evaluated. The difference between the carrying amount of
the goodwill and other long-lived assets being evaluated and the estimated fair
market value of the assets represents the impairment loss. The Company
determines estimated fair value for the long-lived assets based on anticipated
future cash flows discounted at rates commensurate with the risks involved.
(I) OTHER ASSETS
The accumulated amortization of capitalized debt financing costs was
approximately $4.4 million as of December 31, 1998. Substantially all deferred
debt discounts and issuance costs were expensed as Reorganization costs in 1999
in accordance with SOP 90-7.
(J) ACCRUED SELF-INSURANCE OBLIGATIONS
It is the policy of the Company to self-insure for certain insurable risks,
including general and professional liability, workers' compensation, and
employee health benefits, through the use of self-insurance or retrospective and
high deductible insurance policies and other hybrid policies, which vary by the
states in which the Company operates. Provisions for estimated settlements,
including incurred but not reported losses, are provided in the period of the
related coverage. These provisions are based on internal evaluations of the
merits of individual claims and the reserves assigned by the Company's
independent insurance carriers. The methods of making such estimates and
establishing the resulting accrued liabilities are reviewed frequently, and any
adjustments resulting there from are reflected in current earnings. During 1998,
the Company increased the accrued self-insurance obligations by approximately
$10.0 million primarily related to unfavorable loss development experience for
incurred workers' compensation claims prior to 1998. Claims are paid over
varying periods, which generally range from one to five years. Accrued
liabilities for future claims are not discounted.
F-13
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
(K) SOFTWARE DEVELOPMENT COSTS
The Company, through an indirect, majority owned subsidiary, is internally
developing software that it plans to use in its operations and to market to
unaffiliated long-term care providers. All costs incurred related to the
development of the software have been expensed. Once the Company concludes that
technological feasibility is established, all subsequent development costs will
be capitalized and reported at the lower of unamortized cost or net realizable
value. Software development costs are included in operating expenses in the
accompanying consolidated statements of earnings (losses).
(L) INCOME TAXES
Income tax expense is based on reported earnings before income taxes.
Deferred income taxes reflect the impact of temporary differences between the
amount of assets and liabilities recognized for financial reporting purposes and
such amounts recognized for tax purposes. A valuation allowance is recognized if
it is anticipated that some or all of a deferred tax asset may not be realized.
(M) FOREIGN CURRENCY TRANSLATION ADJUSTMENT
The financial position and results of operations of the Company's foreign
subsidiaries are measured using local currency as the functional currency.
Assets and liabilities of these subsidiaries are translated at the exchange rate
in effect at each year end. Statement of earnings (losses) accounts are
translated at the average rate of exchange prevailing during the year.
Translation adjustments arising from differences in exchange rates from period
to period are included in accumulated other comprehensive income in the
consolidated statements of stockholders' equity (deficit).
(N) STOCK-BASED COMPENSATION
The Company accounts for stock-based compensation using the intrinsic value
method prescribed in Accounting Principles Board Opinion No. 25, "Accounting for
Stock Issued to Employees," and related interpretations. Accordingly,
compensation cost for stock options is measured as the excess, if any, of the
quoted market price of the Company's stock at the date of the grant over the
amount an employee must pay to acquire the stock. Statement of Financial
Accounting Standards No. 123 "Accounting for Stock-Based Compensation"
("SFAS 123") was issued in 1995 and the Company has adopted the disclosure
requirements of SFAS 123. The Company terminated its Directors' restricted stock
plan during October 1999 and terminated its unvested employee restricted stock
awards during January 2000 (see Note 15 - Capital Stock).
(O) NET EARNINGS (LOSSES) PER SHARE
Basic net earnings (losses) per share is based upon the weighted average
number of common shares outstanding during the period.
F-14
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
Diluted net earnings per share in periods of earnings is based upon the
weighted average number of common shares outstanding during the period plus the
number of incremental shares of common stock contingently issuable upon exercise
of stock options and, if dilutive, including the assumption that the Company's
convertible securities were converted as of the beginning of the period. Net
earnings, if conversion of the securities is assumed, is adjusted for the
interest on the debentures, net of interest related to additional assumed
borrowings to fund the cash consideration on conversion of certain convertible
securities and the related income tax benefits. In periods of losses, diluted
net earnings (losses) per share is based upon the weighted average number of
common shares outstanding during the period. The Company's convertible
securities are described in Note 14 - Convertible Trust Issued Preferred
Securities. These securities were not dilutive for the years ended December 31,
1999 and 1998. See Note 16 - Earnings Per Share for calculation of earnings per
share data for the years ended December 31, 1999, 1998 and 1997.
The Company adopted Statement of Financial Accounting Standards No. 128,
"Earnings per Share" in 1997.
(P) ADOPTION OF NEW ACCOUNTING PRONOUNCEMENTS
In 1998, the American Institute of Certified Public Accountants issued
Statement of Position 98-5, "Reporting on the Costs of Start-up Activities"
("SOP 98-5"). This statement requires costs of start-up activities and
organization costs to be expensed as incurred. The statement was effective for
financial statements for fiscal years beginning after December 15, 1998. During
the first quarter of 1999, the Company adopted the provisions of SOP 98-5, which
resulted in a cumulative effect of a change in accounting principle charge of
approximately $12.8 million.
In the first quarter of 1998, the Company adopted Statement of Financial
Accounting Standards No. 130, "Reporting Comprehensive Income" ("SFAS 130").
Comprehensive income is defined as the change in equity of a business during a
period of transactions and other events and circumstances from non-owner
sources. Under SFAS 130, the term "comprehensive income" is used to describe the
total of net earnings plus other comprehensive income, which, for the Company,
includes foreign currency translation adjustments. The Company has presented
comprehensive income in the consolidated statements of stockholders' equity
(deficit).
In 1998, the Company adopted Statement of Financial Accounting Standards
No. 131 "Disclosures about Segments of an Enterprise and Related Information"
("SFAS 131"). SFAS 131 establishes standards for the method that public business
enterprises report information about operating segments in annual financial
statements and requires that those enterprises report selected information about
operating segments in interim financial reports. It also establishes standards
for related disclosures about products and services, geographic areas, and major
customers (see Note 21 - Segment Information).
(Q) NEWLY ISSUED ACCOUNTING PRONOUNCEMENTS
In June 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 133, "Accounting for Derivative Instruments
and Hedging Activities" ("SFAS 133"). Under SFAS 133, all derivatives are
required to be recognized in the balance sheet at fair value. Gains or losses
from changes in fair value would be recognized in earnings in the period of
change unless the derivative is designated as a hedging instrument. In June
1999, the Financial Accounting Standards Board issued Statement of Financial
Accounting Standards No. 137, which amended SFAS 133, delaying its effective
date to fiscal years beginning after June 15, 2000. The Company does not
currently hold any derivative instruments nor does it engage in hedging
activities. The Company does not believe that the new standard will impact its
Consolidated Financial Statements.
F-15
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
(R) FINANCIAL STATEMENT PREPARATION AND PRESENTATION
The preparation of financial statements in conformity with accounting
principles which are generally accepted in the United States requires management
to make estimates and assumptions that affect the reported amounts of assets and
liabilities, the disclosure of contingent assets and liabilities at the date of
the financial statements and the reported amounts of revenues and expenses
during the reporting period. Actual results could differ from those estimates.
Certain amounts in the 1998 and 1997 Consolidated Financial Statements and
notes thereto have been reclassified to conform to the 1999 presentation. The
reclassifications had no effect on net losses, on net earnings or stockholders'
equity balances as previously reported.
(4) RESTRUCTURING COSTS
In the fourth quarter of 1998, the Company initiated a restructuring plan
focused primarily on reducing the operating expenses of its United States
operations. Related to the 1998 corporate restructuring plan, the Company
recorded a 1998 fourth quarter charge of approximately $4.6 million. The 1998
corporate restructuring plan included the elimination of approximately 7,500
positions, primarily in the Company's rehabilitation and respiratory therapy
operations and also included the closure of approximately 70 divisional and
regional offices. The 1998 corporate restructuring charge consists of
approximately $3.7 million related to employee terminations and approximately
$0.9 million related to lease termination costs. As of December 31, 1998, the
Company had terminated 1,440 employees, and paid approximately $1.4 million and
$0.1 million in termination benefits and lease termination costs, respectively.
As of December 31, 1998, the Company's 1998 corporate restructuring costs
reserve balances relating to employee terminations and lease termination costs
were approximately $2.3 million and $0.8 million, respectively. During 1999 the
Company paid approximately $1.1 million relating to employee terminations. As of
December 31, 1999, approximately $1.2 million of the 1998 corporate
restructuring costs reserve balance of approximately $2.0 million is comprised
of prepetition severance accruals that are classified as liabilities subject to
compromise in the Company's consolidated balance sheets. In 1999, the Company's
1998 corporate restructuring plan was substantially complete.
In the first quarter of 1999, the Company initiated a second corporate
restructuring plan focused on further reducing the operating expenses of its
United States operations. Related to the 1999 corporate restructuring plan, the
Company recorded a first quarter charge of approximately $11.4 million. The 1999
corporate restructuring plan included the termination of approximately 3,000
employees, primarily in its rehabilitation and respiratory therapy services
operations. The 1999 restructuring plan also includes the closure of
approximately 23 divisional and regional offices. In addition, the plan included
the relocation of the management of the Company's medical supply subsidiary and
temporary therapy services subsidiary to the Company's corporate headquarters in
Albuquerque, New Mexico. As part of the relocation, the Company terminated 96
employees of these subsidiaries. The 1999 corporate restructuring charge
consisted of approximately $9.1 million related to employee terminations,
approximately $1.4 million related to lease termination costs and $0.9 million
related to asset disposals or write-offs. The amounts paid out during 1999 were
consistent with the charges recorded in 1999. As of December 31, 1999, the
Company's 1999 corporate restructuring plan was complete.
F-16
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
During 1999, the Company recorded financial restructuring costs of
approximately $16.0 million, primarily professional fees, related to the
Company's activities in response to the defaults under the Senior Credit
Facility, the 9 3/8% Subordinated Notes and the 9 1/2% Subordinated Notes and in
preparation for its filing for protection under Chapter 11 of the U.S.
Bankruptcy Code.
(5) ACQUISITIONS
In January 1999, the Company acquired a mobile radiology services business
based in Louisiana and an orthotic products manufacturing and marketing business
based in California. The purchase prices and results of operations of these
businesses are immaterial. During 1999, the Company executed management
agreements for six facilities and executed lease agreements for five facilities
in the United States.
On June 30, 1998, the Company acquired Retirement Care Associates, Inc.
("RCA") and approximately 35% of the common stock of Contour Medical, Inc.
("Contour"), collectively referred to as the RCA Acquisition. RCA was an
operator of skilled nursing facilities and assisted living centers in eight
states, primarily in the southeastern United States. Contour was a national
provider of medical and surgical supplies. RCA owned approximately 65% of
Contour prior to the RCA Acquisition. The Company issued approximately
7.6 million shares of its common stock valued at $122.0 million (based upon the
average closing price of the Company's common stock for 20 business days prior
to the acquisition closing date) for all outstanding common stock and certain
redeemable preferred shares of RCA. In addition, the Company issued
approximately 1.9 million shares of its common stock valued at $27.6 million for
the minority interest in Contour's common stock. The Company also issued 298,334
shares of its Series B Convertible preferred stock, which were subsequently
converted into 287,892 shares of Sun common stock, in exchange for the
outstanding shares of RCA's Series F preferred stock. The Company assumed
approximately $170.4 million of RCA indebtedness.
The RCA Acquisition was accounted for as a purchase with $229.9 million of
goodwill recorded in connection with the transaction. Property, plant and
equipment was recorded at fair value and favorable and unfavorable lease
intangibles were identified. The results of operations of RCA and Contour have
been included in the consolidated statements of earnings (losses) from the
acquisition date. In connection with the purchase, the Company recorded purchase
liabilities including approximately $2.4 million for severance and related costs
and $1.4 million for costs associated with the shut down of certain
administrative facilities. During 1998, the Company paid approximately $1.7
million and $0.3 million for severance related items and the shut down of
certain facilities in connection with the purchase, respectively. As of December
31, 1998, the Company had purchase liabilities of approximately $0.7 million and
$1.1 million related to severance related costs and costs associated with the
shut down of certain facilities. During 1999, the Company paid approximately
$0.7 million and $1.1 million for severance related items and the shut down of
certain facilities in connection with the purchase, respectively. As of December
31, 1999, the Company had no purchase liabilities related to the RCA
acquisition.
F-17
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
In October 1997, the Company acquired the capital stock of Regency Health
Services, Inc. ("Regency"), an operator of skilled nursing facilities and a
provider of related specialty healthcare services, including rehabilitation
therapy, pharmacy and home health services in the United States (the "Regency
Acquisition"). The Regency Acquisition was accounted for as a purchase and the
operating results of Regency have been included in the consolidated statements
of earnings (losses) from the date of acquisition. Total consideration for the
shares acquired was approximately $367.2 million. The total fair value of
Regency's assets acquired, including goodwill of approximately $412.2 million,
was approximately $736.6 million, and liabilities assumed totaled approximately
$354.7 million. In connection with the purchase, the Company recorded purchase
liabilities including approximately $11.2 million for severance and related
costs and $2.0 million for costs associated with the shut down of certain
acquired pharmacies and home health service agencies that have been consolidated
with the Company's existing facilities. As of December 31, 1999, the Company had
no purchase liabilities related to the Regency acquisition.
On October 9, 1997, the Company completed a tender offer for 100%, or
$50.0 million, of Regency's 12.25% Junior Subordinated Notes due 2003 for
approximately $60.1 million plus accrued interest, and $109.6 million of the
$110.0 million of Regency's 9.875% Senior Subordinated Notes due 2002 for
approximately $122.0 million plus accrued interest. As a result of the
repurchase of this debt, the Company recorded an extraordinary loss of
$17.9 million, net of the related tax benefit, in the fourth quarter of 1997.
The Company repaid Regency's revolving credit facility of approximately
$39.0 million. The extinguishment of certain Regency debt during the fourth
quarter of 1997 resulted in an increase in certain reimbursable costs from
Medicare.
The tender offer for Regency's debt, described above, was financed by
borrowings under the Company's Senior Credit Facility and approximately
$83.6 million of net proceeds received from the sale and leaseback of 30
facilities owned by Regency prior to its acquisition by the Company.
The following unaudited proforma results assumes that the RCA Acquisition
and the Regency Acquisition occurred as of January 1, 1997 and include their
results of operations for the years ended December 31, 1998 and 1997 (in
thousands, except per share data):
1998 1997
---- ----
Unaudited Unaudited
Net revenues.............................................................. $3,226,853 $2,761,531
Net losses before extraordinary items..................................... (777,332) (27,232)
Net losses................................................................ (787,605) (47,325)
Per Share Data:
Net losses per share before extraordinary items........................... $ (14.95) $ (0.51)
Net losses per share...................................................... $ (15.14) $ (0.88)
In addition, during 1998, the Company acquired from various third parties
the net ownership of, leasehold rights to, or the management contracts of, two
long-term care facilities in the United States and 15 long-term care facilities
in the United Kingdom. Also, during the year ended December 31, 1998, the
Company acquired nine pharmacies in the United States.
F-18
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
On January 30, 1997, the Company acquired all of the capital stock not
previously owned by the Company of Ashbourne PLC ("Ashbourne") which as of the
date of acquisition provided healthcare services to patients through 49 nursing
facilities in the United Kingdom. Pursuant to the acquisition, the Company paid
approximately L67.3 million ($110.1 million as of the respective dates of
payment) for the portion of Ashbourne totaling 70.8% not previously owned by the
Company. The Company had previously acquired a 9% minority interest for
$10.2 million in 1996 and a 20% minority interest for $25.9 million in 1995. The
acquisition was accounted for as a purchase and Ashbourne's results of
operations have been included in the Company's financial statements from the
date of acquisition. The total fair value of 100% of Ashbourne's assets
acquired, including goodwill of approximately $61.3 million, was approximately
$300.0 million and liabilities assumed totaled approximately $147.7 million.
In July 1997, the Company acquired a majority interest in Eurosar, S.A.
("Eurosar"), a privately owned operator of eight nursing homes in Spain. In
August 1997, the Company acquired 38% of the equity of Alpha Healthcare Limited,
a publicly held acute care provider in Australia. In addition, in November 1997,
Sun acquired from Moran Healthcare Group Pty Ltd. ("Moran") a majority interest
in six hospitals in Australia. In December 1997, the Company acquired a majority
interest in Heim-Plan Unternehmensgruppe ("Heim-Plan"), an operator of 11
nursing homes in Germany.
The effects of the Company's acquisitions during 1999, 1998 and 1997,
excluding the RCA Acquisition and the Regency Acquisition, individually and in
the aggregate, are immaterial to the operating results of the Company and,
therefore, pro forma information is not provided.
(6) PROPERTY AND EQUIPMENT
Property and equipment consists of the following as of December 31 (in
thousands):
1999 1998
---- ----
Land............................................................................ $ 40,486 $ 44,524
Buildings and improvements...................................................... 177,951 263,145
Leasehold improvements.......................................................... 50,498 68,037
Equipment....................................................................... 140,013 126,358
Construction in progress........................................................ 46,549 30,449
Assets held under capital leases................................................ 49,587 109,207
---------------- --------------
Total......................................................................... 505,084 641,720
Less accumulated depreciation................................................... (49,961) (29,130)
Less accumulated amortization on assets held under capital leases............... (8,947) (11,320)
---------------- --------------
Property and equipment, net................................................... $ 446,176 $ 601,270
================ ==============
Amortization of assets held under capital lease agreements of $3.5 million,
$6.1 million and $4.4 million in 1999, 1998 and 1997, respectively, was recorded
in depreciation and amortization expense.
