Back to GetFilings.com
================================================================================
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
--------------
FORM 10-Q
--------------
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2002
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934
0-49813
(Commission File No.)
--------------
MARINER HEALTH CARE, INC.
(Exact Name of Registrant as Specified in its Charter)
--------------
DELAWARE 74-2012902
(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification No.)
ONE RAVINIA DRIVE, SUITE 1500
ATLANTA, GEORGIA 30346
(Address of Principal Executive Office) (Zip Code)
(678) 443-7000
(Registrant's Telephone Number, Including Area Code)
MARINER POST-ACUTE NETWORK, INC.
(Former name)
--------------
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ]
There were 20,000,000 shares of Common Stock of the registrant issued and
outstanding as of August 13, 2002.
Indicate by check mark whether the registrant has filed all documents and
reports required to be filed by Section 12, 13 or 15(d) of the Securities
Exchange Act of 1934 subsequent to the distribution of securities under a plan
confirmed by a court. Yes [X] No [ ] N/A [ ]
================================================================================
MARINER HEALTH CARE, INC.
(FORMERLY MARINER POST-ACUTE NETWORK, INC.)
FORM 10-Q
JUNE 30, 2002
TABLE OF CONTENTS
PAGE
---------
PART I
Item 1. Condensed Consolidated Financial Statements............................................... 1
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations..... 25
Item 3. Quantitative and Qualitative Disclosure About Market Risk................................. 37
PART II
Item 1. Legal Proceedings......................................................................... 38
Item 2. Changes in Securities and Use of Proceeds................................................. 42
Item 3. Defaults Upon Certain Securities.......................................................... 42
Item 4. Submission of Matters to a Vote of Security Holders....................................... 42
Item 5. Other Information......................................................................... 42
Item 6. Exhibits and Reports on Form 8-K.......................................................... 42
PART I
ITEM 1. CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
MARINER HEALTH CARE, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
REORGANIZED
COMPANY | PREDECESSOR COMPANY
------------ | ---------------------------------------------------------------
TWO MONTHS | ONE MONTH THREE MONTHS FOUR MONTHS SIX MONTHS
ENDED | ENDED ENDED ENDED ENDED
JUNE 30, | APRIL 30, JUNE 30, APRIL 30, JUNE 30,
2002 | 2002 2001 2002 2001
---------- | --------- ------------ ----------- ----------
|
Net revenues ......................... $ 295,088 | $ 146,818 $ 470,221 $ 601,437 $ 937,892
|
Costs and expenses: |
Salaries, wages and benefits ...... 183,169 | 88,663 284,345 369,237 572,522
Nursing, dietary and other |
supplies ........................ 18,156 | 9,117 30,304 36,586 61,008
Ancillary services ................ 19,176 | 8,359 26,781 36,105 53,389
General and administrative ........ 24,406 | 14,518 47,421 55,997 94,542
Insurance ......................... 18,930 | 8,921 33,918 39,879 61,235
Rent .............................. 7,264 | 3,850 14,085 15,624 31,263
Depreciation and amortization ..... 4,922 | 2,832 12,652 11,733 24,407
Provision for bad debts ........... 2,499 | 12,309 4,003 25,344 9,871
--------- | ----------- --------- ----------- ---------
Total costs and expenses ........ 278,522 | 148,569 453,509 590,505 908,237
--------- | ----------- --------- ----------- ---------
Operating income (loss) .............. 16,566 | (1,751) 16,712 10,932 29,655
|
Other income (expenses): |
Interest expense .................. (5,513) | (2,027) (825) (3,017) (813)
Interest income ................... 2,220 | 372 179 1,154 584
Reorganization items .............. -- | 1,442,805 (21,222) 1,394,309 (21,413)
Other ............................. (116) | 1,441 25 1,495 1,001
--------- | ----------- --------- ----------- ---------
Income (loss) from continuing |
operations before income taxes .... 13,157 | 1,440,840 (5,131) 1,404,873 9,014
|
Provision for income taxes ........... 5,263 | -- -- -- --
--------- | ----------- --------- ----------- ---------
Income (loss) from continuing |
operations ........................ 7,894 | 1,440,840 (5,131) 1,404,873 9,014
|
Discontinued operations: |
Income (loss) from operations of |
discontinued pharmacy |
operations ...................... -- | -- 212 -- (757)
Gain on sale of discontinued |
pharmacy operations ............. -- | 7,696 -- 29,082 --
--------- | ----------- --------- ----------- ---------
Net income (loss) .................... $ 7,894 | $ 1,448,536 $ (4,919) $ 1,433,955 $ 8,257
========= | =========== ========= =========== =========
The accompanying notes are an integral part of these financial statements
1
MARINER HEALTH CARE, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (CONTINUED)
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
REORGANIZED |
COMPANY | PREDECESSOR COMPANY
------------ | -------------------------------------------------------------------
TWO MONTHS | ONE MONTH THREE MONTHS FOUR MONTHS SIX MONTHS
ENDED | ENDED ENDED ENDED ENDED
JUNE 30, | APRIL 30, JUNE 30, APRIL 30, JUNE 30,
2002 | 2002 2001 2002 2001
---------- | --------- ------------ ----------- ----------
|
Earnings (loss) per share--basic and |
diluted: |
Income (loss) from continuing |
operations .................... $ 0.39 | $ 19.55 $(0.07) $ 19.07 $ 0.12
Discontinued operations: |
Loss from operations of |
discontinued pharmacy |
operations ................. -- | -- -- -- (0.01)
Gain on sale of discontinued |
pharmacy operations ........ -- | 0.10 -- 0.39 --
-------- | ---------- ------ ---------- ----------
|
Net income (loss) per share ....... $ 0.39 | $ 19.65 $(0.07) $ 19.46 $ 0.11
======== | ========== ====== ========== ==========
|
Weighted average number of |
common and common |
equivalent shares outstanding: |
Basic ......................... 20,000 | 73,688 73,688 73,688 73,688
======== | ========== ====== ========== ==========
Diluted ....................... 20,000 | 73,688 73,688 73,688 73,688
======== | ========== ====== ========== ==========
The accompanying notes are an integral part of these financial
statements.
2
MARINER HEALTH CARE, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(DOLLARS IN THOUSANDS, EXCEPT SHARE AMOUNTS)
REORGANIZED | PREDECESSOR
COMPANY | COMPANY
----------- | -----------
JUNE 30, | DECEMBER 31,
2002 | 2001
----------- | -----------
(UNAUDITED) |
|
ASSETS |
Current assets: |
Cash and cash equivalents ........................................................ $ 92,164 | $ 213,740
Receivables, net of allowance for doubtful accounts of $84,436 and $61,049 ....... 242,799 | 238,736
Inventories ...................................................................... 7,582 | 6,720
Net assets of discontinued operations ............................................ -- | 59,053
Other current assets ............................................................. 34,880 | 34,628
----------- | -----------
Total current assets ........................................................... 377,425 | 552,877
|
Property and equipment, net of accumulated depreciation of $8,163 and $356,926 ...... 577,670 | 412,965
Reorganization value in excess of amounts allocable to identifiable assets .......... 264,954 | --
Goodwill, net of accumulated amortization of $970 and $37,425 ....................... 6,797 | 193,651
Restricted investments .............................................................. 51,513 | 37,767
Other assets ........................................................................ 26,594 | 25,095
----------- | -----------
$ 1,304,953 | $ 1,222,355
=========== | ===========
|
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT) |
|
Current liabilities: |
Current maturities of long-term debt ............................................. $ 6,152 | $ --
Accounts payable ................................................................. 62,363 | 66,217
Accrued compensation and benefits ................................................ 86,389 | 91,368
Accrued insurance obligations .................................................... 27,668 | 24,725
Other current liabilities ........................................................ 93,730 | 22,926
----------- | -----------
Total current liabilities ...................................................... 276,302 | 205,236
|
Liabilities subject to compromise ................................................... -- | 2,289,600
|
Long-term debt, net of current maturities ........................................... 483,219 | 59,688
Long-term insurance reserves ........................................................ 184,201 | 107,734
Other liabilities ................................................................... 26,996 | 27,357
----------- | -----------
Total liabilities .............................................................. 970,718 | 2,689,615
|
Commitments and contingencies |
|
Stockholders' equity (deficit): |
Reorganized Company preferred stock, $.01 par value; 10,000,000 shares |
authorized; none issued - June 30, 2002 ........................................ -- | --
Predecessor preferred stock, $.01 par value; 5,000,000 shares authorized; none |
issued - December 31, 2001 ..................................................... -- | --
Reorganized Company common stock, $.01 par value; 80,000,000 shares authorized; |
20,000,000 shares issued - June 30, 2002 ....................................... 200 | --
Predecessor Company common stock, $.01 par value; 500,000,000 shares |
authorized; 73,688,379 shares issued - December 31, 2001 ....................... -- | 737
Reorganized Company warrants to purchase common stock ............................ 935 | --
Capital in excess of par value ................................................... 358,977 | 980,952
Accumulated deficit .............................................................. (25,840) | (2,449,378)
Accumulated other comprehensive gain (loss) ...................................... (37) | 429
----------- | -----------
Total stockholders' equity (deficit) ........................................... 334,235 | (1,467,260)
----------- | -----------
$ 1,304,953 | $ 1,222,355
=========== | ===========
The accompanying notes are an integral part of these financial
statements.
3
MARINER HEALTH CARE, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(DOLLARS IN THOUSANDS)
(UNAUDITED)
REORGANIZED |
COMPANY | PREDECESSOR COMPANY
------------ | ----------------------------
TWO MONTHS | FOUR MONTHS SIX MONTHS
ENDED | ENDED ENDED
JUNE 30, | APRIL 30, JUNE 30,
2002 | 2002 2001
-------- | ----------- ---------
|
Cash flows from operating activities: |
Net income .................................................... $ 7,894 | $ 1,433,955 $ 8,257
Adjustments to reconcile net income to net cash provided by |
operating activities: |
Depreciation and amortization ................................ 4,922 | 11,733 24,407
Provision for bad debts ...................................... 2,499 | 25,344 9,871
Reorganization items, net .................................... -- | (1,394,309) 21,413
Casualty gain ................................................ -- | (1,527) --
Equity earnings/minority interest ............................ 116 | 33 (1,001)
Provision for deferred income taxes .......................... 5,263 | -- --
Loss from discontinued pharmacy operations ................... -- | -- 757
Gain on sale of discontinued pharmacy operations ............. -- | (29,082) --
Changes in operating assets and liabilities: |
Receivables .................................................. (9,496) | (13,090) (19,807)
Inventories .................................................. 49 | (1,218) (389)
Other current assets ......................................... (6,020) | 4,410 1,909
Accounts payable ............................................. 8,263 | (27,211) 11,424
Accrued and other current liabilities ........................ (5,686) | 25,323 (4,408)
Changes in long-term insurance reserves ....................... 9,773 | 11,369 18,456
Other ......................................................... 754 | (7,185) (4,859)
-------- | ----------- ---------
Net cash provided by operating activities of continuing |
operations before reorganization items ....................... 18,331 | 38,545 66,030
-------- | ----------- ---------
Net cash provided by discontinued pharmacy operations ........... -- | -- 6,663
-------- | ----------- ---------
Payment of reorganization items, net .......................... (9,474) | (35,813) (28,125)
-------- | ----------- ---------
|
Cash flows from investing activities: |
Capital expenditures ......................................... (5,870) | (27,553) (8,386)
Disposition of assets ........................................ -- | 92,446 4,215
Restricted investments ....................................... (869) | (14,975) 1,863
Other ........................................................ 58 | 6,166 430
-------- | ----------- ---------
Net cash (utilized) provided by investing activities ............ (6,681) | 56,084 (1,878)
-------- | ----------- ---------
|
Cash flows from financing activities: |
Proceeds from issuance of long-term debt ..................... -- | 212,000 --
Repayment of long-term debt .................................. (1,272) | (386,872) (17,012)
Payment of deferred financing fees ........................... -- | (6,424) --
Other ........................................................ -- | -- 25
-------- | ----------- ---------
Net cash utilized by financing activities ....................... (1,272) | (181,296) (16,987)
-------- | ----------- ---------
Increase (decrease) in cash and cash equivalents ................ 904 | (122,480) 25,703
|
Cash and cash equivalents, beginning of period .................. 91,260 | 213,740 170,468
-------- | ----------- ---------
Cash and cash equivalents, end of period ........................ $ 92,164 | $ 91,260 $ 196,171
======== | =========== =========
The accompanying notes are an integral part of these financial
statements
4
MARINER HEALTH CARE, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
NOTE 1 NATURE OF BUSINESS
REPORTING ENTITY
Mariner Health Care, Inc. (the "Company," f/k/a Mariner Post-Acute
Network, Inc.) provides post-acute health care services, primarily through the
operation of its skilled nursing facilities ("SNFs"). All references to the
"Company" herein are intended to include the operating subsidiaries through
which the services described herein are directly provided. At June 30, 2002, the
Company's significant operations consisted of approximately 300 SNFs in 23
states, including 9 stand-alone assisted living facilities, with approximately
36,000 licensed beds and significant concentrations of facilities and beds in 5
states and several metropolitan markets, which represents the Company's only
reportable operating segment. The Company also operates 13 owned, leased, or
managed long-term acute care ("LTAC") hospitals in 4 states with approximately
670 licensed beds. See Note 13 for financial information about the Company's
reportable segments.
At a meeting of our Board of Directors duly called and held on December
13, 2001, our Amended and Restated Bylaws were amended to change our fiscal year
end from September 30 to December 31.
REORGANIZATION UNDER CHAPTER 11
On May 13, 2002 (the "Effective Date"), the Company and its subsidiaries
emerged from proceedings under chapter 11 of title 11 ("Chapter 11") of the
United States Code (the "Bankruptcy Code") pursuant to the terms of its Joint
Plan (as defined below). On March 25, 2002, the United States Bankruptcy Court
for the District of Delaware (the "Bankruptcy Court") approved the Company's
second amended and restated joint plan of reorganization filed on February 1,
2002 (including all modifications thereof and schedules and exhibits thereto,
the "Joint Plan"). In connection with its emergence from bankruptcy, the Company
changed its name to Mariner Health Care, Inc. See Note 3 for more information
about the Company's bankruptcy proceedings.
NOTE 2 BASIS OF PRESENTATION
The accompanying unaudited condensed consolidated financial statements
have been prepared pursuant to the rules and regulations of the Securities and
Exchange Commission (the "SEC"). Certain information and disclosures normally
included in financial statements prepared in accordance with accounting
principles generally accepted in the United States have been condensed or
omitted pursuant to such rules and regulations. In the opinion of management,
the financial information included herein reflects all adjustments considered
necessary for a fair presentation of interim results and, except for the items
described in Note 3, all such adjustments are of a normal and recurring nature.
Operating results for interim periods are not necessarily indicative of the
results that may be expected for the entire year.
Since filing for protection under the Bankruptcy Code on January 18, 2000
(the "Petition Date"), the Company operated its business as a
debtor-in-possession subject to the jurisdiction of the Bankruptcy Court until
its emergence from bankruptcy on May 13, 2002. Accordingly, the Company's
consolidated financial statements for periods prior to its emergence from
bankruptcy were prepared in conformity with the American Institute of Certified
Public Accountants Statement of Position 90-7, "Financial Reporting by Entities
in Reorganization Under the Bankruptcy Code" ("SOP 90-7") on a going concern
basis, which assumes continuity of operations and realization of assets and
settlement of liabilities and commitments in the normal course of business.
In connection with its emergence from bankruptcy, the Company reflected the
terms of the Joint Plan in its consolidated financial statements by adopting the
principles of fresh-start reporting in accordance with SOP 90-7. For accounting
purposes, the effects of the consummation of Joint Plan as well as adjustments
for fresh-start reporting have been recorded in the accompanying unaudited
condensed consolidated financial statements as of May 1, 2002. Therefore as used
in this Form 10-Q, the term "Predecessor Company" refers to the Company and its
operations for periods prior to bankruptcy and for accounting purposes prior to
May 1, 2002, while the term "Reorganized Company" is used to describe the
Company for periods after its emergence from bankruptcy and for accounting
purposes, after May 1, 2002. Under fresh-start reporting, a new entity is deemed
to be created for financial reporting purposes and the recorded amounts of
assets and liabilities are adjusted to reflect their estimated fair values.
Since fresh-start reporting materially changed the amounts previously recorded
in the Company's consolidated financial statements, a black line separates the
financial data pertaining to periods after the adoption of fresh-start reporting
from the financial data pertaining to periods prior to the adoption
5
of fresh-start reporting to signify the difference in the basis of preparation
of financial information for each respective entity.
The Reorganized Company has adopted the accounting policies of the
Predecessor Company as described in the audited consolidated financial
statements of the Predecessor Company for the transition period from October 1,
2001 to December 31, 2001 included in the Predecessor Company's Transition
Report filed on Form 10-K with the SEC on March 21, 2002 (the "Transition
Report"). These financial statements should be read in conjunction with the
Transition Report. In accordance with the fresh-start reporting provisions of
SOP 90-7, the Company has also adopted changes in accounting principles that
will be required in the financial statements of the Reorganized Company within
the following twelve months (see below).
COMPARABILITY OF FINANCIAL INFORMATION
The adoption of fresh-start reporting as of May 1, 2002 materially
changed the amounts previously recorded in the consolidated financial statements
of the Predecessor Company. With respect to reported operating results,
management believes that business segment operating income of the Predecessor
Company is generally comparable to that of the Reorganized Company. However,
capital costs (rent, interest, depreciation and amortization) of the Predecessor
Company that were based on pre-petition contractual agreements and historical
costs are not comparable to those of the Reorganized Company. In addition, the
reported financial position and cash flows of the Predecessor Company generally
are not comparable to those of the Reorganized Company.
The Company recorded a gain of approximately $1.2 billion from the
restructuring of its debt in accordance with the provisions of the Joint Plan.
Other significant adjustments also were recorded to reflect the provisions of
the Joint Plan and the fair values of the assets and liabilities of the
Reorganized Company. For accounting purposes, these transactions have been
reflected in the operating results of the Predecessor Company for the four
months ended April 30, 2002.
RECENT ACCOUNTING PRONOUNCEMENTS
In July 2002, the FASB issued SFAS 146 "Accounting for Costs Associated
with Exit or Disposal Activities" ("SFAS 146"). SFAS 146 replaces Emerging
Issues Task Force Issue No. 94-3 "Liability Recognition for Certain Employee
Termination Benefits and Other Costs to Exit an Activity". SFAS 146 requires the
recognition of costs associated with exit or disposal activities when they are
incurred rather than at the date of a commitment to an exit or disposal plan.
SFAS 146 is to be applied prospectively to exit or disposal activities initiated
after December 31, 2002 with early adoption encouraged. The Company adopted SFAS
146 on May 1, 2002 in connection with its adoption of fresh-start reporting and
the adoption of SFAS 146 did not have a material impact on the consolidated
financial statements of the Company.
