<PAGE>
AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON MAY 9, 1996
REGISTRATION NO. 333-2788
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
------------------------
AMENDMENT NO. 2
TO
FORM S-3
REGISTRATION STATEMENT
UNDER
THE SECURITIES ACT OF 1933
------------------------
HEALTH SYSTEMS INTERNATIONAL, INC.
(Exact name of registrant as specified in its charter)
<TABLE>
<S> <C>
DELAWARE 95-42288333
(State or other (I.R.S. Employer
jurisdiction of Identification No.)
incorporation or
organization)
</TABLE>
--------------------------
<TABLE>
<S> <C>
21600 OXNARD STREET 225 NORTH MAIN STREET
WOODLAND HILLS, CA 91367 PUEBLO, COLORADO
(818) 719-6978 81003
(719) 542-0500
</TABLE>
(Addresses, including zip codes, and telephone numbers,
including area codes, of registrant's executive offices)
--------------------------
B. CURTIS WESTEN, JR., ESQ.
SENIOR VICE PRESIDENT, GENERAL COUNSEL AND SECRETARY
225 NORTH MAIN STREET
PUEBLO, COLORADO 81003
(719) 542-0500
(Name, address, including zip code, and telephone number,
including area code, of agent for service)
--------------------------
COPIES TO:
<TABLE>
<S> <C>
Bernard S. Kramer, Esq. Robert M. Smith, Esq.
McDermott, Will & Emery Dewey Ballantine
227 West Monroe Street 333 South Hope Street
Chicago, Illinois 60606-5096 Los Angeles, CA 90071
(312) 984-7773 (213) 617-6535
</TABLE>
--------------------------
APPROXIMATE DATE OF COMMENCEMENT OF PROPOSED SALE TO THE PUBLIC:
As soon as practicable after the Registration Statement becomes effective.
If the only securities being registered on this Form are being offered
pursuant to dividend or interest reinvestment plans, please check the following
box. / /
If any of the securities being registered on this Form are to be offered on
a delayed or continuous basis pursuant to Rule 415 under the Securities Act of
1933, other than securities offered only in connection with dividend or interest
reinvestment plans, check the following box. / /
If the Form is filed to register additional securities for an offering
pursuant to Rule 462(b) under the Securities Act, please check the following box
and list the Securities Act registration statement number of the earlier
effective registration statement for the same offering. / /
If this Form is a post-effective amendment filed pursuant to Rule 462(c)
under the Securities Act, please check the following box and list the Securities
Act registration statement number of the earlier effective registration
statement for the same offering. / /
If delivery of the prospectus is expected to be made pursuant to Rule 434,
please check the following box. / /
--------------------------
CALCULATION OF REGISTRATION FEE
<TABLE>
<CAPTION>
PROPOSED MAXIMUM
PROPOSED MAXIMUM AGGREGATE AMOUNT OF
TITLE OF EACH CLASS OF AMOUNT TO BE OFFERING PRICE OFFERING REGISTRATION
SECURITIES TO BE REGISTERED REGISTERED PER SHARE (1) PRICE (1) FEE (2)(3)
<S> <C> <C> <C> <C>
Class A Common Stock ($.001 per share)..... 9,580,884 $32.50 $311,378,730 N/A
</TABLE>
(1) Estimated solely for the purpose of calculating the registration fee
pursuant to Rule 457(c) of the Securities Act, based upon the average of the
high and low sales prices on the New York Stock Exchange for shares of Class
A Common Stock on May 8, 1996.
(2) As determined pursuant to Rule 457(f)(1) of the Securities Act by
multiplying 1/29th of 1% by the product of the amount to be registered and
the proposed maximum offering price per share.
(3) This fee has been previously paid. This amendment reduces the amount to be
registered from 11,500,000 shares to 9,580,884. A fee of $144,741.38 was
paid on March 27, 1996.
--------------------------
THE REGISTRANT HEREBY AMENDS THIS REGISTRATION STATEMENT ON SUCH DATE OR
DATES AS MAY BE NECESSARY TO DELAY ITS EFFECTIVE DATE UNTIL THE REGISTRANT SHALL
FILE A FURTHER AMENDMENT WHICH SPECIFICALLY STATES THAT THIS REGISTRATION
STATEMENT SHALL THEREAFTER BECOME EFFECTIVE IN ACCORDANCE WITH SECTION 8(A) OF
THE SECURITIES ACT OF 1933 OR UNTIL THE REGISTRATION STATEMENT SHALL BECOME
EFFECTIVE ON SUCH DATE AS THE COMMISSION, ACTING PURSUANT TO SAID SECTION 8(A),
MAY DETERMINE.
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
<PAGE>
EXPLANATORY NOTE
This Registration Statement contains two forms of prospectuses: one to be
used in connection with a United States offering to U.S. or Canadian Persons (as
defined) (the "U.S. Prospectus") and one to be used in a concurrent
international offering to a person other than a U.S. or Canadian Person (the
"International Prospectus"). The complete U.S. Prospectus follows this
explanatory note. After the U.S. Prospectus are the following alternate pages
for the International Prospectus: a front cover page, a "Certain United States
Tax Consequences to Non-United States Holders" section and a back cover page.
All other pages of the U.S. Prospectus are to be used for both the United States
Offering and the International Offering. Each alternate page for the
International Prospectus included herein is labeled "Alternate Page for
International Prospectus."
<PAGE>
INFORMATION CONTAINED HEREIN IS SUBJECT TO COMPLETION OR AMENDMENT. A
REGISTRATION STATEMENT RELATING TO THESE SECURITIES HAS BEEN FILED WITH THE
SECURITIES AND EXCHANGE COMMISSION. THESE SECURITIES MAY NOT BE SOLD NOR MAY
OFFERS TO BUY BE ACCEPTED PRIOR TO THE TIME THE REGISTRATION STATEMENT BECOMES
EFFECTIVE. THIS PROSPECTUS SHALL NOT CONSTITUTE AN OFFER TO SELL OR THE
SOLICITATION OF AN OFFER TO BUY NOR SHALL THERE BE ANY SALE OF THESE SECURITIES
IN ANY STATE IN WHICH SUCH OFFER, SOLICITATION OR SALE WOULD BE UNLAWFUL PRIOR
TO REGISTRATION OR QUALIFICATION UNDER THE SECURITIES LAWS OF ANY SUCH STATE.
<PAGE>
SUBJECT TO COMPLETION, DATED MAY 9, 1996
P R O S P E C T U S
8,331,204 SHARES
[LOGO]
HEALTH SYSTEMS INTERNATIONAL, INC.
CLASS A COMMON STOCK
---------
Of the 8,331,204 shares of Class A Common Stock, par value $.001 per share
(the "Class A Common Stock"), of Health Systems International, Inc. (the
"Company") offered hereby, 3,194,374 shares are being issued and sold by the
Company and 5,136,830 shares are being sold by The California Wellness
Foundation (the "Selling Stockholder"). The Company will not receive any part of
the proceeds from the sale of securities by the Selling Stockholder. Of the
8,331,204 shares of Class A Common Stock offered hereby, 6,664,964 shares are
being offered in the United States and Canada (the "U.S. Offering") by the U.S.
Underwriters (as defined) and 1,666,240 shares are being offered in a concurrent
international offering (the "International Offering" and, together with the U.S.
Offering, the "Offering") outside the United States and Canada by the Managers
(as defined). The public offering price and aggregate underwriting discount per
share are identical for both offerings. See "Underwriting."
The Company's authorized capital stock includes the Class A Common Stock and
Class B Common Stock, par value $.001 per share (the "Class B Common Stock" and,
together with the Class A Common Stock, the "Common Stock"), and preferred
stock. The rights of holders of Class A Common Stock are identical to the rights
of holders of Class B Common Stock, except that each share of Class A Common
Stock entitles its holder to one vote and the holder of Class B Common Stock
generally has no right to vote. Shares of Class B Common Stock are automatically
converted into shares of Class A Common Stock on a one-for-one basis upon the
sale or transfer of the Class B Common Stock to an unrelated third party. See
"Description of Capital Stock."
The Company's Class A Common Stock is listed on the New York Stock Exchange,
Inc. (the "NYSE") under the symbol "HQ." The last reported sales price of the
Company's Class A Common Stock as reported on the NYSE on May 8, 1996 was
$31 7/8 per share.
SEE "RISK FACTORS" STARTING ON PAGE 6 FOR A DISCUSSION OF CERTAIN FACTORS
THAT SHOULD BE CONSIDERED IN CONNECTION WITH AN INVESTMENT IN THE CLASS A COMMON
STOCK OFFERED HEREBY.
-------------
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE
SECURITIES AND EXCHANGE COMMISSION OR ANY STATE SECURITIES
COMMISSION PASSED UPON THE ACCURACY OR ADEQUACY OF THIS
PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS
A CRIMINAL OFFENSE.
<TABLE>
<CAPTION>
UNDERWRITING PROCEEDS TO
PRICE TO DISCOUNTS AND PROCEEDS TO THE SELLING
PUBLIC COMMISSIONS(1) COMPANY(2) STOCKHOLDER (2)
<S> <C> <C> <C> <C>
Per Share $ $ $ $
Total (3) $ $ $ $
</TABLE>
(1) The Company and the Selling Stockholder have agreed to indemnify the U.S.
Underwriters and the Managers against certain liabilities, including
liabilities under the Securities Act of 1933, as amended. See
"Underwriting."
(2) Before deducting estimated expenses of $575,134 payable by the Company and
$924,866 payable by the Selling Stockholder.
(3) The Selling Stockholder has granted the U.S. Underwriters and Managers a
30-day option to purchase up to 1,249,680 additional shares of Class A
Common Stock solely to cover over-allotments, if any. If such option is
exercised in full, the total Price to Public, Underwriting Discounts and
Commissions, Proceeds to Company and Proceeds to Selling Stockholder will be
$ , $ , $ and $ , respectively.
See "Underwriting."
------------------
The shares of Class A Common Stock are being offered by the U.S.
Underwriters named herein, subject to prior sale, when, as and if accepted by
them and subject to certain conditions. It is expected that certificates for the
shares of Class A Common Stock offered hereby will be available for delivery on
or about , 1996, at the offices of Smith Barney Inc., 14 Wall Street,
New York, New York 10005.
----------------
SMITH BARNEY INC.
DILLON, READ & CO. INC.
DEAN WITTER REYNOLDS INC.
ROBERTSON, STEPHENS & COMPANY
SALOMON BROTHERS INC
VOLPE, WELTY & COMPANY
, 1996
<PAGE>
------------------------
IN CONNECTION WITH THIS OFFERING, THE UNDERWRITERS MAY OVER-ALLOT OR EFFECT
TRANSACTIONS WHICH STABILIZE OR MAINTAIN THE MARKET PRICE OF THE CLASS A COMMON
STOCK OF THE COMPANY AT A LEVEL ABOVE THAT WHICH MIGHT OTHERWISE PREVAIL IN THE
OPEN MARKET. SUCH TRANSACTIONS MAY BE EFFECTED ON THE NEW YORK STOCK EXCHANGE OR
OTHERWISE. SUCH STABILIZING, IF COMMENCED, MAY BE DISCONTINUED AT ANY TIME.
IN CONNECTION WITH THIS OFFERING, CERTAIN UNDERWRITERS MAY ENGAGE IN PASSIVE
MARKET MAKING TRANSACTIONS IN THE CLASS A COMMON STOCK ON THE NEW YORK STOCK
EXCHANGE IN ACCORDANCE WITH RULE 10B-6A UNDER THE SECURITIES EXCHANGE ACT OF
1934, AS AMENDED (THE "EXCHANGE ACT"). SEE "UNDERWRITING."
FOR NORTH CAROLINA INVESTORS: THESE SECURITIES HAVE NOT BEEN APPROVED OR
DISAPPROVED BY THE COMMISSIONER OF INSURANCE OF THE STATE OF NORTH CAROLINA, NOR
HAS THE COMMISSIONER OF INSURANCE OF THE STATE OF NORTH CAROLINA RULED UPON THE
ACCURACY OR THE ADEQUACY OF THIS DOCUMENT.
2
<PAGE>
PROSPECTUS SUMMARY
THE FOLLOWING SUMMARY IS QUALIFIED IN ITS ENTIRETY BY THE MORE DETAILED
INFORMATION AND CONSOLIDATED FINANCIAL STATEMENTS AND NOTES THERETO APPEARING
ELSEWHERE IN THIS PROSPECTUS AND IN THE DOCUMENTS INCORPORATED BY REFERENCE INTO
THIS PROSPECTUS.
THE COMPANY
Health Systems International, Inc. (the "Company") is one of the largest
managed health care companies in the United States, with more than 1.9 million
full-risk and administrative services only ("ASO") members. The Company provides
a comprehensive range of health care services through health maintenance
organizations ("HMOs") located in the following four regions: California, the
Northeast (Connecticut, Pennsylvania and New Jersey), the Northwest (Washington,
Oregon and Idaho) and the Southwest (Colorado and New Mexico). Health Net, the
Company's HMO subsidiary in California, with approximately 1.34 million members,
is the second largest provider of managed health care services in the state. The
Company operates a preferred provider organization ("PPO") network, which
provides access to health care services to over 4.6 million persons in 38
states, and also owns two health and life insurance companies licensed to sell
insurance in 33 states and the District of Columbia.
The Company's HMOs market their traditional HMO products to employer groups
and their Medicare and Medicaid products directly to eligible individuals.
Health care services that are provided to the Company's members include primary
and specialty physician care, hospital care, laboratory and radiology services,
pharmacy services, dental and vision care, skilled nursing care, physical
therapy and mental health care. The Company's HMO service networks include
approximately 17,500 primary care physicians, 40,500 specialists and 614
hospitals. The Company utilizes sophisticated medical management systems to
reduce excess utilization of health care services. The Company is also
developing a new medical management system which will utilize clinical protocols
and triage procedures to direct members to the most appropriate provider. The
Company believes that this new system, which it calls "Fourth Generation Medical
Management," will represent a major advance in applying sophisticated
information systems to the practice of medicine.
The Company's growth strategy is focused on increasing enrollment and
profitability through (i) continued commercial and Medicare risk enrollment
expansion in existing markets, (ii) membership and revenue growth from
acquisitions in both new and existing markets and (iii) improving medical
management of health plans in new markets and continued refinement of medical
management in existing markets. The Company actively seeks to increase growth in
its existing markets by increasing penetration of its existing product line
through continued investment in its sales and marketing capabilities and by
introducing new products that both increase plan flexibility and reach new
potential customers, including Medicare and Medicaid recipients. The Company
intends to expand on its recent success with its Medicare risk products, which
products have experienced rapid enrollment and premium growth throughout the
last three years. The Company also plans to capitalize on the breadth and
quality of its provider network and its high quality, affordable products to
drive enrollment growth in existing markets. The Company also plans to expand
into contiguous markets that will allow it to increase enrollment while
leveraging its existing infrastructure.
The Company plans to continue its expansion into geographic areas which the
Company believes represent attractive service markets. The Company believes such
markets have characteristics including relatively low levels of managed health
care and existing health care delivery systems which can benefit from more
efficient medical management. The Company has targeted the Northeastern United
States as an attractive service market and, in this regard, in 1995 began a
strategy of acquiring significant HMO plans in the Northeast with the
acquisition of M.D. Health Plan, Inc. ("M.D. Health Plan") operating in
Connecticut and Greater Atlantic Health Service, Inc. ("Greater Atlantic")
operating in Pennsylvania and New Jersey. These acquisitions, which accounted
for 237,125 members at year end 1995, provide the Company with a platform in the
Northeast from which to pursue further acquisition and consolidation
opportunities. Additionally, the Company intends to utilize its sophisticated
medical management capabilities to optimize utilization and increase the
profitability of acquired plans.
3
<PAGE>
As a result of internal expansion and acquisitions, the Company has
experienced significant enrollment, revenue and net income growth since 1993.
During this time period, enrollment increased from 1.3 million to 1.9 million,
revenue increased from $2.0 billion to $2.7 billion, net income increased from
$23.8 million to $89.6 million and net income (before merger-related costs)
increased from $46.1 million to $101.1 million.
On April 10, 1996, the Company announced that it intends to take an
approximately $34.2 million pre-tax restructuring charge in its second quarter
ending June 30, 1996, which will be approximately $0.41 per share after-tax. The
charge will cover computer software and hardware write-offs, the costs of a
comprehensive restructuring of the Company's Health Net subsidiary and the
consolidation of certain operational functions of other subsidiaries. The
software and hardware write-offs are related to abandoned development projects
at Health Net, which pre-dated the combination of QualMed with the Company in
1994, and hardware obsolesence. The restructuring of Health Net will include a
reorganization of its management and operating structure and staff reductions.
The Company expects this restructuring to be completed by the end of 1996.
On May 7, 1996 the Company announced its principal results of operations for
the quarter ended March 31, 1996. Revenues increased 27.7% from $627 million in
the first quarter of 1995 to $801 million in the first quarter of 1996. Primary
earnings per share increased 10.2% from $.49 in the first quarter of 1995
(before merger-related costs) to $.54 in the first quarter of 1996. Total
enrollment increased by approximately 178,000, or 10.2%, since the end of the
first quarter of 1995 to approximately 1,918,000 commercial and ASO members as
of March 31, 1996. Medicare enrollment increased 51% during this period with
acquired plans adding approximately 87,000 members. Total enrollment as of March
31, 1996 decreased by approximately 20,000 from December 31, 1995. A decrease in
commercial membership of approximately 41,000 was partially offset by increases
of approximately 7,000 in Medicare membership, approximately 10,000 in Medicaid
membership and approximately 4,000 in ASO membership.
THE OFFERING
<TABLE>
<S> <C>
Class A Common Stock Offered by the Company........ 3,194,374 shares
Class A Common Stock Offered by the Selling
Stockholder (1)................................... 5,136,830 shares
Common Stock Outstanding after the Offering (2):
Class A Common Stock (3)......................... 27,548,527 shares
Class B Common Stock (1)(3)...................... 20,547,322 shares
Use of Proceeds by the Company..................... To repurchase 3,194,374 shares of Class
A Common Stock. See "Use of Proceeds."
New York Stock Exchange Symbol:
Class A Common Stock............................. HQ
</TABLE>
- ------------------------
(1) Currently, the Selling Stockholder owns 25,684,152 shares of Class B Common
Stock constituting all of the issued and outstanding shares of Class B
Common Stock and approximately 53.4% of all outstanding shares of Common
Stock. Upon completion of the Offering and the repurchase of an amount of
shares of Class A Common Stock that is equal to the amount of shares sold by
the Company in the Offering, the Selling Stockholder will own 20,547,322
shares of Class B Common Stock or 42.7% of the outstanding shares of Common
Stock. See "Principal and Selling Stockholders."
(2) Based on the number of shares of Class A Common Stock and Class B Common
Stock outstanding as of May 8, 1996 and excluding 1,013,964 shares of the
Class A Common Stock issuable upon the exercise of outstanding stock
options, of which options to purchase 959,964 shares of the Class A Common
Stock are currently exercisable.
(3) The rights of holders of Common Stock are identical, except that each share
of Class A Common Stock entitles its holder to one vote per share on matters
presented to the Company's stockholders and the holder of Class B Common
Stock generally has no right to vote on such matters. Shares of Class B
Common Stock are automatically converted into shares of Class A Common Stock
on a one-for-one basis upon the sale or transfer of the Class B Common Stock
to an unrelated third party. See "Description of Capital Stock."
------------------------
UNLESS OTHERWISE INDICATED, THE INFORMATION IN THIS PROSPECTUS ASSUMES NO
GRANT OR EXERCISE OF STOCK OPTIONS AFTER MAY 8, 1996 OR THE UNDERWRITERS'
OVER-ALLOTMENT OPTION.
4
<PAGE>
SUMMARY FINANCIAL INFORMATION
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
------------------------------------------------------
<S> <C> <C> <C> <C>
1995 1994 1993 1992 (1)
------------ ------------ ------------ ------------
<CAPTION>
(IN THOUSANDS, EXCEPT PER SHARE AND OPERATING DATA)
<S> <C> <C> <C> <C>
CONSOLIDATED INCOME STATEMENT DATA:
Revenue............................................... $ 2,732,052 $ 2,306,162 $ 1,957,260 $ 1,538,142
Operating income (before merger-related costs)........ 122,984 144,504 22,627 68,708
Net income (before merger-related costs) (2).......... 101,085 88,467 46,051 40,276
Net income............................................ 89,592 88,075 23,800 40,276
Primary earnings per share (before merger-related
costs) (2)........................................... $ 2.07 $ 1.78 $ 0.93 $ 0.81
Primary earnings per share............................ $ 1.83 $ 1.77 $ 0.48 $ 0.81
Weighted average common shares outstanding
(primary)............................................ 48,831 49,691 49,517 49,456
OPERATING STATISTICS:
Medical loss ratio (3)
Commercial.......................................... 79.4% 79.4% 79.9% 81.4%
Medicare............................................ 88.0% 85.6% 87.9% 83.8%
Total............................................. 81.0% 80.3% 80.6% 81.5%
Period-end membership:
Commercial.......................................... 1,651,528 1,392,317 1,250,933 1,207,877
Medicare............................................ 133,226 78,690 52,481 20,034
Medicaid............................................ 50,120 -- -- --
ASO................................................. 104,010 2,815 3,400 --
------------ ------------ ------------ ------------
Total............................................. 1,938,884 1,473,822 1,306,814 1,227,911
------------ ------------ ------------ ------------
------------ ------------ ------------ ------------
</TABLE>
<TABLE>
<CAPTION>
DECEMBER 31,
1995 (4)
--------------------
(IN THOUSANDS)
<S> <C>
CONSOLIDATED BALANCE SHEET DATA:
Cash and equivalents and marketable securities............................................ $ 592,561
Total assets.............................................................................. 1,213,711
Long-term debt, excluding current maturities.............................................. 354,080
Shareholders' equity...................................................................... 285,527
</TABLE>
- ------------------------
(1) All data prior to February 6, 1992 reflects only QualMed, Inc. ("QualMed")
operations since Health Net was not considered a predecessor company prior
to its conversion from nonprofit to for profit corporate status (the
"Conversion"). See Note 1 to consolidated financial statements included
elsewhere in this Prospectus.
(2) In 1995, 1994 and 1993, the Company incurred merger-related costs on a
before tax basis of $20.2 million, $.7 million and $29.7 million,
respectively.
(3) Medical loss ratio ("MLR") represents health care expenses as a percentage
of premium revenues.
(4) All of the net proceeds to the Company from the Offering will be used by the
Company to repurchase the same number of shares of Class A Common Stock that
the Company sells in the Offering; accordingly, the Offering will have no
impact on the total number of outstanding shares of Common Stock or the
Consolidated Balance Sheet Data of the Company. Does not reflect the
repurchase of 878,748 shares of Class A Common Stock and the exercise of
stock options to purchase 647,230 shares of Class A Common Stock which have
occurred since December 31, 1995.
5
<PAGE>
CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS
Certain statements contained under "Management's Discussion and Analysis of
Financial Condition and Results of Operations," such as statements concerning
future premium rates and the Company's ability to control health care costs,
certain statements contained under "Business," such as statements concerning
proposed efforts to control health care and administrative costs and the future
of the health care industry, and other statements contained herein regarding
matters that are not historical facts are forward-looking statements (as such
term is defined in the Securities Act of 1933, as amended (the "Securities
Act")). Because such forward-looking statements include risks and uncertainties,
actual results may differ materially from those expressed in or implied by such
forward-looking statements. Factors that could cause actual results to differ
materially include, but are not limited to, those discussed herein under "Risk
Factors."
RISK FACTORS
CONTROL OVER AND PREDICTABILITY OF HEALTH CARE COSTS
The Company's profitability depends in large part upon accurately predicting
health care costs and upon its ability to control health care costs through
underwriting criteria, utilization management and negotiation of favorable
provider contracts. The aging of the population and other demographic
characteristics and advances in medical technology continue to contribute to
rising health care costs. Government-imposed limitations on Medicare and
Medicaid reimbursement have also caused the private sector to bear a greater
share of health care costs. Changes in health care practices, inflation, new
technologies, major epidemics, disasters and catastrophes, clusters of high-cost
cases and numerous other factors affecting the delivery and cost of health care
are beyond any health plan's control and may adversely affect the Company's
ability to predict and control health care costs and claims. In addition, there
can be no assurance that provider agreements negotiated in the future will not
result in substantially higher health care costs. See "Management's Discussion
and Analysis of Financial Condition and Results of Operations -- Health Care
Expenses."
HEALTH CARE REFORM LEGISLATION
As a result of the escalation of health care costs and the inability of many
individuals and employers to obtain affordable health insurance, numerous
proposals have been, and may continue to be, introduced in the United States
Congress and state legislatures, and other proposals are being considered,
relating to health care reform. Among the proposals under consideration are
price controls on hospitals, insurance market reforms to increase the
availability of group health insurance to small businesses, requirements that
all businesses offer health insurance coverage to their employees, the creation
of a government health insurance plan or plans that would cover all citizens,
mandated health plan benefits, mandated provider payment arrangements and other
proposals involving various aspects of plan operations. The Company is not able
to evaluate whether any of such proposals or other proposals will be adopted and
implemented. However, certain of the proposals, if adopted, could have a
material adverse effect on the Company's business. See "Business -- Government
Regulation."
GOVERNMENT REGULATION
The health care industry in general, and HMOs and health insurance companies
in particular, are subject to substantial federal and state regulation,
including, but not limited to, regulation relating to cash reserves, minimum net
worth, licensing requirements, approval of policy language and benefits,
mandatory products and benefits, provider compensation arrangements, premium
rates and periodic examinations by state and federal agencies. The Company's
ability to declare and pay dividends is also limited by state regulations which
restrict the Company's subsidiaries' ability to distribute funds to the Company.
In addition, many states in which the Company operates are currently considering
regulation relating to mandatory benefits, provider compensation, any willing
provider legislation and composition of physician networks. Changes in federal
and state laws or regulations, if enacted, could increase health care costs and
administrative expenses, and changes could be made in Medicare or Medicaid
reimbursement rates. There can be no
6
<PAGE>
assurance that any future regulatory action by such other governmental agencies
will not have an adverse impact on the profitability or marketability of the
Company's plans in their respective jurisdictions. See "Business - Governmental
Regulation."
COMPETITION AND PREMIUM PRICING
The managed health care industry is highly competitive, with major
competitors including Blue Cross/ Blue Shield plans, other indemnity insurers
and other national and regional HMOs, PPOs and third party administrator ("TPA")
companies. A number of the Company's competitors are more established in the
health care industry and have substantially larger memberships and greater
financial resources than the Company. Additional competitors may enter the
Company's markets in the future. The Company anticipates that premium pricing
will be highly competitive and the Company may not be able to secure adequate
premium pricing. In the last two fiscal years, the California commercial market
has experienced premium rate decreases due, in large part, to premium reduction
initiatives undertaken by large employer groups. The Company believes that there
will continue to be premium reduction pressures on HMOs from increasingly
sophisticated consumers, such as large employer groups, particularly in the
California commercial marketplace. Due to these competitive pricing pressures,
the Company does not believe that its California commercial membership will grow
significantly in 1996. See "Management's Discussion and Analysis of Financial
Condition and Results of Operations" and "Business -- Competition."
ACQUISITIONS AND GROWTH
A significant part of the Company's business strategy is to diversify into
new geographic markets through acquisitions. Identifying and pursuing
acquisition opportunities, integrating acquired businesses and managing growth
requires a significant amount of management time and skill. Although the Company
is currently reviewing and contemplating the acquisition of HMOs and other
health care-related entities, there are currently no agreements or
understandings regarding any such transactions. There can be no assurance that
the Company will be able to (i) negotiate acceptable terms with suitable
acquisition candidates or that, if negotiated, such acquisitions will be either
approved by all relevant regulatory authorities or consummated, (ii) assimilate
such acquired companies or (iii) manage future growth.
The Company also actively seeks to increase growth in its existing markets
by increasing penetration of its existing product line through continued
investment in its sales and marketing capabilities and by introducing new
products that both increase plan flexibility and reach new potential customers
including Medicare and Medicaid recipients. There can be no assurance that the
Company will be able to successfully implement this strategy as the introduction
of new products may be subject to unforeseen costs and regulatory delays.
POTENTIAL LITIGATION
The Company, like HMOs and health insurers generally, excludes certain
health care services from coverage under its plans. The Company is in its
ordinary course of business subject to the claims of its enrollees arising out
of decisions to restrict treatment or to restrict reimbursement for certain
services. The loss of any such claim, if it results in a significant punitive or
other damage award or a directive that the Company effect significant changes in
its operations, could have a material adverse effect on the Company. In
addition, the risk of potential liability under punitive damage theories may
increase significantly the difficulty of obtaining reasonable settlements of
coverage claims. There can be no assurance that successful claims of enrollees
will not have a material adverse effect on the Company's business.
VOLATILITY OF STOCK PRICE
The trading price of the Class A Common Stock may be subject to fluctuations
in response to variations in quarterly operating results, general trends in the
health care market, regulatory developments, general economic conditions and
other factors.
7
<PAGE>
THE COMPANY
The Company was incorporated in 1990. The Company is the successor to the
business conducted by Health Net, which became a subsidiary of the Company in
1992, and the HMOs and PPO networks operated by QualMed, which combined with the
Company in 1994 (the "HSI Combination"). The Company operates and conducts its
HMO and other businesses through its wholly and majority owned subsidiaries.
Except as the context otherwise requires, the term the "Company" refers to
Health Systems International, Inc. and its subsidiaries.
The Company's principal executive offices are located at 21600 Oxnard
Street, Woodland Hills, California 91367, telephone (818) 719-6978 and 225 North
Main Street, Pueblo, Colorado 81003, telephone (719) 542-0500.
USE OF PROCEEDS
The net proceeds to be received by the Company from the sale of the
3,194,374 shares of Class A Common Stock offered by the Company are estimated to
be $ million, after deducting underwriting discounts and commissions and
estimated expenses of the Offering payable by the Company. The Company intends
to use all of the net proceeds to the Company from the Offering to repurchase
3,194,374 shares of Class A Common Stock currently held pursuant to the Amended
and Restated Health Net Trust Agreement dated as of May 1, 1994 (the "Associate
Trust Agreement"), on behalf of certain founding stockholders of the Company at
the date of the Conversion (the "Class A Stockholders"). The Associate Trust
Agreement was initially entered into in connection with the Conversion and
imposes strict restrictions on the ability of the Class A Stockholders to sell
or otherwise transfer shares of Class A Common Stock held under the Associate
Trust to any entity other than the Company (except in certain limited instances)
prior to February 28, 1997. The repurchase price per share to be paid by the
Company to repurchase these shares of Class A Common Stock will be equal to the
net proceeds per share received by the Company in the Offering.
The Company will not receive any of the proceeds from the sale of shares of
Class A Common Stock by the Selling Stockholder.
8
<PAGE>
PRICE RANGE OF CLASS A COMMON STOCK
The following table sets forth the high and low sales prices of the
Company's Class A Common Stock during the last two fiscal years on the NYSE
since January 31, 1994, the day the Class A Common Stock first commenced
trading. The following quotations are as reported in published financial
sources.
<TABLE>
<CAPTION>
HIGH LOW
--------- ---------
<S> <C> <C>
1994
First Quarter (commencing January 31, 1994).................................. $ 29 7/8 $ 20
Second Quarter............................................................... 36 3/4 24 1/2
Third Quarter................................................................ 29 1/4 22
Fourth Quarter............................................................... 30 5/8 20 3/4
1995
First Quarter................................................................ 33 7/8 24 7/8
Second Quarter............................................................... 34 1/8 25
Third Quarter................................................................ 30 3/8 27 7/8
Fourth Quarter............................................................... 34 1/4 29 1/4
1996
First Quarter................................................................ 37 7/8 30 3/8
Second Quarter............................................................... 37 1/8 30 3/4
Third Quarter (through May 8, 1996).......................................... 37 1/8 29 3/4
</TABLE>
On May 8, 1996, the last reported sales price per share of the Class A
Common Stock on the NYSE was $31 7/8 per share.
DIVIDEND POLICY
No dividends have been paid by the Company during the preceding two fiscal
years. The Company has no present intention of paying any dividends on its
Common Stock. The Company is a holding company and, therefore, its ability to
pay dividends depends on distributions received from its subsidiaries, which are
subject to regulatory net worth requirements and certain additional state
regulations which may restrict the declaration of dividends by licensed managed
health care plans and insurance companies. The payment of any dividend is at the
discretion of the Company's Board of Directors and depends upon the Company's
earnings, financial position, capital requirements and such other factors as the
Company's Board of Directors deems relevant. In addition, the Credit Facility
(as defined herein) restricts the Company's ability to declare or pay dividends
to its stockholders or to purchase, redeem or otherwise acquire shares of its
capital stock.
9
<PAGE>
CAPITALIZATION
The following table sets forth the consolidated capitalization of the
Company as of December 31, 1995 on an actual basis. All of the net proceeds to
the Company from the Offering will be used by the Company to repurchase the same
number of shares of Class A Common Stock that the Company sells in the Offering.
The Offering will have no impact on the capitalization of the Company, except
that after the Offering, 27,548,527 shares of Class A Common Stock and
20,547,322 shares of Class B Common Stock will be outstanding. See "Use of
Proceeds."
<TABLE>
<CAPTION>
DECEMBER 31, 1995(1)
--------------------
(IN THOUSANDS)
<S> <C>
Current maturities of long-term debt........................................................ $ 2,340
--------
--------
Long-term debt, excluding current maturities................................................ 354,080
--------
Shareholders' equity:
Preferred Stock, par value $.001 per share; 10,000,000 shares authorized; none issued and
outstanding.............................................................................. --
Class A Common Stock, par value $.001 per share; 135,000,000 shares authorized; at
December 31, 1995, 22,643,030 shares issued and outstanding (2)(3)....................... 23
Class B Common Stock, par value $.001 per share; 30,000,000 shares authorized; at December
31, 1995, 25,684,152 shares issued and outstanding (3)................................... 26
Additional paid-in capital................................................................ 66,147
Retained earnings......................................................................... 233,711
Advances to repurchase 574,869 shares of Class A Common Stock (4)......................... (16,330)
Unrealized gain on marketable securities held for sale, net............................... 1,950
--------
Total shareholders' equity.................................................................. 285,527
--------
Total capitalization........................................................................ $ 639,607
--------
--------
</TABLE>
- ------------------------
(1) Does not reflect the repurchase of 878,748 shares of Class A Common Stock
and the exercise of stock options to purchase 647,230 shares of Class A
Common Stock which have occurred since December 31, 1995.
(2) Excludes 1,618,564 shares of Class A Common Stock issuable upon the exercise
of outstanding stock options as of December 31, 1995.
(3) At May 8, 1996, 22,411,697 shares of Class A Common Stock and 25,684,152
shares of Class B Common Stock were issued and outstanding (27,548,527
shares of Class A Common Stock and 20,547,322 shares of Class B Common Stock
outstanding after the completion of the Offering and the repurchase of
3,194,374 shares by the Company).
(4) All of such shares were repurchased and cancelled in February 1996.
10
<PAGE>
SELECTED CONSOLIDATED FINANCIAL DATA
The following consolidated financial statement data for each of the years
ended December 31, 1995 and 1994 are derived from the consolidated financial
statements of the Company audited by Deloitte & Touche LLP, independent
auditors. The following consolidated financial statement data for the year ended
December 31, 1993 are derived from the consolidated financial statements of the
Company audited by Ernst & Young LLP, independent auditors (except with respect
to the 1993 QualMed data included therein which information was audited by
Deloitte & Touche LLP). The following 1992 and 1991 consolidated financial
statement data have been derived from audited consolidated financial statements.
The following selected consolidated financial data should be read in conjunction
with "Management's Discussion and Analysis of Financial Condition and Results of
Operations" included elsewhere in this Prospectus and with the consolidated
financial statements and related notes and other financial information, which
are incorporated herein by reference.
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
------------------------------------------------------------------
1995 1994 1993 1992 (1) 1991 (1)
------------ ------------ ------------ ------------ ----------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<S> <C> <C> <C> <C> <C>
INCOME STATEMENT DATA:
Revenues:
Premium revenue............................. $ 2,692,335 $ 2,290,601 $ 1,943,730 $ 1,528,500 $ 283,437
Administrative services revenue............. 39,717 15,561 13,530 9,642 --
------------ ------------ ------------ ------------ ----------
Total revenue................................. 2,732,052 2,306,162 1,957,260 1,538,142 283,437
Operating expenses:
Health care................................. 2,180,277 1,838,235 1,567,232 1,245,780 220,368
Marketing, general and administrative....... 302,870 266,764 262,927 182,650 35,437
Depreciation and amortization............... 48,140 39,692 34,187 32,677 2,408
Administrative services expenses............ 37,453 15,623 10,837 8,327 --
Merger-related costs........................ 20,164 672 29,725 -- --
------------ ------------ ------------ ------------ ----------
Operating income.............................. 143,148 145,176 52,352 68,708 25,224
Interest income (expense), net................ 13,495 5,592 (114) (679) 2,248
Income taxes.................................. (67,307) (62,759) (28,438) (27,753) (9,659)
Minority interest in loss of subsidiary....... 256 66 -- -- --
------------ ------------ ------------ ------------ ----------
Net income.................................... $ 89,592 $ 88,075 $ 23,800 $ 40,276 $ 17,813
------------ ------------ ------------ ------------ ----------
------------ ------------ ------------ ------------ ----------
Net income (before merger-related costs)...... $ 101,085 $ 88,467 $ 46,051 $ 40,276 $ 17,813
------------ ------------ ------------ ------------ ----------
------------ ------------ ------------ ------------ ----------
Primary earnings per share.................... $ 1.83 $ 1.77 $ 0.48 $ 0.81 $ 1.24
Primary earnings per share (before
merger-related costs)........................ $ 2.07 $ 1.78 $ 0.93 $ 0.81 $ 1.24
------------ ------------ ------------ ------------ ----------
------------ ------------ ------------ ------------ ----------
Weighted average common shares outstanding
(primary).................................... 48,831 49,691 49,517 49,456 14,337
------------ ------------ ------------ ------------ ----------
------------ ------------ ------------ ------------ ----------
BALANCE SHEET DATA:
Cash and equivalents and marketable
securities................................... $ 592,561 $ 512,372 $ 465,602 $ 351,268 $ 78,759
Total assets.................................. 1,213,711 894,397 822,221 771,679 125,262
Long-term debt................................ 354,080 158,340 219,922 224,493 4,541
Stockholders' equity.......................... 285,527 223,605 154,352 127,316 81,122
</TABLE>
- ------------------------
(1) All data prior to February 6, 1992 reflects only QualMed operations since
Health Net was not considered a predecessor company prior to the Conversion.
See Note 1 to the consolidated financial statements, included elsewhere in
this Prospectus.
11
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
RECENT DEVELOPMENTS
On May 7, 1996 the Company announced its principal results of operations for
the quarter ended March 31, 1996. Revenues increased 27.7% from $627 million in
the first quarter of 1995 to $801 million in the first quarter of 1996. Primary
earnings per share increased 10.2% from $.49 in the first quarter of 1995
(before merger-related costs) to $.54 in the first quarter of 1996. Total
enrollment increased by approximately 178,000, or 10.2%, since the end of the
first quarter of 1995 to approximately 1,918,000 commercial and ASO members as
of March 31, 1996. Medicare enrollment increased 51% during this period with
acquired plans adding approximately 87,000 members. Total enrollment as of March
31, 1996 decreased by approximately 20,000 from December 31, 1995. A decrease in
commercial membership of approximately 41,000 was partially offset by increases
of approximately 7,000 in Medicare membership, approximately 10,000 in Medicaid
membership and approximately 4,000 in ASO membership.
On April 10, 1996, the Company announced that it intends to take an
approximately $34.2 million pre-tax restructuring charge in its second quarter
ending June 30, 1996, which will be approximately $0.41 per share after-tax. The
charge will cover computer software and hardware write-offs, the costs of a
comprehensive restructuring of the Company's Health Net subsidiary and the
consolidation of certain operational functions of other subsidiaries.
The software and hardware write-offs are related to abandoned development
projects at Health Net, which pre-dated the HSI Combination, and hardware
obsolesence. The restructuring of Health Net will include a reorganization of
its management and operating structure and staff reductions. The Company expects
this restructuring to be completed by the end of 1996.
GENERAL
Since the HSI Combination in January 1994, the Company has experienced
significant growth in both revenue and profitability. Revenue increased to $2.7
billion in 1995, from $2.3 billion in 1994 and $1.9 billion in 1993, net income
reached $89.6 million in 1995, up from $88.1 million in 1994 and $23.8 million
in 1993 and net income (before merger-related costs) increased to $101.1 million
in 1995, up from $88.5 million in 1994 and $46.1 million in 1993. In 1995, with
continued commercial premium rate pressures in California, the Company has
focused on increasing its presence in the Medicare market in California and,
through strategic acquisitions, entering new geographic markets. Medicare
membership grew by 69% in 1995 and 50% in 1994. As initial steps in its
Northeast expansion plan, the Company in March 1995 acquired M.D. Health Plan, a
managed health care company operating in the State of Connecticut, and in
December 1995 acquired Greater Atlantic, a managed health care company operating
in Pennsylvania and New Jersey.
Revenue growth in 1995 and 1994 has been due in large part to the
significant increases in Medicare risk membership, accounting for $191 million
of the $402 million premium revenue increase in 1995 over 1994. The majority of
this increase occurred in the Company's California market, where the Medicare
risk product was initially offered in 1993. The remaining 1995 increase in
premium revenue was a result of the Company's expansion into the Northeast. The
acquisition of M.D. Health Plan initially added 59,000 commercial members, which
increased to 117,000 by year end, primarily due to the conversion of
approximately 52,000 State of Connecticut employees from ASO to full risk
membership in July 1995. The Company subsequently acquired Greater Atlantic, a
90,000 member HMO with operations in Pennsylvania and New Jersey. Greater
Atlantic's business includes a substantial number of Medicare and Medicaid
members. Together, those acquisitions contributed $173 million in premium
revenue in 1995. Medicare risk membership growth accounted for $137 million of
the $347 million premium revenue increase in 1994 over 1993. The remainder of
the 1994 increase was primarily due to increase in commercial HMO membership,
which again occurred primarily in the California market. The Company believes
that commercial premium rate pressures, particularly in California, will
continue in 1996 and, accordingly, the Company will continue to emphasize the
growth of its Medicare risk business and expansion into other geographic
markets. In addition, the Company is developing products designed to increase
its presence in the middle and small group California markets.
Effective medical management and the recontracting of its largely capitated
provider network in California have enabled the Company to maintain a stable
MLR, despite industry premium pressures. The
12
<PAGE>
Company's overall MLR increased slightly to 81.0% in 1995 from 80.3% in 1994,
primarily due to the increased Medicare risk business in 1995. Medicare risk
MLRs typically run higher than commercial ratios due to the higher utilization
of services in the senior population. A stable commercial MLR of 79.4% was
achieved by the Company in 1995 by renegotiating its provider contracts in
California to offset premium pricing pressures and quickly implementing its
medical management system in its newly acquired HMO operations in the Northeast.
Declining marketing, general and administrative expenses (excluding
merger-related costs and ASO business) as a percentage of premium revenue over
the period of 1993 through 1995 (13.5%, 11.6% and 11.2%, respectively) reflect
the Company's ongoing efforts to control costs and increase its membership
growth in the higher premium Medicare business. Merger-related costs of $20.2
million incurred in 1995 resulted from the proposed business combination (the
"HSI/WellPoint Transaction") with WellPoint Health Networks Inc. and certain
commercial operations of Blue Cross of California that was ultimately abandoned.
SUMMARY OF OPERATING RESULTS
<TABLE>
<CAPTION>
1995 1994 1993
---------- ---------- ----------
<S> <C> <C> <C>
Membership at year end:
Commercial.................................................. 1,651,528 1,392,317 1,250,933
Medicare.................................................... 133,226 78,690 52,481
Medicaid.................................................... 50,120 -- --
ASO......................................................... 104,010 2,815 3,400
---------- ---------- ----------
1,938,884 1,473,822 1,306,814
---------- ---------- ----------
---------- ---------- ----------
Revenues:
Commercial (1).............................................. 80.3% 86.0% 90.6%
Medicare.................................................... 18.2% 13.3% 8.7%
Administrative services..................................... 1.5% .7% .7%
---------- ---------- ----------
100.0% 100.0% 100.0%
---------- ---------- ----------
---------- ---------- ----------
Medical Loss Ratio:
Commercial (1).............................................. 79.4% 79.4% 79.9%
Medicare.................................................... 88.0% 85.6% 87.9%
Total..................................................... 81.0% 80.3% 80.6%
Marketing, general and administrative expenses as a percentage
of premium revenue (2)....................................... 11.2% 11.6% 13.5%
Depreciation and amortization as a percentage of premium
revenue (2).................................................. 1.8% 1.7% 1.8%
Net income as a percentage of revenue......................... 3.3% 3.8% 1.2%
Net income (before merger-related costs) as a percentage of
revenue...................................................... 3.7% 3.8% 2.4%
</TABLE>
- ------------------------
(1) Amounts shown for 1995 include Medicaid revenues.
(2) Amounts shown are exclusive of administrative services revenues.
PREMIUM REVENUE
Premium revenue, excluding ASO revenues, increased by $402 million or 17.5%
from 1994 to 1995, and by $347 million or 17.8% from 1993 to 1994. The factors
that contributed to the 1995 increase over 1994 included Medicare risk
membership gains, acquisitions completed in 1995 in the Northeast and continued
growth in commercial membership in the Company's existing service areas.
Increased membership, particularly in higher premium Medicare business and in
the Northeast, was offset in part by premium rate reductions in the California
commercial market. The factors that contributed to the 1994 increase over 1993
included Medicare risk membership gains and membership growth in the commercial
business, particularly in California.
The acquisitions in the Northeast contributed $173 million in premium
revenue in 1995. Premium revenue increases in the Company's existing markets are
attributable to a combination of membership
13
<PAGE>
increases and premium rate changes. Increases in commercial and Medicare risk
membership accounted for $316 million of premium revenue increases in 1995 from
1994. Commercial membership increases accounted for $145 million of the increase
and Medicare risk membership increases accounted for $171 million. Premium rate
decreases in the commercial business resulted in a decrease in premium revenue
of $100 million in 1995 and increases in Medicare rates increased premium
revenue by $13 million in 1995. The commercial premium rate decreases occurred
primarily in California's large employer group base, where organized rate
reduction initiatives by large employer groups have been undertaken. The
Medicare premium rate increases reflect average Medicare reimbursement rate
increases of 4.6% in 1995. On a per member per month ("PMPM") basis, the premium
rate changes resulted in a decrease of 3.0% in commercial premium revenue to
$118.51 and an increase in Medicare premium revenue of 4.5% to $394.42 in 1995.
Overall, Medicare risk business accounted for an increase of $191 million of
premium revenue in 1995 over 1994 and commercial business accounted for an
increase of $211 million of premium revenue in 1995 over 1994.
Increases in commercial and Medicare risk membership accounted for $335
million of premium revenue increases in 1994 from 1993. Of this increase, $190
million represented commercial membership increases and $145 million resulted
from Medicare risk membership increases. Changes in premium rates in both the
commercial business and Medicare risk business accounted for an increase of $12
million of premium revenue in 1994. On a PMPM basis, the premium rate changes
resulted in an increase of 1.1% in commercial premium revenue to $122.17 and a
decrease in Medicare premium revenue of 4.5% to $377.33 in 1994. The decrease in
the Medicare PMPM revenue reflected the growth of the Company's senior plans in
areas with lower Medicare reimbursement rates. Overall, Medicare risk business
accounted for an increase of $137 million of premium revenue in 1994 compared to
1993 and commercial business accounted for an increase of $210 million of
premium revenue in 1994 compared to 1993.
The aforementioned premium rate decreases in the California market have
been, in large part, the result of premium reduction initiatives undertaken by
large employer groups. On June 20, 1994, the Bay Area Business Group on Health
("BBGH"), a consortium of 19 large California employers which collectively
provides health care benefits for 300,000 employees through HMOs in California,
announced premium rate reductions on behalf of eleven BBGH member companies.
Similarly, in early 1995, Health Net submitted a proposal to the California
Public Employees Retirement System ("CalPERS") for a rate reduction for the
CalPERS 1995 to 1996 fiscal year. CalPERS is the Company's single largest
employer group with approximately 133,000 members at December 31, 1995 and
110,000 members at December 31, 1994. CalPERS accepted Health Net's proposal for
a 7.2% rate decrease for its 1995 to 1996 fiscal year from its 1994 to 1995
fiscal year rates. In 1995, BBGH expanded to include large employer groups in
other western states and was renamed the Pacific Business Group on Health (the
"Pacific Business Group"). Similar rate reductions were also submitted to other
large employer groups in 1995. Management of the Company believes that in 1996
there will continue to be premium pressures on HMOs from increasingly
sophisticated consumers such as the Pacific Business Group and CalPERS,
particularly in the California marketplace. Due to these competitive pricing
pressures, the Company does not believe that its California commercial
membership will grow significantly in 1996.
The Company's ASO business accounted for $39.7 million in revenue in 1995,
contributing $15.6 million and $13.5 million to overall revenues for 1994 and
1993, respectively. The Company anticipates continuing increases from such TPA
services as a result of growth in its non-risk PPO product, increased business
in its Comp-24 workers' compensation product, as well as ASO business acquired
in connection with HMO acquisitions.
HEALTH CARE EXPENSES
Through the execution of various medical management incentive and
cost-containment programs that have been established with its networks of
providers and the implementation of effective utilization management systems and
information systems that provide timely and accurate medical outcomes data, the
Company has been able to contain health care expense increases, particularly in
its commercial business, where the MLR has remained stable over the past three
years.
Health care expenses increased by $342 million, or 18.6%, to $110.23 PMPM in
1995 compared to $107.82 PMPM in 1994. The Company's overall MLR increased
slightly to 81.0% from 80.3% in 1994. Impacting the Company's overall health
care expense PMPM and MLR was the growth in Medicare business
14
<PAGE>
and the associated higher utilization. In addition, the Company's MLR in the
Medicare risk business increased to 88.0% in 1995 from 85.6% in 1994 due to
Medicare risk membership growth in higher cost areas. Commercial health care
expenses on a PMPM basis decreased from $97.03 in 1994 to $94.09 in 1995 and the
Company's commercial MLR remained flat in 1995, at 79.4%, relative to 1994. The
Company's recontracting in 1995 of its largely capitated commercial provider
network in California enabled it to maintain its relatively consistent MLR
despite the reduced commercial premium rates experienced in that market in 1995.
The implementation of the Company's medical management system in its newly
acquired HMO operations in the Northeast also contributed to the stable 1995
MLR. Significant and ongoing cost savings have been achieved through effective
utilization management in the Company's Connecticut operations.
Healthcare expenses increased by $271 million, or 17.3%, to $107.82 PMPM in
1994 compared to $103.71 PMPM in 1993. The Company's overall MLR decreased
slightly to 80.3% from 80.6% in 1993. Commercial healthcare expenses were stable
in terms of both MLR and on a PMPM basis. The commercial MLR decreased to 79.4%
compared to 79.9% in 1993. Medicare healthcare expenses decreased in 1994 to
$323.14 PMPM from $347.34 PMPM in 1993. The Medicare MLR decreased to 85.6% in
1994 from 87.9% in 1993. The improvement in Medicare health care expenses in
1994 compared to 1993 was due to economies of scale and disproportionate growth
in lower cost areas.
MARKETING, GENERAL AND ADMINISTRATIVE EXPENSES
Marketing, general and administrative expenses (excluding ASO expenses and
costs associated with the HSI/Wellpoint Transaction) were $302.9 million or
11.2% of premium revenue in 1995, compared to $266.8 million or 11.6% of premium
revenue in the prior year. Marketing, general and administrative expenses
(excluding ASO expenses) were $266.8 million, 11.6% of premium revenue in 1994
compared to $262.9 million, or 13.5% of premium revenue (excluding costs
associated with the HSI Combination) in the prior year. The decreases in
marketing, general and administrative expenses from 1993 to 1995 reflect ongoing
efforts to streamline operations and maximize efficiencies.
DEPRECIATION AND AMORTIZATION EXPENSES
Depreciation and amortization expenses as a percentage of premium revenue
increased slightly from 1.7% in 1994 to 1.8% in 1995 ($39.7 million in 1994 and
$48.1 million in 1995). The increase in depreciation and amortization expenses
resulted primarily from the goodwill recorded in connection with the M.D. Health
Plan and Greater Atlantic acquisitions.
MERGER-RELATED COSTS
Throughout 1995, the Company incurred merger-related costs of $20.2 million
in connection with the proposed HSI/WellPoint Transaction that was ultimately
terminated. Such costs included legal, accounting and consulting fees, and
certain severance-related costs totaling $12.2 million.
The Company accrued certain fees and expenses in connection with the HSI
Combination totaling $29.7 million which are reflected as merger-related costs
in the Company's 1993 consolidated statement of income.
LIQUIDITY AND CAPITAL RESOURCES
The Company's primary source of cash is premium revenue. Its primary uses of
cash are claims and capitation payments. Estimates of future cash flows include
a component to account for the delay between providing medical services and
reporting their cost. These estimates are based on actuarial projections of
claims and other costs, claims paid history, membership growth, inflation,
seasonality, claims inventory and reserves.
The Company's capital resources are managed according to certain guidelines
intended to ensure liquidity and maximum total return by assuming prudent
investment risks. The Company's liquidity requirements consist of the need to
service medical claims in a timely manner and to satisfy shared risk and other
obligations. Such requirements are the principal factors in determining the
appropriate investment portfolio mix. The Company presently invests primarily in
a variety of fixed income obligations according to established investment
guidelines.
