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FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
_______________________
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1996
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 0-14796
FHP INTERNATIONAL CORPORATION
a Delaware Corporation
I.R.S. Employer Identification No. 33-0072502
3120 Lake Center Drive, Santa Ana, CA 92704
(Address of principal executive offices) (Zip Code)
(714) 825-6600
(Registrant's telephone number, including area code)
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 .
----- ----
The registrant had 41,212,804 shares of common stock, par value $0.05 per
share, outstanding at November 8, 1996.
The Exhibit Index Appears on Page 20
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PART 1 - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
FHP INTERNATIONAL CORPORATION
CONSOLIDATED BALANCE SHEETS
(unaudited)
ASSETS
(amounts in thousands, September 30, June 30,
except share data) 1996 1996
------------- --------
Cash and cash equivalents $ 164,295 $ 166,873
Short-term investments 215,571 187,919
Accounts receivable, net 155,043 141,537
Prepaid expenses and other
current assets 27,942 33,736
Deferred income taxes 49,165 49,162
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Total current assets 612,016 579,227
Property and equipment, net 231,057 231,428
Assets held for sale (Note 6) 16,222 16,470
Long-term investments 41,613 36,470
Restricted investments 91,010 90,499
Goodwill and other intangibles,
net 1,021,008 1,028,374
Other assets, net 31,292 31,411
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Total assets $2,044,218 $2,013,879
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---------- ----------
- ---------
See accompanying notes to consolidated financial statements.
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FHP INTERNATIONAL CORPORATION
CONSOLIDATED BALANCE SHEETS
(unaudited)
LIABILITIES AND STOCKHOLDERS' EQUITY
(amounts in thousands, September 30, June 30,
except share data) 1996 1996
------------- --------
Current portion of long-term obligations $ 19,102 $ 30,097
Accounts payable 55,107 50,979
Medical claims payable 401,657 367,872
Accrued salaries and employee benefits 51,236 71,986
Unearned premiums 22,691 24,713
Restructuring reserve (Note 6) 12,321 14,615
Income taxes payable and other
current liabilities 88,668 79,132
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Total current liabilities 650,782 639,394
Long-term obligations 100,222 104,184
Other liabilities 101,513 102,672
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Total liabilities 852,517 846,250
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Commitments and contingencies (Note 4)
Stockholders' equity:
Series A Convertible
Preferred Stock, $0.05 par value;
40,000,000 shares authorized (Note 3) 1,052 1,052
Common Stock, $0.05 par value;
100,000,000 shares authorized;
issued and outstanding 41,178,042
and 40,789,528 shares at September 30,
1996 and June 30, 1996, respectively 2,059 2,039
Paid-in capital 945,141 938,478
Unrealized holding losses on
available-for-sale investments, net of
tax effect of $1,311 at September 30,
1996 and $1,602 at June 30, 1996 (1,886) (2,306)
Retained earnings 245,335 228,366
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Total stockholders' equity 1,191,701 1,167,629
---------- ----------
Total liabilities and
stockholders' equity $2,044,218 $2,013,879
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---------- ----------
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See accompanying notes to consolidated financial statements.
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FHP INTERNATIONAL CORPORATION
CONSOLIDATED STATEMENTS OF INCOME
(unaudited)
For The
(amounts in thousands, Three Months Ended
except per share data) September 30,
1996 1995
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Revenues $1,098,699 $1,004,633
---------- ----------
Expenses:
Primary health care 897,540 818,971
Other health care 32,155 30,845
General, administrative and
marketing 132,010 125,126
Provision for restructuring 5,759
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Total expenses 1,061,705 980,701
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Operating income 36,994 23,932
Interest income 9,099 9,136
Interest expense (2,493) (6,424)
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Income before income taxes 43,600 26,644
Provision for income taxes 20,056 12,717
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Net income 23,544 13,927
Preferred Stock dividends 6,575 6,607
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Net income attributable to
Common Stock $ 16,969 $ 7,320
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---------- ----------
Earnings per share
attributable to Common Stock (Note 2) $ 0.40 $ 0.18
---------- ----------
---------- ----------
Weighted average number of common
shares and common share equivalents 42,059 41,016
---------- ----------
---------- ----------
Fully diluted earnings per share (Note 2) $ 0.40 -
---------- ----------
---------- ----------
Fully diluted weighted average number of
common shares and common share equivalents 59,300 -
---------- ----------
---------- ----------
- ----------
See accompanying notes to consolidated financial statements.
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FHP INTERNATIONAL CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(unaudited)
For The
Three Months Ended
(amounts in thousands) September 30,
1996 1995
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OPERATING ACTIVITIES
Net income $23,544 $13,927
Adjustments to reconcile
net income to net cash
provided by operating activities:
Provision for restructuring 5,759
Depreciation and amortization 17,861 18,372
(Decrease) increase in allowance for
doubtful accounts (2,456) 739
Loss on disposal of equipment 314 68
Effect on cash of changes
in operating assets and liabilities:
Accounts receivable (11,050) (1,774)
Prepaid expenses and other
current assets 5,794 (2,240)
Other assets (343) (161)
Accounts payable 4,128 2,851
Medical claims payable 33,785 1,691
Accrued salaries and
employee benefits (20,750) (12,335)
Unearned premiums (2,022) (9,734)
Other liabilities 6,083 10,745
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Net cash provided by operating activities 54,888 27,908
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INVESTING ACTIVITIES
Purchases of available-for-sale
investments (184,096) (47,272)
Proceeds from sales/maturities
of available-for-sale investments 151,498 78,419
Loss on sale of available-for-sale
investments 7 161
Gain on sale of available-for-sale
investments (4) (486)
Purchases of property and equipment (13,121) (13,245)
Proceeds from sales of assets held
for sale 3,174 236
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Net cash (used in) provided by investing activities (42,542) 17,813
------- -------
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FHP INTERNATIONAL CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS(continued)
(unaudited)
For The
Three Months Ended
(amounts in thousands) September 30,
1996 1995
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FINANCING ACTIVITIES
Payments on long-term obligations (15,032) (15,048)
Exercise of stock options 6,683 1,287
Cash dividends paid to preferred shareholders (6,575) (6,597)
-------- --------
Net cash used in financing activities (14,924) (20,358)
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(Decrease)increase in cash and cash equivalents (2,578) 25,363
Cash and cash equivalents at beginning of period 166,873 299,144
-------- --------
Cash and cash equivalents at end of period $164,295 $324,507
-------- --------
-------- --------
Supplemental cash flow information:
Interest payments $ 4,082 $ 5,123
Income tax payments (net of refunds) $ 18,512 $ 9,677
- ----------
See accompanying notes to consolidated financial statements.
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FHP INTERNATIONAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
NOTE 1. ORGANIZATION AND ACCOUNTING POLICIES
FHP International Corporation (the "Company"), through its direct and
indirect subsidiaries, delivers managed health care services and sells
indemnity medical, group life, and workers' compensation insurance.
Interim periods are viewed as an integral part of the annual period of
the Company. Accordingly, the results for the interim periods reported are
based on the accounting principles and practices followed by the Company as
presented in its Annual Report on Form 10-K for the year ended June 30, 1996.
In the opinion of management, all adjustments necessary to fairly present
the financial position and the results of operations for the three months
ended September 30, 1996 and 1995 are included in these consolidated
financial statements.
NOTE 2. EARNINGS PER SHARE
Primary earnings per share attributable to Common Stock for the three
months ended September 30, 1996 and 1995 are computed by dividing net income
attributable to Common Stock by the weighted average number of outstanding
common shares and common share equivalents during the respective periods.
Common share equivalents include the effect of dilutive stock options
calculated using the treasury stock method.
Fully diluted earnings per share for the three months ended September
30, 1996 assume the conversion of the Series A Cumulative Convertible
Preferred Stock, the elimination of the related Preferred Stock dividend
requirement and market price as of the end of the quarter for dilutive Common
Stock options. Fully diluted earnings per share for the three months ended
September 30, 1995 were anti-dilutive.
NOTE 3. PREFERRED STOCK
The authorized capital stock of the Company includes 40,000,000 shares
of Preferred Stock, par value $0.05 per share. Preferred Stock is designated
either Series A Cumulative Convertible Preferred Stock ("Series A Preferred
Stock") or Series B Adjustable Rate Cumulative Preferred Stock ("Series B
Preferred Stock"). At September 30, 1996 and June 30, 1996 there was no
Series B Preferred Stock outstanding.
