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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

 

For the Quarter Ended

June 30, 2003

 

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

Commission File Number: 1-4034

 

DAVITA INC.

 

21250 Hawthorne Blvd., Suite 800

Torrance, California 90503-5517

Telephone number (310) 792-2600

 

Delaware   51-0354549
(State of incorporation)   (I.R.S. Employer Identification No.)

 

The Registrant 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 and has been subject to such filing requirements for the past 90 days.

 

The Registrant is an accelerated filer (as defined in Rule 12b-2 of the Act).

 

As of July 31, 2003, there were approximately 66.5 million shares of the Registrant’s common stock (par value $0.001) outstanding.

 



Table of Contents

DAVITA INC.

 

INDEX

 

          Page
No.


PART I.    FINANCIAL INFORMATION     

Item 1.

  

Condensed Consolidated Financial Statements:

    
    

Consolidated Balance Sheets as of June 30, 2003 and December 31, 2002

   1
    

Consolidated Statements of Income and Comprehensive Income for the three and six months ended June 30, 2003 and June 30, 2002

   2
    

Consolidated Statements of Cash Flows for the six months ended June 30, 2003 and June 30, 2002

   3
    

Notes to Condensed Consolidated Financial Statements

   4

Item 2.

  

Management’s Discussion and Analysis of Financial Condition and Results of Operations

   10

Item 3.

  

Quantitative and Qualitative Disclosures About Market Risk

   14

Item 4.

  

Controls and Procedures

   14

Risk Factors

   15
PART II.    OTHER INFORMATION     

Item 1.

  

Legal Proceedings

   20

Item 2.

  

Changes in Securities and Use of Proceeds

   20

Item 4.

  

Submission of Matters to a Vote of Security Holders

   20

Item 6.

  

Exhibits and Reports on Form 8-K

   21

Signature

   22

Note: Items 3 and 5 of Part II are omitted because they are not applicable.

 

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DAVITA INC.

 

CONSOLIDATED BALANCE SHEETS

(unaudited)

(dollars in thousands, except per share data)

 

     June 30,
2003


    December 31,
2002


 
ASSETS                 

Cash and cash equivalents

   $ 315,606     $ 96,475  

Accounts receivable, less allowance of $49,361 and $48,927

     346,209       344,292  

Inventories

     30,111       34,929  

Other current assets

     26,275       28,667  

Deferred income taxes

     47,666       40,163  
    


 


Total current assets

     765,867       544,526  

Property and equipment, net

     314,374       298,475  

Amortizable intangibles, net

     61,198       63,159  

Investments in third-party dialysis businesses

     3,266       3,227  

Other long-term assets

     2,972       1,520  

Goodwill

     901,714       864,786  
    


 


     $ 2,049,391     $ 1,775,693  
    


 


LIABILITIES AND SHAREHOLDERS’ EQUITY                 

Accounts payable

   $ 83,821     $ 77,890  

Other liabilities

     115,106       101,389  

Accrued compensation and benefits

     94,812       95,435  

Current portion of long-term debt

     47,314       7,978  

Income taxes payable

     20,486       9,909  
    


 


Total current liabilities

     361,539       292,601  

Long-term debt

     1,409,687       1,311,252  

Other long-term liabilities

     12,914       9,417  

Deferred income taxes

     78,187       65,930  

Minority interests

     28,390       26,229  

Shareholders’ equity:

                

Preferred stock ($0.001 par value, 5,000,000 shares authorized; none issued)

                

Common stock ($0.001 par value, 195,000,000 shares authorized; 89,790,206 and 88,874,896 shares issued)

     90       89  

Additional paid-in capital

     532,133       519,369  

Retained earnings

     288,270       213,337  

Treasury stock, at cost (28,185,827 and 28,216,177 shares)

     (661,819 )     (662,531 )
    


 


Total shareholders’ equity

     158,674       70,264  
    


 


     $ 2,049,391     $ 1,775,693  
    


 


 

See notes to condensed consolidated financial statements.

 

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DAVITA INC.

 

CONSOLIDATED STATEMENTS OF INCOME AND COMPREHENSIVE INCOME

(unaudited)

(dollars in thousands, except per share data)

 

     Three months ended
June 30,


   Six months ended
June 30,


     2003

   2002

   2003

   2002

Net operating revenues

   $ 489,883    $ 442,677    $ 949,690    $ 870,342

Operating expenses and charges:

                           

Dialysis centers and labs

     335,986      300,552      652,696      592,186

General and administrative

     42,583      39,634      79,370      75,687

Depreciation and amortization

     17,921      15,698      35,366      31,503

Provision for uncollectible accounts

     8,780      5,882      17,017      11,137

Minority interests and equity income, net

     1,813      2,164      3,107      4,299
    

  

  

  

Total operating expenses and charges

     407,083      363,930      787,556      714,812
    

  

  

  

Operating income

     82,800      78,747      162,134      155,530

Debt expense

     19,495      17,139      38,951      32,211

Refinancing charges

            48,930             48,930

Other income

     890      2,620      1,675      2,887
    

  

  

  

Income before income taxes

     64,195      15,298      124,858      77,276

Income tax expense

     25,675      6,928      49,925      32,928
    

  

  

  

Net earnings

   $ 38,520    $ 8,370    $ 74,933    $ 44,348
    

  

  

  

Comprehensive income

   $ 38,520    $ 8,370    $ 74,933    $ 44,348
    

  

  

  

Earnings per share:

                           

Basic

   $ 0.63    $ 0.10    $ 1.23    $ 0.55
    

  

  

  

Diluted

   $ 0.55    $ 0.10    $ 1.07    $ 0.52
    

  

  

  

Weighted average shares for earnings per

share:

                           

Basic

     61,305,955      79,784,841      61,097,841      81,366,393
    

  

  

  

Diluted

     79,188,721      83,022,414      78,964,493      89,814,524
    

  

  

  

 

 

See notes to condensed consolidated financial statements.

 

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DAVITA INC.

 

CONSOLIDATED STATEMENTS OF CASH FLOWS

(unaudited)

(dollars in thousands)

 

     Six months ended
June 30,


 
     2003

    2002

 

Cash flows from operating activities:

                

Net earnings

   $ 74,933     $ 44,348  

Adjustments to reconcile net earnings to cash provided by operating activities:

                

Depreciation and amortization

     35,366       31,503  

Impairments and valuation adjustments, net

             (2,390 )

Loss (gain) on divestitures

     343       (462 )

Deferred income taxes

     4,754       11,843  

Non-cash debt expense

     1,958       1,526  

Stock options, principally tax benefits

     5,699       16,304  

Equity investment income

     (967 )     (960 )

Minority interests in income of consolidated subsidiaries

     4,074       5,260  

Refinancing charges

             48,930  

Distributions to minority interests

     (3,685 )     (4,138 )

Changes in operating assets and liabilities, excluding acquisitions and divestitures:

                

Accounts receivable

     (740 )     (20,471 )

Inventories

     5,327       2,436  

Other current assets

     2,495       (4,533 )

Other long-term assets

     (2,774 )     151  

Accounts payable

     5,852       9,315  

Accrued compensation and benefits

     (716 )     6,367  

Other current liabilities

     13,554       (536 )

Income taxes

     10,577       (3,694 )