15
<PAGE>
For the year ended December 31, 1995, cash provided by operating activities
decreased to $111.6 million from $160.8 million in the prior year. This decrease
is due primarily to fluctuations in operating assets and liabilities from year
to year caused by timing differences in the collection of receivables and
payment of liabilities at each respective year end. Net cash used by investing
activities approximated $282 million in 1995, primarily the result of the
acquisition of the M.D. Health Plan and Greater Atlantic and a net increase in
the purchase of marketable securities held for sale. The financing of these 1995
acquisitions was through additional borrowing on the Credit Facility.
Outstanding notes payable amounted to $356.4 million at December 31, 1995,
resulting primarily from additional borrowings related to the M.D. Health Plan
and Greater Atlantic acquisitions. Principal and interest requirements of notes
payable are scheduled at between $17 million and $25 million per year through
2006.
Management of the Company believes that its cash from operations and
existing working capital are adequate to fund existing obligations, introduce
new products and services and continue to develop health care related
businesses. The Company regularly evaluates cash requirements for current
operations, commitments, development activities and strategic acquisitions. The
Company may elect to raise additional funds for these purposes, either through
the issuance of additional debt or equity, sale of investment securities or
otherwise, as appropriate.
On April 12, 1995, the Company obtained a five year unsecured $400 million
revolving line of credit from a lending syndicate led by Bank of America (the
"Credit Facility"). The Company used $310 million of the Credit Facility to fund
the prepayment by its Health Net subsidiary of $135 million in debt to the
Selling Stockholder, and to fund the M.D. Health Plan and Greater Atlantic
acquisitions in the amount of $100 million and $75 million, respectively. Under
the Credit Facility, the Company may incur permitted subordinated indebtedness
in a maximum aggregate amount not to exceed $150 million which will be available
for acquisition purposes and to provide short-term financing to repurchase
shares of stock. Under the terms of the Credit Facility, the Company is to pay
interest at a variable rate based upon a spread above the LIBOR rate, or the
greater of the bank's reference rate or the federal funds rate plus 1/2%. The
Company may elect a "competitive bid auction" in which participating banks are
offered an opportunity to bid alternative rates. The Credit Facility is for a
term of five years from the date of execution, with two one year extension
options. See Note 5 to the consolidated financial statements included elsewhere
in this Prospectus. On April 26, 1996, the amount of the revolving line of
credit available under the Credit Facility was increased to $700 million and the
initial five year term was extended to April 26, 2001. On May 8, 1996, the
Company obtained a waiver from the lending syndicates, pursuant to an amendment
to the Credit Facility, to permit the Company to repurchase more than 50% of its
shares beneficially owned by certain Class A Stockholders, certain of which
shares are to be repurchased by the Company with the proceeds received by the
Company from the Offering.
The Company's subsidiaries must comply with certain minimum capital
requirements under applicable state laws and regulations. The long-term portion
of principal and interest payments under the notes issued by Health Net to the
Selling Stockholder in connection with the Conversion is subordinated to Health
Net meeting minimum capital requirements under applicable California laws and
regulations. As of December 31, 1995, the Company's subsidiaries were in
compliance with minimum capital requirements.
IMPACT OF INFLATION AND OTHER ELEMENTS
The managed health care industry is labor intensive and its profit margin is
low. Hence, it is especially sensitive to inflation. Increases in health care
costs without corresponding increases in premiums could have a material adverse
effect on the Company.
Various federal and state legislative initiatives regarding the health care
industry have been proposed during recent legislative sessions, and health care
reform and similar issues continue to be in the forefront of social and
political discussion. If health care reform or similar legislation is enacted,
such legislation could impact the Company. Management cannot at this time
predict whether any such initiative will be enacted and, if enacted, the impact
on the financial condition or operations of the Company.
16
<PAGE>
BUSINESS
The Company is one of the largest managed health care companies in the
United States, with more than 1.9 million full-risk and ASO members. The Company
provides a comprehensive range of health care services through HMOs located in
the following four regions: California, the Northeast (Connecticut, Pennsylvania
and New Jersey), the Northwest (Washington, Oregon and Idaho) and the Southwest
(Colorado and New Mexico). Health Net, the Company's HMO subsidiary in
California, with approximately 1.34 million members, is the second largest
provider of managed health care services in the state. The Company operates a
PPO network, which provides access to health care services to over 4.6 million
persons in 38 states, and also owns two health and life insurance companies
licensed to sell insurance in 33 states and the District of Columbia.
The Company's HMOs market their traditional HMO products to employer groups
and their Medicare and Medicaid products directly to eligible individuals.
Health care services that are provided to the Company's members include primary
and specialty physician care, hospital care, laboratory and radiology services,
pharmacy services, dental and vision care, skilled nursing care, physical
therapy and mental health care. The Company's HMO service networks include
approximately 17,500 primary care physicians, 40,500 specialists and 614
hospitals. The Company utilizes sophisticated medical management systems to
reduce excess utilization of health care services. The Company is also
developing a new medical management system which will utilize clinical protocols
and triage procedures to direct members to the most appropriate provider. The
Company believes that this new system, which it calls "Fourth Generation Medical
Management," will represent a major advance in applying sophisticated
information systems to the practice of medicine.
GROWTH STRATEGY
The Company's growth strategy is focused on increasing enrollment and
profitability through (i) continued commercial and Medicare risk enrollment
expansion in existing markets, (ii) membership and revenue growth from
acquisitions in both new and existing markets and (iii) improving medical
management of health plans in new markets and continued refinement of medical
management in existing markets. The Company actively seeks to increase growth in
its existing markets by increasing penetration of its existing product line
through continued investment in its sales and marketing capabilities and by
introducing new products that both increase plan flexibility and reach new
potential customers, including Medicare and Medicaid recipients. The Company
intends to expand on its recent success with its Medicare risk products, which
products have experienced rapid enrollment and premium growth throughout the
last three years. The Company also plans to capitalize on the breadth and
quality of its provider network and its high quality, affordable products to
drive enrollment growth in existing markets. The Company also plans to expand
into contiguous markets that will allow it to increase enrollment while
leveraging its existing infrastructure.
The Company plans to continue its expansion into geographic areas which the
Company believes represent attractive service markets. The Company believes such
markets have characteristics, including relatively low levels of managed health
care and existing health care delivery systems, which can benefit from more
efficient medical management. The Company has targeted the Northeastern United
States as an attractive service market and, in this regard, in 1995 began a
strategy of acquiring significant HMO plans in the Northeast with the
acquisition of M.D. Health Plan, operating in Connecticut, and Greater Atlantic,
operating in Pennsylvania and New Jersey. These acquisitions, which accounted
for 237,125 members at year end 1995, provide the Company with a platform in the
Northeast from which to pursue further acquisition and consolidation
opportunities.
The Company believes it has established a reputation as a leader in medical
management through optimizing the utilization of health care services among the
members of its health plans. The Company seeks acquisitions where there exists
relatively high utilization of health care services when compared to the
Company's existing health plans. In seeking such plans, the Company believes it
can have a direct impact on health care utilization (and resulting
profitability) through the application of its medical management techniques. As
evidence of this impact, at the time the Company acquired M.D. Health Plan, this
plan's acute hospital days per thousand commercial members was approximately
300. In December 1995, after the
17
<PAGE>
Company's medical management system had been installed, hospital days per
thousand had decreased to below 200, a level consistent with the Company's
Southwest and Northwest plans. The Company is attempting to further decrease
utilization through the implementation of its new medical management procedures.
THE MANAGED HEALTH CARE INDUSTRY
In response to the rapid increases in health care costs, employers, insurers
and government entities have sought cost-effective alternatives to conventional
indemnity insurance for the delivery of and payment for quality health care
services. The integration of the delivery of, and payment for, health care
services distinguishes HMOs from conventional health insurance plans. The goals
of HMOs are to provide their members with access to quality health care, while
employing a business strategy and management systems designed to encourage more
cost-effective use of health care delivery systems. Such cost containment
strategies include providing access to primary physician care and other services
on a fixed, prepaid basis, monitoring hospital admissions and lengths of stay,
using a system of specialist referrals, using non-hospital based medical
services, and emphasizing preventive care. To accomplish these objectives, the
following basic HMO models have evolved:
- Network Model HMOs contract with several physician groups and independent
or individual practice associations ("IPAs").
- Individual or Independent Practice Association HMOs ("IPA Model HMOs")
contract through one or more IPAs, which are physician entities that in
turn subcontract with individual physicians to provide HMO patient
services. Those physicians continue to provide services to non-HMO
patients in their separate private practices, while also providing
services to HMO patients (and often PPO patients as well) through an IPA.
- Staff Model HMOs directly employ physicians and usually own the offices
and clinics utilized by the physician staff.
- Group Model HMOs contract, often on an exclusive basis, with a physician
group practice. In many cases, the HMO also owns the offices and clinics.
Health Net is a Network Model HMO and the Company's other HMOs operate under
the IPA Model with the exception of Greater Atlantic which operates on both a
Staff and an IPA Model HMO basis.
MARKETS
As of December 31, 1995, the Company owned and operated HMOs in four
regional areas of the United States: California, the Northeast (Connecticut,
Pennsylvania and New Jersey), the Northwest (Washington, Oregon and Idaho) and
the Southwest (Colorado and New Mexico). The following table contains certain
information relating to commercial HMO members, Medicare members and employer
groups under contract as of December 31, 1995 in each region in which the
Company operates:
<TABLE>
<CAPTION>
CALIFORNIA NORTHEAST (1) NORTHWEST SOUTHWEST
---------- ------------ ------------ -----------
<S> <C> <C> <C> <C>
Commercial HMO members....................................... 1,257,724 167,641 155,920 70,243
Medicare members............................................. 107,875 13,206 1,455 10,690
Medicaid members............................................. 990 36,408 12,722 0
ASO members.................................................. 0 101,257 0 2,753
Number of employer groups.................................... 3,600 4,903 2,158 2,362
Largest employer group as a percentage of enrollment......... 10% 30% 21% 11%
Ten largest employer groups as a percentage of enrollment.... 33% 43% 58% 32%
Percentage of members in employer groups with fewer than 50
eligible members............................................ 3% 14% 13% 27%
</TABLE>
- ------------------------
(1) The membership information set forth above for the Northeast region resulted
primarily from acquisitions completed in 1995.
18
<PAGE>
CALIFORNIA. The California market is characterized by a concentrated
population and a relatively high proportion of large employer groups (over 1,000
employees). Health Net is the second-largest HMO in the State of California in
terms of membership. As of December 31, 1995, Health Net was licensed to operate
its commercial HMO business in 47 of the 58 counties in the State of California,
which counties represent over 81% of the population in California. HMO
enrollment represented 35% of the population of California in 1995. The
Company's commercial HMO membership in California at December 31, 1995 was
1,258,714 which represented an increase of 6.6% during 1995. The Company's
Medicare risk membership in California at December 31, 1995 was 107,875 which
represented an increase of 55.9% during 1995. The Company does not believe that
its California commercial membership will grow significantly in 1996.
NORTHEAST. The Northeast region currently includes Connecticut,
Pennsylvania and New Jersey. The Company commenced operations in this region in
1994 with the acquisition of a PPO network and significantly expanded its
operations with the acquisition of M.D. Health Plan in March 1995 and Greater
Atlantic in December 1995. HMO enrollment represented 21% of the population of
both Connecticut and Pennsylvania in 1995. The Company believes M.D. Health Plan
is the third largest HMO in terms of membership in the State of Connecticut.
M.D. Health Plan's commercial HMO membership in Connecticut was 124,771 at
December 31, 1995 which represented an increase of 160% during 1995. The Company
believes Greater Atlantic is the third largest HMO in terms of membership in the
state of Pennsylvania. Greater Atlantic's commercial HMO membership in
Pennsylvania was 79,278 at December 31, 1995 which represented an increase of
6.2% during 1995. Greater Atlantic's Medicare risk membership in Pennsylvania
was 13,206 at December 31, 1995 which represented an increase of 24.5% during
1995.
NORTHWEST. The Northwest region's population is principally concentrated in
Portland, Oregon and Seattle and Spokane, Washington. The Company's Washington
HMO also services a limited number of residents who reside in the State of
Idaho. In the last several years, Portland, Seattle and Spokane have experienced
population growth rates greater than the national average and an increasing
percentage of the population in each of these areas has enrolled in HMOs. HMO
enrollment represented 35% and 25% of the population of Oregon and Washington,
respectively, in 1995. In Washington and Oregon, the Company believes that it
ranks second and seventh, respectively, with respect to total membership; the
Company believes that it ranks first in Washington and second in Oregon with
respect to the size of its primary care physician and specialist networks. The
Company's commercial HMO membership in Oregon was 43,977 at December 31, 1995
which represented an increase of 33.1% during 1995. The Company's commercial HMO
membership in Washington was 124,665 at December 31, 1995 which represented an
increase of 11.4% during 1995. The Company's Medicare risk membership in
Washington was 1,455 at December 31, 1995 which represented an increase of
169.4% during 1995.
SOUTHWEST. The Southwest region includes the States of Colorado and New
Mexico. The Company's employer groups in the Southwest region consist
predominantly of companies with fewer than 50 employees. HMO enrollment
represented 35% and 19% of the population of Colorado and New Mexico,
respectively, in 1995. The Company believes that it is the fifth-largest HMO in
Colorado as measured by total membership and the size of its primary care
physician and specialist provider networks. The Company's commercial HMO
membership in Colorado was 39,665 at December 31, 1995 which represented an
increase of 22% during 1995. The Company's Medicare membership in Colorado was
8,923 at December 31, 1995 which represented an increase of 20.3% during 1995.
In New Mexico, the Company believes that its ranks fourth and third,
respectively, as measured by total membership and the size of its provider
network. The Company's commercial HMO membership in New Mexico was 26,251 at
December 31, 1995 which represented a decrease of 11.7% during 1995. The
Company's Medicare risk membership in New Mexico was 1,767 at December 31, 1995
which represented an increase of 15.9% during 1995.
SERVICES AND PRODUCTS
The Company offers a broad range of managed health care and related products
and services which are described below. The products and services offered vary
by region and location.
COMMERCIAL MANAGED HEALTH CARE PRODUCTS. The Company's HMOs, through their
health care providers, offer members a comprehensive range of health care
services, including ambulatory and outpatient
19
<PAGE>
physician care, hospital care, pharmacy services, eye care, mental health and
ancillary diagnostic and therapeutic services. The Company offers a full
spectrum of managed health care products including conventional HMO, managed
indemnity, point-of-service and customized HMO products. The Company's strategy
is to offer a wide range of managed health care products and services to
employers to assist employers in containing health care costs. The pricing of
the products offered is designed to provide incentives to both employers and
employees to select and enroll in the products with greater managed health care
and cost containment elements. While a majority of the Company's members are
covered by conventional HMO products, the Company is continuing to expand its
other product lines, thereby enabling it to offer flexibility to an employer and
to tailor its product to an employer's particular needs.
The integrated health care programs offered by the Company's HMOs include
traditional Network and IPA Model HMO products, which are intended to offer
quality care, cost containment and comprehensive coverage; a matrix package
which allows employees to select their desired coverage from alternatives that
have interchangeable outpatient and inpatient co-payment levels;
point-of-service programs which offer a multi-tier design that provides both
conventional HMO and indemnity-like (in-network and out-of-network) tiers; a
PPO-like tier which allows members to self-refer to the network physician of
their choice; and a managed indemnity plan, which is provided for employees who
reside outside of its HMO service areas.
MEDICARE RISK. The Company significantly expanded its Medicare risk
business in 1995. During 1995 the Company added 54,536 Medicare risk enrollees
and, as of December 31, 1995, the Company's Medicare risk plans had a combined
membership of approximately 133,000. The Company expects its Medicare risk
business to continue to significantly increase in the future.
The Company offers its Medicare risk products directly to individuals and to
employer groups. To enroll in a Company Medicare risk plan covered persons must
be eligible for Medicare. Health care services normally covered by Medicare are
provided or arranged for by the Company, in conjunction with a broad range of
preventive health care services. The federal Health Care Financing
Administration ("HCFA") pays to the Company for each enrolled member a monthly
fee based, in part, upon the "Adjusted Average Per Capita Cost," as determined
by HCFA's analysis of fee-for-service costs related to beneficiary demographics.
Depending on plan design and other factors, the Company may charge a member a
premium or prepaid charge in addition to the monthly fee paid by HCFA.
The Company's Health Net subsidiary intends to introduce a Medicare risk
point-of-service product in the first half of 1996. The two-tier product
combines features of a standard Medicare risk HMO with an option for the member
to seek health care services outside of the HMO network, which outside services
carry higher co-payments and co-insurance compared with services provided inside
the HMO network. The Company believes that this product will provide additional
marketing opportunities to retirees of large employers, Health Net's largest
market segment. Introduction of the product is contingent upon HCFA approval.
The Company believes this approval will be forthcoming in the spring of 1996.
The Company's California Medicare risk product was licensed and certified to
operate in 31 California counties (20 full counties and 11 partial counties) as
of December 31, 1995. The Company's other HMOs are licensed and certified to
offer Medicare risk plans in 13 counties in Colorado, five counties in New
Mexico, six counties in Washington, four counties in Pennsylvania and two
counties in New Jersey. The Company is currently applying for a Medicare risk
contract in Oregon and Connecticut. The Company has contracted with more than
5,800 primary care physicians, more than 13,500 specialty physicians and more
than 180 hospitals to provide services to its Medicare risk members in
California, and the Company's HMOs in the Southwest, Northwest and Northeast
regions have contracted with approximately 2,100 primary care physicians, 6,500
specialty physicians and 105 hospitals to provide services to its Medicare risk
members.
MEDICAID PRODUCTS. With the acquisitions of M.D. Health Plan and Greater
Atlantic, the Company significantly expanded its Medicaid business and, at
December 31, 1995, the Company had an aggregate of approximately 50,000 Medicaid
members. In addition, the Company's HMOs in Washington and Oregon began offering
Medicaid products in 1995. To enroll in these Medicaid products, an individual
must be eligible for Medicaid benefits under the appropriate state regulatory
requirements. These HMOs offer, in addition to standard Medicaid coverage,
certain additional services including dental and vision benefits. The
20
<PAGE>
applicable state agency pays the Company's HMOs a monthly fee for each Medicaid
member enrolled on a percentage of fee-for-service costs. As of December 31,
1995, Greater Atlantic had approximately 28,000 Medicaid members in
Pennsylvania, M.D. Health Plan had approximately 8,000 Medicaid members in
Connecticut, and the Company's HMOs in Washington and Oregon had approximately
11,000 and 2,000 Medicaid members in their service areas, respectively.
ADMINISTRATIVE SERVICES ONLY BUSINESS. The Company also provides TPA
services to large employer groups throughout its service areas. Under these
arrangements, the Company provides claims processing, customer service, medical
management and other administrative services without assuming the risk for
medical costs. The Company is generally compensated for these services on a
fixed per member per month basis. These services are currently offered in the
Northeast and Southwest regions, with 101,257 members and 2,753 members,
respectively, as of December 31, 1995.
INSURANCE PRODUCTS. The Company offers indemnity products as part of
multiple option products in California, Colorado, New Mexico and Washington.
These products are offered by the Company's health and life insurance
subsidiaries which are licensed to sell insurance in 33 states and the District
of Columbia. Through these subsidiaries, the Company also offers HMO members
certain auxiliary non-health products such as group life, accidental death and
disability and short-term disability insurance, in conjunction with its managed
care products.
PPO NETWORK SERVICES. The Company's PPO network subsidiary, Preferred
Health Network, Inc. ("PHN"), provides PPO and workers' compensation network
services to over 4.6 million covered persons in 38 states. These figures include
PHN's acquisition in January 1996 of a PPO network operating in the states of
Illinois, Indiana, Nebraska and Wisconsin with approximately 825,000 members.
The Company intends to continue to expand such operations into additional
states, as appropriate.
WORKERS' COMPENSATION PRODUCT. Health Net Comp-24, the Company's non-risk
workers' compensation product in California ("Comp-24"), is an integrated full
service managed care workers' compensation program designed to deliver managed
medical care to reduce workers' compensation medical expenses for insurance
carriers and self-insured employers. Comp-24 combines medical cost-saving
techniques and workers' compensation disability management with the goal of
halting inflationary trends and reducing overall costs in workers' compensation.
The initial strategy of Comp-24, which began operations in July 1994, is to
create multiple alliances with large, well-established regional and national
insurance carriers and to provide administrative services to large self-insured
employers. Consumers of the Comp-24 product will have access to a specialized
provider network and tailored medical management, quality controls, and other
specialized administrative capabilities. Currently, Comp-24 provides
administrative workers' compensation services to American International Group
Claim Services, Republic Indemnity and ITT Hartford. The Company also intends to
expand its Comp-24 product line by offering a "24 hour" workers' compensation
coverage. PHN also offers a non-risk workers' compensation product, similar to
Comp-24, in certain of its service areas.
SPECIALTY PRODUCTS. The Company's comprehensive product offering also
includes supplemental programs for managed chiropractic care, vision coverage, a
managed mental health/substance abuse program and a prescription drug program.
WELLNESS PROGRAMS. The Company emphasizes the importance of health
education, disease prevention and adoption of healthier lifestyles through its
"Wellness Programs." Management believes that health awareness can be a factor
in the reduction of health care costs. Wellness Programs are offered directly to
employees at the employees' work site or through primary medical groups
("PMGs"). PMGs are required and encouraged (in the form of increased capitation
payments) to offer educational programs and preventive health care information.
To date, Wellness Programs have focused on topics such as prenatal care, smoking
cessation, weight management, back care, diabetes and exercise. In addition to
the health care benefits, the Company believes that its Wellness Programs are
unique and provide it with a marketing advantage which differentiates it from
its competitors.
21
<PAGE>
PROVIDER SERVICES AND ARRANGEMENTS
PHYSICIAN RELATIONSHIPS. Upon enrollment in one of the Company's HMO plans
(except for M.D. Health Plan), each member selects a primary care physician or
PMG from the HMO's provider panel. The primary care physicians and PMGs assume
overall responsibility for the care of members and determine the nature and
extent of services provided to any given member. Medical care provided directly
by such physicians includes the treatment of illnesses not requiring referral,
as well as physical examinations, routine immunizations, maternity and child
care and other preventive health services. In conjunction with medical director
review, the primary care physicians and PMGs are responsible for making
referrals to specialists and hospitals. In Connecticut, the M.D. Health Plan HMO
is offered on an "open panel" basis under which members may access any physician
in the network without first consulting a primary care physician.
The following table sets forth the approximate number of primary care and
specialist physicians with whom the Company's HMOs (and certain of such HMOs'
PMGs) contracted as of December 31, 1995 by its plans in each of the geographic
regions in which it had active HMO operations:
<TABLE>
<CAPTION>
CALIFORNIA NORTHEAST NORTHWEST SOUTHWEST
----------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
Primary Care Physicians.................................. 9,423 3,429 3,395 1,202
Specialist Physicians.................................... 19,992 9,085 8,815 2,592
----------- ----------- ----------- -----
Total................................................ 29,415 12,514 12,210 3,794
----------- ----------- ----------- -----
----------- ----------- ----------- -----
</TABLE>
Physician contracts are generally for a period of one year and are
automatically renewable unless terminated, with certain requirements for
maintenance of good professional standing and compliance with the Company's
quality, utilization and administrative procedures. Market pressures have caused
the Company to undertake a review of the financial terms of contracts with
certain of its physician providers. In California, the primary care physicians
and PMGs generally receive a monthly "capitation" fee for every member served.
The capitation fee represents payment in full for all medical and ancillary
services specified in the service agreements. The non-physician component of all
hospital services is covered by a combination of capitation and/or per diem
charges. In such capitated arrangements, in cases where the capitated provider
cannot provide the health care services needed, such providers generally
contract with specialists and other ancillary service providers to furnish the
requisite services pursuant to capitation agreements or negotiated fee schedules
with specialists. The Company's HMOs outside California generally reimburse
physicians according to a discounted fee-for-service schedule.
HOSPITAL RELATIONSHIPS. The Company's HMOs provide hospital care primarily
under contracts with selected hospitals in their service areas. Such hospital
contracts generally provide for multi-year terms, with limited annual
reimbursement increases, and provide for payments on a variety of bases,
including capitation, per diem rates, case rates and discounted fee-for-service
schedules.
Covered hospital inpatient care for a member is comprehensive; it includes
the services of physicians, nurses and other hospital personnel, room and board,
intensive care, laboratory and x-ray services, diagnostic imaging and generally
all other services normally provided by acute-care hospitals. In the Company's
IPA Model HMOs, once a member is admitted to a hospital, nurses employed or
designated by the HMO monitor the progress of the member's continued
hospitalization by reviewing medical charts in the hospital, consulting with the
attending physician and reporting back to the physician medical director. The
nurse updates the member's status on a daily basis into the Company's management
information system. In the Company's IPA Model HMOs, a daily hospitalization
report is generated, and the status of each hospitalized member is reviewed by a
medical director on a daily basis. The HMO nurses and medical directors are
actively involved in discharge planning and case management, which often
involves the coordination of community support services, including visiting
nurses, physical therapy, durable medical equipment and home intravenous
therapy.
OTHER MEDICAL SERVICES. Certain medical and surgical procedures, including
laboratory tests, diagnostic radiology services and ambulatory surgery, are
performed on an outpatient basis. Other outpatient services include crisis
intervention, group therapy and counseling services, substance-abuse services,
physical therapy
22
<PAGE>
and other similar services for which hospitalization is not medically necessary.
These services, as well as optional riders for pharmaceuticals and eye care, are
provided to members through contracting physicians and other health care
providers, who are generally paid according to a discounted fee-for-service
schedule.
MANAGEMENT INFORMATION SYSTEMS
The Company operates a sophisticated management information system that
gathers and stores data on its members and physician and hospital providers. It
contains all of the Company's necessary membership and claims-processing
capabilities as well as marketing and medical utilization programs. An effective
management information system is critical to the Company's operation. In 1995
the Company commenced the installation of the AMISYS operating and MACESS
document imaging systems at its HMOs outside of California. Within California,
the Company will continue to utilize its internally developed ABS information
system to support its Health Net plan in the highly capitated California
environment. These systems will provide the Company with an integrated and more
efficient system of billing, reporting, member services and claims processing
and the ability to examine member encounter information for the optimization of
clinical outcomes.
In 1995, the Company embarked on a multi-year project to develop and install
a new information system designed to facilitate the seamless management of
patients throughout the entire health care continuum. This "Fourth Generation
Medical Management" project will encompass regional data banks containing
clinical data about each of the Company's health plan members. This data will
serve as the basis for enhanced clinical decision making. Physicians, hospitals
and the Company's case managers will have access to expert systems and an
ever-expanding library of clinical protocols which will help in optimizing the
diagnosis and treatment decisions for each health plan member. In addition, the
Company will create regional, comprehensive member support centers which it
believes will strengthen the connection between members and the Company. These
centers will serve as the primary contact for members, offering expert triage by
nurses and directing members to the most appropriate provider. Outbound
activities of the call centers will include clinical reminder calls to members
and consultive support for self-care protocols. The Fourth Generation Medical
Management system will undergo testing in 1996. The Company anticipates that
this system will be fully operational in at least one plan before the end of
1996 and installed in all the Company's plans within three years.
COST CONTAINMENT
The primary care physician or PMG is responsible for authorizing all needed
medical care except for emergency medical services. By coordinating care through
such physicians in cases where reimbursement includes risk-sharing arrangements,
the Company believes that inappropriate use of medical resources is reduced and
efficiencies are achieved.
To limit possible abuse in utilization of hospital services, a certification
process precedes the admission of each non-emergency patient member, followed by
continuing review during the patient's hospital stay. In addition to reviewing
the appropriateness of hospital admission and continued hospital care, the
Company plays an active role in evaluating alternative means of providing care
to enrollment members and encourages the use of outpatient care, when
appropriate, to reduce the cost that would otherwise be associated with an
inpatient hospital admission.
QUALITY ASSURANCE
Quality assurance is a continuing priority for the Company. Each of the
Company's HMOs has a quality assurance plan administered by a committee
comprised of medical directors and primary care and specialist physicians. The
committees' responsibilities include periodic review of medical records,
development and implementation of standards of care based on current medical
literature and community standards and the collection of data relating to
results of treatment. All of the Company's HMOs also have a subscriber grievance
procedure and/or a member satisfaction program designed to respond promptly to
member grievances. Aspects of such member service programs take place both with
the participating physicians and the Company's HMOs. They are coordinated with
other aspects of the Company's operations, including quality assurance and
utilization management, medical policy and marketing. The following projects and
reviews help to assess the Company's progress in this area.
23
<PAGE>
NCQA ACCREDITATION. The National Committee for Quality Assurance ("NCQA")
is an independent, non-profit organization that reviews and accredits HMOs. NCQA
assesses an HMOs quality improvement, utilization management, credentialing
process, commitment to members' rights and preventive health services. HMOs that
comply with NCQA's review requirements and quality standards receive NCQA
accreditation. After an NCQA review is completed, NCQA will issue one of four
designations. These are (i) full accreditation for three years; (ii) full
accreditation for one year; (iii) provisional accreditation for twelve to
eighteen months to correct certain problems with a follow-up review to determine
qualification for accreditation; and (iv) not accredited. Health Net received
full one year accreditation from the NCQA in 1995. The Company's Washington HMO
had its initial NCQA accreditation site visit in July of 1995 and received
provisional accreditation. Greater Atlantic also has received full one year
accreditation. The Company's remaining HMOs have already submitted or are
currently preparing applications for NCQA accreditation, and such HMOs
anticipate that NCQA accreditation site visits will take place in 1996 and early
1997.
HEDIS. In 1994, the Company's California HMO participated in a nationwide
pilot project known as the Health Plan Employer Data and Information Set
("HEDIS"), the purpose of which was to test the ability of 21 health plans to
collect and report on 36 indicators of quality and performance. The project was
developed under the auspices of the NCQA. The results of the project (which is
commonly referred to as a "quality-report card") were released in early 1995.
According to the results of the HEDIS project, the Company's California HMO was
successful in reducing discretionary hospital bed days while maintaining rates
of utilization of major medical procedures that were comparable to those of the
other participating plans. In June 1995, the Company's HMOs in the Northwest and
Northeast regions likewise submitted HEDIS data to NCQA, the results of which
indicated that these HMOs quality and performance were comparable to or exceeded
major competing plans.
MARKETING AND SALES
Marketing is a two-step process in which the Company first markets to
employer groups and then provides information directly to employees once the
employer has selected the HMO. The Company typically uses its internal sales
staff to serve the large employer groups while independent brokers work with the
Company's internal sales staff to develop business with smaller employer groups.
Once selected by an employer, the Company solicits enrollees from the employee
base directly. In 1995, the Company marketed its programs and services primarily
through its direct sales staff and independent brokers, agents and consultants.
During "open enrollment" periods when employees are permitted to change health
care programs, the Company uses direct mail, worksite and health fair
presentations, telemarketing, and outdoor, print, radio and television
advertisements to attract new enrollees. The Company's sales efforts are
supported by its marketing division which includes research and product
development, corporate communications, public relations and marketing services.
Premiums for each employer group are generally contracted for on a yearly
basis. Numerous factors are considered by the Company in fixing its monthly
premiums, including employer group needs, and anticipated health-care
utilization rates as forecasted by the Company's management based on the
demographic composition of, and the Company's prior experience in, its service
areas. Premiums are also affected by applicable regulations that prohibit
experience rating of group accounts (i.e., setting the premium for the group
based on its past use of health care services) and by state regulations
governing the manner in which premiums are structured and the plan's overall
financial viability.
COMPETITION
HMOs operate in a highly competitive environment in an industry currently
subject to significant changes from business consolidations, new strategic
alliances, legislative reform and market pressures brought about by a better
informed and better organized customer base. The Company's HMOs face substantial
competition from for-profit and nonprofit HMOs, PPOs, self-funded plans
(including self-insured employers and union trust funds), Blue Cross/Blue Shield
plans and traditional indemnity insurance carriers, some of which have
substantially larger enrollments and greater financial resources than the
Company. The Company believes that the principal competitive features affecting
its ability to retain and
24
<PAGE>
increase membership include the range and prices of benefit plans offered,
provider network, quality of service, responsiveness to user demands, financial
stability, comprehensiveness of coverage, diversity of product offerings and
market presence and reputation. The relative importance of each of these
features and key competitors vary by market.
GOVERNMENT REGULATION
The Company believes it is in compliance in all material respects with all
current state and federal regulatory requirements applicable to the business to
be conducted by its subsidiaries. Certain of these requirements are discussed
below.
CALIFORNIA HMO REGULATIONS. California HMOs such as Health Net are subject
to state regulation, principally by the DOC under the Knox-Keene Health Care
Service Plan Act of 1975, as amended (the "Knox-Keene Act"). Among the areas
regulated by the Knox-Keene Act are: (i) adequacy of management, (ii) the scope
of benefits required to be made available to members, (iii) the manner in which
premiums are structured, (iv) procedures for review of quality assurance, (v)
enrollment requirements, (vi) composition of policy making bodies to assure that
plan members have access to representation, (vii) procedures for resolving
grievances, (viii) the interrelationship between HMOs and their health care
providers, (ix) adequacy and accessibility of the network of health care
providers, (x) provider contracts and (xi) initial and continuing financial
viability. Any material modifications to the organization or operations of
Health Net are subject to prior review and approval by the DOC. This approval
process can be lengthy and there is no certainty of approval. In addition, under
the Knox-Keene Act, Health Net must file periodic reports with, and is subject
to periodic review by, the DOC.
California legislation which became effective in 1993 (Assembly Bill 1672)
requires all HMOs and health insurers that choose to serve the small employer
group market in California provide health plan coverage to any small group that
applies, regardless of the health status of the group's members. This law also
limits the amounts by which HMOs and health insurers may vary the premiums
charged to different small groups based upon their respective health care cost
experience or the health status of their members, and imposes a number of other
requirements regarding the terms upon which coverage must be provided to small
employer groups. Compliance with this legislation has required the Company to
make certain changes to its small group products. The Company does not believe
that compliance with such legislation will have a material adverse effect on the
results of its operations.
OTHER STATE HMO REGULATIONS. In each state in which the Company does
business, HMOs must file periodic reports with, and their operations are subject
to periodic examination by, state licensing authorities. In addition, each HMO
must meet numerous state licensing criteria and secure the approval of state
licensing authorities before implementing certain operational changes, including
the development of new product offerings and, in some states, the expansion of
service areas. To remain licensed, each HMO must continue to comply with state
laws and regulations and may from time to time be required to change services,
procedures or other aspects of its operations to comply with changes in
applicable laws and regulations. HMOs are required by state law to meet certain
minimum capital and deposit and/or reserve requirements in each state and may be
restricted from paying dividends to their parent corporations under certain
circumstances from time to time. Outside of California, such HMO laws also
regulate some or all of the areas regulated by the Knox-Keene Act described
above. Several states have recently increased minimum capital requirements,
which increases are being phased in over a period of time. Regulations in these
and other states may be changed in the future to further increase equity
requirements. Such increases could require the Company to contribute additional
capital to its HMOs. Any adverse change in governmental regulation or in the
regulatory climate in any state could materially impact the HMOs operating in
that state. The HMO Act and state laws place various restrictions on the ability
of HMOs to price their products freely. The Company must comply with certain
provisions of certain state insurance and similar laws, especially as it seeks
ownership interests in new HMOs, PPOs and insurance companies, or otherwise
expands its geographic markets or diversifies its product lines.
FEDERAL HCFA REGULATIONS. The Company's Medicare risk products are subject
to regulation by HCFA. Under the Company's contracts with HCFA to offer these
products and HCFA regulations, if premiums
25
<PAGE>
received for Medicare-covered health care services provided to senior plan
members are more than the premiums received for the same health care services
provided to non-senior plan members, then the Company must provide senior plan
members with additional benefits beyond those required by Medicare, or reduce
their premiums, deductibles or copayments, if any. Such products are not
permitted to account for more than one-half of the Company's total HMO members
in each of their geographic markets. HCFA has the right to audit HMOs operating
under Medicare contracts to determine the quality of care being rendered and the
degree of compliance with HCFA's contracts and regulations.
THE FEDERAL HMO ACT. Under the Federal Health Maintenance Organization Act
of 1973 (the "HMO Act"), services to members must be provided substantially on a
fixed, prepaid basis without regard to the actual degree of utilization of
services. Although premiums established by an HMO may vary from account to
account through composite rate factors and special treatment of certain broad
classes of members, traditional experience rating of accounts (i.e.,
retrospective adjustments for a group account based on that group's past use of
health care services) is not permitted under the HMO Act; prospective rating
adjustments are, however, allowed. All of the Company's HMOs (other than M.D.
Health Plan) are federally qualified in certain parts of their respective
service areas under the HMO Act and are therefore subject to the requirements of
such act to the extent federally qualified products are offered and sold.
However, qualification under the HMO Act is not mandatory, and the lack of
qualification does not prohibit the Company's HMOs from offering its products.
INSURANCE REGULATIONS. State departments of insurance (the "DOIs") regulate
insurance and TPA business conducted by certain subsidiaries of the Company (the
"Insurance Subsidiaries") pursuant to various provisions of state insurance
codes and regulations promulgated thereunder. The Insurance Subsidiaries are
subject to various capital reserve and other financial requirements established
by the DOIs. The Insurance Subsidiaries must also file periodic reports
regarding their activities regulated by the DOIs and are subject to periodic
reviews of those activities by the DOIs. The Company must also obtain approval
from the DOIs for all of its group insurance policies and certain aspects of
their individual policies prior to issuing those policies. The Company does not
believe that the requirements imposed by the DOIs will have a material impact on
the ability of the Insurance Subsidiaries to conduct their business profitably.
RISK MANAGEMENT
The Company currently manages risk through various mechanisms including
premium structure and liability coverage.
PREMIUM STRUCTURE. The Company's premiums are based on the estimated
average medical and administrative costs per member for the expected utilization
and cost of services provided to members under the benefit plans and the benefit
riders selected by an employer. These rates are formulated by the Company with
the assistance of outside actuarial consulting firms as required. The Company
also calculates the capitation rate, where applicable, for the coverage and
optional riders chosen by each employer group.
All employer group premium rates generally are contracted for on a yearly
basis unless the Company and the employer agree to adjust the contract term so
that the effective date coincides with the beginning of the group's health
benefit plan year or to accommodate an established open enrollment period. The
Company may, from time to time, guarantee limits on premiums with employers if
contracts are renewed. The Company's methodology for determining premium rates
is in accordance with federal guidelines, which provide for community rating,
community rating by class and adjusted community rating.
LIABILITY COVERAGE. The Company maintains general liability, professional
liability, workers compensation, property and casualty and directors' and
officers' liability coverage subject to customary deductibles, limitations and
exclusions. The Company also requires participating physicians, PMGs and
participating hospitals to maintain malpractice insurance coverage. The Company
verifies malpractice insurance coverage as part of its credentialing and
recredentialing processes.
SERVICE MARKS
The Company's service marks and/or trademarks include: Being
Well-Registered Trademark-, Feetbeat Worksite Walking Program-SM-, FLEX NET-SM-,
Health Net-Registered Trademark-, Health Net ACCESS-SM-, Health Net Comp-24-SM-,
Health Net
26
<PAGE>
ELECT-SM-, Health Net INSIGHT-SM-, Health Net OPTIONS-SM-, Health Net
SELECT-SM-, Health Net Seniority Plus-SM-, Heart & Soul-SM-, M.D. Health Plan
Personal Medical Management-SM-, QualAssist-SM-, QualAdmit-SM-,
Qual-Med-Registered Trademark-, QualMed-SM-, QualMed Health & Life Insurance
Company-SM-, QualMed Plans for Health-Registered Trademark-, Senior
Security-Registered Trademark-, "The Final Piece of the Healthcare Puzzle-SM-"
and "Well Managed Care Right from the Start-Registered Trademark-" and certain
designs related to the foregoing.
The Company utilizes these marks in connection with the marketing and
identification of products and services. The Company believes such marks are
valuable and material to its marketing efforts.
EMPLOYEES
At December 31, 1995, the Company employed approximately 3,500 full-time
employees and approximately 400 part-time employees. Such employees perform a
variety of functions, including administrative services for employers,
providers, and members, negotiation of agreements with physician groups,
hospitals, pharmacies and other health care providers, handling claims for
payment of hospital and other services and providing data processing services.
The Company's employees are not unionized and the Company has not experienced
any work stoppage since its organization. The Company considers its relations
with its employees to be very good.
On April 10, 1996, the Company announced a comprehensive restructuring of
Health Net and the consolidation of certain operational functions of other
subsidiaries. The restructuring of Health Net will include a reorganization of
its management and operating structure and staff reductions. See "Management's
Discussion and Analysis of Financial Condition and Results of Operations."
27
<PAGE>
MANAGEMENT
EXECUTIVE OFFICERS
The following sets forth certain information with respect to the current
executive officers of the Company.
<TABLE>
<CAPTION>
NAME AGE POSITION
- ---------------------------- --- ------------------------------------------------------------------
<S> <C> <C>
Malik M. Hasan, M.D. 57 Director and Chairman of the Board of Directors, President and
Chief Executive Officer
Dale T. Berkbigler, M.D. 47 Director and Executive Vice President of Medical Affairs of the
Company and President of QualMed
Michael E. Gallagher 46 Director of the Company and Chairman of the Board of Directors,
President and Chief Executive Officer of Health Net
E. Keith Hovland 56 Director and Executive Vice President, Treasurer and acting Chief
Financial Officer
Joe V. Criscione 56 Senior Vice President, Governmental Relations
Terry Fouts, M.D. 52 Senior Vice President of Medical Affairs
Andrew Wang 54 Senior Vice President and Chief Actuary
B. Curtis Westen, Jr. 35 Senior Vice President, General Counsel and Secretary
James J. Wilk 45 Senior Vice President of Human Resources and Administrative
Services of Health Net
Walter G. Woodbury 53 Senior Vice President of Operations (California)
Philip A. Katz, Ph.D. 53 Vice President and Chief Information Officer
</TABLE>
Dr. Hasan became Chairman of the Board of Directors, President and Chief
Executive Officer of the Company on March 31, 1995. Dr. Hasan was the
Co-Chairman, Co-President and Co-Chief Executive Officer of the Company from
January 1994 (upon consummation of the HSI Combination) until March 31, 1995.
Dr. Hasan has served as Chairman of the Board of Directors of QualMed since its
formation in 1985. Dr. Hasan assumed the additional position of Chief Executive
Officer of QualMed in June 1990. Effective March 2, 1991, Dr. Hasan also became
President of QualMed, an office he held until February 1995. A board-certified
neurologist in Pueblo, Colorado since June 1975, Dr. Hasan maintained a limited
practice until July 1992. From 1980 to 1984, Dr. Hasan was a director of the
Colorado Medical Society and Parkview Episcopal Medical Center. In 1989, he was
appointed by the Governor of Colorado to the Colorado Health Data Commission, on
which he continued to serve until 1993. Dr. Hasan served as a Clinical Assistant
Professor of Neurology at the University of Colorado from 1976 until 1990 and
has been a member of the London Royal College of Physicians since 1964.
Dr. Berkbigler became Executive Vice President of Medical Affairs of the
Company and a director of the Company in January 1994 (upon consummation of the
HSI Combination). Dr. Berkbigler has been a director of QualMed since July 1987
and has served as the Executive Vice President of Medical Affairs of QualMed
since July 1989. Since February 1995, Dr. Berkbigler has served as President of
QualMed. Prior to 1986, Dr. Berkbigler served as the President of San Luis
Valley Physicians Service Corporation, and from August 1986 to March 1991 held
the position of San Luis Valley HMO Medical Director. He was promoted to QualMed
Medical Director in April 1987, and assumed the title of Vice President of
Medical Affairs of QualMed in January 1988. He also served as a member of the
Board of Directors of St. Joseph Hospital, Del Norte, Colorado, from September
1983 through September 1989 and as its Chairman of the Board from October 1986
through September 1988. Dr. Berkbigler was a practicing internist in Del Norte,
Colorado from 1979 until 1991.
Effective May 30, 1995, Mr. Gallagher was appointed Chairman of the Board of
Directors, President and Chief Executive Officer of Health Net. He has been a
director of the Company since January 1994 (upon
28
<PAGE>
consummation of the HSI Combination). Mr. Gallagher was a director of QualMed
from November 1993 until February 1995. Mr. Gallagher has been a general partner
of Shamrock Investments, a financial advisory firm specializing in the health
care service industry, since 1987. From 1980 to 1987, Mr. Gallagher was an
officer of American Medical International, Inc. ("AMI"), where he most recently
served as Group Vice President. Before joining AMI, his professional career
included various positions with the accounting firm of Coopers & Lybrand in Los
Angeles and service as an officer in the U.S. Marine Corps.
Mr. Hovland became Executive Vice President, Treasurer and a director of the
Company in January 1994 (upon consummation of the HSI Combination). Since April
1995, Mr. Hovland has served as acting Chief Financial Officer of the Company.
Mr. Hovland assumed responsibility for QualMed's financial affairs in late 1986
as Vice President for Finance and Administration. Since July 1989 he has served
as Executive Vice President for Finance and Administration of QualMed. Mr.
Hovland has been a director of QualMed since July 1987, has served as Treasurer
of QualMed since that time and served as Secretary of QualMed from July 1987
until September 1991. Prior to joining QualMed, Mr. Hovland was the Vice
President of Riverside Community Hospital in Riverside, California from 1985 to
1986. From 1980 to 1985, he was Senior Vice President and Chief Financial
Officer of Parkview Episcopal Hospital in Pueblo, Colorado.
Mr. Criscione became Senior Vice President, Governmental Relations of the
Company in January 1994 upon consummation of the HSI Combination. Mr. Criscione
has served as Senior Vice President of Government Affairs for Health Net since
1991. From 1983 to 1991, Mr. Criscione was Vice President of Government
Relations for Kaiser Foundation Health Plan.
Dr. Fouts became Senior Vice President of Medical Affairs of the Company in
January 1994 upon consummation of the HSI Combination. Dr. Fouts has been Senior
Vice President of Medical Affairs of QualMed since November 1991, and served as
QualMed's Associate Vice President of Medical Affairs from August 1990 to
November 1991. He served as medical director for the Company's Colorado
Springs/Pueblo service areas from November 1989 through June 1992. From April
1986 until November 1989, he served as a regional medical director for a
competitor of the Company. Prior to such time, Dr. Fouts was a practicing
physician in Pueblo, Colorado.
Mr. Wang joined Health Net in April 1992 as Vice President and Chief
Actuary. In September 1994 he assumed the title of Senior Vice President and
Chief Actuary for Health Net, the Company and QualMed. Mr. Wang was a consulting
actuary with Milliman & Robertson, Inc. from 1974 to 1992 prior to joining
Health Net. From 1972 to 1974 he was a Professor of Mathematics at the
University of Colorado in Boulder, Colorado. Mr. Wang is a Fellow of the Society
of Actuaries and is a Member of the American Academy of Actuaries.
Mr. Westen has served as Senior Vice President of the Company since January
1995, and as Senior Vice President, General Counsel and Secretary of the Company
since May 1995. Mr. Westen has also served as Senior Vice President, General
Counsel and Secretary of QualMed since September 1993, and has served as Vice
President of Administration of QualMed from August 1993 until February 1994.
Since February 1995, he has served as a director of QualMed. Mr. Westen served
as Assistant General Counsel and Assistant Secretary of QualMed since joining
QualMed in March 1992. In 1994, he was appointed by the Governor of Colorado to
the Colorado Cooperative Health Care Agreements Board. From September 1986 until
March 1992, Mr. Westen was an attorney with the firm of Lord, Bissell & Brook in
Chicago, Illinois.
Mr. Wilk has served as Senior Vice President or Vice President, Human
Resources and Administrative Services of Health Net since March 1992 and has
functioned as the chief human resources officer since he joined Health Net in
September 1990. From time to time during the period 1973 to 1990, Mr. Wilk was
responsible for Human Resources functions at Allied-Signal, Johnson & Johnson,
Bell Atlantic Corporation and CitiCorp.
Mr. Woodbury became Senior Vice President of the Company in January 1994
upon consummation of the HSI Combination. Prior to that time, Mr. Woodbury had
been QualMed's California Vice President of Operations since QualMed's December
1990 acquisition of HEALS, The Personal Care Physician Health Plan ("HEALS"). He
served as the Chief Executive Officer and President of HEALS from August 1988
until the merger of QualMed's California HMO plans in December 1992, after which
time he has served as Senior Vice President of the Company.
29
<PAGE>
Dr. Katz has served as Vice President and Chief Information Officer of the
Company since July 1995. Prior to joining the Company, Dr. Katz was Vice
President, Planning and Technology at Graduate Health System from March 1990
until July 1995. His other past positions include President of Integrated
Technologies Resources Corporation and Associate Vice President, Technology and
Information Management at Thomas Jefferson University.
DIRECTORS
The Third Amended and Restated Certificate of Incorporation of the Company
(the "Certificate") provides that the Board of Directors shall consist of not
less than three nor more than twenty members, the exact number to be determined
in accordance with the Company's Third Amended and Restated By-Laws (the
"By-Laws"). In accordance with the By-Laws, the number of members of the Board
of Directors has currently been set at fourteen (14). The Certificate provides
for the Board of Directors to be divided into three classes, each class to serve
for staggered three-year terms. Each class is to consist, as nearly as possible,
of one-third of the total number of directors constituting the entire Board of
Directors.
The following sets forth certain information with respect to the directors
of the Company, which are divided by the class in which they serve. Please refer
to the information contained above under the heading "Executive Officers" for
biographical information of directors who are also executive officers of the
Company.
<TABLE>
<CAPTION>
TERM TO
NAME OF DIRECTOR PRINCIPAL OCCUPATION AGE EXPIRE
- ----------------------------- --------------------------------------------------------- --- ---------
<S> <C> <C> <C>
CLASS I
Charles T. Braden President of CBS Associates, Inc. 52 1997
George Deukmejian Partner of Sidley & Austin 67 1997
Michael E. Gallagher Director of the Company and Chairman of the Board of 46 1997
Directors, President and Chief Executive Officer of
Health Net
Robert L. Montgomery President and Chief Executive Officer of Alta Bates 59 1997
Health System
J. Kevin Murphy Business Consultant 69 1997
CLASS II
J. Thomas Bouchard Senior Vice President, Human Resources of International 55 1998
Business Machines Corporation
Thomas T. Farley Senior Partner of Petersen, Fonda, Farley, Mattoon, 61 1998
Crockenberg and Garcia, P.C.
E. Keith Hovland Executive Vice President, Treasurer and acting Chief 56 1998
Financial Officer of the Company
Douglas M. Mancino Partner of McDermott, Will & Emery 47 1998
CLASS III
Malik M. Hasan, M.D. Chairman of the Board of Directors, President and Chief 57 1996
Executive Officer of the Company
Lawrence E. Austin, M.D. Retired Northwest Vice President of Medical Affairs of 62 1996
the Company
Dale T. Berkbigler, M.D. Executive Vice President of Medical Affairs of the 47 1996
Company and President of QualMed
Roger F. Greaves Former Co-Chairman of the Board of Directors, 58 1996
Co-President and Co-Chief Executive Officer of the
Company
Kenneth W. Kizer, M.D. Health Care Consultant 44 1996
</TABLE>
Dr. Austin became a director of the Company in January 1994 (upon
consummation of the HSI Combination). Dr. Austin served as a director of QualMed
from 1986 until February 1995 and served as Northwest Vice President of Medical
Affairs of QualMed from July 1989 until May 1993. Dr. Austin was a
30
<PAGE>
founding principal, director and president of Pueblo Physicians, Inc. He served
as Medical Director for the Pueblo HMO service area from December 1986 to June
1989. Dr. Austin was a practicing board-certified psychiatrist in Pueblo,
Colorado from 1968 to 1989. Dr. Austin served as the Chief of Staff of Parkview
Episcopal Hospital in Pueblo, Colorado and as a member of the Board of Parkview
Episcopal Medical Center from 1978 to 1980.
Mr. Bouchard became a director of the Company in January 1994 (upon
consummation of the HSI Combination). Mr. Bouchard served as a director of
QualMed from May 1991 until February 1995. Since October 1994, Mr. Bouchard has
served as Senior Vice President, Human Resources of International Business
Machines Corporation. From June 1989 until October 1994, Mr. Bouchard served as
Senior Vice President & Chief Human Resources Officer of U.S. West, Inc., a
diversified global communications company, and prior to that time he was Senior
Vice President -- Human Resources and Organization for United Technologies Corp.
Mr. Bouchard has served on the Board of Directors of the Labor Policy
Association since March 1991 and Nordstrom National Credit Bank since April
1991.
Mr. Braden became a director of the Company in January 1994 (upon
consummation of the HSI Combination). Mr. Braden was elected to the Health Net
Board of Directors in September 1987. Mr. Braden is President of CBS Associates,
Inc., a real estate advisory group. Prior to his association with CBS
Associates, Inc., Mr. Braden provided business consulting services primarily to
the real estate and financial industries. Mr. Braden served as Executive Vice
President at Fidelity Federal Savings and Loan from 1977 to 1991. Currently, Mr.
Braden serves on the Board of Trustees at Woodbury University.
Mr. Deukmejian became a director of the Company in January 1994 (upon
consummation of the HSI Combination). Mr. Deukmejian has served as a director of
QualMed from April 1992 until February 1995 and, since February 1991, has been a
partner in the law firm of Sidley & Austin, Los Angeles, California. Mr.
