<PAGE>
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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
--------------------------
FORM 10-K/A
(Mark One) (AMENDMENT NO. 2)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
OF 1934
For the fiscal year ended December 31, 1998
OR
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the transition period from to
Commission file number 1-4034
TOTAL RENAL CARE HOLDINGS, INC.
(Exact name of registrant as specified in its charter)
<TABLE>
<S> <C>
Delaware 51-0354549
(State or other jurisdiction of incorporation (I.R.S. Employer Identification No.)
or organization)
</TABLE>
21250 Hawthorne Boulevard, Suite 800, Torrance, California 90503-5517
(Address of principal executive offices)
Registrant's telephone number, including area code: (310) 792-2600
Securities registered pursuant to Section 12(b) of the Act: Common Stock, par
value $0.001 per share
Name of each exchange on which registered: New York Stock Exchange
Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. [X] Yes [_] No
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to
the best of Registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [X]
The aggregate market value of the common stock of the Registrant held by non-
affiliates of the Registrant on March 15, 1999, based on the price at which the
common stock was sold as of March 15, 1999, was $738,650,481.
The number of shares of the Registrant's common stock outstanding as of March
15, 1999 was 81,054,793 shares.
Documents Incorporated by Reference
None.
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<PAGE>
INTRODUCTORY STATEMENT
We are filing this Amendment No. 2 on Form 10-K/A for the year ended December
31, 1998 to restate our financial statements, with the following impact on
earnings:
Decreases to income before taxes
<TABLE>
<CAPTION>
Year ended December 31,
---------------------------------
1996 1997 1998
---------- ----------- ----------
<S> <C> <C> <C>
To reflect goodwill adjustments associated
with acquisition transactions............... $1,351,000 $10,520,000 $ 896,000
To recognize a calculated fair value of stock
options granted to medical directors and
contract labor.............................. 1,453,000 3,541,000 3,585,000
To reflect accounts payable accruals in the
quarters the liabilities were subsequently
determined to have been incurred............ 3,800,000
---------- ----------- ----------
Decrease to income before taxes............ $2,804,000 $14,061,000 $8,281,000
========== =========== ==========
</TABLE>
<TABLE>
<CAPTION>
1996 1997 1998
------------------------------ ------------------------------ ---------------------------------
As As As
previously As previously As previously As
reported Adjustment restated reported Adjustment restated reported Adjustment restated
---------- ---------- -------- ---------- ---------- -------- ---------- ---------- ----------
(in thousands, except per share)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Net operating revenues.. $498,024 $(1,373) $496,651 $760,997 $(2,594) $758,403 $1,204,894 $(1,156) $1,203,738
Operating expenses...... 427,520 1,431 428,951 636,217 11,467 647,684 1,063,076 7,125 1,070,201
Income taxes............ 22,960 (929) 22,031 40,212 (4,558) 35,654 41,580 (3,131) 38,449
Net income (loss)....... 26,707 (1,875) 24,832 55,027 (9,503) 45,524 (4,298) (5,150) (9,448)
Earnings (loss) per
share.................. 0.36 (0.03) 0.33 0.71 (0.12) 0.59 (0.05) (0.07) (0.12)
Earnings (loss) per
share--assuming
dilution............... 0.35 (0.03) 0.32 0.69 (0.12) 0.57 (0.05) (0.07) (0.12)
</TABLE>
The restated financial statements (item 8) and a corresponding update of
items 6 and 7 of the previously filed Form 10-K/A (Amendment No.1) are included
in this filing. We have not amended the other information in the previously
filed Form 10-K/A (Amendment No.1) in this filing.
1
<PAGE>
Item 6. Selected Financial Data.
The following table presents our selected consolidated financial and
operating data for the periods indicated. The consolidated financial data as of
May 31, 1994 and 1995 and as of December 31, 1995, 1996, 1997 and 1998 and for
the years ended May 31, 1994 and 1995, the seven month period ended December
31, 1995, and the years ended December 31, 1996, 1997 and 1998 have been
derived from our audited consolidated financial statements. The consolidated
financial data for the seven months ended December 31, 1994 and the year ended
December 31, 1995 are unaudited and include all adjustments consisting solely
of normal recurring adjustments necessary to present fairly our results of
operations for the period indicated. The results of operations for the seven
month periods ended December 31, 1994 and 1995 are not necessarily indicative
of the results which may occur for the full fiscal year. The consolidated
financial and operating data as of and for the years ended December 31, 1996,
1997 and 1998 have been restated as further described in the Introductory
Statement to this Form 10-K/A (Amendment No. 2). The following financial and
operating data should be read in conjunction with "Item 7. Management's
Discussion and Analysis of Financial Condition and Results of Operations" and
our consolidated financial statements filed as part of this report.
<TABLE>
<CAPTION>
Seven months
Years ended ended
May 31,(1) December 31, Year ended December 31,
----------------- ----------------- -----------------------------------------
1994 1995 1994 1995 1995 1996 1997 1998
(in thousands, except per share)
(restated) (restated) (restated)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Income statement data:(2)(8)
Net operating revenues..... $153,513 $214,425 $122,065 $176,463 $299,411 $496,651 $758,403 $1,203,738
Total operating expenses(3)
.......................... 133,211 182,251 104,053 143,196 247,925 428,951 647,684 1,070,201
-------- -------- -------- -------- -------- -------- -------- ----------
Operating income .......... 20,302 32,174 18,012 33,267 51,486 67,700 110,719 133,537
Interest expense, net(3) .. 1,549 7,851 3,838 6,831 11,801 9,559 25,039 77,733
-------- -------- -------- -------- -------- -------- -------- ----------
Income before income taxes,
minority interests,
extraordinary item and
cumulative effect of
change in accounting
principle................. 18,753 24,323 14,174 26,436 39,685 58,141 85,680 55,804
Income taxes .............. 6,208 7,827 4,759 9,931 13,841 22,031 35,654 38,449
-------- -------- -------- -------- -------- -------- -------- ----------
Income before minority
interests, extraordinary
item and cumulative effect
of change in accounting
principle................. 12,545 16,496 9,415 16,505 25,844 36,110 50,026 17,355
Minority interests in
income of
consolidated subsidiaries.. 1,046 1,593 878 1,784 2,544 3,578 4,502 7,163
-------- -------- -------- -------- -------- -------- -------- ----------
Income before extraordinary
item and cumulative effect
of change in accounting
principle ................ $ 11,499 $ 14,903 $ 8,537 $ 14,721 $ 23,300 $ 32,532 $ 45,524 $ 10,192
======== ======== ======== ======== ======== ======== ======== ==========
Net income (loss)(4)....... $ 11,499 $ 14,903 $ 8,537 $ 12,166 $ 20,745 $ 24,832 $ 45,524 $ (9,448)
======== ======== ======== ======== ======== ======== ======== ==========
Earning per common
share(5):
Net income before
extraordinary item and
cumulative effect of
change in accounting
principle............... $ 0.33 $ 0.20 $ 0.26 $ 0.43 $ 0.43 $ 0.59 $ 0.12
======== ======== ======== ======== ======== ======== ==========
Net income (loss)(4)..... $ 0.33 $ 0.20 $ 0.22 $ 0.38 $ 0.33 $ 0.59 $ (0.12)
======== ======== ======== ======== ======== ======== ==========
Earning per common share--
assuming dilution(5):
Net income before
extraordinary item and
cumulative effect of
change in accounting
principle............... $ 0.31 $ 0.19 $ 0.25 $ 0.40 $ 0.42 $ 0.57 $ 0.12
======== ======== ======== ======== ======== ======== ==========
Net income (loss)(4)..... $ 0.31 $ 0.19 $ 0.20 $ 0.36 $ 0.32 $ 0.57 $ (0.12)
======== ======== ======== ======== ======== ======== ==========
<CAPTION>
Seven months
Year ended ended
May 31, December 31, Year ended December 31,
----------------- ----------------- -----------------------------------------
1994 1995 1994 1995 1995 1996 1997 1998
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Ratio of earnings to fixed
charges(10)................ 6.06 2.97 3.17 3.48 3.22 3.82 3.11 1.51
</TABLE>
<TABLE>
<CAPTION>
May 31, December 31,
----------------- ---------------------------------------
1994 1995 1995 1996 1997 1998
(in thousands)
<S> <C> <C> <C> <C> <C> <C>
Balance sheet
data:(2)(9)
Working capital........ $ 33,773 $ 42,918 $ 98,071 $185,904 $ 205,798 $ 388,064
Total assets........... 103,628 218,081 338,866 664,799 1,279,261 1,911,619
Long-term debt ........ 17,531 115,522 96,979 233,126 731,192 1,225,781
Mandatorily redeemable
common stock(6)....... 3,990
Stockholders' equity... 65,391 61,749(7) 193,162 358,677 422,446 473,864
</TABLE>
(See notes on following page)
2
<PAGE>
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(1) In 1995, we changed our fiscal year end to December 31 from May 31.
