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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-Q
(Mark One)
X
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 1999
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 1-8865
SIERRA HEALTH SERVICES, INC.
(Exact name of registrant as specified in its charter)
NEVADA 88-0200415
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
2724 NORTH TENAYA WAY
LAS VEGAS, NV 89128
(Address of principal executive offices) (Zip Code)
(702) 242-7000
(Registrant's telephone number, including area code)
N/A (Former name, former address and former fiscal year, if changed since
last report)
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 X No
As of April 30, 1999, there were 26,785,000 shares of common stock
outstanding.
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SIERRA HEALTH SERVICES, INC. AND SUBSIDIARIES
FORM 10-Q
FOR THE THREE MONTHS ENDED MARCH 31, 1999
INDEX
<TABLE>
<CAPTION>
Page No.
Part I - FINANCIAL INFORMATION
Item l. Financial Statements
Condensed Consolidated Balance Sheets -
<S> <C> <C> <C> <C> <C>
March 31, 1999 and December 31, 1998................................................................... 3
Condensed Consolidated Statements of Operations -
three months ended March 31, 1999 and March 31, 1998................................................... 4
Condensed Consolidated Statements of Cash Flows -
three months ended March 31, 1999 and March 31, 1998................................................... 5
Notes to Condensed Consolidated Financial Statements..................................................... 6
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations.......................................................... 9
Item 3. Quantitative and Qualitative Disclosures
about Market Risk...................................................................................... 15
</TABLE>
<TABLE>
Part II - OTHER INFORMATION
<S> <C>
Item l. Legal Proceedings....................................................................................... 15
Item 2. Changes in Securities................................................................................... 15
Item 3. Defaults Upon Senior Securities......................................................................... 15
Item 4. Submission of Matters to a Vote of Security Holders..................................................... 16
Item 5. Other Information....................................................................................... 16
Item 6. Exhibits and Reports on Form 8-K........................................................................ 16
Signature................................................................................................................. 17
</TABLE>
Page 2
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements
SIERRA HEALTH SERVICES, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
March 31 December 31
1999 1998
CURRENT ASSETS:
<S> <C> <C>
Cash and Cash Equivalents.............................................. $ 18,126,000 $ 83,910,000
Short-term Investments................................................. 98,543,000 110,008,000
Accounts Receivable (Less: Allowance for Doubtful
Accounts 1999 - $8,868,000; 1998 - $10,540,000) 48,730,000 44,100,000
Military Accounts Receivable........................................... 85,960,000 69,552,000
Reinsurance Recoverable................................................ 39,093,000 32,076,000
Prepaid Expenses and Other Current Assets.............................. 60,404,000 54,285,000
Total Current Assets............................................... 350,856,000 393,931,000
PROPERTY AND EQUIPMENT, NET................................................. 237,594,000 229,164,000
LONG-TERM INVESTMENTS....................................................... 197,940,000 180,816,000
RESTRICTED CASH AND INVESTMENTS............................................. 17,009,000 17,758,000
REINSURANCE RECOVERABLE, Net of Current Portion............................. 43,785,000 34,946,000
GOODWILL ................................................................... 141,013,000 142,471,000
OTHER ASSETS................................................................ 46,634,000 46,034,000
TOTAL ASSETS................................................................ $1,034,831,000 $1,045,120,000
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts Payable and Other Accrued Liabilities............................ $ 88,210,000 $ 89,226,000
Medical Claims Payable.................................................... 84,593,000 78,022,000
Current Portion of Reserve for
Losses and Loss Adjustment Expense .................................. 79,756,000 79,869,000
Unearned Premium Revenue.................................................. 19,976,000 39,968,000
Military Health Care Payable.............................................. 49,287,000 53,820,000
Current Portion of Long-term Debt......................................... 4,451,000 5,263,000
Total Current Liabilities............................................ 326,273,000 346,168,000
RESERVE FOR LOSSES AND
LOSS ADJUSTMENT EXPENSE (Less Current Portion) 132,234,000 132,394,000
LONG-TERM DEBT (Less Current Portion) ........................................ 263,209,000 242,398,000
OTHER LIABILITIES ............................................................ 21,131,000 20,446,000
TOTAL LIABILITIES............................................................. 742,847,000 741,406,000
STOCKHOLDERS' EQUITY:
Preferred Stock, $.01 Par Value, 1,000,000
Shares Authorized; None Issued or Outstanding
Common Stock, $.005 Par Value, 40,000,000
Shares Authorized; Shares Issued: 1999 - 28,308,000;
1998 - 28,236,000.................................................... 142,000 141,000
Additional Paid-in Capital................................................ 174,821,000 173,583,000
Treasury Stock; 1999 - 1,427,500; 1998 - 966,900
Common Shares........................................................ (21,613,000) (14,821,000)
Accumulated Other Comprehensive Income:
Unrealized Holding Loss on Available-for-Sale
Investment. (6,498,000) (1,027,000)
Retained Earnings......................................................... 145,132,000 145,838,000
Total Stockholders' Equity........................................... 291,984,000 303,714,000
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY.............................. $1,034,831,000 $1,045,120,000
</TABLE>
See accompanying notes to consolidated financial statements.