Deukmejian served as Governor of the State of California for two terms, from
January 1983 to January 1991. Mr. Deukmejian also served the State of California
as Attorney General from 1979 to 1982, as a State Senator from 1967 to 1978 and
as a State Assemblyman from 1963 to 1966. Mr. Deukmejian has been a director of
Burlington Northern Santa Fe Pacific Corporation, a railroad company, since
September 1995, and was a director of one of its predecessors, Santa Fe Pacific
Corporation, from January 1991 until September 1995.
Mr. Farley became a director of the Company in January 1994 (upon
consummation of the HSI Combination). Mr. Farley served as a director of QualMed
from February 1991 until February 1995, and is a senior partner in the law firm
of Petersen, Fonda, Farley, Mattoon, Crockenberg and Garcia, P.C., Pueblo,
Colorado. Mr. Farley was formerly President of the governing board of Colorado
State University, the University of Southern Colorado and Ft. Lewis College and
Chairman of the Colorado Wildlife Commission. He served as Minority Leader of
the Colorado House of Representatives from 1967 to 1975. Mr. Farley has been a
director of the Public Service Company of Colorado, a public gas and electric
company, since 1983 and a director/advisor of Norwest Banks of Pueblo and Sunset
since 1985. Mr. Farley has been a member of the Board of Regents of Santa Clara
University, a Jesuit institution, since 1987.
Mr. Greaves, who serves as a consultant to the Company, served as
Co-Chairman of the Board of Directors, Co-President and Co-Chief Executive
Officer of the Company from January 1994 (upon consummation of the HSI
Combination) until March 31, 1995. Prior to January 1994, Mr. Greaves served as
Chairman of the Board of Directors, President and Chief Executive Officer of
HNMH since its incorporation in June 1990. Mr. Greaves is the former Chairman of
the Board of Directors, President and Chief Executive Officer of Health Net.
Prior to joining Health Net, Mr. Greaves held various management roles at Blue
Cross of Southern California, including Vice President of Human Resources and
Assistant to the President, and held various management positions at Allstate
Insurance Company from 1962 until 1968. Mr. Greaves currently serves as a
Commissioner on the California Senate Advisory Commission on Life and Health
Insurance and as a member of the Board of Directors of the Group Health
Association of America.
Dr. Kizer became a director of the Company in August 1994. He has been a
director of the Foundation since 1992 and was Chairman of the Board of the
Foundation from December 1993 through December 1995. Dr. Kizer was Chairman of
the Department of Community and International Health and Professor of
31
<PAGE>
Emergency Medicine and Clinical Toxicology in the Department of Internal
Medicine at the University of California, Davis from July 1991 through October
1994. Dr. Kizer is also currently an adjunct professor of public policy at the
University of Southern California. From 1985 to 1991, Dr. Kizer was the Director
of the California Department of Health Services. Since October 1994, Dr. Kizer
has been the chief executive officer of the veterans health care system of the
United States government.
Mr. Mancino became a director of the Company in January 1994 (upon
consummation of the HSI Combination). Mr. Mancino has been a partner in the Los
Angeles office of the law firm McDermott, Will & Emery since 1987. Mr. Mancino
also is a past President of the American Academy of Healthcare Attorneys of the
American Hospital Association.
Mr. Montgomery became a director of the Company in January 1994 (upon
consummation of the HSI Combination). Mr. Montgomery served as a director of
QualMed from May 1991 until February 1995, and since January 1989 has served as
the President and Chief Executive Officer of Alta Bates Health System, a holding
company consisting of acute care hospitals, long-term care facilities, home care
services and a management service company for physician practice groups and
independent practice associations. Mr. Montgomery served as Executive Vice
President for VHA Enterprises, Inc., a subsidiary of Voluntary Hospitals of
America, Inc., from 1986 to 1988. Mr. Montgomery was a director of Blue Cross of
Northern California from December 1972 to April 1984, and from 1989 to April
1991 was a director of Bay Pacific Health Plan. Mr. Montgomery has been a
director of Health Risk Management, Inc., a managed care information system
company, since October 1993, and of Mecon Associates Inc., a database management
company, since April 1993.
Mr. Murphy became a director of the Company in January 1994 (upon
consummation of the HSI Combination). Mr. Murphy served as a director of QualMed
from August 1990 until February 1995 and as Vice Chairman of the Board of
Directors of QualMed during such service from July 1991. Since January 1992, Mr.
Murphy has been self-employed as a business consultant, from November 1985 until
December 1991 he was employed as the President of 655 Associates, Inc., a crisis
management firm, and from August 1985 to January 1989 he was a Managing Director
and a Senior Vice President of the Gabelli Group, Inc., a New York-based
financial services company. Prior to 1985 Mr. Murphy was President of Purolator
Courier Corp. and Trailways, Inc. Mr. Murphy has been a director of Pinkerton's,
Inc., a security services company, since October 1990 and a member of the St.
Mary College Board of Trustees since November 1995.
32
<PAGE>
PRINCIPAL AND SELLING STOCKHOLDERS
CLASS A COMMON STOCK
The following table sets forth certain information as of May 8, 1996
regarding the beneficial ownership of the Class A Common Stock of those persons
or groups who are known to the Company to be beneficial owners of more than 5%
of the outstanding shares of Class A Common Stock and all directors and
executive officers as a group. The following information is based on reports on
Schedules 13D or 13G filed with the Securities and Exchange Commission (the
"Commission") or other reliable information.
<TABLE>
<CAPTION>
SHARES BENEFICIALLY OWNED
SHARES BENEFICIALLY OWNED AFTER THE OFFERING AND
PRIOR TO THE OFFERING APPLICATION OF NET PROCEEDS
------------------------------ ------------------------------
AMOUNT OF SHARES AMOUNT OF SHARES
BENEFICIALLY PERCENTAGE BENEFICIALLY PERCENTAGE
NAME AND ADDRESS OF BENEFICIAL OWNER OWNED (1) OF CLASS OWNED (1) OF CLASS
- --------------------------------------------------- ----------------- ----------- ----------------- -----------
<S> <C> <C> <C> <C>
Malik M. Hasan, M.D. (2)........................... 4,733,565 20.6% 4,733,565 16.8%
Amended and Restated Health Net
Associate Trust dated May 1, 1994 (3)............. 4,561,312 20.4% 1,366,938(4) 5.0%
FMR Corp. (5)...................................... 2,316,175 10.3% 2,316,175 8.4%
All directors and executive officers of the Company
as a group (21 persons)(2)(6)..................... 6,674,490 28.9% 6,154,262(4) 21.8%
</TABLE>
- ------------------------
(1) The nature of beneficial ownership for shares shown in this column is sole
voting and investment power unless otherwise indicated herein, subject to
community property laws where applicable.
(2) Includes 430,000 shares of Class A Common Stock with respect to which Dr.
Hasan has the right to acquire beneficial ownership by virtue of outstanding
vested options, and an aggregate of 85,095 shares owned by Dr. Hasan's wife
(3,262 shares) or held by the Hasan Family Foundation (a private charitable
foundation of which Mrs. Hasan is the chairperson) (81,833 shares), as to
which shares Dr. Hasan disclaims beneficial ownership. Does not include
133,476 shares held by three trusts, the beneficiaries of which are the
three children of Dr. and Mrs. Hasan and the sole trustee of which is an
unrelated third party.
(3) Shares of HN Management Holdings, Inc. capital stock issued to employees and
directors of Health Net prior to the HSI Combination were transferred to
Roger F. Greaves, Stephen D. Vogt and Gerald Cooper, as trustees, pursuant
to the Associate Trust Agreement. Pursuant to the Associate Trust Agreement,
such shares are voted by the trustees and may be disposed of by the trustees
on behalf of the beneficial owners of the shares. Each beneficial owner
under the Associate Trust Agreement retains the full economic interest in
the underlying shares of Class A Common Stock.
(4) Adjusted to reflect the repurchase by the Company of 3,194,374 shares of
Class A Common Stock from beneficial owners under the Associate Trust
Agreement, including 75,228 and 425,000 shares from Mr. Braden and Mr.
Greaves (directors of the Company), respectively, and 5,000 and 15,000
shares from each of Mr. Criscione and Mr. Wilk (executive officers of the
Company), respectively.
(5) FMR Corp. owns and controls Fidelity Management and Research Company, an
investment company, which directly owns 2,120,375 shares of Class A Common
Stock. FMR Corp. has sole power to dispose of all such shares. The sole
power to vote or direct the voting of these 2,120,375 shares resides with
the Board of Trustees of Fidelity Management and Research Company. Also
includes 195,800 shares owned by Fidelity Management Trust Company, a
subsidiary of FMR Corp.
(6) Includes an aggregate of 720,464 shares with respect to which all directors
and executive officers as a group have the right to acquire beneficial
ownership by virtue of outstanding vested options.
On March 9, 1995, the Company and Roger F. Greaves, Stephen D. Vogt and
Gerald M. Cooper (in their capacities as such, the "Trustees"), as Trustees of
the trust created pursuant to the Associate Trust Agreement (the "Associate
Trust"), executed a Letter Agreement (the "Letter Agreement"), which agreement
was ratified by the Board of Directors of the Company on March 16, 1995.
Pursuant to the Letter
33
<PAGE>
Agreement, the Class A Stockholders agreed to waive their right, pursuant to the
Amended Foundation Shareholder Agreement dated as of January 28, 1992 (the
"Foundation Shareholder Agreement") among the Company, the Selling Stockholder
and the Class A Stockholders, to purchase shares of Class B Common Stock from
the Selling Stockholder, through the term of the Foundation Shareholder
Agreement. The Letter Agreement provides, in relevant part, that the Company and
the Class A Stockholders must hold good faith discussions to determine a
procedure, consistent with the terms and conditions of the Letter Agreement,
whereby each such Class A Stockholder may elect to sell to the Company a number
of shares of Class A Common Stock up to the entire number of such shares
beneficially owned by such Class A Stockholder under the Associate Trust
(subject to applicable restrictions contained in the Credit Facility). In
accordance with such discussions, in February 1996, the Company repurchased an
aggregate of 303,879 shares of Class A Common Stock from the Class A
Stockholders under a repurchase program adopted by the Company. In addition, the
Company has agreed to repurchase an amount of shares of Class A Common Stock
from such Class A Stockholders that is equal to the amount of shares sold by the
Company pursuant to the Offering, at a price per share equal to the net proceeds
per share to be received by the Company in the Offering.
CLASS B COMMON STOCK AND THE CALIFORNIA WELLNESS FOUNDATION
The Selling Stockholder currently holds 25,684,152 shares of Class B Common
Stock, which constitutes all of the outstanding shares of Class B Common Stock.
The Selling Stockholder received all of such shares as a charitable recipient in
connection with the Conversion, since the legal requirements applicable to the
Conversion necessitated the transfer to a charitable recipient of an amount
equal to the value of Health Net as determined by the DOC.
In connection with the Conversion, Health Net also issued a $150 million
original principal amount senior secured promissory note and a $75 million
original principal amount subordinated secured promissory note to the Selling
Stockholder. In January 1994, the Company made a discretionary $50 million
prepayment to the Selling Stockholder on the subordinated secured promissory
note, and in April 1995, the Company paid down $135 million of the outstanding
debt under these notes, leaving a remaining principal balance on the senior
secured promissory note of $19.6 million due on December 31, 2006. Health Net's
performance under the note obligations has been guaranteed by the Company, and
in accordance with the provisions of such promissory notes, Health Net has
provided the Selling Stockholder with a security interest in certain collateral.
The long-term portion of the principal and interest payments under the
outstanding senior secured promissory note is subordinated to Health Net meeting
certain minimum capital requirements under the Knox-Keene Act.
The rights of the Class A Common Stock and the Class B Common Stock are
identical except that the Class B Common Stock is generally non-voting. Upon the
sale or transfer of the Class B Common Stock by the Selling Stockholder to an
unrelated third party, the Class B Common Stock automatically converts into
shares of Class A Common Stock. The Selling Stockholder is subject to various
volume and manner of sale restrictions specified in the Foundation Shareholder
Agreement which limit the number of shares that the Selling Stockholder may
dispose of prior to December 31, 1998. In addition, the Foundation Shareholder
Agreement, in conjunction with the Letter Agreement, requires the Selling
Stockholder to offer its shares of Class B Common Stock to the Company prior to
selling such shares to any other person. In this respect, the Foundation
Shareholder Agreement permits the Selling Stockholder to offer and sell up to
80% of the Selling Stockholder's interest in the Class B Common Stock (or all
but 5,136,830 of such shares) to the Company prior to December 31, 1998
(including up to 3,852,623 shares in 1997 and up to the balance of the 80% not
previously sold in 1998). In the event the Company declines to purchase these
shares offered, the Selling Stockholder will have the right to exercise demand
registration rights prior to September 30 of each year as to those shares not
purchased by the Company during such year. In addition, under the terms of a
registration rights agreement dated March 2, 1995, prior to December 31, 1998,
the Selling Stockholder has the right to demand two future registrations with
respect to up to 8,026,298 shares of Class B Common Stock.
34
<PAGE>
Notwithstanding its rights upon the expiration or waiver of any applicable
restrictions, the Selling Stockholder currently intends to refrain from selling
approximately 2.1 million shares of Class B Common Stock which may be forfeited
in the event of a final adverse ruling in the Writ Proceeding described in Item
3 of the Company's Annual Report on Form 10-K for the year ended December 31,
1995.
Prior to the completion of the Offering, the Selling Stockholder owns 53.4%
of the combined outstanding shares of Class A Common Stock and Class B Common
Stock. Upon the completion of the Offering and the application of the net
proceeds from the Offering by the Company, the Selling Stockholder will own
20,547,322 shares of Class B Common Stock (or 19,297,642 shares if the
Underwriters' over-allotment option is exercised in full) or 42.7% of the
combined outstanding shares of Class A Common Stock and Class B Common Stock (or
40.1% if the Underwriters' over-allotment option is exercised in full).
Notwithstanding the Selling Stockholder's significant ownership interest in the
Company, the Selling Stockholder does not consider itself nor does the Company
consider the Selling Stockholder to be a control person of the Company due to
the current significant restrictions imposed on the Selling Stockholder's
ownership of the Class B Common Stock.
The Selling Stockholder is an independent, private foundation created to
improve the health of the people of California. The Selling Stockholder's
mission is to improve the quality and accessibility of health promotion and
disease prevention programs and services for a culturally diverse cross-section
of California's children, youth and families, encourage the integration of
health promotion and disease prevention activities into the delivery of health
and human services, increase the availability of work-related health promotion
opportunities for California workers and their families, and facilitate the
development of public policies that support health promotion and disease
prevention. In 1995, the Selling Stockholder made 177 grants in the approximate
aggregate amount of $55 million.
DESCRIPTION OF CAPITAL STOCK
The authorized capital stock of the Company consists of 135 million shares
of Class A Common Stock, 30 million shares of Class B Common Stock, and 10
million shares of preferred stock, par value $0.001 per share (the "Preferred
Stock"). As of May 8, 1996, there were 22,411,697 shares of the Class A Common
Stock issued and outstanding, 25,684,152 shares of the Class B Common Stock
issued and outstanding and no shares of the Preferred Stock issued and
outstanding.
The Class A Common Stock is more fully described in the Company's
Registration Statement on Form 8-A (File No. 1-12718), dated January 21, 1994,
and the Company's Certificate, each of which is incorporated by reference into
this Prospectus. The comparison of the Class A Common Stock and the Class B
Common Stock set forth below is qualified in its entirety by reference thereto.
COMPARISON OF CLASS A COMMON STOCK AND CLASS B COMMON STOCK
VOTING. Holders of the Class A Common Stock have one vote per share on
matters submitted to stockholders for approval, while holders of the Class B
Common Stock generally have no voting rights other than as required by the
Delaware General Corporation Law.
DIVIDENDS, OTHER DISTRIBUTIONS AND MERGERS OR CONSOLIDATIONS. Holders of
the Class A Common Stock and Class B Common Stock are entitled to equal per
share cash dividends, if any, distributions upon liquidation of the Company and
consideration in a merger or consolidation of the Company (whether or not the
Company is the surviving corporation). Holders of the Class A Common Stock and
the Class B Common Stock are entitled to equal per share stock dividends and
stock splits, if any, except that if stock dividends in shares of Class A Common
Stock are made to holders of Class A Common Stock, holders of Class B Common
Stock may receive, on a share-for-share basis, shares of Class B Common Stock.
CONVERSION UPON SALE. Shares of Class B Common Stock automatically convert
into shares of Class A Common Stock on a one-for-one basis upon the sale or
other transfer of Class B Common Stock by the Selling Stockholder to an
unrelated third party.
35
<PAGE>
UNDERWRITING
Upon the terms and subject to the conditions stated in the U.S. Underwriting
Agreement dated the date of this Prospectus, each of the underwriters of the
U.S. Offering of Class A Common Stock named below (the "U.S. Underwriters"), for
whom Smith Barney Inc., Dillon, Read & Co. Inc., Dean Witter Reynolds Inc.,
Robertson, Stephens & Company LLC, Salomon Brothers Inc, and Volpe, Welty &
Company are acting as Representatives (the "Representatives"), has severally
agreed to purchase from the Company and the Selling Stockholder, and the Company
and the Selling Stockholder have agreed to sell to each U.S. Underwriter, the
number of shares of Class A Common Stock set forth opposite the name of such
U.S. Underwriter below:
<TABLE>
<CAPTION>
NUMBER OF
UNDERWRITERS SHARES
- ------------------------------------------------------------------------------------------- ----------
<S> <C>
Smith Barney Inc...........................................................................
Dillon, Read & Co. Inc.....................................................................
Dean Witter Reynolds Inc...................................................................
Robertson, Stephens & Company LLC..........................................................
Salomon Brothers Inc.......................................................................
Volpe, Welty & Company.....................................................................
----------
Total.................................................................................... 6,664,964
----------
----------
</TABLE>
Under the terms and subject to the conditions stated in the International
Underwriting Agreement dated the date of this Prospectus, each of the managers
of the concurrent International Offering of Class A Common Stock named below
(the "Managers"), for whom Smith Barney Inc., Dillon, Read & Co. Inc., Dean
Witter International Ltd., Robertson, Stephens & Company LLC, Salomon Brothers
International Limited, and Volpe, Welty & Company are acting as lead managers
(the "Lead Managers"), has severally agreed to purchase, and the Company and the
Selling Stockholder have agreed to sell to each Manager, the number of shares of
Class A Common Stock set forth opposite the name of such Manager below:
<TABLE>
<CAPTION>
NUMBER OF
MANAGER SHARES
- ------------------------------------------------------------------------------------------- ----------
<S> <C>
Smith Barney Inc...........................................................................
Dillon, Read & Co. Inc.....................................................................
Dean Witter International Ltd. ............................................................
Robertson, Stephens & Company LLC..........................................................
Salomon Brothers International Limited.....................................................
Volpe, Welty & Company.....................................................................
----------
Total.................................................................................... 1,666,240
----------
----------
</TABLE>
Each of the U.S. Underwriting Agreement and the International Underwriting
Agreement provides that the obligations of the several U.S. Underwriters and the
several Managers to pay for and accept delivery of the shares are subject to
approval of certain legal matters by counsel and to certain other conditions.
The U.S. Underwriters and the Managers are obligated to take and pay for all
shares of Class A Common Stock offered hereby (other than those covered by the
over-allotment option described below) if any such shares are taken.
The U.S. Underwriters and the Managers initially propose to offer part of
the shares of the Class A Common Stock directly to the public at the public
offering price set forth on the cover page of this Prospectus and part of the
shares to certain dealers at such price less a concession not in excess of
$ per share below the public offering price. The U.S. Underwriters and the
Managers may allow, and such dealers may reallow, a concession not in excess of
$ per share to any other U.S. Underwriter or Manager, respectively, or to
certain other dealers. After the Offering, the public offering price and such
concession may be changed by the U.S. Underwriters and the Managers.
36
<PAGE>
The Selling Stockholder has granted to the U.S. Underwriters an option,
exercisable within 30 days from the date of this Prospectus, to purchase up to
an aggregate of 999,744 additional shares of Class A Common Stock at the public
offering price set forth on the cover page of this Prospectus less underwriting
discounts and commissions. The U.S. Underwriters may exercise such option to
purchase additional shares solely for the purpose of covering over-allotments,
if any, incurred in connection with the sale of the shares of Class A Common
Stock offered in the U.S. Offering. To the extent such option is exercised, each
U.S. Underwriter will become obligated, subject to certain conditions, to
purchase approximately the same percentage of such additional shares as the
number of shares set forth next to such U.S. Underwriter's name in the preceding
table bears to the total number of shares in such table.
The Selling Stockholder has granted to the Managers an option, exercisable
within 30 days from the date of this Prospectus, to purchase up to an aggregate
of 249,936 additional shares of Class A Common Stock at the public offering
price set forth on the cover page of this Prospectus less underwriting discounts
and commissions. The Managers may exercise such option to purchase additional
shares solely for the purpose of covering over-allotments, if any, incurred in
connection with the sale of the shares of Class A Common Stock offered in the
International Offering. To the extent such option is exercised, each Manager
will become obligated, subject to certain conditions, to purchase approximately
the same percentage of such additional shares as the number of shares set forth
next to such Manager's name in the preceding table bears to the total number of
shares in such table.
The Company, the Selling Stockholder, the U.S. Underwriters and the Managers
have agreed to indemnify each other against certain liabilities, including
liabilities under the Securities Act.
The Company has agreed that, for a period of 90 days from the date of this
Prospectus, it will not, without the prior written consent of Smith Barney Inc.,
offer, sell, contract to sell, or otherwise dispose of, any shares of Class A
Common Stock or Class B Common Stock or any securities convertible into, or
exercisable or exchangeable for Class A Common Stock or Class B Common Stock,
except for (i) the shares of the Class A Common Stock offered hereby, (ii) the
issuance of Class A Common Stock by the Company pursuant to acquisitions,
mergers or other similar transactions and (iii) the issuance of shares by the
Company pursuant to employee and non-employee director stock options and the
issuance or granting of shares or options by the Company pursuant to employee
benefit, stock option, employee stock purchase and compensation plans of the
Company.
The Selling Stockholder and the Associate Trust have agreed that, for a
period of 90 days from the date of this Prospectus, they will not, without the
prior written consent of Smith Barney Inc., offer, sell, contract to sell, or
otherwise dispose of, any shares of Class A Common Stock or Class B Common Stock
(in the case of the Selling Stockholder) or any securities convertible into, or
exercisable or exchangeable for Class A Common Stock or Class B Common Stock,
except for the shares of the Class A Common Stock offered hereby by the Selling
Stockholder and the shares of Class A Common Stock to be repurchased by the
Company pursuant to the Offering.
The nonemployee directors of the Company have agreed that, for a period of
90 days from the date of this Prospectus, they will not, without the prior
written consent of Smith Barney Inc., offer, sell, contract to sell, or
otherwise dispose of, shares of Class A Common Stock or any securities
convertible into, or exercisable or exchangeable for Class A Common Stock, in
excess of 25,000 shares of Class A Common Stock per director.
The executive officers of the Company have also agreed that for a period of
90 days from the date of this Prospectus, with certain exceptions, they will
not, without the prior written consent of Smith Barney Inc., offer, sell,
contract to sell, or otherwise dispose of, shares of Class A Common Stock of the
Company or any securities convertible into, or exercisable or exchangeable for
Class A Common Stock, in excess of an aggregate of 400,000 shares (or, in the
case of any given executive officer, in excess of 10% of such executive
officer's beneficial ownership of such shares of Class A Common Stock), except
that the exercise and sale of the underlying shares of Class A Common Stock
subject to employee stock options expiring in 1996 shall not apply to this
restriction and may be freely sold or disposed of.
37
<PAGE>
The U.S. Underwriters and the Managers have entered into an agreement
between U.S. Underwriters and Managers pursuant to which each U.S. Underwriter
has agreed that, as part of the distribution of the 6,664,964 shares of Class A
Common Stock offered in the U.S. Offering (plus any of the shares to cover over-
allotments, if any): (i) it is not purchasing any such shares for the account of
anyone other than a U.S. or Canadian Person (as defined) and (ii) it has not
offered or sold, and will not offer, sell, resell or deliver, directly or
indirectly, any of such shares or distribute any prospectus relating to the U.S.
Offering outside the United States or Canada to anyone other than a U.S. or
Canadian Person. In addition, each Manager has agreed that as part of the
distribution of the 1,666,240 shares offered in the International Offering: (i)
it is not purchasing any such shares for the account of any U.S. or Canadian
Person and (ii) it has not offered or sold, and will not, offer, sell, resell or
deliver, directly or indirectly, any of such shares or distribute any prospectus
relating to the International Offering in the United States or Canada or to any
U.S. or Canadian Person. Each U.S. Underwriter and Manager has also agreed that
it will offer to sell shares only in compliance with all relevant requirements
of any applicable laws.
The foregoing limitations do not apply to stabilization transactions or to
certain other transactions specified in the U.S. Underwriting Agreement, the
International Underwriting Agreement and the Agreement Between the U.S.
Underwriters and the Managers, including: (i) certain purchases and sales
between the U.S. Underwriters and the Managers, (ii) certain offers, sales,
resales, deliveries or distributions to or through investment advisors or other
persons exercising investment discretion, (iii) purchases, offers or sales by a
U.S. Underwriter who is also acting as a Manager or by a Manager who is also
acting as a U.S. Underwriter and (iv) other transactions specifically approved
by the Representatives. As used herein, "U.S. or Canadian Person" means any
resident or national of the United States or Canada, any corporation,
partnership or other entity created or organized in or under the laws of the
United States or Canada, or any estate or trust the income of which is subject
to United States or Canadian income taxation regardless of the source of its
income (other than the foreign branch of any U.S. or Canadian Person), and
includes any United States or Canadian branch of a person other than a U.S. or
Canadian Person.
Any offer of shares of Class A Common Stock in Canada will be made only
pursuant to an exemption from the requirement to file a prospectus in the
relevant Province of Canada in which such offer is made.
Each Manager has represented and agreed (i) that it has not offered or sold
and will not offer or sell in the United Kingdom, by means of any document, any
shares of Class A Common Stock other than to persons whose ordinary business it
is to buy or sell shares or debentures, whether as principal or agent or in
circumstances which do not constitute an offer to the public within the meaning
of the Companies Act 1985, (ii) that it has complied and will comply with all
applicable provisions of the Financial Services Act of 1986 with respect to
anything done by it in relation to the shares of Class A Common Stock in, from
or otherwise involving, the United Kingdom and (iii) that any document received
by it in connection with the issue of the shares of Class A Common Stock has not
been passed on and will not be passed on in the United Kingdom to any person
unless that person is of a kind described in Article 9(3) of the Financial
Services Act 1986 (Investment Advertisements) (Exemptions) Order 1988 or is a
person to whom such documents may otherwise lawfully be issued or passed on.
No action has been or will be taken in any jurisdiction by the Company or
the Managers that would permit an offering to the general public of the shares
of Class A Common Stock offered hereby in any jurisdiction other than the United
States.
Purchasers of the shares of Class A Common Stock offered hereby may be
required to pay stamp taxes and other charges in accordance with the laws and
practices of the country of purchase in addition to the offering price set forth
on the cover page of this Prospectus.
Pursuant to the Agreement between the U.S. Underwriters and the Managers,
sales may be made between the U.S. Underwriters and the Managers of such number
of shares of Class A Common Stock as may be mutually agreed. The price of any
shares of Class A Common Stock so sold shall be the public offering price as
then in effect for shares of Class A Common Stock being sold by the U.S.
Underwriters, less all or any part of the selling concessions unless otherwise
determined by mutual agreement. To the extent that there are sales between the
U.S. Underwriters and the Managers pursuant to the Agreement Between
38
<PAGE>
the U.S. Underwriters and the Managers, the number of shares of Class A Common
Stock initially available for sale by the U.S. Underwriters and by the Managers
may be more or less than the number of shares of Class A Common Stock appearing
on the front cover of this Prospectus.
Pursuant to regulations promulgated by the Commission, market makers in the
Class A Common Stock who are underwriters and prospective underwriters ("Passive
Market Makers") may, subject to certain limitations, make bids for or purchases
of Class A Common Stock until the earlier of the time of commencement (the
"Commencement Date") of offers or sales of the Class A Common Stock contemplated
by this Prospectus or the time at which a stabilizing bid for such Class A
Common Stock is made. In general, on and after the date two business days prior
to the Commencement Date (i) such market maker's net daily purchase of the Class
A Common Stock may not exceed 30% of its average daily trading volume in such
Class A Common Stock for the two full consecutive calendar months immediately
preceding the filing date of the registration statement of which this Prospectus
forms a part, (ii) such market maker may not effect transactions in, or display
bids for, the Class A Common Stock at a price that exceeds the highest bid for
the Class A Common Stock by persons who are not Passive Market Makers, and (iii)
bids made by Passive Market Makers must be identified as such.
LEGAL MATTERS
The validity of the Class A Common Stock offered hereby will be passed upon
for the Company by McDermott, Will & Emery, Chicago, Illinois, and for the
Underwriters by Dewey Ballantine, Los Angeles, California. Mr. Mancino, a
director of the Company, is a partner in the law firm of McDermott, Will & Emery
and beneficially owns 10,781 shares of Class A Common Stock. Certain legal
matters related to the Offering will be passed upon for the Selling Stockholder
by Manatt, Phelps & Phillips, LLP, Los Angeles, California.
EXPERTS
The consolidated financial statements and the related financial statement
schedules incorporated into this Prospectus by reference from the Company's
Annual Report on Form 10-K for the years ended December 31, 1995 and 1994 have
been audited by Deloitte & Touche LLP, independent auditors, as stated in their
report which is incorporated herein by reference, and have been so incorporated
in reliance upon the report of such firm given upon their authority as experts
in accounting and auditing.
The consolidated financial statements and the related financial statement
schedules of the Company, except for the financial statements and related
financial statement schedules of QualMed appearing in the Company's Annual
Report on Form 10-K for the year ended December 31, 1995, for the year ended
December 31, 1993 have been audited by Ernst & Young LLP, independent auditors,
as set forth in their report therein and incorporated herein by reference. Such
consolidated financial statements, except with respect to QualMed information
included therein, are incorporated herein by reference in reliance upon such
report given upon the authority of such firm as experts in accounting and
auditing.
The consolidated financial statements of QualMed consolidated with those of
HSI for the year ended December 31, 1993 (and not separately included in the
Company's Annual Report on Form 10-K for the year ended December 31, 1993) have
been audited by Deloitte & Touche LLP, independent auditors, as stated in their
report which is incorporated herein by reference, and have been so incorporated
in reliance upon the report of such firm given upon their authority as experts
in accounting and auditing.
AVAILABLE INFORMATION
The Company is subject to the informational requirements of the Exchange
Act, and, in accordance therewith, files reports, proxy statements, information
statements and other information with the Commission. Such reports, proxy
statements, information statements and other information filed by the Company
can be inspected and copied at the public reference facilities maintained by the
Commission at the principal offices of the Commission, Room 1024, 450 Fifth
Street, N.W., Washington, D.C. 20549, and at the Commission's regional offices
located at Northwestern Atrium Center, 500 West Madison Street, Chicago,
Illinois
39
<PAGE>
60661-2511, and at Suite 1300, 7 World Trade Center, New York, New York 10048.
Copies of such material can be obtained from the Public Reference Section of the
Commission at 450 Fifth Street, N.W., Washington, D.C. 20549 at prescribed
rates. In addition, material filed by the Company can be inspected at the office
of the NYSE, 20 Broad Street, New York, New York 10005.
The Company has filed with the Commission a Registration Statement on Form
S-3 (herein together with all amendments thereto called the "Registration
Statement") under the Securities Act with respect to the securities offered
hereby. This Prospectus does not contain all of the information set forth or
incorporated by reference into the Registration Statement and the exhibits and
schedules relating thereto, certain portions of which have been omitted as
permitted by the rules and regulations of the Commission. For further
information with respect to the Company and the securities offered by this
Prospectus, reference is made to the Registration Statement and the exhibits and
schedules thereto which are on file at the offices of the Commission and may be
obtained upon payment of the fee prescribed by the Commission, or may be
examined without charge at the offices of the Commission. Statements contained
in this Prospectus as to the contents of any contract or other documents
referred to herein are not necessarily complete, and are qualified in all
respects by the terms of such contracts and documents by such reference.
INCORPORATION OF CERTAIN DOCUMENTS BY REFERENCE
The following documents previously filed with the Commission are hereby
incorporated by reference into this Prospectus:
1. The Company's Annual Report on Form 10-K for the fiscal year ended
December 31, 1995.
2. The Company's two Current Reports on Form 8-K each dated March 15, 1995,
the Company's Current Report on Form 8-K dated December 8, 1995, as
amended by the Company's Current Report on Form 8-K/A dated March 27,
1996, the Company's Current Report on Form 8-K dated April 10, 1996 and
the Company's Current Report on Form 8-K dated May 3, 1996.
3. The description of the Class A Common Stock of the Company contained in
its Registration Statement on Form 8-A, dated January 21, 1994.
All documents subsequently filed by the Company pursuant to Sections 13(a),
13(c), 14 or 15(d) of the Exchange Act prior to the termination of the Offering
shall be deemed to be incorporated by reference in this Prospectus and to be a
part of this Prospectus from the date of filing thereof. Any statement contained
in a document incorporated by reference herein shall be deemed to be modified or
superseded for purposes of this Prospectus to the extent that a statement
contained herein or in any other subsequently filed document which also is or is
deemed to be incorporated by reference herein modifies or supersedes such
statement. Any such statement so modified or superseded shall not be deemed,
except as modified or superseded, to constitute a part of this Prospectus.
The Company hereby undertakes to provide without charge to each person to
whom a copy of this Prospectus has been delivered, on the written or oral
request of any such person, a copy of any or all of the documents referred to
above which have been or may be incorporated by reference into this Prospectus
by reference (other than exhibits). Requests for such copies should be directed
to: Health Systems International, Inc., 21600 Oxnard Street, Woodland Hills,
California 91367, Attention: Investor Relations Department, telephone (818)
719-6978.
40
<PAGE>
HEALTH SYSTEMS INTERNATIONAL, INC.
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
PAGE
---------
<S> <C>
Report of Deloitte & Touche LLP, independent auditors...................................................... F-2
Report of the Audit Committee of the Board of Directors of Health Systems International, Inc............... F-3
Consolidated Balance Sheets at December 31, 1995 and 1994.................................................. F-4
Consolidated Statements of Income for each of the three years in the period ended December 31, 1995........ F-5
Consolidated Statements of Cash Flows for each of the three years in the period ended December 31, 1995.... F-6
Supplemental Schedule to Consolidated Statements of Cash Flows for each of the three years in the period
ended December 31, 1995................................................................................... F-7
Consolidated Statements of Stockholders' Equity for each of the three years in the period ended December
31, 1995.................................................................................................. F-8
Notes to Consolidated Financial Statements................................................................. F-9
</TABLE>
F-1
<PAGE>
REPORT OF INDEPENDENT AUDITORS
Board of Directors and Stockholders of
Health Systems International, Inc.
Pueblo, Colorado
Woodland Hills, California
We have audited the accompanying consolidated balance sheets of Health Systems
International, Inc. as of December 31, 1995 and 1994, and the related
consolidated statements of income, stockholders' equity, and cash flows for the
years then ended. These financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on the
financial statements based on our audits. The consolidated financial statements
of Health Systems International, Inc. for the year ended December 1993 were
audited by other auditors whose report, dated March 7, 1994, expressed an
unqualified opinion on those consolidated financial statements.
We conducted our audit in accordance with generally accepted auditing standards.
Those standards require that we plan and perform the audit to obtain reasonable
assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, such consolidated financial statements present fairly, in all
material respects, the financial position of Health Systems International, Inc.
at December 31, 1995 and 1994, and the results of its consolidated operations
and its cash flows for the years then ended in conformity with generally
accepted accounting principles.
Deloitte & Touche LLP
Los Angeles, California
February 16, 1996
F-2
<PAGE>
HEALTH SYSTEMS INTERNATIONAL, INC.
REPORT OF THE AUDIT COMMITTEE OF THE BOARD OF DIRECTORS
The Board of Directors of the Company addresses its oversight responsibility
for the consolidated financial statements through its Audit Committee. The Audit
Committee meets regularly with the independent auditors to discuss the results
of their audit work and their evaluation of the adequacy of the internal
controls and the quality financial reporting of the Company.
In fulfilling its responsibilities in 1995, the Audit Committee recommended
to the Board of Directors, subject to stockholder ratification, the selection of
the Company's independent auditors. The Audit Committee reviewed the overall
scope and specific plans of the independent auditor's audit plans, and discussed
the independent auditor's management letter recommendations, approved their
general audit fees and reviewed their non-audit services to the Company.
The Audit Committee meetings are designed to facilitate open communications
between the independent auditors and the Audit Committee. To ensure auditor
independence, the independent auditors of the Company have full and free access
of the Audit Committee.
Thomas T. Farley, Chairman
Audit Committee
March 19, 1996
F-3
<PAGE>
HEALTH SYSTEMS INTERNATIONAL, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE DATA)
<TABLE>
<CAPTION>
DECEMBER 31, DECEMBER 31,
1995 1994
------------ ------------
<S> <C> <C>
ASSETS
Current assets
Cash and equivalents............................................................... $ 225,932 $ 267,877
Marketable securities held for sale................................................ 366,629 244,495
Premiums receivable, net of allowances of $13,408 in 1995 and
$11,235 in 1994................................................................... 91,106 63,374
Prepaid expenses and other......................................................... 34,849 20,546
Deferred income taxes.............................................................. 18,902 33,732
------------ ------------
Total current assets............................................................. 737,418 630,024
Property and equipment, net........................................................ 84,743 75,095
Goodwill and other intangible assets, net.......................................... 336,365 182,735
Deferred income taxes.............................................................. 1,958
Other assets....................................................................... 53,227 6,543
------------ ------------
TOTAL ASSETS..................................................................... $1,213,711 $ 894,397
------------ ------------
------------ ------------
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities
Estimated claims payable........................................................... $ 310,392 $ 263,566
Shared risk and other settlements.................................................. 30,664 64,101
Unearned subscriber premiums....................................................... 91,596 54,422
Accounts payable and accrued expenses.............................................. 120,161 78,073
Federal and state income taxes payable............................................. 13,196 9,998
Notes payable, current portion..................................................... 2,340 8,207
------------ ------------
Total current liabilities........................................................ 568,349 478,367
Notes payable...................................................................... 354,080 158,340
Deferred income taxes.............................................................. 28,335
Other.............................................................................. 5,755 5,750
------------ ------------
928,184 670,792
Commitment and contingencies (Notes 6, 7 and 8)
Stockholders' equity
Preferred stock, $.001 par value
Authorized shares -- 10,000,000
Issued and outstanding shares -- none
Class A common stock, $.001 par value
Authorized shares -- 135,000,000
Issued and outstanding shares -- 22,643,030 in 1995 and 23,462,396 in 1994........ 23 24
Class B nonvoting convertible common stock, $.001 par value
Authorized shares -- 30,000,000
Issued and outstanding shares -- 25,684,152 in 1995 and 1994...................... 26 26
Additional paid-in capital......................................................... 66,147 70,688
Retained earnings.................................................................. 233,711 176,629
Treasury stock, 654,881 shares of Class A common stock in 1994..................... (18,940)
Advances to repurchase 574,869 shares of Class A common stock...................... (16,330)
Unrealized gain (loss) on marketable securities held for sale, net................. 1,950 (4,822)
------------ ------------
Total stockholders' equity....................................................... 285,527 223,605
------------ ------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY....................................... $1,213,711 $ 894,397
------------ ------------
------------ ------------
</TABLE>
See accompanying notes to consolidated financial statements.
F-4
<PAGE>
HEALTH SYSTEMS INTERNATIONAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
----------------------------------------
1995 1994 1993
------------ ------------ ------------
<S> <C> <C> <C>
Revenues:
Premium revenue......................................................... $ 2,692,335 $ 2,290,601 $ 1,943,730
Administrative services revenue......................................... 39,717 15,561 13,530
------------ ------------ ------------
Total revenues.................................................... 2,732,052 2,306,162 1,957,260
------------ ------------ ------------
Operating expenses:
Health care expenses:
Physician........................................................... 1,053,630 911,476 790,303
Hospital............................................................ 883,100 742,248 622,817
Pharmacy and other.................................................. 243,547 184,511 154,112
------------ ------------ ------------
Total health care expenses........................................ 2,180,277 1,838,235 1,567,232
Marketing, general and administrative................................... 302,870 266,764 262,927
Depreciation and amortization........................................... 48,140 39,692 34,187
Administrative services expenses........................................ 37,453 15,623 10,837
Merger-related costs.................................................... 20,164 672 29,725
------------ ------------ ------------
Total operating expenses.......................................... 2,588,904 2,160,986 1,904,908
------------ ------------ ------------
Operating income........................................................ 143,148 145,176 52,352
Investment income....................................................... 33,170 20,143 18,561
Interest expense........................................................ (19,675) (14,551) (18,675)
------------ ------------ ------------
Income before income taxes and minority interest........................ 156,643 150,768 52,238
Income taxes............................................................ 67,307 62,759 28,438
Minority interest in loss of subsidiary................................. 256 66
------------ ------------ ------------
NET INCOME.............................................................. $ 89,592 $ 88,075 $ 23,800
------------ ------------ ------------
------------ ------------ ------------
Earnings per share:
PRIMARY AND FULLY DILUTED............................................. $ 1.83 $ 1.77 $ 0.48
------------ ------------ ------------
------------ ------------ ------------
Weighted average common shares outstanding:
PRIMARY............................................................... 48,831 49,691 49,517
------------ ------------ ------------
------------ ------------ ------------
FULLY DILUTED......................................................... 48,883 49,792 49,624
------------ ------------ ------------
------------ ------------ ------------
</TABLE>
See accompanying notes to consolidated financial statements.
F-5
<PAGE>
HEALTH SYSTEMS INTERNATIONAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
-------------------------------------
1995 1994 1993
----------- ----------- -----------
<S> <C> <C> <C>
OPERATING ACTIVITIES
Net income................................................................. $ 89,592 $ 88,075 $ 23,800
Adjustments to reconcile net income to net cash provided by operating
activities:
Depreciation and amortization of fixed and intangible assets............. 48,140 39,692 34,187
Deferred income taxes.................................................... 7,585 70 (19,801)
Changes in operating assets and liabilities:
Premiums receivable and unearned subscriber premiums..................... 25,582 1,946 4,274
Prepaid expenses and other............................................... (18,523) (7,967) (5,913)
Estimated claims payable, shared risk and other settlements.............. (30,000) 31,856 32,168
Accounts payable and accrued expenses.................................... (20,833) 308 22,761
Federal and state income taxes payable................................... 10,082 6,781 (27,472)
----------- ----------- -----------
Net cash provided by operating activities.................................. 111,625 160,761 64,004
----------- ----------- -----------
INVESTING ACTIVITIES
Sale or redemption of marketable securities held for sale.................. 249,506 295,943 178,849
Purchases of marketable securities held for sale........................... (328,957) (235,043) (264,796)
Purchases of property and equipment, net................................... (35,647) (28,883) (24,610)
Acquisition of subsidiaries, net of cash acquired.......................... (139,462) (795) (1,637)
Investment in HDS.......................................................... (21,949)
Other...................................................................... (5,798)
----------- ----------- -----------
Net cash provided (used) by investing activities........................... (282,307) 31,222 (112,194)
----------- ----------- -----------
FINANCING ACTIVITIES
Purchase of treasury stock................................................. (24,418) (18,940)
Advances to repurchase shares of Class A common stock...................... (16,330)
Proceeds from exercise of stock options and employee
stock plan purchases...................................................... 4,524 4,686 1,142
Borrowings................................................................. 310,000 11,400
Repayment of debt and other non-current liabilities........................ (145,039) (60,011) (18,151)
----------- ----------- -----------
Net cash provided (used) by financing activities........................... 128,737 (74,265) (5,609)
----------- ----------- -----------
Increase (decrease) in cash and equivalents................................ (41,945) 117,718 (53,799)
Cash and equivalents, beginning of period.................................. 267,877 150,159 203,958
----------- ----------- -----------
CASH AND EQUIVALENTS, END OF PERIOD........................................ $ 225,932 $ 267,877 $ 150,159
----------- ----------- -----------
----------- ----------- -----------
</TABLE>
See accompanying notes to consolidated financial statements.
F-6
<PAGE>
HEALTH SYSTEMS INTERNATIONAL, INC. AND SUBSIDIARIES
SUPPLEMENTAL SCHEDULE TO THE CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
--------------------------------
<S> <C> <C> <C>
1995 1994 1993
---------- --------- ---------
SUPPLEMENTAL CASH FLOW INFORMATION
Cash paid during the year for:
Income taxes.................................................................. $ 39,600 $ 53,335 $ 76,700
Interest...................................................................... 19,472 14,462 18,702
SUPPLEMENTAL SCHEDULE OF NON-CASH INVESTING AND FINANCING ACTIVITIES
Issuance of notes and assumption of liabilities as consideration in acquisition
of GHH......................................................................... $ 28,200 $ $
Tax benefit realized upon exercise of stock options............................. 8,647 1,515 833
Change in unrealized gain (loss) on marketable securities held for sale......... 6,772 (6,083) 1,261
Leases capitalized.............................................................. 905
Retirement of treasury stock.................................................... 43,358
DETAILS OF BUSINESSES ACQUIRED IN PURCHASE TRANSACTIONS
Fair value of assets acquired................................................... $ 287,403 $ 5,084 $ 4,463
Less liabilities assumed........................................................ 105,787 3,972 343
---------- --------- ---------
Cash paid for acquisitions...................................................... 181,616 1,112 4,120
Cash acquired in acquisitions................................................... 42,154 317 2,483
---------- --------- ---------
Net cash paid in acquisitions................................................... $ 139,462 $ 795 $ 1,637
---------- --------- ---------
---------- --------- ---------
</TABLE>
See accompanying notes to consolidated financial statements.
F-7
<PAGE>
HEALTH SYSTEMS INTERNATIONAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(IN THOUSANDS)
<TABLE>
<CAPTION>
COMMON STOCK
----------------------------------------------
CLASS A CLASS B ADDITIONAL TREASURY STOCK
---------------------- ---------------------- PAID-IN ----------------------
SHARES AMOUNT SHARES AMOUNT CAPITAL SHARES AMOUNT
--------- ----------- --------- ----------- ----------- ----------- ---------
<S> <C> <C> <C> <C> <C> <C> <C>
Balance at January 1, 1993............... 22,766 $ 23 25,684 $ 26 $ 62,513 $
Exercise of stock options, including
related tax benefit................... 192 1,412
Employee stock purchase plan........... 49 563
Adjustment for the implementation of
SFAS No. 115..........................
Net income.............................
--------- --- --------- --- ----------- ----- ---------
Balance at December 31, 1993............. 23,007 23 25,684 26 64,488
Exercise of stock options, including
related tax benefit................... 401 1 5,298
Employee stock purchase plan........... 54 902
Purchase of treasury stock............. (655) (18,940)
Unrealized loss on marketable
securities held for sale, net.........
Net income...............................
--------- --- --------- --- ----------- ----- ---------
Balance at December 31, 1994............. 23,462 24 25,684 26 70,688 (655) (18,940)
Exercise of stock options, including
related tax benefit................... 629 1 5,234
Employee stock purchase plan........... 48 1,071
Purchase of treasury stock............. (841) (24,418)
Retirement of treasury stock........... (1,496) (2) (10,846) 1,496 43,358
Advances to repurchase stock...........
Unrealized gain on marketable
securities held for sale, net.........
Net income.............................
--------- --- --------- --- ----------- ----- ---------
Balance at December 31, 1995............. 22,643 $ 23 25,684 $ 26 $ 66,147 $
--------- --- --------- --- ----------- ----- ---------
--------- --- --------- --- ----------- ----- ---------
<CAPTION>
UNREALIZED
GAIN (LOSS)
ON MARKETABLE
ADVANCES TO SECURITIES
REPURCHASE RETAINED HELD FOR
STOCK EARNINGS SALE TOTAL
----------- --------- --------------- ---------
<S> <C> <C> <C> <C>
Balance at January 1, 1993............... $ $ 64,754 $ $ 127,316
Exercise of stock options, including
related tax benefit................... 1,412
Employee stock purchase plan........... 563
Adjustment for the implementation of
SFAS No. 115.......................... 1,261 1,261
Net income............................. 23,800 23,800
----------- --------- ------- ---------
Balance at December 31, 1993............. 88,554 1,261 154,352
Exercise of stock options, including
related tax benefit................... 5,299
Employee stock purchase plan........... 902
Purchase of treasury stock............. (18,940)
Unrealized loss on marketable
securities held for sale, net......... (6,083) (6,083)
Net income............................... 88,075 88,075
----------- --------- ------- ---------
Balance at December 31, 1994............. 176,629 (4,822) 223,605
Exercise of stock options, including
related tax benefit................... 5,235
Employee stock purchase plan........... 1,071
Purchase of treasury stock............. (24,418)
Retirement of treasury stock........... (32,510)
Advances to repurchase stock........... (16,330) (16,330)
Unrealized gain on marketable
securities held for sale, net......... 6,772 6,772
Net income............................. 89,592 89,592
----------- --------- ------- ---------
Balance at December 31, 1995............. $ (16,330) $ 233,711 $ 1,950 $ 285,527
----------- --------- ------- ---------
----------- --------- ------- ---------
</TABLE>
See accompanying notes to consolidated financial statements.
F-8
<PAGE>
HEALTH SYSTEMS INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. ORGANIZATION AND SIGNIFICANT ACCOUNTING POLICIES
ORGANIZATION AND BASIS OF PRESENTATION
These consolidated financial statements present the accounts of Health
Systems International, Inc. and its wholly-and majority-owned subsidiaries,
including Health Net, QualMed, Inc. ("QualMed"), HN Reinsurance Limited ("HNR"),
M.D. Enterprises of Connecticut, Inc. ("MDEC") and G.H. Holding Corporation
("GHH") (collectively, the "Company"). All significant intercompany balances and
transactions have been eliminated in consolidation.
NATURE OF OPERATIONS
The Company provides a wide range of managed health care services through
Health Net, a California health maintenance organization ("HMO"), and QualMed,
the parent company of a system of HMOs with operations in various Western
states. In March 1995, the Company acquired MDEC, the parent company of M.D.
Health Plan, Inc., an HMO operating in Connecticut ("M.D. Health Plan"), and in
December 1995 the Company acquired GHH, the parent company of Greater Atlantic
Health Service, Inc. ("Greater Atlantic"), an HMO operating in Pennsylvania and
New Jersey. The Company also owns a preferred provider organization ("PPO")
network with operations in 36 states and two health and life insurance companies
with licenses to sell insurance in 33 states and the District of Columbia.
In California, the Company generally provides services to its members by
contract with participating medical groups on a capitated or fixed fee per
member per month ("PMPM") basis. Outside of California, the Company generally
provides services to its members through contracts with individual physicians
and groups of physicians on a discounted fee-for-service basis and in certain
areas through capitation arrangements with physician groups.
HSI COMBINATION
On January 28, 1994, the Company, successor by name change to HN Management
Holdings, Inc. ("HNMH") (which was formed in 1990 for the purpose of acquiring
Health Net) and QualMed completed a merger (the "HSI Combination"). In the HSI
Combination, QualMed stockholders received one share of the Company's Class A
Common Stock for each share of QualMed common stock and, at the same time,
previously outstanding HNMH shares (both Class A voting and Class B nonvoting)
were split in a ratio of 3.3618 shares of the Company's Common Stock for each
previously existing share of HNMH stock. The HSI Combination was accounted for
as a pooling-of-interests. In accordance with the pooling-of-interests method,
the consolidated financial statements of the Company include the accounts of
Health Net, QualMed and their subsidiaries for all periods presented. In
addition, retroactive effect of the stock split has been given to all shares and
per share information in the accompanying consolidated financial statements.
In connection with the HSI Combination, the Company accrued certain direct
transaction and integration costs totaling $29.7 million which were reflected as
merger-related costs in the Company's 1993 consolidated statement of income.
Such fees and expenses consist of $17.4 million of direct transaction costs
(including investment banking fees, legal, accounting and printing costs, and
costs associated with the change of control provisions of certain agreements
with certain senior executives) and $12.3 million of integration costs
(including employee severance, facility consolidation, conformity of employee
benefits and other items). Through December 31, 1995, the Company has made
payments for merger-related costs of approximately $28.9 million relating to
these items.
Management believes that the remaining amount of the original accrual will
be adequate for any future costs incurred. Merger costs recorded in 1994 relate
to the acquisition of MDEC discussed elsewhere herein.
F-9
<PAGE>
HEALTH SYSTEMS INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
1. ORGANIZATION AND SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
TERMINATED WELLPOINT AND BLUE CROSS OF CALIFORNIA BUSINESS COMBINATION
On March 31, 1995, the Company, WellPoint Health Networks Inc. ("WellPoint")
and Blue Cross of California ("BCC") entered into an Agreement and Plan of
Reorganization (the "Plan of Reorganization"), which provided for, among other
things, the business combination of the Company, WellPoint and certain
commercial operations of BCC (the "HSI/WellPoint Transaction").
In progressing with the final steps necessary to complete the proposed
HSI/WellPoint Transaction, the Company, WellPoint and BCC encountered certain
disagreements regarding various issues. On December 14, 1995, the Company, BCC
and WellPoint announced that they had been unable to resolve certain differences
and were engaged in discussions regarding a mutual termination and release of
all claims against one another related to the proposed HSI/WellPoint
Transaction. On December 28, 1995, the Company, WellPoint and BCC announced that
they had entered into a Settlement Agreement and Mutual General Release dated
December 27, 1995 (the "Settlement Agreement"). Pursuant to the Settlement
Agreement, (i) all agreements among BCC and/or WellPoint, on the one hand, and
the Company and/or certain of the Company's stockholders, on the other hand
(including, without limitation, (a) the Plan of Reorganization and (b) the
Stockholder Agreements and related Irrevocable Proxies dated March 31, 1995
among WellPoint, BCC and each of such stockholders in connection with the
HSI/WellPoint Transaction), were terminated and (ii) all claims arising between
BCC, WellPoint and Mr. Leonard D. Schaeffer, the Chairman of both WellPoint and
BCC, on the one hand, and the Company and such stockholders, on the other hand,
relating to the proposed HSI/WellPoint Transaction were released.