(2) Our recapitalization in 1994 and subsequent acquisitions have had a
significant impact on our capitalization and equity securities and on our
results of operations. Consequently, the balance sheet data as of May 31,
1995 and as of December 31, 1995, 1996, 1997 and 1998 and the income
statement data for the fiscal year ended May 31, 1995, for the seven
months ended December 31, 1995, and the years ended December 31, 1996,
1997 and 1998 are not directly comparable to corresponding information as
of prior dates and for prior periods, respectively.
(3) General and administrative expenses for the fiscal year ended May 31, 1994
include overhead allocations by our former parent of $1,458,000 for the
period June 1993 through February 1994. No overhead allocation was made
for the period from March 1994 through our recapitalization in 1994 at
which time we began to record general and administrative expenses as
incurred on a stand-alone basis. General and administrative expenses for
the fiscal year ended May 31, 1994 also reflect $458,000 in expenses
relating to a terminated equity offering. During the first quarter of 1998
we recorded an expense of $79,435,000 for merger and related costs
associated with the RTC merger and during the second quarter we recorded a
charge in interest expense of $9,823,000 to terminate interest rate swap
agreements on debt that were refinanced.
(4) In December 1995, we recorded an extraordinary loss of $2,555,000, or
$0.09 per share, net of tax, on the early extinguishment of debt. In July
and September 1996, we recorded a combined extraordinary loss of
$7,700,000 or $0.10 per share net of tax, on the early extinguishment of
debt. At the time of our merger with RTC we paid off their existing
revolving credit agreement and the remaining unamortized deferred
financing costs, net of tax, of $2,812,000 or approximately $0.04 per
share, was included as an extraordinary loss in 1998. In April 1998 we
replaced our existing $1.05 billion credit facilities with a combined
total of $1.35 billion in two senior credit facilities. As a result of
this refinancing, the remaining net deferred financing costs, net of tax,
of $9,932,000 or approximately $0.12 per share, was included as an
extraordinary loss in 1998. See Note 8 of our consolidated financial
statements.
In the first quarter of 1998 we adopted Statement of Position No. 98-5,
Reporting on the Costs for Start-up Activities, or SOP 98-5, which
requires that pre-opening and organization costs previously treated as
deferred costs should be expensed as incurred. As a result all existing
remaining unamortized deferred pre-opening and organizational costs was
taken as a charge, net of tax, of $6,896,000 or approximately $0.08 per
share, as a cumulative effect of a change in accounting principle. See our
consolidated financial statements and related notes.
(5) See additional income per share information in our consolidated statements
of income.
(6) Mandatorily redeemable common stock represents shares of common stock
issued in certain acquisitions subject to put options that terminated upon
the completion of our initial public offering.
(7) In connection with our recapitalization in 1994, we paid a special
dividend to Tenet Healthcare Corporation, or Tenet, of $81.7 million,
including $75.5 million in cash.
(8) The consolidated income statement data combine our results of operations
for the years ended May 31, 1994 and 1995, the seven months ended December
31, 1994 and 1995 and the years ended December 31, 1995, 1996 and 1997
with RTC's results of operations for the years ended December 31, 1993 and
1994, the six months ended December 31, 1994 and 1995 and the years ended
December 31, 1995, 1996 and 1997, respectively.
(9) The consolidated balance sheet data combines our balance sheet as of May
31, 1994 and 1995 and December 31, 1995, 1996 and 1997 with RTC's balance
sheet as of December 31, 1993, 1994, 1995, 1996 and 1997, respectively.
(10) The ratio of earnings to fixed charges is computed by dividing fixed
charges into earnings. Earnings is defined as pretax income from
continuing operations adjusted by adding fixed charges and excluding
interest capitalized during the period. Fixed charges means the total of
interest expense and amortization of financing costs and the estimated
interest component of rental expense on operating leases.
3
<PAGE>
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations.
The following should be read in conjunction with our consolidated financial
statements and the related notes contained elsewhere in this Form 10-K/A
(Amendment No. 2).
Background
Our wholly-owned subsidiary TRC, formerly Medical Ambulatory Care, Inc., was
organized in 1979 by Tenet, formerly National Medical Enterprises, Inc., to own
and operate Tenet's hospital-based dialysis services as freestanding dialysis
facilities and to acquire and develop additional dialysis facilities in Tenet's
markets. TRCH was organized to facilitate the 1994 sale by Tenet of
approximately 75% of its ownership interest to DLJ Merchant Banking Partners,
L.P., or DLJMB, and certain of its affiliates, our management and certain
holders of our debt securities.
In connection with our recapitalization in 1994, we paid a special dividend
to Tenet out of the net proceeds from (a) the issuance of units consisting of
$100 million in principal amount at maturity of 12% senior subordinated
discount notes due 2004, which were issued at approximately 70% of par, and
1,000,000 shares of common stock and (b) borrowing under TRC's revolving credit
facility. We raised additional capital to fund the continuation of our growth
strategy through an initial public offering, or IPO, in October 1995 in which
we raised gross proceeds of $107 million. Concurrent with the IPO, we listed
our common stock on the New York Stock Exchange under the symbol "TRL."
Subsequent to the IPO, we changed our fiscal year end from May 31 to December
31.
We raised additional capital to further our growth strategy with two
secondary stock offerings in April and October of 1996 which raised gross
proceeds to us of approximately $135 million. In October of 1996 we increased
our credit facility from $130 million to $400 million. With the proceeds from
the IPO, the April 1996 secondary offering and the credit facility, we were
able to complete the early retirement of the discount notes. In October 1997
and April 1998, we increased our credit facility to an aggregate of $1.05
billion and $1.35 billion respectively in two bank facilities. In November
1998, we sold $345 million of our 7% convertible subordinated notes.
