UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 8-K/A
CURRENT REPORT
Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
Date of Report (date of earliest event reported):
October 14, 2003
ROTO-ROOTER, INC.
(Exact name of registrant as specified in its charter)
Delaware 1-8351 31-0791746
(State or other jurisdiction (Commission File Number) (I.R.S. Employer
of incorporation) Identification Number)
2600 Chemed Center, 255 East Fifth Street, Cincinnati, OH 45202
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code:
(513) 762-6900
EXPLANATORY NOTE
On October 29, 2003, Roto-Rooter, Inc. ("Company") filed with the S.E.C.
a Report on Form 8-K ("Original Form 8-K") disclosing the Company had
exercised two of its three Vitas Healthcare Corporation ("Vitas") Stock
Purchase Warrants ("Warrants A and B") to acquire 4,158,000 shares of Vitas
common stock for $18.0 million in cash. On December 19, 2003, the Company
filed with the S.E.C. a Report on Form 8-K/A ("Amended Form 8-K") updating the
Original Form 8-K by providing the audited financial statements of Vitas as of
September 30, 2003 and 2002, and for each of the three years in the period
ended September 30, 2003. The Amended Form 8-K also provided the Company's
unaudited pro forma consolidated financial statements as of and for the nine
months ended September 30, 2003 and for the year ended December 31, 2002,
assuming the Company exercised Warrants A and B at the beginning of each
period presented.
This Report on Form 8-K/A updates the Amended Form 8-K by adding
additional information to the audited financial statements of Vitas as of
September 30, 2003 and 2002, and for each of the three years in the period
ended September 30, 2003 to make such financial statements conform to the
requirements of Regulation S-X promulgated under the Securities Act of 1933.
ITEM 2. ACQUISITION OR DISPOSITION OF ASSETS
On October 14, 2003, the Company exercised Warrants A and B to acquire
4,158,000 shares of Vitas common stock for $18.0 million in cash. The cash was
taken from the Company's balance of cash and cash equivalents, which totaled
$72.6 million at September 30, 2003. The Company's common stock ownership in
Vitas has a carrying value of $19.5 million and now represents approximately
37% of Vitas' outstanding common stock based on its capitalization as of
September 30, 2003. Timothy S. O'Toole, a director and executive officer of
the Company, is also a director of Vitas and serves as Chairman of Vitas'
Board of Directors' Audit Committee.
The Company is party to an Amended and Restated Investor Agreement with
Vitas that restricts in a number of ways its full ownership rights in the
shares purchased on exercise of Warrants A and B. A copy of such agreement was
filed as an exhibit to the Company's Report on Form 8-K filed October 29,
2003.
The Company is accounting for its 37% common stock interest in Vitas
using the equity method of accounting including appropriate provisions for
deferred income taxes.
The Company's third Stock Purchase Warrant ("Warrant C") provides for the
purchase of up to 1,636,000 shares of Vitas common stock at a price of $5.50
per share. Warrant C or the shares acquired upon exercise of Warrant C
("Warrant C Shares") are subject to repurchase by Vitas during the 90-day
period following the date Vitas receives the Company's notice of exercise of
Warrant C. The repurchase price of Warrant C or the Warrant C Shares is their
fair market value as determined in good faith by the Vitas Board of Directors.
Warrant C has a carrying value of $2.6 million and expires in April 2005.
2
ITEM 7. FINANCIAL STATEMENTS, PRO FORMA FINANCIAL INFORMATION AND EXHIBITS
(a) Financial statements of business acquired.
The consolidated financial statements for Vitas Healthcare
Corporation and Subsidiaries as of September 30, 2003 and 2002,
and for each of the three years in the period ending September 30,
2003, are included in this Report on Form 8-K/A:
Page No.
-------
Report of Independent Accountants F-1
Consolidated Balance Sheets F-2
Consolidated Statements of Income F-3
Consolidated Statements of Changes in Redeemable
Preferred Stock and Stockholders' Deficit F-4
Consolidated Statements of Cash Flows F-5 - F-6
Notes to Consolidated Financial Statements F-7 - F-32
3
(b) Pro forma financial information.
The unaudited pro forma consolidated statements of operations for the
nine months ended September 30, 2003 and for the year ended December 31, 2002
have been prepared using the following assumptions:
i) It is assumed that the Company exercised Warrants A and B on
January 1 of each period presented to purchase 4,158,000 common
shares of Vitas for a cost of $18 million.
ii) For the 2003 period, it is assumed that the source of cash to
exercise the warrants was cash and cash equivalents on
hand. It is estimated that this reduction in cash would have
reduced other income by $135,000 pretax or $88,000 aftertax
for the nine months in 2003.
iii) For the 2002 period, it is assumed that the source of cash to
exercise the warrants was the Company's unused lines of
credit. It is estimated that this increase in debt would have
increased interest expense by $540,000 pretax or $351,000
aftertax for 2002.
iv) It is assumed that $10 million of the excess of the fair value
of Vitas over its book value relates to amortizable
assets with an average life of five years. The remaining excess
is assumed to be goodwill.
v) It is assumed that Vitas used the $18 million cash proceeds
from the Company's purchase of common stock to reduce its
debt on January 1 of each period. The estimated pretax interest
savings was $689,000 ($427,000 aftertax) for the nine
months ended September 30, 2003 and $1,062,000 ($658, 000
aftertax) for the year ended December 31, 2002.
The unaudited pro forma consolidated balance sheet as of September 30,
2003 has been prepared assuming the Company exercised Warrants A and B on
September 30, 2003 for a cost of $18 million. The carrying value of the
Company's 4,158,000 shares totals $19.5 million ($18 million cash plus $1.5
carrying value of Warrants A and B) and is included in Other Investments.
4
The Company's consolidated pro forma financial statements are listed
below:
Page No.
--------
Unaudited Pro Forma Consolidated Statement of Operations
for the Nine Months Ended September 30, 2003 P-1
Unaudited Pro Forma Consolidated Statement of Operations
for the Year Ended December 31, 2002 P-2
Unaudited Pro Forma Consolidated Balance Sheet
as of December 31, 2002 P-3
5
(a) Exhibits
Exhibit SK 601 Page
No. Ref. No. Description No.
-------- -------- ----------- -----
1* (10) Amended and Restated Investor
Agreement E-1 to
as of April 27, 2001, between E-39
Vitas Healthcare
Corporation and Chemed Corporation.
*Incorporated by reference from Current Report on Form 8-K filed
with the S.E.C. on October 29, 2003.
CERTIFICATION AND SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
Roto-Rooter, Inc.
(Registrant)
Dated: February 23, 2004 By /s/ Arthur V. Tucker, Jr.
-------------------------------
Arthur V. Tucker, Jr.
(Vice President and Controller)
6
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
The Board of Directors and Stockholders
Vitas Healthcare Corporation and Subsidiaries
We have audited the accompanying consolidated balance sheets of Vitas
Healthcare Corporation and Subsidiaries as of September 30, 2003 and 2002, and
the related consolidated statements of income, changes in redeemable preferred
stock and stockholders' deficit and cash flows for each of the three years in
the period ended September 30, 2003. These financial statements are the
responsibility of the Company's management. Our responsibility is to express
an opinion on these financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally
accepted in the United States. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on
a test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used
and significant estimates made by management, as well as evaluating the
overall financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the financial statements referred to above present
fairly, in all material respects, the consolidated financial position of Vitas
Healthcare Corporation and Subsidiaries at September 30, 2003 and 2002, and
the results of their operations and their cash flows for each of the three
years in the period ended September 30, 2003, in conformity with accounting
principles generally accepted in the United States.
As discussed in Note 1 to the consolidated financial statements, the
Company changed its method of accounting for goodwill during the year ended
September 30, 2002.
/s/ Ernst & Young LLP
Miami, Florida
November 10, 2003
F-1
Vitas Healthcare Corporation and Subsidiaries
Consolidated Balance Sheets
(In thousands, except share and per share amounts)
September 30
2003 2002
------------------------------------
Assets
Current assets:
Cash and cash equivalents $ 9,103 $ 5,466
Restricted cash 6,000 -
Accounts receivable from patient
services, net of allowance for doubtful
accounts of $6,455 and $5,098 at
of $6,455 and $5,098 at September 30,
2003 and 2002, respectively 52,311
Income tax receivable - 4,233
Other current assets 2,477 1,956
------------------------------------
Total current assets 69,891 51,780
Property and equipment, net 12,355 10,845
Intangible assets, net 40,443 38,401
Other assets 9,862 10,441
--------------------------------------------
Total assets $132,551 $111,467
============================================
Liabilities, redeemable preferred stock, and stockholders' deficit
Current liabilities:
Accounts payable $ 18,203 $ 14,678
Accrued compensation and benefits 17,195 14,103
Other accrued expenses 10,481 9,550
Current portion of long-term debt 6,426 6,593
Income taxes payable 107 -
Deferred taxes-current 1,634 1,957
--------------------------------------------
Total current liabilities 54,046 46,881
Long-term debt 89,243 34,639
Unsecured subordinated notes - 23,643
Other long-term liabilities 810 724
Commitments and contingencies
Redeemable preferred stock - 9% - 22,006
Stockholders' deficit:
Common stock, $.001 par value:
Authorized shares-40,000,000; 6,980,326
and 6,998,858 shares issued
and outstanding at September 30,
2003 and 2002, respectively 7 7
Additional paid-in capital (deficit) (24,986) (24,186)
Promissory note receivable for
purchase of common stock (8,053) (8,053)
Retained earnings 21,484 15,806
--------------------------------------------
Total stockholders' deficit (11,548) (16,426)
--------------------------------------------
Total liabilities, redeemable
preferred stock, and stockholders'
deficit $132,551 $111,467
===========================================
See accompanying notes.