In connection with the HSI/WellPoint Transaction, the Company incurred
merger-related costs totaling approximately $20.2 million in 1995. Such costs
include legal, accounting and consulting fees, as well as severance related
costs of $12.2 million resulting from agreements with certain key executives in
contemplation of the proposed HSI/WellPoint Transaction.
HEALTH NET CONVERSION
On February 6, 1992, Health Net received approval from the California
Department of Corporations ("DOC") for the Conversion. Under the terms of the
Conversion as approved by the DOC, on February 7, 1992, ownership of Health Net
was transferred to the Company, and Health Net contributed $300 million to a
qualifying independent charitable organization, The California Wellness
Foundation (the "Foundation"). In addition, the Foundation received 7,640,000
(25,684,152 after giving effect to the 3.3618:1 stock split) shares of Class B
nonvoting common stock of the Company. The Foundation was established by Health
Net to provide public awareness and educational programs to promote healthy
lifestyles, and other health-related programs. The contribution by Health Net in
connection with the Conversion included $75 million in cash and $225 million in
notes payable to the Foundation. The Conversion was accounted for under the
purchase method of accounting and the excess of the Conversion price over the
fair value of net assets acquired was recorded as goodwill. During 1995, the
Company eliminated approximately $33.0 million of associated goodwill (See Note
8).
STATUTORY ACCOUNTING PRACTICES
All of the Company's health plans as well as its insurance subsidiaries are
required to periodically file financial statements with regulatory agencies in
accordance with statutory accounting and reporting practices. Under the
California Knox-Keene Health Care Service Plan Act, Health Net must comply with
certain minimum capital or tangible net equity ("TNE") requirements. The
Company's non-California health plans, as well as its Health and Life Insurance
Company, must comply with their respective state's minimum regulatory net worth
requirements generally under the regulation of the respective state's department
of insurance.
F-10
<PAGE>
HEALTH SYSTEMS INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
1. ORGANIZATION AND SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
The long-term portion of Health Net's debt to the Foundation, as discussed
in Note 5, is subordinated to Health Net satisfying its TNE requirements.
Dividends and loans by Health Net are restricted to the extent that the payment
of such would reduce its TNE below the minimum requirement. As of December 31,
1995 and 1994, all of the Company's health plans exceeded their respective
minimum TNE requirements. On a cumulative basis, the regulatory net worth of the
Company's health plans exceeded the minimum aggregate requirement by
approximately $172 million and $145 million at December 31, 1995 and 1994,
respectively.
REVENUE RECOGNITION AND HEALTH CARE EXPENSES
Each of the Company's individual HMOs generally provide health care to their
members for a prepaid monthly fee. Premiums for members are recognized as
revenue in the month in which the members are entitled to service. Premiums
collected in advance are deferred and recorded as unearned subscriber premiums.
The cost of health care services is recognized in the period in which it is
provided and includes an estimate of the cost of services which have been
incurred but not yet reported. Such costs include payments to primary care
physicians, specialists, hospitals, out-patient care facilities and the costs
associated with managing the extent of such care. The estimate for accrued
health care costs is based on actuarial projections of hospital and other costs
using historical studies of claims paid. Estimates are continually monitored and
reviewed and, as settlements are made or estimates adjusted, differences are
reflected in current operations.
CAPITATION AND SHARED-RISK ARRANGEMENTS
The Company generally contracts in California with various medical groups to
provide professional care to certain of its members on a capitation or fixed fee
PMPM. Capitation contracts generally include provisions for stop-loss and
non-capitated services for which the Company is liable. Professional capitated
contracts also generally contain provisions for shared risk, whereby the Company
and the medical groups share in the variance between actual hospital costs and
predetermined goals. Additionally, the Company contracts with certain hospitals
to provide hospital care to enrolled members on a capitated basis.
CASH AND EQUIVALENTS
Cash equivalents include all highly liquid investments with a maturity of
three months or less when purchased.
The Company and its consolidated subsidiaries are required to set aside
certain funds for restricted purposes. As of December 31, 1995 and 1994,
balances of $2.0 million and $3.2 million, respectively, which are held in
financial depository accounts, are restricted as to use.
MARKETABLE SECURITIES
The Company accounts for investments in accordance with SFAS No. 115
"Accounting for Certain Investments in Debt and Equity Securities" and has
determined that all marketable securities (which are primarily comprised of debt
securities) held as of December 31, 1995 and 1994 are available for sale.
Accordingly, such securities are carried at fair value determined using quoted
market prices, and unrealized gains or losses, net of applicable income taxes,
are recorded in stockholders' equity. The Company has also determined that such
marketable securities are available for use in current operations and,
accordingly, has classified such securities as current assets without regard to
the securities' contractual maturity dates.
The cost of marketable securities sold is determined in accordance with the
specific identification method and realized gains and losses are included in
investment income.
The Company and its consolidated subsidiaries are required to set aside
funds for the protection of their plan members in accordance with the laws of
the various states in which they operate. Such restricted funds totaled $9.3
million and $5.4 million at December 31, 1995 and 1994, respectively, and are
held in
F-11
<PAGE>
HEALTH SYSTEMS INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
1. ORGANIZATION AND SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
U.S. Treasury bills and certificates of deposit with commercial banks. These
investments are included in marketable securities held for sale. Interest earned
on such investments accrues to the Company and its consolidated subsidiaries and
is not restricted as to use.
PROPERTY AND EQUIPMENT
Property and equipment are stated at historical cost less accumulated
depreciation. Depreciation is computed using the straight-line method over the
estimated useful lives of the various classes of assets or the lease term,
whichever is less. Lives of the assets range from three to 40 years.
COSTS OF COMPUTER SOFTWARE DEVELOPED FOR INTERNAL USE
With respect to internal costs incurred in the development of computer
software, the Company expenses such costs in the period they are incurred.
External costs incurred in the development of computer software are capitalized.
The Company capitalized approximately $12.7 million and $8.2 million of computer
software development costs in 1995 and 1994, respectively. In 1993, costs
eligible for capitalization were immaterial. Capitalized costs of computer
software developed for internal use are amortized using the straight line method
over the remaining estimated economic life of four years of the product.
Amortization expense amounted to $2,203,000 and $576,000 in 1995 and 1994,
respectively.
GOODWILL AND OTHER INTANGIBLE ASSETS
Goodwill and other intangible assets have resulted from the Conversion, as
well as acquisitions which have been accounted for under the purchase method.
Other intangible assets consist of the value of employer group contracts and
provider networks. The Company routinely evaluates the recoverability of
goodwill and other intangible assets based on estimated future cash flows.
Intangible assets consisted of the following at December 31, 1995 (in
thousands):
<TABLE>
<CAPTION>
BALANCE AT
ACCUMULATED DECEMBER 31, AMORTIZATION
COST AMORTIZATION 1995 PERIOD
---------- ------------ ------------ ------------
<S> <C> <C> <C> <C>
Goodwill................................................... $ 279,815 $ 25,041 $ 254,774 35 years
Provider network........................................... 19,125 1,068 18,057 5-20 years
Employer group contracts................................... 94,951 37,354 57,597 11 years
Other...................................................... 6,261 324 5,937 4 years
---------- ------------ ------------
$ 400,152 $ 63,787 $ 336,365
---------- ------------ ------------
---------- ------------ ------------
</TABLE>
Intangible assets consisted of the following at December 31, 1994 (in
thousands):
<TABLE>
<CAPTION>
BALANCE AT
ACCUMULATED DECEMBER 31, AMORTIZATION
COST AMORTIZATION 1995 PERIOD
---------- ------------ ------------ ------------
<S> <C> <C> <C> <C>
Goodwill................................................... $ 136,066 $ 18,053 $ 118,013 35 years
Provider network........................................... 6,434 534 5,900 5-14 years
Employer group contracts................................... 87,063 29,464 57,599 11 years
Other...................................................... 1,370 147 1,223 4 years
---------- ------------ ------------
$ 230,933 $ 48,198 $ 182,735
---------- ------------ ------------
---------- ------------ ------------
</TABLE>
CONCENTRATIONS OF CREDIT RISK
Financial instruments that potentially subject the Company to concentrations
of credit risk consist primarily of marketable securities as described in Note
2, cash equivalents and premiums receivable. All cash equivalents and
investments are managed within established guidelines which limit the amounts
which may be invested with one issuer. Concentrations of credit risk with
respect to premiums receivable are limited
F-12
<PAGE>
HEALTH SYSTEMS INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
1. ORGANIZATION AND SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
due to the large number of payers comprising the Company's customer base. The
Company's ten largest employer groups accounted for 23.9% and 43.6% of
receivables and 24.8% and 26.7% of premium revenue as of December 31, 1995 and
1994, respectively, and for the years then ended. In addition, the company has a
receivable in the amount of $20.5 million from the State of Connecticut that
represents claims paid by the Company and reimbursable by the State of
Connecticut pursuant to a previous ASO arrangement. Included in other assets is
$18 million of this receivable.
INCOME TAXES
Deferred income taxes reflect the net effects of temporary differences
between the carrying values of assets and liabilities for financial reporting
purposes and the amounts used for income tax purposes. The differences result in
taxable or deductible amounts for income tax purposes when the reported amount
of the asset or liability in the financial statements is recovered or settled,
respectively. The Company has recorded a deferred tax asset of $20.9 million as
of December 31, 1995. Although realization is not assured, management believes
it is more likely than not that all of the deferred tax asset will be realized.
EARNINGS PER SHARE
Earnings per share is calculated based on the weighted average shares of
common stock and common stock equivalents outstanding during the periods
presented. Common stock equivalents arising from dilutive stock options are
computed using the treasury stock method.
USE OF ESTIMATES IN THE PREPARATION OF FINANCIAL STATEMENTS
The preparation of the financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosures of contingent assets and liabilities at the date of the financial
statements, and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
NEW ACCOUNTING PRONOUNCEMENTS
In March 1995, FINANCIAL ACCOUNTING STANDARDS BOARD STATEMENT NO. 121,
"ACCOUNTING FOR THE IMPAIRMENT OF LONG-LIVED ASSETS AND FOR LONG-LIVED ASSETS TO
BE DISPOSED OF" was issued which establishes accounting standards for the
impairment of long-lived assets, certain identifiable intangibles, and goodwill
related to those assets to be held and used for long-lived assets and certain
intangibles to be disposed of. The Company is evaluating the impact of this
standard which must be implemented in 1996. The impact of such adoption on the
consolidated financial statements is not expected to be material.
In October 1995, FINANCIAL ACCOUNTING STANDARDS BOARD STATEMENT NO. 123,
"ACCOUNTING FOR STOCK BASED COMPENSATION" was issued establishing financial and
reporting standards for stock based compensation plans. The Company is
evaluating the impact of this standard which must be implemented in 1996. The
impact of such adoption on the consolidated financial statements is not expected
to be material.
RECLASSIFICATIONS
Certain prior year amounts have been reclassified to conform to the current
presentation.
F-13
<PAGE>
HEALTH SYSTEMS INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
2. MARKETABLE SECURITIES HELD FOR SALE
The following is a summary of marketable securities held for sale as of
December 31, 1995 (in thousands):
<TABLE>
<CAPTION>
GROSS GROSS ESTIMATED
UNREALIZED UNREALIZED FAIR
COST GAINS LOSSES VALUE
---------- ----------- ----------- ----------
<S> <C> <C> <C> <C>
U.S. Government securities............................. $ 99,640 $ 445 $ (136) $ 99,949
Asset-backed securities................................ 146,363 2,194 (214) 148,343
Debt securities........................................ 60,093 940 (250) 60,783
Securities held by depository (NOTE 5)................. 28,040 (83) 27,957
Other.................................................. 29,042 640 (85) 29,597
---------- ----------- ----- ----------
$ 363,178 $ 4,219 $ (768) $ 366,629
---------- ----------- ----- ----------
---------- ----------- ----- ----------
</TABLE>
During the year ended December 31, 1995, marketable securities held for sale
with a fair value at the date of sale of $249.5 million were sold. The gross
realized gains on such sales totaled $618,000, and the gross realized losses
totaled $38,000.
The following is a summary of marketable securities held for sale as of
December 31, 1994 (in thousands):
<TABLE>
<CAPTION>
GROSS GROSS ESTIMATED
UNREALIZED UNREALIZED FAIR
COST GAINS LOSSES VALUE
---------- ----------- ----------- ----------
<S> <C> <C> <C> <C>
U.S. Government securities............................. $ 27,947 $ 54 $ $ 28,001
Asset-backed securities................................ 138,833 6 (6,471) 132,368
Debt securities........................................ 56,920 38 (1,827) 55,131
Securities held by depository (NOTE 5)................. 20,258 20,258
Other.................................................. 8,476 362 (101) 8,737
---------- ----------- ----------- ----------
$ 252,434 $ 460 $ (8,399) $ 244,495
---------- ----------- ----------- ----------
---------- ----------- ----------- ----------
</TABLE>
During the year ended December 31, 1994 marketable securities held for sale
with a fair value at the date of sale of $295.9 million were sold. The gross
realized gains on such sales totaled $700,000, and the gross realized losses
totaled $200,000.
The amortized cost and estimated fair value of marketable securities at
December 31, 1995 by contractual maturity, are shown below (in thousands).
Expected maturities will differ from contractual maturities because the issuers
of the securities may have the right to prepay obligations without prepayment
penalties. Asset-backed securities do not have single maturity dates.
<TABLE>
<CAPTION>
ESTIMATED
COST FAIR VALUE
---------- ----------
<S> <C> <C>
Available for sale:
Due in one year or less....................................................... $ 100,130 $ 100,658
Due after one year through five years......................................... 84,692 85,396
Due after five years through ten years........................................ 2,172 2,229
Due after ten years........................................................... 21,611 21,864
---------- ----------
208,605 210,147
Asset-backed securities....................................................... 146,362 148,343
Equity securities............................................................. 8,211 8,139
---------- ----------
$ 363,178 $ 366,629
---------- ----------
---------- ----------
</TABLE>
F-14
<PAGE>
HEALTH SYSTEMS INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
3. ACQUISITIONS
The following summarizes acquisitions and strategic investments by HSI for
the three years ended December 31, 1995:
GHH -- On December 1, 1995, the Company acquired the outstanding stock of
GHH and certain of its for-profit subsidiaries, including Greater Atlantic, an
HMO operating in Pennsylvania and New Jersey, for $94 million in cash and notes
(the "GHH Transaction"). In connection with the GHH Transaction, the Company
also paid an aggregate of $12.5 million to certain affiliated hospitals of
Graduate Health System, Inc. ("GHS"), GHH's previous parent company, in return
for the extension of term and other amendments to such hospitals' provider
contracts with Greater Atlantic. In addition, pursuant to the GHH Transaction,
the Company established a hospital management company to manage GHS's
Philadelphia-area hospitals and acquired certain other businesses that provide
services primarily to the hospitals in the GHS system. The acquisition has been
accounted using purchase accounting and the excess of the purchase price over
the fair value of assets acquired in the amount of $88.4 million was recorded as
goodwill.
CARE MANAGEMENT SCIENCES CORPORATION -- On September 8, 1995, the Company
purchased shares of preferred stock of Care Management Sciences Corporation
("CMS") for an aggregate purchase price of $2 million, which shares represent
approximately 21.5% of the outstanding capital of CMS. The Company was issued
warrants to purchase additional shares of CMS preferred stock at the same per
share purchase price of its initial purchase, which warrants, if fully
exercised, would increase the Company's ownership in CMS to 36.8%. In addition,
the Company (as part of the stock acquisition) has provided CMS with a $1
million line of credit. CMS develops, licenses and supports proprietary software
related to the health care industry. Accordingly, the Company has accounted for
its investment in CMS using the cost method and such investment is included in
other assets.
HDS -- On June 30, 1995, the Company acquired shares of preferred stock of
Health Data Sciences Corporation ("HDS"), representing a minority equity
interest in HDS, for an aggregate purchase price of approximately $15.6 million.
In addition, the Company entered into certain software licensing and development
agreements with HDS. HDS develops, licenses and supports proprietary software
and technology related to health care information management systems. On
November 13, 1995 and December 29, 1995, the Company acquired additional shares
of preferred stock of HDS for an aggregate purchase price of approximately $6.3
million. As of December 31, 1995, the Company's minority interest in HDS
represents approximately 16% of the total outstanding capital of HDS.
Accordingly, the Company has accounted for its investment in HDS using the cost
method and such investment is included in other assets.
MDEC -- On March 15, 1995, the Company acquired all of the outstanding stock
of MDEC, and its wholly-owned subsidiary, M.D. Health Plan, an HMO operating in
Connecticut, for $95.4 million. In addition, the Company assumed certain
contractual obligations related to MDEC stock appreciation rights equal in value
to $5.1 million. The acquisition has been accounted using purchase accounting
and the excess of the purchase price over the fair value of assets acquired
totaling $97.1 million was recorded as goodwill in the amount of $89.1 million
and employer group contracts in the amount of $8.0 million.
QMPHP -- In October 1994, the Company purchased 51% of the outstanding stock
of QualMed Plans for Health of Pennsylvania, Inc. ("QMPHP"), a Pennsylvania
managed health care provider, for $1.1 million in cash. HSI subsequently
increased its ownership interest in QMPHP to 82% through additional capital
contributions of approximately $3.5 million. The QMPHP acquisition resulted in
$3 million of provider network intangible assets. QMPHP's accounts are
consolidated with those of the Company, and the minority stockholders' interest
in QMPHP's net assets and income (loss) is included in the Company's financial
statements as minority interest.
HUMANA -- On July 1, 1993, QualMed acquired certain provider, group and
subscriber agreements and certain other assets relating to Humana's managed
health care business in Colorado for an aggregate
F-15
<PAGE>
HEALTH SYSTEMS INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
3. ACQUISITIONS (CONTINUED)
purchase price of $1.9 million, which purchase price was subject to downward
adjustment to the extent members enrolled under certain contracts subject to the
transaction did not enroll under a Company contract. Accordingly, such purchase
price was adjusted downward by $450,000.
HEALTH NET LIFE -- In May 1993, the Company purchased 100% of the
outstanding common stock of Health Net Life (HNL -formerly Sentinel Life
Insurance Company of California) for $4.2 million. The excess of the purchase
price over the fair value of assets acquired was recorded as goodwill of
$470,000.
Summarized below are the unaudited pro forma consolidated results of
operations for the Company, as if the acquisition of MDEC and GHH had taken
place as of January 1, 1994 (in millions except earnings per share):
<TABLE>
<CAPTION>
1995 1994
--------- ---------
<S> <C> <C>
Premium revenue............................................................ $ 2,692 $ 2,614
Net income................................................................. $ 78 $ 72
Primary earnings per share................................................. $ 1.60 $ 1.46
Fully diluted earnings per share........................................... $ 1.60 $ 1.45
</TABLE>
4. PROPERTY AND EQUIPMENT
Property and equipment consists of the following at December 31, 1995 and
1994 (in thousands):
<TABLE>
<CAPTION>
1995 1994
---------- ----------
<S> <C> <C>
Furniture, equipment and software..................................... $ 170,342 $ 124,353
Leasehold improvements................................................ 13,105 8,950
Land and building..................................................... 4,256 3,935
---------- ----------
187,703 137,238
Less accumulated depreciation and amortization...................... 102,960 62,143
---------- ----------
Total property and equipment.......................................... $ 84,743 $ 75,095
---------- ----------
---------- ----------
</TABLE>
5. NOTES PAYABLE
WELLNESS NOTE
In connection with the Conversion of Health Net, Health Net issued two
non-negotiable promissory notes to the Foundation in the aggregate original
principal amount of $225 million. The notes, a $150 million original principal
amount senior secured promissory note and a $75 million original principal
amount subordinated secured promissory note, bore interest at 10.27% and 7.96%
in the years ended 1995 and 1994, respectively. The rate adjusts to 2.5% above
the three-year treasury bill auction rate on the last business day before
December 31, 1997, 2000, and 2003, but will not be less than 5%. Principal and
interest is due in quarterly installments, currently based on a 25-year
amortization schedule; in 1996, the amortization schedule is changed to 20
years, and in 1997, the amortization schedule is changed to 15 years. In
addition, commencing in 1995, additional payments of principal becomes due to
the extent that Health Net has an "Excess Cash Ratio," as defined, in any
calendar year. Any remaining unpaid principal and interest is due on December
31, 2006. In January 1994, the Company made a discretionary $50 million
prepayment to the Foundation on the subordinated secured promissory note. In
April 1995, the Company paid down $135 million of the outstanding Foundation
debt, leaving a remaining principal balance on the senior secured promissory
note of $19.6 million. (See discussion of credit facility below).
Health Net's performance under the note obligations has been guaranteed by
the Company. In accordance with the provisions of the promissory notes described
above, Health Net has provided the Foundation a security interest in the
following collateral: premiums receivable, property and equipment and debt
securities held by depository (Note 2). Health Net is required to maintain funds
in a depository sufficient to
F-16
<PAGE>
HEALTH SYSTEMS INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
5. NOTES PAYABLE (CONTINUED)
cover the debt service for the next four quarters. These funds totaled $318,000
and $20.3 million at December 31, 1995 and 1994, respectively, and were included
in marketable securities held for sale. In addition, Health Net is required to
make payments to a sinking fund, commencing in 2003, in order to provide funds
for the unpaid principal balloon payment (plus any interest) due in 2006.
The long-term portion of the principal and interest payments under these
notes is subordinated to Health Net meeting its tangible net equity requirements
under the Knox-Keene Health Care Service Plan Act.
Based on the terms of the Conversion as approved by the DOC, Health Net may
treat as a deemed principal payment with respect to the senior secured note
payable to the Foundation any taxes, penalties or interest assessed with respect
to the Conversion (whether resulting from the recently completed examination or
otherwise) up to a maximum of $28 million. In March 1995, Health Net and the IRS
entered into a settlement of all outstanding issues raised in the audit. The
settlements paid were treated as a principal payment on the notes due to the
Foundation. (see Note 8).
CREDIT FACILITY
On April 12, 1995, the Company obtained a five year unsecured $400 million
revolving line of credit (the "Credit Facility") from a lending syndicate led by
Bank of America. As of December 31, 1995, the Company had used $310 million of
the Credit Facility to fund the prepayment by Health Net of $135 million in debt
to the Foundation, $100 million to fund the MDEC acquisition, and $75 million to
fund the purchase of GHH. Under the Credit Facility, the Company may incur
permitted subordinated indebtedness in a maximum aggregate amount not to exceed
$150 million which will be available for acquisition purposes and to provide
short-term financing to repurchase shares of stock.
The Company may elect from various short-term interest rates based upon a
spread above the LIBOR rate, or the greater of the bank's reference rate or the
federal funds rate plus 1/2%. In addition, the Company may elect a "competitive
bid auction" in which participating banks are offered an opportunity to bid
alternative rates. The Credit Facility is for a term of five years from the date
of execution, with two one year extension options.
The Company is currently seeking to increase its revolving line of credit
under the Credit Facility to $700 million.
OTHER NOTES PAYABLE
The Company also has various other notes payable outstanding, both secured
and unsecured, totaling $26.8 million and $1.8 million at December 31, 1995 and
1994, respectively. In connection with its acquisition of GHH in 1995, the
Company issued a promissory note in the amount of $22.5 million to GHS. Such
note bears interest at 7.95% and is payable in 2005.
The weighted average annual interest rate on the Company's long-term debt
was approximately 7.4% for 1995 and 8% for each of the years 1994 and 1993.
F-17
<PAGE>
HEALTH SYSTEMS INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
5. NOTES PAYABLE (CONTINUED)
The following table presents the principal payments due with respect to all
of the above referenced notes for the five years ending December 31 (in
thousands):
<TABLE>
<S> <C>
1996.............................................. $ 2,340
1997.............................................. 1,758
1998.............................................. 930
1999.............................................. 1,013
2000.............................................. 23,631
Thereafter........................................ 326,748
---------
356,420
Less: current portion............................. 2,340
---------
Long-term portion................................. $ 354,080
---------
---------
</TABLE>
6. OPERATING LEASES
The Company leases administrative and medical office space under various
operating leases. Certain medical office space is subleased to Participating
Medical Groups doing business with the Company. Certain leases contain renewal
options and rent escalation clauses. Future minimum lease commitments for
noncancelable operating leases at December 31, 1995 are as follows (in
thousands):
<TABLE>
<S> <C>
1996............................................... $ 20,448
1997............................................... 19,018
1998............................................... 13,192
1999............................................... 11,216
2000............................................... 10,816
Thereafter......................................... 23,310
---------
Total minimum lease commitments.................... $ 98,000
---------
---------
</TABLE>
Rent expense totaled $17.7 million, $13.8 million and $11.3 million in 1995,
1994 and 1993, respectively.
7. EMPLOYEE BENEFIT PLANS
RETIREMENT PLANS
In 1995 the Company had five separate 401(k) retirement savings plans. Such
plans are available to substantially all employees of certain subsidiaries age
21 or older who have completed various periods of continuous service. Non-highly
compensated employees as defined by the Internal Revenue Code may defer up to a
maximum of 15% of their annual compensation under the 401(k) plans, while highly
compensated employees are limited to lesser maximums in compliance with
discrimination tests. The Company made certain matching contributions to the
plans in 1995. All five of the 401(k) plans were consolidated into a single plan
effective January 1, 1996.
Effective April 30, 1994, the Company's defined benefit pension plan in
effect at such time was amended to cease benefit accruals. The plan was
subsequently terminated effective December 31, 1994. This freezing of the plan
affects the comparability of net periodic pension cost and funded status with
that of prior years. In 1994, the Company recorded a $3.1 million gain from the
freeze. The plan covered substantially all Health Net employees. Benefits were
based on years of service and the employee's compensation during the last five
years of employment. The plan's assets consist of investments in a bank's pooled
trust fund. Expenses under the 401(k) and defined benefit pension plans totaled
$1.3 million in 1995, $2.9 million in 1994 and $5.5 million in 1993.
F-18
<PAGE>
HEALTH SYSTEMS INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
7. EMPLOYEE BENEFIT PLANS (CONTINUED)
The following table sets forth the plans' funded status and the amounts
recognized in the Company's consolidated financial statements at December 31 (in
thousands):
<TABLE>
<CAPTION>
1995 1994
--------- ---------
<S> <C> <C>
Actuarial present value of benefit obligations:
Accumulated vested benefit obligation.............................................. $ 6,988 $ 12,844
--------- ---------
--------- ---------
Projected benefit obligation....................................................... $ 6,988 $ 12,844
Plan assets at fair value.......................................................... 6,751 12,690
--------- ---------
Projected benefit obligation greater than plan assets.............................. 237 154
Unrecognized net loss.............................................................. (832) (1,135)
Additional minimum liability....................................................... 832 1,135
--------- ---------
Net pension liability.............................................................. $ 237 $ 154
--------- ---------
--------- ---------
</TABLE>
Net pension costs included the following components for the years ended
December 31 (in thousands):
<TABLE>
<CAPTION>
1995 1994 1993
--------- --------- ---------
<S> <C> <C> <C>
Service costs, benefits earned during year................................. $ $ $ 2,866
Interest cost on projected benefit obligation.............................. 614 644 1,171
Actual return on plan assets............................................... (749) 123 (819)
Net amortization and deferral.............................................. 644 (1,119) 291
--------- --------- ---------
Total cost............................................................. $ 509 $ (352) $ 3,509
--------- --------- ---------
--------- --------- ---------
</TABLE>
The projected benefit obligation was determined using a discount rate of
5.25% for 1995 and 5.25% for 1994 and an assumed rate of compensation increase
was not applicable in 1995 nor 1994. The net pension costs were determined using
the aforementioned assumptions and an expected long-term rate of return on plan
assets of 8% for each of the years 1995, 1994 and 1993.
On December 15, 1992, the Company adopted a Supplemental Executive
Retirement Plan (the "Prior SERP"). Certain key executives were eligible to
participate in the Prior SERP. Under the provisions of the Prior SERP, these
executives could elect to credit amounts to the Prior SERP in lieu of
compensation. The annual amount so credited was equal to 50% of the premium that
would be required to fund a premium variable life insurance policy. The Company
then credited the executive's SERP account with the remaining 50% premium. Upon
death, beneficiaries are entitled to receive the entire death benefit under the
policy plus an additional 78.5% of policy benefits. At retirement or
termination, the executive is entitled to the cash surrender value of the policy
plus an additional 78.5% of such cash surrender value. The termination or
retirement benefit must be paid to the executive in a lump sum. This Prior SERP
was discontinued in December 1995.
A new SERP program (the "Current SERP") was approved effective January 1,
1996. The new SERP plan ensures that executives who retire at age 62 or later
and have worked for the Company or a predecessor organization for at least 15
years receive 50% of average pay (salary and bonus) when combined with Social
Security and all other employer provided retirement benefits provided under
current and prior programs including the accumulated value of company
contributions to the Company's 401(k) plan and Profit Sharing Plan for the
account of such individuals, along with benefits accrued under the prior SERP
frozen in 1995. Executives with less than 15 years of service at age 62 will
receive a reduced benefit under this plan, and executives must accrue at least
five years of service to receive a partial benefit. Those terminating with
between 5 and 10 years of service are entitled to receive a partial benefit, and
executives who terminate with 10 or more years of service will be 100% vested on
earned benefits.
F-19
<PAGE>
HEALTH SYSTEMS INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
7. EMPLOYEE BENEFIT PLANS (CONTINUED)
The Company also has adopted the Health Net Board of Directors Retirement
Plan. The plan covers all outside members of the Health Net Board of Directors
retiring on or after age 65 for a duration not to exceed the period of service
as a director.
Expense under the Prior SERP and Health Net Board of Directors Retirement
Plan totaled $1.8 million in 1995, $2.5 million in 1994 and $3.0 million in
1993.
POST-RETIREMENT HEALTH AND LIFE BENEFITS
The Company sponsors a defined-benefit health care plan for its Health Net
employees that provides post-retirement medical benefits to full-time employees
and their eligible dependents for employees who have worked ten years and
attained age 55. The Company pays 100% of the cost of medical, dental,
prescription and vision benefits for those employees who retire on or before
December 1, 1995; for employees retiring after December 1, 1995, the Company
pays 25% of the cost of medical coverage for those employees with ten years of
service, increasing 5% a year to 25 years or more of service, at which time 100%
of the cost is borne by the Company. The health care plan includes certain
cost-sharing features such as deductibles, coinsurance and maximum annual
benefit amounts for certain benefits.
The following table presents this plan's funded status and the amounts
recognized in the Company's consolidated financial statements at December 31 (in
thousands):
<TABLE>
<CAPTION>
1995 1994
--------- ---------
<S> <C> <C>
Accumulated post-retirement benefit obligations:
Retirees............................................................................. $ 1,251 $ 975
Active............................................................................... 2,800 2,181
--------- ---------
Plan assets at fair value............................................................ 4,051 3,156
--------- ---------
Accumulated benefit obligation in excess of plan assets.............................. 4,051 3,156
Unrecognized net gain from past experience different from that assumed and from
changes in assumptions.............................................................. 328 627
--------- ---------
Accrued post-retirement benefit cost at year end..................................... $ 4,379 $ 3,783
--------- ---------
--------- ---------
</TABLE>
Net periodic post-retirement cost includes the following for the years ended
December 31 (in thousands):
<TABLE>
<CAPTION>
1995 1994 1993
--------- --------- ---------
<S> <C> <C> <C>
Service cost.................................................................... $ 390 $ 413 $ 341
Interest cost................................................................... 266 211 184
Net amortization and deferral................................................... (4) (11)
--------- --------- ---------
Total cost.................................................................. $ 656 $ 620 $ 514
--------- --------- ---------
--------- --------- ---------
</TABLE>
The weighted-average annual assumed rate of increase in the per capita cost
of covered benefits (i.e., health-care cost-trend rate) is 9% for 1996, and is
assumed to decrease gradually to 5.5% for 2007 and remain at that level
thereafter. The health-care cost-trend rate assumption has a significant effect
on the amounts reported. To illustrate, increasing the assumed health care
cost-trend rates by one percentage point in each year would increase the
accumulated post-retirement benefit obligation as of December 31, 1995 by
$200,000 and the aggregate of service and interest cost components of net
periodic post-retirement benefit cost for the year then ended by $850,000. The
weighted-average discount rate used in determining the accumulated
post-retirement benefit obligation was 7.5% for 1995, 8.5% in 1994 and 7.5% for
1993.
F-20
<PAGE>
HEALTH SYSTEMS INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
7. EMPLOYEE BENEFIT PLANS (CONTINUED)
The Company also sponsors a life insurance plan, funded entirely by the
Company. The amount of coverage varies with the maximum amount of three times
earnings not to exceed $500,000. The Company's policy is to fund the cost of
benefits for the health care and life insurance plans in amounts determined at
the discretion of management, after consultation with an independent actuary.
EMPLOYEE STOCK PURCHASE PLAN
In 1993 the Company's Board of Directors approved the Health Systems
International Employee Stock Purchase Plan, effective February 15, 1993. The
plan provides employees of the Company with an opportunity to purchase stock
through payroll deductions. The Company has reserved 1,000,000 shares of its
Class A Common Stock for issuance under the plan. Eligible employees may
purchase up to $25,000 in fair market value annually of the Company's Common
Stock at 85% of the lower of the market price on either the first or the last
day of each offering period. During 1995, 1994 and 1993, 48,530 shares, 54,382
shares and 49,416 shares, respectively, were issued under the plan at prices of
$20.93 and $23.06 in 1995, $10.73 and $21.04 in 1994 and $10.63 and $11.90 in
1993.
PERFORMANCE-BASED ANNUAL BONUS PLAN
The Company has a Performance-Based Annual Bonus Plan that qualifies under
Section 162(m) of the Internal Revenue Code of 1986, as amended (the "Code").
Under the plan, if the Company meets certain financial and operating targets,
certain executives subject to the limitations of Section 162(m) of the Code
become eligible to receive annual cash bonuses based on a maximum pool of 2.5%
of consolidated operating income and on the executives' salaries in relation to
the pool. Amounts payable to such executives from such pool are subject to
downward adjustment by the Company's Compensation and Stock Option Committee.
MANAGEMENT BONUS PLAN
The Company also has a Management Bonus Plan whereby certain executives
become eligible to receive annual cash bonuses if the Company and such
executives meet certain financial and operating targets.
8. COMMITMENTS AND CONTINGENCIES
IRS EXAMINATION
Health Net was under audit by the IRS during 1995 and 1994. The principal
issue during the course of the audit was whether Health Net qualified as a
tax-exempt entity for certain periods prior to the Conversion. In March 1995,
Health Net and the IRS entered into a settlement of all outstanding issues
raised in the audit. The settlement paid was treated as a payment on the notes
due to the Foundation, in accordance with the terms of such notes.
A deferred tax liability account was previously established by the Company
to cover potential liabilities relating to the above mentioned audit. As a
result of this settlement, the deferred tax liability and associated goodwill of
approximately $33.0 million have been eliminated.
FTB EXAMINATION
Health Net is currently under examination by the California Franchise Tax
Board ("FTB"). Issues raised by such examination include, among other issues,
tax ramifications of the Conversion. Although it is not possible to predict with
any certainty the outcome of the examination, the Company's management believes,
based on advice of legal counsel, that Health Net has substantial bases for its
positions on issues likely to arise during the course of the examination. The
ultimate resolution of these matters should not have a material adverse effect
on the financial statements of the Company.
LITIGATION
In January, 1995, two purported class action lawsuits were filed against the
Company and the members of its Board of Directors alleging breach of fiduciary
duties to the Company's public stockholders by refusing
F-21
<PAGE>
HEALTH SYSTEMS INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
8. COMMITMENTS AND CONTINGENCIES (CONTINUED)
to seriously consider certain acquisition bids for the Company. The complaint
requests an injunction ordering the directors to evaluate alternatives to
maximize stockholder value, to ensure that no conflicts of directors' interests
exist, to account for damages allegedly suffered, and to pay plaintiff's legal
costs. The Company and its individual directors believe that both lawsuits are
wholly without merit and intend to defend against each of the actions
vigorously.
The Company is involved in various other legal proceedings, which are
routine in its business. In the opinion of management, based upon current facts
and circumstances known by the Company, the resolution of these matters should
not have a material adverse effect on the financial position or results of
operations of the Company.
9. TRANSACTIONS WITH RELATED PARTIES
During 1993, a stockholder, prior director and the prior chief legal officer
and secretary of the Company, was a partner of a law firm from which the Company
purchased legal services in the amount of $2.4 million. The law firm became part
of the Company's in-house legal department in July 1993, and no fees have been
billed to the Company since then.
Three directors of the Company are partners of law firms which received
legal fees totaling $1.9 million, $1.5 million and $4.4 million in 1995, 1994
and 1993, respectively.
An officer of a contracted hospital is also a member of the Company's Board
of Directors. Medical costs paid to the provider totaled $55.3 million, $14.0
million and $8.0 million in 1995, 1994 and 1993, respectively. Such contracted
hospital is also an employer group of the Company. The Company received premium
revenues of $3 million annually in 1995, 1994 and 1993, respectively.
A director of a subsidiary of the Company is a majority owner of a
contracted provider of Health Net. The Company paid professional and
institutional capitation fees to the medical group totaling $36.7 million, $36.5
million and $55.9 million in 1995, 1994 and 1993, respectively.
A director of the Company was an officer of an employer group until October
1994. In 1994 and 1993, the Company received premium revenues of $17 million and
$14 million, respectively, from the group.
A stockholder and director of the Company is an officer of a consulting firm
which received approximately $50,000 in 1995 pursuant to a consulting agreement
to pay for certain consulting services provided to a subsidiary of the Company
in connection with its warehouse operations. In addition, a subsidiary of the
Company, paid approximately $90,000 and $70,000 to the consulting firm for real
estate consulting services rendered in 1995 and 1994, respectively.
In 1995, the Company advanced an aggregate sum of approximately $16.3
million to three of its former executive officers and directors in connection
with the future repurchase of shares of HSI Class A Common Stock held by such
individuals. This repurchase agreement was entered into in connection with
certain severance agreements between the Company and each such individual in
connection with his or her termination of employment. Such advances were
non-interest bearing and were secured by a pledge of shares of Class A Common
Stock, which shares were ultimately repurchased by the Company in January 1996.
10. STOCK OPTION PLANS
HSI has various outstanding stock option plans which cover certain employees
and non-employee directors. Such plans have been adopted by the stockholders and
options have been granted under such plans. A summary of the plans which exist
as of December 31, 1995 is as follows:
1989 PLAN -- In 1989, 2,210,000 shares of the Company's Class A shares were
authorized to be issued under future grants to officers, directors and certain
employees pursuant to the 1989 Stock Option Plan.
F-22
<PAGE>
HEALTH SYSTEMS INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
10. STOCK OPTION PLANS (CONTINUED)
Options exercised under the plan totaled 785,551, 227,000 and 151,000 in 1995,
1994 and 1993, respectively, at prices per share of between $1.50 and $13.50 in
1995, $1.50 and $13.50 in 1994, and $1.50 and $5.25 in 1993.
1991 PLAN -- In 1991, 1,000,000 shares of the Company's Class A shares were
authorized to be issued under future grants to officers and employees of the
Company pursuant to the 1991 Stock Option Plan. The authorized number of shares
was subsequently increased to 5,000,000. Options exercised under the plan
totaled 120,086, 164,700 and 2,000 in 1995, 1994 and 1993, respectively, at
prices per share of between $13.75 and $28.25 in 1995, $13.00 and $18.25 in 1994
and at $14.88 in 1993.
NON-EMPLOYEE DIRECTOR PLAN -- In 1991, 100,000 shares of Class A shares were
authorized to be issued under grants to non-employee directors of the Company
pursuant to its Non-Employee Director Stock Option Plan. The authorized number
of shares was subsequently increased to 300,000. Options exercised under the
plan totaled 10,000, 10,000 and 5,000 in 1995, 1994 and 1993, respectively, at
prices per share of between $11.63 and $13.88 in 1995, $11.625 and $14.50 in
1994 and at $11.625 in 1993.
The following table summarizes the status of stock option plans as of
December 31:
<TABLE>
<CAPTION>
1995 1994 1993
--------------- --------------- ---------------
<S> <C> <C> <C>
Outstanding, beginning of year...................... 2,617,815 1,770,264 1,967,436
Granted........................................... 71,586 1,297,665 75,000
Exercised......................................... (915,637) (401,114) (158,192)
Forfeited......................................... (101,200) (49,000) (113,980)
--------------- --------------- ---------------
Outstanding, end of year............................ 1,672,564 2,617,815 1,770,264
Exercisable, end of year............................ 1,618,564 1,280,030 1,622,954
Exercise price per share............................ $5.25-$27.875 $1.50-$36.125 $1.50-$18.875
</TABLE>
F-23
<PAGE>
HEALTH SYSTEMS INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
11. INCOME TAXES
Significant components of the Company's deferred tax liabilities and assets
as of December 31 are as follows (in thousands):
<TABLE>
<CAPTION>
1995 1994
--------- ---------
<S> <C> <C>
Deferred tax liabilities:
Tax over book amortization...................................................... $ 230 $
Unrealized gain on marketable securities........................................ 1,501
Pre-conversion income tax reserves for book/tax differences on net assets....... 35,463
Other........................................................................... 2,454 2,098
--------- ---------
Total deferred tax liabilities................................................ 4,185 37,561
--------- ---------
Deferred tax assets:
Unrealized loss on marketable securities........................................ 3,201
Estimated claims payable in excess of current tax deduction..................... 5,588 16,569
Other non-claimed accruals in excess of current tax deduction................... 7,337 4,475
Other post-employment benefit obligations....................................... 1,034 770
Book over tax depreciation...................................................... 1,765 629
Book over tax amortization...................................................... 5,832
Accrued compensation............................................................ 1,447 2,766
State franchise tax............................................................. 3,244 3,642
Accrued merger related costs.................................................... 2,986 3,191
Deferred rent................................................................... 1,296 1,498
Other........................................................................... 348 385
--------- ---------
Total deferred tax assets..................................................... 25,045 42,958
--------- ---------
Net deferred tax assets......................................................... $ 20,860 $ 5,397
--------- ---------
--------- ---------
</TABLE>
The accrual for the book/tax differences on net assets was established with
the Conversion. The initial amount of the accrual was $34.7 million which
resulted in a corresponding charge to goodwill. In March 1995, Health Net
entered into a settlement with the IRS, resulting in the reduction of the
deferred tax liability and associated goodwill by $33.0 million.
During the years ended December 31, 1995, 1994 and 1993, tax benefits
totaling $8,663,000, $1,515,000 and $833,000, respectively, were realized as a
result of compensation recognized for tax purposes relating to the exercise of
stock options and were recorded as an increase in additional paid-in capital.
The Company has utilized pre-acquisition operating losses of subsidiaries
acquired which could differ from amounts allowed by the tax authorities.
Management believes it has adequately provided for any increases in taxes that
might result from any reduction of the realization of net operating loss
carryforwards.
F-24
<PAGE>
HEALTH SYSTEMS INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
11. INCOME TAXES (CONTINUED)
Significant components of the provision for income taxes are as follows for
the three years ended December 31 (in thousands):
<TABLE>
<CAPTION>
1995 1994 1993
--------- --------- ---------
<S> <C> <C> <C>
Current:
Federal.............................................................. $ 39,273 $ 49,641 $ 40,322
State................................................................ 11,552 12,971 8,748
--------- --------- ---------
Total current...................................................... 50,825 62,612 49,070
--------- --------- ---------
Deferred:
Federal.............................................................. 12,596 (27) (17,068)
State................................................................ 3,886 174 (3,564)
--------- --------- ---------
Total deferred..................................................... 16,482 147 (20,632)
--------- --------- ---------
$ 67,307 $ 62,759 $ 28,438
--------- --------- ---------
--------- --------- ---------
</TABLE>
Following is a reconciliation of income tax computed at the U.S. federal
statutory tax rates to income tax expense for the three years ended December 31
(in thousands):
<TABLE>
<CAPTION>
1995 1994 1993
--------- --------- ---------
<S> <C> <C> <C>
Income taxes at the federal statutory rate............................ $ 54,825 $ 52,769 $ 18,202
State income taxes, net of federal tax benefit....................... 10,035 8,544 4,147
Merger-related expenses.............................................. 262 3,788
Goodwill amortization................................................ 2,099
Other, net........................................................... 348 1,184 2,301
--------- --------- ---------
$ 67,307 $ 62,759 $ 28,438
--------- --------- ---------
--------- --------- ---------
</TABLE>
12. QUARTERLY INFORMATION (UNAUDITED)
The following interim financial information presents the 1995 and 1994
results of operations on a quarterly basis (in thousands except per share data):
<TABLE>
<CAPTION>
1995 QUARTER ENDED
---------------------------------------------------
MARCH 31, JUNE 30, SEPTEMBER 30, DECEMBER 31,
---------- ---------- ------------- ------------
<S> <C> <C> <C> <C>
Revenues.......................................... $ 627,497 $ 660,712 $ 702,882 $ 740,961
Merger-related costs.............................. 8,927 2,185 2,328 6,724
Income from operations............................ 29,173 39,036 38,955 35,984
Net income........................................ 18,911 22,966 24,284 23,431
Earnings per share................................ 0.38 0.47 0.50 0.48
</TABLE>
<TABLE>
<CAPTION>
1994 QUARTER ENDED
---------------------------------------------------
MARCH 31, JUNE 30, SEPTEMBER 30, DECEMBER 31,
---------- ---------- ------------- ------------
<S> <C> <C> <C> <C>
Revenues.......................................... $ 564,655 $ 571,148 $ 580,837 $ 589,522
Merger-related costs.............................. 672
Income from operations............................ 34,832 34,992 36,461 38,891
Net income........................................ 20,527 21,254 22,415 23,879
Earnings per share................................ 0.41 0.43 0.45 0.48
</TABLE>
13. FAIR VALUE INFORMATION
The Company has estimated the fair value of financial instruments held as of
December 31, 1995 and 1994 in accordance with the requirements of SFAS No. 107,
"Disclosures about Fair Value of Financial
F-25
<PAGE>
HEALTH SYSTEMS INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
13. FAIR VALUE INFORMATION (CONTINUED)
Instruments." The estimated fair value amounts of cash equivalents, marketable
securities held for sale and notes payable approximate their carrying amounts in
the financial statements and have been determined by the Company using available
market information and appropriate valuation methodologies. The carrying amount
of cash equivalents approximate fair value due to the short maturity of those
instruments. The fair values of marketable securities are estimated based on
quoted market prices and dealer quotes for similar investments. The fair value
of notes payable is estimated based on the quoted market prices for the same or
similar issues or on the current rates offered to the Company for debt of the
same remaining maturities. Considerable judgment is required to develop
estimates of fair value. Accordingly, the estimates are not necessarily
indicative of the amounts the Company could have realized in a current market
exchange as of December 31, 1995 and 1994. The use of different market
assumptions and/or estimation methodologies may have a material effect on the
estimated fair value amounts.
The fair value estimates are based on pertinent information available to
management as of December 31, 1995 and 1994. Although management is not aware of
any factors that would significantly affect the estimated fair value amounts,
such amounts have not been comprehensively revalued for purposes of these
financial statements since that date, and therefore, current estimates of fair
value may differ significantly.
14. COMMON STOCK
The Company has two classes of Common Stock. The Company's Class A Common
Stock and Class B Common Stock have identical rights except that upon the sale
or other transfer of the Class B Common Stock, such shares automatically convert
to Class A Common Stock. The Foundation is the only holder of record of the
Company's Class B Common Stock.
F-26
<PAGE>
- -------------------------------------------
-------------------------------------------
- -------------------------------------------
-------------------------------------------
NO DEALER, SALESPERSON OR OTHER PERSON HAS BEEN AUTHORIZED TO GIVE ANY
INFORMATION OR TO MAKE ANY REPRESENTATIONS IN CONNECTION WITH THIS OFFERING
OTHER THAN THOSE CONTAINED IN THIS PROSPECTUS AND, IF GIVEN OR MADE, SUCH OTHER
INFORMATION AND REPRESENTATIONS MUST NOT BE RELIED UPON AS HAVING BEEN
AUTHORIZED BY THE COMPANY, THE SELLING STOCKHOLDER OR THE UNDERWRITERS. NEITHER
THE DELIVERY OF THIS PROSPECTUS NOR ANY SALE MADE HEREUNDER SHALL, UNDER ANY
CIRCUMSTANCES, CREATE ANY IMPLICATION THAT THERE HAS BEEN NO CHANGE IN THE
AFFAIRS OF THE COMPANY SINCE THE DATE HEREOF OR THAT THE INFORMATION CONTAINED
HEREIN IS CORRECT AS OF ANY TIME SUBSEQUENT TO ITS DATE. THIS PROSPECTUS DOES
NOT CONSTITUTE AN OFFER TO SELL OR A SOLICITATION OF AN OFFER TO BUY ANY
SECURITIES OTHER THAN THE REGISTERED SECURITIES TO WHICH IT RELATES. THIS
PROSPECTUS DOES NOT CONSTITUTE AN OFFER TO SELL OR A SOLICITATION OF AN OFFER TO
BUY SUCH SECURITIES IN ANY CIRCUMSTANCES IN WHICH SUCH OFFER OR SOLICITATION IN
UNLAWFUL.
--------------
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE
-----
<S> <C>
Prospectus Summary............................. 3
Cautionary Statement Regarding Forward-Looking
Statements.................................... 6
Risk Factors................................... 6
The Company.................................... 8
Use of Proceeds................................ 8
Price Range of Class A Common Stock............ 9
Dividend Policy................................ 9
Capitalization................................. 10
Selected Consolidated Financial Data........... 11
Management's Discussion and Analysis of
Financial Condition and Results of
Operations.................................... 12
Business....................................... 17
Management..................................... 28
Principal and Selling Stockholders............. 33
Description of Capital Stock................... 35
Underwriting................................... 36
Legal Matters.................................. 39
Experts........................................ 39
Available Information.......................... 39
Incorporation of Certain Documents by
Reference..................................... 40
Index to Consolidated Financial Statements..... F-1
</TABLE>
8,331,204 SHARES
[LOGO]
HEALTH SYSTEMS
INTERNATIONAL, INC.
CLASS A COMMON STOCK
---------
P R O S P E C T U S
, 1996
----------
SMITH BARNEY INC.
DILLON, READ & CO. INC.
DEAN WITTER REYNOLDS INC.
ROBERTSON, STEPHENS & COMPANY
SALOMON BROTHERS INC
VOLPE, WELTY & COMPANY
- -------------------------------------------
-------------------------------------------
- -------------------------------------------
-------------------------------------------
<PAGE>
INFORMATION CONTAINED HEREIN IS SUBJECT TO COMPLETION OR AMENDMENT. A
REGISTRATION STATEMENT RELATING TO THESE SECURITIES HAS BEEN FILED WITH THE
SECURITIES AND EXCHANGE COMMISSION. THESE SECURITIES MAY NOT BE SOLD NOR MAY
OFFERS TO BUY BE ACCEPTED PRIOR TO THE TIME THE REGISTRATION STATEMENT BECOMES
EFFECTIVE. THIS PROSPECTUS SHALL NOT CONSTITUTE AN OFFER TO SELL OR THE
SOLICITATION OF AN OFFER TO BUY NOR SHALL THERE BE ANY SALE OF THESE SECURITIES
IN ANY STATE IN WHICH SUCH OFFER, SOLICITATION OR SALE WOULD BE UNLAWFUL PRIOR
TO REGISTRATION OR QUALIFICATION UNDER THE SECURITIES LAWS OF ANY SUCH STATE.
<PAGE>
[ALTERNATE PAGE FOR INTERNATIONAL PROSPECTUS]
SUBJECT TO COMPLETION, DATED MAY 9, 1996
P R O S P E C T U S
8,331,204 SHARES
[LOGO]
HEALTH SYSTEMS INTERNATIONAL, INC.
CLASS A COMMON STOCK
---------
Of the 8,331,204 shares of Class A Common Stock, par value $.001 per share
(the "Class A Common Stock"), of Health Systems International, Inc. (the
"Company") offered hereby, 3,194,374 shares are being issued and sold by the
Company and 5,136,830 shares are being sold by The California Wellness
Foundation (the "Selling Stockholder"). The Company will not receive any part of
the proceeds from the sale of securities by the Selling Stockholder. Of the
8,331,204 shares of Class A Common Stock offered hereby, 1,666,240 shares are
being offered in an international offering outside the United States and Canada
by the Managers (as defined) (the "International Offering") and 6,664,964 shares
are being offered in the United States and Canada (the "U.S. Offering" and,
together with the International Offering, the "Offering") by the U.S.
Underwriters (as defined). The public offering price and aggregate underwriting
discount per share are identical for both offerings. See "Underwriting."
The Company's authorized capital stock includes the Class A Common Stock and
Class B Common Stock, par value $.001 per share (the "Class B Common Stock" and,
together with the Class A Common Stock, the "Common Stock"), and preferred
stock. The rights of holders of Class A Common Stock are identical to the rights
of holders of Class B Common Stock, except that each share of Class A Common
Stock entitles its holder to one vote and the holder of Class B Common Stock
generally has no right to vote. Shares of Class B Common Stock are automatically
converted into shares of Class A Common Stock on a one-for-one basis upon the
sale or transfer of the Class B Common Stock to an unrelated third party. See
"Description of Capital Stock."