The issued and outstanding, and aggregate liquidation preference of the
Company's Series A Preferred Stock is as follows:
September 30, 1996 June 30, 1996
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Issued and outstanding 21,040,307 21,040,307
Aggregate liquidation preference $526,036,000 $526,033,000
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NOTE 4. COMMITMENTS AND CONTINGENCIES
During the ordinary course of business, the Company and its subsidiaries
have become a party to pending and threatened legal actions and proceedings,
a significant number of which involve alleged claims of medical malpractice.
Management is of the opinion, taking into account its insurance coverage and
reserves that have been established, that the outcome of the currently known
legal actions and proceedings will not, singly or in the aggregate, have a
material effect on the consolidated financial position or results of
operations or cash flows of the Company and its subsidiaries.
NOTE 5. OPM
The Company's HMO subsidiaries have contracts with the United States
Office of Personnel Management ("OPM") to provide or arrange managed health
care services under the Federal Employees Health Benefits Program ("FEHBP")
for federal employees, annuitants and their dependents. Periodically, the
Company's HMO subsidiaries are subject to audits by the government to, among
other things, verify that premiums charged under OPM contracts are
established in compliance with community rating and other requirements under
the FEHBP. Final reports from such audits may recommend that OPM seek
monetary recoveries from the Company for amounts that may be substantial.
The Company increased reserves in the third quarter of fiscal year 1996,
by recording a pretax charge of $45 million ($28.7 million, net of tax), to
address existing (as discussed below) and potential governmental claims for
the years 1987 through 1991, which have been or may be asserted in relation
to the Company's contracts with OPM and for possible other OPM claims through
1996. The addition to reserves resulted in a charge to net earnings of $0.68
per share.
In May 1993, OPM sent a draft audit report to the Company covering
primarily the years 1987 through 1991, alleging defective rating practices in
certain regions. A final audit report was not issued. In the third quarter
of fiscal year 1996, the United States Department of Justice (the "DOJ")
notified the Company that (based on the OPM draft audit report and
discussions with OPM personnel) the DOJ believed the Company may have
violated the False Claims Act. The DOJ believed its actual damages to be
approximately $15 million. (In False Claims Act actions, the government may
seek trebled damages and a civil penalty of not less than $5,000 nor more
than $10,000 for each separate alleged false claim.) The DOJ indicated it did
not have any information that would lead it to believe that the Company
violated any criminal laws.
On October 7, 1996, the Company reached an agreement with the DOJ which
resolved the claims under the OPM draft audit report for the years 1987 to
1991. The Company agreed to pay $12 million to the FEHBP Contingency Reserve
Funds for the regions covered by the draft audit report. The payment will be
charged against the $45 million reserve established to cover existing and
potential FEHBP audit claims through 1996. The Company paid no fines or
penalties as part of the agreement. Also, the DOJ released the Company from
all claims under the contracts for the years covered by the draft audit
report.
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OPM has opened two additional audits for years as far back as 1990 at
two of the Company's other HMO subsidiaries. In October 1996, OPM sent a
draft audit report to the Company for these two additional audits. The draft
report alleges certain defects in the Company's rating practices. The
Company is evaluating the draft report. Based on management's understanding
of the government's current interpretation of the community rating standard
requirements, management currently believes it has established adequate
reserves to settle any claims that have arisen or may arise from present or
future FEHBP rate audits for years between and including 1987 through 1996,
or that amounts in excess of reserves, if any, necessary to settle any such
claims would not be such as to have a material adverse effect on the
consolidated financial position or results of operations or cash flows of the
Company.
NOTE 6. RESTRUCTURING CHARGE
In June 1995, the Company's Board of Directors approved a restructuring
plan involving the discontinuance of services and programs that did not meet
the Company's strategic and economic return objectives, including: 1) a
reduction in workforce; 2) the creation of a subsidiary physician practice
management company, Talbert Medical Management Corporation ("Talbert"); and 3)
the sale of the Company's two acute care hospitals and other nonproductive
real estate. Talbert began operations as a subsidiary of the Company on
January 1, 1996. Talbert operates in all of FHP's formerly Company operated
medical facilities in California, Utah, Arizona, New Mexico and Nevada. The
restructuring plan was substantially completed in fiscal year 1996.
Restructuring charges in fiscal years 1995 and 1996 were based on the
Company's estimates and were refined throughout fiscal year 1996. During the
three months ended September 30, 1996, there was no significant change in the
aggregate in estimates with respect to accruals previously established.
NOTE 7. AGREEMENT AND PLAN OF REORGANIZATION
On August 4, 1996, the Company entered into an Agreement and Plan of
Reorganization, as amended and restated, (the "Merger Agreement"), by and
among the Company and PacifiCare Health Systems, Inc., et. al.
("PacifiCare"). Pursuant to the Merger Agreement, PacifiCare will acquire all
of the outstanding stock of the Company. The transaction is expected to close
in January, 1997 (the "Effective Time").
Pursuant to Merger Agreement, holders of the Company's Common Stock will
receive consideration through a combination of $17.50 in cash and a mix of
shares of Class A Common Stock and Class B Common Stock of PacifiCare, plus
rights to purchase stock of Talbert. The consideration at the date of the
Merger Agreement equated to $35.00 per share without attributing value to the
Talbert Rights. The maximum amount of Class A Common Stock of PacifiCare
that will be issued to stockholders of the Company will be 2,350,000 shares.
The balance of PacifiCare stock to be issued to the Company's stockholders
will be Class B Common Stock.
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Each outstanding share of the Company's Series A Preferred Stock will be
converted into the right to receive either: (a) $14.113 in cash and 0.50
shares of PacifiCare Holding Preferred Stock, assuming approval of the
proposed amendment to the Restated Certificate of Incorporation of the
Company ("Series A Amendment"); or (b) if the Series A Amendment is not
approved, (1) $25.00 in cash, (2) a mix of cash, PacifiCare Class A Common
and PacifiCare Class B Common determined by a formula described in the Merger
Agreement, or (3) the consideration that would have been received had the
Series A Preferred Stock been converted into Company Common Stock immediately
prior to the Effective Time of the transaction, including rights to purchase
stock of Talbert.
At the Effective Time, the shares of the Company's Common and Preferred
Stock will have the right to purchase, in the aggregate, all of the Company's
approximate 92% interest in Talbert. The number of PacifiCare shares to be
delivered in the merger is subject to adjustment based on the price of
PacifiCare stock during a twenty day trading period ending prior to the
Company's stockholders' meeting.
PacifiCare has informed the Company that it has received a commitment
from a bank to provide financing for the cash portion of the transaction. The
closing of the transaction is subject to customary closing conditions,
including the approval of the stockholders of the Company and PacifiCare,
various regulatory approvals, and passage of the waiting period under the
Hart-Scott-Rodino Antitrust Improvements Act of 1976 and is currently
expected to occur in early 1997. (See also Management's Discussion and
Analysis of Financial Condition and Results of Operations - Proposed
Acquisition of the Company by PacifiCare.)
10
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MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
FHP International Corporation and its subsidiaries (the "Company") is a
federally qualified health maintenance organization, deriving almost all of
its revenues from premiums received for health care services to approximately
1.9 million HMO members. During fiscal year 1996, the Company separated its
operations into three business segments. These segments comprise: 1) the
Company's contract model operations (the "HMO"); 2) a physician practice
management company, Talbert Medical Management Corporation ("Talbert"),
operating almost all of the Company's owned and operated medical centers
(collectively formerly known as the "Staff Model"); and 3) the Company's
group life, health and accident and workers' compensation insurance and
related products (collectively, the "Insurance Group").
PROPOSED ACQUISITION OF THE COMPANY BY PACIFICARE
On August 4, 1996, the Company entered into an Agreement and Plan of
Reorganization (the "Merger Agreement") with PacifiCare Health Systems, Inc.