F-2
Vitas Healthcare Corporation and Subsidiaries
Consolidated Statements of Income
(In thousands)
Year ended September 30
2003 2002 2001
--------------------------------------------
Net revenue from patient services $420,074 $359,200 $319,517
Operating expenses:
Hospice program expenses 331,820 281,359 249,544
Central support services 45,735 39,458 34,736
Provision for bad debts 5,413 5,488 5,185
Depreciation and amortization 5,084 4,876 6,238
--------------------------------------------
388,052 331,181 295,703
--------------------------------------------
Income from operations 32,022 28,019 23,814
Interest and other income 716 680 604
Interest expense (5,886) (5,717) (3,552)
Loss from early extinguishment of
debt (4,117) - -
--------------------------------------------
Income before income taxes 22,735 22,982 20,866
Provision for income taxes 9,046 9,193 8,555
--------------------------------------------
Net income 13,689 13,789 12,311
Preferred stock dividends and accretion of
preferred stock to redemption value (8,011) (4,062) (6,199)
--------------------------------------------
--------------------------------------------
Net income available to common
stockholders $ 5,678 $ 9,727 $ 6,112
============================================
See accompanying notes.
F-3
VITAS HEALTHCARE CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN REDEEMABLE PREFERRED STOCK AND STOCKHOLDERS' DEFICIT
(In thousands)
REDEEMABLE PREFERRED STOCK
---------------------------------------------- ADDITIONAL
9% SERIES B COMMON STOCK PAID-IN
------------------- -------------------- ---------------- CAPITAL
SHARES DOLLARS SHARES DOLLARS SHARES DOLLARS (DEFICIT)
------------------- ---------------------------------------------------
Balance at September 30, 2000 270 $26,529 263 $46,148 4,441 $4 $(40,145)
9% Preferred Stock dividends paid - - - - - - -
Accretion of Preferred Stock to
redemption value and accrued dividends - 1,924 - 1,845 - - (2,560)
Redemption of Series B Preferred Stock - - (263) (26,250) - - -
Conversion of Series B accrued dividends to
convertible unsecured subordinated note - - - (21,743) - - -
Discount on 9% Preferred Stock related to
warrant - (8,079) - - - - 8,079
extension and issuance of new warrant
Warrants issued for debt issuance costs - - - - - - 2,364
Common stock issued upon exercise of stock
options,
net of shares retained for employee - - - - 93 - 148
withholding taxes and tax benefit
Common stock purchased by the Company and - - - - (121) - (619)
retired
Net income - - - - - - -
------------------------------------------------------------------------
Balance at September 30, 2001 270 20,374 - - 4,413 4 (32,733)
9% Preferred Stock dividends paid - - - - - - -
Accretion of Preferred Stock to redemption - 1,632 - - - - -
value
Common stock issued upon exercise of stock
options,
net of shares retained for employee - - - - 2,586 3 8,547
withholding
taxes and tax benefit of $1,229
Acceptance of promissory note for purchase
of - - - - - - -
common stock
Net income - - - - - - -
------------------------------------------------------------------------
Balance at September 30, 2002 270 22,006 - - 6,999 7 (24,186)
9% Preferred Stock dividends paid - - - - - - -
Accretion of Preferred Stock to - 5,264 - - - - -
redemption value
Common stock issued upon exercise of stock
options, net of tax benefit of $60 - - - - 63 1 300
Common stock purchased by the Company and - - - - (82) (1) (1,003)
retired
Other - - - - - - (97)
Redemption of 9% Preferred Stock (270) (27,270) - - - - -
Net income - - - - - - -
------------------------------------------------------------------------
Balance at September 30, 2003 - $ - - $ - 6,980 $7 $(24,986)
========================================================================
PROMISSORY
NOTE
RECEIVABLE
FOR PURCHASE TOTAL
OF COMMON RETAINED STOCKHOLDERS'
STOCK EARNINGS DEFICIT
------------------------------------------------------------------------
Balance at September 30, 2000 $ - $(2,953) $(42,734)
9% Preferred Stock dividends paid - (2,430) (2,430)
Accretion of Preferred Stock to
redemption value and accrued dividends - (1,209) (3,769)
Redemption of Series B Preferred Stock - - -
Conversion of Series B accrued dividends to
convertible unsecured subordinated note - - -
Discount on 9% Preferred Stock related to
warrant - - 8,079
extension and issuance of new warrant
Warrants issued for debt issuance costs - - 2,364
Common stock issued upon exercise of stock
options,
net shares retained for employee - - 148
withholding taxes and tax benefit
Common stock purchased by the Company and - - (619)
retired
Net income - 12,311 12,311
------------------------------------------------------------------------
Balance at September 30, 2001 - 6,079 (26,650)
9% Preferred Stock dividend paid - (2,430) (2,430)
Accretion of Preferred Stock to redemption - (1,632) (1,632)
value
Common stock isued upon exercise of stock
options,
net of shares retained for employee - - 8,550
withholding
taxes and tax benefit of $1,229
Acceptance of promissory note for purchase
of (8,053) - (8,053)
common stock
Net income - 13,789 13,789
------------------------------------------------------------------------
Balance at September 30, 2002 (8,053) 15,806 (16,426)
9% Preferred Stock dividends paid - (2,747) (2,747)
Accretion of Preferred Stock to - (5,264) (5,264)
redemption value
Common stock issued upon exercise of stock
options, net of tax benefit of $60 - - 301
Common stock purchased by the Company and - - (1,004)
retired
Other - - 97
Redemption of 9% Preferred Stock - - -
Net income - 13,689 13,689
------------------------------------------------------------------------
Balance at Septemer 30, 2003 $(8,053) $21,484 $(11,548)
========================================================================
See accompanying notes.
F-4
Vitas Healthcare Corporation and Subsidiaries
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
Year ended September 30
2003 2002 2001
--------------------------------
OPERATING ACTIVITIES
Net income $13,689 $13,789 $12,311
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation 5,495 5,072 4,553
Amortization, including deferred financing costs 2,303 1,473 2,262
Deferred interest on subordinated notes 1,198 1,339 561
Deferred income taxes (323) 3,113 311
Provision for bad debts 5,413 5,488 5,185
Loss on sale of assets 3 - -
Loss on early extinguishment of debt 4,117 - -
Changes in operating assets and liabilities:
Accounts receivable (17,599) (13,674) (14,312)
Restricted cash (6,000) - -
Income tax receivable (payable) 4,340 (3,197) 327
Other current assets (521) (582) (259)
Accounts payable and accrued expenses 7,547 1,022 358
Other long-term liabilities 85 (552) 951
--------------------------------
Net cash provided by operating activities 19,747 13,291 12,248
INVESTING ACTIVITIES
Purchases of property and equipment (7,007) (5,368) (4,670)
Cash paid for hospice acquisition, net (2,068) - -
Change in other assets (518) (1,500) (1,341)
--------------------------------
Net cash used in investing activities (9,593) (6,868) (6,011)
Continued on next page.
F-5
CONSOLIDATED STATEMENTS OF CASH FLOWS (continued)
(In thousands)
Year ended September 30
2003 2002 2001
--------------------------------
---------------------------------------
FINANCING ACTIVITIES
Principal payments on Term Note, net $ (9,556) $(7,214) $ (4,250)
Principal payments on capital lease obligations (345) (191) (43)
Dividends paid on 9% Preferred Stock (2,747) (2,430) (2,430)
Proceeds from exercise of Employee Stock Options 301 497 148
Proceeds from issuance of Loan 95,000 - 50,000
Repayment of Term Loan - - ( 2,568)
Repayment of Subordinated Notes (24,431) - -
Interest payments on Subordinated Notes (410) - -
Net principal payments on debt (30,662) - (13,000)
Redemption of 9% Series B Preferred Stock (27,270) - (26,250)
Debt issuance costs (5,296) - (3,902)
Common stock purchased by the Company and retired (1,101) - (619)
Net cash used in financing activities --------------------------------
(6,517) (9,338) (2,914)
--------------------------------
Net increase (decrease) in cash and cash equivalents 3,637 (2,915) 3,323
Cash and cash equivalents, beginning of year 5,466 8,381 5,058
--------------------------------
--------------------------------
Cash and cash equivalents, end of year $ 9,103 $ 5,466 $ 8,381
================================
SUPPLEMENTAL DISCLOSURE OF NONCASH INVESTING AND FINANCING
ACTIVITIES
Acceptance of promissory note for purchase of common stock
$ - $ 8,053 $ -
================================
================================
Warrants issued in connection with the extension of the 9%
Preferred Stock $ - $ - $ 8,079
================================
================================
Warrants issued for debt issuance costs $ - $ - $ 2,364
================================
================================
Conversion of Series B preferred stock accrued dividends to
convertible unsecured subordinated note $ - $ - $21,743
================================
================================
Equipment purchased under capital lease obligations $ - $ 1,000 $ 248
================================
================================
SUPPLEMENTAL CASH FLOW INFORMATION
Cash interest paid $ 2,511 $ 4,786 $ 2,514
================================
================================
Cash income taxes paid $ 5,262 $ 8,029 $ 7,721
================================
See accompanying notes.
