<PAGE>
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
X QUARTERLY REPORT PURSUANT TO
---
SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR QUARTERLY PERIOD ENDED DECEMBER 31, 1997
COMMISSION FILE NO. 0-17490
IN HOME HEALTH, INC.
(Exact name of registrant as specified in its charter)
MINNESOTA 41-1458213
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
CARLSON CENTER, SUITE 500
601 CARLSON PARKWAY
MINNETONKA, MINNESOTA 55305-5214
(Address of principal executive offices)
(Zip Code)
612-449-7500
(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
---- ----
As of January 16, 1998, the number of shares outstanding of the
registrant's common stock, $.01 par value was 16,398,781 shares.
<PAGE>
IN HOME HEALTH, INC.
TABLE OF CONTENTS
PAGE NO.
--------
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
Consolidated Balance Sheets - 2-3
December 31, 1997 and September 30,
1997
Consolidated Statements of Operations - 4
For the three months ended December 31,
1997 and 1996
Consolidated Statements of Cash Flows - 5
For the three months ended December 31,
1997 and 1996
Notes to Unaudited Consolidated 6-10
Financial Statements
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS 11-15
OF THE FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
PART II. OTHER INFORMATION 16
1
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IN HOME HEALTH, INC.
CONSOLIDATED BALANCE SHEETS
(AMOUNTS IN THOUSANDS)
ASSETS
<TABLE>
<CAPTION>
Dec. 31, 1997 Sept. 30,
(UNAUDITED) 1997
----------- ---------
<S> <C> <C>
Current Assets:
Cash and cash equivalents $ 13,948 $ 13,853
Accounts receivable (net of allowances
of $2,194 and $2,029 in December and
September 1997, respectively) 11,481 14,125
Prepaid income tax 3,907 3,907
Deferred income tax 1,540 1,540
Prepaid expenses and other current assets 673 579
--------- ---------
Total current assets 31,549 34,004
--------- ---------
Property:
Furniture and equipment 9,335 9,621
Computer equipment and software 7,506 7,506
Leasehold improvements 669 727
--------- ---------
Total 17,510 17,854
Accumulated depreciation (10,916) (10,501)
--------- ---------
Property - net 6,594 7,353
--------- ---------
Other Assets:
Accounts receivable, long-term 2,890 2,891
Goodwill, net 5,392 5,432
Other assets 488 544
--------- ---------
Total other assets 8,770 8,867
--------- ---------
Total Assets $ 46,913 $ 50,224
--------- ---------
--------- ---------
</TABLE>
SEE NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS.
2
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IN HOME HEALTH, INC.
CONSOLIDATED BALANCE SHEETS (CONTINUED)
(AMOUNTS IN THOUSANDS)
LIABILITIES AND SHAREHOLDERS' EQUITY
<TABLE>
<CAPTION>
Dec. 31, 1997 Sept. 30,
(UNAUDITED) 1997
----------- ----------
<S> <C> <C>
Current Liabilities:
Current maturities of long-term debt $ 573 $ 777
Accounts payable 2,649 4,255
Accounts payable - related party 74 59
Accrued liabilities:
Third party 6,966 6,789
Compensation 3,348 4,034
Insurance 6,243 6,704
Restructuring 1,421 1,807
Other 383 583
---------- ---------
Total current liabilities 21,657 25,008
---------- ---------
Long-Term Debt 174 278
Deferred Revenue 293 398
Deferred Rent Payable 237 248
Deferred Income Tax 1,643 1,643
Commitments and Contingencies -- --
Redeemable Convertible Preferred Stock -
$1.00 par value, $20,000 redemption value,
authorized 200 shares; issued and outstanding
December 31 and September 30 - 200 shares 19,135 19,061
Shareholders' Equity:
Preferred stock - authorized 800 shares -- --
Common stock - $.01 par value:
authorized - 40,000 shares;
issued and outstanding -
December 31 - 16,399 shares;
September 30 - 16,399 shares 164 164
Additional paid-in capital 23,661 23,661
Retained earnings (deficit) (20,051) (20,237)
---------- ---------
Total shareholders' equity 3,774 3,588
---------- ---------
Total Liabilities and Shareholders' Equity $ 46,913 $ 50,224
---------- ---------
---------- ---------
</TABLE>
SEE NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS.