Page 3
SIERRA HEALTH SERVICES, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
Three Months Ended
March 31
1999 1998
OPERATING REVENUES:
<S> <C> <C>
Medical Premiums ................................................................ $207,311,000 $137,818,000
Military Contract Revenues........................................................ 70,088,000 18,536,000
Specialty Product Revenues........................................................ 20,679,000 36,161,000
Professional Fees................................................................. 14,017,000 10,923,000
Investment and Other Revenues..................................................... 5,979,000 6,971,000
Total .......................................................................... 318,074,000 210,409,000
OPERATING EXPENSES:
Medical Expenses (Note 2)......................................................... 189,042,000 114,316,000
Military Contract Expenses........................................................ 67,644,000 16,981,000
Specialty Product Expenses........................................................ 19,396,000 36,241,000
General, Administrative and Marketing Expenses.................................... 33,897,000 25,208,000
Impairment and Other Costs (Note 2)............................................... 5,106,000
Total .......................................................................... 315,085,000 192,746,000
OPERATING INCOME................................................................... 2,989,000 17,663,000
INTEREST EXPENSE AND OTHER, NET ................................................... (4,049,000) (1,281,000)
(LOSS) INCOME BEFORE INCOME TAXES .................................................. (1,060,000) 16,382,000
BENEFIT (PROVISION) FOR INCOME TAXES................................................ 354,000 (4,195,000)
NET (LOSS) INCOME .................................................................. $ (706,000) $ 12,187,000
NET (LOSS) INCOME PER COMMON SHARE ............................................... $(.03) $.44
NET (LOSS) INCOME PER COMMON SHARE ASSUMING DILUTION............................... $(.03) $.44
WEIGHTED AVERAGE COMMON SHARES OUTSTANDING.......................................... 27,186,000 27,406,000
WEIGHTED AVERAGE COMMON SHARES OUTSTANDING
ASSUMING DILUTION.................................................................. 27,186,000 27,855,000
</TABLE>
See accompanying notes to condensed consolidated financial statements.
Page 4
SIERRA HEALTH SERVICES, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
Three Months Ended March 31
1999 1998
CASH FLOWS FROM OPERATING ACTIVITIES:
<S> <C> <C>
Net (Loss) Income....................................................... $ (706,000) $ 12,187,000
Adjustments to Reconcile Net Income to Net Cash
Used For Operating Activities:
Depreciation and Amortization.................................... 6,823,000 4,048,000
Provision for Doubtful Accounts.................................. 1,306,000 1,215,000
Changes in Assets and Liabilities ...................................... (57,200,000) (20,368,000)
Net Cash Used for Operating Activities ............................. (49,777,000) (2,918,000)
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital Expenditures, Net of Equipment Dispositions..................... (14,160,000) (9,159,000)
Changes in Short-term Investments....................................... 10,442,000 (24,247,000)
Changes in Long-term Investments........................................ (24,456,000) (29,475,000)
Changes in Restricted Cash and Investments.............................. 721,000 (567,000)
Corporate Disposition, net of cash disposed............................. 1,373,000
Corporate Acquisition................................................... (3,000,000)
Net Cash Used for Investing Activities.............................. (30,453,000) (62,075,000)
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from Borrowings................................................ 21,000,000 15,000,000
Payments on Debt and Capital Leases..................................... (1,001,000) (11,207,000)
Purchase of Treasury Stock.............................................. (6,792,000)
Exercise of Stock in Connection with Stock Plans........................ 1,239,000 3,797,000
Net Cash Provided by Financing Activities........................ 14,446,000 7,590,000
NET DECREASE IN CASH AND CASH EQUIVALENTS.................................. (65,784,000) (57,403,000)
CASH AND CASH EQUIVALENTS AT BEGINNING OF YEAR............................. 83,910,000 96,841,000
CASH AND CASH EQUIVALENTS AT END OF PERIOD................................. $18,126,000 $ 39,438,000
Three Months Ended March 31
Supplemental Condensed Consolidated
Statements of Cash Flows Information: 1999 1998
Cash Paid During the Period for Interest
(Net of Amount Capitalized)............................................. $5,387,000 $2,292,000
Cash Paid During the Period for Income Taxes............................... 27,000 1,532,000
Non-cash Investing and Financing Activities:
Tax Benefits of Stock Issued for Exercise of Options ................... 466,000
Additions to Capital Leases............................................. 3,070,000
</TABLE>
See accompanying notes to condensed consolidated financial statements.
