<PAGE> 1
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FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
Washington D.C. 20549
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1998
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
Commission File Number 333-43549
EXTENDICARE HEALTH SERVICES, INC.
(Exact Name of Registrant as Specified in its Charter)
DELAWARE 8051 98-0066268
(State or other Jurisdiction (Primary Standard (I.R.S Employer
of Incorporation or Organization) Industrial Classification Identification
Code Number) Number)
105 WEST MICHIGAN STREET
MILWAUKEE, WI 53203
(Address of Principal Executive Offices and Zip Code)
(414) 271-9696
(Registrant's telephone number, including area code)
SEE TABLE OF ADDITIONAL REGISTRANTS
- ------------------------------------------------------------------------------
Indicate by check mark whether the registration (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Act of 1934
during the preceding 12 months (or for such shorter period that the registrant
was required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes X No
----- -----
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<PAGE> 2
EXTENDICARE HEALTH SERVICES, INC.
INDEX
PART I. FINANCIAL INFORMATION
<TABLE>
<CAPTION>
Page
----
<S> <C> <C>
Item 1 Condensed Financial Statements
Consolidated Statements of Earnings
for the three months ended
September 30, 1998 and 1997 and
for the nine months ended
September 30, 1998 and 1997 3
Consolidated Balance Sheets
September 30, 1998 and December 31, 1997 4
Consolidated Statements of Cash Flows
for the nine months ended
September 30, 1998 and 1997 5
Notes to Consolidated Financial Statements 6
Item 2 Management's Discussion and Analysis 10
Item 3 Quantitative and Qualitative Disclosures
about Market Risk 21
PART II. OTHER INFORMATION
Item 1 Legal Proceedings 22
Item 2 Change in Securities 22
Item 3 Defaults Upon Senior Securities 22
Item 4 Submission of Matters to a
Vote of Securities Holders 22
Item 5 Other Information 22
Item 6 Exhibits and Reports on Form 8-K 22
SIGNATURES 23
</TABLE>
<PAGE> 3
Item 1. Financial Statements
EXTENDICARE HEALTH SERVICES, INC.
CONSOLIDATED STATEMENTS OF NET EARNINGS
FOR THE THREE MONTHS AND NINE MONTHS ENDED SEPTEMBER 30, 1998 AND 1997
(Dollars in thousands)
(Unaudited)
<TABLE>
<CAPTION>
Three months ended Nine months ended
September 30 September 30
------------------------ -----------------------
1998 1997 1998 1997
----------- ---------- ----------- ----------
<S> <C> <C> <C> <C>
REVENUES:
Routine care and assisted living $ 192,786 $ 141,409 $ 560,943 $ 413,633
Medical specialty 95,002 81,418 306,594 243,001
Other 2,162 2,387 5,919 6,799
----------- ---------- ----------- ----------
289,950 225,214 873,456 663,433
COSTS AND EXPENSES:
Operating 239,746 187,420 724,755 543,233
General and administrative 11,288 9,036 34,786 27,649
Lease costs 4,277 2,560 11,709 7,132
Depreciation and amortization 13,728 8,137 41,186 24,538
Interest expense 15,163 5,178 46,217 14,788
Interest income (115) (417) (1,066) (1,155)
Gain on sale of operation and other
unusual items (94,536) - (94,536) -
----------- ---------- ----------- ----------
Earnings before provision
for income taxes 100,399 13,300 110,405 47,248
PROVISION FOR INCOME TAXES 74,279 4,887 79,534 17,957
----------- ---------- ----------- ----------
Earnings before minority interests and
extraordinary item 26,120 8,413 30,871 29,291
MINORITY INTERESTS (217) (259) (760) (661)
----------- ---------- ----------- ----------
Earnings before extraordinary item 25,903 8,154 30,111 28,630
EXTRAORDINARY LOSS ON EARLY
RETIREMENT OF DEBT, NET OF
INCOME TAXES OF $1,053 (1,660) - (1,660) -
----------- ---------- ----------- ----------
Net earnings $ 24,243 $ 8,154 $ 28,451 $ 28,630
=========== ========== =========== ==========
PER COMMON SHARE:
Earnings before extraordinary item $ 28 $ 8 $ 32 $ 30
Extraordinary item (2) - (2) -
----------- ---------- ----------- ----------
Net earnings $ 26 $ 8 $ 30 $ 30
=========== ========== =========== ==========
</TABLE>
The accompanying notes are an integral part of these financial statements.
<PAGE> 4
EXTENDICARE HEALTH SERVICES, INC.
