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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
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(Mark One)
(X) ANNUAL REPORT PURSUANT TO SECTION 13 or 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934 (FEE REQUIRED)
For the fiscal year ended December 31, 2003
OR
( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934 (NO FEE REQUIRED)
For the transition period from to
Commission File No. 0-12015
HEALTHCARE SERVICES GROUP, INC.
(Exact name of registrant as specified in its charter)
Pennsylvania 232018365
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(State or other jurisdiction of (IRS Employer Identification No.)
incorporated or organization)
3220 Tillman Drive, Suite 300, Bensalem, PA 19020
(Address of principal executive offices) (Zip code)
Registrant's telephone number, including area code: (215) 639-4274
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Securities registered pursuant to Section 12(b) of the Act:
Name of Each Exchange
Titles of Each Class on Which Registered
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NONE
Securities registered pursuant to Section 12(g) of the Act:
Shares of Common Stock ($.01 par value)
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Title of Class
Indicate by check mark whether the registrant (1) has filed all reports
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
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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 definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K.
YES X NO
--- ---
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act).
YES X NO
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The aggregate market value of voting stock (Common Stock, $.01 par
value) held by non-affiliates of the Registrant as of June 30, 2003 was
approximately $140,791,470. Indicate the number of shares outstanding of each of
the registrant's classes of common stock, as of the latest practicable date: At
February 25, 2004 there were outstanding 11,616,202 shares of the Registrant's
Common Stock, $.01 par value.
DOCUMENTS INCORPORATED BY REFERENCE
The information required by Part III of Form 10-K will be incorporated
by reference to certain portions of a definitive proxy statement which is
expected to be filed by the Registrant pursuant to Regulation 14A within 120
days after the close of its fiscal year.
PART I
References made herein to "we," "our," or "us" include Healthcare
Services Group, Inc. and its wholly owned subsidiaries HCSG Supply, Inc. and
Huntingdon Holdings, Inc., unless the context otherwise requires.
Item I. Business
(a) General
Healthcare Services Group, Inc. provides housekeeping, laundry, linen,
facility maintenance and food services to the health care industry, including
nursing homes, retirement complexes, rehabilitation centers and hospitals. We
believe that we are the largest provider of contractual housekeeping and laundry
services to the long-term care industry in the United States, rendering such
services to approximately 1,500 facilities in 43 states and Canada as of
December 31, 2003.
(b) Segment Information
The information called for herein is incorporated by reference
to the Company's Annual Report to Shareholders for the year ended December 31,
2003, a copy of which accompanies this Report.
(c) Description of Services - General
We provide management, administrative and operating expertise and
services to the housekeeping, laundry, linen, facility maintenance and food
service departments of the health care industry. Our labor force is also
interchangeable with respect to each of these services, with the exception of
food services. Although there are many similarities in the nature of the
services performed, there are some significant differences in the specialized
expertise required of the professional management personnel responsible for
delivering the respective services. We believe each service provides opportunity
for growth. At December 31, 2003, one client, Beverly Enterprises, Inc.,
accounted for approximately 23% of our total consolidated revenues. In 2003, we
derived from such client approximately 23% and 22% of the housekeeping, laundry,
linen and other services, and food services segments' revenues, respectively.
Housekeeping services. Housekeeping services is our largest service
sector, representing approximately 59% or $223,302,834 of total consolidated
revenues in 2003. It involves cleaning, disinfecting and sanitizing resident
areas in the facilities. In providing services to any given client facility, we
typically hire and train the hourly employees who were employed by such facility
prior to our engagement. We normally assign two on-site managers to each
facility to supervise and train hourly personnel and coordinate housekeeping
services with other facility support functions. Such management personnel also
oversee the execution of a variety of quality and cost-control procedures
including continuous training and employee evaluation and on-site testing for
infection control. The on-site management team also assists the facility in
complying with Federal, state and local regulations.
1
Laundry and linen services. Laundry and linen services represents
approximately 25% or $93,256,831 of total consolidated revenues in 2003. Laundry
services involves laundering and processing of the residents' personal clothing.
We provide laundry service to all of our housekeeping clients. Linen services
involves providing laundering and processing of the sheets, pillow cases,
blankets, towels, uniforms and assorted linen items used by the facilities. At
some facilities that utilize our linen service, we installed our own equipment.
Such installation generally requires an initial capital outlay by us ranging
from $50,000 to $250,000 depending on the size of the facility, installation and
construction costs, and the amount of equipment required. We could incur
relocation or other costs in the event of the cancellation of a linen service
agreement where there was an investment by us in a corresponding laundry
installation. The hiring, training and supervision of laundry and linen
services' hourly employees are similar to, and performed by the same management
personnel who perform housekeeping services.
From January 1, 2001 through December 31, 2003, our services were
cancelled by 43 facilities with respect to which we had previously invested in a
laundry installation. Laundry installations relating to facilities where such
service agreements were cancelled in 2002 and 2001 resulted in our receiving
approximately $8,000 and $11,000, respectively, less than the net amount at
which these assets were recorded on our balance sheet. In the year ended
December 31, 2003, laundry installations, relating to clients whose service
agreements with us were terminated, were sold to our clients for an amount in
excess of the net amount recorded on our balance sheet. In some instances we own
linen supplies, and we maintain a sufficient inventory of these items in order
to ensure their availability. We provide linen supplies to approximately twenty
per cent of the facilities for which we provide housekeeping services.
Food services. In 1997, we began providing food services which
represents approximately 16% or $61,677,500 of total consolidated revenues in
2003. Food services consist of the development of a menu that meets the
residents' dietary needs, purchasing and preparing the food to assure that
residents receive an appetizing meal, and participation in monitoring the
residents' on-going nutrition status. On-site management is responsible for all
daily food service activities, with regular support being provided by a district
manager specializing in food service, as well as a registered dietitian. We also
provide consulting services to facilities to assist them in updating and cost
containment with respect to food service operations.
Maintenance and other services. Maintenance services consist of repair
and maintenance of laundry equipment, plumbing and electrical systems, as well
as carpentry and painting. This service sector's total revenues represent less
than 1% of total consolidated revenues.
Laundry installation sales. We (as a distributor of laundry equipment)
sell laundry installations to our clients which generally represent the
construction and installation of a turn-key operation. We generally offer
payment terms, ranging from 36 to 60 months. There were no service agreement
cancellations in 2003, 2002 or 2001 by clients who purchased laundry
installations from us. During the years 2001 through 2003, laundry installation
sales were not material to our operating results as we prefer to own such
laundry installations in connection with performance of our service agreements.
2
Operational-Management Structure
By applying our professional management techniques, we are generally
able to contain or control certain housekeeping, laundry, linen, facility
maintenance and food service costs on a continuing basis. We manage and provide
our services through a network of management personnel, as illustrated below.
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President
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Vice President - Operations
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Divisional Vice President
(4 Divisions)
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Regional Vice President/Manager
(30 Regions)
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District Manager
(148 Districts)
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Training Manager
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Facility Manager and
Assistant Facility Manager
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Each facility is managed by an on-site Facility Manager, an Assistant
Facility Manager, and if necessary, additional supervisory personnel. Districts,
typically consisting of from eight to twelve facilities, are supported by a
District Manager and a Training Manager. District Managers bear overall
responsibility for the facilities within their districts. They are generally
based within close proximity to each facility. These managers provide active
support to clients in addition to the support provided by our on-site
management. Training Managers are responsible for the recruitment, training and
development of Facility Managers. At December 31, 2003 we maintained 30 regions
within four divisions. A division consists of a number of regions within a
specific geographical area. Divisional Vice Presidents manage each division.
Each region is headed by a Regional Vice President/Manager. Some regions have a
Regional Sales Director who assumes primary responsibility for marketing our
services. Regional Vice President/Managers report to Divisional Vice Presidents
who in turn report to the President or Vice President of Operations. We believe
that our divisional, regional and district organizational structure facilitates
our ability to obtain new clients, and our ability to sell additional services
to existing clients.
3
Market
The market for our services consists of a large number of facilities
involved in various aspects of the health care industry including, nursing
homes, retirement complexes, rehabilitation centers and hospitals. Such
facilities may be specialized or general, privately owned or public, profit or
not-for-profit, and may serve patients on a long-term or short-term basis. The
market for our services is expected to continue to grow as the elderly increase
as a percentage of the United States population and as government reimbursement
policies require increased cost control or containment by constituents of our
targeted market.
In 2003 the long-term care market consisted of approximately 23,000
facilities, according to estimates of the Department of Health and Human
Services. The facilities primarily range in size from small private facilities
with 65 beds to facilities with over 500 beds. We market our services primarily
to facilities with 100 or more beds. We believe that approximately eight percent
of long-term care facilities currently use outside providers of housekeeping and
laundry services.
Marketing and Sales
Our services are marketed at four levels of our organization: at the
corporate level by the Chief Executive Officer, President and the Vice President
of Operations; at the divisional level by Divisional Vice Presidents; at the
regional level by the Regional Vice Presidents/Managers and Regional Sales
Directors; and at the district level by District Managers. We provide incentive
compensation to our operational personnel based on achieving budgeted earnings
and to our Regional Sales Directors based on achieving budgeted earnings and new
business revenues.
Our services are marketed primarily through referrals and in-person
solicitation of target facilities. We also utilize direct mail campaigns and
participate in industry trade shows, health care trade associations and
healthcare support services seminars that are offered in conjunction with state
or local health authorities in many of the states in which we conduct our
business. Our programs have been approved for continuing education credits by
state nursing home licensing boards in certain states, and are typically
attended by facility owners, administrators and supervisory personnel, thus
presenting marketing opportunities for us. Indications of interest in our
services arising from initial marketing efforts are followed up with a
presentation regarding our services and survey of the service requirements of
the facility. Thereafter, a formal proposal, including operational
recommendations and recommendations for proposed savings, is submitted to the
prospective client. Once the prospective client accepts the proposal and signs
the service agreement, we can set up our operations on-site within days.
4
Government Regulation of Clients
Our clients are subject to government regulation. Congress has enacted
three major laws during the past seven years that have significantly altered
government payment procedures and amounts for nursing home services. They are
the Balance Budget Act of 1997 ("BBA"), the Medicare Balanced Budget Refinement
Act of 1999 ("BBRA") and the Benefits Improvement and Protection Act of 2000
("BIPA").
Under BBA, participating nursing facilities are reimbursed under a
prospective payment system referred to as PPS. Under PPS, nursing homes are paid
a predetermined amount per patient, per day based on the anticipated costs of
treating patients.
In November 1999, Congress passed BBRA which provided some relief
(since expired) for certain reductions in Medicare reimbursement caused by the
Prospective Payment System ("PPS").
The overall effect of these laws, as well as other trends in the long
term care industry have and could adversely affect the liquidity of the
Company's clients resulting in their inability to make payments on agreed upon
payment terms.
The BBA included provisions affecting Medicaid and repealed the "Boren
Amendment" federal payment standard for Medicaid payments to nursing facilities.
With the repeal of the federal payment standards, there can be no assurance that
budget constraints or other factors will not cause states to reduce Medicaid
reimbursements to nursing homes or that payments to nursing homes will be made
on a timely basis. BIPA enacted a phase out of certain governmental transfers
that may reduce federal support for a number of state Medicaid plans. The
reduced federal payments may impact aggregate available funds requiring states
to further contain payments to providers.
Although PPS directly affects how clients are paid for certain
services, we do not directly participate in any government reimbursement
programs. Accordingly, all of our contractual relationships with our clients
continue to determine the clients' payment obligations to us. However, clients'
revenues are generally highly reliant on Medicare and Medicaid reimbursement
funding rates. Therefore, many clients have been and continue to be adversely
affected by PPS, and other trends in the long-term care industry which have
resulted in certain of our clients filing for bankruptcy protection. Others may
follow (see " Liquidity and Capital Resources").
The prospects for legislative relief is uncertain. We are unable to
estimate the ultimate impact of any changes in reimbursement programs affecting
our clients future results of operations and/or its impact on our cash flows and
operations.
5
Service Agreements/Collection
We primarily provide our services pursuant to full service agreements
with our clients. In a full service agreement, we assume both management and
payroll responsibility for the hourly housekeeping, laundry, linen, facility
maintenance and food service employees. For a limited number of clients, we
provide services on the basis of a management only agreement. In such
agreements, our services are comprised of providing on-site management
personnel, while the hourly and staff personnel remain employees of the
respective client.
We typically adopt and follow the client's employee wage structure,
including its policy of wage rate increases, and pass through to the client any
labor cost increases associated with wage rate adjustments. Under a management
agreement, we provide management and supervisory services while the client
facility retains payroll responsibility for its hourly employees. Substantially
all of our agreements are full service agreements. These agreements typically
provide for a one year term, cancelable by either party upon 30 or 90 days'
notice after the initial 90-day period. As of December 31, 2003, we provided
services to approximately 1,500 client facilities.
Although the service agreements are cancelable on short notice, we have
historically had a favorable client retention rate and expect to continue to
maintain satisfactory relationships with our clients. The risk associated with
short-term agreements have not materially affected either our linen services,
which generally require a capital investment, or laundry installation sales,
which require us to finance the sales price. Such risks are often mitigated by
certain provisions set forth in the agreements entered into by us.
We have had varying collection experience with respect to our accounts
and notes receivable. When contractual terms are not met, we generally encounter
difficulty in collecting amounts due from certain of our clients. Therefore, we
have sometimes been required to extend the period of payment for certain clients
beyond contractual terms. These clients include those in bankruptcy, those who
have terminated service agreements and slow payers experiencing financial
difficulties. In order to provide for these collection problems and the general
risk associated with the granting of credit terms, we have recorded bad debt
provisions (in an Allowance for Doubtful Accounts) of $4,550,000, $6,050,000 and
$5,445,000 in the years ended December 31, 2003, 2002 and 2001, respectively
(see Schedule II- Valuation and Qualifying Accounts, for year-end balances).
These provisions represent 1.2%, 1.8% and 1.9% as a percentage of revenue for
the years ended December 31, 2003, 2002 and 2001, respectively. In making its
credit evaluations, in addition to analyzing and anticipating, where possible,
the specific cases described above, management considers the general collection
risks associated with trends in the long-term care industry. We also establish
credit limits, as well as perform ongoing credit evaluations and monitoraccounts
to minimize the risk of loss. Notwithstanding our efforts to minimize our credit
risk exposure, our clients could be adversely affected if future industry
trends, as discussed in "Government Regulation of Clients" and "Risk Factors",
change in such a manner as to negatively impact their cash flows. If our clients
experience such significant impact in their cash flows, it could have a material
adverse effect on our results of operations and financial condition.
