UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2002
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from ______________ to ______________
Commission File Number 001-16817
FIVE STAR QUALITY CARE, INC.
(Exact name of registrant as specified in its charter)
Maryland 04-3516029
(State of incorporation) (IRS Employer Identification No.)
400 Centre Street, Newton, Massachusetts 02458
(Address of principal executive office) (Zip Code)
617-796-8387
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ]
Number of Common Shares outstanding at August 9, 2002: 8,452,633 shares of
common stock, $0.01 par value.
FIVE STAR QUALITY CARE, INC.
FORM 10-Q
June 30, 2002
INDEX
Page
PART I Financial Information
Item 1. Consolidated Financial Statements (unaudited)
Consolidated Balance Sheet - June 30, 2002 and December 31, 2001 1
Consolidated Statement of Operations - Three and Six Months Ended June 30, 2002 and 2001 2
Consolidated Statement of Cash Flows - Six Months Ended June 30, 2002 and 2001 3
Notes to Consolidated Financial Statements 4
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 7
Item 3. Quantitative and Qualitative Disclosures About Market Risk 11
Forward Looking Statements 12
PART II Other Information
Item 4. Submission of Matters to a Vote of Security Holders 13
Item 6. Exhibits and Reports on Form 8-K 13
Signatures 14
Part I. Financial Information
Item 1. Consolidated Financial Statements
FIVE STAR QUALITY CARE, INC.
CONSOLIDATED BALANCE SHEET
(amounts in thousands, except share amounts)
June 30, December 31,
2002 2001
----------------------------------
(unaudited)
Assets
Current assets:
Cash and cash equivalents $ 4,983 $ 24,943
Accounts receivable, net of allowance
of $3,998 and $3,787 at June 30, 2002 and
December 31, 2001, respectively 27,388 36,436
Due from Marriott Senior Living Services, net 12,722 --
Prepaid expenses and other current assets 4,009 3,750
----------------------------------
Total current assets 49,102 65,129
Restricted cash 4,318 --
Property and equipment, net 50,455 2,914
----------------------------------
$ 103,875 $ 68,043
==================================
Liabilities and Shareholders' Equity
Current liabilities:
Accounts payable and accrued expenses $ 16,823 $ 7,141
Accrued compensation and benefits 5,858 5,288
Accrued real estate taxes 1,519 1,485
Due to affiliates, net 20 2,232
Other current liabilities 542 1,664
----------------------------------
Total current liabilities 24,762 17,810
Long-term liabilities 11,568 --
Commitments and contingencies
Shareholders' equity:
Preferred stock, par value $0.01;
none issued -- --
Common stock, par value $0.01;
8,452,633 and 4,374,334 shares issued
and outstanding as of June 30, 2002 and December 31,
2001, respectively 85 44
Additional paid-in-capital 78,948 50,978
Accumulated deficit (11,488) (789)
----------------------------------
Total shareholders' equity 67,545 50,233
----------------------------------
$ 103,875 $ 68,043
==================================
See accompanying notes
1
FIVE STAR QUALITY CARE, INC.
CONSOLIDATED STATEMENT OF OPERATIONS
(amounts in thousands, except per share amounts)
(unaudited)
Three months ended June 30, Six months ended June 30,
--------------------------- ---------------------------
2002 2001 2002 2001
---- ---- ---- ----
Revenues:
Net revenues from patients and residents $ 131,242 $ 54,468 $ 249,238 $ 110,252
Interest income 36 22 182 45
---------------------------------------------------------------
Total revenues 131,278 54,490 249,420 110,297
Expenses:
Wages and benefits 60,585 39,285 115,518 77,848
Other operating expenses 46,954 10,673 85,639 23,687
Management fee to Marriott 4,267 -- 8,056 --
Rent expense 19,541 14 36,977 44
General and administrative 4,206 5,015 7,690 9,813
Depreciation 488 343 671 632
Impairment of assets 1,649 -- 1,649 --
Restructuring costs 112 -- 112 --
Spin off and merger expense, non recurring -- -- 2,829 --
---------------------------------------------------------------
Total expenses 137,802 55,330 259,141 112,024
---------------------------------------------------------------
Loss from continuing operations
before income taxes (6,524) (840) (9,721) (1,727)
Provision for income taxes -- -- -- --
---------------------------------------------------------------
Loss from continuing operations (6,524) (840) (9,721) (1,727)
Loss from discontinued operations (806) (223) (978) (175)
---------------------------------------------------------------
Net loss $ (7,330) $ (1,063) $ (10,699) $ (1,902)
===============================================================
Weighted average shares outstanding 8,445 4,374 6,644 4,374
===============================================================
Basic and diluted loss per share from:
Continuing operations $ (0.77) $ (0.19) $ (1.46) $ (0.40)
Discontinued operations (0.10) (0.05) (0.15) (0.04)
---------------------------------------------------------------
Net loss per share $ (0.87) $ (0.24) $ (1.61) $ (0.44)
===============================================================
See accompanying notes
2
FIVE STAR QUALITY CARE, INC.