The Company's Class A Common Stock is listed on the New York Stock Exchange,
Inc. (the "NYSE") under the symbol "HQ." The last reported sales price of the
Company's Class A Common Stock as reported on the NYSE on May 8, 1996 was
$31 7/8 per share.
SEE "RISK FACTORS" STARTING ON PAGE 6 FOR A DISCUSSION OF CERTAIN FACTORS
THAT SHOULD BE CONSIDERED IN CONNECTION WITH AN INVESTMENT IN THE CLASS A COMMON
STOCK OFFERED HEREBY.
This document may not be passed on in the United Kingdom to any person
unless the person is of a kind described in Article 9(3) of the Financial
Services Act 1986 (Investment Advertisements) Order 1988 or as a person to whom
such document may otherwise lawfully be issued or passed on.
----------------
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE
SECURITIES AND EXCHANGE COMMISSION OR ANY STATE SECURITIES
COMMISSION PASSED UPON THE ACCURACY OR ADEQUACY OF THIS
PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS
A CRIMINAL OFFENSE.
<TABLE>
<CAPTION>
UNDERWRITING PROCEEDS TO
PRICE TO DISCOUNTS AND PROCEEDS TO THE SELLING
PUBLIC COMMISSIONS(1) COMPANY(2) STOCKHOLDER (2)
<S> <C> <C> <C> <C>
Per Share $ $ $ $
Total (3) $ $ $ $
</TABLE>
(1) The Company and the Selling Stockholder have agreed to indemnify the
Managers and the U.S. Underwriters against certain liabilities, including
liabilities under the Securities Act of 1933, as amended. See
"Underwriting."
(2) Before deducting estimated expenses of $575,134 payable by the Company and
$924,866 payable by the Selling Stockholder.
(3) The Selling Stockholder has granted the U.S. Underwriters and Managers a
30-day option to purchase up to 1,249,680 additional shares of Class A
Common Stock solely to cover over-allotments, if any. If such option is
exercised in full, the total Price to Public, Underwriting Discounts and
Commissions, Proceeds to Company and Proceeds to Selling Stockholder will be
$ , $ , $ and $ , respectively.
See "Underwriting."
------------------
The shares of Class A Common Stock are being offered by the Managers named
herein, subject to prior sale, when, as and if accepted by them and subject to
certain conditions. It is expected that certificates for the shares of Class A
Common Stock offered hereby will be available for delivery on or about
, 1996, at the offices of Smith Barney Inc., 14 Wall Street, New York,
New York 10005.
----------------
SMITH BARNEY INC.
DILLON, READ & CO. INC.
DEAN WITTER INTERNATIONAL LTD.
ROBERTSON, STEPHENS & COMPANY
SALOMON BROTHERS INTERNATIONAL LIMITED
VOLPE, WELTY & COMPANY
, 1996
<PAGE>
[ALTERNATE PAGE FOR INTERNATIONAL PROSPECTUS]
CERTAIN UNITED STATES TAX CONSEQUENCES TO NON-UNITED STATES HOLDERS
The following general discussion is a summary of certain United States
federal income and estate tax consequences of the ownership and disposition of
Class A Common Stock applicable to Non-U.S. Holders of such Class A Common
Stock. A "Non-U.S. Holder" is a person or entity other than (i) a citizen or
resident of the United States, (ii) a corporation or partnership or other entity
created or organized in the United States or under the laws of the United States
or of any state thereof, or (iii) an estate or trust whose income is includable
in gross income for United States federal income tax purposes regardless of its
source. For purposes of the withholding tax on dividends discussed below, a
non-resident fiduciary of an estate or trust will be considered a Non-U.S.
Holder.
This discussion does not consider specific facts and circumstances that may
be relevant to a particular Non-U.S. Holder's tax position and does not consider
United States state and local or non-United States tax consequences. This
discussion also does not consider the tax consequences to any person who is a
stockholder, partner or beneficiary of a holder of the Class A Common Stock.
Furthermore, the following discussion is based on current provisions of the
United States Internal Revenue Code of 1986, as amended (the "Code"), and
administrative and judicial interpretation of the Code as of the date hereof,
all of which are subject to change. Each prospective Non-U.S. Holder is urged to
consult its own tax adviser with respect to the United States federal income and
estate tax consequences and United States state and local tax consequences of
owning and disposing of shares of Class A Common Stock, as well as any tax
consequences arising under the laws of any other taxing jurisdiction.
DIVIDENDS
In general, dividends paid to a Non-U.S. Holder will be subject to United
States withholding tax at a 30% rate (or a lower rate prescribed by an
applicable tax treaty) unless the dividends are either (i) effectively connected
with a trade or business carried on by the Non-U.S. Holder within the United
States, or (ii) if a tax treaty applies, attributable to a United States
permanent establishment maintained by the Non-U.S. Holder. Dividends effectively
connected with such trade or business or attributable to such permanent
establishment generally will not be subject to withholding (if the Non-U.S.
Holder files certain forms with the payor of the dividend) and generally will be
subject to United States federal income tax in the same manner as if the non-
U.S. Holder was a United States resident. In the case of a Non-U.S. Holder which
is a corporation, such effectively connected income may also be subject to an
additional "branch profits tax" (which is generally imposed on a foreign
corporation on the repatriation from the United States of effectively connected
earnings and profits). To determine the applicability of a tax treaty providing
for a lower rate of withholding, dividends paid to an address in a foreign
country are presumed under current Treasury Department regulations to be paid to
a resident of that country. Treasury Department regulations proposed in April
1996 would, if adopted in final form, require Non-U.S. Holders to file a
"withholding certificate" with the Company's withholding agent (or, under
certain circumstances, a "qualified intermediary") to obtain the benefit of an
applicable tax treaty providing for a lower rate of withholding tax on
dividends. Such certificate would have to contain the name and address of the
holder and the basis for any reduced rate claimed. These withholding
certificates would be required for dividend payments made after December 31,
1999.
GAIN ON DISPOSITION
A Non-U.S. Holder generally will not be subject to United States federal
income tax on any gain recognized on a disposition of a share of Class A Common
Stock unless (i) the Company is or has been a "U.S. real property holding
corporation" for United States federal income tax purposes as defined in the
Code (which the Company does not believe that it is or is likely to become) and,
assuming that the Class A Common Stock is "regularly traded on an established
securities market" for purposes of Section 897 of the Code, the Non-U.S. Holder
disposing of the share owned, directly or constructively, at any time during the
five-year period preceding the disposition, more than five percent of the Class
A Common Stock; (ii) the gain is effectively connected with a trade or business
carried on by the Non-U.S. Holder within the United States or, if a tax treaty
applies, attributable to a United States permanent establishment maintained by
the Non-U.S. Holder, (iii) in the case of a Non-U.S. Holder who is an
individual, who holds the share as a capital asset and who is present in the
United States for 183 days or more in the taxable year of the disposition,
39
<PAGE>
either (a) such Non-U.S. Holder has a "tax home" (as defined for United States
federal income tax purposes) in the United States and the gain from the
disposition is not attributable to an office or other fixed place of business
maintained by such Non-U.S. Holder outside of the United States or (b) the gain
from the disposition is attributable to an office or other fixed place of
business maintained by such Non-U.S. Holder in the United States; or (iv) the
Non-U.S. Holder is subject to a tax pursuant to provisions of the Code
applicable to certain United States expatriates.
FEDERAL ESTATE TAX
Shares of Class A Common Stock owned or treated as owned by an individual
who is not a citizen or resident (as defined for United States federal estate
tax purposes) of the United States at the time of death will be includable in
the individual's gross estate for United States federal estate tax purposes
unless an applicable estate tax treaty provides otherwise. Estates of
non-resident aliens are generally allowed a statutory credit which generally has
the effect of offsetting the United States federal estate tax imposed on the
first $60,000 of the taxed estate.
BACKUP WITHHOLDING AND INFORMATION REPORTING REQUIREMENTS
The Company must report annually to the Internal Revenue Service and to each
Non-U.S. Holder the amount of dividends paid to, and the tax withheld with
respect to, such holder. These information reporting requirements apply
regardless of whether withholding was reduced or eliminated by an applicable tax
treaty. Copies of these information returns may also be made available under the
provisions of a specific treaty or agreement to the tax authorities in the
country in which the Non-U.S. Holder resides.
United States backup withholding tax (which generally is a withholding tax
imposed at the rate of 31% on certain payments to persons that fail to furnish
the information required under the United States information reporting
requirements) will generally not apply to dividends paid on Class A Common Stock
to a Non-U.S. Holder at an address outside the United States, unless the payor
has knowledge that the payee is a U.S. Holder.
The payment of the proceeds from the disposition of Class A Common Stock to
or through the United States office of a broker will be subject to information
reporting and backup withholding at a rate of 31% unless the owner, under
penalties of perjury, certifies, among other things, its status as a Non-U.S.
Holder, or otherwise establishes an exemption. The payment of the proceeds from
the disposition of Class A Common Stock to or through a non-United States office
of a non-United States broker generally will, except as noted below, not be
subject to backup withholding and information reporting. In the case of proceeds
from a disposition of Class A Common Stock paid to or through a non-United
States office of a United States broker or paid to or through a non-United
States office of a non-United States broker that is (i) a "controlled foreign
corporation" for United States federal income tax purposes or (ii) a person 50%
or more of whose gross income from all sources for a certain three-year period
was effectively connected with a United States trade or business, (a) backup
withholding will not apply unless the broker has actual knowledge that the owner
is not a Non-U.S. Holder, and (b) information reporting will not apply if the
broker has documentary evidence in its files that the owner is a Non-U.S. Holder
(unless the broker has actual knowledge to the contrary) and certain other
conditions are met, or the holder otherwise establishes an exemption.
Any amounts withheld under the backup withholding rules from a payment to a
Non-U.S. Holder will be refunded (or credited against the Non-U.S. Holder's
United States federal income tax liability, if any), provided that the required
information is furnished to the Internal Revenue Service.
The backup withholding and information reporting rules would also be changed
by Treasury Department regulations proposed in April 1996. These regulations, if
adopted in final form, would provide that proceeds from the disposition of Class
A Common Stock after December 31, 1997 would be exempt from backup withholding
and information reporting only if the Non-U.S. Holder complies with the
"withholding certificate" requirements described above or otherwise establishes
an exemption.
40
<PAGE>
- -------------------------------------------
-------------------------------------------
- -------------------------------------------
-------------------------------------------
NO PERSON IS AUTHORIZED IN CONNECTION WITH ANY OFFERING MADE HEREBY TO GIVE
ANY INFORMATION OR TO MAKE ANY REPRESENTATIONS OTHER THAN THOSE CONTAINED IN
THIS PROSPECTUS AND, IF GIVEN OR MADE, SUCH INFORMATION OR REPRESENTATIONS MUST
NOT BE RELIED UPON AS HAVING BEEN AUTHORIZED BY THE COMPANY OR ANY MANAGER. THIS
PROSPECTUS DOES NOT CONSTITUTE AN OFFER TO SELL OR A SOLICITATION OF AN OFFER TO
BUY ANY OF THE SECURITIES OFFERED HEREBY TO ANY PERSON IN ANY JURISDICTION IN
WHICH IT IS UNLAWFUL TO MAKE SUCH OFFER OR SOLICITATION. NEITHER DELIVERY OF
THIS PROSPECTUS NOR ANY SALE MADE HEREUNDER SHALL, UNDER ANY CIRCUMSTANCES,
CREATE AN IMPLICATION THAT THE INFORMATION HEREIN IS CORRECT AS OF ANY TIME
SUBSEQUENT TO THE DATE HEREOF. THERE ARE RESTRICTIONS ON THE OFFER AND SALE OF
THE SHARES OF CLASS A COMMON STOCK OFFERED HEREBY IN THE UNITED KINGDOM. ALL
APPLICABLE PROVISIONS OF THE FINANCIAL SERVICES ACT 1986 AND THE COMPANIES ACT
1985 WITH RESPECT TO ANYTHING DONE BY ANY PERSON IN RELATION TO THE CLASS A
COMMON STOCK IN, FROM OR OTHERWISE INVOLVING THE UNITED KINGDOM MUST BE COMPLIED
WITH. SEE "UNDERWRITING." IN THIS PROSPECTUS, EACH REFERENCE TO "DOLLARS" AND
"$" IS TO UNITED STATES DOLLARS.
--------------
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE
-----
<S> <C>
Prospectus Summary............................. 3
Cautionary Statement Regarding Forward-Looking
Statements.................................... 6
Risk Factors................................... 6
The Company.................................... 8
Use of Proceeds................................ 8
Price Range of Class A Common Stock............ 9
Dividend Policy................................ 9
Capitalization................................. 10
Selected Consolidated Financial Data........... 11
Management's Discussion and Analysis of
Financial Condition and Results of
Operations.................................... 12
Business....................................... 17
Management..................................... 28
Principal and Selling Stockholders............. 33
Description of Capital Stock................... 35
Underwriting................................... 36
Certain United States Tax Consequences to
Non-United States Holders..................... 39
Legal Matters.................................. 41
Experts........................................ 41
Available Information.......................... 41
Incorporation of Certain Documents by
Reference..................................... 42
Index to Consolidated Financial Statements..... F-1
</TABLE>
--------------
[ALTERNATE PAGE FOR INTERNATIONAL PROSPECTUS]
8,331,204 SHARES
[LOGO]
HEALTH SYSTEMS
INTERNATIONAL, INC.
CLASS A COMMON STOCK
---------
P R O S P E C T U S
, 1996
----------
SMITH BARNEY INC.
DILLON, READ & CO. INC.
DEAN WITTER INTERNATIONAL LTD.
ROBERTSON, STEPHENS & COMPANY
SALOMON BROTHERS INTERNATIONAL LIMITED
VOLPE, WELTY & COMPANY
- -------------------------------------------
-------------------------------------------
- -------------------------------------------
-------------------------------------------
<PAGE>
PART II
INFORMATION NOT REQUIRED IN PROSPECTUS
ITEM 14. OTHER EXPENSES OF ISSUANCE AND DISTRIBUTION.
The expenses to be paid by the registrant in connection with this offering
other than underwriting discounts and commissions are estimated as follows:
<TABLE>
<S> <C>
Securities and Exchange Commission registration fee............. $ 144,742
NASD filing fee................................................. 30,500
NYSE fees....................................................... 35,000
Printing and engraving.......................................... 275,000
Accounting services............................................. 250,000
Legal services.................................................. 180,000
Transfer agent and registrar fees............................... 55,000
Blue Sky fees and expenses...................................... 25,000
Miscellaneous expenses.......................................... 504,758
---------
Total....................................................... 1,500,000
---------
---------
</TABLE>
ITEM 15. INDEMNIFICATION OF DIRECTORS AND OFFICERS.
The Company's Certificate and Bylaws contain provisions permitted by the
Delaware General Corporation Law (under which the Company is organized) which,
in general terms, provide that directors and officers will be indemnified by the
Company for all losses that may be incurred by them in connection with any claim
or legal action in which they may become involved by reason of their service as
a director or officer of the Company, if they meet certain specified conditions.
In addition, the Company's Certificate contains provisions permitted by the
Delaware General Corporation Law, which limit the monetary liability of
directors of the Company for certain breaches of their fiduciary duty of care
and provide for the advancement by the Company to directors and officers of
expenses incurred by them in defending suits arising out of their service as
such. The Company has also entered into agreements with its directors and
certain of its officers which essentially provide that the Company will
indemnify such directors and officers to the extent set forth in the Certificate
and Bylaws of the Company. In addition, the Company maintains a directors' and
officers' liability insurance policy.
ITEM 16. LIST OF EXHIBITS.
The following instruments are included as exhibits to this Registration
Statement and are filed herewith unless otherwise indicated. Exhibits
incorporated by reference are so indicated by parenthetical information.
<TABLE>
<CAPTION>
EXHIBIT NO. DESCRIPTION
- ----------- ----------------------------------------------------------------------------------------------------
<S> <C>
1.1 Form of U.S. Underwriting Agreement.
1.2 Form of International Underwriting Agreement.
4.1 Form of Class A Common Stock Certificate of HSI (included as Exhibit 4.2 to HSI's Registration
Statements on Forms S-1 and S-4 (File nos. 33-72892 and 33-72892-01, respectively) which is
incorporated by reference herein).
4.2 Form of Class B Common Stock Certificate of HSI (included as Exhibit 4.3 to HSI's Registration
Statements on Forms S-1 and S-4 (File nos. 33-72892 and 33-72892-01, respectively) which is
incorporated by reference herein).
4.3.1 Nonnegotiable Senior Secured Promissory Note in the original principal amount of $150,000,000, dated
January 28, 1992, made by Health Net in favor of The California Wellness Foundation (filed as
Exhibit 4.8 to HSI's Registration Statements on Forms S-1 and S-4 (File nos. 33-72892 and
33-72892-01, respectively) which is incorporated by reference herein).
</TABLE>
II-1
<PAGE>
<TABLE>
<CAPTION>
EXHIBIT NO. DESCRIPTION
- ----------- ----------------------------------------------------------------------------------------------------
4.3.2 Nonnegotiable Subordinated Secured Promissory Note in the original principal amount of $75,000,000,
dated January 28, 1992, made by Health Net in favor of The California Wellness Foundation (filed as
Exhibit 4.9 to HSI's Registration Statements on Forms S-1 and S-4 (File nos. 33-72892 and
33-72892-01, respectively) which is incorporated by reference herein).
<S> <C>
4.3.3 Senior Security Agreement, dated January 28, 1992, between Health Net and The California Wellness
Foundation (filed as Exhibit 4.10 to HSI's Registration Statements on Forms S-1 and S-4 (File nos.
33-72892 and 33-72892-01, respectively) which is incorporated by reference herein).
4.3.4 Subordinated Security Agreement, dated January 28, 1992, between Health Net and The California
Wellness Foundation (filed as Exhibit 4.11 to HSI's Registration Statements on Forms S-1 and S-4
(File nos. 33-72892 and 33-72892-01, respectively) which is incorporated by reference herein).
4.3.5 Cash Pledge Agreement, dated January 28, 1992, by and between Health Net and The California Wellness
Foundation (filed as Exhibit 4.12 to HSI's Registration Statements on Forms S-1 and S-4 (File nos.
33-72892 and 33-72892-01, respectively) which is incorporated by reference herein).
4.3.6 Sinking Fund Agreement, dated as of January 28, 1992, by and between Health Net and The California
Wellness Foundation (filed as Exhibit 4.13 to HSI's Registration Statements on Forms S-1 and S-4
(File nos. 33-72892 and 33-72892-01, respectively) which is incorporated by reference herein).
4.3.7 Charitable Contribution Grant and Subordination Agreement, dated January 28, 1992, between Health
Net and The California Wellness Foundation (filed as Exhibit 4.14 to HSI's Registration Statements
on Forms S-1 and S-4 (File nos. 33-72892 and 33-72892-01, respectively) which is incorporated by
reference herein).
4.3.8 Guaranty Agreement, dated January 28, 1992, between Health Net and The California Wellness
Foundation (filed as Exhibit 4.15 to HSI's Registration Statements on Forms S-1 and S-4 (File nos.
33-72892 and 33-72892-01, respectively) which is incorporated by reference herein).
5.1 Opinion of McDermott, Will & Emery.
23.1 Consent of McDermott, Will & Emery (included in Exhibit 5.1).
23.2 Consent of Ernst & Young LLP.
23.3 Consent of Deloitte & Touche LLP.
+24.1 Powers of attorney.
27 Financial Data Schedule.
</TABLE>
- ------------------------
+ Previously filed.
ITEM 17. UNDERTAKINGS.
The Company hereby undertakes that, for purposes of determining any
liability under the Securities Act, each filing of the Company's annual report
pursuant to Section 13(a) or Section 15(d) of the Exchange Act that is
incorporated by reference in this Registration Statement shall be deemed to be a
new registration statement relating to the securities offered therein, and the
offering of such securities at that time shall be deemed to be the initial bona
fide offering thereof.
Insofar as indemnification for liabilities arising under the Securities Act
may be permitted to directors, officers and controlling persons of the Company
pursuant to the foregoing provisions, or otherwise, the Company has been advised
that in the opinion of the Commission such indemnification is against public
II-2
<PAGE>
policy as expressed in the Securities Act and is, therefore, unenforceable. In
the event that a claim for indemnification against such liabilities (other than
the payment of the Company of expenses incurred or paid by a director, officer
or controlling person of the Company in the successful defense of any action,
suit or proceeding) is asserted by such director, officer or controlling person
in connection with the securities being registered, the Company will, unless in
the opinion of its counsel the matter has been settled by controlling precedent,
submit to a court of appropriate jurisdiction the question whether such
indemnification by it is against public policy as expressed in the Securities
Act and will be governed by the final adjudication of such issue.
The Company hereby undertakes that:
(1) For purposes of determining any liability under the Securities Act,
the information omitted from the form of Prospectus filed as part of this
Registration Statement in reliance upon Rule 430A and contained in a form of
Prospectus filed by the Company pursuant to Rule 424(b)(1) or (4) or 497(h)
under the Securities Act shall be deemed to be part of this Registration
Statement as of the time it was declared effective.
(2) For the purpose of determining any liability under the Securities
Act, each post-effective amendment that contains a form of Prospectus shall
be deemed to be a new registration statement relating to the securities
offered therein, and the offering of such securities at that time shall be
deemed to be the initial bona fide offering thereof.
II-3
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Act of 1933, the Registrant
certifies that it has reasonable grounds to believe that it meets all of the
requirements for filing on Form S-3 and has duly caused this Amendment to the
Registration Statement to be signed on its behalf by the undersigned, thereunto
duly authorized, in the City of Pueblo, Colorado on May 8, 1996.
HEALTH SYSTEMS INTERNATIONAL, INC.
By: /s/ B. CURTIS WESTEN, JR.
-----------------------------------
B. Curtis Westen, Jr.
SENIOR VICE PRESIDENT, GENERAL
COUNSEL AND SECRETARY
Pursuant to the requirements of the Securities Act of 1933, this Amendment
to the Registration Statement has been signed by the following persons in the
capacities indicated below and on May 8, 1996.
<TABLE>
<CAPTION>
SIGNATURE TITLE
- -------------------------------------------------------- --------------------------------------------------------
<C> <S>
*
-------------------------------------------- Director, Chairman of the Board of Directors, President
Malik M. Hasan, M.D. and Chief Executive Officer
*
-------------------------------------------- Director and Executive Vice President of Medical Affairs
Dale T. Berkbigler, M.D.
*
-------------------------------------------- Director, Executive Vice President for Finance,
E. Keith Hovland Treasurer and acting Chief Financial Officer
*
-------------------------------------------- Director
Lawrence E. Austin, M.D.
*
-------------------------------------------- Director
J. Thomas Bouchard
*
-------------------------------------------- Director
Charles T. Braden
*
-------------------------------------------- Director
George Deukmejian
</TABLE>
II-4
<PAGE>
<TABLE>
<CAPTION>
SIGNATURE TITLE
- -------------------------------------------------------- --------------------------------------------------------
<C> <S>
*
-------------------------------------------- Director
Thomas T. Farley
*
-------------------------------------------- Director
Michael E. Gallagher
*
-------------------------------------------- Director
Roger F. Greaves
*
-------------------------------------------- Director
Kenneth W. Kizer, M.D.
*
-------------------------------------------- Director
Douglas Mancino
*
-------------------------------------------- Director
Robert L. Montgomery
*
-------------------------------------------- Director
J. Kevin Murphy
*By /s/ B. CURTIS WESTEN, JR.
---------------------------------------
B. Curtis Westen, Jr.
ATTORNEY-IN-FACT
</TABLE>
II-5
<PAGE>
INDEX TO EXHIBITS
<TABLE>
<CAPTION>
EXHIBIT SEQUENTIALLY
NO. DESCRIPTION NUMBERED PAGE
- --------- --------------------------------------------------------------------------------------- -------------------
<C> <S> <C>
1.1 Form of U.S. Underwriting Agreement....................................................
1.2 Form of International Underwriting Agreement...........................................
4.1 Form of Class A Common Stock Certificate of HSI (included as Exhibit 4.2 to HSI's
Registration Statements on Forms S-1 and S-4 (File nos. 33-72892 and 33-72892-01,
respectively which is incorporated by reference herein)...............................
4.2 Form of Class B Common Stock Certificate of HSI (included as Exhibit 4.3 to HSI's
Registration Statements on Forms S-1 and S-4 (File nos. 33-72892 and 33-72892-01,
respectively) which is incorporated by reference herein)..............................
4.3.1 Nonnegotiable Senior Secured Promissory Note in the original principal amount of
$150,000,000, dated January 28, 1992, made by Health Net in favor of The California
Wellness Foundation (filed as Exhibit 4.8 to HSI's Registration Statements on Forms
S-1 and S-4 (File nos. 33-72892 and 33-72892-01, respectively) which is incorporated
by reference herein)..................................................................
4.3.2 Nonnegotiable Subordinated Secured Promissory Note in the original principal amount of
$75,000,000, dated January 28, 1992, made by Health Net in favor of The California
Wellness Foundation (filed as Exhibit 4.9 to HSI's Registration Statements on Forms
S-1 and S-4 (File nos. 33-72892 and 33-72892-01, respectively) which is incorporated
by reference herein)..................................................................
4.3.3 Senior Security Agreement, dated January 28, 1992, between Health Net and The
California Wellness Foundation (filed as Exhibit 4.10 to HSI's Registration Statements
on Forms S-1 and S-4 (File nos. 33-72892 and 33-72892-01, respectively) which is
incorporated by reference herein).....................................................
4.3.4 Subordinated Security Agreement, dated January 28, 1992, between Health Net and The
California Wellness Foundation (filed as Exhibit 4.11 to HSI's Registration Statements
on Forms S-1 and S-4 (File nos. 33-72892 and 33-72892-01, respectively) which is
incorporated by reference herein).....................................................
4.3.5 Cash Pledge Agreement, dated January 28, 1992, by and between Health Net and The
California Wellness Foundation (filed as Exhibit 4.12 to HSI's Registration Statements
on Forms S-1 and S-4 (File nos. 33-72892 and 33-72892-01, respectively) which is
incorporated by reference herein).....................................................
4.3.6 Sinking Fund Agreement, dated as of January 28, 1992, by and between Health Net and The
California Wellness Foundation (filed as Exhibit 4.13 to HSI's Registration Statements
on Forms S-1 and S-4 (File nos. 33-72892 and 33-72892-01, respectively) which is
incorporated by reference herein).....................................................
4.3.7 Charitable Contribution Grant and Subordination Agreement, dated January 28, 1992,
between Health Net and The California Wellness Foundation (filed as Exhibit 4.14 to
HSI's Registration Statements on Forms S-1 and S-4 (File nos. 33-72892 and
33-72892-01, respectively) which is incorporated by reference herein).................
4.3.8 Guaranty Agreement, dated January 28, 1992, between Health Net and The California
Wellness Foundation (filed as Exhibit 4.15 to HSI's Registration Statements on Forms
S-1 and S-4 (File nos. 33-72892 and 33-72892-01, respectively) which is incorporated
by reference herein)..................................................................
5.1 Opinion of McDermott, Will & Emery.
23.1 Consent of McDermott, Will & Emery (included in Exhibit 5.1).
23.2 Consent of Ernst & Young LLP...........................................................
23.3 Consent of Deloitte & Touche LLP.......................................................
+24.1 Powers of attorney.....................................................................
27 Financial Data Schedule................................................................
</TABLE>
- ------------------------
+ Previously filed.
<PAGE>
6,664,964 SHARES
HEALTH SYSTEMS INTERNATIONAL, INC.
CLASS A COMMON STOCK
U.S. UNDERWRITING AGREEMENT
May 9, 1996
SMITH BARNEY INC.
DILLON, READ & CO., INC.
DEAN WITTER REYNOLDS INC.
SALOMON BROTHERS INC
ROBERTSON, STEPHENS & COMPANY LLC
VOLPE, WELTY & COMPANY
AS REPRESENTATIVES OF THE SEVERAL UNDERWRITERS
c/o SMITH BARNEY INC.
388 Greenwich Street
New York, New York 10013
Dear Sirs:
Health Systems International, Inc., a Delaware corporation (the
"Company"), proposes to issue and sell an aggregate of 2,555,499 shares of its
Class A Common Stock, par value $0.001 per share (the "Common Stock"), to the
several Underwriters named in Schedule II hereto (the "U.S. Underwriters"), and
The California Wellness Foundation as the selling stockholder (the "Selling
Stockholder") proposes to sell to the several U.S. Underwriters an aggregate of
4,109,464 shares of the Company's Class B Common Stock, par value $0.001 per
share, which upon sale to the several U.S. Underwriters is converted into Common
Stock (the "Class B Common Stock"). The 2,555,499 shares of Common Stock to
be issued and sold to the U.S. Underwriters by the Company and the 4,109,464
shares of Class B Common Stock to be sold to the U.S. Underwriters by the
Selling Stockholder are hereinafter referred to as the "Firm Shares." In
addition, solely for the purpose of covering over-allotments, the Selling
Stockholder proposes to sell to the U.S. Underwriters, upon the terms and
conditions set forth in Section 2 hereof, up to an additional 999,744 shares
of Class B Common Stock (the "Additional Shares"). The Firm Shares and the
Additional Shares are hereinafter collectively referred to as the "Shares." The
Company and the Selling Stockholder are hereinafter sometimes referred to as the
"Sellers."
<PAGE>
It is understood that the Company and the Selling Stockholder are
concurrently entering into an International Underwriting Agreement, dated the
date hereof (the "International Underwriting Agreement"), providing for the sale
of 1,666,240 shares of the Common Stock (the "Firm International Shares"), of
which 638,875 shares will be sold by the Company and 1,027,366 will be sold by
the Selling Stockholder (plus an option granted by the Selling Stockholder to
purchase up to an additional 249,936 shares of Common Stock (the "Additional
International Shares") solely for the purpose of covering over-allotments)
through arrangements with certain underwriters outside the United States and
Canada (the "Managers"), for whom Smith Barney Inc., Dillon, Read & Co. Inc.,
Dean Witter International Ltd., Robertson, Stephens & Company LLC, Salomon
Brothers International Limited and Volpe, Welty & Company are acting as lead
Managers (the "Lead Managers"). All shares of Common Stock proposed to be
offered to the Managers pursuant to the International Underwriting Agreement,
including the Firm International Shares and the Additional International Shares,
are herein called the "International Shares"; the International Shares and the
Shares, collectively, are herein called the "Underwritten Shares."
The Company and the Selling Stockholder also understand that the
Representatives and the Lead Managers have entered into an agreement (the
"Agreement Between U.S. Underwriters and Managers") contemplating the
coordination of certain transactions between the U.S. Underwriters and the
Managers and that, pursuant thereto and subject to the conditions set forth
therein, the U.S. Underwriters may purchase from the Managers a portion of the
International Shares or sell to the Managers a portion of the Shares. The
Company and the Selling Stockholder understand that any such purchases and sales
between the U.S. Underwriters and the Managers shall be governed by the
Agreement Between U.S. Underwriters and Managers and shall not be governed by
the terms of this Agreement or the International Underwriting Agreement.
The Sellers wish to confirm as follows their agreement with you (the
"Representatives") and the other several U.S. Underwriters on whose behalf you
are acting, in connection with the several purchases of the Shares by the U.S.
Underwriters.
1. REGISTRATION STATEMENT AND PROSPECTUS. The Company has prepared and
filed with the Securities and Exchange Commission (the "Commission") in
accordance with the provisions of the Securities Act of 1933, as amended, and
the rules and regulations of the Commission thereunder (collectively, the
"Act"), a registration statement on Form S-3 under the Act (the "registration
statement"), including prospectuses subject to completion, relating to the
Underwritten Shares. The term "Registration Statement" as used in this
Agreement means the registration statement (including all financial schedules
and exhibits), as amended at the time it becomes effective, and as thereafter
amended by post-effective amendment. If an additional registration statement is
prepared and filed with the Commission in accordance with Rule 462(b) under the
Act (an "Additional Registration Statement"), the term "Registration Statement"
as used in this Agreement includes the Additional Registration Statement. The
term "Prospectuses" as used in this Agreement means the prospectuses in the
forms included in the Registration Statement, or, if the prospectuses included
in the Registration Statement omit information in reliance on Rule 430A under
the Act and such information is included in the prospectuses filed with the
Commission pursuant to Rule 424(b) under the Act, the term "Prospectuses" as
used in this Agreement means the prospectuses in the forms included in the
Registration Statement as supplemented by the addition of the Rule 430A
information contained in the prospectuses filed with the Commission pursuant to
Rule 424(b). The term "Prepricing Prospectuses" as used in this Agreement means
the prospectuses subject to completion in the forms included in the Registration
Statement at the time of the initial filing of the Registration Statement with
the Commission, and as such prospectuses shall have been amended from time
-2-
<PAGE>
to time prior to the date of the Prospectuses. Any reference in this Agreement
to the registration statement, the Registration Statement, any Prepricing
Prospectus or the Prospectus shall be deemed to refer to and include the
documents incorporated by reference therein pursuant to Item 12 of Form S-3
under the Act, as of the date of the registration statement, the Registration
Statement, such Prepricing Prospectus or the Prospectus, as the case may be, and
any reference to any amendment or supplement to the registration statement, the
Registration Statement, any Prepricing Prospectus or the Prospectus shall be
deemed to refer to and include any documents filed after such date under the
Securities Exchange Act of 1934, as amended, and the rules and regulations of
the Commission thereunder (collectively, the "Exchange Act") which, upon filing,
are incorporated by reference therein, as required by paragraph (b) of Item 12
of Form S-3. As used herein, the term "Incorporated Documents" means the
documents which at the time are incorporated by reference in the registration
statement, the Registration Statement, any Prepricing Prospectus, the
Prospectus, or any amendment or supplement thereto.
It is understood that two forms of Prepricing Prospectus and two forms
of Prospectus are to be used in connection with the offering and sale of the
Underwritten Shares: a Prepricing Prospectus and a Prospectus relating to the
Shares that are to be offered and sold in the United States (as defined herein)
or Canada (as defined herein) to U.S. or Canadian Persons (the "U.S. Prepricing
Prospectus" and the "U.S. Prospectus," respectively), and a Prepricing
Prospectus and a Prospectus relating to the International Shares which are to be
offered and sold outside the United States or Canada to persons other than U.S.
or Canadian Persons (the "International Prepricing Prospectus" and the
"International Prospectus," respectively). The U.S. Prospectus and the
International Prospectus are herein collectively called the "Prospectuses," and
the U.S. Prepricing Prospectus and the International Prepricing Prospectus are
herein called the "Prepricing Prospectuses." For purposes of this Agreement:
"U.S. or Canadian Person" means any resident or national of the United States or
Canada, any corporation, partnership or other entity created or organized in or
under the laws of the United States or Canada or any estate or trust the income
of which is subject to United States or Canadian income taxation regardless of
the source of its income (other than the foreign branch of any U.S. or Canadian
Person), and includes any United States or Canadian branch of a person other
than a U.S. or Canadian Person; "United States" means the United States of
America (including the states thereof and the District of Columbia) and its
territories, its possessions and other areas subject to its jurisdiction; and
"Canada" means Canada and its territories, its possessions and other areas
subject to its jurisdiction.
2. AGREEMENTS TO SELL AND PURCHASE. Upon the basis of the
representations, warranties and agreements contained herein and subject to all
the terms and conditions set forth herein and to such adjustments as you may
determine to avoid fractional shares, the Company hereby agrees to issue and
sell to each U.S. Underwriter and each U.S. Underwriter agrees, severally and
not jointly, to purchase from the Company, at a purchase price of $ per
share (the "purchase price per share"), the number of Firm Shares that bears the
same proportion to the aggregate number of Firm Shares to be issued and sold by
the Company as the number of Firm Shares set forth opposite the name of such
Underwriter in Schedule II hereto (or such number of Firm Shares increased as
set forth in Section 12 hereof) bears to the aggregate number of Firm Shares to
be sold by the Company and the Selling Stockholder.
Upon the basis of the representations, warranties and agreements
contained herein and subject to all the terms and conditions set forth herein
and to such adjustments as you may determine to avoid fractional shares, the
Selling Stockholder agrees to sell to each U.S. Underwriter and each U.S.
Underwriter agrees, severally and not jointly, to purchase from the Selling
Stockholder, at the purchase price per share, the number of Firm Shares that
bears the same proportion to the number of Firm Shares
-3-
<PAGE>
set forth opposite the name of the Selling Stockholder in Schedule I hereto
as the number of Firm Shares set forth opposite the name of such U.S.
Underwriter in Schedule II hereto (or such number of Firm Shares increased as
set forth in Section 12 hereof) bears to the aggregate number of Firm Shares
to be sold by the Company and the Selling Stockholder.
Upon the basis of the representations, warranties and agreements contained
herein and subject to all the terms and conditions set forth herein, the Selling
Stockholder also agrees to sell to the U.S. Underwriters, and the U.S.
Underwriters shall have the right to purchase from the Selling Stockholder, at
the purchase price per share, pursuant to an option (the "over-allotment
option") which may be exercised prior to 5:00 p.m., New York City time, on the
30th day after the date of the U.S. Prospectus (or, if such 30th day shall be a
Saturday or Sunday or a holiday, on the next business day thereafter when the
New York Stock Exchange is open for trading), up to an aggregate of 1,200,000
Additional Shares from the Selling Stockholder. Upon any exercise of the
over-allotment option, each U.S. Underwriter, severally and not jointly, agrees
to purchase from the Selling Stockholder the number of Additional Shares
(subject to such adjustments as you may determine in order to avoid fractional
shares) that bears the same proportion to the number of Additional Shares to be
sold by the Selling Stockholder as the number of Firm Shares set forth opposite
the name of such U.S. Underwriter in Schedule II hereto (or such number of Firm
Shares increased as set forth in Section 12 hereof) bears to the aggregate
number of Firm Shares to be sold by the Selling Stockholder.
Each U.S Underwriter represents, warrants, covenants and agrees that,
except as contemplated under Section 2 of the Agreement Between U.S.
Underwriters and Managers dated the date hereof, (i) it is not purchasing any
Shares for the account of anyone other than a U.S. or Canadian Person, (ii) it
has not offered or sold, and will not offer, sell, resell or deliver, directly
or indirectly, any Shares or distribute any U.S. Prospectus outside the United
States or Canada or to anyone other than a U.S. or Canadian Person, and (iii)
any offer of Shares in Canada will be made only pursuant to an exemption from
the requirement to file a prospectus in the relevant province of Canada in which
such offer is made.
3. TERMS OF PUBLIC OFFERING. The Sellers have been advised by you that
the U.S. Underwriters propose to make a public offering of their respective
portions of the Shares as soon after the Registration Statement and this
Agreement have become effective as in your judgment is advisable and initially
to offer the Shares upon the terms set forth in the U.S. Prospectus.
4. DELIVERY OF THE SHARES AND PAYMENT THEREFOR. Delivery to the U.S.
Underwriters of and payment for the Firm Shares shall be made at the offices of
McDermott, Will & Emery, 227 West Monroe Street, Chicago, Illinois 60606, at
10:00 A.M., New York City time], on May 15, 1996 (the "Closing Date"). The
place of closing for the Firm Shares and the Closing Date may be varied by
agreement among you, the Company and the Selling Stockholder.
Delivery to the U.S. Underwriters of and payment for any Additional Shares
to be purchased by the U.S. Underwriters shall be made at the aforementioned
office of Smith Barney Inc. at such time on such date (the "Option Closing
Date"), which may be the same as the Closing Date but shall in no event be
earlier than the Closing Date nor earlier than two nor later than ten business
days after the giving of the notice hereinafter referred to, as shall be
specified in a written notice from you on behalf of the U.S. Underwriters to the
Selling Stockholder of the U.S. Underwriters' determination to purchase a
number, specified in such notice, of Additional Shares. The place of closing
for any Additional Shares and the Option Closing Date for such Shares may be
varied by agreement between you and the Selling Stockholder.
-4-
<PAGE>
Certificates for the Firm Shares and for any Additional Shares to be
purchased hereunder shall be registered in such names and in such denominations
as you shall request by written notice, it being understood that a facsimile
transmission shall be deemed written notice, prior to 9:30 A.M., New York City
time, on the second business day preceding the Closing Date or any Option
Closing Date, as the case may be. Such certificates shall be made available to
you in New York City for inspection and packaging not later than 9:30 A.M., New
York City time, on the business day next preceding the Closing Date or the
Option Closing Date, as the case may be. The certificates and stock powers
evidencing the Firm Shares and any Additional Shares to be purchased hereunder
shall be delivered to you on the Closing Date or the Option Closing Date, as the
case may be, against payment of the purchase price therefor in immediately
available funds.
5. AGREEMENTS OF THE COMPANY. The Company agrees with the several U.S.
Underwriters as follows:
(a) If, at the time this Agreement is executed and delivered, it is
necessary for the Registration Statement or a post-effective amendment thereto
or any Additional Registration Statement to be declared effective before the
offering of the Shares may commence, the Company will endeavor to cause the
Registration Statement or such post-effective amendment to become effective as
soon as possible and will advise you promptly and, if requested by you, will
confirm such advice in writing, when the Registration Statement or such
post-effective amendment or Additional Registration Statement has become
effective.
(b) The Company will advise you promptly and, if requested by you,
will confirm such advice in writing: (i) of any request by the Commission for
an amendment of or a supplement to the Registration Statement, any Prepricing
Prospectuses or the Prospectuses or for additional information; (ii) of the
issuance by the Commission of any stop order suspending the effectiveness of the
Registration Statement or of the suspension of qualification of the Shares for
offering or sale in any jurisdiction or the initiation of any proceeding for
such purpose; and (iii) within the period of time referred to in paragraph (f)
below, of any change in the Company's condition (financial or other), business,
prospects, properties, net worth or results of operations, or of the happening
of any event, including the filing of any information, documents or reports
pursuant to the Exchange Act, that makes any statement made in the Registration
Statement or the Prospectuses (as then amended or supplemented) untrue in any
material respect or which requires the making of any additions to or changes in
the Registration Statement or the Prospectuses (as then amended or supplemented)
in order to state a material fact required by the Act or the regulations
thereunder to be stated therein or necessary in order to make the statements
therein not misleading, or of the necessity to amend or supplement the
Prospectuses (as then amended or supplemented) to comply with the Act or any
other law. If at any time the Commission shall issue any stop order suspending
the effectiveness of the Registration Statement, the Company will make every
reasonable effort to obtain the withdrawal of such order at the earliest
possible time.
(c) The Company will furnish to you, without charge, (i) seven signed
copies of the Registration Statement as originally filed with the Commission and
of each amendment thereto, including financial statements and all exhibits to
the Registration Statement, and (ii) such number of conformed copies of the
Registration Statement as originally filed and of each amendment thereto, but
without exhibits, and the Incorporated Documents thereto as you may request.
-5-
<PAGE>
(d) The Company will not (i) file any amendment to the Registration
Statement or make any amendment or supplement to the Prospectuses or, prior to
the end of the period of time referred to in the first sentence in subsection
(f) below, file any document which, upon filing becomes an Incorporated
Document, of which you shall not previously have been advised or with respect to
which you shall not previously have been consulted or (ii) so long as, in the
opinion of counsel for the U.S. Underwriters, a prospectus is required to be
delivered in connection with sales by any U.S. Underwriter or dealer, file any
information, documents or reports pursuant to the Exchange Act, without
delivering a copy of such information, documents or reports to you, as
Representatives of the U.S. Underwriters, prior to or concurrently with such
filing.
(e) Prior to the execution and delivery of this Agreement, the
Company has delivered or will deliver to you, without charge, in such quantities
as you have reasonably requested or may hereafter request, copies of each U.S.
Prepricing Prospectus. The Company consents to the use, in accordance with the
provisions of the Act and with the securities or Blue Sky laws of the
jurisdictions in which the Shares are offered by the several U.S. Underwriters
and by dealers, prior to the date of the U.S. Prospectus, of each U.S.
Prepricing Prospectus so furnished by the Company.
(f) As soon after the execution and delivery of this Agreement as
possible and thereafter from time to time for such period as in the written
opinion of counsel for the U.S. Underwriters a U.S. Prospectus is required by
the Act to be delivered in connection with sales by any U.S. Underwriter or
dealer, the Company will expeditiously deliver to each U.S. Underwriter and each
dealer, without charge, as many copies of the U.S. Prospectus (and of any
amendment or supplement thereto) as you may reasonably request. The Company
consents to the use of the U.S. Prospectus (and of any amendment or supplement
thereto) in accordance with the provisions of the Act and with the securities or
Blue Sky laws of the jurisdictions in which the Shares are offered by the
several U.S. Underwriters and by all dealers to whom Shares may be sold, both in
connection with the offering and sale of the Shares and for such period of time
thereafter as the U.S. Prospectus is required by the Act to be delivered in
connection with sales by any U.S. Underwriter or dealer. If during such period
of time any event shall occur that in the judgment of the Company or in the
opinion of counsel for the U.S. Underwriters is required to be set forth in the
U.S. Prospectus (as then amended or supplemented) or should be set forth therein
in order to make the statements therein, in the light of the circumstances under
which they were made, not misleading, or if it is necessary to supplement or
amend the U.S. Prospectus (or to file under the Exchange Act any document which,
upon filing, becomes an Incorporated Document) to comply with the Act, the
Exchange Act or any other law, the Company will forthwith prepare and, subject
to the provisions of paragraph (d) above, file with the Commission an
appropriate supplement or amendment thereto or such document, and will
expeditiously furnish to the U.S. Underwriters and dealers a reasonable number
of copies thereof. In the event that the Company and you, as Representatives of
the several U.S. Underwriters, agree that either of the Prospectuses should be
amended or supplemented, or that a document should be filed under the Exchange
Act which upon filing becomes an Incorporated Document, the Company, if
requested by you, will promptly issue a press release announcing or disclosing
the matters to be covered by the proposed amendment or supplement or such
document.
(g) The Company will cooperate with you and with counsel for the U.S.
Underwriters in connection with the registration or qualification of the Shares
for offering and sale by the several U.S. Underwriters and by dealers under the
securities or Blue Sky laws of such jurisdictions as you may designate and will
file such consents to service of process or other documents necessary or
appropriate in order to effect such registration or qualification; provided that
in no event shall the Company be obligated
-6-
<PAGE>
to qualify to do business in any jurisdiction where it is not now so qualified
or to take any action that would subject it to service of process in suits,
other than those arising out of the offering or sale of the Shares, in any
jurisdiction where it is not now so subject.
(h) The Company will make generally available to its security holders
a consolidated earnings statement, which need not be audited, covering a
twelve-month period commencing after the effective date of the Registration
Statement and ending not later than 15 months thereafter, as soon as practicable
after the end of such period, which consolidated earnings statement shall
satisfy the provisions of Section 11(a) of the Act.
(i) During the period of five years hereafter, the Company will
furnish to you (i) as soon as available, a copy of each report of the Company
mailed to stockholders or filed with the Commission or the New York Stock
Exchange, and (ii) from time to time such other information concerning the
Company as you may request.
(j) If this Agreement shall terminate or shall be terminated after
execution pursuant to any provisions hereof (otherwise than pursuant to the
second paragraph of Section 12 hereof or by notice given by you terminating this
Agreement pursuant to Section 12 or Section 13 hereof) or if this Agreement
shall be terminated by the U.S. Underwriters because of any failure or refusal
on the part of the Company or the Selling Stockholder to comply with the terms
or fulfill any of the conditions of this Agreement, the Company agrees to
reimburse the Representatives for all out-of-pocket expenses (including fees and
expenses of counsel for the U.S. Underwriters) incurred by you in connection
herewith.
(k) The Company will apply the net proceeds from the sale of the
Shares to be sold by it hereunder substantially in accordance with the
description set forth in the Prospectuses under the caption "Use of Proceeds. "
(l) If Rule 430A of the Act is employed or if Rule 424(b) is
otherwise applicable, the Company will timely file the Prospectuses pursuant to
Rule 424(b) under the Act and will advise you of the time and manner of such
filing.
(m) For a period of 90 days after the date hereof (the "Lock-up
Period"), the Company will not, without the prior written consent of Smith
Barney Inc., offer, sell, contract to sell or otherwise dispose of any Common
Stock or Class B Common Stock (or any securities convertible into or exercisable
or exchangeable for Common Stock or Class B Common Stock), except (i) for sales
to the U.S. Underwriters pursuant to this Agreement and the Managers pursuant to
the International Underwriting Agreement, (ii) the issuance of Class A Common
Stock by the Company pursuant to acquisitions, mergers or other similar
transactions, and (iii) the issuance of shares by the Company pursuant to
employee and non-employee director stock options and the issuance or granting of
shares or options by the Company pursuant to employee benefit, stock option,
employee stock purchase and compensation plans of the Company.
(n) The Company has furnished or will furnish to you "lock-up"
letters, in form and substance satisfactory to you, signed by each of its
current executive officers and directors and each of its stockholders designated
by you.
-7-
<PAGE>
(o) Except as stated in this Agreement and in the International
Underwriting Agreement and in the Prepricing Prospectuses and the Prospectuses,
the Company has not taken, nor will it take, directly or indirectly, any action
designed to or that might reasonably be expected to cause or result in
stabilization or manipulation of the price of the Common Stock to facilitate the
sale or resale of the Shares.
(p) The Company will use its best efforts to have the Shares listed,
subject to notice of issuance, on the New York Stock Exchange prior to or
concurrently with the effectiveness of the registration statement.
(q) The Company will use its best efforts to satisfy on or before the
Closing Date all conditions to the U.S. Underwriters' obligations to purchase
the Shares.
6. AGREEMENTS OF THE SELLING STOCKHOLDER. The Selling Stockholder agrees
with the several U.S. Underwriters as follows:
(a) The Selling Stockholder will cooperate to the extent necessary to
cause the registration statement or any post-effective amendment thereto to
become effective at the earliest possible time.
(b) The Selling Stockholder will pay all federal and other taxes, if
any, on the transfer or sale of any Shares that are sold by the Selling
Stockholder to the U.S. Underwriters.
(c) The Selling Stockholder will do or perform all things required to
be done or performed by the Selling Stockholder prior to the Closing Date or any
Option Closing Date, as the case may be, to satisfy all conditions precedent to
the delivery of the Shares by the Selling Stockholder pursuant to this
Agreement.
(d) The Selling Stockholder has executed or will execute a "lock-up"
letter as provided in Section 5(n) above and will not offer, sell, contract to
sell or otherwise dispose of any Common Stock or Class B Common Stock or any
securities convertible into, or exercisable for Common Stock or Class B Common
Stock, except for the sale of Shares to the U.S. Underwriters pursuant to this
Agreement and the Managers pursuant to the International Underwriting Agreement,
prior to the expiration of 90 days after the date of the Prospectus, without the
prior written consent of Smith Barney Inc.
(e) Except as stated in this Agreement and the International
Underwriting Agreement and in the Prepricing Prospectuses and the Prospectuses,
the Selling Stockholder has not taken, nor will it take, directly or indirectly,
any action designed to or that might reasonably be expected to cause or result
in stabilization or manipulation of the price of the Common Stock to facilitate
the sale or resale of the Shares.
7. REPRESENTATIONS AND WARRANTIES OF THE COMPANY. The Company represents
and warrants to each U.S Underwriter that:
(a) Each U.S. Prepricing Prospectus included as part of the
registration statement as originally filed or as part of any amendment or
supplement thereto, or filed pursuant to Rule 424 under
-8-
<PAGE>
the Act, complied when so filed in all material respects with the provisions of
the Act; except that this representation and warranty does not apply to
statements in or omissions from such U.S. Prepricing Prospectus (or any
amendment or supplement thereto) made in reliance upon and in conformity with
information relating to and furnished by any U.S. Underwriter or Manager to the
Company in writing by a U.S. Underwriter through the Representatives or by a
Manager through the Lead Managers through you expressly for use therein. The
Commission has not issued any order preventing or suspending the use of any
Prepricing Prospectus.
(b) The Company meets the requirements for the use of Form S-3 under
the Act. The Registration Statement in the form in which it became or becomes
effective and also in such form as it may be when any post-effective amendment
thereto or Additional Registration Statement shall become effective and the
Prospectuses and any supplement or amendment thereto when filed with the
Commission under Rule 424(b) under the Act, complied or will comply in all
material respects with the provisions of the Act at the respective effective
dates of the Registration Statement or any post-effective amendment thereto or
Additional Registration Statement and at the respective dates of the
Prospectuses and any supplement or amendment thereto. The Registration
Statement and any post-effective amendment or Additional Registration Statement,
at the respective effective dates thereof, did not and will not contain any
untrue statement of a material fact or omit to state a material fact required to
be stated therein or necessary to make the statements therein not misleading.
The Prospectuses and any amendment or supplement thereto, at the respective
dates thereof, did not and will not contain any untrue statement of a material
fact or omit to state a material fact required to be stated therein or necessary
in order to make the statements therein, in light of the circumstances under
which they were made, not misleading; except that this representation and
warranty does not apply to statements in or omissions from the Registration
Statement or the Prospectuses made in reliance upon and in conformity with
information relating to any U.S. Underwriter or Manager and furnished to the
Company in writing by a U.S. Underwriter through the Representatives or by a
Manager through the Lead Managers expressly for use therein.
(c) The Incorporated Documents heretofore filed were filed in a
timely manner with the Commission, and when they were filed (or, if any
amendment with respect to any such document was filed, when such amendment was
filed) conformed in all material respects to the requirements of the Exchange
Act and did not contain any untrue statement of a material fact or omit to state
a material fact required to be stated therein or necessary to make the
statements therein, in light of the circumstances under which they were made,
not misleading; and any further Incorporated Documents will, when so filed, be
filed in a timely manner and conform in all material respects to the
requirements of the Exchange Act and will not contain an untrue statement of a
material fact or omit to state a material fact required to be stated therein or
necessary to make the statements therein not misleading.