Other long-term liabilities

     3,377       1,118  
    


 


Net cash provided by operating activities

     159,427       141,917  
    


 


Cash flows from investing activities:

                

Additions of property and equipment, net

     (42,077 )     (43,691 )

Acquisitions and divestitures, net

     (47,035 )     (1,426 )

Investments in affiliates, net

     2,663       1,857  

Intangible assets

     754       (30 )
    


 


Net cash used in investing activities

     (85,695 )     (43,290 )
    


 


Cash flows from financing activities:

                

Borrowings

     1,350,195       1,323,335  

Payments on long-term debt

     (1,212,574 )     (819,107 )

Debt redemption premium

             (40,910 )

Deferred financing costs

             (10,781 )

Purchase of treasury stock

             (474,438 )

Proceeds from issuance of common stock

     7,778       23,583  
    


 


Net cash provided by financing activities

     145,399       1,682  
    


 


Net increase in cash

     219,131       100,309  

Cash and cash equivalents at beginning of period

     96,475       36,711  
    


 


Cash and cash equivalents at end of period

   $ 315,606     $ 137,020  
    


 


 

See notes to condensed consolidated financial statements.

 

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DAVITA INC.

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(unaudited)

(dollars in thousands, except per share data)

 

Unless otherwise indicated in this Form 10-Q “the Company”, “we”, “us”, “our” and similar terms refer to DaVita Inc. and its subsidiaries.

 

1.    Condensed consolidated interim financial statements

 

The condensed consolidated interim financial statements included in this report are prepared by the Company without audit. In the opinion of management, all adjustments consisting only of normal recurring items necessary for a fair presentation of the results of operations are reflected in these consolidated interim financial statements. All significant intercompany accounts and transactions have been eliminated. The preparation of these financial statements requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses. The most significant estimates and assumptions underlying these financial statements and accompanying notes generally involve revenue recognition and provisions for uncollectible accounts, impairments and valuation adjustments, accounting for income taxes and variable compensation accruals. The results of operations for the six months ended June 30, 2003 are not necessarily indicative of the operating results for the full year. The consolidated interim financial statements should be read in conjunction with the Management’s Discussion and Analysis and consolidated financial statements and notes thereto included in the Company’s 2002 Form 10-K. Financial statement presentations and classifications have been conformed for all periods presented.

 

Stock-based compensation

 

If the Company had adopted the fair value-based compensation expense provisions of Financial Accounting Standards Board (FASB) Statement of Financial Accounting Standards (SFAS) No. 123 upon the issuance of that standard, net earnings and net earnings per share would have been adjusted to the pro forma amounts indicated below:

 

Pro forma - As if all stock options were expensed    Three months ended
June 30,


    Six months ended
June 30,


 
     2003

    2002

    2003

    2002

 

Net earnings:

                                

As reported

   $ 38,520     $ 8,370     $ 74,933     $ 44,348  

Add: Stock-based employee compensation expense included in reported net earnings, net of tax

     274       205       435       293  

Deduct: Total stock-based employee compensation expense under the fair value-based method, net of tax

     (2,631 )     (2,282 )     (4,542 )     (5,843 )
    


 


 


 


Pro forma net earnings

     36,163       6,293       70,826       38,798  
    


 


 


 


Pro forma basic earnings per share:

                                

Pro forma net earnings for basic earnings per share calculation

     36,163       6,293       70,826       38,798  
    


 


 


 


Weighted average shares outstanding

     61,243       79,743       61,035       81,324  

Vested deferred stock units

     63       42       63       42  
    


 


 


 


Weighted average shares for basic earnings per share calculation

     61,306       79,785       61,098       81,366  
    


 


 


 


Basic net earnings per share—pro forma

   $ 0.59     $ 0.08     $ 1.16     $ 0.48  
    


 


 


 


Basic net earnings per share—as reported

   $ 0.63     $ 0.10     $ 1.23     $ 0.55  
    


 


 


 


 

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DAVITA INC.

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(continued)

(unaudited)

(dollars in thousands, except per share data)

 

Pro forma - As if all stock options were expensed   Three months
ended June 30,


   Six months ended
June 30,


    2003

  2002

   2003

   2002

Pro forma diluted earnings per share:

                         

Pro forma net earnings

  $ 36,163   $ 6,293    $ 70,826    $ 38,798

Debt expense savings, net of tax, from assumed conversion of convertible debt

    4,915            9,830      2,134
   

 

  

  

Pro forma net earnings for diluted earnings per share calculation

    41,078     6,293      80,656      40,932
   

 

  

  

Weighted average shares outstanding

    61,243     79,743      61,035      81,324

Vested deferred stock units

    63     42      63      42

Assumed incremental shares from stock plans

    2,950     4,147      2,859      4,872

Assumed incremental shares from convertible debt

    15,394            15,394      4,879
   

 

  

  

Weighted average shares for diluted earnings per share calculation

    79,650     83,932      79,351      91,117
   

 

  

  

Diluted net earnings per share—pro forma

  $ 0.52   $ 0.07    $ 1.02    $ 0.45
   

 

  

  

Diluted net earnings per share—as reported

  $ 0.55   $ 0.10    $ 1.07    $ 0.52
   

 

  

  

 

2.    Earnings per share

 

The reconciliation of the numerators and denominators used to calculate basic and diluted earnings per share is as follows:

 

    Three months
ended June 30,


  Six months ended
June 30,


    2003

  2002

  2003

  2002

Basic:

                       

Net earnings

  $ 38,520   $ 8,370   $ 74,933   $ 44,348
   

 

 

 

Weighted average shares outstanding during the period

    61,243     79,743     61,035     81,324

Vested deferred stock units

    63     42     63     42
   

 

 

 

Weighted average shares for basic earnings per share calculations

    61,306     79,785     61,098     81,366
   

 

 

 

Basic earnings per share

  $ 0.63   $ 0.10   $ 1.23   $ 0.55
   

 

 

 

Diluted:

                       

Net earnings

  $ 38,520   $ 8,370   $ 74,933   $ 44,348

Debt expense savings, net of tax, from assumed conversion of convertible debt

    4,915           9,830     2,134
   

 

 

 

Net earnings for diluted earnings per share calculations

  $ 43,435   $ 8,370   $ 84,763   $ 46,482
   

 

 

 

Weighted average shares outstanding during the period

    61,243     79,743     61,035     81,324

Vested deferred stock units

    63     42     63     42

Assumed incremental shares from stock plans

    2,489     3,238     2,473     3,570

Assumed incremental shares from convertible debt

    15,394           15,394     4,879
   

 

 

 

Weighted average shares for diluted earnings per share calculations

    79,189     83,023     78,965     89,815
   

 

 

 

Diluted earnings per share

  $ 0.55   $ 0.10   $ 1.07   $ 0.52
   

 

 

 

 

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DAVITA INC.

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(continued)

(unaudited)

(dollars in thousands, except per share data)

 

See Note 3, Reclassification of previously reported extraordinary losses, regarding the restatement of earnings per share for the three and six months ended June 30, 2002.

 

The calculation of diluted earnings per share assumes conversion of the 5 5/8% convertible subordinated notes for the three months ended June 30, 2003 and the six months ended June 30, 2003 and 2002. The calculation also assumes conversion of the 7% convertible subordinated notes for the three and six months ended June 30, 2003. No conversion is assumed in periods for which the effect is anti-dilutive.