During 1999, the Company sold 11 long-term care facilities in the United
Kingdom for approximately $38.6 million in cash and leased the 11 facilities
back under twelve-year lease terms.
F-19
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
During 1998, the Company sold seven of its long-term care facilities and
land in the United Kingdom for approximately $117.9 million in cash. Five of the
long-term care facilities were leased back to the Company under operating leases
with lease terms ranging from 11 to 20 years.
During 1997, the Company sold 27 of its long-term care facilities in the
United Kingdom for approximately $49.3 million and leased them back under
twelve-year leases. Also during 1997, the Company sold five of its long-term and
subacute care facilities in the United States for approximately $31.2 million in
cash and approximately $5.6 million in assumption of debt and leased them back
under fourteen-year leases.
(7) IMPAIRMENT OF LONG-LIVED ASSETS AND ASSETS HELD FOR SALE
(A) IMPAIRMENT OF LONG-LIVED ASSETS
SFAS 121 requires impairment losses to be recognized for long-lived assets
used in operations when indications of impairment are present and the estimate
of undiscounted future cash flows is not sufficient to recover long-lived asset
carrying amounts. SFAS 121 also requires that long-lived assets held for
disposal be carried at the lower of carrying value or fair value less costs of
disposal, once management has committed to a plan of disposal.
The Balanced Budget Act of 1997 established, among other things, a new
Medicare PPS for skilled nursing facilities. PPS became effective for the
Company's facilities acquired from RCA on July 1, 1998, and for the Company's
remaining facilities on January 1, 1999. The Company's revenues from its
Inpatient Services Division, Rehabilitation and Respiratory Therapy Services
Division and Pharmaceutical and Medical Supply Services Division were
significantly and adversely impacted by the amount of the federally established
reimbursement rates. In the first quarter of 1999, the Company became aware that
these reductions were expected to have a material adverse impact on net revenues
in 1999 and the decline was other than temporary. This served as an indication
to the Company that the carrying values of the long-lived assets of its
Inpatient Services Division, Rehabilitation and Respiratory Therapy Services
Division and its Pharmaceutical and Medical Supply Services Division were
impaired.
During the second quarter of 1999, the Company revised its projections of
future cash flows for its various business units as current operating results
were worse than planned. The significant write-down of goodwill and other
long-lived assets resulted from the continued adverse impact of PPS on the level
of Medicare reimbursement and occupancy and the demand for the Company's
rehabilitation and respiratory therapy and pharmaceutical and medical supply
services. Additionally, certain of the United Kingdom facilities have not
achieved profitability targets established upon their acquisition.
F-20
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
The following is a summary of the impairment loss by segment for the year
ended December 31, 1999 and 1998 (in thousands):
PROPERTY
AND OTHER
GOODWILL EQUIPMENT ASSETS TOTAL
-------- --------- ------ -----
1999:
Inpatient Services................................... $192,459 $ 88,852 $ 13,701 $ 295,012
Rehabilitation and Respiratory Therapy............... 49,529 11,005 11 60,545
Pharmaceuticals and Medical Supply Services.......... 29,133 2,417 - 31,550
International Operations............................. 29,322 31,959 - 61,281
Other Operations..................................... 5,327 1,794 1,940 9,061
------------- --------------- -------------- --------------
$ 305,770 $ 136,027 $ 15,652 $ 457,449
============= =============== ============== ==============
PROPERTY
AND OTHER
GOODWILL EQUIPMENT ASSETS TOTAL
-------- --------- ------ -----
1998:
Inpatient Services................................... $223,241 $ 55,736 $ 14,168 $293,145
Rehabilitation and Respiratory Therapy............... 36,734 60 4,216 41,010
Pharmaceuticals and Medical Supply Services.......... 2,784 233 31 3,048
International Operations............................. 26,520 10,151 - 36,671
Other Operations..................................... 23,590 28 - 23,618
------------- --------------- -------------- --------------
$312,869 $ 66,208 $ 18,415 $ 397,492
============= =============== ============== ==============
(B) ASSETS HELD FOR SALE
The Company recorded a loss of $206.2 million in 1998 to reduce the
carrying amount of the non-core businesses identified for disposal, including
assisted living facilities, rehabilitation hospitals and other inpatient
facilities and other non-core businesses. The fair value of the assets held for
sale was based on estimates of selling value less costs to sell. During 1999,
the Company decided not to divest the rehabilitation hospitals, certain other
inpatient facilities and certain other non-core businesses because the Company
believed that the offers it received for these businesses were not sufficient.
The losses recorded during 1998 of $54.5 million for the rehabilitation
hospitals and other inpatient facilities were reversed and netted against the
loss on sale of assets for the year ended December 31, 1999. The following is a
summary (in thousands) of the carrying amounts of assets held for sale at
December 31, 1999 and 1998 and the loss on sales of assets and assets held for
sale, net for the years ended December 31, 1999 and 1998. The loss on sales of
assets for the year ended December 31, 1999 includes approximately $7.1 million
recorded as a reorganization cost in the Company's Consolidated Statements of
Earnings (Losses).
CARRYING
AMOUNT LOSS, NET
------ ---------
1999 1998 1999 1998
---- ---- ---- ----
Assisted living facilities............................... $ 67,116 $ 110,000 $ 41,667 $ 97,298
Rehabilitation hospitals and other inpatient facilities.. - 57,814 15,132 95,367
Other non-core businesses................................ 3,493 24,633 28,959 13,540
------------- ------------- ------------- ------------
Total.................................................. $ 70,609 $ 192,447 $ 85,758 $ 206,205
============= ============= ============= ============
F-21
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
During the fourth quarter of 1999, the Company divested its hospice
operations in the United States. The Company received cash consideration of
approximately $0.2 million from this transaction. The aggregate net revenues of
the hospice operations were approximately $7.5 million and $9.6 million in 1999
and 1998, respectively. The aggregate net losses before management charges of
the hospice operation were approximately $1.8 and $2.2 in 1999 and 1998,
respectively. The loss on this transaction was approximately $7.2 million.
In October 1999, the Company entered into an agreement to divest certain of
its assisted living facilities in the United States. In December 1999, the
company divested eight assisted living facilities, which it had held a
ten-percent equity interest in. The Company managed these eight facilities until
divesting them in December 1999. The cash consideration received from this
transaction was approximately $3.7 million. In addition, the Company received
parcels of land valued at approximately $9.2 million in this transaction. The
aggregate net loss on this transaction was approximately $31.2 million of which
approximately $15.8 million and $15.4 million was recorded to loss on assets
held for sale, net in 1999 and 1998, respectively.
In addition during December 1999, the Company sold a majority interest in
four assisted living facilities housed on three campuses one of which included a
skilled nursing facility. The Company managed these facilities on behalf of the
purchaser during the first quarter of 2000. The cash consideration received from
this transaction was approximately $0.4 million. The Company also obtained a
note receivable of approximately $1.0 million from the purchaser. The aggregate
debt, capital leases, notes payable and other liabilities assumed by the
purchaser totaled approximately $21.0 million. The aggregate net loss on this
transaction was approximately $37.2 million of which approximately $9.1 million
and $28.1 million was recorded to loss on assets held for sale, net in 1999 and
1998, respectively.
During December 1999, the Company also sold a parcel of land. The cash
consideration received from this transaction was approximately $4.6 million.
This transaction resulted in a gain of approximately $0.7 million.
During 1999, the Company sold three skilled nursing facilities. The Company
did not receive any cash consideration from these sales. The purchasers assumed
secured debt of $10.7 million related to these sales. The aggregate net revenues
of these facilities were approximately $9.5 million and $6.3 million in 1999 and
1998, respectively. The aggregate net operating losses before management charges
were approximately $2.6 million and $2.5 million in 1999 and 1998, respectively.
The Company recorded an aggregate net gain of approximately $6.5 million on
these sales.
During 1999, 11 skilled nursing facility leases expired and were not
renewed. The aggregate net revenues of these facilities were approximately $13.4
million and $25.9 million in 1999 and 1998, respectively. The aggregate net
operating losses before management charges of these facilities were
approximately $0.1 million and $0.2 million in 1999 and 1998, respectively. The
Company recorded an aggregate net loss of approximately $3.8 million primarily
related to the write-off of the carrying amount of building and leasehold
improvements, equipment and goodwill.
F-22
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
During 1999, through mutual agreements with the lessors, the Company
terminated 35 skilled nursing facility leases. The Company recorded an aggregate
net loss of approximately $5.8 million primarily related to the write-off of the
carrying amount of building and leasehold improvements, equipment and goodwill.
The aggregate net revenues of these facilities were approximately $71.6 million
and $105.3 million in 1999 and 1998, respectively. The aggregate net operating
losses before management charges of these facilities were approximately $12.2
million and $3.7 million in 1999 and 1998, respectively.
During the period of January 1, 2000 through May 31, 2000, Sun divested a
total of 18 pharmacies in the United Kingdom, resulting in an aggregate gain of
approximately $1.0 million. The aggregate cash consideration received for these
divestitures was approximately $9.7 million.
The Company is actively reviewing its portfolio of long-term care
facilities and its ancillary operations and intends to divest those facilities
and operations that it believes do not meet acceptable financial performance
standards or do not fit strategically into the Company's operations. This
process is expected to be ongoing at least throughout 2000.
During the first quarter of 2000, the Company entered into an agreement to
sell sixteen assisted living facilities, one of which includes a skilled nursing
facility. See "Note 24 - Subsequent Events."
As of June 30, 2000, the Company intends to divest 49 skilled nursing
facilities. The aggregate net revenues of these facilities were approximately
$186.2 million and $199.2 million in 1999 and 1998, respectively. The aggregate
net operating losses and net gains before management charges were approximately
$6.7 million and $1.5 million in 1999 and 1998, respectively. There can be no
assurance that the Company will be able to divest these facilities, or that if
divested, the Company will not incur significant losses. These intended
divestitures are subject to Bankruptcy Court approval.
During 1998, certain leases were not renewed. In connection with these
lease terminations, the Company recorded a loss of $25.6 million in 1998 related
primarily to the carrying amount of building improvements, equipment and
goodwill related to the facilities. The results of operations of these
facilities is not material.
In May 1997, the Company announced its intent to sell and divest of its
outpatient rehabilitation clinics in the United States and Canada. The carrying
amount of the assets held for sale was $11.6 million and $22.5 million as of
December 31, 1998 and 1997, respectively. The Company completed the sales of the
United States rehabilitation clinics and a portion of the Canadian clinics
during 1998. The remaining Canadian clinics were sold in March 1999. The Company
recorded losses of approximately $2.0 million, $11.4 million and $7.0 million
during 1999, 1998 and 1997, respectively, in order to reduce the carrying value
of the Canadian operations to fair value based on revised estimates of selling
value less costs to sell. The results of operations of these businesses is not
material.
In the second quarter of 1998, the Company recognized a $5.4 million loss
in connection with the anticipated sale of five nursing homes, and for certain
adjustments paid to the purchaser of three nursing homes sold in 1996.
F-23
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
(8) DEBTOR-IN-POSSESSION FINANCING
On October 14, 1999, the Company entered into a Revolving Credit Agreement
with CIT/Business Credit, Inc. and Heller Healthcare Finance, Inc.
(collectively, the "DIP Lenders") to provide the Company with up to $200 million
in debtor-in-possession financing. The Bankruptcy Court granted final approval
of the DIP Financing Agreement on November 12, 1999. The DIP Financing Agreement
provides for maximum borrowing by the Company equal to the sum of (i) up to 85%
of the then outstanding domestic eligible accounts receivable and (ii) the
lesser of $10 million or 50% of the aggregate value of eligible inventory. The
DIP Financing Agreement matures on October 14, 2001. Fees and expenses of $4.25
million were paid under this agreement in 1999 and are being amortized to
operations over one year.
Interest accrues on the principal amount outstanding under the DIP
Financing Agreement at a per annum rate of interest equal to the Alternate Base
Rate ("ABR") (Chase Manhattan) plus 0.25% or the London International Borrowing
Offer Rate ("LIBOR") plus 2.75% and is payable in arrears on each Interest
Payment Date. The one-month LIBOR was approximately 5.8% at December 31, 1999
and 6.5% at May 31, 2000. In the event of an Event of Default, interest accrues
on the principal amount of the loans outstanding at a rate per annum equal to
the ABR plus 2.00% and is payable daily. The ABR was approximately 8.6% at
December 31, 1999 and 9.3% at May 31, 2000.
The obligations of the Company under the DIP Financing Agreement are
jointly and severally guaranteed by each of the other Company debtors pursuant
to the agreement. Under the terms of the agreement, the obligations of the DIP
Lenders under the agreement (the "DIP Obligations") constitute allowed
super-priority administrative expense claims pursuant to Section 364(c) of the
Bankruptcy Code (subject to a carve-out for certain professional fees and
expenses incurred by the Company Debtors). The DIP Obligations are secured by
perfected liens on all or substantially all of the assets of the Company Debtors
(excluding bankruptcy causes of action), the priority of which liens (relative
to prepetition creditors having valid, non-avoidable, perfected liens in those
assets and to any "adequate protection" liens granted by the Bankruptcy Court)
is established in the Initial Company DIP Order and the related cash collateral
ordered entered by the Bankruptcy Court (the "Initial Company Cash Collateral
Order"). The Bankruptcy Court has also granted certain prepetition creditors of
the Company Debtors replacement liens and other rights as "adequate protection"
against any diminution of the value of their existing collateral in which such
creditors had valid non-avoidable and perfected liens as of the Petition Date.
The discussion contained in this paragraph is qualified in its entirety by
reference to the Interim Company DIP Order and the Initial Company Cash
Collateral Order, and reference should be made to such orders, which are
available from the Bankruptcy Court, for a more complete description of the
terms.
The Company's DIP Financing Agreement contains customary representations,
warranties, and covenants of the Company Lenders, as well as certain financial
covenants relating to minimum earnings before income taxes, depreciation and
amortization (EBITDA), maximum capital expenditures, and minimum patient census.
The breach of any such representations, warranties, or covenants, to the extent
not waived or cured within any applicable grace or cure periods, could result in
the Company being unable to obtain further advances under the DIP Financing
Agreement or the exercise of remedies by the DIP lenders, either of which
occurrence could materially impair the ability of the Company to successfully
reorganize in chapter 11.
F-24
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
At May 31, 2000, approximately $132.0 million was available under the DIP
Financing Agreement. Letters of credit of approximately $19.1 million were
outstanding under the facility as of May 31, 2000. Peak borrowings under the
agreement during 1999 were approximately $56.7 million with an effective
interest rate during the year of approximately 8.8%.
The DIP Financing Agreement provides that the Company must comply with
certain financial covenants which include a limitation on capital expenditures
and a minimum amount on the last day of each month of EBITDA. The following is a
brief summary of the limitations on capital expenditures and the minimum
specified month end requirement for EBITDA.
Capital Expenditures Aggregate Limitations on Corporate Headquarters:
$3,000,000 For the period October 14, 1999 to December 31, 1999
$6,000,000 During fiscal 2000 and for each fiscal year until
maturity
Capital Expenditures on Domestic Healthcare Facilities:
$12,900,000 For the period October 14, 1999 to December 31, 1999
$49,300,000 During fiscal 2000 and for each fiscal year until
maturity
Minimum cumulative EBITDA at Month End:
October 1999 $ 2,500,000
November 1999 $ 3,600,000
December 1999 $ 5,700,000
January 2000 $11,900,000
February 2000 $14,300,000
March 2000 $21,000,000
April 2000 $24,700,000
May 2000 $30,900,000
June 2000 $36,100,000
July 2000 $43,700,000
August 2000 $52,900,000
September 2000 $58,200,000
October 2000 $64,100,000
November 2000 $68,700,000
December 2000 $73,000,000
It would be an event of default if cumulative EBITDA for any continuous
twelve-month period beginning with or after January 2001 is less than
$73,000,000.
F-25
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
The Company was not in compliance with the EBITDA financial covenant at
December 31, 1999 and in each of the months for the period ended May 31, 2000.
The Company was also not in compliance with the DIP Financing Agreement because
the Company did not timely provide the DIP Lenders with financial statements for
the year ended December 31, 1999 and the quarter ended March 31, 2000. The
Company obtained a conditional waiver of these defaults in July 2000. The DIP
Lenders have agreed to waive the defaults subject to, among other things, the
Company and the DIP Lenders entering into an amendment of the DIP Financing
Agreement to modify the cumulative EBITDA covenant and the payment to the DIP
Lenders of a $250,000 fee to enter into the amendment, both of which will
require the approval of the Bankruptcy Court.
(9) LONG-TERM DEBT
As a result of the chapter 11 filing, substantially all short and long-term
debt at the Filing Date of October 14, 1999, were classified as "Liabilities
subject to compromise" in the Company's consolidated balance sheets in
accordance with SOP 90-7. No principal has been paid or interest accrued on
prepetition obligations since the Filing Date, except for amounts related to
certain Industrial Revenue Bonds, a fully-secured mortgage, certain capital
equipment leases and a nominal amount related to a promissory note.
Under the Bankruptcy Code, actions against the Company to collect
prepetition indebtedness are subject to an automatic stay provision.
Additionally, the Company may elect to assume or reject real estate leases,
employment contracts, personal property leases, service contracts and other
unexpired executory prepetition contracts subject to Bankruptcy Court approval.