Following our recapitalization in 1994, we implemented a focused strategy to
increase net operating revenues per treatment and improve operating income
margins. We have significantly increased per-treatment revenues through
improved pricing, the addition of in-house clinical laboratory services,
increased utilization of ancillary services and the addition of in-house
pharmacy services and other ancillary programs. To improve operating income, we
began a systematic review of our vendor relations leading to the renegotiation
of a number of supply contracts and insurance arrangements that reduced
operating expenses. In addition, we have focused on improving facility
operating efficiencies and leveraging corporate and regional management. These
improvements have been offset in part by increased amortization of goodwill and
other intangible assets relating to our acquisitions (all of which have been
accounted for as purchase transactions, except the merger with RTC) and start-
up expenses related to de novo developments.
On February 27, 1998, we acquired RTC in a stock for stock transaction valued
at approximately $1.3 billion. The transaction was accounted for as a pooling
of interests. Accordingly, our consolidated financial statements have been
restated to include RTC for all periods presented.
Net operating revenues
Net operating revenues are derived primarily from five sources: (a)
outpatient facility hemodialysis services; (b) ancillary services, including
the administration of EPO and other intravenous pharmaceuticals, clinical
laboratory services, oral pharmaceutical products and other ancillary services;
(c) home dialysis services and related products; (d) inpatient hemodialysis
services provided to hospitalized patients pursuant to arrangements with
hospitals; and (e) international operations. Additional revenues are derived
from the provision of dialysis facility management services to certain
subsidiaries and affiliated and unaffiliated dialysis
4
<PAGE>
centers. Our dialysis and ancillary services are reimbursed primarily under the
Medicare ESRD program in accordance with rates established by HCFA. Payments
are also provided by other third party payors, generally at rates higher than
those reimbursed by Medicare for up to the first 33 months of treatment as
mandated by law. Rates paid for services provided to hospitalized patients are
negotiated with individual hospitals. For the years ended December 31, 1996,
1997 and 1998, approximately 60%, 56% and 51%, respectively, and 4%, 5% and 4%,
respectively of our net patient revenues were derived from reimbursement under
Medicare and Medicaid, respectively.
We maintain a usual and customary fee schedule for our dialysis treatment and
other patient services. We often do not realize our usual and customary rates,
however, because of limitations on the amounts we can bill to or collect from
the payors for our services. We generally bill the Medicare and Medicaid
programs at net realizable rates determined by applicable fee schedules for
these programs, which are established by statute or regulation. We bill most
non-governmental payors, including managed care payors with which we have
contracted, at our usual and customary rates. Since we bill most non-
governmental payors at our usual and customary rates, but often expect to
receive payments at the lower contracted rates, we also record a contractual
allowance in order to record expected net realizable revenue for services
provided. This process involves estimates and we record revisions to these
estimates in subsequent periods as they are determined to be necessary.
For more information, see the subheading "Sources of revenue reimbursement"
under "Item 1. Business."
5
<PAGE>
Quarterly results of operations
The following table sets forth selected unaudited quarterly financial data
and operating information for 1997 and 1998. The unaudited financial data
presented below have been restated to reflect adjustments we have made to our
accrual for merger and related costs in connection with our merger with RTC and
for other restatements. For more information regarding the adjustments we made
and their effects, see Notes 1A, 1 and 16 to our consolidated financial
statements.
<TABLE>
<CAPTION>
Quarters ended (as restated)
-----------------------------------------------------------------------------------------
March 31, June 30, September 30, December 31, March 31, June 30, September 30,
1997 1997 1997 1997 1998 1998 1998
--------- -------- ------------- ------------ --------- -------- -------------
(dollars in thousands, except per share and per treatment data)
<S> <C> <C> <C> <C> <C> <C> <C>
Net operating revenues.. $156,788 $179,408 $197,525 $ 224,682 $ 257,833 $ 288,350 $ 318,585
Facility operating
expenses............... 108,366 122,129 132,608 151,269 168,440 184,399 200,773
General and
administrative
expenses............... 9,779 12,172 13,246 14,737 16,622 18,087 18,292
Operating income
(loss)(1).............. 22,764 27,599 26,086 34,270 (33,571) 55,409 66,481
Income before
extraordinary item and
cumulative effect of
change in accounting
principle.............. 10,705 12,793 9,362 12,664 (47,959) 16,841 28,058
Income per share before
extraordinary item and
cumulative effect of
change in accounting
principle(3)........... $ 0.14 $ 0.16 $ 0.12 $ 0.16 $ (0.61) $ 0.20 $ 0.33
Outpatient facilities... 267 316 337 380 391 423 477
Treatments.............. 691,406 803,035 894,067 1,003,163 1,099,627 1,186,597 1,283,734
Net operating revenues
per treatment.......... $ 227 $ 223 $ 221 $ 224 $ 234 $ 243 $ 248
Operating income
margin................. 14.5% 15.4% 13.2% 15.3% (13.0)%(2) 19.2% 20.9%
<CAPTION>
December 31,
1998
------------
<S> <C>
Net operating revenues.. $ 338,970
Facility operating
expenses............... 226,128
General and
administrative
expenses............... 22,685
Operating income
(loss)(1).............. 45,218
Income before
extraordinary item and
cumulative effect of
change in accounting
principle.............. 13,252
Income per share before
extraordinary item and
cumulative effect of
change in accounting
principle(3)........... $ 0.16
Outpatient facilities... 508
Treatments.............. 1,342,386
Net operating revenues
per treatment.......... $ 253
Operating income
margin................. 13.3%(2)
</TABLE>
- --------
(1) The reconciliation between the operating income before merger costs and
operating income (loss) included in the quarterly results of operations is
presented below:
<TABLE>
<CAPTION>
Quarters ended (as restated)
-------------------------------------------------------------------------------------------
March 31, June 30, September 30, December 31, March 31, June 30, September 30, December 31,
1997 1997 1997 1997 1998 1998 1998 1998
--------- -------- ------------- ------------ --------- -------- ------------- ------------
(in thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Operating income before
merger costs........... $22,764 $27,599 $26,086 $34,270 $45,864 $55,409 $66,481 $43,971
Merger costs............ (79,435) 1,247
Operating income
(loss)................. 22,764 27,599 26,086 34,270 (33,571) 55,409 66,481 45,218
</TABLE>
(2) The operating income margin calculated prior to the merger and related
costs of $79,435,000 for the quarter ended March 31, 1998 is 17.8%. The
operating income margin calculated prior to the reduction of merger costs
of $1,247,000 for the quarter ended December 31, 1998 is 13.0%.
(3) See additional income per share information in Note 16 to our consolidated
financial statements.
6
<PAGE>
Utilization of our services generally is not subject to material seasonal
fluctuations. The quarterly variations shown above reflect the impact of
increasing labor costs and decreasing margins related to the corresponding
costs of providing services and amortization of intangibles from acquired
facilities.