CONSOLIDATED STATEMENT OF CASH FLOWS
(dollars in thousands)
(unaudited)
Six months ended June 30,
-------------------------------
2002 2001
-------------------------------
Cash flows from operating activities:
Net loss $(10,699) $ (1,902)
Adjustments to reconcile net loss to cash provided by (used in)
operating activities:
Spin off and merger expense 2,829 --
Depreciation 671 632
Impairment of assets 1,649 --
Net loss from discontinued operations 978 175
Changes in assets and liabilities:
Accounts receivable, net 9,048 (30)
Due from Marriott Senior Living Services, net (12,722) --
Prepaid expenses and other current assets (312) (3,027)
Accounts payable and accrued expenses 8,896 (3,224)
Accrued compensation and benefits 571 (513)
Due to affiliates, net (3,398) 2,732
Other current and long-term liabilities 10,446 (2,769)
-------------------------------
Cash provided by (used in) operating activities 7,957 (7,926)
-------------------------------
Cash flows from investing activities:
Change in restricted cash (4,318) --
Real estate purchases (46,157) --
Furniture, fixtures and equipment purchases (2,600) (2,522)
Investment in facilities' operations -- 8,218
-------------------------------
Cash (used in) provided by investing activities (53,075) 5,696
-------------------------------
Cash flows from financing activities:
Proceeds from issuance of common stock 26,136 --
-------------------------------
Cash provided by financing activities 26,136 --
Net cash used in discontinued operations (978) (175)
-------------------------------
Change in cash and cash equivalents (19,960) (2,405)
Cash and cash equivalents at beginning of period 24,943 7,178
-------------------------------
Cash and cash equivalents at end of period $ 4,983 $ 4,773
===============================
Non-cash investing and financing activities:
Acquisition of assets by merger $ (1,052)
Assumption of liabilities by merger 2,006
Issuance of common stock for merger 1,875
See accompanying notes
3
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(dollars in thousands, except per share amounts)
(Unaudited)
Note 1. Basis of Presentation and Organization
The accompanying condensed consolidated financial statements of Five Star
Quality Care, Inc. and its subsidiaries have been prepared without audit.
Certain information and footnote disclosures required by generally accepted
accounting principles for complete financial statements have been condensed or
omitted. We believe the disclosures made are adequate to make the information
presented not misleading. However, the accompanying financial statements should
be read in conjunction with the financial statements and notes contained in our
Annual Report on Form 10-K for the year ended December 31, 2001. In the opinion
of our management, all adjustments, which include only normal recurring
adjustments considered necessary for a fair presentation, have been included.
All intercompany transactions and balances between Five Star and its
subsidiaries have been eliminated. Our operating results for interim periods are
not necessarily indicative of the results that may be expected for the full
year.
Until December 31, 2001, we were a wholly owned subsidiary of Senior Housing
Properties Trust ("Senior Housing"). On December 31, 2001, Senior Housing
distributed substantially all of our common shares to Senior Housing's
shareholders (the "Spin-Off"). We entered into a transaction agreement to govern
our initial capitalization and other events related to the Spin-Off. Pursuant to
the transaction agreement, our initial capitalization of $50,000 was provided by
Senior Housing and we entered into a lease agreement with Senior Housing for
certain facilities. On January 2, 2002, we acquired FSQ, Inc. in a stock for
stock transaction. On January 11, 2002, we entered a lease with Senior Housing
for 31 independent and assisted living communities managed by a subsidiary of
Marriott International, Inc. ("Marriott"). In March and April 2002, we completed
a public offering of 3,823,300 common shares raising net proceeds of $26,263. On
April 1 2002, we purchased and began to operate five additional independent and
assisted living communities.