 

Shares associated with stock options that have exercise prices greater than the average market price of shares outstanding during the period, which were not included in the computation of diluted earnings per share because they were anti-dilutive, are as follows:

 

     Three months ended
June 30,


   Six months ended
June 30,


     2003

   2002

   2003

   2002

Shares under stock options not included in computation (shares in 000’s)

     1,108      978      2,789      808

Exercise price range of shares not included in computation:

                           

Low

   $ 23.36    $ 24.06    $ 22.90    $ 23.84

High

   $ 33.00    $ 33.00    $ 33.00    $ 33.00

 

3.    Reclassification of previously reported extraordinary losses

 

In accordance with SFAS No. 145 Rescission of FASB Statements No. 4, 44, and 64, Amendment of FASB Statement No. 14, and Technical Corrections, which became effective as of January 1, 2003, losses from the extinguishment of debt previously classified as an extraordinary item of $29,358, net of tax, have been reclassified to refinancing charges of $48,930 before taxes for the three and six months ending June 30, 2002. The classification change had no impact on net earnings. As a result of this classification change, previously reported diluted net earnings per share for the three and six months ended June 30, 2002 of $0.13 and $0.54 have been restated to $0.10 and $0.52, respectively, for the convertible subordinated notes that are no longer considered dilutive to income after this classification change.

 

4.    Long-term debt

 

Long-term debt was comprised of the following:

 

     June 30,
2003


    December 31,
2002


 

Term loan A

   $ 135,211     $    

Term loan B

     839,375       841,825  

Convertible subordinated notes, 7%, due 2009

     345,000       345,000  

Convertible subordinated notes, 5 5/8%, due 2006

     125,000       125,000  

Capital lease obligations

     8,359       6,820  

Acquisition obligations and other notes payable

     4,056       585  
    


 


       1,457,001       1,319,230  

Less current portion

     (47,314 )     (7,978 )
    


 


     $ 1,409,687     $ 1,311,252  
    


 


 

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Table of Contents

DAVITA INC.

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(continued)

(unaudited)

(dollars in thousands, except per share data)

 

Scheduled maturities of long-term debt at June 30, 2003 were as follows:

 

2004

   $ 47,314

2005

     42,976

2006

     170,136

2007

     139,794

2008

     405,988

Thereafter

     650,793

 

On July 15, 2003, the Company completed a call for redemption of all of its outstanding $125,000 55/8% Convertible Subordinated Notes due 2006. Holders of the 55/8% Notes had the option to convert their notes into shares of DaVita common stock at a price of $25.62 per share or receive cash at 1.0169 times the principal amount of the 5 5/8% Notes, plus accrued interest. On July 15, 2003, the Company issued 4,868,352 shares of common stock from treasury stock for the conversion of $124,700 of the 5 5/8% Notes, and redeemed the balance of $300 for cash and accrued interest in the amount of $308.

 

On July 15, 2003, the Company entered into an amended and restated credit agreement in order to, among other things, lower the overall interest rate. The Company secured a replacement Term Loan B for $1,041,500. The new Term Loan B bears interest at LIBOR plus 2.5%, for an overall effective rate of 3.6%, as of July 15, 2003, with a provision under certain circumstances to further reduce the interest rate to LIBOR plus 2.25%. The aggregate annual principal payments for the new Term Loan B are approximately $11,000 in the first four years of the agreement, approximately $255,000 in the fifth year and approximately $741,000 in the sixth year, due no later than March 2009.

 

On July 16, 2003, the Company announced that it is calling for redemption $200,000 of its outstanding $345,000 7% Convertible Subordinated Notes due 2009 on August 15, 2003. Holders of the 7% Notes have the option to convert their notes into shares of DaVita common stock at a price of $32.81 per share or receive cash at 1.042 times the principal amount of the 7% Notes, plus accrued interest.

 

5.    Contingencies

 

The Company’s revenues may be subject to adjustment as a result of: (1) examination by government agencies or contractors, for which the resolution of any matters raised may take extended periods of time to finalize; (2) differing interpretations of government regulations by different fiscal intermediaries or regulatory authorities; (3) differing opinions regarding a patient’s medical diagnosis or the medical necessity of services provided; (4) retroactive applications or interpretations of governmental requirements; and (5) claims for refunds from private payors.

 

Laboratory payment dispute

 

The Company’s Florida laboratory is subject to a third-party carrier review of its Medicare reimbursement claims. The carrier has reviewed claims for services provided in six separate review periods, extending from January 1995 to May 2001. The carrier had made determinations that many of the claims submitted were not supported by the prescribing physicians’ medical justification. The carrier had also suspended all payments of Medicare claims to this laboratory from May 1998 to June 2002, and referred the matter to the Centers for Medicare and Medicaid Services, or CMS, and the Department of Justice, or DOJ. The Company has disputed each of the carrier’s determinations and has provided supporting documentation of its claims.

 

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Table of Contents

DAVITA INC.

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(continued)

(unaudited)

(dollars in thousands, except per share data)

 

In June 2002 an administrative law judge ruled that the sampling procedures and extrapolations that the carrier used as the basis of its overpayment determinations for the first two review periods were invalid. This decision invalidated the carrier’s overpayment determinations, totaling $20,600, for the first two review periods. The administrative law judge’s decision on the first two review periods does not apply to the remaining four review periods. The hearings before a carrier hearing officer for the third and fourth review periods were held in June 2003. The hearing officer has yet to reach a decision. A total of $27,700 in claims are in dispute for the third and fourth review periods. The Company has also filed a notice of appeal to the carrier for the fifth and sixth review periods, for which a total of $3,800 in claims are in dispute.

 

During 2000 the Company stopped accruing Medicare revenue from this laboratory because of the uncertainties regarding both the timing of resolution and the ultimate revenue valuations. Following the favorable ruling by the administrative law judge in 2002, the carrier lifted the payment suspension and began making payments in July 2002 for lab services provided subsequent to May 2001. After making its determinations with respect to the fifth and sixth review periods in December 2002, the carrier also paid the laboratory all amounts that it is not disputing for the third through sixth review periods. In the second half of 2002, the Company received a total of $68,778, which represented approximately 70% of the total outstanding Medicare lab billings for the period from January 1995 through June 2002. These cash collections were recognized as revenue in the quarter received. We do not expect to recognize any significant additional revenue relative to prior periods unless and until the dispute over the remaining disallowed claims is resolved in our favor. The Company will continue to recognize Medicare lab revenue associated with prior periods as cash collections actually occur, to the extent that cumulative recoveries do not exceed the aggregate amount that management believes the Company will ultimately recover upon final review and settlement of disputed billings.

 

In addition to processing prior period claims, the carrier also began processing billings for current period services on a timely basis. Based on these developments, the Company began recognizing estimated current period Medicare lab revenue in the third quarter of 2002.

 

The carrier is also currently conducting a study of the utilization of dialysis-related laboratory services to determine what frequencies for tests and supporting documentation are appropriate. During the study, the carrier has suspended dialysis laboratory prepayment screens. In its initial findings from the study, the carrier had determined that some of its prior prepayment screens were invalidating appropriate claims. The Company cannot determine what prepayment screens, post-payment review procedures, documentation requirements or other program safeguards the carrier may yet implement as a result of its study or other developments. The carrier has also informed the Company that any claims that it reimburses during the study period may also be subject to post-payment review and retraction if determined inappropriate.