3
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IN HOME HEALTH, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
FOR THE THREE MONTHS ENDED DECEMBER 31, 1997 AND 1996
(AMOUNTS IN THOUSANDS EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
1997 1996
--------- ---------
<S> <C> <C>
Revenue (net of Medicare reserves of
$77 and $241 in 1997 and 1996, respectively) $ 27,858 $ 31,585
-------- ---------
Operating Expenses:
Direct costs of revenue (primarily payroll related costs) 16,125 17,181
General, administrative and selling expenses 11,205 14,508
Restructuring charge (146) --
-------- ---------
Total operating expenses 27,184 31,689
-------- ---------
Income (loss) from operations 674 (104)
-------- ---------
Interest:
Interest income 216 223
Interest expense (30) (89)
-------- ---------
Net interest income 186 134
-------- ---------
Income before income taxes 860 30
Income tax expense -- 16
-------- ---------
Net income $ 860 $ 14
-------- ---------
-------- ---------
Net income (loss) available to common shareholders $ 186 $ (660)
-------- ---------
-------- ---------
Basic and diluted earnings (loss) per share $ .01 $ (.04)
-------- ---------
-------- ---------
</TABLE>
SEE NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS.
4
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IN HOME HEALTH, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
FOR THE THREE MONTHS ENDED DECEMBER 31, 1997 AND 1996
(AMOUNTS IN THOUSANDS)
<TABLE>
<CAPTION>
1997 1996
-------- ---------
<S> <C> <C>
Cash Flows From Operating Activities:
Net income $ 860 $ 14
Adjustments:
Depreciation and amortization 876 777
Accounts receivable 2,645 (2,774)
Prepaid expenses and other assets (103) (348)
Accounts payable (1,606) (1,036)
Accounts payable - related party 15 (41)
Accrued liabilities (1,556) (3,401)
Deferred revenue (105) (106)
Deferred rent payable (11) (24)
Deferred income tax -- 110
--------- ---------
Net cash provided (used) by operating activities 1,015 (6,829)
--------- ---------
Cash Flows From Investing Activities:
Acquisition of property (20) (117)
Repayments of advances to officers and employees 8 257
--------- ---------
Net cash provided (used) by investing activities (12) 140
--------- ---------
Cash Flows From Financing Activities:
Payment of long term debt (308) (430)
Preferred dividends paid (600) (600)
Repurchase of common stock -- (505)
--------- ---------
Net cash used by financing activities (908) (1,535)
--------- ---------
Cash and Cash Equivalents:
Net increase (decrease) 95 (8,224)
Beginning of period 13,853 18,617
--------- ---------
End of period $ 13,948 $ 10,393
--------- ---------
--------- ---------
</TABLE>
SEE NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS.
5
<PAGE>
IN HOME HEALTH, INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
1. FINANCIAL STATEMENTS
In the opinion of management of the Company, the accompanying unaudited
consolidated financial statements contain all adjustments (consisting of only
normal, recurring accruals) necessary to present fairly the financial position
of the Company and its subsidiaries as of December 31, 1997 and the results of
operations and its cash flows for the three month periods ended December 31,
1997 and 1996. The results of operations for any interim period are not
necessarily indicative of the results for the year. These interim consolidated
financial statements should be read in conjunction with the Company's annual
financial statements and related notes in the Company's Form 10-K.
2. BASIC AND DILUTED EARNINGS PER SHARE
Effective October 1, 1997 the Company adopted Statement of Financial
Accounting Standard No. 128, "Earnings Per Share" (SFAS No. 128). Earnings per
share amounts presented for 1996 have been restated for the adoption of SFAS No.
128. The following table reflects the calculation of basic and diluted earnings
per share for the three months ended December 31, 1997 and 1996.
<TABLE>
<CAPTION>
(in thousands, except per
share amounts)
1997 1996
------ -----
<S> <C> <C>
EARNINGS PER SHARE:
Net income $ 860 $ 14
Dividends on preferred stock (600) (600)
Preferred stock accretion (74) (74)
------- -------
Income (loss) available to common shareholders $ 186 $ (660)
------- -------
------- -------
Weighted average shares outstanding 16,399 16,379
------- -------
------- -------
Income (loss) per share-basic and diluted $ .01 $ (.04)
------- -------
------- -------
</TABLE>
Options to purchase 1,281,541 shares of common stock were outstanding
during the three months ended December 31, 1997. These options were not
included in the computation of diluted earnings per share because the options'
exercise price was greater than the average market price of the common shares.
Options to purchase 1,761,000 shares of common stock were outstanding during the
three months ended December 31, 1996, which were not included in the computation
of diluted earnings per share due to the loss in the period.