F-26
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
Long-term debt at December 31 consisted of the following (in thousands):
1999 1998
---- ----
DIP Financing Agreement................................................................. $ 12,126 $ -
Senior Credit Facility:
Revolving Credit Facility (see below)................................................... 411,137 (1) 360,100
Credit Facility Term Loans (see below).................................................. 375,115 (1) 385,473
RCA Line of Credit (see below).......................................................... - 15,000
9 3/8% Senior Subordinated Notes due 2008............................................... 150,000 (1) 150,000
9 1/2% Senior Subordinated Notes due 2007............................................... 250,000 (1) 250,000
Convertible Subordinated Debentures due 2004, interest at 6.0% per annum................ 83,300 (1) 83,300
Convertible Subordinated Debentures due 2003, interest at 6 1/2% per annum, includes
unamortized premium of $1,899 as of December 31, 1998................................. 1,382 (1) 22,564
Senior Subordinated Notes due 2002, interest at 11 3/4% per annum, includes unamortized
premium of $96 as of December 31, 1998................................................ 6,161 (1) 6,257
Mortgage notes payable due at various dates through 2014, interest at rates from 8.0%
to 11.42%, collateralized by various facilities....................................... 63,578 (2) 40,041
Mortgage notes payable in Spanish pesetas due at various dates through 2017,
interest at rates from 4.97% to 14.0%, collateralized by various facilities in Spain.. 13,977 16,268
Mortgage notes payable in pound sterling due at various dates in 2015 and 2016,
interest at 9.50% per annum, collateralized by various facilities in the United 4,795 5,227
Kingdom...............................................................................
Mortgage notes payable in German marks due at various dates through 2003, interest
at rates from 6.25% to 6.75%, collateralized by various facilities in Germany......... 6,899 8,148
Mortgage notes payable in Australian dollars due at various dates through 2001,
interest from 7.6 % to 8.04% collateralized by various facilities in Australia........ 13,841 6,394
Revolving lines of credit with a bank due at various dates through 2000, payable in.
pounds sterling, interest rates of 6.4% and variable rates from 1.0% to 3.0% over the
Finance House Base Rate, collateralized by the assets of various facilities............. 4,901 4,899
Industrial Revenue Bonds................................................................ 63,660 (3) 83,919
Other long-term debt.................................................................... 41,604 (4) 80,684
---------------- ---------------
Total long-term debt.................................................................... 1,502,476 1,518,274
Less long-term debt subject to compromise............................................... (1,356,935) -
Less amounts due within one year........................................................ (44,776) (50,378)
Less amounts in non-compliance classified as current.................................... - (762,243)
---------------- ---------------
Long-term debt, net of current portion................................................. $ 100,765 $ 705,653
================ ===============
Long-term debt at December 31, 1999, includes one fully secured mortgage
note payable, certain Industrial Revenue Bonds and other debt of which
approximately $52.7 million was assumed by the purchaser in a Bankruptcy Court
approved sales transaction subsequent to year end and the Company's foreign debt
obligations.
(1) Classified as liabilities subject to compromise in the Company's
consolidated balance sheets.
(2) Approximately $47,703 classified as liabilities subject to compromise in
the Company's consolidated balance sheets.
F-27
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
(3) Approximately $10,935 classified as liabilities subject to compromise in
the Company's consolidated balance sheets.
(4) Approximatley $21,200 classified as liabilities subject to compromise in
the Company's consolidated balance sheets.
The scheduled maturities of long-term debt (not including that which is
subject to compromise) as of December 31, 1999 is as follows (in thousands):
2000............................................... $ 44,776
2001............................................... 19,572
2002............................................... 3,422
2003............................................... 3,647
2004............................................... 3,828
Thereafter......................................... 70,296
----------------------
$ 145,541
======================
Included in the information above, is approximately $52.7 million of
Industrial Revenue Bonds and other debt which was assumed subsequent to year end
by the purchaser in a Bankruptcy Court approved sales transaction.
In October 1997, the Company entered into a credit agreement with certain
lenders, certain co-agents, and NationsBank of Texas, N.A. as administrative
lender to replace the Company's prior revolving credit facility. On October 30,
1998, the Company entered into a fourth amendment to the credit agreement (the
"Senior Credit Facility"). The Senior Credit Facility initially provided for
borrowings by the Company of up to $1,200.0 million consisting of $500.0 million
in a revolving credit facility which borrowings bear interest at the prevailing
prime rate plus 0.0% to 1.0% or the LIBOR rate plus 0.75% to 2.50%, and $700.0
million in term loans which bear interest at the prevailing prime rate plus 0%
to 1.5%. In May 1998, the Company permanently reduced the Senior Credit Facility
Term Loans by $300.0 million with a portion of the net proceeds from the
offerings of the 7% Convertible Trust Issued Preferred Securities (see Note 14 -
Convertible Trust Issued Preferred Securities) and the 9 3/8% Notes. As a result
of the paydown, the Company recorded an extraordinary loss of approximately
$10.3 million, net of income tax benefit of approximately $3.7 million.
At December 31, 1998, the Company was not in compliance with its Senior
Credit Facility, which would have allowed the Lenders to require repayment of
all amounts outstanding under the Senior Credit Facility. As a result, the
Company classified all borrowings under the Senior Credit Facility as current
liabilities in the Company's consolidated balance sheet as of December 31,
1998.
Prior to the RCA Acquisition, RCA entered into a Revolving Line of Credit
Agreement ("RCA Line of Credit") with Healthcare Financial Partners ("HCFP")
that provided for borrowings by RCA of up to $15.0 million, with interest at the
prevailing prime rate plus 1% to 2% (9.75% at December 31, 1998) and maturity in
2001. The RCA Line of Credit was paid off during October 1999.
F-28
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
The Company had approximately $31.9 million of mortgages with Meditrust
(certain Mortgage Notes) as of December 31, 1998, that contain less restrictive
covenants and include cross-default provisions with all other mortgages and
leases also financed by Meditrust. The Meditrust mortgages were in
non-compliance as of December 31, 1998, because the Company did not meet the
fixed charge ratio of at least 1.25 to 1. Because the Company was in
non-compliance with the terms of the mortgages, the amounts owed under the
mortgages were classified as a current liability as of December 31, 1998. The
Company also has 36 facility leases with Meditrust which are in default due to
cross-default provisions with the Meditrust mortgages and leases.
In May 1998, the Company entered into certain interest rate swap
transactions with an aggregate notional value of $850.0 million to minimize the
risks and/or costs associated with certain long-term debt of the Company. The
Company does not otherwise utilize financial instruments for trading or other
speculative purposes. The interest rate swap transactions were designated as
hedges for accounting purposes. The amounts to be paid or received were accrued
and recognized as an adjustment to interest expense. On April 9, 1999, the
interest rate swap transactions were terminated due to an event of default
relating to the Company's non-compliance with certain covenants contained in the
Senior Credit Facility. The termination resulted in a pre-tax charge of
approximately $2.5 million in 1999.
The Company has outstanding letters of credit primarily under its
prepetition credit facilities of approximately $46.2 million as of December 31,
1999. As of May 31, 2000, the Company had issued approximately $19.1 million in
letters of credit under the DIP Financing Agreement.
(10) COMMITMENTS AND CONTINGENCIES
(A) PREPETITION ACCOUNTS RECEIVABLE
In certain instances, the collection of amounts from non-affiliated
facilities for therapy ancillary services provided to them by the Company has
slowed because payment is primarily dependent upon such facilities' receipt of
payment from fiscal intermediaries. In addition, fiscal intermediaries of
long-term care facilities acquired by the Company are changed to the Company's
fiscal intermediary, resulting in temporary delays in timing of third-party
payments. Pursuant to an agreement between the Company and the Department of
Health and Human Services (the "HHS"), all Medicare payments due to the Company
for services rendered prior to October 14, 1999 (pre-bankruptcy), and not
previously paid to the Company, will be withheld until the confirmation of a
plan of reorganization. At such time, the Company could file a motion in the
Bankruptcy Court seeking an adjudication of such funds if the Company believes
that such funds exceed the claims that the HHS has against the Company. As of
February 29, 2000, the Company estimated that it had net Medicare accounts
receivable of approximately $74.5 million that were being withheld by the HHS
pursuant to this agreement. It is unlikely that the Company will recover any of
these receivables because it is likely the HHS will claim more than such amount.
Payment of amounts due to the Company by the HHS for services provided on or
after October 14, 1999 (post-bankruptcy) are largely unaffected by the Company's
bankruptcy cases. However, if it is determined that there is a pre-bankruptcy
overpayment to the Company that is subject to offset against post-bankruptcy
payments due to the Company or previously made to the Company, the HHS may seek
to have such payments treated as an administrative expense claim and withhold
such amounts if not already paid. If the amounts have been previously paid to
the Company, the Company would have to return such funds to the HHS upon the
occurrence of certain events, including the confirmation of a plan of
reorganization.
F-29
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
(B) LEASE COMMITMENTS
The Company leases real estate and equipment under cancelable and
noncancelable agreements. Under the Bankruptcy Code, the Company may elect to
assume or reject executory contracts, including lease agreements subject to
Bankruptcy Court approval. As of December 31, 1999, the Company had not rejected
any material lease agreements since the Filing Date. Future minimum lease
payments under noncancelable leases as of December 31, 1999 are as follows (in
thousands):
CAPITAL OPERATING
LEASES LEASES
------ ------
2000...................................................................... $ 11,649 $ 219,420
2001...................................................................... 10,698 211,369
2002...................................................................... 9,028 208,497
2003...................................................................... 8,517 203,173
2004...................................................................... 9,111 193,738
Thereafter................................................................ 242,223 918,298
----------------- -----------------
Total minimum lease payments.............................................. 291,226 $ 1,954,495
=================
Less amount representing interest......................................... (205,948)
-----------------
Present value of net minimum lease payments under capital leases.......... $ 85,278
=================
Included in the information above, is approximately $8.3 million of capital
leases that were assumed subsequent to year end by the purchaser in a Bankruptcy
Court approved sales transaction.
Rent expense under operating leases totaled approximately $267.5 million,
$251.3 million, and $143.9 million in 1999, 1998 and 1997, respectively. As of
December 31, 1999, the Company leases or subleases 52 facilities from affiliates
of two directors of the Company, one of whom resigned during 1999, which are
included in the information above. The aggregate lease expense for these 52
facilities and an additional 11 facility leases with affiliates which were
terminated during 1999 was approximately $20.3 million, $21.0 million and $20.2
million in 1999, 1998 and 1997, respectively. Future minimum lease commitments
related to the facilities the Company leases from affiliates of the existing
director total approximately $5.9 million at December 31, 1999. The Company's
management believes the terms of all of the foregoing leases are as favorable to
the Company as those that could have been obtained from non-related parties. As
of December 31, 1999 and 1998, the Company was in non-compliance with financial
covenants contained in master lease agreements for certain long-term care
facilities in the United States and the United Kingdom. The Company was also in
cross-default on some of its long-term care facilities in the United States. As
a result, the lessors under the master lease agreements have certain rights,
including the right to require that the Company relinquish the leased
facilities. The ability to exercise these rights under the master lease
agreement in the United States is subject to the jurisdiction of the Bankruptcy
Court.
F-30
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
(C) INSURANCE
In the past, the Company has insured certain risks, including general and
professional liability, workers' compensation, and employee health benefits,
through the use of self-insurance, retrospectively rated premium, high
deductible and other hybrid policies which vary by the states in which the
Company operated. The Company's insurance carriers declined to renew the
Company's high deductible general and professional liability insurance policies
that expired on December 31, 1999. In the recent past, these carriers have paid
substantially more to third parties under the policies than the Company paid in
premiums, which the Company believes was prevalent throughout the nursing home
industry. Consequently, several major insurance companies are no longer
providing this type of coverage to long-term care providers.
In January 2000, the Company established a self-funded insurance program
for general and professional liability claims up to a base amount of $1.0
million per claim, and $3.0 million aggregate per location, and obtained excess
insurance for coverage above these levels. There can be no assurance that this
self-funded insurance program for 2000 will not have a material adverse impact
on the Company's financial condition and results of operations or that the
Company will not be required to continue this program in future years.
Prior to January 1, 2000, the maximum loss exposure with respect to the
third-party insurance policies was $100,000 per claim for general and
professional liability. The aggregate annual loss exposure with respect to the
general and professional liability policies was limited to $8.0 million in 1998
and $1.0 million in 1997. In 1999 there was an unlimited aggregate loss exposure
under the per claim retention on these types of claims. An actuarial analysis
determined the expected losses under this retention level to be approximately
$13.6 million in 1999. Annual reviews of the actuarial determinations will be
performed to determine variations from this expected number and any adjustments
made to provisions at that time. Provisions for estimated settlements for
general and professional liability under the per claim retention level,
including incurred but not reported losses, are provided on an undiscounted
basis in the period of related coverage. The reserve for such risks is
approximately $22.8 million and $8.4 million as of December 31, 1999 and 1998,
respectively. Provisions for such risks were approximately $23.9 million, $14.6
million, and $4.2 million for the years ended December 31, 1999, 1998 and 1997,
respectively, and are included in operating expenses and corporate general and
administrative expenses.
For the years ended December 31, 1998 and 1999, the workers' compensation
insurance was guaranteed cost and thus after payment of the premium in those
years, risk was fully transferred to the third party insurance carrier. For the
year 2000, the Company purchased workers' compensation insurance for all states
except Washington, Ohio, and West Virginia, where the Company is required to
subscribe to those state and/or self-insured programs. The 2000 policy provides
coverage above $250,000 per claim. An actuarial analysis of losses at this
retention amount was completed and the expected losses are being funded on a
quarterly basis in full during 2000. Total expected losses and costs under this
retention level were determined to be approximately $30.0 million. For years
prior to 1998 in which the Company carried various forms of workers'
compensation insurance as described above, aggregate losses are provided on a
fully developed basis, including any incurred but not reported claims. The
reserve for such risks is approximately $25.9 million and $26.2 million as of
December 31, 1999 and 1998, respectively. Provisions for such risks totaled
approximately $30.9 million, $27.8 million and $14.3 million for the years ended
December 31, 1999, 1998 and 1997, respectively, and are included in operating
expenses and corporate general and administrative expenses.
F-31
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
(D) CONSTRUCTION COMMITMENTS
As of December 31, 1999, the Company had construction commitments under
various contracts of approximately $7.2 million in the United States. These
include contractual commitments to improve existing facilities and to develop,
construct and complete a corporate office building and a long-term care
facility. The Company's foreign operations did not have any construction
commitments as of December 31, 1999.
(E) LITIGATION
The Company is a party to various legal actions and administrative
proceedings and subject to various claims arising in the ordinary course of
business (see Note 18(a), Other Events - Litigation).
(11) INCOME TAXES
Income tax expense (benefit) on earnings (losses) before extraordinary loss
consists of the following for the year ended December 31 (in thousands):
1999 1998 1997
---- ---- ----
Current:
Federal........................................................... $ (4,913) $ 10,009 $ 18,441
State............................................................. 120 6,470 5,918
Foreign........................................................... 41 (323) -
---------------- -------------- -------------
(4,752) 16,156 24,359
---------------- -------------- -------------
Deferred:
Federal........................................................... 4,076 19,653 15,464
State............................................................. 837 19,926 3,190
Foreign........................................................... - (2,158) (1,860)
---------------- -------------- -------------
4,913 37,421 16,794
---------------- -------------- -------------
Total............................................................. $ 161 $ 53,577 $ 41,153
================ ============== =============
F-32
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
Actual tax expense differs from the "expected" tax expense on earnings
(losses) before extraordinary loss, computed by applying the U.S. Federal
corporate income tax rate of 35% to earnings (losses) before income taxes and
extraordinary loss of the Company as follows for the year ended December 31 (in
thousands):
1999 1998 1997
---- ---- ----
Computed "expected" tax (benefit) expense......................... $ (381,254) $ (241,445) $ 33,559
Adjustments in income taxes resulting from:
Amortization of goodwill........................................ 5,036 9,439 3,765
Impairment loss................................................. 94,978 89,333 -
Increase in valuation allowance................................. 311,708 115,478 2,450
Loss on sale of subsidiary stock................................ - 4,340 -
Legal and regulatory matters.................................... - 5,847 -
Loss (loss reversal) on planned asset dispositions.............. (21,236) 59,714 -
State income tax expense, net of Federal income tax benefit..... (12,863) 4,044 3,041
Other........................................................... 3,792 6,827 (1,662)
---------------- ---------------- --------------
$ 161 $ 53,577 $ 41,153
================ ================ ==============
F-33
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
Deferred tax assets (liabilities) were comprised of the following as of
December 31 (in thousands):
1999 1998
---- ----
Deferred tax assets:
Accounts and notes receivable............................................... $ 78,117 $ 18,644
Accrued liabilities......................................................... 54,002 42,015
Property and equipment...................................................... 100,928 26,445
Intangible assets........................................................... 76,938 39,945
Carryforward of deductions limited by Internal Revenue Code Section 382..... 6,250 6,250
Write-down of assets held for sale.......................................... 13,591 13,862
Deferred income............................................................. 1,118 1,565
Shareholder settlement...................................................... - 1,980
Partnership investments..................................................... 5,505 -
Alternative minimum tax credit.............................................. 5,712 4,411
Jobs and other credit carryforwards......................................... 6,075 5,454
Capital loss carryforwards.................................................. 4,127 4,023
Federal net operating loss carryforwards.................................... 126,844 2,202
State net operating loss carryforwards...................................... 25,609 10,256
United Kingdom trading loss carryforwards................................... 12,911 13,371
United Kingdom capital loss carryforwards................................... 1,238 5,013
Property and equipment attributable to United Kingdom operations............ 4,175 -
Other....................................................................... 4,157 1,844
--------------- ----------------
527,297 197,280
--------------- ----------------
Less valuation allowance:
Federal..................................................................... (420,215) (140,680)
State....................................................................... (85,064) (27,616)
United Kingdom.............................................................. (20,072) (12,865)
--------------- ----------------
(525,351) (181,161)
--------------- ----------------
Total deferred tax assets..................................................... 1,946 16,119
--------------- ----------------
Deferred tax liabilities:
Property and equipment attributable to United Kingdom operations............ - (3,529)
Partnership investments..................................................... - (2,701)
Changes in certain subsidiaries' methods of accounting for income taxes (1,936) (1,899)
Other....................................................................... (10) (1,990)
--------------- ----------------
(1,946) (10,119)
--------------- ----------------
Deferred tax asset, net....................................................... $ - $ 6,000
=============== ================
F-34
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
The Company and subsidiaries have Federal net operating loss ("NOL")
carryforwards of $362.4 million with expiration dates from 2004 through 2019.