 

In November 2001, the Company closed a smaller laboratory that it operated in Minnesota and combined its operations with those of the Florida laboratory. The Medicare carrier for the Minnesota laboratory is conducting a post-payment review of Medicare reimbursement claims for the period January 1996 through December 1999. The scope of the review is similar to the review of our Florida laboratory. The Company responded to the most recent request from the carrier for claims documentation in May 2001. At this time, the Company is unable to determine how long it will take the carrier to complete this review. There is currently no overpayment determination with respect to the Minnesota laboratory. Medicare revenues at the Minnesota laboratory, which was much smaller than the Florida laboratory, were approximately $15,000 for the period under review.

 

In addition to the formal appeal processes with the carrier and a federal administrative law judge, the Company also has pursued resolution of this matter through meetings with representatives of CMS and the DOJ.

 

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Table of Contents

DAVITA INC.

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(continued)

(unaudited)

(dollars in thousands, except per share data)

 

Discussions with CMS are ongoing. The DOJ has requested, and the Company has provided, information with respect to both the Florida and the Minnesota laboratories, most recently in September 2001. If a court determines that there has been wrongdoing by the Company or its laboratories, the fines and penalties under applicable statutes could be substantial.

 

United States Attorney inquiry

 

In February 2001 the Civil Division of the United States Attorney’s Office for the Eastern District of Pennsylvania in Philadelphia contacted the Company and requested its cooperation in a review of some of the Company’s historical practices, including billing and other operating procedures and its financial relationships with physicians. The Company cooperated in this review and provided the requested records to the United States Attorney’s Office. In May 2002, the Company received a subpoena from the Philadelphia office of the Office of Inspector General of the Department of Health and Human Services, or OIG. The subpoena required an update to the information the Company provided in its response to the February 2001 request, and also sought a wide range of documents relating to pharmaceutical and other ancillary services provided to patients, including laboratory and other diagnostic testing services, as well as documents relating to the Company’s financial relationships with physicians and pharmaceutical companies. The subpoena covers the period from May 1996 to May 2002. The Company has provided the documents requested and continues to cooperate with the United States Attorney’s Office and the OIG in its investigation. This inquiry remains at an early stage. As it proceeds, the government could expand its areas of concern. If a court determines that there has been wrongdoing, the penalties under applicable statutes could be substantial.

 

Other

 

In addition to the foregoing, DaVita is subject to claims and suits in the ordinary course of business. Management believes that the ultimate resolution of these additional pending proceedings, whether the underlying claims are covered by insurance or not, will not have a material adverse effect on the Company’s financial condition, results of operations or cash flows.

 

6.    Other commitments

 

The Company has obligations to purchase the third-party interests in several of its joint ventures. These obligations are in the form of put options, exercisable at the third-party owners’ discretion, and require the Company to purchase the minority owners’ interests at either the appraised fair market value or a predetermined multiple of cash flow or earnings. As of June 30, 2003, the Company’s potential obligations under these put options totaled approximately $65,000 of which approximately $50,000 was exercisable within one year. Additionally, the Company has certain other potential working capital commitments relating to managed and minority-owned centers of approximately $5,000 that could be called in the event of non-performance of the centers over the next five years.

 

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

 

Forward-looking statements

 

This Form 10-Q contains statements that are forward-looking statements within the meaning of the federal securities laws, including statements about our expectations, beliefs, intentions or strategies for the future. These statements involve known and unknown risks and uncertainties, including risks resulting from the regulatory environment in which we operate, economic and market conditions, competitive activities, other business conditions, accounting estimates, and the risk factors set forth in this Form 10-Q. These risks, among others, include those relating to the concentration of profits generated from PPO and private and indemnity patients and from ancillary services including the administration of pharmaceuticals, possible reductions in private and government reimbursement rates, changes in pharmaceutical practice patterns or reimbursement policies, the Company’s ability to maintain contracts with physician medical directors and legal compliance risks, such as those associated with the ongoing review of the Company’s Florida laboratory subsidiary by its Medicare carrier and the DOJ, and the ongoing review by the US Attorney’s Office and the OIG in Philadelphia. Our actual results may differ materially from results anticipated in our forward-looking statements. We base our forward-looking statements on information currently available to us, and we have no current intention to update these statements, whether as a result of changes in underlying factors, new information, future events or other developments

 

Results of operations

 

     Quarter ended

 
    

June 30,

2003


   

March 31,

2003


   

June 30,

2002


 
     (dollars in millions, except per treatment data)  

Net operating revenues

   $ 490    100 %   $ 460    100 %   $ 443    100 %
    

        

        

      

Operating expenses and charges:

                                       

Dialysis centers and labs

     336    69 %     317    69 %     300    68 %

General and administrative

     42    9 %     37    8 %     40    9 %

Depreciation and amortization

     18    4 %     18    4 %     16    4 %

Provision for uncollectible accounts, net of recoveries

     9    2 %     8    2 %     6    1 %

Minority interest and equity income, net

     2            1            2       
    

        

        

      

Total operating expenses and charges

     407    83 %     381    83 %     364    82 %
    

        

        

      

Operating income

   $ 83    17 %   $ 79    17 %   $ 79    18 %
    

        

        

      

Dialysis treatments

     1,580,000            1,503,000            1,487,000       

Average dialysis treatments per treatment day

     20,251            19,673            19,062       

Average dialysis revenue per dialysis treatment

   $ 301.52          $ 296.31          $ 290.52       

 

Net operating revenue

 

The net operating revenues of $490 million for the second quarter of 2003 represented an increase of $47 million or approximately 11% compared with the second quarter of 2002. The increase in the number of dialysis treatments accounted for approximately 6% and approximately 4% was attributable to increases in the average reimbursement rate per dialysis treatment. The increase in 2003 also included approximately $5 million of Medicare laboratory revenue. No Medicare lab revenue had been recognized during the second quarter of 2002 due to the payment withholds by the third-party carrier, as discussed below. The increase in the number of treatments consisted of non-acquired annual growth of approximately 3.4% plus growth through acquisitions. We continue to expect the non-acquired growth rate to remain in the range of 3.0% to 5.0% throughout 2003. The average dialysis revenue per treatment (excluding lab and clinical research revenues and management fee

 

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income) was $301.52 for the second quarter of 2003 as compared to $290.52 for the second quarter of 2002. The increase in average revenue per treatment was primarily due to improved pricing and payor contracting, payor mix, changes in intensity of physician-prescribed pharmaceuticals, and billing and collection improvements.

 

Compared to the first quarter of 2003, second quarter 2003 net operating revenues represented an increase of $30 million or 6.5%. The increase in the number of dialysis treatments accounted for 4.7% of the increase and an increase in the average reimbursement rate per dialysis treatment accounted for a 1.8% increase in the revenue. The increase in the number of treatments was attributable on average to 1.6 additional treatment days in the second quarter compared with the first quarter, as well as acquired and non-acquired treatment growth. The increase in the revenue per treatment was primarily attributable to the same factors as noted above.