Note 2. Summary of Significant Accounting Policies
RESTRICTED CASH. Restricted cash includes $3,800 we have deposited as security
for letters of credit which secure obligations arising from our professional
liability insurance program. Restricted cash also includes $518 we placed into
escrow as required by certain healthcare regulatory agencies.
REVENUE RECOGNITION. Our revenues are derived primarily from services to
residents at properties we own or lease. We accrue revenues when services are
provided and revenues are earned. Some of our revenues are provided with the
expectation of payment from governments or other third-party payors; these
revenues are reported at their estimated net realizable amounts at the time the
services are provided.
ESTIMATES AND ASSUMPTIONS. The preparation of financial statements in conformity
with accounting principles generally accepted in the United States requires
management to make estimates and assumptions that affect the reported amounts of
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.
INCOME TAXES. Prior to the Spin-Off, substantially all of our taxable income was
included in the taxable income of Senior Housing. After the Spin-Off, we are a
separate entity and are responsible for our own tax liabilities and filings. For
the six month period ended June 30, 2002, we generated losses for income tax
purposes which created a net operating loss carry forward. Because we have a
short operating history during which we have generated no taxable income, we
have fully reserved the value of this net operating loss carry forward. As a
result, we have recorded no income tax benefit for the six month period ended
June 30, 2002.
PER COMMON SHARE AMOUNTS. Earnings per share for the periods ended June 30,
2002, are computed using the weighted average number of shares outstanding
during the periods. Earnings per share for the periods ended June 30, 2001, have
been computed as if the shares outstanding at December 31, 2001, were
outstanding as of January 1, 2001. We have no common share equivalents,
instruments convertible into common shares or other dilutive instruments.
4
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(dollars in thousands, except per share amounts)
(Unaudited)
NEW ACCOUNTING PRONOUNCEMENTS. In 2001 the Financial Accounting Standards Board
issued Statement of Financial Accounting Standards ("SFAS") No. 141, "Business
Combinations", SFAS No. 142, "Goodwill and Other Intangible Assets" and SFAS No.
144, "Accounting for the Impairment or Disposal of Long-Lived Assets". We
adopted these pronouncements on January 1, 2002. The adoption of these standards
did not have a material effect on our financial position or results of
operations. See footnote 8 regarding discontinued operations.
PROPERTY AND EQUIPMENT. Property and equipment is stated at cost. We depreciate
furniture, fixtures and equipment on a straight-line basis over five to 12 years
and buildings on a straight-line basis over 40 years.
IMPAIRMENT. When conditions or events occur that management believes might
indicate that property and equipment or other long-lived assets are impaired, an
analysis of estimated future undiscounted cash flows is undertaken to determine
if any write-down of the carrying value of the asset is required. During the
quarter ended June 30, 2002, we incurred asset impairment charges of $1,649. The
largest component of this charge related to skilled nursing bed licenses which
are currently held for sale. A prior agreement to sell these licenses did not
close; and, based on the decline in estimated market value of these licenses, we
reduced their carrying value by $1,500. The remainder of these charges related
to a three percent interest in a partnership which owns a retirement community
which we acquired as an incidental asset as part of our transaction to lease 31
senior living communities managed by Marriott in January 2002, and that we now
believe is permanently impaired.
SELF-INSURANCE. We are self-insured up to certain limits for our workers
compensation and professional liability insurance. Claims in excess of these
self funded limits are fully insured. We accrue the estimated cost of these self
funded amounts based on projected settlements for pending claims and known
incidents which we expect may result in claims. Periodically these accrued
estimates are adjusted based upon our claims payment experience or revised
estimates from our consulting professionals. Starting in August 2002, we will be
self insured for a portion of our employee health insurance.
RESTRUCTURING COSTS. During the quarter ended June 30, 2002, we reduced the
number of our regional offices and had staff reductions in our home office. As a
result, we incurred restructuring costs for severance payments to terminated
employees.
Note 3. Long Term Liabilities
The long term liabilities on our June 30, 2002, balance sheet represent advance
payments received from residents at some of our facilities. These amounts are
recognized as revenues when services are provided, based upon estimates of the
remaining periods of the residents' expected lives or based upon actual
occupancies.
