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FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2004
or
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from __________ to __________.
Commission File Number 1-8269
OMNICARE, INC.
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(Exact name of registrant as specified in its charter)
Delaware 31-1001351
-------- ----------
(State or Other Jurisdiction of (I.R.S. Employer Identification No.)
Incorporation or Organization)
100 East RiverCenter Boulevard, Covington, Kentucky 41011
---------------------------------------------------------
(Address of principal executive offices) (Zip code)
(859) 392-3300
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(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant:
1) has filed all reports required to be filed by Section 13 or 15(d) of
the Securities Exchange Act of 1934 during the preceding 12 months (or
for such shorter period that the registrant was required to file such
reports), and
2) has been subject to such filing requirement for the past 90 days.
Yes [X] No [_]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act).
Yes [X] No [_]
COMMON STOCK OUTSTANDING
- ------------------------
Number of
Shares Date
----------- ------------------
Common Stock, $1 par value 104,174,237 September 30, 2004
OMNICARE, INC. AND
SUBSIDIARY COMPANIES
INDEX
PAGE
----
PART I. FINANCIAL INFORMATION:
ITEM 1. FINANCIAL STATEMENTS (UNAUDITED)
Consolidated Statements of Income -
Three and nine months ended -
September 30, 2004 and 2003 3
Consolidated Balance Sheets -
September 30, 2004 and December 31, 2003 4
Consolidated Statements of Cash Flows -
Nine months ended -
September 30, 2004 and 2003 5
Notes to Consolidated Financial Statements 6
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS 24
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES
ABOUT MARKET RISK 51
ITEM 4. CONTROLS AND PROCEDURES 52
PART II. OTHER INFORMATION:
ITEM 2. UNREGISTERED SALE OF EQUITY SECURITIES AND USE OF
PROCEEDS 53
ITEM 6. EXHIBITS 53
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
CONSOLIDATED STATEMENTS OF INCOME
OMNICARE, INC. AND SUBSIDIARY COMPANIES
UNAUDITED
(In thousands, except per share data)
Three Months Ended Nine Months Ended
September 30, September 30,
--------------------- -----------------------
2004 2003 2004 2003
---------- -------- ---------- ----------
Sales $1,049,412 $896,099 $3,033,207 $2,532,035
Reimbursable out-of-pockets 4,521 5,555 13,602 19,513
---------- -------- ---------- ----------
Total net sales 1,053,933 901,654 3,046,809 2,551,548
---------- -------- ---------- ----------
Cost of sales 790,842 668,844 2,264,349 1,875,842
Reimbursed out-of-pocket expenses 4,521 5,555 13,602 19,513
---------- -------- ---------- ----------
Total direct costs 795,363 674,399 2,277,951 1,895,355
---------- -------- ---------- ----------
Gross profit 258,570 227,255 768,858 656,193
Selling, general and administrative expenses 152,249 123,592 434,238 380,610
---------- -------- ---------- ----------
Operating income 106,321 103,663 334,620 275,583
Investment income 691 880 2,230 2,634
Interest expense (Note 6) (17,582) (26,316) (51,537) (64,647)
---------- -------- ---------- ----------
Income before income taxes 89,430 78,227 285,313 213,570
Income taxes 33,544 29,397 105,482 80,816
---------- -------- ---------- ----------
Net income $ 55,886 $ 48,830 $ 179,831 $ 132,754
========== ======== ========== ==========
Earnings per share:
Basic $ 0.54 $ 0.48 $ 1.73 $ 1.36
========== ======== ========== ==========
Diluted $ 0.54 $ 0.47 $ 1.72 $ 1.34
========== ======== ========== ==========
Weighted average number of common shares outstanding:
Basic 104,171 101,965 103,876 97,490
========== ======== ========== ==========
Diluted 104,357 102,944 104,723 103,017
========== ======== ========== ==========
Dividends per share $ 0.0225 $ 0.0225 $ 0.0675 $ 0.0675
========== ======== ========== ==========
Comprehensive income $ 56,644 $ 48,396 $ 179,144 $ 134,574
========== ======== ========== ==========
The Notes to Consolidated Financial Statements are an integral part of these
statements.
3
CONSOLIDATED BALANCE SHEETS
OMNICARE, INC. AND SUBSIDIARY COMPANIES
UNAUDITED
(In thousands, except share data)
September 30, December 31,
2004 2003
------------- ------------
ASSETS
Current assets:
Cash and cash equivalents $ 103,122 $ 187,413
Restricted cash 5,777 714
Deposit with drug wholesaler 44,000 --
Accounts receivable, less allowances
of $122,644 (2003-$108,813) 799,000 678,255
Unbilled receivables 13,133 15,281
Inventories 318,417 326,550
Deferred income tax benefits 89,512 53,224
Other current assets 140,007 121,651
---------- ----------
Total current assets 1,512,968 1,383,088
Properties and equipment, at cost less accumulated
depreciation of $218,253 (2003-$200,498) 141,836 148,307
Goodwill 1,868,094 1,690,558
Other noncurrent assets 193,644 173,068
---------- ----------
Total assets $3,716,542 $3,395,021
========== ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 300,117 $ 296,089
Current debt 24,745 20,709
Accrued employee compensation 26,353 30,611
Deferred revenue 16,338 22,454
Income taxes payable 11,285 16,244
Other current liabilities 78,692 76,653
---------- ----------
Total current liabilities 457,530 462,760
Long-term debt 177,681 135,855
8.125% senior subordinated notes, due 2011 375,000 375,000
6.125% senior subordinated notes, net, due 2013 233,459 226,822
4.0% contingent convertible notes, due 2033 345,000 345,000
Deferred income tax liabilities 138,673 50,913
Other noncurrent liabilities 116,587 122,647
---------- ----------
Total liabilities 1,843,930 1,718,997
---------- ----------
Commitments and contingencies (Note 10)
Stockholders' equity:
Preferred stock, no par value, 1,000,000 shares authorized,
none issued and outstanding -- --
Common stock, $1 par value, 200,000,000 shares authorized,
106,245,400 shares issued (2003-105,050,900 shares issued) 106,245 105,051
Paid-in capital 1,030,347 986,138
Retained earnings 857,149 684,348
Treasury stock, at cost-2,071,200 shares (2003-1,863,000 shares) (54,620) (46,087)
Deferred compensation (61,924) (49,528)
Accumulated other comprehensive income (4,585) (3,898)
---------- ----------
Total stockholders' equity 1,872,612 1,676,024
---------- ----------
Total liabilities and stockholders' equity $3,716,542 $3,395,021
========== ==========
The Notes to Consolidated Financial Statements are an integral part of these
statements.
4
CONSOLIDATED STATEMENTS OF CASH FLOWS
OMNICARE, INC. AND SUBSIDIARY COMPANIES
UNAUDITED
(In thousands)
Nine Months Ended
September 30,
---------------------
2004 2003
--------- ---------
Cash flows from operating activities:
Net income $ 179,831 $ 132,754
Adjustments to reconcile net income to net cash
flows from operating activities:
Depreciation 26,728 28,369
Amortization 15,094 9,960
Provision for doubtful accounts 33,424 34,676
Deferred tax provision 54,473 21,756
Write-off of debt issuance costs -- 3,755
Changes in assets and liabilities, net of effects
from acquisition of businesses:
Accounts receivable and unbilled receivables (110,526) (28,131)
Inventories 24,797 (58,703)
Current and noncurrent assets (70,766) 3,782
Accounts payable (3,832) 59,200
Accrued employee compensation (5,242) 281
Deferred revenue (6,116) (3,138)
Current and noncurrent liabilities (7,663) (22,198)
--------- ---------
Net cash flows from operating activities 130,202 182,363
--------- ---------
Cash flows from investing activities:
Acquisition of businesses (239,940) (599,689)
Capital expenditures (13,586) (11,241)
Transfer of cash to trusts for employee health and
severance costs, net of payments out of the trust (5,063) (2,672)
Other 41 58
--------- ---------
Net cash flows from investing activities (258,548) (613,544)
--------- ---------
Cash flows from financing activities:
Borrowings on line of credit facilities and term A loan 407,000 749,000
Payments on line of credit facilities and term A loan (361,360) (589,000)
Proceeds from long-term borrowings -- 595,000
Payments on long-term borrowings and obligations (378) (354,242)
Fees paid for financing arrangements -- (19,511)
Proceeds from stock offering, net of issuance costs -- 178,774
Proceeds from stock awards and exercise of stock options
and warrants, net of stock tendered in payment 7,871 5,834
Dividends paid (7,030) (6,559)
Other -- 122
--------- ---------
Net cash flows from financing activities 46,103 559,418
--------- ---------
Effect of exchange rate changes on cash (2,048) 2,077
--------- ---------
Net (decrease) increase in cash and cash equivalents (84,291) 130,314
Cash and cash equivalents at beginning of period - unrestricted 187,413 137,936
--------- ---------
Cash and cash equivalents at end of period - unrestricted $ 103,122 $ 268,250
========= =========
The Notes to Consolidated Financial Statements are an integral part of these
statements.
5
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
OMNICARE, INC. AND SUBSIDIARY COMPANIES
UNAUDITED
1. Interim Financial Data, Business and Summary of Significant Accounting
Policies
Interim Financial Data:
The interim financial data is unaudited; however, in the opinion of the
management of Omnicare, Inc., the interim data includes all adjustments (which
include only normal adjustments, except as described in Note 6) considered
necessary for a fair presentation of the consolidated financial position,
results of operations and cash flows of Omnicare, Inc. and its consolidated
subsidiaries ("Omnicare" or the "Company"). These financial statements should be
read in conjunction with the Consolidated Financial Statements and related notes
included in Omnicare's Annual Report on Form 10-K for the year ended December
31, 2003, and any related updates included in the Company's periodic quarterly
SEC filings. Certain reclassifications of prior year amounts have been made to
conform with the current year presentation.
Business and Summary of Significant Accounting Policies:
Revenue Recognition
Revenue is recognized by Omnicare when products or services are delivered
or provided to the customer.
Pharmacy Services Segment
A significant portion of the Company's Pharmacy Services Segment revenues
from sales of pharmaceutical and medical products is reimbursed by state
Medicaid and, to a lesser extent, federal Medicare programs. Payments for
services rendered to patients covered by these programs are generally less
than billed charges. The Company monitors its revenues and receivables from
these reimbursement sources, as well as other third-party insurance payors, and
records an estimated contractual allowance for certain sales and receivable
balances to properly account for anticipated differences between billed and
reimbursed amounts. Accordingly, the total net sales and receivables reported in
the Company's financial statements are recorded at the amount ultimately
expected to be received from these payors. Since all billing functions of the
Company are computerized, enabling on-line adjudication (i.e., submitting
charges to Medicaid or other third-party payors electronically, with
simultaneous feedback of the amount to be paid) at the time of sale to record
net revenues, exposure to estimating contractual allowance adjustments is
limited primarily to unbilled and/or initially rejected Medicaid and third-party
claims (oftentimes eventually approved once additional information is
provided to the payor). The Company evaluates several criteria in developing
the estimated contractual allowances for unbilled and/or initially rejected
claims on a monthly basis, including historical trends based on actual claims
paid, current contract and reimbursement terms, and changes in customer base
and payor/product mix. Contractual allowances are adjusted to actual as cash
is received and claims are settled. Resulting adjustments were not significant
to the Company's operations for the periods presented.
Patient co-payments are associated with certain state Medicaid programs,
Medicare Part B and certain third party payors and are typically not collected
at the time products are delivered
6
or services are rendered, but are billed to the individual as part of the
Company's normal billing procedures. These co-payments are subject to the
Company's normal accounts receivable collections procedures.
A patient may be dispensed prescribed medications (typically no more
than a 2-3 day supply) prior to insurance being verified in emergency
situations, or for new facility admissions after hours or on weekends. The
following business day, specific payor information is obtained to ensure that
the proper payor is billed for reimbursement.
Under certain circumstances, the Company accepts returns of medications
and issues of a credit memo to be applicable payor. The Company estimates and
accrues for sales returns based on historical return experience, giving
consideration to the Company's return policies. Product returns are processed
in the period received, and are not significant when compared to the overall
sales and gross profit of the Company.
Contract Research Services Segment
A portion of the Company's overall revenues relate to the Contract
Research Services ("CRO") Segment, and are earned by performing services
under contracts with various pharmaceutical, biotechnology, medical device and
diagnostics companies, based on contract terms. Most of the contracts provide
for services to be performed on a units of service basis. These contracts
specifically identify the units of service and unit pricing. Under these
contracts, revenue is generally recognized upon completion of the units of
service, unless the units of service are performed over an extended period of
time. For extended units of service, revenue is recognized based on labor hours
expended as a percentage of total labor hours expected to be expended. For
time-and-materials contracts, revenue is recognized at contractual hourly rates,
and for fixed-price contracts, revenue is recognized using a method similar to
that used for extended units of service. The Company's contracts provide for
additional service fees for scope of work changes. The Company recognizes
revenue related to these scope changes when underlying services are performed
and realization is assured. In a number of cases, clients are required to make
termination payments in addition to payments for services already rendered. Any
anticipated losses resulting from contract performance are charged to earnings
in the period identified. Billings and payments are specified in each contract.
Revenue recognized in excess of billings is classified as unbilled receivables,
while billings in excess of revenue are classified as deferred revenue.
The Company's other significant accounting policies have been disclosed
in its Annual Report on Form 10-K. As previously disclosed, these financial
statements should be read in conjunction with the Consolidated Financial
Statements and related notes included in Omnicare's Annual Report on Form 10-K
for the year ended December 31, 2003, and any related updates included in the
Company's periodic quarterly SEC filings.
2. Stock-Based Employee Compensation
At September 30, 2004, the Company had four stock-based employee
compensation plans under which incentive awards were outstanding, including the
2004 Stock and Incentive Plan, approved by the stockholders at the Company's May
18, 2004 Annual Meeting of Stockholders. Beginning May 18, 2004, stock-based
incentive awards are made only from the 2004 Stock and Incentive Plan. As
permitted under United States Generally Accepted Accounting Principles ("U.S.
GAAP"), the Company accounts for stock incentive plans under
7
the recognition and measurement principles of Accounting Principles Board
Opinion No. 25, "Accounting for Stock Issued to Employees" ("APB 25"), and
related Interpretations. No stock-based employee compensation cost for stock
options is reflected in net income, as all options granted under the plans had
an exercise price equal to or greater than the market value of the underlying
common stock on the date of grant.
The following table illustrates the effect on net income and earnings per
share if the Company had applied the fair value recognition provisions of
Statement of Financial Accounting Standards ("SFAS") No. 123, "Accounting for
Stock-Based Compensation" ("SFAS 123"), as amended by SFAS No. 148, "Accounting
for Stock-Based Compensation - Transition and Disclosure - an amendment of SFAS
123" ("SFAS 148"), for stock options (in thousands, except per share data):
Three months ended Nine months ended
September 30, September 30,
------------------ -------------------
2004 2003 2004 2003
------- -------- -------- --------
Net income, as reported $55,886 $48,830 $179,831 $132,754
Add: Stock-based employee compensation
expense included in reported net income,
net of related tax effects 1,342 1,048 4,398 2,865
Deduct: Total stock-based employee
compensation expense (stock options and
awards) determined under fair value
based method, net of related tax effects (5,440) (3,208) (17,066) (9,685)
------- ------- -------- --------
Pro forma net income $51,788 $46,670 $167,163 $125,934
======= ======= ======== ========
Earnings per share:
Basic - as reported $ 0.54 $ 0.48 $ 1.73 $ 1.36
======= ======= ======== ========
Basic - pro forma $ 0.50 $ 0.46 $ 1.61 $ 1.29
======= ======= ======== ========
Diluted - as reported $ 0.54 $ 0.47 $ 1.72 $ 1.34
======= ======= ======== ========
Diluted - pro forma $ 0.50 $ 0.45 $ 1.60 $ 1.27
======= ======= ======== ========
The fair value of each option at the grant date is estimated using the
Black-Scholes option-pricing model, with the following weighted average
assumptions used for grants:
Three months ended Nine months ended
September 30, September 30,
------------------ -----------------
2004 2003 2004 2003
-------- ------- -------- --------
Volatility 54% 60% 54% 60%
Risk-free interest rate 3.4% 2.9% 3.4% 2.9%
Dividend yield 0.3% 0.2% 0.3% 0.2%
Expected term of options (in years) 5.1 5.2 5.1 5.2
Weighted average fair value per option $13.22 $17.91 $17.60 $15.63
8
The above pro forma information is based on the circumstances and
assumptions in effect for each of the respective periods and, therefore, is not
necessarily representative of the actual effect of SFAS 123 on net income or
earnings per share in future years.
