UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
AMENDMENT NO. 2
FORM 10-K/A-2
(MARK ONE)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 1997
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from _______ to _______
Commission file number 01-14358
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Harborside Healthcare Corporation
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(Exact name of registrant as specified in its charter)
Delaware 04-3307188
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(State or other jurisdiction of (IRS Employer
incorporation or organization) Identification No.)
470 Atlantic Avenue, Boston, Massachusetts 02210
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(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (617) 556-1515
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Securities registered pursuant to Section 12(b) of the Act:
Name of each exchange
Title of each class on which registered
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Common Stock, par value $.01 per share New York Stock Exchange
Securities registered pursuant to Section 12(g) of the Act: None
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Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes [ ] No [X]
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [X]
At June 24, 1998, the registrant had 8,011,164 shares of Common Stock
outstanding. The aggregate market value on June 24, 1998 of the registrant's
Common Stock held by non-affiliates of the
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registrant was $86,295,595 (based on the closing price of these shares as quoted
on such date on the New York Stock Exchange and 3,623,962 shares of common stock
held by non-affiliates).
SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS
Certain statements in this Form 10-K, including information set forth under the
caption "Management's Discussion and Analysis of Financial Condition and Results
of Operations", constitute "Forward- Looking Statements" within the meaning of
the Private Securities Litigation Reform Act of 1995 (the "Reform Act"). The
registrant (the "Company") desires to take advantage of certain "safe harbor"
provisions of the Reform Act and is including this special note to enable the
Company to do so. Forward-looking statements included in this Form 10-K, or
hereafter included in other publicly available documents filed with the
Securities and Exchange Commission (the "Commission"), reports to the Company's
stockholders and other publicly available statements issued or released by the
Company involve known and unknown risks, uncertainties, and other factors which
could cause the Company's actual results, performance (financial or operating)
or achievements to differ materially from the future results, performance
(financial or operating) or achievements expressed or implied by such forward-
looking statements. The Company believes the following important factors could
cause such a material difference to occur:
1. The Company's ability to grow through the acquisition and development
of long-term care facilities or the acquisition of ancillary
businesses.
2. The Company's ability to identify suitable acquisition candidates, to
consummate or complete construction projects, or to profitably operate
or successfully integrate enterprises into the Company's other
operations.
3. The occurrence of changes in the mix of payment sources utilized by the
Company's patients to pay for the Company's services.
4. The adoption of cost containment measures by private pay sources such
as commercial insurers and managed care organizations, as well as
efforts by governmental reimbursement sources to impose cost
containment measures.
5. Changes in the United States healthcare system, including changes in
reimbursement levels under Medicaid and Medicare, and other changes in
applicable government regulations that might affect the profitability
of the Company.
6. The Company's continued ability to operate in a heavily regulated
environment and to satisfy regulatory authorities, thereby avoiding a
number of potentially adverse consequences, such as the imposition of
fines, temporary suspension of admission of patients, restrictions on
the ability to acquire new facilities, suspension or decertification
from Medicaid or Medicare programs, and in extreme cases, revocation of
a facility's license or the closure of a facility, including as a
result of unauthorized activities by employees.
7. The Company's ability to secure the capital and the related cost of
such capital necessary to fund its future growth through acquisition
and development, as well as internal growth.
8. Changes in certificate of need laws that might increase competition in
the Company's industry, including, particularly, in the states in which
the Company currently operates or anticipates operating in the future.
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9. The Company's ability to staff its facilities appropriately with
qualified healthcare personnel, including in times of shortages of such
personnel and to maintain a satisfactory relationship with labor
unions.
10. The level of competition in the Company's industry, including without
limitation, increased competition from acute care hospitals, providers
of assisted and independent living and providers of home healthcare and
changes in the regulatory system in the state in which the Company
operates that facilitate such competition.
11. The continued availability of insurance for the inherent risks of
liability in the healthcare industry.
12. Price increases in pharmaceuticals, durable medical equipment and other
items.
13. The Company's reputation for delivering high-quality care and its
ability to attract and retain patients, including patients with
relatively high acuity levels.
14. Changes in general economic conditions, including changes that pressure
governmental reimbursement sources to reduce the amount and scope of
healthcare coverage.
The foregoing review of significant factors should not be construed as
exhaustive or as an admission regarding the adequacy of disclosures previously
made by the Company.
EXPLANATORY NOTE
THIS AMENDMENT NO. 2 IS BEING FILED TO AMEND AND RESTATE THE COVER PAGE AND THE
FOLLOWING ITEMS IN THEIR ENTIRETY: (A) ITEMS 7 AND 8 OF PART II OF THE COMPANY'S
ANNUAL REPORT ON FORM 10-K FILED ON MARCH 31, 1998, (B) ITEM 13 OF PART III OF
AMENDMENT NO. 1 TO THE COMPANY'S ANNUAL REPORT ON FORM 10-K FILED ON APRIL 30,
1998 AND (C) EXHIBIT 23.1 TO THE COMPANY'S ANNUAL REPORT ON FORM 10-K FILED ON
MARCH 31, 1998.
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PART II
ITEM 7.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
OVERVIEW
GENERAL
Harborside Healthcare Corporation is a leading provider of high-quality
long-term care and specialty medical services in the Eastern United States. The
Company has focused on establishing strong local market positions with
high-quality facilities in five principal regions: the Midwest (Ohio and
Indiana), New England (Massachusetts and New Hampshire), the Northeast
(Connecticut and Rhode Island), the Southeast (Florida) and the Mid-Atlantic
(New Jersey and Maryland). As of December 31, 1997, the Company operated 43
facilities (13 owned and 30 leased) with a total of 5,290 licensed beds. The
Company provides a broad continuum of medical services including: (i)
traditional skilled nursing care and (ii) specialty medical services, including
a variety of subacute care programs such as orthopedic rehabilitation,
CVA/stroke care, cardiac recovery, pulmonary rehabilitation and wound care, as
well as distinct programs for the provision of care to Alzheimer's and hospice
patients. As part of its subacute services, the Company provides physical,
occupational and speech rehabilitation therapy services, both at
Company-operated and non-affiliated facilities, through its wholly owned
subsidiary, Theracor.
The Company was created in March 1996, in anticipation of an initial public
offering (the "Offering"), in order to combine under its control the operations
of various long-term care facilities and ancillary businesses (the "Predecessor
Entities") which had conducted operations since 1988. The Company completed the
Offering on June 14, 1996 and issued 3,600,000 shares of common stock at $11.75
per share. The owners of the Predecessor Entities contributed their interests in
such Predecessor Entities to the Company and received in return an aggregate of
4,400,000 shares of the Company's common stock (the "IPO Reorganization").
The Company's financial statements for periods prior to the Offering have
been prepared by combining the historical financial statements of the
Predecessor Entities, similar to a pooling of interests presentation. The
Company's financial statements for periods prior to the date of the Offering do
not include a provision for federal or state income taxes because the
Predecessor Entities (primarily partnerships and subchapter S corporations) were
not directly subject to federal or state income taxation. The Company's
financial statements for periods prior to the date of the Offering do include a
pro forma income tax expense for each period presented, as if the Company had
always owned the Predecessor Entities. See Note L to the accompanying audited
consolidated financial statements of the Company.
One of the Predecessor Entities was the general partner of the Krupp Yield
Plus Limited Partnership ("KYP"), which owned seven facilities (the "Seven
Facilities") until December 31, 1995. The Company held a 5% interest in KYP
while the remaining 95% was owned by the limited partners of KYP (the
"Unitholders"). As described in Note P to the accompanying audited consolidated
financial statements of the Company, effective December 31, 1995, KYP sold the
Seven Facilities and a subsidiary of the Company began leasing the facilities
from the buyer. Prior to December 31, 1995 the accounts of KYP were included in
the Company's combined financial statements and the interest of the Unitholders
was reflected as minority interest. The net gain of $4,869,000 recognized by KYP
in connection with the sale of the Seven Facilities was allocated to the KYP
Unitholders and is reflected in
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"minority interest in net income." In March of 1996, a liquidating distribution
was paid to the Unitholders.
As described in Note D to the accompanying audited consolidated financial
statements of the Company, the Company accounts for its investment in one of its
owned facilities using the equity method.
REVENUES
The Company's total net revenues include net patient service revenues, and
beginning in 1995, rehabilitation therapy service revenues from contracts with
non-affiliated long-term care facilities. The Company derives its net patient
service revenues primarily from private pay sources, the federal Medicare
program for certain elderly and disabled patients and state Medicaid programs
for indigent patients. The Company's revenues are influenced by a number of
factors, including: (i) the licensed bed capacity of its facilities; (ii)
occupancy rates; (iii) the mix of patients and the rates of reimbursement among
payor categories (private and other, Medicare and Medicaid); and (iv) the extent
to which subacute and other specialty medical and ancillary services are
utilized by the patients and paid for by the respective payment sources. Private
net patient service revenues are recorded at established per diem billing rates.
Net patient service revenues to be reimbursed under contracts with third-party
payors, primarily the Medicare and Medicaid programs, are recorded at amounts
estimated to be realized under these contractual arrangements. The Company
employs specialists to monitor reimbursement rules, policies and related
developments in order to comply with all reporting requirements and to assist
the Company in receiving reimbursements. The Company's rehabilitation service
revenues are received directly from non- affiliated long-term care facilities,
which in turn are reimbursed by Medicare or other payors. These revenues are
subject to adjustment in the event one facility is denied reimbursement by
Medicare or any other applicable payor on the basis that the services provided
by the Company were not medically necessary.
OPERATING EXPENSES
The Company's facility operating expenses consist primarily of payroll and
employee benefits related to nursing, housekeeping and dietary services provided
to patients, as well as maintenance and administration of the facilities. Other
significant facility operating expenses include the cost of rehabilitation
therapy services, medical and pharmacy supplies, food, utilities, insurance and
taxes. The Company's facility operating expenses also include the general and
administrative costs associated with the operation of the Company's
rehabilitation therapy business. The Company's general and administrative
expenses include all costs associated with its regional and corporate
operations.
YEAR ENDED DECEMBER 31, 1997 COMPARED TO YEAR ENDED DECEMBER 31, 1996
TOTAL NET REVENUES. Total net revenues increased by $56,365,000, or 34.1%,
from $165,412,000 in 1996 to $221,777,000 in 1997. This increase resulted
primarily from the acquisition of four facilities in Ohio (the "1996 Ohio
Facilities") on July 1, 1996, the Harford Gardens facility on March 1, 1997, the
four facilities in Massachusetts (the "Massachusetts Facilities") on August 1,
1997, the three facilities in Dayton (the "Dayton Facilities") on September 1,
1997, and the five facilities in Connecticut (the "Connecticut Facilities") on
December 1, 1997. Additionally, total net revenues increased as the result of
the generation of revenues from rehabilitation therapy services provided to
additional non-affiliated long-term care facilities and increased net patient
service revenues per patient day at the Company's "same store" facilities. Of
such increase, $19,147,000, or 34.0% of the increase, resulted from the
operation of the 1996 Ohio Facilities for a full year in 1997; $6,245,000, or
11.1% of the increase, resulted from the operation of the Harford Gardens
facility; $8,079,000, or 14.3% of the increase, resulted from the operation of
the Massachusetts Facilities; $4,539,000, or 8.1% of the
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increase, resulted from the operation of the Dayton Facilities; and $3,871,000,
or 6.9% of the increase, resulted from the operation of the Connecticut
Facilities. Revenues generated by providing rehabilitation therapy services at
non-affiliated long-term care facilities increased $7,333,000, from $10,295,000
in 1996 to $17,628,000 in 1997. The remaining $7,151,000, or 12.7% of such
increase, was largely attributable to higher average net patient service
revenues per patient day at the Company's "same store" facilities, primarily
resulting from increased levels of care provided to patients with medically
complex conditions. Average net patient service revenues per patient day at
"same store" facilities increased from $138.31 in 1996 to $147.96 in 1997.
Partially offsetting the increase in total net revenues was a reduction in
occupancy at "same store" facilities from 92.6% in 1996 to 91.7% in 1997. The
average occupancy rate at all of the Company's facilities decreased from 92.6%
in 1996 to 92.3% in 1997. The Company's quality mix of total net revenues (i.e.,
non-Medicaid revenues as a percentage of total revenues) was 61.8% for the year
ended December 31, 1996 as compared to 60.0% for the year ended December 31,
1997. The decrease in the quality mix percentage was primarily due to dilution
resulting from the acquisition of new facilities that generate a lower quality
mix.