6
Competition
We compete primarily with the in-house support service departments of
our potential clients. Most healthcare facilities perform their own support
service functions without relying upon outside management firms. In addition, a
number of local firms compete with us in the regional markets in which we
conduct business. Several national service firms are larger and have greater
financial and marketing resources than us, although historically, such firms
have concentrated their marketing efforts on hospitals rather than the long-term
care facilities typically serviced by us. Although the competition to provide
service to health care facilities is strong, we believe that we compete
effectively for new agreements, as well as renewals of the existing agreements
based upon the quality and dependability of our services and the cost savings we
believe we can usually effect for existing and new clients.
Employees
At December 31, 2003, we employed approximately 3,253 management,
office support and supervisory personnel. Of these employees, 313 held
executive, regional/district management and office support positions, and 2,940
of these salaried employees were on-site management personnel. On such date, we
employed approximately 15,133 hourly employees. Many of our hourly employees
were previously support employees of our clients. We manage, for a limited
number of our client facilities, the hourly employees who remain employed by
certain of our clients.
Approximately 18% of our hourly employees are unionized. These
employees are subject to collective bargaining agreements that are negotiated by
individual facilities and are assented to by us, so as to bind us as an
"employer" under the agreements. We may be adversely affected by relations
between our client facilities and the employee unions. We are a party to a
negotiated collective bargaining agreement with a limited number of employees at
a few facilities serviced by us. We believe our employee relations are
satisfactory.
Website Access
Our website address is "www.hcsgcorp.com." Our filings with the
Securities and Exchange Commission ("SEC"), as well as other pertinent financial
and Company information are available at no cost on our website as soon as
reasonably practicable after the filing of such reports with the SEC.
(d) Risk Factors
Certain matters discussed in this report include forward-looking
statements that are subject to risks and uncertainties that could cause actual
results or objectives to differ materially from those projected. We undertake no
obligation to publicly update or revise any forward-looking statements, whether
as a result of new information, future events or otherwise. Such risks and
uncertainties include, but are not limited to, risks arising from providing our
services exclusively to the health care industry, primarily providers of
long-term care; credit and collection risks associated with this industry; one
client accounting for 23% of revenue in 2003; our claims experience related to
workers' compensation and general liability insurance; the effects of changes in
regulations governing the industry and the specific risk factors described in
Part I hereof under "Government Regulation of Clients", "Service
Agreements/Collection" and "Competition". Many of our clients' revenues are
highly contingent on Medicare and Medicaid reimbursement funding rates, which
have been and continue to be adversely affected by the change in Medicare
payments under the 1997 enactment of PPS and subsequent refinements. That
change, and the lack of substantive reimbursement funding rate reform
legislation, as well as other trends in the long-term care industry have
resulted in certain of our clients filing for bankruptcy protection. Others may
follow. Any decisions by the government to discontinue or adversely modify
legislation related to reimbursement funding rates will have a material adverse
affect on our clients. These factors, in addition to delays in payments from
clients have resulted in and could continue to result in significant additional
bad debts in the near future. Additionally, our operating results would also be
adversely affected if unexpected increases in the costs of labor and labor
related costs, materials, supplies and equipment used in performing our services
could not be passed on to clients.
7
In addition, we believe that in order to improve our financial
performance we must continue to obtain service agreements with new clients and
provide additional services to existing clients, achieve modest price increases
on current service agreements with existing clients and maintain internal cost
reduction strategies at our various operational levels. Furthermore, we believe
that our ability to sustain the internal development of managerial personnel is
an important factor impacting future operating results and successfully
executing projected growth strategies.
(e) Financial Information About Foreign and Domestic Operations and Export
Sales. Not Applicable.
Item 2. Properties
We lease our corporate offices, located at 3220 Tillman Drive, Suite
300, Bensalem, Pennsylvania 19020, which consists of 16,195 square feet. The
term of the lease expires on September 30, 2005. We also lease office space at
other locations in Pennsylvania, Connecticut, Florida, Illinois, California,
Colorado, Georgia, Alabama and New Jersey. The office sizes range from
approximately 1,000 to 2,500 square feet. These locations serve as divisional or
regional offices. None of these leases is for more than a five-year term. In
addition, we lease warehouse space in Pennsylvania. The warehouse in
Pennsylvania consists of approximately 19,000 square feet. The Pennsylvania
warehouse lease expires on March 31, 2008. We are also provided with office and
storage space at each of our client facilities. Management does not foresee any
difficulties with regard to the continued utilization of such premises.
Management believes that such leases are sufficient for the conduct of our
current operations.
We presently own laundry equipment, office furniture and equipment,
housekeeping equipment and vehicles. Management believes that all of such
equipment is sufficient for the conduct of our current operations.
Item 3. Legal Proceedings.
As of December 31, 2003, there were no material pending legal
proceedings to which we were a party, or as to which any of our property was
subject, other than routine litigation or claims and/or proceedings believed to
be adequately covered by insurance.
8
Item 4. Submission of Matters to a Vote of Security Holders
Not applicable.
PART II
Item 5. Market for Registrant's Common Stock and Related Security
Holder Matters
(a) Market Information
The Company's common stock, $.01 par value (the "Common Stock") is
traded on the NASDAQ National Market System. On December 31, 2003, there were
11,524,598 shares of Common Stock outstanding.
The high and low bids for the Common Stock during the two years ended
December 31, 2003 ranged as follows:
2003 High 2003 Low
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1st Qtr. $13.960 $11.800
2nd Qtr $14.030 $11.240
3rd Qtr. $17.110 $13.950
4th Qtr. $20.161 $15.780
2002 High 2002 Low
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1st Qtr. $10.708 $ 9.540
2nd Qtr $15.450 $11.650
3rd Qtr. $15.750 $11.750
4th Qtr. $13.910 $10.751
(b) Holders
As of February 23, 2004 there were approximately 495 holders of record
of our common stock, including stock held in nominee name by brokers or other
nominees. It is estimated that there are approximately 3,300 beneficial holders.
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(c) Dividends
The Company paid no cash dividends in 2002.
The Company paid regular cash dividends of $.06 and $.07 per common
share for the 2003 second and third quarter, respectively. Additionally, on
January 21, 2004, the Board of Directors declared a regular cash dividend of
$.08 per common share, which was paid on February 13, 2004 to shareholders of
record as of January 31, 2004. We expect to continue the practice of paying
regular quarterly cash dividends. In connection with the declaration of cash
dividends, we have adopted a Dividend Reinvestment Plan in 2003 for such
payments.
On February 12, 2004, the Company's Board of Directors approved a 3 for
2 stock split in the form of a 50% common stock dividend payable on March 1,
2004 to holders of its Common Stock of record as of the close of business
February 23, 2004. All fractional share interests will be rounded up to the
nearest whole number. The effect of this action will be to increase common
shares outstanding by approximately 5,620,000 to approximately 16,860,800.
Items 6 through 8 - Selected Financial Data, Management's Discussion and
Analysis of Financial Condition and Results of Operations
and Financial Statements and Supplementary Data
The information called for herein is incorporated by reference to the
Company's Annual Report to Shareholders for the year ended December 31, 2003,
copies of which accompany this Report.
Item 9. Changes in and Disagreements with Accountants
on Accounting and Financial Disclosures
Not Applicable
Item 9A. Controls and Procedures
The Company maintains "disclosure controls and procedures", as such
term is defined in Rules 13a-15e of the Securities Exchange Act of 1934, as
amended (the "Exchange Act"), that are designed to ensure that information
required to be disclosed in its reports, pursuant to the Exchange Act, is
recorded, processed, summarized and reported within the time periods specified
in the SEC's rules and forms, and that such information is accumulated and
communicated to its management, including its Chief Executive Officer and
Principal Financial Officers, as appropriate, to allow timely decisions
regarding the required disclosures. In designing and evaluating the disclosure
controls and procedures, management has recognized that any controls and
procedures, no matter how well designed and operated, can provide only
reasonable assurances of achieving the desired control objectives, and
management necessarily is required to apply its judgment in evaluating the cost
benefit relationship of possible controls and procedures.
10
The Company's Chief Executive Officer and Principal Financial Officers
(its Principal Executive Officer and Principal Financial Officers, respectively)
have evaluated the effectiveness of its "disclosure controls and procedures" as
of the end of the period covered by this Annual Report on Form 10-K. Based on
their evaluation, the Principal Executive Officer and Principal Financial
Officers concluded that its disclosure controls and procedures are effective.
There were no significant changes in its internal controls or in other factors
that could significantly affect these controls subsequent to the date the
controls were evaluated.
PART III
Item 10. Directors and Executive Officers of the Registrant
The information regarding directors and executive officers is
incorporated herein by reference to the Company's definitive proxy statement to
be mailed to its shareholders in connection with its 2004 Annual Shareholders'
Meeting and to be filed within 120 days of the close of the year ended December
31, 2003.
The Company has adopted a Code of Ethics and Business Conduct which
applies to all directors and salaried employees, including the Company's
principal executive, financial and accounting officers. The Code of Ethics and
Business Conduct is posted on the Company website at www.hcsgcorp.com and is
filed as an exhibit to this Annual Report on Form 10-K. The Company intends to
satisfy the requirements under Item 10 of Form 8-K regarding disclosure of
amendments to, or waivers from, provisions of our Code of Business Conduct and
Ethics that apply, by posting such information on the Company's website. Copies
of the Code of Business Conduct and Ethics will be provided, free of charge,
upon written request directed to the Secretary, Healthcare Services Group, Inc.,
3220 Tillman Drive, Suite 300, Bensalem PA 19020.
Item 11. Executive Compensation
The information regarding executive compensation is incorporated herein
by reference to the Company's definitive proxy statement to be mailed to
shareholders in connection with its 2004 Annual Shareholders Meeting and to be
filed within 120 days of the close of the fiscal year ended December 31, 2003.
Item 12. Security Ownership of Certain Beneficial Owners and Management
The information regarding security ownership of certain beneficial
owners and management is incorporated herein by reference to the Company's
definitive proxy statement to be mailed to shareholders in connection with its
2004 Annual Meeting and to be filed within 120 days of the close of the fiscal
year ending December 31, 2003.
11
Item 13. Certain Relationships and Related Transactions
The information regarding certain relationships and related
transactions is incorporated herein by reference to the Company's definitive
proxy statement mailed to shareholders in connection with its 2004 Annual
Shareholders Meeting and to be filed within 120 days of the close of the fiscal
year ended December 31, 2003.
Item 14. Principal Accounting Fees and Services
The information regarding principal accounting fees and
services is incorporated herein by reference to the Company's definitive proxy
statement mailed to shareholders in connection with its 2004 Annual Shareholders
Meeting and to be filed within 120 days of the close of the fiscal year ended
December 31, 2003.
PART IV
Item 15. Exhibits, Financial Statements Schedules and Reports on Form 8-K
(a) 1. Financial Statements
The documents shown below are contained in the Company's Annual Report
to Shareholders for 2003 and are incorporated herein by reference, copies of
which accompany this report.
Report of Independent Certified Public Accountants.
Balance Sheets as of December 31, 2003 and 2002.
Statements of Income for the three years ended December 31, 2003, 2002
and 2001. Statements of Cash Flows for the three years ended December
31, 2003, 2002 and 2001. Statement of Stockholders' Equity for the
three years ended December 31, 2003, 2002 and 2001. Notes to Financial
Statements.
2. Financial Statement Schedules Included in Part IV of this
report:
Report of Independent Certified Public Accountants.
Schedule II - Valuation and Qualifying Accounts for the three years
ended December 31, 2003, 2002 and 2001.
All other schedules are omitted since they are not required, not
applicable or the information has been included in the Financial Statements or
notes thereto.
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3. Exhibits
The following Exhibits are filed as part of this Report (references
are to Reg. S-K Exhibit Numbers):
Exhibit
Number Title
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3.1 Articles of Incorporation of the Registrant, as amended, are incorporated
by reference to Exhibit 4.1 to the Company's Registration Statement on
Form S-2 (File No. 33-35798).
3.2 Amendment to Articles of Incorporation of the Registrant as of May 30,
2000, is incorporated by reference to Exhibit 3.2 to the Company's Form
10-K for the period ended December 31, 2001.
3.3 Amended By-Laws of the Registrant as of July 18, 1990, are incorporated
by reference to Exhibit 4.2 to the Company's Registration Statement on
Form S-2 (File No. 33-35798).
4.1 Specimen Certificate of the Common Stock, $.01 par value, of the
Registrant is incorporated by reference to Exhibit 4.1 of Registrant's
Registration Statement on Form S-18 (Commission File No. 2-87625-W).
4.2 Employee Stock Purchase Plan of the Registrant is incorporated by
reference to Exhibit 4(a) of Registrant's Registration Statement on Form
S-8 (Commission File No. 333-92835).
4.3 Amendment to Employee Stock Purchase Plan
4.4 Deferred Compensation Plan is incorporated by reference to Exhibit 4(b)
of Registrant's Registration Statement on Form S-8 (Commission File No.
333-92835).
13
10.1 1995 Incentive and Non-Qualified Stock Option Plan, as amended is
incorporated by reference to Exhibit 4(d) of the Form S-8 filed by the
Registrant, Commission File No. 33-58765.
10.2 Amendment to the 1995 Employee Stock Option Plan is incorporated by
reference to Exhibit 4(a) of Registrant's Registration Statement on Form
S-8 (Commission File No. 333-46656).
10.3 1996 Non-Employee Directors' Stock Option Plan, Amended and Restated as
of October 28, 1997 is incorporated by reference to Exhibit 10.6 of Form
10-Q Report for the quarter ended September 30, 1997 filed by Registrant
on November 14, 1997).
10.4 Form of Non-Qualified Stock Option Agreement granted to certain Directors
is incorporated by reference to Exhibit 10.9 of Registrant's Registration
Statement on Form S-1 (Commission File No. 2-98089).
10.5 2002 Stock Option Plan is incorporated by reference to Exhibit 4(a) to
the Company's Quarterly Report on Form 10-Q for the quarter ended June
30, 2002.