CONSOLIDATED BALANCE SHEETS
SEPTEMBER 30, 1998 AND DECEMBER 31, 1997
(Dollars in thousands)
<TABLE>
<CAPTION>
ASSETS September 30, 1998 December 31, 1997
------ ------------------ -----------------
(Unaudited)
<S> <C> <C>
CURRENT ASSETS:
Cash and cash equivalents $ 41,958 $ 1,418
Accounts receivable, less
reserves of $19,214 and $18,926 215,218 225,105
Inventories, supplies and prepaid expenses 10,558 18,879
Income taxes receivable - 8,270
Deferred state income taxes 2,879 2,579
Debt service trust funds 432 493
Due from shareholder -
Federal income taxes receivable - 2,970
Deferred federal income taxes 14,533 13,636
----------------- --------------
Total current assets 285,578 273,350
PROPERTY AND EQUIPMENT, NET 687,536 688,169
GOODWILL, NET 133,631 170,419
IDENTIFIABLE INTANGIBLE ASSETS, NET 9,943 66,855
OTHER ASSETS 36,709 30,456
----------------- --------------
$ 1,153,397 $ 1,229,249
================= ==============
LIABILITIES AND SHAREHOLDER'S EQUITY
------------------------------------
CURRENT LIABILITIES:
Bank indebtedness $ 6,225 $ 376
Accounts payable, accrued liabilities and due to shareholder 227,174 147,748
Current maturities of long-term debt 23,086 30,042
Income taxes payable 7,450 -
----------------- --------------
Total current liabilities 263,935 178,166
LONG-TERM DEBT 500,662 683,282
OTHER LONG-TERM LIABILITIES 13,388 11,877
DUE TO SHAREHOLDER AND AFFILIATES
Deferred federal income taxes and other 59,004 60,883
DEFERRED STATE INCOME TAXES 5,344 10,955
MINORITY INTERESTS 1,043 2,314
SHAREHOLDER'S EQUITY:
Common stock, $1 par value, 1,000 shares authorized,
947 shares issued and outstanding 1 1
Additional paid-in capital 206,179 206,381
Retained earnings 103,841 75,390
----------------- --------------
Total shareholder's equity 310,021 281,772
----------------- --------------
$ 1,153,397 $ 1,229,249
================= ==============
</TABLE>
The accompanying notes are an integral part of these financial statements.
<PAGE> 5
EXTENDICARE HEALTH SERVICES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1998 AND 1997
(Dollars in thousands)
(Unaudited)
<TABLE>
<CAPTION>
Nine months ended
September 30
---------------------------
1998 1997
------------ --------
<S> <C> <C>
OPERATING ACTIVITIES:
Net earnings $ 28,451 $ 28,630
Adjustments to reconcile net earnings to net
cash provided from operating activities:
Depreciation and amortization 43,316 24,538
Provision for losses on accounts receivable 8,368 6,177
Gain on sale of pharmacy operation, net of tax of $72,880 (24,916) -
Deferred income taxes (8,686) 1,045
Minority interests 760 661
Extraordinary loss on early retirement of debt 1,660 -
------------ --------
48,953 61,051
Changes in assets and liabilities:
Accounts receivable (26,343) (23,972)
Inventories, supplies and prepaid expenses (3,410) (572)
Debt service trust funds 61 (286)
Bank indebtedness 5,849 (1,174)
Accounts payable and accrued liabilities 23,392 5,774
Income taxes payable 5,609 140
Minority interest - 20
Other long-term liabilities 1,705 2,200
------------ --------
Cash provided from operating activities 55,816 43,181
INVESTING ACTIVITIES:
Payment for acquisitions (8,026) (36,085)
Payments for purchases of property and
equipment (46,339) (41,311)
Proceeds from sale of property and equipment 7,071 3,182
Proceeds from sale of operation 232,781 -
Changes in other non-current assets (7,918) (3,275)
------------ --------
Cash provided from (used for) investing activities 177,569 (77,489)
FINANCING ACTIVITIES:
Proceeds from issuance of short-term borrowings - 12,913
Proceeds from issuance of long-term debt 40,180 30,276
Payments of long-term debt (232,703) (8,131)
Distribution of minority interest earnings (322) (80)
------------ --------
Cash (used for) provided from financing activities (192,845) 34,978
------------ --------
INCREASE IN CASH AND CASH EQUIVALENTS 40,540 670
CASH AND CASH EQUIVALENTS BEGINNING OF PERIOD 1,418 215
------------ --------
CASH AND CASH EQUIVALENTS END OF PERIOD $ 41,958 $ 885
============ ========
SUPPLEMENTAL CASH FLOW INFORMATION:
Cash paid for interest $ 38,775 $ 13,934
Cash paid for taxes $ 9,026 $ 15,323
</TABLE>
The accompanying notes are an integral part of these financial statements.
<PAGE> 6
NOTES TO FINANCIAL STATEMENTS
1- SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
ORGANIZATION
The accompanying financial statements reflect the operations of
Extendicare Health Services, Inc. ("Extendicare" or the "Company").
Extendicare, a Delaware corporation is a wholly owned subsidiary of Extendicare
Inc.
BASIS OF PRESENTATION
The accompanying financial statements include the accounts of the Company
and its majority-owned subsidiaries. All transactions between Extendicare and
its majority-owned subsidiaries have been eliminated.
The financial information presented as of any date other than December 31
has been prepared from the books and record without audit. The accompanying
consolidated financial statements have been prepared in accordance with the
instructions to Form 10-Q and do not include all of the information and the
footnotes required by generally accepted accounting principles for complete
statements. In the opinion of management, all adjustments, consisting only of
normal recurring adjustments, necessary for a fair presentation of such
financial statements, have been included.
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
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
These consolidated financial statements should be read in conjunction with
the consolidated financial statements and notes thereto for the year ended
December 31, 1997 contained in the Company's 1997 Annual Report.
2- RECENTLY ISSUED ACCOUNTING STANDARD
In June, 1998, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards (SFAS) No. 133 "Accounting for Derivative
Instruments and Hedging Activities". SFAS No. 133 is effective for all fiscal
quarters of fiscal years beginning after June 15, 1999. SFAS No. 133 requires
that an entity recognize all derivatives as either assets or liabilities in the
statement of financial position and measure those instruments at fair value.
SFAS No. 133 is not expected to significantly impact the Company's reporting
and disclosures.
<PAGE> 7
3- COMMITMENTS AND CONTINGENCIES
CAPITAL EXPENDITURES
The Company as of September 30, 1998 had capital expenditure purchase
commitments outstanding of approximately $9,985.
LITIGATION
The Company periodically is a defendant in actions brought against it in
connection with its operations. Management believes, on the basis of
information furnished by legal counsel, that none of these actions will have a
material effect on the financial position or results of operations of the
Company.