("PacifiCare"), N-T Holdings, Inc. ("PacifiCare Holding"), Neptune Merger
Corp. ("PacifiCare Merger Sub") and Tree Acquisition Corp. ("Company Merger
Sub"). The Merger Agreement, as amended and restated, provides for, among
other things, an acquisition transaction involving PacifiCare and the Company
by means of the merger of PacifiCare Merger Sub with and into PacifiCare and
the merger of the Company Merger Sub with and into the Company. As a result,
PacifiCare and the Company will become wholly-owned subsidiaries of
PacifiCare Holding. Upon consummation of the transaction (the "Effective
Time"): (i) each outstanding share of PacifiCare Class A Common Stock will be
converted into the right to receive one share of PacifiCare Holding Class A
Common Stock; (ii) each share of PacifiCare Class B Common Stock will be
converted into the right to receive one share of PacifiCare Holding Class B
Common Stock; (iii) each outstanding share of Company Common Stock will be
converted into the right to receive $17.50 in cash and a mix of PacifiCare
Holding Class A Common Stock and PacifiCare Holding Class B Common Stock;
(iv) each outstanding share of Company Series A Cumulative Convertible
Preferred Stock ("Series A Preferred") will be converted into the right to
receive either (a) $14.113 in cash and 0.50 shares of PacifiCare Holding
Preferred Stock, assuming approval of the proposed amendment to the Restated
Certificate of Incorporation of the Company (the "Series A Amendment"), or
(b) if the Series A Amendment is not approved, (1) $25.00 in cash, (2) a mix
of cash, PacifiCare Class A Common Stock and PacifiCare Class B Common Stock
determined by a formula described in the Merger Agreement, or (3) the
consideration that would have been received had the Series A Preferred been
converted into Company Common Stock immediately prior to the effective time
of the transaction.
At the Effective Time, each outstanding share of Company Common Stock and
Series A Preferred will be converted in part into rights to purchase a
proportionate share (on an as-if-converted basis) of all of the Company's
holdings in Talbert (the "Talbert Rights"). The Talbert Rights will be
delivered promptly after consummation of the mergers and will be exercisable for
30 days after delivery. The transaction is subject to customary closing
conditions, including the approval of the stockholders of the Company and
PacifiCare, various regulatory approvals and passage of the waiting period under
the Hart-Scott-Rodino Antitrust Improvements Act of 1976 (the "HSR Act").
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The United States Federal Trade Commission has requested additional
documentation regarding the transaction, pursuant to the HSR Act.
The Company's competitors may use the announcement of the Merger
Agreement as an opportunity to encourage employer groups currently enrolled
with the Company to enroll their employees in other plans. Provider groups
currently affiliated with the Company also may be encouraged to seek other
affiliations. Recently, the Company has begun to experience the loss of
employees in connection with the potential transaction. In the event that the
transaction is delayed or not completed, losses of significant numbers of
members, providers and/or employees could have a material adverse impact on
the Company's future results of operations.
THREE MONTHS ENDED SEPTEMBER 30, 1996, COMPARED TO THE
THREE MONTHS ENDED SEPTEMBER 30, 1995
REVENUE AND MEMBERSHIP
The Company generates substantially all of its revenue from premiums
received for health care services provided to the HMO members of its
wholly-owned subsidiaries. Revenue for the three month period ended
September 30, 1996, totaled $1,099 million, increasing 9.4% over revenue of
$1,005 million for the same period in the previous fiscal year. Total HMO
membership grew 7.3% to approximately 1,932,000 at September 30, 1996, from
approximately 1,800,000 at September 30, 1995. During fiscal year 1996, the
Company continued to experience modest membership growth, due primarily to
intense competition in all its key markets. This trend continued into the
first quarter of fiscal year 1997 and may continue throughout the balance of
fiscal year 1997.
During fiscal year 1996 and the first quarter of fiscal year 1997, the
Company experienced a decline in its membership, both senior and commercial,
at certain medical facilities operated by Talbert. For the Company, the
decline has been more than offset by enrollment gains in the Company's HMO
operations.
From September 30, 1995, to September 30, 1996, total commercial
membership increased by 109,000 or 7.7% from approximately 1,417,000 to
approximately 1,526,000. The Company generates approximately half of its HMO
revenue from sales to the commercial market. The Company's ability to
increase its commercial membership and commercial premium rates during the
last two fiscal years and the first quarter of fiscal year 1997 was adversely
impacted by intense competition in all the Company's major markets,
particularly in California. Downward pressure on commercial premium rates in
California has eased in recent months; however, overall commercial premium
rates are expected to remain relatively flat in fiscal year 1997 over fiscal
year 1996. A substantial portion of the Company's HMO commercial premium
rate increases becomes effective in January of each year.
Senior membership grew by 23,000 or 6.0% to approximately 406,000 at
September 30, 1996, from approximately 383,000 at September 30, 1995. Almost
all of the Company's senior HMO revenue is generated from premiums paid to
the Company by the federal government's Health Care Financing Administration
("HCFA"). Revenue per senior member is substantially higher than revenue per
commercial plan member because senior members use substantially more health
care services. The Company receives senior premium rate increases from HCFA
on January 1 of each year.
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For calendar year 1996, the Company received an average 5.1% rate increase.
In September of each year, HCFA announces the annual Medicare rate increases
that will become effective on January 1 of the subsequent year. These rate
increases vary geographically and become the basis for determining the
amounts that HCFA will pay to the Company. Based on HCFA's announcement in
September, the Company is anticipating an average 5.7% rate increase for
calendar year 1997.
COST OF HEALTH CARE
Health care costs increased 9.4% to $930 million for the three months
ended September 30, 1996, from $850 million for the three months ended
September 30, 1995, due to operational growth and cost increases. Health
care costs as a percentage of revenue remained flat at 84.6% for both three
month periods. In the first quarter of fiscal year 1997, the Company
experienced higher hospital costs in certain regions outside of California
and higher pharmacy costs across most regions. These higher costs were
offset by lower physician costs.
During the last three years and the first quarter of fiscal year 1997,
certain medical centers in California now operated by Talbert have
experienced high operating costs relative to declining enrollment. The
decline created excess capacity and, therefore, higher health care costs as a
percentage of revenue. During fiscal year 1996, Talbert began reducing costs,
by reducing administrative overhead and excess staffing.
GENERAL, ADMINISTRATIVE AND MARKETING COSTS
General, administrative and marketing ("G & A") expenses increased by $7
million or 5.6% to $132 million for the three month period ended September
30, 1996, from $125 million for the three month period ended September 30,
1995, primarily due to Company growth. G & A expenses for the three month
period ended September 30, 1996, decreased as a percentage of revenue to
12.0% from 12.5% for the same period in the prior fiscal year, primarily due
to workforce reductions in fiscal year 1996 and other cost control measures.
INTEREST INCOME
Net interest income was $7 million for the three month period ended
September 30, 1996, as compared to $3 million for the three month period
ended September 30, 1995. Net interest income increased year-over-year
primarily because of lower debt levels.
OPM AUDITS
The Company's HMO subsidiaries have contracts with the United States
Office of Personnel Management ("OPM") to provide or arrange managed health
care services under the Federal Employees Health Benefits Program ("FEHBP")
for federal employees, annuitants and their dependents. These contracts with
OPM and applicable government regulations establish premium rating
requirements for the FEHBP. Periodically, the Company's HMO subsidiaries are
subject to audits by the government to, among other things, verify that
premiums charged under OPM contracts are established in compliance with
community rating and other requirements under the FEHBP. In the third
quarter of fiscal year 1996, the Company increased reserves by recording a
pretax charge of $45 million ($28.7 million net of tax), in anticipation of
negotiations to address existing and potential governmental claims arising
from OPM audits for the years 1987 through 1996, as discussed below.
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The Company's reserves reflect management's recognition that FEHBP rate
audits and claims based thereon are being handled differently by the
government than in the past and reflect the extent of business the Company's
subsidiaries have conducted with OPM over many years.
In May 1993, OPM sent a draft audit report to the Company alleging
certain defective rating practices by one of the Company's HMO subsidiaries
in certain regions during the years 1987 through 1991. Following its
evaluation of the draft audit report, the Company indicated to OPM certain
areas where it believed the report to be inaccurate or based on
misconceptions. Although OPM had not issued a final audit report and the
Company had received no further correspondence from the government regarding
the draft audit report, in the third quarter of fiscal year 1996, the United
States Department of Justice notified the Company that, based on the OPM
draft audit report and discussions with OPM personnel, the government
believed the Company may have violated the False Claims Act in community rate
certifications that were the subject of the audit and that it believed the
government's actual damages to be approximately $15 million.
In October 1996, the Company reached an agreement with the government to
resolve these claims. The agreement called for the Company to pay $12
million, which amount the Company understands will be allocated by OPM to the
FEHBP Contingency Reserve Funds for the regions covered by the Company's
contracts. The Company did not pay any fine or penalty under the agreement.
Under the terms of the agreement, the government released the Company from
all claims under the subject contracts for the years covered by the draft
audit report.