Page 5
SIERRA HEALTH SERVICES, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
1.The accompanying unaudited financial statements include the consolidated
accounts of Sierra Health Services, Inc. ("Sierra", a holding company, together
with its subsidiaries, collectively referred to herein as the "Company"). All
material intercompany balances and transactions have been eliminated. These
statements have been prepared in conformity with the generally accepted
accounting principles used in preparing the Company's annual audited
consolidated financial statements but do not contain all of the information and
disclosures that would be required in a complete set of audited financial
statements. They should, therefore, be read in conjunction with the Company's
annual audited consolidated financial statements and related notes thereto for
the years ended December 31, 1998 and 1997. In the opinion of management, the
accompanying unaudited condensed consolidated financial statements reflect all
adjustments, consisting only of normal recurring adjustments, necessary for a
fair presentation of the financial results for the interim periods presented.
2. Premium Deficiency, Impairment and Other Charges:
Medical Expenses:
Medical expenses reported in the first quarter of 1999 included a premium
deficiency charge of $8.1 million related to losses in under performing markets
primarily in Arizona and rural Nevada. The Company incurred $2.6 million of
these losses in the first quarter of 1999.
Impairment and Other Charges:
In March 1999, the Company closed all inpatient operations at Mohave Valley
Hospital, a 12-bed acute care facility in Bullhead City, Arizona and terminated
approximately 45 employees. The Company recorded a charge of $4.3 million
related primarily to the write-off of goodwill associated with the Mohave Valley
operations.
The Company also incurred $450,000 for certain legal and contractual
settlements and $400,000 to provide for the Company's portion of the write-off
of start-up costs at the Company's equity investee, TriWest Healthcare Alliance.
In accordance with Statement of Position 98-5, TriWest is writing off all
remaining start-up costs in their fiscal year beginning April 1, 1999.
Page 6
SIERRA HEALTH SERVICES, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)
3.The following table provides a reconciliation of basic and diluted
earnings per share ("EPS"):
<TABLE>
<CAPTION>
Dilutive
Basic Stock Options Diluted
For the Three Months ended March 31, 1999:
<S> <C> <C>
Loss from Continuing Operations $ (706,000) $ (706,000)
Shares 27,186,000 27,186,000
Per Share Amount $(.03) $(.03)
For the Three Months ended March 31, 1998:
Income from Continuing Operations $12,187,000 $12,187,000
Shares 27,406,000 449,000 27,855,000
Per Share Amount $.44 $.44
</TABLE>
CII Financial, Inc., a wholly-owned subsidiary of the Company has
outstanding convertible subordinated debentures (the "Debentures") due September
15, 2001. Each $1,000 in principal is convertible into 25.382 shares of the
Company's common stock at a conversion price of $39.40 per share. The Debentures
were not included in the computation of EPS because their effect would be
anti-dilutive.
4.The following table presents comprehensive income for the three-month
periods ended March 31, 1999 and 1998:
<TABLE>
<CAPTION>
Three Months Ended
March 31
1999 1998
<S> <C> <C>
NET (LOSS) INCOME:........................ $ (706,000) $12,187,000
Change in net Unrealized Holding
Gains and Losses on Investments,
net of income taxes.............. (5,471,000) (517,000)
COMPREHENSIVE (LOSS) INCOME............... $(6,177,000) $11,670,000
</TABLE>
5.Segment Reporting
The Company has three reportable segments based on the products and
services offered: managed care and corporate operations, workers' compensation
operations and military health services operations. The managed care segment
includes managed health care services provided through HMOs, managed indemnity
plans, third-party administrative services programs for employer-funded health
benefit plans, multi-specialty medical groups, other ancillary services and
corporate operations. The workers' compensation segment insures workers'
compensation claims risk in return for premium revenues. The military health
services segment administers a managed care federal contract for the Department
of Defense's TRICARE program in Region 1. This contract is currently structured
as five one-year option periods.
Sierra evaluates each segment's performance based on segment operating
profit before interest expense and income taxes and not including charges for
premium deficiencies, impairment and non- recurring gains and losses. The
accounting policies of the operating segments are the same as those of the
consolidated company.