YEAR 2000
The Company has conducted a review of its computer systems and its third
party systems to identify those systems that could be affected by the "Year
2000" issue. The Year 2000 issue is the result of computer systems being
written using two digits rather than four to define the applicable year. Any
of the Company's programs or programs of third party providers that have
time-sensitive software may recognize a date using "00" as the year 1900 rather
than the year 2000. If not corrected, Year 2000 issues could result in a major
system failure or modifications and material costs to the Company. As a result
of the Company's review of its proprietary systems, the Company has implemented
a plan and begun the programming necessary to enable such systems to properly
recognize the year 2000 in such applications. The Company's results of its
reviews of third-party software has identified those systems with the Year 2000
issue. The Company has received assurances from such third-party software
providers that plans are in process to achieve compliance with year 2000
processing requirements or, as part of the continuing evaluation and
development of enhanced systems, will be converting certain of those systems to
systems which will be compliant with the year 2000 requirement. The Company
presently believes that, with modifications to existing software and converting
to new software, the Year 2000 issue will not pose significant operational
problems to the Company's computer systems as so modified and converted, nor
will compliance with the Year 2000 issue result in material cost to the
Company. However, if such modifications and conversions are not completed in a
timely manner, the Year 2000 issue may have a material adverse impact on the
operations of the Company.
INTEREST RATE SWAP AGREEMENT
The Company entered into five interest rate swap agreements (each $50,000
of principal) with three banks which effectively change the interest rates on
LIBOR based borrowings under the Credit Facility to fixed rates ranging from
5.53% to 5.84% plus applicable margins, for periods over three to seven years.
The Company may be exposed to credit loss in the event of non-performance by
the banks under the swap agreements but does not anticipate such
non-performance.
<PAGE> 8
4- SALE OF PHARMACY OPERATIONS & OTHER UNUSUAL ITEMS
On September 16, 1998, the Company sold its pharmacy operations to
Omnicare, Inc. for $250 million cash (with $38.2 million held in escrow),
125,000 common shares of Omnicare and warrants to purchase 1.5 million common
shares of Omnicare at $48.00 per share.
The cash held in escrow has been included within cash on the September 30,
1998 balance sheet.
The Company intends to apply the net after-tax proceeds of the sale to
debt reduction. As a result, the Company will ultimately lower its overall
debt by approximately $165 million. As of September 30, 1998, all non-escrowed
cash has been used to reduce debt.
In addition, the Company has also classified $3.3 million of severance
costs related to certain staff reductions as an unusual item on the nine month
ended September 30, 1998 income statement.
To illustrate the pro forma impact of the sale of the pharmacy operations
and subsequent reduction in debt, the Company has included the following pro
forma income statement for the nine months ended September 30, 1998.
5- EXTRAORDINARY ITEM
In connection with the debt reduction, related deferred financing costs of
$2.7 million, or $1.7 million after-tax, have been written off and classified
as an extraordinary item on the nine month ended September 30, 1998 income
statement.
<PAGE> 9
UNAUDITED PRO FORMA CONDENSED CONSOLIDATED STATEMENT OF
EARNINGS BEFORE EXTRAORDINARY ITEM
(Dollars in thousands)
<TABLE>
<CAPTION>
For the nine months ended September 30, 1998
---------------------------------------------
Historical
EHSI 1/1/98 to
As 9/16/98 Transaction Pro forma
Reported Pharmacy Adjustments Statement
-------- -------- ----------- ---------
<S> <C> <C> <C> <C>
REVENUES $873,456 $(76,786) $ - $ 796,670
COSTS AND EXPENSES
Operating 724,755 (57,908) - 666,847
General and administrative 34,786 (2,700) - 32,086
Lease costs 11,709 (1,112) - 10,597
Depreciation and amortization 41,186 (4,171) (638) 36,377
Interest expense 46,217 (3,840) (6,091) 36,286
Interest income (1,066) 109 - (957)
Gain on sale of pharmacy operations and
other unusual items (94,536) - - (94,536)
-------- -------- -------- ---------
Earnings before income taxes and
minority interests 110,405 (7,164) 6,729 109,970
PROVISION FOR INCOME TAXES 79,534 (3,706) 2,557 78,385
-------- -------- -------- ---------
Earnings before minority interests
and extraordinary item 30,871 (3,458) 4,172 31,585
MINORITY INTERESTS (760) -- - (760)
-------- -------- -------- ---------
Earnings before extraordinary item $ 30,111 $ (3,458) $ 4,172 $ 30,825
======== ======== ======== =========
</TABLE>
<PAGE> 10
ITEM 2: MANAGEMENT'S DISCUSSION AND ANALYSIS
The Company is one of the largest providers of long-term care and related
services in the United States. The Company operated 202 nursing (21,606
operational beds) and 42 assisted living and retirement facilities (1,707
units) at September 30, 1998. The Company's facilities are located in fifteen
states.
The Company's revenues are derived through the provision of health care
services in its network of facilities, including long-term care services such
as skilled nursing care, assisted living care and related support services and
medical specialty services such as subacute care and rehabilitative therapy,
pharmacy supplies and services and medical equipment, supplies and services.
The percentage of the Company's revenue derived from routine care and assisted
living care has declined from 66.7% in 1995 to 64.2% at September 30, 1998,
while the percentage of revenue derived from medical specialty services has
increased from 32.4% to 35.1%, respectively. The increase in the percentage of
revenue attributable to medical specialty services reflects the Company's focus
on expanding its provision of higher revenue specialized subacute care
services.