(d) All the outstanding shares of Common Stock of the Company and
(except as expressly disclosed in the Registration Statement, the Prepricing
Prospectus, the Prospectus, or any amendment or supplement thereto) all the
outstanding shares of Class B Common Stock have been duly authorized and validly
issued, are fully paid and nonassessable and are free of any preemptive or
similar rights; the Shares to be issued and sold by the Company have been duly
authorized and, when issued and delivered to the U.S. Underwriters against
payment therefor in accordance with the terms hereof, will be validly issued,
fully paid and nonassessable and free of any preemptive or similar rights; and
the capital stock of the Company conforms in all material respects to the
description thereof in the Registration Statement and the Prospectuses.
-9-
<PAGE>
(e) The Company is a corporation duly organized and validly existing
in good standing under the laws of the State of Delaware with full corporate
power and authority to own, lease and operate its properties and to conduct its
business as described in the Registration Statement and the Prospectuses, and is
duly registered and qualified to conduct its business and is in good standing in
each jurisdiction where the nature of its properties or the conduct of its
business requires such registration or qualification, except where the failure
so to register or qualify does not have a material adverse effect on the
condition (financial or other), business, prospects, properties, net worth or
results of operations of the Company and the Subsidiaries (as hereinafter
defined) taken as a whole (a "Material Adverse Effect").
(f) All the Company's subsidiaries (collectively, the "Subsidiaries")
are listed in an exhibit to the Company's Annual Report on Form 10-K which is
incorporated by reference into the Registration Statement. Each Subsidiary is a
corporation duly organized, validly existing and in good standing in the
jurisdiction of its incorporation, with full corporate power and authority to
own, lease and operate its properties and to conduct its business to the extent
so described in the Registration Statement and the Prospectus, and is duly
registered and qualified to conduct its business and is in good standing in each
jurisdiction or place where the nature of its properties or the conduct of its
business requires such registration or qualification, except where the failure
so to register or qualify does not have a material adverse effect on the
condition (financial or otherwise), business, properties, prospects, net worth
or results of operations of such Subsidiary; all the outstanding shares of
capital stock of each of the Subsidiaries have been duly authorized and validly
issued, are fully paid and nonassessable, and are owned by the Company directly,
or indirectly through one of the other Subsidiaries, free and clear of any lien,
adverse claim, security interest, equity or other encumbrance.
(g) There are no legal or governmental actions, suits, claims,
proceedings or investigations pending or, to the knowledge of the Company,
threatened, against the Company or any of the Subsidiaries or against or
involving any of its officers, directors or employees in connection with the
business or affairs of the Company, including, without limitation, any claims
for indemnification arising under any agreement to which the Company is a party,
or to which the Company or any of the Subsidiaries or any of their respective
properties, is subject which could have a Material Adverse Effect (including,
without limitation, any proceeding to revoke or deny renewal of any Permits (as
defined herein) of the Company or any of the Subsidiaries), that are required to
be described in the Registration Statement or the Prospectuses but are not
described as required, and there are no agreements, contracts, indentures,
leases or other instruments relating to the Company that are required to be
described in the Registration Statement or the Prospectuses or to be filed as an
exhibit to the Registration Statement or any Incorporated Document that are not
described or filed as required by the Act or the Exchange Act. Any descriptions
of the terms of any such contracts or documents contained in the Registration
Statement or the Prospectuses are correct in all material respects. The
Company is not subject to or in default with respect to any writ, order,
judgment, injunction or decree which could have a Material Adverse Effect.
(h) Neither the Company nor any of the Subsidiaries is in (i)
violation of its certificate or articles of incorporation or by-laws, or other
organizational documents, (ii) in violation of any law, ordinance,
administrative or governmental rule or regulation applicable to the Company or
any of the Subsidiaries or of any decree of any court or governmental agency or
body having jurisdiction over the Company or any of the Subsidiaries (except
where any such violation or violations in the aggregate would not have a
Material Adverse Effect), or (iii) in default in any material respect in the
performance of any obligation, agreement or condition contained in any bond,
debenture, note or any other evidence of indebtedness or in any material
agreement, indenture, lease or other instrument to which the Company or
-10-
<PAGE>
any of the Subsidiaries is a party or by which any of them or any of their
respective properties may be bound, and no condition or state of facts exists,
which with the passage of time or the giving of notice or both, would constitute
such a default (except where any such default or defaults in the aggregate would
not have a Material Adverse Effect).
(i) Neither the issuance, offer, sale or delivery of the Shares, the
execution, delivery or performance of this Agreement or the International
Underwriting Agreement by the Company nor the consummation by the Company of the
transactions contemplated hereby and thereby (i) requires any consent, approval,
authorization or other order of or registration or filing with, any court,
regulatory body, administrative agency or other governmental body, agency or
official (except such as may be required for the registration of the Shares
under the Act and compliance with the securities or Blue Sky laws of various
jurisdictions, all of which have been or will be effected in accordance with
this Agreement) or conflicts or will conflict with or constitutes or will
constitute a breach of, or a default under, the certificate or articles of
incorporation or bylaws, or other organizational documents, of the Company or
any of the Subsidiaries, (ii) conflicts or will conflict with or constitutes or
will constitute a breach of, or a default under, any agreement, indenture, lease
or other instrument to which the Company or any of the Subsidiaries is a party
or by which any of them or any of their respective properties may be bound, or
violates or will violate any statute, law, regulation or filing or judgment,
injunction, order or decree applicable to the Company or any of the Subsidiaries
or any of their respective properties, except any such conflict, breach, default
or violation which could not have a Material Adverse Effect, or (iii) will
result in the creation or imposition of any lien, charge or encumbrance upon any
property or assets of the Company or any of the Subsidiaries pursuant to the
terms of any agreement or instrument to which any of them is a party or by which
any of them may be bound or to which any of the property or assets of any of
them is subject other than security interests granted pursuant to the Credit
Agreement, except for any such lien, charge or encumbrance that would not have a
Material Adverse Effect.
(j) The accountants, Deloitte & Touche LLP, who have certified or
shall certify the financial statements included or incorporated by reference
into the Registration Statement or the Prospectuses (or any amendment or
supplement thereto) are independent public accountants as required by the Act.
(k) The financial statements, together with related schedules and
notes, included or incorporated by reference into the Registration Statement and
the Prospectuses (and any amendment or supplement thereto), present fairly the
consolidated financial position, results of operations, cash flows and changes
in stockholders' equity of the Company and the Subsidiaries on the basis stated
in the Registration Statement at the respective dates or for the respective
periods to which they apply; such statements and related schedules and notes
have been prepared in accordance with generally accepted accounting principles
consistently applied throughout the periods involved, except as disclosed
therein; and the other financial and statistical information and data included
or incorporated by reference into the Registration Statement and the
Prospectuses (and any amendment or supplement thereto) are accurately presented
and prepared on a basis consistent with the books and records of the Company and
its Subsidiaries. The pro forma financial statements and other pro forma
financial information (including the notes thereto) included in or incorporated
by reference into the Registration Statement and the Prospectuses present fairly
the information shown therein, have been prepared in accordance with applicable
requirements of the Act (including Article 11 of Regulation S-X), have been
prepared in accordance with the Commission's rules and guidelines with respect
to pro forma financial statements and have been properly computed on the basis
described therein. The assumptions used in preparation of the pro forma
financial statements and other pro
-11-
<PAGE>
forma financial information included in or incorporated by reference into the
Registration Statement and the Prospectuses are reasonable, and the
adjustments used therein are reasonably appropriate to give effect to the
transactions or circumstances referred to therein.
(l) The execution and delivery of, and the performance by the Company
of its obligations under, each of this Agreement and the International
Underwriting Agreement have been duly and validly authorized by the Company, and
each of this Agreement and the International Underwriting Agreement has been
duly executed and delivered by the Company and constitutes the valid and legally
binding agreement of the Company, enforceable against the Company in accordance
with its terms, except (i) the enforceability hereof or thereof may be limited
by bankruptcy, insolvency, reorganization, moratorium or other similar laws now
or hereafter in effect relating to creditors' rights generally, (ii) the remedy
of specific performance and other forms of equitable relief may be subject to
certain equitable defenses and to the discretion of the court before which the
proceedings may be brought and (iii) rights to indemnity and contribution
hereunder or thereunder may be limited by federal or state securities laws or
the public policy underlying such laws.
(m) Except as disclosed in the Registration Statement and the
Prospectuses (or any amendment or supplement thereto), subsequent to the
respective dates as of which such information is given in the Registration
Statement and the Prospectuses (or any amendment or supplement thereto), neither
the Company nor any of the Subsidiaries has incurred any liability or
obligation, direct or contingent, or entered into any transaction, not in the
ordinary course of business, that could result in a Material Adverse Effect, and
there has not been any change in the capital stock of the Company (other than
the issuance of Common Stock upon exercise of options under the Company's stock
option plans described in the Prospectus), or material increase in the
short-term debt or long-term debt, of the Company or any of the Subsidiaries, or
any development having or which may reasonably be expected to have, a Material
Adverse Effect.
(n) Each of the Company and the Subsidiaries has good and marketable
title to all property (real and personal) described in the Prospectuses as being
owned by it, free and clear of all liens, claims, security interests or other
encumbrances except such as are described in the Registration Statement and the
Prospectuses or in a document filed as an exhibit to the Registration Statement
and all the property described in the Prospectuses as being held under lease by
each of the Company and the Subsidiaries is held by it under valid, subsisting
and enforceable leases with only such exceptions as in the aggregate are not
materially burdensome and do not interfere in any material respect with the
conduct of the business of the Company and the Subsidiaries, taken as a whole.
(o) The Company has not distributed and, prior to the later to occur
of (i) the Closing Date or the Option Closing Date, if any, and (ii) completion
of the distribution of the Shares, will not distribute any offering material in
connection with the offering and sale of the Shares other than the Registration
Statement, the Prepricing Prospectuses, the Prospectuses or other materials, if
any, permitted by the Act.
(p) The Company and each of the Subsidiaries has such permits,
licenses, franchises and authorizations of governmental or regulatory
authorities ("Permits") as are necessary to own its respective properties and to
conduct its business in the manner described in the Prospectuses, including,
without limitation, such Permits as are required (x) under such federal and
state health care laws as are applicable to the Company or any of the
Subsidiaries or any of their respective businesses, (y) with respect
-12-
<PAGE>
to those facilities that are owned, or leased or managed by the Company or any
Subsidiary that participate in Medicare and/or Medicaid, to receive
reimbursement thereunder, and (z) under such insurance laws and regulations
which are applicable to the Company or any of the Subsidiaries, except where the
failure to have any such Permit would not have a Material Adverse Effect and
subject to such qualifications as may be set forth in the Prospectuses; the
Company and each of the Subsidiaries has fulfilled and performed all its
material obligations with respect to such Permits and no event has occurred that
allows, or after notice or lapse of time would allow, revocation or termination
thereof or results in any other material impairment of the rights of the holder
of any such Permit, subject in each case to such qualification as may be set
forth in the Prospectuses; and, except as described in the Prospectuses, none of
such Permits contains any restriction that is materially burdensome to the
Company or any of the Subsidiaries.
(q) The Company maintains a system of internal accounting controls
sufficient to provide reasonable assurances that (i) transactions are executed
in accordance with management's general or specific authorization; (ii)
transactions are recorded as necessary to permit preparation of financial
statements in conformity with generally accepted accounting principles and to
maintain accountability for assets; (iii) access to assets is permitted only in
accordance with management's general or specific authorization; and (iv) the
recorded accountability for assets is compared with existing assets at
reasonable intervals and appropriate action is taken with respect to any
differences.
(r) To the Company's knowledge, neither the Company nor any of its
Subsidiaries nor any employee or agent of the Company or any Subsidiary has made
any payment of funds of the Company or any Subsidiary or received or retained
any funds in violation of any law, rule or regulation, which payment, receipt or
retention of funds is of a character required to be disclosed in the
Prospectuses.
(s) The Company and each of the Subsidiaries have filed all material
tax returns required to be filed, which returns are true and correct in all
material respects, and neither the Company nor any Subsidiary is in material
default in the payment of any taxes which were payable pursuant to said returns
or any assessments with respect thereto.
(t) Except as described in the Prospectuses, no holder of any
security of the Company has any right to require registration of shares of
Common Stock or any other security of the Company because of the filing of the
registration statement, the Registration Statement or consummation of the
transactions contemplated by this Agreement or the International Underwriting
Agreement, or otherwise. No such rights with respect to shares of Common Stock
not listed in Schedule I or Schedule II hereto were exercised nor will be
exercised in connection with the sale of the Shares and for a period of 90 days
after the date hereof. Except as described in or contemplated by the
Prospectuses, there are no outstanding options, warrants or other rights calling
for the issuance of, and there are no commitments, plans or arrangements to
issue, any shares of Common Stock of the Company or any security convertible
into or exchangeable or exercisable for Common Stock of the Company, other than
the issuance of Common Stock upon exercise of options under the Company's stock
option plans described in the Prospectus.
(u) The property, assets and operations of each of the Company and
the Subsidiaries comply in all material respects with all applicable federal,
state or local laws, rules, orders, decrees, judgments, injunctions, licenses,
permits or regulations relating to environmental matters (the "Environmental
Laws"), except to the extent that failure to comply with such Environmental Laws
would not have a Material Adverse Effect. To the best of the Company's
knowledge, none of the Company's nor any of the Subsidiaries' property, assets
or operations is the subject of any federal, state or local
-13-
<PAGE>
investigation evaluating whether any remedial action is needed to respond to a
release into the environment of any substance regulated by, or form the basis of
liability under, any Environmental Laws (a "Hazardous Material") or is in
contravention of any federal, state, local or foreign law, order or regulation
that would have a Material Adverse Effect. Neither the Company nor any of the
Subsidiaries has received any notice or claim, nor are there pending threatened
or reasonably anticipated lawsuits against it with respect to violations of an
Environmental Law or in connection with the release or threatened release of any
Hazardous Material into the environment. To the best of the Company's
knowledge, neither the Company nor any of the Subsidiaries has any material
contingent liability in connection with any release or threatened release of
Hazardous Material into the environment.
(v) The Company and the Subsidiaries maintain insurance of the types
and in amounts generally deemed adequate for its business and consistent with
insurance coverage maintained by similar companies and businesses, all of which
insurance is in full force and effect, except where the failure to maintain such
insurance could not have a Material Adverse Effect.
(w) The Company and the Subsidiaries own or possess all patents,
trademarks, trademark registration, service marks, service mark registrations,
trade names, copyrights, licenses, inventions, trade secrets and rights
described in the Prospectuses as being owned by them or any of them or necessary
for the conduct of their respective businesses except where the lack of such
ownership or possession would not have a Material Adverse Effect, and the
Company is not aware of any claim to the contrary or any challenge by any other
person to the rights of the Company or any of the Subsidiaries with respect to
the foregoing.
(x) The Company is not and, upon sale of the Shares to be issued and
sold in accordance herewith and upon application of the net proceeds to the
Company from such sale as described in the Prospectuses under the caption "Use
of Proceeds," will not be an "investment company" or a person "controlled" by an
"investment company" within the meaning of the Investment Company Act of 1940,
as amended.
(y) Neither the Company nor its Subsidiaries does business with the
government of Cuba or with any person or affiliate located in Cuba.
(z) The Common Stock has been registered under the Exchange Act in
accordance with the rules and regulations thereunder.
(aa) The Shares have been approved for listing, subject to notice of
issuance, on the NYSE.
8. REPRESENTATIONS AND WARRANTIES OF THE SELLING STOCKHOLDER. The
Selling Stockholder represents and warrants to each Underwriter that:
(a) The Selling Stockholder now has, and on the Closing Date and any
Option Closing Date will have, valid and marketable title to the Shares to be
sold by the Selling Stockholder, free and clear of any lien, claim, security
interest or other encumbrance, including, without limitation, any restriction on
transfer, except as otherwise described in the Prospectuses.
-14-
<PAGE>
(b) The Selling Stockholder now has, and on the Closing Date and any
Option Closing Date will have, full legal right, power and authorization, and
any approval required by law, to sell, assign, transfer and deliver such Shares
in the manner provided in this Agreement and the International Underwriting
Agreement, and upon delivery of and payment for such Shares hereunder, the
several U.S. Underwriters will acquire valid and marketable title to such Shares
free and clear of any lien, claim, security interest, or other encumbrance.
(c) This Agreement and the International Underwriting Agreement have
been duly authorized, executed and delivered by or on behalf of the Selling
Stockholder and are the valid and binding agreements of the Selling Stockholder
enforceable against the Selling Stockholder in accordance with their terms,
except that (i) the enforceability hereof or thereof may be limited by
bankruptcy, insolvency, reorganization, moratorium or other similar laws now or
hereafter in effect relating to creditors' rights generally, (ii) the remedy of
specific performance and other forms of equitable relief may be subject to
certain equitable defenses and to the discretion of the court before which the
proceedings may be brought and (iii) rights to indemnity and contribution
hereunder or thereunder may be limited by federal or state securities laws or
the public policy underlying such laws.
(d) Neither the sale of the Shares, the execution, delivery or
performance of this Agreement or the International Underwriting Agreement by or
on behalf of the Selling Stockholder nor the consummation by or on behalf of the
Selling Stockholder of the transactions contemplated hereby and thereby (i)
requires any consent, approval, authorization or other order of, or registration
or filing with, any court, regulatory body, administrative agency or other
governmental body, agency or official (except such as may be required for the
registration of the Shares under the Act or compliance with the securities or
Blue Sky laws of various jurisdictions or except as already obtained), or (ii)
conflicts or will conflict with or constitutes or will constitute a breach of,
or a default under, any agreement, indenture, lease or other instrument to which
the Selling Stockholder is a party or by which the Selling Stockholder is or may
be bound, or violates or will violate any statute, law, regulation or filing or
judgment, injunction, order or decree applicable to the Selling Stockholder, or
will result in the creation or imposition of any lien, charge or encumbrance
upon any property or assets of the Selling Stockholder pursuant to the terms of
any agreement or instrument to which the Selling Stockholder is a party or by
which the Selling Stockholder may be bound or to which any of the property or
assets of the Selling Stockholder is subject.
(e) The information pertaining to the Selling Stockholder provided to
the Company for inclusion under the caption "Principal and Selling Stockholders"
in the Prospectuses, does not and will not contain an untrue statement of a
material fact or omit to state any material fact required to be stated therein
or necessary to make the statements therein not misleading.
(f) The Selling Stockholder has not taken, directly or indirectly,
any action designed to or that might reasonably be expected to cause or result
in stabilization or manipulation of the price of the Common Stock to facilitate
the sale or resale of the Shares, except for the lock-up arrangements referred
to in the Prospectuses.
(g) The Selling Stockholder does not have any knowledge or any reason
to believe that the Registration Statement or the Prospectuses (or any amendment
or supplement thereto) contains any untrue statement of a material fact or omits
to state any material fact required to be stated therein or necessary to make
the statements therein not misleading.
-15-
<PAGE>
9. INDEMNIFICATION AND CONTRIBUTION. (a) The Company and the Selling
Stockholder, jointly and severally, agree to indemnify and hold harmless you and
each other U.S. Underwriter and each person, if any, who controls any U.S.
Underwriter within the meaning of Section 15 of the Act or Section 20(a) of the
Exchange Act from and against any and all losses, claims, damages, liabilities
and expenses (including reasonable costs of investigation) arising out of or
based upon any untrue statement or alleged untrue statement of a material fact
contained in any U.S. Prepricing Prospectus or in the Registration Statement or
the U.S. Prospectus or in any amendment or supplement thereto, or arising out of
or based upon any omission or alleged omission to state therein a material fact
required to be stated therein or necessary to make the statements therein not
misleading, except insofar as such losses, claims, damages, liabilities or
expenses arise out of or are based upon any untrue statement or omission or
alleged untrue statement or omission which has been made therein or omitted
therefrom in reliance upon and in conformity with the information relating to
such U.S. Underwriter or Manager furnished in writing to the Company by or on
behalf of any U.S. Underwriter through you as Representatives of the several
U.S. Underwriters or by or on behalf of any Manager through a Lead Manager
expressly for use in connection therewith; provided, that with respect to the
Selling Stockholder, only to the extent that any such loss, liability, claim,
damage or expense arises out of or is based upon any untrue statement or alleged
untrue statement or an omission or alleged omission made therein in reliance
upon and in conformity with written information relating to the Selling
Stockholder furnished to the Company or the U.S. Underwriters by the Selling
Stockholder expressly for use in any Prepricing Prospectus or in the
Registration Statement or the U.S. Prospectus or in any amendment or supplement
thereto; provided, further, however, that the indemnification contained in this
paragraph (a) with respect to any U.S. Prepricing Prospectus shall not inure to
the benefit of any U.S. Underwriter (or to the benefit of any person controlling
such U.S. Underwriter) on account of any such loss, claim, damage, liability or
expense arising from the sale of the Shares by such U.S. Underwriter to any
person if a copy of the U.S. Prospectus shall not have been delivered or sent to
such person within the time required by the Act and the regulations thereunder,
and the untrue statement or alleged untrue statement or omission or alleged
omission of a material fact contained in such U.S. Prepricing Prospectus was
corrected in the U.S. Prospectus, provided that the Company has delivered the
U.S. Prospectus to the several U.S. Underwriters in a reasonable quantity on a
timely basis to permit such delivery or sending. The foregoing indemnity
agreement shall be in addition to any liability which the Company or the Selling
Stockholder may otherwise have.
(b) If any action, suit or proceeding shall be brought against any
U.S. Underwriter or any person controlling any U.S. Underwriter in respect of
which indemnity may be sought against the Company or the Selling Stockholder,
such U.S. Underwriter or such controlling person shall promptly notify the
parties against whom indemnification is being sought (the "indemnifying
parties"), and such indemnifying parties shall assume the defense thereof,
including the employment of counsel and payment of all fees and expenses. Such
U.S. Underwriter or any such controlling person shall have the right to employ
separate counsel in any such action, suit or proceeding and to participate in
the defense thereof, but the fees and expenses of such counsel shall be at the
expense of such U.S. Underwriter or such controlling person unless (i) the
indemnifying parties have agreed in writing to pay such fees and expenses, (ii)
the indemnifying parties have failed to assume the defense and employ counsel,
or (iii) the named parties to any such action, suit or proceeding (including any
impleaded parties) include both such U.S. Underwriter or such controlling person
and the indemnifying parties and such U.S. Underwriter or such controlling
person shall have been advised by its counsel in writing that representation of
such indemnified party and any indemnifying party by the same counsel would be
inappropriate under applicable standards of professional conduct (whether or not
such representation by the same counsel has been proposed) due to actual or
potential differing interests between them (in which case the indemnifying party
shall not have
-16-
<PAGE>
the right to assume the defense of such action, suit or proceeding on behalf of
such U.S. Underwriter or such controlling person). It is understood, however,
that the indemnifying parties shall, in connection with any one such action,
suit or proceeding or separate but substantially similar or related actions,
suits or proceedings in the same jurisdiction arising out of the same general
allegations or circumstances, be liable for the reasonable fees and expenses of
only one separate firm of attorneys (in addition to any local counsel) at any
time for all such U.S. Underwriters and controlling persons not having actual or
potential differing interests with you or among themselves, which firm shall be
designated in writing by Smith Barney Inc., and that all such fees and expenses
shall be reimbursed as they are incurred. The indemnifying parties shall not be
liable for any settlement of any such action, suit or proceeding effected
without their written consent, but if settled with such written consent, or if
there be a final judgment for the plaintiff in any such action, suit or
proceeding, the indemnifying parties agree to indemnify and hold harmless any
U.S. Underwriter, to the extent provided in the preceding paragraph, and any
such controlling person from and against any loss, claim, damage, liability or
expense by reason of such settlement or judgment.
(c) Each U.S. Underwriter agrees, severally and not jointly, to
indemnify and hold harmless the Company, its directors, its officers who sign
the Registration Statement, any person who controls the Company within the
meaning of Section 15 of the Act or Section 20(a) of the Exchange Act and the
Selling Stockholder, to the same extent as the foregoing indemnity from the
Company and the Selling Stockholder to each U.S. Underwriter, but only with
respect to information relating to such U.S. Underwriter furnished in writing by
or on behalf of such U.S. Underwriter through you expressly for use in the
Registration Statement, the U.S. Prospectus or any U.S. Prepricing Prospectus,
or any amendment or supplement thereto. If any action, suit or proceeding shall
be brought against the Company, any of its directors, any such officer, any such
controlling person or the Selling Stockholder based on the Registration
Statement, the U.S. Prospectus or any U.S. Prepricing Prospectus, or any
amendment or supplement thereto, and in respect of which indemnity may be sought
against any U.S. Underwriter pursuant to this paragraph (c), such U.S.
Underwriter shall have the rights and duties given to the Company and the
Selling Stockholder by paragraph (b) above (except that if the Company or the
Selling Stockholder shall have assumed the defense thereof such U.S. Underwriter
shall not be required to do so, but may employ separate counsel therein and
participate in the defense thereof, but the fees and expenses of such counsel
shall be at such U.S. Underwriter's expense), and the Company, its directors,
any such officer, any such controlling person, and the Selling Stockholder,
shall have the rights and duties given to the U.S. Underwriters by paragraph (b)
above. The foregoing indemnity agreement shall be in addition to any liability
which the U.S. Underwriters may otherwise have.
(d) If the indemnification provided for in this Section 9 is
unavailable to an indemnified party under paragraphs (a) or (c) hereof in
respect of any losses, claims, damages, liabilities or expenses referred to
therein, then an indemnifying party, in lieu of indemnifying such indemnified
party, shall contribute to the amount paid or payable by such indemnified party
as a result of such losses, claims, damages, liabilities or expenses (i) in such
proportion as is appropriate to reflect the relative benefits received by the
Company and the Selling Stockholder on the one hand and the U.S. Underwriters on
the other hand from the offering of the Shares, or (ii) if the allocation
provided by clause (i) above is not permitted by applicable law, in such
proportion as is appropriate to reflect not only the relative benefits referred
to in clause (i) above but also the relative fault of the Company and the
Selling Stockholder on the one hand and the U.S. Underwriters on the other hand
in connection with the statements or omissions that resulted in such losses,
claims, damages, liabilities or expenses, as well as any other relevant
equitable considerations. The relative benefits received by the Company and the
Selling Stockholder on the one hand
-17-
<PAGE>
and the U.S. Underwriters on the other hand shall be deemed to be in the same
proportion as the total net proceeds from the offering (before deducting
expenses) received by the Company and the Selling Stockholder bear to the total
underwriting discounts and commissions received by the U.S. Underwriters, in
each case as set forth in the table on the cover page of the U.S. Prospectus;
provided that, in the event that the U.S. Underwriters shall have purchased any
Additional Shares hereunder, any determination of the relative benefits received
by the Company, the Selling Stockholder or the U.S. Underwriters from the
offering of the Shares shall include the net proceeds (before deducting
expenses) received by the Selling Stockholder, and the underwriting discounts
and commissions received by the U.S. Underwriters, from the sale of such
Additional Shares, in each case computed on the basis of the respective amounts
set forth in the notes to the table on the cover page of the U.S. Prospectus.
The relative fault of the Company and the Selling Stockholder on the one hand
and the U.S. Underwriters on the other hand shall be determined by reference to,
among other things, whether the untrue or alleged untrue statement of a material
fact or the omission or alleged omission to state a material fact relates to
information supplied by the Company or the Selling Stockholder on the one hand
or by the U.S. Underwriters on the other hand and the parties' relative intent,
knowledge, access to information and opportunity to correct or prevent such
statement or omission.
(e) The Company, the Selling Stockholder and the U.S. Underwriters
agree that it would not be just and equitable if contribution pursuant to this
Section 9 were determined by a pro rata allocation (even if the U.S.
Underwriters were treated as one entity for such purpose) or by any other method
of allocation that does not take account of the equitable considerations
referred to in paragraph (d) above. The amount paid or payable by an
indemnified party as a result of the losses, claims, damages, liabilities and
expenses referred to in paragraph (d) above shall be deemed to include, subject
to the limitations set forth above, any legal or other expenses reasonably
incurred by such indemnified party in connection with investigating any claim or
defending any such action, suit or proceeding. Notwithstanding the provisions
of this Section 9, no U.S. Underwriter shall be required to contribute any
amount in excess of the amount by which the total price of the Shares
underwritten by it and distributed to the public exceeds the amount of any
damages which such U.S. Underwriter has otherwise been required to pay by reason
of such untrue or alleged untrue statement or omission or alleged omission.
Notwithstanding the provisions of this Section 9, the Selling Stockholder shall
not be required to contribute any amount in excess of the aggregate proceeds
received by such Selling Stockholder from the sale of its Shares pursuant to
this Agreement (net of underwriting discounts and commissions and after
deducting expenses). No person guilty of fraudulent misrepresentation (within
the meaning of Section 11(f) of the Act) shall be entitled to contribution from
any person who was not guilty of such fraudulent misrepresentation. The U.S.
Underwriters' obligations to contribute pursuant to this Section 9 are several
in proportion to the respective numbers of Firm Shares set forth opposite their
names in Schedule II hereto (or such numbers of Firm Shares increased as set
forth in Section 12 hereof) and not joint.
(f) No indemnifying party shall, without the prior written consent of
the indemnified party, effect any settlement of any pending or threatened
action, suit or proceeding in respect of which any indemnified party is or could
have been a party and indemnity could have been sought hereunder by such
indemnified party, unless such settlement includes an unconditional release of
such indemnified party from all liability on claims that are the subject matter
of such action, suit or proceeding.
(g) Any losses, claims, damages, liabilities or expenses for which an
indemnified party is entitled to indemnification or contribution under this
Section 9 shall be paid by the indemnifying party to the indemnified party as
such losses, claims, damages, liabilities or expenses are incurred. The
-18-
<PAGE>
indemnity and contribution agreements contained in this Section 9 and the
representations and warranties of the Company and the Selling Stockholder set
forth in this Agreement shall remain operative and in full force and effect,
regardless of (i) any investigation made by or on behalf of any U.S. Underwriter
or any person controlling any U.S. Underwriter, the Company, its directors or
officers or the Selling Stockholder, any director, officer or partner of the
Selling Stockholder or any person controlling the Company or the Selling
Stockholder, (ii) acceptance of any Shares and payment therefor hereunder, and
(iii) any termination of this Agreement. A successor to any U.S. Underwriter or
any person controlling any U.S. Underwriter, or to the Company, its directors or
officers, or to the Selling Stockholder, any director, officer or partner of the
Selling Stockholder or any person controlling the Company or the Selling
Stockholder, shall be entitled to the benefits of the indemnity, contribution
and reimbursement agreements contained in this Section 9.
10. CONDITIONS OF U.S. UNDERWRITERS' OBLIGATIONS. The several obligations
of the U.S. Underwriters to purchase the Firm Shares hereunder are subject to
the following conditions:
(a) If, at the time this Agreement is executed and delivered, it is
necessary for the Registration Statement or a post-effective amendment thereto
or an Additional Registration Statement to be declared effective before the
offering of the Shares may commence, the Registration Statement or such
post-effective amendment or Additional Registration Statement shall have become
effective not later than 5:30 P.M., New York City time, on the date hereof, or
at such later date and time as shall be consented to in writing by you, and all
filings, if any, required by Rules 424 and 430A under the Act shall have been
timely made; no stop order suspending the effectiveness of the Registration
Statement shall have been issued and no proceeding for that purpose shall have
been instituted or, to the knowledge of the Company or any U.S. Underwriter,
threatened by the Commission, and any request of the Commission for additional
information (to be included in the Registration Statement or the Prospectuses or
otherwise) shall have been complied with to your satisfaction.
(b) Subsequent to the effective date of this Agreement, there shall
not have occurred any change, or any development involving a prospective change,
that would have a Material Adverse Effect on the Company and the Subsidiaries,
taken as a whole, not contemplated by the Prospectuses, which in your opinion,
as Representatives of the several U.S. Underwriters, makes it impracticable or
inadvisable to proceed with an offering of the Shares.
(c) You shall have received on the Closing Date an opinion of the B.
Curtis Westen, Senior Vice President, General Counsel and Secretary for the
Company dated the Closing Date and addressed to you, as Representatives of the
several U.S. Underwriters, to the effect that:
(i) Each Subsidiary is a corporation duly organized and
validly existing and in good standing under the laws of the jurisdiction of its
organization, with full power and authority to own, lease, and operate its
properties and to conduct its business as described in the Registration
Statement and the Prospectuses (and any amendment or supplement thereto); and
all the outstanding shares of capital stock of each of the Subsidiaries have
been duly authorized and validly issued, are fully paid and nonassessable, and
are owned of record by the Company directly, or indirectly through one of the
other Subsidiaries, free and clear of any security interest, lien, adverse
claim, equity or other encumbrance, except as referred to in the Registration
Statement and the Prospectuses (or any amendment or supplement thereto);
-19-
<PAGE>
(ii) The Company and each Subsidiary is duly registered and
qualified to conduct its business and is in good standing as a foreign
corporation in each jurisdiction where the nature of its properties or the
conduct of its business requires such registration or qualification, except
where the failure so to register or qualify or to be in good standing does not
have a Material Adverse Effect;
(iii) All the shares of capital stock of the Company
outstanding prior to the issuance of the Shares have been duly authorized and
validly issued and are fully paid and nonassessable;
(iv) Neither the Company nor any of the Subsidiaries is (a)
in violation of its certificate of incorporation or bylaws, or other
organizational documents, nor (b) is in material default in the performance of
any material obligation, agreement or condition contained in any bond,
debenture, note or other evidence of indebtedness, except as disclosed in the
Registration Statement or Prospectuses (or any amendment or supplement thereto);
(v) Neither the offer, sale or delivery of the Shares, nor
the execution, delivery or performance of the U.S. Underwriting Agreement or the
International Underwriting Agreement, nor compliance by the Company with the
provisions thereof, nor consummation by the Company of the transactions
contemplated thereby conflicts or will conflict with or constitutes or will
constitute a breach of, or a default under, in any material respect, the
certificate of incorporation or bylaws, or other organizational documents of the
Company or any of the Subsidiaries or any agreement, indenture, lease or other
instrument to which the Company or any of the Subsidiaries is a party or by
which any of them or any of their respective properties is bound that is made an
exhibit to the Registration Statement or to any Incorporated Document, or is
known to such counsel after reasonable inquiry, or will result in the creation
or imposition of any lien, charge or encumbrance upon any property or assets of
the Company or any of the Subsidiaries, nor will any such action result in any
violation of any existing law, regulation, ruling (assuming compliance with all
applicable state securities and Blue Sky laws), judgment, injunction, order or
decree known to such counsel after reasonable inquiry, and applicable to the
Company, the Subsidiaries, or any of their respective properties, except where
any of the foregoing would not have a Material Adverse Effect;
(vi) Each of the Company and each Subsidiary has full
corporate power and authority and, to such counsel's knowledge after reasonable
inquiry, such Permits as are required, (A) under such federal and state
healthcare laws as are applicable to the Company or any of the Subsidiaries to
own, lease and operate their respective properties and to conduct their
respective businesses as described in the Prospectuses, and (B) with respect to
those facilities owned, leased or managed by the Company or any Subsidiary that
participates in Medicare and/or Medicaid, to receive reimbursement thereunder,
except where the failure to so possess any such Permits would not, singularly or
in the aggregate, have a Material Adverse Effect;
(vii) To the knowledge of such counsel, neither the Company
nor any of the Subsidiaries is in violation of any healthcare law, ordinance,
administrative or governmental rule or regulation applicable to them,
respectively, or of any decree of any court or governmental agency or body
having jurisdiction over them relating thereto, respectively, and, in the course
of such counsel's representation of the Company or any Subsidiary, nothing has
come to such counsel's attention to cause it to believe that the Company or any
Subsidiary is in violation of any other law, ordinance, administrative or
governmental rule or regulation applicable to it or of any decree of any court
or governmental agency or body having jurisdiction over it which could have a
Material Adverse Effect;
-20-
<PAGE>
(viii) There are no legal or governmental actions, suits,
claims, proceedings or investigations pending or, to the knowledge of the
Company, threatened, against the Company or any of the Subsidiaries or against
or involving any of its officers, directors or employees in connection with the
business or affairs of the Company, including, without limitation, any claims
for indemnification arising under any agreement to which the Company is a party,
which are materially adverse to the Company or any of its Subsidiaries, or to
which the Company or any of the Subsidiaries, or to which any of their
respective properties, is subject which are material to the Company and its
Subsidiaries, taken as a whole (including, without limitation, any proceeding to
revoke or deny renewal of any Permits (as defined herein) of the Company or any
of the Subsidiaries), that are required to be described in the Registration
Statement or the Prospectuses but are not described as required, and there are
no agreements, contracts, indentures, leases or other instruments relating to
the Company that are required to be described in the Registration Statement or
the Prospectuses or to be filed as an exhibit to the Registration Statement or
any Incorporated Document that are not described or filed as required by the Act
or the Exchange Act. The descriptions of the terms of any such contracts or
documents contained in the Registration Statement or the Prospectuses are
accurate in all material respects. The Company is not subject to or in default
with respect to any writ, order, judgment, injunction or decree which is
materially adverse to the Company or any of its Subsidiaries;
(ix) Each of the Incorporated Documents (except for the
financial statements and the notes thereto and the schedules and other financial
and statistical data included therein, as to which counsel need not express any
opinion) complies as to form in all material respects with the Exchange Act and
the rules and regulations of the Commission thereunder; and
(x) The statements in the Registration Statement and
Prospectuses or any Incorporated Document, insofar as they are descriptions of
contracts, agreements or other legal documents, or refer to statements of law or
legal conclusions, are accurate in all material respects and present fairly the
information required to be shown.
In addition, such counsel shall state that although such counsel has
not undertaken, except as otherwise indicated in his opinion, to determine
independently, and does not assume any responsibility for, the accuracy,
completeness or fairness of the statements in the Registration Statement, such
counsel has participated in the preparation of the Registration Statement and
the Prospectuses, including review and discussion of the contents thereof
(including review and discussion of the contents of all Incorporated Documents),
and no facts have come to the attention of such counsel that would lead him to
believe that the Registration Statement (including the Incorporated Documents)
at the time the Registration Statement became effective, or the Prospectuses as
of their respective dates and as of the Closing Date or the Option Closing Date,
as the case may be, contained an untrue statement of a material fact or omitted
or omits to state a material fact necessary in order to make the statements
therein not misleading or that any amendment or supplement to the Prospectuses,
as of its respective date, and as of the Closing Date or the Option Closing
Date, as the case may be, contained or contains an untrue statement of a
material fact or omitted or omits to state a material fact required to be stated
in the Prospectuses or necessary in order to make the statements therein, in the
light of the circumstances under which they were made, not misleading (it being
understood that such counsel need express no opinion with respect to the
financial statements and the notes thereto and the schedules and other financial
and statistical data included in the Registration Statement or the Prospectuses
or in any Incorporated Documents).
-21-
<PAGE>
In rendering such opinion as aforesaid, such counsel may, as to
matters of law, rely upon an opinion or opinions, each dated the Closing Date,
of other counsel retained by him or the Company as to laws of any jurisdiction
other than the United States or the State of California or the corporation law
of the State of Delaware, provided that (1) each such local counsel is
reasonably acceptable to the Representatives, (2) such reliance is expressly
authorized by each opinion so relied upon and a copy of each such opinion is
delivered to the Representatives and is, in form and substance reasonably
satisfactory to them and their counsel, and (3) such counsel shall state in his
opinion that he believes that they and the U.S. Underwriters are justified in
relying thereon.
(d) You shall have received on the Closing Date an opinion from
McDermott, Will & Emery, Special Counsel to the Company, dated the Closing Date
and addressed to you, as Representatives of the several U.S. Underwriters, to
the effect that:
(i) The Company is a corporation duly organized and validly
existing in good standing under the laws of the State of Delaware with full
corporate power and authority to own, lease and operate its properties and to
conduct its business as described in the Registration Statement and the
Prospectuses;
(ii) The authorized capital stock of the Company is as set
forth under the caption "Capitalization" in the Prospectuses; and, the
authorized capital stock of the Company conforms in all material respects as to
legal matters to the description thereof contained in the Prospectuses under the
caption "Description of Capital Stock";
(iii) The Shares to be issued and sold to the U.S.
Underwriters and Managers by the Company pursuant to the U.S. Underwriting
Agreement and the International Underwriting Agreement have been duly authorized
and, when issued and delivered to the U.S. Underwriters and Managers against
payment therefor in accordance with the terms of the U.S. Underwriting Agreement
and the International Underwriting Agreement will be validly issued, fully paid
and nonassessable and free of any (A) preemptive rights or (B) to the best
knowledge of such counsel after reasonable inquiry, similar rights that entitle
or will entitle any person to acquire any Shares upon the issuance thereof by
the Company;
(iv) The form of certificates for the Shares conforms to the
requirements of the Delaware General Corporation Law;
(v) The Registration Statement and all post-effective
amendments, if any, have become effective under the Act and, to the best
knowledge of such counsel after reasonable inquiry, no stop order suspending the
effectiveness of the Registration Statement has been issued and no proceedings
for that purpose are pending before or contemplated by the Commission; and any
required filing of the Prospectuses pursuant to Rule 424(b) has been made in
accordance with Rule 424(b);
(vi) The Company has the corporate power and authority to
enter into the U.S. Underwriting Agreement and the International Underwriting
Agreement and to issue, sell and deliver the Shares to be sold by it to the U.S.
Underwriters and Managers as provided therein, and each of the U.S. Underwriting
Agreement and the International Underwriting Agreement have been duly
authorized, executed and delivered by the Company and is a legal, valid and
binding agreement of the Company, enforceable against the Company in accordance
with its terms, except as enforcement of rights to indemnity
-22-
<PAGE>
and contribution hereunder may be limited by federal or state securities laws or
principles of public policy and subject to the qualification that the
enforceability of the Company's obligations hereunder may be limited by
bankruptcy, fraudulent conveyance, insolvency, reorganization, moratorium and
other laws relating to or affecting creditors' rights generally and by general
equitable principles;
(vii) No consent, approval, authorization or other order of,
or registration or filing with, any court, regulatory body, administrative
agency or other governmental body, agency, or official is required on the part
of the Company (except as have been obtained under the Act and the Exchange Act
or such as may be required under state securities or Blue Sky laws governing the
purchase and distribution of the Shares) for the valid issuance and sale of the
Shares to the U.S. Underwriters as contemplated by the U.S. Underwriting
Agreement;
(viii) (A) The Registration Statement and the Prospectuses and
any supplements or amendments thereto (except for the financial statements and
notes thereto and the schedules and other financial and statistical data
included therein, as to which such counsel need not express any opinion) comply
as to form in all material respects with the requirements of the Act; and (B)
each of the Incorporated Documents (except for (1) the financial statements and
the notes thereto and the schedules and other financial and statistical data
included therein and (2) the Company's two Current Reports on Form 8-K each
dated March 15, 1995, the Company's Current Report on Form 8-K dated December 8,
1995, as amended by the Company's Current Report on Form 8-K/A dated March 27,
1996, the Company's Current Report on Form 8-K dated April 10, 1996, and the
Company's Current Report on Form 8-K dated May 3, 1996, in each case as to which
counsel need not express any opinion) complies as to form in all material
respects with the Exchange Act and the rules and regulations of the Commission
thereunder;
(ix) Except as described in or contemplated by the
Prospectuses, such counsel does not know of any outstanding option, warrant or
other right calling for the issuance of, and such counsel does not know of any
commitment, plan or arrangement to issue, any shares of capital stock of the
Company or any securities convertible into or exchangeable or exercisable for
capital stock of the Company (other than the issuance of Common Stock upon
exercise of options under the Company's stock option plans described in the
Prospectus); and except as described in the Prospectuses, such counsel does not
know of any holder of any security of the Company or any other person who has
the right, contractual or otherwise, to cause the Company to sell or otherwise
issue to them, or permit them to underwrite the sale of, any of the Shares or
the right (other than any such right which has been complied with by the Company
or waived) to have any Common Stock or other securities of the Company included
in the Registration Statement or the right, as a result of the filing of the
Registration Statement or otherwise, to require registration under the Act of
any shares of Common Stock or other securities of the Company; and
(x) The Company is not and, upon sale of the Shares to be
issued and sold by the Company pursuant to this Agreement and the International
Underwriting Agreement and upon application of the net proceeds therefrom as
described in the Prospectuses under the caption "Use of Proceeds" will not be,
an "investment company" or a person "controlled" by an "investment company"
within the meaning of the Investment Company Act of 1940, as amended.
In addition, such counsel shall state that although such counsel has
not undertaken, except as otherwise indicated in their opinion, to determine
independently, and does not assume any responsibility for, the accuracy,
completeness or fairness of the statements in the Registration Statement, such
counsel has participated in the preparation of the Registration Statement and
the Prospectuses, including review and
-23-
<PAGE>
discussion of the contents thereof (including review and discussion of the
contents of all Incorporated Documents), and no facts have come to the attention
of such counsel that would lead them to believe that the Registration Statement
(including the Incorporated Documents) at the time the Registration Statement
became effective, or the Prospectuses as of their respective dates and as of the
Closing Date or the Option Closing Date, as the case may be, contained an untrue
statement of a material fact or omitted or omits to state a material fact
necessary in order to make the statements therein not misleading or that any
amendment or supplement to the Prospectuses, as of its respective date, and as
of the Closing Date or the Option Closing Date, as the case may be, contained or
contains an untrue statement of a material fact or omitted or omits to state a
material fact required to be stated in the Prospectuses or necessary in order to
make the statements therein, in light of the circumstances under which they were
made, not misleading (it being understood that such counsel need express no
opinion with respect to the financial statements and the notes thereto and the
schedules and other financial and statistical data included in the Registration
Statement or the Prospectuses or in any Incorporated Documents).
The opinion of such counsel may be limited to the laws of the United
States and the State of New York, State of California, the corporation laws of
the State of Delaware, and to the laws of certain other jurisdictions applicable
to the Company or a Subsidiary to the extent covered by an opinion or opinions,
each dated the Closing Date or the Option Closing Date, as the case may be, of
other counsel retained by them or the Company as to the laws of such other
jurisdiction, upon which such counsel may rely, provided that (1) each such
local counsel is acceptable to the Representatives, (2) such reliance is
expressly authorized by each opinion so relied upon and a copy of each such
opinion is delivered to the Representatives and is, in form and substance
satisfactory to them and their counsel, and (3) counsel shall state in their
opinion that they believe that they and the U.S. Underwriters are justified in
relying thereon.
(e) You shall have received on the Closing Date an opinion of Manatt,
Phelps & Phillips, LLP, special counsel for the Selling Stockholder, dated the
Closing Date and addressed to you, as Representatives of the several U.S.
Underwriters, to the effect that:
(i) The U.S. Underwriting Agreement and the International
Underwriting Agreement have each been duly executed and delivered by or on
behalf of the Selling Stockholder and are valid and binding agreements of the
Selling Stockholder enforceable against the Selling Stockholder in accordance
with their respective terms, except (A) as enforcement of rights to indemnity
and contribution hereunder and thereunder may be limited by federal or state
securities laws or principles of public policy and (B) subject to the
qualification that the enforceability of each of their obligations hereunder and
thereunder may be limited by bankruptcy, fraudulent conveyance, insolvency,
reorganization, moratorium and other laws relating to or affecting creditors'
rights generally and by general equitable principles;
(ii) To the knowledge of such counsel, the Selling Stockholder
has full legal right, power and authorization and any approval required by law
to sell, assign, transfer and deliver good and marketable title to the Shares
the Selling Stockholder has agreed to sell pursuant to this Agreement; and upon
delivery of such Shares pursuant to the U.S. Underwriting Agreement and the
International Underwriting Agreement and payment therefor as contemplated herein
and assuming that the several U.S. Underwriters and Managers are bona fide
purchasers within the meaning of the Uniform Commercial Code as in effect in the
State of New York (the "UCC"), the U.S. Underwriters will acquire good and
marketable title to such Shares free and clear of any adverse claim (within the
meaning of Section 8-302 of the U.C.C.); and
-24-
<PAGE>
(iii) To the knowledge of such counsel, the execution and
delivery of the U.S. Underwriting Agreement and the International Underwriting
Agreement by the Selling Stockholder and the consummation of the transactions
contemplated hereby and thereby will not conflict with, violate, result in a
breach of or constitute a default under the terms or provisions of any
agreement, indenture, mortgage or other instrument to which the Selling
Stockholder is a party or by which it or any of its assets or property is bound,
or any court order or decree or any law, rule, or regulation known to such
counsel applicable to the Selling Stockholder or to any of the respective
property or assets of the Selling Stockholder.
In addition, such counsel shall state that although such counsel has
not undertaken, except as otherwise indicated in their opinion, to determine
independently, and does not assume any responsibility for, the accuracy,
completeness or fairness of the statements in the Registration Statement with
respect to the Selling Stockholder, such counsel has participated in the
preparation of the Registration Statement and the Prospectuses, including review
and discussion of the contents thereof (including review and discussion of the
contents of all Incorporated Documents with respect to the Selling Stockholder),
and no facts have come to the attention of such counsel that would lead them to
believe that, insofar as such relates to the Selling Stockholder, the
Registration Statement (including the Incorporated Documents) at the time the
Registration Statement became effective, or the Prospectuses as of their
respective dates and as of the Closing Date or the Option Closing Date, as the
case may be, contained an untrue statement of a material fact or omitted or
omits to state a material fact necessary in order to make the statements
therein, in the light of the circumstances under which they were made, not
misleading or that any amendment or supplement to the Prospectuses, as of its
respective date, and as of the Closing Date or the Option Closing Date, as the
case may be, contained or contains an untrue statement of a material fact or
omitted or omits to state a material fact required to be stated in the
Prospectuses or necessary in order to make the statements therein, in light of
the circumstances under which they were made, not misleading (it being
understood that such counsel need express no opinion with respect to the
financial statements and the notes thereto and the schedules and other financial
and statistical data included in the Registration Statement or the Prospectuses
or in any Incorporated Documents or any other information regarding the
Company).
The opinion of such counsel may be limited to the laws of the United
States and the State of California, the corporation laws of the State of
Delaware, and to the laws of certain other jurisdictions applicable to the
Selling Stockholder to the extent covered by an opinion or opinions, each dated
the Closing Date or the Option Closing Date, as the case may be, of other
counsel retained by them or the Company as to the laws of such other
jurisdiction, upon which such counsel may rely, provided that (1) each such
local counsel is acceptable to the Representatives, (2) such reliance is
expressly authorized by each opinion so relied upon and a copy of each such
opinion is delivered to the Representatives and is, in form and substance
satisfactory to them and their counsel, and (3) counsel shall state in their
opinion that they believe that they and the U.S. Underwriters are justified in
relying thereon.
(f) You shall have received on the Closing Date an opinion of Dewey
Ballantine, counsel for the U.S. Underwriters, dated the Closing Date and
addressed to you, as Representatives of the several U.S. Underwriters, with
respect to the matters referred to in clauses (iii) (other than subclause (B)
thereof), (v), (vi), (viii) (other than subclause (B) thereof) and the paragraph
immediately following clause (x) of the foregoing paragraph (d) and such other
related matters as you may request.
-25-
<PAGE>
(g) You shall have received letters addressed to you, as
Representatives of the several U.S. Underwriters, and dated the date hereof and
the Closing Date from Deloitte & Touche LLP, independent certified public
accountants, substantially in the forms heretofore approved by you.
(h) (i) No stop order suspending the effectiveness of the
Registration Statement shall have been issued and no proceedings for that
purpose shall have been taken or, to the knowledge of the Company, shall be
contemplated by the Commission at or prior to the Closing Date; (ii) there shall
not have been any change in the capital stock of the Company nor any material
increase in the short-term (other than in the ordinary course of business) or
long-term debt of the Company from that set forth or contemplated in the
Registration Statement or the Prospectuses (or any amendment or supplement
thereto); (iii) there shall not have been, since the respective dates as of
which information is given in the Registration Statement and the Prospectuses
(or any amendment or supplement thereto), except as may otherwise be stated in
the Registration Statement and Prospectuses (or any amendment or supplement
thereto), any material adverse change in the condition (financial or other),
business, prospects, properties, net worth or results of operations of the
Company and the Subsidiaries, taken as a whole; and (iv) all the representations
and warranties of the Company contained in this Agreement shall be true and
correct on and as of the date hereof and on and as of the Closing Date as if
made on and as of the Closing Date, and you shall have received a certificate,
dated the Closing Date and signed by the chief executive officer and the chief
financial officer of the Company (or such other officers as are acceptable to
you), to the effect set forth in this Section 10(h) and in Section 10(i) hereof.
(i) The Company shall not have failed at or prior to the Closing Date
to have performed or complied with any of its agreements herein contained and
required to be performed or complied with by it hereunder at or prior to the
Closing Date.
(j) All the representations and warranties of the Selling Stockholder
contained in this Agreement shall be true and correct in all material respects
on and as of the date hereof and on and as of the Closing Date as if made on and
as of the Closing Date, and you shall have received a certificate, dated the
Closing Date and signed by or on behalf of the Selling Stockholder as to the
matters set forth in this Section 10(j) and in Section 10(k) hereof.
(k) The Selling Stockholder shall not have failed at or prior to the
Closing Date to have performed or complied in any material respect with any of
their agreements herein contained and required to be performed or complied with
by them hereunder at or prior to the Closing Date.
(l) The Shares shall have been listed or approved for listing subject
to notice of issuance on the New York Stock Exchange.
(m) The Sellers shall have furnished or caused to be furnished to you
such further certificates and documents as you shall have reasonably requested.