OPM has opened two additional audits for years as far back as 1990 at
two of the Company's other HMO subsidiaries. In October 1996, OPM sent a
draft audit report with respect to the Company's TakeCare subsidiary,
alleging certain defects in the subsidiary's rating practices for the years
1990 through 1994, and requesting that the Company comment on the draft
findings. The Company currently is evaluating the draft audit report and
preparing a response.
It is likely the final TakeCare audit report will recommend that OPM
seek a monetary recovery from the Company and that such recommended recovery
will be for a substantial amount. Based on positions taken by the government
with respect to the 1987-1991 draft audit report discussed above, management
believes that the other open audit and other possible future audits may
allege defective rating practices and result in claims for adjustments from
OPM. Management cannot determine if such claims will result in further
referrals to the Department of Justice and further False Claims Act claims.
Based on management's understanding of the government's current
interpretation of the community rating standard requirements, management
currently believes it has established adequate reserves to settle any claims
that may arise from present or future FEHBP rate audits for years between and
including 1987 through 1996, or that amounts in excess of reserves, if any,
necessary to settle any such claims would not be such as to have a material
adverse effect on the consolidated financial position or results of
operations or cash flows of the Company. In addition, the Company's
management currently does not believe the OPM audits will have a material
effect on future relations with OPM.
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The preceding two paragraphs in this subsection headed "OPM Audits"
consist of forward looking statements. The actual outcome of any OPM audits,
claims for adjustments and/or False Claims Act claims, the manner in which
and amounts for which any such claims will be resolved, and the adequacy of
reserves may differ materially from management's current expectation.
Factors that could cause the resolution of these matters to differ materially
from management's current expectation include the presentation by the
government of new interpretations of FEHBP requirements, the presentation of
new data relating to the determination of applicable rate changes or in the
manner in which the government seeks to apply the False Claims Act to such
situations, and/or a change in the government's position toward negotiated
settlements of OPM audits and/or False Claims Act claims.
LIQUIDITY AND CAPITAL RESOURCES
The Company's consolidated cash, cash equivalents and short-term
investments increased by $25 million to $380 million at September 30, 1996,
from $355 million at June 30, 1996. The major source of cash during the
first quarter of fiscal year 1997 was $55 million from operations. Uses of
cash during the quarter included $13 million for capital expenditures, $7
million for Preferred Stock dividends, and $15 million of debt repayment.
In September, 1993, the Company issued $100 million of ten-year Senior
Notes (the "Notes") which carry interest at 7%. In March, 1994, the Company
entered into a $350 million Credit Agreement. The Credit Agreement, as
amended, provides for a $200 million Revolving Credit Loan and a $150 million
Term Loan. The Company borrows at rates based on LIBOR rate borrowings which
currently approximate 5.9%. The Term Loan is repayable at the rate of $15
million every six months, with the final repayment due March 31, 2000. The
Credit Agreement contains financial and other covenants, including
limitations on indebtedness, liens, dividends, sale and lease-back
transactions, and certain other transactions. As of September 30, 1996,
borrowings of $19 million were outstanding under the Credit Agreement.
The Company's ability to make a payment on, or repayment of, its
obligations under the Credit Agreement, the Notes and its Preferred Stock is
significantly dependent upon the receipt of funds by the Company from the
Company's direct and indirect subsidiaries. These subsidiary payments
represent: (a) fees for management services rendered by the Company to the
subsidiaries; and (b) cash dividends by the subsidiaries to the Company.
Nearly all of the subsidiaries are subject to HMO regulations or insurance
regulations (the "Regulated Subsidiaries"). Each of the Regulated
Subsidiaries must meet or exceed various fiscal standards imposed by HMO
regulations or insurance regulations. These fiscal standards may, from time
to time, impact the amount of funds paid by one or more of the Regulated
Subsidiaries to the Company. The Company believes the payments referred to
above by the Regulated Subsidiaries, together with other financing sources,
including the Credit Agreement, should be sufficient to enable the Company to
meet its payment obligations under the Notes, the Credit Agreement and the
Company's Preferred Stock. The Company believes that cash flow from
operations, the Credit Agreement and existing cash balances will be
sufficient to continue to fund operations and capital expenditures for the
foreseeable future.
Under the Merger Agreement, PacifiCare agreed to acquire all of the
outstanding Common and Preferred Stock of the Company. At the Effective Time
of the PacifiCare transaction, each outstanding share of Company Common Stock
and Series A Preferred will be converted in part into rights to purchase a
proportionate share (on an as-if-converted basis) of all of the Company's
holdings in Talbert (the "Rights").
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The Rights will be delivered promptly after the Effective Time and will be
exercisable for 30 days after delivery. On or before the Effective Time,
Talbert will be capitalized to a net worth of approximately $60 million. The
Company anticipates funding the Talbert capitalization through borrowings
under its Credit Agreement. The Company currently expects that PacifiCare
will assume the Company's obligation under the Notes. It is expected that
outstanding balances under the Company's Credit Agreement will be paid in
full and the Credit Agreement terminated upon consummation of the merger. In
addition, all of the preceding statements about the Company's expectations or
intentions are subject to changes that might result from the acquisition of
the Company by PacifiCare.
EFFECTS OF REGULATORY CHANGES AND INFLATION
Effective January 1, 1996, the Company received an average premium rate
increase from HCFA of approximately 5.1% for its senior HMO members. Based on
HCFA's announcement in September, the Company is anticipating an average 5.7%
rate increase for calendar year 1997. The Company evaluates the effects of
HCFA premium adjustments on its liquidity and capital resources, and
incorporates the actual and anticipated impact of such adjustments into its
planning process.
The Company has been experiencing significant downward pressures on
commercial HMO premium rates, due to intense competition and
counter-inflationary measures by large commercial employers attempting to
hold their costs down. The Company has experienced competitive pressures in
both its commercial and senior markets in California and this is continuing
into fiscal year 1997. These downward pressures may continue throughout
fiscal year 1997. There can be no assurances that the Company will be able to
obtain premium rate increases in the commercial sector in the short term.
In recent years health care costs have been rising at a rate higher than
that for consumer goods as a whole, as a result of inflation, new technology
and medical advances. The Company believes that internal cost control
measures and financial risk-sharing arrangements with its contract medical
providers help to mitigate the effects of inflation on its operations;
however, there can be no assurance that the Company's efforts to reduce the
impact of the increasing cost of health care will be as successful in the
future as they have been in the past.
SAFE HARBOR STATEMENT UNDER THE PRIVATE SECURITIES LITIGATION REFORM ACT OF
1995
The statements in this Management's Discussion and Analysis of Financial
Condition and Results of Operations concerning future events, activities,
conditions and any and all statements that are not historical facts are
forward-looking statements. Actual results may differ materially from those
projected. Forward-looking statements involve risks and uncertainties. The
Company's ability to expand has been and may continue to be affected by
increasing competition, product choices and competitors in the Company's
service areas. Many employer groups want minimal premium increases or even
decreases, affecting the Company's ability to increase revenue; it is often
difficult to contract with physicians which affects the Company's ability to
control health care costs. There are numerous external factors including but
not limited to government regulation, natural disasters, health care reform,
new technology, epidemics and hospital costs which affect the Company. A
change in any one or a combination thereof could affect the Company's future
financial performance. Also, the Company's past performance is not
necessarily evidence of or an indication of the Company's future financial
performance.
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PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS.
Information relating to certain litigation as set forth in Note 4 of
Notes to Consolidated Financial Statements in Part I of this report is
incorporated herein by this reference.
In the third quarter of fiscal year 1996, the United States Department
of Justice notified the Registrant that, based on a draft United States
Office of Personnel Management ("OPM") audit report of certain of the
Registrant's contracts with OPM covering primarily the years 1987 through
1991 and on discussions with OPM personnel, the Government believed that the
Registrant may have violated the False Claims Act in community rate
certifications that were the subject of the audit and that it believed the
Government's damages to be approximately $15 million. In October 1996, the
Registrant reached an agreement with the Government to resolve these claims.
The agreement called for the Registrant to pay $12 million, which amount the
Registrant understands will be allocated by OPM to the FEHBP Contingency
Reserve Funds for the regions covered by the Registrant's contracts. The
Registrant did not pay any fine or penalty under the agreement. Under the
terms of the agreement, the Government released the Registrant from all
claims under the subject contracts for the years covered by the draft audit
report. See "Management's Discussion and Analysis of Financial Condition and
Results of Operations - OPM."
ITEM 2. CHANGES IN SECURITIES.