10.6 Amendment to 2002 Stock Option Plan is incorporated by reference to
Exhibit 4.1 to the Company's Registration Statement on Form S-8
(Commission File No. 333-107467)
10.7 Healthcare Services Group, Inc. Dividend Reinvestment Plan is
incorporated by reference to the Company's Registration Statement on Form
S-3 (Commission File No. 333-108182)
14 Code of Ethics and Business Conduct
23. Consent of Independent Certified Public Accountants.
31.1 Certification of Principal Executive Officer pursuant to Section 302 of
the Sarbanes-Oxley Act 31.2 Certification of Principal Financial Officer
pursuant to Section 302 of the Sarbanes-Oxley Act
32.1 Certification of the Principal Executive Officer pursuant to Section 906
of the Sarbanes-Oxley Act
32.2 Certification of the Principal Financial Officer pursuant to Section 906
of the Sarbanes-Oxley Act.
14
(b) Reports on Form 8-K
None
15
Selected Financial Data
The selected financial data presented below should be read in conjunction with,
and is qualified in its entirety by reference to, the Financial Statements and
Notes thereto.
(In thousands except for per share data and employees)
Years Ended December 31:
------------------------
2003 2002 2001 2000 1999
---- ---- ---- ---- ----
Revenues $379,718 $328,500 $284,190 $254,668 $232,432
-------- -------- -------- -------- --------
Net income $ 10,860 $ 8,631 $ 7,035 $ 5,588 $ 5,536
-------- -------- -------- -------- --------
Basic earnings per common share $ .96 $ .77 $ .64 $ .51 $ .50
-------- -------- -------- -------- --------
Diluted earnings per common share $ .92 $ .74 $ .64 $ .51 $ .49
-------- -------- -------- -------- --------
Cash dividends per common share $ .13 $ -- $ -- $ -- $ --
-------- -------- -------- -------- --------
Weighted average number of common
shares outstanding for basic EPS 11,366 11,263 10,928 10,964 11,053
-------- -------- -------- -------- --------
Weighted average number of common
shares outstanding for diluted EPS 11,859 11,689 11,078 10,983 11,286
-------- -------- -------- -------- --------
As of December 31:
------------------
Working Capital $113,415 $ 96,117 $ 84,089 $ 74,574 $ 69,785
-------- -------- -------- -------- --------
Total Assets $158,328 $134,296 $120,790 $108,343 $ 98,030
-------- -------- -------- -------- --------
Stockholders' Equity $121,198 $107,881 $ 98,943 $ 90,805 $ 85,961
-------- -------- -------- -------- --------
Book Value Per Share $ 10.52 $ 9.66 $ 8.93 $ 8.30 $ 7.77
-------- -------- -------- -------- --------
Employees 18,386 16,062 15,938 14,811 14,324
-------- -------- -------- -------- --------
16
The following discussion and analysis
should be read in conjunction with
the financial statements and notes thereto.
Management's Discussion and Analysis of Financial Condition And Results
of Operations
Results of Operations
From 1998 through 2003, the Company's revenues grew at a compound annual rate of
13.1%. The company is organized into two business segments: housekeeping,
laundry, linen and other services ("Housekeeping") and Food services.
Specifically, during this period, our Company's Housekeeping services' segment
grew at a compound annual rate of 10.7%, whereas the Food service segment
experienced compound annual growth of 35.8%. This growth in the Housekeeping
services' segment was achieved primarily through obtaining new clients. The
growth in the Food services' segment, which the Company began providing services
in 1997, is almost exclusively from providing such services to existing clients
of the Company's Housekeeping services' segment. Although there can be no
assurance thereof, the Company anticipates future revenue growth due to the
strength of its presence in the long-term health care market. It is likely
though, that its compound growth rates will decrease as growth is measured
against the Company's increasing revenue base.
The following table sets forth for the years indicated the percentage which
certain items bear to revenues:
Relation to Total Revenues
Years Ended December 31,
2003 2002 2001
-------------------------------
Revenues 100.0% 100.0% 100.0%
Operating costs and expenses:
Costs of services provided 88.1 88.2 88.6
Selling, general and administrative 7.6 7.7 7.7
Investment and Interest income .4 .2 .4
----- ----- -----
Income before income taxes 4.7 4.3 4.1
Income taxes 1.8 1.7 1.6
----- ----- -----
Net income 2.9% 2.6% 2.5%
===== ===== =====
2003 Compared with 2002
Revenues increased 15.6% to $379,718,179 in 2003 from $328,499,982 in 2002.
Housekeeping services' segment revenues were $318,539,515, an increase of
approximately 14.7% from 2002 segment revenues of $277,748,933. This segment's
growth in revenues is primarily a result of a net increase in service agreements
entered into with new clients. The Food service's segment revenues increased
approximately 20% to $62,189,163 as compared to 2002 segment revenues of
$51,689,228. The Food service's segment revenue growth is a result of providing
this service to existing Housekeeping service's segment clients. The Company
believes that in 2004 both Housekeeping services, and Food services segments'
revenues, as a percentage of total revenues, will remain approximately the same
as their respective 2003 percentages. Furthermore, the company expects the
sources of growth in 2004 for the respective business segments will be primarily
the same as historically experienced. That is the growth in the Food services'
segment is expected to come from its current Housekeeping service's client base,
while growth in the Housekeeping service's segment will primarily come from
obtaining new clients.
The Company has one client, a nursing home chain, which in 2003 and 2002
accounted for approximately 23% and 17%, respectively of consolidated revenues.
In 2003, the Company derived from such client approximately 23% and 22%,
respectively, ~of the Housekeeping services and Food services' segments'
revenues. Additionally, at December 31, 2003 and 2002, amounts due from such
client represented approximately 1% and 2%, respectively of the Company's
accounts receivable balances. Although ~the Company expects its relationship
with this client to continue, the loss of such client would adversely affect the
operations of ~the Company.
Costs of services provided as a percentage of revenues in 2003 remained
essentially unchanged at 88.1% as compared to 88.2% in 2002. The primary factors
affecting specific variations in the 2003 cost of services provided as a
percentage of revenues and their effect on the slight decrease are as follows:
decreases of .6% and .4% in bad debt provision, and health insurance and
employee benefits, respectively. Offsetting these decreases, was an increase of
1.1% in in the cost of supplies consumed in performing services which resulted
primarily from an increase in the costs of supplies of the Housekeeping
services' segment.
Selling, general and administrative expenses as a percentage of revenue
remained essentially unchanged at 7.6% in 2003 as compared to 7.7% in 2002. This
is primarily attributable to the Company's ability to control these expenses and
comparing them to a greater revenue base in the current year.
17
Investment and interest income increased approximately 88% to $1,450,688 in 2003
compared to $771,470 in 2002. The increase is attributable to higher cash
balances throughout 2003, as well as increased rates of return on investments in
the company's deferred compensation trust account.
The company's 2003 effective tax rate decreased to 38% from 39.5% in 2002.
The decrease primarily results from an increase in tax credits available to the
company . The company believes that such tax credit programs will be extended by
the respective legislatures in 2004. The failure of some or all of the
legislatures to extend such tax credit programs would result in the company's
effective tax rate increasing in 2004. The company's 38% effective tax rate
differs from the federal income tax statutory rate principally because of the
effect of state and local income taxes.
As a result of the matters discussed above, 2003 net income increased to 2.9%
as a percentage of revenue compared to 2.6%~in 2002.
2002 Compared with 2001
Revenues increased 15.6% to $328,499,982 in 2002 from $284,189,510 in 2001. The
growth in revenues is primarily a result of a net increase in service agreements
entered into with new clients, as well as providing additional services to
existing clients. Additionally, approximately 75% of the revenue growth in 2002
resulted from the Company's Housekeeping services' segment with the remaining
revenue growth being generated from the Company's Food service segment.
The company has one client, a nursing home chain, which in 2002 and 2001
accounted for approximately 17% and 14%, respectively of consolidated revenues.
With respect to such client, the Company derived revenues from both operating
segments.
Costs of services provided as a percentage of revenues in 2002 decreased to
88.2% from 88.6% in 2001. The primary factors affecting specific variations in
the 2002 cost of services provided as a percentage of revenues and their effect
on the .4% decrease are as follows: a decrease of .8% in labor costs, which is
primarily a result of efficiencies achieved in managing the Housekeeping
services segment's labor. Offsetting this decrease was an increase of .5% in
worker's compensation insurance resulting primarily from the increased payments
to claimants covered under the plan.
Selling, general and administrative expenses as a percentage of revenue were
unchanged at 7.7% in 2002 as compared to 2001. This is primarily attributable to
the Company's ability to control these expenses and comparing them to a greater
revenue base in the current year.
Investment and interest income decreased approximately 38% to $771,470 in
2002 compared to $1,247,463 in 2001. The decrease is attributable to 2002
interest rates on funds invested being significantly lower as compared to
returns in 2001, although the Company did have higher cash balances throughout
2002.
The Company's 2002 effective tax rate increased slightly to 39.5% from 39% in
2001. The increase is primarily attributable to graduated income tax rates being
applied against increased levels of taxable income. The Company's 39.5%
effective tax rate differs from the federal income tax statutory rate
principally because of the effect of state and local income taxes.
As a result of the matters discussed above, 2002 net income increased
slightly to 2.6% as a percentage of revenue compared to 2.5% in 2001.
Critical Accounting Policies
The policies discussed below are considered by the Company's management to be
critical to an understanding of the Company's financial statements because their
application places the most significant demands on management's judgment.
Therefore, it should be noted that financial reporting results rely on
estimating the effect of matters that are inherently uncertain. Specific risks
for these critical accounting policies are described in the following
paragraphs. For these policies, management cautions that future events rarely
develop exactly as forecast, and the best estimates routinely require
adjustment.
18
The two policies discussed are not intended to be a comprehensive list of all
of our accounting policies. In many cases, the accounting treatment of a
particular transaction is specifically dictated by generally accepted accounting
principles, with no need for management's judgment in their application. There
are also areas in which management's judgment in selecting another available
alternative would not produce a materially different result. See our audited
consolidated financial statements and notes thereto ~which are included in this
Annual Report which contain accounting policies and other disclosures required
by generally accepted accounting principles.
Allowance for Doubtful Accounts
The allowance for doubtful accounts is established as losses are estimated to
have occurred through a provision for bad debts charged to earnings. The
allowance for doubtful accounts is evaluated based on management's periodic
review of accounts and notes receivable and is inherently subjective as it
requires estimates that are susceptible to significant revision as more
information ~becomes available.
The Company has had varying collection experience with respect to its
accounts and notes receivable. When contractual terms are not met, the Company
generally encounters difficulty in collecting amounts due from certain of its
clients. Therefore, the Company has sometimes been required to extend the period
of payment for certain clients beyond contractual terms. These clients have
included those in bankruptcy, those who have terminated service agreements and
slow payers experiencing financial difficulties. In making its credit
evaluations, in addition to analyzing and anticipating, where possible, the
specific cases described above, management considers the general collection
risks associated with trends in the long-term care industry. The Company also
establishes credit limits, as well as performing ongoing credit evaluation and
account monitoring procedures to minimize the risk ~of loss.
In accordance with the risk of extending credit, the Company regularly
evaluates its accounts and notes receivable for impairment or loss of value and
when appropriate will provide in its Allowance for Doubtful Accounts for such
receivables. The Company generally follows a policy of reserving for receivables
from clients in bankruptcy, as well as clients, with which the Company is in
litigation for collection. The reserve is based upon management estimates of
ultimate collectibility. Correspondingly, once the Company's recovery of a
receivable is determined through either litigation, bankruptcy proceedings or
negotiation at less than the recorded amount on its balance sheet, it will
charge-off the applicable amount to the Allowance for Doubtful Accounts.
Notwithstanding the Company's efforts to minimize its credit risk exposure,
the Company's clients could be adversely affected if future industry trends, as
more fully discussed under liquidity and capital resources below, and as further
described in the Company's Form 10-K filed with Securities and Exchange
Commission for the year ended December 31, 2003 in Part I thereof under
"Government Regulation of Clients" and "Service Agreements/Collections", change
in such a manner as to negatively impact the cash flows of it's clients. If the
Company's clients experience such significant impact in their cash flows, it
could have a material adverse affect on the Company's results of operations and
financial condition.
At December 31, 2002, the Company had receivables of approximately $4,000,000
($1,500,000, net of reserves) from a client group currently in Chapter 11
bankruptcy proceedings. During the first quarter of 2003, this client filed a
plan of reorganization which was confirmed by the Bankruptcy Court on May 12,
2003. The Company estimates that it will receive approximately $180,000 from
this client group under such plan. The Company increased its bad debt provision,
and charged-off to the Allowance for Doubtful Accounts approximately $3,820,000
of such receivables during the first quarter of 2003.
Accrued Insurance Claims
The Company has a Paid Loss Retrospective Insurance Plan for general liability
and workers' compensation insurance. Under these plans, pre-determined loss
limits are arranged with an insurance company to limit both the Company's per
occurrence cash outlay and annual insurance plan cost.
For workers' compensation, the Company records a reserve based on the present
value of future payments, including an estimate of claims incurred but not
reported, that are developed as a result of a review of the Company's historical
data, open claims and actuarial analysis done by an independent insurance
specialist. The present value of the payout is determined by applying an 8%
discount factor against the estimated remaining pay-out period.
For general liability, the Company records a reserve for the estimated
ultimate amounts to be paid for known claims.
Management regularly evaluates its claims' pay-out experience, present value
factor and other factors related to the nature of specific claims in arriving at
the basis for its accrued insurance claims' estimate. Management evaluations are
based primarily on current information derived from reviewing the Company
claims' experience and industry trends. In the event that the Company's claims'
experience and/or industry trends result in an unfavorable change, it could have
an adverse effect on the Company's results of operations and financial
condition.
19
Liquidity and Capital Resources
At December 31, 2003 the Company had working capital and cash of $113,414,509
and $64,180,697 respectively, which represent increases of approximately 18% and
33%, respectively in working capital and cash as compared to December 31, 2002
working capital and cash of $96,116,771 and $48,320,098. Management views the
Company's cash and cash equivalents of $64,180,697 at December 31, 2003 as its
principal measure of liquidity. The Company's current ratio at December 31, 2003
decreased to 5.6 to 1 compared to 6.1 to 1 at December 31, 2002.