3. Recently Issued Accounting Standards
In October 2004, the Financial Accounting Standards Board ratified Emerging
Issues Task Force ("EITF") Issue No. 04-8, "The Effect of Contingently
Convertible Instruments on Diluted Earnings per Share" ("EITF No. 04-8"). EITF
No. 04-8 requires contingently convertible debt instruments to be included in
diluted earnings per share, if dilutive, regardless of whether the market-price
contingency is met. EITF No. 04-8 is effective for reporting periods ending
after December 15, 2004, and would be applied by retroactively restating
previously reported diluted earnings per share. It is estimated that EITF No.
04-8 would have reduced Omnicare's diluted earnings per share by approximately
$0.02 and $0.07 for the three and nine months ended September 30, 2004,
respectively, if it had been effective during these periods. While no assurances
can be given regarding the final outcome, the Company is currently investigating
various alternatives to mitigate such dilution.
4. Acquisitions
During the first nine months of 2004, the Company completed several
acquisitions in its institutional pharmacy business, which individually were not
significant. Acquisitions of businesses required cash payments of $239.9 million
(including amounts payable pursuant to acquisition agreements relating to
pre-2004 acquisitions) in 2004. The impact of these aggregate acquisitions on
the Company's overall goodwill balance has been reflected in the disclosures at
the "Goodwill and Other Intangible Assets" footnote. Further, on June 4, 2004,
Omnicare commenced a tender offer for all of the outstanding shares of the
common stock of NeighborCare, Inc. ("NeighborCare") for $30.00 per share in
cash. The transaction has a total value of approximately $1.5 billion, which
includes the assumption of NeighborCare's net debt and any related refinancing
thereof. The acquisition of NeighborCare is expected to be financed with
proceeds from a $2.4 billion commitment letter the Company has secured in
anticipation of the transaction or from such other financings that are
sufficient, together with cash on hand, to consummate the tender offer and the
proposed merger. The Company's $2.4 billion commitment letter consists of a $600
million five-year revolving credit facility, a $700 million five-year senior
term A loan facility and a $1.1 billion 364-day facility. On July 13, 2004,
Omnicare announced that it received a request for additional information from
the Federal Trade Commission ("FTC") relating to its filing under the
Hart-Scott-Rodino Antitrust Improvements Act of 1976 ("HSR Act") in connection
with its tender offer for NeighborCare. The request extends the waiting period
under the HSR Act during which the FTC is permitted to review the proposed
transaction until 10 days after Omnicare has substantially complied with the
request. Omnicare is continuing to work with the FTC with respect to the filing.
The Company's tender offer is scheduled to expire at 5:00 p.m., New York City
time, on November 30, 2004, unless extended.
On July 15, 2003, Omnicare acquired the SunScript pharmacy services
business from Sun Healthcare Group, Inc. The acquisition, accounted for as a
purchase business combination, included cash consideration and transaction costs
of approximately $83 million. The Company
9
funded the acquisition of SunScript from existing cash balances. Up to an
additional $15.0 million may become payable post-closing, subject to adjustment.
At the time of the acquisition, SunScript provided pharmaceutical products
and related consulting services to skilled nursing and assisted living
facilities comprised of approximately 43,000 beds located in 19 states
(excluding beds in Sun Healthcare facilities that Sun Healthcare intended to
divest in unrelated transactions). SunScript served these facilities through its
network of 31 long-term care pharmacies. Omnicare has achieved certain economies
of scale and operational efficiencies from the acquisition. The net assets and
operating results of SunScript have been included from the date of acquisition
in the Company's financial statements. The Company has completed its purchase
price allocation, including the identification of goodwill and other intangible
assets based on an appraisal performed by an independent valuation firm.
The following table summarizes the fair values of the net assets acquired
at the date of the SunScript acquisition (in thousands):
Current assets, including deferred tax assets $33,443
Property and equipment 3,379
Intangible assets 8,272
Goodwill 64,580
Current and noncurrent liabilities (26,981)
-------
Total net assets acquired $82,693
=======
On January 15, 2003, Omnicare closed its $5.50 per share cash tender offer
for all of the issued and outstanding shares of Class A common stock and Class B
common stock of NCS HealthCare, Inc. ("NCS"). The acquisition of NCS, accounted
for as a purchase business combination, included cash consideration and
transaction costs of approximately $500 million. The cash consideration included
the payoff of certain NCS debt totaling approximately $325.5 million, which was
retired by Omnicare immediately following the acquisition. The Company initially
financed the acquisition with available cash, working capital and borrowings
under its three-year, $500.0 million revolving credit facility. The Company
later refinanced the borrowings under its three-year, $500.0 million revolving
credit facility, as described further under "Debt and Issuance of Common Stock."
At the time of the acquisition, NCS provided professional pharmacy and
related services to long-term care facilities, including skilled nursing and
assisted living facilities in 33 states and managed hospital pharmacies in 10
states. NCS added approximately 182,000 beds served in the first quarter of
2003. In addition to broadening its geographic reach, Omnicare achieved certain
economies of scale and operational efficiencies from the acquisition. The net
assets and operating results of NCS have been included from the date of
acquisition in the Company's financial statements.
Pro forma information for NCS and SunScript is not presented for the three
and nine months ended September 30, 2003, as the results of NCS are included in
those of the Company from the closing date of January 15, 2003, and the
difference from the beginning of the period is not significant, and the impact
of SunScript is not presented due to the lack of significance on the pro forma
combined results.
10
Unaudited pro forma combined results of operations of the Company and the
aggregated acquisitions completed in the Company's institutional pharmacy
business during the first nine months of 2004, which individually were not
significant, are presented below for the three and nine months ended September
30, 2004 and 2003. Such pro forma presentation has been prepared assuming that
these 2004 acquisitions had been made as of January 1, 2003.
The unaudited pro forma combined financial information follows (in
thousands, except per share data):
Three Months Ended Nine Months Ended
September 30, September 30,
--------------------- -----------------------
2004 2003 2004 2003
---------- -------- ---------- ----------
Net sales $1,066,545 $989,385 $3,159,766 $2,814,740
Net income $ 55,686 $ 48,587 $ 178,382 $ 132,025
Earnings per share:
Basic $ 0.53 $ 0.48 $ 1.72 $ 1.35
Diluted $ 0.53 $ 0.47 $ 1.70 $ 1.33
5. Goodwill and Other Intangible Assets
Changes in the carrying amount of goodwill for the nine months ended
September 30, 2004, by business segment, are as follows (in thousands):
Pharmacy CRO
Services Services Total
---------- -------- ----------
Balance as of December 31, 2003 $1,649,604 $40,954 $1,690,558
Goodwill acquired in the nine
months ended September 30, 2004 181,316 -- 181,316
Other (3,590) (190) (3,780)
---------- ------- ----------
Balance as of September 30, 2004 $1,827,330 $40,764 $1,868,094
========== ======= ==========
The "Other" caption above includes the settlement of acquisition matters
relating to prior-year acquisitions (including payments pursuant to acquisition
agreements such as deferred payments, indemnification payments and payments
originating from earnout provisions, as well as adjustments for the finalization
of purchase price allocations). "Other" also includes the effect of adjustments
due to foreign currency translations, which relate solely to Contract Research
Organization ("CRO") Services.
During the third quarter of 2004, the Company completed its annual goodwill
impairment assessment based on an evaluation of estimated future cash flows and
determined that goodwill was not impaired.
The Company's other intangible assets (included in the "Other noncurrent
assets" caption on the Consolidated Balance Sheet) have increased by $6.8
million during the first nine months of 2004, net of related amortization
expense. This increase was primarily due to the Company's
11
completion of its purchase price allocation for the SunScript acquisition,
including the identification of goodwill and other intangible assets (primarily
related to customer relationship assets and non-compete agreements) based on an
appraisal by an independent valuation firm.
6. Debt and Issuance of Common Stock
During the second quarter of 2003, the Company completed its offering of
$250.0 million aggregate principal amount of 6.125% senior subordinated notes
due 2013 ("6.125% Senior Notes"), issued at par, and 6,468,750 shares of common
stock, $1 par value, at $29.16 per share, for gross proceeds of approximately
$189 million, and the offering, through Omnicare Capital Trust I, a statutory
trust formed by the Company (the "Trust"), of $345.0 million aggregate principal
amount of convertible trust preferred securities due 2033 ("trust PIERS" or
"Preferred Income Equity Redeemable Securities").
In early 2001, the Company entered into a three-year syndicated $500.0
million revolving line of credit facility (the "Revolving Credit Facility"),
including a $25.0 million letter of credit subfacility, with various lenders. As
previously discussed, in January 2003, the Company borrowed $499.0 million under
the Revolving Credit Facility to finance its acquisition of NCS (see
"Acquisitions" footnote). The Revolving Credit Facility was retired in
connection with the mid-2003 refinancing transactions, as further described
below.
In connection with the mid-2003 refinancings, the Company entered into a
new, four-year $750.0 million credit facility ("Credit Facility"), consisting of
a $250.0 million term A loan commitment and a $500.0 million revolving credit
commitment, including a $25.0 million letter of credit subfacility. The new
Credit Facility bears interest at the Company's option at a rate equal to
either: (i) the London Interbank Offered Rate ("LIBOR") plus a margin that
varies depending on certain ratings on the Company's senior long-term debt; or
(ii) the higher of (a) the prime rate or (b) the sum of the federal funds
effective rate plus 0.50%. Additionally, the Company is charged a commitment fee
on the unused portion of the revolving credit portion of the Credit Facility,
which also varies depending on such ratings. At September 30, 2004, the interest
rate was LIBOR plus 1.375% and the commitment fee was 0.375%. There is no
utilization fee associated with the Credit Facility.
The Company used the net proceeds from the 6.125% Senior Notes offering and
borrowings of $250.0 million under the term A loan portion of the new Credit
Facility to repay the balance of the Company's existing Revolving Credit
Facility of $474.0 million, with remaining proceeds being used for general
corporate purposes. The Company paid down $6.2 million and $14.4 million on the
term A loan during the three and nine months ended September 30, 2004,
respectively. The $141.5 million outstanding at September 30, 2004 under the
term A loan is due in quarterly installments, in varying amounts, through 2007,
with approximately $24.6 million due within one year. There was $60.0 million
outstanding as of September 30, 2004 under the revolving credit commitment of
the Credit Facility.
The Company used a portion of the net proceeds from the common stock
offering and the net proceeds from the trust PIERS offering to redeem the entire
outstanding $345 million aggregate principal amount of the Company's 5%
convertible subordinated debentures ("5% Convertible Debentures"), with
remaining proceeds being used for general corporate purposes. A portion of the
5% Convertible Debentures (approximately $106.5 million) were redeemed in June
2003. In July 2003, the Company redeemed the remainder of the 5% Convertible
12
Debentures (approximately $238.5 million) completing its early redemption of the
entire $345 million aggregate principal amount of the outstanding 5% Convertible
Debentures. The total redemption price, including the call premium, was
approximately $353.9 million. The call premium, along with the write-off of
unamortized debt issuance costs associated with the 5% Convertible Debentures,
were recognized ratably in the quarter in which they were redeemed. Accordingly,
an $8.6 million pre-tax charge ($5.3 million aftertax, or $0.05 per diluted
share) was recognized in interest expense during the quarter ended September 30,
2003 for the call premium and the write-off of remaining unamortized debt
issuance costs associated with the redemption of the 5% Convertible Debentures.
A charge of $4.1 million pretax ($2.5 million aftertax, or $0.02 per diluted
share) was recorded in interest expense during the second quarter of 2003,
representing the proportionate share of the call premium and unamortized debt
issuance costs.
In connection with its offering of $250.0 million of 6.125% Senior Notes
due 2013, during the second quarter of 2003, the Company entered into an
interest rate swap agreement ("Swap Agreement") on all $250.0 million of its
aggregate principal amount of the 6.125% Senior Notes. Under the Swap Agreement,
which hedges against exposure to long-term U.S. dollar interest rates, the
Company will receive a fixed rate of 6.125% and pay a floating rate based on
LIBOR with a maturity of six months plus a spread of 2.27%. The floating rate is
determined semi-annually, in arrears, two London Banking Days prior to the first
of each December and June. The Company records interest expense on the 6.125%
Senior Notes at the floating rate. The estimated LIBOR-based floating rate was
4.47% at September 30, 2004. The Swap Agreement, which matches the terms of the
6.125% Senior Notes, is designated and accounted for as a fair value hedge. The
Company is accounting for the Swap Agreement in accordance with SFAS No. 133,
"Accounting for Derivative Instruments and Hedging Activities," as amended, so
changes in the fair value of the Swap Agreement are offset by changes in the
recorded carrying value of the related 6.125% Senior Notes. The fair value of
the Swap Agreement of approximately $16.5 million at September 30, 2004 is
recorded as a noncurrent liability and a reduction to the carrying value of
the related 6.125% Senior Notes.
In connection with the offering of the trust PIERS in the second quarter of
2003, the Company issued a corresponding amount of contingent convertible notes
due 2033 to the Trust. The Trust is a 100%-owned finance subsidiary of the
Company. The Company has fully and unconditionally guaranteed the securities of
the Trust. The trust PIERS offer fixed cash distributions at a rate of 4.0% per
annum payable quarterly, and a fixed conversion price of $40.82 under a
contingent conversion feature whereby the holders may convert their trust PIERS
if the closing sales price of Omnicare common stock for a predetermined period,
beginning with the quarter ending September 30, 2003, is more than 130% of the
then-applicable conversion price or, during a predetermined period, if the daily
average of the trading prices for the trust PIERS is less than 105% of the
average of the conversion values for the trust PIERS through 2028 (98% for any
period thereafter through maturity). The trust PIERS also will pay contingent
distributions, commencing with the quarterly distribution period beginning June
15, 2009, if the average trading prices of the trust PIERS for a predetermined
period equals 115% or more of the stated liquidation amount of the trust PIERS.
Embedded in the trust PIERS are two derivative instruments, specifically, a
contingent interest provision and a contingent conversion parity provision. The
embedded derivatives are periodically valued by a third-party advisor, and at
September 30, 2004, the values of both derivatives were not material. However,
the values are subject to change, based on market conditions, which could affect
the Company's future
13
financial position, cash flows and results of operations. Omnicare irrevocably
and unconditionally guarantees, on a subordinated basis, certain payments to be
made by the Trust in connection with the trust PIERS.
7. Employee Benefit Plans
The Company has various defined contribution savings plans under which
eligible employees can participate by contributing a portion of their salary for
investment, at the direction of each employee, in one or more investment funds.
Expense relating primarily to the Company's matching contributions for these
defined contribution plans was $1.2 million and $3.6 million for the three and
nine months ended September 30, 2004, respectively ($1.0 million and $3.0
million for the comparable prior year periods ended September 30, 2003,
respectively).
The Company also has an excess benefit plan which provides retirement
benefits to certain headquarters employees in amounts generally consistent with
what they would have received under the Company's non-contributory, defined
benefit pension plan (the "Qualified Plan"), frozen in 1993. The retirement
benefits provided by the excess benefit plan are generally comparable to those
that would have been earned in the Qualified Plan, if payments under the
Qualified Plan were not limited by the Internal Revenue Code. The Company has
established rabbi trusts, which are invested primarily in a mutual fund holding
U.S. Treasury obligations, to provide for retirement obligations under the
excess benefit plan. The Company's policy is to fund pension costs in accordance
with the funding provisions of the Employee Retirement Income Security Act
("ERISA").
The following table presents the components of pension cost for each of the
three and nine months ended September 30, 2004 and 2003 (in thousands):
Three months ended Nine months ended
September 30, September 30,
------------------ -----------------
2004 2003 2004 2003
------ ----- ------ ------
Service cost $ 382 $307 $1,131 $1,001
Interest cost 527 411 1,581 1,233
Amortization of deferred amounts
(primarily prior actuarial losses) 470 242 1,410 726
------ ---- ------ ------
Net periodic pension cost $1,379 $960 $4,122 $2,960
====== ==== ====== ======
During the third quarter of 2004, the Company made no payments related to
funding plan assets for the settlement of the Company's pension obligations.
In addition, the Company has supplemental pension plans ("SPPs") in which
certain of its officers participate. Retirement benefits under the SPPs are
calculated on the basis of a specified percentage of the officers' covered
compensation, years of credited service and a vesting schedule, as specified in
the plan documents. Expense relating to the SPPs was $0.2 million and $0.6
million for each of the three and nine month periods ended September 30, 2004
and 2003, respectively.
14
8. Earnings Per Share Data
Basic earnings per share are computed based on the weighted average number
of shares of common stock outstanding during the period. Diluted earnings per
share include the dilutive effect of stock options and warrants, as well as
convertible debentures.
