Back to GetFilings.com

Table of Contents

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

FORM 10-Q

(Mark One)

For the quarterly period ended September 30, 2003

or

For the transition period from ___________________ to ___________________

Commission File Number: 0-29818

(615) 372-8500
(Registrant’s telephone number, including area code)

Not Applicable
(Former name, former address and former fiscal year,
if changed since last report)

     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 o

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act).

Yes x  No o

     As of October 24, 2003, the number of outstanding shares of Common Stock of LifePoint Hospitals, Inc. was 37,690,983.

Table of Contents

PART I-FINANCIAL INFORMATION

Item 1. Financial Statements.

LIFEPOINT HOSPITALS, INC.

CONDENSED CONSOLIDATED STATEMENTS OF INCOME
UNAUDITED
(Dollars in millions, except per share amounts)

See accompanying notes.

2

Table of Contents

LIFEPOINT HOSPITALS, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS
(Dollars in millions, except per share amounts)

See accompanying notes.

3

Table of Contents

LIFEPOINT HOSPITALS, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
UNAUDITED
(In millions)

See accompanying notes.

4

Table of Contents

LIFEPOINT HOSPITALS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2003
(UNAUDITED)

NOTE 1 - ORGANIZATION AND BASIS OF PRESENTATION

     At September 30, 2003, LifePoint Hospitals, Inc. (the “Company”) was comprised of 28 general, acute care hospitals and related healthcare entities located in non-urban communities in the states of Alabama, Florida, Kansas, Kentucky, Louisiana, Tennessee, Utah, West Virginia and Wyoming.

     The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring adjustments) and disclosures considered necessary for a fair presentation have been included. Operating results for the three months and nine months ended September 30, 2003 are not necessarily indicative of the results that may be expected for the year ending December 31, 2003. For further information, refer to the consolidated financial statements and footnotes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2002.

     Certain prior year amounts have been reclassified to conform to the current year presentation. These reclassifications have no impact on total assets, liabilities, stockholders’ equity, net income or cash flows.

     As of January 1, 2003, the Company adopted Statement of Financial Accounting Standards (“SFAS”) No. 145, a standard that addresses the classification of gains or losses from early retirement of debt. Prior to the adoption of SFAS No. 145, the Company reported losses from the early retirement of debt as extraordinary items, net of tax benefits in the consolidated statement of income. During the three months and nine months ended September 30, 2002, the Company recorded a $2.5 million and $18.9 million extraordinary loss, net of tax benefits of $1.7 million and $11.6 million, respectively, that resulted from the early retirement of debt. These charges were reclassified to comply with SFAS No. 145 by reducing previously reported income before minority interest and income taxes by $4.2 million and $30.5 million and reducing income taxes by $1.7 million and $11.6 million for the three months and nine months ended September 30, 2002, respectively, in the accompanying condensed consolidated statements of income. This reclassification had no impact on reported net income.

5

Table of Contents

NOTE 2 - EARNINGS PER SHARE

     The following table sets forth the computation of basic and diluted earnings per share (dollars in millions, except per share amounts, and shares in thousands):

NOTE 3 - RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS

     In January 2003, the Financial Accounting Standards Board (“FASB”) issued Interpretation No. 46, “Consolidation of Variable Interest Entities, an Interpretation of Accounting Research Bulletin No. 51” (“FIN 46”). FIN 46 requires certain variable interest entities to be consolidated by the primary beneficiary of the entity if the equity investors in the entity do not have the characteristics of a controlling financial interest or do not have sufficient equity at risk for the entity to finance its activities without additional subordinated financial support from other parties. FIN 46 is effective for all new variable interest entities created or acquired after January 31, 2003. For variable interest entities created or acquired prior to February 1, 2003, the provisions of FIN 46, as amended, must be applied for the first interim or annual period ending after December 15, 2003. The Company does not expect FIN 46 to have a material effect on its future results of operations, financial position or liquidity.