Page 7
SIERRA HEALTH SERVICES, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)
Information concerning the operations of the reportable segments is as follows:
(Amounts in thousands)
<TABLE>
<CAPTION>
Managed Care Workers' Military
and Corporate Compensation Health Services
Operations Operations Operations Total
Three Months Ended March 31, 1999
<S> <C> <C> <C> <C>
Medical Premiums.................................. $207,311 0 0 $207,311
Specialty Product Revenues........................ 2,446 $18,233 20,679
Professional Fees................................. 14,017 14,017
Military Contract Revenues........................ $70,088 70,088
Investment and Other Revenues..................... 1,707 4,119 153 5,979
Total Revenue.................................. $225,481 $22,352 $70,241 $318,074
Segment Operating Profit.......................... $ 8,694 $ 4,904 $ 2,597 $ 16,195
Interest Expense and Other........................ (3,034) (928) (87) (4,049)
Premium Deficiency, Impairment and Other Costs.... (13,206) (13,206)
Net Income (Loss) Before Income Taxes $ (7,546) $ 3,976 $ 2,510 $ (1,060)
Three Months Ended March 31, 1998
Medical Premiums.................................. $137,818 $137,818
Specialty Product Revenues........................ 2,959 $33,202 36,161
Professional Fees................................. 10,923 10,923
Military Contract Revenues........................ $18,536 18,536
Investment and Other Revenues..................... 2,231 4,736 4 6,971
Total Revenue.................................. $153,931 $37,938 $18,540 $210,409
Segment Operating Profit.......................... $ 12,038 $ 4,066 $ 1,559 $ 17,663
Interest Expense and Other........................ 87 (1,188) (180) (1,281)
Net Income (Loss) Before Income Taxes............. $ 12,125 $ 2,878 $ 1,379 $ 16,382
</TABLE>
6. Certain amounts in the Condensed Consolidated Financial Statements for
the three months ended March 31, 1998 have been reclassified to conform with the
current year presentation.
Page 8
SIERRA HEALTH SERVICES, INC. AND SUBSIDIARIES
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
The following discussion and analysis provides information which management
believes is relevant for an assessment and understanding of the Company's
consolidated financial condition and results of operations. The discussion
should be read in conjunction with the Condensed Consolidated Financial
Statements and Related Notes thereto. Any forward-looking information contained
in this Management's Discussion and Analysis of Financial Condition and Results
of Operations and any other sections of this Quarterly Report on Form 10-Q
should be considered in connection with certain cautionary statements contained
in the Company's Current Report on Form 8-K dated March 17, 1999, incorporated
herein by reference. Such cautionary statements are made pursuant to the "safe
harbor" provisions of the Private Securities Litigation Reform Act of 1995 and
identify important risk factors that could cause the Company's actual results to
differ from those expressed in any projected, estimated or forward-looking
statements relating to the Company.
Results of Operations, three months ended March 31, 1999, compared to three
months ended March 31, 1998.
The Company's total operating revenues for the three months ended March 31,
1999, increased approximately 51.2% to $318.1 million from $210.4 million for
the three months ended March 31, 1998. The increase was primarily due to
increases in premium revenue of $69.5 million and military contract revenue of
$51.6 million offset by a decrease in specialty product revenues of $15.5
million.
Of the $69.5 million increase in medical premium revenue, or 50.4%,
approximately $42.5 million is attributed to the Company's Dallas/Ft. Worth
operations which were acquired in the fourth quarter of 1998. On October 31,
1998, the Company completed the acquisition of certain assets of Kaiser
Foundation Health Plan of Texas ("Kaiser-Texas"), a health plan operating in
Dallas/Ft. Worth with approximately 109,000 members at October 31, 1998, and
Permanente Medical Association of Texas ("Permanente"), a medical group with
approximately 150 physicians. The remaining increase of $27.0 million, or
19.6%, is due to additional premium revenue at the Company's other HMO and
insurance subsidiaries. Of such additional premium revenue, 16.2% of the
increase resulted principally from additional member months (the number of
months of each period that an individual is enrolled in a plan).
Excluding the Dallas/Ft. Worth operations, Medicare member
months increased 25.9% which contributed to the increase in medical premium
revenue. Such growth in Medicare member months contributes significantly
to the increase in premium revenues as the Medicare per member premium rates
are over three times higher than the average commercial premium rate. Excluding
the Dallas/Ft. Worth operations, the Company's HMO and insurance subsidiaries'
premium rates increased approximately 3.4%. The Company's HMO commercial
rates increased approximately 4% in Nevada and approximately 7% to 8% in
Texas. The Company's managed indemnity rates increased approximately 7%
and Medicare rates increased approximately 2%. Over 75% of the Company's
Nevada Medicare members are enrolled in the Health Care Financing
Administration's ("HCFA") Social HMO Medicare program. HCFA is considering
adjusting the reimbursement factor for the Social HMO members in the future.
If the reimbursement for these members decreases significantly and
related benefit changes are not made timely, there could be a material adverse
effect on the Company's business.
Military contract revenue increased from $18.5 million to $70.1 million.