Note 4. Marriott Managed Communities
On January 11, 2002, we entered into a lease with Senior Housing for 31
retirement communities. These communities are managed by Marriott under
agreements for terms generally expiring in 2027 plus renewal options for one
five year period. Marriott has responsibility for day-to-day operations of these
communities. These 31 retirement communities are leased from Senior Housing
through 2017, with renewal options totaling an additional 15 years. The minimum
rent payable by us for these facilities is $63,000 per year, plus a varying
percentage of gross revenue, which is paid as additional rent to Senior Housing
but escrowed for capital expenditures at these facilities. In addition,
percentage rent will be payable, starting in 2003, in amounts equal to five
percent (5%) of net patient revenues at each facility in excess of net patient
revenues at such facility in 2002.
Marriott controls our net working capital of $6,537 for the 31 retirement
communities they manage for us consisting primarily of operating cash,
inventories, resident deposits and trade receivables and payables. The
individual components of working capital controlled by Marriott change daily and
are not reported to us. Accordingly these components are not itemized on our
consolidated balance sheet; however, the net working capital advanced is
included in Due from Marriott, net, on our consolidated balance sheet.
5
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(dollars in thousands, except per share amounts)
(Unaudited)
Note 5. Acquired Communities
On April 1, 2002 we purchased for $45,500 and began to operate five independent
and assisted retirement communities containing 704 living units.
Note 6. Pro Forma Results
Had we entered into the lease with Senior Housing for the Marriott managed
communities and acquired the five retirement communities as of January 1, 2001,
on a pro forma basis, our revenues and (loss)/income from continuing operations
would have been $260,415 and $(8,462) for the six months ended June 30, 2002,
and $254,030 and $3,761, for the six months ended June 30, 2001, respectively.
Note 7. Shareholders' Equity
On April 5, 2002, the underwriters for our March 2002 offering of common shares
exercised an over allotment option and we issued 123,300 common shares for gross
proceeds of $919. Proceeds received, net of underwriting commissions and
estimated costs, were $863.
On May 7, 2002, we issued a total of 5,000 common shares to our five directors,
or 1,000 shares per director, as part of their annual compensation. The shares
were valued at $7.10 per share, which was the closing price of our common shares
on the American Stock Exchange on May 7, 2002.
Note 8. Discontinued Operations
During the second quarter of 2002, we ceased operations at two leased nursing
homes: one in Phoenix, Arizona, which was leased from Senior Housing; and one
smaller facility in Campbell, Nebraska, which was leased from that municipality.
The Arizona facility was closed. The operations of the Nebraska facility were
assumed by its landlord. As of June 30, 2002, substantially all of our assets
and liabilities related to these nursing homes have been disposed of and paid.
The financial statements for all periods presented have been reclassified to
present these facilities as discontinued operations. Below is a summary of the
operating results of these facilities:
Three Months ended June 30, Six Months ended June 30,
--------------------------- -------------------------
2002 2001 2002 2001
---- ---- ---- ----
Revenues $ 598 $1,416 $1,930 $2,963
Expenses 1,404 1,639 2,908 3,138
--------- ---------- -------- ---------
Net loss $(806) $(223) $(978) $(175)
========= ========== ======== =========
6
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
RESULTS OF OPERATIONS
We were a subsidiary of Senior Housing until December 31, 2001. The 2001 results
discussed in this Quarterly Report on Form 10-Q are for a period during which we
were a subsidiary of Senior Housing and they are not indicative of what our
results would have been as a separate public company. Similarly these results
are not indicative of our future financial performance. Our 2002 first and
second quarter results of operations presented in this Quarterly Report on Form
10-Q differ materially from the 2001 historical results presented. There are
material differences because our current operations include, among other items,
rent expense on leases to Senior Housing, general and administrative costs
incurred by us as a separate public company, revenues and expenses related to
the 31 retirement communities managed by Marriott Senior Living Services, Inc.
("Marriott") that we leased from Senior Housing on January 11, 2002, and
revenues and expenses related to the five retirement communities we purchased on
April 1, 2002.