The following is a reconciliation of the numerator and denominator of the
basic and diluted earnings per share ("EPS") computations (in thousands, except
per share data):
For the three months ended September 30, 2004
---------------------------------------------
Income Shares Per Share
(Numerator) (Denominator) Amounts
----------- ------------- ---------
Basic EPS
Net income $ 55,886 104,171 $0.54
=====
Effect of Dilutive Securities
Stock options and stock warrants -- 186
-------- -------
Diluted EPS
Net income plus assumed conversions $ 55,886 104,357 $0.54
======== ======= =====
For the three months ended September 30, 2003
---------------------------------------------
Income Shares Per Share
(Numerator) (Denominator) Amounts
----------- ------------- ---------
Basic EPS
Net income $ 48,830 101,965 $0.48
=====
Effect of Dilutive Securities
Stock options and stock warrants -- 979
-------- -------
Diluted EPS
Net income plus assumed conversions $ 48,830 102,944 $0.47
======== ======= =====
For the nine months ended September 30, 2004
---------------------------------------------
Income Shares Per Share
(Numerator) (Denominator) Amounts
----------- ------------- ---------
Basic EPS
Net income $179,831 103,876 $1.73
=====
Effect of Dilutive Securities
Stock options and stock warrants -- 847
-------- -------
Diluted EPS
Net income plus assumed conversions $179,831 104,723 $1.72
======== ======= =====
For the nine months ended September 30, 2003
---------------------------------------------
Income Shares Per Share
(Numerator) (Denominator) Amounts
----------- ------------- ---------
Basic EPS
Net income $132,754 97,490 $1.36
=====
Effect of Dilutive Securities
5% Convertible Debentures 4,870 4,840
Stock options and stock warrants -- 687
-------- -------
Diluted EPS
Net income plus assumed conversions $137,624 103,017 $1.34
======== ======= =====
15
During the three and nine month periods ended September 30, 2004 and 2003,
the anti-dilutive effect associated with certain options and warrants was
excluded from the computation of diluted EPS, since the exercise price of these
options and warrants was greater than the average market price of the Company's
common stock during these periods. The aggregate anti-dilutive stock options and
warrants excluded for the quarter ended September 30, 2004 and 2003 totaled 3.4
million and 2.7 million, respectively. Further, 2.7 million and 3.0 million
anti-dilutive options and warrants were excluded from the year-to-date September
30, 2004 and 2003 periods, respectively.
The $345.0 million of 4.0% convertible trust preferred securities due 2033,
which are convertible at a fixed conversion price of $40.82 (under a contingent
conversion feature described at the "Debt and Issuance of Common Stock"
footnote), were outstanding during the three and nine months ended September 30,
2004 and 2003, but were not included in the computation of diluted EPS because
the conversion trigger of $53.07 had not been met. See further discussion at
the "Recently Issued Accounting Standards" and "Debt and Issuance of Common
Stock" footnotes.
The nine month period ended September 30, 2003 includes the dilutive effect
of the $345.0 million of 5.0% Convertible Debentures, which assumes conversion
using the "if converted" method. Under that method, the 5.0% Convertible
Debentures are assumed to be converted to common shares (weighted for the number
of days assumed to be outstanding during the period) and interest expense, net
of taxes, related to the 5.0% Convertible Debentures is added back to net
income. On July 14, 2003, the Company completed the early redemption of the
entire $345.0 million aggregate principal amount of the outstanding 5%
Convertible Debentures.
9. Restructuring Program
In connection with the previously disclosed second phase of its
productivity and consolidation initiative (the "Phase II Program"), the Company
had liabilities of $4.1 million at December 31, 2003, of which $0.7 million was
utilized in the nine months ended September 30, 2004. The remaining liabilities
at September 30, 2004 of $3.4 million represent amounts not yet paid relating to
actions taken (consisting primarily of lease payments), and will be adjusted as
these matters are settled.
10. Commitments and Contingencies
Omnicare continuously evaluates contingencies based upon the best
available information. The Company believes that liabilities have been
provided to the extent necessary and that its assessment of contingencies
is reasonable. To the extent that resolution of contingencies results in
amounts that vary from management's estimates, future earnings will be
charged or credited accordingly.
As part of its ongoing operations, the Company is subject to various
inspections, audits, inquiries and similar actions by governmental/regulatory
authorities responsible for enforcing the laws and regulations to which the
Company is subject. The Company is also involved in various legal actions
arising in the normal course of business. Although occasional adverse outcomes
(or settlements) may occur and could possibly have an adverse effect on the
results of operations in
16
any one accounting period, the Company believes that the final disposition of
such matters will not have a material adverse effect on the Company's
consolidated financial position.
11. Segment Information
Based on the "management approach," as defined by SFAS No. 131,
"Disclosures about Segments of an Enterprise and Related Information," Omnicare
has two business segments. The Company's largest segment is Pharmacy Services.
Pharmacy Services primarily provides distribution of pharmaceuticals, related
pharmacy consulting and other ancillary services, data management services and
medical supplies to skilled nursing, assisted living and other providers of
healthcare services in 47 states in the United States of America ("USA") at
September 30, 2004. The Company's other reportable segment is CRO Services,
which provides comprehensive product development services to client companies in
pharmaceutical, biotechnology, medical devices and diagnostics industries in 30
countries around the world at September 30, 2004, including the USA.
The table below presents information about the reportable segments as of
and for the three and nine months ended September 30, 2004 and 2003 and should
be read in conjunction with the paragraph that follows (in thousands):
Three Months Ended September 30,
----------------------------------------------------
Corporate
Pharmacy CRO and Consolidated
2004: Services Services Consolidating Totals
- ------------------------------------------------------------------------------------
Net sales $1,020,972 $ 32,961 $ -- $1,053,933
Depreciation and amortization 13,160 336 656 14,152
Operating income (expense) 114,872 3,161 (11,712) 106,321
Total assets 3,330,861 95,928 289,753 3,716,542
Capital expenditures 3,119 181 449 3,749
2003:
- ------------------------------------------------------------------------------------
Net sales $ 865,923 $ 35,731 $ -- $ 901,654
Depreciation and amortization 11,832 468 580 12,880
Operating income (expense) 111,587 1,646 (9,570) 103,663
Total assets 2,941,061 115,232 274,101 3,330,394
Capital expenditures 3,861 91 134 4,086
Nine Months Ended September 30,
----------------------------------------------------
Corporate
Pharmacy CRO and Consolidated
2004: Services Services Consolidating Totals
- ------------------------------------------------------------------------------------
Net sales $2,946,253 $100,556 $ -- $3,046,809
Depreciation and amortization 38,902 1,037 1,883 41,822
Operating income (expense) 358,851 9,637 (33,868) 334,620
Total assets 3,330,861 95,928 289,753 3,716,542
Capital expenditures 11,324 541 1,721 13,586
2003:
- ------------------------------------------------------------------------------------
Net sales $2,431,905 $119,643 $ -- $2,551,548
Depreciation and amortization 35,206 1,369 1,754 38,329
Operating income (expense) 292,782 10,861 (28,060) 275,583
Total assets 2,941,061 115,232 274,101 3,330,394
Capital expenditures 9,946 796 499 11,241
17
In accordance with EITF Issue No. 01-14, "Income Statement Characterization
of Reimbursements Received for 'Out-of-Pocket' Expenses Incurred," the Company
included in its reported CRO segment net sales amount, reimbursable
out-of-pockets totaling $4.5 million and $13.6 million for the three and nine
months ended September 30, 2004, respectively ($5.6 million and $19.5 million
for the comparable prior year periods ended September 30, 2003, respectively).
12. Guarantor Subsidiaries
The Company's $375.0 million 8.125% senior subordinated notes due 2011 and
the 6.125% Senior Notes are fully and unconditionally guaranteed on an
unsecured, joint and several basis by certain wholly-owned subsidiaries of the
Company (the "Guarantor Subsidiaries"). The following condensed consolidating
financial data illustrates the composition of Omnicare, Inc. ("Parent"), the
Guarantor Subsidiaries and the Non-Guarantor Subsidiaries as of September 30,
2004 and December 31, 2003 for the balance sheets, the three and nine months
ended September 30, 2004 and 2003 for the statements of income, and the
statements of cash flows for the nine months ended September 30, 2004 and 2003.
Separate complete financial statements of the respective Guarantor Subsidiaries
would not provide additional information that would be useful in assessing the
financial condition of the Guarantor Subsidiaries and thus are not presented. No
eliminations column is presented for the condensed consolidating statements of
cash flows since there were no significant eliminating amounts during the
periods presented.
18
12. Guarantor Subsidiaries (Continued)
Summary Consolidating Statements of Income
(in thousands) Three Months Ended September 30,
-------------------------------------------------------------------------
Guarantor Non-Guarantor Omnicare, Inc.
2004 Parent Subsidiaries Subsidiaries Eliminations and Subsidiaries
- ------------------------------------------------------------------------------------------------------------------------
Total net sales $ -- $1,022,683 $31,250 $ -- $1,053,933
Total direct costs -- 770,278 25,085 -- 795,363
-------- ---------- ------- -------- ----------
Gross profit -- 252,405 6,165 -- 258,570
Selling, general and administrative expenses 1,503 145,982 4,764 -- 152,249
-------- ---------- ------- -------- ----------
Operating income (loss) (1,503) 106,423 1,401 -- 106,321
Investment income 123 568 -- -- 691
Interest expense (16,160) (1,314) (108) -- (17,582)
-------- ---------- ------- -------- ----------
Income (loss) before income taxes (17,540) 105,677 1,293 -- 89,430
Income tax (benefit) expense (6,578) 39,637 485 -- 33,544
Equity in net income of subsidiaries 66,848 -- -- (66,848) --
-------- ---------- ------- -------- ----------
Net income (loss) $ 55,886 $ 66,040 $ 808 $(66,848) $ 55,886
======== ========== ======= ======== ==========
2003
- ------------------------------------------------------------------------------------------------------------------------
Total net sales $ -- $ 871,419 $30,235 $ -- $ 901,654
Total direct costs -- 649,848 24,551 -- 674,399
-------- ---------- ------- -------- ----------
Gross profit -- 221,571 5,684 -- 227,255
Selling, general and administrative expenses 1,372 117,406 4,814 -- 123,592
-------- ---------- ------- -------- ----------
Operating income (loss) (1,372) 104,165 870 -- 103,663
Investment income 427 440 13 -- 880
Interest expense (26,047) (213) (56) -- (26,316)
-------- ---------- ------- -------- ----------
Income (loss) before income taxes (26,992) 104,392 827 -- 78,227
Income tax (benefit) expense (10,257) 39,340 314 -- 29,397
Equity in net income of subsidiaries 65,565 -- -- (65,565) --
-------- ---------- ------- -------- ----------
Net income (loss) $ 48,830 $ 65,052 $ 513 $(65,565) $ 48,830
======== ========== ======= ======== ==========
19
12. Guarantor Subsidiaries (Continued)
Summary Consolidating Statements of Income
(in thousands) Nine Months Ended September 30,
---------------------------------------------------------------------------
Guarantor Non-Guarantor Omnicare, Inc. and
2004 Parent Subsidiaries Subsidiaries Eliminations Subsidiaries
- -----------------------------------------------------------------------------------------------------------------
Total net sales $ -- $2,954,712 $92,097 $ -- $3,046,809
Total direct costs -- 2,205,048 72,903 -- 2,277,951
-------- ---------- ------- --------- ----------
Gross profit -- 749,664 19,194 -- 768,858
Selling, general and administrative
expenses 4,210 414,960 15,068 -- 434,238
-------- ---------- ------- --------- ----------
Operating income (loss) (4,210) 334,704 4,126 -- 334,620
Investment income 472 1,745 13 -- 2,230
Interest expense (47,367) (3,743) (427) -- (51,537)
-------- ---------- ------- --------- ----------
Income (loss) before income taxes (51,105) 332,706 3,712 -- 285,313
Income tax (benefit) expense (18,915) 123,021 1,376 -- 105,482
Equity in net income of
subsidiaries 212,021 -- -- (212,021) --
-------- ---------- ------- --------- ----------
Net income (loss) $179,831 $ 209,685 $ 2,336 $(212,021) $ 179,831
======== ========== ======= ========= ==========
2003
- -----------------------------------------------------------------------------------------------------------------
Total net sales $ -- $2,455,620 $95,928 $ -- $2,551,548
Total direct costs -- 1,817,631 77,724 -- 1,895,355
-------- ---------- ------- --------- ----------
Gross profit -- 637,989 18,204 -- 656,193
Selling, general and administrative
expenses 4,740 358,397 17,473 -- 380,610
-------- ---------- ------- --------- ----------
Operating income (loss) (4,740) 279,592 731 -- 275,583
Investment income 1,773 796 65 -- 2,634
Interest expense (63,039) (1,393) (215) -- (64,647)
-------- ---------- ------- --------- ----------
Income (loss) before income taxes (66,006) 278,995 581 -- 213,570
Income tax (benefit) expense (25,082) 105,677 221 -- 80,816
Equity in net income of
subsidiaries 173,678 -- -- (173,678) --
-------- ---------- ------- --------- ----------
Net income (loss) $132,754 $ 173,318 $ 360 $(173,678) $ 132,754
======== ========== ======= ========= ==========
20
12. Guarantor Subsidiaries (Continued)
Condensed Consolidating Balance Sheets
(in thousands)
Guarantor Non-Guarantor Omnicare, Inc. and
As of September 30, 2004: Parent Subsidiaries Subsidiaries Eliminations Subsidiaries
- -------------------------------------------------------------------------------------------------------------------------------
ASSETS
Cash and cash equivalents $ 56,735 $ 40,166 $ 6,221 $ -- $ 103,122
Restricted cash -- 5,777 -- -- 5,777
Deposit with drug wholesaler -- 44,000 -- -- 44,000
Accounts receivable, net (including
intercompany) -- 785,241 15,416 (1,657) 799,000
Inventories -- 312,930 5,487 -- 318,417
Deferred income tax benefits
(liabilities), net-current (851) 89,815 548 -- 89,512
Other current assets 139 151,631 1,370 -- 153,140
---------- ---------- -------- ----------- ----------
Total current assets 56,023 1,429,560 29,042 (1,657) 1,512,968
---------- ---------- -------- ----------- ----------
Properties and equipment, net -- 133,544 8,292 -- 141,836
Goodwill -- 1,814,504 53,590 -- 1,868,094
Other noncurrent assets 31,735 161,597 312 -- 193,644
Investment in subsidiaries 2,975,959 -- -- (2,975,959) --
---------- ---------- -------- ----------- ----------
Total assets $3,063,717 $3,539,205 $ 91,236 $(2,977,616) $3,716,542
========== ========== ======== =========== ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities (including intercompany) $ 42,489 $ 409,100 $ 7,598 $ (1,657) $ 457,530
Long-term debt 176,923 758 -- -- 177,681
8.125% senior subordinated notes, due 2011 375,000 -- -- -- 375,000
6.125% senior subordinated notes, net, due 2013 233,459 -- -- -- 233,459
4.0% contingent convertible notes, due 2033 345,000 -- -- -- 345,000
Deferred income tax liabilities, net-noncurrent 1,693 129,243 7,737 -- 138,673
Other noncurrent liabilities 16,541 97,667 2,379 -- 116,587
Stockholders' equity 1,872,612 2,902,437 73,522 (2,975,959) 1,872,612
---------- ---------- -------- ----------- ----------
Total liabilities and stockholders' equity $3,063,717 $3,539,205 $ 91,236 $(2,977,616) $3,716,542
========== ========== ======== =========== ==========
As of December 31, 2003:
- -------------------------------------------------------------------------------------------------------------------------------
ASSETS
Cash and cash equivalents $ 134,513 $ 48,940 $ 3,960 $ -- $ 187,413
Restricted cash -- 714 -- -- 714
Accounts receivable, net (including
intercompany) -- 672,315 13,708 (7,768) 678,255
Inventories -- 321,465 5,085 -- 326,550
Other current assets 954 187,363 1,839 -- 190,156
---------- ---------- -------- ----------- ----------
Total current assets 135,467 1,230,797 24,592 (7,768) 1,383,088
---------- ---------- -------- ----------- ----------
Properties and equipment, net -- 139,108 9,199 -- 148,307
Goodwill -- 1,621,645 68,913 -- 1,690,558
Other noncurrent assets 33,390 128,147 11,531 -- 173,068
Investment in subsidiaries 2,627,756 -- -- (2,627,756) --
---------- ---------- -------- ----------- ----------
Total assets $2,796,613 $3,119,697 $114,235 $(2,635,524) $3,395,021
========== ========== ======== =========== ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities (including intercompany) $ 15,205 $ 445,744 $ 9,579 $ (7,768) $ 462,760
Long-term debt 135,384 471 -- -- 135,855
8.125% senior subordinated notes, due 2011 375,000 -- -- -- 375,000
6.125% senior subordinated notes, net, due 2013 226,822 -- -- -- 226,822
4.0% contingent convertible notes, due 2033 345,000 -- -- -- 345,000
Other noncurrent liabilities 23,178 150,068 314 -- 173,560
Stockholders' equity 1,676,024 2,523,414 104,342 (2,627,756) 1,676,024
---------- ---------- -------- ----------- ----------
Total liabilities and stockholders' equity $2,796,613 $3,119,697 $114,235 $(2,635,524) $3,395,021
========== ========== ======== =========== ==========
21
12. Guarantor Subsidiaries (Continued)
Condensed Consolidating Statements of Cash Flows
(in thousands) Nine Months Ended September 30,
-----------------------------------------------------------
Guarantor Non-Guarantor Omnicare, Inc.