(n) The closing under the International Underwriting Agreement shall
have occurred concurrently with the closing hereunder on the Closing Date.
(o) The Selling Stockholder shall have obtained any requisite consent
from the California Department of Corporations relating to the sale of the
Selling Stockholder's Shares to the U.S. Underwriters and the Managers.
-26-
<PAGE>
All such opinions, certificates, letters and other documents will be
in compliance with the provisions hereof only if they are reasonably
satisfactory in form and substance to you and your counsel.
Any certificate or document signed by any officer of the Company or by
or on behalf of the Selling Stockholder and delivered to you, as Representatives
of the several U.S. Underwriters, or to counsel for the U.S. Underwriters, shall
be deemed a representation and warranty by the Company or the Selling
Stockholder, as the case may be, to each U.S. Underwriter as to the statements
made therein.
The several obligations of the U.S. Underwriters to purchase
Additional Shares hereunder are subject to the satisfaction on and as of any
Option Closing Date of the conditions set forth in this Section 10, except that,
if any Option Closing Date is other than the Closing Date, the certificates,
opinions and letters referred to in paragraphs (c) through (h) and paragraphs
(j), (k) and (n) shall be dated the Option Closing Date in question and the
opinions or letters called for by paragraphs (c) through (f) shall be revised
to reflect the sale of Additional Shares.
11. EXPENSES. The Sellers agree to pay the following costs and expenses
and all other costs and expenses incident to the performance by them of their
obligations hereunder: (i) the preparation, printing or reproduction, and
filing with the Commission of the registration statement (including financial
statements and exhibits thereto), each Prepricing Prospectus, the Prospectus,
and each amendment or supplement to any of them; (ii) the printing (or
reproduction) and delivery (including postage, air freight (or reproduction) and
delivery (including postage, air freight charges and charges for counting and
packaging) of such copies of the registration statement, the Registration
Statement, each Prepricing Prospectus, the Prospectus, the Incorporated
Documents and all amendments or supplements to any of them as may be reasonably
requested for use in connection with the offering and sale of the Shares; (iii)
the preparation, printing, authentication, issuance and delivery of certificates
for the Shares, including any stamp taxes in connection with the original
issuance and sale of the Shares; (iv) the printing (or reproduction) and
delivery of this Agreement, the preliminary and supplemental Blue Sky Memoranda
and all other agreements or documents printed (or reproduced) and delivered in
connection with the original issuance and sale of the Shares; (iv) the printing
(or reproduction) and delivery of this Agreement, the preliminary and
supplemental Blue Sky Memoranda and all other agreements or documents printed
(or reproduced) and delivered in connection with the offering of the Shares; (v)
the listing of the Shares on the New York Stock Exchange; (vi) the registration
or qualification of the Shares for offer and sale under the securities or Blue
Sky laws of the several states as provided in Section 5(g) hereof (including the
reasonable fees, expenses and disbursements hereof (including the reasonable
fees, expenses and disbursements of counsel for the U.S. Underwriters relating
to the preparation, printing or reproduction, and delivery of the preliminary
and supplemental Blue Sky Memoranda and such registration and qualification);
(vii) the filing fees and the fees and expenses of counsel for the U.S.
Underwriters in connection with any filings required to be made with the
National Association of Securities Dealers, Inc.; (viii) the transportation and
other expenses incurred by or on behalf of representatives of the Company (which
shall not be deemed to include any U.S. Underwriter or any Manager) in
connection with presentations to prospective purchasers of the Shares; and (ix)
the fees and expenses of the Company's accountants and the fees and expenses of
counsel (including local and special counsel) for the Company and the Selling
Stockholder; provided that nothing in this Section 11 shall preclude Sellers
from allocating between themselves in any manner they shall determine any such
costs or expenses.
12. EFFECTIVE DATE OF AGREEMENT. This Agreement shall become effective:
(i) upon the execution and delivery hereof by the parties hereto; or (ii) if, at
the time this Agreement is executed and
-27-
<PAGE>
delivered, it is necessary for the registration statement or a post-effective
amendment thereto or an Additional Registration Statement to be declared
effective before the offering of the Shares may commence, when notification of
the effectiveness of the registration statement or such post-effective amendment
or Additional Registration Statement has been released by the Commission. Until
such time as this Agreement shall have become effective, it may be terminated by
the Company, by notifying you, or by you, as Representatives of the several U.S.
Underwriters, by notifying the Company and the Selling Stockholder.
If any one or more of the U.S. Underwriters shall fail or refuse to
purchase Shares which it or they are obligated to purchase hereunder on the
Closing Date, and the aggregate number of Shares which such defaulting U.S.
Underwriter or Underwriters are obligated but fail or refuse to purchase is not
more than one-tenth of the aggregate number of Shares which the U.S.
Underwriters are obligated to purchase on the Closing Date, each non-defaulting
U.S. Underwriter shall be obligated, severally, in the proportion which the
number of Firm Shares set forth opposite its name in Schedule II hereto bears to
the aggregate number of Firm Shares set forth opposite the names of all
non-defaulting U.S. Underwriters or in such other proportion as you may specify
in accordance with Section 20 of the Master Agreement Among Underwriters of
Smith Barney Inc., to purchase the Shares which such defaulting U.S. Underwriter
or Underwriters are obligated, but fail or refuse, to purchase. If any one or
more of the U.S. Underwriters shall fail or refuse to purchase Shares which it
or they are obligated to purchase on the Closing Date and the aggregate number
of Shares with respect to which such default occurs is more than one-tenth of
the aggregate number of Shares which the U.S. Underwriters are obligated to
purchase on the Closing Date and arrangements satisfactory to you and the
Company for the purchase of such Shares by one or more non-defaulting U.S.
Underwriters or other party or parties approved by you and the Company are not
made within 36 hours after such default, this Agreement will terminate without
liability on the part of any non-defaulting U.S. Underwriter or the Company. In
any such case which does not result in termination of this Agreement, either you
or the Company shall have the right to postpone the Closing Date, but in no
event for longer than seven days, in order that the required changes, if any, in
the Registration Statement and the Prospectus or any other documents or
arrangements may be effected. Any action taken under this paragraph shall not
relieve any defaulting U.S. Underwriter from liability in respect of any such
default of any such Underwriter under this Agreement. The term "U.S.
Underwriter" as used in this Agreement includes, for all purposes of this
Agreement, any party not listed in Schedule II hereto who, with your approval
and the approval of the Company, purchases Shares which a defaulting U.S.
Underwriter is obligated, but fails or refuses, to purchase.
Any notice under this Section 12 may be given by telegram, telecopy or
telephone but shall be subsequently confirmed by letter.
13. TERMINATION OF AGREEMENT. This Agreement shall be subject to
termination in your absolute discretion, without liability on the part of any
U.S. Underwriter to the Company or the Selling Stockholder, by notice to the
Company, if prior to the Closing Date or any Option Closing Date (if different
from the Closing Date and then only as to the Additional Shares), as the case
may be, (i) trading in the Common Stock of the Company shall be suspended or
subject to any restriction or limitation not in effect on the date of this
Agreement; (ii) trading in securities generally on the New York Stock Exchange,
the American Stock Exchange or the Nasdaq National Market shall have been
suspended or materially limited; (iii) a general moratorium on commercial
banking activities in New York shall have been declared by either federal or
state authorities; or (iv) there shall have occurred any outbreak or escalation
of hostilities or other international or domestic calamity, crisis or change in
political, financial or economic conditions, the effect of which on the
financial markets of the United States is such as to make it, in your
-28-
<PAGE>
judgment, impracticable or inadvisable to commence or continue the offering of
the Shares at the offering price to the public set forth on the cover page of
the U.S. Prospectus or to enforce contracts for the resale of the Shares by the
U.S. Underwriters.
Notice of such termination may be given by telegram, telecopy or telephone
and shall be subsequently confirmed by letter.
14. INFORMATION FURNISHED BY THE U.S. UNDERWRITERS. The statements set
forth in the last paragraph on the cover page, the stabilization legend on the
inside front cover page, and the statements in the first and fourth paragraphs
under the caption "Underwriting" in any U.S. Prepricing Prospectus and in the
U.S. Prospectus constitute the only information furnished by or on behalf of the
U.S. Underwriters through you as such information is referred to in Sections
7(b) and 9 hereof.
15. MISCELLANEOUS. Except as otherwise provided in Sections 5, 12 and 13
hereof, notice given pursuant to any provision of this Agreement shall be in
writing and shall be delivered (i) if to the Company, at the office of the
Company at [21600 Oxnard Street, Woodland Hills, California 91367], with a copy
to McDermott, Will & Emery, 227 West Monroe St., Chicago, Illinois 60606-5906,
Attention: Bernard S. Kramer, Esq. (ii) if to the Selling Stockholder, to The
California Wellness Foundation, 6320 Canoga Avenue, Suite 1700, Woodland Hills,
California 91367, Attention: Gary Yates, with a copy to Manatt, Phelps &
Phillips, LLP, 11355 W. Olympic Blvd., Los Angeles, California 90064, Attention:
Gordon M. Bava, Esq.; or (iii) if to you, as Representatives of the several U.S.
Underwriters, care of Smith Barney Inc., 388 Greenwich Street, New York, New
York 10013, Attention: Manager, Investment Banking Division, with a copy to
Dewey Ballantine, 333 South Hope Street, 30th Floor, Los Angeles, CA 90071,
Attention: Robert M. Smith, Esq.
This Agreement has been and is made solely for the benefit of the several
U.S. Underwriters, the Company, its directors and officers, the other
controlling persons referred to in Section 9 hereof and the Selling Stockholders
and their respective successors and assigns, to the extent provided herein, and
no other person shall acquire or have any right under or by virtue of this
Agreement. Neither the term "successor" nor the term "successors and assigns"
as used in this Agreement shall include a purchaser from any U.S. Underwriter of
any of the Shares in his status as such purchaser.
16. APPLICABLE LAW; COUNTERPARTS. This Agreement shall be governed by and
construed in accordance with the laws of the State of New York applicable to
contracts made and to be performed within the State of New York.
This Agreement may be signed in various counterparts which together
constitute one and the same instrument. If signed in counterparts, this
Agreement shall not become effective unless at least one counterpart hereof
shall have been executed and delivered on behalf of each party hereto.
-29-
<PAGE>
Please confirm that the foregoing correctly sets forth the agreement
among the Company, the Selling Stockholder and the several U.S. Underwriters.
Very truly yours,
HEALTH SYSTEMS INTERNATIONAL, INC.
By:
-------------------------------------
Name:
Title:
THE CALIFORNIA WELLNESS FOUNDATION , AS
SELLING STOCKHOLDER
By:
-------------------------------------
Name:
Title:
CONFIRMED AS OF THE DATE FIRST
ABOVE MENTIONED ON BEHALF OF
THEMSELVES AND THE OTHER SEVERAL
U.S. UNDERWRITERS NAMED IN SCHEDULE II
HERETO.
SMITH BARNEY INC.
DILLON, READ & CO., INC.
DEAN WITTER REYNOLDS INC.
SALOMON BROTHERS INC
ROBERTSON, STEPHENS & COMPANY LLC
VOLPE, WELTY & COMPANY
AS REPRESENTATIVES OF THE SEVERAL U.S. UNDERWRITERS
By: SMITH BARNEY INC.
By:
-------------------------------------
-30-
<PAGE>
Managing Director
-31-
<PAGE>
SCHEDULE I
HEALTH SYSTEMS INTERNATIONAL, INC.
<TABLE>
<CAPTION>
Number of Number of
Selling Stockholder Firm Shares Additional Shares
- ------------------- ----------- -----------------
<S> <C> <C>
The California Wellness Foundation 4,109,464 999,744
</TABLE>
<PAGE>
SCHEDULE II
HEALTH SYSTEMS INTERNATIONAL, INC.
<TABLE>
<CAPTION>
Number of
Underwriter Firm Shares
----------- -----------
<S> <C>
Smith Barney Inc.. . . . . . . . . . . . . . . . . . . . . .
Dillon, Read & Co., Inc. . . . . . . . . . . . . . . . . . .
Dean Witter Reynolds Inc.. . . . . . . . . . . . . . . . . .
Salomon Brothers Inc . . . . . . . . . . . . . . . . . . . .
Robertson, Stephens, & Company LLC . . . . . . . . . . . . .
Volpe, Welty & Company . . . . . . . . . . . . . . . . . . .
Total. . . . . . . . . . . . . . . . . . . . . .
-----------
-----------
</TABLE>
<PAGE>
1,666,240 SHARES
HEALTH SYSTEMS INTERNATIONAL, INC.
CLASS A COMMON STOCK
INTERNATIONAL UNDERWRITING AGREEMENT
------------------------------------
May 9, 1996
SMITH BARNEY INC.
DILLON, READ & CO., INC.
DEAN WITTER INTERNATIONAL LTD.
SALOMON BROTHERS INTERNATIONAL LIMITED
ROBERTSON, STEPHENS & COMPANY LLC
VOLPE, WELTY & COMPANY
AS LEAD MANAGERS FOR THE SEVERAL MANAGERS
c/o SMITH BARNEY INC.
388 Greenwich Street
New York, New York 10013
Dear Sirs:
Health Systems International, Inc., a Delaware corporation (the
"Company"), proposes to issue and sell an aggregate of 638,875 shares of its
Class A Common Stock, par value $0.001 per share (the "Common Stock"), to the
several Underwriters named in Schedule II hereto (the "Managers"), and The
California Wellness Foundation as the selling stockholder (the "Selling
Stockholder") proposes to sell to the several Managers an aggregate of 1,027,366
shares of the Company's Class B Common Stock, par value $0.001 per share, which
upon sale to the several Managers is converted into Common Stock (the "Class B
Common Stock"). The 638,875 shares of Common Stock to be issued and sold to
the Managers by the Company and the 1,027,366 shares of Class B Common Stock to
be sold to the Managers by the Selling Stockholder are hereinafter referred to
as the "Firm Shares." In addition, solely for the purpose of covering over-
allotments, the Selling Stockholder proposes to sell to the Managers, upon the
terms and conditions set forth in Section 2 hereof, up to an additional
249,936 shares of Class B Common Stock (the "Additional Shares"). The Firm
Shares and the Additional Shares are hereinafter collectively referred to as the
"Shares." The Company and the Selling Stockholder are hereinafter sometimes
referred to as the "Sellers."
It is understood that the Company and the Selling Stockholder are
concurrently entering into a U.S. Underwriting Agreement, dated the date hereof
(the "U.S. Underwriting Agreement"), providing for
<PAGE>
the sale of 6,664,964 shares of the Common Stock (the "Firm U.S. Shares"), of
which 2,555,499 shares will be sold by the Company and 4,109,464 will be sold
by the Selling Stockholder (plus an option granted by the Selling Stockholder to
purchase up to an additional 999,744] shares of Common Stock (the "Additional
U.S. Shares") solely for the purpose of covering over-allotments) through
arrangements with certain underwriters in the United States and Canada (the
"U.S. Underwriters"), for whom Smith Barney Inc., Dillon, Read & Co. Inc., Dean
Witter Reynolds Inc., Robertson, Stephens & Company LLC, Salomon Brothers Inc
and Volpe, Welty & Company are acting as representatives (the
"Representatives"). All shares of Common Stock proposed to be offered to the
U.S. Underwriters pursuant to the U.S. Underwriting Agreement, including the
Firm U.S. Shares and the Additional U.S. Shares, are herein called the "U.S.
Shares"; the U.S. Shares and the Shares, collectively, are herein called the
"Underwritten Shares."
The Company and the Selling Stockholder also understand that the Lead
Managers and the Representatives have entered into an agreement (the "Agreement
Between U.S. Underwriters and Managers") contemplating the coordination of
certain transactions between the Managers and the U.S. Underwriters and that,
pursuant thereto and subject to the conditions set forth therein, the Managers
may purchase from the U.S. Underwriters a portion of the U.S. Shares or sell to
the U.S. Underwriters a portion of the Shares. The Company and the Selling
Stockholder understand that any such purchases and sales between the Managers
and the U.S. Underwriters shall be governed by the Agreement Between U.S.
Underwriters and Managers and shall not be governed by the terms of this
Agreement or the U.S. Underwriting Agreement.
The Sellers wish to confirm as follows their agreement with you (the
"Lead Managers") and the other several Managers on whose behalf you are acting,
in connection with the several purchases of the Shares by the Managers.
1. REGISTRATION STATEMENT AND PROSPECTUS. The Company has prepared and
filed with the Securities and Exchange Commission (the "Commission") in
accordance with the provisions of the Securities Act of 1933, as amended, and
the rules and regulations of the Commission thereunder (collectively, the
"Act"), a registration statement on Form S-3 under the Act (the "registration
statement"), including prospectuses subject to completion, relating to the
Underwritten Shares. The term "Registration Statement" as used in this
Agreement means the registration statement (including all financial schedules
and exhibits), as amended at the time it becomes effective, and as thereafter
amended by post-effective amendment. If an additional registration statement is
prepared and filed with the Commission in accordance with Rule 462(b) under the
Act (an "Additional Registration Statement"), the term "Registration Statement"
as used in this Agreement includes the Additional Registration Statement. The
term "Prospectuses" as used in this Agreement means the prospectuses in the
forms included in the Registration Statement, or, if the prospectuses included
in the Registration Statement omit information in reliance on Rule 430A under
the Act and such information is included in prospectuses filed with the
Commission pursuant to Rule 424(b) under the Act, the term "Prospectuses" as
used in this Agreement means the prospectuses in the forms included in the
Registration Statement as supplemented by the addition of the Rule 430A
information contained in the prospectuses filed with the Commission pursuant to
Rule 424(b). The term "Prepricing Prospectuses" as used in this Agreement means
the prospectuses subject to completion in the forms included in the Registration
Statement at the time of the initial filing of the Registration Statement with
the Commission, and as such prospectuses shall have been amended from time to
time prior to the date of the Prospectuses. Any reference in this Agreement to
the registration statement, the Registration Statement, any Prepricing
Prospectus or the Prospectus shall be deemed to refer to and include the
documents incorporated by reference therein pursuant to Item 12 of Form S-3
under the Act, as of the date of the registration statement, the Registration
Statement, such Prepricing Prospectus or the Prospectus, as the case may be, and
any reference to any amendment or
-2-
<PAGE>
supplement to the registration statement, the Registration Statement, any
Prepricing Prospectus or the Prospectus shall be deemed to refer to and include
any documents filed after such date under the Securities Exchange Act of 1934,
as amended, and the rules and regulations of the Commission thereunder
(collectively, the "Exchange Act") which, upon filing, are incorporated by
reference therein, as required by paragraph (b) of Item 12 of Form S-3. As used
herein, the term "Incorporated Documents" means the documents which at the time
are incorporated by reference in the registration statement, the Registration
Statement, any Prepricing Prospectus, the Prospectus, or any amendment or
supplement thereto.
It is understood that two forms of Prepricing Prospectus and two forms
of Prospectus are to be used in connection with the offering and sale of the
Underwritten Shares: a Prepricing Prospectus and a Prospectus relating to the
Shares that are to be offered and sold in the United States (as defined herein)
or Canada (as defined herein) to U.S. or Canadian Persons (the "U.S. Prepricing
Prospectus" and the "U.S. Prospectus," respectively), and a Prepricing
Prospectus and a Prospectus relating to the International Shares which are to be
offered and sold outside the United States or Canada to persons other than U.S.
or Canadian Persons (the "International Prepricing Prospectus" and the
"International Prospectus," respectively). The U.S. Prospectus and the
International Prospectus are herein collectively called the "Prospectuses," and
the U.S. Prepricing Prospectus and the International Prepricing Prospectus are
herein called the "Prepricing Prospectuses." For purposes of this Agreement:
"U.S. or Canadian Person" means any resident or national of the United States or
Canada, any corporation, partnership or other entity created or organized in or
under the laws of the United States or Canada or any estate or trust the income
of which is subject to United States or Canadian income taxation regardless of
the source of its income (other than the foreign branch of any U.S. or Canadian
Person), and includes any United States or Canadian branch of a person other
than a U.S. or Canadian Person; "United States" means the United States of
America (including the states thereof and the District of Columbia) and its
territories, its possessions and other areas subject to its jurisdiction; and
"Canada" means Canada and its territories, its possessions and other areas
subject to its jurisdiction.
2. AGREEMENTS TO SELL AND PURCHASE. Upon the basis of the
representations, warranties and agreements contained herein and subject to all
the terms and conditions set forth herein and to such adjustments as you may
determine to avoid fractional shares, the Company hereby agrees to issue and
sell to each Manager and each Manager agrees, severally and not jointly, to
purchase from the Company, at a purchase price of $ per share (the
"purchase price per share"), the number of Firm Shares that bears the same
proportion to the aggregate number of Firm Shares to be issued and sold by the
Company as the number of Firm Shares set forth opposite the name of such Manager
in Schedule II hereto (or such number of Firm Shares increased as set forth in
Section 12 hereof) bears to the aggregate number of Firm Shares to be sold by
the Company and the Selling Stockholder.
Upon the basis of the representations, warranties and agreements contained
herein and subject to all the terms and conditions set forth herein and to such
adjustments as you may determine to avoid fractional shares, the Selling
Stockholder agrees to sell to each Manager and each Manager agrees, severally
and not jointly, to purchase from the Selling Stockholder, at the purchase price
per share, the number of Firm Shares that bears the same proportion to the
number of Firm Shares set forth opposite the name of the Selling Stockholder in
Schedule I hereto as the number of Firm Shares set forth opposite the name of
such Manager in Schedule II hereto (or such number of Firm Shares increased as
set forth in Section 12 hereof) bears to the aggregate number of Firm Shares to
be sold by the Company and the Selling Stockholder.
Upon the basis of the representations, warranties and agreements contained
herein and subject to all the terms and conditions set forth herein, the Selling
Stockholder also agrees to sell to the Managers, and the
-3-
<PAGE>
Managers shall have the right to purchase from the Selling Stockholder, at the
purchase price per share, pursuant to an option (the "over-allotment option")
which may be exercised prior to 5:00 p.m., New York City time, on the 30th day
after the date of the International Prospectus (or, if such 30th day shall be a
Saturday or Sunday or a holiday, on the next business day thereafter when the
New York Stock Exchange is open for trading), up to an aggregate of 300,000
Additional Shares from the Selling Stockholder. Upon any exercise of the
over-allotment option, each Manager, severally and not jointly, agrees to
purchase from the Selling Stockholder the number of Additional Shares (subject
to such adjustments as you may determine in order to avoid fractional shares)
that bears the same proportion to the number of Additional Shares to be sold by
the Selling Stockholder as the number of Firm Shares set forth opposite the name
of such Manager in Schedule II hereto (or such number of Firm Shares increased
as set forth in Section 12 hereof) bears to the aggregate number of Firm Shares
to be sold by the Selling Stockholder.
Each Manager represents, warrants, covenants and agrees that, except
as contemplated under Section 2 of the Agreement Between U.S. Underwriters and
Managers dated the date hereof, (i) it is not purchasing any Shares for the
account of a U.S. or Canadian Person, and (ii) it has not offered or sold, and
will not offer, sell, resell or deliver, directly or indirectly, any Shares or
distribute any International Prospectus inside the United States or Canada or to
any U.S. or Canadian Person.
3. TERMS OF PUBLIC OFFERING. The Sellers have been advised by you that
the Managers propose to make a public offering of their respective portions of
the Shares as soon after the Registration Statement and this Agreement have
become effective as in your judgment is advisable and initially to offer the
Shares upon the terms set forth in the International Prospectus.
4. DELIVERY OF THE SHARES AND PAYMENT THEREFOR. Delivery to the Managers
of and payment for the Firm Shares shall be made at the offices of McDermott,
Will & Emery, 227 West Monroe, Chicago, IL 60606 at 10:00 A.M., New York City
time], on May , 1996 (the "Closing Date"). The place of closing for
the Firm Shares and the Closing Date may be varied by agreement among you, the
Company and the Selling Stockholder.
Delivery to the Managers of and payment for any Additional Shares to be
purchased by the Managers shall be made at the aforementioned office of Smith
Barney Inc. at such time on such date (the "Option Closing Date"), which may be
the same as the Closing Date but shall in no event be earlier than the Closing
Date nor earlier than two nor later than ten business days after the giving of
the notice hereinafter referred to, as shall be specified in a written notice
from you on behalf of the Managers to the Selling Stockholder of the Managers'
determination to purchase a number, specified in such notice, of Additional
Shares. The place of closing for any Additional Shares and the Option Closing
Date for such Shares may be varied by agreement between you and the Selling
Stockholder.
Certificates for the Firm Shares and for any Additional Shares to be
purchased hereunder shall be registered in such names and in such denominations
as you shall request by written notice, it being understood that a facsimile
transmission shall be deemed written notice, prior to 9:30 A.M., New York City
time, on the second business day preceding the Closing Date or any Option
Closing Date, as the case may be. Such certificates shall be made available to
you in New York City for inspection and packaging not later than 9:30 A.M., New
York City time, on the business day next preceding the Closing Date or the
Option Closing Date, as the case may be. The certificates and stock powers
evidencing the Firm Shares and any Additional Shares
-4-
<PAGE>
to be purchased hereunder shall be delivered to you on the Closing Date or the
Option Closing Date, as the case may be, against payment of the purchase price
therefor in immediately available funds.
5. AGREEMENTS OF THE COMPANY. The Company agrees with the several
Managers as follows:
(a) If, at the time this Agreement is executed and delivered, it is
necessary for the Registration Statement or a post-effective amendment thereto
or any Additional Registration Statement to be declared effective before the
offering of the Shares may commence, the Company will endeavor to cause the
Registration Statement or such post-effective amendment to become effective as
soon as possible and will advise you promptly and, if requested by you, will
confirm such advice in writing, when the Registration Statement or such
post-effective amendment or Additional Registration Statement has become
effective.
(b) The Company will advise you promptly and, if requested by you,
will confirm such advice in writing: (i) of any request by the Commission for
amendment of or a supplement to the Registration Statement, any Prepricing
Prospectuses or the Prospectuses or for additional information; (ii) of the
issuance by the Commission of any stop order suspending the effectiveness of the
Registration Statement or of the suspension of qualification of the Shares for
offering or sale in any jurisdiction or the initiation of any proceeding for
such purpose; and (iii) within the period of time referred to in paragraph (f)
below, of any change in the Company's condition (financial or other), business,
prospects, properties, net worth or results of operations, or of the happening
of any event, including the filing of any information, documents or reports
pursuant to the Exchange Act, that makes any statement made in the Registration
Statement or the Prospectuses (as then amended or supplemented) untrue in any
material respect or which requires the making of any additions to or changes in
the Registration Statement or the Prospectuses (as then amended or supplemented)
in order to state a material fact required by the Act or the regulations
thereunder to be stated therein or necessary in order to make the statements
therein not misleading, or of the necessity to amend or supplement the
Prospectuses (as then amended or supplemented) to comply with the Act or any
other law. If at any time the Commission shall issue any stop order suspending
the effectiveness of the Registration Statement, the Company will make every
reasonable effort to obtain the withdrawal of such order at the earliest
possible time.
(c) The Company will furnish to you, without charge (i) seven signed
copies of the Registration Statement as originally filed with the Commission and
of each amendment thereto, including financial statements and all exhibits to
the Registration Statement, and (ii) such number of conformed copies of the
Registration Statement as originally filed and of each amendment thereto, but
without exhibits, and the Incorporated Documents thereto as you may request.
(d) The Company will not (i) file any amendment to the Registration
Statement or make any amendment or supplement to the Prospectuses or, prior to
the end of the period of time referred to in the first sentence in subsection
(f) below, file any document which, upon filing becomes an Incorporated
Document, of which you shall not previously have been advised or with respect to
which you shall not previously have been consulted or (ii) so long as, in the
opinion of counsel for the Managers a prospectus is required to be delivered in
connection with sales by any Manager or dealer, file any information, documents
or reports pursuant to the Exchange Act, without delivering a copy of such
information, documents or reports to you, as Lead Managers for the Managers,
prior to or concurrently with such filing.
(e) Prior to the execution and delivery of this Agreement, the
Company has delivered or will deliver to you, without charge, in such quantities
as you have requested or may hereafter request, copies of
-5-
<PAGE>
each International Prepricing Prospectus. The Company consents to the use, in
accordance with the provisions of the Act and with the securities or Blue Sky
laws of the jurisdictions in which the Shares are offered by the several
Managers and by dealers, prior to the date of the International Prospectus, of
each International Prepricing Prospectus so furnished by the Company.
(f) As soon after the execution and delivery of this Agreement as
possible and thereafter from time to time for such period as in the written
opinion of counsel for the Managers an International Prospectus is required by
the Act to be delivered in connection with sales by any Manager or dealer, the
Company will expeditiously deliver to each Manager and each dealer, without
charge, as many copies of the International Prospectus (and of any amendment or
supplement thereto) as you may reasonably request. The Company consents to the
use of the International Prospectus (and of any amendment or supplement thereto)
in accordance with the provisions of the Act and with the securities or Blue Sky
laws of the jurisdictions in which the Shares are offered by the several
Managers and by all dealers to whom Shares may be sold, both in connection with
the offering and sale of the Shares and for such period of time thereafter as
the International Prospectus is required by the Act to be delivered in
connection with sales by any Manager or dealer. If during such period of time
any event shall occur that in the judgment of the Company or in the opinion of
counsel for the Managers is required to be set forth in the International
Prospectus (as then amended or supplemented) or should be set forth therein in
order to make the statements therein, in the light of the circumstances under
which they were made, not misleading, or if it is necessary to supplement or
amend the International Prospectus (or to file under the Exchange Act any
document which, upon filing, becomes an Incorporated Document) to comply with
the Act, the Exchange Act or any other law, the Company will forthwith prepare
and, subject to the provisions of paragraph (d) above, file with the Commission
an appropriate supplement or amendment thereto or such document, and will
expeditiously furnish to the Managers and dealers a reasonable number of copies
thereof. In the event that the Company and you, as Lead Managers for the
several Managers, agree that either the Prospectuses should be amended or
supplemented, or that a document should be filed under the Exchange Act which
upon filing becomes an Incorporated Document, the Company, if requested by you,
will promptly issue a press release announcing or disclosing the matters to be
covered by the proposed amendment or supplement or such document.
(g) The Company will cooperate with you and with counsel for the
Managers in connection with the registration or qualification of the Shares for
offering and sale by the several Managers and by dealers under the securities or
Blue Sky laws of such jurisdictions as you may designate and will file such
consents to service of process or other documents necessary or appropriate in
order to effect such registration or qualification; provided that in no event
shall the Company be obligated to qualify to do business in any jurisdiction
where it is not now so qualified or to take any action that would subject it to
service of process in suits, other than those arising out of the offering or
sale of the Shares, in any jurisdiction where it is not now so subject.
(h) The Company will make generally available to its security holders
a consolidated earnings statement, which need not be audited, covering a
twelve-month period commencing after the effective date of the Registration
Statement and ending not later than 15 months thereafter, as soon as practicable
after the end of such period, which consolidated earnings statement shall
satisfy the provisions of Section 11(a) of the Act.
(i) During the period of five years hereafter, the Company will
furnish to you (i) as soon as available, a copy of each report of the Company
mailed to stockholders or filed with the Commission or the
-6-
<PAGE>
New York Stock Exchange, and (ii) from time to time such other information
concerning the Company as you may request.
(j) If this Agreement shall terminate or shall be terminated after
execution pursuant to any provisions hereof (otherwise than pursuant to the
second paragraph of Section 12 hereof or by notice given by you terminating this
Agreement pursuant to Section 12 or Section 13 hereof) or if this Agreement
shall be terminated by the Managers because of any failure or refusal on the
part of the Company or the Selling Stockholder to comply with the terms or
fulfill any of the conditions of this Agreement, the Company agrees to reimburse
the Lead Managers for all out-of-pocket expenses (including fees and expenses of
counsel for the Managers) incurred by you in connection herewith.
(k) The Company will apply the net proceeds from the sale of the
Shares to be sold by it hereunder substantially in accordance with the
description set forth in the Prospectuses under the caption "Use of Proceeds."
(l) If Rule 430A of the Act is employed or if Rule 424(b) is
otherwise applicable, the Company will timely file the Prospectuses pursuant to
Rule 424(b) under the Act and will advise you of the time and manner of such
filing.
(m) For a period of 90 days after the date hereof (the "Lock up
Period"), the Company will not, without the prior written consent of Smith
Barney Inc., offer, sell, contract to sell or otherwise dispose of any Common
Stock or Class B Common Stock (or any securities convertible into or exercisable
or exchangeable for Common Stock or Class B Common Stock) except (i) for sales
to the Managers pursuant to this Agreement and the U.S. Underwriters pursuant to
the U.S. Underwriting Agreement, (ii) the issuance of Class A Common Stock by
the Company pursuant to acquisitions, mergers or other similar transactions, and
(iii) the issuance of shares by the Company pursuant to employee and non-
employee director stock options and the issuance or granting of shares or
options by the Company pursuant to employee benefit, stock option, employee
stock purchase and compensation plans of the Company.
(n) The Company has furnished or will furnish to you "lock-up"
letters, in form and substance satisfactory to you, signed by each of its
current executive officers and directors and each of its stockholders designated
by you.
(o) Except as stated in this Agreement and in the U.S. Underwriting
Agreement and in the Prepricing Prospectuses and the Prospectuses, the Company
has not taken, nor will it take, directly or indirectly, any action designed to
or that might reasonably be expected to cause or result in stabilization or
manipulation of the price of the Common Stock to facilitate the sale or resale
of the Shares.
(p) The Company will use its best efforts to have the Shares listed,
subject to notice of issuance, on the New York Stock Exchange prior to or
concurrently with the effectiveness of the registration statement.
(q) The Company will use its best efforts to satisfy on or before the
Closing Date all conditions to the Managers' obligations to purchase the Shares.
6. AGREEMENTS OF THE SELLING STOCKHOLDER. The Selling Stockholder agrees
with the several Managers as follows:
-7-
<PAGE>
(a) The Selling Stockholder will cooperate to the extent necessary to
cause the registration statement or any post-effective amendment thereto to
become effective at the earliest possible time.
(b) The Selling Stockholder will pay all federal and other taxes, if
any, on the transfer or sale of any Shares that are sold by the Selling
Stockholder to the Managers.
(c) The Selling Stockholder will do or perform all things required to
be done or performed by the Selling Stockholder prior to the Closing Date or any
Option Closing Date, as the case may be, to satisfy all conditions precedent to
the delivery of the Shares by the Selling Stockholder pursuant to this
Agreement.
(d) The Selling Stockholder has executed or will execute a "lock-up"
letter as provided in Section 5(n) above and will not offer, sell, contract to
sell or otherwise dispose of any Common Stock or Class B Common Stock or any
securities convertible into, or exercisable for Common Stock or Class B Common
Stock, except for the sale of Shares to the Managers pursuant to this Agreement
and the U.S. Underwriters pursuant to the U.S. Underwriting Agreement, prior to
the expiration of 90 days after the date of the Prospectus, without the prior
written consent of Smith Barney Inc.
(e) Except as stated in this Agreement and the U.S. Underwriting
Agreement and in the Prepricing Prospectuses and the Prospectuses, the Selling
Stockholder has not taken, nor will it take, directly or indirectly, any action
designed to or that might reasonably be expected to cause or result in
stabilization or manipulation of the price of the Common Stock to facilitate the
sale or resale of the Shares.
7. REPRESENTATIONS AND WARRANTIES OF THE COMPANY. The Company represents
and warrants to each Manager that:
(a) Each International Prepricing Prospectus included as part of the
registration statement as originally filed or as part of any amendment or
supplement thereto, or filed pursuant to Rule 424 under the Act, complied when
so filed in all material respects with the provisions of the Act; except that
this representation and warranty does not apply to statements in or omissions
from such International Prepricing Prospectus (or any amendment or supplement
thereto) made in reliance upon and in conformity with information relating to
and furnished by any Manager or U.S. Underwriter to the Company in writing by a
Manager through the Lead Managers through you or by a U.S. Underwriter through
the Representatives expressly for use therein. The Commission has not issued
any order preventing or suspending the use of any Prepricing Prospectus.
(b) The Company meets the requirements for the use of Form S-3
under the Act. The Registration Statement in the form in which it became or
becomes effective and also in such form as it may be when any post-effective
amendment thereto or Additional Registration Statement shall become effective
and the Prospectuses and any supplement or amendment thereto when filed with
the Commission under Rule 424(b) under the Act, complied or will comply in
all material respects with the provisions of the Act at the respective
effective dates of the Registration Statement or any post-effective amendment
thereto or Additional Registration Statement and at the respective dates of
the Prospectuses and any supplement or amendment thereto. The Registration
Statement and any post-effective amendment or Additional Registration
Statement, at the respective effective dates thereof, did not and will not
contain any untrue statement of a material fact or omit to state a material
fact required to be stated therein or necessary to make the statements
therein not misleading. The Prospectuses and any amendment or supplement
thereto, at the respective dates thereof, did not and will not contain any
untrue statement of a material fact or omit to state a material fact required
to be
-8-
<PAGE>
stated therein or necessary in order to make the statements therein, in light
of the circumstances under which they were made, not misleading; except that
this representation and warranty does not apply to statements in or omissions
from the Registration Statement or the Prospectuses made in reliance upon and
in conformity with information relating to any Manager or U.S. Underwriter
and furnished to the Company in writing by a Manager through the Lead
Managers or by a U.S. Underwriter through the Representatives expressly for
use therein.
(c) The Incorporated Documents heretofore filed were filed in a
timely manner with the Commission, and when they were filed (or, if any
amendment with respect to any such document was filed, when such amendment was
filed) conformed in all material respects to the requirements of the Exchange
Act and did not contain any untrue statement of a material fact or omit to state
a material fact required to be stated therein or necessary to make the
statements therein, in light of the circumstances under which they were made,
not misleading; and any further Incorporated Documents will, when so filed, be
filed in a timely manner and conform in all material respects to the
requirements of the Exchange Act and will not contain an untrue statement of a
material fact or omit to state a material fact required to be stated therein or
necessary to make the statements therein not misleading.
(d) All the outstanding shares of Common Stock of the Company and
(except as expressly disclosed in the Registration Statement, the Prepricing
Prospectus, the Prospectus, or any amendment or supplement thereto) all the
outstanding shares of Class B Common Stock have been duly authorized and validly
issued, are fully paid and nonassessable and are free of any preemptive or
similar rights; the Shares to be issued and sold by the Company have been duly
authorized and, when issued and delivered to the Managers against payment
therefor in accordance with the terms hereof, will be validly issued, fully paid
and nonassessable and free of any preemptive or similar rights; and the capital
stock of the Company conforms in all material respects to the description
thereof in the Registration Statement and the Prospectuses.
(e) The Company is a corporation duly organized and validly existing
in good standing under the laws of the State of Delaware with full corporate
power and authority to own, lease and operate its properties and to conduct its
business as described in the Registration Statement and the Prospectuses, and is
duly registered and qualified to conduct its business and is in good standing in
each jurisdiction where the nature of its properties or the conduct of its
business requires such registration or qualification, except where the failure
so to register or qualify does not have a material adverse effect on the
condition (financial or other), business, prospects, properties, net worth or
results of operations of the Company and the Subsidiaries (as hereinafter
defined) taken as a whole (a "Material Adverse Effect").
(f) All the Company's subsidiaries (collectively, the "Subsidiaries")
are listed in an exhibit to the Company's Annual Report on Form 10-K which is
incorporated by reference into the Registration Statement. Each Subsidiary is a
corporation duly organized, validly existing and in good standing in the
jurisdiction of its incorporation, with full corporate power and authority to
own, lease and operate its properties and to conduct its business to the extent
so described in the Registration Statement and the Prospectus, and is duly
registered and qualified to conduct its business and is in good standing in each
jurisdiction or place where the nature of its properties or the conduct of its
business requires such registration or qualification, except where the failure
so to register or qualify does not have a material adverse effect on the
condition (financial or otherwise), business, properties, prospects, net worth
or results of operations of such Subsidiary; all the outstanding shares of
capital stock of each of the Subsidiaries have been duly authorized and validly
issued, are fully paid and nonassessable, and are owned by the Company directly,
or indirectly through
-9-
<PAGE>
one of the other Subsidiaries, free and clear of any lien, adverse claim,
security interest, equity or other encumbrance.
(g) There are no legal or governmental actions, suits, claims,
proceedings or investigations pending or, to the knowledge of the Company,
threatened, against the Company or any of the Subsidiaries or against or
involving any of its officers, directors or employees in connection with the
business or affairs of the Company, including, without limitation, any claims
for indemnification arising under any agreement to which the Company is a party,
or to which the Company or any of the Subsidiaries or any of their respective
properties, is subject which could have a Material Adverse Effect (including,
without limitation, any proceeding to revoke or deny renewal of any Permits (as
defined herein) of the Company or any of the Subsidiaries) that are required to
be described in the Registration Statement or the Prospectuses but are not
described as required, and there are no agreements, contracts, indentures,
leases or other instruments relating to the Company that are required to be
described in the Registration Statement or the Prospectuses or to be filed as an
exhibit to the Registration Statement or any Incorporated Document that are not
described or filed as required by the Act or the Exchange Act. Any descriptions
of the terms of any such contracts or documents contained in the Registration
Statement or the Prospectuses are correct in all material respects. The Company
is not subject to or in default with respect to any writ, order, judgment,
injunction or decree which could have a Material Adverse Effect.
(h) Neither the Company nor any of the Subsidiaries is in (i)
violation of its certificate or articles of incorporation or by-laws, or other
organizational documents, (ii) in violation of any law, ordinance,
administrative or governmental rule or regulation applicable to the Company or
any of the Subsidiaries or of any decree of any court or governmental agency or
body having jurisdiction over the Company or any of the Subsidiaries (except
where any such violation or violations in the aggregate would not have a
Material Adverse Effect), or (iii) in default in any material respect in the
performance of any obligation, agreement or condition contained in any bond,
debenture, note or any other evidence of indebtedness or in any material
agreement, indenture, lease or other instrument to which the Company or any of
the Subsidiaries is a party or by which any of them or any of their respective
properties may be bound, and no condition or state of facts exists, which with
the passage of time or the giving of notice or both, would constitute such a
default (except where any such default or defaults in the aggregate would not
have a Material Adverse Effect).
(i) Neither the issuance, offer, sale or delivery of the Shares, the
execution, delivery or performance of this Agreement or the U.S. Underwriting
Agreement by the Company nor the consummation by the Company of the transactions
contemplated hereby and thereby (i) requires any consent, approval,
authorization or other order of or registration or filing with, any court,
regulatory body, administrative agency or other governmental body, agency or
official (except such as may be required for the registration of the Shares
under the Act and compliance with the securities or Blue Sky laws of various
jurisdictions, all of which have been or will be effected in accordance with
this Agreement) or conflicts or will conflict with or constitutes or will
constitute a breach of, or a default under, the certificate or articles of
incorporation or bylaws, or other organizational documents, of the Company or
any of the Subsidiaries, (ii) conflicts or will conflict with or constitutes or
will constitute a breach of, or a default under, any agreement, indenture, lease
or other instrument to which the Company or any of the Subsidiaries is a party
or by which any of them or any of their respective properties may be bound, or
violates or will violate any statute, law, regulation or filing or judgment,
injunction, order or decree applicable to the Company or any of the Subsidiaries
or any of their respective properties, except any such conflict, breach, default
or violation which could not have a Material Adverse Effect, or (iii) will
result in the creation or imposition of any material lien, charge or encumbrance
upon any property or assets of the Company or any of the Subsidiaries pursuant
to the terms of any agreement
-10-
<PAGE>
or instrument to which any of them is a party or by which any of them may be
bound or to which any of the property or assets of any of them is subject other
than security interests granted pursuant to the Credit Agreement, except for any
such lien, charge or encumbrance that would not have a Material Adverse Effect.
(j) The accountants, Deloitte & Touche LLP, who have certified or
shall certify the financial statements included or incorporated by reference
into the Registration Statement or the Prospectuses (or any amendment or
supplement thereto) are independent public accountants as required by the Act.
(k) The financial statements, together with related schedules and
notes included or incorporated by reference into the Registration Statement and
the Prospectuses (and any amendment or supplement thereto), present fairly the
consolidated financial position, results of operations, cash flows and changes
in stockholders' equity of the Company and the Subsidiaries on the basis stated
in the Registration Statement at the respective dates or for the respective
periods to which they apply; such statements and related schedules and notes
have been prepared in accordance with generally accepted accounting principles
consistently applied throughout the periods involved, except as disclosed
therein; and the other financial and statistical information and data included
or incorporated by reference into the Registration Statement and the
Prospectuses (and any amendment or supplement thereto) are accurately presented
and prepared on a basis consistent with the books and records of the Company and
its Subsidiaries. The pro forma financial statements and other pro forma
financial information (including the notes thereto) included in or incorporated
by reference into the Registration Statement and the Prospectuses present fairly
the information shown therein, have been prepared in accordance with applicable
requirements of the Act (including Article 11 of Regulation S-X), have been
prepared in accordance with the Commission's rules and guidelines with respect
to pro forma financial statements and have been properly computed on the basis
described therein. The assumptions used in preparation of the pro forma
financial statements and other pro forma financial information included in or
incorporated by reference into the Registration Statement and the Prospectuses
are reasonable, and the adjustments used therein are reasonably appropriate to
give effect to the transactions or circumstances referred to therein.
(l) The execution and delivery of, and the performance by the Company
of its obligations under, each of this Agreement and the U.S. Underwriting
Agreement have been duly and validly authorized by the Company, and each of this
Agreement and the U.S. Underwriting Agreement has been duly executed and
delivered by the Company and constitutes the valid and legally binding agreement
of the Company, enforceable against the Company in accordance with its terms,
except (i) the enforceability hereof or thereof may be limited by bankruptcy,
insolvency, reorganization, moratorium or other similar laws now or hereafter in
effect relating to creditors' rights generally, (ii) the remedy of specific
performance and other forms of equitable relief may be subject to certain
equitable defenses and to the discretion of the court before which the
proceedings may be brought and (iii) rights to indemnity and contribution
hereunder or thereunder may be limited by federal or state securities laws or
the public policy underlying such laws.
(m) Except as disclosed in the Registration Statement and the
Prospectuses (or any amendment or supplement thereto), subsequent to the
respective dates as of which such information is given in the Registration
Statement and the Prospectuses (or any amendment or supplement thereto), neither
the Company nor any of the Subsidiaries has incurred any liability or
obligation, direct or contingent, or entered into any transaction, not in the
ordinary course of business, that could result in a Material Adverse Effect, and
there has not been any change in the capital stock of the Company (other than
the issuance of Common Stock upon exercise of options under the Company's stock
option plans described in the Prospectus), or material
-11-
<PAGE>
increase in the short-term debt or long-term debt, of the Company or any of the
Subsidiaries, or any development having or which may reasonably be expected to
have, a Material Adverse Effect.
(n) Each of the Company and the Subsidiaries has good and marketable
title to all property (real and personal) described in the Prospectuses as being
owned by it, free and clear of all liens, claims, security interests or other
encumbrances except such as are described in the Registration Statement and the
Prospectuses or in a document filed as an exhibit to the Registration Statement
and all the property described in the Prospectuses as being held under lease by
each of the Company and the Subsidiaries is held by it under valid, subsisting
and enforceable leases with only such exceptions as in the aggregate are not
materially burdensome and do not interfere in any material respect with the
conduct of the business of the Company and the Subsidiaries, taken as a whole.
(o) The Company has not distributed and, prior to the later to occur
of (i) the Closing Date or the Option Closing Date, if any, and (ii) completion
of the distribution of the Shares, will not distribute any offering material in
connection with the offering and sale of the Shares other than the Registration
Statement, the Prepricing Prospectuses, the Prospectuses or other materials, if
any, permitted by the Act.
(p) The Company and each of the Subsidiaries has such permits,
licenses, franchises and authorizations of governmental or regulatory
authorities ("Permits") as are necessary to own its respective properties and to
conduct its business in the manner described in the Prospectuses, including,
without limitation, such Permits as are required (x) under such federal and
state health care laws as are applicable to the Company or any of the
Subsidiaries or any of their respective businesses, (y) with respect to those
facilities that are owned, or leased or managed by the Company or any Subsidiary
that participate in Medicare and/or Medicaid, to receive reimbursement
thereunder, and (z) under such insurance laws and regulations which are
applicable to the Company or any of the Subsidiaries, except where the failure
to have any such Permit would not have a Material Adverse Effect and subject to
such qualifications as may be set forth in the Prospectuses; the Company and
each of the Subsidiaries has fulfilled and performed all its material
obligations with respect to such Permits and no event has occurred that allows,
or after notice or lapse of time would allow, revocation or termination thereof
or results in any other material impairment of the rights of the holder of any
such Permit, subject in each case to such qualification as may be set forth in
the Prospectuses; and, except as described in the Prospectuses, none of such
Permits contains any restriction that is materially burdensome to the Company or
any of the Subsidiaries.
(q) The Company maintains a system of internal accounting controls
sufficient to provide reasonable assurances that (i) transactions are executed
in accordance with management's general or specific authorization; (ii)
transactions are recorded as necessary to permit preparation of financial
statements in conformity with generally accepted accounting principles and to
maintain accountability for assets; (iii) access to assets is permitted only in
accordance with management's general or specific authorization; and (iv) the
recorded accountability for assets is compared with existing assets at
reasonable intervals and appropriate action is taken with respect to any
differences.
(r) To the Company's knowledge, neither the Company nor any of its
Subsidiaries nor any employee or agent of the Company or any Subsidiary has made
any payment of funds of the Company or any Subsidiary or received or retained
any funds in violation of any law, rule or regulation, which payment, receipt or
retention of funds is of a character required to be disclosed in the
Prospectuses.
-12-
<PAGE>
(s) The Company and each of the Subsidiaries have filed all material
tax returns required to be filed, which returns are true and correct in all
material respects, and neither the Company nor any Subsidiary is in material
default in the payment of any taxes which were payable pursuant to said returns
or any assessments with respect thereto.
(t) Except as described in the Prospectuses, no holder of any
security of the Company has any right to require registration of shares of
Common Stock or any other security of the Company because of the filing of the
registration statement, the Registration Statement or consummation of the
transactions contemplated by this Agreement or the U.S. Underwriting Agreement,
or otherwise. No such rights with respect to shares of Common Stock not listed
in Schedule I or Schedule II hereto were exercised nor will be exercised in
connection with the sale of the Shares and for a period of 90 days after the
date hereof. Except as described in or contemplated by the Prospectuses, there
are no outstanding options, warrants or other rights calling for the issuance
of, and there are no commitments, plans or arrangements to issue, any shares of
Common Stock of the Company or any security convertible into or exchangeable or
exercisable for Common Stock of the Company, other than the issuance of Common
Stock upon exercise of options under the Company's stock option plans described
in the Prospectus.
(u) The property, assets and operations of each of the Company and
the Subsidiaries comply in all material respects with all applicable federal,
state or local laws, rules, orders, decrees, judgments, injunctions, licenses,
permits or regulations relating to environmental matters (the "Environmental
Laws"), except to the extent that failure to comply with such Environmental Laws
would not have a Material Adverse Effect. To the best of the Company's
knowledge, none of the Company's nor any of the Subsidiaries' property, assets
or operations is the subject of any federal, state or local investigation
evaluating whether any remedial action is needed to respond to a release into
the environment of any substance regulated by, or form the basis of liability
under, any Environmental Laws (a "Hazardous Material") or is in contravention of
any federal, state, local or foreign law, order or regulation that would have a
Material Adverse Effect. Neither the Company nor any of the Subsidiaries has
received any notice or claim, nor are there pending threatened or reasonably
anticipated lawsuits against it with respect to violations of an Environmental
Law or in connection with the release or threatened release of any Hazardous
Material into the environment. To the best of the Company's knowledge, neither
the Company nor any of the Subsidiaries has any material contingent liability in
connection with any release or threatened release of Hazardous Material into the
environment.
(v) The Company and the Subsidiaries maintain insurance of the types
and in amounts generally deemed adequate for its business and consistent with
insurance coverage maintained by similar companies and businesses, all of which
insurance is in full force and effect, except where the failure to maintain such
insurance could not have a Material Adverse Effect.
(w) The Company and the Subsidiaries own or possess all patents,
trademarks, trademark registration, service marks, service mark registrations,
trade names, copyrights, licenses, inventions, trade secrets and rights
described in the Prospectuses as being owned by them or any of them or necessary
for the conduct of their respective businesses except where the lack of such
ownership or possession would not have a Material Adverse Effect, and the
Company is not aware of any claim to the contrary or any challenge by any other
person to the rights of the Company or any of the Subsidiaries with respect to
the foregoing.
(x) The Company is not and, upon sale of the Shares to be issued and
sold in accordance herewith and upon application of the net proceeds to the
Company from such sale as described in the
-13-
<PAGE>
Prospectuses under the caption "Use of Proceeds," will not be an "investment
company" or a person "controlled" by an "investment company" within the meaning
of the Investment Company Act of 1940, as amended.
(y) Neither the Company nor its Subsidiaries does business with the
government of Cuba or with any person or affiliate located in Cuba.
(z) The Common Stock has been registered under the Exchange Act in
accordance with the rules and regulations thereunder.
(aa) The Shares have been approved for listing, subject to notice of
issuance, on the NYSE.
8. REPRESENTATIONS AND WARRANTIES OF THE SELLING STOCKHOLDER. The
Selling Stockholder represents and warrants to each Manager that:
(a) The Selling Stockholder now has, and on the Closing Date and any
Option Closing Date will have, valid and marketable title to the Shares to be
sold by the Selling Stockholder, free and clear of any lien, claim, security
interest or other encumbrance, including, without limitation, any restriction on
transfer, except as otherwise described in the Prospectuses.