The net cash provided by the Company's operating activities was $16,743,003
for the year ended December 31, 2003. The principal source of cash flows from
operating activities for 2003 was net income, including non-cash charges to
operations for bad debt provisions and depreciation. Additionally, operating
activities' cash flows were increased by the timing of payments under the
Company's various insurance plans of $4,103,104, as well as the timing of
payments for accrued payroll, accrued and withheld payroll taxes, and accounts
payable and other accrued expenses of $3,177,006 and $1,865,261, respectively.
The operating activity that used the largest amount of cash was a $9,107,559 net
increase in accounts and notes receivable and long term notes receivable.
Additionally, operating activities' cash flows were negatively impacted by an
increase of $1,792,185 in inventories and supplies. The net increase in
accounts and notes receivable and long term notes receivable resulted primarily
from the 15.6% growth in t~he Company's revenues. Although there can be no
assurance thereof, the Company believes this trend will continue as its
revenues grow. The increase in prepaid expenses and other assets resulted
primarily from the company's funding of its Deferred Compensation Plan.
The Company's principal use of cash in investing activities for the year
ended December 31, 2003 was the purchase of housekeeping equipment, computer
software and equipment and laundry equipment installations.
During 2003 the Company expended $163,448 for open market purchases of 14,400
shares of its common stock. The Company remains authorized to purchase 589,500
shares pursuant to previous Board of Directors' actions. In addition, the
Company received proceeds of $2,855,998 from the exercise of stock options by
employees and directors. The Company paid regular cash dividends of $.06 per
common share and $.07 per common share for the 2003 second and third quarter,
respectively. Such payments in the aggregate, for the second and third quarters,
were $686,789 and $801,341, respectively. Additionally, on January 21, 2004, the
Board of Directors declared a regular cash dividend of $.08 per common share,
which was paid on February 14, 2004 to shareholders of record as of January 31,
2004. Although there can be no assurance thereof, the Company expects to
continue the practice of paying regular quarterly cash dividends. In connection
with declaration of dividends, the Company adopted a Dividend Reinvestment Plan
in 2003 for such payments. In total, 89 shares were issued from treasury shares
pursuant to the second and third quarter dividend payments.
At December 31, 2002 the Company had working capital and cash of $96,116,771
and $48,320,098 respectively, which represent increases of 16% and 41%,
respectively in working capital and cash as compared to December 31, 2001
working capital and cash of $83,107,545 and $34,259,334. The Company's current
ratio at December 31, 2002 increased to 6.2 to 1 compared to 5.7 to 1 at
December 31, 2001.
Accounts and Notes Receivable
The Company expends considerable effort to collect the amounts due for its
services on the terms agreed upon with its clients. Many of the Company's
clients participate in programs funded by federal and state governmental
agencies which historically have encountered delays in making payments to its
program participants. The Balance Budget Act of 1997 changed Medicare policy in
a number of ways, most notably the phasing in, effective July 1, 1998 of a
Medicare Prospective Payment System for skilled nursing facilities which
significantly changed the reimbursement procedures and the amounts of
reimbursement they receive. Many of the Company's clients' revenues are highly
contingent on Medicare and Medicaid reimbursement funding rates. Therefore, they
have been and continue to be adversely affected by changes in applicable laws
and regulations, as well as other trends in the long-term care industry. This
has resulted in certain of the Company's clients filing for bankruptcy
protection. Others may follow.
These factors, in addition to delays in payments from clients have resulted
in and could continue to result in significant additional bad debts in the near
future. Whenever possible, when a client falls behind in making agreed-upon
payments, the Company converts the unpaid accounts receivable to interest
bearing promissory notes. The promissory notes receivable provide a means by
which to further evidence the amounts owed and provide a definitive repayment
plan and therefore may ultimately enhance the Company's ability to collect the
amounts due. At December 31, 2003 and 2002, the Company had approximately, net
of reserves, $12,638,000 and $14,385,000, respectively, of such notes
outstanding. In some instances the Company obtains a security interest in
certain of the debtors' assets. Additionally, the Company considers
restructuring service agreements from full service to management-only service in
the case of certain clients experiencing financial difficulties. The Company
believes that such restructuring provides it with a means to maintain a
relationship with the client while at the same time minimizing collection
exposure.
20
The Company has had varying collection experience with respect to it's
accounts and notes receivable. When contractual terms are not met, the Company
generally encounters difficulty in collecting amounts due from certain of its
clients. Therefore, the Company has sometimes been required to extend the period
of payment for certain clients beyond contractual terms. These clients include
those in bankruptcy, those who have terminated service agreements and slow
payers experiencing financial difficulties. In order to provide for these
collection problems and the general risk associated with the granting of credit
terms, the Company recorded bad debt provisions (in an Allowance for Doubtful
Accounts) of $4,550,000, $6,050,000 and $5,445,000 in the years ended December
31, 2003, 2002 and 2001, respectively. These provisions represent approximately
1.2%, 1.8% and 1.9% as a percentage of revenue for the years ended December 31,
2003, 2002 and 2001, respectively. In making its credit evaluations, in addition
to analyzing and anticipating, where possible, the specific cases described
above, management considers the general collection risks associated with trends
in the long-term care industry. The Company establishes credit limits,
performs ongoing credit evaluations and monitors accounts to minimize the risk
of loss. Notwithstanding the Company's efforts to minimize its credit risk
exposure, the Company's clients could be adversely affected if future industry
trends change in such a manner as to negatively impact their cash flows. If the
Company's clients experience such significant impact in their cash flows, it
could have a material adverse affect on the Company's results of operations and
financial condition.
At December 31, 2002, the Company had receivables of approximately $4,000,000
( $1,500,000, net of reserves ) from a client group currently in Chapter 11
bankruptcy proceedings. During the first quarter of 2003, this client filed a
plan of reorganization which was confirmed by the Bankruptcy Court on May 12,
2003. The Company estimates that it will receive approximately $180,000 from
this client group under such plan. The Company increased its bad debt provision,
and charged-off to the Allowance for Doubtful Accounts approximately $3,820,000
of such receivables during the first quarter of 2003.
Insurance Programs
The Company has a Paid Loss Retrospective Insurance Plan for general liability
and workers' compensation insurance. Under these plans, pre-determined loss
limits are arranged with an insurance company to limit both the Company's per
occurrence cash outlay and annual insurance plan cost.
For workers' compensation, the Company records a reserve based on the present
value of future payments, including an estimate of claims incurred but not
reported, that are developed as a result of a review of the Company's historical
data, open claims and actuarial analysis done by an independent insurance
specialist. The present value of the payout is determined by applying an 8%
discount factor against the estimated remaining pay-out period.
For general liability, the Company records a reserve for the estimated
ultimate amounts to be paid for known claims.
Management regularly evaluates its claims' pay-out experience, present value
factor and other factors related to the nature of specific claims in arriving at
the basis for its accrued insurance claims' estimate. Management evaluations are
based primarily on current information derived from reviewing the Company
claims' experience and industry trends. In the event that the Company's claims'
experience and/or industry trends result in an unfavorable change, it could have
an adverse effect on the Company's results of operations and financial
condition.
The Company has a $18,000,000 bank line of credit on which it may draw to
meet short-term liquidity requirements in excess of internally generated cash
flow. This facility expires on January 31, 2005. The Company believes the line
will be renewed at that time. Amounts drawn under the line are payable on
demand. At December 31, 2003, there were no borrowings under the line. However,
at such date, the Company had outstanding $14,500,000 (increased to $15,925,000
on January 1, 2004) of irrevocable standby letters of credit, which relate to
payment obligations under the Company's insurance program.
As a result of the letters of credit issued, the amount available under the
line was reduced by $14,500,000 at December 31, 2003 ($15,925,000 on January 1,
2004). In addition, the Company has lease commitments totaling $2,145,389
through 2009.
Below is a table, which presents our contractual obligations and commitments
at December 31, 2003:
Payments Due by Period
------------------------------------------------------------
Less Than 1-3 4-5 After
Contractual Obligations Total One Year Years Years 5 Years
- ----------------------- ----- -------- ----- ----- -------
Operating Leases $ 2,145,389 $ 898,117 $1,155,117 $92,155 --
Irrevocable Standby Letters of Credit
(increased to $15,925,000 on
January 1, 2004) 14,500,000 14,500,000 -- -- --
----------- ----------- ---------- ------- -------
Total Contractual Cash Obligation $16,645,389 $15,398,117 $1,155,117 $92,155 --
=========== =========== ========== ======= =======
21
The level of capital expenditures by the Company is generally dependent on
the number of new clients obtained. Such capital expenditures primarily consist
of housekeeping equipment, laundry and linen equipment installations, and
computer hardware and software. Although the Company has no specific material
commitments for capital expenditures through the end of calendar year 2004, it
estimates that it will incur capital expenditures of approximately $2,500,000
during this period in connection with housekeeping equipment and laundry and
linen equipment installations in its clients' facilities, as well as
expenditures relating to computer hardware and software requirements. The
Company believes that its cash from operations, existing balances and credit
line will be adequate for the foreseeable future to satisfy the needs of its
operations and to fund its continued growth. However, should cash flows from
current operations not be sufficient, the Company would utilize its existing
working capital, and if necessary seek to obtain necessary working capital from
such sources as long-term debt or equity financing.
Material Off-Balance Sheet Arrangements
The Company has not entered into any material off-balance sheet arrangements.
Recent Accounting Pronouncements
In June 2002, the Financial Accounting Standards Board ("FASB") issued Statement
of Financial Accounting Standards No. 146 ("SFAS No. 146"), "Accounting for Exit
or Disposal Activities". SFAS No. 146 requires that the liability for costs
associated with an exit or disposal activity be recognized at their fair values
when the liabilities are incurred. Under previous guidance, liabilities for
certain exit costs were recognized at the date that management committed to an
exit plan, which is generally before the actual liabilities are incurred. As
SFAS No. 146 is effective only for exit or disposal activities initiated after
December 31, 2002, the adoption of this statement did not have a material effect
on the company's financial statements.
In April 2003, the FASB issued Statement of Financial Accounting Standards
No. 149 ("SFAS No. 149"), "Amendment of Statement 133 on Derivative Instruments
and Hedging Activities", which amends and clarifies financial accounting and
reporting for derivative instruments, including certain derivative instruments
embedded in other contracts and for hedging activities under SFAS ~No. 133. SFAS
No. 149 is effective for contracts entered into or modified after June 30, 2003
except for the provisions that were cleared by the FASB in prior pronouncements.
The adoption of SFAS No. 149 did not have a material effect on the company's
financial position and results of operations.
In May 2003, the FASB issued Statement of Financial Accounting Standards No.
150 ("SFAS No. 150"), "Accounting for Certain Financial Instruments with
Characteristics of both Liabilities and Equity". SFAS No. 150 establishes
standards for how an issuer classifies and measures in its statement of
financial position certain financial instruments with characteristics of both
liabilities and equity. In accordance with the standard, financial instruments
that embody such obligations for the issuer are required to be classified as
liabilities. SFAS 150 is effective for financial instruments entered into or
modified after May 31, 2003. The adoption of SFAS ~No. 150 did not have a
material effect on the company's financial position and results of operations.
Cautionary Statements Regarding Forward Looking Statements
Certain matters discussed include forward-looking statements that are subject to
risks and uncertainties that could cause actual results or objectives to differ
materially from those projected. The Company undertakes no obligation to
publicly update or revise any forward-looking statements, whether as a result of
new information, future events or otherwise. Such risks and uncertainties
include, but are not limited to, risks arising from our providing services
exclusively to the health care industry, primarily providers of long-term care;
credit and collection risks associated with this industry; one client accounting
for 23% of revenue in 2003; our claims experience related to workers'
compensation and general liability insurance; the effects of changes in laws and
regulations governing the industry and risk factors described in our Form 10-K
filed with the Securities and Exchange Commission for the year ended December
31, 2003 in Part I thereof under "Government Regulations of Clients",
"Competition" and "Service Agreements/Collections". Many of our clients'
revenues are highly contingent on Medicare and Medicaid reimbursement funding
rates, which have been and continue to be adversely affected by the change in
Medicare payments under the 1997 enactment of the Prospective Payment System.
That change, and the lack of substantive reimbursement funding rate reform
legislation, as well as other trends in the long-term care industry have
resulted in certain of our clients filing for bankruptcy protection. Others may
follow. Any decisions by the government to discontinue or adversely modify
legislation related to reimbursement funding rates will have a material adverse
affect on our clients. These factors, in addition to delays in payments from
clients have resulted in and could continue to result in significant additional
bad debts in the near future. Additionally, the Company's operating results
would be adversely affected if unexpected increases in the costs of labor and
labor related costs, materials, supplies and equipment used in performing
services could not be passed on to it's clients.
In addition, we believe that to improve our financial performance we must
continue to obtain service agreements with new clients, provide new services to
existing clients, achieve modest price increases on current service agreements
with existing clients and maintain internal cost reduction strategies at the
various operational levels of the Company. Furthermore, we believe that our
ability to sustain the internal development of managerial personnel is an
important factor impacting future operating results and successfully executing
projected growth strategies.
Effects of Inflation
The Company believes that we will be able to recover increases in costs
attributable to inflation by passing through such cost increases to its clients.
22
CONSOLIDATED BALANCE SHEETS
Assets December 31,
----------------------------------
Current Assets: 2003 2002
------------- -------------
Cash and cash equivalents ............................ $ 64,180,697 $ 48,320,098
Accounts and notes receivable, less allowance for
doubtful accounts of $3,414,000 in 2003
and $7,323,000 in 2002 .............................. 58,145,440 51,554,373
Prepaid income taxes -- 883,282
Inventories and supplies ............................. 10,454,838 8,662,653
Deferred income taxes ................................ 2,016,798 3,021,724
Prepaid expenses and other ........................... 3,312,959 2,335,839
------------- -------------
Total current assets ................................ 138,110,732 114,777,969
Property and Equipment:
Laundry and linen equipment installations ............ 2,190,388 6,855,886
Housekeeping and office equipment .................... 12,830,794 11,641,590
Autos and trucks ..................................... 79,639 85,489
------------- -------------
15,100,821 18,582,965
Less accumulated depreciation ........................ 10,489,224 14,144,869
------------- -------------
4,611,597 4,438,096
NOTES RECEIVABLE - long-term portion .................... 7,904,195 9,937,703
DEFERRED COMPENSATION FUNDING ........................... 2,847,575 1,476,080
DEFERRED INCOME TAXES - long-term portion ............... 3,134,691 1,955,365
OTHER NONCURRENT ASSETS ................................. 1,719,342 1,711,097
------------- -------------
$ 158,328,132 $ 134,296,310
============= =============
Liabilities and Stockholders' Equity
Current Liabilities:
Accounts payable ..................................... $ 6,536,395 $ 5,307,173
Accrued payroll, accrued and withheld
payroll taxes ....................................... 14,127,469 11,162,342
Other accrued expenses ............................... 874,523 238,485
Income taxes payable ................................. 178,862
Accrued insurance claims ............................. 2,978,974 1,953,198
------------- -------------
Total current liabilities 24,696,223 18,661,198
ACCRUED INSURANCE CLAIMS -
long-term portion .................................... 8,936,921 5,859,593
DEFERRED COMPENSATION LIABILITY ......................... 3,496,810 1,894,370
COMMITMENTS AND CONTINGENCIES
STOCKHOLDERS' EQUITY:
Common stock, $.01 par value: 30,000,000 shares
authorized, 11,959,075 shares issued in
2003 and 11,612,505 in 2002 ......................... 119,591 116,125
Additional paid in capital ........................... 33,575,031 29,675,341
Retained earnings .................................... 91,178,370 81,806,772
Common stock in treasury, at cost, 434,825 shares
in 2003 and 445,050 in 2002 ......................... (3,674,814) (3,717,089)
------------- -------------
Total stockholders' equity ........................... 121,198,178 107,881,149
------------- -------------
$ 158,328,132 $ 134,296,310
============= =============
See accompanying notes.