FACILITY OPERATING EXPENSES. Facility operating expenses increased by
$44,197,000, or 33.4%, from $132,207,000 in 1996 to $176,404,000 in 1997. The
operation of the 1996 Ohio Facilities for a full year in 1997 accounted for
$13,499,000, or 30.5% of this increase; the operation of the Harford Gardens
facility accounted for $4,726,000, or 10.7% of this increase; the operation of
the Massachusetts Facilities accounted for $6,034,000, or 13.7% of this
increase; the operation of the Dayton Facilities accounted for $3,442,000, or
7.8% of this increase; and the operation of the Connecticut Facilities accounted
for $3,109,000, or 7.0% of this increase. Operating expenses associated with
rehabilitation therapy services provided at non-affiliated long-term care
facilities increased as a result of additional therapy contracts. Operating
expenses associated with these contracts accounted for $6,394,000, or 14.5%, of
the total increase in facility operating expenses. The remaining $6,993,000 of
the increase in facility operating expenses was primarily due to increases in
the costs of labor, medical supplies and rehabilitation therapy services
purchased from third parties at "same store" facilities.
GENERAL AND ADMINISTRATIVE; SERVICE CHARGES PAID TO AFFILIATE. General and
administrative expenses increased by $3,142,000, or 40.2%, from $7,811,000 in
1996 to $10,953,000 in 1997. As a percentage of total net revenues, general
administrative expenses increased from 4.7% in 1996 to 4.9% in 1997. This
increase resulted from the acquisition of new facilities that resulted in the
expansion of regional and corporate support, and additional travel, consulting
and systems development expenses. The Company reimburses an affiliate for rent
and other expenses related to its corporate headquarters as well as for certain
data processing and administrative services provided to the Company. Such
reimbursements were not materially different in 1997 compared with those in
1996.
SPECIAL COMPENSATION AND OTHER. In connection with the Offering and IPO
Reorganization, the Company recorded $1,716,000 of non-recurring charges in
1996. Of this amount, $1,524,000 consisted of compensation earned by key members
of management as a result of the successful Offering and the IPO Reorganization.
DEPRECIATION AND AMORTIZATION. Depreciation and amortization increased by
$1,045,000, or 34.5%, from $3,029,000 in 1996 to $4,074,000 in 1997 primarily as
a result of the acquisition of the 1996 Ohio Facilities on July 1, 1996.
FACILITY RENT. Facility rent expense increased $2,223,000, or 21.7%, from
$10,223,000 in 1996 to $12,446,000 in 1997. The increase in facility rent
expense was primarily due to the acquisition of new facilities. Facility rent
expense as a percentage of total net revenues decreased from 6.2% in 1996 to
5.6% in 1997.
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INTEREST EXPENSE, NET. Interest expense, net, increased by $1,219,000, or
26.3% from $4,634,000 in 1996 to $5,853,000 in 1997. This net increase was
primarily due to additional interest expense resulting from the acquisition of
the 1996 Ohio Facilities on July 1, 1996.
LOSS ON INVESTMENT IN LIMITED PARTNERSHIP. The Company accounts for its
investment in the Larkin Chase Center using the equity method. The Company
recorded a loss of $263,000 in 1996 as compared to a loss of $189,000 in 1997 in
connection with this investment.
EXTRAORDINARY LOSS ON EARLY RETIREMENT OF DEBT. During the second quarter
of 1996, the Company repaid $25,000,000 of long-term debt using proceeds from
the Offering. In connection with this early repayment, the Company recorded an
extraordinary loss of $2,161,000 ($1,318,000, net of the related tax benefit) as
the result of a prepayment penalty paid to the lender and the write-off of
deferred financing costs.
INCOME TAXES. Income tax expense increased by $3,538,000, from $809,000 in
1996 to $4,347,000 in 1997. Prior to the date of the Offering, the Company's
financial statements did not include a provision for federal or state income
taxes because the Predecessor Entities were not directly subject to federal or
state income taxation. The provision for income taxes in 1996 consisted of a
provision for income taxes for the period after the Offering less a tax benefit
resulting from book-tax differences inherited as part of the IPO Reorganization.
NET INCOME. Net income increased by $4,101,000, from $2,702,000 in 1996 to
$6,803,000 in 1997.
YEAR ENDED DECEMBER 31, 1996 COMPARED TO YEAR ENDED DECEMBER 31, 1995
TOTAL NET REVENUES. Total net revenues increased by $55,987,000, or 51.2%,
from $109,425,000 in 1995 to $165,412,000 in 1996. This increase resulted
primarily from the acquisition of six New Hampshire facilities (the "New
Hampshire Facilities") on January 1, 1996 and the 1996 Ohio Facilities on July
1, 1996, the generation of increased revenues from rehabilitation therapy
services provided under contracts to additional non-affiliated long-term care
facilities and increased net patient service revenues per patient day at the
Company's "same store" facilities.
Of the $55,987,000 increase in total net revenues, $23,245,000, or 41.5% of
the increase, resulted from the operation of the New Hampshire Facilities, and
$17,493,000, or 31.2% of the increase, resulted from the operation of the 1996
Ohio Facilities. Revenues generated by providing rehabilitation therapy services
under contracts with non-affiliated long-term care facilities increased by
$7,250,000, from $3,045,000 in 1995 to $10,295,000 in 1996, resulting primarily
from additional therapy contracts. The remaining $7,999,000, or 14.3% of the
increase in total net revenues, was attributable to higher average net patient
service revenues per patient day at the Company's "same store" facilities,
primarily resulting from increased levels of care provided to patients with
higher acuity conditions. Average net patient service revenues per patient day
at "same store" facilities increased by 4.0% from $132.99 in 1995 to $138.31 in
1996. The average occupancy rate at all of the Company's facilities increased
from 92.5% in 1995 to 92.6% in 1996, also contributing to the increase in total
net revenues. The Company's quality mix of revenues was 66.8% for the year ended
December 31, 1995 as compared to 61.8% for the year ended December 31, 1996. The
decrease in the quality mix percentage was primarily due to the acquisition of
the New Hampshire Facilities, which at the time of the acquisition did not
participate in the Medicare program.
FACILITY OPERATING EXPENSES. Facility operating expenses increased by
$42,829,000, or 47.9%, from $89,378,000 in 1995 to $132,207,000 in 1996.
Facility operating expenses as a percentage of total net revenues decreased from
81.7% in 1995 to 79.9% in 1996. The acquisition of the New
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Hampshire Facilities accounted for $17,909,000, or 41.8% of the increase in
facility operating expenses while the 1996 Ohio Facilities accounted for
$13,712,000, or 32.0% of this increase. Operating expenses associated with
additional rehabilitation therapy services provided at non-affiliated long-term
care facilities accounted for $4,922,000 or 11.5% of the total increase in
facility operating expenses. The remaining $6,286,000 of the increase in
facility operating expenses was due to increases in the costs of labor, medical
supplies and rehabilitation therapy services purchased from third parties at
"same store" facilities.
GENERAL AND ADMINISTRATIVE; SERVICE CHARGES PAID TO AFFILIATE. General and
administrative expenses increased by $2,735,000, or 53.9%, from $5,076,000 in
1995 to $7,811,000 in 1996. As a percentage of total net revenues, general and
administrative expenses increased from 4.6% in 1995 to 4.7% in 1996.
Approximately $787,000 of this increase resulted from the acquisition of the New
Hampshire Facilities, and $290,000 resulted from the acquisition of the 1996
Ohio Facilities. Most of the remainder was associated with the expansion of
regional and corporate support, increases in salaries, and additional travel and
consulting expenses associated with the Company's growth. The Company reimburses
an affiliate for rent and other expenses related to its corporate headquarters,
as well as for certain data processing and administrative services provided to
the Company. In 1995 and 1996, such reimbursements totaled $700,000.
SPECIAL COMPENSATION AND OTHER. In connection with the Offering and IPO
Reorganization, the Company recorded $1,716,000 of non-recurring charges in
1996. Of this amount, $1,524,000 consisted of compensation earned by key members
of management as a result of the successful Offering and the corporate
restructuring which preceded the Offering.
DEPRECIATION AND AMORTIZATION. Depreciation and amortization decreased by
$1,356,000, or 30.9%, from $4,385,000 in 1995 to $3,029,000 in 1996. This
decrease resulted from the sale and subsequent leaseback of the Seven Facilities
effective December 31, 1995 and the acquisition of the 1996 Ohio Facilities on
July 1, 1996, which is accounted for as a capital lease.
FACILITY RENT. Facility rent expense increased by $8,316,000 from
$1,907,000 in 1995 to $10,223,000 in 1996. Facility rent expense as a percentage
of total net revenues increased from 1.7% in 1995 to 6.2% in 1996. The increase
in facility rent expense was the result of the sale and subsequent leaseback of
the Seven Facilities and the acquisition of the six New Hampshire Facilities on
January 1, 1996 pursuant to an operating lease financing.
INTEREST EXPENSE, NET. Interest expense, net, decreased by $473,000, or
9.3%, from $5,107,000 in 1995 to $4,634,000 in 1996. This decrease was due to
the net result of the pay down of debt associated with the Seven Facilities, the
repayment of $25,000,000 of long-term debt using proceeds from the Offering and
additional interest expense resulting from the acquisition of the 1996 Ohio
Facilities.
LOSS ON INVESTMENT IN LIMITED PARTNERSHIP. The Company accounts for its
investment in the Larkin Chase Center using the equity method. The Company
recorded a loss of $114,000 in 1995 as compared to a loss of $263,000 during
1996 in connection with this investment.
EXTRAORDINARY LOSS ON EARLY RETIREMENT OF DEBT. During the second quarter
of 1996, the Company repaid $25,000,000 of long-term debt using proceeds from
the Offering. In connection with this early repayment, the Company recorded an
extraordinary loss of $2,161,000 ($1,318,000 net of the related tax benefit) as
the result of a prepayment penalty paid to the lender and the write-off of
deferred financing costs.
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INCOME TAXES. Prior to the date of the Offering, the Company's financial
statements did not include a provision for income taxes because the Predecessor
Entities were not directly subject to federal or state income taxation. The
provision for income taxes in 1996 was $809,000 and consisted of a provision for
income taxes for the period after the Offering less a tax benefit resulting from
book-tax differences inherited as part of the IPO Reorganization.
NET INCOME. Net income increased by $1,468,000, from $1,234,000 in 1995 to
$2,702,000 in 1996. This increase in net income was primarily due to increased
operating income in 1996 and the elimination of the minority interest charge
resulting from the liquidation of KYP.
LIQUIDITY AND CAPITAL RESOURCES
The Company's primary cash needs are for acquisitions, capital
expenditures, working capital, debt service and general corporate purposes. The
Company has historically financed these requirements primarily through a
combination of internally generated cash flow, mortgage financing and operating
leases, in addition to funds borrowed under the Company's revolving credit
facility. The Company's leased facilities are leased from either the owner of
the facilities, from a real estate investment trust which has purchased the
facilities from the owner, or through borrowings under the Company's synthetic
lease facility that was entered into in September 1997. In addition, in 1996 the
Company financed the acquisition of the 1996 Ohio Facilities from the owner by
means of a lease which is accounted for as a capital lease for financial
reporting purposes. The Company's existing facility leases generally require it
to make monthly lease payments, establish escrow funds to serve as debt service
reserve accounts, and pay all property operating costs. The Company generally
negotiates leases which provide for extensions beyond the initial lease term and
an option to purchase the leased facility. In some cases, the option to purchase
the leased facility is exercisable at a price based on the fair market value of
the facility at the time the option is exercised. In other cases, the lease for
the facility sets forth a fixed option purchase price which the Company believes
is equal to the fair market value of the facility at the inception date of such
lease, thus allowing the Company to realize all the value appreciation of the
facility while maintaining financial flexibility.
In April of 1997, the Company obtained a three-year $25 million revolving
credit facility from a commercial bank. Borrowings under this facility will be
used to provide working capital for existing operations and acquisitions and to
finance a portion of future acquisitions. During September 1997, the Company
increased the number of commercial banks party to its revolving credit facility
from one to four, amended certain terms of the revolving credit facility
(including financial covenants) and extended its maturity date through September
1, 2002. Additionally, the Company also arranged a $25,000,000 synthetic leasing
facility ("the Leasing Facility") with the same group of commercial banks. The
Leasing Facility will be used to finance the acquisition of long-term care
facilities. As of March 31, 1998, the Company had approximately $23,600,000 of
borrowings drawn under the Leasing Facility. The Company increased the funds
committed under the Leasing Facility to finance the acquisition of two
additional facilities in Ohio on April 1, 1998 and two facilities in Rhode
Island on May 8, 1998. As of May 31, 1998, the Company had approximately
$59,250,000 of borrowings drawn under the Leasing Facility, which borrowings
represented all of the total Leasing Facility commitment as of such date.
From time to time, the Company expects to pursue certain expansion and new
development opportunities associated with existing facilities. In connection
with a Certificate of Need received by its Ocala facility, the Company commenced
construction of a sixty-bed addition and a rehabilitation therapy area during
the fourth quarter of 1997. The costs of this project are estimated to be
approximately $4,200,000, of which approximately $1,400,000 had been incurred as
of December 31, 1997. The Company has been and will continue to be dependent on
third-party financing to fund its acquisition strategy, and there can be no
assurances that such financing will be available to the Company on acceptable
terms, or at all.
