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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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FORM 8-K
Current Report Pursuant
to Section 13 or 15(d) of the
Securities Exchange Act of 1934
March 19, 1998
SIERRA HEALTH SERVICES, INC.
(Exact Name of Registrant as Specified in Its Charter)
Nevada 1-8865 88-0200415
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(State or Other Jurisdiction (Commission File Number) (IRS Employer
of Incorporation) Identification No.)
2724 North Tenaya Way
Las Vegas, Nevada 89128
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(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (702) 242-7000
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Item 5. Other Events
The following discussion contains certain cautionary statements regarding Sierra
Health Services, Inc.'s ("Sierra" or the "Company") business and results of
operations, which should be considered by the Company's stockholders. This
discussion is intended to take advantage of the "safe harbor" provisions of the
Private Securities Litigation Reform Act of 1995. The following factors should
be considered in conjunction with any discussion of operations or results by the
Company, or its representatives, including any forward-looking discussion, as
well as comments contained in press releases, presentations to securities
analysts or investors, and all other communications by the Company or its
representatives.
In making these statements, the Company is not undertaking to address or update
each factor in future filings or communications regarding the Company's business
or results, and is not undertaking to address how any of these factors may have
caused changes to discussions or information contained in previous filings or
communications. In addition, any of the matters discussed below may have
affected the Company's past results and may affect future results, so that the
Company's actual results may differ materially from those expressed herein and
in prior or subsequent communications.
Risks Relating to Merger Termination. On March 18, 1997, the Company announced
it had terminated its merger agreement with Physician Corporation of America
("PCA"). The original agreement had been entered into in November 1996. On March
18, 1997, prior to termination of the merger agreement, PCA filed a lawsuit
against the Company in the United States District Court for the Southern
District of Florida (the "District Court"), seeking, among other things,
specific performance of the merger agreement and monetary damages. The lawsuit
has been dismissed for failure to join a necessary party. The Company has
initiated a lawsuit in the Court of Chancery of the State of Delaware seeking a
declaratory judgment as well as other remedies. The Company intends to
vigorously pursue all remedies available to it. There can be no assurance that
the Company will prevail in such litigation.
Risks Associated with Government Contracts. In June 1996, the Department of
Defense awarded a triple- option health benefits ("TRICARE") managed care
support contract to TriWest Healthcare Alliance ("TriWest"), a consortium
consisting of Sierra and 13 other health care companies, to provide health
services to Regions 7 and 8, which includes a total of 16 states. In April 1997,
TriWest began providing health care to approximately 700,000 individuals, of
which Sierra is responsible for providing care to approximately 93,000
beneficiaries in Nevada and Missouri. During the third quarter of 1997, Sierra
Military Health Services, Inc. ("SMHS"), a wholly owned subsidiary of the
Company, was notified it had been awarded a multi-year TRICARE managed care
support contract by the Department of Defense to serve TRICARE eligible
beneficiaries in Region 1. This region includes more than 600,000 TRICARE
beneficiaries in 13 northeastern states and the District of Columbia. SMHS is
currently in the implementation period of the contract with actual health care
delivery to commence on June 1, 1998. SMHS subcontracts for health care
delivery, including some of the risk, for parts of the TRICARE contract. The
Company believes the TRICARE contract will add approximately $240 million of
annualized revenues when health care delivery begins in 1998. TRICARE contracts
are generally issued at low profit margins. There can be no assurance that
health care expenses or administrative expenses will not exceed contractual
levels, which could have a material adverse effect on the Company's results of
operations and financial condition.
SMHS was notified on February 13, 1998 that the United States General Accounting
Office ("GAO") sustained a competitor's protest of the contract award for
TRICARE managed care support for Region 1 and recommended that the contract be
re-bid. The TRICARE Management Activity ("TMA"), along with the Company, has
filed a motion requesting that the GAO reconsider its recommendation. If the GAO
does not change its recommendation and the TMA follows the recommendation, there
are several possible outcomes, including litigation.