In April 2002, the FASB issued Statement of Financial Accounting
Standards No. 145, "Rescission of FASB Statements No. 4, 44 and 64, Amendment of
FASB Statement No. 13, and Technical Corrections" ("SFAS 145"). SFAS 145
rescinds Statement of Financial Accounting Standards No. 4 "Reporting Gains and
Losses from Extinguishment of Debt" ("SFAS 4") resulting in the criteria in
Accounting Principles Board Opinion No. 30 to be used to classify gains and
losses from extinguishment of debt. Statement of Financial Accounting Standards
No. 64, "Extinguishment of Debt Made to Satisfy Sinking-Fund Requirements"
amended SFAS 4; and thus, is no longer necessary. Statement of Financial
Accounting Standards No. 44, "Accounting for Intangible Assets of Motor
Carriers", was issued to establish accounting requirements for the effects of
transition to the provision of the Motor Carrier Act of 1980. Because the
transition has been completed, this statement is no longer necessary. SFAS 145
amends Statement of Financial Accounting Standards No. 13, "Accounting for
Leases" ("SFAS 13") to require that certain lease modifications that have
economic effects similar to sale-leaseback transactions be accounted for in the
same manner as sale-leaseback transactions. The provisions of SFAS 145 related
to SFAS 13 are effective for transactions occurring after May 15, 2002. All
other provisions of SFAS 145 are effective for financial statements issued on or
after May 15, 2002 with early adoption encouraged. The Company adopted SFAS 145
on May 1, 2002 in connection with its adoption of fresh-start reporting and,
accordingly, has presented the reorganization and restructuring of its debt in
connection with the terms of the Joint Plan as a reorganization item. See
Note 3.
6
In July 2001, the Financial Accounting Standards Board (the "FASB")
issued Statement of Financial Accounting Standards No. 142, "Goodwill and Other
Intangible Assets" ("SFAS 142"), which establishes new rules on the accounting
for goodwill and other intangible assets. Under SFAS 142, goodwill and
intangible assets with indefinite lives will no longer be amortized; however,
they will be subject to annual impairment tests as prescribed by the statement.
Intangible assets with definite lives will continue to be amortized over their
estimated useful lives. The amortization provisions of SFAS 142 apply
immediately to goodwill and intangible assets acquired after June 30, 2001. With
respect to goodwill and intangible assets acquired prior to July 1, 2001,
companies are required to adopt SFAS 142 in their fiscal year beginning after
December 15, 2001.
In accordance with the adoption of SFAS 142, the Company discontinued
amortizing goodwill effective January 1, 2002. The following table sets forth
the impact on the Company's earnings relating to the adoption of SFAS 142 for
the periods indicated (in thousands of dollars, except earnings per share
amounts):
PREDECESSOR COMPANY
-----------------------------------
THREE MONTHS SIX MONTHS
ENDED ENDED
JUNE 30, JUNE 30,
2001 2001
-------------- --------------
Reported net (loss) income $ (4,919) $ 8,257
Add back: goodwill amortization 2,636 5,280
-------------- --------------
Adjusted net (loss) income $ (2,283) $ 13,537
============== ==============
Earnings per share - basic and diluted:
Reported net (loss) income $ (0.07) $ 0.11
Goodwill amortization 0.04 0.07
-------------- --------------
Adjusted net (loss) income $ (0.03) $ 0.18
============== ==============
The Company had sufficient net operating loss carryforwards ("NOLs") for
the six months ended June 30, 2002 to offset any taxes on net income.
RECLASSIFICATIONS
Certain prior year amounts have been reclassified to conform with the
current year financial statement presentation.
NOTE 3 REORGANIZATION UNDER CHAPTER 11 OF THE BANKRUPTCY CODE
As previously noted, on the Effective Date, the Company emerged from
proceedings under Chapter 11 of the Bankruptcy Code pursuant to the terms of the
Joint Plan. On January 18, 2000, Mariner Post-Acute Network, Inc. and certain of
its direct and indirect subsidiaries (other than its wholly owned subsidiary,
Mariner Health Group, Inc. ("MHG"), and its direct and indirect subsidiaries,
the "MPAN Debtors") filed voluntary petitions with the Bankruptcy Court for
protection under Chapter 11 of the Bankruptcy Code. On the same date, MHG and
certain of its direct and indirect subsidiaries (the "MHG Debtors") also filed
for relief under Chapter 11 of the Bankruptcy Code, thus commencing the chapter
11 cases (the "Chapter 11 Cases"). The Company's financial difficulties were
primarily attributable to fundamental changes in governmental reimbursement
policies, including the Medicare program's transition from a cost-based
reimbursement system to a prospective payment system ("PPS"). These changes
resulted in revenue declines that, despite the Company's efforts to reduce costs
and adjust operations, prohibited the Company from servicing its then existing
financing arrangements.
On November 30, 2001, the MPAN Debtors and the MHG Debtors (collectively,
the "Debtors") filed an initial version of the Joint Plan with the Bankruptcy
Court. The Joint Plan was amended on December 14, 2001 and again on February 1,
2002, at which time the Bankruptcy Court approved the Disclosure Statement
related to the Joint Plan and authorized the Debtors to solicit votes in favor
of the Joint Plan. A hearing on confirmation of the Joint Plan by the Bankruptcy
Court was held on March 25, 2002, in connection with which the Joint Plan was
further amended. The Bankruptcy Court confirmed the Joint Plan, as amended in
connection with confirmation, in
7
orders dated April 3, 2002. The Joint Plan was consummated on May 13, 2002, at
which time the automatic stay imposed by the Bankruptcy Code was terminated. See
below for a summary of the Joint Plan, which is qualified in its entirety by
reference to all of the provisions of the Joint Plan, as filed with the SEC on
April 17, 2002 as Exhibit 2.1 to the Company's Current Report on Form 8-K.
JOINT PLAN OF REORGANIZATION
The Joint Plan resulted from many months of good faith and arm's length
negotiations among representatives of the Debtors, the lenders under the
Debtors' prepetition senior secured credit facilities, and the committees of
unsecured creditors in the Debtors' Chapter 11 Cases. The principal provision of
the Joint Plan provided for, among others things, the substantive consolidation
of the MPAN Debtors' estates, and for the separate substantive consolidation of
the MHG Debtors' estates. Accordingly, any claims against and assets of a
particular MPAN Debtor as of the Effective Date were deemed to be claims against
and assets of all of the MPAN Debtors, and any claims against and assets of a
particular MHG Debtor as of the Effective Date were deemed to be claims against
and assets of all of the MHG Debtors. Notwithstanding the foregoing, substantive
consolidation did not affect the validity of any creditor's perfected and
unavoidable interest in property of the Debtors' estates (such as validly
perfected liens). In addition, the Bankruptcy Court's orders confirming the
Joint Plan provided that the determinations regarding substantive consolidation
do not apply to claims arising after the Joint Plan's Effective Date. As a
result of the consummation of the Joint Plan, the Company has one capital
structure, and the MPAN Debtors and the MHG Debtors no longer operate
separately, except with respect to the resolution of claims in their respective
Chapter 11 Cases. In addition, the principal lenders under the Debtors'
prepetition senior credit facilities received the substantial majority of the
equity in the Reorganized Company in accordance with the provisions of the Joint
Plan (see below).
Pursuant to the Joint Plan, the principal lenders under the Debtors'
prepetition senior credit facilities received, among other things, (i) $275.0
million of available cash, as defined in the Joint Plan, after giving effect to
certain adequate protection payments paid to senior lenders in connection with
the disposition of assets; (ii) $150.0 million in principal amount of newly
issued secured debt (the "Second Priority Notes") (see Note 5); and (iii) 19.2
million shares of the Reorganized Company's common stock, par value $.01 per
share (the "New Common Stock"), representing approximately 96% of the New Common
Stock issued as of the Effective Date.
Certain of the Debtors' SNFs were also encumbered by mortgage debt owing
to third parties (the "Project Lenders"). Most Project Lenders received
consensual treatment as provided in the Joint Plan, which included, among other
things, (i) a cash payment of $11.5 million in satisfaction of mortgages on
three SNFs; (ii) a cash payment of approximately $0.5 million and the
restructuring of mortgages on two SNFs; and (iii) an agreement to surrender
certain SNFs and other collateral in satisfaction of mortgages on those SNFs.
Holders of general unsecured allowed claims (other than holders of
general unsecured allowed claims against the MHG Debtors) are entitled to
receive pro rata distributions of 399,078 shares of New Common Stock
(approximately 2% of the New Common Stock issued on the Effective Date) and
warrants to purchase an additional 376,893 shares of New Common Stock. Such
warrants have a per share exercise price of $28.04 and are exercisable for a
period of two years beyond the Effective Date. The holders of general unsecured
allowed claims against the MHG Debtors are entitled to receive, along with the
holders of senior subordinated notes issued by the MHG Debtors prior to
bankruptcy, pro rata distributions of a $7.5 million cash fund. Holders of
senior subordinated notes issued by the MPAN Debtors prior to bankruptcy, are
entitled to receive pro rata distributions of 399,078 shares of New Common Stock
(approximately 2% of the New Common Stock issued on the Effective Date) and
warrants to purchase an additional 376,893 shares of the New Common Stock. Such
warrants have a per share exercise price of $28.04 and are exercisable for a
period of two years beyond the Effective Date. Holders of punitive damage claims
and securities damages claims received no distributions under the Joint Plan on
account of such claims.
Most other creditors holding allowed secured claims were, or will be,
unimpaired, paid in full, or have their collateral returned to them in
satisfaction of their allowed secured claims. Holders of allowed priority tax
claims and allowed other priority claims were, or will be, paid in full.
The holders of preferred stock, common stock, warrants and options to
purchase common stock of the Company prior to the Effective Date did not, and
will not, receive any distributions under the Joint Plan. On the Effective Date,
MHG was merged out of existence and its direct and indirect
8
subsidiaries remained direct or indirect subsidiaries of the Reorganized
Company, as set forth in a corporate restructuring program implemented by the
Company in connection with the Joint Plan and as described in more detail in the
Joint Plan. The Joint Plan contains various other provisions relating to, among
other things, executory contracts and leases, plan implementation, and other
matters that affected the rights of creditors and equity holders.
MATTERS RELATED TO EMERGENCE
In connection with the consummation of the Joint Plan, the Company
entered into a $297.0 million senior credit facility with a syndicate of lenders
(the "Senior Credit Facility"), dated as of the Effective Date, which provided
funds to satisfy certain obligations of the Predecessor Company to its creditors
under the Joint Plan, for general working capital purposes and for permitted
acquisitions. In connection with the issuance of the Second Priority Notes, the
Company entered into an indenture pertaining to such notes. See Note 5.
On the Effective Date, the Company filed a registration statement with
the SEC on Form 8-A to register the New Common Stock and warrants issued in
connection with the Joint Plan under Section 12(g) of the Securities Exchange
Act of 1934. In addition, the Form 8-A disclosed that the Company had filed its
Third Amended and Restated Certificate of Incorporation, which, among other
things, changed the number of authorized shares of capital stock to 90,000,000,
with 80,000,000 shares reserved for issuance as common stock, par value $.01 per
share, and 10,000,000 shares reserved for issuance as preferred stock, par value
$.01 per share. See Note 6.
In connection with the restructuring of its debt in accordance with the
provisions of the Joint Plan, the Company realized a gain of approximately $1.2
billion, which is included in reorganization items in the condensed consolidated
statements of operations. For accounting purposes, this gain has been reflected
in the operating results of the Predecessor Company for the one month ended
April 30, 2002. A summary of the gain follows (in thousands of dollars):
Liabilities subject to compromise:
Pre-petition senior credit facilities and term loans ............ $ 1,217,638
Pre-petition senior subordinated debt ........................... 597,328
Other pre-petition debt ......................................... 134,708
-----------
Long-term debt subject to compromise ........................ 1,949,674
Accounts payable and other accrued liabilities .................. 169,897
Accrued interest ................................................ 79,959
Deferred loan costs ............................................. (32,253)
-----------
Total liabilities subject to compromise .............................. 2,167,277
Less: Consideration exchanged:
Cash payments ................................................... 287,376
Value of secured, priority and other claims assumed ............. 140,232
Value of new Second Priority Notes .............................. 150,000
Value of Reorganized Company's common stock ..................... 359,177
Value of Reorganized Company's warrants ......................... 935
-----------
Gain on debt discharge ............................................... $ 1,229,557
===========
9
REORGANIZATION ITEMS
In accordance with SOP 90-7, the Company has recorded all transactions
incurred as a result of the bankruptcy filings as reorganization items. A
summary of the principal categories of reorganization items follows (in
thousands of dollars):
PREDECESSOR COMPANY
---------------------------------------------------------------------
ONE MONTH THREE MONTHS FOUR MONTHS SIX MONTHS
ENDED ENDED ENDED ENDED
APRIL 30, JUNE 30, APRIL 30, JUNE 30,
2002 2001 2002 2001
----------- ----------- ----------- --------
Professional fees ..................................... $ 39,559 $ 13,882 $ 67,976 $ 26,234
Net loss (gain) on divestitures ....................... (2,009) 4,251 10,766 (8,526)
Interest earned on accumulated cash resulting from
the Chapter 11 filings ............................. (169) (1,214) (648) (3,403)
Other reorganization costs ............................ 3,248 4,303 11,031 7,108
Gain on extinguishment of debt ........................ (1,229,557) -- (1,229,557) --
Fresh-start valuation adjustments ..................... (253,877) -- (253,877) --
----------- ----------- ----------- --------
$(1,442,805) $ 21,222 $(1,394,309) $ 21,413
=========== =========== =========== ========
NOTE 4 FRESH-START REPORTING
As previously discussed, in accordance with SOP 90-7, the Company adopted
the provisions of fresh-start reporting as of May 1, 2002. In adopting the
requirements of fresh-start reporting, the Company engaged an independent
financial advisor to assist in the determination of the reorganization value or
fair value of the entity. The independent financial advisor determined an
estimated reorganization value of approximately $816.8 million before
considering any long-term debt or other obligations assumed in connection with
the Joint Plan. This estimate was based upon various valuation methods,
including discounted projected cash flow analysis, selected comparable market
multiples of publicly traded companies, and other applicable ratios and economic
industry information relevant to the operations of the Company, and through
negotiations with the various creditor parties in interest. The estimated total
equity value of the Reorganized Company aggregating approximately $326.2 million
was determined after taking into account the values of the obligations assumed
in connection with the Joint Plan.
The following reconciliation of the Predecessor Company's consolidated
balance sheet as of April 30, 2002 to that of the Reorganized Company as of May
1, 2002 was prepared to present the adjustments that give effect to the
reorganization and fresh-start reporting.
The adjustments entitled "Reorganization" reflect the consummation of the
Joint Plan, including the elimination of existing liabilities subject to
compromise, and consolidated shareholders' deficit, and to reflect the
aforementioned $816.8 million reorganization value, which includes the
establishment of $265.0 million of reorganization value in excess of amounts
allocable to net identifiable assets.
The adjustments entitled "Fresh-Start Adjustments" reflect the adoption
of fresh-start reporting, including the adjustments to record property and
equipment and identifiable intangible assets at their fair values. The assets
and liabilities have been recorded at their fair values based on a preliminary
allocation. Management estimated the fair value of the Company's assets and
liabilities by utilizing both independent appraisals and commonly used
discounted cash flow valuation methods.
Certain of the Company's wholly owned subsidiaries and consolidated joint
ventures did not file for protection under Chapter 11. The non-filing
subsidiaries are not subject to the fresh-start reporting provisions under SOP
90-7 and, consequently, their balance sheets are reflected in the consolidated
balance sheet at historical carrying value.
10
A reconciliation of fresh-start accounting recorded as of May 1, 2002
follows (in thousands of dollars):
PREDECESSOR REORGANIZED
COMPANY COMPANY
----------- ------------
APRIL 30, FRESH-START MAY 1,
2002 REORGANIZATION ADJUSTMENTS RECLASSIFICATIONS 2002
----------- -------------- ----------- ----------------- -----------
ASSETS
Current assets:
Cash and cash
equivalents ................. $ 202,338 $ (111,078) $ -- $ -- $ 91,260
Receivables ................... 232,162 3,640 -- -- 235,802
Inventories ................... 7,631 -- -- -- 7,631
Other current assets .......... 28,918 -- -- -- 28,918
----------- ----------- --------- ----------- -----------
Total current assets ........ 471,049 (107,438) -- -- 363,611
Property and equipment,
net ........................... 416,369 -- 160,353 -- 576,722
Reorganization value in
excess of amounts
allocable to
identifiable assets ........... -- 264,954 -- -- 264,954
Goodwill ........................ 186,543 -- (179,746) -- 6,797
Restricted investments .......... 34,054 16,453 -- -- 50,507
Other assets .................... 29,251 5,924 (8,461) -- 26,714
----------- ----------- --------- ----------- -----------
$ 1,137,266 $ 179,893 $ (27,854) $ -- $ 1,289,305
=========== =========== ========= =========== ===========
Current liabilities:
Current maturities of
long-term debt .............. $ -- $ -- $ -- $ 6,220 $ 6,220
Accounts payable .............. 54,100 -- -- -- 54,100
Accrued compensation
and benefits ................ 90,776 -- -- -- 90,776
Accrued insurance
obligations ................. 24,826 -- -- -- 24,826
Other current
liabilities ................. 110,229 7,158 (1,897) (16,250) 99,240
----------- ----------- --------- ----------- -----------
Total current liabilities ... 279,931 7,158 (1,897) (10,030) 275,162
Liabilities subject to
compromise .................... 2,167,277 (2,167,277) -- -- --
Long-term debt, net of
current maturities ............ 59,688 430,955 -- (6,220) 484,423
Long-term insurance
reserves ...................... 119,002 58,268 -- -- 177,270
Other liabilities ............... 18,497 1,901 (10,402) 16,250 26,246
----------- ----------- --------- ----------- -----------
2,644,395 (1,668,995) (12,299) -- 963,101
Stockholders' equity
(deficit):
Reorganized Company
common stock ................ -- 200 -- -- 200
Predecessor Company
common stock ................ 737 (737) -- -- --
Reorganized Company
warrants to purchase
common stock ................ -- 935 -- -- 935
Capital in excess of
par value ................... 980,952 359,714 -- (981,689) 358,977
Retained earnings
(accumulated deficit) ....... (2,488,644) 1,488,776 (15,555) 981,689 (33,734)
Accumulated other
comprehensive loss .......... (174) -- -- -- (174)
----------- ----------- --------- ----------- -----------
$ 1,137,266 $ 179,893 $ (27,854) $ -- $ 1,289,305
=========== =========== ========= =========== ===========
11
PRO FORMA INFORMATION
The unaudited condensed consolidated pro forma effect of the Joint Plan
assuming that the Effective Date occurred on January 1, 2001 follows (in
thousands of dollars, except per share amounts):
REORGANIZED
COMPANY AND
PREDECESSOR
COMPANY PREDECESSOR
COMBINED COMPANY
------------- -------------
SIX MONTHS SIX MONTHS
ENDED ENDED
JUNE 30, 2002 JUNE 30, 2001
------------- -------------
Revenues............................................. $896,525 $937,892
Income from continuing operations.................... 18,458 30,427
Income (loss) from operations of discontinued
pharmacy operations................................ -- (757)
Gain on sale of discontinued pharmacy operations..... 29,082 --
Net income .......................................... 47,540 29,670
Earnings per share:
Income from continuing operations.................... $ 0.92 $ 1.52
Income (loss) from operations of discontinued
pharmacy operations................................ -- (0.04)
Gain on sale of discontinued pharmacy operations..... 1.45 --
Net income........................................... 2.38 1.48
The unaudited condensed consolidated pro forma results exclude
reorganization items recorded prior to May 1, 2002. The pro forma results are
not necessarily indicative of the financial results that might have resulted
had the effective date of the Joint Plan actually occurred on January 1, 2001.