NOTE 4 – STOCK BENEFIT PLANS

     The Company issues stock options and other stock-based awards to key employees and directors. SFAS No. 123, “Accounting for Stock-Based Compensation,” encourages, but does not require, companies to record compensation cost for stock-based employee compensation plans at fair value. In December 2002, the FASB issued SFAS No. 148, “Accounting for Stock-Based Compensation – Transition and Disclosure, an Amendment of FASB Statement No. 123.” SFAS No. 148 provides alternative methods of transition for companies making a voluntary change to fair value-based accounting for stock-based employee compensation. The Company continues to account for its stock-based compensation plans under the intrinsic value recognition and measurement principles of Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees,” and related Interpretations. Effective for interim periods beginning after December 15, 2002, SFAS No. 148 also requires

6

Table of Contents

disclosure of pro-forma results on a quarterly basis as if the Company had applied the fair value recognition provisions of SFAS No. 123.

     As the exercise price of all options granted under the Company’s incentive plans was equal to the market price of the underlying common stock on the grant date, no stock-based employee compensation is recognized in net income. The following table illustrates the effect on net income and earnings per share if the Company had applied the fair value recognition provisions of SFAS No. 123, as amended, to options granted under the stock option plans. For purposes of this pro-forma disclosure, the value of the options is estimated using a Black-Scholes option pricing model and amortized ratably to expense over the options’ vesting periods. Because the estimated value is determined as of the date of grant, the actual value ultimately realized by the employee may be significantly different.

     The Black-Scholes option valuation model was developed for use in estimating the fair value of traded options that have no vesting restrictions and are fully transferable. Option valuation models require the input of highly subjective assumptions including the expected stock price volatility. The Company’s employee stock options have characteristics significantly different from those of traded options. Changes in the subjective input assumptions can materially affect the fair value estimate. Other option valuation models may produce significantly different fair values of the Company’s employee stock options.

     The weighted average estimated value of stock options granted during the third quarter of 2003 was $10.41 ($11.82 for the third quarter of 2002), and for the nine months ended September 30, 2003 was $7.93 ($14.13 for the nine months ended September 30, 2002). These options were granted with an exercise price equal to the market price at the date of grant. These options become exercisable beginning in part from the date of grant to three years after the date of grant and expire 10 years after grant. The above table includes these additional stock options for the period subsequent to their grant. The values were estimated at the date of grant using the following weighted average assumptions:

7

Table of Contents

     Additional information with respect to stock option plan activity is as follows:

NOTE 5 - CONTINGENCIES

HCA Investigations, Litigation and Indemnification Rights

     HCA Inc. (“HCA”) has been the subject of various federal and state investigations, qui tam actions, shareholder derivative and class action suits, patient/payor actions and general liability claims. These investigations, actions and claims relate to HCA and its subsidiaries, including subsidiaries that, before the Company’s formation as an independent company, owned many of the facilities that the Company now owns.

     As of July 1, 2003, HCA had announced agreements with the Department of Justice that settled all federal criminal and civil litigation brought by the Department of Justice against HCA with respect to DRG coding, outpatient laboratory billing, home health issues, cost reports, physician relations and wound care issues. The settlement of these issues does not affect qui tam actions in which the Department of Justice has not intervened. Additionally, HCA has announced that it made payments to the Centers for Medicare and Medicaid Services (“CMS”) in accordance with an agreement to resolve all Medicare cost report, home office cost statement and appeal issues.

     HCA has agreed to indemnify the Company for any losses, other than consequential damages, arising from the governmental investigations of HCA’s business practices prior to the date of the distribution of the outstanding shares of the Company’s common stock to the stockholders of HCA and losses arising from legal proceedings, present or future, related to the investigation or actions engaged in before the distribution that relate to the investigation. However, the Company could be held responsible for any claims that are not covered by the agreements reached with the federal government or for which HCA is not required to, or fails to, indemnify the Company.