 

Lab and other services

 

As discussed in Note 5 to the condensed consolidated interim financial statements (Contingencies), our Florida-based laboratory subsidiary has been under an ongoing third-party carrier review for Medicare reimbursement claims since 1998. Prior to the third quarter 2002, no Medicare payments had been received since May 1998. Following a favorable ruling by an administrative law judge in June 2002 the carrier began releasing funds for lab services provided subsequent to May 2001. The carrier also paid us amounts it is not disputing for prior periods. During 2002, the carrier paid us a total of approximately $69 million, representing approximately 70% of the total outstanding Medicare lab billings for the period from January 1995 through June 2002. These cash collections were recognized as revenue in the quarter received. We do not expect to recognize any significant additional Medicare lab revenue relating to prior periods unless and until the dispute over the remaining disallowed claims are resolved in our favor.

 

Dialysis centers and lab expenses

 

Center operating expenses were approximately 69% of net operating revenues in the second quarter of 2003 and the first quarter of 2003 compared to 68% for the second quarter of 2002. On a per-treatment basis, center operating expenses increased approximately $2 from the first quarter of 2003 and approximately $12 from the second quarter of 2002. The increases in both periods were primarily attributable to higher labor, benefits, insurance, and pharmaceutical costs, and changes in the intensity of physician-prescribed pharmaceuticals.

 

General and administrative expenses

 

General and administrative expenses were approximately 9% of net operating revenues for the second quarter of 2003 and 2002, compared to 8% in the first quarter of 2003. In absolute dollars, general and administrative expenses for the second quarter of 2003 increased by approximately $6 million or 16% from the first quarter of 2003 and were approximately the same as compared to the second quarter of 2002. The increase in dollar amounts from the first quarter of 2003 was primarily due to higher labor and insurance costs, increases in professional fees for compliance initiatives and acquisition due diligence, as well as the timing of expenditures.

 

Provision for uncollectible accounts receivable

 

The provisions for uncollectible accounts receivable before considering cash recoveries were approximately 1.8% of current period net operating revenues for all periods presented. During the second quarter of 2002 we realized recoveries of approximately $2 million, which were netted against the normal provision for uncollectible accounts.

 

Debt expense

 

Debt expense of $19.5 million for the second quarter of 2003 was $2.4 million higher than the second quarter of 2002 as a result of higher debt balances, primarily associated with our recapitalization during the second quarter of 2002, offset by lower interest rates. The average effective interest rate for the second quarter of 2003 was 5.1% compared to 6.4% for the second quarter of 2002.

 

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Projections for 2003

 

Operating income for the full year 2003 is currently projected to be in the range of $315 million to $330 million, and operating income for 2004 is currently projected to be relatively flat compared with 2003. These projections and the underlying assumptions involve significant risks and uncertainties, and actual results may vary significantly from these current projections. These risks, among others, include those relating to private and government reimbursement rates, the concentration of profits generated from non-governmental payors and physician-prescribed pharmaceuticals, changes in pharmaceutical practice patterns or reimbursement policies, our ability to maintain contracts with our physician medical directors, and the ongoing review by the United States Attorney’s Office and the OIG. We undertake no duty to update these projections, whether due to changes in current or expected trends, underlying market conditions, decisions of the United States Attorney’s Office, the DOJ or the OIG in any pending or future review of our business, or otherwise.

 

Reclassification of previously reported extraordinary losses

 

In accordance with SFAS No. 145 Rescission of FASB Statements No. 4, 44, and 64, Amendment of FASB Statement No. 14, and Technical Corrections, which became effective as of January 1, 2003, losses from the extinguishment of debt previously classified as an extraordinary item of $29.4 million, net of tax, have been reclassified to refinancing charges of $49 million before taxes for the three and six months ending June 30, 2002. The classification change had no impact on net earnings. As a result of this classification change, previously reported diluted net earnings per share for the three and six months ended June 30, 2002 of $0.13 and $0.54 have been restated to $0.10 and $0.52, respectively, for the convertible subordinated notes that are no longer considered dilutive to income after this classification change.

 

Liquidity and capital resources

 

Cash flow from operations during the second quarter of 2003 amounted to $79 million. Investing cash outflows consisted principally of capital asset additions of $20 million, which included approximately $10 million for center development and approximately $10 million for equipment and information technology projects, and approximately $46 million in acquisitions.

 

Cash flow from operations during the first six months of 2003 amounted to $159 million. Investing cash outflows consisted principally of capital asset additions of $42 million, which included approximately $22 million for center development and approximately $20 million for equipment and information technology projects, and approximately $47 million in acquisitions.

 

On July 15, 2003, the Company completed a call for redemption of all of its outstanding $125 million 5 5/8% Convertible Subordinated Notes due 2006. Holders of the 5 5/8% Notes had the option to convert their notes into shares of DaVita common stock at a price of $25.62 per share or receive cash at 1.0169 times the principal amount of the 5 5/8% Notes, plus accrued interest. On July 15, 2003, the Company issued 4,868,352 shares of common stock from treasury stock for the conversion of $124.7 million of the 5 5/8% Notes, and redeemed the balance of $300,000 for cash and accrued interest, in the amount of $308,000.

 

On July 15, 2003, the Company entered into an amended and restated credit agreement in order to, among other things, lower the overall interest rate. The Company secured a replacement Term Loan B for $1,041.5 million. The new Term Loan B bears interest at LIBOR plus 2.5%, for an overall effective rate of 3.6%, as of July 15, 2003, with a provision under certain circumstances to further reduce the interest rate to LIBOR plus 2.25%. The aggregate annual principal payments for the new Term Loan B are approximately $11 million in the first four years of the agreement, approximately $255 million in the fifth year and approximately $741 million in the sixth year, due no later than March 2009.

 

On July 16, 2003, the Company announced that it is calling for redemption $200 million of its outstanding $345 million 7% Convertible Subordinated Notes due 2009 on August 15, 2003. Holders of the 7% Notes have the option to convert their notes into shares of DaVita common stock at a price of $32.81 per share or receive cash at 1.042 times the principal amount of the 7% Notes, plus accrued interest.

 

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Accounts receivable at June 30, 2003 amounted to $346 million, unchanged from the first quarter of 2003. The second quarter accounts receivable balance represented 66 days of revenue, compared to 69 days as of March 31, 2003.

 

Our current plans continue to call for capital expenditures to be at a level consistent with 2002, including investment expenditures for information technology projects and for new dialysis centers, relocations and expansions other than acquisitions. During the second quarter of 2003, we acquired a total of 11 centers and opened 8 new centers.

 

We believe that we will have sufficient liquidity and operating cash flows to fund our scheduled debt service and other obligations over the next twelve months.

 

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Item 3.   Quantitative and Qualitative Disclosures About Market Risk.

 

Interest rate sensitivity

 

The table below provides information, as of June 30, 2003, about our financial instruments that are sensitive to changes in interest rates.

 

     Expected maturity date

   Thereafter

   Total

   Fair
Value


   Average
Interest
Rate


 
     2003

   2004

   2005

   2006

   2007

   2008

           
     (dollars in millions)  

Long-term debt:

                                                                     

Fixed rate

                        $ 125                  $ 345    $ 470    $ 504    6.63 %

Variable rate

   $ 26    $ 43    $ 43    $ 49    $ 318    $ 404    $ 104    $ 987    $ 987    4.23 %

 

Item 4.   Controls and Procedures.