F-6
VITAS HEALTHCARE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2003
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
COMPANY
Vitas Healthcare Corporation and subsidiaries (Vitas or the Company)
provides palliative medical care and related services to terminally ill
patients through state-licensed and federally-certified hospice programs.
Palliative medical care focuses primarily on improving the quality of life of
terminally ill patients and their families, which includes symptoms and pain
management and certain counseling and bereavement care. Patient care is
provided in the patient's home which could include a long-term care facility
or in an inpatient facility. The Company provides its services through
interdisciplinary teams of professionals and staff that include physicians,
registered nurses, social workers, chaplains and other counselors, home health
aides, volunteers and homemakers managing care in various settings. These
services include physician care, nursing care, home health aide services,
social work, counseling services and pastoral care, as well as drugs, medical
equipment and supplies and other ancillary services related to the treatment
of terminal illness. The Company's corporate headquarters is located in Miami,
Florida and currently operates hospice programs in eight states including
Florida, California, Illinois, Ohio, Pennsylvania, Wisconsin, New Jersey and
Texas.
PRINCIPLES OF CONSOLIDATION
The consolidated financial statements include the accounts of Vitas
Healthcare Corporation and its subsidiaries. All significant intercompany
accounts and transactions have been eliminated in consolidation.
ACCOUNTS RECEIVABLE
The Company's patients are primarily insured under third-party payor
agreements. The composition of accounts receivable from third-party payors and
patients is as follows:
SEPTEMBER 30
2003 2002
---------------------------------
Medicare 61% 60%
Medicaid 29 31
Commercial insurers 9 8
Other 1 1
---------------------------------
100% 100%
=================================
F-7
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
CREDIT IS GRANTED TO ALL PAYORS WITHOUT COLLATERAL.
The Company receives biweekly payments for patient services from the
Medicare program under the Prospective Interim Payment (PIP) System. These
payments are subsequently applied against specific Medicare accounts as claims
are processed by the fiscal intermediary. The unapplied portion of these
biweekly PIP payments is recorded as a reduction to patient accounts
receivable.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities, the
disclosure of contingent assets and liabilities at the date of the financial
statements, and the reported amounts of revenues and expenses during the
reporting period. The Company's actual results in subsequent periods may
differ from the estimates and assumptions used in the preparation of the
accompanying consolidated financial statements.
CASH AND CASH EQUIVALENTS
Cash and cash equivalents include currency, checks on hand and overnight
repurchase agreements. Cash in excess of daily requirements invested in
short-term investments with original maturities of three months or less is
considered to be a cash equivalent for financial statement purposes. Under the
terms of its credit agreement (see Note 5), the Company is required to
maintain a cash balance equal to its PIP settlements ($0 and $505,000 at
September 30, 2003 and 2002, respectively) throughout the term of the credit
agreement. Such amount is included in cash and cash equivalents in the
accompanying consolidated balance sheet.
Deposits in banks may exceed the amount of insurance provided on such
deposits. The Company performs reviews of the credit worthiness of its
depository banks. The Company has not experienced any losses on its deposits
of cash.
RESTRICTED CASH
In connection with the 2003 Recapitalization (see Notes 2 and 5), the
Company had $6 million in escrow at September 30, 2003. The cash was
restricted to repurchasing the Company's common stock in the event certain
shareholders' exercised put rights prior to the end of October 2003.
F-8
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
In the event those certain shareholders' put rights were not exercised,
the cash in escrow would be applied against the Company's outstanding debt.
Subsequent to year end, the restricted cash was in fact applied against the
Company's outstanding debt.
FINANCIAL INSTRUMENTS
The carrying amount of financial instruments including cash and cash
equivalents, restricted cash, accounts receivable, and accounts payable
approximate fair value as of September 30, 2003. The carrying amounts of the
Company's borrowings approximate fair value as the interest rates are
variable.
CHARITY CARE
The Company provides care to all patients regardless of ability to pay.
Patients who meet certain criteria under its charity care policy are cared for
without charge or at amounts less than established rates. Amounts determined
to qualify as charity care are not reported as revenue because the Company
does not pursue collection.
Charity care was $5.8 million, $4.6 million and $3.4 million for the
years ended September 30, 2003, 2002 and 2001, respectively.
NET REVENUE
Revenue is recognized as services are rendered. Net revenue is reported
at the estimated net realizable amounts due from third-party payors which are
primarily Medicare and Medicaid. Payors may deny payment for services in whole
or in part on the basis that such services are not eligible for coverage and
do not qualify for reimbursement. Management estimates denials each period and
makes adequate provision for them in the financial statements. The percentage
of net revenue derived under the Medicare and Medicaid programs was 95% in
2003, 2002 and 2001.
The Company is subject to limits for payments for routine home care and
for inpatient services. Routine home care, which represented approximately 68%
of gross patient service revenue in 2003, is subject to limits based on
aggregate length of stay by hospice provider for the year, and the limit by
hospice provider is effective for average lengths of stay in excess of 180
days. For inpatient
F-9
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
services, which represented approximately 16% of gross patient service
revenue in 2003, the limit is based on inpatient care days. If inpatient care
days provided to patients at a hospice exceeded 20% of the total days of
hospice care provided for the year, then payment for days in excess of this
limit are paid for at the routine home care rate. The Company did not exceed
the payment limits on routine home care or inpatient services in 2003, 2002,
or 2001.
GOODWILL
In July 2001, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards (SFAS) No. 141, Business Combinations and
SFAS No. 142, Goodwill and Other Intangible Assets. SFAS No. 141 requires that
the purchase method of accounting be used for all business combinations
initiated after June 30, 2001. SFAS No. 141 also specifies the criteria which
must be met for intangible assets acquired in a purchase method business
combination to be recognized and reported apart from goodwill, noting that any
purchase price allocable to an assembled workforce may not be accounted for
separately. The requirements of SFAS No. 141 are effective for any business
combination accounted for by the purchase method that is completed after
June 30, 2001.
Under SFAS No. 142, goodwill and intangible assets with indefinite useful
lives are no longer amortized, but are reviewed annually or more frequently if
indicators arise for impairment. SFAS No. 142 also requires that intangible
assets with definite useful lives be amortized over their respective estimated
useful lives to their estimated residual values, and reviewed for impairment
in accordance with SFAS No. 121, Accounting for the Impairment of Long-Lived
Assets and for Long-Lived Assets to Be Disposed Of. The amortization
provisions of SFAS No. 142 apply to goodwill and intangible assets acquired
after June 30, 2001. With respect to goodwill and intangible assets acquired
prior to July 1, 2001, the amortization provisions of SFAS No. 142 were
effective upon adoption of SFAS No. 142. Companies were required to adopt SFAS
No. 142 in fiscal years beginning after December 15, 2001 (i.e. October 1,
2002 for the Company). Early adoption was permitted for companies with fiscal
years ending after March 15, 2001. The Company adopted SFAS No. 142 effective
October 1, 2001. At this time, the Company tested goodwill for impairment
pursuant to the guidance of SFAS No. 142 and concluded that there was no
impairment.
F-10
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
The Company completed its annual impairment test using the two-step
process prescribed by SFAS No. 142 on May 1, 2003 and May 1, 2002 and
determined that no impairment existed. The first step is a screen for
potential impairment, while the second step measures the amount of the
impairment, if any. Upon completing the first step, the Company determined
that its goodwill was not impaired and, thus, was not required to perform the
second step. The useful lives and amortization periods of the Company's other
identifiable intangible assets (which primarily consist of debt issuance costs
and non-compete agreements) did not change as a result of the Company's
adoption of SFAS No. 142. Had SFAS No. 142 been effective for all periods
presented herein, the Company's net income would have been adjusted as follows
(in thousands):
2003 2002 2001
-----------------------------------
-----------------------------------
Net income as reported $13,689 $13,789 $12,311
Goodwill amortization - - 1,660
Income tax effect - - (664)
-----------------------------------
-----------------------------------
Net income, as adjusted for the
impact of SFAS No. 142 $13,689 $13,789 $13,307
===================================
LONG-LIVED ASSETS
The Company periodically reviews its long-lived assets to determine if
the carrying value of these assets is recoverable based on the future cash
flows expected from such assets. The Company believes that no impairment of
long-lived assets exists at September 30, 2003.
PROPERTY AND EQUIPMENT
Property and equipment, including improvements to existing facilities,
are recorded at cost.
Depreciation is calculated principally using the straight-line method
over the estimated useful lives of the assets. Estimated useful lives for
major asset categories are five years for leasehold improvements, five to
seven years for equipment, three years for capitalized software and software
development costs, and five years for office furniture.