Various subsidiaries have state NOL carryforwards totaling $609.3 million with
expiration dates through the year 2019. In addition, the Company has capital
loss carryforwards of approximately $11.8 million, of which $4.5 million will
expire in 2001 and $7.3 million will expire in 2004. United Kingdom trading loss
carryforwards of $43.0 million and the alternative minimum tax credit
carryforwards of $5.7 million have no expiration dates. The $6.1 million of
other tax credit carryforwards will expire in years 2000 through 2019. A
compromise of debt resulting from an approved plan of reorganization is likely
to result in a significant reduction in these tax loss and tax credit
carryforwards. In addition, a change in ownership in an approved plan of
reorganization could materially impact the Company's ability to utilize any
remaining tax loss and tax credit carryforwards.
In 1999 and 1998, the Company increased the valuation allowance by $311.7
million and $115.5 million, respectively, to fully reserve for deferred tax
assets which may not be realized. The Company recorded a $5.7 and a $5.2 million
valuation allowance in 1998 and 1997, respectively, related to the deferred tax
assets acquired in the acquisition of Regency. The Company recorded a $32.5
million and a $11.2 million valuation allowance in 1999 and 1998, respectively,
related to the deferred tax assets acquired in the RCA acquisition. Tax benefits
recognized in future periods attributable to the portions of the valuation
allowance established in connection with purchase accounting for acquisitions
(totaling $82.8 million) will be allocated to reduce goodwill recorded in
connection with these acquisitions.
(12) SUPPLEMENTARY INFORMATION RELATING TO STATEMENTS OF CASH FLOWS
Supplementary information for the consolidated statements of cash flows is
set forth below for the year ended December 31 (in thousands):
1999 1998 1997
---- ---- ----
Cash paid during the year ended December 31 for:
Interest, net of $1,124, $1,792 and $2,023 capitalized during
1999, 1998 and 1997, respectively................................ $ 49,710 $ 143,850 $ 68,614
Income taxes....................................................... (47,974) 23,869 8,553
The Company's acquisitions during 1999, 1998 and 1997 involved the
following for the year ended December 31 (in thousands):
1999 1998 1997
---- ---- ----
Fair value of assets acquired................................ $ 6,781 $ 578,333 $1,159,012
Liabilities assumed.......................................... (1,050) (356,268) (613,988)
Cash payments or payables to former APTA shareholders........
- - 19,300
Fair value of stock and warrants issued...................... - (161,424) (190)
---------------- ---------------- ----------------
Cash payments made, net of cash received from others......... $ 5,731 $ 60,641 $ 564,134
================ ================ ================
F-35
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
(13) FAIR VALUE OF FINANCIAL INSTRUMENTS
The estimated fair values of the Company's financial instruments as of
December 31 are as follows (in thousands):
1999 1998
---- ----
CARRYING CARRYING
AMOUNT FAIR VALUE AMOUNT FAIR VALUE
------ ---------- ------ ----------
Cash and cash equivalents.......................... $ 25,047 $ 25,047 $ 27,504 $ 27,504
Long-term debt including current portion and amounts
subject to compromise:
Practicable to estimate fair value............... 1,502,476 539,536 1,251,437 1,088,178
Not practicable to estimate fair value........... - - 266,837 -
Convertible Trust Issued Preferred Securities...... 344,119 - 345,000 144,900
The cash and cash equivalents carrying amount approximates fair value
because of the short maturity of these instruments. The fair value of the
Company's long-term debt, including current maturities and amounts subject to
compromise, and the Convertible Trust Issued Preferred Securities was estimated
based on quoted market prices and information received from an international
investment banking firm that is experienced with such securities.
(14) CONVERTIBLE TRUST ISSUED PREFERRED SECURITIES
In May 1998, a statutory business trust, all of whose common securities are
owned by the Company, issued $345.0 million of 7.0% convertible trust issued
preferred securities due 2028 (the "CTIPS") with a liquidation amount of $25 per
CTIP. Each CTIP is convertible into 1.2419 shares of the Company's common stock
(equivalent to a conversion price of $20.13 per share). The CTIPS holders were
entitled to receive cumulative cash distributions at an annual rate of 7.0%,
payable quarterly. Payment of the cash distributions and principal are
irrevocably guaranteed by the Company. Sun may defer cash distribution for up to
20 consecutive quarters. Beginning with the interest payment due on May 1, 1999,
Sun exercised its right to defer cash distributions. As cash distributions are
deferred, dividends on the CTIPS will continue to accrue. In 1999, accrued and
deferred interest was approximately $17.3 million. The agreement in principle
discussed in Note 2 provides that holders of CTIPS would not receive any
recovery under the plan of reorganization. During 1999, $.88 million of CTIPS
were converted into approximately 1.1 million shares of common stock with a par
value of approximately $.01 million, resulting in an increase of approximately
$0.9 million in additional paid-in capital.
(15) CAPITAL STOCK
(A) COMMON STOCK REPURCHASE
In 1999, 1998 and 1997, the Company repurchased 88,115, 71,661 and 23,091
shares of its outstanding common stock at a cost of approximately $0.4 million,
$1.4 million and $0.5 million, respectively. Certain executive officers of the
Company delivered the shares to the Company, at the fair market value of the
stock, in order to pay withholding taxes incurred upon the vesting of previously
granted restricted stock.
F-36
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
(B) STOCK OPTION PLANS
STOCK INCENTIVE PLANS
The Company has stock incentive plans for certain employees, officers, and
consultants of the Company. Awards made under the plan may be in the form of
stock options, stock appreciation rights, stock awards, performance share awards
or other stock-based awards. A committee appointed by the Board of Directors
determines the vesting schedule and the option price, which is generally not to
be less than the fair market value per share of the Company's common stock at
the date of grant. Options granted prior to March 1996 generally vested at the
end of three years and expire ten years from the date of grant. Options granted
during and after March 1996 generally vest ratably over three years and expire
ten years from the date of grant.
In May 1999, the Company offered holders of certain employee stock options
the right to exchange outstanding stock options for new stock options. The new
stock options cause the holders to receive fewer shares of the Company's common
stock, but the exercise price for these new stock options is lower than the
exercise price for the old stock options. These new stock options are subject to
a three-year vesting schedule and will be accounted for as variable options.
As of December 31, 1999, options for 1,279,450 shares were outstanding,
options for 532,983 shares were vested and no shares were available for future
grant under the stock incentive plans. Exercise prices of the Company's
outstanding stock options range from $1.06 to $24.00.
In connection with the RCA Acquisition, the Company issued 948,772 Sun
common stock options in exchange for outstanding RCA and Contour stock options.
As of December 31, 1999 and 1998, options for 6,562 and 349,852 shares,
respectively, were outstanding and vested. Exercise prices of these outstanding
stock options range from $7.85 to $19.34 per share.
In 1997, the Company awarded 783,000 shares of restricted stock to ten
executives and in 1998 the Company awarded 14,000 shares of restricted stock to
one executive. No restricted stock awards were made in 1999. The related
compensation expense associated with these awards was recognized ratably over
the vesting period of four to five years. During January 2000, all unvested
restricted shares held by employees were cancelled and rescinded.
DIRECTOR STOCK PLANS
The Company had stock plans for nonemployee directors, which provided for
grants of nonqualified options and stock awards. Beginning in 1997, nonemployee
directors generally received an annual grant of options for 4,000 shares at a
price not less than fair market value of the Company's common stock at the date
of grant and an annual grant of 2,000 restricted stock awards. All awards vest
ratably over the three succeeding annual meetings of stockholders and stock
option awards expire ten years after the date of grant. No vesting occurred
during 1999, as an annual meeting was not held during 1999. Exercise prices of
outstanding options to purchase shares of common stock range from $9.50 to
$21.88. During the year ended 1998, the Company awarded 21,222 shares of
restricted stock to nonemployee directors, which were expensed over the vesting
period. No awards of restricted stock were made in 1999. As of December 31,
1999, options for 93,000 shares were outstanding and options for 38,415 shares
have vested. This plan was terminated in 2000.
F-37
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
The following is a summary of the status of the Company's Stock Incentive
Plans, the Director Stock Plans and assumed option plans from acquisitions as of
December 31, 1999, 1998, and 1997, and changes during the years ending on those
dates (shares in thousands):
1999 1998 1997
---------------------------- ----------------------------- ----------------------------
WEIGHTED WEIGHTED WEIGHTED
AVERAGE AVERAGE AVERAGE
SHARES EXERCISE PRICE SHARES EXERCISE PRICE SHARES EXERCISE PRICE
------ -------------- ------ -------------- ------ --------------
Outstanding at beginning of year 4,748 $16.75 3,339 $16.90 3,348 $15.91
Granted:
Price equals fair value.......... 910 1.91 2,781 15.54 814 18.06
Exercised.......................... - - (37) 13.96 (487) 11.25
Cancelled.......................... (4,290) 15.92 (1,335) 14.44 (336) 17.28
--------- ---------- ----------
Outstanding at year-end............ 1,368 9.00 4,748 16.75 3,339 16.90
========= ========== ==========
Options exercisable at year-end 591 15.01 2,334 17.17 1,210 17.25
========= ========== ==========
Options available for future grant 10,393 7,013 3,950
========= ========== ==========
Weighted average fair value of
options granted during the year $1.00 $8.02 $5.89
========= ========== ==========
The fair value of each option granted in 1999, 1998 and 1997 is estimated
at the date of grant using the Black-Scholes option pricing model with the
following weighted-average assumptions:
1999 1998 1997
---- ---- ----
Expected Life (in years).......................... 4 4 4
Risk-free Interest Rate........................... 5.41% 5.50% 6.26%
Expected Volatility............................... 76% 66% 42%
Dividend Yield.................................... - - -
Had compensation cost for the Company's 1999, 1998 and 1997 option grants
been determined consistent with SFAS 123 (see Note 3 which establishes fair
value as the measurement basis for stock-based awards, the Company's net
earnings (losses) and net earnings (losses) per share for 1999, 1998 and 1997
would approximate the pro forma amounts below (in thousands, except per share
data):
F-38
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
1999 1998 1997
---- ---- ----
AS REPORTED PRO FORMA AS REPORTED PRO FORMA AS REPORTED PRO FORMA
----------- --------- ----------- --------- ----------- ---------
Net earnings (losses)..... $ (1,089,458) $ (1,091,129) $ (753,693) $(759,169) $ 34,801 $ 32,804
Net earnings (losses) per
share:
Basic................... $ (18.62) $ (18.65) $ (14.49) $ (14.60) $ 0.75 $ 0.71
Diluted................. $ (18.62) $ (18.65) $ (14.49) $ (14.60) $ 0.74 $ 0.70
The effects of applying SFAS 123 in this pro forma disclosure are not
indicative of future amounts. SFAS 123 does not apply to options granted prior
to 1995, and additional option grants in future years are anticipated although
not under the existing plans.
The following table summarizes information about stock options outstanding
as of December 31, 1999 (shares in thousands):
OPTIONS OUTSTANDING OPTIONS EXERCISEABLE
------------------- --------------------
WEIGHTED AVERAGE WEIGHTED WEIGHTED
NUMBER REMAINING AVERAGE NUMBER AVERAGE
RANGE OF EXERCISE PRICE OUTSTANDING CONTRACTUAL LIFE EXERCISE PRICE OUTSTANDING EXERCISE PRICE
- ----------------------- ----------- ---------------- -------------- ----------- --------------
$ 1.06 - $ 9.50.......... 747 8.82 $ 2.57 116 $ 8.73
11.00 - 15.84.......... 223 5.16 13.21 211 13.13
16.44 - 19.44.......... 290 7.05 17.57 174 17.88
20.13 - 24.00.......... 108 6.44 21.81 90 22.01
------------ ----------
1,368 7.66 9.00 591 15.01
============ ==========
(C) WARRANTS
In connection with the RCA Acquisition in 1998, the Company issued warrants
to purchase 527,123 shares of the Company's common stock at prices ranging from
$1.72 to $18.32 per share in exchange for outstanding warrants of RCA and
Contour. All of these warrants were exercised or have expired except for one
warrant to purchase 25,250 shares at $13.80 per share, which will expire in
2001.
(D) GRANTOR STOCK TRUST
In the first quarter of 1996, the Company sold 3,050,000 newly issued
shares of the Company's common stock to a newly established Grantor Stock Trust
("Trust") for approximately $37.7 million. The Trust was created to fund future
obligations under certain of the Company's benefit plans, including, but not
limited to, stock option plans, a stock purchase plan, health insurance plans
and employee compensation. The sale of the shares to the Trust was recorded as
an increase in stockholders' equity with a corresponding reduction for the value
of the shares held by the Trust. As stock is released from the Trust to satisfy
certain employee compensation and benefit plans, the number and the related fair
value of shares held by the Trust is reduced and stockholders' equity increases
correspondingly. The Trust held 1,915,935 shares and 1,989,132 shares of the
Company's common stock as of December 31, 1999 and 1998, respectively.
F-39
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
The Trust delivered to the Company a promissory note for approximately
$37.7 million. The cash portion of the purchase price of approximately $31,000
represents the par value of the shares of the Company's common stock sold to the
Trust. Amounts owed by the Trust will be repaid periodically with cash received
from the Company or will be forgiven by the Company thereby enabling the release
of shares from the Trust to satisfy the Company's obligations for certain
employee compensation and benefit plans.
The agreement in principle discussed in Note 2 provides for the
cancellation of the Company's existing common stock, including the shares held
by the Trust. Unless the plan of reorganization that is confirmed by the
Bankruptcy Court provides that the Trust would hold the new equity to be issued
pursuant to the plan of reorganization, the Trust would most likely be
terminated. Upon the termination of the Trust, the debt it owes to the Company
would be forgiven.
(16) EARNINGS PER SHARE
Basic net earnings (losses) per share is based upon the weighted average
number of common shares outstanding during the period.
Diluted net earnings per share in periods of earnings is based upon the
weighted average number of common shares outstanding during the period plus the
number of incremental shares of common stock contingently issuable upon exercise
of stock options and, if dilutive, including the assumption that the Company's
convertible securities were converted as of the beginning of the period. Net
earnings, if conversion of the securities is assumed, is adjusted for the
interest on the convertible securities, net of interest related to additional
assumed borrowings to fund the cash consideration on conversion of certain
convertible securities and the related income tax benefits. In periods of
losses, diluted net losses per share is based upon the weighted average number
of common shares outstanding during the period. As the Company had a net loss
for the years ended December 31, 1999 and 1998, the Company's stock options and
convertible debentures were anti-dilutive.
F-40
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
Earnings (losses) per share is calculated as follows for the year ended
December 31 (in thousands, except per share data):
1999 1998 1997
---- ---- ----
BASIC:
Net earnings (losses) before extraordinary loss and cumulative effect of
change in accounting principle............................................... $ (1,076,642) $ (743,419) $ 54,729
Net earnings (losses).......................................................... (1,089,458) (753,693) 34,801
Weighted average shares outstanding............................................ 58,504 52,008 46,329
Earnings (losses) per share:
Net earnings (losses) before extraordinary loss and cumulative effects of
change in accounting principle.............................................. $ (18.40) $ (14.29) $ 1.18
Net earnings (losses).......................................................... $ (18.62) $ (14.49) $ 0.75
DILUTED:
Net earnings (losses) before extraordinary loss and cumulative effect of
change in accounting principle used in basic calculation.................... $ (1,076,642) $ (743,419) $ 54,729
Income impact of assumed conversions........................................... - - 3,410
--------------- ---------------- ---------------
Adjusted net earnings (losses) before extraordinary loss and cumulative effect
of change in accounting principle........................................... (1,076,642) (743,419) 58,139
Extraordinary loss............................................................. - (10,274) (19,928)
Cumulative effect of change in accounting principle............................ (12,816) - -
--------------- ---------------- ---------------
Net earnings (losses).......................................................... $(1,089,458) $ (753,693) $ 38,211
=============== ================ ===============
Weighted average shares used in basic calculation.............................. 58,504 52,008 46,329
Effect of dilutive securities:
Stock options and warrants..................................................... - - 832
Assumed conversion of convertible debt......................................... - - 4,690
--------------- ---------------- ---------------
Weighted average common and common equivalent shares outstanding............... 58,504 52,008 51,851
=============== ================ ===============
Earnings (losses) per share:
Net earnings (losses) before extraordinary loss and cumulative effect of
change in accounting principle.............................................. $ (18.40) $ (14.29) $ 1.12
Net earnings (losses).......................................................... $ (18.62) $ (14.49) $ 0.74
(17) PREFERRED STOCK PURCHASE RIGHTS
On June 2, 1995, the Board of Directors declared a dividend of one
preferred stock purchase right ("Right") for each outstanding share of common
stock of the Company for stockholders of record on June 15, 1995 and for all
future issuances of common stock. The Rights are currently not exercisable or
transferable apart from the common stock and have no voting rights. Each Right
entitles the registered holder to purchase from the Company one one-hundredth of
a share of Series A Preferred Stock, par value $0.01 per share. The Rights
become exercisable ten business days following the date a person or group of
affiliated persons acquires 15.0% or more of the Company's common stock, or
announces a tender or exchange offer which would result in the beneficial
ownership by a person or group of affiliated persons of 15% or more of the
outstanding Company's common stock. The Rights also become exercisable if any
person, who is the beneficial owner of 15.0% or more of the Company's common
stock as of the date of record, acquires an additional 1.0% or more of the
outstanding Company's common stock. The Rights may be redeemed by the Company at
a price of $.001 per Right before their expiration on June 2, 2005.