The Company expects that its capital expenditures for 1998, excluding
acquisitions of new long-term care facilities, will aggregate approximately
$10,000,000, $3,400,000 of which had already been invested through March 31,
1998. The Company expects that its capital expenditures for 1999, excluding
acquisitions of new long-term care facilities, will also aggregate approximately
$10,000,000. Of the total amount to be invested in 1998, approximately
$4,000,000 is expected to be related to maintenance capital expenditures on the
Company's currently owned and leased facilities. The remaining balance of the
Company's expected capital expenditures will relate to, among other things,
system enhancements, special construction projects and other capital
improvements.
The Company's operating activities in 1996 generated net cash of $1,405,000
as compared to $5,621,000 in 1997, an increase of $4,216,000. Most of the
increase in cash provided by operations was the result of increased net income.
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Net cash used by investing activities was $4,050,000 during 1996 as
compared to $19,487,000 used in 1997. The primary use of invested cash during
these periods related to additions to property and equipment ($5,104,000 in 1996
compared to $5,274,000 in 1997), additions to intangible assets ($950,000 in
1996 compared to $6,301,000 in 1997) and a collateralized loan to the seller of
$7,487,000 in connection with the acquisition of the Connecticut Facilities on
December 1, 1997.
Net cash used by financing activities was $27,790,000 in 1996 as compared
to $12,891,000 provided in 1997. The early retirement of debt and the incurrence
of a related prepayment penalty required the use of $26,517,000 in 1996. During
1996, the Company received $37,160,000 in net proceeds from the Offering and a
cash payment of $3,685,000 from the landlord in connection with the leasing of
the New Hampshire facilities. During 1996, the Company also received $803,000
from the sale of equity interests to an officer and a director of the Company.
In March of 1996, a liquidating distribution of $33,727,000 was paid to the KYP
Unitholders. During 1997, the Company borrowed $15,600,000 under its revolving
credit facility. Such borrowings were primarily used to finance part of the
acquisition of the Connecticut Facilities, as well as the asset acquisition of
Access Rehabilitation, a therapy services company. In addition, during 1997 the
Company made principal payments of $3,944,000 on its capital lease obligation,
and received cash payments totaling $1,301,000 from its landlords in connection
with the lease of the Massachusetts Facilities and the Dayton Facilities.
At December 31, 1997, the Company had two mortgage loans outstanding in the
aggregate amount of $18,042,000, in addition to $15,600,000 in advances
outstanding under its revolving credit facility and $56,270,000 of capital lease
obligations. One of the Company's mortgage loans had an outstanding principal
balance of $16,461,000, of which $15,140,000 is due at maturity in 2004. This
loan bears interest at an annual rate of 10.65% plus additional interest equal
to 0.3% of the difference between the annual operating revenues of the four
mortgaged facilities and the actual revenues of these four facilities during the
twelve-month base period. The Company's other mortgage loan, which encumbers a
single facility, had an outstanding principal balance of $1,581,000, of which
$1,338,000 is due in 2010.
Under the Company's Leasing Facility, a master trust (the "Trust") acquires
long-term care facilities which the Trust then leases to the Company. The Trust
finances its acquisition by making an equity contribution of 3% or more of the
related purchase price and obtaining bank loans for the remainder. The Company's
rental payments to the Trust are determined based on the purchase price and an
interest rate factor which is based on LIBOR (or at the Company's option, the
agent bank's prime rate) and which varies with the Company's leverage ratio (as
defined). As of December 31, 1997, the interest rate for amounts outstanding
under the Leasing Facility was approximately 7.5%. The Company's Leasing
Facility expires in August 2002, and the Company at that time will be required
to either renew the Leasing Facility, exercise its option to purchase the
facilities acquired through the Leasing Facility for an amount equal to the
purchase price at the date of initial acquisition, or arrange for the sale of
the facilities. Additionally, at any time during the term of the Leasing
Facility, the Company may exercise its purchase option for the leased
facilities. The Company's obligations under the lease are collateralized by a
collateral pool which also collateralizes the Company's borrowings under its
existing revolving credit facility. The Company believes that synthetic lease
financing provides it with the flexibility of lease financing while offering it
the ability to exercise fixed price purchase options at any time during the term
of the Leasing Facility.
10
<PAGE>
SEASONALITY
The Company's earnings generally fluctuate from quarter to quarter. This
seasonality is related to a combination of factors which include, among other
things, the timing and amount of Medicaid rate increases, seasonal census cycles
and the number of calendar days in a given quarter.
INFLATION
The healthcare industry is labor intensive. Wages and other labor related
costs are especially sensitive to inflation. In addition, suppliers pass along
rising costs to the Company in the form of higher prices. When faced with
increases in operating costs, the Company has generally increased its charges
for services. The Company's operations could be adversely affected if it is
unable to recover future cost increases or if the Company experiences
significant delays in Medicaid and Medicare revenue sources increasing their
rates of reimbursement.
YEAR 2000 DISCLOSURE
The Company is preparing all of its software products and internal computer
systems to be Year 2000 compliant. The Company has replaced its financial
reporting and payroll systems with systems that are Year 2000 compliant. The
Company is in the process of evaluating several clinical software products,
including one which is being installed in 13 of its facilities, with the
expectation that it will identify a Year 2000 compliant standard clinical
information and patient billing system which will be implemented at each of the
Company's facilities. The Company currently estimates that it will complete the
selection of the standard clinical information and patient billing software
during 1998 and finalize the conversion of its existing systems to the new
platform during 1999. Although the Company does not expect the cost of the
conversion of its clinical and patient billing systems to have a material
adverse effect on its business or future results of operations, there can be no
assurance that the Company will not be required to incur significant
unanticipated costs in relation to its compliance obligations. The Company
currently estimates that compliance will be achieved during 1999; however, there
can be no assurance that the Company will be able to complete the conversion in
a timely manner or that third party software suppliers will be able to provide
Year 2000 compliant products for the Company to install. The Company currently
estimates the cost of replacing the clinical and billing systems at its existing
facilities to be approximately $1,000,000. The Company will fund the costs
associated with these system conversions through cash flows from operations or
borrowings under its new senior secured credit facility. The Company's ongoing
facility acquisition strategy will require it to evaluate acquisition candidates
for Year 2000 compliance.
NEW ACCOUNTING PRONOUNCEMENTS
In June 1997, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 130, "Reporting
Comprehensive Income," which requires that an enterprise (a) classify items of
other comprehensive income by their nature in a financial statement and (b)
display the accumulated balance of other comprehensive income separately from
the retained earnings and additional paid-in equity section of a statement of
financial position. Additionally, in June 1997, the FASB issued SFAS No. 131,
"Disclosures About Segments of an Enterprise and Related Information," which
requires that an enterprise (a) report financial and descriptive information
about its reportable operating segments, (b) report a measure of segment profit
or loss, certain specific revenue and expense items, and segment assets with
reconciliations of such amounts to the enterprise's financial statements and (c)
report information about revenues derived from the Company's products or
services and information about major customers. These pronouncements are
effective for financial statement periods beginning after December 15, 1997. The
Company does not believe that these new pronouncements will have a material
effect on its financial position or results of operations.
11
<PAGE>
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
INDEX TO FINANCIAL STATEMENTS
Page
----
HARBORSIDE HEALTHCARE CORPORATION AND SUBSIDIARIES:
Report of Independent Accountants....................................... 13
Consolidated Balance Sheets as of December 31, 1996 and 1997............ 14
Consolidated Statements of Operations for the years ended December 31,
1995, 1996 and 1997.................................................... 15
Consolidated Statements of Changes in Stockholders' Equity for the years
ended December 31, 1995, 1996 and 1997................................. 16
Consolidated Statements of Cash Flows for the years ended December 31,
1995, 1996 and 1997.................................................... 17
Notes to Consolidated Financial Statements.............................. 18
12
<PAGE>
REPORT OF INDEPENDENT ACCOUNTANTS
To the Stockholders and Board of Directors
of Harborside Healthcare Corporation:
We have audited the accompanying consolidated balance sheets of Harborside
Healthcare Corporation and its subsidiaries (the "Company") as of December 31,
1996 and 1997 and the related consolidated statements of operations, changes in
stockholders' equity and cash flows for each of the three years in the period
ended December 31, 1997. 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 generally accepted auditing
standards. 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 Harborside
Healthcare Corporation and subsidiaries as of December 31, 1996 and 1997, and
the consolidated results of their operations and their cash flows for each of
the three years in the period ended December 31, 1997 in conformity with
generally accepted accounting principles.
/s/ COOPERS & LYBRAND L.L.P.
- ----------------------------
Boston, Massachusetts
February 13, 1998
13
<PAGE>
HARBORSIDE HEALTHCARE CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
AS OF DECEMBER 31, 1996 AND 1997
1996 1997
-------- --------
ASSETS
Current assets:
Cash and cash equivalents................................ $ 9,722 $ 8,747
Accounts receivable, net of allowances for doubtful ac-
counts of $1,860 and $1,871, respectively............... 22,984 32,416
Prepaid expenses and other............................... 3,570 6,644
Demand note due from limited partnership (Note D)........ 1,369 --
Deferred income taxes (Note L)........................... 1,580 2,150
-------- --------
Total current assets................................... 39,225 49,957
Restricted cash (Note C)................................... 3,751 5,545
Investment in limited partnership (Note D)................. 256 67
Property and equipment, net (Note E)....................... 95,187 96,872
Intangible assets, net (Note F)............................ 3,004 8,563
Note receivable (Note G)................................... -- 7,487
Deferred income taxes (Note L)............................. 376 71
-------- --------
Total assets........................................... $141,799 $168,562
======== ========
LIABILITIES
Current liabilities:
Current maturities of long-term debt (Note I)............ 169 186
Current portion of capital lease obligation (Note J)..... 3,744 3,924
Accounts payable......................................... 6,011 7,275
Employee compensation and benefits....................... 8,639 10,741
Other accrued liabilities................................ 2,177 4,417
Accrued interest......................................... 19 251
Current portion of deferred income....................... 368 609
Income taxes payable (Note L)............................ 1,272 --
-------- --------
Total current liabilities.............................. 22,399 27,403
Long-term portion of deferred income (Note H).............. 2,948 3,559
Long-term debt (Note I).................................... 18,039 33,456
Long-term portion of capital lease obligation (Note J)..... 53,533 52,361
-------- --------
Total liabilities...................................... 96,919 116,779
-------- --------
Commitments and contingencies (Notes D, H and N)
STOCKHOLDERS' EQUITY (NOTE M)
Common stock, $.01 par value, 30,000,000 shares authorized,
8,000,000 and 8,008,665 shares issued and outstanding..... 80 80
Additional paid-in capital................................. 48,340 48,440
Retained earnings (deficit)................................ (3,540) 3,263
-------- --------
Total stockholders' equity............................. 44,880 51,783
-------- --------
Total liabilities and stockholders' equity........... $141,799 $168,562
======== ========
The accompanying notes are an integral part of the consolidated financial
statements.
14
<PAGE>
HARBORSIDE HEALTHCARE CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
FOR THE YEARS ENDED DECEMBER 31, 1995, 1996 AND 1997
1995 1996 1997
---------- ---------- ----------
Total net revenues......................... $ 109,425 $ 165,412 $ 221,777
---------- ---------- ----------
Expenses:
Facility operating....................... 89,378 132,207 176,404
General and administrative............... 5,076 7,811 10,953
Service charges paid to affiliate (Note
Q)...................................... 700 700 708
Special compensation and other (Note M).. -- 1,716 --
Depreciation and amortization............ 4,385 3,029 4,074
Facility rent............................ 1,907 10,223 12,446
---------- ---------- ----------
Total expenses......................... 101,446 155,686 204,585
---------- ---------- ----------
Income from operations..................... 7,979 9,726 17,192
Other:
Interest expense, net.................... (5,107) (4,634) (5,853)
Loss on investment in limited partnership
(Note D)................................ (114) (263) (189)
Gain on sale of facilities, net (Note P). 4,869 -- --
Minority interest in net income (Notes B
and P).................................. (6,393) -- --
---------- ---------- ----------
Income before income taxes and extraordi-
nary loss................................. 1,234 4,829 11,150
Income taxes (Note L)...................... -- (809) (4,347)
---------- ---------- ----------
Income before extraordinary loss........... 1,234 4,020 6,803
Extraordinary loss on early retirement of
debt, net of taxes of $843 (Note I)....... -- (1,318) --
---------- ---------- ----------
Net income................................. $ 1,234 $ 2,702 $ 6,803
========== ========== ==========
Net income per share--basic................ $ .85
==========
Net income per share--diluted.............. $ .84
==========
Pro forma data (unaudited--Notes B and L):
Historical income before income taxes and
extraordinary loss...................... 1,234 4,829
Pro forma income taxes................... (481) (799)
---------- ----------
Pro forma income before extraordinary loss. 753 4,030
Extraordinary loss, net.................. -- (1,318)
---------- ----------
Pro forma net income....................... $ 753 $ 2,712
========== ==========
Pro forma net income per share (basic and
diluted):
Pro forma income before extraordinary
loss.................................... $ 0.17 $ 0.63
Extraordinary loss, net.................. -- 0.21
---------- ----------
Pro forma net income..................... $ 0.17 $ 0.42
========== ==========
Weighted average number of common shares
used in per share computations:
Basic.................................... 4,425,000 6,396,142 8,037,026
Diluted.................................. 4,425,000 6,396,142 8,138,793
The accompanying notes are an integral part of the consolidated financial
statements.