Three Months Ended June 30, 2002, Compared to Three Months Ended June 30, 2001
Net revenues from patients and residents for the three months ended June 30,
2002, were $131.2 million, an increase of 141% over net revenues of $54.5
million for the 2001 second quarter. This increase is attributable primarily to
our lease of 31 retirement communities on January 11, 2002, and our purchase of
five retirement communities on April 1, 2002. Revenues at the communities we
operated throughout each of the three-month periods ended June 30, 2002 and
2001, were $56.0 and $54.7 million respectively, an increase of 2%. This
increase is due primarily to higher per diem charges to residents. Interest
income increased by $14,000 as a result of earnings on higher cash balances in
the 2002 period. About 39% of our revenues in the three months ended June 30,
2002, were received from Medicare and Medicaid, compared to 78% in the 2001
period.
Expenses for the three months ended June 30, 2002, were $137.8 million, an
increase of 149% over expenses of $55.3 million for the 2001 second quarter. Our
wages and benefits costs increased from $39.3 million to $60.6 million or 54%
primarily due to expenses associated with the 31 retirement communities managed
by Marriott, which we began leasing on January 11, 2002, and our purchase of
five retirement communities on April 1, 2002. Other operating expenses, which
include utilities, housekeeping, dietary, maintenance, insurance and facility
level administrative costs, rose from $10.7 million to $47.0 million or 338%,
again primarily due to the inclusion in our results of the operations of the 31
retirement communities managed by Marriott and the five retirement communities
we acquired. During 2001, Marriott did not manage any communities for us and we
were a subsidiary of Senior Housing that did not lease facilities. As a result,
we did not incur management fees to Marriott or rent expense in 2001. Operating
expenses related to the communities we operated for both three-month periods
ended June 30, 2002 and 2001, were $54.1 million for the 2002 second quarter, an
increase of 8% over operating expenses of $50.1 million for the 2001 second
quarter. This increase is principally the result of higher insurance premiums,
an increase in reserves for self funded parts of our insurance programs and
higher wage and benefit costs, which were only partially offset by a decrease in
expenses from our reduced use of higher cost, third party staffing. Our general
and administrative expenses decreased from $5.0 million to $4.2 million or 16%,
primarily due to non-recurring operational start up costs incurred in the second
quarter of 2001, which were only partially offset by the increased costs
associated with operating as a separate public company in 2002.
Our expenses in the second quarter of 2002 included some large amounts which we
do not expect to recur on a regular basis. These expense arose as follows:
During June 2002, when we implemented new programs for liability, workers
compensation and employee health insurance, we re-evaluated our insurance
reserves and increased estimates for pending claims by $3.2 million. Reserve
estimates arise from the retention or self funded part of our insurance
programs. Reserve account adjustments are made on the basis of periodic review
of pending claims and reported incidents which may result in claims with the
assistance of third party professionals. This $3.2 million adjustment made in
June 2002 was particularly large and we do not expect similar size adjustments
to recur. Our new insurance programs are expected to result in recurring
increased costs of about $450,000 per month starting in July 2002.
A recent review by Marriott of its accounting for the 31 senior living
communities which it manages for us resulted in a change in bad debt reserves
and other one time charges totaling approximately $850,000. These amounts are
7
reflected in our expenses for the three months ended June 30, 2002. We do not
expect similar size adjustments to recur on a regular basis.
We incurred asset impairment charges of $1,649,000 in the second quarter of 2002
related to the write down of two assets. The largest component of these charges
related to a decline in the estimated market value of a closed facility's
skilled nursing bed licenses which are currently held for sale. A prior
agreement to sell these licenses did not close; and, based on a decline in their
estimated market value, we reduced the carrying value of these licenses by $1.5
million. The remainder of this write down related to a 3% interest in a
partnership which we acquired as an incidental asset related to our lease of 31
senior living communities managed by Marriott and which interest we now believe
is permanently impaired.
We also incurred a $112,000 restructuring charge in the second quarter of 2002.
This charge was a result of our reducing the number of our regional offices and
employee reductions at our home office. These costs consist of severance
payments to terminated employees. We expect to incur a restructuring charge of a
similar amount in the third quarter of 2002 for staff reductions at our
facilities which were implemented in July 2002.