(b) The Selling Stockholder now has, and on the Closing Date and any
Option Closing Date will have, full legal right, power and authorization, and
any approval required by law, to sell, assign, transfer and deliver such Shares
in the manner provided in this Agreement and the International Underwriting
Agreement, and upon delivery of and payment for such Shares hereunder, the
several Managers will acquire valid and marketable title to such Shares free and
clear of any lien, claim, security interest, or other encumbrance.
(c) This Agreement, and the U.S. Underwriting Agreement have been
duly authorized, executed and delivered by or on behalf of the Selling
Stockholder and are the valid and binding agreements of the Selling Stockholder
enforceable against the Selling Stockholder in accordance with their terms,
except that (i) the enforceability hereof or thereof may be limited by
bankruptcy, insolvency, reorganization, moratorium or other similar laws now or
hereafter in effect relating to creditors' rights generally, (ii) the remedy of
specific performance and other forms of equitable relief may be subject to
certain equitable defenses and to the discretion of the court before which the
proceedings may be brought and (iii) rights to indemnity and contribution
hereunder or thereunder may be limited by federal or state securities laws or
the public policy underlying such laws.
(d) Neither the sale of the Shares, the execution, delivery or
performance of this Agreement, or the U.S. Underwriting Agreement by or on
behalf of the Selling Stockholder nor the consummation by or on behalf of the
Selling Stockholder of the transactions contemplated hereby and thereby
(i) requires any consent, approval, authorization or other order of, or
registration or filing with, any court, regulatory body, administrative agency
or other governmental body, agency or official (except such as may be required
for the registration of the Shares under the Act or compliance with the
securities or Blue Sky laws of various jurisdictions or except as already
obtained), or (ii) conflicts or will conflict with or constitutes or will
constitute a breach of, or a default under, any agreement, indenture, lease or
other instrument to which the Selling Stockholder is a party or by which the
Selling Stockholder is or may be bound, or violates or will violate any
-14-
<PAGE>
statute, law, regulation or filing or judgment, injunction, order or decree
applicable to the Selling Stockholder, or will result in the creation or
imposition of any lien, charge or encumbrance upon any property or assets of the
Selling Stockholder pursuant to the terms of any agreement or instrument to
which the Selling Stockholder is a party or by which the Selling Stockholder may
be bound or to which any of the property or assets of the Selling Stockholder is
subject.
(e) The information pertaining to the Selling Stockholder provided to
the Company for inclusion under the caption "Principal and Selling Stockholders"
in the Prospectuses, does not and will not contain an untrue statement of a
material fact or omit to state any material fact required to be stated therein
or necessary to make the statements therein not misleading.
(f) The Selling Stockholder has not taken, directly or indirectly,
any action designed to or that might reasonably be expected to cause or result
in stabilization or manipulation of the price of the Common Stock to facilitate
the sale or resale of the Shares, except for the lock-up arrangements referred
to in the Prospectuses.
(g) The Selling Stockholder does not have any knowledge or any reason
to believe that the Registration Statement or the Prospectuses (or any amendment
or supplement thereto) contains any untrue statement of a material fact or omits
to state any material fact required to be stated therein or necessary to make
the statements therein not misleading.
9. INDEMNIFICATION AND CONTRIBUTION. (a) The Company and the Selling
Stockholder, jointly and severally, agree to indemnify and hold harmless you and
each other Manager and each person, if any, who controls any Manager within the
meaning of Section 15 of the Act or Section 20(a) of the Exchange Act from and
against any and all losses, claims, damages, liabilities and expenses (including
reasonable costs of investigation) arising out of or based upon any untrue
statement or alleged untrue statement of a material fact contained in any
International Prepricing Prospectus or in the Registration Statement or the
International Prospectus or in any amendment or supplement thereto, or arising
out of or based upon any omission or alleged omission to state therein a
material fact required to be stated therein or necessary to make the statements
therein not misleading, except insofar as such losses, claims, damages,
liabilities or expenses arise out of or are based upon any untrue statement or
omission or alleged untrue statement or omission which has been made therein or
omitted therefrom in reliance upon and in conformity with the information
relating to such Manager or U.S. Underwriter furnished in writing to the Company
by or on behalf of any Manager through you as Lead Managers or by or on behalf
of any U.S. Underwriter through the Representatives expressly for use in
connection therewith; provided, that with respect to the Selling Stockholder,
only to the extent that any such loss, liability, claim, damage or expense
arises out of or is based upon any untrue statement or alleged untrue statement
or an omission or alleged omission made therein in reliance upon and in
conformity with written information relating to the Selling Stockholder
furnished to the Company or the U.S. Underwriters by the Selling Stockholder
expressly for use in any Prepricing Prospectus or in the Registration Statement
or the U.S. Prospectus or in any amendment or supplement thereto; provided,
further, however, that the indemnification contained in this paragraph (a) with
respect to any International Prepricing Prospectus shall not inure to the
benefit of any Manager (or to the benefit of any person controlling such
Manager) on account of any such loss, claim, damage, liability or expense
arising from the sale of the Shares by such Manager to any person if a copy of
the International Prospectus shall not have been delivered or sent to such
person within the time required by the Act and the regulations thereunder, and
the untrue statement or alleged untrue statement or omission or alleged omission
of a material fact contained in such International Prepricing Prospectus was
corrected in the International Prospectus, provided that the Company has
delivered the
-15-
<PAGE>
International Prospectus to the several Managers in a reasonable quantity on a
timely basis to permit such delivery or sending. The foregoing indemnity
agreement shall be in addition to any liability which the Company or the Selling
Stockholder may otherwise have.
(b) If any action, suit or proceeding shall be brought against any Manager
or any person controlling any Manager in respect of which indemnity may be
sought against the Company or the Selling Stockholder, such Manager or such
controlling person shall promptly notify the parties against whom
indemnification is being sought (the "indemnifying parties"), and such
indemnifying parties shall assume the defense thereof, including the employment
of counsel and payment of all fees and expenses. Such Manager or any such
controlling person shall have the right to employ separate counsel in any such
action, suit or proceeding and to participate in the defense thereof, but the
fees and expenses of such counsel shall be at the expense of such Manager or
such controlling person unless (i) the indemnifying parties have agreed in
writing to pay such fees and expenses, (ii) the indemnifying parties have failed
to assume the defense and employ counsel, or (iii) the named parties to any such
action, suit or proceeding (including any impleaded parties) include both such
Manager or such controlling person and the indemnifying parties and such Manager
or such controlling person shall have been advised by its counsel in writing
that representation of such indemnified party and any indemnifying party by the
same counsel would be inappropriate under applicable standards of professional
conduct (whether or not such representation by the same counsel has been
proposed) due to actual or potential differing interests between them (in which
case the indemnifying party shall not have the right to assume the defense of
such action, suit or proceeding on behalf of such Manager or such controlling
person). It is understood, however, that the indemnifying parties shall, in
connection with any one such action, suit or proceeding or separate but
substantially similar or related actions, suits or proceedings in the same
jurisdiction arising out of the same general allegations or circumstances, be
liable for the reasonable fees and expenses of only one separate firm of
attorneys (in addition to any local counsel) at any time for all such Managers
and controlling persons not having actual or potential differing interests with
you or among themselves, which firm shall be designated in writing by Smith
Barney Inc., and that all such fees and expenses shall be reimbursed as they are
incurred. The indemnifying parties shall not be liable for any settlement of
any such action, suit or proceeding effected without their written consent, but
if settled with such written consent, or if there be a final judgment for the
plaintiff in any such action, suit or proceeding, the indemnifying parties agree
to indemnify and hold harmless any Manager, to the extent provided in the
preceding paragraph, and any such controlling person from and against any loss,
claim, damage, liability or expense by reason of such settlement or judgment.
(c) Each Manager agrees, severally and not jointly, to indemnify and hold
harmless the Company, its directors, its officers who sign the Registration
Statement, any person who controls the Company within the meaning of Section 15
of the Act or Section 20(a) of the Exchange Act and the Selling Stockholder, to
the same extent as the foregoing indemnity from the Company and the Selling
Stockholder to each Manager, but only with respect to information relating to
such Manager furnished in writing by or on behalf of such Manager through you
expressly for use in the Registration Statement, the International Prospectus or
any International Prepricing Prospectus, or any amendment or supplement thereto.
If any action, suit or proceeding shall be brought against the Company, any of
its directors, any such officer, any such controlling person or the Selling
Stockholder, based on the Registration Statement, the International Prospectus
or any International Prepricing Prospectus, or any amendment or supplement
thereto, and in respect of which indemnity may be sought against any Manager
pursuant to this paragraph (c), such Manager shall have the rights and duties
given to the Company and the Selling Stockholder by paragraph (b) above (except
that if the Company or the Selling Stockholder shall have assumed the defense
thereof such Manager shall not be required to do so, but may employ separate
counsel therein and participate in the defense thereof,
-16-
<PAGE>
but the fees and expenses of such counsel shall be at such Manager's expense),
and the Company, its directors, any such officer, any such controlling person,
and the Selling Stockholder shall have the rights and duties given to the
Managers by paragraph (b) above. The foregoing indemnity agreement shall be in
addition to any liability which the Managers may otherwise have.
(d) If the indemnification provided for in this Section 9 is unavailable
to an indemnified party under paragraphs (a) or (c) hereof in respect of any
losses, claims, damages, liabilities or expenses referred to therein, then an
indemnifying party, in lieu of indemnifying such indemnified party, shall
contribute to the amount paid or payable by such indemnified party as a result
of such losses, claims, damages, liabilities or expenses (i) in such proportion
as is appropriate to reflect the relative benefits received by the Company and
the Selling Stockholder on the one hand and the Managers on the other hand from
the offering of the Shares, or (ii) if the allocation provided by clause (i)
above is not permitted by applicable law, in such proportion as is appropriate
to reflect not only the relative benefits referred to in clause (i) above but
also the relative fault of the Company and the Selling Stockholder on the one
hand and the Managers on the other hand in connection with the statements or
omissions that resulted in such losses, claims, damages, liabilities or
expenses, as well as any other relevant equitable considerations. The relative
benefits received by the Company and the Selling Stockholder on the one hand and
the Managers on the other hand shall be deemed to be in the same proportion as
the total net proceeds from the offering (before deducting expenses) received by
the Company and the Selling Stockholder bear to the total underwriting discounts
and commissions received by the Managers, in each case as set forth in the table
on the cover page of the International Prospectus; provided that, in the event
that the Managers shall have purchased any Additional Shares hereunder, any
determination of the relative benefits received by the Company, the Selling
Stockholder or the Managers from the offering of the Shares shall include the
net proceeds (before deducting expenses) received by the Selling Stockholder,
and the underwriting discounts and commissions received by the Managers, from
the sale of such Additional Shares, in each case computed on the basis of the
respective amounts set forth in the notes to the table on the cover page of the
International Prospectus. The relative fault of the Company and the Selling
Stockholder on the one hand and the Managers on the other hand shall be
determined by reference to, among other things, whether the untrue or alleged
untrue statement of a material fact or the omission or alleged omission to state
a material fact relates to information supplied by the Company or the Selling
Stockholder on the one hand or by the Managers on the other hand and the
parties' relative intent, knowledge, access to information and opportunity to
correct or prevent such statement or omission.
(e) The Company, the Selling Stockholder and the Managers agree that it
would not be just and equitable if contribution pursuant to this Section 9 were
determined by a pro rata allocation (even if the Managers were treated as one
entity for such purpose) or by any other method of allocation that does not take
account of the equitable considerations referred to in paragraph (d) above. The
amount paid or payable by an indemnified party as a result of the losses,
claims, damages, liabilities and expenses referred to in paragraph (d) above
shall be deemed to include, subject to the limitations set forth above, any
legal or other expenses reasonably incurred by such indemnified party in
connection with investigating any claim or defending any such action, suit or
proceeding. Notwithstanding the provisions of this Section 9, no Manager shall
be required to contribute any amount in excess of the amount by which the total
price of the Shares underwritten by it and distributed to the public exceeds the
amount of any damages which such Manager has otherwise been required to pay by
reason of such untrue or alleged untrue statement or omission or alleged
omission. Notwithstanding the provisions of this Section 9, the Selling
Stockholder shall not be required to contribute any amount in excess of the
aggregate proceeds received by such Selling Stockholder from the sale of its
Shares pursuant to this Agreement (net of underwriting discounts and commissions
and after deducting expenses). No person guilty of fraudulent misrepresentation
(within the meaning of Section 11(f) of the Act) shall be entitled
-17-
<PAGE>
to contribution from any person who was not guilty of such fraudulent
misrepresentation. The Managers' obligations to contribute pursuant to this
Section 9 are several in proportion to the respective numbers of Firm Shares set
forth opposite their names in Schedule II hereto (or such numbers of Firm Shares
increased as set forth in Section 12 hereof) and not joint.
(f) No indemnifying party shall, without the prior written consent of the
indemnified party, effect any settlement of any pending or threatened action,
suit or proceeding in respect of which any indemnified party is or could have
been a party and indemnity could have been sought hereunder by such indemnified
party, unless such settlement includes an unconditional release of such
indemnified party from all liability on claims that are the subject matter of
such action, suit or proceeding.
(g) Any losses, claims, damages, liabilities or expenses for which an
indemnified party is entitled to indemnification or contribution under this
Section 9 shall be paid by the indemnifying party to the indemnified party as
such losses, claims, damages, liabilities or expenses are incurred. The
indemnity and contribution agreements contained in this Section 9 and the
representations and warranties of the Company and the Selling Stockholder set
forth in this Agreement shall remain operative and in full force and effect,
regardless of (i) any investigation made by or on behalf of any Manager or any
person controlling any Manager, the Company, its directors or officers or the
Selling Stockholder, any director, officer or partner of the Selling Stockholder
or any person controlling the Company or the Selling Stockholder, (ii)
acceptance of any Shares and payment therefor hereunder, and (iii) any
termination of this Agreement. A successor to any Manager or any person
controlling any Manager, or to the Company, its directors or officers, or to the
Selling Stockholder, any director, officer or partner of the Selling Stockholder
or any person controlling the Company or the Selling Stockholder, shall be
entitled to the benefits of the indemnity, contribution and reimbursement
agreements contained in this Section 9.
10. CONDITIONS OF MANAGERS' OBLIGATIONS. The several obligations of the
Managers to purchase the Firm Shares hereunder are subject to the following
conditions:
(a) If, at the time this Agreement is executed and delivered, it is
necessary for the Registration Statement or a post-effective amendment thereto
or an Additional Registration Statement to be declared effective before the
offering of the Shares may commence, the Registration Statement or such
post-effective amendment or Additional Registration Statement shall have become
effective not later than 5:30 P.M., New York City time, on the date hereof, or
at such later date and time as shall be consented to in writing by you, and all
filings, if any, required by Rules 424 and 430A under the Act shall have been
timely made; no stop order suspending the effectiveness of the Registration
Statement shall have been issued and no proceeding for that purpose shall have
been instituted or, to the knowledge of the Company or any Manager, threatened
by the Commission, and any request of the Commission for additional information
(to be included in the Registration Statement or the Prospectuses or otherwise)
shall have been complied with to your satisfaction.
(b) Subsequent to the effective date of this Agreement, there shall
not have occurred (i) any change, or any development involving a prospective
change, that would have a Material Adverse Effect on the Company and the
Subsidiaries, taken as a whole, not contemplated by the Prospectuses, which in
your opinion, as Lead Managers for the several Managers, makes it impracticable
or inadvisable to proceed with an offering of the Shares.
-18-
<PAGE>
(c) You shall have received on the Closing Date an opinion of B.
Curtis Westen, Senior Vice President, General Counsel and Secretary for the
Company dated the Closing Date and addressed to you, as Lead Managers for the
several Managers, to the effect that:
(i) Each Subsidiary is a corporation duly organized and
validly existing and in good standing under the laws of the jurisdiction of its
organization, with full power and authority to own, lease, and operate its
properties and to conduct its business as described in the Registration
Statement and the Prospectuses (and any amendment or supplement thereto); and
all the outstanding shares of capital stock of each of the Subsidiaries have
been duly authorized and validly issued, are fully paid and nonassessable, and
are owned of record by the Company directly, or indirectly through one of the
other Subsidiaries, free and clear of any security interest, lien, adverse
claim, equity or other encumbrance, except as referred to in the Registration
Statement and the Prospectuses (or any amendment or supplement thereto);
(ii) The Company and each Subsidiary is duly registered and
qualified to conduct its business and is in good standing as a foreign
corporation in each jurisdiction where the nature of its properties or the
conduct of its business requires such registration or qualification, except
where the failure so to register or qualify or to be in good standing does not
have a Material Adverse Effect;
(iii) All the shares of capital stock of the Company
outstanding prior to the issuance of the Shares have been duly authorized and
validly issued and are fully paid and nonassessable;
(iv) Neither the Company nor any of the Subsidiaries is (a)
in violation of its certificate of incorporation or bylaws, or other
organizational documents, nor (b) is in default in the performance of any
material obligation, agreement or condition contained in any bond, debenture,
note or other evidence of indebtedness, except as disclosed in the Registration
Statement or Prospectuses (or any amendment or supplement thereto);
(v) Neither the offer, sale or delivery of the Shares, nor
the execution, delivery or performance of the International Underwriting
Agreement or the U.S. Underwriting Agreement, nor compliance by the Company with
the provisions thereof, nor consummation by the Company of the transactions
contemplated thereby conflicts or will conflict with or constitutes or will
constitute a breach of, or a default under, in any material respect, the
certificate of incorporation or bylaws, or other organizational documents of the
Company or any of the Subsidiaries or any agreement, indenture, lease or other
instrument to which the Company or any of the Subsidiaries is a party or by
which any of them or any of their respective properties is bound that is made an
exhibit to the Registration Statement or to any Incorporated Document, or is
known to such counsel after reasonable inquiry, or will result in the creation
or imposition of any lien, charge or encumbrance upon any property or assets of
the Company or any of the Subsidiaries, nor will any such action result in any
violation of any existing law, regulation, ruling (assuming compliance with all
applicable state securities and Blue Sky laws), judgment, injunction, order or
decree known to such counsel after reasonable inquiry, and applicable to the
Company, the Subsidiaries, or any of their respective properties, except where
any of the foregoing would not have a Material Adverse Effect;
(vi) Each of the Company and each Subsidiary has full
corporate power and authority and, to such counsel's knowledge after reasonable
inquiry, such Permits as are required, (A) under such federal and state
healthcare laws as are applicable to the Company or any of the Subsidiaries to
own, lease and operate their respective properties and to conduct their
respective businesses as described in the Prospectuses, and (B) with respect to
those facilities owned, leased or managed by the Company or any
-19-
<PAGE>
Subsidiary that participates in Medicare and/or Medicaid, to receive
reimbursement thereunder, except where the failure to so possess any such
Permits would not, singularly or in the aggregate, have a Material Adverse
Effect;
(vii) To the knowledge of such counsel, neither the Company
nor any of the Subsidiaries is in violation of any healthcare law, ordinance,
administrative or governmental rule or regulation applicable to them,
respectively, or of any decree of any court or governmental agency or body
having jurisdiction over them relating thereto, respectively, and, in the course
of such counsel's representation of the Company or any Subsidiary, nothing has
come to such counsel's attention to cause it to believe that the Company or any
Subsidiary is in violation of any other law, ordinance, administrative or
governmental rule or regulation applicable to it or of any decree of any court
or governmental agency or body having jurisdiction over it which could have a
Material Adverse Effect;
(viii) There are no legal or governmental actions, suits,
claims, proceedings or investigations pending or, to the knowledge of the
Company, threatened, against the Company or any of the Subsidiaries or against
or involving any of its officers, directors or employees in connection with the
business or affairs of the Company, including, without limitation, any claims
for indemnification arising under any agreement to which the Company is a party,
which are materially adverse to the Company or any of its Subsidiaries, or to
which the Company or any of the Subsidiaries, or to which any of their
respective properties, is subject which are material to the Company and its
Subsidiaries, taken as a whole (including, without limitation, any proceeding to
revoke or deny renewal of any Permits (as defined herein) of the Company or any
of the Subsidiaries), that are required to be described in the Registration
Statement or the Prospectuses but are not described as required, and there are
no agreements, contracts, indentures, leases or other instruments relating to
the Company that are required to be described in the Registration Statement or
the Prospectuses or to be filed as an exhibit to the Registration Statement or
any Incorporated Document that are not described or filed as required by the Act
or the Exchange Act. The descriptions of the terms of any such contracts or
documents contained in the Registration Statement or the Prospectuses are
accurate in all material respects. The Company is not subject to or in default
with respect to any writ, order, judgment, injunction or decree which is
materially adverse to the Company or any of its Subsidiaries;
(ix) Each of the Incorporated Documents (except for the
financial statements and the notes thereto and the schedules and other financial
and statistical data included therein, as to which counsel need not express any
opinion) complies as to form in all material respects with the Exchange Act and
the rules and regulations of the Commission thereunder; and
(x) The statements in the Registration Statement and
Prospectuses or any Incorporated Document, insofar as they are descriptions of
contracts, agreements or other legal documents, or refer to statements of law or
legal conclusions, are accurate in all material respects and present fairly the
information required to be shown.
In addition, such counsel shall state that although such counsel has
not undertaken, except as otherwise indicated in his opinion, to determine
independently, and does not assume any responsibility for, the accuracy,
completeness or fairness of the statements in the Registration Statement, such
counsel has participated in the preparation of the Registration Statement and
the Prospectuses, including review and discussion of the contents thereof
(including review and discussion of the contents of all Incorporated Documents),
and no facts have come to the attention of such counsel that would lead him to
believe that the
-20-
<PAGE>
Registration Statement (including the Incorporated Documents) at the time the
Registration Statement became effective, or the Prospectuses as of their
respective dates and as of the Closing Date or the Option Closing Date, as the
case may be, contained an untrue statement of a material fact or omitted or
omits to state a material fact necessary in order to make the statements therein
not misleading or that any amendment or supplement to the Prospectuses, as of
its respective date, and as of the Closing Date or the Option Closing Date, as
the case may be, contained or contains an untrue statement of a material fact or
omitted or omits to state a material fact required to be stated in the
Prospectuses or necessary in order to make the statements therein, in the light
of the circumstances under which they were made, not misleading (it being
understood that such counsel need express no opinion with respect to the
financial statements and the notes thereto and the schedules and other financial
and statistical data included in the Registration Statement or the Prospectuses
or any Incorporated Documents).
In rendering such opinion as aforesaid, such counsel may, as to
matters of law, rely upon an opinion or opinions, each dated the Closing Date,
of other counsel retained by him or the Company as to laws of any jurisdiction
other than the United States or the State of California or the corporation law
of the State of Delaware, provided that (1) each such local counsel is
reasonably acceptable to the Lead Managers, (2) such reliance is expressly
authorized by each opinion so relied upon and a copy of each such opinion is
delivered to the Lead Managers and is, in form and substance reasonably
satisfactory to them and their counsel, and (3) such counsel shall state in his
opinion that he believes that they and the Managers are justified in relying
thereon.
(d) You shall have received on the Closing Date an opinion from
McDermott, Will & Emery, Special Counsel to the Company, dated the Closing Date
and addressed to you, as Lead Managers for the several Managers, to the effect
that:
(i) The Company is a corporation duly organized and validly
existing in good standing under the laws of the State of Delaware with full
corporate power and authority to own, lease and operate its properties and to
conduct its business as described in the Registration Statement and the
Prospectuses;
(ii) The authorized capital stock of the Company is as set
forth under the caption "Capitalization" in the Prospectuses; and, the
authorized capital stock of the Company conforms in all material respects as to
legal matters to the description thereof contained in the Prospectuses under the
caption "Description of Capital Stock";
(iii) The Shares to be issued and sold to the U.S.
Underwriters and Managers by the Company pursuant to the U.S. Underwriting
Agreement and the International Underwriting Agreement have been duly authorized
and, when issued and delivered to the U.S. Underwriters and Managers against
payment therefor in accordance with the terms of the U.S. Underwriting Agreement
and the International Underwriting Agreement will be validly issued, fully paid
and nonassessable and free of any (A) preemptive rights or (B) to the best
knowledge of such counsel after reasonable inquiry, similar rights that entitle
or will entitle any person to acquire any Shares upon the issuance thereof by
the Company;
(iv) The form of certificates for the Shares conforms to the
requirements of the Delaware General Corporation Law;
-21-
<PAGE>
(v) The Registration Statement and all post-effective
amendments, if any, have become effective under the Act and, to the best
knowledge of such counsel after reasonable inquiry, no stop order suspending the
effectiveness of the Registration Statement has been issued and no proceedings
for that purpose are pending before or contemplated by the Commission; and any
required filing of the Prospectuses pursuant to Rule 424(b) has been made in
accordance with Rule 424(b);
(vi) The Company has the corporate power and authority to
enter into the U.S. Underwriting Agreement and the International Underwriting
Agreement and to issue, sell and deliver the Shares to be sold by it to the U.S.
Underwriters and Managers as provided therein, and each of the U.S. Underwriting
Agreement and the International Underwriting Agreement have been duly
authorized, executed and delivered by the Company and is a legal, valid and
binding agreement of the Company, enforceable against the Company in accordance
with its terms, except as enforcement of rights to indemnity and contribution
hereunder may be limited by federal or state securities laws or principles of
public policy and subject to the qualification that the enforceability of the
Company's obligations hereunder may be limited by bankruptcy, fraudulent
conveyance, insolvency, reorganization, moratorium and other laws relating to or
affecting creditors' rights generally and by general equitable principles;
(vii) No consent, approval, authorization or other order of,
or registration or filing with, any court, regulatory body, administrative
agency or other governmental body, agency, or official is required on the part
of the Company (except as have been obtained under the Act and the Exchange Act
or such as may be required under state securities or Blue Sky laws governing the
purchase and distribution of the Shares) for the valid issuance and sale of the
Shares to the Managers as contemplated by the International Underwriting
Agreement;
(viii) (A) The Registration Statement and the Prospectuses and
any supplements or amendments thereto (except for the financial statements and
notes thereto and the schedules and other financial and statistical data
included therein, as to which such counsel need not express any opinion) comply
as to form in all material respects with the requirements of the Act; and (B)
each of the Incorporated Documents (except for (1) the financial statements and
the notes thereto and the schedules and other financial and statistical data
included therein and (2) the Company's two Current Reports on Form 8-K each
dated March 15, 1995, the Company's Current Report on Form 8-K dated December 8,
1995, as amended by the Company's Current Report on Form 8-K/A dated March 27,
1996, the Company's Current Report on Form 8-K dated April 10, 1996, and the
Company's Current Report on Form 8-K dated May 3, 1996, in each case as to which
counsel need not express any opinion) complies as to form in all material
respects with the Exchange Act and the rules and regulations of the Commission
thereunder;
(ix) Except as described in or contemplated by the
Prospectuses, such counsel does not know of any outstanding option, warrant or
other right calling for the issuance of, and such counsel does not know of any
commitment, plan or arrangement to issue, any shares of capital stock of the
Company or any securities convertible into or exchangeable or exercisable for
capital stock of the Company (other than the issuance of Common Stock upon
exercise of options under the Company's stock option plans described in the
Prospectus); and except as described in the Prospectuses, such counsel does not
know of any holder of any security of the Company or any other person who has
the right, contractual or otherwise, to cause the Company to sell or otherwise
issue to them, or permit them to underwrite the sale of, any of the Shares or
the right (other than any such right which has been complied with by the Company
or waived) to have any Common Stock or other securities of the Company included
in the Registration Statement or the
-22-
<PAGE>
right, as a result of the filing of the Registration Statement or otherwise, to
require registration under the Act of any shares of Common Stock or other
securities of the Company; and
(x) The Company is not and, upon sale of the Shares to be
issued and sold by the Company pursuant to this Agreement and the U.S.
Underwriting Agreement and upon application of the net proceeds therefrom as
described in the Prospectuses under the caption "Use of Proceeds" will not be,
an "investment company" or a person "controlled" by an "investment company"
within the meaning of the Investment Company Act of 1940, as amended.
In addition, such counsel shall state that although such counsel has
not undertaken, except as otherwise indicated in their opinion, to determine
independently, and does not assume any responsibility for, the accuracy,
completeness or fairness of the statements in the Registration Statement, such
counsel has participated in the preparation of the Registration Statement and
the Prospectuses, including review and discussion of the contents thereof
(including review and discussion of the contents of all Incorporated Documents),
and no facts have come to the attention of such counsel that would lead them to
believe that the Registration Statement (including the Incorporated Documents)
at the time the Registration Statement became effective, or the Prospectuses as
of their respective dates and as of the Closing Date or the Option Closing Date,
as the case may be, contained an untrue statement of a material fact or omitted
or omits to state a material fact necessary in order to make the statements
therein not misleading or that any amendment or supplement to the Prospectuses,
as of its respective date, and as of the Closing Date or the Option Closing
Date, as the case may be, contained or contains an untrue statement of a
material fact or omitted or omits to state a material fact required to be stated
in the Prospectuses or necessary in order to make the statements therein, in
light of the circumstances under which they were made, not misleading (it being
understood that such counsel need express no opinion with respect to the
financial statements and the notes thereto and the schedules and other financial
and statistical data included in the Registration Statement or the Prospectuses
or any Incorporated Documents).
The opinion of such counsel may be limited to the laws of the United
States and the State of New York, State of California, the corporation laws of
the State of Delaware, and to the laws of certain other jurisdictions applicable
to the Company or a Subsidiary to the extent covered by an opinion or opinions,
each dated the Closing Date or the Option Closing Date, as the case may be, of
other counsel retained by them or the Company as to the laws of such other
jurisdiction, upon which such counsel may rely, provided that (1) each such
local counsel is acceptable to the Lead Managers, (2) such reliance is expressly
authorized by each opinion so relied upon and a copy of each such opinion is
delivered to the Lead Managers and is, in form and substance satisfactory to
them and their counsel, and (3) counsel shall state in their opinion that they
believe that they and the Managers are justified in relying thereon.
(e) You shall have received on the Closing Date an opinion of Manatt,
Phelps & Phillips, LLP, special counsel for the Selling Stockholder, dated the
Closing Date and addressed to you, as Lead Managers for the several Managers, to
the effect that:
(i) The U.S. Underwriting Agreement and the International
Underwriting Agreement have each been duly executed and delivered by or on
behalf of the Selling Stockholder and are valid and binding agreements of the
Selling Stockholder enforceable against the Selling Stockholder in accordance
with their respective terms, except (A) as enforcement of rights to indemnity
and contribution hereunder and thereunder may be limited by federal or state
securities laws or principles of public policy and (B) subject to the
qualification that the enforceability of each of their obligations hereunder and
-23-
<PAGE>
thereunder may be limited by bankruptcy, fraudulent conveyance, insolvency,
reorganization, moratorium and other laws relating to or affecting creditors'
rights generally and by general equitable principles;
(ii) To the knowledge of such counsel, the Selling
Stockholder has full legal right, power and authorization and any approval
required by law to sell, assign, transfer and deliver good and marketable title
to the Shares the Selling Stockholder has agreed to sell pursuant to this
Agreement; and upon delivery of such Shares pursuant to the U.S. Underwriting
Agreement and the International Underwriting Agreement and payment therefor as
contemplated herein and assuming that the several U.S. Underwriters and Managers
are bona fide purchasers within the meaning of the Uniform Commercial Code as in
effect in the State of New York (the "UCC"), the U.S. Underwriters will acquire
good and marketable title to such Shares free and clear of any adverse claim
(within the meaning of Section 8-302 of the U.C.C.); and
(iii) To the knowledge of such counsel, the execution and
delivery of the U.S. Underwriting Agreement and the International Underwriting
Agreement by the Selling Stockholder and the consummation of the transactions
contemplated hereby and thereby will not conflict with, violate, result in a
breach of or constitute a default under the terms or provisions of any
agreement, indenture, mortgage or other instrument to which the Selling
Stockholder is a party or by which it or any of its assets or property is bound,
or any court order or decree or any law, rule, or regulation known to such
counsel applicable to the Selling Stockholder or to any of the respective
property or assets of the Selling Stockholder.
In addition, such counsel shall state that although such counsel has
not undertaken, except as otherwise indicated in their opinion, to determine
independently, and does not assume any responsibility for, the accuracy,
completeness or fairness of the statements in the Registration Statement with
respect to the Selling Stockholder, such counsel has participated in the
preparation of the Registration Statement and the Prospectuses, including review
and discussion of the contents thereof (including review and discussion of the
contents of all Incorporated Documents with respect to the Selling Stockholder),
and no facts have come to the attention of such counsel that would lead them to
believe that, insofar as such relates to the Selling Stockholder, the
Registration Statement (including the Incorporated Documents) at the time the
Registration Statement became effective, or the Prospectuses as of their
respective dates and as of the Closing Date or the Option Closing Date, as the
case may be, contained an untrue statement of a material fact or omitted or
omits to state a material fact necessary in order to make the statements
therein, in the light of the circumstances under which they were made, not
misleading or that any amendment or supplement to the Prospectuses, as of its
respective date, and as of the Closing Date or the Option Closing Date, as the
case may be, contained or contains an untrue statement of a material fact or
omitted or omits to state a material fact required to be stated in the
Prospectuses or necessary in order to make the statements therein, in light of
the circumstances under which they were made, not misleading (it being
understood that such counsel need express no opinion with respect to the
financial statements and the notes thereto and the schedules and other financial
and statistical data included in the Registration Statement or the Prospectuses
or any Incorporated Documents or any other information regarding the Company).
The opinion of such counsel may be limited to the laws of the United
States and the State of California, the corporation laws of the State of
Delaware, and to the laws of certain other jurisdictions applicable to the
Selling Stockholder to the extent covered by an opinion or opinions, each dated
the Closing Date or the Option Closing Date, as the case may be, of other
counsel retained by them or the Company as to the laws of such other
jurisdiction, upon which such counsel may rely, provided that (1) each such
local counsel is acceptable to the Lead Managers, (2) such reliance is expressly
authorized by each opinion so relied upon and a copy of each such opinion is
delivered to the Lead Managers and is, in form and substance
-24-
<PAGE>
satisfactory to them and their counsel, and (3) counsel shall state in their
opinion that they believe that they and the Managers are justified in relying
thereon.
(f) You shall have received on the Closing Date an opinion of Dewey
Ballantine, counsel for the Managers, dated the Closing Date and addressed to
you, as Lead Managers for the several Managers, with respect to the matters
referred to in clauses (iii) (other than subclause (B) thereof), (v),
(vi), (viii) (other than subclause (B) thereof) and the paragraph immediately
following clause (x) of the foregoing paragraph (d) and such other related
matters as you may request.
(g) You shall have received letters addressed to you, as Lead
Managers for the several Managers, and dated the date hereof and the Closing
Date from Deloitte & Touche LLP, independent certified public accountants,
substantially in the forms heretofore approved by you.
(h) (i) No stop order suspending the effectiveness of the
Registration Statement shall have been issued and no proceedings for that
purpose shall have been taken or, to the knowledge of the Company, shall be
contemplated by the Commission at or prior to the Closing Date; (ii) there shall
not have been any change in the capital stock of the Company nor any material
increase in the short-term (other than in the ordinary course of business) or
long-term debt of the Company from that set forth or contemplated in the
Registration Statement or the Prospectuses (or any amendment or supplement
thereto); (iii) there shall not have been, since the respective dates as of
which information is given in the Registration Statement and the Prospectuses
(or any amendment or supplement thereto), except as may otherwise be stated in
the Registration Statement and Prospectuses (or any amendment or supplement
thereto), any material adverse change in the condition (financial or other),
business, prospects, properties, net worth or results of operations of the
Company and the Subsidiaries, taken as a whole; and (iv) all the representations
and warranties of the Company contained in this Agreement shall be true and
correct on and as of the date hereof and on and as of the Closing Date as if
made on and as of the Closing Date, and you shall have received a certificate,
dated the Closing Date and signed by the chief executive officer and the chief
financial officer of the Company (or such other officers as are acceptable to
you), to the effect set forth in this Section 10(h) and in Section 10(i) hereof.
(i) The Company shall not have failed at or prior to the Closing Date
to have performed or complied with any of its agreements herein contained and
required to be performed or complied with by it hereunder at or prior to the
Closing Date.
(j) All the representations and warranties of the Selling Stockholder
contained in this Agreement shall be true and correct in all material respects
on and as of the date hereof and on and as of the Closing Date as if made on and
as of the Closing Date, and you shall have received a certificate, dated the
Closing Date and signed by or on behalf of the Selling Stockholder as to the
matters set forth in this Section 10(j) and in Section 10(k) hereof.
(k) The Selling Stockholder shall not have failed at or prior to the
Closing Date to have performed or complied in any material respect with any of
their agreements herein contained and required to be performed or complied with
by them hereunder at or prior to the Closing Date.
(l) The Shares shall have been listed or approved for listing subject
to notice of issuance on the New York Stock Exchange.
-25-
<PAGE>
(m) The Sellers shall have furnished or caused to be furnished to you
such further certificates and documents as you shall have reasonably requested.
(n) The closing under the U.S. Underwriting Agreement shall have
occurred concurrently with the closing hereunder on the Closing Date.
(o) The Selling Stockholder shall have obtained any requisite consent
from the California Department of Corporations relating to the sale of the
Selling Stockholder's Shares to the U.S. Underwriters and the Managers.
All such opinions, certificates, letters and other documents will be
in compliance with the provisions hereof only if they are reasonably
satisfactory in form and substance to you and your counsel.
Any certificate or document signed by any officer of the Company or by
or on behalf of the Selling Stockholder and delivered to you, as Lead Managers
for the several Managers, or to counsel for the Managers, shall be deemed a
representation and warranty by the Company or the Selling Stockholder, as the
case may be, to each Manager as to the statements made therein.
The several obligations of the Managers to purchase Additional Shares
hereunder are subject to the satisfaction on and as of any Option Closing Date
of the conditions set forth in this Section 10, except that, if any Option
Closing Date is other than the Closing Date, the certificates, opinions and
letters referred to in paragraphs (c) through (h) and paragraphs (j), (k) and
(n) shall be dated the Option Closing Date in question and the opinions or
letters called for by paragraphs (c) through (f) shall be revised to reflect the
sale of Additional Shares.
11. EXPENSES. The Sellers agree to pay the following costs and expenses
and all other costs and expenses incident to the performance by them of their
obligations hereunder: (i) the preparation, printing or reproduction, and
filing with the Commission of the registration statement (including financial
statements and exhibits thereto), each Prepricing Prospectus, the Prospectus,
and each amendment or supplement to any of them; (ii) the printing (or
reproduction) and delivery (including postage, air freight (or reproduction) and
delivery (including postage, air freight charges and charges for counting and
packaging) of such copies of the registration statement, the Registration
Statement, each Prepricing Prospectus, the Prospectus, the Incorporated
Documents and all amendments or supplements to any of them as may be reasonably
requested for use in connection with the offering and sale of the Shares; (iii)
the preparation, printing, authentication, issuance and delivery of certificates
for the Shares, including any stamp taxes in connection with the original
issuance and sale of the Shares; (iv) the printing (or reproduction) and
delivery of this Agreement, the preliminary and supplemental Blue Sky Memoranda
and all other agreements or documents printed (or reproduced) and delivered in
connection with the original issuance and sale of the Shares; (iv) the printing
(or reproduction) and delivery of this Agreement, the preliminary and
supplemental Blue Sky Memoranda and all other agreements or documents printed
(or reproduced) and delivered in connection with the offering of the Shares; (v)
the listing of the Shares on the New York Stock Exchange; (vi) the registration
or qualification of the Shares for offer and sale under the securities or Blue
Sky laws of the several states as provided in Section 5(g) hereof (including the
reasonable fees, expenses and disbursements hereof (including the reasonable
fees, expenses and disbursements of counsel for the Managers relating to the
preparation, printing or reproduction, and delivery of the preliminary and
supplemental Blue Sky Memoranda and such registration and qualification); (vii)
the filing fees and the fees and expenses of counsel for the Managers in
connection with any filings required to be made with the National Association of
Securities Dealers, Inc.; (viii) the
-26-
<PAGE>
transportation and other expenses incurred by or on behalf of representatives of
the Company (which shall not be deemed to include any Manager or any U.S.
Underwriter) in connection with presentations to prospective purchasers of the
Shares; and (ix) the fees and expenses of the Company's accountants and the fees
and expenses of counsel (including local and special counsel) for the Company
and the Selling Stockholder; provided that nothing in this Section 11 shall
preclude Sellers from allocating between themselves in any manner they shall
determine any such costs or expenses.
12. EFFECTIVE DATE OF AGREEMENT. This Agreement shall become effective:
(i) upon the execution and delivery hereof by the parties hereto; or (ii) if, at
the time this Agreement is executed and delivered, it is necessary for the
registration statement or a post-effective amendment thereto or an Additional
Registration Statement to be declared effective before the offering of the
Shares may commence, when notification of the effectiveness of the registration
statement or such post-effective amendment or Additional Registration Statement
has been released by the Commission. Until such time as this Agreement shall
have become effective, it may be terminated by the Company, by notifying you, or
by you, as Lead Managers for the several Managers, by notifying the Company and
the Selling Stockholder.
If any one or more of the Managers shall fail or refuse to purchase
Shares which it or they are obligated to purchase hereunder on the Closing Date,
and the aggregate number of Shares which such defaulting Manager or Underwriters
are obligated but fail or refuse to purchase is not more than one-tenth of the
aggregate number of Shares which the Managers are obligated to purchase on the
Closing Date, each non-defaulting Manager shall be obligated, severally, in the
proportion which the number of Firm Shares set forth opposite its name in
Schedule II hereto bears to the aggregate number of Firm Shares set forth
opposite the names of all non-defaulting Managers or in such other proportion as
you may specify in accordance with Section 20 of the Master Agreement Among
Underwriters of Smith Barney Inc., to purchase the Shares which such defaulting
Manager or Underwriters are obligated, but fail or refuse, to purchase. If any
one or more of the Managers shall fail or refuse to purchase Shares which it or
they are obligated to purchase on the Closing Date and the aggregate number of
Shares with respect to which such default occurs is more than one-tenth of the
aggregate number of Shares which the Managers are obligated to purchase on the
Closing Date and arrangements satisfactory to you and the Company for the
purchase of such Shares by one or more non-defaulting Managers or other party or
parties approved by you and the Company are not made within 36 hours after such
default, this Agreement will terminate without liability on the part of any
non-defaulting Manager or the Company. In any such case which does not result
in termination of this Agreement, either you or the Company shall have the right
to postpone the Closing Date, but in no event for longer than seven days, in
order that the required changes, if any, in the Registration Statement and the
Prospectus or any other documents or arrangements may be effected. Any action
taken under this paragraph shall not relieve any defaulting Manager from
liability in respect of any such default of any such Underwriter under this
Agreement. The term "Manager" as used in this Agreement includes, for all
purposes of this Agreement, any party not listed in Schedule II hereto who, with
your approval and the approval of the Company, purchases Shares which a
defaulting Manager is obligated, but fails or refuses, to purchase.
Any notice under this Section 12 may be given by telegram, telecopy or
telephone but shall be subsequently confirmed by letter.
13. TERMINATION OF AGREEMENT. This Agreement shall be subject to
termination in your absolute discretion, without liability on the part of any
Manager to the Company or the Selling Stockholder, by notice to the Company, if
prior to the Closing Date or any Option Closing Date (if different from the
Closing Date and then only as to the Additional Shares), as the case may be, (i)
trading in the Common Stock of the
-27-
<PAGE>
Company shall be suspended or subject to any restriction or limitation not in
effect on the date of this Agreement; (ii) trading in securities generally on
the New York Stock Exchange, the American Stock Exchange or the Nasdaq National
Market shall have been suspended or materially limited; (iii) a general
moratorium on commercial banking activities in New York shall have been declared
by either federal or state authorities; or (iv) there shall have occurred any
outbreak or escalation of hostilities or other international or domestic
calamity, crisis or change in political, financial or economic conditions, the
effect of which on the financial markets of the United States is such as to make
it, in your judgment, impracticable or inadvisable to commence or continue the
offering of the Shares at the offering price to the public set forth on the
cover page of the International Prospectus or to enforce contracts for the
resale of the Shares by the Managers.
Notice of such termination may be given by telegram, telecopy or telephone
and shall be subsequently confirmed by letter.
14. INFORMATION FURNISHED BY THE MANAGERS. The statements set forth in
the last paragraph on the cover page, the stabilization legend on the inside
front cover page, and the statements in the second and fourth paragraphs under
the caption "Underwriting" in any International Prepricing Prospectus and in the
International Prospectus constitute the only information furnished by or on
behalf of the Managers through you as such information is referred to in
Sections 7(b) and 9 hereof.
15. MISCELLANEOUS. Except as otherwise provided in Sections 5, 12 and 13
hereof, notice given pursuant to any provision of this Agreement shall be in
writing and shall be delivered (i) if to the Company, at the office of the
Company at [21600 Oxnard Street, Woodland Hills, California 91367], with a copy
to McDermott, Will & Emery, 227 West Monroe St., Chicago, Illinois 60606-5906,
Attention: Bernard S. Kramer, Esq. (ii) if to the Selling Stockholder, to The
California Wellness Foundation, 6320 Canoga Avenue, Suite 1700, Woodland Hills,
California 91367, Attention: Gary Yates, with a copy to Manatt, Phelps &
Phillips, LLP, 11355 W. Olympic Blvd., Los Angeles, California 90064, Attention:
Gordon M. Bava, Esq.; or (iii) if to you, as Lead Managers for the several
Managers, care of Smith Barney Inc., 388 Greenwich Street, New York, New York
10013, Attention: Manager, Investment Banking Division, with a copy to Dewey
Ballantine, 333 South Hope Street, 30th Floor, Los Angeles, CA 90071, Attention:
Robert M. Smith, Esq.
This Agreement has been and is made solely for the benefit of the several
Managers, the Company, its directors and officers, the other controlling persons
referred to in Section 9 hereof and the Selling Stockholders and their
respective successors and assigns, to the extent provided herein, and no other
person shall acquire or have any right under or by virtue of this Agreement.
Neither the term "successor" nor the term "successors and assigns" as used in
this Agreement shall include a purchaser from any Manager of any of the Shares
in his status as such purchaser.
16. APPLICABLE LAW; COUNTERPARTS. This Agreement shall be governed by and
construed in accordance with the laws of the State of New York applicable to
contracts made and to be performed within the State of New York.
This Agreement may be signed in various counterparts which together
constitute one and the same instrument. If signed in counterparts, this
Agreement shall not become effective unless at least one counterpart hereof
shall have been executed and delivered on behalf of each party hereto.
-28-
<PAGE>
Please confirm that the foregoing correctly sets forth the agreement among
the Company, the Selling Stockholder and the several Managers.
Very truly yours,
HEALTH SYSTEMS INTERNATIONAL, INC.
By
--------------------------
Name:
Title:
THE CALIFORNIA WELLNESS FOUNDATION
By
--------------------------
Name:
Title:
CONFIRMED AS OF THE DATE FIRST
ABOVE MENTIONED ON BEHALF OF
THEMSELVES AND THE OTHER SEVERAL
MANAGERS NAMED IN SCHEDULE II
HERETO.
SMITH BARNEY INC.
DILLON, READ & CO., INC.
DEAN WITTER INTERNATIONAL LTD.
ROBERTSON, STEPHENS & COMPANY LLC
SALOMON BROTHERS INTERNATIONAL LIMITED
VOLPE, WELTY & COMPANY
AS LEAD MANAGERS FOR THE SEVERAL MANAGERS
By: SMITH BARNEY INC.
By:
--------------------------
Managing Director
-29-
<PAGE>
SCHEDULE I
HEALTH SYSTEMS INTERNATIONAL
<TABLE>
<CAPTION>
PART A - FIRM SHARES
Number of
Selling Stockholder Firm Shares
- ------------------- -----------
<S> <C>
California Wellness Foundation 1,027,366
-----------
Total.................................... 1,027,366
<CAPTION>
PART B - ADDITIONAL SHARES
Number of
Selling Stockholder Additional Shares
- ------------------- -----------------
<S> <C>
California Wellness Foundation 249,936
Total.................................. 249,936
-----------
-----------
</TABLE>
-30-
<PAGE>
SCHEDULE II
HEALTH SYSTEMS INTERNATIONAL
<TABLE>
<CAPTION>
Number of
Underwriter Firm Shares
----------- -----------
<S> <C>
Smith Barney Inc.
Dillon, Read & Co. Inc.
Dean Witter International Ltd.
Robertson, Stephens & Company LLC
Salomon Brothers International Limited
Volpe, Welty & Company
Total....................................... 1,666,240
-----------
-----------
</TABLE>
-31-
<PAGE>
EXHIBIT 5.1
May 9, 1996
Health Systems International, Inc.
21600 Oxnard Street
Woodland Hills, California 91307
Re: Registration Statement on Form S-1
File No. 333-2788
------------------------------------------------
Ladies and Gentlemen:
You have requested our opinion in connection with the above-referenced
registration statement (the "Registration Statement"), under which (i) Health
Systems International, Inc. (the "Company") intends to issue and sell in the
offering related thereto 3,194,374 shares (the "Primary Shares") of Class A
Common Stock, par value $.001 per share, of the Company ("Common Stock") and
(ii) a stockholder of the Company intends to sell in the offering 5,136,830
shares of Class A Common Stock, plus up to an additional 1,249,680 shares of
Class A Common Stock granted to the underwriters by the selling stockholders
to cover over-allotments (the "Secondary Shares").
In arriving at the opinion expressed below, we have examined the
Registration Statement and such other documents as we have deemed necessary
to enable us to express the opinion hereinafter set forth. In addition, we
have examined and relied, to the extent we deem proper, on certificates of
officers of the Company as to factual matters, and on the originals or copies
certified or otherwise identified to our satisfaction, of all such corporate
records of the Company and such other instruments and certificates of public
officials and other persons as we have deemed appropriate. In our
examination, we have assumed the authenticity of all documents submitted to
us as originals, the conformity to the original documents of all documents
submitted to us as copies, the genuineness of all signatures on documents
reviewed by us and the legal capacity of natural persons.
Based upon and subject to the foregoing, we are of the opinion that (i)
the Primary Shares have been duly authorized and, when
<PAGE>
Health Systems International, Inc.
May 9, 1996
Page 2
issued in accordance with the terms and conditions set forth in the
Registration Statement, will be validly issued, fully paid and
non-assessable, and (ii) the Secondary Shares have been duly authorized and
validly issued and are fully paid and non-assessable.
We hereby consent to the reference to our firm under the caption "Legal
Matters" in the Registration Statement and to the use of this opinion as an
exhibit to the Registration Statement. In giving this consent, we do not
hereby admit that we come within the category of persons whose consent is
required under Section 7 of the Securities Act of 1933, as amended, or the
rules and regulations of the Securities and Exchange Commission thereunder.
Very truly yours,
McDERMOTT, WILL & EMERY
<PAGE>
EXHIBIT 23.2
CONSENT OF INDEPENDENT AUDITORS
We consent to the reference to our firm under the caption "Experts" in
Amendment No. 2 to the Registration Statement (Form S-3 No. 333-2788) and
related Prospectus of Health Systems International, Inc. for the registration of
9,580,884 shares of its common stock and to the incorporation by reference
therein of our report dated March 7, 1994, with respect to the December 31, 1993
consolidated statement of income, consolidated statement of cash flows,
consolidated statement of stockholders' equity and schedules of Health Systems
International, Inc. included in its Annual Report on form 10-K for the year
ended December 31, 1995, filed with the Securities and Exchange Commission.
ERNST & YOUNG LLP
Los Angeles, California
May 6, 1996
<PAGE>
EXHIBIT 23.3
INDEPENDENT AUDITORS' CONSENT
We consent to the use in this Registration Statement of Health Systems
International, Inc. on Amendment No. 2 to Form S-3 of our reports dated February
16, 1996 included herein and appearing in the Annual Report on Form 10-K of
Health Systems International, Inc. for the year ended December 31, 1995 and to
the reference to us under the headings "Selected Financial Data" and "Experts"
in the Prospectus, which is part of this Registration Statement. We also consent
to the incorporation by reference in this registration statement of our report,
dated March 4, 1994, on the consolidated financial statements of QualMed, Inc.,
for the year ended December 31, 1993, included in the above mentioned Annual
Report on From 10-K.
DELOITTE & TOUCHE LLP
Los Angeles, California
May 6, 1996
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM CONSOLIDATED
BALANCE SHEETS AND CONSOLIDATED STATEMENTS OF INCOME AND IS QUALIFIED IN ITS
ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1995
<PERIOD-START> JAN-01-1995
<PERIOD-END> DEC-31-1995
<CASH> 225,932
<SECURITIES> 366,629
<RECEIVABLES> 104,514
<ALLOWANCES> 13,408
<INVENTORY> 0
<CURRENT-ASSETS> 737,418
<PP&E> 187,703
<DEPRECIATION> 102,960
<TOTAL-ASSETS> 1,213,711
<CURRENT-LIABILITIES> 568,349
<BONDS> 354,080
0
0
<COMMON> 49
<OTHER-SE> 285,478
<TOTAL-LIABILITY-AND-EQUITY> 1,213,711
<SALES> 0
<TOTAL-REVENUES> 2,765,222 <F1>
<CGS> 0
<TOTAL-COSTS> 2,180,277 <F2>
<OTHER-EXPENSES> 408,627
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 19,675
<INCOME-PRETAX> 156,643 <F3>
<INCOME-TAX> 67,307
<INCOME-CONTINUING> 89,592
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 89,592
<EPS-PRIMARY> 1.83
<EPS-DILUTED> 1.83
<FN>
<F1>Includes $33.170 million of investment income.
<F2>Includes health care expenses only.
<F3>Excludes $256 thousand of minority interest in loss of subsidiary.
</FN>
</TABLE>