NOTE 5 LONG-TERM DEBT
A summary of long-term debt as of June 30, 2002 and December 31, 2001
follows (in thousands of dollars):
REORGANIZED | PREDECESSOR
COMPANY | COMPANY
----------- | ------------
JUNE 30, | DECEMBER 31,
2002 | 2001
----------- | -----------
(UNAUDITED) |
|
Secured debt: |
Senior Credit Facility: |
Term Loans .......................................................... $ 211,470 | --
Second Priority Notes .................................................. 150,000 | --
Pre-petition senior credit facilities .................................. -- | 1,301,982
Non-recourse indebtedness of subsidiary ................................ 59,688 | 59,688
Mortgage notes payable and capital leases .............................. 68,213 | 127,442
Unsecured debt: |
Prepetition senior subordinated debt, net of unamortized discounts ..... -- | 597,328
Prepetition notes payable and other unsecured debt ..................... -- | 25,978
----------- | -----------
489,371 | 2,112,418
Less: current maturities ................................................. (6,152) | --
Less: amounts subject to compromise ...................................... -- | (2,052,730)
----------- | -----------
Long-term debt ...................................................... $ 483,219 | $ 59,688
=========== | ===========
SENIOR CREDIT FACILITY
As previously noted, on the Effective Date, and in connection with the
consummation of the Joint Plan, the Company entered into the Senior Credit
Facility with a syndicate of lenders consisting of (i) an $85.0 million
revolving credit facility (the "Revolving Credit Facility"); and (ii) a $212.0
million six-year term loan facility (the "Term Loans"). Outstanding amounts
under the Senior Credit Facility bear interest, at the Company's election, at a
eurodollar rate or an alternate base rate, in each case, plus an applicable
margin, which ranges from 1.25%-2.25%
12
for base rate loans and 2.25%-3.25% for eurodollar loans. The interest rate on
the Term Loans was 5.125% at June 30, 2002. The applicable margin for loans
under the Revolving Credit Facility is based upon a performance related grid.
The Senior Credit Facility is guaranteed by substantially all of the
Company's direct and indirect wholly owned subsidiaries and is secured by a
perfected first priority lien or security interest (junior only to liens in
connection with certain third party mortgage loans and other permitted liens) in
substantially all of the Company's tangible and intangible assets. The Senior
Credit Facility limits, among other things, the Company's ability to incur
additional indebtedness or contingent obligations, permit additional liens, make
additional acquisitions, sell or dispose of assets, pay dividends on common
stock, and merge or consolidate with any other person or entity. In addition,
the Senior Credit Facility, which contains customary representations and
warranties, requires the Company to maintain compliance with certain financial
covenants, including minimum EBITDA (as defined in the Senior Credit Facility),
maximum leverage ratios, minimum fixed charge coverage ratios, and maximum
capital expenditures.
The Revolving Credit Facility is available for general corporate
purposes, including working capital and permitted acquisitions. Usage under the
Revolving Credit Facility, which matures on May 13, 2007, is subject to a
borrowing base calculation based upon both a percentage of the Company's
eligible accounts receivable and a percentage of the real property collateral
value of substantially all of the Company's SNFs. No borrowings were outstanding
under the Revolving Credit Facility as of June 30, 2002, but approximately $8.7
million of letters of credit were outstanding under the Revolving Credit
Facility on that date.
Proceeds of the Term Loans were used to fund the Company's obligations
under the Joint Plan and to pay in cash all or a portion of certain claims of
pre-petition senior credit facility lenders and mortgage lenders. The Term Loans
amortize in quarterly installments at a rate of 1% per year, payable on the last
day of each fiscal quarter beginning June 30, 2002, and mature on May 13, 2008.
The Term Loans can be prepaid at the Company's option without penalty or
premium. In addition, the Term Loans are subject to mandatory prepayment: (i)
from the proceeds of certain asset sales which are not used within 180 days of
receipt to acquire long-term useful assets of the general type used in the
Company's business; (ii) from the proceeds of certain casualty insurance and
condemnation awards, the proceeds of which are not used within 360 days of
receipt for the repair, restoration or replacement of the applicable assets or
for the purchase of other long-term useful assets of the general type used in
the Company's business; and (iii) from the proceeds of the issuance of certain
equity securities and certain debt. The Term Loans are also subject to annual
mandatory prepayment to the extent of 75% of the Company's consolidated excess
cash flow.
Pursuant to the First Amendment to Credit and Guaranty Agreement dated as
of August 9, 2002, approved by the requisite Senior Credit Facility lenders, the
terms of the Senior Credit Facility were modified to, among other things, extend
to February 13, 2003 the deadline for the Company to cause the interest rates on
at least 50% of its total funded debt to be effectively fixed, whether through
interest rate protection agreements or otherwise.
In connection with entering into the Senior Credit Facility, the Company
incurred deferred financing costs of approximately $6.4 million, which will be
amortized using the effective interest method over the life of the Senior Credit
Facility.
SECOND PRIORITY NOTES
As previously noted, on the Effective Date, and in connection with the
consummation of the Joint Plan, the Company entered into an indenture (the
"Indenture") with The Bank of New York, as Trustee, pursuant to which the
Company issued the Second Priority Notes in the aggregate principal amount of
$150.0 million. The Second Priority Notes bear interest at a three-month London
Inter-Bank Offered Rate ("LIBOR") plus 550 basis points (7.44% at June 30, 2002)
and mature on May 13, 2009. The Second Priority Notes are secured by a junior
lien on substantially all of the Company's tangible and intangible assets,
subject to liens granted to the lenders' interest in the Senior Credit Facility,
liens granted to secure certain third party mortgage loans and other permitted
liens. The Second Priority Notes may be prepaid at any time without penalty,
subject to restrictions in place under the Senior Credit Facility. The Indenture
includes affirmative and negative covenants customary for similar financings,
including,
13
without limitation, restrictions on additional indebtedness, liens, restricted
payments, investments, asset sales, affiliate transactions and the creation of
unrestricted subsidiaries.
NON-RECOURSE INDEBTEDNESS OF SUBSIDIARY
One of the Company's wholly owned subsidiaries, Professional Health Care
Management, Inc. ("PHCMI") is the borrower under an approximately $59.7 million
mortgage loan from Omega Healthcare Investors, Inc. ("Omega") that was
restructured as part of the Company's Chapter 11 Cases. The mortgage loan (the
"Omega Loan") bears interest at a rate of 11.57% per annum, and provides for
interest-only payments until its scheduled maturity on August 31, 2010. The
maturity date of the Omega Loan may be extended at PHCMI's option until August
31, 2021. Prior to maturity, the Omega Loan is not subject to prepayment at the
option of PHCMI except (a) between February 1, 2005 and July 31, 2005, at 103%
of par (notice of which prepayment must be given by December 31, 2004), and (b)
within six months prior to the scheduled maturity date, at par, in each case
plus accrued and unpaid interest. Omega is also entitled to receive an annual
amendment fee equal to 25% of the free cash flow from the Omega Facilities (as
defined below).
The Omega Loan is guaranteed by PHCMI and its subsidiaries (the "PHCMI
Entities"), and is secured by liens and security interests on all or
substantially all of the real property and personal property of the PHCMI
Entities, including nine SNFs located in Michigan and three others in North
Carolina (collectively, the "Omega Facilities"). The Omega Loan constitutes
non-recourse indebtedness to all of the other subsidiaries of the Company, none
of which have guaranteed the Omega Loan or pledged assets to secure the Omega
Loan, other than the pledge of PHCMI's issued and outstanding capital stock. In
addition, neither PHCMI nor any of the PHCMI Entities have guaranteed either the
Senior Credit Facility or the Second Priority Notes, nor have they pledged their
assets for such indebtedness. The Omega Loan restricts the extent to which the
PHCMI Entities can incur other indebtedness, including intercompany indebtedness
from PHCMI's shareholders.
SCHEDULED MATURITIES OF LONG-TERM DEBT
The scheduled maturities of long-term debt at June 30, 2002 are as
follows for the periods indicated (in thousands of dollars):
REORGANIZED
COMPANY
-------------
JUNE 30,
2002
-------------
Year 1 $ 6,152
Year 2 25,163
Year 3 11,983
Year 4 11,165
Year 5 5,897
Thereafter 429,011
-------------
$ 489,371
=============
At June 30, 2002, the Company had outstanding letters of credit
aggregating approximately $29.1 million of which approximately $20.4 million
were issued prior to the Effective Date and were collateralized with
approximately $21.5 million of cash in accordance with the Joint Plan. The
remaining $8.7 million of letters of credit were issued after the Effective Date
pursuant to the Senior Credit Facility and are not cash collateralized. The
$20.4 million in cash collateralized letters of credit included an approximately
$7.8 million letter of credit that had been replaced by a non-cash
collateralized letter of credit issued under the Revolving Credit Facility prior
to June 30, 2002, but was not surrendered for cancellation until after
quarter-end. Since June 30, 2002, the Company has replaced more of the cash
collateralized letters of credit and has obtained an additional $4.25 million
letter of credit. As of August 21, 2002, the Company has approximately $34.3
million of letters of credit outstanding. Approximately $11.7 million of that
amount was issued under pre-Effective Date credit facilities and are secured by
approximately $12.3 million in cash collateral (including approximately $8.7
million in letters of credit that expire September 2, 2002 and have been
replaced by letters of credit issued under the Revolving Credit Facility). The
remaining $22.6 million in letters of credit are non-cash collateralized
letters of credit issued under the Revolving Credit Facility.
14
PREPETITION DEBT - PREDECESSOR COMPANY
In connection with the Chapter 11 Cases, no principal or interest
payments were made on the Company's prepetition indebtedness with the exception
of repayments made against the Company's prepetition senior credit facilities,
primarily as a result of the application of a portion of the cash proceeds
received from the sale of certain facilities and other assets, adequate
protection payments with regard to certain mortgaged facilities, and notional
amounts related to certain capital equipment leases as adequate protection
payments.
As previously discussed, pursuant to the Joint Plan, the principal
lenders under the Debtors' prepetition senior credit facilities received, among
other things, (i) $275.0 million of cash; (ii) $150.0 million in principal
amount of the Second Priority Notes; and (iii) 19.2 million shares of the
Reorganized Company's common stock. Most Project Lenders received consensual
treatment as provided in the Joint Plan, which included, among other things, (i)
cash payments of $12.3 million; (ii) the restructuring of certain mortgages; and
(iii) agreements to surrender certain SNFs and other collateral in satisfaction
of mortgages on those SNFs. Holders of senior subordinated notes issued by the
MPAN Debtors prior to bankruptcy, are entitled to receive pro rata distributions
of 399,078 shares of New Common Stock and warrants to purchase an additional
376,893 shares of the New Common Stock. See Note 3.
DEBTOR-IN-POSSESSION FINANCING AGREEMENTS - PREDECESSOR COMPANY
On the Petition Date, the Bankruptcy Court entered into orders approving
(i) a $100.0 million debtor-in-possession financing facility for the MPAN
Debtors (the "MPAN DIP Financing") from a syndicate of lenders led by JP Morgan
Chase Bank (f/k/a The Chase Manhattan Bank, "Chase"), which was subsequently
replaced by Foothill Capital Corporation as administrative agent; and (ii) a
$50.0 million debtor-in-possession financing facility for the MHG Debtors (the
"MHG DIP Financing" and together with the MPAN DIP Financing, the "DIP
Financings") from a syndicate of lenders led by PNC Bank, National Association
("PNC"). In January 2001, the commitment under the MPAN DIP Financing was
reduced from $100.0 million to $50.0 million, and the commitment under the MHG
DIP Financing was reduced from $50.0 million to $25.0 million. Both the MPAN DIP
Financing and the MHG DIP Financing were terminated on the Effective Date, at
which time there were also no outstanding borrowings under either of the DIP
Financings. Approximately $12.6 million in outstanding letters of credit issued
for the account of the Debtors under the DIP Financings prior to the Effective
Date were terminated upon consummation of the Joint Plan and were cash
collateralized in accordance with the Joint Plan as a condition to its
consummation.
Interest was payable on the principal amount outstanding under the MPAN
DIP Financing at a per annum rate of interest equal to the Alternative Base Rate
of Chase plus three percent (3%) payable monthly in arrears. Interest was
payable on the principal amount outstanding under the MHG DIP Financing at a per
annum rate of interest equal to the base rate of PNC (i.e., the higher of the
PNC prime rate or a rate equal to the federal funds rate plus 50 basis points)
plus the applicable spread, which was 250 basis points. The obligations of the
MPAN Debtors under the MPAN DIP Financing were jointly and severally guaranteed
by each of the MPAN Debtors and were secured by liens and security interests on
substantially all of the real property and personal property assets of the MPAN
Debtors; the obligations of the MHG Debtors under the MHG DIP Financing were
jointly and severally guaranteed by each of the MHG Debtors and were secured by
liens and security interests on all or substantially all of the real property
and personal property assets of the MHG Debtors. The DIP Financings contained
customary representations, warranties, and other affirmative and restrictive
covenants.
NOTE 6 STOCKHOLDERS' EQUITY
As previously noted, as of the consummation of the Joint Plan on the
Effective Date, the authorized capital stock of the Reorganized Company consists
of 90,0000,000 shares with 80,000,000 shares reserved for issuance as common
stock, par value $0.01 per share, and 10,000,000 million shares reserved for
issuance as preferred stock, par value $0.01 per share. All shares of authorized
common stock and preferred stock of the Predecessor Company were cancelled as of
the Effective Date.
15
COMMON STOCK
As previously noted, the authorized common stock of the Reorganized
Company consists of 80,000,000 shares, $0.01 par vale per share, of which
20,000,000 were issued and outstanding following the initial distribution of
common shares in accordance with the Joint Plan. The issued and outstanding
shares of common stock are validly issued, fully paid and nonassessable. Common
stock holders are entitled to one vote per share for each share held of record
on all matters submitted to a vote of stockholders and are entitled to receive
ratably such dividends as may be declared by the Board of Directors out of funds
legally available therefor. There is no cumulative voting in the election of
directors. The Reorganized Company's new Senior Credit Facility and the
Indenture contain negative covenants that impose restrictions on, among other
things, the Company's ability to pay dividends (see Note 5). The Reorganized
Company does not plan to pay dividends on the New Common Stock for the
foreseeable future. In the event of a liquidation, dissolution or winding up
of the Company, holders of common stock have the right to receive all assets
available for distribution to stockholders (after payment of liabilities and
subject to the prior rights of any holders of preferred stock then outstanding).
The common stock holders have no preemptive rights and no rights to require the
redemption of the New Common Stock.
WARRANTS
In connection with the Joint Plan, the Reorganized Company issued
warrants in consideration of the claims held by creditors in connection with the
Chapter 11 Cases representing the right to purchase an aggregate of 753,786
shares of New Common Stock, subject to adjustment under certain circumstances.
The initial per share exercise price of the warrants is $28.04. The exercise
period for the warrants began on the Effective Date and expires on May 13, 2004.
Each warrant not exercised prior to the expiration of this period will become
void, and all rights thereunder will terminate. An assumed exercise of all
warrants would result in cash proceeds to the Company of approximately $21.1
million. The warrants were recorded at fair value as consideration exchanged on
the extinguishment of debt.
STOCK OPTIONS
The Reorganized Company has stock option plans for key employees and
outside directors which authorize the granting of stock options to purchase up
to approximately 2,153,000 shares of common stock. Each option granted as of
June 30, 2002 has a maximum term of 10 years. Employee options granted as of
June 30, 2002 vest ratably over four years except that 439,560 of the options
granted to the Reorganized Company's CEO vest at the rate of 8.33% per calendar
quarter with any remaining options vesting at the end of three years. Options
granted to outside directors as of June 30, 2002, were 25% vested on the date of
grant with the remaining options vesting ratably over three years. At June 30,
2002, there are approximately 1,888,000 options granted and outstanding. To date
each option has been granted with an exercise price of 20.12, which was above
fair market value on the date of grant. There were 37,500 options that were
exercisable at June 30, 2002.
For purposes of pro forma disclosures of net income (loss) and earnings
per share as required by SFAS 123, the estimated fair value of the options is
amortized to expense over the option's vesting period. The fair value for these
options was estimated at the date of grant using Black-Scholes option pricing
model with the following weighted-average assumptions: risk-free interest rates
ranging from 4.7%; a dividend yield of 0.0%; volatility factors of the expected
market price of the Company's common stock of 0.51 and a weighted-average
expected life of the options of six years.
The Black-Scholes option valuation model was developed for use in
estimating the fair value of traded options which have no vesting restrictions
and are fully transferable. In addition, option valuation models require the
input of highly subjective assumptions including the expected stock price
volatility. Because the Company's employee and director stock options have
characteristics significantly different from those of traded options, and
because changes in the subjective input assumptions can materially affect the
fair value estimate, in management's opinion, the existing models do not
necessarily provide a reliable single measure of the fair value of its employee
stock options.
The Company accounts for employee stock options in accordance with APB 25
and related interpretations. Accordingly, the Company recognizes no compensation
expense for the stock option grants. In accordance with SFAS 123, the Company's
pro forma net income, assuming the election had been made to recognize
compensation expense on stock-based awards would have been approximately $7.5
million, or $0.37 per share for the two months ended June 30, 2002.
NOTE 7 DIVESTITURES AND CASUALTY GAIN
DISCONTINUED OPERATIONS
On January 6, 2002, the Company consummated the sale of its institutional
pharmacy services business (the "APS Division") to Omnicare, Inc. and its wholly
owned affiliate, APS Acquisition LLC (collectively, "Omnicare"). During the
quarter ended December 31, 2001, the Company, including certain of its
subsidiaries, received the approval of the Bankruptcy Court to sell the APS
Division, subject to an auction and overbidding process under the supervision of
the Bankruptcy Court. As a result, an auction of the assets comprising the APS
Division was held on December 4, 2001, at which time, following competitive
bidding at the auction, Omnicare was determined to have made the highest and
best bid for the assets of the APS Division. On December 5, 2001, the Bankruptcy
Court approved the sale of the APS Division to Omnicare for a cash closing price
of $97.0 million (subject to adjustments as provided in the relevant asset
purchase agreement and expected to be finalized in the Company's fiscal year
ended December 31, 2002) and up to $18.0 million in future payments, depending
upon certain post-closing operating results of the APS Division. During the four
months ended April 30, 2002, the Company realized a gain on the sale of the APS
Division of approximately $29.1 million.
16
The Company has reclassified its prior consolidated financial statements
to present the operating results of the APS Division as a discontinued
operation. Operating results for the APS Division are as follows for the periods
indicated (in thousands of dollars):
PREDECESSOR COMPANY
---------------------------------
THREE MONTHS SIX MONTHS
ENDED ENDED,
JUNE 30, JUNE 30,
2001 2001
------------ ----------
Net revenues ......................................................... $ 54,311 $ 107,423
Total costs and expenses ............................................. 54,010 107,621
-------- ---------
Operating income (loss) .............................................. 301 (198)
Other expenses ....................................................... (89) (559)
-------- ---------
Income (loss) from operations of discontinued pharmacy operations .... $ 212 $ (757)
======== =========
OTHER DIVESTITURES
During the four months ended April 30, 2002, the Company completed the
sale or divestiture of approximately 20 owned or leased SNFs and certain assets,
which resulted in a net loss of approximately $10.8 million and is included in
net loss (gain) on divestitures within reorganization items. These facilities
reported net revenues of approximately $13.0 million and $0.6 million for the
four months ended April 30, 2002 and one month ended April 30, 2002,
respectively. In addition, these facilities reported net revenues of
approximately $15.4 million and $30.3 million for the three and six months ended
June 30, 2001, respectively. The Company anticipates that in the aggregate,
these divestitures will improve operating results in the future.
During the six months ended June 30, 2001, the Company completed the sale
or divestiture of approximately 18 owned or leased SNFs and certain assets,
which resulted in a net gain of approximately $8.5 million. These facilities
reported net revenues of approximately $3.3 million and $16.3 million for the
three and six months ended June 30, 2001, respectively. The Company anticipates
that in the aggregate, these divestitures will improve operating results in
future periods.