 

Management maintains disclosure controls and procedures designed to ensure that information required to be disclosed in the reports filed by the Company pursuant to the Securities Exchange Act of 1934, as amended, or Exchange Act, is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission’s rules and regulations, and that such information is accumulated and communicated to the Company’s management, including its Chief Executive Officer and Chief Financial Officer, as appropriate to allow for timely decisions regarding required disclosures. Management recognizes that these controls and procedures can provide only reasonable assurance of desired outcomes, and that estimates and judgements are still inherent in the process of maintaining effective controls and procedures.

 

As of the end of the period covered by this report, we carried out an evaluation, under the supervision and with the participation of the Company’s Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of our disclosure controls and procedures in accordance with the Exchange Act requirements. Based upon that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that the Company’s disclosure controls and procedures provide reasonable assurance for timely identification and review of material information required to be included in the Company’s Exchange Act reports, including this report on Form 10-Q.

 

We have established and maintain a system of internal controls designed to provide reasonable assurance that transactions are executed with proper authorization and are properly recorded in the Company’s records, and that errors or irregularities that could be material to the financial statements are prevented or would be detected within a timely period. Internal controls are periodically reviewed and revised if necessary, and are augmented by appropriate oversight and audit functions.

 

There has not been any change in the Company’s internal control over financial reporting during the fiscal quarter covered by this report on Form 10-Q that has materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.

 

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RISK FACTORS

 

This Form 10-Q contains statements that are forward-looking statements within the meaning of the federal securities laws, including statements about our expectations, beliefs, intentions or strategies for the future. These forward-looking statements include statements regarding our expectations for treatment growth rates, revenue per treatment, expense growth, levels of the provision for uncollectible accounts receivable, operating income, and capital expenditures. We base our forward-looking statements on information currently available to us, and we do not intend to update these statements, whether as a result of changes in underlying factors, new information, future events or other developments.

 

These statements involve known and unknown risks and uncertainties, including risks resulting from economic and market conditions, the regulatory environment in which we operate, competitive activities and other business conditions. Our actual results may differ materially from results anticipated in these forward-looking statements. Important factors that could cause actual results to differ materially from the forward-looking statements include those set forth below. The risks discussed below are not the only ones facing our business.

 

If the average rates that private payors pay us decline, then our revenues, cash flows and earnings would be substantially reduced.

 

Approximately 45% of our dialysis revenues are generated from patients who have private payors as the primary payor. The majority of these patients have insurance policies that reimburse us at rates materially higher than Medicare rates. We believe that pressure from private payors to decrease the rates they pay us may increase. If the average rates that private payors pay us decline significantly, it would have a material adverse effect on our revenues, cash flows and earnings.

 

If the number of patients with higher paying commercial insurance declines, then our revenues, cash flows and earnings would be substantially reduced.

 

Our revenue levels are sensitive to the percentage of our reimbursements from higher paying commercial plans. A patient’s insurance coverage may change for a number of reasons, including as a result of changes in the patient’s or a family member’s employment status. If there is a significant change in the number of patients under higher paying commercial plans relative to plans that pay at lower rates, for example a reduction in the average number of patients under indemnity and PPO plans compared with the average number of patients under HMO plans and government programs, it would negatively impact our revenues, cash flows and earnings.

 

Changes in clinical practices and reimbursement rates or rules for EPO and other drugs could substantially reduce our revenue and earnings.

 

The administration of EPO and other drugs accounts for approximately one third of our net operating revenues. Changes in physician practice patterns and accepted clinical practices, changes in private and governmental reimbursement rates and rules, the introduction of new drugs and the conversion to alternate types of administration, for example from intravenous administration to subcutaneous or oral administration, that may also result in lower or less frequent dosages, could reduce our revenues and earnings from the administration of EPO and other drugs. For example, some Medicare fiscal intermediaries are seeking to implement local medical review policies for EPO and vitamin D analogs that would effectively limit utilization of and reimbursement for these drugs.

 

Future declines, or the lack of further increases, in Medicare reimbursement rates would reduce our net earnings and cash flows.

 

Approximately 49% of our dialysis revenues are generated from patients who have Medicare as their primary payor. The Medicare ESRD program reimburses us for dialysis and ancillary services at fixed rates.

 

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Unlike most other Medicare programs, the Medicare ESRD program does not provide for periodic inflation increases in reimbursement rates. Increases of 1.2% in 2000 and 2.4% in 2001 were the first increases in the composite rate since 1991, and were significantly less than the cumulative rate of inflation since 1991. Since then there has been no increase in the composite rate. Increases in operating costs that are subject to inflation, such as labor and supply costs, have occurred and are expected to continue to occur with or without a compensating increase in reimbursement rates. We cannot predict the nature or extent of future rate changes, if any. To the extent these rates are not adjusted to keep pace with inflation, our net earnings and cash flows would be adversely affected.

 

Future changes in the structure of, and reimbursement rates under, the Medicare ESRD program could substantially reduce our operating earnings and cash flows.

 

CMS is studying changes to the ESRD program, including whether the Medicare composite rate for dialysis should be modified to include additional services that are now separately billable, such as laboratory and other diagnostic tests and the administration of EPO and other pharmaceuticals, in the composite rate. If Medicare began to include in its composite reimbursement rate any ancillary services that it currently reimburses separately, our revenue would decrease to the extent there was not a corresponding increase in that composite rate. In particular, Medicare revenue from EPO is approximately 27% of our total Medicare revenue. If EPO were included in the composite rate, and if the rate were not increased sufficiently, our operating earnings and cash flow could decrease substantially.

 

Reimbursement for many of the outpatient prescription drugs that we administer now to dialysis patients has historically been at the rate of 95% of the average wholesale price, or AWP, of the drugs. AWP-based reimbursement has been under scrutiny by CMS and Congress. In January 2003, CMS implemented a new payment structure utilizing a single drug pricer for all drugs that Medicare reimburses, including many we administer. Based on the initial prices CMS has set, we do not expect our reimbursement under this single drug pricer in 2003 to differ materially from what it would have been under the AWP-based reimbursement structure. We expect, however, that CMS will change the prices set under this single drug pricer in the future or that CMS or Congress will make other changes to the payment structure for these drugs. CMS and others have also previously proposed decreasing the Medicare reimbursement rate for EPO, which is a fixed rate that is not AWP-based. Reductions in current reimbursement rates for EPO or other outpatient prescription drugs would also reduce our net earnings and cash flows.

 

Future declines in Medicaid reimbursement rates would reduce our net earnings and cash flows.

 

Approximately 5% of our dialysis revenues are generated from patients who have Medicaid as their primary coverage. In addition approximately 3% of our dialysis revenues are from Medicaid secondary coverage. Approximately 45% of our Medicaid revenue is derived from patients in California. If state governments change Medicaid programs or the rates paid by those programs for our services, then our revenue and earnings may decline. Some of the states’ Medicaid programs have reduced rates for dialysis services, and others have proposed such reductions or other changes to eligibility for Medicaid coverage. Any actions to limit Medicaid coverage or further reduce reimbursement rates for dialysis and related services would adversely affect our revenue and earnings.

 

If a significant number of physicians were to cease referring patients to our dialysis centers, whether due to regulatory or other reasons, our revenue and earnings would decline.