Results of operations
The following table sets forth for the periods indicated selected information
expressed as a percentage of net operating revenues for such periods:
<TABLE>
<CAPTION>
Years ended
December 31,
-------------------
1996 1997 1998
<S> <C> <C> <C>
Net operating revenues................................ 100.0% 100.0% 100.0%
Facility operating expenses........................... 69.6 67.8 64.8
General and administrative expenses................... 6.5 6.6 6.3
Provision for doubtful accounts....................... 3.2 3.8 3.7
Depreciation and amortization......................... 6.5 7.2 7.6
Merger expenses....................................... 0.6 6.5
Operating income...................................... 13.6 14.6 11.1
Interest expense...................................... 2.7 3.7 6.0
Interest rate swap-early termination costs............ 0.8
Interest income....................................... 0.8 0.4 0.4
Income taxes.......................................... 4.4 4.7 3.2
Minority interests.................................... 0.7 0.6 0.6
Income before extraordinary item and cumulative effect
of change in accounting principle.................... 6.6 6.0 0.8
</TABLE>
Year ended December 31, 1998 compared to year ended December 31, 1997
Net operating revenues. Net operating revenues increased $445,335,000 to
$1,203,738,000 for the year ended December 31, 1998 from $758,403,000 for the
year ended December 31, 1997, representing a 58.7% increase. Of this increase,
$341,197,000 was due to increased treatments, of which $137,056,000 was from
acquisitions consummated during 1998, $188,702,000 was from existing facilities
as of December 31, 1997 and $15,439,000 was from de novo developments
commencing operations in 1998. The remaining increase of $104,138,000 resulted
from an increase in net operating revenues per treatment which increased from
$223.61 in 1997 to $245.04 in 1998. The increase in net operating revenues per
treatment was attributable to increased ancillary services utilization of
$46,019,000, primarily in the administration of EPO of $36,147,000, the overall
impact of a rate increase of $32,090,000, $21,912,000 resulting from an
increase in the number of services reimbursed by private payors, who pay at
higher rates, stemming from HCFA's extension of private payor primary
reimbursement obligations for an additional twelve-month period, and expanded
laboratory services extended to former RTC facilities of $4,117,000.
Facility operating expenses. Facility operating expenses consist of costs and
expenses specifically attributable to the operation of dialysis facilities,
including operating and maintenance costs of such facilities, equipment, direct
labor, and supply and service costs relating to patient care. Facility
operating expenses increased $265,368,000 to $779,740,000 in 1998 from
$514,372,000 in 1997 and as a percentage of net operating revenues, facility
operating expenses decreased by 3.0% to 64.8% in 1998 from 67.8% in 1997. This
decrease primarily was attributable to a decrease in labor costs which, as a
percentage of revenue, declined by 2.7% from 28.2% in 1997 to 25.5% in 1998.
This decrease was due to the continued implementation of our Best Demonstrated
Practices Program at our facilities existing prior to the RTC merger and the
new implementation of this program at the former RTC facilities. Our Best
Demonstrated Practices Program includes measures designed to improve staffing
efficiencies and, as a result, decrease labor costs. The remaining decrease in
facility operating expenses of 0.3% was due to efficiencies achieved in the
cost of medical supplies and other facility expenses as a percentage of
operating revenues.
7
<PAGE>
General and administrative expenses. General and administrative expenses
include headquarters expense and administrative, legal, quality assurance,
information systems and centralized accounting support functions. General and
administrative expenses increased $25,752,000 to $75,686,000 in 1998 from
$49,934,000 in 1997, and as a percentage of net operating revenues, general and
administrative expenses decreased to 6.3% for 1998 from 6.6% in 1997. The
decrease of 0.3% of net operating revenues, or approximately $3,493,000, is a
result of the elimination of duplicate corporate staff and efficiencies
achieved from the RTC merger of $4,100,000 and revenue growth and economies of
scale achieved by the leveraging of corporate staff across a higher revenue
base of $2,693,000, offset by bonus payments of $3,300,000 made in connection
with our merger with RTC.
Provision for doubtful accounts. The provision for doubtful accounts is
influenced by the amount of net operating revenues generated from non-
governmental payor sources in addition to the relative percentage of accounts
receivable by aging category. The provision for doubtful accounts increased
$15,959,000 to $44,858,000 in 1998 from $28,899,000 in 1997. As a percentage of
net operating revenues, the provision for doubtful accounts decreased to 3.7%
in 1998 from 3.8% in 1997. The decrease is primarily attributable to the
additional provisions taken in 1997 related to accounts receivable associated
with acquired businesses that were not as collectible as originally estimated.
This decrease was offset by an additional allowance of $11,500,000, taken in
the fourth quarter of 1998, as a result of the most recent analysis of the
remaining RTC accounts receivable that were on the books as of December 31,
1997. The provision for doubtful accounts, as a percentage of net operating
revenues for 1998, before considering this additional allowance was 2.7%.
The additional allowance of $11.5 million was the result of a detailed
review, completed in the first quarter of 1999, of RTC's account receivable
balances. We previously conducted a detailed review of all RTC accounts
receivable balances for dates of service prior to 1998. This previous review,
completed in the second quarter of 1998, revealed errors in RTC's determination
of accounts receivable allowances, and resulted in increases to RTC's provision
for doubtful accounts in 1996 and 1997. These increases are reflected in our
financial statements for 1996 and 1997. The underlying cause of the errors was
RTC accounting procedures that had resulted in the recording of provisions
based on budgeted allowances, rather than the best estimate based on all
information then available. Our determination of the appropriate allocation of
the increases to the provision between 1996 and 1997 was based upon when the
errors that resulted in the under-recognition of accounts receivable provisions
had occurred.
During the first review, we made significant judgments and estimates in
determining the appropriate increases to the provision for doubtful accounts,
primarily relating to the large number of typically small balance receivables
involved in our review, the projection of collection trends based on RTC's
historic aging reports and other information we had developed, and our
collection experience and expectations from similar receivable populations.
We undertook the second review of RTC's patient accounts receivable after we
hired a new vice president of finance in August 1998 to manage the former RTC
billing office, with responsibility for improving the reimbursement processes
and reviewing the accounts receivable. Furthermore, in connection with our
first review, we began producing more detailed aging reports than RTC had
utilized. RTC had grouped all receivables over 120 days old into one category.
During subsequent months, additional collection trends information was captured
in the more detailed agings, providing the basis for the second review of
accounts receivable reserves during the fourth quarter of 1998. The additional
allowance of $11.5 million represents a change in our estimate of our ability
to collect these receivables as a result of the additional collection trends
information that we have developed.
Depreciation and amortization. Depreciation and amortization increased
$37,250,000 to $91,729,000 in 1998 from $54,479,000 in 1997, and as a
percentage of net operating revenues, depreciation and amortization increased
to 7.6% in 1998 from 7.2% in 1997. This increase primarily was attributable to
accelerated depreciation associated with certain incompatible and duplicative
software as a result of the merger with RTC.
8
<PAGE>
Merger and related expenses.
Merger and related costs recorded during 1998 include transaction costs
associated with certain integration activities, and costs of employee severance
and amounts due under employment agreements and other compensation programs.
A summary of merger and related costs and accrual activity through December
31, 1998 is as follows:
<TABLE>
<CAPTION>
Direct Transaction Severance and Costs to Integrate
Costs Employment Costs Operations Total
<S> <C> <C> <C> <C>
Initial expense......... $21,580,000 $ 41,960,000 $15,895,000 $ 79,435,000
Amounts utilized--1st
quarter 1998........... (7,771,000) (35,304,000) (9,474,000) (52,549,000)
----------- ------------ ----------- ------------
Accrual, March 31,
1998................... 13,809,000 6,656,000 6,421,000 26,886,000
Amounts utilized--2nd
quarter 1998........... (5,109,000) (1,096,000) (2,427,000) (8,632,000)
----------- ------------ ----------- ------------
Accrual, June 30, 1998.. 8,700,000 5,560,000 3,994,000 18,254,000
Amounts utilized--3rd
quarter 1998........... (837,000) (458,000) (1,048,000) (2,343,000)
----------- ------------ ----------- ------------
Accrual, September 30,
1998................... 7,863,000 5,102,000 2,946,000 15,911,000
Adjustment of
estimates.............. 1,305,000 (959,000) (1,593,000) (1,247,000)
Amounts utilized--4th
quarter 1998........... (9,168,000) (543,000) (188,000) (9,899,000)
----------- ------------ ----------- ------------
Accrual, December 31,
1998................... $ -- $ 3,600,000 $ 1,165,000 $ 4,765,000
=========== ============ =========== ============
</TABLE>
Direct transaction costs consist primarily of investment banking fees, legal
and accounting costs and other costs, including the costs of consultants,
printing and registration, which were incurred by both TRCH and RTC in
connection with the merger. During the fourth quarter we concluded negotiations
pertaining to the amount of certain of these fees and subsequently we paid
these amounts.