23
CONSOLIDATED STATEMENTS OF INCOME
Years Ended December 31,
------------------------
2003 2002 2001
------------ ------------ ------------
Revenues $379,718,179 $328,499,982 $284,189,510
Operating costs and expenses:
Cost of services provided 334,609,420 289,858,898 252,029,939
Selling, general and administrative 29,044,719 25,147,855 21,871,673
Other income:
Investment and interest income 1,450,688 771,470 1,247,463
------------ ------------ ------------
Income before income taxes 17,514,728 14,264,698 11,535,361
Income taxes 6,655,000 5,634,000 4,500,000
------------ ------------ ------------
Net income $ 10,859,728 $ 8,630,698 $ 7,035,361
============ ============ ============
Basic earnings per common share $ .96 $ .77 $ .64
============ ============ ============
Diluted earnings per common share $ .92 $ .74 $ .64
============ ============ ============
Cash dividends per common share $ .13 $ -- $ --
============ ============ ============
Basic weighted average number
of common shares outstanding 11,365,796 11,263,466 10,928,281
============ ============ ============
Diluted weighted average number
of common shares outstanding 11,858,868 11,689,498 11,077,946
============ ============ ============
See accompanying notes.
24
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years Ended December 31,
------------------------
2003 2002 2001
------------ ------------ ------------
Cash flows from operating activities:
Net Income $ 10,859,728 $ 8,630,698 $ 7,035,361
Adjustments to reconcile net
income to net cash provided
by operating activities:
Depreciation 1,914,928 2,033,567 2,241,473
Bad debt provision 4,550,000 6,050,000 5,445,000
Deferred income tax benefits (174,400) (1,291,100) (1,480,700)
Tax benefit of stock option
transactions 1,039,397 520,876 232,531
Unrealized (Gain) loss on deferred
compensation fund investments (417,564) 161,937 65,768
Changes in operating assets and liabilities:
Accounts and notes receivable (11,141,068) (3,539,928) (6,892,797)
Prepaid income taxes 883,282 (875,094) 1,120,436
Inventories and supplies (1,792,185) (691,796) 527,109
Notes receivable - long-term 2,033,509 1,383,661 175,279
Deferred compensation funding (953,931) (804,980) (549,061)
Accounts payable and other
accrued expenses 1,865,261 (112,611) 1,045,845
Accrued payroll, accrued and
withheld payroll taxes 3,177,006 1,586,991 1,705,649
Accrued insurance claims 4,103,104 2,309,672 1,185,504
Deferred compensation liability 1,602,440 913,396 582,749
Income taxes payable 178,862 -- --
Prepaid expenses and other assets (985,366) (161,843) 55,588
------------ ------------ ------------
Net cash provided by operating
activities 16,743,003 16,113,446 12,495,734
------------ ------------ ------------
Cash flows from investing activities:
Disposals of fixed assets 221,034 152,109 313,209
Additions to property and equipment (2,309,463) (1,861,583) (2,051,219)
------------ ------------ ------------
Net cash used in investing activities (2,088,429) (1,709,474) (1,738,010)
------------ ------------ ------------
Cash flows from financing activities:
Purchase of treasury stock (163,448) (2,130,276) (824,938)
Dividends paid (1,488,130) -- --
Reissuance of treasury stock 1,605 -- --
Proceeds from the exercise of
stock options 2,855,998 1,787,068 1,484,930
------------ ------------ ------------
Net cash provided by (used in)
financing activities 1,206,025 (343,208) 659,992
------------ ------------ ------------
Net increase in cash and
cash equivalents 15,860,599 14,060,764 11,417,716
Cash and cash equivalents at
beginning of the year 48,320,098 34,259,334 22,841,618
============ ============ ============
Cash and cash equivalents at end of
the year $ 64,180,697 $ 48,320,098 $ 34,259,334
============ ============ ============
Supplementary Cash Flow Information:
Issuance of 24,536, 23,926 and 38,753
shares of common stock in 2003, 2002
and 2001, respectively pursuant to
Employee Stock Plans $ 211,879 $ 129,649 $ 209,993
============ ============ ============
See accompanying notes.
25
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
Years Ended December 31, 2003, 2002 and 2001
--------------------------------------------
Additional Total
Common Stock Paid-in Retained Treasury Stockholders'
Shares Amount Capital Earnings Stock Equity
------ ------ ------- -------- ----- ------
Balance, December 31, 2000 11,066,591 $110,666 $25,315,753 $66,140,713 $ (761,875) $ 90,805,257
Net income 7,035,361 7,035,361
Exercise of stock options 232,375 2,324 1,482,606 1,484,930
Tax benefit arising from
stock option transactions 232,531 232,531
Issued pursuant to Employee
Stock Purchase Plan 38,753 387 209,606 209,993
Purchase of common stock
for treasury (135,000 shares) (824,938) (824,938)
---------- -------- ----------- ----------- ----------- ------------
Balance, December 31, 2001 11,337,719 113,377 27,240,496 73,176,074 (1,586,813) 98,943,134
Net income for year 8,630,698 8,630,698
Exercise of stock options 250,860 2,509 1,784,559 1,787,068
Tax benefit arising from
stock option transactions 520,876 520,876
Purchase of common stock
for treasury (182,550 shares) (2,130,276) (2,130,276)
Issued pursuant to Employee
Stock Purchase Plan 23,926 239 129,410 129,649
---------- -------- ----------- ----------- ----------- ------------
Balance, December 31, 2002 11,612,505 116,125 29,675,341 81,806,772 (3,717,089) 107,881,149
Net income for year 10,859,728 10,859,728
Exercise of stock options 346,570 3,466 2,852,532 2,855,998
Tax benefit arising from
stock option transactions 1,039,397 1,039,397
Purchase of common stock for
treasury (14,400 shares) (163,448) (163,448)
Cash dividends - $.13 per common
share (1,488,130) (1,488,130)
Shares issued pursuant to dividend
reinvestment plan (89 shares) 853 752 1,605
Issued pursuant to Employee
Stock Plans (24,536 shares) 6,908 204,971 211,879
---------- -------- ----------- ----------- ----------- ------------
Balance, December 31, 2003 11,959,075 $119,591 $33,575,031 $91,178,370 $(3,674,814) $121,198,178
========== ======== =========== =========== =========== ============
See accompanying notes.
26
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 1-Summary of Significant Accounting Policies
General
The Company provides Housekeeping and Food services exclusively to the
healthcare industry primarily to nursing homes, rehabilitation centers,
retirement facilities and hospitals located throughout the United States.
Principles of Consolidation
The consolidated financial statements include the accounts of Healthcare
Services Group, Inc. and its wholly-owned subsidiaries, HCSG Supply Inc. and
Huntingdon Holdings, Inc. after elimination of intercompany transactions and
balances.
Cash and cash equivalents
Cash and cash equivalents consist of short-term, highly liquid investments with
a maturity of three months or less at time of purchase.
Impaired notes receivable
The Company evaluates its notes receivable for impairment quarterly and on an
individual client basis. Notes receivable considered impaired are generally
attributable to clients that are either in bankruptcy, have been turned over to
collection attorneys or those slow payers that are experiencing severe financial
difficulties. In the event that a promissory note receivable is impaired, it is
accounted for in accordance with Statement of Financial Accounting Standards
("SFAS") No. 114 and SFAS No. 118; that is, it is valued at the present value of
expected cash flows or market value of related collateral.
At December 31, 2003, 2002 and 2001, the Company had notes receivable
aggregating $3,900,000, $5,800,000 and $7,700,000, respectively that are
impaired. During 2003, 2002 and 2001, the average outstanding balance of
impaired notes receivable was $4,800,000, $6,700,000 and $7,800,000,
respectively and no interest income was recognized in any of such years.
Summary schedules of impaired notes receivable, and the related reserve, for
the years ended December 31, 2003, 2002 and 2001 are as follows:
Impaired Notes Receivable:
Balance Balance
Beginning End of
of Year Additions Deductions Year
---------- ---------- ---------- ----------
2003 $5,800,000 $ 100,000 $2,000,000 $3,900,000
========== ========== ========== ==========
2002 $7,700,000 $ -- $1,900,000 $5,800,000
========== ========== ========== ==========
2001 $8,000,000 $2,600,000 $2,900,000 $7,700,000
========== ========== ========== ==========
Reserved for Impaired Notes Receivable:
Balance Balance
Beginning End of
of Year Additions Deductions Year
---------- ---------- ---------- ----------
2003 $2,500,000 $1,250,000 $1,850,000 $1,900,000
========== ========== ========== ==========
2002 $3,200,000 $1,000,000 $1,700,000 $2,500,000
========== ========== ========== ==========
2001 $1,800,000 $2,300,000 $ 900,000 $3,200,000
========== ========== ========== ==========
The Company follows an income recognition policy on notes receivable that
does not recognize interest income until cash payments are received. This policy
was established for conservative reasons, recognizing the environment of the
long-term care industry, and not because such notes are impaired. The difference
between income recognition on a full accrual basis and cash basis, for notes
that are not considered impaired, is not material. For impaired notes, interest
income is recognized on a cost recovery ~basis only.
Inventories and supplies
Inventories and supplies include housekeeping and laundry supplies, as well as
food service provisions which are valued at the lower of cost or market. Cost is
determined on a first-in, first-out (FIFO) basis. Linen supplies are included in
inventory and are amortized over a 24 month period.
27
Property and equipment
Property and equipment are stated at cost. Additions, renewals and improvements
are capitalized, while maintenance and repair costs are expensed when incurred.
When assets are retired or otherwise disposed of, the cost and related
accumulated depreciation are removed from the respective accounts and any
resulting gain or loss is included in income. Depreciation is provided by the
straight-line method over the following estimated useful lives: laundry and
linen equipment installations - 3 to 7 years; housekeeping and office equipment
- - 3 to 7 years; autos and trucks - 3 years.
Revenue recognition
Revenues from the Company's annual service agreements with clients are
recognized as services are performed.
The Company (as a distributor of laundry equipment) occasionally makes sales
of laundry installations to certain clients. The sales in most cases represent
the construction and installation of a turn-key operation and are for payment
terms ranging from 36 to 60 months. The Company's accounting policy for these
sales is to recognize the gross profit over the life of the payment terms
associated with the financing of the transactions by the Company. During 2003,
2002 and 2001 laundry installation sales were ~not material.
Income taxes
Deferred income taxes result from temporary differences between tax and
financial statement recognition of revenue and expense. These temporary
differences arise primarily from differing methods used for financial and tax
purposes to calculate insurance expense, certain receivable reserves, supplies'
expense and other provisions which are not currently deductible for tax
purposes.
Earnings per common share
Basic earnings per common share is computed by dividing income available to
common shareholders by the weighted-average common shares outstanding for the
period. Diluted earnings per common share reflects the weighted-average common
shares outstanding and dilutive potential common shares, such as stock options.
Stock-Based Compensation
At December 31, 2003, the Company has stock based compensation plans, which are
described more fully in Note 4. As permitted by the SFAS No. 123, "Accounting
for Stock Based Compensation", the Company accounts for stock-based compensation
arrangements in accordance with provisions of Accounting Principles Board
("APB") Opinion No. 25 "Accounting for Stock Issued to Employees". Compensation
expense for stock options issued to employees is based on the difference on the
date of grant, between the fair value of the Company's stock and the exercise
price of the option. No stock based employee compensation cost is reflected in
net income, as all options granted under those plans had an exercise price equal
to the market value of the underlying common stock at the date of grant. The
Company accounts for equity instruments issued to nonemployees in accordance
with the provisions of SFAS No. 123 and Emerging Issues Task Force ("EITF")
Issue No. 96-18, "Accounting for Equity Instruments That Are Issued to Other
Than Employees for Acquiring, or in Conjunction With Selling, or in Conjunction
With Selling Goods or Services". All transactions in which goods or services are
the consideration received for the issuance of equity instruments are accounted
for based on the fair value of the consideration received or the fair value of
the equity instrument issued, whichever is more reliably measurable.
The following table illustrates the effect on net income and earnings per share
if the company had applied the fair value recognition provisions of SFAS No. 123
to stock based compensation:
Year Ended December 31,
------------------------------------
2003 2002 2001
---- ---- ----
Net Income
As reported $10,859,728 $8,630,698 $7,035,361
Deduct:
Total stock based employee compensation
expense determined under fair value based
method for all awards, net of related
tax effects (1,639,000) (1,790,000) (890,000)
----------- ---------- ----------
Pro forma $ 9,220,728 $6,840,698 $6,145,361
=========== ========== ==========
Basic Earnings Per Common Share
As reported $ .96 $ .77 $ .64
Pro forma $ .81 $ .61 $ .56
Diluted Earnings Per Common Share
As reported $ .92 $ .74 $ .64
Pro forma $ .78 $ .59 $ .55
28
Advertising Costs
Advertising costs are expensed when incurred. For the years ended December 31,
2003, 2002 and 2001, advertising costs were not material.