The Company receives payment for its services and products from Federal
(Medicare) and State (Medicaid) funded cost reimbursement programs, as well as
from private payors. The private pay classification includes payments from
individuals, commercial insurers, health maintenance organizations, and other
fee-based payment sources, including Blue Cross Associations and the Veterans
Administration. The following table sets forth the Company's private pay,
Medicare and Medicaid sources of revenue by percentage of total revenue:
<TABLE>
<CAPTION>
THREE MONTHS NINE MONTHS
ENDED ENDED
SEPTEMBER 30 SEPTEMBER 30
------------ ------------
1998 1997 1998 1997
---- ---- ---- ----
<S> <C> <C> <C> <C>
Private Pay 35% 33% 35% 33%
Medicare 27 29 28 31
Medicaid 38 38 37 36
</TABLE>
<PAGE> 11
Funds received by the Company under the Medicare and Medicaid programs are
subject to audit with respect to the application of various payment formulas
and such audits can result in retroactive adjustments to revenues. The Company
is reimbursed under the Medicare program for its direct costs plus an
allocation of indirect costs up to a regional limit. The costs of care for
Medicare patients receiving specialty medical services is often expected to
exceed the regional reimbursement limits. The Company in such cases files for
routine cost limit ("RCL") exceptions in an attempt to recover such additional
costs. There can be no assurance that the Company will be able to recover such
excess costs under pending or future exception requests. In addition, on-going
efforts by third-party payors to contain healthcare costs by limiting
reimbursement rates, increasing case management reviews and negotiating reduced
contract pricing could affect the Company's future revenues and profitability.
Most recently, the Balanced Budget Act requires the establishment of a
prospective payment system ("PPS") for Medicare residents in skilled nursing
facilities under which facilities will be paid a federal per diem rate for
virtually all covered nursing facility services in lieu of the current
cost-based reimbursement rate. This change will reward efficient providers and
penalize those that are inefficient. The law contains numerous other
provisions that will adversely affect payments to providers.
The following is a summary of acquisitions and expansion through
construction made by the Company during the nine months ended September 30,
1998 and the year ended December 31, 1997 as part of its growth strategy:
ACQUISITIONS
- The Company acquired two nursing facilities (174 operational
beds) for $8.2 million, including the assumption of $2.7 million
of debt and the assets of four medical specialty services related
businesses for $3.5 million during the first nine months of 1998.
The Company also added one nursing facility (76 beds) through an
operating lease in 1998.
- The Company, during 1997, acquired all of the outstanding
stock of Arbor Health Care Company ("Arbor"), a company engaged
in operating 31 nursing facilities (3,696 operational beds) for
$448.8 million, including the assumption of $109.7 million of
Arbor's debt. Seven of the Arbor facilities (802 operational
beds) are leased under long-term operating leases. The
acquisition of Arbor also included Arbor's institutional
pharmacies and outpatient rehabilitation businesses.
<PAGE> 12
- The Company also acquired in 1997 nine facilities (890
operational beds) at purchase prices totaling $41.7 million which
included two previously leased facilities. Five of the
facilities were acquired from Medi-Management for a purchase
price of approximately $24 million and the assumption of $9.2
million of debt. The Company also acquired the assets of seven
medical specialty services related businesses for a total of $9.3
million during the year.
CONSTRUCTION
- The Company completed construction of four new nursing
facilities (384 operational beds), four assisted living
facilities (205 units), and two therapy additions through the
first nine months of 1998.
- The Company completed construction of one new nursing facility
(74 operational beds), three nursing facility additions (79
operational beds), seven assisted living facilities (330 units),
two assisted living facility additions (18 units) and seven
therapy additions during 1997.
DIVESTITURES
- The Company sold its institutional pharmacy business for
$257.0 million which included stock of the buyer valued at $4.0
million and warrants to purchases buyer's common stock valued at
$3.0 million. The sale resulted in a pre-tax gain of $97.8
million.
The Company intends to apply the after-tax net proceeds of the
sale to debt reduction. As a result, the Company will lower its
debt by approximately $165 million. As of September 30, 1998 all
non-escrowed cash has been used to reduce debt.
In connection with the debt reduction, related deferred financing
costs of $2.7 million, or $1.7 million after-tax, have been
written off and classified as an extraordinary item.
The divestiture follows a late 1997 management decision that
the pharmacy operations were non-strategic assets. The continuing
consolidation of pharmaceutical service companies would have
required the Company to make a large investment in the pharmacy
business. With this transaction, the fair value of the Company's
pharmacy
<PAGE> 13
operations is realized and the Company achieves its goal of
sharply reducing its debt-to-equity ratio and significantly
lowering interest expense.
- The Company, during 1997 sold one nursing facility (179
operational beds) for $2.0 million. The price for the facility
approximated its net book value.
RESULTS OF OPERATIONS
The following table sets forth details of revenues and earnings as a
percentage of total revenues:
<TABLE>
<CAPTION>
THREE MONTHS NINE MONTHS
ENDED ENDED
SEPTEMBER 30 SEPTEMBER 30
----------------- -------------
1998 1997 1998 1997
------ ------- ------ ------
<S> <C> <C> <C> <C>
Revenues
Routine care and assisted living 66.5% 62.8% 64.2% 62.3%
Medical specialty services 32.8 36.2 35.1 36.6
Other 0.7 1.0 0.7 1.1
------ ------- ------ ------
100.0 100.0 100.0 100.0
Operating and general
and administrative costs 86.6 87.2 87.0 86.1
Lease costs and depreciation
and amortization 6.2 4.8 6.0 4.8
Interest, net 5.2 2.1 5.2 2.0
Gain on sale of operations and
other unusual items (32.6) - (10.8) -
Earnings before taxes 34.6 5.9 12.6 7.1
Income taxes 25.6 2.2 9.1 2.7
Earnings before extraordinary item 8.9 3.6 3.4 4.3
Extraordinary item (0.5) - (0.2) -
Net Earnings 8.4 3.6 3.2 4.3
</TABLE>
THREE MONTHS ENDED SEPTEMBER 30, 1998 COMPARED WITH THREE MONTHS ENDED
SEPTEMBER 30, 1997
Revenues in the three months ended September 30, 1998 were $289.9 million,
representing an increase of $64.7 million (28.7%) from $225.2 million in the
three months ended September 30, 1997. The majority of the Company's revenue
was derived from routine skilled nursing facility revenues (64.4%). The
increase in revenues of $64.7 million included increases in routine care and
assisted living revenues of
<PAGE> 14
$51.4 million, medical specialty services revenues of $13.6 million, partially
offset by a decrease in other revenues of $0.3 million.