2004: Parent Subsidiaries Subsidiaries and Subsidiaries
--------- ------------ ------------- ----------------
Cash flows from operating activities:
Provision for doubtful accounts $ -- $ 32,701 $ 723 $ 33,424
Other (28,551) 120,171 5,158 96,778
--------- --------- ------- ---------
Net cash flows from operating activities (28,551) 152,872 5,881 130,202
--------- --------- ------- ---------
Cash flows from investing activities:
Acquisition of businesses -- (238,710) (1,230) (239,940)
Capital expenditures -- (13,244) (342) (13,586)
Transfer of cash to trusts for employee health and
severance costs, net of payments out of the trust -- (5,063) -- (5,063)
Other -- 41 -- 41
--------- --------- ------- ---------
Net cash flows from investing activities -- (256,976) (1,572) (258,548)
--------- --------- ------- ---------
Cash flows from financing activities:
Borrowings on line of credit facility 407,000 -- -- 407,000
Payments on line of credit facility and term A loan (361,360) -- -- (361,360)
Payments on long-term borrowings and obligations (378) -- -- (378)
Proceeds from stock awards and exercise of stock options
and warrants, net of stock tendered in payment 7,871 -- -- 7,871
Dividends paid (7,030) -- -- (7,030)
Other (95,330) 95,330 -- --
--------- --------- ------- ---------
Net cash flows from financing activities (49,227) 95,330 -- 46,103
--------- --------- ------- ---------
Effect of exchange rate changes on cash -- -- (2,048) (2,048)
--------- --------- ------- ---------
Net (decrease) increase in cash and cash equivalents (77,778) (8,774) 2,261 (84,291)
Cash and cash equivalents at beginning of period -
unrestricted 134,513 48,940 3,960 187,413
--------- --------- ------- ---------
Cash and cash equivalents at end of period - unrestricted $ 56,735 $ 40,166 $ 6,221 $ 103,122
========= ========= ======= =========
22
12. Guarantor Subsidiaries (Continued)
Condensed Consolidating Statements of Cash Flows - Continued
(in thousands) Nine Months Ended September 30,
-----------------------------------------------------------
Guarantor Non-Guarantor Omnicare, Inc.
2003: Parent Subsidiaries Subsidiaries and Subsidiaries
--------- ------------ ------------- ----------------
Cash flows from operating activities:
Provision for doubtful accounts $ -- $ 33,977 $ 699 $ 34,676
Other (24,731) 170,086 2,332 147,687
--------- --------- ------- ---------
Net cash flows from operating activities (24,731) 204,063 3,031 182,363
--------- --------- ------- ---------
Cash flows from investing activities:
Acquisition of businesses, net of cash received -- (594,113) (5,576) (599,689)
Capital expenditures -- (11,134) (107) (11,241)
Transfer of cash to trusts for employee health and severance
costs, net of payments out of the trust -- (2,672) -- (2,672)
Other -- 43 15 58
--------- --------- ------- ---------
Net cash flows from investing activities -- (607,876) (5,668) (613,544)
--------- --------- ------- ---------
Cash flows from financing activities:
Borrowings on line of credit facilities and term A loan 749,000 -- -- 749,000
Payments on line of credit facilities and term A loan (589,000) -- -- (589,000)
Proceeds from long-term borrowings 595,000 -- -- 595,000
Payments on long-term borrowings and obligations (354,242) -- -- (354,242)
Fees paid for financing arrangements (19,511) -- -- (19,511)
Proceeds from stock offering, net of issuance costs 178,774 -- -- 178,774
Other (398,483) 397,818 62 (603)
--------- --------- ------- ---------
Net cash flows from financing activities 161,538 397,818 62 559,418
--------- --------- ------- ---------
Effect of exchange rate changes on cash -- -- 2,077 2,077
--------- --------- ------- ---------
Net increase (decrease) in cash and cash equivalents 136,807 (5,995) (498) 130,314
Cash and cash equivalents at beginning of period -
unrestricted 95,693 36,191 6,052 137,936
--------- --------- ------- ---------
Cash and cash equivalents at end of period - unrestricted $ 232,500 $ 30,196 $ 5,554 $ 268,250
========= ========= ======= =========
23
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following discussion should be read in conjunction with the
consolidated financial statements, related notes and other financial information
appearing elsewhere in this report. In addition, see "Safe Harbor Statement
under the Private Securities Litigation Reform Act of 1995 Regarding
Forward-Looking Information."
Three and Nine Months Ended September 30, 2004 Overview
Omnicare, Inc. ("Omnicare" or the "Company") is a leading provider of
pharmaceutical care for the elderly. Omnicare primarily serves residents in
long-term care facilities comprising approximately 1,071,000 beds in 47 states,
making it the nation's largest provider of professional pharmacy, related
pharmacy consulting and other ancillary services, data management services and
medical supplies to skilled nursing, assisted living and other providers of
healthcare services. Omnicare also provides clinical research services for the
pharmaceutical and biotechnology industries in 30 countries worldwide.
A summary of the key operating results for the three and nine month periods
ended September 30, 2004 and 2003 follows (in thousands, except per share
amounts):
Three Months Ended Nine Months Ended
September 30, September 30,
--------------------- -----------------------
2004 2003 2004 2003
---------- -------- ---------- ----------
Consolidated:
Total net sales $1,053,933 $901,654 $3,046,809 $2,551,548
========== ======== ========== ==========
Net income $ 55,886 $ 48,830 $ 179,831 $ 132,754
========== ======== ========== ==========
Diluted earnings per share ("EPS") $ 0.54 $ 0.47 $ 1.72 $ 1.34
========== ======== ========== ==========
EBITDA(a) $ 120,473 $116,543 $ 376,442 $ 313,912
========== ======== ========== ==========
Sales and profitability results are discussed at the "Pharmacy Services Segment"
and "CRO Services Segment" captions below.
(a) "EBITDA" represents earnings before interest (net of investment income),
income taxes, depreciation and amortization. The Company believes that certain
investors find EBITDA to be a useful tool for measuring a company's ability to
service its debt, which is also the primary purpose for which management uses
this financial measure. However, EBITDA does not represent net cash flows from
operating activities, as defined by United States Generally Accepted Accounting
Principles ("U.S. GAAP"), and should not be considered as a substitute for
operating cash flows as a measure of liquidity. The Company's calculation of
EBITDA may differ from the calculation of EBITDA by others. See "Results of
Operations" for a reconciliation of EBITDA to net cash flows from operating
activities.
24
Three Months Ended Nine Months Ended
September 30, September 30,
--------------------- -----------------------
2004 2003 2004 2003
---------- -------- ---------- ----------
Pharmacy Services Segment:
Sales $1,020,972 $865,923 $2,946,253 $2,431,905
========== ======== ========== ==========
Operating income $ 114,872 $111,587 $ 358,851 $ 292,782
========== ======== ========== ==========
Contributing in large measure to the increase in sales in the three and
nine months ended September 30, 2004 was a number of smaller acquisitions,
particularly in the first nine months of 2004. Additionally, sales increased in
the three and nine month period ended September 30, 2004, as compared to the
prior year periods, due to the acquisition of SunScript in July 2003.
Further, Pharmacy Services sales increased due to the continued implementation
and expansion of the Company's clinical and other service programs, drug price
inflation and the further market penetration of newer branded drugs targeted
at the diseases of the elderly, which often carry higher prices but are
significantly more effective in reducing overall healthcare costs than those
they replace. The increased operating income was primarily the result of
increased sales, ongoing benefits of the Company's acquisition integration
efforts and productivity initiatives throughout the Pharmacy Services segment.
These factors, favorably affecting sales and operating income, were partially
offset by intensified price competition, Medicaid reimbursement pressures, a
special charge of $5.2 million (lowering gross profit by approximately $2.7
million and increasing operating expenses by $2.5 million), and a continued
shift in the Company's payor mix toward lower-margin Medicaid business during
the third quarter of 2004. Operating income was also affected by the initial
impact of the lower-margin acquisitions recently completed, which impact is
expected to diminish as the Company achieves drug purchasing improvements,
consolidation of redundant pharmacies and other economies of scale.
Three Months Ended Nine Months Ended
September 30, September 30,
------------------ -------------------
2004 2003 2004 2003
------- ------- -------- --------
CRO Services Segment:
Revenues $32,961 $35,731 $100,556 $119,643
======= ======= ======== ========
Operating income $ 3,161 $ 1,646 $ 9,637 $ 10,861
======= ======= ======== ========
Revenues in the CRO Services segment were lower in the three and nine
months ended September 30, 2004 than in the same periods of 2003 due primarily
to client-driven cancellations or delays in the commencement or continuation of
certain projects. Operating income in the nine months ended September 30, 2004
was lower than the same prior year period due primarily to the lower revenues.
Productivity improvements and cost reduction efforts led to improved
profitability during the third quarter of 2004 as compared with the same prior
year period.
Financial Condition, Liquidity and Capital Resources
Net cash flows from operating activities for the nine months ended
September 30, 2004 was $130.2 million compared with $182.4 million for the same
period of 2003. Operating cash
25
flows during the nine months ended September 30, 2004 were unfavorably impacted
by a one-time deposit of $44.0 million made during the first quarter of 2004,
owing to a change in payment terms under the Company's new contract with its
drug wholesaler. Also unfavorably impacting operating cash flows was a statewide
administrative backup in the transfer of Medi-Cal provider numbers affecting
California-based pharmacies acquired in the SunScript and other acquisitions,
creating a temporary delay in cash receipts of approximately $37 million through
September 30, 2004. In addition, in the third quarter of 2004, another
broad-based slowdown in Medicaid reimbursement occurred in Illinois, unfavorably
impacting cash flow by approximately $18 million. Operating cash flows, as well
as borrowings on the line of credit facilities, were used primarily for
acquisition-related payments, debt repayment, capital expenditures and
dividends. During the nine months ended September 30, 2004, the Company's
investing activities included the completion of several acquisitions in its
institutional pharmacy business, which individually were not significant. Net
borrowings on the Company's credit facility totaled $60.0 million in the nine
months ended September 30, 2004 and were primarily used for payments relating to
the acquisition of businesses. The Company also paid $14.4 million on the term A
loan in the first nine months of 2004. At September 30, 2004, outstanding
revolving credit borrowings were $60.0 million and the balance on the term A
loan was $141.5 million.
NeighborCare Transaction
On June 4, 2004, Omnicare commenced a tender offer for all of the
outstanding shares of the common stock of NeighborCare, Inc. ("NeighborCare")
for $30.00 per share in cash. The transaction has a total value of approximately
$1.5 billion, which includes the assumption of NeighborCare's net debt and any
related refinancing thereof, as further described at the "NeighborCare
Transaction" caption below.
Results of Operations
The following table presents the consolidated net sales and results of
operations of Omnicare for each of the three and nine months ended September 30,
2004 and 2003 (in thousands, except per share amounts).
Three Months Ended Nine Months Ended
September 30, September 30,
--------------------- -----------------------
2004 2003 2004 2003
---------- -------- ---------- ----------
Total net sales $1,053,933 $901,654 $3,046,809 $2,551,548
========== ======== ========== ==========
Net income $ 55,886 $ 48,830 $ 179,831 $ 132,754
========== ======== ========== ==========
Earnings per share:
Basic $ 0.54 $ 0.48 $ 1.73 $ 1.36
========== ======== ========== ==========
Diluted $ 0.54 $ 0.47 $ 1.72 $ 1.34
========== ======== ========== ==========
26
The Company believes that certain investors find EBITDA to be a useful tool
for measuring a company's ability to service its debt, which is also the primary
purpose for which management uses this financial measure. However, EBITDA does
not represent net cash flows from operating activities, as defined by U.S. GAAP,
and should not be considered as a substitute for operating cash flows as a
measure of liquidity. The Company's calculation of EBITDA may differ from the
calculation of EBITDA by others.
Three Months Ended Nine Months Ended
September 30, September 30,
------------------- --------------------
(in thousands) 2004 2003 2004 2003
-------- -------- --------- --------
EBITDA reconciliation to net cash flows
from operating activities:
EBITDA $120,473 $116,543 $ 376,442 $313,912
(Subtract)/Add:
Interest expense, net of investment income (16,891) (25,436) (49,307) (62,013)
Income taxes (33,544) (29,397) (105,482) (80,816)
Changes in assets and liabilities, net of effects
from acquisition of businesses (70,547) (16,481) (179,348) (48,907)
Provision for doubtful accounts 11,534 11,496 33,424 34,676
Deferred tax provision 29,386 3,017 54,473 21,756
Write-off of debt issuance costs
-- 2,591 -- 3,755
-------- -------- --------- --------
Net cash flows from operating activities $ 40,411 $ 62,333 $ 130,202 $182,363
======== ======== ========= ========
Three Months Ended September 30, 2004 vs. 2003
Consolidated
Total net sales for the three months ended September 30, 2004 rose to
$1,053.9 million from $901.7 million in the comparable prior year period.
Diluted earnings per share for the three months ended September 30, 2004 were
$0.54 versus $0.47 in the same prior year period. Net income for the three
months ended September 30, 2004 was $55.9 million versus $48.8 million earned in
the comparable 2003 period. EBITDA totaled $120.5 million for the three months
ended September 30, 2004 as compared with $116.5 million for the same period of
2003.
The three months ended September 30, 2004 included a special charge
totaling $5.2 million pretax ($3.2 million aftertax or $0.03 per diluted share)
in connection with certain state Medicaid audits related to prior periods,
lowering gross profit by approximately $2.7 million and increasing operating
expenses by approximately $2.5 million.
Included in interest expense during the three months ended September 30,
2003 was a charge of $8.6 million pretax ($5.3 million aftertax, or $0.05 per
diluted share), relating to the call premium and write-off of unamortized debt
issuance costs associated with the Company's
27
early redemption of its 5%, $345.0 million convertible subordinated debentures,
as further described at the "Financial Condition, Liquidity and Capital
Resources" caption below.
Pharmacy Services Segment
Omnicare's Pharmacy Services segment recorded sales of $1,021.0 million for
the three months ended September 30, 2004, exceeding the 2003 amount of $865.9
million by $155.1 million, or 17.9%. At September 30, 2004, Omnicare served
long-term care facilities comprising approximately 1,071,000 beds as compared
with approximately 994,000 beds served at September 30, 2003. Contributing in
large measure to the increase in sales and in beds served was the completion of
several acquisitions, which individually were not significant, particularly in
the first nine months of 2004. Additionally, Pharmacy Services sales increased
due to the continued implementation and expansion of the Company's clinical and
other service programs, drug price inflation and the further market penetration
of newer branded drugs targeted at the diseases of the elderly, which often
carry higher prices but are significantly more effective in reducing overall
healthcare costs than those they replace. These factors were partially offset by
the increased use of generic drugs and a special charge during the third quarter
of 2004 in connection with certain state Medicaid audits related to prior
periods, which lowered sales by approximately $2.7 million. Third quarter
results were also impacted by continued intensified competitive pricing
pressures, Medicaid reimbursement reductions, including overall reimbursement
formula changes in certain states, as well as drug-specific pricing reductions
or limitations on certain generic drugs, and a continued shift in its payor mix
toward lower-margin Medicaid business. While the Company is focused on reducing
the impact of these factors, there can be no assurance that these or other
pricing and governmental reimbursement pressures will not continue to impact the
Pharmacy Services segment.
Operating income of the Pharmacy Services segment was $114.9 million in the
third quarter of 2004, a $3.3 million improvement as compared with the $111.6
million earned in the comparable period of 2003. The increased operating income
was primarily the result of increased sales and the overall synergies from the
integration of the SunScript acquisition, as well as productivity initiatives
throughout the Pharmacy Services segment. Although operating margins were
initially unfavorably impacted by the addition of this lower-margin business,
the integration efforts resulted in drug purchasing improvements, consolidation
of redundant pharmacy locations and other economies of scale, which serve to
leverage the Company's operating cost structure. Partially offsetting the
improved operating income and margins in the three months ended September 30,
2004 were the previously mentioned intensified pricing and Medicaid
reimbursement pressures, the previously discussed special charge of $5.2
million, a continued shift in payor mix toward lower-margin Medicaid business
and the initial impact of recently completed acquisitions on margins, which
impact is expected to diminish as the Company achieves drug purchasing
improvements, consolidation of redundant pharmacies and other economies of
scale.
On July 15, 2003, Omnicare acquired the SunScript pharmacy services
business from Sun Healthcare Group, Inc. The acquisition, accounted for as a
purchase business combination, included cash consideration and transaction costs
of approximately $83 million. Up to an additional $15.0 million may become
payable post-closing, subject to adjustment.