F-11
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
Certain software development costs for internally developed software are
capitalized in accordance with the provisions of Statement of Position 98-1,
Accounting for the Costs of Computer Software Developed or Obtained for
Internal Use. Amortization of capitalized software costs begins when the
software is placed into service and is included in depreciation expense.
OTHER ASSETS
Other assets include approximately $4.7 million and $5.1 million at
September 31, 2003 and 2002, respectively, of deferred debt issuance costs
related to the 2003 and 2001 Credit Facilities respectively, (see Note 5). The
costs related to the 2003 Recapitalization (see Note 2 and 5) are being
amortized over the term of the 2003 Credit Facility using the interest method.
The costs related to the 2001 Credit Facility were being amortized to interest
expense over the term of the 2001 Credit Facility on a straight-line basis,
which approximated the interest method, prior to the 2003 Recapitalization.
On August 6, 2003 approximately $4.1 million of deferred debt issuance
costs related to the 2001 Credit Facility was written off and included in Loss
from early extinguishment of debt in the accompanying Income Statement.
PROMOTIONAL AND EDUCATIONAL MATERIALS
The Company produces and purchases education, communication and clinical
materials for general distribution. Expenses related to these materials
totaled $1,451,000, $1,282,000 and $891,000 for the years ended September 30,
2003, 2002 and 2001, respectively.
STOCK-BASED COMPENSATION
In 1995, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards (SFAS) No. 123, Accounting for Stock Based
Compensation. SFAS No.123 allows either adoption of a fair value method of
accounting for stock-based compensation plans or a continuation of accounting
under Accounting Principles Board (APB) Opinion No. 25, Accounting for Stock
Issued to Employees, and related interpretations with supplemental
disclosures. The Company has chosen to account for all employee stock-based
compensation arrangements in accordance with APB Opinion No. 25 with related
disclosures under SFAS No. 123, which requires pro forma net income disclosure
as well as various other disclosures not required under APB No. 25.
F-12
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
The following pro forma net income information has been determined as if the
Company had accounted for its employee stock options under the fair value
method of SFAS No. 123:
YEAR ENDED SEPTEMBER 30
2003 2002 2001
-----------------------------------
(In thousands)
Net income as reported $13,689 $13,789 $12,311
Deduct: Fair value stock-based
compensation
expense, net of tax 603 356 246
-----------------------------------
Pro forma net income $13,086 $13,433 $12,065
===================================
The grant date fair value of options granted during fiscal 2003, 2002 and 2001
was $3.03, $3.34 and $2.47 per share, respectively. Fair value was estimated
using the Black-Scholes option pricing model and the following assumptions:
2003 2002 2001
-------------------------------------
Risk-free interest rate 3.79%-4.06% 4.99% 5.00%
Expected dividend yield 0% 0% 0%
Volatility 14.9% 15.9% 14.5%
Expected life 8 years 8 years 10 years
Option valuation models were developed for estimating the fair value of traded
options which have no vesting restrictions and are fully transferable. In
addition, option valuation models require the input of highly subjective
assumptions including the expected stock price volatility. Because the
Company's employee stock options have characteristics significantly different
from those of traded options, and because changes in the subjective input
assumptions can materially affect the fair value estimate, in management's
opinion, the existing models do not necessarily provide a reliable single
measure of the fair value of its employee stock options.
For purposes of pro forma disclosures, the estimated fair value of the options
is amortized to expense over the options' vesting period. Because compensation
expense associated with a stock option award is recognized over the vesting
period, the initial impact of applying SFAS No. 123 may not be indicative of
compensation expense in future years, when the effect of the amortization of
multiple awards will be reflected in pro forma net income.
F-13
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
DERIVATIVE FINANCIAL INSTRUMENTS
The Company is exposed to market risk arising from changes in interest rates.
To protect against such risks, the Company has one derivative financial
instrument, an interest rate cap agreement, which is more fully disclosed in
Note 6.
During 1998, the FASB issued SFAS No. 133, Accounting for Derivative
Instruments and Hedging Activities (SFAS No. 133), effective as of January 1,
2001. SFAS No. 133 requires companies to recognize all of its derivative
instruments as either assets or liabilities in the statement of financial
position at fair value. The accounting for changes in the fair value (i.e.,
gains or losses) of a derivative instrument depends on whether it has been
designated and qualifies as part of a hedging relationship and on the type of
hedging relationship. For those derivative instruments that are designated and
qualify as hedging instruments, a company must designate the hedging
instrument, based upon the exposure being hedged, as either a fair value
hedge, cash flow hedge or a hedge of a net investment in a foreign operation.
Fluctuations in the fair value of the effective portion of a hedging
instrument are recorded as a component of other comprehensive income. The
estimated fair value of the rate cap will fluctuate over time based on changes
in floating interest rates and such changes in fair value will be recognized
in earnings as they occur as it does not qualify as a hedging instrument.
COMPREHENSIVE INCOME
The FASB issued SFAS No. 130, Comprehensive Income (SFAS No. 130), which
requires that an enterprise (a) classify items of other comprehensive income
by their nature in the financial statements, and (b) display the accumulated
balance of other comprehensive income separately from retained earnings and
additional paid-in capital in the equity section of the balance sheet. The
items of other comprehensive income that are typically required to be
displayed are foreign currency items, minimum pension liability adjustments,
unrealized gains and losses on certain investments in debt and equity
securities and the effective portion of certain derivative instruments. There
are no components of comprehensive income other than the Company's net income
for the years ended September 30, 2003, 2002 and 2001.
F-14
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
RECENT ACCOUNTING PRONOUNCEMENTS
In May 2003, the FASB issued SFAS No. 150 Accounting for Certain Financial
Instruments with Characteristics of both Liabilities and Equity (SFAS 150).
SFAS 150 establishes standards for how an issuer classifies and measures
certain financial instruments with characteristics of both liabilities and
equity. SFAS 150 is effective for financial instruments entered into or
modified after May 31, 2003, and otherwise is effective beginning after
July 1, 2004. The Company does not expect SFAS 150 to have a material impact
on the results of operations or financial position of the Company.
RECLASSIFICATIONS
Certain reclassifications have been made to the 2002 and 2001 financial
statements to conform to the 2003 presentation.
2. REDEEMABLE PREFERRED STOCK
On April 27, 2001, the Company completed a recapitalization and refinancing
transaction which included, among other things, a new credit facility (see
Notes 5 and 6) and the restructuring, extension and/or repurchase of
Redeemable Preferred Stock as described herein. After the recapitalization and
refinancing transaction, the Company had authorized 4,500,000 shares of
redeemable preferred stock with a $1.00 par value.
The Company's 9% Preferred Stock had a stated value of $100 per share, accrued
cumulative dividends at $9.00 per share on a semiannual basis payable
quarterly in certain circumstances, and was nonvoting and mandatory redeemable
at June 30, 2007 as follows:
NUMBER OF SHARES REDEMPTION PRICE
TO BE REDEEMED PER SHARE
----------------------------------------------------------------------
81,000 $102
81,000 101
108,000 100
F-15
2. REDEEMABLE PREFERRED STOCK (continued)
At any time prior to the mandatory redemption date, the Company was able to
redeem all or any portion of the 9% preferred Stock at a redemption price of
$101 per share. The 9% Preferred Stock also had a liquidation preference equal
to the stated value plus all unpaid dividends.
On August 6, 2003, the Company completed a recapitalization and refinancing
transaction (the 2003 Recapitalization) (see Notes 5 and 6). Following this
transaction, on August 18, 2003, the Company redeemed all of the outstanding
270,000 shares of 9% Preferred Stock at a redemption price of $101 per share
plus $1.18 per share, representing all accrued and unpaid dividends of
$317,500.
In connection with the issuance and prior year redemption date extensions of
the 9% Preferred Stock, the Company issued three series of Common Stock
purchase Warrants A, B and C. As of September 30, 2003, Warrant A consists of
2,688,899 shares of common stock with an exercise price of $4.325 per share,
Warrant B consists 1,469,344 shares of common stock with an exercise price of
$4.335 per share and Warrant C consists of 1,636,364 shares of common stock
with an exercise price of $5.50 per share (collectively, the Warrants), all of
which contain anti-dilution provisions.
The expiration dates of the Warrants are based in part on a formula that takes
into account the redemption date of the 9% Preferred Stock. As a result of the
redemption of the 9% Preferred Stock on August 18, 2003, Warrant A has an
expiration date of the earlier of May 5, 2005 or the closing of a qualified
initial public offering, Warrant B has an expiration date of April 28, 2005
and Warrant C has an expiration date of the earlier of April 28, 2005 or the
closing of a qualified initial public offering. On October 15, 2003, Warrants
A and B were exercised with cash proceeds of $17,999,094.
The extension of the expiration dates of Warrants A and B in prior periods
increased the value of these warrants by approximately $5,477,000. The Company
computed the value of Warrant C (which was granted during fiscal 2001) to be
$2,602,000 on the date of grant using the Black-Scholes option valuation
model. The fair value of the Warrants (either as a result of extending the
life of the Warrants or as a result of the initial granting of such warrants)
has been recorded as a decrease in the carrying value of the 9% Preferred
Stock and a charge to additional paid-in capital, which was being accreted
ratably through June 30, 2007.