F-41
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
In the event that the Company is acquired in a merger or other business
combination or certain other events occur, provision shall be made so that each
holder of a Right, excluding the Rights beneficially owned by the acquiring
persons, shall have the right to receive, upon exercise thereof at the then
current exercise price, that number of shares of common stock of the surviving
company which at the time of such transaction will have a market value of two
times the exercise price of the Right.
The agreement in principle discussed in Note 2 provides for the
cancellation of the Company's existing common stock. Unless the plan of
reorganization that is confirmed by the Bankruptcy Court provides for the
continuation of the Rights with the equity to be issued pursuant to the plan of
reorganization, the Rights would be cancelled along with the existing common
stock.
(18) OTHER EVENTS
(A) LITIGATION
The Company and substantially all of its U.S. operating subsidiaries filed
voluntary petitions for protection under Chapter 11 of the U.S. Bankruptcy Code
with the Bankruptcy Court (case nos. 99-3657 through 99-3841, inclusive). On
February 3, 2000, an additional indirect subsidiary of the Company commenced its
Chapter 11 case in the Bankruptcy Court (case no. 00-00841). The Company is
currently operating its business as a debtor-in-possession subject to the
jurisdiction of the Bankruptcy Court.
In May 1999, a former employee of SunBridge filed a proposed class action
complaint against SunBridge in the Western District of Washington (the
"SunBridge Action"). The plaintiff sought to represent certain current and
former employees of SunBridge who were allegedly not paid appropriate wages
under federal and state law since May 1996. In August 1999, several former
employees of SunDance filed a proposed class action complaint against SunDance
in the Western District of Washington (the "SunDance Action"). The plaintiffs
sought to represent certain current and former employees of SunDance who were
allegedly not paid appropriate wages under federal and state law since August
1996. The plaintiffs in both of these actions are represented by the same legal
counsel. These lawsuits are currently stayed as a result of the Company's
pending Chapter 11 cases. In June 2000, the plaintiffs in the SunBridge Action
and the SunDance Action filed motions in the Bankruptcy Court seeking to certify
their respective classes they seek to represent and an enlargement of the bar
date for their class members. Plaintiffs filed claims in the pending Chapter 11
cases in the amount of $780 million in the SunDance Action and $242 million in
the SunBridge Action, plus interest, costs and attorney fees. Although the
Company and its subsidiaries intend to vigorously defend themselves in these
matters, there can be no assurance that the outcome of either of these matters
will not have a material adverse effect on the results of operations and
financial condition of the Company.
F-42
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
In March 1999 and through April 19, 1999, several stockholders of the
Company filed class action lawsuits against the Company and three officers of
the Company in the United States District Court for the District of New Mexico.
The lawsuits allege, among other things, that the Company did not disclose
material facts concerning the impact that PPS would have on the Company's
results of operations. The lawsuits seek compensatory damages and other relief
for stockholders who purchased the Company's common stock during the
class-action period. As a result of the Company's commencement of its Chapter 11
cases, these lawsuits are stayed with respect to the Company. The Company has
filed a motion with the Bankruptcy Court requesting an extension of the stay to
the individual defendants. Although the Company intends to vigorously defend
itself and its officers in this matter, there can be no assurance that the
outcome of this matter will not have a material adverse effect on the results of
operations and financial condition of the Company.
In January 1999, the state of Florida filed criminal charges in the Circuit
Court of the Eighth Judicial Circuit for Alachua County, Florida against three
subsidiaries which were acquired by the Company on June 30, 1998: RCA, Capitol
Care Management Co., Inc. and Gainesville Health Care Center, Inc. All of the
allegations of wrongdoing related to activities prior to June 30, 1998.
Florida's allegations included violations of certain RICO laws, abuse or neglect
of elderly or disabled persons, grand theft and Medicaid fraud at a nursing home
facility in Florida. Also named as defendants were five individuals who were
involved in the operation of the facility in their capacities as officers,
directors or employees of the defendant entities. In December 1999, the state of
Florida agreed to settle the action for an amount not considered by the Company
to be material to its operations. In January 2000, the state dismissed all
charges against the three subsidiaries and five individuals. The settlement
agreement was approved by the Bankruptcy Court on May 11, 2000.
The Company and certain of its subsidiaries are defendants in two qui tam
lawsuits brought by private citizens in the United States District Court for the
Eastern District of California alleging violations of the Federal False Claims
Act. The plaintiffs allege that skilled nursing facilities operated by the
subsidiaries and others conspired over the last decade to (i) falsely certify
compliance with regulatory requirements in order to participate in the Medicare
and Medicaid programs, and (ii) falsify records to conceal failures to provide
services in accordance with such regulatory requirements. Although the Company
and its subsidiaries intend to vigorously defend themselves in these matters,
there can be no assurance that the outcome of any one of these matters will not
have a material adverse effect on the results of operations and financial
condition of the Company. These lawsuits are currently stayed as a result of the
Company's filing for chapter 11 bankruptcy protection.
The Company and certain of its subsidiaries are defendants in a QUI TAM
lawsuit brought by a private citizen in the United States District Court of the
Central District of California alleging violations of the Federal False Claims
Act and a related wrongful termination. The plaintiff alleges that a home health
agency operated by one of the Company's subsidiaries submitted bills for several
years that were improper for various reasons, including bills for patients whose
treatment had not been authorized by their physicians. The government intervened
to the extent that the lawsuit alleges billing without obtaining proper and
timely physician authorization, but declined to intervene in the remainder of
the lawsuit. Although the Company and its subsidiaries intend to vigorously
defend themselves in this matter, there can be no assurance that the outcome of
this matter will not have a material adverse effect on the results of operations
and financial condition of the Company. This lawsuit is currently stayed as a
result of the Company's filing for chapter 11 bankruptcy protection.
F-43
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
In addition, the Department of Health & Human Services (the "HHS") and the
Department of Justice (the "DOJ") periodically investigate matters that have
come to their attention concerning the Company, including cost reporting
matters. To expedite resolution of any outstanding investigations, the Company
has requested that the HHS and the DOJ inform it of any such investigations or
outstanding concerns. In response, the DOJ informed the Company of the existence
of a number of outstanding inquiries, some of which were prompted by the filing
of qui tam lawsuits that remain under seal and which are not described above.
The DOJ has recently advised the Company of the nature of several of the
allegations under investigation regarding the Company's subsidiaries, including
allegations that the Company's subsidiaries were inappropriately reimbursed for
(i) certain management fees related to the provision of therapy services,
(ii) nursing services provided by skilled nursing facilities for which there was
inadequate documentation and (iii) respiratory therapy services.
The DOJ and the Company are having ongoing discussions regarding a possible
global settlement of these investigations. The Company believes that any such
settlement would include a monetary payment to the government and a requirement
that the Company enter into a corporate integrity agreement with the HHS' Office
of Inspector General requiring the Company to implement further internal
controls with respect to its quality of care standards and its Medicare and
Medicaid billing, reporting and claims submission processes. Although the
Company and its subsidiaries intend to vigorously defend themselves in these
matters, the Company is unable to determine at this time when the investigations
will be concluded, how large a monetary payment, if any, the parties would agree
on, the nature of any other remedies that may be sought by the government,
whether or when a settlement will in fact occur or whether any such settlement
or any other outcome of the investigations will have a material adverse effect
on the Company's financial condition or results of operations. In 1999, the
Company recorded a charge of approximately $3.0 million to cover the estimated
costs of professional advisory services related to this matter. This amount was
recorded in legal and regulatory matters, net in the accompanying consolidated
statement of earnings (losses).
In 1997, the Company was notified by a law firm representing several
national insurance companies that these companies believed that the Company had
engaged in improper billing and other practices in connection with the Company's
delivery of therapy and related services. In response, the Company began
discussions directly with these insurers, hoping to resolve these matters
without litigation; however, the Company is unable at this time to predict
whether it will be able to do so, what the eventual outcome may be or the extent
of its liability, if any, to these insurers.
The Company is a party to various other legal actions and administrative
proceedings and is subject to various claims arising in the ordinary course of
its business, including claims that its services have resulted in injury or
death to the residents of its facilities. The Company has experienced an
increasing trend in the number and severity of litigation claims asserted
against the Company. The Company believes that this trend is endemic to the
long-term care industry and is a result of the increasing number of large
judgments, including large punitive damage awards, against long-term care
providers in recent years resulting in an increased awareness by plaintiff's
lawyers of potentially large recoveries. In certain states in which the Company
has significant operations, including California, insurance coverage for the
risk of punitive damages arising from general and professional liability
litigation is not available due to state law public policy prohibitions. There
can be no assurance that the Company will not be liable for punitive damages
awarded in litigation arising in states for which punitive damage insurance
coverage is not available. The Company also believes that there has been, and
will continue to be, an increase in governmental investigations of long-term
care providers, particularly in the area of Medicare/Medicaid false claims as
well as an increase in enforcement actions resulting from these investigations.
Adverse determinations in legal proceedings or governmental investigations,
whether currently asserted or arising in the future, could have a material
adverse effect on the Company.
F-44
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
(B) OTHER INQUIRIES
From time to time, fiscal intermediaries and Medicaid agencies examine cost
reports filed by predecessor operators of the Company's skilled nursing
facilities. If, as a result of any such examination, it is concluded that
overpayments to a predecessor operator were made, the Company, as the current
operator of such facilities, may be held financially responsible for such
overpayments. At this time the Company is unable to predict the outcome of any
existing or future examinations.
(C) LEGISLATION, REGULATIONS AND MARKET CONDITIONS
The Company is subject to extensive federal, state and local government
regulation relating to licensure, conduct of operations, ownership of
facilities, expansion of facilities and services and reimbursement for services.
As such, in the ordinary course of business, the Company's operations are
continuously subject to state and federal regulatory scrutiny, supervision and
control. Such regulatory scrutiny often includes inquiries, investigations,
examinations, audits, site visits and surveys, some of which may be non-routine.
The Company believes that it is in substantial compliance with the applicable
laws and regulations. However, if the Company is ever found to have engaged in
improper practices, it could be subjected to civil, administrative or criminal
fines, penalties or restitutionary relief which may have a material adverse
impact on the Company's financial results and operations.
(19) SUMMARIZED FINANCIAL INFORMATION
The Company acquired Mediplex on June 23, 1994 and became a co-obligor with
Mediplex with respect to the 6 1/2% Debentures and the 11 3/4% Debentures
subsequent to the acquisition. Summarized financial information of Mediplex is
provided below (in thousands):
AS OF DECEMBER 31,
------------------
1999 1998
---- ----
Current assets....................... $ 78,726 $113,585
Noncurrent assets.................... 145,922 225,586
Current liabilities.................. 8,765 13,165
Noncurrent liabilities............... 53,130 69,454
Due to parent........................ 291,150 206,161
F-45
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
YEAR ENDED DECEMBER 31,
-----------------------
1999 1998 1997
---- ---- ----
Net revenues................................................... $ 442,914 $ 581,288 $ 507,750
Costs and expenses............................................. (426,418) (546,833) (486,541)
Impairment loss................................................ (46,779) (147,990) -
Loss on sale of assets, net.................................... (41,019) - -
Cumulative effect of change in accounting principle............ (2,520) - -
--------------- -------------- -------------
Earnings (losses) before intercompany charges and income taxes. (73,822) (113,535) 21,209
Intercompany charges (1)....................................... (94,759) (75,376) (78,957)
--------------- -------------- -------------
Losses before income taxes..................................... (168,581) (188,911) (57,748)
Income tax benefit (expense)................................... (32) 3,619 18,326
--------------- -------------- -------------
Net losses..................................................... $(168,613) $ (185,292) $(39,422)
=============== ============== =============
(1) Through various intercompany agreements entered into by Sun and Mediplex,
Sun provides management services, licenses the use of its trademarks and
acts on behalf of Mediplex to make financing available for its operations.
Sun charged Mediplex for management services totaling approximately
$14.9 million, $23.0 million and $32.3 million for the years ended
December 31, 1999, 1998 and 1997, respectively. Royalty fees charged to
Mediplex for the years ended December 31, 1999, 1998 and 1997, for the use
of Sun trademarks were approximately $7.0 million, $10.8 million and
$7.4 million, respectively. Intercompany interest charged to Mediplex for
the years ended December 31, 1999, 1998 and 1997, for advances from Sun was
approximately $72.9 million, $41.6 million and $39.3 million, respectively.
F-46
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
(20) QUARTERLY FINANCIAL DATA (UNAUDITED)
The following tables reflects unaudited quarterly financial data for fiscal
years 1999 and 1998:
YEAR ENDED DECEMBER 31, 1999
-------------------------------------------------------------
FIRST SECOND THIRD FOURTH
QUARTER QUARTER QUARTER QUARTER
------- ------- ------- -------
Total net revenues........................................ $ 673,032 $ 600,914 $ 629,579 $ 625,514
=============== ============== ============== ============
Losses before income taxes and cumulative effect
of change in accounting principle...................... $ (98,529) $ (588,597) $ (236,763) $ (152,592)
=============== ============== ============== ============
Net losses before cumulative effect of change
in accounting principle................................ $ (99,421) $ (588,597) $ (236,856) $ (151,768)
=============== ============== ============== ============
Cumulative effect of change in accounting principle....... $ (13,726) $ - $ - $ 910
=============== ============== ============== ============
Net losses............................................... $ (113,147) $ (588,597) $ (236,856) $ (150,858)
=============== ============== ============== ============
Net losses per common and common equivalent share:
Net losses before cumulative effect of change
in accounting principle (1):
Basic................................................... $ (1.73) $ (10.10) $ (4.03) $ (2.56)
=============== ============== ============== ============
Diluted................................................. $ (1.73) $ (10.10) $ (4.03) $ (2.56)
=============== ============== ============== ============
Net losses (1):
Basic................................................... $ (1.96) $ (10.10) $ (4.03) $ (2.54)
=============== ============== ============== ============
Diluted................................................. $ (1.96) $ (10.10) $ (4.03) $ (2.54)
=============== ============== ============== ============
F-47
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
YEAR ENDED DECEMBER 31, 1998
----------------------------------------------------------------
FIRST SECOND THIRD FOURTH
QUARTER QUARTER QUARTER QUARTER
------- ------- ------- -------
Total net revenues..................................... $ 741,490 $ 752,392 $ 814,408 $ 780,170
================ ============== ============== ==============
Earnings (losses) before income taxes and
extraordinary losses................................. $ 31,977 $ 1,568 $ (2,411) $ (720,976)
================ ============== ============== ==============
Net earnings (losses) before extraordinary loss........ $ 18,387 $ 753 $ (1,030) $ (761,529)
================ ============== ============== ==============
Extraordinary loss..................................... $ - $10,120(2) $ - $ 154
================ ============== ============== ==============
Net earnings (losses).................................. $ 18,387 $ (9,367) $ (1,030) $ (761,683)
================ ============== ============== ==============
Net earnings (losses) before extraordinary loss(1):
Basic................................................ $ 0.39 $ 0.02 $ (0.02) $ (13.34)
================ ============== ============== ==============
Diluted.............................................. $ 0.37 $ 0.02 $ (0.02) $ (13.34)
================ ============== ============== ==============
Net earnings (losses)(1):
Basic................................................ $ 0.39 $ (0.20) $ (0.02) $ (13.34)
================ ============== ============== ==============
Diluted.............................................. $ 0.37 $ (0.20) $ (0.02) $ (13.34)
================ ============== ============== ==============
__________
(1) Earnings per share are computed independently for each of the quarters
presented and therefore may not sum to the totals for the year (see Note 16
- Earnings Per Share).
(2) In the second quarter of 1998, the Company recorded an extraordinary loss
of $10.1 million, net of income tax benefit of $3.7 million, in relation to
the permanent paydown of $300.0 million of the term loan portion of the
credit facility and $3.7 million related to the retirement of $5.0 million
of Contour convertible debentures purchased by the Company.
(21) SEGMENT INFORMATION
The Company adopted SFAS 131 in 1998, which changed the way the Company
reports information from its operating segments. Segment information from 1997
has been reclassified from the prior year's presentation to conform to the 1998
presentation. Previously, the Company identified segments based on geographic
location.
The Company operates predominantly in the long-term care segment of the
healthcare industry. The Company is a provider of long-term, sub-acute and
related ancillary care services to nursing home patients. In addition to
services provided in the United States, the Company provides services in the
United Kingdom, Spain, Germany and Australia.
F-48
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
The following summarizes the services provided by the Company's reportable
and other segments:
INPATIENT SERVICES: This segment provides, among other services, inpatient
skilled nursing and custodial services, as well as rehabilitative, restorative
and transitional medical services. The Company provides 24-hour nursing care in
these facilities by registered nurses, licensed practical nurses and certified
nursing aids.
REHABILITATION AND RESPIRATORY THERAPY SERVICES: This segment provides,
among other services, physical, occupational, speech and respiratory therapy
supplies and services to affiliated and nonaffiliated skilled nursing
facilities.