Internal Revenue Service Examination

     During 2003, the Internal Revenue Service (“IRS”) extended its examination of the Company’s federal income tax returns to include the calendar year ended December 31, 2001. During the third quarter of 2003, the IRS notified the Company regarding its findings related to the examination of the Company’s tax returns for the years ended December 31, 1999, 2000 and 2001. Management believes the one significant finding from the IRS examination of the Company’s federal tax returns related to the timing of the Company’s bad debt deduction. The IRS has disputed the Company’s computation of its tax deduction for bad debts during the years under examination resulting in an assessment of additional taxes of $7.4 million, which primarily represents a temporary difference. The IRS has delayed final settlement of this assessment until resolution of certain pending court proceedings related to the use of this bad debt deduction method by another hospital company. Management believes that adequate provisions have been reflected in the condensed consolidated financial statements to satisfy final resolution of the remaining disputed issue based upon current facts and circumstances.

8

Table of Contents

Americans with Disabilities Act Claim

     On January 12, 2001, Access Now, Inc., a disability rights organization, filed a class action lawsuit against each of the Company’s hospitals alleging non-compliance with the accessibility guidelines under the Americans with Disabilities Act (the “ADA”). The lawsuit, filed in the United States District Court for the Eastern District of Tennessee, seeks injunctive relief requiring facility modification, where necessary, to meet the Americans with Disabilities Act guidelines, along with attorneys fees and costs. In January 2002, the District Court certified the class action and issued a scheduling order that requires the parties to complete discovery and inspection for approximately six facilities per year. The Company intends to vigorously defend the lawsuit, recognizing the Company’s obligation to correct any deficiencies in order to comply with the ADA.

Corporate Integrity Agreement

     In December 2000, the Company entered into a corporate integrity agreement with the Office of Inspector General and agreed to maintain its compliance program in accordance with the corporate integrity agreement. This agreement was amended in April 2002. Complying with the compliance measures and reporting and auditing requirements of the corporate integrity agreement will require additional efforts and costs. Failure to comply with the terms of the corporate integrity agreement could subject the Company to significant monetary penalties.

General Liability Claims

     The Company is, from time to time, subject to claims and suits arising in the ordinary course of business, including claims for damages for personal injuries, medical malpractice, breach of contracts, wrongful restriction of or interference with physicians’ staff privileges and employment related claims. In certain of these actions, plaintiffs request punitive or other damages against the Company which may not be covered by insurance. The Company is currently not a party to any proceeding which, in management’s opinion, would have a material adverse effect on the Company’s business, financial condition or results of operations.

Physician Commitments

     The Company has committed to provide certain financial assistance pursuant to recruiting agreements with various physicians practicing in the communities it serves. In consideration for a physician relocating to one of the Company’s communities and agreeing to engage in private practice for the benefit of the respective community, the Company may loan certain amounts of money to a physician, normally over a period of one year, to assist in establishing his or her practice. The Company had committed to advance a maximum amount of approximately $27.9 million at September 30, 2003. The actual amount of such commitments to be subsequently advanced to physicians often depends upon the financial results of a physician’s private practice during the guaranteed period. Generally, amounts advanced under the recruiting agreements may be forgiven pro rata over a period of 48 months, contingent upon the physician continuing to practice in the respective community.

Capital Expenditure Commitments

     The Company is reconfiguring some of its facilities to accommodate more effectively inpatient and outpatient services and restructuring existing surgical capacity in some of its hospitals to permit additional patient volume and a greater variety of services. The Company had incurred approximately $38.2 million in uncompleted projects as of September 30, 2003, which is included in construction in progress in its accompanying condensed consolidated balance sheet. At September 30, 2003, the Company had projects under construction with an estimated additional cost to complete and equip of approximately $96.6 million.

     Pursuant to the asset purchase agreement for Ville Platte Medical Center, the Company has agreed to make certain capital improvements, the cost of which, together with the initial cash payment, defeasement of certain bonds and liabilities assumed, is not required to exceed $25.0 million. The capital improvements must be completed by December 1, 2004. The initial cash payment and liabilities assumed totaled $15.1 million, which leaves $9.9 million required for capital improvements. The Company had incurred approximately $3.0 million of the required capital improvements as of September 30, 2003.

9

Table of Contents

     Pursuant to the asset purchase agreement for Logan Regional Medical Center, the Company has agreed to expend, regardless of the results of the hospital’s operations, at least $20.0 million in the aggregate for capital expenditures and improvements during the ten-year period following the date of acquisition of December 1, 2002. The Company had incurred approximately $1.3 million of the required capital improvements as of September 30, 2003.