F-16
3. STOCK OPTIONS AND WARRANTS
The Company has granted nonqualified stock options (NQSOs) to purchase shares
of the Company's Common Stock to various employees, officers, directors and
consultants in conjunction with their employment with or service to the
Company. All NQSOs generally expire between five and ten years after the
initial grant date and are only transferable under certain circumstances.
Proceeds from the exercise of options under these plans are included in
stockholders' equity and are subject to certain credit facility restrictions.
On October 30, 1997, the Company adopted the 1997 Executive Incentive
Compensation Plan (EICP). Under the EICP, the Company is authorized to grant
options and other stock rights and awards to purchase up to 1,954,555 shares
of the Company's Common Stock. The Company granted 390,000 and 660,000 options
under this plan during fiscal 2003 and 2002, respectively, all of which
remained outstanding at September 30, 2003. The options vest ratably over a
five-year period and have a life of ten years from date of grant.
The Company, in prior years, adopted two Management Equity Incentive Plans
(MEIPs). The MEIPs are authorized to issue options to purchase a total of
2,282,000 shares of the Company's Common Stock at prices not less than market
value at the date of grant and generally vest at 25% per year beginning the
year subsequent to the grant. At September 30, 2003, the MEIPs have 1,041,656
options that are outstanding. MEIP options granted generally become
exercisable under certain conditions upon the earlier of (i) completion of a
qualified initial public offering of the Company's common stock, (ii) nine
years ten months from the date of grant or (iii) any dissolution, liquidation,
sale of assets, or reorganization in which Vitas is not the surviving entity.
Options granted under these plans expire 10 years from the date of grant.
Beginning in fiscal year 2003, the Company does not intend to issue any
additional MEIP option awards.
Prior to 1997, the Company issued 2,927,500 options which were not part of the
MEIPs or any other Company plan, none of which are outstanding at
September 30, 2003. In 2001, the Company issued options for 500,000 shares
which were not part of the MEIPs or any other Company plan, all of which are
outstanding.
F-17
3. STOCK OPTIONS AND WARRANTS (continued)
The following table summarizes the Company's stock option activity:
WEIGHTED
SHARES AVERAGE
UNDER OPTION EXERCISE
OPTION PRICES PRICE
---------------------------------------------
Options outstanding at September 30, 2000 5,130,156 $0.70 - $ 7.00 $3.98
Granted 500,000 6.00 6.00
Exercised (125,000) 0.70 0.70
Canceled (27,125) 5.00 - 7.00 6.14
---------------------------------------------
Options outstanding at September 30, 2001 5,478,031 0.70 - 7.00 4.23
Granted 660,000 9.25 9.25
Exercised (2,978,500) 0.70 - 3.90 3.41
Canceled (705,250) 3.90 - 4.75 3.91
---------------------------------------------
Options outstanding at September 30, 2002 2,454,281 0.70 - 9.25 6.66
Granted 390,000 9.75 - 10.25 9.80
Exercised (63,250) 4.75 4.75
Canceled (189,375) 4.75 4.75
---------------------------------------------
Options outstanding at September 30, 2003 2,591,656 $5.00 - $10.25 $7.31
=============================================
Exercisable at September 30, 2001 2,927,500 $0.70 - $ 4.75 $3.41
=============================================
Exercisable at September 30, 2002 173,750 $4.75 - $ 6.00 $5.65
=============================================
Exercisable at September 30, 2003 382,000 $6.00 - $ 9.25 $7.12
=============================================
F-18
3. STOCK OPTIONS AND WARRANTS (continued)
The following table summarizes information about stock options outstanding at
September 30, 2003:
NUMBER WEIGHTED NUMBER
OUTSTANDING AVERAGE WEIGHTED EXERCISABLE
RANGE AS OF REMAINING AVERAGE AS OF
OF EXERCISE SEPTEMBER 30, CONTRACTUAL EXERCISE SEPTEMBER 30,
PRICES 2003 LIFE PRICE 2003
--------------------------------------------------------------------------------------------
$5.00 - $5.50 442,531 4.02 years $ 5.35 -
$5.75 - $6.00 994,250 4.20 $ 5.96 250,000
$7.00 104,875 2.01 $ 7.00 -
$9.25 - $9.75 1,010,000 8.76 $ 9.42 132,000
$10.25 40,000 9.86 $10.25 -
------------ ------------
2,591,656 382,000
============ ============
At September 30, 2003 the Company has available Common Stock for future
issuance under warrant and option agreements as follows:
Stock option plans and other option grants outstanding 2,591,656
Shares available for option grants under MEIPs 1,197,094
Shares available for awards under EICP 904,555
Warrants issued with 9% Preferred Stock 5,794,607
Warrants issued in connection with credit facilities 1,596,804
------------
12,084,716
============
F-19
4. DETAILS OF BALANCE SHEET
Details of select balance sheet accounts are as follows:
SEPTEMBER 30
2003 2002
------------------------------
(In thousands)
Property and equipment:
Leasehold improvements $ 5,141 $ 4,161
Equipment (including equipment under
capital leases) 10,007 9,175
Software 30,530 27,013
Office furniture 5,043 4,391
------------------------------
50,721 44,740
Accumulated depreciation (38,366) (33,895)
------------------------------
$12,355 $10,845
==============================
Intangible assets:
Goodwill $51,079 $49,011
Trade name 526 526
Accumulated amortization (11,162) (11,136)
------------------------------
$40,443 $38,401
==============================
Intangible assets subject to amortization relates to a trade name that is
being amortized over a 20 year life and is included in intangibles in the
accompanying consolidated balance sheets. Amortization expense of the asset
that still requires amortization under SFAS No. 142 was $26,000 for the years
ended December 31, 2003, 2002 and 2001, respectively. Amortization expense
relating to these intangible assets will be approximately $26,000 for the next
five fiscal years.
F-20
4. DETAILS OF BALANCE SHEET (continued)
Other assets include deferred financing costs of approximately $4,745,000 net
of accumulated amortization of $61,000 at September 30, 2003. The estimated
annual amortization expense for intangible assets subject to amortization,
including deferred financing costs and trade name, for the next five fiscal
years is as follows (in thousands):
September 30:
2004 $ 762
2005 817
2006 876
2007 941
2008 953
Other assets include an amount owed to the Company by the Foundation for
End-of-Life Care, Inc. (the Foundation). The Company helped organize the
Foundation during the year ended September 30, 2000 and has continued to
provide it with financial and other support. The Foundation is a
not-for-profit publicly supported organization whose primary mission is to
support academic and scientific research and education in end-of-life care.
The Foundation's acting president is also a director, executive officer, and
employee of the Company. The Foundation entered into an agreement with the
Company to repay such advances in installments of $25,000 per quarter which
commenced on March 31, 2001. The remaining balance outstanding was $548,000
and $613,000 at September 30, 2003 and 2002, respectively.
The allowance for uncollectible accounts for patient accounts receivable is as
follows (in thousands):
BALANCE AT CHARGED TO WRITEOFFS BALANCE AT
BEGINNING COSTS AND AND END OF
DESCRIPTION OF PERIOD EXPENSES ADJUSTMENTS PERIOD
----------------------------------------------------------------------------------------
Allowance for doubtful accounts:
Year ended December 31, 2003 $5,098 $5,413 $4,056 $6,455
Year ended December 31, 2002 4,848 5,488 5,238 5,098
Year ended December 31, 2001 4,351 5,185 4,688 4,848
F-21
5. BORROWINGS
On August 6, 2003, the Company refinanced its then existing credit facility
(the 2001 Credit Facility) with a new $120 million credit facility pursuant to
an amended and restated credit agreement (the 2003 Credit Facility) in
connection with the recapitalization and refinancing transaction discussed in
Note 2. The 2003 Credit Facility consists of a $60 million senior secured term
loan (Senior Term Loan), a $35 million second lien term loan (Second Lien Term
Loan) and a $25 million senior secured revolving loan commitment (Revolving
Loan). Borrowings under the Revolving Loan are limited to an amount equal to
85% of the book value of the Company's eligible accounts receivable, as
defined in the agreement. The 2003 Credit Facility also provides for the
periodic issuance, at the request of the Company and subject to limitations
based on outstanding indebtedness and other factors, of letters of credit of
up to $5,000,000, of which $3,300,000 has been issued as of September 30,
2003.
Under the 2003 Credit Facility, the Senior Term Loan requires quarterly
amortization payments ranging from $1,500,000 to $4,500,000 plus interest
beginning November 1, 2003 through August 1, 2008. The Senior Term Loan and
Revolving Loan accrue interest, at the Company's option, at either LIBOR or
the Base Rate, as defined, plus a margin ranging from 2.25% to 3.00% for base
rate loans and 3.25% to 4.00% for LIBOR rate loans based on the Senior
Leverage Ratio of the Company. At September 30, 2003, the interest rate based
on the Company's Senior Leverage Ratio is LIBOR plus 4% or Base Rate plus 3%.
The base rate is equal to the higher of the Prime Rate or the Federal Funds
Rate plus .5%. LIBOR was 1.13% at September 30, 2003. Interest on the
Revolving Loan is payable monthly with any outstanding principal due in full
August 1, 2008. The Company is required to pay 0.5% annually on the unused
portion of the Revolving Loan. Interest on the Second Lien Term Loan is LIBOR
plus 10% or Base Rate plus 9%.