Severance and employment costs were incurred for the following:
. Severance pay. The RTC merger constituted a constructive termination of
employment under various preexisting employment contracts with RTC
officers. Terminated RTC officers were entitled to severance payments and
tax gross-up payments of approximately $6,500,000. In addition,
approximately 80 employees of RTC were informed that their positions
would be eliminated. Most of these employees were formerly located in
RTC's administrative office and a laboratory under development. The
terminations were structured over the integration period, which continued
through the end of 1998. The accrued severance payments to these
employees amounted to approximately $1,600,000. The remaining balance of
severance costs of $600,000 was paid in the first quarter of 1999 and tax
gross up payments of approximately $3,000,000 are expected to be paid in
1999.
. Option exercises. Pre-existing terms of RTC stock option grants permitted
the exercise of options by tender of RTC shares. Some of the RTC shares
tendered had been held for less than six months by the option holders
and, as required by Emerging Issues Task Force Issue 84-18, we recognized
a noncash expense of approximately $16,000,000 equal to the difference
between the exercise price of the options and the market value of the
stock on the date of exercise. We also incurred approximately $600,000 of
payroll tax related to the exercise of nonqualified stock options.
. Bonuses. RTC and TRCH each awarded special bonuses as a result of the
merger, paid in the first quarter in 1998, for which approximately
$16,300,000 was included in merger and related costs.
In connection with the RTC merger, we developed a plan which included
initiatives to integrate the operations of TRCH and RTC, eliminate duplicative
overhead, facilities and systems and improve service delivery. These
integration activities were commenced during the first quarter of 1998 and are
expected to be substantially completed by approximately July 1, 1999.
9
<PAGE>
We eliminated the following RTC departments: human resources, managed care,
laboratory, and all finance functions, with the exception of patient
accounting. The finance functions eliminated included payroll, financial
reporting and analysis, budgeting, general ledger, accounts payable, and tax
functions. The RTC human resources and managed care departments were
discontinued in Berwyn, Pennsylvania and consolidated with our respective
departments in our Torrance, California headquarters as of September 30, 1998.
All finance functions, with the exception of patient accounting, were
consolidated into our Tacoma, Washington business office as of December 31,
1998. RTC's laboratory, located in Las Vegas, Nevada, was closed prior to its
commencement of operation. All laboratory functions were consolidated into our
laboratories in Minnesota and Florida in February 1998.
Costs to integrate operations included the following:
. Laboratory restructuring. As part of our merger integration plan, we
decided to restructure our laboratories. To optimize post-merger
operations, we terminated a long-term management services agreement with
a third party that provided full laboratory management on a contract
basis. The termination fee of approximately $3,800,000 was negotiated in
the first quarter of 1998. We also immediately halted development of
RTC's new laboratory, which was not required for post-merger operations.
The RTC laboratory, which was being developed in leased space, is now
vacant and a new sublessee is being sought. As a result of this decision,
previously capitalized leasehold improvements of $2,600,000 were
expensed. Additionally, merger and related costs include approximately
$1,000,000 of pre-opening start up costs incurred during the first
quarter of 1998 relating to the terminated RTC laboratory and $1,500,000
of remaining lease payments. The accrual for lease payments was not
offset by any anticipated sublease income. No such income has been
received to date and the remaining balance of this accrual at December
31, 1998 was approximately $1,165,000.
. Initial merger costs. Approximately $5,400,000 was expensed for
integration activities which occurred at the time of the merger. These
costs include a special training program held in March 1998 and attended
by many TRCH and RTC employees, merger related travel costs, consultant
costs and other costs attributed to the merger.
The expected savings to be achieved from the elimination of general and
administrative expenses will come in the form of reduced compensation in the
future as follows:
<TABLE>
<CAPTION>
1998 1999
---------- ----------
<S> <C> <C>
Executive management.................................. $2,305,000 $2,766,000
Finance and accounting................................ 631,000 1,285,000
Human resources, facility operations and other........ 107,000 490,000
Laboratory closing.................................... 1,069,000 1,283,000
---------- ----------
Total savings......................................... $4,112,000 $5,824,000
========== ==========
</TABLE>
No assurance can be given that we will achieve these savings.
There were approximately $64,900,000 of non-recurring cash expenditures,
incurred or to be incurred, necessary to conclude the merger transaction.This
includes approximately $61,600,000 in merger and related costs, specifically:
$22,900,000 of direct transaction costs, $24,400,000 of severance and
employment costs and $14,300,000 of costs to integrate operations. The
remaining non-recurring cash expenditure of approximately $3,300,000 was for
merger bonuses not included in the merger expenses described above. As a result
of these costs, we increased our borrowings under our credit facilities, which
increased our annualized interest expense by approximately $4,500,000 per year.
Operating income. Operating income increased $22,818,000 to $133,537,000 in
1998 from $110,719,000 in 1997. As a percentage of net operating revenues,
operating income decreased to 11.1% in 1998 from 14.6% in 1997. This decrease
was due to the costs associated with the RTC merger. Operating income before
the merger costs increased to 17.6%, as a percentage of net operating revenues,
in 1998. This increase primarily was due to increased revenues, and a general
decrease in operating costs partially offset by the additional provision for
doubtful accounts recorded in the fourth quarter.
10
<PAGE>
Interest expense. Interest expense increased $44,590,000 to $72,804,000 in
1998 from $28,214,000 in 1997, and as a percentage of net operating revenues,
interest expense was 6.0% in 1998 and 3.7% in 1997. The increase in interest
expense primarily was due to an increase in borrowings made under our credit
facilities to fund acquisitions.
Interest rate swap-early termination costs. In conjunction with the
refinancing of our credit facilities, two existing forward interest rate swap
agreements were canceled in April 1998. The early termination costs associated
with the cancellation of those swaps was $9,823,000.
Interest income. Interest income is generated as a result of the short-term
investment of surplus cash from operations and excess proceeds from borrowings
under our credit facilities. Interest income increased $1,719,000 to $4,894,000
in 1998 from $3,175,000 in 1997. As a percentage of net operating revenues,
interest income remained at 0.4% for both years.
Provision for income taxes. Provision for income taxes increased $2,795,000
to $38,449,000 in 1998 from $35,654,000 in 1997. The effective income tax rate
after minority interests increased to 69.0% in 1998 from 41.6% in 1997. The
overall increase in the effective tax rate primarily reflects non-deductible
merger and related expenses consisting of certain compensation costs and stock
issuance costs of $36,000,000 as well as non-deductible goodwill associated
with other acquired businesses. Before the non-deductible merger charges, the
effective tax rate after minority interests declined to 30.7% in 1998 from
41.6% in 1997 primarily due to the restructuring of our business in Argentina
to increase our consolidated tax deductible income by increasing equity and
reducing debt in Argentina.