The increased revenue is a result of health care delivery under the Region 1
TRICARE contract that began in June 1998. Military contract revenue in the same
period of the prior-year resulted from implementation of the contract. Specialty
product revenue decreased $15.5 million, or 42.8%, for the three months ended
March 31, 1999, compared to the same three-month period in the prior year. Of
the decrease, $14.9 million was due to a decrease in revenue in the workers'
compensation insurance segment, as well as a $600,000 decrease in administrative
services revenue. The workers' compensation subsidiary entered into a
reinsurance agreement in the fourth quarter of 1998, whereby a greater portion
of premium is ceded, thus reducing revenue. In the first quarter of 1999, the
Company ceded $13.6 million of premiums. In addition, ongoing
Page 9
SIERRA HEALTH SERVICES, INC. AND SUBSIDIARIES
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (continued)
price competition in California is contributing to the reduction in
revenue. The decrease in administrative services revenue was primarily
attributable to a decrease in membership. Professional fee revenue increased
approximately $3.1 million primarily due to the Company's recently acquired
medical group operations in Dallas/Ft. Worth. Investment and other revenue
decreased approximately $1.0 million over the comparable period in the
prior-year primarily due to a decrease in invested balances and a decrease in
capital gains realized on the sale of investments compared to the prior-year
quarter.
Total medical expenses increased $74.7 million over the same three-month
period last year. This increase resulted primarily from the Company's recently
acquired Dallas/Ft. Worth operations discussed previously, as well as the
premium deficiency charge of $8.1 million related to under performing markets
primarily in Arizona and rural Nevada (See Note 2 to the Condensed Consolidated
Financial Statements). Excluding the effect of the Company's recently acquired
Dallas/Ft. Worth operations and the premium deficiency charge, medical expenses
increased $28.5 million, or 24.9%, compared to the same period in the prior-year
quarter. Medical expenses as a percentage of medical premiums and professional
fees ("Medical Care Ratio") increased from 76.9% to 85.4%, or 81.8% excluding
the $8.1 million premium deficiency charge, for the quarter ended March 31,
1999, compared to the prior-year period. The increase in the Medical Care Ratio
reflects the acquired Kaiser-Texas membership which has a higher medical care
ratio and the premium deficiency charge discussed above, as well as an increase
in Medicare members as a percentage of fully-insured members and higher pharmacy
costs. The cost of providing medical care to Medicare members generally requires
a greater percentage of the premiums received. Included in medical expenses is
the utilization of $4.6 million of premium deficiency reserve to offset losses
on contracts from the Kaiser- Texas acquisition. Also included in medical
expense is the utilization of $2.6 million of premium deficiency reserve to
offset losses primarily on Medicare risk members in Arizona and rural Nevada.
Specialty product expenses decreased $16.8 million, or 46.5%, due primarily
to ceded workers' compensation losses resulting from the low level reinsurance
agreement. In addition, the Company receives a ceding commission from the
reinsurer as a partial reimbursement of operating expenses. Under this
agreement, in the current year period, the amount of ceded premiums were $13.6
million, ceded losses were $15.5 million and ceding commissions were $3.3
million. Specialty product revenue and expense are primarily related to the
workers' compensation insurance business.
Page 10
SIERRA HEALTH SERVICES, INC. AND SUBSIDIARIES
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (continued)
Results of Operations, three months ended March 31, 1999, compared to three
months ended March 31, 1998 (continued).
The combined ratio for the workers' compensation insurance business was
96.4% compared to 102.6% for the comparable prior-year period. The reduction was
due to a 13.3% decrease in the loss ratio, which was partially offset by a 7.1%
increase in the expense ratio. The reduction in the loss ratio was largely due
to a greater portion of losses being reinsured under the low level reinsurance
agreement. The current year period had no development on prior accident years,
whereas the loss ratio for the prior year period included net favorable loss
development on prior accident years totaling $1.9 million. The prior-year
favorable loss development was largely due to actual paid losses being below
projected losses. The loss and loss adjustment expense ratio for the three
months ended March 31, 1999, reflects the Company's current projection of the
ultimate costs of claims occurring in the current as well as prior accident
years. The increase in the expense ratio was largely due to a reduction in the
net earned premium denominator base, which resulted from the increase in ceded
reinsurance premiums. This change was offset by a decrease in expenses due to a
credit for ceding commissions of $3.3 million. Workers' compensation claims are
paid over several years. Until payment is made, the Company invests the
premiums, earning a yield on the invested balance.