The increase in routine care and assisted living facility revenues of
$51.4 million included $46.4 million from the opening of newly constructed
facilities, the acquisition of two facilities effective September 1, 1997,
Arbor's thirty-one facilities effective November 26, 1997, one facility
effective January 31, 1998, one facility effective April 1, 1998, and the lease
of a facility effective April, 1998, partially offset by a divestiture.
Revenues from facilities which the Company operated during each of 1998 and
1997 ("same facilities") increased $5.0 million when comparing periods. Same
facility revenues increased between periods due to rate increases, partially
offset by lower occupancy and a $0.7 million decline in adjustments related to
prior years' estimated settlement amounts. Same facility occupancy, defined as
patient days for nursing facilities and units occupied for assisted living
facilities, declined 0.6%. Average percentage occupancy for same facilities,
based on beds/ units in operation, was 88.1% in the third quarter of 1998
compared with 88.4% in the comparable period of 1997.
The increase in medical specialty services revenues of $13.6 million
(16.7%) included $22.0 million from acquisitions during 1997 and 1998, net of
divestitures. The remaining decrease of $8.4 million is due to a number of
factors. Restorative therapy revenues decreased approximately $1.5 million due
to 3.5% decline in Medicare occupancy, $0.2 million due to a 10% decline in
Medicare Part B rates, and $7.7 million primarily due to conversion to salary
equivalency. Reduction in oxygen rates by 25% resulted in a decrease in medical
specialty services revenues of $0.4 million. Other medical specialty services
revenues increased $1.4 million between periods,
OPERATING AND GENERAL AND ADMINISTRATIVE COSTS
Operating and general and administrative costs increased $54.6 million or
27.8% between periods. The increase included increases in costs relating to
acquisitions and new constructed facilities, net of divestitures, of
approximately $58.7 million in 1998. The remaining decrease in operating and
general and administrative costs of $4.1 million (2.3%) included an increase in
wage-related costs of $9.5 million. The increase in wage-related costs include
an increase of $10.7 million to attract and retain qualified personnel offset
by a decrease in workmen's compensation costs of $1.2 million due to favorable
actuarial adjustments for prior years. The remaining decrease, excluding
wage-related costs, was decreased medical specialty services costs of $15.0
million, principally from decreased therapy activity and conversion to salary
equivalency and a $1.4 million increase related to other routine care and
general and administrative costs.
LEASE COSTS AND DEPRECIATION AND AMORTIZATION
<PAGE> 15
Total lease costs and depreciation and amortization increased $7.3 million
(68.3%) to $18.0 million in the three months ended September 30, 1998 compared
with the three months ended September 30, 1997. The increase includes $6.2
million as a result of the Arbor acquisition. The remaining increase is
principally due to the overall increase in the number of facilities operated by
the Company and the construction of additions to the Company's facilities.
GAIN ON SALE OF OPERATIONS AND OTHER UNUSUAL ITEMS
The Company sold its pharmacy operations on September 16, 1998 for $257.0
million resulting in a gain on sale of $97.8 million before taxes. In
addition, the Company recorded $3.3 million in severance costs related to
certain staff reductions.
INTEREST
Net interest expense increased $10.3 million to $15.0 million in the three
months ended September 30, 1998 compared with $4.8 million in the comparable
period in 1997. The increase is due to the effect of an increase in the
average debt level to $659.5 million during the third quarter of 1998 from
$271.0 million during the third quarter of 1997 resulting from the Company's
acquisitions and capital expenditures and an increase in the weighted average
interest rate of all long-term debt to approximately 9.20% during the third
quarter of 1998 compared to approximately 7.64% during the third quarter of
1997.
START-UP LOSSES
The Company has absorbed pre-tax start-up losses associated with newly
constructed facilities in the third quarter of 1998 of $2.4 million compared to
$0.8 million in the third quarter of 1997. The $1.6 million increase when
comparing periods was due to the timing of facility openings in 1998 versus
1997.
INCOME TAXES
Income taxes in the three months ended September 30, 1998 increased to
$74.3 million from $4.9 million in the comparable period in 1997 as a result of
the sale of the pharmacy operations. The Company's effective tax rates were
74.0% in the three months ended September 30, 1998 and 36.7% in the three
months ended September 30, 1997. The increase in the Company's effective tax
rate between periods was primarily due non-deductible goodwill written-off in
conjunction with the sale of the pharmacy operations.
EXTRAORDINARY ITEM
The extraordinary loss in the 1998 third quarter of $1.7 million relates
to the write off of deferred
<PAGE> 16
financing costs in connection with the debt reduction upon the sale of the
pharmacy operations.
NET EARNINGS
Net earnings in the three months ended September 30, 1998 were $24.2
million. Net earnings prior to the gain on sale of operations and other
unusual items, and the extraordinary item were $3.0 million for the three
months ended September 30, 1998, a decrease of $5.2 million over net earnings
of $8.2 million in the comparable period in 1997.