PHARMACEUTICAL AND MEDICAL SUPPLY SERVICES: This segment is comprised of an
institutional pharmaceutical company and a medical supply company. The
pharmaceutical company provides pharmaceutical products primarily to affiliated
and nonaffiliated long-term and sub-acute care facilities for such purposes as
infusion therapy, pain management, antibiotic therapy and parenteral nutrition
as well as providing consultant pharmacist services. The medical supply company
provides medical supplies primarily to long-term care and sub-acute care
facilities.
INTERNATIONAL OPERATIONS: This segment consists of long-term care
facilities in the United Kingdom, Spain, Australia and Germany as well as acute
care hospitals in Australia. This segment also provides pharmaceutical services
in the United Kingdom, Germany and Spain and medical supplies in Australia. The
Company sold certain of the Canadian operations in 1998 and the remainder in the
first quarter of 1999. Subsequent to December 31, 1999, the Company sold 18
pharmacies in the United Kingdom. The Company is currently soliciting offers to
purchase the remainder of its international operations.
OTHER OPERATIONS: This segment includes temporary therapy services,
assisted living services, home health and hospice, software development and
other ancillary services provided to affiliated and nonaffiliated facilities.
The accounting policies of the segments are the same as those described in
the Note 3 - "Summary of Significant Accounting and Financial Reporting
Policies". The Company primarily evaluates segment performance based on profit
or loss from operations after allocated expenses and before reorganization
items, income taxes, extraordinary items and cumulative effect of change in
accounting principle. Gains or losses on sales of assets and certain items
including impairment of assets recorded in connection with SFAS 121, legal and
regulatory matters, restructuring costs, etc. are not considered in the
evaluation of segment performance. Allocated expenses include intercompany
charges assessed to segments for management services and asset use based on
segment operating results and average asset balances, respectively. The Company
accounts for intersegment sales and provision of services at market prices.
Corporate assets primarily consist of cash and cash equivalents,
receivables from subsidiary segments, notes receivable, property, plant and
equipment, unallocated intangible assets and goodwill. Although corporate assets
include unallocated intangible assets and goodwill, the amortization of these
items is reflected in the results of operations of the associated segment.
F-49
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
The Company's reportable segments are strategic business units that provide
different products and services. They are managed separately because each
business has different marketing strategies due to differences in types of
customers, different distribution channels and different capital resource needs.
F-50
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
The following tables summarize, for the years indicated, operating results
and other financial information, by business segment (in thousands):
REHABILITATION
AND PHARMACEUTICAL
RESPIRATORY AND MEDICAL
INPATIENT THERAPY SUPPLY INTERNATIONAL OTHER INTERSEGMENT
SERVICES SERVICES SERVICES OPERATIONS OPERATIONS CORPORATE ELIMINATIONS CONSOLIDATED
-------- -------- -------- ---------- ---------- --------- ------------ ------------
FOR THE YEAR ENDED DECEMBER 31, 1999
Total Net Revenues.........$1,697,518 $ 234,008 $ 300,959 $ 296,906 $ 222,219 $ - $(222,571) $2,529,039
Operating expenses,
corporate general and
administrative expenses,
and provision for losses 1,789,570 248,027 299,068 290,272 237,054 116,315 (219,705) 2,760,601
on accounts receivable...
Depreciation and 29,025 7,173 7,043 12,805 12,911 12,584 (216) 81,325
amortization.............
Interest, net.............. 9,773 305 76 13,191 6,902 98,807 - 129,054
Dividends on Preferred
Securities............... - - - - - 20,407 - 20,407
--------- ----------- ----------- ----------- ---------- ---------- ----------- ------------
Losses before corporate (130,850) (21,497) (5,228) (19,362) (34,648) (248,113) (2,650) (462,348)
allocations..............
Corporate interest 42,793 12,868 12,613 19,550 10,166 (97,990) - -
allocation...............
Corporate management fees.. 71,611 9,455 11,792 2,966 6,733 (99,907) (2,650) -
--------- ----------- ----------- ----------- ---------- ---------- ----------- ------------
Net segment losses......... $(245,254) $ (43,820) $ (29,633) $ (41,878) $ (51,547) $(50,216) $ - $(462,348)
========= =========== =========== =========== ========== ========== =========== ============
Intersegment revenues...... $ 598 $ 126,880 $ 80,944 $ - $ 14,149 $ - $(222,571) $ -
Identifiable segment assets $ 345,810 $ 74,530 $ 110,302 $ 267,604 $ 159,259 $1,142,314 $(661,331) $1,438,488
Segment capital
expenditures, net........ $ 23,114 $ 6,696 $ 3,184 $ 25,632 $ 11,616 $ 32,211 $ - $ 102,453
FOR THE YEAR ENDED DECEMBER 31, 1998
Total Net Revenues......... $2,045,270 $ 678,803 $ 254,455 $ 285,267 $ 283,326 $ - $(458,661) $3,088,460
Operating expenses,
corporate general and
administrative expenses,
and provision for losses
on accounts receivable... 1,970,887 458,464 232,219 264,927 280,000 137,809 (450,804) 2,893,502
Depreciation and
amortization............. 41,223 9,727 10,755 19,296 8,968 12,546 - 102,515
Interest, net.............. 6,422 (18) 409 19,412 3,853 105,333 - 135,411
Dividends on Preferred
Securities - - - - - 16,163 - 16,163
---------- ------------ ----------- ----------- ---------- ---------- ----------- ------------
Earnings (losses) before
corporate allocations.... 26,738 210,630 11,072 (18,368) (9,495) (271,851) (7,857) (59,131)
Corporate interest
allocation.............. 49,683 16,300 10,653 22,844 8,992 (108,472) - -
Corporate management fees.. 86,777 34,486 10,148 2,694 (718) (125,530) (7,857) -
--------- ----------- ----------- ----------- ---------- ---------- ----------- ------------
Net segment earnings
(losses)................. $(109,722) $ 159,844 $ (9,729) $ (43,906) $(17,769) $ (37,849) $ - $ (59,131)
========== =========== =========== =========== ========== ========== =========== ===========
Intersegment revenues...... $ - $ 344,118 $ 78,954 $ - $ 35,589 $ - $(458,661) $ -
Identifiable segment assets $ 661,349 $ 203,365 $ 141,664 $ 419,660 $ 230,969 $1,427,243 $(616,212) $ 2,468,038
Segment capital
expenditures, net.........$ 68,145 $ 5,393 $ 19,307 $ 4,755 $ 27,580 $ 40,257 $ (5,021) $ 160,416
FOR THE YEAR ENDED DECEMBER 31, 1997
Total Net Revenues......... $1,249,861 $ 466,358 $ 157,336 $ 198,155 $ 165,906 $ - $(226,796) $ 2,010,820
Operating expenses,
corporate general and
administrative expenses,
and provision for losses
on accounts receivable... 1,153,712 315,528 135,375 173,546 154,411 71,050 (226,796) 1,776,826
Depreciation and
amortization............. 22,655 4,196 3,311 15,509 2,243 8,716 - 56,630
Interest, net.............. 4,144 (53) 92 16,608 (91) 53,782 - 74,482
--------- ----------- ----------- ----------- ---------- ---------- ----------- ------------
Earnings (losses) before
corporate allocations.... 69,350 146,687 18,558 (7,508) 9,343 (133,548) - 102,882
Corporate interest
allocation............... 18,779 8,869 5,169 17,175 3,900 (53,892) - -
Corporate management fees
allocation............... 48,952 18,804 6,162 1,963 1,925 (77,806) - -
---------- ------------- ----------- ----------- ---------- ---------- ----------- ------------
Net segment earnings
(losses)................. $ 1,619 $ 119,014 $ 7,227 $ (26,646) $ 3,518 $ (1,850) $ - $ 102,882
========= =========== =========== =========== ========== ========== =========== ============
Intersegment revenues...... $ - $ 180,303 $ 32,648 $ - $ 13,845 $ - $ (226,796) $ -
Identifiable segment assets $ 611,752 $ 211,526 $ 110,811 $ 566,136 $ 51,739 $1,771,041 $ (743,769) $ 2,579,236
Segment capital
expenditures, net........ $ 25,104 $ 8,575 $ 4,580 $ 51,231 $ 712 $ 12,960 $ - $ 103,162
F-51
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
The following tables reconcile net segment earnings (losses) to
consolidated earnings (losses) before reorganization items, income taxes,
extraordinary items and cumulative effect of change in accounting principle:
FOR THE YEAR ENDED FOR THE YEAR ENDED FOR THE YEAR ENDED
DECEMBER 31, 1999 DECEMBER 31, 1998 DECEMBER 31, 1997
----------------- ----------------- -----------------
Net segment earnings (losses).................... $ (462,348) $ (59,131) $ 102,882
Legal and regulatory matters, net................ (38) (22,456) -
Loss on sale of assets, net...................... (78,673) (206,205) (7,000)
Loss on termination of interest rate swaps....... (2,488) - -
Impairment loss.................................. (457,449) (397,492) -
Restructuring costs.............................. (27,353) (4,558) -
Reorganization costs, net........................ (48,132) - -
---------------------- --------------------- --------------------
Earnings (losses) before income taxes, extraordinary
loss and cumulative effect of change in accounting
principle...................................... $(1,076,481) $(689,842) $ 95,882
====================== ===================== ====================
(22) SUMMARIZED CONSOLIDATING INFORMATION
In connection with the Company's offering of the 9 1/2% Notes in July 1997,
and the 9 3/8% Notes in May 1998, all direct and indirect subsidiaries of the
Company other than the Company's direct and indirect foreign subsidiaries,
CareerStaff and its direct and indirect subsidiaries, and certain other
immaterial subsidiaries of the Company (the "Guarantors") have, jointly and
severally, unconditionally guaranteed the 9 1/2% Notes and 9 3/8% Notes. These
guarantees are subordinated to all existing and future senior debt and
guarantees of the Guarantors and are unsecured.
The Company conducts all of its business through and derives virtually all
of its income from its subsidiaries. Therefore, the Company's ability to make
required payments with respect to its indebtedness (including the 9 1/2% Notes
and the 9 3/8% Notes) and other obligations depends on the financial results and
condition of its subsidiaries and its ability to receive funds from its
subsidiaries.
Pursuant to Rule 3-10 of Regulation S-X, the following summarized
consolidating information is for the Company, the wholly-owned Guarantors, and
the Company's non-Guarantor subsidiaries with respect to the 9 1/2% Notes and
the 9 3/8% Notes. This summarized financial information has been prepared from
the books and records maintained by the Company, the Guarantors and the
non-Guarantor subsidiaries. The summarized financial information may not
necessarily be indicative of results of operations or financial position had the
Guarantors or non-Guarantor subsidiaries operated as independent entities. The
separate financial statements of the Guarantors are not presented because
management has determined they would not be material to investors.
F-52
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
Through various intercompany agreements entered into by the Company, the
Guarantors and certain of the non-Guarantor subsidiaries, Sun provides
management services, and acts on behalf of the Guarantors and certain of the
non-Guarantor subsidiaries to make financing available for their operations. The
Company charged the Guarantors for management services totaling approximately
$99.2 million, $124.9 million and $75.7 million for the years ended December 31,
1999, 1998 and 1997, respectively. The Company charged the non-Guarantor
subsidiaries for management services totaling approximately $1.1 million,
$4.4 million and $1.5 million for the years ended December 31, 1999, 1998 and
1997, respectively. Intercompany interest charged to the Guarantors for the
years ended December 31, 1999, 1998 and 1997 for advances from the Company were
approximately $78.0 million, $190.5 million and $141.8 million, respectively.
Intercompany interest charged to the non-Guarantor subsidiaries for the years
ended December 31, 1999, 1998 and 1997 for advances from the Company was
approximately $0.4 million, $3.8 million and $2.7 million, respectively.
F-53
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
CONSOLIDATING BALANCE SHEET
AS OF DECEMBER 31, 1999
(IN THOUSANDS)
COMBINED COMBINED
PARENT GUARANTOR NON-GUARANTOR
COMPANY SUBSIDIARIES SUBSIDIARIES ELIMINATION CONSOLIDATED
------- ------------ ------------ ----------- ------------
Current assets:
Cash and cash equivalents................... $ 13,049 $ 6,693 $ 5,305 $ - $ 25,047
Accounts receivable, net.................... - 235,745 20,659 (1,940) 254,464
Other receivables, net...................... 296,034 (191,118) (89,000) - 15,916
Inventory, net.............................. - 35,333 7,650 - 42,983
Prepaids and other assets................... 1,796 8,825 4,466 - 15,087
--------------- --------------- ---------------- ------------- --------------
Total current assets......................... 310,879 95,478 (50,920) (1,940) 353,497
Property and equipment, net.................... 94,264 144,643 207,269 - 446,176
Goodwill, net.................................. - 407,093 68,474 - 475,567
Notes receivable, net.......................... 14,750 1,436 6,512 - 22,698
Assets held for sale........................... - 67,116 3,493 - 70,609
Other assets, net.............................. 37,229 25,280 7,432 - 69,941
Investment in subsidiaries..................... (1,242,314) - - 1,242,314 -
--------------- --------------- ---------------- ------------- --------------
Total assets................................. $ (785,192) $ 741,046 $ 242,260 $ 1,240,374 $ 1,438,488
=============== =============== ================ ============= ==============
Current liabilities:
Current portion of long-term debt........... 12,126 1,225 31,425 - 44,776
Current portion of obligations under capital
leases.................................... - 107 326 - 433
Accounts payable............................ 28,177 14,545 13,214 (2,149) 53,787
Accrued compensation and benefits........... 13,011 61,642 9,464 - 84,117
Accrued interest............................ - 2,034 938 - 2,972
Accrued self-insurance obligations.......... (12,703) 70,512 1,266 - 59,075
Other accrued liabilities................... 36,685 60,483 19,321 - 116,489
Income tax payables......................... 17,498 (9,271) 903 - 9,130
--------------- --------------- ---------------- ------------- --------------
Total current liabilities.................... 94,794 201,277 76,857 (2,149) 370,779
Long-term debt, net of current portion......... - 53,387 47,378 - 100,765
Obligations under capital leases, net of current
portion...................................... - 8,188 57,487 - 65,675
Other long-term liabilities.................... - 34,768 2,026 - 36,794
Liabilities subject to compromise (see Note 2). 1,427,020 131,498 - - 1,558,518
--------------- --------------- ---------------- ------------- --------------
Total liabilities............................ 1,521,814 429,118 183,748 (2,149) 2,132,531
Intercompany payables/(receivables)............ (1,606,984) 1,622,789 (16,015) 210 -
Minority interest.............................. - 5,821 158 - 5,979
Company-obligated manditorily redeemable
convertible preferred securities of a
subsidiary trust holding solely 7% convertible
junior subordinated debentures of the Company 344,119 - - - 344,119
Total stockholders' equity (deficit)........... (1,044,141) (1,316,682) 74,369 1,242,313 (1,044,141)
--------------- --------------- ---------------- ------------- --------------
Total liabilities and stockholders' equity
(deficit).................................... $ (785,192) $ 741,046 $ 242,260 $ 1,240,374 $ 1,438,488
=============== =============== ================ ============= ==============
F-54
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
CONSOLIDATING BALANCE SHEET
AS OF DECEMBER 31, 1998
(IN THOUSANDS)
COMBINED COMBINED
PARENT GUARANTOR NON-GUARANTOR
COMPANY SUBSIDIARIES SUBSIDIARIES ELIMINATION CONSOLIDATED
------- ------------ ------------ ----------- ------------
Current assets:
Cash and cash equivalents............... $ (9,964) $ 26,406 $ 11,062 $ - $ 27,504
Accounts receivable, net................ 311 485,293 60,313 (7,588) 538,329
Other receivables, net.................. 14,304 17,600 16,169 - 48,073
Inventory, net.......................... 13 39,640 9,209 - 48,862
Prepaids and other assets............... 2,651 9,151 1,289 - 13,091
Income tax receivables.................. 15,874 - - - 15,874
------------- -------------- ------------------ -------------- --------------
Total current assets..................... 23,189 578,090 98,042 (7,588) 691,733
Property and equipment, net................ 66,341 228,732 306,197 - 601,270
Goodwill, net.............................. - 669,785 126,160 - 795,945
Notes receivable, net...................... 21,999 693 9,642 - 32,334
Assets held for sale....................... - 192,447 - - 192,447
Other assets, net.......................... 75,710 50,287 22,312 - 148,309
Investment in subsidiaries................. (904) - - 904 -
Deferred tax assets........................ 6,000 - - - 6,000
------------- -------------- ------------------ -------------- --------------
Total assets............................. $ 192,335 $ 1,720,034 $ 562,353 $ (6,684) $ 2,468,038
============= ============== ================== ============== ==============
Current liabilities:
Current portion of long-term debt....... $ 728,032 $ 57,212 $ 27,377 $ - $ 812,621
Current portion of obligations under
capitalleases......................... 1,134 2,333 236 - 3,703
Accounts payable........................ 63,170 17,192 21,369 (7,588) 94,143
Accrued compensation and benefits....... 19,160 69,510 13,421 - 102,091
Accrued interest........................ 19,616 5,957 522 - 26,095
Accrued self-insurance obligations...... (2,713) 56,241 1,337 - 54,865
Other accrued liabilities............... 23,699 77,128 37,024 - 137,851
------------- -------------- ------------------ -------------- --------------
Total current liabilities................ 852,098 285,573 101,286 (7,588) 1,231,369
Long-term debt, net of current portion..... 502,822 162,061 40,770 - 705,653
Obligations under capital leases, net of
current portion.......................... - 27,731 75,948 - 103,679
Other long-term liabilities................ - 39,123 1,938 - 41,061
------------- -------------- ------------------ -------------- --------------
Total liabilities........................ 1,354,920 514,488 219,942 (7,588) 2,081,762
Intercompany payables/(receivables)........ (1,541,344) 1,398,795 142,549 - -
Minority interest.......................... - 6,118 1,399 - 7,517
Company-obligated manditorily redeemable
convertible preferred securities of a
subsidiary trust holding solely 7%
convertible junior subordinated debentures
of the Company........................... 345,000 - - - 345,000
Total stockholders' equity (deficit)....... 33,759 (199,367) 198,463 904 33,759
------------- -------------- ------------------ -------------- --------------
Total liabilities and stockholders' equity
(deficit)................................ $ 192,335 $ 1,720,034 $ 562,353 $ (6,684) $ 2,468,038
============= ============== ================== ============== ==============
F-55
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
CONSOLIDATING STATEMENT OF EARNINGS (LOSSES)
FOR THE YEAR ENDED DECEMBER 31, 1999
(IN THOUSANDS)
COMBINED COMBINED
PARENT GUARANTOR NON-GUARANTOR
COMPANY SUBSIDIARIES SUBSIDIARIES ELIMINATION CONSOLIDATED
------- ------------ ------------ ----------- ------------
Total net revenues.......................... $ (2,058) $ 2,201,463 $ 335,188 $ (5,554) $ 2,529,039
--------------- --------------- ---------------- --------------- ---------------
Costs and expenses:
Operating costs.......................... - 2,159,004 324,263 (5,554) 2,477,713
Impairment loss.......................... 3,717 386,905 66,827 - 457,449
Corporate general and administrative..... 115,544 30,124 14,003 - 159,671
Interest, net (contractual interest
$166,101).............................. 95,716 18,782 14,556 - 129,054
Provision for losses on accounts
receivable............................. 1,911 120,820 486 - 123,217
Depreciation and amortization............ 9,825 58,231 13,269 - 81,325
Loss on sale of assets, net.............. 9,760 52,131 16,782 - 78,673
Restructuring costs...................... 19,731 6,086 1,536 - 27,353
Loss on termination of interest rate swap 2,488 - - - 2,488
Legal and regulatory matters, net........ 2,907 (2,869) - - 38
Equity interest in losses of
subsidiaries........................... 1,236,260 - - (1,236,260) -
Intercompany interest expense (income)... (20,125) 20,125 - - -
--------------- --------------- ---------------- --------------- ---------------
Total costs and expenses................. 1,477,734 2,849,339 451,722 (1,241,814) 3,536,981
--------------- --------------- ---------------- --------------- ---------------
Dividends on convertible preferred
securities of subsidiary.................. 20,407 - - - 20,407
Intercompany charges........................ (454,977) 452,940 2,037 - -
--------------- --------------- ---------------- --------------- ---------------
Losses before reorganization costs, income
taxes and cumulative effect of change
in accounting principle................... (1,045,222) (1,100,816) (118,571) 1,236,260 (1,028,349)
Reorganization costs, net................... 41,047 7,085 - - 48,132
Income taxes................................ 120 - 41 - 161
--------------- --------------- ---------------- --------------- ---------------
Net losses before cumulative effect of
change in accounting principle............ (1,086,389) (1,107,901) (118,612) 1,236,260 (1,076,642)
Cumulative effect of change in accounting
principle................................. (3,069) (9,351) (396) - (12,816)
--------------- --------------- ---------------- --------------- ---------------
Net losses.................................. $(1,089,458) $ (1,117,252) $ (119,008) $ 1,236,260 $(1,089,458)
=============== =============== ================ =============== ===============
F-56
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
CONSOLIDATING STATEMENT OF EARNINGS (LOSSES)
FOR THE YEAR ENDED DECEMBER 31, 1998
(IN THOUSANDS)
COMBINED COMBINED
PARENT GUARANTOR NON-GUARANTOR
COMPANY SUBSIDIARIES SUBSIDIARIES ELIMINATION CONSOLIDATED
------- ------------ ------------ ----------- ------------
Total net revenues.................. $ 3,106 $ 2,657,853 $ 447,617 $ (20,116) $ 3,088,460
------------ -------------- ---------------- -------------- --------------
Costs and expenses:
Operating........................ 4,281 2,235,535 409,785 (20,116) 2,629,485
Impairment loss.................. 6,750 330,453 60,289 - 397,492
Loss on sale of assets, net...... 37,392 157,460 11,353 - 206,205
Corporate general and 122,081 41,144 17,709 - 180,934
administrative.................