15
<PAGE>
HARBORSIDE HEALTHCARE CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN
STOCKHOLDERS' EQUITY
(DOLLARS IN THOUSANDS)
ADDITIONAL RETAINED
COMMON PAID-IN EARNINGS
STOCK CAPITAL (DEFICIT) TOTAL
------ ---------- --------- -------
Stockholders' equity, December 31, 1994... $44 $10,298 $(7,476) $ 2,866
Net income for the year ended December
31, 1995............................... -- -- 1,234 1,234
Contributions........................... -- 30 -- 30
--- ------- ------- -------
Stockholders' equity, December 31, 1995... 44 10,328 (6,242) 4,130
Net income for the year ended December
31, 1996............................... -- -- 2,702 2,702
Purchase of equity interests............ -- 1,028 -- 1,028
Distributions........................... -- (140) -- (140)
Proceeds of initial public offering,
net.................................... 36 37,124 -- 37,160
--- ------- ------- -------
Stockholders' equity, December 31, 1996... 80 48,340 (3,540) 44,880
Net income for the year ended December
31, 1997............................... -- -- 6,803 6,803
Exercise of options..................... -- 100 -- 100
--- ------- ------- -------
Stockholders' equity, December 31, 1997... $80 $48,440 $ 3,263 $51,783
=== ======= ======= =======
The accompanying notes are an integral part of the consolidated financial
statements.
16
<PAGE>
HARBORSIDE HEALTHCARE CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(DOLLARS IN THOUSANDS)
FOR THE YEARS ENDED DECEMBER 31, 1995, 1996 AND 1997
1995 1996 1997
-------- -------- --------
Operating activities:
Net income..................................... $ 1,234 $ 2,702 $ 6,803
Adjustments to reconcile net income to net cash
provided by operating activities:
Minority interest............................ 6,393 234 --
Gain on sale of facilities, net.............. (4,869) -- --
Loss on refinancing of debt.................. -- 1,318 --
Depreciation of property and equipment....... 3,924 2,681 3,589
Amortization of intangible assets............ 461 348 485
Amortization of deferred income.............. -- (369) (449)
Loss from investment in limited partnership.. 114 263 189
Amortization of loan costs and fees.......... 109 103 257
Accretion of interest on capital lease obli-
gation...................................... -- 1,419 2,952
Deferred interest............................ -- (114) --
Common stock grant........................... -- 225 --
Other........................................ 14 -- --
-------- -------- --------
7,380 8,810 13,826
Changes in operating assets and liabilities:
(Increase) in accounts receivable............ (7,573) (13,017) (9,432)
(Increase) in prepaid expenses and other..... (456) (1,780) (3,074)
(Increase) in deferred income taxes.......... -- (1,956) (265)
Increase in accounts payable................. 1,345 1,977 1,264
Increase in employee compensation and bene-
fits........................................ 1,385 4,144 2,102
Increase (decrease) in accrued interest...... (490) (6) 232
Increase in other accrued liabilities........ 295 1,118 2,240
Increase (decrease) in income taxes payable.. -- 2,115 (1,272)
-------- -------- --------
Net cash provided by operating activities...... 1,886 1,405 5,621
-------- -------- --------
Investing activities:
Additions to property and equipment............ (3,081) (5,104) (5,274)
Facility acquisition deposits.................. (3,000) 3,000 --
Additions to intangibles....................... (1,202) (950) (6,301)
Transfers to restricted cash, net.............. (760) (996) (1,794)
Receipt of note receivable..................... -- -- (7,487)
Repayment of demand note from limited partner-
ship.......................................... -- -- 1,369
Issuance of Demand note from limited partner-
ship.......................................... (1,255) -- --
Payment of costs related to sale of facilities. (884) -- --
Proceeds from sale of facilities............... 47,000 -- --
-------- -------- --------
Net cash provided (used) by investing activi-
ties.......................................... 36,818 (4,050) (19,487)
-------- -------- --------
Financing activities:
Borrowings under revolving line of credit...... -- -- 15,600
Payment of long-term debt...................... (9,800) (25,288) (166)
Principal payments of capital lease obligation. -- (6,766) (3,944)
Debt prepayment penalty........................ (1,154) (1,517) --
Note payable to an affiliate................... 2,000 (2,000) --
Receipt of cash in connection with lease....... -- 3,685 1,301
Dividend distribution.......................... -- (140) --
Distributions to minority interest............. (3,636) (33,727) --
Purchase of equity interests and other contri-
butions....................................... 30 803 --
Exercise of stock options...................... -- -- 100
Proceeds from sale of common stock............. -- 37,160 --
-------- -------- --------
Net cash provided (used) by financing activi-
ties.......................................... (12,560) (27,790) 12,891
-------- -------- --------
Net increase (decrease) in cash and cash equiva-
lents.......................................... 26,144 (30,435) (975)
Cash and cash equivalents, beginning of year.... 14,013 40,157 9,722
-------- -------- --------
Cash and cash equivalents, end of year.......... $ 40,157 $ 9,722 $ 8,747
======== ======== ========
Supplemental Disclosure:
Interest paid.................................. 6,208 4,060 3,371
Income taxes paid.............................. -- 760 5,783
Noncash investing and financing activities:
Property and equipment additions by capital
lease......................................... -- 57,625 --
Capital lease obligation incurred.............. -- 57,625 --
The accompanying notes are an integral part of the consolidated financial
statements.
17
<PAGE>
HARBORSIDE HEALTHCARE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
A. NATURE OF BUSINESS:
Harborside Healthcare Corporation and its subsidiaries (the "Company") operate
long-term care facilities and provide rehabilitation therapy services. As of
December 31, 1997, the Company owned thirteen facilities, operated thirty
additional facilities under various leases and owned a rehabilitation therapy
services company. The Company accounts for its investment in one of its owned
facilities using the equity method (see Note D).
B. BASIS OF PRESENTATION:
The Company was incorporated as a Delaware corporation on March 19, 1996, and
was formed as a holding company, in anticipation of an initial public offering
(the "Offering"), to combine under the control of a single corporation the
operations of various business entities (the "Predecessor Entities") which were
all under the majority control of several related stockholders. Immediately
prior to the Offering, the Company executed an agreement (the "Reorganization
Agreement") which resulted in the transfer of ownership of the Predecessor
Entities to the Company in exchange for 4,400,000 shares of the Company's common
stock. The Company's financial statements for periods prior to the Offering have
been prepared by combining the historical financial statements of the
Predecessor Entities, similar to a pooling-of-interests presentation. On June
14, 1996, the Company completed the issuance of 3,600,000 shares of common stock
through the Offering, resulting in net proceeds to the Company (after deducting
underwriters' commissions and other offering expenses) of approximately
$37,160,000. A portion of the proceeds was used to repay some of the Company's
long-term debt (see Note I).
One of the Predecessor Entities was the general partner of the Krupp Yield
Plus Limited Partnership ("KYP"), which owned seven facilities (the "Seven
Facilities") until December 31, 1995. The Company held a 5% interest in KYP,
while the remaining 95% was owned by the limited partners of KYP (the
"Unitholders"). Effective December 31, 1995, KYP sold the Seven Facilities and a
subsidiary of the Company began leasing the facilities from the buyer. Prior to
December 31, 1995, the accounts of KYP were included in the Company's combined
financial statements and the interest of the Unitholders was reflected as
minority interest. In March 1996, a liquidating distribution was paid to the
Unitholders (see Notes H and P).
The Company's financial statements prior to the date of the Offering do not
include a provision for Federal or state income taxes because the Predecessor
Entities (primarily partnerships and subchapter S corporations) were not
directly subject to Federal or state income taxation. The Company's combined
financial statements include a pro forma income tax provision for each period
presented, as if the Company had always owned the Predecessor Entities (see Note
L).
C. SIGNIFICANT ACCOUNTING POLICIES:
The Company uses the following accounting policies for financial reporting
purposes:
PRINCIPLES OF CONSOLIDATION
The consolidated financial statements (combined prior to June 14, 1996)
include the accounts of the Company and its subsidiaries. All significant
intercompany transactions and balances have been eliminated in consolidation.
TOTAL NET REVENUES
Total net revenues include net patient service revenues, rehabilitation
therapy service revenues from contracts to provide services to non-affiliated
long-term care facilities and management fees from the facility owned by Bowie
L.P. (see Note D) and two additional facilities (See Note H).
18
<PAGE>
HARBORSIDE HEALTHCARE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
Net patient service revenues payable by patients at the Company's facilities
are recorded at established billing rates. Net patient service revenues to be
reimbursed by contracts with third-party payors, primarily the Medicare and
Medicaid programs, are recorded at the amount estimated to be realized under
these contractual arrangements. Revenues from Medicare and Medicaid are
generally based on reimbursement of the reasonable direct and indirect costs of
providing services to program participants or a prospective payment system. The
Company separately estimates revenues due from each third party with which it
has a contractual arrangement and records anticipated settlements with these
parties in the contractual period during which services were rendered. The
amounts actually reimbursable under Medicare and Medicaid are determined by
filing cost reports which are then audited and generally retroactively adjusted
by the payor. Legislative changes to state or Federal reimbursement systems may
also retroactively affect recorded revenues. Changes in estimated revenues due
in connection with Medicare and Medicaid may be recorded by the Company
subsequent to the year of origination and prior to final settlement based on
improved estimates. Such adjustments and final settlements with third party
payors, which could materially and adversely affect the Company, are reflected
in operations at the time of the adjustment or settlement. Accounts receivable,
net, at December 31, 1996 and 1997 includes $10,667,000 and $8,296,000,
respectively, of estimated settlements due from third party payors and
$5,194,000 and $6,115,000, respectively, of estimated settlements due to third
party payors.
In addition, direct and allocated indirect costs reimbursed under the Medicare
program are subject to regional limits. The Company's costs generally exceed
these limits and accordingly, the Company is required to submit exception
requests to recover such excess costs. The Company has recorded approximately
$8,229,000 in accounts receivable, as of December 31, 1997, related to these
exception requests. The Company believes it will be successful in collecting
these receivables; however, the failure to recover these costs in the future
could materially and adversely affect the Company.
Beginning in 1995, total net revenues includes revenues recorded by the
Company's rehabilitation therapy subsidiary (which does business under the name
"Theracor") for therapy services provided to non-affiliated long-term care
facilities.
CONCENTRATIONS
A significant portion of the Company's revenues are derived from the Medicare
and Medicaid programs. There have been, and the Company expects that there will
continue to be, a number of proposals to limit reimbursement allowable to
long-term care facilities under these programs. On August 5, 1997, the Balanced
Budget Act of 1997 (the "Balanced Budget Act") was signed into law. This act is
effective for cost reporting periods beginning after July 1, 1998 and as such
will not affect the Company until January 1, 1999. The Balanced Budget Act
amends Medicare reimbursement methodology, converting it from a cost-based
system to a prospective payment system. Approximately 65%, 65%, and 66% of the
Company's net revenues in the years ended December 31, 1995, 1996 and 1997,
respectively, are from the Company's participation in the Medicare and Medicaid
programs. As of December 31, 1996 and 1997, $17,560,000 and $20,936,000,
respectively, of net accounts receivable were due from the Medicare and Medicaid
programs.
FACILITY OPERATING EXPENSES
Facility operating expenses include expenses associated with the normal
operations of a long-term care facility. The majority of these costs consist of
payroll and employee benefits related to nursing, housekeeping and dietary
services provided to patients, as well as maintenance and administration of the
facilities. Other significant facility operating expenses include: the cost of
rehabilitation therapies, medical and pharmacy supplies, food and utilities.
Beginning in 1995, facility operating expenses include expenses associated with
services rendered by Theracor to non-affiliated facilities.
19
<PAGE>
HARBORSIDE HEALTHCARE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
PROVISION FOR DOUBTFUL ACCOUNTS
Provisions for uncollectible accounts receivable of $1,240,000, $1,116,000 and
$1,188,000 are included in facility operating expenses for the years ended
December 31, 1995, 1996 and 1997, respectively. Individual patient accounts
deemed to be uncollectible are written off against the allowance for doubtful
accounts.