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Potential Adverse Impact of Government Regulation. The health care industry in
general, health maintenance organizations ("HMOs") and health insurance
companies in particular, are subject to substantial federal and state government
regulation, including, but not limited to, regulation relating to cash reserves,
minimum net worth, licensing requirements, approval of policy language and
benefits, mandatory products and benefits, provider compensation arrangements,
premium rates and periodic examinations by state and federal agencies. For the
year ended 1997, the Company derived approximately 24% of its total revenues
from its contract with the Health Care Financing Administration ("HCFA"). As a
result, a portion of the Company's HMOs' and insurance companies' cash is
essentially restricted by various state regulatory or other requirements
limiting certain of the Company's subsidiaries' cash to use within their current
operations as a result of minimum capital requirements. State and federal
government authorities are continually considering changes to laws and
regulations applicable to the Company. Many states in which the Company operates
are currently considering regulation relating to mandatory benefits, provider
compensation, disclosure and composition of physician networks. The Company
conducts operations, and is subject to state regulation, in the following
jurisdictions: Alabama, Arizona, Arkansas, California, Colorado, Delaware,
District of Columbia, Florida, Georgia, Idaho, Illinois, Iowa, Kansas, Kentucky,
Louisiana, Maine, Maryland, Mississippi, Missouri, Montana, Nebraska, Nevada,
New Mexico, New York, North Carolina, North Dakota, Oklahoma, Oregon, South
Carolina, South Dakota, Tennessee, Texas, Utah, Virginia, Washington, Wisconsin
and Wyoming.
In addition to applicable laws and regulations, the Company is subject to
various audits, investigations and enforcement actions. These include possible
government actions relating to the federal Employee Retirement Income Security
Act, which regulates insured and self-insured health coverage plans offered by
employers, the Federal Employees Health Benefit Plan, federal and state fraud
and abuse laws, and laws relating to utilization management and the delivery of
health care and payment or reimbursement therefore. Any such government action
could result in assessment of damages, civil or criminal fines or penalties, or
other sanctions, including exclusion from participation in government programs.
In addition, disclosure of any adverse investigation or audit results or
sanctions could negatively affect the Company's reputation in various markets
and make it more difficult for the Company to sell its products and services.
Risk of Adverse Effect of Health Care Reform. As a result of the continued
escalation of health care costs and the inability of many individuals to obtain
health care insurance, numerous proposals relating to health care reform have
been or may be introduced in the United States Congress and state legislatures.
Any proposals affecting underwriting practices, limiting rate increases,
requiring new or additional benefits or affecting contracting arrangements
(including proposals to require HMOs and preferred provider organizations
("PPOs") to accept any health care providers willing to abide by an HMO's or
PPO's contract terms) may make it more difficult for the Company to control
medical costs and could have a material adverse effect on the Company's
business.
Potential Inability to Manage or Predict Future Health Care Costs. Much of the
Company's medical premium revenue is determined in advance of the actual
delivery of services and incurrence of the related costs. The Company's
profitability will continue to be dependent, in large part, on its ability to
predict and maintain effective management over health care costs through, among
other things, appropriate benefit design, utilization review and case management
programs and its contracting arrangements with providers while providing members
with quality health care. Factors such as utilization, new technologies and
health care practices, hospital costs, inflation, epidemics, new mandated
benefits or other regulations, inability to establish acceptable contracting
arrangements with providers and numerous other factors may affect its ability to
manage such costs. There can be no assurance that the Company will be successful
in predicting or mitigating the effect of any or all of the above-listed or
other factors.
Medical costs payable reflected in the Company's financial statements include
reserves for incurred but not reported claims ("IBNR") which are estimated by
the Company. The Company estimates the amount of such reserves using standard
actuarial methodologies based upon historical data including the average
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interval between the date services are rendered and the date claims are paid,
expected medical cost inflation and utilization, seasonality patterns and
fluctuations in membership. The Company believes that its reserves for IBNR have
been fairly estimated. However, the Company's growth, changes in utilization
costs and change in claims payment patterns affect its ability to rely on
historical information in making IBNR reserve estimates. There can be no
assurance as to the ultimate accuracy or completeness of such estimates or that
adjustments to reserves will not cause volatility in the Company's results of
operations.