NINE MONTHS ENDED SEPTEMBER 30, 1998 COMPARED WITH NINE MONTHS ENDED SEPTEMBER
30, 1997
Revenues in the nine months ended September 30, 1998 were $873.5 million,
representing an increase of $210.1 million (31.7%) from $663.4 million in the
nine months ended September 30, 1997. The majority of the Company's revenue
was derived from routine skilled nursing facility revenues (62.3%). The
increase in revenues of $210.1 million included increases in routine care and
assisted living revenues of $147.3 million and medical specialty services
revenues of $63.6 million partially offset by a decrease in other revenues of
$0.8 million.
The increase in routine care and assisted living facility revenues of
$147.3 million included $141.6 million from the opening of newly constructed
facilities, the acquisition of facilities in 1997 and 1998, partially offset by
a divestiture. Revenues from facilities increased $5.7 million when comparing
periods. Same facility revenues increased between periods due to rate
increases, partially offset by lower occupancy and a $6.2 million decline in
adjustments related to prior years' estimated settlement amounts. Same facility
occupancy, defined as patient days for nursing facilities and units occupied
for assisted living facilities, declined 1.3%. Average percentage occupancy for
same facilities, based on beds/units in operation, was 87.7% in the first nine
months of 1998 compared with 88.3% in the comparable period of 1997.
The increase in medical specialty services revenues of $63.6 million
(26.2%) included $82.2 million from acquisitions during 1997 and 1998, net of
divestitures. The remaining decrease of $18.6 million is due to a number of
factors. Restoration therapy revenue decreased approximately $9.8 million due
to a 7.5% decline in Medicare occupancy, $2.0 million due to a 10% decline in
Medicare Part B rates, and approximately $9.0 million primarily due to
conversion to salary equivalency. Reduction in oxygen rates by 25% resulted in
a decrease in medical specialty revenues of $1.3 million. These decreases were
partially offset by a $3.5 million increase in Home Health revenues due to
volume and price increases.
<PAGE> 17
OPERATING AND GENERAL AND ADMINISTRATIVE COSTS
Operating and general and administrative costs increased $188.7 million or
33.1% between periods. The increase included increases in costs relating to
acquisitions and newly constructed facilities, net of divestitures, of
approximately $195.0 million in 1998. The remaining decrease in operating and
general and administrative costs of $6.3 million (1.2%) included decreased
medical specialty costs of $31.6 million, principally due to decreased therapy
activity and the conversion to salary equivalency, partially offset by an
increase in wage-related costs of $24.9 million. The increase in wage-related
costs included an increase of $25.9 million to attract and retain qualified
personnel, partially offset by a decrease in workmen's compensation costs of
$1.0 million due to favorable actuarial adjustments for prior years. Other
routine care and general and administrative costs increased $0.4 million.
LEASE COSTS AND DEPRECIATION AND AMORTIZATION
Total lease costs and depreciation and amortization increased $21.2
million (67.0%) to $52.9 million in the nine months ended September 30, 1998
compared with the nine months ended September 30, 1997. The increase includes
$17.8 million as a result of the Arbor acquisition. The remaining increase is
principally due to the overall increase in the number of facilities operated by
the Company and the construction of additions to the Company's facilities.
GAIN ON SALE OF OPERATIONS AND OTHER UNUSUAL ITEMS
The Company sold its pharmacy operations on September 16, 1998 for $257.0
million resulting in a gain on sale of $97.8 million before taxes. In
addition, the Company recorded $3.3 million in severance costs related to
certain staff reductions.
INTEREST
Net interest expense increased $31.5 million to $45.1 million in the nine
months ended September 30, 1998 compared with $13.6 million in the comparable
period in 1997. The increase is due to the effect of an increase in the
average debt level to $699.4 million during the first nine months of 1998 from
$253.4 million during the first nine months of 1997 resulting from the
Company's acquisitions and capital expenditures and an increase in the weighted
average interest rate of all long-term debt to approximately 8.81% in the first
nine months of 1998 compared to approximately 7.78% in the first nine months of
1997.
START-UP LOSSES
The Company has absorbed pre-tax start-up losses associated with newly
constructed facilities in the of first nine months of 1998 of $5.7 million
compared to $1.8 million in the first nine months of 1997.
<PAGE> 18
The $3.9 million increase when comparing periods was due to the timing of
facility openings in 1998 versus 1997.
INCOME TAXES
Income taxes in the nine months ended September 30, 1998 increased to
$79.5 million from $18.0 million in the comparable period in 1997 as a result
of the sale of the pharmacy operations, the tax for which totaled $72.9
million. The Company's effective tax rates were 72.0% in the first nine months
of 1998 and 38.0% in the first nine months of 1997. The increase in the
Company's effective tax rate between periods was primarily due to
non-deductible goodwill associated with the sale of the pharmacy operations and
amortization expense resulting from the Arbor acquisition.
EXTRAORDINARY ITEM
The extraordinary loss in the nine months ended September 30, 1998 of $1.7
million relates to the write off of deferred financing costs in connection with
the debt reduction upon the sale of the pharmacy operations.
NET EARNINGS
Net earnings in the nine months ended September 30, 1998 were $28.5
million. Net earnings prior to the gain on sale of operations and other
unusual items, and the extraordinary item were $7.2 million for the first nine
months of 1998, a decrease of $21.4 million over net earnings of $28.6 million
in the comparable period in 1997.