28
At the time of the acquisition, SunScript provided pharmaceutical products
and related consulting services to skilled nursing and assisted living
facilities comprised of approximately 43,000 beds located in 19 states
(excluding beds in Sun Healthcare facilities that Sun Healthcare intended to
divest in unrelated transactions). SunScript served these facilities through
its network of 31 long-term care pharmacies. The net assets and operating
results of SunScript have been included from the date of acquisition in the
Company's financial statements.
On January 15, 2003, Omnicare completed its acquisition of NCS Health Care,
Inc. ("NCS"). The acquisition of NCS, accounted for as a purchase business
combination, included cash consideration and transaction costs of approximately
$500 million. The cash consideration included the payoff of certain NCS debt
totaling approximately $325.5 million, which was retired by Omnicare immediately
following the acquisition.
At the time of the acquisition, NCS provided professional pharmacy and
related services to long-term care facilities, including skilled nursing and
assisted living facilities in 33 states, and managed hospital pharmacies in 10
states. NCS added approximately 182,000 beds served in the first quarter of
2003. The net assets and operating results of NCS have been included from the
date of acquisition in the Company's financial statements.
As part of ongoing operations, the Company and its customers are subject to
regulatory changes in the level of reimbursement received from the Medicare and
Medicaid programs. On July 30, 2004, the Centers for Medicare & Medicaid
Services ("CMS") issued a notice announcing a 2.8% payment increase to Medicare
skilled nursing facilities, effective October 1, 2004. CMS also stated that it
is still working on refinements to the case-mix classification system, and
therefore the temporary add-ons to the payment rates currently in effect will
continue through fiscal year 2005. In addition, healthcare funding issues,
including pressures on federal and state Medicaid budgets due to the economy,
coupled with growth in enrollees, the escalation in drug costs owing to higher
drug utilization as the population ages and the introduction of new, more
effacious, albeit more expensive medications, have led to decreasing
reimbursement rates and other cost control measures in certain states. On May
28, 2003, President Bush signed into law the "Jobs and Growth Reconciliation Tax
Act," which included $20 billion in temporary aid to the states, $10 billion of
which was earmarked for state Medicaid programs. This additional funding expired
on June 30, 2004. Legislation has been introduced in Congress to extend the
supplemental funding, but there is no assurance that such legislation will be
adopted, or if adopted, the effective date of such additional funding. Economic
conditions have improved in many areas; however, some states continue to
experience budget shortfalls or other funding pressures, and they may consider
implementing further reductions in Medicaid reimbursement and other cost control
measures. Such pricing pressures are likely to continue or escalate if economic
recovery does not fully emerge, and there can be no assurance that such
occurrence will not continue to have an adverse impact on the Company's
business.
In December 2003, Congress enacted the Medicare Prescription Drug,
Improvement, and Modernization Act of 2003 ("MMA"), which includes a major
expansion of the Medicare prescription drug benefit under a new Medicare Part D.
Under the MMA, Medicare beneficiaries may enroll in prescription drug plans
offered by private entities, which will provide coverage of
29
outpatient prescription drugs. Beginning in 2006, Medicare beneficiaries who are
also entitled to benefits under a state Medicaid program (so-called "dual
eligibles") will have their prescription drug costs covered by the new Medicare
drug benefit, including nursing home residents served by the Company whose drug
costs are currently covered by state Medicaid programs. Implementation of the
new Medicare drug benefit requires regulations. On August 3, 2004, CMS issued a
proposed rule to implement the new Part D drug benefit. The proposed rule would
permit long-term care pharmacies to provide covered Part D drugs to enrollees of
the new Part D plans. Under the proposed rule, long-term care pharmacies could
participate on an in-network basis by contracting directly with the plan
sponsor, or on an out-of-network basis. CMS requested comments on many
provisions of its proposed rule, including those relating to long-term care
pharmacies; such comments were due October 4, 2004. CMS is in the process of
reviewing all comments received for consideration and application in the final
regulation and expects to issue a final rule in early 2005. Given the potential
for significant revisions based on comments received, until such final
regulations are promulgated, the Company cannot determine the impact of the
proposed rule, nor the final rule, on the Company's business. In addition, the
Secretary of the Department of Health and Human Services is required to conduct
a study of current standards of practice for pharmacy services provided to
patients in long-term care settings, and, among other things, make
recommendations regarding necessary actions and appropriate reimbursement to
ensure the provision of prescription drugs to Medicare beneficiaries in nursing
facilities consistent with existing patient safety and quality of care
standards. Until the Part D benefit goes into effect on January 1, 2006,
Medicare beneficiaries can receive assistance with their outpatient prescription
drug costs beginning in June 2004 through a new prescription drug discount card
program, which gives enrollees access to negotiated discounted prices for
prescription drugs. PBM Plus Inc., an Omnicare subsidiary, has been selected by
CMS as an endorsed sponsor to offer a Medicare prescription drug discount card.
PBM Plus also received a special endorsement for long-term care to administer a
transitional assistance benefit of $600 per year to certain qualified low-income
seniors not currently receiving drug benefits from the Medicare and Medicaid
programs. In addition, the Long Term Care Pharmacy Alliance, LLC ("LTCPA") (of
which Omnicare is a member, together with several other national institutional
pharmacies) has also received the special long-term care endorsement from CMS to
administer the transitional assistance benefit. The MMA also reforms the
Medicare Part B prescription drug payment methodology. The Company's sales for
drugs dispensed under Medicare Part B are not significant in comparison to total
sales. The MMA also includes provisions that will institute administrative
reforms designed to improve Medicare program operations. It is uncertain at this
time the impact that the MMA's legislative reforms ultimately will have on the
Company.
CRO Services Segment
Omnicare's CRO Services segment recorded revenues of $33.0 million for the
three months ended September 30, 2004, which were $2.7 million, or 7.6%, lower
than the $35.7 million recorded in the same prior year period. In accordance
with Emerging Issues Task Force ("EITF") Issue No. 01-14, "Income Statement
Characterization of Reimbursements Received for 'Out-of-Pocket' Expenses
Incurred" ("EITF No. 01-14"), the Company included $4.5 million and $5.6 million
of reimbursable out-of-pockets in its CRO Services segment reported revenue and
direct cost amounts for the quarters ended September 30, 2004 and 2003,
respectively.
30
Revenues for the three months ended September 30, 2004 were lower
than in the same prior year period largely due to the impact of client-driven
cancellations or delays in the commencement or continuation of certain projects,
and a reduction in reimbursable out-of-pockets of $1.1 million under EITF No.
01-14.
Operating income in the CRO Services segment was $3.2 million in the third
quarter of 2004 compared with $1.6 million in the same 2003 period. Although the
CRO Services segment experienced a slight year-over-year decline in revenues,
productivity improvements and cost reduction efforts led to improved
profitability from the comparable prior-year period. Backlog at September 30,
2004 was $182.2 million, representing a decrease of $25.7 million from the
September 30, 2003 backlog of $207.9 million, and a $0.6 million decline from
the December 31, 2003 backlog of $182.8 million due to the client-driven
cancellation of certain projects.
Consolidated
The Company's consolidated gross profit of $258.6 million increased $31.3
million during the third quarter of 2004 from the same prior-year period amount
of $227.3 million. Gross profit as a percentage of total net sales of 24.5% in
the three months ended September 30, 2004, was lower than the 25.2% experienced
during the same period of 2003, and the 25.6% experienced during the six months
ended June 30, 2004. Positively impacting overall gross profit margin were the
Company's purchasing leverage associated with the procurement of pharmaceuticals
due, in part, to the completion of the integration of the SunScript business
(net of the initial impact of adding this lower-margin business) and benefits
realized from the Company's formulary compliance program, as well as the
increased use of generic drugs. These favorable factors were offset by the
previously mentioned intensified pricing and Medicaid reimbursement pressures,
the previously discussed special charge during the third quarter of 2004, which
lowered gross profit by approximately $2.7 million, the initial impact of the
lower-margin acquisitions recently completed, which impact is expected to
diminish as the Company achieves drug purchasing improvements, consolidation of
redundant pharmacies and other economies of scale, and a continued shift in the
Company's payor mix toward Medicaid during the quarter. Also unfavorably
impacting gross profit as a percentage of total net sales was the further market
penetration of newer branded drugs targeted at the diseases of the elderly that
typically produce higher gross profit but lower gross profit margins.
Omnicare's selling, general and administrative ("operating") expenses for
the quarter ended September 30, 2004 of $152.2 million were higher than the
comparable year amount of $123.6 million by $28.6 million, due primarily to the
overall growth of the business, including the completion of several
acquisitions, which individually were not significant. Operating expenses as a
percentage of total net sales totaled 14.4% in the third quarter 2004,
representing an increase from the 13.7% experienced in the comparable prior-year
period. This increase is primarily due to the previously discussed special
charge in the third quarter of 2004 (which increased operating expenses by
approximately $2.5 million), as well as $1.5 million of expenses relating to the
implementation of Section 404 of the Sarbanes-Oxley Act of 2002, and increased
amortization expense of $2.1 million. Partially offsetting these third quarter
of 2004 increased operating expenses was the favorable impact of the realization
of synergies from the SunScript acquisition, and the
31
leveraging of fixed and variable overhead costs over a larger sales base in
2004 than that which existed in 2003.
Investment income for the three months ended September 30, 2004 of $0.7
million was marginally lower than the $0.9 million earned in the comparable
prior year quarter.
Interest expense for the three months ended September 30, 2004 of $17.6
million was lower than the $26.3 million in the comparable prior-year period
primarily relating to the inclusion of a call premium and the write-off of
unamortized debt issuance costs aggregating $8.6 million before taxes ($5.3
million aftertax, or $0.05 per diluted share) in the three months ended
September 30, 2003. The call premium and the write-off of the unamortized debt
issuance costs related to the completion of the Company's early redemption and
retirement of its $345.0 million aggregate principal amount of 5%, convertible
subordinated debentures in the third quarter of 2003, in connection with its
refinancing transactions, as further described at the "Financial Condition,
Liquidity and Capital Resources" caption below.
The effective income tax rate was 37.5% in the third quarter of 2004,
slightly lower than the comparable prior year period rate of 37.6%. The
effective tax rates in 2004 and 2003 are higher than the federal statutory rate
largely as a result of the combined impact of state and local income taxes and
various nondeductible expenses.
Nine Months Ended September 30, 2004 vs. 2003
Consolidated
Total net sales for the nine months ended September 30, 2004 rose to
$3,046.8 million from $2,551.5 million in the comparable prior year period.
Diluted earnings per share for the nine months ended September 30, 2004 were
$1.72 versus $1.34 in the same prior year period. Net income for the nine months
ended September 30, 2004 was $179.8 million versus $132.8 million earned in the
comparable 2003 period. EBITDA totaled $376.4 million for the nine months ended
September 30, 2004 as compared with $313.9 million for the same period of 2003.
The nine months ended September 30, 2004 included a special charge totaling
$5.2 million pretax ($3.2 million aftertax or $0.03 per diluted share) in
connection with certain state Medicaid audits related to prior periods, lowering
gross profit by approximately $2.7 million and increasing operating expenses by
approximately $2.5 million.
Included in interest expense during the year-to-date September 30, 2003
period was a charge of $12.7 million pretax ($7.9 million aftertax, or $0.08 per
diluted share), relating to the call premium and write-off of unamortized debt
issuance costs associated with the Company's early redemption of its 5%, $345.0
million convertible subordinated debentures, as further described at the
"Financial Condition, Liquidity and Capital Resources" caption below.
32
Pharmacy Services Segment
Omnicare's Pharmacy Services segment recorded sales of $2,946.3 million for
the nine months ended September 30, 2004, exceeding the same prior year period
amount of $2,431.9 million by $514.4 million. Contributing in large measure to
the increase in sales was the acquisition of SunScript in July 2003, as well as
other smaller acquisitions, particularly in the first nine months of 2004.
Additionally, Pharmacy Services sales increased due to the continued
implementation and expansion of the Company's clinical and other service
programs, drug price inflation and the further market penetration of newer
branded drugs targeted at the diseases of the elderly, which often carry higher
prices but are significantly more effective in reducing overall healthcare costs
than those they replace. These factors were partially offset by intensified
pricing and Medicaid reimbursement pressures, and a continued shift in the
Company's payor mix toward Medicaid during the second and third quarters of
2004, coupled with the increasing number and usage of generic drugs.
Additionally, sales were impacted by the previously discussed special charge
during the third quarter of 2004, which lowered sales by approximately $2.7
million.
Operating income of the Pharmacy Services segment was $358.9 million for
the nine months ended September 30, 2004, a $66.1 million improvement from the
$292.8 million earned in the comparable period of 2003. The increased operating
income was primarily the result of increased sales and the overall synergies
from the integration of the NCS business and, to a lesser extent, the SunScript
acquisition, as well as productivity initiatives throughout the Pharmacy
Services segment. Although operating margins were initially unfavorably impacted
by the addition of these lower-margin businesses, the integration efforts
resulted in drug purchasing improvements, consolidation of redundant pharmacy
locations and other economies of scale, which serve to leverage the Company's
operating cost structure. Partially offsetting the improved operating income in
the nine months ended September 30, 2004 was the intensified pricing and
Medicaid reimbursement pressures, the previously discussed special charge during
the third quarter of 2004, which lowered operating income by approximately $5.2
million, the initial impact of the lower-margin acquisitions completed in the
first nine months of 2004, which impact is expected to diminish as the Company
achieves drug purchasing improvements, consolidation of redundant pharmacies and
other economies of scale, and a continued shift in payor mix toward lower-margin
Medicaid business.
CRO Services Segment
Omnicare's CRO Services segment recorded revenues of $100.6 million during
the nine months ended September 30, 2004, which were $19.0 million lower than
the $119.6 million recorded in the same prior year period. In accordance with
EITF No. 01-14, the Company included $13.6 million and $19.5 million of
reimbursable out-of-pockets in its CRO Services segment reported revenue and
direct cost amounts for the nine months ended September 30, 2004 and 2003,
respectively. Revenues for the nine months ended September 30, 2004 were lower
than in the same prior year period largely due to the impact of client-driven
cancellations or delays in the commencement or continuation of certain projects,
and a reduction in reimbursable out-of-pockets of $5.9 million under EITF No.
01-14.
33
Operating income in the CRO Services segment was $9.6 million for the nine
months ended September 30, 2004 compared with $10.9 million in the same 2003
period. Operating income, while benefiting from productivity improvements and
cost reduction efforts, was unfavorably impacted primarily by the lower revenues
during the nine months ended September 30, 2004.
Consolidated
The Company's consolidated gross profit of $768.9 million increased $112.7
million during the nine months ended September 30, 2004 from the same prior-year
period amount of $656.2 million. Gross profit as a percentage of total net sales
of 25.2% in the nine months ended September 30, 2004, was lower than the 25.7%
experienced during the same period of 2003. Positively impacting overall gross
profit margin were the Company's purchasing leverage associated with the
procurement of pharmaceuticals due, in part, to the completion of the
integration of the NCS business and, to a lesser extent, the SunScript business
(net of the initial impact of adding these lower-margin businesses) and benefits
realized from the Company's formulary compliance program, as well as the
increased use of generic drugs. These favorable factors were more than offset by
the intensified pricing and Medicaid reimbursement pressures, the previously
discussed special charge during the third quarter of 2004, which lowered gross
profit by approximately $2.7 million, the initial impact of the lower-margin
acquisitions completed in the first nine months of 2004, which impact is
expected to diminish as the Company achieves drug purchasing improvements,
consolidation of redundant pharmacies and other economies of scale, and a
continued shift in the Company's payor mix toward Medicaid during the second and
third quarters of 2004. Also unfavorably impacting gross profit as a percentage
of total net sales was the further market penetration of newer branded drugs
targeted at the diseases of the elderly that typically produce higher gross
profit but lower gross profit margins.
Omnicare's operating expenses for the nine months ended September 30, 2004
of $434.2 million were higher than the comparable year amount of $380.6 million
by $53.6 million, due primarily to the overall growth of the business, including
the completion of several acquisitions, which individually were not significant.
Operating expenses as a percentage of total net sales, however, totaled 14.3% in
the nine months ended September 30, 2004, representing a decrease from the 14.9%
experienced in the comparable prior-year period. This decrease was primarily due
to the realization of synergies from the NCS and SunScript acquisitions, and the
leveraging of fixed and variable overhead costs over a larger sales base in 2004
than that which existed in 2003. Operating expenses for the nine months ended
September 30, 2004 also included the previously discussed special charge, which
increased operating expenses by approximately $2.5 million.
Investment income for the nine months ended September 30, 2004 of $2.2
million was marginally lower than the $2.6 million earned in the comparable
prior year period.