Long-Lived Assets and Impairment of Long-Lived Assets
The Company's long-lived assets include property and equipment and costs in
excess of fair value of net assets acquired. Costs in excess of fair value of
net assets acquired arose from the purchase of another company in 1985 which
were being amortized over a 31 year period and is included in other noncurrent
assets.
As of January 1, 2002 the Company has adopted SFAS No. 142 "Goodwill and
Other Intangible Assets", which eliminated the amortization of purchased
goodwill. Upon adoption of SFAS No. 142, as well as at December 31, 2003 and
2002, the Company performed an impairment test of its goodwill (amounting to
$1,612,322 at both dates) and determined that no impairment of the recorded
goodwill existed. Under SFAS No. 142, goodwill is tested annually and more
frequently if an event occurs which indicates the goodwill may be impaired.
The following table presents a reconciliation of net income and earnings per
share amounts, as reported in the financial statements, to those amounts
adjusted for goodwill and intangible asset amortization determined in accordance
with SFAS No. 142.
2003 2002 2001
----------- ---------- ----------
Reported net income $10,859,728 $8,630,698 $7,035,361
Addback: goodwill amortization -- -- 107,624
----------- ---------- ----------
Adjusted net income $10,859,728 $8,630,698 $7,142,985
=========== ========== ==========
Basic earnings per common share:
Reported net income $ .96 $ .77 $ .64
Goodwill amortization -- -- .01
----------- ---------- ----------
Adjusted net income $ .96 $ .77 $ .65
=========== ========== ==========
Diluted earnings per common share:
Reported net income $ .92 $ .74 $ .64
Goodwill amortization - -- --
----------- ---------- ----------
Adjusted net income $ .92 $ .74 $ .64
=========== ========== ==========
As of January 1, 2002, the Company adopted SFAS No. 144, "Accounting for the
Impairment or Disposal of Long-lived Assets" which supersedes SFAS No. 121,
"Accounting for the Impairment of Long-lived Assets to be Disposed Of". The
adoption of SFAS No. 144 had no effect on the Company.
Treasury stock
Treasury stock purchases are accounted for under the cost method whereby the
entire cost of the acquired stock is recorded as treasury stock. Gains or losses
on the subsequent reissuance of shares are credited or charged to additional
paid in capital.
Reclassification
Certain reclassifications to 2002 and 2001 reported amounts have been made in
the financial statements to conform to 2003 presentation.
Use of Estimates in Financial Statements
In preparing financial statements in conformity with generally accepted
accounting principles, management makes estimates and assumptions that affect
the reported amounts of assets and liabilities and disclosures of contingent
assets and liabilities at the date of the financial statements, as well as the
reported amounts of revenues and expenses during the reporting period. Actual
results could differ from those estimates. Management establishes estimates for
its allowance for doubtful accounts and accrued insurance claims based upon
factors including current and historical trends, as well as other pertinent
industry information. Management regularly evaluates this information to
determine if it is necessary to update the basis for its estimates and to
compensate for known changes.
29
Concentrations of Credit Risk
SFAS No. 105, Disclosure of Information about Financial Instruments with
Off-Balance-Sheet Risk and Financial Instruments with Concentrations of Credit
Risk, requires the disclosure of significant concentrations of credit risk,
regardless of the degree of such risk. Financial instruments, as defined by SFAS
No. 105, which potentially subject the Company to concentrations of credit risk,
consist principally of cash and cash equivalents and accounts and notes
receivable. At December 31, 2003 and 2002, substantially all of the Company's
cash and cash equivalents were invested with one financial institution.
The Company's clients are concentrated in the health care industry, primarily
providers of long-term care. Many of our clients' revenues are highly contingent
on Medicare and Medicaid reimbursement funding rates, which have been and
continue to be adversely affected by the change in Medicare payments under the
1997 enactment of the Prospective Payment System. That change, and lack of
substantive reimbursement funding rate reform legislation , as well as other
trends in the long-term care industry have resulted in certain of our clients
filing for bankruptcy protection. Others may follow. Any decisions by the
government to discontinue or adversely modify legislation related to
reimbursement funding rates will have a material adverse affect on our clients.
These factors, ~in addition to delays in payments from clients have resulted in
and could continue to result in significant additional bad debts in the near
future.
Major Client
The Company has one client, a nursing home chain, which in 2003, 2002 and 2001
accounted for approximately 23%, 17% and 14%, respectively of consolidated
revenues. Additionally, the amounts due from such client represent approximately
1%, 2% and 3%, respectively of the company's accounts receivable balance at
December 31, 2003, 2002 and 2001. Although the Company expects to continue its
relationship with this client, the loss of such client would adversely affect
the operations of the Company.
Fair Value of Financial Instruments
The carrying value of financial instruments (principally consisting of cash and
cash equivalents, accounts and notes receivable and accounts payable)
approximate fair value. We estimate the fair value of our financial instruments
through the use of public market prices, quotes from financial institutions and
other available information.
The Company has certain notes receivable that do not bear interest. Therefore,
such notes receivable have been discounted to their present value and are
reported at such value in the accompanying financial statements.
Recent Accounting Pronouncements
In June 2002, the Financial Accounting Standards Board ("FASB") issued Statement
of Financial Accounting Standards No. 146 ("SFAS No. 146"), "Accounting for Exit
or Disposal Activities". SFAS No. 146 requires that the liability for costs
associated with an exit or disposal activity be recognized at their fair values
when the liabilities are incurred. Under previous guidance, liabilities for
certain exit costs were recognized at the date that management committed to an
exit plan, which is generally before the actual liabilities are incurred. As
SFAS No. 146 is effective only for exit or disposal activities initiated after
December 31, 2002, the adoption of this statement did not have a material effect
on the company's financial statements.
In April 2003, the FASB issued Statement of Financial Accounting Standards
No. 149 ("SFAS No. 149"), "Amendment of Statement 133 on Derivative Instruments
and Hedging Activities", which amends and clarifies financial accounting and
reporting for derivative instruments, including certain derivative instruments
embedded in other contracts and for hedging activities under SFAS~No. 133. SFAS
No. 149 is effective for contracts entered into or modified after June 30, 2003
except for the provisions that were cleared by the FASB in prior pronouncements.
The adoption of SFAS No. 149 did not have a material effect on the company's
financial position and results of operations.
In May 2003, the FASB issued Statement of Financial Accounting Standards No.
150 ("SFAS No. 150"), "Accounting for Certain Financial Instruments with
Characteristics of both Liabilities and Equity" SFAS No. 150 establishes
standards for how an issuer classifies and measures in its statement of
financial position certain financial instruments with characteristics of both
liabilities and equity. In accordance with the standard, financial instruments
that embody such obligations for the issuer are required to be classified as
liabilities. SFAS 150 is effective for financial instruments entered into or
modified after May 31, 2003. The adoption of SFAS No. 150 did not have a
material effect on the company's financial position and results of operations.
30
Note 2--Allowance for Doubtful Accounts
The Balance Budget Act of 1997 changed Medicare policy in a number of ways, most
notably the phasing in, effective July 1, 1998, of a Medicare Prospective
Payment System for skilled nursing facilities which significantly changed the
manner and the amounts of reimbursement they receive. Many of the Company's
clients' revenues are highly contingent on Medicare and Medicaid reimbursement
funding rates. Therefore, they have been and continue to be adversely affected
by changes in applicable laws and regulations, as well as other trends in the
long-term care industry. This has resulted in certain of the Company's clients
filing for bankruptcy protection. Others may follow. These factors in addition
to delays in payments from clients have resulted in and could continue to result
in significant additional bad debts in the near future.
The allowance for doubtful accounts is established as losses are estimated to
have occurred through a provision for bad debts charged to earnings. The
allowance for doubtful accounts is evaluated based on management's periodic
review of accounts and notes receivable and is inherently subjective as it
requires estimates that are susceptible to significant revision as more
information becomes available.
The Company has had varying collection experience with respect to its
accounts and notes receivable. When contractual terms are not met, the Company
generally encounters difficulty in collecting amounts due by certain of its
clients. Therefore, the Company has sometimes been required to extend the period
of payment for certain clients beyond contractual terms. These clients have
included those in bankruptcy, those who have terminated service agreements and
slow payers experiencing financial difficulties. In order to provide for these
collection problems and the general risk associated with the granting of credit
terms, the Company recorded bad debt provisions (in an Allowance for Doubtful
Accounts) of $4,550,000, $6,050,000 and $5,445,000 in the years ended December
31, 2003, 2002 and 2001, respectively. In making its credit evaluations, in
addition to analyzing and anticipating, where possible, the specific cases
described above, management considers the general collection risks associated
with trends in the long-term care industry. Notwithstanding the Company's
efforts to minimize its credit risk exposure, the Company's clients could be
adversely effected if future industry trends change in such a manner as to
negatively impact their cash flows. In the event that the Company's clients
experience such significant impact in their cash flows, it could have a material
adverse effect on the Company's results of operations and financial condition.
At December 31, 2002, the Company had receivables of approximately $4,000,000
($1,500,000, net of reserves) from a client group currently in Chapter 11
bankruptcy proceedings. During the first quarter of 2003, this client filed a
plan of reorganization which was confirmed by the Bankruptcy Court on May 12,
2003. The Company estimates that it will receive approximately $180,000 from
this client group under such plan. The Company increased its bad debt provision,
and charged-off to the Allowance for Doubtful Accounts approximately $3,820,000
of such receivables during the first quarter of 2003.
Note 3--Lease Commitments
The Company leases office facilities, equipment and autos under operating leases
expiring on various dates principally through 2008 and certain office leases
contain renewal options. The following is a schedule, by calendar years, of
future minimum lease payments under operating leases having remaining terms in
excess of one year as of December 31, 2003
Operating
Year Leases
- ---- ------
2004 $ 898,117
2005 675,566
2006 265,418
2007 214,133
2008 83,286
thereafter 8,869
----------
Total minimum lease payments $2,145,389
==========
Total expense for all operating leases was $960,619, $913,816 and $994,284 for
the years ended December 31, 2003, 2002 and 2001, respectively.
31
Note 4--Stockholders' Equity
As of December 31, 2003, 1,302,566 shares of common stock were reserved under
the incentive stock option plans, including 321,988 shares which are available
for future grant. The Stock Option Committee of the Board of Directors is
responsible for determining the individuals who will be granted options, the
number of options each individual will receive, the option price per share, and
the exercise period of each option. The incentive stock option price will not be
less than the fair market value of the common stock on the date the option is
granted. No option will have a term in excess of ten years and are exercisable
commencing six months from the option date. As to any stockholder who owns 10%
or more of the common stock, the option price per share will be no less than
110% of the fair market value of the common stock on the date the options are
granted and such options shall not have a term in excess of five years.
The weighted average fair value of incentive options granted during 2003,
2002 and 2001 was $4.16, $5.31 and $4.99, respectively.
A summary of incentive stock option activity is as follows:
Incentive Stock Options
--------------------------------------------------------------------------------
2003 2002 2001
------------------------ ------------------------- -----------------------
Weighted Weighted Weighted
Average Number Average Number Average Number
Price of Shares Price of Shares Price of Shares
----- --------- ----- --------- ----- ---------
Beginning of period $ 8.77 1,001,327 $ 7.42 878,533 $7.04 1,000,932
Granted $18.65 288,288 $12.30 265,769 $8.85 245,326
Cancelled $ 8.25 (306,887) $ 6.77 (1,200) $8.04 (210,039)
Exercised $ 9.91 (2,150) $ 7.10 (141,775) $6.37 (157,686)
------ --------- ------ --------- ----- ---------
End of period $11.83 980,578 $ 8.77 1,001,327 $7.42 878,533
====== ========= ====== ========= ===== =========
The following table summarizes information about incentive stock options
outstanding at December 31, 2003
Options Outstanding Options Exercisable
---------------------------------- ---------------------------
Average Weighted Weighted
Remaining Average Average
Number Contractual Exercise Number Exercise
Outstanding Life Price Exercisable Price
Exercise Price Range ----------- ---- ----- ----------- -----
$5.06 - $8.38 351,595 5.09 $ 6.90 351,595 $ 6.90
$9.25 - $12.65 340,695 8.54 $11.15 340,695 $11.15
$18.65 - $18.65 288,288 9.99 $18.65 -- --
------- ---- ------ ------- ------
$5.06 - $18.65 980,578 7.73 $11.83 692,290 $ 8.99
======= ==== ====== ======= ======
The Company has granted non-qualified stock options primarily to employees
and directors under either the Company's 2002 Stock Option Plan, 1995 Incentive
and Non-Qualified Stock Option Plan for key employees or 1996 Non-Employee
Director's Stock Option Plan. The 2002 Stock Option Plan was originally adopted
by the Board of Directors on March 28, 2002 and approved by Shareholders on May
21, 2002. On April 22, 2003, the Board of Directors of the company adopted an
Amendment to the 2002 Stock Option Plan. It was approved by shareholders on May
27, 2003. The Amendment increased the total number of shares of the Company's
Common Stock available for issuance under such Plan from 500,000 shares to
1,050,000. On March 28, 2002, the Board of Directors of the company adopted the
2002 Stock Option Plan. It was approved by shareholders on May 21, 2002.
Amendments to the 1995 Plan, as well as the 1996 Plan were adopted on March 6,
1996 and approved by shareholders on June 4, 1996. Pursuant to the terms of the
1996 Non-Employee Director's Stock Option Plan, each eligible non-employee
director receives an automatic grant based on a prescribed formula on the fixed
annual grant date. The non-qualified options were granted at option prices which
were not less than the fair market value of the common stock on the date the
options were granted. The options are exercisable over a five to ten year
period, commencing six months from the option date. The weighted average fair
value of non-qualified options granted during 2003, 2002 and 2001 were $5.70,
$5.45 and $5.39, respectively.