Discontinued operations relate to facilities in Arizona and Nebraska that closed
during the quarter ended June 30, 2002. Loss from discontinued operations for
the three months ended June 30, 2002, was $806,000, an increase of $583,000 or
261%, over the 2001 period. The increased loss was caused by decreased occupancy
and increases in outside labor costs. We may close additional facilities before
the end of 2002.
As a result of the factors described above, net loss for the three months ended
June 30, 2002, was $7.3 million, an increase of $6.2 million over the 2001
period.
Six Months Ended June 30, 2002, Compared to Six Months Ended June 30, 2001
Net revenues from patients and residents for the six months ended June 30, 2002,
were $249.2 million, an increase of 126% over net revenues of $110.3 million for
the 2001 period. This increase is attributable primarily to our lease of 31
retirement communities on January 11, 2002, and our purchase of five retirement
communities on April 1, 2002. Revenues at the communities we operated throughout
all of the six-month periods ended June 30, 2002 and 2001, were $111.2 million
and $108.2 million, respectively, an increase of 3%. This increase resulted from
higher resident charges. Interest income increased by $137,000 as a result of
earnings on higher cash balances in the 2002 period. In the six months ended
June 30, 2002, about 40% of our revenues were from Medicare and Medicaid,
compared to 78% in the six months ended June 30, 2001.
Expenses for the six months ended June 30, 2002, were $259.1 million, an
increase of 131% over the expenses of $112.0 million for the 2001 second
quarter. Our wages and benefits costs increased from $77.8 million to $115.5
million, or 48%. Other operating expenses including utilities, housekeeping,
dietary, maintenance, insurance and facility level administrative costs, rose
from $23.7 million to $85.6 million or 261%. These increases were primarily due
to the inclusion in our results of the operations of the 31 retirement
communities managed by Marriott which we began to lease on January 11, 2002 and
the five retirement communities we acquired on April 1, 2002. During 2001,
Marriott did not manage any communities for us and we were a subsidiary of
Senior Housing. As a result, we did not incur management fees to Marriott or
rent expense in 2001. Operating expenses related to the communities we operated
for both the six-month periods ended June 30, 2002 and 2001, were $104.8 million
for the 2002 period, an increase of 5% over operating expenses of $99.4 million
for the 2001 period. The increase is principally attributable to higher
insurance premiums, an increase in reserves for self funded parts of our
insurance programs and higher wage and benefits costs, which were partially
offset by a decrease in expenses from our reduced use of higher cost, third
party staffing. Our general and administrative expense decreased from $9.8
million to $7.7 million or 21%, primarily due to non-recurring operational start
up costs incurred in the 2001 period which were only partially offset by the
increased costs incurred associated with operating as a separate public company
in 2002. During the 2002 period, we incurred non-recurring expenses related to
our merger with FSQ, Inc. of $2.8 million in January 2002. We also incurred the
unusually large expenses, the asset impairment charges and the restructuring
charges in 2002, as discussed above.
Loss from discontinued operations for the six months ended June 30, 2002 was
$978,000, an increase of $803,000, or 459%, over the 2001 period. This increased
loss was primarily caused by declining occupancies, increased use of higher
cost, third party staffing, higher insurance costs and higher self funded
insurance reserve costs.
8
As a result of the factors described above, net loss for the six months ended
June 30, 2002, was $10.7 million, an increase of $8.8 million, or 463%, over the
2001 period.
LIQUIDITY AND CAPITAL RESOURCES
At the time of our spin off from Senior Housing on December 31, 2001, we had
cash and cash equivalents of $24.9 million. In March and April 2002, we
completed a public offering of our common shares raising net proceeds of $26.3
million. A significant amount of our cash was used to acquire five senior living
communities for $45.5 million on April 1, 2002. Additional cash was generated
from and used in our operations and in other expansion activities, such as the
working capital required by our assumption of the lease for 31 senior living
communities managed by Marriott on January 11, 2002. At June 30, 2002, we had
cash and equivalents of $5.0 million.
At June 30, 2002, we had net working capital, or current assets in excess of
current liabilities, of $24.3 million. Our current assets of $49.1 million
include $5.0 million of cash and cash equivalents, $27.4 million of accounts
receivable most of which are due from governmental Medicare and Medicaid
authorities, $12.7 million due from Marriott and $4.0 million of prepaid
expenses.