Redeemable convertible preferred stock was issued to ManorCare Health
Services, Inc. In October 1995. The preferred shares may be redeemed in cash at
the option of the holder or the Company on and after the fifth anniversary of
their issuance. The redeemable preferred shares have voting rights on an as-if
converted basis, and are initially convertible into 10 million common shares at
an initial conversion price of $2.00 per share. A private warrant was issued in
October 1995 to ManorCare Health Services, Inc. to purchase 6 million shares of
common stock at $3.75 per share and expires in October 1998. The impact of the
redeemable convertible preferred stock and the warrant on diluted earnings per
share would be anti-dilutive and therefore, they have been excluded.
6
<PAGE>
3. RESTRUCTURING CHARGE
During fiscal 1997, the Company recorded $2,476,000 in restructuring
charges as a result of the implementation of a plan to restructure its field
operations and reduce the Company's cost structure. The charge includes
$1,820,000 of costs associated with lease costs and related equipment write-offs
associated with the closing of eight pharmacies, the consolidation of seven
sites in multi-site markets, the relocation of eight other sites to more
economical locations and $361,000 of severance costs related to administrative
staff reductions.
Total expenditures related to facilities consolidation were $240,000 during
the three months ended December 31, 1997. As of December 31, 1997, $1,421,000
of costs, comprised of lease costs and related equipment write-offs associated
with vacated sites remain to be paid out, are included in other current
liabilities. The restructuring plan is expected to be completed by the end of
the third quarter of fiscal 1998.
4. COMMITMENTS AND CONTINGENCIES
Approximately 59% and 62% of revenue for the three months ended December
31, 1997 and 1996, respectively, was derived from services provided to Medicare
beneficiaries. Payments for reimbursable services are made by the Medicare
program based on reimbursable costs incurred in rendering the services.
Medicare makes interim payments as services are rendered, and the Company files
cost reports on an annual basis which are subject to audit and retroactive
adjustment by Medicare. The Company reports revenue only for those costs that
it believes are probable (as defined in Statement of Financial Accounting
Standards No. 5) of recovery under the applicable Medicare statutes and
regulations and reports its accounts receivable balances at net realizable
value. The Company utilizes an extensive system of internal controls to attempt
to ensure such proper reporting of revenues. The Company employs personnel with
significant Medicare reimbursement experience to prepare its cost reports and to
monitor its operations on an ongoing basis to identify and seek to minimize
those costs which are not reimbursed. As a part of its system of internal
controls, the Company uses a detailed analysis process in calculating its
Medicare revenue at the time services are rendered. This process considers the
nature and amounts of the disputed costs (as described in more detail below)
along with several authoritative, legal and historical sources of information
including:
- - Applicable statutes and regulations, such as those contained in the Title
XVIII of the Social Security Act, particularly Sec. 1861 (V) (1) (A)
"Reasonable Cost" and 42 C.F.R. 413.9 "Cost Related to Patient Care",
Health Care Financing Administration ("HCFA") Publication 11 "Health
Insurance Manual", applicable sections of HCFA Publication 15-1 "Provider
Reimbursement Manual" and intermediary letters and program memoranda issued
by HCFA.
- - Administrative decisions and rulings on related issues by the Department of
Health and Human Services' Provider Reimbursement Review Board ("PRRB") and
Administrative Law Judges.
- - Judicial decisions from Federal District Courts on relevant cases.
- - Consultation with independent industry experts such as Medicare cost
reimbursement consultants.
- - Opinions of outside legal counsel who specialize in dealing with Medicare
reimbursement issues.
- - Historical knowledge gained internally from past Medicare audits.
- - Meetings and other communication with Medicare Intermediaries, the Blue
Cross Association and HCFA.
7
<PAGE>
This detailed analysis process is updated on a quarterly basis, taking into
account any new information (such as decisions relating to the Company's
disputed costs, and administrative and judicial decisions relating to similar
issues) that may affect the determination of the net realizable value of
accounts receivable or of liabilities to repay amounts received for disputed
costs. Results of this detailed analysis process are extrapolated to other
unaudited cost reporting years, including operations that have not yet been
audited by Medicare, to estimate the gross amount of reimbursement that would be
affected. The Company, through this ongoing control and monitoring process,
provides a reserve (by means of a revenue reduction) for any costs incurred
which the Company believes are not probable of recovery. This reserve is
reported as a reduction of accounts receivable for disputed costs for which the
Company may not ultimately receive payment. The Company also reports as a
liability disputed costs for which it has received payment, but which may have
to be returned to Medicare. Accordingly, the Company believes that its accounts
receivable are stated at net realizable value, and that it has recorded all
probable liabilities for repayment of disputed costs.