Prior Period Cost Report Settlements

     Hospitals participating in the Medicare and some Medicaid programs, whether paid on a reasonable cost basis or under a prospective payment system, are required to meet certain financial reporting requirements. Federal and, where applicable, state regulations require submission of annual cost reports identifying medical costs and expenses associated with the services provided by each hospital to Medicare beneficiaries and Medicaid recipients. The Company is current in filing its Medicare cost reports.

     Net adjustments to estimated third-party payor settlements resulted in an increase to the Company’s revenues of $6.2 million for the nine months ended September 30, 2003 compared to $7.9 million for the same period last year. The Company had net adjustments to estimated third-party payor settlements that increased revenues by $1.9 million and $5.8 million during the three months ended September 30, 2003 and 2002, respectively. The adjustments had a favorable diluted earnings per share effect of $0.08 and $0.11 for the nine months ended September 30, 2003 and 2002, respectively. The adjustments had a favorable diluted earnings per share effect of $0.03 and $0.09 for the three months ended September 30, 2003 and 2002, respectively.

Acquisitions

     The Company has acquired and will continue to acquire businesses with prior operating histories. Acquired companies may have unknown or contingent liabilities, including liabilities for failure to comply with healthcare laws and regulations, such as billing and reimbursement, fraud and abuse and similar anti-referral laws. Although the Company institutes policies designed to conform practices to its standards following completion of acquisitions, there can be no assurance that the Company will not become liable for past activities that may later be asserted to be improper by private plaintiffs or government agencies. Although the Company generally seeks to obtain indemnification from sellers covering such matters, there can be no assurance that any such matter will be covered by indemnification, or if covered, that such indemnification will be adequate to cover potential losses and fines.

NOTE 6 – GOODWILL AND INTANGIBLE ASSETS

     The changes in the carrying amount of goodwill for the nine months ended September 30, 2003, are as follows (in millions):

     The gross carrying amount of the Company’s intangible assets was $4.2 million as of September 30, 2003 and December 31, 2002, and the net carrying amount was $3.3 million and $3.8 million as of September 30, 2003 and December 31, 2002, respectively. Amortization expense on intangible assets during the three and nine months ended September 30, 2003 was $0.2 million and $0.6 million, respectively.

NOTE 7 – PROFESSIONAL AND GENERAL LIABILITY RESERVES

     The Company is subject to medical malpractice lawsuits and other claims as part of providing healthcare services. To mitigate a portion of this risk, the Company maintained insurance for individual malpractice claims exceeding $1.0 million for the years ended December 31, 2000 and 2001. For 2002, the Company increased its deductible to $10.0 million on individual malpractice claims. The Company lowered its deductible to $5.0 million on individual malpractice claims effective January 1, 2003. The Company’s reserves for professional and general

10

Table of Contents

liability risks are based upon independent actuarial calculations, which consider historical claims data, demographic considerations, severity factors and other actuarial assumptions in the determination of reserve estimates. Reserve estimates are discounted to present value using a 5.0% discount rate and are revised twice each year by the Company’s independent actuaries. The estimated reserve for professional and general liability claims will be significantly affected if current and future claims differ from historical trends. While management monitors reported claims closely and considers potential outcomes as estimated by its actuaries when determining its professional and general liability reserves, the complexity of the claims, the extended period of time to settle the claims and the wide range of potential outcomes complicates the estimation process.

     The Company implemented enhanced processes in monitoring claims and managing losses in high risk areas during 2002 and 2003 to attempt to reduce loss levels and appropriately manage risk. During the first quarter of 2003, the Company improved its estimation process for determining its reserves for professional and general liability risks by expanding from using one actuary to using multiple actuaries. The Company uses the calculations of each actuary by factoring each actuary’s results into the determination of the Company’s recorded reserve levels. This process results in a refined estimation approach that management believes produces a more reliable estimate of ultimate losses. Based upon the actuarial valuations performed using June 30, 2003 loss information and the results of the enhanced processes described above, the change in the estimation process decreased the Company’s projected reserves. During the three and nine months ended September 30, 2003, the Company estimates it recognized approximately $1.2 million, or $0.02 per diluted share, and $4.1 million, or $0.06 per diluted share, respectively, of this reduction in projected reserves as pretax lower insurance cost, which assumes that the actuarial calculations remain unchanged for the remainder of 2003. The Company’s reserve levels are monitored throughout the year and will be reassessed at year-end based upon updated actuarial estimates. The Company’s actual year-end reserve levels will be established based upon the year-end actuarial calculations and will likely change from the Company’s current estimates.