None.
ITEM 3. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
None.
ITEM 5. OTHER INFORMATION.
During the quarter ended September 30, 1996, the Registrant's Board of
Directors authorized an amendment to the employment agreements with the
following executives: Gloria L. Austin, Robert N. Franklin, Larry D. Gray,
Burke F. Gumbiner, Jeffrey H. Margolis, Jack D. Massimino, Roger L. Moseley,
Kenneth S. Ord, Westcott W. Price III, Eric D. Sipf and Michael J. Weinstock.
The employment agreements are currently in the process of being amended. The
form of amendment is filed as Exhibit 10.1 to this Form 10-Q.
During the quarter ended September 30, 1996, the Registrant's Board of
Directors authorized a second amendment to that certain Stock Purchase
Agreement (the "Agreement") dated as of March 15, 1996, as amended, by and
among the Registrant, Talbert Medical Management Corporation ("TMMC"),
Talbert Health Services Corporation ("THSC") and certain management
investors. The Agreement is currently in the process of being amended. The
form of Amendment No. 2 to the Agreement is filed as Exhibit 10.2 to this
Form 10-Q.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
(a) Exhibits. See Index to Exhibits at page 20 of this report.
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(b) Reports on Form 8-K.
The Registrant filed a report on Form 8-K dated August 19, 1996, which
reported that the Registrant entered into an Agreement and Plan or
Reorganization (the "Original Merger Agreement") dated August 4, 1996, by and
among the Registrant, PacifiCare Health Systems, Inc., a Delaware corporation
("PHS"), N-T Holdings, Inc., a Delaware corporation ("New PacifiCare"),
Neptune Merger Corp., a Delaware corporation and a wholly-owned subsidiary of
New PacifiCare, and Tree Acquisition Corp., a Delaware corporation and a
wholly-owned subsidiary of New PacifiCare ("Company Sub"). Pursuant to the
Original Merger Agreement, New PacifiCare will acquire all the stock of the
Registrant by merger of the Registrant with Company Sub (the "Transaction").
In the Transaction, holders of the Registrant's common stock will receive
consideration of an approximate value of $35.00 per share through a
combination of $17.50 in cash and shares of Class A common stock and Class B
common stock of New PacifiCare, plus rights to purchase stock of two
subsidiaries of the Registrant, Talbert Medical Management Corporation and
Talbert Health Services Corporation ("Talbert"). The maximum amount of Class
A common stock of New PacifiCare that will be issued to stockholders of the
Registrant will be 2,350,000 shares. The balance of New PacifiCare stock to
be issued to the Registrant's stockholders will be Class B common stock.
Holders of the Registrant's Series A Preferred Stock will receive for each
such share $14.113 in cash plus one-half share of new Series A Preferred
Stock of New PacifiCare which shall be convertible into Class B Common Stock
of New PacifiCare. The number of shares to be delivered in the Transaction
is subject to adjustment based on the price of PHS stock during a twenty day
trading period ending prior to the Registrant's stockholders meeting.
The closing of the Transaction is subject to customary closing
conditions, including the approval of the stockholders of the Registrant and
PHS, various regulatory approvals and passage of the waiting period under the
Hart-Scott-Rodino Antitrust Improvements Act of 1976 ("HSR").
The Registrant filed a report on Form 8-K dated September 24, 1996,
which reported that the Registrant, PHS, New PacifiCare, PacifiCare Merger
Sub and FHP Merger Sub entered into an Amended and Restated Agreement and
Plan of Reorganization (the "Merger Agreement") amending and restating in its
entirety the Original Merger Agreement. The principal purpose of the Merger
Agreement is to provide that the Transaction may occur whether or not a
proposed amendment to the Registrant's Certificate of Incorporation (the
"Series A Amendment") is approved. In the event such approval is not
obtained, each holder of the Registrant's Series A Cumulative Convertible
Preferred Stock ("Series A Preferred Stock") (i) will be entitled to exercise
"Special Conversion Rights" (as provided in the Registrant's Certificate of
Incorporation), or (ii) in the absence of an exercise of Special Conversion
Rights, will be entitled to receive the same consideration in the Transaction
that such holder would have received had such holder converted such holder's
Series A Preferred Stock into Common Stock immediately prior to the effective
time of the Transaction. The Merger Agreement also clarifies the Original
Merger Agreement in certain other respects.
The September 24, 1996 Form 8-K also reported that on September 20,
1996, the Registrant and PHS jointly announced that the U.S. Federal Trade
Commission had, in accordance with the regulations promulgated under HSR,
requested additional documentation regarding the Transaction (the "Second
Request").
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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 thereunto duly authorized.
FHP INTERNATIONAL CORPORATION
Dated: November 13, 1996 By: /s/ Kenneth S. Ord
-----------------------------------
Senior Vice President and
Chief (Principal) Financial Officer
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INDEX TO EXHIBITS
Exhibit
Number
*2.1 Agreement and Plan of Reorganization dated August 4, 1996, by and
among the Registrant, PacifiCare Health Systems, Inc., N-T Holdings, Inc.,
Neptune Merger Corp., and Tree Acquisition Corp. (Exhibit 2 to Form 8-K
dated August 19, 1996).
*2.2 Amended and Restated Agreement and Plan of Reorganization dated
September 17, 1996, by and among the Registrant, PacifiCare Health
Systems, Inc., N-T Holdings, Inc., Neptune Merger Corp., and Tree
Acquisition Corp. (Exhibit 2 to Form 8-K dated September 24, 1996).
4.1 Registrant agrees to furnish to the Commission upon request a copy of
each instrument with respect to issues of long-term debt of the
Registrant, the authorized principal amount of which does not exceed
10% of total assets of Registrant.
10.1 Form of Amendment No. 1 to Employment Agreement with the following
executives: Gloria L. Austin, Robert N. Franklin, Larry D. Gray, Burke F.
Gumbiner, Jeffrey H. Margolis, Jack D. Massimino, Roger L. Moseley,
Kenneth S. Ord, Westcott W. Price III, Eric D. Sipf and Michael J.
Weinstock.
10.2 Form of Amendment No. 2 to Stock Purchase Agreement dated as of March
15, 1996, as amended, by and among the Registrant, Talbert Medical
Management Corporation, Talbert Health Services Corporation, Kathryn M.
Adair, Gloria L. Austin, Larry L. Georgopolous, Richard D. Jacobs,
Jack D. Massimino, Barbara C. McNutt, Kenneth S. Ord, Westcott W. Price
III, Walter R. Stone, Margaret Van Meter and Michael J. Weinstock.
11.1 Statement re: Computation of Earnings Per Share.
27.1 Financial Data Schedule.
* Previously filed.
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Exhibit 10.1
AMENDMENT NO. 1 TO EMPLOYMENT AGREEMENT
This AMENDMENT NO. 1 TO EMPLOYMENT AGREEMENT, dated as of September 17,
1996 (the "Amendment"), is made by and between FHP International Corporation, a
Delaware corporation (the "Company") and ________________ (the "Executive"), for
the purpose of amending the EMPLOYMENT AGREEMENT between them dated as of the
_____ day of ________________, 1996 (the "Employment Agreement"). Defined terms
not defined herein shall have the meanings assigned to them in the Employment
Agreement.
WHEREAS, the Company has entered into the Agreement and Plan of
Reorganization dated as of August 4, 1996 among the Company, PacifiCare Health
Systems, Inc., a Delaware corporation, N-T Holdings, Inc., a Delaware
corporation ("PacifiCare Holding"), and certain other persons, as amended and
restated by the Amended and Restated Agreement and Plan of Reorganization among
them dated as of September 17, 1996 (as so amended, the "Reorganization
Agreement"); and
WHEREAS, the Company desires the benefits of the continued services of the
Executive before and after the Effective Date, and the Executive is willing to
render such services, pursuant and subject to the terms and conditions of the
Employment Agreement as amended hereby; and
WHEREAS, Section 4.8(b) of the Reorganization Agreement permits the
Employment Agreement to be amended as provided herein.