Over the years, Medicare auditors employed by the Medicare fiscal
intermediaries have, in connection with their retrospective audit process, taken
certain positions with respect to certain types of costs, claiming that they are
not reimbursable and thus not recoverable by the Company from the Medicare
program. These positions are based on interpretations promulgated after the
period covered by the cost reports and applied retroactively, on interpretations
of cost reimbursement principles that are contrary to the Company's
interpretations, or on what the Company believes to be misapplications of
specific reimbursement principles, that could not have been foreseen at the time
services were rendered and revenue recorded. These positions taken by Medicare
fiscal intermediaries are usually determined from Medicare's Notices of Program
Reimbursement ("NPR"), which typically are not received until two to three years
after the services are rendered. In those situations where the Company decides
to not challenge an NPR finding, any revenue relating to these costs, as well as
the extrapolated impact, if any, on other open cost reporting years, if not
written off or provided for earlier, is written off as a revenue reduction at
that time. The results of all NPRs are included in the analysis process in
calculating net Medicare revenue as described above.
The Company disagrees with the positions taken by the Medicare fiscal
intermediaries' auditors and HCFA, and is vigorously pursuing these matters
through administrative and legal channels. The normal Medicare administrative
appeal process may take several years to resolve these types of disputes. The
Company has established a reserve for the portion of these costs not considered
probable of recovery. As additional costs are incurred, the Company is
increasing the reserve to cover such additional costs that are not considered
probable of recovery. Since the reserves have been established, the Company has
continued to review whether the level is appropriate.
The Company currently has NPRs challenging $15.1 million of costs as of
December 31, 1997. There was an additional $4.5 million of costs at December
31, 1997 related to open cost reporting years that are similar to the costs that
have been challenged on NPRs. Together these amounts ($19.6 million at December
31, 1997) comprise the total amount the Company considers to be disputed costs.
The major cost categories in dispute are the treatment of certain personnel
costs relating to the Company's community liaison positions, pharmacy indirect
expenses, the cost of physical therapists employed by the Company and certain
other branch and corporate expenses.
8
<PAGE>
During fiscal 1997, the Company settled various disputed NPRs and received
decisions from the PRRB and the U.S. District Court regarding the community
liaison and other disputed costs. In the fourth quarter of fiscal 1997 the
Company was notified by HCFA that pharmacy expenses retroactive to fiscal 1995
would be challenged. As a result, a Medicare reserve of $14.0 million was
recorded in the third quarter of fiscal 1997 and $2.8 million was recorded in
the fourth quarter of fiscal 1997.
In August 1997, the Company received two rulings in which it was determined
that community liaison costs are reimbursable to the degree that they are
documented clearly enough to establish a differentiation between reimbursable
and non-reimbursable activities. The rulings were from the U.S. District Court
and from the PRRB. The U.S. District Court ruled that the Company was not
entitled to Medicare reimbursement of community liaison costs incurred by some
of its offices prior to June 1992 due to insufficient documentation, but was
entitled to partial reimbursement of the costs by those offices for the period
from June through September 1992, based on daily activity records. The PRRB
also ruled that a portion of community liaison costs incurred by some of its
offices from fiscal 1991 through 1993 should be reimbursed. The PRRB
specifically concluded that the costs for intake coordination activities are
allowable, and that the costs for assessment/evaluation, patient status and
coordination are allowable where patient names are provided. The PRRB found,
with respect to education activities and the provision of information to
referral sources, that repeat visits to the same referral sources would be
viewed as marketing and patient solicitation, which is unallowable. In each of
these decisions, the Medicare intermediaries' determinations that all community
liaison costs are non-reimbursable was reversed, and it was ordered that the
matter be remanded for further action or audit. Because the decisions of the
Court and the PRRB clarified the definition of allowable activities and the
required documentation to support allowable activities, the Company has changed
its determination of recoverability on all community liaison costs. Of the
total disputed costs of $8,332,000 at December 31, 1997 regarding the community
liaison issues, the Company has established reserves of $7,124,000. The Company
believes that in applying the decisions of the U.S. District Court and the PRRB,
the remaining $1,208,000 of costs are recoverable.