Minority interests. Minority interests represent the pretax income earned by
minority partners who directly or indirectly own minority interests in our
partnership affiliates and the net income in certain of our corporate
subsidiaries. Minority interests increased $2,661,000 to $7,163,000 in 1998
from $4,502,000 in 1997, and as a percentage of net operating revenues,
minority interest amounted to 0.6% for both years.
Extraordinary item. On February 27, 1998, in conjunction with our merger with
RTC, we terminated RTC's revolving credit agreement and recorded all of the
remaining unamortized deferred financing costs as an extraordinary loss of
$2,812,000, net of income tax effect. In April 1998, in conjunction with
replacing our senior credit facilities, we also recorded all of the remaining
related unamortized deferred financing costs as an extraordinary loss of
$9,932,000, net of income tax effect.
Cumulative effect of change in accounting principle. Effective January 1,
1998, we adopted SOP 98-5. SOP 98-5 requires that pre-opening and
organizational costs incurred in conjunction with pre-opening activities
associated with our de novo facilities, which previously had been treated as
deferred costs and amortized over five years, should be expensed as incurred.
In connection with this adoption, we recorded a charge of $6,896,000, net of
income tax effect, as a cumulative effect of change in accounting principle.
Year ended December 31, 1997 compared to year ended December 31, 1996
Net operating revenues. Net operating revenues increased $261,752,000 to
$758,403,000 for the year ended December 31, 1997 from $496,651,000 for the
year ended December 31, 1996 representing a 52.7% increase. Of this increase,
$257,113,000 was due to increased treatments, of which $159,837,000 was from
acquisitions consummated during 1997, $89,606,000 was from existing facilities
as of December 31, 1996 and $7,670,000 was from de novo developments commencing
operations in 1997. The remainder was due to an increase in net operating
revenues per treatment which were $223.61 in 1997 compared to $222.03 in 1996.
The increase in net operating revenues per treatment was due to increases in
ancillary services utilization and in affiliated and unaffiliated facility
management fees.
Facility operating expenses. Facility operating expenses increased
$168,835,000 to $514,372,000 in 1997 from $345,537,000 in 1996 and as a
percentage of net operating revenues, facility operating expenses decreased
11
<PAGE>
to 67.8% in 1997 from 69.6% in 1996. This decrease primarily was attributable
to decreases in medical supplies expense, which as a percentage of revenues
decreased by 2.1% to 24.9% in 1997 from 27.0% in 1996, and in labor costs,
which as a percentage of revenues decreased by 1.3% to 28.2% in 1997 from 29.5%
in 1996. These decreases were due to the implementation of our Best
Demonstrated Practices Program in December 1996, and were partially offset by
an increase in facility expenses from the expansion of our operations in
Argentina of 1.9% as a percentage of revenues. The remaining decrease in
facility operating expenses of 0.3% was due to the overall increase in net
revenue per treatment.
General and administrative expenses. General and administrative expenses
increased $17,488,000 to $49,934,000 in 1997 from $32,446,000 in 1996, and as a
percentage of net operating revenues, general and administrative expenses
increased to 6.6% for 1997 from 6.5% in 1996. In 1997, we added additional
staff to implement our long-term strategy focused on the continued growth of
our business and improvement of the quality of care we deliver. These
additional resources are intended to support our long-term goals, rather than
provide an immediate financial benefit. Accordingly the revenue increase in
1997 was insufficient to offset these increases in general and administrative
expenses, resulting in the slight increase in these expenses as a percentage of
net operating revenues.
Provision for doubtful accounts. The provision for doubtful accounts
increased $13,162,000 to $28,899,000 in 1997 from $15,737,000 in 1996. As a
percentage of net operating revenues, the provision for doubtful accounts
increased to 3.8% in 1997 from 3.2% in 1996, largely as a result of additional
provisions taken in 1997 related to accounts receivable associated with
acquired businesses that were not as collectible as previously estimated as
discussed above.
Depreciation and amortization. Depreciation and amortization increased
$22,056,000 to $54,479,000 in 1997 from $32,423,000 in 1996, and as a
percentage of net operating revenues, depreciation and amortization increased
to 7.2% in 1997 from 6.5% in 1996. This increase was attributable to increased
amortization due to acquisition activity and increased depreciation from new
center leaseholds and routine capital expenditures.
Merger expenses. Merger expenses include investment banking, legal,
accounting and other fees and expenses associated with acquisitions accounted
for as poolings of interests. There were no merger expenses in 1997, as
compared to $2,808,000 in 1996. In 1996, merger expenses were incurred as a
result of the mergers accounted for under the pooling-of-interests method of
accounting that RTC completed during 1996.
Operating income. Operating income increased $43,019,000 to $110,719,000 in
1997 from $67,700,000 in 1996, and as a percentage of net operating revenues,
operating income increased to 14.6% in 1997 from 13.6% in 1996. This increase
in operating income as a percentage of net operating revenues reflected a
decrease in facility operating costs offset by increases in general and
administrative expenses, the provision for doubtful accounts and depreciation
and amortization.
Interest expense. Interest expense increased $14,797,000 to $28,214,000 in
1997 from $13,417,000 in 1996, and as a percentage of net operating revenues,
interest expense was 3.7% in 1997 and 2.7% in 1996. The increase in interest
expense primarily was due to an increase in borrowings made under our credit
facilities to fund acquisitions that occurred during 1997 and were accounted
for under the purchase method of accounting.
Interest income. Interest income decreased $683,000 to $3,175,000 in 1997
from $3,858,000 in 1996. This decrease was due to the timing of cash receipts
and additional borrowings and the use of those funds for acquisitions. As a
percentage of net operating revenues, interest income decreased to 0.4% from
0.8% in 1996.
Provision for income taxes. Provision for income taxes increased $13,623,000
to $35,654,000 in 1997 from $22,031,000 in 1996, and the effective income tax
rate after minority interests increased to 41.6% in 1997 from 37.9% in 1996.
The overall increase in the effective tax rate primarily reflected non-
deductible goodwill associated with stock acquired, and to foreign net
operating losses, for which no benefit was recognized during 1997, from
businesses in Argentina.
12
<PAGE>
Minority interests. Minority interests increased $924,000 to $4,502,000 in
1997 from $3,578,000 in 1996, and as a percentage of net operating revenues,
minority interest decreased to 0.6% in 1997 from 0.7% in 1996. This decrease in
minority interest as a percentage of net operating revenues was a result of a
relative proportionate decrease in the formation of partnership affiliates and
subsidiaries as a percentage of total new acquisitions.
Liquidity and capital resources
Sources and uses of cash
Our primary capital requirements have been the funding of our growth through
acquisitions and de novo developments and equipment purchases. Net cash
provided by operating activities was $956,000 for the year ended December 31,
1998 and $31.9 million for the year ended December 31, 1997. Net cash provided
by operating activities consists of our net income (loss), increased by non-
cash expenses such as depreciation, amortization, non-cash interest, the
provision for doubtful accounts, cumulative change in accounting principle, and
extraordinary loss, and adjusted by changes in components of working capital,
primarily accounts receivable, and accrued merger and related expenses in 1998.