NOW, THEREFORE, in consideration of the promises and the covenants and
agreements contained herein, the parties hereto agree as follows:
1. AMENDMENT TO EMPLOYMENT AGREEMENT. The Employment Agreement is hereby
amended by revising Section 11(c) of the Employment Agreement to read as
follows:
"(c) PROVIDED THAT (i) on or before the Effective Date the Executive
shall have executed and delivered to the Company a Covenant Not to Compete
during the Employment Period in the form of EXHIBIT "A" hereto, (ii) within
30 days after the Date of Termination the Executive shall have executed and
delivered to the Company a Settlement and Release Agreement in the form of
EXHIBIT "B" hereto in the manner specified therein, and (iii) if and for so
long as he or she may have been requested to do so (but not beyond the end
of the Employment Period), the Executive shall have served as a director of
the Company or any corporation controlling, controlled by or under common
control with the Company, on terms and conditions no less favorable than
apply to other directors of such corporation except that such service shall
be without compensation, THEN: If the Executive's employment is terminated
other than voluntarily or for Cause, Death or Disability prior to the end
of the Employment
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Period, each of the Executive's outstanding Option Rights which shall not
otherwise have become exercisable shall become exercisable in such manner
and at such times as the Option Right would have become exercisable if the
Executive had not terminated employment and shall remain exercisable until
the earlier of the date which is 90 days following the date on which the
Option Right first becomes exercisable or the original expiration date of
the Option Right. Calculation of the number of Options Rights that become
immediately exercisable under Section 11(a) shall be made independently of
this Section 11(c)."
2. GOVERNING LAW. This Amendment shall be governed by and construed in
accordance with the internal laws of the State of Delaware.
3. NO OTHER AMENDMENTS. The Agreement, as amended by this Amendment, is
and shall continue to be in full force and effect and is hereby in all respects
ratified and confirmed. Except as expressly provided herein, nothing in this
Amendment shall waive or be deemed to waive or modify any rights or obligations
of any of the parties under the Agreement.
4. COUNTERPARTS. This Amendment may be executed in any number of
counterparts, each of which will be deemed to be an original but all of which
together will constitute but one instrument.
IN WITNESS WHEREOF, the parties have duly executed this Amendment as of the
date first above mentioned.
FHP International Corporation,
a Delaware corporation
By:____________________________________________
Name: Westcott W. Price III
Title: President and Chief Executive Officer
_______________________________________________
Executive
2
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COVENANT NOT TO COMPETE
This COVENANT NOT TO COMPETE, dated as of September 17, 1996 (the
"Agreement"), is made by and between FHP International Corporation, a Delaware
corporation (the "Company"), and ________________ ("Executive"). Defined terms
not defined herein shall have the meanings assigned to them in the Employment
Agreement or the Reorganization Agreement (as defined below).
WHEREAS, as of the Effective Time, the Company shall have merged pursuant
to the Amended and Restated Agreement and Plan of Reorganization dated as of
September 17, 1996 (the "Reorganization Agreement") among the Company,
PacifiCare Health Systems, Inc., a Delaware corporation, N-T Holdings, Inc., a
Delaware corporation ("PacifiCare Holding"); and
WHEREAS, as of the Effective Time and pursuant to the Company Merger, all
stock of the Company held by Executive has been converted into stock of
PacifiCare Holding and certain other consideration, and all Company Options
held by Executive have been replaced by Exchange Options, in accordance with the
provisions of the Reorganization Agreement; and
WHEREAS, the Company desires the benefits of the continued services of the
Executive after the Effective Time, and the Executive is willing to render such
services, pursuant and subject to the terms and conditions of the Employment
Agreement; and
WHEREAS, Executive desires the benefits of Section 11(c) of the Employment
Agreement and in consideration thereof desires to execute and deliver this
Agreement in accordance therewith.
NOW, THEREFORE, in consideration of the promises and the covenants and
agreements contained herein, the parties hereto agree as follows:
1. COVENANT NOT TO COMPETE. Until the earlier of the expiration of the
Employment Period or the expiration of 30 days following Executive's Date
of Termination without execution and delivery by Executive of a Settlement
and Release Agreement as provided in Section 11(c) of the Employment
Agreement, Executive shall not, directly or indirectly, as principal,
employee, agent, independent contractor, proprietor, partner, or otherwise,
operate, own, manage, control, or participate in conducting the same
business in the same cities and counties as carried on by the Company in
the State of California at the Effective Time, if in so doing Executive
personally carries on activities substantially the same in all material
respects as the activities carried on by Executive as an officer and
employee of the Company at the Effective Time.
2. REASONABLENESS OF COVENANT. Executive has carefully considered the nature
and extent of the restrictions upon Executive and the rights and remedies
conferred upon Company under this Agreement, and hereby acknowledges and
agrees that such
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<PAGE>
covenants are reasonable, are designed to prevent irreparable damage to
Company, are required to protect Company's legitimate interests, and do
not confer a benefit upon Company disproportionate to the detriment of
Executive.
3. NO WAIVER. No waiver of any of the provisions herein shall be valid unless
in writing signed by the party against whom such claimed waiver is sought
to be enforced, nor shall a failure to enforce any right hereunder
constitute a continuing waiver of the notice or a waiver of any other right
hereunder. The failure of the Company at any time or from time to time to
require performance of any of Executive's obligations hereunder shall in no
manner affect the Company's right to enforce any provision of this
Agreement at a subsequent time.
4. SEVERABILITY. In the event that any provision or portion of this Agreement
be found by a court of competent jurisdiction to be invalid or
unenforceable, this Agreement shall be deemed to be amended so as to delete
only the invalid or unenforceable provision, or the invalid or
unenforceable portion thereof, and the remaining provisions hereof shall
remain in full force and effect.
5. SUCCESSORS. This Agreement shall inure to the benefit of, and be binding
upon the parties, their heirs, executors, administrators, successors and
assigns.
6. GOVERNING LAW. This Amendment shall be governed by and construed in
accordance with the law of the State of California, without reference to
principles of conflicts of laws.
7. COUNTERPARTS. This Amendment may be executed in any number of
counterparts, each of which will be deemed to be an original but all of
which together will constitute but one instrument.
IN WITNESS WHEREOF, the parties have duly executed this Agreement as
of the date first above mentioned.
FHP INTERNATIONAL CORPORATION
By:_______________________________________
Westcott W. Price III
President and Chief Executive Officer
__________________________________________
Executive
4
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SETTLEMENT AGREEMENT AND RELEASE
This SETTLEMENT AGREEMENT AND RELEASE ("Agreement") is entered into by and
between ________________ ("Executive") and FHP International Corporation, a
Delaware corporation (the "Company"), pursuant to the EMPLOYMENT AGREEMENT
between them dated as of the _____ day of __________, 1996, as amended (the
"Employment Agreement").
WHEREAS, the employment of Executive by the Company terminated
__________________ (the "Termination Date"); and
WHEREAS, Executive desires the benefits of Section 11(c) of the Employment
Agreement and in consideration thereof desires to execute and deliver this
Agreement in accordance therewith.
NOW, THEREFORE, in consideration of the promises and the covenants and
agreements contained herein, the parties hereto agree as follows:
1. RELEASE. In consideration of the above, the sufficiency of which
Executive hereby acknowledges, and subject to the proviso hereinafter set forth,
Executive hereby agrees not to sue and fully, finally, completely and generally
releases, absolves and discharges the Company, its predecessors, successors,
subsidiaries, parents, related companies and business concerns, affiliates,
partners, trustees, directors, officers, agents, attorneys, servants,
representatives and employees, past and present, and each of them (hereinafter
collectively referred to as "Releasees") from any and all claims, demands,
liens, agreements, contracts, covenants, actions, suits, causes of action,
grievances, arbitrations, unfair labor practice charges, wages, vacation
payments, severance payments, obligations, commissions, overtime payments,
Workers' Compensation claims, debts, profit sharing or bonus claims, expenses,
damages, judgments, orders and/or liabilities of whatever kind or nature in law,
equity or otherwise, whether known or unknown to Executive, which Executive now
owns or holds or has at any time owned or held as against Releasees, or any of
them ("Claims"), including specifically but not exclusively and without limiting
the generality of the foregoing, any and all Claims arising out of or in any way
connected to Executive's employment with or separation of employment from
Executive including any Claims based on contract, tort, wrongful discharge,
fraud, breach of fiduciary duty, attorneys' fees and costs, discrimination in
employment, any and all acts or omissions in contravention of any federal or
state laws or statutes (including but not limited to federal or state securities
laws and the Racketeer Influenced and Corrupt Organizations Act), and any right
to recovery based on state or federal age, sex, pregnancy, race, color, national
origin, marital status, religion, veteran status, disability, sexual
orientation, medical condition, union affiliation or other anti-discrimination
laws, including, without limitation, Title VII, the Age Discrimination in
Employment Act, the Americans with Disabilities Act, the National Labor
Relations Act, and the California Fair Employment and Housing Act, all as
amended, whether such claim be based upon an action
5
<PAGE>
filed by Executive or by a governmental agency; PROVIDED, HOWEVER, the
foregoing release shall not affect or diminish any rights of Executive under
the Employment Agreement or in respect of vested employee benefits. "Vested
employee benefits" means any and all rights of Executive under or in respect
of (i) any employee benefit plan of the Company or any corporation or other
entity which controlling, controlled by or under common control with the
Company or that is a Releasee ("Affiliated Company"), (ii) any option or
other agreement relating to any right or interest of Executive in any stock
or other securities of the Company or any Affiliated Company, (iii) salary or
wages payable for services rendered before the Termination Date, (iv)
reimbursement for business expenses or other amounts for which Executive is
entitled to reimbursement by the Company immediately before the Termination
Date, or (v) indemnification as an agent.