We currently have no obligations for funded debt. Our only material financial
obligations are our leases to Senior Housing and our obligations to provide
services to certain residents who have made advance payment deposits. Our Senior
Housing lease obligations total $70 million/year, or $5.8 million/month. Our
residents' deposits for future services totaled $11.6 million at June 30, 2002,
and these deposits are recognized as revenues when services are provided, based
upon estimates of the remaining periods of the residents' expected lives or
based upon actual occupancies.
None of our assets, including our $27.4 million of accounts receivable, are
encumbered by debt. In January 2002, we accepted a letter of intent for a $20
million line of credit to be secured by our accounts receivables. During the
process of documenting this line of credit, we determined not to enter this debt
arrangement for three reasons:
First, we were unable to agree upon final terms, particularly certain changes
requested by this lender which we believed were different from terms in the
letter of intent.
Second, we have determined to focus our expansion efforts upon senior living
communities where rents and services are paid by residents from private
resources rather than by the Medicare and Medicaid programs. Payments from our
residents' private resources are generally received monthly in advance. Payments
from Medicaid and Medicare programs are generally received monthly in arrears
and may be delayed for extended periods because of audit requirements or
governmental funding delays. Because our efforts are currently focused toward
private pay revenues and away from Medicare and Medicaid revenues, we expect
that our accounts receivable will gradually decline both in total amounts and as
a percentage of our total assets. In these circumstances, we decided that a $20
million line of credit which is secured by, and limited to a percentage of, our
accounts receivable was not required and not cost effective. Accordingly, we
decided to reduce the amount of this line of credit.
Third, a new lender offered us a line of credit secured by accounts receivable
at a reduced cost. We have entered a non binding letter of intent with this new
lender for a line of credit secured by our accounts receivable. At this time we
expect this line of credit to be for $12.5 million, and that we will have the
ability to expand this credit facility in certain circumstances, but we will not
be required to pay up-front costs or stand-by fees for the expanded capacity
unless it is used. This new financing arrangement is subject to documentation
and other conditions. We expect this new financing to close before September 30,
2002, but it may not close by that date or at all.
Our primary source of cash to fund operating expenses, including rent and
routine capital expenditures, is our revenues from services to residents at our
facilities. Changes in laws and regulations which impact Medicare or Medicaid
rates, on which some of our properties rely, may materially affect our future
results. Similarly, recent increases in the costs of insurance, especially tort
liability insurance, workers compensation and employee health insurance costs,
which are affecting the senior living industry will have a material adverse
impact upon our future results of operations. Nonetheless, we believe that our
revenues will be sufficient to allow us to meet our ongoing operating expenses,
working capital needs and rent payments to Senior Housing in the short term, or
next 12 months, and long term, whether or not we arrange for a line of credit
secured by our receivables, as described above.
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Seasonality
Our business is subject to modest effects of seasonality. During the calendar
fourth quarter holiday periods nursing home and assisted living residents are
sometimes discharged to join family celebrations and admission decisions are
often deferred. The first quarter of each calendar year usually coincides with
increased illness among nursing home and assisted living residents which can
result in increased costs or discharges to hospitals. As a result of these
factors, nursing home and assisted living operations sometimes produce greater
earnings in the second and third quarters of a calendar year and lesser earnings
in the first and fourth quarters. We do not believe that this seasonality will
cause fluctuations in our revenues or operating cash flow to such an extent that
we will have difficulty paying our expenses, including rent, which do not
fluctuate seasonally.
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Item 3. Quantitative and Qualitative Disclosures About Market Risk
We have no obligations for funded debt and, accordingly, are not directly
affected by changes in market interest rates. However, as discussed above, we
expect to enter into a $12.5 million revolving credit facility secured by
certain of our accounts receivable. We expect that this loan facility will
require interest on drawn amounts at floating rates based upon a spread above
LIBOR. Whenever borrowings are outstanding under such a credit facility we may
be exposed to market changes in interest rates, especially market changes in
short term LIBOR rates. For example, if the full amount of a $12.5 million line
of credit were drawn and interest rates rose by 1% per annum, our interest
expense would increase by $125,000 per year, or $0.015 per common share.
Depending upon our exposure to interest rate risks for floating rate obligations
outstanding from time to time in the future, we may decide to purchase interest
rate caps or other hedging instruments.