Interest, net.................... 102,745 12,124 20,542 - 135,411
Depreciation and amortization.... 10,364 69,928 22,223 - 102,515
Provision for losses on
accounts receivable............ 5,433 73,937 3,713 - 83,083
Legal and regulatory matters, net 22,050 406 - - 22,456
Restructuring costs.............. 1,003 3,429 126 - 4,558
Equity interest in losses of
subsidiaries................... 779,076 - - (779,076) -
------------ -------------- ---------------- -------------- --------------
Total costs and expenses......... 1,091,175 2,924,416 545,740 (799,192) 3,762,139
------------ -------------- ---------------- -------------- --------------
Dividends on convertible preferred
securities of subsidiary.......... 16,163 - - - 16,163
Intercompany charges................ (323,662) 315,450 8,212 - -
------------ -------------- ---------------- -------------- --------------
Losses before income taxes and
extraordinary loss................ (780,570) (582,013) (106,335) 779,076 (689,842)
Income taxes........................ (37,151) 96,222 (5,494) - 53,577
------------ -------------- ---------------- -------------- --------------
Losses before extraordinary loss.... (743,419) (678,235) (100,841) 779,076 (743,419)
Extraordinary loss.................. (10,274) - - - (10,274)
------------ -------------- ---------------- -------------- --------------
Net losses.......................... $(753,693) $ (678,235) $ (100,841) $ 779,076 $ (753,693)
============ ============== ================ ============== ==============
F-57
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
CONSOLIDATING STATEMENT OF EARNINGS
FOR THE YEAR ENDED DECEMBER 31, 1997
(IN THOUSANDS)
COMBINED COMBINED
PARENT GUARANTOR NON-GUARANTOR
COMPANY SUBSIDIARIES SUBSIDIARIES ELIMINATION CONSOLIDATED
------- ------------ ------------ ----------- ------------
Total net revenues....................... $ 2,337 $ 1,671,369 $ 337,114 $ - $ 2,010,820
------------ -------------- ------------------ ------------- --------------
Costs and expenses:
Operating............................. - 1,376,767 286,051 - 1,662,818
Corporate general and administrative.. 61,687 22,643 13,839 - 98,169
Interest, net......................... 52,244 5,646 16,592 - 74,482
Depreciation and amortization......... 4,574 35,301 16,755 - 56,630
Provision for losses on accounts
receivable.......................... (750) 15,733 856 - 15,839
Loss on sale of assets, net........... 7,000 - - - 7,000
Equity interest in losses of subsidiaries 22,925 - - (22,925) -
------------ -------------- ------------------ ------------- --------------
Total costs and expenses.............. 147,680 1,456,090 334,093 (22,925) 1,914,938
------------ -------------- ------------------ ------------- --------------
Earnings (losses) before income taxes,
intercompany charges and extraordinary
loss................................... (145,343) 215,279 3,021 22,925 95,882
Intercompany charges..................... 221,738 (217,578) (4,160) - -
------------ -------------- ------------------ ------------- --------------
Earnings (losses) before income taxes.... 76,395 (2,299) (1,139) 22,925 95,882
Income taxes............................. 39,544 935 674 - 41,153
------------ -------------- ------------------ ------------- --------------
Earnings (losses) before extraordinary loss 36,851 (3,234) (1,813) 22,925 54,729
Extraordinary loss....................... (2,050) (17,878) - - (19,928)
------------ -------------- ------------------ ------------- --------------
Net earnings (losses).................... $ 34,801 $ (21,112) $ (1,813) $ 22,925 $ 34,801
============ ============== ================== ============= ==============
F-58
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
CONSOLIDATING STATEMENTS OF CASH FLOWS
FOR THE YEAR ENDED DECEMBER 31, 1999
(IN THOUSANDS)
COMBINED COMBINED
PARENT GUARANTOR NON-GUARANTOR
COMPANY SUBSIDIARIES SUBSIDIARIES ELIMINATION CONSOLIDATED
------- ------------ ------------ ----------- ------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net losses.................................... $(1,089,458) $(1,117,252) $ (119,008) $ 1,236,260 $ (1,089,458)
Adjustments to reconcile net losses to net
cash provided by (used for) operating
activities:
Equity interest in losses of subsidiaries 1,236,260 - - (1,236,260) 0
Loss on sale of assets, net............. 9,760 52,131 16,782 - 78,673
Cumulative effect of change in
accounting principle................ 3,069 9,351 396 - 12,816
Impairment loss......................... 3,717 386,905 66,827 - 457,449
Depreciation and amortization........... 9,825 58,231 13,269 - 81,325
Provision for losses on accounts
receivable........................... 1,911 120,820 486 - 123,217
Reorganization costs, net............... 41,047 7,085 - - 48,132
Other, net.............................. 9,043 9,978 (966) - 18,055
Changes in operating assets and liabilities:
Accounts receivable........................ (4,586) 150,077 15,373 - 160,864
Other current assets....................... 53,883 (20,544) (24,927) - 8,412
Other current liabilities.................. 41,641 28,941 2,025 - 72,607
Income tax payables ....................... 38,795 (6,802) 3,437 - 35,430
-------------- --------------- ----------------- ---------------- --------------
Net cash provided by (used for) operating
activities before reorganization costs...... 354,907 (321,079) (26,306) - 7,522
Net cash paid for reorganization costs........ (269) - - - (269)
-------------- --------------- ----------------- ---------------- --------------
Net cash provided by (used for) operating
activities.................................. 354,638 (321,079) (26,306) - 7,253
-------------- --------------- ----------------- ---------------- --------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital expenditures, net..................... (32,205) (33,243) (37,005) - (102,453)
Proceeds from sale of assets held for sale.... - 8,735 - - 8,735
Acquisitions, net of cash acquired............ - (5,731) - - (5,731)
Proceeds from the sale and leaseback of
property and equipment...................... - - 38,600 - 38,600
Decrease (increase) in long-term notes
receivable.................................. 44,641 (30,414) 1,630 - 15,857
Decrease (increase) in other assets........... 8,065 43,358 (6,244) - 45,179
-------------- --------------- ----------------- ---------------- --------------
Net cash provided by (used for) investing
activities.................................. 20,501 (17,295) (3,019) - 187
-------------- --------------- ----------------- ---------------- --------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Net borrowings under Revolving Credit
Agreement (postpetition) ................... 12,125 - - - 12,125
Long-term debt borrowings..................... 95,693 2,732 27,637 - 126,062
Long-term debt repayments (prepetition)....... (13,800) (42,977) (35,725) - (92,502)
Principal payments on prepetition debt
authorized by Bankruptcy Court.............. (34,708) (1,347) (63) - (36,118)
Conversion of Mediplex 6 1/2% subordinated
debentures due 2003......................... (6,649) - - - (6,649)
Net proceeds from issuance of common stock.... 1,784 - - - 1,784
Purchases of treasury stock................... (409) - - - (409)
Other financing activities.................... (27,242) 12,485 277 - (14,480)
Intercompany advances......................... (378,987) 347,768 31,219 - -
-------------- --------------- ----------------- ---------------- --------------
Net cash provided by (used for) financing
activities.................................. (352,193) 318,661 23,345 - (10,187)
-------------- --------------- ----------------- ---------------- --------------
Effect of exchange rate on cash and cash
equivalents................................. 67 - 223 - 290
-------------- --------------- ----------------- ---------------- --------------
Net increase (decrease) in cash and cash
equivalents................................. 23,013 (19,713) (5,757) - (2,457)
Cash and cash equivalents at beginning of (9,964) 26,406 11,062 - 27,504
period......................................
-------------- --------------- ----------------- ---------------- --------------
Cash and cash equivalents at end of period.... $ 13,049 $ 6,693 $ 5,305 $ - $ 25,047
============== =============== ================= ================ ==============
F-59
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
CONSOLIDATING STATEMENT OF CASH FLOWS
FOR THE YEAR ENDED DECEMBER 31, 1998
(IN THOUSANDS)
COMBINED COMBINED
PARENT GUARANTOR NON-GUARANTOR
COMPANY SUBSIDIARIES SUBSIDIARIES ELIMINATION CONSOLIDATED
------- ------------ ------------ ----------- ------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net losses.................................... $(753,693) $ (678,235) $ (100,841) $ 779,076 $ (753,693)
Adjustments to reconcile net losses to net cash
provided by (used for) operating activities:
Equity interest in losses of subsidiaries.. 779,076 - - (779,076) -
Extraordinary loss......................... 10,274 - - - 10,274
Loss on sale of assets, net................ 37,392 157,460 11,353 - 206,205
Impairment loss............................ 6,750 330,453 60,289 - 397,492
Depreciation and amortization.............. 10,364 69,928 22,223 - 102,515
Provision for losses on accounts receivable 5,433 73,937 3,713 - 83,083
Other, net................................. 9,572 - (504) - 9,068
Changes in operating assets and liabilities:
Accounts receivable........................ (1,525) (56,853) (3,301) - (61,679)
Other current assets....................... (5,083) (3,262) (11,212) - (19,557)
Other current liabilities.................. 88,371 (125,270) (4,631) - (41,530)
Income tax payables ....................... (30,387) 53,855 (1,226) - 22,242
------------ --------------- ------------------ ------------- ---------------
Net cash provided by (used for) operating
activities.................................. 156,544 (177,987) (24,137) - (45,580)
------------ --------------- ------------------ ------------- ---------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital expenditures, net..................... (32,688) (116,920) (10,808) - (160,416)
Acquisitions, net of cash acquired............ - (46,249) (14,392) - (60,641)
Proceeds from the sale and leaseback of property
and equipment............................... - 16,833 117,542 - 134,375
Decrease (increase) in long-term notes
receivable.................................. (24,686) 14,903 3,806 - (5,977)
Decrease (increase) in other assets........... 5,593 (11,282) 12,483 - 6,794
------------ --------------- ------------------ ------------- ---------------
Net cash provided by (used for) investing
activities.................................. (51,781) (142,715) 108,631 - (85,865)
------------ --------------- ------------------ ------------- ---------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Long-term debt borrowings..................... 225,781 - 23,037 - 248,818
Long-term debt repayments..................... (314,823) (24,725) (99,059) - (438,607)
Net proceeds from issuance of convertible trust
issued preferred securities of subsidiary... 334,044 - - - 334,044
Net proceeds from issuance of common stock.... 2,337 - - - 2,337
Purchases of treasury stock................... (1,393) - - - (1,393)
Other financing activities.................... (18,290) 8,875 1,264 - (8,151)
Intercompany advances......................... (340,802) 342,948 (2,146) - -
------------ --------------- ------------------ ------------- ---------------
Net cash provided by (used for) financing
activities.................................. (113,146) 327,098 (76,904) - 137,048
------------ --------------- ------------------ ------------- ---------------
Effect of exchange rate on cash and cash
equivalents................................. - - 881 - 881
------------ --------------- ------------------ ------------- ---------------
Net increase (decrease) in cash and cash
equivalents................................. (8,383) 6,396 8,471 - 6,484
Cash and cash equivalents at beginning of period (1,581) 20,010 2,591 - 21,020
------------ --------------- ------------------ ------------- ---------------
Cash and cash equivalents at end of period $ (9,964) $ 26,406 $ 11,062 $ - $ 27,504
============ =============== ================== ============= ===============
F-60
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
CONSOLIDATING STATEMENT OF CASH FLOWS
FOR THE YEAR ENDED DECEMBER 31, 1997
(IN THOUSANDS)
COMBINED COMBINED
PARENT GUARANTOR NON-GUARANTOR
COMPANY SUBSIDIARIES SUBSIDIARIES ELIMINATION CONSOLIDATED
------- ------------ ------------ ----------- ------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net earnings (losses)........................ $ 34,801 $ (21,112) $ (1,813) $ 22,925 $ 34,801
Adjustments to reconcile net earnings (losses)
to net cash provided by (used for) operating
activities:
Equity interest in losses of subsidiaries. 22,925 - - (22,925) -
Extraordinary loss........................ 2,050 17,878 - - 19,928
Loss of sale of assets, net............... 7,000 - - - 7,000
Depreciation and amortization............. 4,574 35,301 16,755 - 56,630
Provision for losses on accounts receivable - 14,983 856 - 15,839
Other, net................................ 5,353 (1,697) (344) - 3,312
Changes in operating assets and liabilities:
Accounts receivable....................... - (143,875) (21,091) - (164,966)
Other current assets...................... 10,960 (8,939) (8,344) - (6,323)
Other current liabilities................. 38,152 (22,303) 8,379 - 24,228
Income tax payables....................... 31,663 945 (1,324) - 31,284
------------- -------------- ---------------- --------------- ---------------
Net cash provided by (used for) operating
activities................................. 157,478 (128,819) (6,926) - 21,733
------------- -------------- ---------------- --------------- ---------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital expenditures, net.................... (2,900) (47,893) (52,369) - (103,162)
Acquisitions, net of cash acquired........... - (346,054) (218,080) - (564,134)
Proceeds from the sale and leaseback of
property and equipment..................... - 31,179 49,278 - 80,457
Increase in long-term notes receivable....... (38,392) (5,590) (13,449) - (57,431)
Other asset expenditures..................... (24,489) (16,285) 4,923 - (35,851)
------------- -------------- ---------------- --------------- ---------------
Net cash used for investing activities....... (65,781) (384,643) (229,697) - (680,121)
------------- -------------- ---------------- --------------- ---------------
Cash flows from financing activities:
Long-term debt borrowings.................... 1,793,711 4,508 38,843 - 1,837,062
Long-term debt repayments.................... (847,114) (53,035) (65,875) - (966,024)
Repurchase of certain Regency debt........... - (182,070) - - (182,070)
Net proceeds from issuance of common stock... 6,275 - - - 6,275
Purchases of treasury stock.................. (505) - - - (505)
Other financing activities................... (33,369) - (42) - (33,411)
Intercompany advances........................ (1,014,502) 753,199 261,303 - -
------------- -------------- ---------------- --------------- ---------------
Net cash provided by (used for) financing
activities................................ (95,504) 522,602 234,229 - 661,327
------------- -------------- ---------------- --------------- ---------------
Effect of exchange rate on cash and cash
equivalents................................ - - 3,201 - 3,201
------------- -------------- ---------------- --------------- ---------------
Net increase (decrease) in cash and cash
equivalents................................ (3,807) 9,140 807 - 6,140
Cash and cash equivalents at beginning of
period..................................... 2,226 10,870 1,784 - 14,880
------------- -------------- ---------------- --------------- ---------------
Cash and cash equivalents at end of period... $ (1,581) $ 20,010 $ 2,591 $ - $ 21,020
============= ============== ================ =============== ===============
F-61
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
CONSOLIDATING BALANCE SHEET
AS OF DECEMBER 31, 1999
(IN THOUSANDS)
(23) FILER/NON-FILER FINANCIAL STATEMENTS
In accordance with SOP 90-7, the debtor entities are required to present
condensed Consolidated Financial Statements for 1999.