Interest expense for the nine months ended September 30, 2004 of $51.5
million was lower than the $64.6 million in the comparable prior-year period
primarily relating to the inclusion in 2003 results of the previously mentioned
call premium and write-off of the
34
unamortized debt issuance costs relating to the Company's early redemption and
retirement of its 5%, $345 million convertible subordinated debentures, totaling
$12.7 million pretax ($7.9 million aftertax, or $0.08 per diluted share).
The effective income tax rate was 37.0% in the year-to-date 2004 period,
slightly lower than the comparable prior year period rate of 37.8%. The
effective tax rates in 2004 and 2003 are higher than the federal statutory rate
largely as a result of the combined impact of state and local income taxes and
various nondeductible expenses.
Restructuring Program
In connection with the previously disclosed second phase of its
productivity and consolidation initiative (the "Phase II Program"), the Company
had liabilities of $4.1 million at December 31, 2003, of which $0.7 million was
utilized in the nine months ended September 30, 2004. The remaining liabilities
at September 30, 2004 of $3.4 million represent amounts not yet paid relating to
actions taken (consisting primarily of lease payments), and will be adjusted as
these matters are settled.
Financial Condition, Liquidity and Capital Resources
Cash and cash equivalents at September 30, 2004 were $108.9 million
compared with $188.1 million at December 31, 2003 (including restricted cash
amounts of $5.8 million and $0.7 million, respectively).
The Company generated positive net cash flows from operating activities of
$130.2 million during the nine months ended September 30, 2004, compared with
net cash flows from operating activities of $182.4 million during the nine
months ended September 30, 2003. Net cash flows from operating activities during
the nine months ended September 30, 2004 was driven primarily by operating
results. Impacting cash flow during the nine months ended September 30, 2004 was
a one-time deposit of $44.0 million made during the first quarter of 2004, owing
to a change in payment terms under the Company's new contract with its drug
wholesaler. Also, a statewide administrative backup in the transfer of Medi-Cal
provider numbers affecting California-based pharmacies acquired in the SunScript
and other acquisitions created a temporary delay in cash receipts of
approximately $37 million through September 30, 2004. In addition, in the third
quarter of 2004, another broad-based slowdown in Medicaid reimbursement occurred
in Illinois, unfavorably impacting cash flow by approximately $18 million.
Operating cash flows, as well as borrowings on the line of credit facilities,
were used primarily for acquisition-related payments, debt repayment, capital
expenditures and dividends.
Net cash used in investing activities was $258.5 million and $613.5 million
for the nine months ended September 30, 2004 and 2003, respectively.
Acquisitions of businesses required cash payments of $239.9 million (including
amounts payable pursuant to acquisition agreements relating to pre-2004
acquisitions) in 2004, which were primarily funded by borrowings under the
Company's credit facility, existing cash balances and operating cash flows.
Acquisitions of businesses during 2003 required $599.7 million of cash payments
(including amounts payable
35
pursuant to acquisition agreements relating to pre-2003 acquisitions) which were
primarily funded by borrowings under the Company's then existing revolving
credit facility. Omnicare's capital requirements are primarily comprised of its
acquisition program, including the possible acquisition of NeighborCare, Inc.
which is discussed below under the caption "NeighborCare Transaction," and
capital expenditures, largely relating to investments in the Company's
information technology systems.
Net cash provided by financing activities was $46.1 million for the nine
months ended September 30, 2004. Net borrowings on the credit facility totaled
$60.0 million in the nine months ended September 30, 2004 and were primarily
used for payments relating to the acquisition of businesses. The Company also
paid $14.4 million on the term A loan in the nine months ended September 30,
2004. At September 30, 2004, outstanding revolving credit borrowings were $60.0
million and the balance on the term A loan was $141.5 million. Net cash provided
by financing activities was $559.4 million for the nine months ended September
30, 2003. In connection with the aforementioned NCS acquisition, the Company
borrowed $499.0 million under its then existing revolving credit facility in the
first quarter of 2003. The Company also completed its refinancing plan in June
2003, as discussed below, in which it raised $1,033.6 million. Partially
offsetting these borrowings were payments on debt of $589.0 million during the
nine months ended September 30, 2003, as well as the early redemption and
retirement during the nine months ended September 30, 2003 of $345.0 million of
5% convertible subordinated debentures due 2007 ("5% Convertible Debentures")
in the second quarter of 2003.
On August 5, 2004, the Company's Board of Directors declared a quarterly
cash dividend of 2.25 cents per share for an indicated annual rate of 9 cents
per common share for 2004. Aggregate dividends of $7.0 million paid during the
nine months ended September 30, 2004 were relatively consistent with those paid
in the comparable prior year period, totaling $6.6 million.
NeighborCare Transaction
On June 4, 2004, Omnicare commenced a tender offer for all of the
outstanding shares of the common stock of NeighborCare for $30.00 per share in
cash. The transaction has a total value of approximately $1.5 billion, which
includes the assumption of NeighborCare's net debt and any related refinancing
thereof. The acquisition of NeighborCare is expected to be financed with
proceeds from a $2.4 billion commitment letter the Company has secured in
anticipation of the transaction or from such other financings that are
sufficient, together with cash on hand, to consummate the tender offer and the
proposed merger. The Company's $2.4 billion commitment letter consists of a $600
million five-year revolving credit facility, a $700 million five-year senior
term A loan facility and a $1.1 billion 364-day facility. On July 13, 2004,
Omnicare announced that it received a request for additional information from
the Federal Trade Commission ("FTC") relating to its filing under the
Hart-Scott-Rodino Antitrust Improvements Act of 1976 ("HSR Act") in connection
with its tender offer for NeighborCare. The request extends the waiting period
under the HSR Act during which the FTC is permitted to review the proposed
transaction until 10 days after Omnicare has substantially complied with the
request. Omnicare is continuing to work with the FTC with respect to the filing.
The Company's tender
36
offer is scheduled to expire at 5:00 p.m., New York City time, on November 30,
2004, unless extended.
Disclosures About Off-Balance Sheet Arrangements and Aggregate Contractual
Obligations
At September 30, 2004, the Company had one unconsolidated entity, Omnicare
Capital Trust I (the "Trust"), which was established for the purpose of
facilitating the convertible trust preferred securities offering, due 2033
("trust PIERS" or "Preferred Income Equity Redeemable Securities"). For
financial reporting purposes, the Trust is treated as an equity method
investment of Omnicare. The Trust is a 100%-owned finance subsidiary of the
Company. The Company has fully and unconditionally guaranteed the securities of
the Trust. The contingent convertible notes issued by the Company to the Trust
in connection with the issuance by the Trust of the trust PIERS are presented as
a separate line item on Omnicare's consolidated balance sheet, and the related
disclosures concerning the trust PIERS, the guarantee and the contingent
convertible notes are included in Omnicare's notes to consolidated financial
statements. Omnicare records interest payable to the Trust as interest expense
in its consolidated statement of income.
At September 30, 2004, the Company had no other unconsolidated entities, or
any financial partnerships, such as entities often referred to as structured
finance or special purpose entities, which might have been established for the
purpose of facilitating off-balance sheet arrangements.
Except for the Company's long-term debt and purchase obligations,
Omnicare's contractual obligations did not significantly change from December
31, 2003. The following table sets forth the Company's contractual long-term
debt and purchase obligations at September 30, 2004 to reflect changes from
December 31, 2003 (particularly relating to long-term debt obligations,
including the net borrowings on the credit facility of $60.0 million during the
nine months ended September 30, 2004, as well as the impact of payments on the
term A loan of $14.4 million). The table summarizes the effect such long-term
debt obligations are expected to have on the Company's liquidity and cash flows
in future periods.
Contractual Long-Term Debt and Purchase Obligations at September 30, 2004 (in
thousands):
Less Than After 5
Total 1 Year 1-3 Years 4-5 Years Years
---------- --------- --------- --------- --------
Long-term debt obligations(a) $1,171,538 $24,615 $176,923 $ -- $970,000
========== ======= ======== ====== ========
Purchase obligations(b) $ 65,446 $59,446 $ 4,000 $2,000 $ --
========== ======= ======== ====== ========
(a) The above long-term debt obligation amounts represent the principal portion
of the associated debt obligations.
(b) Purchase obligations primarily consist of open inventory purchase orders,
as well as obligations for other goods and services, at period end.
During the second quarter of 2003, the Company completed its offering of
$250.0 million aggregate principal amount of 6.125% senior subordinated notes
due 2013 ("6.125% Senior
37
Notes"), issued at par, and 6,468,750 shares of common stock, $1 par value, at
$29.16 per share for gross proceeds of approximately $189 million, and the
offering, through the Trust, of $345.0 million aggregate principal amount of
convertible trust preferred securities due 2033.
In early 2001, the Company entered into a three-year syndicated $500.0
million revolving line of credit facility (the "Revolving Credit Facility"),
including a $25.0 million letter of credit subfacility, with various lenders. In
January 2003, the Company borrowed $499.0 million under the Revolving Credit
Facility to finance its acquisition of NCS (see Note 4 of the Notes to
Consolidated Financial Statements). The Revolving Credit Facility was retired in
connection with the mid-2003 refinancing transactions, as further described
below.
In connection with the mid-2003 refinancings, the Company entered into a
new, four-year $750.0 million credit facility ("Credit Facility") consisting of
a $250.0 million term A loan commitment and a $500.0 million revolving credit
commitment, including a $25.0 million letter of credit subfacility. The new
Credit Facility bears interest at the Company's option at a rate equal to
either: (i) the London Interbank Offered Rate ("LIBOR") plus a margin that
varies depending on certain ratings on the Company's senior long-term debt; or
(ii) the higher of (a) the prime rate or (b) the sum of the federal funds
effective rate plus 0.50%. Additionally, the Company is charged a commitment fee
on the unused portion of the revolving credit portion of the Credit Facility,
which also varies depending on such ratings. At September 30, 2004, the interest
rate was LIBOR plus 1.375% and the commitment fee was 0.375%. There is no
utilization fee associated with the Credit Facility.
The Company used the net proceeds from the 6.125% Senior Notes offering and
borrowings of $250.0 million under the term A loan portion of the new Credit
Facility to repay the balance of the Company's existing Revolving Credit
Facility of $474.0 million, with remaining proceeds being used for general
corporate purposes. The Company paid down $14.4 million on the term A loan
during the nine months ended September 30, 2004. The $141.5 million outstanding
at September 30, 2004 under the term A loan is due in quarterly installments, in
varying amounts, through 2007, with approximately $24.6 million due within one
year. There was $60.0 million outstanding as of September 30, 2004 under the
revolving credit commitment of the Credit Facility.
The Company used a portion of the net proceeds from the common stock
offering and the net proceeds from the trust PIERS offering to redeem the entire
outstanding $345 million aggregate principal amount of the Company's 5%
Convertible Debentures, with remaining proceeds being used for general corporate
purposes. A portion of the 5% Convertible Debentures (approximately $106.5
million) were redeemed in June 2003. In July 2003, the Company redeemed the
remainder of the 5% Convertible Debentures (approximately $238.5 million)
completing its early redemption of the entire $345 million aggregate principal
amount of the outstanding 5% Convertible Debentures. The total redemption price,
including the call premium was approximately $353.9 million. The call premium,
along with the write-off of unamortized debt issuance costs associated with the
5% Convertible Debentures, were recognized ratably in the quarter in which they
were redeemed. Accordingly, an $8.6 million pre-tax charge ($5.3 million
aftertax, or $0.05 per diluted share) was recognized in interest expense during
the quarter ended September 30, 2003 for the call premium and the write-off of
38
remaining unamortized debt issuance costs associated with the redemption of the
5% Convertible Debentures. A charge of $4.1 million pretax ($2.5 million
aftertax, or $0.02 per diluted share) was recorded in interest expense during
the second quarter of 2003, representing the proportionate share of the call
premium and unamortized debt issuance costs.
In connection with its offering of $250.0 million of 6.125% Senior Notes
due 2013, during the second quarter of 2003, the Company entered into an
interest rate swap agreement ("Swap Agreement") on all $250.0 million of its
aggregate principal amount of the 6.125% Senior Notes. Under the Swap Agreement,
which hedges against exposure to long-term U.S. dollar interest rates, the
Company will receive a fixed rate of 6.125% and pay a floating rate based on
LIBOR with a maturity of six months plus a spread of 2.27%. The floating rate is
determined semi-annually, in arrears, two London Banking Days prior to the first
of each December and June. The Company records interest expense on the 6.125%
Senior Notes at the floating rate. The estimated LIBOR-based floating rate was
4.47% at September 30, 2004. The Swap Agreement, which matches the terms of the
6.125% Senior Notes, is designated and accounted for as a fair value hedge. The
Company is accounting for the Swap Agreement in accordance with Statement of
Financial Accounting Standards ("SFAS") No. 133, "Accounting for Derivative
Instruments and Hedging Activities," as amended ("SFAS 133"), so changes in the
fair value of the Swap Agreement are offset by changes in the recorded carrying
value of the related 6.125% Senior Notes. The fair value of the Swap Agreement
of approximately $16.5 million at September 30, 2004 is recorded as a noncurrent
liability and a reduction to the carrying value of the related 6.125% Senior
Notes.
In connection with the offering of the trust PIERS in the second quarter of
2003, the Company issued a corresponding amount of contingent convertible notes
due 2033 to the Trust. The Trust is a 100%-owned finance subsidiary of the
Company. The Company has fully and unconditionally guaranteed the securities of
the Trust. The trust PIERS offer fixed cash distributions at a rate of 4.0% per
annum payable quarterly, and a fixed conversion price of $40.82 under a
contingent conversion feature whereby the holders may convert their trust PIERS
if the closing sales price of Omnicare common stock for a predetermined period,
beginning with the quarter ending September 30, 2003, is more than 130% of the
then-applicable conversion price or, during a predetermined period, if the daily
average of the trading prices for the trust PIERS is less than 105% of the
average of the conversion values for the trust PIERS through 2028 (98% for any
period thereafter through maturity). The trust PIERS also will pay contingent
distributions, commencing with the quarterly distribution period beginning June
15, 2009, if the average trading prices of the trust PIERS for a predetermined
period equals 115% or more of the stated liquidation amount of the trust PIERS.
Embedded in the trust PIERS are two derivative instruments, specifically, a
contingent interest provision and a contingent conversion parity provision. The
embedded derivatives are periodically valued by a third-party advisor, and at
September 30, 2004, the values of both derivatives were not material. However,
the values are subject to change, based on market conditions, which could affect
the Company's future financial position, cash flows and results of operations.
Omnicare irrevocably and unconditionally guarantees, on a subordinated basis,
certain payments to be made by the Trust in connection with the trust PIERS.
The Company believes that net cash flows from operating activities, credit
facilities and other short- and long-term debt financings, if any, will be
sufficient to satisfy its future working
39
capital needs, acquisition contingency commitments, debt servicing, capital
expenditures and other financing requirements for the foreseeable future.
Although the Company has no current plans to refinance its indebtedness, issue
additional indebtedness, or issue additional equity, other than those associated
with the tender offer for NeighborCare, discussed above at the "NeighborCare
Transaction" caption, the Company believes that external sources of financing
are readily available and will access them as it deems appropriate.
Critical Accounting Policies
The Company's consolidated financial statements are prepared in accordance
with U.S. GAAP. In connection with the preparation of these financial
statements, Omnicare management is required to make assumptions, estimates
and judgments that affect the reported amounts of assets, liabilities,
stockholders' equity, revenues and expenses, and the related disclosure
of commitments and contingencies. On a regular basis, the Company evaluates
the estimates used, including those related to bad debts, contractual
allowances, inventory valuation, impairment of goodwill, insurance accruals,
pension obligations, income taxes, stock-based compensation, legal contingencies
and other operating allowances and accruals. Management bases its estimates on
historical experience, current conditions and on various other assumptions that
are believed to be reasonable at the time and under the current circumstances.
The Company's significant accounting policies are summarized in Note 1 of the
Notes to Consolidated Financial Statements included in Omnicare's Annual Report
on Form 10-K for the year ended December 31, 2003, and any related updates
included in the Company's periodic quarterly SEC filings.
In many cases, the accounting treatment of a particular transaction is
specifically dictated by U.S. GAAP and does not require significant management
judgment in its application. There are also areas in which management's judgment
in selecting among available alternatives would not produce a materially
different result. An accounting policy is considered to be critical if it is
important to the registrant's financial position and operating results, and
requires significant judgment and estimates on the part of management in its
application. Omnicare's critical accounting estimates and the related
assumptions are evaluated periodically as conditions require revision.
Application of the critical accounting policies requires management's
significant judgments, often as the result of the need to make estimates of
matters that are inherently and highly uncertain. If actual results were to
differ materially from the judgments and estimates made, the Company's reported
financial position and/or operating results could be materially affected.