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FORWARD LOOKING STATEMENTS
THIS QUARTERLY REPORT ON FORM 10-Q CONTAINS FORWARD LOOKING STATEMENTS WITHIN
THE MEANING OF THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995 AND THE
FEDERAL SECURITIES LAWS. FOR EXAMPLE, THIS REPORT ON FORM 10-Q STATES OR IMPLIES
THAT WE WILL BE ABLE TO OPERATE OUR PROPERTIES IN A FINANCIALLY SUCCESSFUL
MANNER, THAT CERTAIN LARGE CHARGES AND CHANGES IN INSURANCE RESERVE ESTIMATES
WILL NOT RECUR, THAT WE EXPECT TO CLOSE A NEW $12.5 MILLION SECURED CREDIT
FACILITY, THAT WE MAY CLOSE ADDITIONAL FACILITIES, THAT OUR ACCOUNTS RECEIVABLE
FROM MEDICARE AND MEDICAID WILL DECREASE AND THAT WE BELIEVE WE WILL BE ABLE
EXPAND OUR BUSINESS FOCUSED UPON SERVICES TO RESIDENTS WHO PAY WITH PRIVATE
RESOURCES. HOWEVER, OUR OPERATING FINANCIAL RESULTS MAY DETERIORATE BECAUSE OF
CHANGES IN MARKET CONDITIONS, LOWER MEDICARE AND MEDICAID RATES, HIGHER
INSURANCE COSTS, RECURRING LARGE CHANGES IN INSURANCE RESERVES OR OTHERWISE; WE
MAY BE UNABLE TO AGREE UPON TERMS FOR A NEW CREDIT FACILITY; AND WE MAY BE
UNABLE TO IDENTIFY OR CLOSE EXPANSION OPPORTUNITIES ON ACCEPTABLE TERMS. OUR
EXPECTED RESULTS MAY NOT BE ACHIEVED, AND ACTUAL RESULTS MAY DIFFER MATERIALLY
FROM OUR EXPECTATIONS. INVESTORS ARE CAUTIONED NOT TO PLACE UNDUE RELIANCE ON
FORWARD-LOOKING STATEMENTS AND SHOULD NOT RELY UPON FORWARD LOOKING STATEMENTS
EXCEPT AS STATEMENTS OF OUR PRESENT INTENTIONS AND OF OUR PRESENT EXPECTATIONS
WHICH MAY OR MAY NOT OCCUR.
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Part II. Other Information
Item 4. Submission of Matters to a Vote of Security Holders
At our annual meeting of shareholders held on May 7, 2002, the following matters
were voted on by our shareholders:
(A) Election of Directors. John L. Harrington and Barry M. Portnoy
were re-elected directors: 4,231,291 shares voted for and
228,323 shares withheld with respect to Mr. Harrington; and
4,215,181 shares voted for and 244,133 shares withheld with
respect to Mr. Portnoy. The terms of Messrs. Harrington and
Portnoy will extend until our annual meeting of shareholders
in 2005. Messrs. Arthur G. Koumantzelis and Gerard M. Martin
and Dr. Bruce M. Gans, M.D., continue to serve as directors
with terms expiring in 2003, 2003 and 2004, respectively.
(B) Approval of Stock Plan. Our 2001 Stock Option and Stock
Incentive Plan was approved by our shareholders: 1,152,813
shares voted for, 400,710 shares voted against, 32,871 shares
abstaining and 2,873,220 broker non-votes. Under the 2001
Stock Option and Stock Incentive Plan, we may issue up to
650,000 common shares, common share options or other rights.
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits:
99.1 Certification pursuant to 18 U.S.C. Section 1350, as adopted
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
Reports on Form 8-K:
1. On April 11, 2002, Five Star Quality Care, Inc. filed a
Current Report on Form 8-K dated April 1, 2002 reporting under
Item 2 the acquisition of five retirement communities for
$45.5 million.
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
FIVE STAR QUALITY CARE, INC.
By: /s/ Evrett W. Benton
Evrett W. Benton
President and Chief Executive Officer
Dated: August 12, 2002
By: /s/ Bruce J. Mackey Jr.
Bruce J. Mackey Jr.
Treasurer and Chief Financial Officer
Dated: August 12, 2002
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