The Company can prepay outstanding amounts on the Senior Term Loan and
Revolving Loan under the 2003 Credit Facility at its discretion and without
penalty. Without the consent of all Senior Lenders, no prepayments can be made
on the Second Lien Term Loan prior to the payment in full of the Senior Term
Loan and the Revolving Loan. There are also mandatory prepayment provisions
based upon quarterly excess cash flows, as defined, the sale of significant
assets, disposition of a subsidiary, or the issuance of equity instruments,
and other specified transactions or events.
The 2003 Credit Facility restricts future borrowings, payment of dividends and
requires the Company to meet certain financial covenants related to fixed
charge coverage, senior and total leverage, EBITDA, and others. The Company
was in compliance with its financial covenants at September 30, 2003. The
Company must also maintain an interest rate cap agreement that will
F-22
5. BORROWINGS (continued)
protect the Company against any increase in interest rates after August 6,
2003 through September 30, 2006 with respect to 50% of the outstanding
principal on the Senior Term Loan and Second Lien Term Loan at closing, or
approximately $47.5 million (see Note 6). The 2003 Credit Facility is secured
by substantially all of the assets of the Company.
In connection with the 2003 Recapitalization, the Company used proceeds of
approximately $27.2 million to redeem the 9% Preferred Stock at a redemption
price per share of $101 plus $1.18 per share, representing all accrued and
unpaid dividends to the redemption date (see Note 2). Also, the Company used
$22.7 million of proceeds from the 2003 Credit Facility to repay the unsecured
subordinated notes (collectively the Subordinated Notes) bearing interest at
6% annually and maturing on November 1, 2006 subject to extensions under
certain circumstances. The conversion rights of the Subordinated Notes expired
during the year ended September 30, 2002.
The 2001 Credit Facility, as amended October 2002, consisted of a $50 million
term loan (the 2001 Term Loan) and a $25 million revolving loan commitment
(2001 Revolving Loan). Borrowings under the 2001 Revolving Loan were limited
to an amount equal to 85% of the book value of the Company's eligible accounts
receivable, as defined in the agreement. The 2001 Credit Facility also
provided for the periodic issuance, at the request of the Company and subject
to limitations based on outstanding indebtedness and other factors, of letters
of credit of up to $5,000,000, of which $1,600,000 had been issued as of
September 30, 2002.
Under the 2001 Credit Facility, the 2001 Term Loan required quarterly
amortization payments ranging from $1,250,000 to $3,750,000 plus interest
beginning July 1, 2001 through April 1, 2006. The 2001 Term Loan and 2001
Revolving Loan accrued interest, at the Company's option, at LIBOR plus 4% or
the base rate plus 2.5%, (5.869% at September 30, 2002). The base rate was
equal to the higher of the Prime Rate or the Federal Funds Rate plus .5%.
Interest on the 2001 Revolving Loan was payable monthly with any outstanding
principal due in full April 2006. Additionally, the Company was required to
pay 0.5% annually on the unused portion of the 2001 Revolving Loan.
The Company could prepay all amounts outstanding under the 2001 Credit
Facility at its discretion and without penalty. There were also mandatory
prepayment provisions based upon quarterly excess cash flows, as defined, the
sale of significant assets, disposition of a subsidiary, or the issuance of
equity instruments, and other specified transactions or events.
F-23
5. BORROWINGS (continued)
The 2001 Credit Facility restricted future borrowings and required the Company
to meet certain financial covenants related to net worth, fixed charge
coverage, EBITDA, and others. The Company also maintained an interest rate cap
agreement that protected the Company against any increase in interest rates
after April 27, 2001 through April 2004 with respect to 50% of the outstanding
principal on the 2001 Term Loan at closing, or approximately $24.4 million
(see Note 6). The 2001 Credit Facility was secured by substantially all of the
assets of the Company.
The Company issued warrants to purchase an aggregate of 801,005 shares of
common stock in connection with the execution of the 2001 Credit Facility. Of
the 801,005 warrants, 320,402 have an exercise price of $.01 per share and
480,603 have an exercise price of $6.00 per share. These warrants terminate
April 27, 2011, or earlier upon occurrence of certain fundamental corporate
changes of the Company as defined in the applicable warrant agreement, and
contain certain anti-dilution provisions. The fair value of the warrants,
based on the Black-Scholes valuation method on the date granted of
approximately $2.4 million was being amortized through April 1, 2006, the
maturity date of the 2001 Term Loan. However, in connection with the
recapitalization and refinancing transaction described above, the unamortized
balance of these costs was written off and included in the loss from early
extinguishment of debt in the accompanying consolidated income statement.
Prior to fiscal 2001, the Company granted warrants to purchase an aggregate of
778,450 shares of common stock at an exercise price of $.01 per share in
connection with the Company's previous credit facility. The number of shares
and the exercise price of such warrants are subject to certain anti-dilution
adjustments. The fair value of these warrants, based on the Black-Scholes
valuation method on the date granted, was amortized over the life of the
related extensions which ended in fiscal 1998. In 2001, events surrounding the
recapitalization transaction triggered the antidilution adjustment provisions
of the warrants which increased the number of shares of common stock issuable
upon exercise of the warrants from 778,450 to 818,600 (an increase of 40,150
warrant shares) and decreased the exercise price per share of the warrants
from $.01 to $.00948, provided the Subordinated Notes were converted into
shares of common stock prior to the expiration of the conversion rights of the
Subordinated Notes in 2002. When the Subordinated Notes were not so converted,
the antidilution adjustment provisions of the warrants were again triggered,
which decreased the number of shares of common stock issuable upon exercise of
the warrants from 818,600 to 795,799 (a decrease of 22,801 warrant shares) and
increased the exercise price per share
F-24
5. BORROWINGS (continued)
of the warrants from $.00948 to $.00978. The fair value of the 22,801 warrants
of approximately $125,000, based on the Black-Scholes Valuation method on the
date granted, was being amortized through the maturity date of the 2001 Credit
Facility. However, in connection with the 2003 recapitalization and
refinancing transaction described above, the unamortized balance of these
costs was written off and included in the loss from early extinguishment of
debt in the accompanying consolidated income statement.
The Company's outstanding borrowings are as follows:
SEPTEMBER 30
2003 2002
------------------------------------
(In thousands)
Senior Term Loan $60,000 $40,218
Second Lien Term Loan 35,000
Revolving Loan - -
Other 669 1,014
------------------------------------
------------------------------------
95,669 41,232
Less current portion (6,426) (6,593)
------------------------------------
------------------------------------
$89,243 $34,639
====================================
====================================
Unsecured subordinated notes $ - $23,643
====================================
Scheduled maturities of the Company's outstanding borrowings at September 30,
2003, by fiscal year are (in thousands):
September 30:
2004 $ 6,669
2005 9,000
2006 12,000
2007 15,000
2008 18,000
Thereafter 35,000
-------------------
-------------------
$95,669
===================
F-25
5. BORROWINGS (continued)
At September 30, 2003 and 2002, the Company has outstanding a standby letter
of credit of $3,300,000 in favor of the Company's workers compensation program
administrator in addition to a $2,300,000 and $1,881,250 deposit at September
30, 2003 and 2002, respectively, both of which are pledged as security for the
obligation for unpaid claims and recorded as part of other assets.
6. INTEREST RATE CAP AGREEMENT
The 2003 Credit Facility requires that the Company maintain an interest rate
protection agreement on a portion of the Term Loan. Effective September 30,
2003, the Company entered into a rate cap agreement (the Agreement) with a
financial institution. The Agreement limits the LIBOR rate used to calculate
the interest rate paid by the Company to 6% over the life of the agreement
without an exchange of the underlying notional amount. The Company entered
into the Agreement to reduce the exposure to adverse fluctuations in floating
interest rates on the underlying debt obligation as required by the 2003
Credit Facility and not for trading purposes.
The Agreement matures on September 30, 2006 and has an underlying notional
amount of approximately $47.5 million. The $135,000 cost of the rate cap will
be amortized into interest expense during fiscal 2004. The fair value of the
rate caps were negligible and were determined based on quoted market prices
for similar instruments at September 30, 2003 and 2002. The estimated fair
value of the remaining rate cap will fluctuate over time based on changes in
floating interest rates and such changes in fair value will be recognized in
earnings as they occur.
The Company has no plans to terminate the Agreement earlier than the maturity
date. The Company is exposed to credit loss in the event of nonperformance by
the counter party to the Agreement. The amount of such exposure is limited to
the unpaid portion of amounts due to the Company, if any, pursuant to the
Agreement. Management considers the risk of counter party default to be
minimal.
In connection with the 2003 Recapitalization (see Notes 2 and 5), the Company
terminated its previous interest rate protection agreement related to the 2001
Credit Facility, which was outstanding at September 30, 2002.
F-26
7. BUSINESS ACQUISITION
In November 2002, the Company purchased certain assets related to the ongoing
operations of North Broward Hospital District doing business as Gold Coast
Hospice of Palm Beach, a hospice located in Palm Beach County, Florida. The
purchase price, including transaction costs, totaled $2.1 million. Assets
acquired include furniture and fixtures and goodwill of $2.1 million. The
acquisition was completed for the purpose of expanding the Company's
operations in Florida. The accompanying consolidated income statements include
the results of the acquired operation from the date of acquisition.