The Company received, in March 1996, a favorable ruling by the PRRB on the
physical therapist issue. In May 1996, this ruling was reversed by the HCFA
Administrator. The Company appealed the decision to the U.S. Federal District
Court in Minneapolis. During the second quarter of fiscal 1997, the Company was
notified that the U.S. District Court granted the Company's motion to set aside
the decision by HCFA which denied the Company reimbursement of some of its costs
for providing physical therapy services provided in 1992. The Court found that
HCFA had provided an insufficient explanation of its decision, and therefore,
the decision was arbitrary and capricious. The Court remanded the matter to the
Secretary of the Department of Health and Human Services for further proceeding
consistent with its Order. In October 1997, HCFA, in response to the U.S.
District Court's Order, issued its revised decision in which it again ruled that
the physical therapist costs at issue are not reimbursable by Medicare. The
Company has appealed HCFA's revised order to the U.S. District Court. The
Company's legal counsel in this matter, Lindquist & Vennum P.L.L.P. of
Minneapolis, Minnesota, has advised the Company that in its opinion it is
probable that the Company will ultimately prevail in the courts and be
reimbursed for the physical therapy costs which are disputed in this case.
As of December 31, 1997, the Company, based on its analysis process,
believes that recovery of $16,730,000 of total disputed costs (including the
extrapolated impact) may not be probable and, accordingly, has established
reserves which totaled that amount as of December 31, 1997. Total accounts
receivable (net of reserves) due from Medicare at December 31, 1997 were
$7,990,000, including the
9
<PAGE>
receivables (net of reserves) for disputed costs of $2,890,000. As of December
31, 1997 the Company had received $6,966,000 in payments from Medicare for
disputed costs. Medicare may seek repayment for such amounts and accordingly,
the potential liability for repayments is recorded as Accrued Liabilities -
Third Party. The Company believes it is probable that it has not incurred any
other liability to repay disputed costs. In view of the expectation that
resolution of the disputed costs will not likely be accomplished within the next
twelve months, related net receivables of $2,890,000 as of December 31, 1997
have been classified as a non-current asset.
5. INCOME TAXES
At September 30, 1997, the Company had federal operating loss carryforwards
of $11,000,000 which will expire in 2012. Management believes it is more likely
than not that certain of these net operating loss carryforwards may expire
unused and, accordingly, has established a valuation allowance against them.
During the three months ended December 31, 1997, income tax expense of $400,000
was offset by utilization of a portion of the net operating loss carryforward.
6. RECENTLY ISSUED ACCOUNTING STANDARDS
In June 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standard No. 131 "Disclosures about Segments of an
Enterprise and Related Information" which is effective for fiscal years
beginning after December 15, 1997. The Company has not determined the impact of
adoption of the standard.
10
<PAGE>
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 to an assessment and understanding of the Company's level
of operation and financial condition. This discussion should be read with the
consolidated financial statements appearing in Item 1.
RESULTS OF OPERATIONS
Revenue for the three months ended December 31, 1997 decreased 12% as
compared to the same period in the prior year. Visit division revenues declined
by 20% due to the impact on revenue from the cost reductions enacted in fiscal
1997 and lower Medicare payments under the new cost limits which were effective
October 1, 1997. This decline, combined with a 3% decrease in extended hours,
infusion and hospice revenue, resulted in an overall revenue reduction of 12%
compared to the first quarter of fiscal 1997.
Direct costs, as a percent of revenue, were 58% versus 54% for the three
months ended December 31, 1997 and 1996, respectively. The increase was due to
the change in Visit Division revenue volume and overall revenue mix.
General, administrative and selling expenses as a percent of revenue
decreased to 40% in 1997 compared to 46% in 1996. The decrease was due to the
decrease in costs in conjunction with the Company's restructuring plan.
Net interest income was $186,000 for the three months ended December 31,
1997 as compared to $134,000 for the comparable period in the prior year.
Interest earnings are a result of the earnings on the cash proceeds from the
investment by ManorCare Health Services, Inc. in October, 1995.
Total reported net income of $860,000 for the quarter ended December 31,
1997 was an $846,000 increase compared to prior year first quarter net income of
$14,000. The net income improvement is primarily due to a significant reduction
in general, administrative and selling expenses resulting from fiscal 1997
restructuring initiatives. Net income available to common shareholders was
$186,000 compared to a loss of $660,000 in the same period last year. The
difference between net income and net income available to common shareholders is
primarily the result of the preferred stock dividend payable to ManorCare Health
Services, Inc. for its $20 million preferred stock investment in In Home Health.