Accounts receivable, before allowance for doubtful accounts, increased during
1998 by $200.3 million, of which approximately $140.6 million was due to the
increase in our revenues, $23.7 million was due to a build up of accounts
receivable with governmental payors which occurs while these payors process a
change of ownership for facilities newly acquired by us, a process that
typically can take from three to twelve months, approximately $11.0 million was
due to a payment suspension imposed on our Florida-based laboratory by its
Medicare carrier, and approximately $9.2 million was due to the change in
patient mix toward commercial insurance from Medicare because of the changes in
Medicare secondary payor extension, resulting in a longer period for receiving
reimbursement because commercial insurance carriers generally process claims
less quickly than Medicare. The remaining $15.8 million was due to unresolved
collections on accounts primarily attributable to third party private payors.
Additionally, the allowance for doubtful accounts increased by $31.2 million,
including $11.5 million related to RTC receivables deemed uncollectible at year
end. We have recorded no allowances as a result of the payment suspension
imposed on our Florida-based laboratory because we believe that we will
ultimately collect these amounts. Until it is resolved, the payment suspension
will negatively impact our cash flows from operations and may require us to
borrow additional amounts to fund our working capital needs, depending on our
other cash flows.
Net cash used in investing activities was $469.4 million in 1998 and $530.8
million in 1997. Our principal uses of cash in investing activities have been
related to acquisitions, purchases of new equipment and leasehold improvements
for our facilities, as well as the development of new facilities. Net cash
provided by financing activities was $503.2 million for 1998 and $484.3 million
in 1997 primarily consisting of borrowings from our credit facilities and the
proceeds from our 7% convertible subordinated notes offering. As of December
31, 1998, we had working capital of $388.1 million, including cash of $41.5
million.
We believe that we will have sufficient liquidity to fund our debt service
obligations and our growth strategy over the next 12 months.
Expansion
Our strategy is to continue to expand our operations both through the
development of de novo facilities and through acquisitions. The development of
a typical facility generally requires $1.0 million to $1.2 million for initial
construction and equipment and $0.2 million to $0.3 million for working
capital. Based on our experience, a de novo facility typically achieves
operating profitability, before depreciation and amortization, by the 9th to
18th month of operation. However, the period of time for a de novo facility to
break even depends on many factors which can vary significantly from facility
to facility, and, therefore, our past experience may not be indicative of the
performance of future developed facilities. In 1998, we developed 27 new
facilities, three of which we manage, and we expect to develop approximately 40
additional new facilities in 1999. We anticipate that our aggregate capital
requirements for purchases of equipment and leasehold improvements for
facilities, including de novo facilities, will be approximately $75.0 to
$100.0 million for 1999.
13
<PAGE>
During 1998, we paid cash of approximately $338.2 million for a pharmacy,
minority interests in certain of our partnerships and 76 facilities. The
operations of six of these facilities were not included in our consolidated
financial statements until January 1, 1999. Since December 31, 1998, we have
acquired 17 additional facilities for approximately $44.6 million.
Credit facilities
In April 1998, we replaced our $1.05 billion bank credit facilities with an
aggregate of $1.35 billion in two senior bank facilities. The credit facilities
consist of a seven-year $950.0 million revolving senior credit facility
maturing on March 31, 2005 and a ten-year $400.0 million senior term facility
maturing on March 31, 2008. As of December 31, 1998 the outstanding principal
amount under the revolving facility was $353.6 million and under the term
facility was $396.0 million. The term facility requires annual principal
payments of $4.0 million, with the $360.0 million balance due on maturity.
Therefore, we had $596.4 million available for borrowing under the revolving
facility.
The credit facilities contain financial and operating covenants including,
among other things, requirements that we maintain certain financial ratios and
satisfy certain financial tests, and impose limitations on our ability to make
capital expenditures, to incur other indebtedness and to pay dividends. As of
December 31, 1998, we were in compliance with all such covenants.
Interest rate swaps
During the quarter ended June 30, 1998, we entered into forward interest rate
cancelable swap agreements with a combined notional amount of $800.0 million.
The lengths of the agreements are between three and ten years with cancellation
clauses at the swap holder's option from one to seven years. The underlying
blended interest rate is fixed at approximately 5.65% plus an applicable margin
based upon our current leverage ratio. Currently, the effective interest rate
for these swaps is 6.90%.
Subordinated notes
The $125.0 million outstanding 5 5/8% convertible subordinated notes due 2006
issued by RTC bear interest at the rate of 5 5/8%, payable semi-annually and
require no principal payments until 2006. The 5 5/8% notes are convertible into
shares of our common stock at an effective conversion price of $25.62 per share
and are redeemable by us beginning in July 1999.
In November we issued 7% convertible subordinated notes due 2009 in the
aggregate principal amount of $345.0 million. The 7% notes are convertible at
any time, in whole or in part, into shares of our common stock at a conversion
price of $32.81 and will be redeemable after November 16, 2001. We used the net
proceeds from the sale of the 7% notes to pay down debt under the revolving
facility, which may be reborrowed.
Year 2000 considerations
Since the summer of 1998, all of our departments have been meeting with our
information systems department to determine the extent of our Y2K exposure.
Project teams have been assembled to work on correcting Y2K problems and to
perform contingency planning to reduce our total exposure. Our goal is to have
all corrective action and contingency plans in place by the third quarter of
1999.
Software applications and hardware. Each component of our software
application portfolio, or SAP, must be examined with respect to its ability to
properly handle dates in the next millennium. As part of our software
assessment plan, key users will test each and every component of our SAP. These
tests will be constructed to make sure each component operates properly with
the system date advanced to the next millennium.
14
<PAGE>
The major phases of our software assessment plan are as follows:
. Complete SAP inventory;
. Implement Y2K compliant software as necessary;
. Analyze which computers have Y2K problems and the cost to repair;
. Test all vendors' representations; and
. Fix any computer-specific problems.
Our billing and accounts receivable software is known to have a significant
Y2K problem. We have already addressed this issue by obtaining a new, Y2K
compliant version of this software. We expect to complete conversion to this
Y2K compliant version by the end of the third quarter of 1999.
Operating systems. We are also reviewing our operating systems to assess
possible Y2K exposure. We use several different network operating systems, or
NOS, for multi-user access to the software that resides on the respective
servers. Each NOS must be examined with respect to its ability to properly
handle dates in the next millennium. Key users will test each component of our
SAP with a compliant version of the NOS. One level beneath the NOS is a special
piece of software that comes into play when the computer is "booted" that
potentially has a Y2K problem and that is the basic input output system
software, or BIOS. The BIOS takes the date from the system clock and uses it in
passing the date to the NOS which in turn passes the date to the desktop
operating system. The system clock poses another problem in that some system
clocks were only capable of storing a two-digit year while other computer
clocks stored a four-digit year. This issue affects each and every computer we
have purchased. To remedy these problems, we plan to inventory all computer
hardware using a Y2K utility program to determine whether we have a BIOS or a
system clock problem. We then intend to perform a BIOS upgrade or perform a
processor upgrade to a Y2K compliant processor.
Our financial exposure from all sources of SAP and operating system Y2K
issues known to date is approximately $300,000, none of which has been
expended.
Dialysis centers, equipment and suppliers. The operations of our dialysis
centers can be affected by the Y2K problem so a contingency plan must be in
place to prevent the shutdown of these centers. Each center will be responsible
for completing a survey of the possible consequences of a failure of the
information systems of our vendors and formulating a contingency plan by the
third quarter of 1999. Divisional vice presidents will then review these plans
to assure compliance.