     The reserve for professional and general liability risks was $28.8 million and $25.1 million at September 30, 2003 and December 31, 2002, respectively. The total cost of professional and general liability coverage for the three months ended September 30, 2003 and 2002 was approximately $1.4 million and $3.3 million, respectively. The total cost of professional and general liability coverage for the nine months ended September 30, 2003 and 2002 was approximately $8.9 million and $9.7 million, respectively.

NOTE 8 – ACQUISITION OF SPRING VIEW HOSPITAL

     Effective October 1, 2003, the Company acquired the 75-bed Spring View Hospital in Lebanon, Kentucky from Norton Healthcare for approximately $15.5 million, including working capital, which is included in unallocated purchase price on the Company’s accompanying balance sheet. The Company did not acquire the patient accounts receivable related to this hospital. The acquisition also included Spring View Nursing Home and Spring View Pediatrics. The Company used its available cash to pay for this acquisition on September 30, 2003. The combined annual revenues for this hospital and nursing home is approximately $21.3 million.

NOTE 9 – STOCK REPURCHASE PROGRAM

     On April 28, 2003, the Company announced that its Board of Directors authorized the repurchase of up to $100 million of its outstanding shares of common stock either in the open market or through privately negotiated transactions, subject to market conditions, regulatory constraints and other factors. The Company, which had approximately 38.4 million shares of common stock outstanding as of September 30, 2003, is not obligated to repurchase any specific number of shares under the program. The Company expects its purchases to be funded with a portion of the Company’s available cash and funds available under the Company’s amended and restated credit facility.

     As of September 30, 2003, the Company had used its available cash to purchase 1,323,800 shares for an aggregate purchase price of approximately $28.0 million, which repurchased shares are designated by the Company as treasury stock. The Company records treasury stock purchases at cost. The Company retired 863,600 of its 1,323,800 treasury shares.

     As of October 24, 2003, the Company had purchased an additional 710,000 shares for an aggregate purchase price of approximately $17.0 million subsequent to September 30, 2003.

11

Table of Contents

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations.

     We recommend that you read this discussion together with our unaudited condensed consolidated financial statements and related notes included elsewhere in this report.

Overview

     At September 30, 2003, we operated 28 general, acute care hospitals and related healthcare entities located in non-urban communities in the states of Alabama, Florida, Kansas, Kentucky, Louisiana, Tennessee, Utah, West Virginia and Wyoming.

Forward-Looking Statements

     This report and other materials we have filed or may file with the Securities and Exchange Commission, as well as information included in oral statements or other written statements made, or to be made, by us, contain, or will contain, disclosures which are “forward-looking statements.” Forward-looking statements include all statements that do not relate solely to historical or current facts and can be identified by the use of words such as “may,” “believe,” “will,” “expect,” “project,” “estimate,” “anticipate,” “plan” or “continue.” These forward-looking statements are based on the current plans and expectations of our management and are subject to a number of uncertainties and risks that could significantly affect our current plans and expectations and future financial condition, results of operations and cash flows. These factors include, but are not limited to:

	•		reduction in payments to healthcare providers by government and commercial third-party payors, as well as cost-containment efforts of insurers and other payors;
	•		the collectibility of uninsured accounts and deductible and co-payment amounts;
	•		failure to comply, or allegations of lack of compliance with, applicable laws and regulations;
	•		the possibility of adverse changes in federal, state or local regulations affecting the healthcare industry, including the uncertain impact on payment for services and supplies by the Medicare program contained in the Prescription Drug Bill presently being considered by the House and Senate Conference Committee;
	•		our ability to manage healthcare risks resulting from the delivery of patient care, claims and legal actions relating to professional liabilities and the lack of state and federal tort reform;
	•		uncertainty associated with compliance with the Health Insurance Portability and Accountability Act of 1996 regulations;
	•		the ability to enter into and renew payor arrangements on acceptable terms;
	•		the ability to maintain and increase patient volumes and control the costs of providing services and supply costs;
	•		the availability, cost and terms of insurance coverage for us, our hospitals and physicians who practice at our hospitals;
	•		the highly competitive nature of the healthcare business, including competition to recruit and retain general and specialized physicians, as well as competition from other specialized providers and competing services rendered in physician offices;
	•		the ability to attract and retain qualified management and personnel, including physicians, nurses and clinical support personnel, consistent with our expectations and targets;
	•		the geographic concentration of our operations;

12

Table of Contents

	•		our ability to acquire hospitals on favorable terms and to complete budgeted capital improvements of our existing facilities successfully;
	•		our ability to integrate newly acquired facilities successfully;
	•		the availability and terms of capital to fund our business strategy;
	•		the potential adverse impact of government investigations and litigation involving the business practices of HCA (to the extent relating to periods prior to our formation) and of other healthcare providers (to the extent such investigations and litigation may affect us or our industry segment);
	•		the financial viability of third-party payors;
	•		our ongoing efforts to monitor, maintain and comply with applicable laws, regulations, policies and procedures including those required by the corporate integrity agreement that we entered into with the government in December 2000, and amended in April 2002, and those that, if violated, could cause any of our facilities to lose its state license or its ability to receive payments under the Medicare, Medicaid and TRICARE programs;
	•		our reliance on information technology systems developed and maintained by HCA;
	•		successful development or license of software and management information systems used for effective claims processing;
	•		changes in accounting practices as required under generally accepted accounting principles in the United States;
	•		volatility in the market value of our common stock and resulting costs to us to administer our Employee Stock Ownership Plan (“ESOP”);
	•		our ability to complete and the impact of our share repurchase program;
	•		changes in general economic conditions in the markets where our facilities are located, including decreases in employment and Medicaid coverage;
	•		changes in the manner in which employers provide healthcare coverage to their employees, including cost-shifting to employees through higher co-payments;
	•		inflationary pressures;
	•		changes in our liquidity or indebtedness; and
	•		other risk factors described in this report.

     As a consequence, current plans, anticipated actions and future financial conditions and results may differ from those expressed in any forward-looking statements made by or on behalf of our company. We undertake no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise. You are cautioned not to rely unduly on such forward-looking statements when evaluating the information presented in this report.

Results of Operations

     The key metrics we use internally to evaluate our revenues are equivalent admissions, which equates to volume, and revenues per equivalent admission, which relates to pricing and acuity. The growth in outpatient revenues lowers our growth in revenues per equivalent admission, as revenues from outpatient services are generally lower than inpatient revenues. We continue to receive pressures from payors to shift to more outpatient procedures.

13

Table of Contents

Revenue/Volume Trends

     We anticipate that our patient volumes and related revenues will increase as a result of the following factors:

	•		Expanding Service Offerings. We believe our efforts to improve the quality and broaden the scope of healthcare services available at our facilities will lead to increased patient volumes. Recruiting and retaining both primary care physicians and specialists for our non-urban communities is a key to the success of these efforts. Between January 1, 1998 and September 30, 2003, we recruited 435 physicians, of which 309 have been retained by us. Adding new physicians should help increase both inpatient and outpatient volumes which, in turn, should increase revenues. Approximately 56% of our retained physicians are specialists. Continuing to add specialists should also allow us to grow by offering new services. In addition, increases in capital expenditures at our hospitals should increase local market share and help persuade patients to obtain healthcare services within their communities.
	•		Medicare Rate Increases. On August 1, 2003, the CMS issued its updated rules for 2004 affecting Medicare payments to acute-care hospitals, rehabilitation hospitals and units, and skilled nursing facilities. The updated rules include a 3.4% increase in payment rates for inpatient acute care, beginning October 1, 2003. Also, under the new rule, the outlier threshold will decrease from $33,560 to $31,000. The rules update other payment factors, as well, including the wage index, diagnosis-related-group weights, expansion of the diagnosis-related-group transfer rule from ten diagnosis-related-groups to 29, and other factors that influence prospective payments. Consequently, the percentage increases described above may not be fully realized in the final payments. Other changes in the overall inpatient system rule have less significant positive and negative effects.