CASUALTY GAIN
During April 2002, the Company recorded a net gain of approximately $1.5
million relating to certain owned and leased facilities that were damaged by
floods. The net gain is included in other income and is comprised of a gain of
approximately $14.4 million relating to owned and capital leased facilities
whose net carrying value was less than the insurance proceeds expected to be
received offset by a loss of approximately $12.9 million relating to operating
leased facilities whose estimated costs to repair are in excess of the expected
insurance proceeds to be received.
NOTE 8 REVENUES
Net revenues include amounts payable for services rendered to patients
from the federal government under Medicare, from the various states where the
Company operates under Medicaid, and from private insurers and the patients
themselves. The sources and amounts of the Company's patient revenues are
determined by a number of factors, including, licensed bed capacity of its
facilities, occupancy rate, payor mix, type of services rendered to the patient,
and rates of reimbursement among payor categories (private, Medicare, and
Medicaid). Changes in the mix of the Company's patients among the private pay,
Medicare and Medicaid categories, as well as changes in the quality mix,
significantly affect the profitability of the Company's operations.
17
A summary of approximate net revenues by payor type follows for the
periods indicated (in thousands of dollars):
REORGANIZED |
COMPANY | PREDECESSOR COMPANY
---------------| ---------------------------------------------------------------
TWO MONTHS | ONE MONTH THREE MONTHS FOUR MONTHS SIX MONTHS
ENDED | ENDED ENDED ENDED ENDED
JUNE 30, | APRIL 30, JUNE 30, APRIL 30, JUNE 30,
2002 | 2002 2001 2002 2001
-------------- | -------------- -------------- -------------- --------------
|
Medicaid............................ $ 142,508 | $ 69,819 $ 222,919 $ 287,073 $ 449,159
Medicare............................ 99,337 | 50,447 151,672 207,286 295,392
Private and other................... 53,243 | 26,552 95,630 107,078 193,341
-------------- | -------------- -------------- -------------- --------------
$ 295,088 | $ 146,818 $ 470,221 $ 601,437 $ 937,892
============== | ============== ============== ============== ==============
NOTE 9 COMPREHENSIVE INCOME
Comprehensive income (loss) includes net income (loss), as well as
charges and credits to stockholders' equity (deficit) not included in net income
(loss). The components of comprehensive income (loss), net of income taxes,
consist of the following for the periods indicated (in thousands of dollars):
REORGANIZED |
COMPANY | PREDECESSOR COMPANY
-------------- | -----------------------------------------------------------------------
TWO MONTHS | ONE MONTH THREE MONTHS FOUR MONTHS SIX MONTHS
ENDED | ENDED ENDED ENDED ENDED
JUNE 30, | APRIL 30, JUNE 30, APRIL 30, JUNE 30,
2002 | 2002 2001 2002 2001
-------------- | -------------- -------------- -------------- --------------
|
Net income (loss)................... $ 7,894 | $ 1,448,536 $ (4,919) $ 1,433,955 $ 8,257
Net unrealized gains (losses) on |
available-for-sale securities.... 137 | (172) 1,036 (603) 1,188
-------------- | -------------- -------------- -------------- --------------
Comprehensive income (loss)......... $ 8,031 | $ 1,448,364 $ (3,883) $ 1,433,352 $ 9,445
============== | ============== ============== ============== ==============
18
NOTE 10 EARNINGS PER SHARE
The following table sets forth the computation of basic and diluted
earnings per share for the periods indicated (in thousands, except per share
data) in accordance with Statement of Financial Accounting Standards No. 128,
"Earnings per Share":
REORGANIZED |
COMPANY | PREDECESSOR COMPANY
----------- | --------------------------------------------------------------
TWO MONTHS | ONE MONTH THREE MONTHS FOUR MONTHS SIX MONTHS
ENDED | ENDED ENDED ENDED ENDED
JUNE 30, | APRIL 30, JUNE 30, APRIL 30, JUNE 30,
2002 | 2002 2001 2002 2001
---------- | --------- ------------ ----------- ----------
|
Numerator for basic and diluted |
(loss) income per share: |
(Loss) income from continuing |
operations ..................... $ 7,894 | $1,440,840 $ (5,131) $1,404,873 $ 9,014
Discontinued operations: |
Loss from operations of |
discontinued pharmacy |
operations ................... -- | -- 212 -- (757)
Gain on sale of discontinued |
pharmacy operations .......... -- | 7,696 -- 29,082 --
------- | ---------- -------- ---------- --------
Net (loss) income ................ $ 7,894 | $1,448,536 $ (4,919) $1,433,955 $ 8,257
======= | ========== ======== ========== ========
|
Denominator: |
Denominator for basic (loss) |
income per share--weighted |
average shares ................. 20,000 | 73,688 73,688 73,688 73,688
Effect of dilutive |
securities--stock options ...... -- | -- -- -- --
------- | ---------- -------- ---------- --------
Denominator for diluted (loss) |
income per share--adjusted |
weighted average shares and |
assumed conversions ............ 20,000 | 73,688 73,688 73,688 73,688
======= | ========== ======== ========== ========
|
(Loss) earnings per share--basic |
and diluted: |
(Loss) income from continuing |
operations ..................... $ 0.39 | $ 19.55 $ (0.07) $ 19.07 $ 0.12
Discontinued operations: |
Loss from operations of |
discontinued pharmacy |
operations ................... -- | -- -- -- (0.01)
Gain on sale of discontinued |
pharmacy operations .......... -- | 0.10 -- 0.39 --
------- | ---------- -------- ---------- --------
Net (loss) income per share ...... $ 0.39 | $ 19.65 $ (0.07) $ 19.46 $ 0.11
======= | ========== ======== ========== ========
The effect of dilutive securities for all periods presented has been
excluded because the effect is antidilutive.
NOTE 11 INCOME TAXES
Due to the Company's NOLs, it does not expect to pay income taxes
regarding any net profits generated during the period prior to May 1, 2002.
Subsequent to the Company's emergence from bankruptcy, the Company recorded $5.3
million of income tax expense on profits generated from operations. The Company
has not reduced its deferred asset valuation allowance for current profits due
to the uncertainty of the realization of the asset.
19
|
|
|
|
In connection with the reorganization, the Company realized a gain from
the extinguishment of indebtedness of approximately $1.2 billion. This gain will
not be taxable since the gain resulted from the reorganization of the Company
under the Bankruptcy Code. However, the Company will be required, as of the
beginning of its 2003 taxable year, to reduce its tax attributes including: (a)
NOLs; (b) tax credits; and (c) tax bases in assets in an amount equal to such
gain on extinguishment. The Company has approximately $835.0 million of NOLs as
of December 31, 2001, which will expire at various dates through 2021.
The reorganization of the Company on the Effective Date constituted an
ownership change under Section 382 of the Internal Revenue Code ("Section 382"),
which imposes annual limitations on the utilization of loss carryforwards after
certain ownership changes. However, if certain historical creditor tests are
met, the annual limitation imposed by Section 382 resulting from the
reorganization will not apply. The Company believes it meets the required tests
but is currently in the process of undertaking a more complete analysis. If the
tests are met, the NOLs must be reduced by interest deducted for income tax
purposes for the period from October 1, 1998 through the change date on
indebtedness that was converted into stock pursuant to the Joint Plan. The
Company currently estimates that the NOLs will be reduced by approximately
$309.0 million pursuant to the provisions above.
NOTE 12 LITIGATION
As is typical in the healthcare industry, the Company is and will be
subject to claims that its services have resulted in resident injury or other
adverse effects, the risks of which will be greater for higher acuity residents
receiving services from the Company than for other long-term care residents. In
addition, resident, visitor, and employee injuries will also subject the Company
to the risk of litigation. The Company has experienced an increasing trend in
the number and severity of litigation claims asserted against the Company. This
trend is endemic to the long-term care industry and is a result of the
increasing number of large judgments, including large punitive damage awards,
against long-term care providers in recent years resulting in an increased
awareness by plaintiffs' lawyers of potentially large recoveries. In certain
states in which the Company has significant operations, insurance coverage for
the risk of punitive and certain other damages arising from general and
professional liability litigation may not be available in certain circumstances.
There can be no assurance that the Company will not be liable for punitive
damages awarded in litigation for which insurance coverage is not available. The
Company also believes that there has been, and will continue to be, an increase
in governmental investigations of long-term care providers, particularly in the
area of Medicare/Medicaid false claims, as well as an increase in enforcement
actions resulting from these investigations. While the Company believes that it
provides quality care to the patients in its facilities and materially complies
with all applicable regulatory requirements, an adverse determination in a legal
proceeding or governmental investigation could have a material adverse effect on
the Company.
From time to time, the Company and its subsidiaries have been parties to
various legal proceedings in the ordinary course of their respective businesses.
In the opinion of management, except as described below, there are currently no
proceedings which, individually, if determined adversely to the Company, and
after taking into account the insurance coverage maintained by the Company,
would have a material adverse effect on the Company's financial position or
results of operations. Although the Company believes that any of the proceedings
not discussed below will not individually have a material adverse impact on the
Company if determined adversely to the Company, settling a large number of cases
within the Company's $1.0 million self-insured retention limit could have a
material adverse effect on the Company.
The Company and its subsidiaries have reached a settlement with the
United States to resolve certain United States Claims against the Company and
its subsidiaries arising prior to the Petition Date (the "Global Settlement").
United States Claims are those claims or causes of action against the Company
asserted by or on behalf of the United States (including all of its agencies,
departments, agents, fiscal intermediaries, employees, assigns, or third parties
under 31 U.S.C. ss. 3730(b) or (d), and also including all qui tam actions)
seeking payments, damages, offsets, recoupments, penalties, attorneys' fees,
costs, expenses of any kind, or other remedies of any kind: (i) under the False
Claims Act, 31 U.S.C. ss.ss. 3729-3733; the Civil Monetary Penalties Law, 42
U.S.C. ss. 1320a-7a; and the Program Fraud Civil Remedies Act, 31 U.S.C. ss.ss.
3801-3812; and/or other statutory or common law doctrines of payment by mistake,
unjust enrichment, breach of contract, or fraud; (ii) for administrative
overpayments, including claims or causes of action for services rendered or
products supplied under Medicare, under the TRICARE Program, 10 U.S.C. ss.ss.
1071-1106, or any other federal health program; (iii) for civil monetary
penalties imposed pursuant to
20
42 U.S.C. ss.1395i-3(h)(2)(B)(ii) and 42 U.S.C. ss. 1396r(h)(2)(A)(ii) or other
applicable law; (iv) arising under any provider agreement or similar agreement
with the United States; and (v) for permissive exclusion from Medicare,
Medicaid, and other federal health programs (as defined in 42 U.S.C. ss.
1320a-7b(f) and under 42 U.S.C. ss. 1320a-7(b) and 42 U.S.C. ss. 1320a-7a). The
Global Settlement was approved by the Bankruptcy Court on April 3, 2002.
Among other things, the Global Settlement provided that: (i) all Medicare
Claims and debts arising prior to the Petition Date were released as between the
Centers for Medicare and Medicaid Services ("CMS") and the Company; (ii) the
United States approved a settlement of Medicare administrative appeals related
to disallowances under the prudent buyer principle ("Prudent Buyer Settlement");
the Company waived its rights to collect any amounts due pursuant to the Prudent
Buyer Settlement; CMS adjusted certain Medicare prospective payment system
("PPS") base year cost reports so that certain SNF cost reports with fiscal
years ending December 31, 2001 and after are calculated accurately; (iii) CMS
will pay the Company $3.0 million; (iv) the Department of Justice released the
Company from certain "covered conduct" alleged within 6 qui tam lawsuits and
certain other disputes under the Federal False Claims Act; (v) the Company is
responsible for any attorney fees sought by qui tam relators' counsel and any
settlement will be negotiated by Company counsel; (vi) the United States waived
any claims for Medicare reimbursement for two voluntary disclosures made by the
Company to the United States; the United States also waived any Claims for
Medicare reimbursement related to an Office of Inspector General ("OIG")
investigation; (vii) the Company entered into a corporate integrity agreement
("CIA") with the OIG; (viii) the Company rejected and terminated certain
provider agreements for discontinued operations; (ix) the Company and the United
States agreed to a list of facilities that are included in this settlement; (x)
all prepetition cost years (i.e., cost years ending on or before the Petition
Date) were fully and finally resolved by the settlement; accordingly, the
Company withdrew all pending challenges to CMS' determinations relating to these
cost years, including, but not limited to, administrative appeals and requests
for reopening; (xi) for cost years that span the Petition Date CMS will finally
settle the cost reports for such "straddle" years, and the Company will retain
its rights to appeal or request the reopening of such years, but any relief
awarded to the Company relating to such years will be pro-rated so that the
prepetition portion is waived and the postpetition portion is preserved; and
(xii) as part of the cure for the assumption of Medicare provider agreements, or
in the case of any rejected and terminated provider agreements, the Company will
pay as an administrative expense any portion of a Medicare overpayment or civil
monetary penalty that accrued after the Petition Date.
The Company denies liability for the United States Claims. However, in
order to avoid the delay, uncertainty, inconvenience and expense of protracted
litigation, the parties have reached a negotiated settlement and compromise of
the United States Claims. The Global Settlement became effective on April 3,
2002. In accordance with accounting principles generally accepted in the United
States, the Company has recorded a charge of approximately $33.4 million
principally relating to the qui tam actions pertaining to the Global Settlement
in its statement of operations for the fourth quarter of the fiscal year ended
September 30, 2001.
On March 18, 1998, a complaint was filed under seal by a former
employee against the Company, certain of its predecessor entities and affiliates
in the United States District Court for the Northern District of Alabama,
alleging, inter alia, employment discrimination, wrongful discharge, negligent
hiring, violation of the Federal False Claims Act, and retaliation under the
False Claims Act. The action is titled Powell, et al. v. Paragon Health Inc., et
al., civil action No. CV-98-0630-S. This action has been settled between the
parties as part of the Global Settlement. Under the terms of the Global
Settlement, the plaintiff (relator) must shortly withdraw any proof of claim
filed in the bankruptcy and move for dismissal of this action.
On October 1, 1998, a class action complaint was asserted against certain
of the Company's predecessor entities and affiliates and certain other parties
in the Tampa, Florida, Circuit Court, Ayres, et al. v. Donald C. Beaver, et al.,
case no. 98-7233. The complaint asserted three claims for relief, including
breach of fiduciary duty against one group of defendants, breach of fiduciary
duty against another group of defendants, and civil conspiracy arising out of
issues involving facilities previously operated by the Brian Center Corporation
or one of its subsidiaries, and later by a subsidiary of LCA, a wholly-owned
subsidiary of the Company, as a result of the merger with Brian Center
Corporation. In accordance with the Company's voluntary filing under chapter 11
of the Bankruptcy Code, and more particularly, section 362 of the Bankruptcy
Code, all proceedings against the Company were stayed on January 18, 2000. In
exchange for the Company's agreement to lift the stay, the plaintiffs have
agreed to limit all recovery from the Company in this case to insurance
proceeds.
21
On November 16, 1998, a complaint was filed under seal by a former
employee against the Company, certain of its predecessor entities and affiliates
in the United States District Court for the Southern District of Texas, alleging
violation of the Federal False Claims Act. The action is titled United States ex
rel. Nelius, et al., v. Mariner Health Group, Inc., et al., civil action No.
H-98-3851. This action has been settled between the parties as part of the
Global Settlement. Under the terms of the Global Settlement, the plaintiff
(relator) must shortly withdraw any proof of claim filed in the bankruptcy. This
action has been dismissed.
On October 27, 1999, the Company was served with a Complaint in United
States ex rel. Cindy Lee Anderson Rutledge and Partnership for Fraud Analysis
and State of Florida ex rel. Cindy Lee Anderson Rutledge Group, Inc., ARA Living
Centers, Inc. and Living Centers of America, Inc., No. 97-6801, filed in the
United States District Court for the Eastern District of Pennsylvania. This
action originally was filed under seal on November 5, 1997, by relators Cindy
Lee Anderson Rutledge and the Partnership for Fraud Analysis under the Federal
False Claims Act and the Florida False Claims Act. The Complaint alleges that
the Company is liable under the Federal False Claims Act and the Florida False
Claims Act for alleged violations of regulations pertaining to the training and
certification of nurse aides at former LCA facilities. This action has been
settled between the parties as part of the Global Settlement. Under the terms of
the Global Settlement, the plaintiff (relator) must shortly withdraw any proof
of claim filed in the bankruptcy. This action has been dismissed.
On approximately January 20, 2000, the OIG issued subpoenas duces tecum
to the Company and Summit Medical Management (a subsidiary of the Company). The
subpoenas request documents relating to the purchase of Summit Medical
Management and other subsidiaries. In addition, the subpoenas request other
broad categories of documents. As part of the Global Settlement negotiations,
the Company was informed that a complaint had been filed, United States ex rel
Weatherford v. Summit Institute of Pulmonary Medicine and Rehabilitation, et al.
(N.D.Ga.). The federal government informed the Company that this matter involves
claims under the Federal Civil False Claims Act against a Company subsidiary and
another health care provider. The complaint alleges that the Company improperly
accounted for a loan in cost reports submitted on behalf of the Summit Institute
of Pulmonary Medicine and Southwest Medical Center by Forum Health, which
falsely represented that payments of principal and interest had been made. This
action has been settled between the parties as part of the Global Settlement.
Under the terms of the Global Settlement, the plaintiff (relator) must shortly
withdraw any proof of claim filed in the bankruptcy and move for the dismissal
of this action (as to the Company).
On approximately August 31, 2000, the United States Attorney for Eastern
District of Michigan issued a subpoena duces tecum to Cambridge East Health Care
Center, one of the Company's SNFs. The subpoena requested medical records and
other broad categories of documents. The Company produced a substantial amount
of documents responsive to the subpoena. Civil aspects of this investigation
were settled as part of the Global Settlement. On June 10, 2002, the United
States Department of Justice informed the Company that the remaining aspects of
the investigation were now closed.
On approximately June 8, 1999, December 13, 2000, and October 16, 2001,
the OIG issued subpoenas duces tecum to Mariner of Catonsville, one of the
Company's SNFs. The subpoenas request medical records pertaining to residents
and employment and business records. The subpoenas also request other broad
categories of documents. The Company produced a substantial amount of documents
responsive to the subpoenas. This investigation has been resolved as part of the
Global Settlement.
In connection with negotiating the Global Settlement, the Company was
apprised of an action entitled United States ex rel. Carroll. v. Living Centers
of America, et al., No. 97-cv-2606 (M.D. Fla.). This matter involves claims
under the Federal Civil False Claims Act against a number of the Company's
subsidiaries and other health care providers. The complaint alleges that certain
of the Company's facilities engaged in fraudulent practices which resulted in
their filing false claims with the federal government in connection with
reimbursement for durable medical supplies under the Medicare program. The
complaint also alleges that certain of the Company's facilities engaged in a
reimbursement scheme whereby the facility entered into an illegal referral
arrangement involving waiver of co-insurance payments. This action has been
settled between the parties as part of the Global Settlement. Under the terms of
the Global Settlement, the plaintiff (relator) must shortly withdraw any proof
of claim filed in the bankruptcy and move for the dismissal of this action (as
to the Company).
22
Also in connection with negotiating the Global Settlement, the Company
was apprised of two actions entitled United States ex rel. Roberts v. Vencor,
Inc., et al., No 96-cv-2308 (JWL)(D.Kan.) and United States ex rel. Rivera v.
Restore Respiratory Care, Inc., et al. (N.D.Ga.). These matters involve claims
under the Federal Civil False Claims Act against a number of the Company's
subsidiaries and other health care providers. The complaints allege that the
Company overbilled the United States for and maintained false or fraudulent
documentation of respiratory care services and associated supplies provided to
Medicare patients at certain of the Company's SNFs during the cost report years
1992 through 1999. This action has been settled between the parties as part of
the Global Settlement. Under the terms of the Global Settlement, the plaintiff
(relator) must shortly withdraw any proof of claim filed in the bankruptcy and
move for the dismissal of this action (as to the Company).