8. INCOME TAXES
Deferred income tax assets and liabilities are determined based upon
differences between the financial reporting and tax bases of assets and
liabilities and are measured using the enacted tax rates and laws that will be
in effect when the differences are expected to reverse.
Significant components of the provision for income taxes are as follows:
YEAR ENDED SEPTEMBER 30
2003 2002 2001
------------------------------------------------------
(In thousands)
Current:
Federal $7,925 $5,313 $7,196
State 1,444 767 1,047
Deferred:
Federal (273) 2,720 272
State (50) 393 40
------------------------------------------------------
$9,046 $9,193 $8,555
======================================================
Deferred income taxes reflect the net tax effect of temporary differences
between the carrying amount of assets and liabilities for financial reporting
purposes and the amounts used for income tax purposes. Significant components
of the Company's deferred tax assets and liabilities are as follows:
F-27
8. INCOME TAXES (CONTINUED)
SEPTEMBER 30
2003 2002
------------------------------
(In thousands)
Deferred tax assets:
Deferred compensation $ 131 $ 129
Book over tax depreciation 1,356 1,165
Accrued expenses 2,757 2,474
Allowance for doubtful accounts 174 -
Amortization of warrants 969 269
------------------------------
Total deferred tax assets 5,387 4,037
Deferred tax liabilities:
Tax over book amortization 6,422 5,319
Prepaid insurance 211 88
Allowance for doubtful accounts - 475
Other 388 112
------------------------------
Total deferred tax liabilities 7,021 5,994
------------------------------
Net deferred tax liabilities $(1,634) $(1,957)
==============================
The reconciliation of income tax attributable to continuing operations
computed at the U.S. federal statutory tax rates to income tax expense is:
YEAR ENDED SEPTEMBER 30
2003 2002 2001
--------------------------------
(In thousands)
Tax at U.S. statutory rate $7,915 $8,043 $7,095
State income tax--net of federal
tax benefit 931 760 1,079
Permanent differences 438 473 319
Other items (238) (83) 62
--------------------------------
$9,046 $9,193 $8,555
================================
F-28
9. EMPLOYEE BENEFIT PLANS
Since October 1, 1989, the Company has maintained an Employee Stock Ownership
Plan (ESOP) for the benefit of its employees. Contribution expense related to
the ESOP was approximately $1,406,000, $1,223,000, and $78,000 for the years
ended September 30, 2003, 2002 and 2001, respectively. Contribution expense in
fiscal 2003 and 2002 primarily consisted of plan contributions and costs
related to the administration of the ESOP, and in fiscal 2001, primarily for
plan administration costs.
The ESOP distributed 2,431 shares of common stock during fiscal 2003. Under
the terms of the ESOP Plan, holders of ESOP shares have the right to require
the Company to purchase eligible shares (as defined in the ESOP Plan) at fair
market value. At September 30, 2003, the Company estimates that 221,000 such
shares were eligible for repurchase at a price of $9.50 per share based on the
most recent valuation.
The Company has a 401(k) tax deferred savings plan (the Plan), covering
substantially all full and part-time employees over age 21 meeting a 60 day
minimum service requirement. The Plan is administered by an independent
trustee. Contributions made by the Company to the Plan are based on a
specified percentage of employee contributions. The Company's contributions to
the Plan totaled approximately $1,124,000, $905,000 and $443,000 for the years
ended September 30, 2003, 2002 and 2001, respectively.
10. RELATED PARTY TRANSACTIONS
At September 30, 2002, notes receivable from an executive officer, director
and stockholder were approximately $185,500 and bore interest at 9.5%. These
notes receivable were included in other assets until they were repaid during
October 2002. Notes receivable from an executive officer, director and
stockholder of $50,000 were forgiven during 2001.
The Company has noncompete agreements with two principal stockholders,
executive officers and directors. Payments made to executives under certain
noncompete agreements were $25,000, $50,000 and $135,000 for the years ended
September 30, 2003, 2002 and 2001, respectively. At September 30, 2002,
$20,833 of previously paid noncompete payments were being deferred and
amortized over the future periods during which the noncompete agreements were
in effect.
F-29
10. RELATED PARTY TRANSACTIONS (CONTINUED)
Certain board members are paid directors' fees for participating in board
meetings and reimbursed out-of-pocket expenses to attend the board meetings.
In addition, certain members of the board provide consulting services to the
Company for which they were paid $46,750, $21,200 and $118,000 in the
aggregate during fiscal years 2003, 2002 and 2001, respectively.
During 2002, the Company accepted a full recourse promissory note
approximating $8,053,000 in connection with the exercise of 2,250,000 stock
options by a Family Limited Partnership controlled by an executive and
principal stockholder of the Company as permitted under the stock option
agreement. The interest rate is a floating rate equal to the prime rate plus
0.5% and interest is due quarterly commencing March 31, 2002. The term of the
note is eight years with principal reduction payments totaling $1.65 million
to be made in quarterly installments ranging from $100,000 to $250,000
beginning December 31, 2007 through September 30, 2009 with the remaining
balance due on the eighth anniversary of the note (December 2009). In addition
to the personal guarantee of the executive and principal stockholder, the note
is further secured by the stock issued by the Company in connection with the
stock option exercise.
11. COMMITMENTS AND CONTINGENCIES
The Company leases office and warehouse space at its various locations and
also leases space to operate inpatient units using its own employees.
Total rental expense was approximately $7,272,000, $7,934,000 and $7,868,000
for fiscal years 2003, 2002 and 2001, respectively.
Future minimum rental commitments under noncancelable operating leases for the
years subsequent to September 30, 2003 are as follows (in thousands):
September 30:
2004 $ 6,331
2005 5,705
2006 4,982
2007 3,948
2008 5,750
---------------
$26,716
===============
F-30
11. COMMITMENTS AND CONTINGENCIES (CONTINUED)
The Company maintains self-insured retentions related to its workers
compensation insurance program. The Company's operations are insured for
professional and workers compensation liabilities on a claims-made basis and
for general liability on an occurrence basis. The Company records a liability
for the uninsured portion of workers compensation losses related to asserted
and unasserted claims arising from reported and unreported incidents based on
independent valuations which consider claim development factors, the specific
nature of the facts and circumstances giving rise to each reported incident
and the Company's history with respect to similar claims. The development
factors are based on a blending of the Company's actual experience with
industry standards. Additionally, the Company evaluates the professional and
general liability related to asserted and unasserted claims for reported and
unreported incidents based on the facts and circumstances surrounding such
claims.
The Company procures professional liability coverage on a claims-made basis.
The insurance contracts specify that coverage is available only during the
term of each insurance contract. Management of the Company intends to renew or
replace the existing claims-made policy annually and expects to be able to
continue to obtain such coverage. During fiscal 2001, the Company was notified
that one of its prior carriers was ordered into rehabilitation and
subsequently went into liquidation, creating the possibility that certain
prior year claims, if any, could be underinsured or uninsured. Certain claims
have been asserted where the coverage would have been the responsibility of
this prior carrier which have been settled or a liability has been recorded
based upon management's estimate of the expected future settlement. Management
does not believe that any future liability, if any, will have a material
effect on the financial condition or operating results of the Company.
Laws and regulations governing the Medicare and Medicaid programs are complex
and subject to interpretation. The Company believes that it is in compliance
with all applicable laws and regulations and is not aware of any pending or
threatened investigations involving allegations of potential wrongdoing. While
no such regulatory inquiries have been made, compliance with laws and
regulations can be subject to future government review and interpretation as
well as significant regulatory action including fines, penalties and exclusion
from the Medicare and Medicaid programs.
F-31
11. COMMITMENTS AND CONTINGENCIES (CONTINUED)
The Company intends to contribute $2.5 million to help fund the establishment
of the Duke University Institute for Care at the End of Life with equal
quarterly contributions of $125,000 beginning with the second quarter of
fiscal 2000 through 2005. Future contributions are conditional on the Company
attaining certain operating results and cash flow sufficient to meet its
operating needs and remain in compliance with debt covenants.
12. SUBSEQUENT EVENTS
On October 14, 2003, the holder of the 9% Preferred Stock, which was redeemed
in connection with the 2003 Recapitalization, elected to exercise Warrants A
and B which are more fully described in Note 2. The Company issued
approximately 4.1 million shares of common stock in exchange for approximately
$18 million. The proceeds from the exercise of the warrants triggered a
mandatory repayment of approximately $18 million pursuant to the terms of the
2003 Credit Facility of which $5 million was set aside for other corporate
purposes as permitted under the 2003 Credit Facility.