General, administrative and marketing ("G&A") costs increased $8.7 million,
or 34.5%, compared to the first quarter of 1998. As a percentage of revenues,
G&A costs for the first quarter of 1999 decreased to 10.7% from 12.0% during the
comparable period in 1998. Excluding military revenues, G&A as a percentage of
revenues was 13.7% for the three-month period ended March 31, 1999, compared to
13.1% for the first quarter of the prior-year. Of the $8.7 million increase in
G&A, $4.6 million was due to additional G&A, including amortization of goodwill,
related to the acquired HMO business in the Dallas/Ft. Worth area, net of
utilization of premium deficiency reserves for maintenance costs of
approximately $2.3 million. The most significant items included in the remaining
portion of the increase consisted of $900,000 of additional compensation
expense, resulting primarily from additional employees supporting expanded
services; increased depreciation expense of $700,000 and increased broker, third
party administration and premium tax expense of approximately $300,000 due to
increased membership. The Company markets its products primarily to employer
groups, labor unions and individuals enrolled in Medicare, through its internal
sales personnel and independent insurance brokers. Such brokers receive
commissions based on the premiums received from each group. The Company's
agreements with its member groups are usually for twelve months and are subject
to annual renewal. For the quarter ended March 31, 1999, the Company's ten
largest commercial HMO employer groups were, in the aggregate, responsible for
less than 10% of its total revenues. Although none of such employer groups
accounted for more than 2% of total revenues for that period, the loss of one or
more of the larger employer groups could, if not replaced with similar
membership, have a material adverse effect on the Company's business. Interest
expense and other increased $2.8 million for the three-months ended March 31,
1999, compared to the same period in the prior-year due to an increase in the
Company's cost of borrowing as well as an increase in debt primarily related to
the Kaiser-Texas acquisition.
In the first quarter of 1999, the Company recorded impairment and other
charges of $5.1 million, of which $4.3 million related primarily to the
write-off of goodwill associated with Mohave Valley Hospital, a 12-bed acute
care facility in Bullhead City, Arizona for which all inpatient operations were
closed in March 1999. The Company also incurred $450,000 for certain legal and
contractual settlements, as well as $400,000 to provide for the Company's
portion of the write-off of start-up costs at the Company's equity investee,
TriWest Healthcare Alliance.
Page 11
SIERRA HEALTH SERVICES, INC. AND SUBSIDIARIES
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (continued)
Results of Operations, three months ended March 31, 1999, compared to three
months ended March 31, 1998 (continued).
For the period, the Company recorded approximately $400,000 of tax benefit
for an effective tax rate of 33.4% compared to 25.6% in 1998. This significant
increase in the effective tax rate is the result of the tax loss valuation
allowances being fully utilized by the end of 1998. The Company's effective tax
rate is less than the 35% statutory rate primarily due to tax-preferred
investments.
Liquidity and Capital Resources
The Company had negative cash flows from operations of approximately $49.8
million for the three months ended March 31, 1999, resulting primarily from a
net change in assets and liabilities of $57.2 million offset by $6.8 million
in depreciation and amortization, $1.3 million in provision for doubtful
accounts and a $700,000 net loss. The decrease in cash flow resulting from the
change in assets and liabilities was primarily due to increases in military
accounts receivable and reinsurance recoverable, as well as a decrease in
unearned revenue. The increase in military accounts receivable is associated
with monies owed to the Company as a result of providing health care services
for a larger than expected beneficiary population in TRICARE Region 1. The
Company expects to receive a significant payment related to the military
accounts receivable in the second quarter of 1999. The increase in reinsurance
recoverable is primarily due to the reinsurance agreement implemented by the
Company's workers' compensation subsidiary in the fourth quarter of 1998. The
decrease in unearned revenue resulted primarily from the early receipt of the
subsequent month's HCFA Medicare capitation payments as of December 31, 1998.
The $16.0 million used for investing and financing activities since
December 31, 1998 included a $13.3 million net increase in investments, $6.8
million used for the purchase of treasury stock and $14.2 million in net capital
expenditures including costs associated with continued implementation of three
new computer systems, as well as furniture, equipment and other capital needs to
support the Company's growth. In the first quarter of 1999 an additional $3.0
million was paid to Kaiser Foundation Health Plan of Texas, in accordance with
the purchase agreement as certain accreditation goals were met by the health
plan. The purchase price may increase up to an additional $27 million over three
years if certain goals are met by the health plan. The Company borrowed $21.0
million available under the line of credit which was offset by $1.0 million used
for the reduction of debt. The remaining $40.0 million available under the line
of credit may be used for additional working capital, if necessary. In addition
the Company received $1.2 million in connection with the sale of stock through
the Company's stock plans.
The Company has a 1999 capital budget of approximately $60 million,
primarily for computer hardware and software, furniture and equipment and other
requirements due to the Company's computer system conversion and projected
growth and expansion. The Company's liquidity needs over the next 9 months will
primarily be for the capital items noted above, the Company's stock repurchase
program, debt service and expansion of the Company's operations, including
potential acquisitions. The Company believes that existing working capital,
operating cash flow and, if necessary, mortgage financing, equipment leasing,
and amounts available under its credit facility will be sufficient to fund its
capital expenditures and debt service. Additionally, subject to unanticipated
cash requirements, the Company believes that its existing working capital and
operating cash flow and, if necessary, its access to new credit facilities, will
enable it to meet its liquidity needs on a longer term basis.