Basic and diluted earnings per share were $.01 compared to a loss of $.04 per
share a year ago.
LIQUIDITY AND CAPITAL RESOURCES
The Company's cash and cash equivalents increased $95,000 to $13,948,000 at
December 31, 1997. A decrease in total accounts receivable of $2,645,000 was
offset by a reduction in accounts payable of $1,606,000 and in other
liabilities.
11
<PAGE>
Approximately 59% and 62% of revenue for the three months ended December
31, 1997 and 1996, respectively, was derived from services provided to Medicare
beneficiaries. Payments for reimbursable services are made by the Medicare
program based on reimbursable costs incurred in rendering the services.
Medicare makes interim payments as services are rendered, and the Company files
cost reports on an annual basis which are subject to audit and retroactive
adjustment by Medicare. The Company reports revenue only for those costs that
it believes are probable (as defined in Statement of Financial Accounting
Standards No. 5) of recovery under the applicable Medicare statutes and
regulations and reports its accounts receivable balances at net realizable
value. The Company utilizes an extensive system of internal controls to attempt
to ensure such proper reporting of revenues. The Company employs personnel with
significant Medicare reimbursement experience to prepare its cost reports and to
monitor its operations on an ongoing basis to identify and seek to minimize
those costs which are not reimbursed. As a part of its system of internal
controls, the Company uses a detailed analysis process in calculating its
Medicare revenue at the time services are rendered. This process considers the
nature and amounts of the disputed costs (as described in more detail below)
along with several authoritative, legal and historical sources of information
including:
- - Applicable statutes and regulations, such as those contained in the Title
XVIII of the Social Security Act, particularly Sec. 1861 (V) (1) (A)
"Reasonable Cost" and 42 C.F.R. 413.9 "Cost Related to Patient Care",
Health Care Financing Administration ("HCFA") Publication 11 "Health
Insurance Manual", applicable sections of HCFA Publication 15-1 "Provider
Reimbursement Manual" and intermediary letters and program memoranda issued
by HCFA.
- - Administrative decisions and rulings on related issues by the Department of
Health and Human Services' Provider Reimbursement Review Board ("PRRB") and
Administrative Law Judges.
- - Judicial decisions from Federal District Courts on relevant cases.
- - Consultation with independent industry experts such as Medicare cost
reimbursement consultants.
- - Opinions of outside legal counsel who specialize in dealing with Medicare
reimbursement issues.
- - Historical knowledge gained internally from past Medicare audits.
- - Meetings and other communication with Medicare Intermediaries, the Blue
Cross Association and HCFA.
This detailed analysis process is updated on a quarterly basis, taking into
account any new information (such as decisions relating to the Company's
disputed costs, and administrative and judicial decisions relating to similar
issues) that may affect the determination of the net realizable value of
accounts receivable or of liabilities to repay amounts received for disputed
costs. Results of this detailed analysis process are extrapolated to other
unaudited cost reporting years, including operations that have not yet been
audited by Medicare, to estimate the gross amount of reimbursement that would be
affected. The Company, through this ongoing control and monitoring process,
provides a reserve (by means of a revenue reduction) for any costs incurred
which the Company believes are not probable of recovery. This reserve is
reported as a reduction of accounts receivable for disputed costs for which the
Company may not ultimately receive payment. The Company also reports as a
liability disputed costs for which it has received payment, but which may have
to be returned to Medicare. Accordingly, the Company believes that its accounts
receivable are stated at net realizable value, and that it has recorded all
probable liabilities for repayment of disputed costs.
Over the years, Medicare auditors employed by the Medicare fiscal
intermediaries have, in connection with their retrospective audit process, taken
certain positions with respect to certain types of costs, claiming that they are
not reimbursable and thus not recoverable by the Company from the
12
<PAGE>
Medicare program. These positions are based on interpretations promulgated
after the period covered by the cost reports and applied retroactively, on
interpretations of cost reimbursement principles that are contrary to the
Company's interpretations, or on what the Company believes to be misapplications
of specific reimbursement principles, that could not have been foreseen at the
time services were rendered and revenue recorded. These positions taken by
Medicare fiscal intermediaries are usually determined from Medicare's Notices of
Program Reimbursement ("NPR"), which typically are not received until two to
three years after the services are rendered. In those situations where the
Company decides to not challenge an NPR finding, any revenue relating to these
costs, as well as the extrapolated impact, if any, on other open cost reporting
years, if not written off or provided for earlier, is written off as a revenue
reduction at that time. The results of all NPRs are included in the analysis
process in calculating net Medicare revenue as described above.