(a) Executive acknowledges and agrees that neither anything in this
Agreement or the offer, execution, delivery, or acceptance thereof shall be
construed as an admission of any kind by the Company, and this Agreement shall
not be admissible as evidence in any proceeding except to enforce this
Agreement.
(b) It is the intention of Executive in executing this instrument
that it shall be effective as a bar to each and every claim, demand, grievance
and cause of action hereinabove specified as being released. In furtherance of
this intention, Executive hereby expressly consents that this Agreement shall be
given full force and effect according to each and all of its express terms and
provisions, including those relating to unknown and unsuspected claims, demands
and causes of action, if any, as well as those relating to any other claims,
demand and causes of action hereinabove specified, and elects to assume all
risks for claims that now exist in Executive's favor, known or unknown, that are
released under this Agreement. Executive acknowledges that Executive may
hereafter discover facts different from, or in addition to, those Executive now
knows or believes to be true with respect to the claims, demands, liens,
agreements, contracts, covenants, actions, suits, causes of action, wages,
obligations, debts, expenses, damages, judgments, orders and liabilities herein
released, and agrees the release herein shall be and remain in effect in all
respects as a complete and general release as to all matters released herein,
notwithstanding any such different or additional facts.
(c) If any provision of this Agreement or application thereof is held
invalid, the invalidity shall not affect other provisions or applications of the
Agreement which can be given effect without the invalid provision or
application. To this end, the provisions of this Agreement are severable.
(d) Executive represents and warrants that Executive has not
heretofore assigned or transferred or purported to assign or transfer to any
person, firm or corporation any claim, demand, right, damage, liability, debt,
account, action, cause of action, or any other matter herein released.
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<PAGE>
(e) NOTICE TO EXECUTIVE: The law requires that Executive be advised
and the Company hereby advises Executive to consult with an attorney and discuss
this Agreement before executing it. Executive acknowledges that the Company has
provided to Executive at least 21 days within which to review and consider this
Agreement before signing it. If Executive decides not to use the full 21 days,
then Executive knowingly and voluntarily waives any claims that Executive was
not in fact given that period of time or did not use the entire 21 days to
consult an attorney and/or consider this Agreement. Executive acknowledges that
Executive may revoke this Agreement for up to seven calendar days following
Executive's execution of this Agreement and that it shall not become effective
or enforceable until the revocation period has expired. Executive further
acknowledges and agrees that such revocation must be in writing addressed to the
Company as follows: FHP International Corporation, P.O. Box 25186, Santa Ana,
California 92799, Attn: President, and received by the Company as so addressed
not later than midnight on the seventh day following execution of this Agreement
by Executive. If Executive so revokes this Agreement, the Agreement shall not
be effective or enforceable and Executive will not receive the benefits
described above. If Executive does not revoke this Agreement in the time frame
specified above, the Agreement shall become effective at 12:00:01 on the eighth
day after it is signed by Executive.
(f) Executive represents that Executive has read and understood the
foregoing Agreement, has been advised to and has had the opportunity to discuss
it with anyone he or she desires, including an attorney of his or her own
choice, and Executive accepts and agrees to the terms of this Agreement,
acknowledges receipt of a copy of the same and the sufficiency of the benefits
described above, and hereby executes this Agreement voluntarily and with full
understanding of its consequences.
PLEASE READ CAREFULLY. THIS AGREEMENT CONTAINS A GENERAL RELEASE OF
ALL KNOWN AND UNKNOWN CLAIMS.
Date:_____________ , 199__ Executive:
____________________________
Date:_____________ , 199__ FHP International Corporation
By:_____________________________
Its:____________________________
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Exhibit 10.2
AMENDMENT NO. 2 TO STOCK PURCHASE AGREEMENT
This AMENDMENT No. 2 TO STOCK PURCHASE AGREEMENT, dated as of September 17,
1996 (the "Amendment"), is made by and among FHP International Corporation, a
Delaware corporation ("FHP"), Talbert Medical Management Corporation, a Delaware
corporation (the "Company"), Talbert Health Services Corporation, a Delaware
corporation ("THSC"), Kathryn M. Adair, Gloria L. Austin, Larry L. Georgopolous,
Richard D. Jacobs, Jack D. Massimino, Barbara C. McNutt, Kenneth S. Ord,
Westcott W. Price III, Walter R. Stone, Margaret Van Meter and Michael J.
Weinstock. Defined terms not defined herein shall have the meanings assigned to
them in the Stock Purchase Agreement.
WHEREAS, FHP, the Company and the Management Investors are parties to that
certain Stock Purchase Agreement, dated as of March 15, 1996, as amended by that
certain Amendment No. 1 to Stock Purchase Agreement, dated as of May 31, 1996
(collectively, the "Stock Purchase Agreement"); and
WHEREAS, FHP, PacifiCare Health Systems, Inc., a Delaware corporation
("PacifiCare"), N-T Holdings, Inc., a Delaware corporation, Neptune Merger
Corp., a Delaware corporation and Tree Acquisition Corp., a Delaware
corporation, have entered into that certain Amended and Restated Agreement and
Plan of Reorganization, dated September 17, 1996 (the "Reorganization
Agreement"); and
WHEREAS, the Reorganization Agreement provides that the common and
preferred stockholders of FHP will receive transferable rights (the "Rights") to
subscribe for 92.25% of the outstanding shares of either TMMC Common Stock or
the capital stock of an affiliated entity (the "Rights Offering"); and
WHEREAS, prior to the execution of the Stock Purchase Agreement, William P.
Bracciodieta ("Bracciodieta"), originally intended to be a party to the Stock
Purchase Agreement as a Management Investor, ceased to be in the employ of FHP,
and, after the execution of the Stock Purchase Agreement but prior to the
issuance of the Management Stock thereunder to the Management Investors, R. Judd
Jessup ("Jessup"), a party to the Stock Purchase Agreement as a Management
Investor, ceased to be in the employ of FHP, and, accordingly, no shares of
Management Stock were issued and sold to either Bracciodieta or Jessup pursuant
to the Stock Purchase Agreement; and
WHEREAS, in light of the execution of the Reorganization Agreement and the
termination of the employment of Bracciodieta and Jessup with the Company and
FHP, FHP, THSC, the Company and the Management Investors desire to amend the
Stock Purchase Agreement in certain respects as set forth below.
NOW, THEREFORE, in consideration of the premises and the representations,
warranties, covenants and agreements contained herein, the parties hereto agree
as follows:
1
<PAGE>
1. AMENDMENTS TO STOCK PURCHASE AGREEMENT.
(a) ADJUSTMENT OF NUMBERS AND PERCENTAGES. The second sentence of
Section 2.1 of the Stock Purchase Agreement is hereby amended to read as
follows:
"The aggregate number of shares of TMMC Stock issued to the Management
Investors shall be 812,500 (the "TMMC Management Stock"), and the TMMC
Stock issued to the Management Investors, collectively, initially shall
comprise 8.125% of the total outstanding common stock of the Company (the
"TMMC Management Stock"); and the aggregate number of shares of THSC Stock
issued to the Management Investors shall be 45, and the THSC Stock issued
to the Management Investors, collectively, initially shall comprise
approximately 8.125% of the total outstanding common stock of THSC (the
"THSC Management Stock", with the TMMC Management Stock and the THSC
Management Stock collectively referred to herein as the "Management
Stock")."