 

If a significant number of physicians stop referring patients to our centers, it could have a material adverse effect on our revenue and earnings. Many physicians prefer to have their patients treated at dialysis centers where they or other members of their practice supervise the overall care provided as medical directors of the centers. As a result, the primary referral source for most of our centers is often the physician or physician group providing medical director services to the center. If a medical director agreement terminates, whether before or at the end of

 

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its term, and a new medical director is appointed, it may negatively impact the former medical director’s decision to treat his or her patients at our center. Additionally, both current and former medical directors have no obligation to refer their patients to our centers.

 

Our medical director contracts are for fixed periods, generally five to ten years. Medical directors have no obligation to extend their agreements with us. As of July 1, 2003, there were 15 centers at which the medical director agreements required renewal on or before June 30, 2004.

 

We also may take actions to restructure existing relationships or take positions in negotiating extensions of relationships in order to assure compliance with the safe harbor provisions of the anti-kickback statute and other similar laws. These actions could negatively impact physicians’ decisions to extend their medical director agreements with us or to refer their patients to us. In addition, if the terms of an existing agreement were found to violate applicable laws, we may not be successful in restructuring the relationship, which could lead to the early termination of the agreement, or force the physician to stop referring patients to the centers.

 

If the current shortage of skilled clinical personnel continues, we may experience disruptions in our business operations and increases in operating expenses.

 

We are experiencing increased labor costs and difficulties in hiring nurses due to a nationwide shortage of skilled clinical personnel. We compete for nurses with hospitals and other health care providers. This nursing shortage may limit our ability to expand our operations. If we are unable to hire skilled clinical personnel when needed, our operations and our same center growth will be negatively impacted.

 

Adverse developments with respect to EPO could materially reduce our net earnings and cash flows and affect our ability to care for our patients.

 

Amgen is the sole supplier of EPO and may unilaterally decide to increase its price for EPO at any time. For example, Amgen unilaterally increased its base price for EPO by 3.9% in each of 2002, 2001 and 2000. Also, we cannot predict whether we will continue to receive the same discount structure for EPO that we currently receive, or whether we will continue to achieve the same levels of discounts within that structure as we have historically achieved. In addition, Amgen has developed a new product, Aranesp®, that may replace EPO or reduce its use with dialysis patients. We cannot predict if or when Aranesp® will be introduced to the U.S. dialysis market, what its cost and reimbursement structure will be, or how it may impact our revenues from EPO. Increases in the cost of EPO and the introduction of Aranesp® could have a material adverse effect on our net earnings and cash flows.

 

The pending federal review of some of our historical practices and third-party carrier review of our laboratory subsidiary could result in substantial penalties against us.

 

We are voluntarily cooperating with the Civil Division of the United States Attorney’s Office and OIG in Philadelphia in a review of some of our practices, including billing and other operating procedures, financial relationships with physicians and pharmaceutical companies, and the provision of pharmaceutical and other ancillary services. In addition, our Florida laboratory and our now closed Minnesota laboratory are each the subject of a third-party carrier review of claims it has submitted for Medicare reimbursement. The DOJ has also requested and received information regarding these laboratories. We are unable to determine when these matters will be resolved, whether any additional areas of inquiry will be opened or any outcome of these matters, financial or otherwise. Any negative findings could result in substantial financial penalties against us and exclusion from future participation in the Medicare and Medicaid programs.

 

If we fail to adhere to all of the complex government regulations that apply to our business, we could suffer severe consequences that would substantially reduce our revenue and earnings.

 

Our dialysis operations are subject to extensive federal, state and local government regulations, including Medicare and Medicaid reimbursement rules and regulations, federal and state anti-kickback laws, and federal

 

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and state laws regarding the collection, use and disclosure of patient health information. The regulatory scrutiny of healthcare providers, including dialysis providers, has increased significantly in recent years. In addition, the frequency and intensity of Medicare certification surveys and inspections of dialysis centers have increased markedly since 2000.

 

We endeavor to comply with all of the requirements for receiving Medicare and Medicaid reimbursement and to structure all of our relationships with referring physicians to comply with the anti-kickback laws; however, the laws and regulations in this area are complex and subject to varying interpretations. In addition, our historic dependence on manual processes that vary widely across our network of dialysis centers exposes us to greater risk of errors in billing and other business processes.

 

Due to regulatory considerations unique to each of these states, all of our dialysis operations in New York and some of our dialysis operations in New Jersey are conducted by privately-owned companies to which we provide a broad range of administrative services. These operations account for approximately 7% of our dialysis revenues. We believe that we have structured these operations to comply with the laws and regulations of these states, but we can give no assurances that they will not be challenged.

 

If any of our operations are found to violate these or other government regulations, we could suffer severe consequences, including:

 

    Mandated practice changes that significantly increase operating expenses;

 

    Suspension of payments from government reimbursement programs;

 

    Refunds of amounts received in violation of law or applicable reimbursement program requirements;

 

    Loss of required government certifications or exclusion from government reimbursement programs;

 

    Loss of licenses required to operate healthcare facilities in some of the states in which we operate, including the loss of revenues from operations in New York and New Jersey conducted by privately-owned companies as described above;

 

    Fines or monetary penalties for anti-kickback law violations, submission of false claims or other failures to meet reimbursement program requirements and patient privacy law violations; and

 

    Claims for monetary damages from patients who believe their protected health information has been used or disclosed in violation of federal or state patient privacy laws.

 

Our rollout of new information technology systems will significantly disrupt our billing and collection activity, may not work as planned and could have a negative impact on our results of operations and financial condition.

 

We will be continuing the rollout of new information technology systems and new processes in our billing offices over the next nine months. It is likely that this rollout will disrupt our billing and collection activity and may cause other disruptions to our business operations, which may negatively impact our cash flows. Also, the new information systems may not work as planned or improve our billing and collection processes as expected. If they do not, we may have to spend substantial amounts to enhance or replace these systems.

 

Provisions in our charter documents and compensation programs we have adopted may deter a change of control that our stockholders would otherwise determine to be in their best interests.

 

Our charter documents include provisions that may deter hostile takeovers, delay or prevent changes of control or changes in our management, or limit the ability of our stockholders to approve transactions that they may otherwise determine to be in their best interests. These include provisions prohibiting our stockholders from acting by written consent, requiring 60 days advance notice of stockholder proposals or nominations to our Board

 

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of Directors and granting our Board of Directors the authority to issue up to five million shares of preferred stock and to determine the rights and preferences of the preferred stock without the need for further stockholder approval, and a poison pill that would substantially dilute the interest sought by an acquirer that our board of directors does not approve.

 

In addition, most of our outstanding employee stock options include a provision accelerating the vesting of the options in the event of a change of control. We have also adopted a change of control protection program for our employees who do not have a significant number of stock options, which provides for cash bonuses to the employees in the event of a change of control. Based on the shares of our common stock outstanding and the market price of our stock on June 30, 2003, these cash bonuses would total approximately $60 million if a control transaction occurred at that price and our Board of Directors did not modify the program. These compensation programs may affect the price an acquirer would be willing to pay.

 

These provisions could also discourage bids for our common stock at a premium and cause the market price of our common stock to decline.