The holding company may receive dividends from its HMO and insurance
subsidiaries which generally must be approved by certain state insurance
departments. The Company's HMO and insurance subsidiaries are required by state
regulatory agencies to maintain certain deposits and must also meet certain net
worth and reserve requirements. The HMO and insurance subsidiaries had
restricted assets on deposit in various
Page 12
SIERRA HEALTH SERVICES, INC. AND SUBSIDIARIES
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (continued)
states totaling $17.0 million as of March 31, 1999. The HMO and insurance
subsidiaries must also meet requirements to maintain minimum stockholder's
equity, on a statutory basis, ranging from $1.5 million to $5.2 million.
Additionally, in conjunction with the Kaiser-Texas acquisition, Texas Health
Choice, L.C. ("TXHC") entered into a letter agreement with the Texas Department
of Insurance whereby TXHC agreed to maintain a net worth of $20.0 million. Of
the cash and cash equivalents held at March 31, 1999, $16.3 million is
designated for use only by the regulated subsidiaries. Such amounts are
available for transfer to the holding company from the HMO and insurance
subsidiaries only to the extent that they can be remitted in accordance with the
terms of existing management agreements and by dividends. Remaining amounts are
available on an unrestricted basis. The holding company will not receive
dividends from its regulated subsidiaries if such dividend payment would cause
violation of statutory net worth and reserve requirements.
CII Financial, Inc., a California workers' compensation company that the
Company acquired in 1995, has convertible subordinated debentures (the
"Debentures") due September 15, 2001 and bearing interest at 7 1/2% which is due
semi-annually on March 15 and September 15. Each $1,000 in principal is
convertible into 25.382 shares of the Company's common stock at a conversion
price of $39.40 per share. The Debentures are general unsecured obligations of
CII and are not guaranteed by Sierra. During the three months ended March 31,
1999, the Company purchased $25,000 of the Debentures on the open market.
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 is currently in the process of modifying or replacing its
mission critical financial and operational computer systems. The Company is also
in the process of testing its non-information system technology for Year 2000
compliance. The Year 2000 project has been broken down into five phases: (1)
inventorying Year 2000 items; (2) assessing the Year 2000 items that are
determined to be material to the Company; (3) renovating or replacing material
items that are determined not to be Year 2000 compliant; (4) testing and
validating material items; and (5) implementing renovated and validated systems.
At March 31, 1999, the inventory and assessment phases are substantially
complete as it relates to all material computer systems and non-information
system technology. The Company estimates that the replacement/renovation phases
and the testing/validation phases will be 95% complete by October 31, 1999. The
Company estimates that it is approximately 70% complete with the total project
as of March 31, 1999. Contingency planning for the mission critical business
operations is expected to be completed by July 1999. These plans focus on
business operations involving information systems and non-information systems
technologies.
The Company has initiated formal communications with entities with whom it
does business to assess their Year 2000 issues. Evaluations of the most critical
third parties have been initiated, and follow-up reviews will be conducted
through 1999. Contingency plans are being developed based on these evaluations
and are expected to be completed by the middle of 1999. There can be no
assurances that the systems of other companies or governmental agencies, such as
HCFA and the Department of Defense ("DOD"), on which the Company relies will be
timely modified for Year 2000, or that the failure to modify by another company
would not have a material adverse effect on the Company. Based upon two separate
reports issued by the United States General Accounting Office it is doubtful
that the computer systems at both
Page 13
SIERRA HEALTH SERVICES, INC. AND SUBSIDIARIES
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (continued)
HCFA and the DOD will be fully Year 2000 compliant by the end of 1999. The
Company does not currently have available data to predict the impact of such
non-compliance on its business operations. Should there be any material delays
caused by Year 2000 issues, the Company anticipates that the governmental
entities will make estimated payments.
The Company is in the process of implementing three major computer systems
at an estimated cost of $36 million to $38 million, which includes the
implementation costs related to the recently acquired Dallas/Ft. Worth
operations. To date the Company has spent approximately $26.5 million on the new
computer systems and other Year 2000 items. The Company is expensing the costs
to make modifications to existing computer systems and non-computer equipment.
Management currently estimates the remaining new computer system costs and other
Year 2000 costs to be $12.0 million to $14.0 million. While this is a
substantial effort, it will give the Company the benefits of new technology and
functionality for many of its financial and operational computer systems and
applications.
The failure to correct a material Year 2000 problem could result in an
interruption of, or a failure of, certain business activities or operations.
Such failures could materially adversely affect the Company's operations,
liquidity and financial condition. Due to the general uncertainty inherent in
the Year 2000 problem, resulting in part from uncertainty of the Year 2000
readiness of third parties with which the Company does business, the Company is
unable to determine at this time whether the consequences of potential Year 2000
failures will have a material adverse impact on the Company's results of
operations, liquidity or financial condition. The Company's Year 2000 project is
expected to significantly reduce the Company's level of uncertainty about the
Year 2000 problem. The Company believes that, with the implementation of the new
computer systems and completion of the entire project as scheduled, the
possibility of significant interruptions of operations should be reduced.