Possible Volatility of Common Stock Price. Recently, there has been significant
volatility in the market prices of securities of companies in the health care
industry, including the prices of the Sierra Common Stock. Many factors,
including medical cost increases, research analysts' comments, announcements of
new legislative and regulatory proposals or laws relating to health care reform,
the performance of, and investor expectations for, the Company, the trading
volume of the Sierra Common Stock, litigation, and general economic and market
conditions, will influence the trading price of such shares of Sierra Common
Stock. Accordingly, there can be no assurance as to the price at which Sierra's
Common Stock will trade in the future.
No Dividends. The Company has not paid or declared any cash dividends on its
Common Stock since inception and the Company anticipates that future earnings
will be retained to finance the continuing development of its business for the
foreseeable future.
Lack of Control Over Premium Structure; Lack of Control Over and
Unpredictability of Medical Costs. A substantial amount of the Company's
revenues are generated by premiums, including capitation payments from HCFA,
which represent fixed monthly payments for each person enrolled in the Company's
plans. If the Company is unable to obtain adequate premiums because of
competitive or regulatory considerations, the Company could incur decreased
margins or significant losses. Because a significant portion of the Company's
premium revenues are paid by the federal government in connection with the
Medicare program, to the extent Medicare premium rates do not keep pace with
rising medical costs, the Company's profitability could be materially adversely
affected. Historically, these rates have been subject to wide variations from
year to year and have decreased in two of the past eight years. The Company's
Medicare programs are subject to certain risks relative to commercial programs,
such as higher comparative medical costs and higher levels of utilization. While
the Company attempts to base commercial premiums at least in part on estimates
of future health costs, many factors may cause actual health care costs to
exceed those cost estimates reflected in premiums charged.
Dependence on Key Enrollment Contracts. For the year ended December 31, 1997,
the Company received approximately 24% of its total revenues from its contract
with HCFA to provide health care services to Medicare enrollees. The Company's
contract with HCFA is subject to annual renewal at the election of HCFA and
requires the Company to comply with federal HMO and Medicare laws and
regulations and may be terminated if the Company fails to so comply. The
termination of the Company's contract with HCFA would have a material adverse
effect on the Company's business. In addition, there have been, and the Company
expects that there will continue to be, a number of legislative proposals to
limit Medicare reimbursements. Future levels of funding of the Medicare program
by the federal government cannot be predicted with certainty. In addition, the
Company has contracts to provide medical services to federal employees. The
rates charged for such services are subject to annual reviews and retroactive
adjustments. The Company's ability to obtain and maintain favorable group
benefit agreements with employer groups also affects the Company's
profitability. The agreements are generally renewable on an annual basis but are
subject to termination on 60 days' prior notice. Although no employer group
accounts for more than 2% of total revenues, the loss of one or more of the
larger employer groups could have a material adverse effect upon the Company's
business.
Potential Adverse Impact of Social Health Maintenance Organization.
Effective November 1, 1996, Health Plan of Nevada, Inc. ("HPN") entered into a
multi-year Social HMO contract pursuant to which a large
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portion of the Company's Medicare risk enrollees will receive certain expanded
benefits. HPN receives additional revenues for providing these expanded
benefits. The additional revenues are determined based on health risk
assessments that have been, and will continue to be, performed on the Company's
eligible Medicare risk members. The additional benefits include, among other
things, assisting the eligible Medicare risk members with typical daily living
functions such as bathing, dressing and walking. These members, as identified in
the health risk assessments, are ones who currently have difficulty performing
such daily living functions because of a health or physical problem. The
additional reimbursement will be subject to adjustment based on the number of
beneficiaries who need assistance with the social problems noted above and their
individual health risk assessments. The ultimate payment received from HCFA will
be based on these and other factors. At this time however, there can be no
assurance as to what the final per member reimbursement will be.
Potential Adverse Impact of Competition. Managed care companies and HMOs operate
in a highly competitive environment. The Company has numerous types of
competitors, including, among others, other HMOs, PPOs, self-insured employer
plans and traditional indemnity carriers, many of which have substantially
larger total enrollments, have greater financial resources and offer a broader
range of products than the Company. The Company has encountered the effects of
increased competition in the Las Vegas market. Additional competitors with needs
or desires for immediate market share or with greater financial resources than
the Company have entered the Company's market. Certain competitive pressures
have limited the Company's ability to increase or in some instances maintain the
premiums charged to certain employer groups. The inability of the Company to
manage costs effectively may have an adverse impact on the Company's future
results of operations by reducing profitability margins. In addition,
competitive pressures may also result in reduced membership levels or decreasing
profit margins and there can be no assurance that the Company will not incur
increased pricing and enrollment pressure from local and national competitors.