Omnicare management continually reviews these estimates and assumptions to
ensure that the financial statements are presented fairly and are materially
correct. The Company believes the following critical accounting policies and
estimates involve more significant judgments and estimates used in the
preparation of the consolidated financial statements.
Revenue Recognition
Revenue is recognized by Omnicare when products or services are delivered
or provided to the customer.
Pharmacy Services Segment
A significant portion of the Company's Pharmacy Services Segment revenues
from sales of pharmaceutical and medical products is reimbursed by state
Medicaid and, to a lesser extent, federal Medicare programs. Payments for
services rendered to patients covered by these
40
programs are generally less than billed charges. The Company monitors its
revenues and receivables from these reimbursement sources, as well as other
third-party insurance payors, and records an estimated contractual allowance
for certain sales and receivable balances to properly account for anticipated
differences between billed and reimbursed amounts. Accordingly, the total net
sales and receivables reported in the Company's financial statements are
recorded at the amount ultimately expected to be received from these payors.
Since all billing functions of the Company are computerized, enabling on-line
adjudication (i.e., submitting charges to Medicaid or other third-party payors
electronically, with simultaneous feedback of the amount to be paid) at the
time of sale to record net revenues, exposure to estimating contractual
allowance adjustments is limited primarily to unbilled and/or initially
rejected Medicaid and third-party claims (oftentimes eventually approved
once additional information is provided to the payor). The Company evaluates
several criteria in developing the estimated contractual allowances for
unbilled and/or initially rejected claims on a monthly basis, including
historical trends based on actual claims paid, current contract and
reimbursement terms, and changes in customer base and payor/product
mix. Contractual allowances are adjusted to actual as cash is received and
claims are settled. Resulting adjustments were not significant to the Company's
operations for the periods presented. Further, Omnicare does not expect the
reasonably possible effects of a change in estimate related to unsettled
September 30, 2004 amounts from Medicaid and third-party payors to be
significant to future operating results and financial position.
Patient co-payments are associated with certain state Medicaid programs,
Medicare Part B and certain third party payors and are typically not collected
at the time products are delivered or services are rendered, but are billed to
the individual as part of the Company's normal billing procedures. These
co-payments are subject to the Company's normal accounts receivable collections
procedures.
A patient may be dispensed prescribed medications (typically no more
than a 2-3 day supply) prior to insurance being verified in emergency
situations, or for new facility admissions after hours or on weekends. The
following business day, specific payor information is obtained to ensure that
the proper payor is billed for reimbursement.
Under certain circumstances, the Company accepts returns of
medications and issues a credit memo to the applicable payor. The Company
estimates and accrues for sales returns based on historical return experience,
giving consideration to the Company's return policies. Product returns are
processed in the period received, and are not significant when compared to the
overall sales and gross profit of the Company.
Contract Research Services Segment
A portion of the Company's overall revenues relate to the Contract
Research Services ("CRO") Segment, and are earned by performing services
under contracts with various pharmaceutical, biotechnology, medical device and
diagnostics companies, based on contract terms. Most of the contracts provide
for services to be performed on a units of service basis. These contracts
specifically identify the units of service and unit pricing. Under these
contracts, revenue is generally recognized upon completion of the units of
service, unless the units of service are performed over an extended period of
time. For extended units of service, revenue is recognized based on labor hours
expended as a percentage of total labor hours expected to be expended. For
time-and-materials contracts, revenue is recognized at contractual hourly rates,
41
and for fixed-price contracts, revenue is recognized using a method similar to
that used for extended units of service. The Company's contracts provide for
additional service fees for scope of work changes. The Company recognizes
revenue related to these scope changes when underlying services are performed
and realization is assured. In a number of cases, clients are required to make
termination payments in addition to payments for services already rendered.
Any anticipated losses resulting from contract performance are charged to
earnings in the period identified. Billings and payments are specified in
each contract. Revenue recognized in excess of billings is classified as
unbilled receivables, while billings in excess of revenue are classified
as deferred revenue.
Allowance for Doubtful Accounts
Collection of accounts receivable from customers is the Company's
primary source of operating cash flow and is critical to Omnicare's operating
performance. Omnicare's primary collection risk relates to facility and private
pay customers. The Company provides for accounts receivable that could become
uncollectible by establishing an allowance to reduce the carrying value of such
receivables to their estimated net realizable value. Omnicare establishes this
allowance for doubtful accounts using the specific identification approach, and
considering such factors as historical collection experience (i.e., payment
history and credit losses) and creditworthiness, specifically identified credit
risks, aging of accounts receivable by payor category, current and expected
economic conditions and other relevant factors. Management reviews this
allowance on an ongoing basis for appropriateness. Judgment is used to assess
the collectibility of account balances and the economic ability of customers to
pay.
The Company computes and monitors its accounts receivable days sales
outstanding ("DSO") in order to evaluate the liquidity and collection patterns
of its accounts receivable. DSO is calculated by averaging the beginning and end
of quarter accounts receivable, less contractual allowances and the allowance
for doubtful accounts, to derive "average accounts receivable"; and dividing
average accounts receivable by the sales amount (excluding reimbursable
out-of-pockets) for the related quarter. The resultant percentage is multiplied
by the days in the quarter to derive the DSO amount. Omnicare's DSO was
approximately 67 days at September 30, 2004, compared with 63 days at December
31, 2003 and 71 days at December 31, 2002. The increase in DSO during 2004 was
primarily related to the aforementioned impact of the statewide administrative
backup in the transfer of Medi-Cal provider numbers, and the broad-based
Medicaid reimbursement slowdown that occurred in Illinois. The estimated
aggregate impact of these two delays was an increase to DSO of approximately 3
days at September 30, 2004.
The allowance for doubtful accounts as of September 30, 2004 was $122.6
million compared with $108.8 million and $68.6 million at December 31, 2003 and
2002, respectively. These allowances were 13.3%, 13.8% and 11.6% of gross
receivables (net of contractual allowances) as of September 30, 2004, December
31, 2003 and December 31, 2002, respectively. Although no near-term changes are
expected, unforeseen changes to future allowance percentages could materially
impact overall financial results. A one percentage point increase, however, in
the allowance for doubtful accounts as a percentage of gross receivables as of
September 30, 2004, would result in an increase to the allowance for doubtful
accounts and bad debt expense of approximately $9 million.
42
The following table is an aging of the Company's September 30, 2004
gross accounts receivable (net of allowances for contractual adjustments, and
prior to allowances for doubtful accounts), aged based on payment terms and
categorized based on the four primary overall types of accounts receivable
characteristics (in thousands):
September 30, 2004
-------------------------------------------------
Current and 181 Days and
0-180 Days Over
Past Due Past Due Total
-------- -------- --------
Medicaid, Medicare Part B and Third Party payors $290,095 $ 14,483 $304,578
Facility payors 351,876 87,602 439,478
Private Pay payors 123,453 39,287 162,740
CRO 14,689 159 14,848
-------- -------- --------
Total gross accounts receivable $780,113 $141,531 $921,644
(net of contractual allowance adjustments) ======== ======== ========
Patient charges pending approval from Medicaid and third-party payors
are primarily billed as private pay and, where applicable, are recorded net of
an estimated contractual allowance at period end. Once an approval to bill
Medicaid and/or third-party payors has been obtained, the private pay balance is
reversed and a corresponding Medicaid or third-party receivable amount is
recorded. The Company's policy is to resolve accounts receivable with pending
status on a weekly basis. Pending accounts receivable balances were not
significant at September 30, 2004.
Omnicare has standard policies and procedures for collection of its
accounts receivable. The Company's collection efforts generally include the
mailing of statements, followed up when necessary with delinquency notices,
personal and other contacts, the use of an in-house national collections
department or outside collection agencies, and potentially mediation/arbitration
or litigation when accounts are considered unresponsive. Omnicare's collection
efforts primarily relate to its facility and private pay customers. When
Omnicare becomes aware that a specific customer is potentially unable to meet
part or all of its financial obligations, for example, as a result of bankruptcy
or deterioration in the customer's operating results or financial position, the
Company includes the balance in its allowance for doubtful accounts
requirements. When a balance is deemed uncollectible by Omnicare management
(including the national collections department), collections agencies and/or
outside legal counsel, the balance is manually written off against the allowance
for doubtful accounts. At September 30, 2004, the Company does not have a
significant amount of its overall accounts receivable balance placed in
mediation/arbitration, litigation or with outside collection agencies.
Given the Company's experience, management believes that the reserves for
potential losses are adequate, but if several or more of the Company's larger
customers were to unexpectedly default on their obligations, the Company's
overall reserves for potential losses may prove to be inadequate. If economic
conditions worsen, the payor mix shifts significantly,
43
or the Company's customers' reimbursement rates are adversely affected,
impacting Omnicare's customers' ability to pay, management may adjust the
allowance for doubtful accounts accordingly, and the Company's accounts
receivable collections, cash flows and results of operations could be affected.
Inventories
The Company maintains inventory at lower of cost or market, with cost
determined on the basis of the first-in, first-out method. There are no
significant obsolescence reserves recorded since the Company has not
historically experienced (nor does it expect to experience) significant levels
of inventory obsolescence write-offs.
Omnicare uses a periodic inventory system. Physical inventories are
typically performed on a monthly basis at all pharmacy sites, and in all cases
at least once a quarter. Cost of goods sold is recorded based on the actual
results of the physical inventory counts, and is estimated when a physical
inventory is not performed in a particular month. The Company evaluates various
criteria in developing estimated cost of goods sold during non-inventory months,
including the historical cost of goods sold trends based on prior physical
inventory results; a review of cost of goods sold information reflecting current
customer contract terms; and consideration and analysis of changes in customer
base, product mix, payor mix, state Medicaid and third-party insurance
reimbursement levels or other issues that may impact cost of goods sold. Actual
cost of goods sold has not varied significantly from estimated amounts in
non-inventory months.
Goodwill
SFAS No. 142, "Goodwill and Other Intangible Assets" ("SFAS 142")
requires that goodwill and other indefinite-lived intangible assets be reviewed
for impairment using a fair value based approach at least annually. SFAS 142
requires the Company to assess whether there is an indication that goodwill is
impaired, and requires goodwill to be tested between annual tests if events
occur or circumstances change that would, more likely than not, reduce the fair
value of a reporting unit below its carrying amount. The Company's assessments
to date, including its third quarter 2004 analysis, indicated that goodwill has
not been impaired.
The Company's assessment of goodwill impairment requires estimates of
future cash flows and a weighted average cost of capital. The estimates of these
future cash flows are based on assumptions and projections believed to be
reasonable and supportable at the time the annual impairment analysis is
performed. Further, they require management's subjective judgments and take into
account assumptions about overall growth rates. To the extent the carrying value
of the assets exceed their fair value, an impairment loss would be recorded.
Changes in these estimates of future cash flows or weighted average cost of
capital due to unforeseen events and circumstances could cause Omnicare's
analysis to indicate that goodwill is impaired in subsequent periods, and could
result in the write-off of a portion or all of the Company's goodwill, which
could be material to the Company's financial position, results of operations or
cash flows. However, given the substantial margin by which fair value exceeded
carrying amounts in the latest goodwill impairment review, the Company does not
anticipate a material
44
impact on the consolidated financial statements from differences in these
assumptions in the near term.
Insurance Accruals
Omnicare is self-insured for certain health insurance claims. The Company
manages its health insurance risk by obtaining individual and aggregate
stop-loss coverage in the amount of $150,000 per claim and 125% of expected
aggregate claims, or approximately $10.5 million for the 2004 year. Omnicare
insures all of its property and casualty programs (including worker's
compensation, and professional liability) in excess of self-insured retentions,
or deductibles, on the various policies of insurance (which range from between
$5,000 and $1,000,000 per claim, depending on the type of coverage). Omnicare
closely monitors and continually evaluates its historical claims experience and
obtains input from third-party insurance professionals to estimate the
appropriate level of accrual for its self-insured programs, including
deductibles. These accruals include provision for incurred, as well as incurred
but not reported, claims. In developing its self-insurance accrual estimates,
the Company's liability calculation also considers the historical claim lag
periods and current payment trends of insurance claims (generally 2-3 months
for health, and 48-60 months for all other coverages). A change in the
historical claim lag period assumption by one month for health insurance
claims would affect health insurance expense by approximately $1.0 million
pretax. A change in the historical claim lag period by one month for property
and casualty insurance claims would affect property and casualty insurance
expense by approximately $0.3 million pretax.
Although significant fluctuations may occur in the short term due to
unforeseen events and claims, the Company's experience, coupled with its
stop-loss coverages, has consistently supported management's assumption that
this methodology provides for reasonable insurance expense estimates and
accruals over a long-term period. While the ultimate settlement of these claims
may vary from the Company's estimates and accruals, Omnicare believes that the
accrual amounts and resultant expense provided in the consolidated financial
statements are materially correct.
Employee Benefit Plans
For certain of its employee benefit plans, the Company utilizes
estimates in developing its actuarial assumptions (including such items as the
expected long-term rate of return on plan assets, discount rate and rate of
compensation increase, among other items), and relies on actuarial computations
to estimate the future potential liability, expense and funding requirements
associated with these benefits. While it is required that the actuarial
assumptions be reviewed each year as of the measurement date of December 31, the
actuarial assumptions generally do not change between measurement dates. During
Omnicare's annual review, generally near the beginning of the fiscal year, the
Company reviews and updates these assumptions, and considers current market
conditions and input from its third-party advisors, including any changes in
interest rates, in making these assumptions. These actuarial assumptions and
estimates attempt to anticipate future events, and if assessed differently or
materially vary from actual results due to changing market and economic
conditions, could have a significant impact on the Company's consolidated
financial position, results of operations or
45
cash flows. However, a one percentage point change in the discount rate used to
calculate the Company's pension obligations, or the expected long-term rate of
return on plan assets, would not have a material impact on the Company's
operating results.
Income Taxes
The Company estimates its tax assets and liabilities based on current
tax laws in the statutory jurisdictions in which it operates. These estimates
include judgments about deferred tax assets and liabilities resulting from
temporary differences between the financial statement carrying amounts and the
tax basis of assets and liabilities, as well as about the realization of
deferred tax assets (including those relating to net operating losses). The
deferred tax assets and liabilities are determined based on the enacted tax
rates expected to apply in the periods in which the deferred tax assets or
liabilities are expected to be settled or realized. Omnicare periodically
reviews its deferred tax assets for recoverability and establishes a valuation
allowance if it is more likely than not that some portion or all of a deferred
tax asset will not be realized. The determination as to whether a deferred tax
asset will be realized is made on a jurisdictional basis and is based on the
evaluation of positive and negative evidence. This evidence includes historical
taxable income, projected future taxable income, the expected timing of the
reversal of existing temporary differences and the implementation of tax
planning strategies. Projected future taxable income is based on the Company's
expected results and assumptions as to the jurisdiction in which the income will
be earned. The expected timing of the reversals of existing temporary
differences is based on current tax law and Omnicare's tax methods of
accounting. The Company also reviews its liabilities under SFAS No. 5,
"Accounting for Contingencies" ("SFAS 5") which requires an accrual for
estimated losses when it is probable that a liability has been incurred and the
amount can be reasonably estimated. These projections may change in the future
as actual results become known.
If the Company is unable to generate sufficient future taxable income, or if
there is a material change in the actual effective tax rates or the time period
within which the underlying temporary differences become taxable or deductible,
or if the tax laws change unfavorably, then the Company could be required to
increase its valuation allowance against its deferred tax assets, resulting in
an increase in the effective tax rate.
Omnicare operates in multiple states with varying tax laws. The Company is
subject to both federal and state audits of tax returns. While the Company
believes it has provided adequately for income tax liabilities in its
consolidated financial statements, adverse determinations by these taxing
authorities could have a material adverse effect on Omnicare's financial
position, results of operations or cash flows. If the provisions for current or
deferred taxes are not adequate, if the Company is unable to realize certain
deferred tax assets or if the tax laws change unfavorably, the Company could
experience potential losses. Likewise, if provisions for current and deferred
taxes are in excess of those eventually needed, if the Company is able to
realize additional deferred tax assets or if tax laws change favorably, the
Company could experience potential gains. A one percentage point change in the
Company's overall year-to-date September 2004 and 2003 effective tax rates
would impact income tax expense and net income by $2.9 million and $2.1 million,
respectively (or $0.03 and $0.02 per diluted share, respectively).