The Company disagrees with the positions taken by the Medicare fiscal
intermediaries' auditors and HCFA, and is vigorously pursuing these matters
through administrative and legal channels. The normal Medicare administrative
appeal process may take several years to resolve these types of disputes. The
Company has established a reserve for the portion of these costs not considered
probable of recovery. As additional costs are incurred, the Company is
increasing the reserve to cover such additional costs that are not considered
probable of recovery. Since the reserves have been established, the Company has
continued to review whether the level is appropriate.
The Company currently has NPRs challenging $15.1 million of costs as of
December 31, 1997. There was an additional $4.5 million of costs at December
31, 1997 related to open cost reporting years that are similar to the costs that
have been challenged on NPRs. Together these amounts ($19.6 million at December
31, 1997) comprise the total amount the Company considers to be disputed costs.
The major cost categories in dispute are the treatment of certain personnel
costs relating to the Company's community liaison positions, pharmacy indirect
expenses, the cost of physical therapists employed by the Company and certain
other branch and corporate expenses.
During fiscal 1997, the Company settled various disputed NPRs and received
decisions from the PRRB and the U.S. District Court regarding the community
liaison and other disputed costs. In the fourth quarter of fiscal 1997 the
Company was notified by HCFA that pharmacy expenses retroactive to fiscal 1995
would be challenged. As a result, a Medicare reserve of $14.0 million was
recorded in the third quarter of fiscal 1997 and $2.8 million was recorded in
the fourth quarter of fiscal 1997.
In August 1997, the Company received two rulings in which it was determined
that community liaison costs are reimbursable to the degree that they are
documented clearly enough to establish a differentiation between reimbursable
and non-reimbursable activities. The rulings were from the U.S. District Court
and from the PRRB. The U.S. District Court ruled that the Company was not
entitled to Medicare reimbursement of community liaison costs incurred by some
of its offices prior to June 1992 due to insufficient documentation, but was
entitled to partial reimbursement of the costs by those offices for the period
from June through September 1992, based on daily activity records. The PRRB
also ruled that a portion of community liaison costs incurred by some of its
offices from fiscal 1991 through 1993 should be reimbursed. The PRRB
specifically concluded that the costs for intake coordination activities are
allowable, and that the costs for assessment/evaluation, patient status and
coordination are allowable where patient names are provided. The PRRB found,
with respect to education activities and the provision of information to
referral sources, that repeat visits to the same referral sources would be
viewed as marketing and patient solicitation, which is unallowable. In each of
these decisions, the
13
<PAGE>
Medicare intermediaries' determinations that all community liaison costs are
non-reimbursable was reversed, and it was ordered that the matter be remanded
for further action or audit. Because the decisions of the Court and the PRRB
clarified the definition of allowable activities and the required documentation
to support allowable activities, the Company has changed its determination of
recoverability on all community liaison costs. Of the total disputed costs of
$8,332,000 at December 31, 1997 regarding the community liaison issues, the
Company has established reserves of $7,124,000. The Company believes that in
applying the decisions of the U.S. District Court and the PRRB, the remaining
$1,208,000 of costs are recoverable.
The Company received, in March 1996, a favorable ruling by the PRRB on the
physical therapist issue. In May 1996, this ruling was reversed by the HCFA
Administrator. The Company appealed the decision to the U.S. Federal District
Court in Minneapolis. During the second quarter of fiscal 1997, the Company was
notified that the U.S. District Court granted the Company's motion to set aside
the decision by HCFA which denied the Company reimbursement of some of its costs
for providing physical therapy services provided in 1992. The Court found that
HCFA had provided an insufficient explanation of its decision, and therefore,
the decision was arbitrary and capricious. The Court remanded the matter to the
Secretary of the Department of Health and Human Services for further proceeding
consistent with its Order. In October 1997, HCFA, in response to the U.S.
District Court's Order, issued its revised decision in which it again ruled that
the physical therapist costs at issue are not reimbursable by Medicare. The
Company has appealed HCFA's revised order to the U.S. District Court. The
Company's legal counsel in this matter, Lindquist & Vennum P.L.L.P. of
Minneapolis, Minnesota, has advised the Company that in its opinion it is
probable that the Company will ultimately prevail in the courts and be
reimbursed for the physical therapy costs which are disputed in this case.