The above contains forward-looking statements including, without
limitation, statements relating to the Company's plans, strategies, objectives,
expectations, intentions, and adequate resources, that are made pursuant to the
"safe harbor" provisions of the Private Securities Litigation Reform Act of
1995. Readers are cautioned that forward-looking statements contained in the
Year 2000 disclosure should be read in conjunction with the following disclosure
of the Company:
The costs of the project and the dates on which the Company plans to
complete the necessary Year 2000 modifications are based on management's best
estimates, which were derived utilizing numerous assumptions of future events
including the continued availability of certain resources and other factors.
However, there can be no guarantee that these estimates will be achieved and
actual results could differ materially from those plans. Specific factors that
might cause such material differences include, but are not limited to, the
availability, retention and cost of personnel trained in this area, the ability
to locate and correct all relevant computer codes, the ability of the Company's
significant suppliers, customers and others with which it conducts business,
including federal and state governmental agencies, to identify and resolve their
own Year 2000 issues and similar uncertainties.
Page 14
SIERRA HEALTH SERVICES, INC. AND SUBSIDIARIES
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (continued)
Membership
The Company's membership at March 31, 1999 and 1998 was as follows:
<TABLE>
<CAPTION>
Number of Members at Period Ended
March 31 March 31
1999 1998
HMO
<S> <C> <C>
Commercial.................................................. 275,500 158,800
Medicare.................................................... 50,000 37,200
Managed Indemnity............................................. 42,900 52,800
Medicare Supplement........................................... 27,400 24,700
Administrative Services....................................... 298,300 347,700
TRICARE Eligibles............................................. 606,400
Total Members................................................. 1,300,500 621,200
</TABLE>
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
As of March 31, 1999, unrealized holding losses on available for sale
investments have increased by $5.5 million since year-end due to an increase in
interest rates, and thus, a decline in the market value of bonds. The Company
believes that this increase in interest rates will not have a material impact on
future earnings or cash flows as it is unlikely that the Company would need or
choose to substantially liquidate its investment portfolio.
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
The Company is subject to various claims and other litigation in the
ordinary course of business. Such litigation includes claims of medical
malpractice, claims for coverage or payment for medical services rendered to HMO
members and claims by providers for payment for medical services rendered to HMO
members. Also included in such litigation are claims for workers' compensation
and claims by providers for payment for medical services rendered to injured
workers. In the opinion of the Company's management, the ultimate resolution of
pending legal proceedings should not have a material adverse effect on the
Company's financial condition.
ITEM 2. CHANGES IN SECURITIES
None
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None
Page 15
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) Exhibits
(27) Financial Data Schedule
(99) Registrant's current report on Form 8-K
dated March 17, 1999,
incorporated herein by reference.
(b) Reports on Form 8-K
The Company filed a Current Report on Form 8-K, dated March 17, 1999, with
the Securities and Exchange Commission in connection with certain cautionary
statements made pursuant to the "safe harbor" provisions of the Private
Securities Litigation Reform Act of 1995.
Page 16
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.
SIERRA HEALTH SERVICES, INC.
(Registrant)
Date May 14, 1999 /S/ PAUL H. PALMER
Paul H. Palmer
Vice President of Finance,
Chief Financial Officer and Treasurer
(Principal Financial and Accounting Officer)
Page 17
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED
FROM
THE STATEMENTS OF CONSOLIDATED OPERATIONS AND IS QUALIFIED IN ITS
ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-END> MAR-31-1999
<CASH> 18,126,000
<SECURITIES> 98,543,000
<RECEIVABLES> 143,558,000
<ALLOWANCES> 8,868,000
<INVENTORY> 0
<CURRENT-ASSETS> 350,856,000
<PP&E> 309,336,000
<DEPRECIATION> 71,742,000
<TOTAL-ASSETS> 1,034,831,000
<CURRENT-LIABILITIES> 326,273,000
<BONDS> 263,209,000
0
0
<COMMON> 142,000
<OTHER-SE> 291,842,000
<TOTAL-LIABILITY-AND-EQUITY> 1,034,831,000
<SALES> 0
<TOTAL-REVENUES> 318,074,000
<CGS> 0
<TOTAL-COSTS> 309,979,000
<OTHER-EXPENSES> 5,106,000<F1>
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 4,049,000
<INCOME-PRETAX> (1,060,000)
<INCOME-TAX> (354,000)
<INCOME-CONTINUING> (706,000)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (706,000)
<EPS-PRIMARY> (0.03)
<EPS-DILUTED> (0.03)
<FN>
<F1>Impairment and Other Costs
</FN>
</TABLE>