F-32
ROTO-ROOTER, INC AND SUBSIDIARY COMPANIES
UNAUDITED PRO FORMA CONSOLIDATED STATEMENT OF OPERATIONS
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2003
(in thousands, except per share and percentage data)
ADD/(DEDUCT)
-----------------------------------
EQUITY IN
VITAS OTHER
HISTORICAL EARNINGS ADJUSTMENTS PRO FORMA
---------------- ---------------- --------------- -----------------
CONTINUING OPERATIONS
Service revenues and sales $ 230,088 $ - $ - $ 230,088
---------------- ---------------- --------------- -----------------
Cost of services provided and goods sold
(excluding depreciation) 135,978 - - 135,978
General and administrative expenses 45,194 - - 45,194
Selling and marketing expenses 31,560 - - 31,560
Depreciation 9,025 - - 9,025
---------------- ---------------- --------------- -----------------
Total costs and expenses 221,757 - - 221,757
---------------- ---------------- --------------- -----------------
Income from operations 8,331 - - 8,331
Interest expense (1,625) - - (1,625)
Distributions on preferred securities (804) - - (804)
Other income--net 9,766 - (135) (b) 9,631
---------------- ---------------- --------------- -----------------
Income before income taxes 15,668 - (135) 15,533
Income taxes (5,898) - 47 (b) (5,851)
Equity in earnings of affiliate - 2,825 (a) (1,130) (c) 1,695
---------------- ---------------- --------------- -----------------
NET INCOME $ 9,770 $ 2,825 $ (1,218) $ 11,377
================ ================ =============== =================
EARNINGS PER SHARE
Net income $ 0.99 $ 1.15
================ =================
Average number of shares outstanding
9,913 9,913
================ =================
DILUTED EARNINGS/(LOSS) PER SHARE (d)
Net income $ 0.98 $ 1.14
================ =================
Average number of shares outstanding 9,940 9,940
================ =================
---------------------------------------------------
(a) Amount is computed as follows:
Vitas net income for the nine months ended September 30, 2003 $ 10,178 (e)
Aftertax reduction of interest expense resulting from using warrant 427
proceeds to reduce debt
Less: dividends paid on preferred stock (1,532)
Less: estimated amortization of excess value of assets over book value
(assumes 5-year life) (1,500)
-----------------
Adjusted Vitas earnings (100%) $ 7,573
Average Roto-Rooter ownership percentage during the period 37.3%
-----------------
Roto-Rooter pretax share of earnings $ 2,825
=================
(b) The reduction in interest income for the Company results from the assumed use of $18,000
of cash and cash equivalents to purchase 4,158 shares of Vitas common stock on January 1, 2003.
(c) The reduction in the Company's equity earnings in Vitas represents the provision for deferred income taxes
related to the Company's share of Vitas' earnings.
(d) At December 31, 2002, Vitas has warrants and employee stock options outstanding which would potentially
dilute the Company's ownership. Since Vitas' stock is not publicly traded, it is not possible to compute
diluted earnings per share using the treasury stock method required under current accounting standards.
If all options and warrants were exercised, including the Company's warrants for 1,636 shares, the
Company's ownership would decline to 34%.
(e) Vitas' net income includes a pretax charge of $4,177 ($2,553 aftertax) for the cost of early extinguishment
of debt in 2003.
P - 1
ROTO-ROOTER, INC AND SUBSIDIARY COMPANIES
UNAUDITED PRO FORMA CONSOLIDATED STATEMENT OF OPERATIONS
FOR THE YEAR ENDED DECEMBER 31, 2002
(in thousands, except per share and percentage data)
Add/(Deduct)
------------------------------------
Equity in Other
Vitas
Historical Earnings Adjustments Pro Forma
---------------- ---------------- ----------------- ----------------
CONTINUING OPERATIONS
Service revenues and sales $ 314,176 $ - $ - $ 314,176
---------------- ---------------- ----------------- ----------------
Cost of services provided and goods sold
(excluding depreciation) 186,285 - - 186,285
General and administrative expenses 51,096 - - 51,096
Selling and marketing expenses 45,544 - - 45,544
Depreciation 13,587 - - 13,587
Impairment, restructuring and similar expenses 20,342 - - 20,342
---------------- ---------------- ----------------- ----------------
Total costs and expenses 316,854 - - 316,854
---------------- ---------------- ----------------- ----------------
Income/(loss) from operations (2,678) - - (2,678)
Interest expense (2,928) - (540) (b) (3,468)
Distributions on preferred securities (1,079) - - (1,079)
Other income--net 4,282 - - 4,282
--------------- ----------------- ----------------- ----------------
Income/(loss) before income taxes (2,403) - (540) (2,943)
Income taxes (6,451) - 189 (b) (6,262)
Equity in earnings of affiliate - 3,679 (a) (1,471) (c) 2,208
--------------- ----------------- ----------------- ----------------
Income/(loss) from continuing operations (8,854) 3,679 (1,822) (6,997)
DISCONTINUED OPERATIONS 6,309 - - 6,309
--------------- ----------------- ----------------- ----------------
NET INCOME/(LOSS) $ (2,545) $3,679 $(1,822) $ (688)
=============== ================= ================= ================
EARNINGS/(LOSS) PER SHARE
Income/(loss) from continuing operations $ (0.90) $ (0.71)
=============== ===============
Net income/(loss)
$ (0.26) $ (0.07)
=============== ================
Average number of shares outstanding
9,858 9,858
================ ================
DILUTED EARNINGS/(LOSS) PER SHARE (d)
Income/(loss) from continuing operations $ (0.90) $ (0.71)
================ ================
Net income/(loss) $ (0.26) $ (0.07)
================ ================
Average number of shares outstanding
$ 9,858 $ 9,858
---------------------------------------------------------================ ================
(a) Amount is computed as follows:
Vitas net income for the twelve months ended December 31, 2002
$ 13,609
Afterttax reduction of interest expense resulting from using warrant proceeds to
reduce debt by $18,000 658
Less: dividends paid on preferred stock (2,430)
Less: estimated amortization of excess value of assets over book value
(assumes 5-year life) (2,000)
----------------
Adjusted Vitas earnings (100%)
$ 9,837
Average Roto-Rooter ownership percentage during the period 37.4%
----------------
Roto-Rooter pretax share of earnings $ 3,679
================
(b) The additional interest expense for the Company represents the costs of
borrowing $18,000 for the assumed purchase of 4,158
common shares of Vitas on January 1, 2002.
(c) The reduction in the Company's equity earnings in Vitas is the provision
for deferred income taxes related to the Company's share of Vitas' earnings.
(d) At December 31, 2002, Vitas has warrants and employee stock options
outstanding which would potentially dilute the Company's
ownership. Since Vitas' stock is not publicly traded, it is not
possible to compute diluted earnings per share using the treasury
stock method required under current accounting standards. If all
options and warrants were exercised, including the Company's
warrants for 1,636 shares, the Company's ownership would
decline to 34%.
P - 2
ROTO-ROOTER, INC AND SUBSIDIARY COMPANIES
UNAUDITED PRO FORMA CONSOLIDATED BALANCE SHEET
SEPTEMBER 30, 2003
(in thousands)
ADD/(DEDUCT)
INVESTMENT
HISTORICAL IN VITAS PRO FORMA
--------------- ----------------- ------------------
ASSETS
Current assets
Cash and cash equivalents $ 72,607 $ (18,000) $ 54,607
Accounts receivable less allowances 13,310 - 13,310
Inventories, primarily general merchandise and finished goods 8,548 - 8,548
Statutory deposits 9,852 - 9,852
Current deferred income taxes 9,167 - 9,167
Prepaid expenses and other current assets 8,616 - 8,616
--------------- ----------------- ------------------
Total current assets 122,100 (18,000) 104,100
Investments of deferred compensation plans held in trust 16,832 16,832
Other investments 5,546 18,000 23,546 (a)
Note receivable 12,500 12,500
Properties and equipment, at cost less accumulated depreciation 47,456 - 47,456
Identifiable intangible assets less accumulated amortization 2,450 - 2,450
Goodwill less accumulated amortization 113,437 - 113,437
Other assets 16,907 - 16,907
--------------- ----------------- ------------------
Total Assets $ 337,228 $ - $ 337,228
=============== ================= =================
LIABILITIES
Current liabilities
Accounts payable $ 5,033 $ - $ 5,033
Current portion of long-term debt 463 - 463
Income taxes 7,294 - 7,294
Deferred contract revenue 16,053 - 16,053
Accrued insurance 16,844 16,844
Other current liabilities 20,347 - 20,347
--------------- ----------------- -----------------
Total current liabilities 66,034 - 66,034
Long-term debt 25,635 - 25,635
Mandatorily Redeemable Convertible Preferred Securities
of the Chemed Capital Trust 14,146 - 14,146
Deferred compensation liabilities 16,824 16,824
Other liabilities 10,105 - 10,105
--------------- ----------------- ------------------
Total Liabilities 132,744 - 132,744
--------------- -----------------------------------
STOCKHOLDERS' EQUITY
Capital stock 13,452 - 13,452
Paid-in capital 169,406 - 169,406
Retained earnings 134,143 - 134,143
Treasury stock, at cost (110,492) - (110,492)
Unearned compensation (3,389) - (3,389)
Deferred compensation payable in Company stock 2,294 - 2,294
Notes receivable for shares sold (930) (930)
--------------- ----------------- -----------------
Total Stockholders' Equity 204,484 - 204,484
--------------- ----------------- -----------------
Total Liabilities and Stockholders' Equity $ 337,228 $ $ 337,228
----------------------------------------------------------------------================ ================= =================
(a) Total investment in Vitas common stock, including cost of warrants
exercised, is $19,500.
P - 3