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 and the disclosure of
contingent assets and liabilities at the date of the financial statements and
revenues and expenses during the period reported. Actual results could differ
from those estimates. Estimates are used when accounting for the collectibility
of receivables, depreciation and amortization, employee benefit plans, taxes and
contingencies.
NET INCOME (PRO FORMA NET INCOME) PER SHARE
In February 1997, the Financial Accounting Standards Board (the "FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 128, "Earnings Per
Share", which revised the methodology of calculating net income per share. The
Company adopted SFAS No. 128 in the fourth quarter of 1997. All net income per
share and pro forma net income per share amounts for all periods have been
presented in accordance with, and where appropriate have been restated to
conform with, the requirements of SFAS No. 128.
Basic net income per share is computed by dividing net income by the weighted
average number of common shares outstanding during 1997. The computation of
diluted net income per share is similar to that of basic net income per share
except that the number of shares is increased to reflect the number of
additional common shares that would have been outstanding if the dilutive
potential common shares had been issued. Dilutive potential common shares for
the Company consist of shares issuable upon exercise of the Company's stock
options. Pro forma net income per share for the years ended December 31, 1995
and 1996 is calculated based upon the common shares of the Company (4,400,000)
issued in accordance with the Reorganization Agreement. Pursuant to Securities
and Exchange Commission staff requirements, stock options issued within one year
of an initial public offering, calculated using the treasury stock method and
the initial public offering price of $11.75 per share, have been included in the
calculation of pro forma net income per common share as if they were outstanding
for all periods presented.
PROPERTY AND EQUIPMENT
Property and equipment are stated at cost. Expenditures that extend the lives
of affected assets are capitalized, while maintenance and repairs are charged to
expense as incurred. Upon the retirement or sale of an asset, the cost of the
asset and any related accumulated depreciation are removed from the balance
sheet, and any resulting gain or loss is included in net income.
Depreciation expense includes the amortization of capital assets and is
estimated using the straight-line method. These estimates are calculated using
the following estimated useful lives:
Buildings and improvements 31.5 to 40 years
Furniture and equipment 5 to 10 years
Leasehold improvements over the life of the lease
Land improvements 8 to 40 years
20
<PAGE>
HARBORSIDE HEALTHCARE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
INTANGIBLE ASSETS
Intangible assets consist of amounts identified in connection with certain
facility acquisitions accounted for under the purchase method and certain
deferred costs which were incurred in connection with various financings (see
Notes F and I).
In connection with each of its acquisitions, the Company reviewed the assets
of the acquired facility and assessed its relative fair value in comparison to
the purchase price. Certain acquisitions resulted in the allocation of a portion
of the purchase price to the value associated with the existence of a workforce
in place, residents in place at the date of acquisition and covenants with
sellers which limit their ability to engage in future competition with the
Company's facilities. The assets recognized from an assembled workforce and
residents in place are amortized using the straight-line method over the
estimated periods (from three to seven years) during which the respective
benefits would be in place. Covenants not-to-compete are being amortized using
the straight-line method over the period during which competition is restricted.
Goodwill resulted from the acquisition of certain assets for which the
negotiated purchase prices exceeded the allocations of the fair market value of
identifiable assets. The Company's policy is to evaluate each acquisition
separately and identify an appropriate amortization period for goodwill based on
the acquired property's characteristics. Goodwill is being amortized using the
straight-line method over a 20 to 40 year period.
Costs incurred in obtaining financing (including loans, letters of credit and
facility leases) are amortized as interest expense using the straight-line
method (which approximates the interest method) over the term of the related
financial obligation.
ASSESSMENT OF LONG-LIVED ASSETS
The Company periodically reviews the carrying value of its long-lived assets
(primarily property and equipment and intangible assets) to assess the
recoverability of these assets; any impairments would be recognized in operating
results if a diminution in value considered to be other than temporary were to
occur. As part of this assessment, the Company reviews the expected future net
operating cash flows from its facilities, as well as the values included in
appraisals of its facilities, which have periodically been obtained in
connection with various financial arrangements. The Company has not recognized
any adjustments as a result of these assessments.
CASH AND CASH EQUIVALENTS
Cash and cash equivalents consist of highly liquid investments with maturities
of three months or less at the date of their acquisition by the Company.
RESTRICTED CASH
Restricted cash consists of cash set aside in escrow accounts as required by
several of the Company's leases and other financing arrangements.
NEW ACCOUNTING PRONOUNCEMENTS
In 1997, the FASB issued SFAS No. 130, "Reporting Comprehensive Income" and
SFAS No. 131, "Disclosures About Segments of an Enterprise and Related
Information." These pronouncements are effective for financial statement periods
beginning after December 15, 1997. The Company does not believe that these new
pronouncements will have material effect on its future financial statements.
21
<PAGE>
HARBORSIDE HEALTHCARE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
D. INVESTMENT IN LIMITED PARTNERSHIP:
In April 1993, a subsidiary of the Company acquired a 75% partnership interest
in Bowie L.P., which developed a 120-bed long-term care facility in Maryland
that commenced operations on May 1, 1994. The remaining 25% interest in Bowie
L.P. is owned by a non-affiliated party. The Company records its investment in
Bowie L.P. using the equity method. Although the Company owns a majority
interest in Bowie L.P., the Company only maintains a 50% voting interest and
accordingly does not exercise control over the operations of Bowie L.P. In
addition, the non-affiliated party has the option to purchase the Company's
partnership interest during the sixty-day period prior to the seventh
anniversary of the facility's opening and each subsequent anniversary
thereafter. If the option is exercised, the purchase price would be equal to the
fair market value of the Company's interest at the date on which the option is
exercised. The Company is entitled to 75% of the facility's net income and
manages this facility in return for a fee equal to 5.5% of the facility's net
revenues (effective September 1995). Prior to this date, the management fee
approximated $10,000 per month. The Company recorded $234,000, $445,000 and
$445,000 in management fees from this management contract for the years ended
December 31, 1995, 1996 and 1997, respectively.
Bowie L.P. obtained a $4,377,000 construction loan from a bank to finance the
construction of the facility. Bowie L.P. also obtained a $1,000,000 line of
credit from the bank to finance pre-opening costs and working capital
requirements. On July 31, 1995, the line of credit converted to a term loan. In
March of 1997, the entire loan was repaid with the proceeds of a $6,400,000 note
from another bank. As of December 31, 1996 and 1997, Bowie L.P. owed $4,964,000
and $6,300,000, respectively, on these loans. Interest on the loan is payable
monthly at the bank's prime rate or a LIBOR rate plus 1.5%. This loan limits
Bowie L.P.'s ability to borrow additional funds and to make acquisitions,
dispositions and distributions. Additionally, the loan contains covenants with
respect to maintenance of specified levels of net worth, working capital and
debt service coverage.
The loan is collateralized by each partner's partnership interest as well as
all of the assets of Bowie L.P. The loan is also guaranteed by the Company and
additional collateral pledged by the non-affiliated partner. The Bowie L.P.
partnership agreement states that each partner will contribute an amount in
respect of any liability incurred by a partner in connection with a guarantee of
the partnership's debt, so that the partners each bear their proportionate share
of the liability based on their percentage ownership of the partnership.
The results of operations of Bowie L.P. are summarized below:
FOR THE YEARS ENDED DECEMBER 31,
----------------------------------
1995 1996 1997
---------- ---------- ----------
Net operating revenues...................... $7,595,000 $8,104,000 $8,311,000
Net operating expenses...................... 7,236,000 7,758,000 8,052,000
Net loss.................................... (152,000) (351,000) (252,000)
The financial position of Bowie L.P. was as follows:
AS OF DECEMBER 31,
---------------------
1996 1997
---------- ----------
Current assets........................................... $2,511,000 $2,275,000
Non-current assets....................................... 4,882,000 4,695,000
Current liabilities...................................... 2,335,000 722,000
Non-current liabilities.................................. 4,716,000 6,158,000
Partners' equity......................................... 342,000 90,000
22
<PAGE>
HARBORSIDE HEALTHCARE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
On December 28, 1995, the Company advanced $1,255,000 to Bowie L.P. to
support additional facility working capital requirements by means of a demand
note bearing interest at 9.0% per annum. This advance was repaid by Bowie L.P.
during 1997.
E. PROPERTY AND EQUIPMENT:
The Company's property and equipment are stated at cost and consist of the
following as of December 31:
1996 1997
------------ ------------
Land................................................. $ 2,994,000 $ 3,270,000
Land improvements.................................... 3,077,000 3,387,000
Leasehold improvements............................... 2,371,000 3,157,000
Buildings and improvements........................... 28,764,000 30,529,000
Equipment, furnishings and fixtures.................. 7,835,000 9,565,000
Assets under capital lease........................... 63,125,000 63,532,000
------------ ------------
108,166,000 113,440,000
Less accumulated depreciation........................ 12,979,000 16,568,000
------------ ------------
$ 95,187,000 $ 96,872,000
============ ============
F. INTANGIBLE ASSETS:
Intangible assets are stated at cost and consist of the following as of
December 31:
1996 1997
------------ ------------
Patient lists........................................ $ 1,459,000 $ 1,459,000
Assembled workforce.................................. 930,000 930,000
Covenant not to compete.............................. 1,838,000 1,838,000
Organization costs................................... 256,000 380,000
Goodwill............................................. -- 2,166,000
Deferred financing costs............................. 2,563,000 6,574,000
------------ ------------
7,046,000 13,347,000
Less accumulated amortization........................ 4,042,000 4,784,000
------------ ------------
$ 3,004,000 $ 8,563,000
============ ============
G. NOTE RECEIVABLE:
In connection with the acquisition of the five Connecticut facilities on
December 1, 1997, the Company received a note receivable from the owner in the
amount of $7,487,000. Interest is earned at the rate of 9% per annum, and
payments are due monthly, in arrears, commencing January 1, 1998 and continuing
until November 30, 2010, at which time the entire principal balance is due. The
proceeds of the note were used to repay certain indebtedness. The note is
collateralized by various mortgage interests and other collateral.
H. OPERATING LEASES:
In March 1993, a subsidiary of the Company entered into an agreement with a
non-affiliated entity to lease two long-term care facilities in Ohio with 289
beds for a period of ten years. The lease agreement, which became effective in
June 1993, provides for fixed annual rental payments of $900,000. At the end of
the ten-year period,
23
<PAGE>
HARBORSIDE HEALTHCARE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
the Company has the option to acquire the facilities for $8,500,000, or to pay a
$500,000 termination fee and relinquish the operation of the facilities to the
lessor. On the effective date of the lease, the subsidiary paid $1,200,000 to
the lessor for a covenant not-to-compete which remains in force through June
2003.
Effective October 1, 1994, a subsidiary of the Company entered into an
agreement with a related party to lease a 100 bed long-term care facility in
Florida for a period of ten years. The lease agreement provides for annual
rental payments of $551,250 in the initial twelve-month period and annual
increases of 2% thereafter. The Company has the option to exercise two
consecutive five-year lease renewals. The Company also has the right to purchase
the facility at fair market value at any time after the fifth anniversary of the
commencement of the lease. The lease agreement also required the Company to
escrow funds equal to three months' base rent.
Effective April 1, 1995, a subsidiary of the Company entered into an agreement
with Meditrust to lease a 100-bed long-term care facility in Ohio for a period
of ten years. The lease agreement provides for annual rental payments of
$698,400 in the initial twelve-month period. The Company is also required to
make additional rental payments beginning April 1, 1996 in an amount equal to
5.0% of the difference between the facility's operating revenues in each
applicable year and the operating revenues in the twelve-month base period which
commenced on April 1, 1995. The annual additional rent payment will not exceed
$14,650. At the end of the initial lease period, the Company has the option to
exercise two consecutive five-year lease renewals. The lease agreement also
required the Company to escrow funds equal to three months base rent. The
Company's obligations under the lease are collateralized by, among other things,
an interest in any property improvements made by the Company and by a second
position on the facility's accounts receivable. The Company also has the right
to purchase the facility at its fair market value on the eighth and tenth
anniversary dates of the commencement of the lease and at the conclusion of each
lease renewal.
Effective January 1, 1996, a subsidiary of the Company entered into an
agreement with Meditrust to lease the Seven Facilities formerly owned by KYP
(see Note P). The lease agreement provides for annual rental payments of
$4,582,500 in the initial twelve-month period and annual increases based on
changes in the consumer price index thereafter. The lease has an initial term of
ten years with two consecutive five-year renewal terms exercisable at the
Company's option. The lease agreement also required the Company to escrow funds
in an amount equal to three months base rent. The Company's obligations under
the lease are collateralized by, among other things, an interest in any property
improvements made by the Company and by a second position on the related
facilities' accounts receivable. In conjunction with the lease, the Company was
granted a right of first refusal and an option to purchase the facilities as a
group, which option is exercisable at the end of the eighth year of the initial
term and at the conclusion of each renewal term. The purchase option is
exercisable at the greater of the fair market value of the facilities at the
time of exercise or Meditrust's original investment.