On June 11, 2001, one of the Company's insurance carriers ("Royal")
commenced an adversary proceeding in the Bankruptcy Court, styled Royal Surplus
Lines Insurance Company v. Mariner Health Group et al., Adversary Proceeding
No. A-01-4626 (MFW). In its complaint, Royal seeks, among other things, certain
declaratory judgments that Royal is not required to insure, in whole or in
part, certain of the personal injury claims falling under two policies of
general liability and professional liability insurance issued to the Company's
subsidiary, Mariner Health, by Royal. In particular, the adversary proceeding
raised the following issues, among others: (i) in cases alleging multiple
injuries or "continuing wrongs," what event triggers coverage; (ii) in such
cases, whether one or more self-insured retentions apply before coverage
becomes available; (iii) whether Royal has to drop down to provide "first
dollar" coverage under one policy; and (iv) with respect to a policy cancelled
by Royal on July 31, 1999, long before the policy would have expired by its
terms, whether the aggregate self-insured retention should be prorated due to
the cancellation.
On July 23, 2001, the Company filed an Answer, Affirmative Defenses,
and Counterclaim. The Counterclaim was amended on August 21, 2001 (as amended,
"Counterclaim"). The Counterclaim joined issue with certain of the declaratory
judgments sought by Royal, and also sought, inter alia, declaratory judgments
and monetary relief relating to, among other things: (i) whether the policies
are subject to self-insured retentions or deductibles; (ii) whether Royal
breached its duty to defend under the policies; and (iii) whether Royal
breached the alternative dispute resolution procedure order (the "ADR
Procedure") entered by the Bankruptcy Court or acted in bad faith in impeding
the Company's efforts under the ADR Procedure. Additionally, the Counterclaim
objected to Royal's proofs of claim.
One of the Company's excess insurance carriers, Northfield Insurance
Company ("Northfield") moved to intervene in the Royal adversary proceeding on
July 25, 2001. The Company did not oppose the motion to intervene, which was
subsequently granted.
Prior to the parties engaging in any significant discovery, the
parties agreed to mediate the issues arising out of the Royal adversary
proceeding. After the mediation, Royal agreed to dismiss its complaint without
prejudice, the Company agreed to dismiss the Counterclaim without prejudice,
and Royal and the Company agreed to work together to resolve claims in the ADR
Procedure. Northfield did not agree to dismiss its complaint in intervention.
Accordingly, the Company and Northfield are currently engaging in discovery.
In addition to the Global Settlement discussed above, the Company has
reached agreements with various states to resolve prepetition claims of
overpayments paid to the Company in excess of which it was entitled in
connection with services rendered, including civil and administrative
penalties. The settlements provide for, among other things, repayment of
approximately $8.4 million to the states and all Medicaid claims and debts
arising prior to the Petition Date were released between individual states and
the Company.
NOTE 13 SEGMENT INFORMATION
The Company has one reportable segment, nursing home services, which
provides long-term healthcare through the operation of skilled nursing and
assisted living facilities in the United States. The "Other" category includes
the Company's non-reportable segments, primarily its LTAC hospitals, corporate
items not considered to be an operating segment, and eliminations.
The Company primarily evaluates segment performance and allocates
resources based on operating margin, which basically represents revenues less
operating expenses. The operating margin does not include regional and
23
corporate overhead, depreciation and amortization, interest income, interest
expense, reorganization items, income taxes, and extraordinary items. Gains or
losses on sales of assets and certain items, including impairment of assets,
legal and regulatory matters, and restructuring costs, are also excluded from
operating margin and not considered in the evaluation of segment performance.
Asset information by segment, including capital expenditures, and net income
(loss) beyond operating margins by segment are not provided to the Company's
chief operating decision maker.
The following tables summarize operating results and other financial
information, by business segment, excluding the results of the discontinued
operations of the APS Division, for the periods indicated (in thousands of
dollars):
REORGANIZED |
COMPANY | PREDECESSOR COMPANY
----------- | -----------------------------------------------------------------
TWO MONTHS | ONE MONTH THREE MONTHS FOUR MONTHS SIX MONTHS
ENDED | ENDED ENDED ENDED ENDED
JUNE 30, | APRIL 30, JUNE 30, APRIL 30, JUNE 30,
2002 | 2002 2001 2002 2001
---------- | --------- ------------ ----------- ----------
|
|
Revenues from external customers: |
Nursing home services ........ $ 275,707 | $ 137,436 $ 441,322 $ 564,350 $ 880,678
Other ........................ 19,381 | 9,382 28,899 37,087 57,214
--------- | --------- --------- --------- ---------
Consolidated revenues ........... $ 295,088 | $ 146,818 $ 470,221 $ 601,437 $ 937,892
========= | ========= ========= ========= =========
|
Operating margin: |
Nursing home services ........ $ 31,303 | $ 7,134 $ 44,811 $ 44,405 $ 84,771
Other ........................ (9,815) | (6,053) (15,447) (21,740) (30,709)
--------- | --------- --------- --------- ---------
Consolidated operating margin .. 21,488 | 1,081 29,364 22,665 54,062
|
Depreciation and amortization ... 4,922 | 2,832 12,652 11,733 24,407
--------- | --------- --------- --------- ---------
Operating income (loss) ......... $ 16,566 | $ (1,751) $ 16,712 $ 10,932 $ 29,655
========= | ========= ========= ========= =========
24
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
The accompanying unaudited condensed consolidated financial statements
set forth certain data with respect to the financial position, results of
operations, and cash flows of our company which should be read in conjunction
with the following discussion and analysis. The terms "company," "we," "our,"
and "us," refer to Mariner Health Care, Inc. (f/k/a/ Mariner Post-Acute
Network, Inc.) and its direct and indirect subsidiaries.
Overview
We are one of the largest providers of long-term health care services
in the United States. We provide these services through the operation of
skilled nursing facilities, or SNFs, and long-term acute care hospitals, or
LTACs. At June 30, 2002, we operated approximately 300 SNFs in 23 states with
approximately 36,000 licensed beds and significant concentrations of facilities
and beds in 5 states and several metropolitan markets. We also operated 13
owned, leased, or managed long-term acute care, or LTAC, hospitals in 4 states
with approximately 670 licensed beds. See Note 13 of the accompanying unaudited
condensed consolidated financial statements for financial information about our
company's reportable segment.
Inpatient services provided at our SNFs are our primary service
offering and account for over 90% of our revenues and cash flows. Through our
SNFs, we provide 24-hour care to patients requiring skilled nursing services
including assistance with activities of daily living, therapy and
rehabilitation services. Our LTACs accommodate the relatively high acuity needs
of patients discharged from a short-term, acute-care hospital when the
patients' condition warrants more intensive care than can be provided in a
typical nursing facility.
On January 6, 2002, we consummated the sale of our institutional
pharmacy services business, or the APS Division, to Omnicare, Inc. and its
wholly owned affiliate, APS Acquisition LLC, or, collectively, Omnicare.
Accordingly, the APS Division has been reflected as a discontinued operation.
See Note 7 of the accompanying unaudited condensed consolidated financial
statements.
At a meeting of our Board of Directors duly called and held on
December 13, 2001, our Amended and Restated Bylaws were amended to change our
fiscal year end from September 30 to December 31.
Reorganization
On January 18, 2000, we filed voluntary petitions for relief in the
United States Bankruptcy Court for the District of Delaware, or the Bankruptcy
Court, under chapter 11 of title 11 of the United States Code, or the
Bankruptcy Code, thus commencing the chapter 11 cases, or the Chapter 11 Cases.
Our financial difficulties were primarily attributable to fundamental changes
in governmental reimbursement policies, including the Medicare program's
transition from a cost-based reimbursement system to a prospective payment
system, or PPS. These changes resulted in revenue declines that despite our
efforts to reduce costs and adjust operations prohibited us from servicing our
then existing financing arrangements.
On May 13, 2002, or the Effective Date, we emerged from proceedings
under chapter 11 of title 11 of the United States Code, or the Bankruptcy Code,
pursuant to the terms of our joint plan of reorganization. On March 25, 2002,
the Bankruptcy Court held a hearing regarding confirmation of our second
amended and restated joint plan of reorganization filed on February 1, 2002,
or, as modified at the confirmation hearing and including the related
Disclosure Statement, exhibits, and attachments, the Joint Plan. See Note 3 of
the accompanying unaudited condensed consolidated financial statements for a
summary of the Joint Plan, which is qualified in its entirety by reference to
the Joint Plan filed as filed with the Securities and Exchange Commission, or
the SEC, as Exhibit 2.1 to our Current Report on Form 8-K dated April 17, 2002.
In connection with our emergence from bankruptcy, we changed our name to
Mariner Health Care, Inc.
On the Effective Date, and in connection with the consummation of the
Joint Plan, we entered into a $297.0 million senior credit facility with a
group of various lenders, consisting of $212.0 million of term loans, or the
Term Loans, and a $85.0 million revolving line of credit, or the Revolving
Credit Facility. The Term Loans and the Revolving Credit Facility are referred
to collectively as the Senior Credit Facility. The Senior Credit Facility
provided funds to satisfy certain obligations to our creditors under the Joint
Plan, and will provide funds for general working capital purposes and for
permitted acquisitions. We also issued $150.0 million in principal amount of
secured debt due 2009, or the Second Priority Notes, to our senior secured
creditors in the Chapter 11 Cases. See "Capital Resources" below.
25
Basis of Presentation
The accompanying unaudited condensed consolidated financial statements
have been prepared pursuant to the rules and regulations of the SEC. Certain
information and disclosures normally included in financial statements prepared
in accordance with accounting principles generally accepted in the United
States have been condensed or omitted pursuant to such rules and regulations.
In the opinion of management, the financial information included herein
reflects all adjustments considered necessary for a fair presentation of
interim results and, except for the items described in Note 3, all such
adjustments are of a normal and recurring nature. Operating results for interim
periods are not necessarily indicative of the results that may be expected for
the entire year.
Since filing for protection under the Bankruptcy Code on January 18,
2000, or the Petition Date, we operated our business as a debtor-in-possession
subject to the jurisdiction of the Bankruptcy Court until our emergence from
bankruptcy on May 13, 2002. Accordingly, our consolidated financial statements
for periods prior to our emergence from bankruptcy have been prepared in
conformity with the American Institute of Certified Public Accountants
Statement of Position 90-7, "Financial Reporting by Entities in Reorganization
Under the Bankruptcy Code", or SOP 90-7, on a going concern basis, which
assumes continuity of operations and realization of assets and settlement of
liabilities and commitments in the normal course of business.
In connection with our emergence from bankruptcy, we reflected the
terms of the Joint Plan in our consolidated financial statements by adopting
the principles of fresh-start reporting in accordance with SOP 90-7. For
accounting purposes, the adjustments for fresh-start reporting have been
recorded in the accompanying unaudited condensed consolidated financial
statements as of May 1, 2002. Under fresh-start reporting, a new entity is
deemed to be created for financial reporting purposes and the recorded amounts
of assets and liabilities are adjusted to reflect their estimated fair values.
Since fresh-start reporting materially changed the amounts previously recorded
in our consolidated financial statements, a black line separates the financial
data pertaining to periods after the adoption of fresh-start reporting from the
financial data pertaining to periods prior to the adoption of fresh-start
reporting to signify the difference in the basis of preparation of financial
information for each respective entity.
As used in this Form 10-Q, the term "Predecessor Company" refers to
the company and its operations for periods prior to its emergence from
bankruptcy, while the term "Reorganized Company" is used to describe the
company and its operations for periods thereafter. The Reorganized Company has
adopted the accounting policies of the Predecessor Company as described in the
audited consolidated financial statements of the Predecessor Company for the
transition period from October 1, 2001 to December 31, 2001 included in the
Predecessor Company's Transition Report filed with the SEC on Form 10-K, or the
Transition Report. These financial statements should be read in conjunction
with the Transition Report.
Comparability of Financial Information
The adoption of fresh-start reporting as of May 1, 2002 materially
changed the amounts previously recorded in our consolidated financial
statements. With respect to reported operating results, we believe that our
business segment operating income prior to our adoption of fresh-start
reporting is generally comparable to our business segment operating income
after our adoption of fresh-start reporting. However, capital costs (rent,
interest, depreciation and amortization) prior to our adoption of fresh-start
reporting that were based on pre-petition contractual agreements and historical
costs are not comparable to those capital costs after adoption of fresh-start
reporting. In addition, our reported financial position and cash flows for
periods prior to adoption of fresh-start reporting generally are not comparable
to those for periods thereafter.
In connection with the restructuring of our debt in accordance with
the provisions of the Joint Plan, we recorded a gain of approximately $1.2
billion. Other significant adjustments were also recorded to reflect the
provisions of the Joint Plan and the fair values of the assets and liabilities
of the Reorganized Company. For accounting purposes, these transactions have
been reflected in the operating results of the Predecessor Company for the four
months ended April 30, 2002.
Critical Accounting Policies
We believe the following critical accounting policies, among others,
affect the more significant judgments and estimates used in the preparation of
our consolidated financial statements.
26
Revenue Recognition.
We have agreements with third-party payors that provide for payments
to our SNF's. These payment arrangements may be based upon prospective rates,
reimbursable costs, established charges, discounted charges or per diem
payments. Revenues are reported at the estimated net realizable amounts from
Medicare, Medicaid, other third-party payors and individual patients for
services rendered. Retroactive adjustments that are likely to result from
future examinations by third-party payors are accrued on an estimated basis in
the period the related services are rendered and adjusted as necessary in
future periods based on final settlements.
Collectibility of Accounts Receivable.
Accounts receivable consist primarily of amounts due from the Medicare
and Medicaid programs, other government programs, managed care health plans,
commercial insurance companies and individual patients. Estimated provisions
for doubtful accounts are recorded to the extent it is probable that a portion
or all of a particular account will not be collected. In evaluating the
collectibility of accounts receivable, we consider a number of factors,
including the age of the accounts, changes in collection patterns, the
composition of patient accounts by payor type, the status of ongoing disputes
with third-party payors and general industry conditions. Changes in these
estimates are charged or credited to the results of operations in the period of
the change.
Reserves for Professional Liability Risks.
We currently purchase general and professional liability insurance
through a third party insurance company, maintaining an unaggregated $1.0
million self-insured retention per claim. Loss provisions for professional
liability risks, including incurred but not reported losses, are provided on an
undiscounted basis in the period of the related coverage. These provisions are
based on internal and external evaluations of the merits of individual claims,
analysis of claim history, and independent actuarially determined estimates.
The methods of making such estimates and establishing the resulting accrued
liabilities are reviewed frequently by management with any adjustments
resulting therefrom reflected in current earnings. Although management believes
that the provision for loss is adequate, the ultimate liability may be in
excess of or less than the amounts recorded.
Accounting for income taxes
The provision for income taxes is based upon our estimate of taxable
income or loss for each respective accounting period. We recognize an asset or
liability for the deferred tax consequences of temporary differences between
the tax bases of assets and liabilities and their reported amounts in the
financial statements. These temporary differences will result in taxable or
deductible amounts in future years when the reported amounts of assets are
recovered or liabilities are settled. We also recognize as deferred tax assets
the future tax benefits from net operating and capital loss carryforwards.
We have limited operating experience as a restructured organization.
Furthermore, there are significant uncertainties with respect to future
Medicare payments to both our nursing centers and hospitals which could affect
materially the realization of certain deferred tax assets. Accordingly, a
valuation allowance is provided for deferred tax assets because the
realizability of the deferred tax assets is uncertain.
If all or a portion of the pre-reorganization deferred tax asset is
realized in the future, or considered "more likely than not" to be realized by
us, the reorganization intangible recorded in connection with fresh-start
accounting will be reduced accordingly. If the reorganization intangible is
eliminated in full, other intangible assets will then be reduced, with any
excess treated as an increase to capital in excess of par value.
Valuation of long-lived assets and reorganization value in excess of
amounts allocable to identifiable assets.
We regularly review the carrying value of certain long-lived assets
and identifiable intangible assets with respect to any events or circumstances
that indicate an impairment or an adjustment to the amortization period is
necessary. If circumstances suggest the recorded amounts cannot be recovered,
calculated based upon estimated future undiscounted cash flows, the carrying
values of these assets are reduced to fair value.
Reorganization value in excess of amounts allocable to identifiable
assets represents the portion of reorganization value that could not be
attributable to specific tangible or identified intangible assets recorded in
connection with fresh-start accounting. In connection with the June 2001
issuance of Statement of Financial Accounting Standards ("SFAS") No. 142 ("SFAS
142"), "Goodwill and Other Intangible Assets," we have ceased to amortize
reorganization value in excess of amounts allocable to identifiable assets
beginning on January 1, 2002. In lieu of amortization, we are required to
perform annual impairment tests for the excess reorganization value recorded.
Recent Accounting Pronouncements
In July 2002, the Financial Accounting Standards Board, or FASB issued
Statement of Financial Accounting Standards No. 146 "Accounting for Costs
Associated with Exit or Disposal Activities," or SFAS 146. SFAS 146 replaces
Emerging Issues Task Force Issue No. 94-3 "Liability Recognition for Certain
Employee Termination Benefits and Other Costs to Exit an Activity". SFAS 146
requires the recognition of costs associated with exit or disposal activities
when they are incurred rather than at the date of a commitment to an exit or
disposal plan. SFAS 146 is to be applied prospectively to exit or disposal
activities initiated after December 31, 2002 with early adoption encouraged. We
adopted SFAS 146 on May 1, 2002 in connection with our adoption of fresh-start
reporting and the adoption of SFAS 146 did not have a material impact on our
consolidated financial statements.
In April 2002, the FASB issued Statement of Financial Accounting
Standards No. 145, "Rescission of FASB Statements No. 4, 44 and 64, Amendment
of FASB Statement No. 13, and Technical Corrections," or SFAS 145. SFAS 145
rescinds Statement of Financial Accounting Standards No. 4 "Reporting Gains and
Losses from Extinguishment of Debt", or SFAS 4, resulting in the criteria in
Accounting Principles Board Opinion No. 30 to be used to classify gains and
losses from extinguishment of debt. Statement of Financial Accounting Standards
No. 64, "Extinguishment of Debt Made to Satisfy Sinking-Fund Requirements"
amended SFAS 4; and thus, is no longer necessary. Statement of Financial
Accounting Standards No. 44, "Accounting for Intangible Assets of Motor
Carriers", was issued to establish accounting requirements for the effects of
transition to the provision of the Motor Carrier Act of 1980. Because the
transition has been completed, this statement is no longer necessary. SFAS 145
amends Statement of Financial Accounting Standards No. 13, "Accounting for
Leases," or SFAS 13, to require that certain lease modifications that have
economic effects similar to sale-leaseback transactions be accounted for in the
same manner as sale-leaseback transactions. The provisions of SFAS 145 related
to SFAS 13 are effective for transactions occurring after May 15, 2002. All
other provisions of SFAS 145 are effective for financial statements issued on
or after May 15, 2002 with early adoption encouraged. We adopted SFAS 145 on
May 1, 2002 in connection with our adoption of fresh-start reporting and,
accordingly, have presented the reorganization and restructuring of our debt in
connection with the terms of our Joint Plan as a reorganization item.