32
A summary of non-qualified stock option activity is as follows:
Non-qualified Stock Options
---------------------------------------------------------------------------------
2003 2002 2001
------------------------ ------------------------ ----------------------
Weighted Weighted Weighted
Average Number Average Number Average Number
Price of Shares Price of Shares Price of Shares
----- --------- ----- --------- ----- ---------
Beginning of period $ 8.66 583,935 $ 7.87 612,875 $7.02 499,154
Granted $18.65 95,072 $12.61 80,146 $8.99 223,274
Cancelled -- -- -- -- $5.81 (34,864)
Exercised $ 8.16 (39,683) $ 7.15 (109,085) $6.44 (74,689)
------ ------- ------ ------- ----- -------
End of period $10.18 639,324 $ 8.66 583,936 $7.87 612,875
====== ======= ====== ======= ===== =======
The following table summarizes information about non-qualified stock options
outstanding at December 31, 2003:
Options Outstanding Options Exercisable
------------------------------------- --------------------------
Average Weighted Weighted
Remaining Average Average
Number Contractual Exercise Number Exercise
Outstanding Life Price Exercisable Price
Exercise Price Range ----------- ---- ----- ----------- -----
$5.06 - $8.38 270,326 5.51 $ 7.14 270,326 $ 7.14
$9.25 - $12.65 273,926 8.07 $10.23 273,926 $10.23
$18.65 - $18.65 95,072 9.99 $18.65 -- --
------- ---- ------ ------- ------
$5.06 - $18.65 639,324 7.27 $10.18 544,252 $ 8.70
======= ==== ====== ======= ======
As discussed in Note 1, the Company applies APB Opinion No. 25 in measuring
stock compensation. Accordingly, no compensation cost has been recorded for
options granted to employees or directors in the years ended December 31, 2003,
2002 and 2001. The fair value of each option granted has been estimated on the
grant date using the Black-Scholes Option Valuation Model. The following
assumptions were made in estimating fair value:
2003 2002 2001
-------- --------- ---------------------
Risk-Free Interest-Rate 2.00% 4.07% 4.01%,5.16% and 5.68%
Expected Life 3.0 years 5.5 years 5 and 10 years
Expected Volatility 37.9% 40.0% 37.0%
Dividend Yield 1.6% -- --
33
Note 5--Income Taxes
The provision for income taxes consists of:
Year Ended December 31,
---------------------------------------------------
2003 2002 2001
----------- ----------- -----------
Current:
Federal $ 5,094,700 $ 5,106,100 $ 4,335,200
State 1,734,700 1,819,000 1,645,500
----------- ----------- -----------
6,829,400 6,925,100 5,980,700
Deferred:
Federal (99,300) (980,600) (1,074,700)
State (75,100) (310,500) (406,000)
(174,400) (1,291,100) (1,480,700)
----------- ----------- -----------
Income Tax Expense $ 6,655,000 $ 5,634,000 $ 4,500,000
=========== =========== ===========
Under FAS No. 109, deferred income taxes reflect the net tax effects of
temporary differences between the carrying amounts of assets and liabilities for
financial reporting purposes and the amount used for income tax purposes.
Significant components of the Company's federal and state deferred tax assets
and liabilities are as follows:
Year Ended December 31,
--------------------------------
2003 2002
----------- -----------
Net current deferred assets:
Allowance for doubtful accounts $ 1,382,670 $ 3,002,430
Accrued insurance claims- current 1,206,484 800,811
Expensing of housekeeping supplies (1,921,508)
Deferred compensation 1,341,362 869,951
Other 7,790 16,054
----------- -----------
$ 2,016,798 $ 3,021,724
=========== ===========
Net noncurrent deferred tax assets:
Deferred profit on laundry installation sales $ -- $ 4,825
Non-deductible reserves 296,094 202,101
Depreciation of property and equipment (869,297) (683,664)
Accrued insurance claims- noncurrent 3,619,453 2,402,433
Other 88,441 29,670
----------- -----------
$ 3,134,691 $ 1,955,365
=========== ===========
34
A reconciliation of the provision for income taxes and the amount computed by
applying the statutory federal income tax rate (34%) to income before income
taxes is as follows:
Year Ended December 31,
-----------------------------------------------------
2003 2002 2001
----------- ----------- -----------
Tax expense computed at
statutory rate $ 5,955,000 $ 4,850,000 $ 3,922,200
Increases (decreases) resulting
from:
State income taxes, net of
federal tax benefit 1,127,900 995,600 818,100
Federal jobs credits (578,100) (432,800) (354,400)
Tax exempt interest (73,300) (98,300) (77,000)
Other, net 223,500 319,500 191,300
----------- ----------- -----------
$ 6,655,000 $ 5,634,000 $ 4,500,200
=========== =========== ===========
Income taxes paid were approximately $4,728,000, $7,308,000 and $4,530,000
during 2003, 2002 and 2001, respectively.
Note 6--Related Party Transactions
A director of the Company has an ownership interest in several client facilities
which have entered into service agreements with the Company. During the years
ended December 31, 2003, 2002 and 2001 the agreements with the client facilities
which the director has an ownership interest resulted in Company revenues of
approximately $3,683,000, $3,540,000 and $3,440,000, respectively. At December
31, 2003 and 2002, approximately $552,000 and $464,000, respectively is included
in accounts receivable in the accompanying consolidated balance sheets from such
Director's facilities. The subject accounts' balances due the Company are all
within agreed upon payment terms.
A director of the Company is a member of a law firm which has been retained
by the Company during the years ended December 31, 2003, 2002 and 2001. Fees
paid by the Company to such firm during the years ended December 31, 2003, 2002
and 2001 were minimal (less than $100,000 in any year).
Note 7--Segment Information
The Company manages and evaluates its operations in two reportable operating
segments. The two operating segments are Housekeeping services and Food
service. Although both segments serve the same client base and share many
operational similarities, they are managed separately due to distinct
differences in the type of service provided, as well as the specialized
expertise required of the professional management personnel responsible for
delivering the respective segments' services. The Company considers the various
services provided within the Housekeeping services' segment to be one reportable
operating segment since such services are rendered pursuant to a single service
agreement and the delivery of such services is managed by the same management
personnel.
Differences between the reportable segments' operating results and other
disclosed data, and the Company's consolidated financial statements relate
primarily to corporate level transactions, as well as transactions between
reportable segments and the Company's warehousing and distribution subsidiary.
The subsidiary's transactions with reportable segments are immaterial and are
made on a basis intended to reflect the fair market value of the goods
transferred. Segment amounts disclosed are prior to any elimination entries made
in consolidation.
35
The Housekeeping services' segment of the Company does provide services in
Canada, although essentially all of its revenues and net income, 99% in both
categories, are earned in one geographic area, the United States.
Housekeeping Food Corporate and
services services eliminations Total
-------- -------- ------------ -----
Year Ended December 31, 2003
Revenues $318,539,515 $ 62,189,163 $ (1,010,499) $379,718,179
Income before income taxes 23,361,449 1,964,460 (7,811,181)(1) 17,514,728
Depreciation 1,158,938 69,229 686,761 1,914,928
Total assets 65,045,277 14,788,807 78,494,048(2) 158,328,132
Year Ended December 31, 2002
Revenues $277,748,933 $ 51,689,228 $ (938,179) $328,499,982
Income before income taxes 21,772,632 1,453,703 (8,961,637)(1) 14,264,698
Depreciation 1,218,550 43,404 771,613 2,033,567
Total assets 62,584,536 13,493,205 58,218,569(2) 134,296,310
Year Ended December 31, 2001
Revenues $244,634,409 $ 40,442,352 $ (887,251) $284,189,510
Income before income taxes 17,094,432 2,057,270 (7,616,341)(1) 11,535,361
Depreciation 1,377,655 21,258 842,560 2,241,473
Total assets 68,256,140 9,377,899 43,156,458(2) 120,790,497
(1) represents primarily corporate office cost and related overhead, as well as
certain operating expenses that are not allocated to the service segments.
(2) represents primarily cash and cash equivalents, deferred income taxes and
other current and noncurrent assets.
The Company earned revenue in the following service business categories:
Year Ended December 31,
------------------------------------------------------
2003 2002 2001
------------ ------------ ------------
Housekeeping services $223,302,834 $196,770,462 $170,921,662
Laundry and linen services 93,256,831 79,148,184 70,332,656
Food Services 61,677,500 50,959,106 40,075,685
Maintenance services and Other 1,481,014 1,622,230 2,859,507
------------ ------------ ------------
$379,718,179 $328,499,982 $284,189,510
============ ============ ============
The Company has one client, a nursing home chain, which in 2003, 2002 and 2001
accounted for approximately 23%, 17% and 14%, respectively of consolidated
revenue. The Company derived from such client approximately 23% and 22%,
respectively of the Housekeeping services and Food services' segments' revenues.
Additionally, at December 31, 2003 and 2002, amounts due from such client
represented approximately 1% and 2%, respectively of the Company's accounts
receivable balances. Although the Company expects to continue its relationship
with this client, the loss of such client would adversely affect the operations
of the Company's two operating segments.
36
Note 8--Earnings Per Common Share
A reconciliation of the numerators and denominators of basic and diluted
earnings per common share is as follows:
Year Ended December 31, 2003
----------------------------------------
Income Shares Per-share
(Numerator) (Denominator) Amount
----------- ------------- ---------
Net Income $10,859,728
===========
Basic earnings per
common share 10,859,728 11,365,796 $.96
Effect of dilutive
securities:
Options 493,072 (.04)
----------- ---------- ----
Diluted earnings per
common share $10,859,728 11,858,868 $.92
=========== ========== ====
Year Ended December 31, 2002
----------------------------------------
Income Shares Per-share
(Numerator) (Denominator) Amount
----------- ------------- ---------
Net Income $8,630,698
===========
Basic earnings per
common share 8,630,698 11,263,466 $.77
Effect of dilutive
securities:
Options 426,032 (.03)
----------- ---------- ----
Diluted earnings per
common share $8,630,698 11,689,498 $.74
=========== ========== ====
Year Ended December 31, 2001
----------------------------------------
Income Shares Per-share
(Numerator) (Denominator) Amount
----------- ------------- ---------
Net Income $7,035,361
===========
Basic earnings per
common share 7,035,361 10,928,281 $.64
Effect of dilutive
securities:
Options 149,665
----------- ---------- ----
Diluted earnings per
common share $7,035,361 11,077,946 $.64
=========== ========== ====
No outstanding options were excluded from the computation of diluted earnings
per common share for the year ended December 31, 2003 as none have an exercise
price in excess of the average market value of the Company's commons stock
during such period. Options to purchase 6,243 shares and 563,708 shares of
common stock at an average exercise price of $12.65 and $7.92 for the years
ended December 31, 2002 and 2001, respectively were outstanding during such
years but not included in the computation of diluted earnings per common share
because the options' exercise prices were greater than the average market price
of the common shares, and therefore, the effect would be antidilutive.
37
Note 9--Other Commitments and Contingencies
The Company has an $18,000,000 bank line of credit on which it may draw to meet
short-term liquidity requirements in excess of internally generated cash flow.
This facility expires on January 31, 2005. The Company believes the line will be
renewed at that time. Amounts drawn under the line are payable on demand. At
December 31, 2003, there were no borrowings under the line. However, at such
date, the Company had outstanding $14,500,000 (increased to $15,925,000 on
January 1, 2004) of irrevocable standby letters of credit, which relate to
payment obligations under the Company's insurance program. As a result of the
letters of credit issued, the amount available under the line was reduced by
$14,500,000 at December 31, 2003 (and by $15,925,000 at January 1, 2004).
The Company is also involved in miscellaneous claims and litigation arising
in the ordinary course of business. The Company believes that these matters,
taken individually or in the aggregate, would not have a material adverse affect
on the Company's financial position or results of operations.
The Balance Budget Act of 1997 changed Medicare policy in a number of ways,
most notably the phasing in, effective July 1, 1998, of a Medicare Prospective
Payment System for skilled nursing facilities which significantly changed the
manner and the amounts of reimbursement they receive. Many of the Company's
clients' revenues are highly contingent on Medicare and Medicaid reimbursement
funding rates. Therefore, they have been and continue to be adversely affected
by changes in applicable laws and regulations, as well as other trends in the
long-term care industry. This has resulted in certain of the Company's clients
filing for bankruptcy protection. Others may follow. These factors in addition
to delays in payments from clients have resulted in and could continue to result
in significant additional bad debts in the near future.
Note 10--Accrued Insurance Claims
For years 2001 through 2003 the Company has a Paid Loss Retrospective Insurance
Plan for general liability and workers' compensation insurance. Under these
plans, pre-determined loss limits are arranged with an insurance company to
limit both the Company's per occurrence cash outlay and annual insurance plan
cost.
For workers' compensation, the Company records a reserve based on the present
value of future payments, including an estimate of claims incurred but not
reported, that are developed as a result of a review of the Company's historical
data, open claims and actuarial analysis done by an independent insurance
specialist. The accrued insurance claims were reduced by approximately
$1,287,000, $1,784,000 and $2,138,000 at December 31, 2003, 2002 and 2001,
respectively in order to record the estimated present value at the end of each
year using an 8% interest factor.
Management regularly evaluates its claims' pay-out experience, present value
factor and other factors related to the nature of specific claims in arriving at
the basis for its accrued insurance claims' estimate. Management evaluations are
based primarily on current information derived from reviewing the Company
claims' experience and industry trends. In the event that the Company claims'
experience and/or industry trends result in an unfavorable change, it could have
an adverse effect on the Company's results of operations and financial
condition.
For general liability, the Company records a reserve for the estimated
ultimate amounts to be paid for known claims.
Note 11--Employee Benefit Plans
Employee Stock Purchase Plan
Effective January 1, 2000, the Company initiated a non-compensatory Employee
Stock Purchase Plan ("the ESPP") for all eligible employees. All full-time and
certain part-time employees who have completed two years of continuous service
with the Company are eligible to participate. The implementation of the ESPP was
by four annual offerings with the first annual offering commenced on January 1,
2000. On February 12, 2004, (effective January 1, 2004), the company's Board of
Directors extended the ESPP for an additional eight annual offerings. All future
annual offerings likewise commence and terminate on the respective year's first
and last calendar day. Under the ESPP, the Company is authorized to issue up to
800,000 shares of its common stock to its employees. Furthermore, under the
terms of the ESPP, eligible employees can choose each year to have up to $25,000
of their annual earnings withheld to purchase the Company's Common Stock. The
purchase price of the stock is 85% of the lower of its beginning or end of the
plan year market price.
As a result of the 2003, 2002 and 2001 annual offerings, a total of 32,149
shares, 24,141 shares and 23,926 shares of the company's common stock were
purchased at $11.39, $8.50 and $5.42 per common share for the years 2003, 2002
and 2001, respectively, under the ESPP. The 2003, 2002 and 2001 annual
offerings' shares were issued on January 9, 2004, January 8, 2003 and January 8,
2002, respectively.
38
Retirement Savings Plan
On October 1, 1999, the Company established a retirement savings plan for
non-highly compensated employees (the "RSP") under Section 401(k) of the
Internal Revenue Code. The RSP allows eligible employees to contribute up to
fifteen percent (15%) of their compensation on a pre-tax basis. There is no
match by the Company.