Effective January 1, 1996, a subsidiary of the Company entered into an
agreement with Meditrust to lease six long-term care facilities with a total of
537 licensed beds in New Hampshire. The lease agreement provides for annual
rental payments of $2,324,000 in the initial twelve-month period and annual
rental increases based on changes in the consumer price index thereafter. The
lease has an initial term of ten years with two consecutive five-year renewal
terms exercisable at the Company's option. The lease agreement also required the
Company to escrow funds in an amount equal to three months base rent. In
addition, the lease agreement required the Company to establish a renovation
escrow account in the amount of $560,000 to fund facility renovations identified
in the agreement. The renovation escrow funds are released upon completion of
the required renovations. As of December 31, 1997, $325,000 of these funds
remained in escrow pending completion of the specified renovations. The
Company's obligations under the lease are collateralized by, among other things,
an interest in any property improvements made by the Company and by a second
position on the related facilities' accounts receivable. In conjunction with the
lease, the Company was granted a right of first refusal and an option
24
<PAGE>
HARBORSIDE HEALTHCARE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
to purchase the facilities as a group, which is exercisable at the end of the
eighth year of the initial term and at the conclusion of each renewal term. The
purchase option is exercisable at the greater of 90% of the fair market value of
the facilities at the time of exercise or Meditrust's original investment. In
connection with this lease, the Company received a cash payment of $3,685,000
from Meditrust which was recorded as deferred income and is being amortized over
the ten-year initial lease term as a reduction of rental expense.
The Meditrust leases contain cross-default and cross-collateralization
provisions. A default by the Company under one of these leases could adversely
affect a significant number of the Company's properties and result in a loss to
the Company of such properties. In addition, the leases permit Meditrust to
require the Company to purchase the facilities upon the occurrence of a default.
Effective March 1, 1997, the Company entered into an agreement with a
non-affiliated party to lease one long-term care facility with 163 beds in
Baltimore, Maryland for a period of ten years. The lease agreement provides for
fixed annual rental payments of $900,000 for the first three years and annual
increases based on changes in the consumer price index thereafter. From July 1,
1999 through August 28, 2000, the Company has the option to acquire the facility
for $10,000,000. After August 28, 2000, the purchase price escalates in
accordance with a schedule. On the effective date of the lease, the Company paid
$1,000,000 to the lessor in exchange for the purchase option. This option
payment is being amortized over the life of the lease.
As of August 1, 1997, the Company acquired four long-term care facilities with
401 beds in Massachusetts. The Company financed this acquisition through an
operating lease with a real estate investment trust (the "REIT"). The lease
provides for annual rental payments of $1,576,000 in the initial twelve-month
period and annual increases based on changes in the consumer price index
thereafter. The lease has an initial term of ten years with, at the Company's
option, eight consecutive five-year renewal terms. In conjunction with the
lease, the Company was granted a right of first refusal and an option to
purchase the facilities as a group, which option is exercisable at the end of
the initial lease term and at the conclusion of each renewal term. The purchase
option is exercisable at the fair market value of the facilities at the time of
exercise.
On August 28, 1997, the Company obtained a five-year $25,000,000 synthetic
leasing facility (the "Leasing Facility") from the same group of banks that
provided the "Credit Facility" (see Note I). The Company used $23,600,000 of the
funds available through the Leasing Facility to lease the Dayton, Ohio
facilities from a master trust in September 1997. The master trust, which was
capitalized by investors with a 3% equity interest and 97% debt, acquired the
Dayton, Ohio facilities from their previous owner and leases the facilities to
the Company. The equity contributions to the master trust remains at risk for
the duration of the lease term. Acquisitions made through the Leasing Facility
are accounted for financial reporting purposes as operating leases with an
initial lease term, which expires at the expiration date of the Leasing Facility
in August 2002. The Company's rental payments to the Master Trust are determined
based on the purchase price and an interest rate factor which is based on LIBOR
(or at the Company's option, the agent bank's prime rate) and which varies with
the Company's leverage ratio (as defined). As of December 31, 1997 the interest
rate for amounts outstanding under this facility was approximately 7.5%. The
Company has the right to purchase facilities acquired through the Leasing
Facility for an amount equal to the purchase price at the date of acquisition.
The Company's obligations under the lease are collateralized by a collateral
pool which also collateralizes the Company's borrowings under its Credit
Facility.
Under the terms of each of the facility leases described above, the Company is
responsible for the payment of all real estate and personal property taxes, as
well as other reasonable costs required to operate, maintain, insure and repair
the facilities.
25
<PAGE>
HARBORSIDE HEALTHCARE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
Future minimum rent commitments under the Company's non-cancelable operating
leases as of December 31, 1997 are as follows:
1998......................................................... $ 19,423,000
1999......................................................... 19,617,000
2000......................................................... 19,811,000
2001......................................................... 20,005,000
2002......................................................... 20,199,000
Thereafter................................................... 76,545,000
------------
$175,600,000
============
I. LONG-TERM DEBT:
In October 1994, certain of the Predecessor Entities refinanced $29,189,000 of
the then outstanding bank debt, and as a result, recorded a loss of $453,000.
This loss included a payment of $384,000 upon the termination of a related
interest rate protection agreement, which was required pursuant to the terms of
the bank debt in order to effectively fix the interest rate on such debt. The
retirement of this debt was financed by the concurrent borrowing of $42,300,000
from Meditrust. Using proceeds from the Offering, on June 14, 1996 the Company
repaid $25,000,000 of this debt, incurring a prepayment penalty of $1,517,000.
Additionally, the Company wrote-off $544,000 of deferred financing costs related
to the retired debt and incurred $100,000 of additional transaction costs. The
loss on this early retirement of debt totaled $2,161,000 and is presented as an
extraordinary loss in the Statement of Operations for the year ended December
31, 1996 net of the related estimated income tax benefit of $843,000. The
Meditrust debt was collateralized by the assets of certain of the Predecessor
Entities (the "Seven S Corporations"), and subsequent to the debt paydown, the
remaining debt is cross-collateralized by the assets of four facilities (the
"Four Facilities"). The Meditrust debt bears interest at the annual rate of
10.65%. Additional interest payments are also required commencing on January 1,
1997 in an amount equal to 0.3% of the difference between the operating revenues
of the Four Facilities in each applicable year and the operating revenues of the
Four Facilities during a twelve-month base period which commenced October 1,
1995. The Meditrust debt is cross-collateralized by the assets of each of the
Four Facilities. The loan agreement with Meditrust places certain restrictions
on the Four Facilities; among them, the agreement restricts their ability to
incur additional debt or to make significant dispositions of assets. The Four
Facilities are also required to maintain a debt service coverage ratio of at
least 1.2 to 1.0 (as defined in the loan agreement) and a current ratio of at
least 1.0 to 1.0. The Meditrust loan agreement contains a prepayment penalty,
which decreases from 1.5% of the then outstanding balance in the sixth year to
none in the ninth year.
A subsidiary of the Company assumed a first mortgage note (the "Note") with a
remaining balance of $1,775,000 as part of the acquisition of a long-term care
facility in 1988. The Note requires the annual retirement of principal in the
amount of $20,000. The Company pays interest monthly at the rate of 14% per
annum on the outstanding principal amount until maturity in October 2010, when
the remaining unpaid principal balance of $1,338,000 is due. The Note is
collateralized by the property and equipment of the facility.
In April of 1997, the Company obtained a three-year $25,000,000 revolving
credit facility (the "Credit Facility") from a commercial bank. On August 28,
1997, the Company amended the Credit Facility to add three additional banks as
parties to the Credit Facility, extended the maturity to five years and made
certain additional amendments to the terms of the agreement. Borrowings under
this facility are collateralized by patient accounts receivable and certain real
estate. The assets which collateralize the Credit Facility also collateralize
the Company's obligation under the Leasing Facility. The Credit Facility matures
in September 2002 and provides for prime and LIBOR interest rate options, which
vary with the Company's leverage ratio (as defined). As of December 31, 1997,
the interest rate for amounts outstanding under this facility was approximately
7.3%. The Credit Facility contains covenants which, among other things, impose
certain limitations or prohibitions on the
26
<PAGE>
HARBORSIDE HEALTHCARE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
Company's ability to incur indebtedness, pay dividends, make investments or
dispose of assets. The Credit Facility requires the Company to maintain a debt
service coverage ratio (as defined) of at least 1.25 and a maximum leverage
ratio (as defined) of 5.0. As of December 31, 1997, $15,600,000 was outstanding
on the Credit Facility and $9,400,000 remained available. During 1997, the
maximum balance borrowed under this facility was $15,600,000. A commitment fee
of 0.20% to 0.50% on unused availability is charged depending on the Company's
leverage ratio.
Interest expense charged to operations for the years ended December 31, 1995,
1996 and 1997 was $5,830,000, $5,576,000, and $6,681,000, respectively.
As of December 31, 1997, future long-term debt maturities associated with the
Company's debt are as follows:
1998.......................................................... $ 186,000
1999.......................................................... 205,000
2000.......................................................... 226,000
2001.......................................................... 248,000
2002.......................................................... 15,874,000
Thereafter.................................................... 16,903,000
-----------
$33,642,000
===========
Substantially all of the Company's assets are subject to liens under long-term
debt or operating lease agreements.
J. CAPITAL LEASE OBLIGATION:
On July 1, 1996, a subsidiary of the Company began leasing four long-term care
facilities in Ohio (the "Ohio Facilities"). This transaction is being accounted
for as a capital lease as a result of a bargain purchase option exercisable at
the end of the lease. The initial term of the lease is five years and during the
final six months of the initial term, the Company may exercise an option to
purchase the Ohio Facilities for a total price of $57,125,000. If the Company
exercises the purchase option but is unable to obtain financing for the
acquisition, the lease may be extended for up to two additional years, during
which time the Company must obtain financing and complete the purchase of the
facilities. The annual rent under the agreement is $5,000,000 during the initial
term and $5,500,000 during the extension term. The Company is also responsible
for facility expenses such as taxes, maintenance and repairs. The Company agreed
to pay $8,000,000 for the option to purchase these facilities. Of this amount,
$5,000,000 was paid prior to the closing on July 1, 1996, and the remainder,
$3,000,000, is due at the end of the initial lease term whether or not the
Company exercises its purchase option. The following is a schedule of future
minimum lease payments, including the amount of the purchase option, required by
this lease together with the present value of the minimum lease payments:
1998........................................................ $ 5,000,000
1999........................................................ 5,000,000
2000........................................................ 5,000,000
2001........................................................ 57,625,000
------------
72,625,000
Less amount representing interest........................... (16,340,000)
------------
56,285,000
Less current portion........................................ (3,924,000)
------------
Long-term portion of capital lease obligation............... $ 52,361,000
============
27
<PAGE>
HARBORSIDE HEALTHCARE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
K. RETIREMENT PLANS:
The Company maintains an employee 401(k) defined contribution plan. All
employees who have worked at least one thousand hours and have completed one
year of continuous service are eligible to participate in the plan. The plan is
subject to the provisions of the Employee Retirement Income Security Act of
1974. Employee contributions to this plan may be matched at the discretion of
the Company. The Company contributed $120,000, $180,000 and $365,000 to the plan
in 1995, 1996 and 1997, respectively.
During September 1995, the Company established a Supplemental Executive
Retirement Plan (the "SERP") to provide benefits to key employees. Participants
may defer up to 25% of their compensation which is matched by the Company at a
rate of 50% (up to 10% of base salary). Vesting in the matching portion occurs
in January of the second year following the plan year in which contributions
were made.
L. INCOME TAXES:
PRO FORMA INCOME TAXES (UNAUDITED)
The financial statements of the Company for the periods prior to the
Reorganization do not include a provision for income taxes because the
Predecessor Entities (primarily partnerships and subchapter S corporations) were
not directly subject to Federal or state taxation. For financial reporting
purposes, for the years ended December 31, 1995 and 1996, a pro forma provision
for income taxes has been reflected in the accompanying statements of operations
based on taxable income for financial statement purposes and an estimated
effective Federal and state income tax rate of 39% which would have resulted if
the Predecessor Entities had filed corporate income tax returns during those
years.
Effective with the Reorganization described in Note B, the Company became
subject to Federal and state income taxes. The historical provision for income
taxes for the year ended December 31, 1996 reflects the recording of a one-time
Federal and state income tax benefit of $1,400,000 upon the change in the tax
status of the entity as required by SFAS No. 109, "Accounting for Income Taxes."