27
In July 2001, the FASB issued Statement of Financial Accounting
Standards No. 142, "Goodwill and Other Intangible Assets" ("SFAS 142"), which
establishes new rules on the accounting for goodwill and other intangible
assets. Under SFAS 142, goodwill and intangible assets with indefinite lives
will no longer be amortized; however, they will be subject to annual impairment
tests as prescribed by the statement. Intangible assets with definite lives
will continue to be amortized over their estimated useful lives. The
amortization provisions of SFAS 142 apply immediately to goodwill and
intangible assets acquired after June 30, 2001. With respect to goodwill and
intangible assets acquired prior to July 1, 2001, companies are required to
adopt SFAS 142 in their fiscal year beginning after December 15, 2001
In accordance with the adoption of SFAS 142, we discontinued
amortizing goodwill effective January 1, 2002. The Company had sufficient net
operating loss carryforwards ("NOLs") for the six months ended June 30, 2002 to
offset any taxes on net income. The following table sets forth the impact on
our earnings relating to the adoption of SFAS 142 for the periods indicated (in
thousands of dollars, except earnings per share amounts):
PREDECESSOR COMPANY
---------------------------------
THREE MONTHS SIX MONTHS
ENDED ENDED
JUNE 30, JUNE 30,
2001 2001
------------ ----------
Reported net (loss) income ............ $ (4,919) $ 8,257
Add back: goodwill amortization ....... 2,636 5,280
--------- ----------
Adjusted net (loss) income ............ $ (2,283) $ 13,537
========= ==========
Earnings per share - basic and diluted:
Reported net (loss) income ............ $ (0.07) $ 0.11
Goodwill amortization ................. 0.04 0.07
--------- ----------
Adjusted net (loss) income ............ $ (0.03) $ 0.18
========= ==========
Results of Operations
The following table sets forth the amounts of our consolidated net
revenues derived from the various sources of payment and certain operating data
for our SNFs for the periods indicated (in thousands of dollars).
REORGANIZED REORGANIZED
COMPANY AND COMPANY AND
PREDECESSOR PREDECESSOR
COMPANY PREDECESSOR COMPANY PREDECESSOR
COMBINED COMPANY COMBINED COMPANY
------------ ------------ ------------ -----------
THREE MONTHS THREE MONTHS SIX MONTHS SIX MONTHS
ENDED ENDED ENDED ENDED
JUNE 30, JUNE 30, JUNE 30, JUNE 30,
2002 2001 2002 2001
------------ ------------ ----------- -----------
Medicaid ..................... $212,327 $222,919 $429,581 $449,159
Medicare ..................... 149,784 151,672 306,623 295,392
Private and other ............ 79,795 95,630 160,321 193,341
Total average residents ...... 30,828 34,627 30,980 35,136
Weighted average licensed beds
available for use ......... 35,242 39,448 35,169 40,031
Weighted average occupancy ... 87.5% 87.8% 88.1% 87.8%
28
The following table sets forth the consolidated results of our
operations for the periods indicated (in thousands of dollars):
REORGANIZED REORGANIZED
COMPANY AND COMPANY AND
PREDECESSOR PREDECESSOR
COMPANY PREDECESSOR COMPANY PREDECESSOR
COMBINED COMPANY COMBINED COMPANY
------------ ------------ ------------ ----------
THREE MONTHS THREE MONTHS SIX MONTHS SIX MONTHS
ENDED ENDED ENDED ENDED
JUNE 30, JUNE 30, JUNE 30, JUNE 30,
2002 2001 2002 2001
------------ ------------ ------------ ----------
Net revenues ....................... $ 441,906 $ 470,221 $ 896,525 $ 937,892
Costs and expenses:
Salaries, wages and benefits ..... 271,832 284,345 552,406 572,522
Nursing, dietary and other
supplies ....................... 27,273 30,304 54,742 61,008
Ancillary services ............... 27,535 26,781 55,281 53,389
General and administrative ....... 38,924 47,421 80,403 94,542
Insurance ........................ 27,851 33,918 58,809 61,235
Rent ............................. 11,114 14,085 22,888 31,263
Depreciation and amortization .... 7,754 12,652 16,655 24,407
Provision for bad debts .......... 14,808 4,003 27,843 9,871
----------- --------- ----------- --------
Total costs and expenses ........... 427,091 453,509 869,027 908,237
----------- --------- ----------- --------
Operating income ................... 14,815 16,712 27,498 29,655
Other income (expenses):
Interest, net .................... (4,948) (646) (5,156) (229)
Reorganization items ............. 1,442,805 (21,222) 1,394,309 (21,413)
Other ............................ 1,325 25 1,379 1,001
----------- --------- ----------- --------
Income (loss) from continuing
operations before income taxes .. 1,453,997 (5,131) 1,418,030 9,014
Provision for income taxes ......... 5,263 -- 5,263 --
----------- --------- ----------- --------
Income (loss) from continuing
operations ...................... 1,448,734 (5,131) 1,412,767 9,014
Discontinued operations:
Income (loss) from operations of
discontinued pharmacy
operations .................... -- 212 -- (757)
Gain on sale of discontinued
pharmacy operations ........... 7,696 -- 29,082 --
----------- --------- ----------- ---------
Net income (loss) .................. $ 1,456,430 $ (4,919) $ 1,441,849 $ 8,257
=========== ========= =========== =========
29
Three Months Ended June 30, 2002 Compared to Three Months Ended June 30, 2001.
Net Revenues.
Net revenues totaled $441.9 million for the three months ended June
30, 2002, a decrease of $28.3 million, or 6.0%, as compared to the three months
ended June 30, 2001. Net revenues for nursing home services accounted for
$413.1 million, or 93.5%, of total net revenues for the three months ended June
30, 2002 as compared to $441.3 million, or 93.9%, for the three months ended
June 30, 2001. Revenues for nursing home services are derived from the
provision of routine and ancillary services and are a function of occupancy
rates and payor mix. Although net revenues for nursing home services
experienced a decrease of approximately $28.2 million, or 6.4%, net revenues of
our SNFs, excluding facilities that have already been divested, increased by
approximately $12.8 million, or 3.2%, which translates into an increase in
revenue per patient day of approximately $6.75 or 4.8%. The increase resulted
from numerous factors, including an increase in average per diem rates for
Medicaid reimbursement of 6.0% in the three months ended June 30, 2002 as
compared to the three months ended June 30, 2001. Although volume was down
slightly for the three months ended June 30, 2002 as compared to the three
months ended June 30, 2001, there was a favorable improvement in payor mix.
These increases were offset by a decrease in revenues during the three months
ended June 30, 2002 as compared to the three months ended June 30, 2001 of
approximately $41.0 million due to the impact of the divestiture of facilities
during the past twelve months. We anticipate that, in the aggregate, these
divestitures will improve operating results in the future (see Note 7 of the
accompanying unaudited condensed consolidated financial statements).
Costs and expenses.
Total costs and expenses decreased $26.4 million to $427.1 million for
the three months ended June 30, 2002 as compared to $453.5 million for the three
months ended June 30, 2001. The decrease is attributable to numerous factors,
including decreases in salaries, wages and benefits of $12.5 million and general
and administrative expenses of $8.5 million. Salaries, wages, and benefits,
which comprise 61.5% and 60.5% of total net revenues for the three months ended
June 30, 2002 and 2001, respectively, decreased by $12.5 million primarily as a
result of the facilities divested during the past twelve months. The decrease in
salaries, wages, and benefits resulting from the divestitures is partially
offset by an increase in wages. Various federal, state and local regulations
impose, depending on the services provided, a variety of regulatory standards
for the type, quality and level of personnel required to provide care or
services. These regulatory requirements have an impact on staffing levels, as
well as the mix of staff and therefore impact total costs and expenses. The
decrease in general and administrative expenses of $8.5 million during the three
months ended June 30, 2002 as compared to the three months ended June 30, 2001
resulted mainly from our continued efforts to reduce overhead costs. The
decreases in total costs and expenses include an increase in provision for bad
debts of $10.8 million, which primarily resulted from a re-evaluation of our
allowance for doubtful accounts triggered by deterioration in the agings of
certain categories of receivables related to facilities which have been
divested.
Reorganization items.
Reorganization items, which consist of income, expenses and other costs
incurred as a result of the bankruptcy filings, increased approximately $1.4
billion to a $1.4 billion gain for the three months ended June 30, 2002 as
compared to a $21.2 million loss for the three months ended June 30, 2001. The
increase is attributable to multiple factors including: (i) an increase of $25.7
million for professional fees incurred in connection with the various aspects of
the Chapter 11 Cases, including, among other things, filing of the Joint Plan;
(ii) net gain on divestitures during the three months ended June 30, 2002 of
$2.0 million as compared to net losses on divestitures during the three months
ended June 30, 2001 of $4.3 million; (iii) the effects of fresh-start reporting
which resulted in valuation adjustments of $253.9 million; and (iv) a gain of
approximately $1.2 billion from the restructuring of our debt in accordance with
the provisions of the Joint Plan. See Note 3 of the accompanying unaudited
condensed consolidated financial statements.
30
Discontinued Operations.
The results of the APS Division have been classified as a discontinued
operation in accordance with accounting principles generally accepted in the
United States. During the three months ended June 30, 2002, we recorded a gain
on the sale of the APS Division of approximately $7.7 million. Income from
operations of discontinued pharmacy operations was approximately $0.2 million
for the three months ended June 30, 2001. See Note 7 of the accompanying
unaudited condensed consolidated financial statements.
Six Months Ended June 30, 2002 Compared to Six Months Ended June 30, 2001.
Net Revenues.
Net revenues totaled $896.5 million for the six months ended June 30,
2002, a decrease of $41.4 million, or 4.4%, as compared to the six months ended
June 30, 2001. Net revenues for nursing home services accounted for $840.0
million, or 93.7%, of total consolidated net revenues for the six months ended
June 30, 2002 as compared to $880.7 million, or 93.9%, for the six months ended
June 30, 2001. Revenues for nursing home services are derived from the provision
of routine and ancillary services and are a function of occupancy rates and
payor mix. Although net revenues for nursing home services experienced an
decrease of approximately $40.6 million, or 4.6%, net revenues of our SNFs,
excluding facilities that have already been divested, increased by approximately
$38.3 million, or 4.9%, which translates into an increase in revenue per patient
day of approximately $8.55 or 6.1%. The increase resulted from numerous factors,
including a 3% increase in Medicare reimbursement rates in connection with the
recent legislative relief provided by Medicare, Medicaid, and SCHIP Balanced
Budget Refinement Act of 1999, or BBRA, and the Medicare, Medicaid and SCHIP
Benefits Improvement and Protection Act of 2000, or BIPA, which mitigated the
final year over year phase-in effect of PPS. In addition, average per diem rates
for Medicaid reimbursement increased 6.6% in the six months ended June 30, 2002
as compared to the six months ended June 30, 2001. These increases were offset
by a decrease in revenues during the six months ended June 30, 2002 as compared
to the six months ended June 30, 2001 of approximately $78.9 million due to the
impact of the divestiture of facilities during the past twelve months. We
anticipate that, in the aggregate, these divestitures will improve operating
results in the future (see Note 7 of the accompanying unaudited condensed
consolidated financial statements).
Costs and expenses.
Total costs and expenses decreased $39.2 million to $869.0 million
for the six months ended June 30, 2002 as compared to $908.2 million for the
six months ended June 30, 2001. The decrease is attributable to numerous
factors, including decreases in salaries, wages and benefits of $20.1 million,
and general and administrative expenses of $14.1 million. Salaries, wages, and
benefits, which comprise 61.6% and 61.0% of consolidated net revenues for the
six months ended June 30, 2002 and 2001, respectively, decreased by $20.1
million primarily as a result of the facilities divested during the past twelve
months. The decrease in salaries, wages, and benefits resulting from the
divestitures are partially offset by an increase in wages. Various federal,
state and local regulations impose, depending on the services provided, a
variety of regulatory standards for the type, quality and level of personnel
required to provide care or services. These regulatory requirements have an
impact on staffing levels, as well as the mix of staff and therefore impact
total costs and expenses. The decrease in general and administrative expenses
of $14.1 million during the six months ended June 30, 2002 as compared to the
six months ended June 30, 2001 resulted mainly from our continued efforts to
reduce overhead costs. Rent expense decreased approximately $8.4 million to
$22.9 million for the six months ended June 30, 2002 as compared to $31.3
million for the six months ended June 30, 2001. The decrease was primarily a
result of the divestiture of facilities and renegotiation of certain leases
during the past twelve months. These decreases were partially offset by an
increase in provision for bad debts of $18.0 million, which primarily resulted
from a re-evaluation of our allowance for doubtful accounts triggered by
deterioration in the agings of certain categories of receivables related to
facilities which have been divested.
Reorganization items.
Reorganization items, which consist of income, expenses and other
gains and losses incurred as a result of the bankruptcy filings, increased
approximately $1.4 billion to a $1.4 billion gain for the six months ended June
30, 2002 from a $21.4 million loss for the six months ended June 30, 2001.
During the six months ended June 30, 2002, we recorded a gain of approximately
$1.2 billion from the restructuring of our debt in accordance with the
provisions of the Joint Plan. In addition, we recorded a gain on fresh-start
valuation adjustments of approximately $253.9 million to reflect adjustments to
record property and equipment and identifiable intangible assets at their fair
values in accordance with our adoption of fresh-start reporting.
31
See Note 3 of the accompanying unaudited condensed consolidated financial
statements.
Discontinued Operations.
The results of the APS Division have been classified as a discontinued
operation in accordance with accounting principles generally accepted in the
United States. During the six months ended June 30, 2002, we recorded a gain on
the sale of the APS Division of approximately $29.1 million. Loss from
operations of discontinued pharmacy operations was approximately $0.8 million
for the six months ended June 30, 2001. See Note 7 of the accompanying
unaudited condensed consolidated financial statements.
Seasonality
Our revenues and operating income generally fluctuate from quarter to
quarter. This seasonality is related to a combination of factors which include
the timing of third-party payment rate changes, the number of work days in the
period, and seasonal census cycles.
Liquidity and Capital Resources of the Company
PAYMENTS DUE BY PERIOD
---------------------------------------------------------------------------------
LESS THAN 1
TOTAL YEAR 1-3 YEARS 4-5 YEARS AFTER 5 YEARS
-------- ----------- --------- --------- -------------
Contractual Obligations:
Long-term debt
Term Loans ................. $211,470 $ 2,107 $ 4,151 $ 4,068 $201,144
Second Priority Notes ...... 150,000 -- -- -- 150,000
Non-recourse indebtedness of
subsidiary .............. 59,688 -- -- -- 59,688
Mortgage notes payable ..... 11,767 422 330 393 10,622
Capital leases ............. 56,446 3,623 32,665 12,601 7,557
Operating leases ............. 205,053 35,759 57,629 37,972 73,693
Other ........................ 2,121 139 246 178 1,558
-------- ------- ------- -------- --------
$696,545 $42,050 $95,021 $ 55,212 $504,262
======== ======= ======= ======== ========
AMOUNT OF COMMITMENT EXPIRATION PER PERIOD
---------------------------------------------------------------------------
LESS THAN 1
TOTAL YEAR 1-3 YEARS 4-5 YEARS AFTER 5 YEARS
------- ----------- --------- --------- -------------
Commercial Commitments:
Letters of credit (1) $29,119 $29,119 $ -- $ -- $ --
Guarantees .......... 5,100 -- -- -- 5,100
------- ------- ----- ------ ------
$34,219 $29,119 $ -- $ -- $5,100
======= ======= ===== ====== ======
(1) Includes letters of credit collateralized with approximately $21.5
million in cash.
Working Capital and Cash Flows.
At June 30, 2002, we had working capital of $101.1 million and cash
and cash equivalents of $92.2 million as compared to working capital of $347.6
million and cash and cash equivalents of $213.7 million at December 30, 2001.
For the two months ended June 30, 2002, net cash provided by operating
activities of continuing operations before reorganization items was
approximately $18.3 million. Net cash provided by operating activities of
continuing operations before reorganization items was approximately $38.5
million for the four months ended April 30, 2002. See the unaudited Condensed
Consolidated Statements of Cash Flows in the accompanying unaudited condensed
consolidated financial statements. For the six months ended June 30, 2001, net
cash provided by operating activities of continuing operations before
reorganization items was approximately $66.0 million.
32
Capital expenditures were approximately $5.9 million for the two months
ended June 30, 2002, $27.6 million for the four months ended April 30, and $8.4
million for the six months ended June 30, 2001, all of which were financed
through internally generated funds. Capital expenditures for the four months
ended April 30, 2002 included approximately $15.2 million related to certain
facilities that were damaged by floods. See Note 7 of accompanying unaudited
condensed consolidated financial statements. Our operations require capital
expenditures for renovations of existing facilities in order to continue to meet
regulatory requirements, upgrade facilities for the treatment of subacute
patients and accommodate the addition of specialty medical services, and to
improve the physical appearance of its facilities for marketing purposes. In
addition, there are capital expenditures required for completion of certain
existing facility expansions and new construction projects in process, as well
as supporting non-nursing home operations. We expect planned capital
expenditures for the twelve months ended December 31, 2002 to approximate $50.0
million.
During the four months ended April 30, 2002, we received net proceeds
from the disposition of assets of approximately $92.4 million, which primarily
related to the sale of the APS Division (see Note 7 of the accompanying
unaudited condensed consolidated financial statements). During the six months
ended June 30, 2001, we received net proceeds from the disposition of assets of
approximately $4.2 million. The majority of the cash from the disposition of
assets was used for repayments against our prepetition senior credit facilities
as adequate protection payments.
During the two months ended June 30, 2002, we made aggregate principal
repayments of long-term debt of approximately $1.3 million. During the four
months ended April 30, 2002 we made aggregate principal repayments of long-term
debt of approximately $386.9 million of which approximately $287.4 million was
paid to the principal lenders under our prepetition senior credit facilities in
connection with the consummation of the Joint Plan (see Note 3 of the
accompanying unaudited condensed consolidated financial statements). In
addition, we also received $212.0 million related to the Senior Credit Facility
entered into in connection with the consummation of the Joint Plan (see Note 5
of the accompanying unaudited condensed consolidated financial statements).
During the six months ended June 30, 2001, we made aggregate principal
repayments of long-term debt of approximately $17.0 million.
We believe that our cash flow from operations, along with available
borrowings under the Senior Credit Facility, will be sufficient to meet our
liquidity needs for the foreseeable future. For a discussion of items that may
have an adverse impact on our future liquidity, see "Cautionary Statements"
below.
Capital Resources.
Senior Credit Facility. On the Effective Date, and in connection with
the consummation of the Joint Plan, we entered into a Credit and Guaranty
Agreement with a group of various lenders, which established (a) a revolving
line of credit of $85.0 million, or the Revolving Credit Facility; and (b) term
loan facilities of $212.0 million, or the Term Loans. The Term Loans and the
Revolving Credit Facility are collectively referred to as the Senior Credit
Facility. The Revolving Credit Facility includes a $50.0 million sublimit for
the issuance of letters of credit.
Outstanding loans under the Senior Credit Facility bear interest, at
our election, using either a base rate or eurodollar rate, plus an applicable
margin which ranges from 1.25%-2.25% for base rate loans and 2.25%-3.25% for
eurodollar rate loans. The applicable margin for loans under the Revolving
Credit Facility are subject to adjustment in the future in accordance with a
performance-based grid. The Senior Credit Facility is guaranteed by
substantially all of our subsidiaries and is secured by liens and security
interests on substantially all of our real property and personal property
assets. The Senior Credit Facility also requires us to maintain compliance with
certain financial and non-financial covenants, including minimum fixed charge
coverage ratios, minimum consolidated adjusted EBITDA (as defined in the Senior
Credit Facility), maximum total leverage and senior leverage ratios, and
maximum capital expenditures.