LIQUIDITY AND CAPITAL RESOURCES OF THE COMPANY
The Company's acquisition of Arbor in November 1997 resulted in a
substantial increase in its indebtedness and interest expense. The Company
arranged for new credit facilities totaling $800 million to finance the
acquisition and to refinance existing indebtedness of both Arbor and the
Company. The new credit facilities consisted of a $200 million Revolving
Credit Facility, a $200 million Tranche A Term Loan Facility, a $200 million
Tranche B Term Loan Facility and a $200 million Tranche C Loan Facility. The
Revolving Credit Facility and the Tranche A Term Loan Facility have a term of
six years. The Tranche B Term Loan Facility has a term of seven years. The
Tranche C Loan Facility was utilized to complete the acquisition of Arbor and
was repaid upon the subsequent completion of an offering of 9.35% Senior
Subordinated Notes. Extendicare, Inc. (The Company's parent) at the time of
closing the acquisition, contributed an additional $44.6 million of equity to
the Company.
The Company had cash and cash equivalents of $42.0 million at September
30, 1998 and $1.4
<PAGE> 19
million at December 31, 1997. Included in cash was $38.2 million of proceeds
held in escrow in connection with the sale of the pharmacy operations.
Cash flow generated from operations before working capital changes was
$49.0 million for the nine months ended September 30, 1998 compared with $61.1
million in the comparable period of 1997. The decrease in cash flow from
operations before working capital changes was the result of decreased operating
earnings.
The Company experienced a decrease in working capital since December 31,
1997, excluding cash and borrowings included in current liabilities, of $115.2
million. The reduction in working capital resulted from a $7.7 million
increase in accounts payable and accrued liabilities, including $3.3 million in
severance costs related to certain staff reductions, and an increase in taxes
payable of $78.2 million. The tax provision included $72.9 million as a result
of the sale of the pharmacy operation. Proceeds from the sale of the pharmacy
operation which were held in escrow but due to Extendicare Inc. resulted in an
increase in liabilities of $12.0 million. Accounts receivable at September 30,
1998, were $215.2 million compared with $225.1 million at December 31, 1997,
representing a decrease of $9.9 million. The reduction in accounts receivable
included an increase within the nursing facility operations of $2.6 million, a
decline within the Company's UPC Health Network medical specialty services
operations of $10.1 million and a decline in prior policy year workers'
compensation receivables of $2.4 million due to collections. Billed patient
care and other receivables increased $24.0 million while third-party payor
settlement receivables decreased $21.4 million within the nursing facility
operations. The growth in billed patient care receivables of $24.0 million
included a decrease of $0.4 million due to a decline in revenues for medical
specialty services due to reduced volume and changes in the Federal
reimbursement policies, partially offset by increases in other billed services
due to rate increases and growth resulting from acquisitions and new
construction during the period. The remaining increase in billed patient care
receivables of $24.4 million was due to the timing of the receipt of
remittances between periods and increased Federally mandated medical reviews.
The decline in settlement receivables of $21.4 million between periods included
$20.9 million due to higher levels of interim reimbursements received for 1997
versus current year estimated Medicare cost accruals and $4.5 million from the
collection of Medicaid program settlements, partially offset by an increase of
$4.0 million due to an increase in Medicare RCL exception approvals expected.
The decrease in UPC Health Network receivables of $10.1 million between periods
included $16.7 million as a result of the sale of the pharmacy operation
partially offset by $4.5 million due to growth, billing delays and the timing
of the receipt of remittances and $2.1 million due to delays as a result of the
conversion to a new billing system.
Property and equipment decreased $0.6 million from December 31, 1997 to a
total of $687.5 million at September 30, 1998. The reduction was the result of
acquisitions of $8.5 million and capital
<PAGE> 20
expenditures and asset transfers of $46.1 million, offset by depreciation
expense of $34.4 million and asset disposals of $20.8 million. Property and
equipment capital expenditures during the nine months ended September 30, 1998
included approximately $24.0 million related to the construction of new
facilities and bed and therapy unit additions to existing facilities. The
Company had under construction at September 30, 1998 two nursing facilities,
and three assisted living facilities at a total cost of $21.4 million, of which
$11.5 million was incurred prior to September 30, 1998.
The Company financed a portion of its acquisitions in the first nine
months of 1998 through its bank credit financing and the issuance of a $1.0
million promissory note as well as the assumption of existing debt in
connection with acquisitions. Existing debt assumed in connection with
acquisitions totaled $2.7 million.
Total borrowings, including bank indebtedness, notes payable and both
current and long-term maturities of debt, totaled $530.0 million at September
30, 1998 for a decrease of $183.7 million from December 31, 1997. The decrease
was attributable to the use of proceeds from the sale of the pharmacy
operations to pay-down debt, partially offset by increases as a result of the
growth in property and equipment due to acquisitions and capital expenditures.
The weighted average interest rate of all long-term debt was 8.12% at September
30, 1998 and such debt had maturities ranging from 1998 to 2015.
The Company had a $200 million revolving credit agreement at September 30,
1998. Borrowing availability under this line of credit totaled $151.7 million
at September 30, 1998.
The principal source of liquidity for the Company is cash flow from
operations and approximately $151.7 million (net of letters of credit in the
amount of $35.3 million) in additional borrowing availability under the
Revolving Credit Facility. The Company contemplates incurring capital
expenditures (excluding any acquisitions) of approximately $15.0 million for
the last three months of 1998. Plans are to complete and open three assisted
living facilities (138 units), and two nursing facilities (240 beds), during
the last three months of 1998, or early 1999. The Company believes that
internally generated cash flow, together with borrowings under the Revolving
Credit Facility, will be sufficient to meet the Company's current operational
cash requirements to fund its capital expenditure program and to meets current
debt obligations.