46
Stock-Based Compensation
The Company accounts for stock incentive plans under the recognition
and measurement principles of Accounting Principles Board Opinion No. 25,
"Accounting for Stock Issued to Employees" ("APB 25"), and related
Interpretations. No stock-based employee compensation cost for stock options is
reflected in net income, as all options granted under the plans had an exercise
price equal to or greater than the market value of the underlying common stock
on the date of grant. For footnote disclosure purposes, the Company calculates
the impact of using the fair-value method in accordance with SFAS No. 123,
"Accounting for Stock-Based Compensation", as amended by SFAS No. 148,
"Accounting for Stock-Based Compensation - Transition and Disclosure - an
amendment of SFAS 123". Under the fair-value method, the cost of stock option
grants and other incentive awards to employees and directors is generally
measured by the fair value of the awards on their grant dates and is recognized
over the vesting periods of the awards. The Company estimates the fair value of
stock option grants as of the date of each grant, using a Black-Scholes
option-pricing model. This model incorporates reasoned assumptions regarding
(1) the expected volatility of the Company's common stock price, (2) estimated
risk-free interest rates, (3) the expected dividend yield, if any, all over the
expected lives of the respective options. Considering the importance of each of
the above assumptions in the calculation of fair value, the Company re-evaluates
the estimate of these assumptions on a quarterly basis. While the Company
believes its stock option fair value calculations are materially accurate, a
one percentage point change in any of the individual aforementioned assumptions,
holding all other assumptions constant, would not have a material impact on the
fair value calculated for options or the related pro forma periodic expense
recognized by the Company in its footnote disclosure.
Legal Contingencies
As part of its ongoing operations, the Company is subject to various
inspections, audits, inquiries and similar actions by governmental/regulatory
authorities responsible for enforcing the laws and regulations to which the
Company is subject, including reviews of individual Omnicare pharmacy's
reimbursement documentation and administrative practices. Oftentimes, these
inspections, audits and inquiries relate to prior periods, including periods
predating Omnicare's actual ownership of a particular acquired pharmacy. The
Company is also involved with various legal actions arising in the normal course
of business. Each quarter, the Company reviews the status of any inspections,
audits, inquiries, legal claims and legal proceedings and assesses its potential
financial exposure. If the potential loss from any of these is considered
probable and the amount can be reasonably estimated, the Company accrues a
liability for the estimated loss, in accordance with SFAS 5. To the extent the
amount of a probable loss is estimable only by reference to a range of equally
probable outcomes, and no amount within the range appears to be a better
estimate than any other amount, the low end of the range is accrued. Because of
uncertainties related to these matters, the use of estimates, assumptions,
judgments and external factors beyond the Company's control, accruals are based
on the best information available at the time. As additional information becomes
available, Omnicare reassesses the potential liability related to any pending
inspections, audits, inquiries, claims and litigation and may revise its
estimates. Such revisions in the estimates of the potential liabilities could
have a material impact on the Company's results of operations and financial
position.
47
Recently Issued Accounting Standards
In October 2004, the Financial Accounting Standards Board ratified Emerging
Issues Task Force ("EITF") Issue No. 04-8, "The Effect of Contingently
Convertible Instruments on Diluted Earnings per Share" ("EITF No. 04-8"). EITF
No. 04-8 requires contingently convertible debt instruments to be included in
diluted earnings per share, if dilutive, regardless of whether the market-price
contingency is met. EITF No. 04-8 is effective for reporting periods ending
after December 15, 2004, and would be applied by retroactively restating
previously reported diluted earnings per share. It is estimated that EITF No.
04-8 would have reduced Omnicare's diluted earnings per share by approximately
$0.02 and $0.07 for the three and nine months ended September 30, 2004,
respectively, if it had been effective during these periods. While no assurances
can be given regarding the final outcome, the Company is investigating various
alternatives to mitigate such dilution.
Safe Harbor Statement under the Private Securities Litigation Reform Act of 1995
Regarding Forward-Looking Information
In addition to historical information, this report contains certain
statements that constitute "forward-looking statements" within the meaning of
the Private Securities Litigation Reform Act of 1995. These forward-looking
statements are made on the basis of management's views and assumptions regarding
business performance as of the time the statements are made, and management does
not undertake any obligation to update these statements. These forward-looking
statements include, but are not limited to, all statements regarding the intent,
belief or current expectations regarding the matters discussed or incorporated
by reference in this document (including statements as to "beliefs,"
"expectations," "anticipations," "intentions" or similar words) and all
statements which are not statements of historical fact. Forward-looking
statements in this report include, but are not limited to, the following:
expectations concerning the Company's financial performance, results of
operations, sales, earnings or business outlook; trends in the long-term
healthcare and contract research industries generally; expectations concerning
the Company's ability to leverage its core business; anticipated growth in
alternative institutional markets such as correctional facilities, mental health
and personal care or supportive living facilities; expectations concerning
continued relative stability in the operating environment in the long-term care
industry; the ability to leverage the Company's CRO business and its core
pharmacy business as anticipated; volatility in the CRO business; anticipated
business performance of the CRO; expectations in the CRO business resulting from
streamlining and globalization efforts; the Company's unique capabilities in the
geriatric market and strength of presence in the drug development marketplace;
trends in healthcare funding issues, including, but not limited to, state
Medicaid budgets, enrollee eligibility, escalating drug prices due to higher
utilization among seniors and the aging of the population; expectations
concerning increasing Medicare admissions and improving occupancy rates; the
introduction of more expensive medications and the increasing use of generic
medications; the impact of any changes in healthcare policy relating to the
future funding of the Medicaid and Medicare programs; the cost-effectiveness of
pharmaceuticals in treating chronic illnesses for the elderly; the impact of the
Medicare drug benefit, signed into law in December 2003 and effective in 2006,
and its
48
implementing regulations; the effect of any changes and considerations in
long-term healthcare funding policies for Medicare and Medicaid programs; the
ability of the Company to utilize its expertise in geriatric pharmaceutical care
and pharmaceutical cost management and its database on drug utilization and
outcomes in the elderly to meet the anticipated challenges of the healthcare
environment and the implementation of the Medicare drug benefit; the
effectiveness of the Company's growth strategy in allowing the Company to
maximize cash flow, maintain a strong financial position, enhance the efficiency
of its operations and continue to develop the Company's franchise in the
geriatric pharmaceutical market; the ability of expansion in the Company's core
business to provide the Company greater ability to leverage its clinical
services and information business, thereby enhancing cost advantages in the
institutional pharmacy market; and expectations concerning opportunities for
future growth. These forward-looking statements, together with other statements
that are not historical, involve known and unknown risks, uncertainties,
contingencies and other factors that could cause results, performance or
achievements to differ materially from those stated. Such risks, uncertainties,
contingencies and other factors, many of which are beyond the control of the
Company, include, but are not limited to: overall economic, financial, political
and business conditions; trends in the long-term healthcare and contract
research industries; competition in the pharmaceutical, long-term care and
contract research industries; the impact of consolidation in the pharmaceutical
and long-term care industries; trends in long-term care occupancy rates and
demographics; the ability to attract new clients and service contracts and
retain existing clients and service contracts; trends for the continued growth
of the Company's businesses; expectations concerning the development and
performance of the Company's informatics business; the effectiveness of the
Company's formulary compliance program; trends in drug pricing, including the
impact and pace of pharmaceutical price increases; delays and reductions in
reimbursement by the government and other payors to customers and to the Company
as a result of pressures on federal and state budgets or for other reasons; the
overall financial condition of the Company's customers; the ability of the
Company to assess and react to the financial condition of its customers; the
effectiveness of the Company's pharmaceutical purchasing programs and its
ability to obtain discounts and manage pharmaceutical costs; the ability of
vendors and business partners to continue to provide products and services to
the Company; the continued successful integration of acquired companies and the
ability to realize anticipated sales, economies of scale, cost synergies and
profitability; the continued availability of suitable acquisition candidates;
pricing and other competitive factors in the industry; increases or decreases in
reimbursement rates and the impact of other cost control measures; the impact on
the Company's sales, profits and margins resulting from market trends in the use
of newer branded drugs versus generic drugs; the number and usage of generic
drugs and price competition in the drug marketplace; the ability to attract and
retain needed management; competition for qualified staff in the healthcare
industry; the impact and pace of technological advances; the ability to obtain
or maintain rights to data, technology and other intellectual property; the
demand for the Company's products and services; variations in costs or expenses;
the ability to implement productivity, consolidation and cost reduction efforts
and to realize anticipated benefits; the ability of clinical research projects
to produce revenues in future periods; the ability to benefit from streamlining
and globalization efforts at the CRO; trends concerning CRO backlog; the
effectiveness of the Company's implementation and expansion of its clinical and
other service programs; the effect of new legislation, government regulations,
and/or executive orders, including those relating to reimbursement and drug
pricing policies and changes in the interpretation and application of
49
such policies; the impact of the Medicare drug benefit and its implementing
regulations; legislation and regulations affecting payment and reimbursement
rates for skilled nursing facilities; trends in federal and state budgets and
their impact on Medicaid reimbursement rates; government budgetary pressures and
shifting priorities; the Company's ability to adjust to federal and state budget
shortfalls; efforts by payors to control costs; the failure of the Company or
the long-term care facilities it serves to obtain or maintain required
regulatory approvals or licenses; loss or delay of contracts pertaining to the
CRO business for regulatory or other reasons; the outcome of litigation;
potential liability for losses not covered by, or in excess of, insurance; the
impact of differences in actuarial assumptions and estimates pertaining to
employee benefit plans and stock-based compensation; events or circumstances
which result in an impairment of goodwill; market conditions; the outcome of
audit, compliance, administrative or investigatory reviews; volatility in the
market for the Company's stock and in the financial markets generally; access
to adequate capital and financing; changes in international economic and
political conditions and currency fluctuations between the U.S. dollar and
other currencies; changes in tax laws and regulations; changes in accounting
rules and standards; and other risks and uncertainties described in the
Company's reports and filings with the Securities and Exchange Commission.
Should one or more of these risks or uncertainties materialize or should
underlying assumptions prove incorrect, the Company's actual results,
performance or achievements could differ materially from those expressed in,
or implied by, such forward-looking statements. Readers are cautioned not to
place undue reliance on these forward-looking statements, which speak only
as of the date hereof. Except as otherwise required by law, the Company does
not undertake any obligation to publicly release any revisions to these
forward-looking statements to reflect events or circumstances after the
date hereof or to reflect the occurrence of unanticipated events.
50
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Omnicare's primary market risk exposure relates to interest rate risk
exposure through its borrowings. The Company's debt obligations at September 30,
2004 include $141.5 million outstanding under the term A loan portion, and $60.0
million drawn on the revolving credit commitment portion, of its June 2003
four-year, variable-rate Credit Facility at an interest rate of LIBOR plus
1.375%, or 3.20% at September 30, 2004 (a 100 basis point change in the interest
rate would impact pretax interest expense by approximately $2.0 million per
year); $375.0 million outstanding under its fixed-rate 8.125% senior
subordinated notes ("8.125% Senior Notes"), due 2011; $250.0 million outstanding
under its fixed-rate 6.125% Senior Notes, due 2013; and $345.0 million
outstanding under its 4.0% fixed-rate convertible debentures (the "4.0%
Convertible Debentures"), due 2033. In connection with its offering of $250.0
million of 6.125% Senior Notes, during the second quarter of 2003, the Company
entered into a Swap Agreement on all $250.0 million of its aggregate principal
amount of the 6.125% Senior Notes. Under the Swap Agreement, which hedges
against exposure to long-term U.S. dollar interest rates, the Company will
receive a fixed rate of 6.125% and pay a floating rate based on LIBOR with a
maturity of six months plus a spread of 2.27%. The estimated LIBOR-based
floating rate was 4.47% at September 30, 2004 (a 100 basis point change in the
interest rate would impact pretax interest expense by approximately $2.5 million
per year). The Swap Agreement, which matches the terms of the 6.125% Senior
Notes, is designated and accounted for as a fair value hedge. The Company is
accounting for the Swap Agreement in accordance with SFAS 133, as amended, so
changes in the fair value of the Swap Agreement are offset by changes in the
recorded carrying value of the related 6.125% Senior Notes. The fair value of
the Swap Agreement of approximately $16.5 million at September 30, 2004 is
recorded as a noncurrent liability and a reduction to the carrying value of
the related 6.125% Senior Notes. At September 30, 2004, the fair value of
Omnicare's Credit Facility approximates its carrying value, and the fair value
of the 8.125% Senior Notes, 6.125% Senior Notes and 4.0% Convertible
Debentures is approximately $407.8 million, $251.3 million and $327.8 million,
respectively.
Embedded in the trust PIERS are two derivative instruments, specifically, a
contingent interest provision and a contingent conversion parity provision. The
embedded derivatives are periodically valued by a third-party advisor, and at
September 30, 2004, the values of both derivatives were not material. However,
the values are subject to change, based on market conditions, which could affect
the Company's future financial position, cash flows and results of operations.
The Company has operations and revenue that occur outside of the U.S. and
transactions that are settled in currencies other than the U.S. dollar, exposing
it to market risk related to changes in foreign currency exchange rates.
However, the substantial portion of the Company's operations and revenues and
the substantial portion of the Company's cash settlements are exchanged in U.S.
dollars. Therefore, changes in foreign currency exchange rates do not represent
a substantial market risk exposure to the Company.
The Company does not have any financial instruments held for trading
purposes.
51
ITEM 4. CONTROLS AND PROCEDURES
(a) Based on a recent evaluation, as of the end of the period covered by
this Quarterly Report on Form 10-Q, the Company's Chief Executive Officer and
Chief Financial Officer have concluded that the Company's disclosure controls
and procedures (as defined in the Exchange Act Rules 13a-15(e) and 15d-15(e))
are effective in timely alerting them to material information relating to the
Company (including its consolidated subsidiaries) required to be included in
periodic reports filed or submitted under the Securities Exchange Act of 1934.
(b) There were no changes in the Company's internal control over financial
reporting that occurred during the Company's last fiscal quarter that have
materially affected, or are reasonably likely to materially affect, the
Company's internal control over financial reporting.
52
PART II - OTHER INFORMATION
ITEM 2. UNREGISTERED SALE OF EQUITY SECURITIES AND USE OF PROCEEDS
A summary of the Company's repurchases of Omnicare, Inc. common stock
during the quarter ended September 30, 2004 is as follows (in thousands,
except per share data):
Maximum Number (or
Total Number of Approximate Dollar
Total Shares Purchased Value) of Shares that
Number of Average Price as Part of Publicly May Yet Be
Shares Paid per Announced Purchased Under the
Period Purchased (a) Share Plans or Programs Plans or Programs
- -------------------- ------------- ------------- -------------------- ---------------------
July 1-31, 2004 2 $41.61 -- --
August 1-31, 2004 -- -- -- --
September 1-30, 2004 1 29.47 -- --
--- --- ---
Total 3 $39.85 -- --
=== ====== === ===
(a) During the third quarter of 2004, the Company purchased 3,000 shares of
Omnicare common stock in connection with its employee benefit plans, including
purchases associated with the vesting of restricted stock awards. These
purchases were not made pursuant to a publicly announced repurchase plan or
program.
ITEM 6. EXHIBITS
See Index of Exhibits.
53
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
Omnicare, Inc.
Registrant
Date: November 9, 2004 By: /s/ David W. Froesel, Jr.
-----------------------------------
David W. Froesel, Jr.
Senior Vice President and Chief
Financial Officer (Principal
Financial and Accounting Officer)
54
INDEX OF EXHIBITS
Document Incorporated by Reference from a
Number and Description of Exhibit Previous Filing, Filed Herewith or Furnished
(Numbers Coincide with Item 601 of Regulation S-K) Herewith, as Indicated Below
- -------------------------------------------------- --------------------------------------------
(12) Computation of Ratio of Earnings to Fixed Filed Herewith
Charges
(31.1) Rule 13a-14(a) Certification of Chief Filed Herewith
Executive Officer of Omnicare, Inc. in
accordance with Section 302 of the
Sarbanes-Oxley Act of 2002
(31.2) Rule 13a-14(a) Certification of Chief Filed Herewith
Financial Officer of Omnicare, Inc. in
accordance with Section 302 of the
Sarbanes-Oxley Act of 2002
(32.1) Section 1350 Certification of Chief Furnished Herewith
Executive Officer of Omnicare, Inc. in
accordance with Section 906 of the
Sarbanes-Oxley Act of 2002*
(32.2) Section 1350 Certification of Chief Furnished Herewith
Financial Officer of Omnicare, Inc. in
accordance with Section 906 of the
Sarbanes-Oxley Act of 2002*
(99) Commitment Letter Agreement among JPMorgan Exhibit (b)(1) to the Schedule TO-T of the
Chase Bank, J.P. Morgan Securities Inc., Company and Nectarine Acquisition Corp. as
Lehman Commercial Paper Inc., Lehman filed with the Securities and Exchange
Brothers Inc., SunTrust Bank, SunTrust Commission on June 4, 2004
Capital Markets, Inc., Canadian Imperial
Bank of Commerce, CIBC World Markets Corp.,
Merrill Lynch Bank USA, Merrill Lynch,
Pierce, Fenner & Smith Incorporated and
Omnicare, Inc., dated June 3, 2004
* A signed original of this written statement required by Section 906 has been
provided to Omnicare, Inc. and will be retained by Omnicare, Inc. and furnished
to the Securities and Exchange Commission or its staff upon request.
E-1