Significant components of the Company's deferred tax assets as of December 31,
1996 and 1997 are as follows:
1996 1997
---------- ----------
Deferred tax assets:
Reserves................................................ $1,144,000 $1,755,000
Rental payments......................................... 358,000 79,000
Interest payments....................................... 376,000 376,000
Other................................................... 78,000 11,000
---------- ----------
Total deferred tax assets.............................. $1,956,000 $2,221,000
========== ==========
Significant components of the provision for income taxes for the years ended
December 31, 1996 and 1997 are as follows:
1996 1997
---------- ----------
Current:
Federal............................................... $2,229,000 $3,893,000
State................................................. 536,000 719,000
---------- ----------
Total current........................................ $2,765,000 $4,612,000
========== ==========
Deferred:
Federal............................................... (1,648,000) (223,000)
State................................................. (308,000) (42,000)
----------- ----------
Total deferred....................................... (1,956,000) (265,000)
----------- ----------
Total income tax expense............................. $ 809,000 $4,347,000
=========== ==========
28
<PAGE>
HARBORSIDE HEALTHCARE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
The reconciliation of income tax computed at statutory rates to income tax
expense for the years ended December 31, 1996 and 1997 are as follows:
1996 1997
----------------- ---------------
Statutory rate............................ $1,699,000 35.0% $3,903,000 35.0%
State income tax, net of federal benefit.. 148,000 3.1 440,000 3.9
Permanent differences..................... 100,000 2.1 4,000 0.1
Deferred tax asset resulting from change
in tax status............................ (1,256,000) (25.9) -- --
Other..................................... 118,000 2.4 -- --
---------- ---- ---------- ----
$ 809,000 16.7% $4,347,000 39.0%
========== ==== ========== ====
M. CAPITAL STOCK:
COMMON STOCK
On June 14, 1996, the Company completed its initial public offering (the
"Offering"). Through the Offering the Company issued 3,600,000 shares at $11.75
per share resulting in net proceeds to the Company (after deducting
underwriters' commissions and other offering expenses) of approximately
$37,160,000. A portion of the proceeds was used to repay some of the Company's
long-term debt (see Note I) and the remainder to fund acquisitions.
The Company's Board of Directors is authorized to issue up to 1,000,000 shares
of Preferred Stock in one or more series with such dividend rates, number of
votes, conversion rights, preferences or such other terms or conditions as are
permitted under the laws of the State of Delaware.
SPECIAL COMPENSATION
The Predecessor Entities maintained an executive long-term incentive plan (the
"Executive Plan") which granted an economic interest in the appreciation of the
Predecessor Entities above a baseline valuation of $23,000,000 to certain senior
level management personnel upon the successful completion of an initial public
offering at a minimum retained equity valuation above $43,000,000. A pool of
three percent of the retained equity above $23,000,000 was reserved and
allocated to the eligible recipients. In June, 1996, subsequent to the Offering,
payments totaling $861,000 were made to the personnel who participated in the
Executive Plan and that plan was terminated. Additionally, the Company made a
bonus payment in the form of common stock valued at $225,000 to an officer of
the Company in connection with his employment agreement. These expenses are
included in the Statement of Operations for the year ended December 31, 1996, in
the line "Special Compensation and Other."
On December 31, 1995, certain of the Predecessor Entities (the "S
Corporations") issued a 6% equity interest in the S Corporations to the
president of the Company amounting to $438,000 and a 5% equity interest in the S
Corporations to the president of an affiliate amounting to $365,000. The
issuance amounts represented the fair market value of these interests at the
date of issuance based on an independent appraisal obtained by the Company.
Payment for the issuance of these shares was due within 90 days; and
accordingly, the amounts receivable from these individuals were reflected as a
contra-equity subscription receivable with no net increase to stockholders'
equity at December 31, 1995. Subsequent to year-end and in connection with the
execution of the 1996 employment agreement of the Company's president, the
Company granted a special bonus to the
29
<PAGE>
HARBORSIDE HEALTHCARE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
president equal to the cost of the shares issued. This expense is included in
the Statement of Operations for the year ended December 31, 1996 in the line
"Special Compensation and Other."
In February 1996, one of the Predecessor Entities, Harborside Healthcare
Limited Partnership ("HHLP"), granted an option to purchase a 1.36% limited
partnership interest in HHLP to each of two members of senior management. The
exercise price per percentage limited partnership interest under each such
option was $239,525 per percentage interest, which represented the fair market
value of a 1% limited partnership interest in HHLP at the date of grant based on
an independent appraisal obtained by the Company. The options vested in equal
one-third portions on each anniversary of the date of grant over a three-year
period and expired ten years from the date of grant. With the completion of the
Offering, the option grants in HHLP were converted on a pro rata basis to
options to acquire shares of the Company's common stock.
STOCK OPTION PLANS
During 1996, the Company established two stock option plans, the 1996 Stock
Option Plan for Non-employee Directors (the "Director Plan") and the 1996
Long-Term Stock Incentive Plan (the "Stock Plan"). Directors of the Company who
are not employees, or affiliates of the Company, are eligible to participate in
the Director Plan. On the date of the Offering, each of the four non-employee
directors was granted options to acquire 15,000 shares of the Company's common
stock at the Offering price. On January 1 of each year, each non-employee
director will receive an additional grant for 3,500 shares at the fair market
value on the date of grant. Options issued under the Director Plan become
exercisable on the first anniversary of the date of grant and terminate upon the
earlier of ten years from date of grant or one year from date of termination as
a director. Through the Directors Retainer Fee Plan, non-employee directors of
the Company may also elect to receive all or a portion of their director fees in
shares of the Company's common stock. The Stock Plan is administered by the
Stock Plan Committee of the Board of Directors which is composed of outside
directors who are not eligible to participate in this plan. The Stock Plan
authorizes the issuance of non-qualified stock options, incentive stock options,
stock appreciation rights, restricted stock and other stock-based awards.
Options granted during the years ended December 31, 1996 and 1997, were granted
with exercise prices equal to or greater than the fair market value of the stock
on the date of grant. Options granted under the stock plan during 1996 and 1997
vest over a three-year period and have a maximum term of ten years. A maximum of
800,000 shares of common stock have been reserved for issuance in connection
with these plans. Information with respect to options granted under these stock
option plans is as follows:
OPTIONS OUTSTANDING
WEIGHTED-
NUMBER OF EXERCISE PRICE AVERAGE
SHARES PER SHARE EXERCISE PRICE
--------- -------------- --------------
Balance at December 31, 1995
Granted............................... 523,000 $ 8.15-11.75 $11.16
Cancelled............................. (24,000) $ 11.75 $11.75
------- ------------
Balance at December 31, 1996............ 499,000 $ 8.15-11.75 $11.14
Granted............................... 227,500 $11.69-18.69 $12.66
Exercised............................. (8,665) $ 11.75 $11.75
Cancelled............................. (52,334) $11.75-12.00 $11.80
------- ------------
Balance at December 31, 1997............ 665,501 $ 8.15-18.69 $11.59
======= ============
30
<PAGE>
HARBORSIDE HEALTHCARE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
As of December 31, 1996 no options to purchase shares of the Company's common
stock were exercisable. As of December 31, 1997 there were 187,000 exercisable
options at a weighted-average exercise price of $11.20.
In 1996, the Company adopted SFAS No. 123, "Accounting for Stock-Based
Compensation." SFAS No. 123 requires that companies either recognize
compensation expense for grants of stock, stock options, and other equity
instruments based on fair value, or provide pro forma disclosure of net income
and earnings per share in the notes to the financial statements. The Company has
adopted the disclosure provisions of SFAS No. 123, and has applied Accounting
Principles Board Opinion No. 25 and related interpretations in accounting for
its plans. Accordingly, no compensation cost has been recognized for its stock
option plans. Had compensation cost for the Company's stock-based compensation
plans been determined based on the fair value at the grant dates as calculated
in accordance with SFAS No. 123, the Company's unaudited pro forma net income
and pro forma net income per share for the years ended December 31, 1996 and
1997, would have been reduced to the amounts indicated below:
1996
1996 PRO FORMA 1997
PRO FORMA NET INCOME 1997 NET INCOME
NET INCOME PER SHARE DILUTED NET INCOME PER SHARE DILUTED
---------- ----------------- ---------- -----------------
As reported $2,712,000 $0.42 $6,803,000 $0.84
Pro forma $2,372,000 $0.37 $5,733,000 $0.70
The weighted average fair value of options granted was $4.72 and $5.63 during
1996 and 1997, respectively. The fair value for each stock option is estimated
on the date of grant using the Black-Scholes option-pricing model with the
following weighted-average assumptions: an expected life of five years, expected
volatility of 40%, no dividend yield, and a risk-free interest rate of 6.5% and
6.2% for 1996 and 1997, respectively.
The following table sets forth the computation of basic and diluted net income
per share for the year ended December 31, 1997:
Numerator:
Numerator for basic and diluted net income per share................ $6,803,000
Denominator:
Denominator for basic net income per share--weighted average shares. 8,037,026
Effect of dilutive securities--employee stock options................ 101,767
Denominator for diluted net income per share--adjusted weighted-aver-
age shares and assumed conversions.................................. 8,138,793
Basic net income per common share.................................... $ 0.85
Diluted net income per common share.................................. $ 0.84
The denominator for basic net income per share includes 25,000, 19,093 and
34,574 shares for the years ended December 31, 1995, 1996 and 1997,
respectively, resulting from stock options issued within one year of the
Company's initial public offering. In addition to the dilutive securities listed
above, stock options for an additional 23,000 shares, that are anti-dilutive at
December 31, 1997, could potentially dilute earnings per share in future
periods.
N. CONTINGENCIES:
The Company is involved in legal actions and claims in the ordinary course of
its business. It is the opinion of management, based on the advice of legal
counsel, that such litigation and claims will be resolved without material
effect on the Company's consolidated financial position, results of operations
or liquidity.
31
<PAGE>
HARBORSIDE HEALTHCARE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
Beginning in 1994, the Company self-insures for health benefits provided to a
majority of its employees. The Company maintains stop-loss insurance such that
the Company's liability for losses is limited. The Company recognizes an expense
for estimated health benefit claims incurred but not reported at the end of each
year.
Beginning in 1995, the Company self-insures for most workers' compensation
claims. The Company maintains stop-loss insurance such that the Company's
liability for losses is limited. The Company accrues for estimated workers'
compensation claims incurred but not reported at the end of each year.
O. DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS:
The methods and assumptions used to estimate the fair value of each class of
financial instruments, for those instruments for which it is practicable to
estimate that value, and the estimated fair values of the financial instruments
are as follows:
CASH AND CASH EQUIVALENTS
The carrying amount approximates fair value because of the short effective
maturity of these instruments.
NOTE RECEIVABLE
The carrying value of the note receivable approximates its fair value at
December 31, 1997 based on the yield of the note and the present value of
expected cash flows.
LONG-TERM DEBT
The fair value of the Company's long-term debt is estimated based on the
current rates offered to the Company for similar debt. The carrying value of the
Company's long-term debt approximates its fair value as of December 31, 1996 and
1997.
P. GAIN ON SALE OF FACILITIES, NET:
As discussed in Note B, in December 1995, KYP sold seven facilities to
Meditrust (the "Sale") for $47,000,000. The Sale was effective December 31,
1995, and a net gain of $4,869,000 was recorded.
A portion of the proceeds of the Sale was used by KYP to repay the outstanding
balance of its Medium-Term Notes ($9,409,000), a related prepayment penalty
($1,154,000) and transaction costs ($884,000). The original principal amount of
the Medium-Term Notes was $6,000,000 and interest on this obligation accrued at
10.55% per annum through June 30, 1993. Commencing December 31, 1993, KYP began
making semiannual interest payments on the original principal and the accrued
interest. The principal and all deferred interest were scheduled to be repaid in
June 1998. As a result of the early retirement of this debt, the Company
recorded a loss of $1,502,000, which was netted against the gain on the sale of
the KYP facilities. The terms of the KYP partnership agreement specified that
one of the Predecessor Entities which served as KYP's general partner would not
share in the gain associated with the sale of the facilities; as such, the
entire amount of the net gain was allocated to the Unitholders, and was included
in the minority interest reflected in the Statement of Operations for the year
ended December 31, 1995.
The determination of the net gain included the recognition of an estimated
liability of approximately $3,000,000 to Medicare and certain states' Medicaid
programs. This amount is included with other estimated settlements due to/from
third-party payors as a component of accounts receivable. Under existing
regulations,
32
<PAGE>
HARBORSIDE HEALTHCARE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
KYP is required to repay these programs for certain depreciation expense
recorded by the KYP facilities and for which they received reimbursement prior
to the sale. Any payments assessed by these programs to settle these obligations
in excess of the funds withheld from the proceeds of the sale of the facilities
will be the responsibility of the Company without any recourse to the
Unitholders. However, if the ultimate settlement of these obligations results in
a net amount due to KYP, this amount would be distributed to the Unitholders.