RECENT DEVELOPMENTS
On November 1, 1998 the Company completed the acquisition of three skilled
nursing facilities (282 operational beds) and one assisted living facility for a
total purchase price of $12.3 million.
<PAGE> 21
FORWARD LOOKING STATEMENTS
This Quarterly Report on Form 10-Q, and other information provided by the
Company from time to time, contains certain "forward-looking" statements as
that term is defined by the Private Securities Litigation Reform Act of 1995.
All statements regarding the Company's expected future financial position,
results of operations, cash flows, continued performance improvements, ability
to service its debt obligations, finance growth opportunities, respond to
changes in government regulations, and similar statements including, without
limitation, those containing words such as "believes," "anticipates,"
"expects," "intends," "estimates," "plans," and other similar expressions are
forward-looking statements. Forward-looking statements involve known and
unknown risks and uncertainties that may cause the Company's actual results in
future periods to differ materially from those projected or contemplated in the
forward-looking statements as a result of, but not limited to, the following
factors: national and local economic conditions; the effect of government
regulation and changes in regulations governing the healthcare industry,
including the Company's compliance with such regulations; changes in Medicare
and Medicaid payment levels; liabilities and other claims asserted against the
Company; the ability to attract and retain qualified personnel; the
availability and terms of capital to fund acquisitions; the competitive
environment in which the Company operates; demographic changes; the ability to
timely locate and correct all relevant computer codes prior the year 2000; and
the availability and cost of labor and materials. Given these risks and
uncertainties, the Company can give no assurances that these forward-looking
statements will, in fact, transpire and , therefore, cautions investors not to
place undue reliance on them.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Not applicable.
<PAGE> 22
PART II
OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
There are no material pending legal proceedings other than litigation
arising in the ordinary course of business. Management believes,
on the basis of information furnished by legal counsel, that none of
these actions will have a material effect on the financial position or
results of operations of the Company.
ITEM 2. CHANGE IN SECURITIES
None
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None
ITEM 5. OTHER INFORMATION
None
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) List of Exhibits:
11.0 Computation of earnings per share for the three months and
nine months ended September 30, 1998
27.0 Financial Data Schedule
(b) Reports on Form 8-K
A report on Form 8-K dated September 16, 1998 was filed by the Company
stating that the Company sold its institutional pharmacy business to
Omnicare, Inc. for a total sales price of $250 million in cash (with
$38,203 held in escrow) together with (i) 125,000 common shares of
Omnicare, Inc. and (ii) Warrants to purchase 1,500,000 common shares of
Omnicare, Inc. at an exercise price of $48.00 per share. The Company
projected a net gain on the sale of the pharmacy operations of $31,883
using 6/30/98 balance sheet information at that time.
<PAGE> 23
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
EXTENDICARE HEALTH SERVICES, INC.
Date: November 14, 1998 By: /s/ Wesley Carter
-------------------
J. Wesley Carter
President, Chief Executive Officer and
Director (principal executive officer)
Date: November 14, 1998 By: /s/ Stephen F. Dineley
------------------------
Stephen F. Dineley
Vice President, Chief Financial Officer,
Treasurer and Director (principal
financial officer and principal
accounting officer)
<PAGE> 24
EXTENDICARE HEALTH SERVICES, INC.
EXHIBIT INDEX
<TABLE>
<CAPTION>
Exhibit No. Description
- ---------- -----------
<S> <C>
11 Computation of earnings per share for the three months and nine
months ended September 30, 1998
27 Financial Data Schedule
</TABLE>
<PAGE> 1
EXHIBIT 11
EXTENDICARE HEALTH SERVICES, INC.
COMPUTATION OF EARNINGS PER COMMON SHARE
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
Three Months ended Nine Months ended
September 30 September 30
1998 1997 1998 1997
-------- ------- -------- --------
<S> <C> <C> <C> <C>
Net Earnings $ 24,243 $ 8,154 $ 28,451 $ 28,630
Weighted Average Number of
Common Shares Outstanding 947 947 947 947
-------- ------- -------- --------
Net earnings per Common Share $ 26 $ 8 $ 30 $ 30
======== ======= ======== ========
</TABLE>
The Company does not have a complex capital structure and therefore, only has
basic earnings per share.
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
CONSOLIDATED FINANCIAL STATEMENTS OF EXTENDICARE HEALTH SERVICES, INC. FOR THE
NINE MONTHS ENDED SEPTEMBER 30, 1998 AND IS QUALIFIED IN ITS ENTIRETY BY
REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-END> SEP-30-1998
<CASH> 41,958
<SECURITIES> 0
<RECEIVABLES> 234,432
<ALLOWANCES> 19,214
<INVENTORY> 2,754
<CURRENT-ASSETS> 285,578
<PP&E> 890,403
<DEPRECIATION> 202,867
<TOTAL-ASSETS> 1,153,397
<CURRENT-LIABILITIES> 263,935
<BONDS> 500,662
0
0
<COMMON> 1
<OTHER-SE> 310,020
<TOTAL-LIABILITY-AND-EQUITY> 1,153,397
<SALES> 0
<TOTAL-REVENUES> 873,456
<CGS> 0
<TOTAL-COSTS> 724,755
<OTHER-EXPENSES> 87,681
<LOSS-PROVISION> 7,972
<INTEREST-EXPENSE> 45,151
<INCOME-PRETAX> 110,405
<INCOME-TAX> 79,534
<INCOME-CONTINUING> 30,111
<DISCONTINUED> 0
<EXTRAORDINARY> (1,660)
<CHANGES> 0
<NET-INCOME> 28,451
<EPS-PRIMARY> 30
<EPS-DILUTED> 30
</TABLE>