(b) EXPIRATION OF CERTAIN OPTIONS. At the Effective Time (as that
term is defined in the Reorganization Agreement), the Stock Purchase Agreement
shall be amended to add the following as Section 12:
"12. EXPIRATION OF CERTAIN OPTIONS. Notwithstanding anything to the
contrary contained in this Agreement (including, without limitation, the
provisions of Sections 3.2 and 5.4, above):
12.1 TERMINATION OF FHP MANAGEMENT INVESTORS WITHOUT CAUSE. In
the event that the employment with FHP of any of the Management Investors
who are officers of FHP (the "FHP Management Investors") is terminated
without cause, any Restrictions remaining applicable to the Management
Stock owned by such FHP Management Investor shall terminate, and all
unvested Management Stock owned by such FHP Management Investor shall vest.
Such Restrictions shall be deemed to terminate, and such Management Stock
shall be deemed to vest, prior to the time FHP's repurchase option provided
for in Section 5.1, above, arises; PROVIDED, HOWEVER, that in such event,
the Management Stock owned by such FHP Management Investor shall remain
subject to the options provided by Sections 5.2 and 5.3, above, until the
first to occur of the expiration of such options pursuant to the terms of
Section 5, above, or the expiration of such options pursuant to the terms
of Section 12.2, below.
12.2 CHANGE IN CONTROL OF THE COMPANY. Both the option granted
under Section 5.1 and the Performance Purchase Option granted under
Section 5.3 shall expire as to all Management Investors upon a Change in
Control (as herein defined) of TMMC which occurs at any time after the date
of the expiration of the subscription period during which the Rights are
exercisable under the Rights Offering (the "Expiration Date"). For
purposes of this Agreement, "Change in Control" means:
(a) The acquisition by any individual entity or group
(within the meaning of Section 13(d) or 14(d)(2) of the Exchange Act)
(a "Person") of
2
<PAGE>
beneficial ownership (within the meaning of Rule 13d-3 promulgated under
the Exchange Act) of over 50% of either (i) the then outstanding shares of
common stock of the Company (the "Outstanding Company Common Stock") or
(ii) the combined voting power of the then outstanding voting securities
of the Company entitled to vote generally in the election of directors
(the "Outstanding Company Voting Securities"); PROVIDED, HOWEVER, that for
purposes of this subsection (a), the following acquisitions shall not
constitute a Change of Control: (i) any acquisition directly from the
Company, (ii) any acquisition by FHP or PacifiCare, or (iii) any
acquisition by any employee benefit plan (or related trust) sponsored or
maintained by the Company or PacifiCare, or any corporation controlled by
the Company or PacifiCare; or
(b) Individuals who, as of the Expiration Date, constitute
the Board of Directors of the Company (the "Incumbent Board") cease for any
reason to constitute at least a majority of the Board of Directors of the
Company; provided, however, that any individual becoming a director
subsequent to the Expiration Date whose election, or nomination for
election by the Company's shareholders, was approved by a vote of at least
a majority of the directors then comprising the Incumbent Board shall be
considered as though such individual were a member of the Incumbent Board,
but excluding, for this purpose, any such individual whose initial
assumption of office occurs as a result of an actual or threatened election
contest with respect to the election or removal of directors or other
actual or threatened solicitation of proxies or consents by or on behalf of
a Person other than the Board of Directors of the Company."
2. FHP PURCHASE OF STOCK. The parties hereto consent to the purchase by
FHP from, and the issuance, sale and transfer to FHP by, (i) the Company of
87,500 shares of TMMC Common Stock, for consideration in the amount of $.01 per
share, and (ii) THSC of 5 shares of THSC Common Stock, for consideration in the
amount of $2.00 per share. Such purchases by FHP shall occur as soon as
practicable after the execution of this Amendment, and pursuant to a resolution
of the Board of Directors of each of the Company and THSC adopted as of
September 17, 1996.
3. FHP CAPITALIZATION OF THE COMPANY. The parties hereto consent to any
capital contributions which have been or will be made to the Company by FHP
pursuant to Section 4.15(b) of the Reorganization Agreement.
4. GOVERNING LAW. This Amendment shall be governed by and construed in
accordance with the law of the State of Delaware, without reference to its
conflicts of law rules.
5. NO OTHER AMENDMENTS. The Stock Purchase Agreement, as amended by this
Amendment, is and shall continue to be in full force and effect and is hereby in
all respects ratified and confirmed. Except as provided herein, nothing in this
Amendment shall waive or be deemed to waive or modify (except as expressly set
forth herein) any rights or obligations of any of the parties under the Stock
Purchase Agreement.
3
<PAGE>
6. COUNTERPARTS. This Amendment may be executed in any number of
counterparts, each of which will be deemed to be an original but all of which
together will constitute but one instrument.
IN WITNESS WHEREOF, the parties have duly executed this Amendment as of the
date first above mentioned.
FHP International Corporation, Talbert Health Services Corporation,
a Delaware corporation a Delaware corporation
By:_______________________________ By:_________________________________
Name:_____________________________ Name:_______________________________
Title:____________________________ Title:______________________________
Talbert Medical Management Corporation,
a Delaware corporation
By:_______________________________
Name:_____________________________ ____________________________________
Title:____________________________ Kathryn M. Adair
__________________________________ ____________________________________
Gloria L. Austin Larry L. Georgopolous
__________________________________ ____________________________________
Richard D. Jacobs Jack D. Massimino
__________________________________ ____________________________________
Barbara C. McNutt Kenneth S. Ord
__________________________________ ____________________________________
Westcott W. Price III Walter R. Stone
__________________________________ ____________________________________
Margaret Van Meter Michael J. Weinstock
4
<PAGE>
EXHIBIT 11.1
FHP INTERNATIONAL CORPORATION
STATEMENT RE: COMPUTATION OF EARNINGS PER SHARE
(unaudited)
For The
(amounts in thousands, Three Months Ended
except per share data) September 30,
1996 1995
--------- --------
Primary earnings per share
attributable to Common Stock:
Net income attributable to
Common Stock $ 16,969 $ 7,320
--------- --------
--------- --------
Weighted average number of
common shares and common
share equivalents:
Common Stock 40,936 40,249
Assumed exercise of options 1,123 767
--------- --------
Total shares 42,059 41,016
--------- --------
--------- --------
Primary earnings per share
attributable to Common Stock $ 0.40 $ 0.18
--------- --------
--------- --------
Fully diluted earnings per share:
Net income attributable to
Common Stock assuming
conversion of Series A
Cumulative Convertible
Preferred Stock $ 23,544 $ 13,878
--------- --------
--------- --------
Weighted average number of
common shares and common
share equivalents:
Common Stock 40,936 40,249
Assumed exercise of options 1,396 772
Assumed conversion of
Series A Cumulative
Convertible Preferred Stock 16,968 16,968
--------- --------
Total shares, assuming
full dilution 59,300 57,989
--------- --------
--------- --------
Fully diluted earnings per share $ 0.40 $ 0.24(1)
--------- --------
--------- --------
(1) This computation is submitted in accordance with Regulation S-K,
Item 601(b)(11) although it is contrary to paragraph 40 of Accounting
Principles Board Opinion No. 15 because it produces an anti-dilutive result.
21
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
CONSOLIDATED STATEMENTS OF INCOME, BALANCE SHEETS AND CASH FLOWS OF FHP
INTERNATIONAL CORPORATION AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE
TO SUCH SEPTEMBER 30, 1996 QUARTERLY REPORT ON FORM 10-Q.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> JUN-30-1997
<PERIOD-START> JUL-01-1996
<PERIOD-END> SEP-30-1996
<CASH> 164,295
<SECURITIES> 215,571
<RECEIVABLES> 171,426
<ALLOWANCES> 16,383
<INVENTORY> 8,800
<CURRENT-ASSETS> 612,016
<PP&E> 389,451
<DEPRECIATION> 158,394
<TOTAL-ASSETS> 2,044,218
<CURRENT-LIABILITIES> 650,782
<BONDS> 100,222
422,459
0
<COMMON> 525,793
<OTHER-SE> 243,449
<TOTAL-LIABILITY-AND-EQUITY> 2,044,218
<SALES> 1,098,699
<TOTAL-REVENUES> 1,098,699
<CGS> 1,061,705
<TOTAL-COSTS> 1,061,705
<OTHER-EXPENSES> 0
<LOSS-PROVISION> (2,456)
<INTEREST-EXPENSE> 2,493
<INCOME-PRETAX> 43,600
<INCOME-TAX> 20,056
<INCOME-CONTINUING> 23,544
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 23,544
<EPS-PRIMARY> 0.40
<EPS-DILUTED> 0.40
</TABLE>