As of December 31, 1997, the Company, based on its analysis process,
believes that recovery of $16,730,000 of total disputed costs (including the
extrapolated impact) may not be probable and, accordingly, has established
reserves which totaled that amount as of December 31, 1997. Total accounts
receivable (net of reserves) due from Medicare at December 31, 1997 were
$7,990,000, including the receivables (net of reserves) for disputed costs of
$2,890,000. As of December 31, 1997 the Company had received $6,966,000 in
payments from Medicare for disputed costs. Medicare may seek repayment for
such amounts and accordingly, the potential liability for repayments is
recorded as Accrued Liabilities - Third Party. The Company believes it is
probable that it has not incurred any other liability to repay disputed
costs. In view of the expectation that resolution of the disputed costs will
not likely be accomplished within the next twelve months, related net
receivables of $2,890,000 as of December 31, 1997 have been classified as a
non-current asset.
The Company has letter of credit facilities from a commercial bank totaling
$3,127,000. These credit facilities are collateralized by secured investments
and will expire on December 15, 1998.
Overall, In Home Health believes the cash provided by operations along with
its existing cash balance of $13,948,000 will be sufficient to finance its
current operations through at least fiscal 2000.
FORWARD LOOKING INFORMATION
Statements included in this Form 10-Q that are not historical or current
facts are "forward-looking statements" made pursuant to the safe harbor
provisions of the Private Securities Litigation Reform Act of 1995 and are
subject to certain risks and uncertainties that could cause actual results to
differ
14
<PAGE>
materially. The Company's ability to succeed in the future is dependant upon
government regulation, third party reimbursement, competition and factors
affecting the health care industry in general. The Company's future results of
operations and financial condition will be affected by factors such as (i)
proposed changes to the Medicare reimbursement system from a retrospective
cost-based system to a prospective payment system, (ii) settlements which may be
reached with the Department of Health and Human Services regarding cost reports,
and (iii) its ability to establish and maintain close working relationships with
referral sources, including payors, hospitals, physicians and other health care
professionals. As a result of these developments, the Company is not able to
conclude that it is more likely than not that it will be able to generate future
earnings which will allow it to utilize its NOLs and, accordingly, has
established a valuation allowance against the NOLs. Please refer to our Form
10-K for the fiscal year ended September 30, 1997 for a more thorough discussion
of forward looking information.
15
<PAGE>
PART II - OTHER INFORMATION
ITEM 1 - LEGAL PROCEEDINGS - None
ITEM 2 - CHANGES IN SECURITIES - None
ITEM 3 - DEFAULTS UPON SENIOR SECURITIES - None
ITEM 4 - SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS - None
ITEM 5 - OTHER INFORMATION - None
ITEM 6 - EXHIBITS AND REPORTS ON FORM 8-K - None
16
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this Form 10-Q report to be signed on its behalf by
the undersigned thereunto duly authorized.
In Home Health, Inc.
-------------------------
Registrant
Date: February 13, 1998 /s/ Wolfgang Von Maack
------------------------------
Wolfgang von Maack
Chief Executive Officer
Date: February 13, 1998 /s/ Thomas R. Gross
---------------------------
Thomas R. Gross
Chief Financial Officer
17
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE BALANCE
SHEETS, THE STATEMENTS OF OPERATIONS, AND THE STATEMENTS OF CASH FLOWS AND IS
QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> SEP-30-1998
<PERIOD-START> OCT-01-1997
<PERIOD-END> DEC-31-1997
<CASH> 13,948
<SECURITIES> 0
<RECEIVABLES> 16,565
<ALLOWANCES> 2,194
<INVENTORY> 0
<CURRENT-ASSETS> 31,549
<PP&E> 17,510
<DEPRECIATION> 10,916
<TOTAL-ASSETS> 46,913
<CURRENT-LIABILITIES> 28,549
<BONDS> 0
0
19,135
<COMMON> 164
<OTHER-SE> 3,610
<TOTAL-LIABILITY-AND-EQUITY> 46,913
<SALES> 0
<TOTAL-REVENUES> 27,858
<CGS> 0
<TOTAL-COSTS> 16,125
<OTHER-EXPENSES> 11,059
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> (186)
<INCOME-PRETAX> 860
<INCOME-TAX> 0
<INCOME-CONTINUING> 860
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 860
<EPS-PRIMARY> .01
<EPS-DILUTED> .01
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