Deferred Compensation Plan
Effective January 1, 2000, the Company initiated a Supplemental Executive
Retirement Plan (the "SERP") for certain key executives and employees. The SERP
is not qualified under section 401 of the Internal Revenue Code. Under the SERP,
participants may defer up to fifteen percent (15%) of their income on a pre-tax
basis. As of the last day of each plan year, each participant will receive a
twenty-five percent (25%) match of their deferral in the Company's common stock
based on the then current market value. SERP participants fully vest in the
Company's match three years from the first day of the initial year of
participation. The income deferred and the Company match are unsecured and
subject to the claims of general creditors of the Company. The amounts expensed
under the SERP during the years ended December 31, 2003, 2002 and 2001 were
$237,626, $287,743 and $102,470, respectively. The Company funded such expense
through the reissuance to the SERP's trustee of 12,631 shares, 15,160 shares and
13,509 shares of the Company's treasury stock for the years ended December 31,
2003, 2002 and 2001, respectively. In the aggregate, since initiation of the
SERP, 57,122 shares held by the trustee are accounted for at cost, as treasury
stock. At December 31, 2003, 52,919 of such shares are vested in the
participants' accounts.
The SERP's trust account had a balance of $2,847,575 (of which approximately
one-half is held in Company common stock), $1,476,080 and $832,677 at December
31, 2003, 2002 and 2001, respectively. The account's investments are recorded at
their fair value which is based on quoted market prices. Accordingly, the
Company recorded an unrealized gain of $417,564 for the year ended December 31,
2003. For the years ended December 31, 2002 and 2001, the Company recorded
unrealized losses of $161,937 and $65,768, respectively.
Note 12--Selected Quarterly Financial Data (Unaudited)
(in thousands except for per share data)
Three Months Ended
-----------------------------------------------
March 31 June 30 September 30 December 31
-----------------------------------------------
2003
Revenues $89,531 $92,806 $95,878 $101,503
Operating costs and expenses $85,488 $88,712 $91,761 $ 97,694
Income before income taxes $ 4,243 $ 4,285 $ 4,486 $ 4,501
Net income $ 2,546 $ 2,661 $ 2,803 $ 2,850
Basic earnings per common share(1) $ .23 $ .24 $ 25 $ .25
Diluted earnings per common share(1) $ .22 $ .23 $ 24 $ .24
Cash dividends per common share $ -- $ -- $ .06 $ .07
2002
Revenues $78,932 $82,066 $83,045 $ 84,457
Operating costs and expenses $75,762 $78,634 $79,507 $ 81,103
Income before income taxes $ 3,356 $ 3,629 $ 3,655 $ 3,625
Net income $ 2,030 $ 2,195 $ 2,211 $ 2,195
Basic earnings per common share(1) $ .18 $ .20 $ .20 $ .20
Diluted earnings per common share(1) $ .18 $ .19 $ .19 $ .19
(1) Year-to-date earnings per common share amounts may differ from the sum of
quarterly amounts due to rounding.
39
Note 13--Subsequent Event (Unaudited)
On February 12, 2004, the Company's Board of Directors approved a 3 for 2 stock
split in the form of a 50% common stock dividend payable on March 1, 2004 to
shareholders of record on February 23, 2004. Presented below are unaudited pro
forma results for the years ended December 31 assuming the stock split had
occurred on January 1, 2001.
2003 2002 2001
Year Ended December 31, ---- ---- ----
Net income $10,859,728 $8,630,698 $7,035,361
Basic weighted average number of common
shares outstanding as reported 11,365,796 11,263,466 10,928,281
Basic weighted average number of common
shares outstanding pro forma (unaudited) 17,048,694 16,895,199 16,392,422
Basic earnings per common share as reported $.96 $.77 $.64
Basic earnings per common share pro forma
(unaudited) $.64 $.51 $.43
Diluted weighted average number of common
shares outstanding as reported 11,858,868 11,689,498 11,077,946
Diluted weighted average number of common
shares outstanding pro forma (unaudited) 17,788,302 17,534,247 16,616,919
Diluted earnings per common share as reported $.92 $.74 $.64
Diluted earnings per common share pro forma
(unaudited) $.61 $.49 $.42
Quarterly unaudited pro forma results for the years ended December 31, 2003 and
2002 are reported below.
March 31 June 30 September 30 December 31
2003 Quarter Ended -------- ------- ------------ -----------
Net income $2,545,912 $2,660,510 $2,803,209 $2,850,097
Basic weighted average number of common
shares outstanding as reported 11,245,247 11,304,606 11,406,417 11,505,478
Basic weighted average number of common
shares outstanding pro forma (unaudited) 16,867,871 16,956,909 17,109,626 17,258,217
Basic earnings per common share as reported $.23 $.24 $.25 $.25
Basic earnings per common share pro forma
(unaudited) $.15 $.16 $.16 $.17
Diluted weighted average number of common
shares outstanding as reported 11,787,080 11,718,407 11,929,427 12,111,815
Diluted weighted average number of common
shares outstanding pro forma (unaudited) 17,680,620 17,577,611 17,894,141 18,167,723
Diluted earnings per common share as reported $.22 $.23 $.24 $.24
Diluted earnings per common share pro forma
(unaudited) $.14 $.15 $.16 $.16
March 31 June 30 September 30 December 31
2002 Quarter Ended -------- ------- ------------ -----------
Net income $2,030,551 $2,194,687 $2,210,586 $2,194,874
Basic weighted average number of common
shares outstanding as reported 11,169,039 11,224,347 11,317,662 11,255,065
Basic weighted average number of common
shares outstanding pro forma (unaudited) 16,753,559 16,836,521 16,976,493 16,882,598
Basic earnings per common share as reported $.18 $.20 $.20 $.20
Basic earnings per common share pro forma
(unaudited) $.12 $.13 $.13 $.13
Diluted weighted average number of common
shares outstanding as reported 11,572,145 11,818,807 11,845,894 11,658,478
Diluted weighted average number of common
shares outstanding pro forma (unaudited) 17,358,218 17,728,211 17,768,841 17,487,717
Diluted earnings per common share as reported $.18 $.19 $.19 $.19
Diluted earnings per common share pro forma
(unaudited) $.12 $.12 $.12 $.13
The unaudited pro forma impact of the stock split on the Company's balance sheet
at December 31, 2003 would be to increase common stock by $60,049 with an
offsetting reduction to Additional Paid in Capital. Issued and outstanding
numbers of shares of common stock as of December 31, 2003, on a pro forma basis,
will be 17,938,618 and 17,286,375, respectively.
40
Report Of Independent Certified Public Accountants
The Stockholders and Board of Directors
Healthcare Services Group, Inc.
We have audited the accompanying consolidated balance sheets of Healthcare
Services Group, Inc. and subsidiaries as of December 31, 2003 and 2002, and the
related consolidated statements of income, cash flows, and stockholders' equity
for each of the three years in the period ended December 31, 2003. These
consolidated financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these consolidated
financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United States of America. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the consolidated
financial statements are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and disclosures in
the consolidated financial statements. An audit also includes assessing the
accounting principles used and significant estimates made by management, as well
as evaluating the overall consolidated financial statement presentation. We
believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the consolidated financial position of
Healthcare Services Group, Inc. and subsidiaries at December 31, 2003 and 2002
and the consolidated results of their operations and their consolidated cash
flows for each of the three years in the period ended December 31, 2003, in
conformity with accounting principles generally accepted in the United States of
America.
/S/ Grant Thornton LLP
New York, New York
February 6, 2004
41
Transfer Agent Corporate Offices Stock Listing
American Stock Transfer & Trust Co. Healthcare Services Group, Inc. Listed on the NASDAQ
99 Wall St. 3220 Tillman Drive, Suite 300 National Market System Symbol - "HCSG"
New York, NY 10005 Bensalem, PA 19020
215-639-4274
Auditors
Grant Thornton LLP Corporate Counsel Annual Stockholders' Meeting
The Chrysler Building Olshan Grundman Frome Date - May 25, 2004
666 Third Avenue Rosenzweig & Wolosky LLP Time - 10:00 A.M.
New York, NY 10017 Park Avenue Tower Place - The Radisson Hotel of Bucks County
65 East 55th St. 2400 Old Lincoln Highway
New York, NY 10022 Trevose, PA 19047
Directors Barton D. Weisman John M. Briggs, CPA
Daniel P. McCartney President & CEO-H.B.A. Corp. Partner - Briggs, Bunting & Dougherty LLP
Chairman & Chief Executive Officer Robert L. Frome, Esq.
Thomas A. Cook Senior Partner - Olshan Grundman Frome
President & Chief Operating Officer Rosenzweig & Wolosky LLP
Joseph F. McCartney Robert J. Moss, Esq.
Northeastern Divisional Vice President President - Moss Associates
Officers and Corporate Management Michael Hammond Michael E. McBryan
Daniel P. McCartney Western Regional Vice President Mid-Atlantic Divisional Vice President
Chief Executive Officer Michael Harder Bryan D. McCartney
Thomas A. Cook Vice President - Credit Administration Mid-Atlantic Divisional Vice President
President & Chief Operating Officer Richard W. Hudson Joseph F. McCartney
Curt Barringer Vice President - Finance and Secretary Northeastern Divisional Vice President
Southeast Divisional Vice President John D. Kelly James P. O'Toole
Thomas B. Carpenter Western Divisional Vice President Mid-Atlantic Regional Vice President
General Counsel and Assistant Secretary Nicholas R. Marino Brian M. Waters
James L. DiStefano Human Resources Director Vice President - Operations
Chief Financial Officer and Treasurer
Market Makers
As of the end of 2003, the following firms were making a market in the shares of
Healthcare Services Group, Inc.:
Schwab Capital Markets Jefferies & Company, Inc. Citigroup Global Markets, Inc.
Goldman, Sachs & Co. Morgan Stanley & Co., Inc. Merrill Lynch, Pierce, Fenner
Wedbush Morgan Securities Inc. C.L. King & AssociatesCrown Financial Group
About Your Shares
Healthcare Services Group, Inc.'s common stock is traded on the NASDAQ National
Market System of the over-the-counter market. On December 31, 2003 there were
11,524,250 of the Company's common shares issued and outstanding. As of March 1,
2004 there were approximately 490 holders of record of the common stock,
including holders whose stock was held in nominee name by brokers or other
nominees. It is estimated that there are approximately 3,100 beneficial holders.
Price quotations during the two years ended December 31, 2003, ranged as
follows:
2003 High 2003 Low 2002 High 2002 Low
--------- -------- --------- --------
1st Qtr. ........... $13.960 $11.800 $10.708 $ 9.540
2nd Qtr. ........... $14.030 $11.240 $15.450 $11.650
3rd Qtr. ........... $17.110 $13.950 $15.750 $11.750
4th Qtr. ........... $20.161 $15.780 $13.910 $10.751
Availability of Form 10-K
A copy of Healthcare Services Group, Inc.'s 2003 Annual Report on Form 10-K, as
filed with the Securities and Exchange Commission is available on the Company's
website "www.hcsgcorp.com". Additionally, it will be provided without charge to
each shareholder making a written request to the Investor Relations Department
of the Company at its Corporate Offices.
42
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
and Exchange Act of 1934, the Registrant has duly caused this report to be
signed on its behalf by the undersigned, thereunto duly authorized.
Dated: February 26, 2004 HEALTHCARE SERVICES GROUP, INC.
(Registrant)
By: /s/ Daniel P. McCartney
-------------------------------
Daniel P. McCartney
Chief Executive Officer and
Chairman of the Board
Pursuant to the requirements of the Securities and Exchange Act of
1934, this report has been signed below by the following persons and in the
capacities and on the date indicated:
Signature Title Date
--------- ----- ----
/s/ Daniel P. McCartney Chief Executive Officer and February 26, 2004
- --------------------------- Chairman
Daniel P. McCartney
/s/ Joseph F. McCartney Director and Vice President February 26, 2004
- ---------------------------
Joseph F. McCartney
/s/ Barton D. Weisman Director February 26, 2004
- ---------------------------
Barton D. Weisman
/s/ Robert L. Frome Director February 26, 2004
- ---------------------------
Robert L. Frome
/s/ Thomas A. Cook Director, President and February 26, 2004
- --------------------------- Chief Operating Officer
Thomas A. Cook
/s/ John M. Briggs Director February 26, 2004
- ---------------------------
John M. Briggs
/s/ Robert J. Moss Director February 26, 2004
- ---------------------------
Robert J. Moss
/s/ James L. DiStefano Chief Financial Officer and February 26, 2004
- --------------------------- Treasurer
James L. DiStefano
/s/ Richard W. Hudson Vice President-Finance, Secretary February 26, 2004
- --------------------------- and Chief Accounting Officer
Richard W. Hudson
43
REPORT OF INDEPENDENT CERTIFIED PUBLIC
ACCOUNTANTS ON SCHEDULE
Board of Directors and Stockholders
Healthcare Services Group, Inc.
In connection with our audits of the consolidated financial statements of
Healthcare Services Group, Inc. and subsidiaries, referred to in our report
dated February 6, 2004, which is included in the 2003 Annual Report to
Shareholders and is incorporated by reference in Form 10-K, we have also audited
Schedule II for each of the three years in the period ended December 31, 2003.
In our opinion, this schedule presents fairly, in all material respects, the
information required to be set forth therein.
/s/ Grant Thornton LLP
New York, New York
February 6, 2004
S-1
Healthcare Services Group, Inc. and subsidiaries
Schedule II - Valuation and Qualifying Accounts
Years Ended December 31, 2003, 2002, and 2001
Additions
--------------------------------
Balance- Charged to Charged to
Beginning of Costs and Other Deductions Balance -End
Description Period Expenses Accounts (A) of Period
- ---------------------- ------------ ------------ ------------- ------------ ------------
2003
Allowance for Doubtful
Accounts $ 7,323,000 $ 4,550,000 $ 8,459,000 $ 3,414,000
============ ============ ============= ============ ============
2002
Allowance for Doubtful
Accounts $ 6,936,000 $ 6,050,000 $ 5,663,000 $ 7,323,000
============ ============ ============= ============ ============
2001
Allowance for Doubtful
Accounts $ 4,914,000 $ 5,445,000 $ 3,423,000 $ 6,936,000
============ ============ ============= ============ ============
(A) Represents write-offs
S-2