Geographic Concentration; Potential Adverse Impact of Current Expansion Program;
Limited Success of Previous Expansion Program. The Company's HMO operations are
currently concentrated in southern Nevada. Any adverse economic, regulatory or
other developments that may occur in southern Nevada may negatively impact the
Company's operations and financial condition. In the past, the Company also
attempted to expand its operations outside of southern Nevada. These activities
met with limited success and, in some cases, resulted in the Company incurring
significant losses. Although the Company believes that it is now more
experienced, there can be no assurance that the Company will be able to recover
its initial investments or expand into other regions successfully and without
incurring losses.
Potential Loss of Nevada Home Office Tax Credit. Under existing Nevada law, a
50% premium tax credit is generally available to HMOs and insurers that own and
substantially occupy home offices or regional home offices within Nevada. In
connection with the settlement of a prior dispute concerning the premium tax
credit, the Nevada Department of Insurance acknowledged in November 1993 that
the Company's HMO and insurance subsidiaries meet the statutory requirements to
qualify for this tax credit. The Company intends to take all necessary steps to
continue to comply with these requirements. The elimination or reduction of the
premium tax credit, or any failure by the Company to qualify for the premium tax
credit, would have a material adverse effect on the Company's results of
operations.
Dependence Upon Health Care Providers. The Company's profitability is dependent,
in large part, upon its ability to contract favorably with hospitals, physicians
and other health care providers. The Company's contracts with its primary
providers are generally renewable annually, but certain contracts may be
terminated on 90 days' prior written notice by either party. There can be no
assurance that the Company will be able to continue to renew such contracts or
enter into new contracts enabling it to service its members profitably. The
Company expects that it will be required to expand its health care provider
network in order to service membership growth adequately; however, there can be
no assurance that it will be able to do so on a timely basis or under favorable
terms.
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Capitation and Other Risk Sharing Arrangements. The Company contracts with
hospitals, physicians and other providers of health care and administrative
services under capitated or discounted fee-for-service arrangements. Capitated
providers are at risk for the cost of medical care and administrative services
provided to the Company's enrollees in the relevant geographic areas; however,
the Company is ultimately responsible for the provision of services to its
enrollees should the capitated provider be unable to provide the contracted
services. The inability of certain capitated providers to provide the contracted
service could have a material adverse effect on the Company's business.
Potential Litigation Against the Company and Inability to Obtain or Inadequacy
of Insurance. The Company is and will continue to be subject to certain types of
litigation, including medical malpractice claims and claim disputes pertaining
to its contracts and other arrangements with providers, employer groups and
their employees and individual members. The Company maintains general and
professional liability, property and fidelity insurance coverage and its
multi-specialty medical group maintains excess malpractice insurance for the
providers presently employed by the group. Additionally, the Company requires
all of its independently contracted provider physician groups, individual
practice physicians, specialists, dentists, podiatrists and other health care
providers (with the exception of certain hospitals) to maintain professional
liability coverage. Certain of the hospitals with which the Company contracts
are self-insured. The Company may incur losses not covered by insurance, beyond
the limits of its insurance coverage for its employed physicians and staff, for
acts or omissions by independent providers who do not carry sufficient
malpractice coverage, or for other acts or omissions. Generally, punitive damage
awards are not covered by insurance. Although the Company believes that it
currently carries adequate insurance, no assurance can be given that the
Company's insurance coverage will be adequate in amount or type, will be
available in the future or that the cost of such insurance will be reasonable.
Ongoing Modification of the Company's Management Information System. The
Company's management information system is critical to its current and future
operations. The information gathered and processed by the Company's management
information system assists the Company in, among other things, pricing its
services, monitoring utilization and other cost factors, processing provider
claims, providing bills on a timely basis and identifying accounts for
collection. The Company regularly modifies its management information system.