     Although we anticipate our patient volumes to increase, the resulting revenues will likely be offset in part by the following factors:

	•		Discounts Received by Medicare, Medicaid and Managed Care Plans. We derive a significant portion of our business from Medicare, Medicaid and managed care plans. Admissions related to Medicare, Medicaid and managed care plan patients were 91.8% and 92.2% of total admissions for the nine months ended September 30, 2003 and 2002, respectively. These payors receive significant discounts.
	•		Reductions in Medicaid Payments. Many of the states in which we operate are experiencing serious budgetary problems and have implemented or proposed new legislation that could significantly reduce the payments they make to hospitals under their Medicaid programs. These pending actions could have a material adverse effect on our financial condition and results of operations.
	•		Efforts to Reduce Payments. Other third-party payors also negotiate discounted fees rather than paying standard prices. An increasing proportion of our services are reimbursed under predetermined payment amounts regardless of the cost incurred. In addition, employers are cost-shifting to employees through higher co-payments.
	•		Growth in Outpatient Services. We anticipate that the growth trend in outpatient services will continue. A number of procedures once performed only on an inpatient basis have been, and will likely continue to be, converted to outpatient procedures. This conversion has occurred through continuing advances in pharmaceutical and medical technologies and as a result of efforts made by payors to control costs. Generally, the payments we receive for outpatient procedures are less than those for similar procedures performed in an inpatient setting. Net outpatient revenues as a percentage of total revenues increased from 50.1% in the nine months ended September 30, 2002 to 50.8% in the nine months ended September 30, 2003.

Cost Containment

     We seek to control costs by, among other things, reducing labor costs by improving labor productivity and attempting to decrease the use of contract labor, when appropriate, controlling supply expenses through the use of a group purchasing organization and reducing uncollectible revenues. We have implemented cost control initiatives such as adjusting staffing levels according to patient volumes, modifying supply purchases according to usage patterns and providing training to hospital staff in more efficient billing and collection processes. We believe that as

14

Table of Contents

our company grows, we will likely benefit from our ability to spread fixed administrative costs over a larger base of operations.

     There is no assurance that we can contain certain costs in the future. As a result of the general shortage of nurses and medical technicians in the healthcare industry, we may experience an increase in salaries and benefits expense if we are forced to hire additional contract health professionals or increase salaries to attract and retain our clinical employees.

     Pressure on payment levels, the increase in outpatient services and the large number of our patients who participate in discounted plans will present ongoing challenges for us. These challenges are intensified by our inability to control these trends and the associated risks. To maintain or improve operating margins in the future, we must, among other things, increase patient volumes while controlling the costs of providing services.

Impact of Acquisitions

     Because of the relatively small number of hospitals we own, each hospital acquisition can materially affect our overall operating margin. We typically take a number of steps to lower operating costs when we acquire a hospital. The impact of our actions may be offset by other cost increases to expand services, strengthen medical staff and attract additional patients to our facilities. The benefits of our investments and of other activities to improve operating margins generally do not occur immediately. Consequently, the financial performance of a newly acquired hospital may adversely affect our overall operating margin in the short term. As we acquire additional hospitals, this effect may be mitigated by the expanded financial base of our existing hospitals and the allocation of corporate overhead among a larger number of hospitals.

     Effective October 1, 2003, we acquired the 75-bed Spring View Hospital in Lebanon, Kentucky from Norton Healthcare for approximately $15.5 million, including working capital. We did not acquire the patient accounts receivable related to this hospital. The acquisition also included Spring View Nursing Home and Spring View Pediatrics. We used our available cash to pay for this acquisition. The combined annual revenues for this hospital and nursing home is approximately $21.3 million.

15

Table of Contents

Operating Results Summary

     The following is a summary of results of operations for the three months and nine months ended September 30, 2003 and 2002 (dollars in millions, except for revenues per equivalent admission):