Proceeds of loans made under the Revolving Credit Facility may be used
for general corporate purposes, including working capital and permitted
acquisitions. Usage under the Revolving Credit Facility, which matures on May
13, 2007, is subject to a borrowing base based upon both a percentage of our
eligible accounts receivable and a percentage of the real property collateral
value of substantially all of our SNFs. No borrowings were outstanding under
the Revolving Credit Facility as of June 30, 2002; however, approximately $8.7
million of letters of credit issued under the Revolving Credit Facility were
outstanding on that date. As the result of the issuance of additional
replacement and other letters of credit subsequent to June 30, 2002, there were
approximately $22.6 million in letters of credit issued under the Revolving
Credit Facility as of August 21, 2002.
Proceeds of the Term Loans were used to fund our obligations under the
Joint Plan and to pay in cash all or a portion of certain claims of prepetition
senior credit facility lenders and mortgage lenders. At June 30, 2002, the
interest rate on the Term Loans was 5.125%. The Term Loans amortize in
quarterly installments at a rate of 1% per year, payable on the last day of
each fiscal quarter beginning June 30, 2002, and mature on May 13, 2008. The
Term Loans can be prepaid at our option without penalty or premium. In
addition, the Term Loans are subject to mandatory prepayment (i) from the
proceeds of certain asset sales which are not used within 180 days of receipt
to
33
acquire long-term useful assets of the general type used in our business; (ii)
from the proceeds of certain casualty insurance and condemnation awards, the
proceeds of which are not used within 360 days of receipt for the repair,
restoration or replacement of the applicable assets or for the purchase of
other long-term useful assets of the general type used in our business; and
(iii) from the proceeds of the issuance of certain equity securities and
certain debt. The Term Loans are also subject to annual mandatory prepayment to
the extent of 75% of our company's consolidated excess cash flow.
Pursuant to the First Amendment to Credit and Guaranty Agreement dated
as of August 9, 2002, approved by the requisite Senior Credit Facility lenders,
the terms of the Senior Credit Facility were modified to, among other things,
extend to February 13, 2003 the deadline for the Company to cause the interest
rates on at least 50% of its total funded debt to be effectively fixed, whether
through interest rate protection agreements or otherwise.
Senior Secured Notes. On the Effective Date, and in connection with
the consummation of the Joint Plan, we entered into an indenture with The Bank
of New York, as trustee, pursuant to which we issued $150.0 million of senior
secured notes due in 2009, or the Second Priority Notes. The Second Priority
Notes bear interest at a 3-month London Inter-Bank Offered Rate, or LIBOR,
adjusted quarterly, plus 550 basis points. At June 30, 2002, the interest rate
payable under the Second Priority Notes was 7.44%. The Second Priority Notes
mature on May 13, 2009, and are subject to redemption without premium or
penalty at any time, at our option. The Indenture includes affirmative and
negative covenants customary for similar financings, including, without
limitation, restrictions on additional indebtedness, liens, restricted
payments, investments, asset sales, affiliate transactions and the creation of
unrestricted subsidiaries. Such obligations are secured by liens and security
interests in the same collateral as that pledged to secure the Senior Credit
Facility. However, the liens and security interests benefiting the Second
Priority Note holders and trustee rank immediately junior in priority behind
the liens and security interests securing the Senior Credit Facility.
Other Letters of Credit. As of June 30, 2002, the company had
outstanding approximately $20.4 million in letters of credit issued under the
company's pre-Effective Date credit facilities and secured by approximately
$21.5 million of cash collateral. Due to the subsequent replacement and
surrender of certain of those letters of credit, the aggregate amount of such
letters of credit outstanding as of August 21, 2002 had decreased to
approximately $11.7 million, and the amount of the related cash collateral to
approximately $12.3 million.
Non-Recourse Indebtedness of Unrestricted Subsidiary. One of our
wholly owned subsidiaries, Professional Health Care Management, Inc., or PHCMI,
is the borrower under an approximately $59.7 million mortgage loan from Omega
Healthcare Investors, Inc., or Omega, that was restructured as part of the
Chapter 11 Cases. The loan, or the Omega Loan, bears interest at a rate of
11.57% per annum and is guaranteed by all the subsidiaries of PHCMI and is
secured by liens and security interests on all or substantially all of the real
property and personal property of PHCMI and such subsidiaries, or the PHCMI
Entities, including 9 SNFs located in Michigan and 3 others in North Carolina,
or the Omega Facilities. Omega is also entitled to receive an annual amendment
fee equal to 25% of the free cash flow from the Omega Facilities. The Omega
Loan provides for interest only payments until its scheduled maturity on August
31, 2010. The maturity date of the Omega Loan may be extended at PHCMI's option
until August 31, 2021. Prior to maturity, the Omega Loan is not subject to
prepayment at the option of PHCMI except (a) between February 1, 2005 and July
31, 2005, at 103% of par (notice of which prepayment must be given by December
31, 2004), and (b) within six months prior to the scheduled maturity date, at
par, in each case plus accrued and unpaid interest.
The Omega Loan constitutes non-recourse indebtedness to the rest of
the legal entities of Mariner Health Care, Inc. excluding PHCMI, or the MHC
Entities. None of the MHC Entities have guaranteed the Omega Loan or pledged
assets to secure the Omega Loan, other than the pledge of PHCMI's issued and
outstanding capital stock. In addition, none of the PHCMI Entities have
guaranteed either the Senior Credit Facility or the Senior Secured Notes, nor
have they pledged their assets for such indebtedness. The Omega Loan restricts
the extent to which PHCMI can incur other indebtedness, including intercompany
indebtedness from PHCMI's shareholders.
Omega Settlement.
In light of the non-recourse nature of the Omega Loan beyond the PHCMI
Entities and the stock of PHCMI that was pledged to Omega, our management, in
consultation with representatives of the agent for our prepetition senior
credit facilities (participants in which became the owners of the vast majority
of the equity of our reorganized company under the Joint Plan), concluded that
it would be appropriate to structure an option to sell a 51% interest in PHCMI.
To that end, prior to the Effective Date, one of our wholly owned subsidiaries,
GranCare, Inc., or GranCare, as the sole shareholder of PHCMI, entered into a
Share Purchase Agreement dated as of September 1, 2001, or SPA, with PHCMI and
an unaffiliated investor, Nexion Health BKC, Inc., or Nexion. Pursuant to the
SPA, GranCare received an option to, among other things, sell Nexion 51% of the
issued and outstanding capital stock of PHCMI and attendant control rights.
After the Effective Date, and in connection with our corporate restructuring
program, GranCare's interest in the PHCMI stock and under the SPA were
transferred to a newly formed wholly
34
owned subsidiary of ours known as PHCMI Holding Company, LLC. The option under
the SPA was originally scheduled to expire on the Effective Date. However,
pursuant to an agreement with Nexion, the option was extended to August 15,
2002. However, our Board of Directors determined that it was not in our best
interest to exercise the option so it was allowed to expire, unexercised, on
August 15, 2002.
Healthcare Regulatory Matters.
The Balanced Budget Act contained numerous changes to the Medicare and
Medicaid programs with the intent of slowing the growth of payments under these
programs by approximately $115.0 billion and $13.0 billion through the end of
2002. Approximately 50% of the savings were achieved through a reduction in the
growth of payments to providers and physicians. These cuts have had, and will
continue to have, a material adverse effect on us. Since the passage of the
Balanced Budget Act, Congress has twice passed additional legislation intended
to mitigate temporarily the reduction in reimbursement for SNFs under the
Medicare PPS. However, certain increases in Medicare reimbursement provided for
under the subsequent legislation will terminate when the Center for Medicare
and Medicaid Services, or CMS (formally known as the Health Care Financing
Administration), implements a resource utilization group, or RUG, refinement to
more accurately predict the cost of non-therapy ancillary services. On April 3,
2002, CMS issued a press release announcing that these RUG refinements will not
be implemented for the fiscal year beginning October 1, 2002; as a result, CMS
estimates that nursing homes will continue to receive an estimated $1.0 billion
in temporary add-on payments in the next Federal fiscal year. This policy was
confirmed in the final SNF PPS rule for Federal fiscal year 2003 published July
31, 2002. Although the RUG refinements have been delayed at least one year,
certain other legislative increases will sunset on October 1, 2002. Unless
additional legislative action is undertaken by the United States Congress, the
loss of revenues associated with the legislative provisions that will sunset on
October 1, 2002 will have a material adverse effect on the company. Our
company's management preliminarily estimates that these occurrences will result
in a loss of revenue of approximately $35.0 million in the Federal fiscal year
2003. The House of Representatives approved legislation, H.R. 4954 in June
2002, that would provide certain temporary SNF payment increases, including
increases in the nursing component of the PPS rate in Federal fiscal years 2003
through 2005. The Senate, however, has not yet approved such legislation. While
we are hopeful that Congress will enact legislation in a timely fashion, no
assurances can be given as to whether Congress will take action, the timing of
any action, or the form of any relief that may be enacted.
CMS also is moving towards replacing the reasonable cost-based payment
system for LTAC hospitals, or LTCHs, with a PPS. On March 22, 2002, CMS
published a LTCH PPS proposed rule that would use information from LTCH patient
records to classify patients into distinct long-term care diagnosis-related
groups, or LTC-DRGs, based on clinical characteristics and expected resource
needs. Separate per-discharge payments would be calculated for each DRG. CMS
plans to publish the final LTCH PPS rule by August 2002, and the new system is
to be effective October 1, 2002. The new system would be phased in over five
years, with reimbursement based on a blend of federal rates and cost-based
reimbursement during the transition period, although certain facilities could
elect to immediately adopt the full federal rates. If the Secretary for Health
and Human Services, or the Secretary, is unable to implement the per-discharge
LTCH PPS by October 1, 2002, BIPA requires the Secretary to implement a PPS for
these hospitals using existing acute hospital diagnosis related groups that
have been modified where feasible to account for resource use of LTCH patients,
using the most recently available hospital discharge data for such services
furnished on or after that date. Because the rulemaking has not been finalized,
we cannot predict the ultimate impact the new system will have on the LTACs we
operate.
Our primary sources of revenue are the federal Medicare program and
the state Medicaid programs. Although payment cycles for these programs vary,
payments generally are made within 30 to 60 days after services are provided.
For Medicare cost reporting periods beginning July 1, 1998, the federal
Medicare program began to convert to a PPS for SNF services. Since the end of
the third quarter of 1999, all of our SNFs have been reimbursed under PPS,
which provides acuity-based rates that are established at the beginning of the
Medicare reporting year. Payments for nursing facility services that are
provided to Medicaid recipients are paid at rates that are set by each
individual state's Medicaid program.
For cost reporting periods that ended before the implementation of
PPS, the facilities were reimbursed under Medicare on the basis of reasonable
and necessary costs as determined from annual cost reports. This retrospective
settlement system resulted in final cost report settlements that generally were
not finally settled until two years after the end of the cost reporting period
and that could be further delayed by appeals and litigation. All outstanding
pre-petition cost reports were settled in connection with the Global
Settlement.
35
Reimbursement rates from government sponsored programs, such as
Medicare and Medicaid, are strictly regulated and subject to funding
appropriations from federal and state governments. Ongoing efforts of
third-party payors to contain healthcare costs by limiting reimbursement rates,
increasing case management review and negotiating reduced contract pricing
continue to affect our revenues and profitability. Changes in reimbursement
rates, including the implementation of Medicare PPS, have adversely affected us
resulting in significantly lower Medicare revenues than we would have received
under the previous cost-based payment methodology.
Other Factors Affecting Liquidity and Capital Resources.
We have experienced a significant increase in our labor costs over the
course of the last year in certain markets in which we plan to continue
operations. While this has not yet had a material adverse effect on our
operations, there can be no assurance that an increase in nursing staff wages
will not have such an effect in the future. We believe that these increases are
a result of a decrease in the number of people entering the nursing profession
and an increased demand for nurses in the healthcare industry. We have
experienced increased staffing requirements in order to maintain compliance
with various Medicare and Medicaid programs. We anticipate that the nursing
staff shortage will accelerate, especially in light of a demographic review
indicating that a significant percentage of people engaged in the nursing
profession are nearing retirement age with no significant group of younger
nursing staff candidates to fill anticipated vacancies. We are exploring ways
in which to address this problem, including recruiting labor from overseas and
providing incentives for nurses to remain in our employment. However, we expect
this negative trend to continue.
We have experienced an increasing trend in the number and severity of
litigation claims asserted against us. Our management believes that this trend
is endemic to the long-term care industry and is a result of the increasing
number of large judgments, including large punitive damage awards, against
long-term care providers in recent years resulting in an increased awareness by
plaintiffs' lawyers of potentially large recoveries. We also believe that there
has been, and will continue to be, an increase in governmental investigatory
activity of long-term care providers, particularly in the area of false claims.
While we believe that we provide quality care to the patients in our facilities
and materially comply with all applicable regulatory requirements, an adverse
determination in a legal proceeding or governmental investigation, whether
currently asserted or arising in the future, could have a material adverse
effect on us. See "-Legal Proceedings."
Insurance costs in the long-term care industry for general liability
and professional liability coverage, or GL/PL, particularly in Florida and
Texas where we maintain significant operations, continue to rise. Significant
increases in the number of claims and the amount of an average claim continue.
Insurance markets have responded to this significant increase by severely
restricting the availability of long-term care GL/PL coverage. As a result of
the changes described above, fewer companies are engaged in insuring long-term
care companies; and those that do offer insurance coverage do so at a very high
cost. This is in large part a result of plaintiff lawyer activity in certain
markets in which we operate. We anticipate that these trends will continue, and
that GL/PL costs will continue to increase. These increases have already had an
adverse effect on our operations. No assurance can be given that our GL/PL
costs will not continue to rise, or that GL/PL coverage will be available to us
in the future.
We currently purchase excess liability insurance only and maintain an
unaggregated $1.0 million self-insured retention per claim in all states except
Colorado, where we maintain first dollar coverage. Prior to July 31, 1999, our
liability insurance policies included aggregated stop loss features limiting our
out-of-pocket exposure. With stop loss insurance unavailable to us, the expected
direct costs have continued to increase. This increased exposure will have a
delayed negative effect on our operating cash flow as claims develop over the
next several years.
We currently maintain two captive insurance subsidiaries to provide
for reinsurance obligations under workers' compensation, GL/PL, and automobile
liability for losses that occurred prior to April 1, 1998. These obligations
are funded with long-term, fixed income investments, which are not available to
satisfy other obligations of our company.
We also have significant rent obligations relating to our leased
facilities. Total rent expense was approximately $7.3 million, $15.6 million
and $31.3 million for the two months ended June 30, 2002, four months ended
April 30, 2002, and the six months ended June 30, 2001, respectively. We
estimate rent expense to be approximately $45.0 million for the twelve months
ended December 31, 2002. We have rejected approximately 60 leases of office
space no longer required by our existing operations or formerly used in
discontinued or divested business lines since the commencement of the Chapter
11 Cases.
36
In connection with the Joint Plan, we have undertaken a corporate
restructuring that will result in certain of our SNFs becoming subject to
applicable state and federal change of ownership ("CHOW") rules that may have
the effect of stopping or delaying the payment of amounts owed to us in respect
of the provision of services to Medicare and Medicaid patients. Although we do
not believe that the application of CHOW rules will result in a material
adverse effect on our cash flows, financial performance or results of
operations, no assurances can be made in this regard.
Cautionary Statements
Statements contained in this quarterly report that are not historical
facts may be forward-looking statements within the meaning of federal law. Such
forward-looking statements reflect our management's beliefs and assumptions and
are based on information currently available to our management. Forward-looking
statements involve known and unknown risks, uncertainties and other factors
that may cause our actual results, performance or achievements or industry
results to be materially different from any future results, performance or
achievements expressed or implied by such forward-looking statements. Such
factors include, among others, the following:
- - our existing and future indebtedness;
- - changes in Medicare, Medicaid and certain private payors'
reimbursement levels;
- - existing government regulations and changes in, or the failure to
comply with, governmental regulations;
- - the ability to control costs and implement measures designed to
enhance operating efficiencies;
- - legislative proposals for health care reform;
- - competition;
- - the ability to attract and retain qualified personnel at a reasonable
cost;
- - changes in current trends in the cost and volume of general and
professional liability claims;
- - possible investigations or proceedings against us initiated by states
or the federal government;
- - state regulation of the construction or expansion of health care
providers;
- - litigation;
- - unavailability of adequate insurance coverage on reasonable terms; and
- - an increase in senior debt or reduction in cash flow upon our purchase
or sale of assets.
All subsequent written and oral forward-looking statements
attributable to us or persons acting on our behalf are expressly qualified in
their entirety by the cautionary statements set forth or referred to above in
this paragraph. We disclaim any obligation to update such statements or to
publicly announce the result of any revisions to any of the forward-looking
statements contained herein to reflect future events or developments.
Forward-looking statements are those that are not historical in
nature, particularly those that use terminology such as "may," "will,"
"should," "expect," "anticipate," "contemplate," "estimate," "believe," "plan,"
"project," "predict," "potential," or "continue" or the negative of these or
similar terms. In evaluating these forward-looking statements, you should
consider various factors, including the factors described above and elsewhere
in this quarterly report. Such factors may cause our actual results to differ
materially from any forward-looking statement.
Forward-looking statements are only predictions. The forward-looking
events discussed in this quarterly report may not occur, and actual events and
results may differ materially and are subject to risks, uncertainties and
assumptions about us. We are not obligated to publicly update or revise any
forward-looking statements, whether as a result of new information, future
events or otherwise.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
The following discussion of our company's exposure to market risk
contains "forward-looking statements" that involve risks and uncertainties. The
information presented has been prepared using certain assumptions
37
considered reasonable in light of information currently available to us. Given
the unpredictability of interest rates as well as other factors, actual results
could differ materially from those projected in such forward-looking
information.
At June 30, 2002, our company's principal exposure to market risk
relates to changes in LIBOR which affects the interest paid on our variable
rate borrowings and the fair value of our fixed rate borrowings.
The following table provides information about our financial
instruments that are sensitive to changes in interest rates. The following
table presents principal cash flows and related weighted average interest rates
by expected maturity for the periods indicated (in thousands of dollars, except
interest rates):
EXPECTED MATURITIES
-----------------------------------------------------------------------------------------------------------
FAIR VALUE
AT
YEAR 1 YEAR 2 YEAR 3 YEAR 4 YEAR 5 THEREAFTER TOTAL JUNE 30, 2002
------ ------ ------ ------ ------ ---------- ------- -------------
Liabilities:
Long-term debt,
including
amounts due in
one year:
Fixed rate ...... $4,045 $23,077 $9,918 $9,121 $3,873 $ 77,867 $127,181 $127,901
Average interest
rate ......... 9.1% 8.2% 8.1% 7.8% 7.4% 7.3%
Variable rate ... $2,107 $ 2,086 $2,065 $2,044 $2,024 $351,144 $361,470 $361,470
Average interest
rate (a)
(a) Outstanding loans under the Senior Credit Facility bear
interest, at our election, using either a base rate or eurodollar rate, plus an
applicable margin which ranges from 1.25%-2.25% for base rate loans and
2.25%-3.25% for eurodollar rate loans. The Second Priority Notes bear interest
as a 3-month LIBOR, adjusted quarterly, plus 550 basis points.
PART II
ITEM 1. LEGAL PROCEEDINGS
As is typical in the healthcare industry, we are and will be subject
to claims that our services have resulted in resident injury or other adverse
effects, the risks of which will be greater for higher acuity residents
receiving services from us than for other long-term care residents. In
addition, resident, visitor, and employee injuries will also subject us to the
risk of litigation. We have experienced an increasing trend in the number and
severity of litigation and claims asserted against us. We believe that this
trend is endemic to the long-term care industry and is a result of the
increasing number of large judgments, including large punitive damage awards,
against long-term care providers in recent years resulting in an increased
awareness by plaintiff's lawyers of potentially large recoveries. In certain
states in which we have significant operations, insurance coverage for the risk
of punitive and certain other damages arising from general and professional
liability litigation may not be available in certain circumstances. There can
be no assurance that we will not be liable for punitive or other damages
awarded in litigation for which insurance coverage is not available. We also
believe that there has been, and will continue to be, an increase in
governmental investigations of long-term care providers, particularly in the
area of Medicare/Medicaid false claims as well as an increase in enforcement
actions resulting from these investigations. While we believe that we provide
quality care to the patients in our facilities and we materially comply with
all applicable regulatory requirements a materially adverse determination in a
legal proceeding or governmental investigation, whether currently asserted or
arising in the future, could have a material adverse effect on us.