Any difficulty associated with or failure of such system, or any inability to
expand processing capability or to develop and maintain networking capability,
could have a material adverse effect on the Company's business.
The Company is in the process of modifying or replacing its computer systems and
applications to accommodate the "Year 2000". The Year 2000 issue exists because
many computer systems and applications currently use two-digit date fields to
designate a year. As the century date change occurs, date-sensitive systems will
recognize the year 2000 as 1900, or not at all. This inability to recognize or
properly treat the Year 2000 may cause systems to process critical financial and
operational information incorrectly. The Company currently expects to complete
all material replacements or modifications of its computer systems and
applications sufficiently in advance of the Year 2000 to allow for adequate
testing so as not to negatively impact its operations. The Company is in the
process of implementing two major systems. These systems will be Year 2000
compliant. The inability of the Company to timely complete its Year 2000
modifications and replacements, or the inability of companies with which the
Company does business to timely complete their Year 2000 modifications, could
have a material effect on the Company's operations.
Rating Agencies. Certain of the Company's subsidiaries are subject to scrutiny
by various credit agencies such as Standard & Poor's, and Moody's, and
policyholder agencies such as A.M. Best, as well as agencies that rate the
quality of service to members such as the National Committee for Quality
Assurance and the Joint Commission on Accreditation of Healthcare Organizations.
A negative rating from such agencies could have an effect on the Company's
business. For example, the ability to borrow funds, compete with other health
care companies in attracting members and ultimately affecting earnings and
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share price.
Dependence on Management. The success of the Company has been dependent to a
large extent upon the efforts of the Company's founder, Anthony M. Marlon, M.D.,
the Chairman of the Board and Chief Executive Officer of the Company, who has an
employment agreement with the Company. Although the Company believes that the
development of its management staff has made the Company less dependent on Dr.
Marlon, the loss of Dr. Marlon could still have a material adverse effect on the
Company's business.
Potential Adverse Effect of Open Rating on the Company's California Workers'
Compensation Subsidiary. CII Financial, Inc. ("CII"), a wholly-owned subsidiary
of the Company, writes workers' compensation insurance principally in
California. Premium rates, which are regulated by the Department of Insurance in
California, have been under significant pressure and, at times, been required to
be reduced in the period from 1992 through 1994. Pursuant to workers'
compensation legislative reforms enacted in 1993, "open rating" rules replaced
"minimum rate" laws effective January 1, 1995. Under minimum rate laws, insurers
could not charge a premium which was less than the published minimum rate and,
therefore, competed primarily on the basis of service to policyholders, the
level of agent commissions and policyholders' dividends. The new open rating
environment has resulted in lower premium rates and lower net income to CII in
1995 and brought further uncertainties to premium revenues and continued
operating profits due to increased price competition and the risk of incurring
adverse loss experience over a smaller premium base.
Although CII intends to underwrite each account taking into consideration the
insured's risk profile, prior loss experience, loss prevention plans and other
underwriting considerations, there can be no assurance that CII will be able to
operate profitably in the California workers' compensation industry,
particularly with open rating, or that future workers' compensation legislation
will not be adopted in California or other states which might adversely affect
CII's results of operations. For the fiscal year ended December 31, 1997,
approximately 83% of CII's direct written premiums were in California.
Consequently, CII's operating results are expected to be largely dependent upon
its ability to write profitable workers' compensation insurance in California.
Convertible Subordinated Debentures. CII has outstanding debentures (the
"Debentures") totaling $54.5 million. The ability of CII's insurance company
subsidiaries to upstream funds to CII to service the Debentures is limited by
certain regulatory restrictions and capital requirements. Sierra has not
directly assumed CII's payment obligations under the CII Debentures or
guaranteed their repayment. There can be no assurance that Sierra will be in a
position to prevent a default of the Debentures in the future, if CII's
subsidiaries were unable to provide CII sufficient funds with which to service
the Debentures.
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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 hereunto duly authorized.
SIERRA HEALTH SERVICES, INC.
(Registrant)
Date: March 19, 1998 /S/ JAMES L. STARR
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James L. Starr
Senior Vice President
Chief Financial Officer and Treasurer
(Chief Accounting Officer)
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