ASSETS
FILERS NON-FILERS ELIMINATION CONSOLIDATED
------ ---------- ----------- ------------
Current assets:
Cash and cash equivalents................................... $ 18,532 $ 6,515 $ - $ 25,047
Accounts receivable, net.................................... 221,800 33,692 (1,028) 254,464
Other receivables, net...................................... 104,689 (88,773) - 15,916
Inventory, net.............................................. 34,485 8,498 - 42,983
Prepaids and other assets................................... 10,592 4,495 - 15,087
------------- ------------ ------------- --------------
Total current assets.......................................... 390,098 (35,573) (1,028) 353,497
Property and equipment, net................................... 226,357 219,819 - 446,176
Goodwill, net................................................. 407,093 68,474 - 475,567
Notes receivable, net......................................... 16,185 6,513 - 22,698
Assets held for sale.......................................... 67,116 3,493 - 70,609
Other assets, net............................................. 51,664 18,277 - 69,941
Investment in subsidiaries.................................... 69,230 - (69,230) -
------------- ------------ ------------- --------------
Total assets.................................................. $ 1,227,743 $ 281,003 $ (70,258) $ 1,438,488
============= ============ ============= ==============
F-62
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
CONSOLIDATING BALANCE SHEET
AS OF DECEMBER 31, 1999
(IN THOUSANDS EXCEPT SHARE DATA)
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)
FILERS NON-FILERS ELIMINATION CONSOLIDATED
------ ---------- ----------- ------------
Current liabilities:
Current portion of long-term debt............................. $ 13,290 $ 31,486 - $ 44,776
Current portion of obligations under capital leases........... 70 363 - 433
Accounts payable.............................................. 43,796 11,566 (1,575) 53,787
Accrued compensation and benefits............................. 74,737 9,380 - 84,117
Accrued interest.............................................. 1,572 1,400 - 2,972
Accrued self-insurance obligations............................ 58,463 612 - 59,075
Other accrued liabilities..................................... 97,153 19,336 - 116,489
Income tax payables........................................... 8,227 903 - 9,130
------------- -------------- ------------- ---------------
Total current liabilities..................................... 297,308 75,046 (1,575) 370,779
Long-term debt, net of current portion.......................... 47,872 52,893 - 100,765
Obligations under capital leases, net of current portion........ 8,187 57,488 - 65,675
Other long-term liabilities..................................... 34,768 2,026 - 36,794
Liabilities subject to compromise (see Note 2).................. 1,558,518 - - 1,558,518
------------- -------------- ------------- ---------------
Total liabilities............................................. 1,946,653 187,453 (1,575) 2,132,531
Commitments and contingencies...................................
Minority interest............................................... 3,394 2,585 - 5,979
Company-obligated mandatorily redeemable convertible preferred
securities of a subsidiary trust holding solely 7%
convertible junior subordinated debentures of the Company..... 344,119 - - 344,119
Intercompany.................................................... (22,282) 21,735 547 -
Stockholders' equity (deficit):
Preferred stock of $.01 par value, authorized
5,000,000 shares, none issued............................... - - - -
Common stock of $.01 par value, authorized 155,000,000 shares,
63,937,302 shares issued and outstanding as of December 31,
1999........................................................ 639 2,579 (2,579) 639
Additional paid-in capital.................................... 777,164 263,250 (263,250) 777,164
Accumulated deficit........................................... (1,785,507) (191,582) 191,582 (1,785,507)
Accumulated other comprehensive loss.......................... (5,017) (5,017) 5,017 (5,017)
------------- -------------- ------------- ---------------
Less:
Unearned compensation..................................... (3,966) - - (3,966)
Common stock held in treasury, at cost, 2,212,983
shares as of December 31, 1999........................... (27,376) - - (27,376)
Grantor stock trust, at market, 1,915,935 shares as of
December 31, 1999........................................ (78) - - (78)
------------- -------------- ------------ ---------------
Total stockholders' equity (deficit) ........................... (1,044,141) 69,230 (69,230) (1,044,141)
------------- -------------- ------------- ---------------
Total liabilities and stockholders' equity (deficit)............ $1,227,743 $ 281,003 $ (70,258) $ 1,438,488
============= ============== ============= ===============
F-63
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
CONSOLIDATING STATEMENT OF LOSSES
FOR THE YEAR ENDED DECEMBER 31, 1999
(IN THOUSANDS)
FILERS NON-FILERS ELIMINATION CONSOLIDATED
------ ---------- ----------- ------------
Total net revenues................................................ $2,169,562 $ 363,510 $ (4,033) $ 2,529,039
-------------- ------------- -------------- ---------------
Costs and expenses:
Operating costs................................................. 2,139,058 342,689 (4,034) 2,477,713
Impairment loss................................................. 388,177 69,272 - 457,449
Corporate general and administrative............................ 145,307 14,364 - 159,671
Interest, net (contractual interest expense $166,101)........... 112,222 16,832 - 129,054
Provision for losses on accounts receivable..................... 120,880 2,337 - 123,217
Depreciation and amortization................................... 62,214 ` 19,111 - 81,325
Loss on sale of assets, net..................................... 65,066 13,607 - 78,673
Restructuring costs............................................. 25,589 1,764 - 27,353
Loss on termination of interest rate swaps................ ..... 2,488 - - 2,488
Legal and regulatory matters, net......................... ..... 38 - - 38
Equity interest in losses of subsidiaries................. ..... 119,928 - (119,928) -
Intercompany interest expense (income) ......................... 10 (10) - -
-------------- ------------- -------------- ---------------
Total costs and expenses........................................ 3,180,977 479,966 (123,962) 3,536,981
Dividends on convertible preferred securities of subsidiary....... 20,407 - - 20,407
Management fee (income) expense................................... (2,786) 2,786 - -
-------------- ------------- -------------- ---------------
Losses before reorganization costs, net, income taxes and cumulative
effect of change in accounting principle........................ (1,029,036) (119,242) 119,929 (1,028,349)
Reorganization costs.............................................. 48,132 - - 48,132
Income taxes...................................................... 120 41 - 161
-------------- ------------- -------------- ---------------
Losses before cumulative effect of change in accounting principle. (1,077,288) (119,283) 119,929 (1,076,642)
Cumulative effect of change in accounting principle............... (12,170) (646) - (12,816)
-------------- ------------- -------------- ---------------
Net Losses...................................................... $(1,089,458) $ (119,929) $ 119,929 $(1,089,458)
============== ============= ============== ===============
F-64
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
CONSOLIDATING STATEMENT OF CASH FLOWS
FOR THE YEAR ENDED DECEMBER 31, 1999
(IN THOUSANDS)
FILERS NON-FILERS ELIMINATION CONSOLIDATED
------ ---------- ----------- ------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net losses..............................................................$(1,089,458) $ (119,929) $ 119,929 $(1,089,458)
------------ ----------- ----------- ------------
Adjustments to reconcile net losses to net cash provided by (used for)
operating activities:
Extraordinary loss......................................................
Loss on sale of assets, net............................................. 65,066 13,607 - 78,673
Impairment loss......................................................... 388,177 69,272 - 457,449
Cumulative effect of change in accounting principle..................... 12,170 646 - 12,816
Reorganization costs, net............................................... 48,132 - - 48,132
Depreciation and amortization........................................... 62,214 19,111 - 81,325
Provision for losses on accounts receivable............................. 120,880 2,337 - 123,217
Equity interest in earnings (losses) of subsidiaries.................... 123,963 (4,034) (119,929) -
Other, net.............................................................. 18,951 (896) - 18,055
Changes in operating assets and liabilities:
Accounts receivable................................................. 142,083 18,781 - 160,864
Other current assets................................................ 28,452 (20,040) - 8,412
Other current liabilities........................................... 88,304 (15,697) - 72,607
Income taxes payable................................................ 37,807 (2,377) - 35,430
----------- ------------- ------------- ------------
Net cash provided by (used for) operating activities before reorganization
costs................................................................... 46,741 (39,219) - 7,522
----------- ------------- ------------- ------------
Net cash paid for reorganization activities (cash paid).................. (269) - - (269)
Net cash provided by (used for) operating activities..................... 46,472 (39,219) - 7,253
----------- ------------- ------------- ------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital expenditures, net............................................... (65,396) (37,057) - (102,453)
Acquisitions, net of cash acquired...................................... (5,731) - - (5,731)
Proceeds from sale of assets held for sale.............................. 8,735 - - 8,735
Proceeds from sale and leaseback of property and equipment.............. - 38,600 - 38,600
Increase in long-term notes receivable.................................. 12,727 3,130 - 15,857
Decrease (increase) in other assets..................................... 56,265 (11,086) - 45,179
----------- ------------- ------------- ------------
Net cash provided by (used for) investing activities.................. 6,600 (6,413) - 187
----------- ------------- ------------- ------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Net borrowings under Revolving Credit Agreement (postpetition) ........ 12,125 - - 12,125
Long-term debt borrowings.............................................. 108,535 17,527 - 126,062
Long-term debt repayments (prepetition)................................ (56,331) (36,171) - (92,502)
Principal payments on prepetition debt authorized by Bankruptcy Court.. (36,118) - - (36,118)
Conversion of Mediplex 6.5% Convertible Subordinated Debentures due
2003................................................................. (6,649) - - (6,649)
Net proceeds from issuance of common stock............................. 1,784 - - 1,784
Purchases of treasury stock............................................ (409) - - (409)
Intercompany advances.................................................. (51,500) 51,500 - -
Other financing activities............................................. (22,170) 7,690 - (14,480)
----------- ------------- ------------- ------------
Net cash provided by (used for) financing activities................. (50,733) 40,546 - (10,187)
----------- ------------- ------------- ------------
Effect of exchange rate on cash and cash equivalents...................... 67 223 - 290
----------- ------------- ------------- ------------
Net increase (decrease) in cash and cash equivalents...................... 2,406 (4,863) - (2,457)
Cash and cash equivalents at beginning of year............................ 16,126 11,378 - 27,504
----------- ------------- ------------- ------------
Cash and cash equivalents at end of year..................................$ 18,532 $ 6,515 $ - $ 25,047
=========== ============= ============= ============
F-65
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
(24) SUBSEQUENT EVENTS
In the first quarter of 2000, the Company began soliciting offers to
purchase its international operations. The company anticipates that it may
recognize a significant loss from the disposition of its international
operations. No purchase agreements have been entered into for these operations
and the Company cannot predict when, or if, these operations will be sold.
The Company is also pursuing the disposition of certain non-core
businesses, including the sale of its SunCare respiratory therapy business and
the therapy equipment manufacturing operations. No purchase agreements have been
entered into for these operations and the Company cannot predict when, or if,
these operations will be sold.
During the period of January 1, 2000 through May 31, 2000, Sun divested a
total of 18 pharmacies in the United Kingdom, resulting in an aggregate gain of
approximately $1.0 million. The aggregate cash consideration received for these
divestitures was approximately $9.7 million.
In the first quarter of 2000, the Company entered into an agreement to sell
16 assisted living facilities, one of which includes a skilled nursing facility.
The transaction closed during the second and third quarters of 2000. The cash
consideration received from this transaction was approximately $1.0 million. In
addition, the Company obtained a note receivable of approximately $0.5 million.
The aggregate debt, capital leases and other liabilities assumed by the
purchaser totaled approximately $66.7 million. The estimated aggregate net loss,
which has been reserved for this transaction was approximately $71.2 million of
which approximately $17.4 million and $53.8 million was recorded to loss on
assets held for sale, net in 1999 and 1998, respectively.
During 2000, the Company transferred two assisted living facilities from
other operations to inpatient services.
During the period of January 1, 2000 through June 30, 2000, the Company
divested one skilled nursing facility and closed one skilled nursing facility.
The aggregate net losses recorded were approximately $0.1 million and $0.3
million for the divestiture and the closure, respectively. See "Note 7 -
Impairment of Long-Lived Assets and Assets Held for Sale."
During the period of January 1, 2000 through June 30, 2000, the Company
identified 29 additional skilled nursing facilities as condidates for
divestiture. These intended divestitures as well as the 20 facilities identified
as candidates for divestiture as of December 31, 1999 require Bankruptcy Court
approval.
F-66
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Board of Directors and Stockholders of
Sun Healthcare Group, Inc.:
We have audited in accordance with generally accepted auditing standards,
the Consolidated Financial Statements of Sun Healthcare Group, Inc. and
subsidiaries in this Form 10-K and have issued our report thereon dated July 13,
2000. Our report on the financial statements includes an explanatory paragraph
with the respect to the uncertainty regarding the Company's ability to continue
as a going concern, as discussed in Note 2 to the financial statements. Our
audit was made for the purpose of forming an opinion on the basic Consolidated
Financial Statements taken as a whole. The schedule identified as SCHEDULE II is
the responsibility of the Company's management and is presented for purposes of
complying with the Securities and Exchange Commission's rules and is not part of
the basic Consolidated Financial Statements. This schedule has been subjected to
the auditing procedures applied in our audit of the basic Consolidated Financial
Statements and, in our opinion, fairly states in all material respects the
financial data required to be set forth therein in relation to the basic
Consolidated Financial Statements taken as a whole.
/s/ Arthur Andersen LLP
- -----------------------
Arthur Andersen LLP
Albuquerque, New Mexico
July 13, 2000
SCHEDULE II
SUN HEALTHCARE GROUP, INC. AND SUBSIDIARIES
(DEBTOR-IN-POSSESSION)
VALUATION AND QUALIFYING ACCOUNTS
COLUMN A COLUMN B COLUMN C COLUMN D COLUMN E
-------- -------- -------- -------- --------
BALANCE AT CHARGED TO ADDITIONS BALANCE AT
BEGINNING COSTS AND CHARGED TO DEDUCTIONS END OF
DESCRIPTION OF PERIOD EXPENSES OTHER ACCOUNTS OTHER PERIOD
- ----------- --------- -------- -------------- ----- ------
Year ended December 31, 1999:
Allowance for doubtful accounts.... $ 79,015 $118,373 (3) $ - $ (45,547) $ 151,841
================ ============== ================= ============= ===============
Exit costs for acquired businesses. $ 4,240 $ - $ - $ (4,240) $ -
================ ============== ================= ============= ===============
Notes receivable reserve........... $ 1,712 $ 4,844 (3) $ - $ - $ 6,556
================ ============== ================= ============= ===============
Reserve for assets held for sale... $ 159,828 $ 85,758 $ - $(174,355) $ 71,231
================ ============== ================= ============= ===============
1998 corporate restructure reserve. $ 3,138 $ - $ - $ (1,174) $ 1,964
================ ============== ================= ============= ===============
1999 restructure reserve........... $ - $ 27,353 $ - $ (27,353) $ -
================ ============== ================= ============= ===============
Year ended December 31, 1998:
Allowance for doubtful accounts.... $ 34,433 $ 81,371 (3) $ 10,726 (1) $ (47,515) $ 79,015
================ ============== ================= ============= ===============
Exit costs for acquired businesses. $ 4,800 $ - $ 3,828 (2) $ (4,388) $ 4,240
================ ============== ================= ============= ===============
Notes receivable reserve........... $ - $ 1,712 (3) $ - $ - $ 1,712
================ ============== ================= ============= ===============
Reserve for assets held for sale... $ - $206,205 $ - $ (46,377) $ 159,828
================ ============== ================= ============= ===============
1998 corporate restructure reserve. $ - $ 4,558 $ - $ (1,420) $ 3,138
================ ============== ================= ============= ===============
Year ended December 31, 1997:
Allowance for doubtful accounts.... $ 16,877 $ 15,839 $ 10,241 (1) $ (8,524) $ 34,433
================ ============== ================= ============= ===============
Exit costs for acquired business... $ - $ - $ 13,209 (2) $ (8,409) $ 4,800
================ ============== ================= ============= ===============
(1) Represents the allowance for doubtful accounts of acquired entities at the
date of acquisition
(2) Exit costs for acquired businesses are included in the purchase price
allocation.
(3) Charges included in provision for losses on accounts receivable.