From time to time, we have been party to various legal proceedings in
the ordinary course of business. In our opinion, except for the approval of the
Global Settlement by the Bankruptcy Court as discussed in Note 12 of the
38
accompanying unaudited condensed consolidated financial statements, there have
been no material developments in the litigation matters set forth in our
Transition Report.
The Company and its subsidiaries have reached a settlement with the
United States to resolve certain United States Claims against the Company and
its subsidiaries arising prior to the Petition Date (the "Global Settlement").
United States Claims are those claims or causes of action against the Company
asserted by or on behalf of the United States (including all of its agencies,
departments, agents, fiscal intermediaries, employees, assigns, or third
parties under 31 U.S.C. ss. 3730(b) or (d), and also including all qui tam
actions) seeking payments, damages, offsets, recoupments, penalties, attorneys'
fees, costs, expenses of any kind, or other remedies of any kind: (i) under the
False Claims Act, 31 U.S.C. ss.ss. 3729-3733; the Civil Monetary Penalties Law,
42 U.S.C. ss. 1320a-7a; and the Program Fraud Civil Remedies Act, 31 U.S.C.
ss.ss. 3801-3812; and/or other statutory or common law doctrines of payment by
mistake, unjust enrichment, breach of contract, or fraud; (ii) for
administrative overpayments, including claims or causes of action for services
rendered or products supplied under Medicare, under the TRICARE Program, 10
U.S.C. ss.ss. 1071-1106, or any other federal health program; (iii) for civil
monetary penalties imposed pursuant to 42 U.S.C. ss.1395i-3(h)(2)(B)(ii) and 42
U.S.C. ss. 1396r(h)(2)(A)(ii) or other applicable law; (iv) arising under any
provider agreement or similar agreement with the United States; and (v) for
permissive exclusion from Medicare, Medicaid, and other federal health programs
(as defined in 42 U.S.C. ss. 1320a-7b(f) and under 42 U.S.C. ss. 1320a-7(b) and
42 U.S.C. ss. 1320a-7a). The Global Settlement was approved by the Bankruptcy
Court on April 3, 2002.
Among other things, the Global Settlement provided that: (i) all
Medicare Claims and debts arising prior to the Petition Date were released as
between the Centers for Medicare and Medicaid Services ("CMS") and the Company;
(ii) the United States approved a settlement of Medicare administrative appeals
related to disallowances under the prudent buyer principle ("Prudent Buyer
Settlement"); the Company waived its rights to collect any amounts due pursuant
to the Prudent Buyer Settlement; CMS adjusted certain Medicare prospective
payment system ("PPS") base year cost reports so that certain SNF cost reports
with fiscal years ending December 31, 2001 and after are calculated accurately;
(iii) CMS will pay the Company $3.0 million; (iv) the Department of Justice
released the Company from certain "covered conduct" alleged within 6 qui tam
lawsuits and certain other disputes under the Federal False Claims Act; (v) the
Company is responsible for any attorney fees sought by qui tam relators'
counsel and any settlement will be negotiated by Company counsel; (vi) the
United States waived any claims for Medicare reimbursement for two voluntary
disclosures made by the Company to the United States; the United States also
waived any Claims for Medicare reimbursement related to an Office of Inspector
General ("OIG") investigation; (vii) the Company entered into a corporate
integrity agreement ("CIA") with the OIG; (viii) the Company rejected and
terminated certain provider agreements for discontinued operations; (ix) the
Company and the United States agreed to a list of facilities that are included
in this settlement; (x) all prepetition cost years (i.e., cost years ending on
or before the Petition Date) were fully and finally resolved by the settlement;
accordingly, the Company withdrew all pending challenges to CMS' determinations
relating to these cost years, including, but not limited to, administrative
appeals and requests for reopening; (xi) for cost years that span the Petition
Date CMS will finally settle the cost reports for such "straddle" years, and
the Company will retain its rights to appeal or request the reopening of such
years, but any relief awarded to the Company relating to such years will be
pro-rated so that the prepetition portion is waived and the postpetition
portion is preserved; and (xii) as part of the cure for the assumption of
Medicare provider agreements, or in the case of any rejected and terminated
provider agreements, the Company will pay as an administrative expense any
portion of a Medicare overpayment or civil monetary penalty that accrued after
the Petition Date.
The Company denies liability for the United States Claims. However, in
order to avoid the delay, uncertainty, inconvenience and expense of protracted
litigation, the parties have reached a negotiated settlement and compromise of
the United States Claims. The Global Settlement became effective on April 3,
2002. In accordance with accounting principles generally accepted in the United
States, the Company has recorded a charge of approximately $33.4 million
principally relating to the qui tam actions pertaining to the Global Settlement
in its statement of operations for the fourth quarter of the fiscal year ended
September 30, 2001.
On March 18, 1998, a complaint was filed under seal by a former
employee against the Company, certain of its predecessor entities and
affiliates in the United States District Court for the Northern District of
Alabama, alleging, inter alia, employment discrimination, wrongful discharge,
negligent hiring, violation of the Federal False Claims Act, and retaliation
under the False Claims Act. The action is titled Powell, et al. v. Paragon
Health Inc., et al., civil action No. CV-98-0630-S. This action has been
settled between the parties as part of the Global Settlement. Under the terms
of the Global Settlement, the plaintiff (relator) must shortly withdraw any
proof of claim filed in the bankruptcy and move for dismissal of this action.
39
On October 1, 1998, a class action complaint was asserted against
certain of the Company's predecessor entities and affiliates and certain other
parties in the Tampa, Florida, Circuit Court, Ayres, et al. v. Donald C.
Beaver, et al., case no. 98-7233. The complaint asserted three claims for
relief, including breach of fiduciary duty against one group of defendants,
breach of fiduciary duty against another group of defendants, and civil
conspiracy arising out of issues involving facilities previously operated by
the Brian Center Corporation or one of its subsidiaries, and later by a
subsidiary of LCA, a wholly-owned subsidiary of the Company, as a result of the
merger with Brian Center Corporation. In accordance with the Company's
voluntary filing under chapter 11 of the Bankruptcy Code, and more
particularly, section 362 of the Bankruptcy Code, all proceedings against the
Company were stayed on January 18, 2000. In exchange for the Company's
agreement to lift the stay, the plaintiffs have agreed to limit all recovery
from the Company in this case to insurance proceeds.
On November 16, 1998, a complaint was filed under seal by a former
employee against the Company, certain of its predecessor entities and
affiliates in the United States District Court for the Southern District of
Texas, alleging violation of the Federal False Claims Act. The action is titled
United States ex rel. Nelius, et al., v. Mariner Health Group, Inc., et al.,
civil action No. H-98-3851. This action has been settled between the parties as
part of the Global Settlement. Under the terms of the Global Settlement, the
plaintiff (relator) must shortly withdraw any proof of claim filed in the
bankruptcy. This action has been dismissed.
On October 27, 1999, the Company was served with a Complaint in United
States ex rel. Cindy Lee Anderson Rutledge and Partnership for Fraud Analysis
and State of Florida ex rel. Cindy Lee Anderson Rutledge Group, Inc., ARA
Living Centers, Inc. and Living Centers of America, Inc., No. 97-6801, filed in
the United States District Court for the Eastern District of Pennsylvania. This
action originally was filed under seal on November 5, 1997, by relators Cindy
Lee Anderson Rutledge and the Partnership for Fraud Analysis under the Federal
False Claims Act and the Florida False Claims Act. The Complaint alleges that
the Company is liable under the Federal False Claims Act and the Florida False
Claims Act for alleged violations of regulations pertaining to the training and
certification of nurse aides at former LCA facilities. This action has been
settled between the parties as part of the Global Settlement. Under the terms
of the Global Settlement, the plaintiff (relator) must shortly withdraw any
proof of claim filed in the bankruptcy. This action has been dismissed.
On approximately January 20, 2000, the OIG issued subpoenas duces
tecum to the Company and Summit Medical Management (a subsidiary of the
Company). The subpoenas request documents relating to the purchase of Summit
Medical Management and other subsidiaries. In addition, the subpoenas request
other broad categories of documents. As part of the Global Settlement
negotiations, the Company was informed that a complaint had been filed, United
States ex rel Weatherford v. Summit Institute of Pulmonary Medicine and
Rehabilitation, et al. (N.D.Ga.). The federal government informed the Company
that this matter involves claims under the Federal Civil False Claims Act
against a Company subsidiary and another health care provider. The complaint
alleges that the Company improperly accounted for a loan in cost reports
submitted on behalf of the Summit Institute of Pulmonary Medicine and Southwest
Medical Center by Forum Health, which falsely represented that payments of
principal and interest had been made. This action has been settled between the
parties as part of the Global Settlement. Under the terms of the Global
Settlement, the plaintiff (relator) must shortly withdraw any proof of claim
filed in the bankruptcy and move for the dismissal of this action (as to the
Company).
On approximately August 31, 2000, the United States Attorney for
Eastern District of Michigan issued a subpoena duces tecum to Cambridge East
Health Care Center, one of the Company's SNFs. The subpoena requested medical
records and other broad categories of documents. The Company produced a
substantial amount of documents responsive to the subpoena. Civil aspects of
this investigation were settled as part of the Global Settlement. On June 10,
2002, the United States Department of Justice informed the Company that the
remaining aspects of the investigation were now closed.
On approximately June 8, 1999, December 13, 2000, and October 16,
2001, the OIG issued subpoenas duces tecum to Mariner of Catonsville, one of
the Company's SNFs. The subpoenas request medical records pertaining to
residents and employment and business records. The subpoenas also request other
broad categories of documents. The Company produced a substantial amount of
documents responsive to the subpoenas. This investigation has been resolved as
part of the Global Settlement.
In connection with negotiating the Global Settlement, the Company was
apprised of an action entitled United States ex rel. Carroll. v. Living Centers
of America, et al., No. 97-cv-2606 (M.D. Fla.). This matter involves claims
under the Federal Civil False Claims Act against a number of the Company's
subsidiaries and other health care
40
providers. The complaint alleges that certain of the Company's facilities
engaged in fraudulent practices which resulted in their filing false claims
with the federal government in connection with reimbursement for durable
medical supplies under the Medicare program. The complaint also alleges that
certain of the Company's facilities engaged in a reimbursement scheme whereby
the facility entered into an illegal referral arrangement involving waiver of
co-insurance payments. This action has been settled between the parties as part
of the Global Settlement. Under the terms of the Global Settlement, the
plaintiff (relator) must shortly withdraw any proof of claim filed in the
bankruptcy and move for the dismissal of this action (as to the Company).
Also in connection with negotiating the Global Settlement, the Company
was apprised of two actions entitled United States ex rel. Roberts v. Vencor,
Inc., et al., No 96-cv-2308 (JWL)(D.Kan.) and United States ex rel. Rivera v.
Restore Respiratory Care, Inc., et al. (N.D.Ga.). These matters involve claims
under the Federal Civil False Claims Act against a number of the Company's
subsidiaries and other health care providers. The complaints allege that the
Company overbilled the United States for and maintained false or fraudulent
documentation of respiratory care services and associated supplies provided to
Medicare patients at certain of the Company's SNFs during the cost report years
1992 through 1999. This action has been settled between the parties as part of
the Global Settlement. Under the terms of the Global Settlement, the plaintiff
(relator) must shortly withdraw any proof of claim filed in the bankruptcy and
move for the dismissal of this action (as to the Company).
On June 11, 2001, one of the Company's insurance carriers ("Royal")
commenced an adversary proceeding in the Bankruptcy Court, styled Royal Surplus
Lines Insurance Company v. Mariner Health Group et al., Adversary Proceeding
No. A-01-4626 (MFW). In its complaint, Royal seeks, among other things, certain
declaratory judgments that Royal is not required to insure, in whole or in
part, certain of the personal injury claims falling under two policies of
general liability and professional liability insurance issued to the Company's
subsidiary, Mariner Health, by Royal. In particular, the adversary proceeding
raised the following issues, among others: (i) in cases alleging multiple
injuries or "continuing wrongs," what event triggers coverage; (ii) in such
cases, whether one or more self-insured retentions apply before coverage
becomes available; (iii) whether Royal has to drop down to provide "first
dollar" coverage under one policy; and (iv) with respect to a policy cancelled
by Royal on July 31, 1999, long before the policy would have expired by its
terms, whether the aggregate self-insured retention should be prorated due to
the cancellation.
On July 23, 2001, the Company filed an Answer, Affirmative Defenses,
and Counterclaim. The Counterclaim was amended on August 21, 2001 (as amended,
"Counterclaim"). The Counterclaim joined issue with certain of the declaratory
judgments sought by Royal, and also sought, inter alia, declaratory judgments
and monetary relief relating to, among other things: (i) whether the policies
are subject to self-insured retentions or deductibles; (ii) whether Royal
breached its duty to defend under the policies; and (iii) whether Royal
breached the alternative dispute resolution procedure order (the "ADR
Procedure") entered by the Bankruptcy Court or acted in bad faith in impeding
the Company's efforts under the ADR Procedure. Additionally, the Counterclaim
objected to Royal's proofs of claim.
One of the Company's excess insurance carriers, Northfield Insurance
Company ("Northfield") moved to intervene in the Royal adversary proceeding on
July 25, 2001. The Company did not oppose the motion to intervene, which was
subsequently granted.
Prior to the parties engaging in any significant discovery, the
parties agreed to mediate the issues arising out of the Royal adversary
proceeding. After the mediation, Royal agreed to dismiss its complaint without
prejudice, the Company agreed to dismiss the Counterclaim without prejudice,
and Royal and the Company agreed to work together to resolve claims in the ADR
Procedure. Northfield did not agree to dismiss its complaint in intervention.
Accordingly, the Company and Northfield are currently engaging in discovery.
In addition to the Global Settlement discussed above, the Company has
reached agreements with various states to resolve prepetition claims of
overpayments paid to the Company in excess of which it was entitled in
connection with services rendered, including civil and administrative
penalties. The settlements provide for, among other things, repayment of
approximately $8.4 million to the states and all Medicaid claims and debts
arising prior to the Petition Date were released between individual states and
the Company.
41
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
In connection with the effectiveness of the Joint Plan the company
issued the equity securities described below in reliance on the exemption
provided by Section 1145(b) of the Bankruptcy Code. In all cases, the
securities were issued in consideration of the claims held by creditors in
connection with the Chapter 11 Cases.
Common Stock
An aggregate of 20.0 million shares of the company's common stock, par
value $.01 per share, were issued to the classes of creditors described in the
company's Current Report on Form 8-K filed with the SEC on April 17, 2002.
Warrants
Warrants to purchase an aggregate of 753,786 shares of the company's
common stock, par value $.01 per share, were issued to the classes of creditors
described in the company's Current Report on Form 8-K filed with the SEC on
April 17, 2002. The initial exercise price of the warrants is $28.04. The
exercise period for the warrants began on May 13, 2002 and expires on the
second anniversary of the issuance of the warrants. The terms governing the
warrants are set forth in a Warrant Agreement, dated as of May 13, 2002,
between the company and American Stock Transfer and Trust Company, as Warrant
Agent, filed as Exhibit 4.1 to our Quarterly Report on Form 10-Q for the
quarterly period ended March 31, 2002.
ITEM 3. DEFAULTS UPON CERTAIN SECURITIES
On January 18, 2000, the company and substantially all of our
subsidiaries filed voluntary petitions for relief in the Bankruptcy Court under
chapter 11 title 11 of the Bankruptcy Code. As a result, during the period
covered by the quarterly report, no principal or interest payments were made on
prepetition indebtedness with the exception of repayments made against our
senior credit facilities as a result of the application of a majority of the
cash proceeds received from the disposition of assets and adequate protection
payments with regard to certain mortgaged facilities and notional amounts
related to certain capital equipment leases.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not applicable.
ITEM 5. OTHER INFORMATION
Not applicable.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
EXHIBITS
- --------
10.1 Employment Agreement dated April 4, 2002, between C. Christian Winkle, President and Chief
Executive Officer of Mariner Health Care, Inc., and Mariner Health Care, Inc. *
10.2 Employment Agreement dated May 13, 2002, between Boyd P. Gentry, Senior Vice President and
Treasurer of Mariner Health Care, Inc., and Mariner Health Care Management Company *
10.3 Employment Agreement dated May 13, 2002, between Stefano Miele, Senior Vice President, General
Counsel and Secretary of Mariner Health Care, Inc., and Mariner Health Care Management Company *
10.4 Employment Agreement dated May 13, 2002, between Terry P. O'Malley, Senior Vice President, Human
Resources of Mariner Health Care, Inc., and Mariner Health Care Management Company *
10.5 Employment Agreement dated May 13, 2002, between William C. Straub, Senior Vice President and
Chief Accounting Officer of Mariner Health Care, Inc., and Mariner Health Care Management
Company *
42
10.6 Employment Agreement dated May 13, 2002, between John M. Notermann, Senior Vice President,
Corporate Development of Mariner Health Care, Inc., and Mariner Health Care Management Company *
10.7 Employment Agreement dated May 13, 2002, between David F. Polakoff, M.D., Senior Vice President,
Chief Medical Officer of Mariner Health Care, Inc., and Mariner Health Care Management Company *
10.8 Civil and Administrative Settlement by and between the United States of America, acting through the
United States Department of Justice, and on behalf of the Office of Inspector General of the
Department of Health and Human Services and Mariner Post-Acute Network, Inc. (the predecessor
company to Mariner Health Care, Inc.), Mariner Health Group, Inc. and Affiliated Debtors dated
March 25, 2002
10.9 Corporate Integrity Agreement between the Office of Inspector General of the Department of
Health and Human Services and Mariner Health Care, Inc. effective as of April 3, 2002
10.10 Form of Management Agreement dated as of May 13, 2002, by and between Mariner Health Care
Management Company and the subsidiaries of Mariner Health Care, Inc. operating skilled nursing
facilities
10.11 Mariner Health Care, Inc. 2002 Stock Incentive Plan *
10.12 Mariner Health Care, Inc. 2002 Outside Directors' Stock Option Plan *
10.13 First Amendment to Credit and Guaranty Agreement dated as of August 9, 2002, by and among
Mariner Health Care, Inc., certain subsidiaries of Mariner Health Care, Inc., UBS AG, Stamford
Branch, as Administrative Agent, and the Senior Credit Facility Lenders signatory thereto.
10.14 Separation Agreement and General Release between Susan Thomas Whittle and Mariner Post-Acute
Network, Inc. *
99.1 Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002
99.2 Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002
* Management contract or compensation plan, contract or arrangement.
- ---------
(b) Reports on Form 8-K
On May 28, 2002 we filed a Current Report on Form 8-K announcing a
change of control of the company as a result of the effectiveness of the Joint
Plan on May 13, 2002 and describing the composition of our new stockholder
base.
43
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this report to be signed
on its behalf by the undersigned, thereunto duly authorized.
MARINER HEALTH CARE, INC.
(Registrant)
By: /s/ William C. Straub
----------------------------------------
William C. Straub
Senior Vice President and
Chief Accounting Officer (Principal
Financial and Accounting Officer)
Date: August 23, 2002
44