 

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PART II

 

OTHER INFORMATION

 

Item 1.   Legal Proceedings

 

The information in Note 5 of the Notes to Condensed Consolidated Financial Statements in Part I, Item 1 of this report is incorporated by this reference in response to this item.

 

Item 2.   Changes in Securities and Use of Proceeds

 

In connection with redemption of all of our $125 million 55/8% Convertible Subordinated Notes due 2006, on July 15, 2003, the Company issued 4,868,352 shares of DaVita common stock for the conversion of $124.7 million of the Notes, and redeemed the balance of $300,000 for cash, and accrued interest. Accordingly, none of the Notes remain outstanding.

 

On July 15, 2003, the Company entered into an amended and restated credit agreement in order to, among other things, lower the overall interest rate. The Company secured a replacement Term Loan B for $1,041.5 million and prepaid in full all outstanding amounts under the existing Term Loan B, totaling $839 million.

 

On July 16, 2003, the Company announced that it is calling for redemption $200 million of its outstanding $345 million 7% Convertible Subordinated Notes due 2009.

 

Item 3 is not applicable.

 

Item 4.   Submission of Matters to a Vote of Security Holders

 

Our annual meeting of stockholders was held on May 21, 2003.

 

Proposal 1 submitted to our stockholders at the meeting was the election of directors. The following directors were elected at the meeting with the number of votes cast for each director or withheld from each director set forth after the director’s respective name.

 

Name


   Votes for Director

   Authority Withheld

Nancy-Ann DeParle

   50,140,497    5,885,603

Richard B. Fontaine

   52,127,044    3,899,056

Peter T. Grauer

   51,550,121    4,475,979

C. Raymond Larkin, Jr.

   52,124,737    3,901,363

John M. Nehra

   50,907,862    5,118,238

William L. Roper

   52,873,270    3,152,830

Kent J. Thiry

   52,588,001    3,438,099

 

Proposal 2 submitted to our stockholders at the meeting was to amend our 2002 Equity Compensation Plan. The votes were cast as follows:

 

For

        Against

        Abstain

    

51,857,722

        3,951,098         217,280     

 

Item 5 is not applicable.

 

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Item 6.   Exhibits and Reports on Form 8-K

 

(a) Exhibits

 

Exhibit
Number


  

Description


10.1   

Amended and Restated Credit Agreement, dated July 15, 2003, by and among DaVita Inc., the lenders party thereto, Credit Suisse First Boston Corporation as Joint Book Manager, Administrative Agent and Syndication Agent, Banc of America Securities LLC as Joint Book Manager and Bank of America, N.A., as Syndication Agent.ü

10.2   

Guarantee Supplement, dated July 15, 2003, made by the subsidiaries of DaVita Inc. named therein in favor of the lenders party to the Amended and Restated Credit Agreement.ü

10.3   

2002 Equity Compensation Plan.(1)*

10.4   

Employment Agreement dated as of May 1, 2003, by and between DaVita Inc. and Patrick A. Broderick.ü*

12.1   

Ratio of earnings to fixed charges.ü

31.1   

Certification of the Chief Executive Officer, dated August 5, 2003, pursuant to Rule 13a-14(a) or 15d-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.ü

31.2   

Certification of the Chief Financial Officer, dated August 5, 2003, pursuant to Rule 13a-14(a) or 15d-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.ü

32.1   

Certification of the Chief Executive Officer, dated August 5, 2003, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.ü

32.2   

Certification of the Chief Financial Officer, dated August 5, 2003, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.ü


ü   Filed herewith.
*   Management contract or executive compensation plan or arrangement.

 

(1)   Filed on April 21, 2003 as an exhibit to the Definitive Proxy Statement for our 2003 Annual Meeting of Stockholders.

 

(b) Reports on Form 8-K

 

Current report on Form 8-K dated May 5, 2003, furnished under Item 9, “Regulation FD Disclosure”, but furnished pursuant to Item 12, “Disclosure of Results of Operations and Financial Condition”, pursuant to interim guidance issued by the SEC in Release Nos. 33-8216 and 34-47583. A copy of the press release announcing the Company’s financial results for the quarter ended March 31, 2003 was attached to the Form 8-K as Exhibit 99.1.

 

Current report on Form 8-K dated June 19, 2003, furnished under Item 5, “Other Events and Regulation FD Disclosure”, announcing that the Company’s wholly-owned subsidiary, Renal Treatment Centers, Inc. (“RTC”), issued a notice of redemption with respect to all of its outstanding 5 5/8% Convertible Subordinated Notes due 2006. A copy of the press release announcing the redemption of the notes by RTC was attached to the Form 8-K as Exhibit 99.1.

 

Current report on Form 8-K dated July 15, 2003, and filed on July 17, 2003, announcing the following: (i) the closing of the redemption by RTC of all of its outstanding 5 5/8% Convertible Subordinated Notes due 2006, (ii) the refinancing of the Company’s senior credit facility, and (iii) a call for redemption of $200,000,000 of the Company’s outstanding $345,000,000 7% Convertible Subordinated Notes due 2009. Copies of the press releases announcing these events were attached to the Form 8-K as Exhibits 99.1, 99.2 and 99.3, respectively.

 

Current report on Form 8-K dated August 1, 2003, furnished under Item 9, “Regulation FD Disclosure” and Item 12, “Disclosure of Results of Operations and Financial Condition”, announcing the Company’s financial results for the quarter ended June 30, 2003. A copy of the press release announcing the Company’s financial results for the quarter ended June 30, 2003 was attached to the Form 8-K as Exhibit 99.1.

 

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SIGNATURE

 

Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

 

DAVITA INC.

By:

 

/s/    GARY W. BEIL        


   

Gary W. Beil

Vice President and Controller*

 

Date: August 5, 2003


*   Mr. Beil has signed both on behalf of the registrant as a duly authorized officer and as the Registrant’s principal accounting officer.

 

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INDEX TO EXHIBITS

 

Exhibit
Number


  

Description


10.1   

Amended and Restated Credit Agreement, dated July 15, 2003, by and among DaVita Inc., the lenders party thereto, Credit Suisse First Boston Corporation as Joint Book Manager, Administrative Agent and Syndication Agent, Banc of America Securities LLC as Joint Book Manager and Bank of America, N.A., as Syndication Agent.ü

10.2   

Guarantee Supplement, dated July 15, 2003, made by the subsidiaries of DaVita Inc. named therein in favor of the lenders party to the Amended and Restated Credit Agreement.ü

10.3   

2002 Equity Compensation Plan.(1)*

10.4   

Employment Agreement dated as of May 1, 2003, by and between DaVita Inc. and Patrick A. Broderick.ü*

12.1   

Ratio of earnings to fixed charges.ü

31.1   

Certification of the Chief Executive Officer, dated August 5, 2003, pursuant to Rule 13a-14(a) or 15d-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.ü

31.2   

Certification of the Chief Financial Officer, dated August 5, 2003, pursuant to Rule 13a-14(a) or 15d-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.ü

32.1   

Certification of the Chief Executive Officer, dated August 5, 2003, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.ü

32.2   

Certification of the Chief Financial Officer, dated August 5, 2003, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.ü


ü   Filed herewith.
*   Management contract or executive compensation plan or arrangement.

 

(1)   Filed on April 21, 2003 as an exhibit to the Definitive Proxy Statement for our 2003 Annual Meeting of Stockholders.

 

23