The Sale provided for the dissolution of KYP and the distribution of the net
proceeds of the Sale to the Unitholders, which occurred in March 1996. The
Company's balance sheet as of December 31, 1995 included the cash to be
distributed to the Unitholders as well as the related distribution payable of
$33,493,000.
Q. RELATED PARTY TRANSACTIONS:
An affiliate of the Company provides office space, legal, tax, data processing
and other administrative services to the Company in return for a monthly fee.
Total service charges under this arrangement were $700,000, $700,000 and
$708,000 for the years ended December 31, 1995, 1996 and 1997, respectively.
R. RECENT ACQUISITIONS (UNAUDITED):
The following unaudited pro forma financial information gives effect to the
acquisition of the Ohio facilities, the Connecticut facilities, the Dayton
facilities, the Massachusetts facilities and a therapy services company, as if
they had occurred on January 1, 1996. The pro forma financial results are not
necessarily indicative of the actual results of operations which might have
occurred or of the results of operations which may occur in the future.
FOR THE YEARS ENDED
DECEMBER 31,
-------------------------
1996 1997
------------ ------------
Total net revenues................................... $262,043,000 $285,061,000
Income before income taxes and extraordinary loss.... 5,132,000 11,971,000
Income before extraordinary loss..................... 4,215,000 7,304,000
Net income........................................... 2,897,000 7,304,000
Net income per common share using 6,396,142 and
8,138,793 common and common equivalent shares, re-
spectively.......................................... $ 0.45 $ 0.90
33
<PAGE>
HARBORSIDE HEALTHCARE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
S. SUMMARY QUARTERLY FINANCIAL INFORMATION (UNAUDITED):
The Company's unaudited quarterly financial information follows:
YEAR ENDED DECEMBER 31, 1997
-----------------------------------------------
FIRST SECOND THIRD FOURTH
QUARTER QUARTER QUARTER QUARTER
----------- ----------- ----------- -----------
Total net revenues.............. $47,384,000 $50,292,000 $57,964,000 $66,137,000
Income from operations.......... 3,822,000 4,069,000 4,455,000 4,846,000
Income before income taxes...... 2,461,000 2,613,000 2,773,000 3,303,000
Income taxes.................... 959,000 1,020,000 1,081,000 1,287,000
Net income...................... 1,502,000 1,593,000 1,692,000 2,016,000
Net income per share
Basic.......................... $ 0.19 $ 0.20 $ 0.21 $ 0.25
Diluted........................ 0.19 0.20 0.21 0.24
YEAR ENDED DECEMBER 31, 1996
---------------------------------------------------
FIRST SECOND THIRD FOURTH
QUARTER QUARTER QUARTER QUARTER
----------- ----------- ----------- -----------
Total net revenues........ $34,931,000 $36,872,000 $45,903,000 $47,706,000
Income from operations.... 1,307,000 846,000(1) 3,655,000 3,918,000
Income (loss) before in-
come taxes and extraordi-
nary loss................ 205,000 (229,000) 2,312,000 2,541,000
Income taxes (benefit).... -- (400,000) 902,000 307,000
Income before extraordi-
nary loss................ 205,000 171,000 1,410,000 2,234,000
Extraordinary loss........ -- (1,318,000)(2) -- --
Net income (loss)......... 205,000 (1,147,000) 1,410,000 2,234,000
Net income per share--di-
luted.................... -- -- $ 0.18 $ 0.28
Pro forma income taxes
(benefit)................ 80,000 (489,000)
Pro forma income before
extraordinary loss....... 125,000 260,000
Pro forma net income
(loss)................... 125,000 (1,058,000)
Pro forma income before
extraordinary loss per
share--basic and diluted. $ 0.03 $ 0.05
Pro forma net income
(loss) per share--basic
and diluted.............. $ 0.03 $ (0.21)
YEAR ENDED DECEMBER 31, 1995
------------------------------------------------
FIRST SECOND THIRD FOURTH
QUARTER QUARTER QUARTER QUARTER
----------- ----------- ----------- -----------
Total net revenues............ $23,777,000 $26,737,000 $28,515,000 $30,396,000
Income from operations........ 1,290,000 1,671,000 2,123,000 2,895,000
Net income (loss)............. (240,000) 253,000 297,000 924,000
Pro forma income taxes (bene-
fit)......................... (94,000) 99,000 116,000 360,000
Pro forma net income (loss)... (146,000) 154,000 181,000 564,000
Pro forma net income (loss)
per share--basic and diluted. $ (0.03) $ 0.03 $ 0.04 $ 0.13
(1) Includes $1,716,000 of special compensation and other expenses incurred
primarily as a result of the Offering (see Note M)
(2) A portion of the proceeds of the Offering was used to repay long-term debt
in June 1996. The resulting loss on early retirement of debt is presented as
an extraordinary loss net of related tax benefit (see Note I).
34
<PAGE>
HARBORSIDE HEALTHCARE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
T. PENDING ACQUISITIONS:
During 1997, the Company entered into separate agreements to acquire two
long-term care facilities in Ohio and two long-term care facilities in Rhode
Island. The aggregate purchase price of these two acquisitions is approximately
$33,700,000, and the Company expects to finance them through an expansion of
funds committed to its existing Leasing Facility (see Note H). The Company is
currently awaiting regulatory approval for each of these acquisitions and
expects each transaction to be completed during the second quarter of 1998.
35
<PAGE>
PART III
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
In 1995, Mr. Guillard subscribed for equity interests in certain of the
Company's predecessors. The aggregate subscription price of $438,000, equal to
the fair market value of such interests as of December 31, 1995, was paid by Mr.
Guillard in 1996 with the proceeds of a special bonus equal to such purchase
price. To pay taxes due with respect to the purchase of the equity interests and
this bonus, Mr. Guillard received a loan from the Company, evidenced by a note
maturing April 15, 2001, and bearing interest at 7.0% per annum. In connection
with the IPO Reorganization, such equity interests and Messrs. Guillard's and
Dell'Anno's interests in Harborside Healthcare Limited Partnership were
exchanged for an aggregate of 307,724 shares of Harborside Common Stock. Under
his prior employment agreement, Mr. Dell'Anno also received an additional 18,037
shares of Common Stock pursuant to a bonus payment in connection with the
Offering (with a value of $212,000). Mr. Dell'Anno also received a loan from the
Company at an interest rate of prime plus 1% to pay income tax liabilities that
resulted from such bonus payment. As of March 31, 1998, the amount outstanding
on the loans made by the Company to Messrs. Guillard and Dell'Anno was $225,660
and $110,184, respectively.
The Berkshire Companies Limited Partnership ("BCLP"), is beneficially owned
by, among others, Douglas Krupp, a director of the Company and his brother
George Krupp. BCLP has historically had and expects to maintain certain
relationships with the Company. All such transactions with George or Douglas
Krupp or their affiliates, including BCLP, are and in the future will be
approved by disinterested directors.
Effective October 1, 1994, the Company entered into an agreement to lease
its Brevard facility from Rockledge T. Limited Partnership ("RTLP"), which is
beneficially owned by Douglas Krupp and George Krupp. The Brevard lease
agreement is for a period of ten years, plus up to two five-year renewals. Rent
was $551,250 for the initial twelve-month period and increases by 2.0% each year
thereafter. At the end of the initial lease term, the Company has the option to
exercise two consecutive five-year lease renewals. The Company also has the
right after the fifth anniversary of the commencement of the lease to purchase
the facility at its fair market value. RTLP is required to make capital
expenditures totaling $500,000 during the first three years of the lease. As of
December 31, 1997, all of such capital expenditures had been made.
In June, 1996 the Company and BCLP entered into an Administrative Services
Agreement (the "Agreement") pursuant to which BCLP provided office space, legal,
tax, data processing and other administrative services to the Company in return
for a monthly fee. The initial term of the Agreement ended on December 31, 1996,
and was automatically renewable annually thereafter. Total service charges were
$708,000 for the year ended December 31, 1997. Pursuant to the terms of that
agreement, the Company or BCLP had the ability to terminate the agreement upon
120 days' prior written notice. Further, the Agreement provided that the Company
would indemnify BCLP, including its officers and partners, to the fullest extent
permitted by Delaware law, as if BCLP were an agent of the Company in connection
with the performance of its services under the agreement. BCLP had agreed to
indemnify the Company for losses arising from BCLP's deliberate dishonesty or
gross negligence or willful misconduct.
On April 15, 1998, the Agreement was amended and restated at the request of
the Company (the "Amended Agreement") to be effective as of January 1, 1998.
Under the terms of the Amended Agreement, provision of certain services (office
space, office administration and investor services)
36
<PAGE>
terminates automatically on December 31, 1998. Either party may terminate the
other services provided thereunder upon prior written notice ranging from a time
period of 60 to 360 days depending on the service. In addition, tax and data
processing services may not be terminated before preset dates ranging from March
31, 1999 to December 31, 2001 unless certain conditions are met. Under the
Amended Agreement, BCLP agreed to exercise the same care with respect to
rendering services to the Company as it exercises when it provides services to
Affiliates. The Company agreed that BCLP would in no event be liable for special
or consequential damages. The indemnification provisions otherwise remained
unchanged.
The Company's current Boston headquarters occupy office space leased from
BCLP, which is paid for pursuant to the Amended Agreement. The Company has
entered into a lease for new office space with an unaffiliated third party and
expects to relocate its offices during the third or fourth quarter of 1998. In
connection with such relocation the Company is considering subleasing excess
space at its new headquarters to BCLP on a short term basis. The Company expects
that any such sublease would be on an arms' length basis. Management believes
that the terms of the Amended Agreement are as favorable to the Company as could
be obtained from independent third parties.
In connection with the acquisition of the Company's Decatur facility, a
subsidiary of the Company assumed a first mortgage note from the facility's
prior owner. Douglas Krupp personally guaranteed the note which at the time had
a remaining balance of $1,775,000. As of March 31, 1998, the remaining principal
balance on the note is $1,571,666. The Company has agreed to indemnify Mr. Krupp
for liability under such guaranty.
37
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities and
Exchange Act of 1934, the registrant has duly caused this amendment to be signed
on its behalf by the undersigned, thereunto duly authorized, in the City of
Boston, Commonwealth of Massachusetts, on June 26, 1998.
HARBORSIDE HEALTHCARE
CORPORATION
By: /s/ Stephen L. Guillard
-----------------------
Stephen L. Guillard
Chairman of the Board,
President and Chief Executive Officer
KNOW ALL PERSONS BY THESE PRESENTS, that each person whose signature
appears below constitutes and appoints Stephen L. Guillard and William H.
Stephan, and each of them, with full power to act without the other, his or her
true and lawful attorney-in-fact and agent, with full power of substitution and
resubstitution, for him or her and in his or her name, place and stead, in any
and all capacities, to sign any and all further amendments to this report, and
to file the same, with all exhibits thereto, and other documents in connection
therewith, with the Securities and Exchange Commission, granting unto said
attorneys-in-fact and agents, and each of them, full power and authority to do
and perform each and every act and thing requisite and necessary fully to all
intents and purposes as he or she might or could do in person thereby ratifying
and confirming all that said attorney-in-fact and agents of any of them, or
their or his or her substitute or substitutes, may lawfully do or cause to be
done by virtue hereof.
Pursuant to the requirements of the Securities and Exchange Act of 1934,
this amendment has been signed below by the following persons on behalf of the
registrant and in the capacities and on the dates indicated:
Signature Title Date
- --------- ----- ----
/s/ Robert T. Barnum Director June 26, 1998
- --------------------
Robert T. Barnum
/s/ David F. Benson Director June 26, 1998
- -------------------
David F. Benson
Director
- -----------------------
Robert M. Bretholtz
/s/ Sally W. Crawford Director June 26, 1998
- ---------------------
Sally W. Crawford
38
<PAGE>
/s/ Stephen L. Guillard President, June 26, 1998
- ----------------------- Chief Executive
Stephen L. Guillard Officer and Director
(Principal Executive
Officer)
Director
- -----------------
Douglas Krupp
/s/ William H. Stephan Senior Vice President June 26, 1998
- ---------------------- and Chief Financial
William H. Stephan Officer (Principal
Financial and
Accounting Officer)
39
<PAGE>
EXHIBIT INDEX
-------------
Exhibit No. Description
- ----------- -----------
23.1* Consent of Independent Accountants
* Filed herewith.
40
EXHIBIT 23.1
CONSENT OF INDEPENDENT ACCOUNTANTS
We consent to the incorporation by reference in the Registration Statement
on Form S-8 (Registration No. 333-10571) of our report dated February 13, 1998,
on our audits of the consolidated financial statements of Harborside Healthcare
Corporation and subsidiaries (the "Company") as of December 31, 1997 and 1996,
and for the three years in the period ended December 31, 1997, which report is
included in this Annual Report on Form 10-K/A.
/s/ Coopers & Lybrand L.L.P.
----------------------------
Coopers & Lybrand L.L.P.
Boston, Massachusetts
June 26, 1998