All of our biomedical devices, including dialysis machines that have a
computer chip in them will be checked thoroughly for Y2K compliance. We have
contacted or will contact each of the vendors of the equipment we use and ask
them to provide us with documentation regarding Y2K compliance. Where it is
technically and financially feasible without jeopardizing any warranties, we
will test our equipment by advancing the clock to a date in the next
millennium.
In general, we expect to have all of our biomedical devices Y2K compliant by
the third quarter of 1999. We have not yet been able to estimate the costs of
upgrading or replacing certain of our biomedical devices as we do not yet know
which of these machines, if any, are not currently Y2K compliant.
In addition to factors noted above which are directly within our control,
factors beyond our direct control may disrupt our operations. If our suppliers
are not Y2K complaint, we may experience inventory shortages and run short of
critical supplies. If the utilities companies, transportation carriers and
telecommunications companies which service us experience Y2K difficulties, our
operations will also be adversely affected and some of our facilities may need
to be closed. We are in the process of taking steps to reduce the impact on our
operations in such instances and implementing contingency plans to address any
possible unavoidable effect which these difficulties would have on our
operations.
To address the possibility of a physical plant failure, we are contacting the
landlords of each of our facilities to insure that they will provide access to
our staff and any other key service providers. We are also providing
15
<PAGE>
written notification to our utilities companies of the locations, schedules and
emergency services required of each of our dialysis facilities. In case a
physical plant failure should result in an emergency closure of any of our
facilities, we are currently:
. Confirming that backup hospital affiliation agreements are up-to-date and
complete;
. Reviewing appropriate elements of our disaster preparedness plan with our
staff and patients;
. Adopting/modifying emergency treatment orders and rationing plans with
our medical directors to provide patient safety; and
. Conducting patient meetings with social workers and dieticians.
To minimize the affect of any Y2K non-compliance on the part of suppliers, we
are currently taking steps to:
. Identify our critical suppliers and survey each of them to assess their
Y2K compliance status;
. Identify alternative supply sources where necessary;
. Identify Y2K compliant transportation/shipping companies and establish
agreements with them to cover situations where our current supplier's
delivery systems go down;
. Include language in contracts with new suppliers addressing Y2K
performance obligations, requirements and failures;
. Stock our dialysis facilities with one week of additional inventory; the
orders will be placed two weeks before January 2000, to ensure receipt;
. Require critical distributors to carry additional inventory earmarked for
us; and
. Prepare a critical supplier contact/pager list for Y2K emergency supply
problems and ensure that contact persons will be on call 24 hours a day.
General. The extent and magnitude of the Y2K problem as it will affect us,
both before, and for some period after, January 1, 2000, are difficult to
predict or quantify for a number of reasons. Among the most important are our
lack of control over systems that are used by the third parties who are
critical to our operations, such as telecommunications and utilities companies,
the complexity of testing interconnected networks and applications that depend
on third-party networks and the uncertainty surrounding how others will deal
with liability issues raised by Y2K-related failures. Moreover, the estimated
costs of implementing our plans for fixing Y2K problems do not take into
account the costs, if any, that might be incurred as a result of Y2K-related
failures that occur despite our implementation of these plans.
With respect to third-party non-governmental payors, we are in the process of
determining where our exposure is and developing contingency plans to prevent
the interruption of cash flow. With respect to Medicare payments, neither HCFA
nor its financial intermediaries have any contingency plan in place. However,
HCFA has mandated that its financial intermediaries submit a draft of their
contingency plans to it by March 1999 and that they be prepared to ensure that
no interruption of Medicare payments results from Y2K-related failures of their
systems. With respect to MediCal, the largest of our third-party state payors,
we are already submitting our claims with a four-digit numerical year in
accordance with the current system. We are currently working with our other
state payors individually to determine the extent of their Y2K compliance.
Although we currently are not aware of any material operational issues
associated with preparing our internal computer systems, facilities and
equipment for Y2K, we cannot assure you, due to the overall complexity of the
Y2K issues and the uncertainty surrounding third party responses to Y2K issues,
that we will not experience material unanticipated negative consequences and/or
material costs caused by undetected errors or defects in our or third party
systems or by our failure to adequately prepare for the results of such errors
or defects, including costs or related litigation, if any. The impact of such
consequences could have a material adverse effect on our business, financial
condition or results of operations.
16
<PAGE>
Item 8. Financial Statements and Supplementary Data.
See the Index included at "Item 14. Exhibits, Financial Statement Schedules
and Reports on Form 8-K."
17
<PAGE>
PART IV
Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K.
(a)Documents filed as part of this Report:
(1) Index to Financial Statements:
<TABLE>
<CAPTION>
Page
<S> <C>
Report of Independent Accountants F-1
Consolidated Balance Sheets as of December 31, 1997 and December
31, 1998 F-2
Consolidated Statements of Income for the years ended December
31, 1996, December 31, 1997 and December 31, 1998 F-3
Consolidated Statements of Stockholders' Equity for the years
ended December 31, 1996, December 31, 1997 and December 31, 1998 F-4
Consolidated Statements of Cash Flows for the years ended
December 31, 1996, December 31, 1997 and December 31, 1998 F-5
Notes to Consolidated Financial Statements F-6
(2) Index to Financial Statement Schedules:
Report of Independent Accountants on Financial Statement
Schedule S-1
Schedule II--Valuation and Qualifying Accounts S-2
</TABLE>
(3)(a) Exhibits:
<TABLE>
<C> <S>
3.1 Amended and Restated Certificate of Incorporation of TRCH, dated December
4, 1995.(1)
3.2 Certificate of Amendment of Certificate of Incorporation of TRCH, dated
February 26, 1998.(2)
3.3 Bylaws of TRCH, dated October 6, 1995.(3)
4.1 Shareholders Agreement, dated August 11, 1994, between DLJMB, DLJIP,
DLJOP, DLJMBF, NME Properties, Continental Bank, as voting trustee, and
TRCH.(4)
4.2 Agreement and Amendment, dated as of June 30, 1995, between DLJMBP,
DLJIP, DLJOP, DLJMBF, DLJESC, Tenet, TRCH, Victor M.G. Chaltiel, the
Putnam Purchasers, the Crescent Purchasers and the Harvard Purchasers,
relating to the Shareholders Agreement dated as of August 11, 1994
between DLJMB, DLJIP, DLJOP, DLJMBF, NME Properties, Continental Bank,
as voting trustee, and TRCH.(4)
4.3 Indenture, dated June 12, 1996 by RTC to PNC Bank including form of RTC
Note.(12)
4.4 First Supplemental Indenture, dated as of February 27, 1998, among RTC,
TRCH and PNC Bank under the 1996 indenture.(2)
4.5 Second Supplemental Indenture, dated as of March 31, 1998, among RTC,
TRCH and PNC Bank under the 1996 indenture.(2)
4.6 Indenture, dated as of November 18, 1998, between TRCH and United States
Trust Company of New York, as trustee, and Form of Note.(5)
4.7 Registration Rights Agreement, dated as of November 18, 1998, between
TRCH and DLJ, BNY Capital Markets, Inc., Credit Suisse First Boston
Corporation and Warburg Dillon Read LLC, as the initial purchasers.(5)
4.8 Purchase Agreement, dated as of November 12, 1998, between TRCH and the
initial purchasers.(5)
Noncompetition Agreement, dated August 11, 1994, between TRCH and
10.1 Tenet.(4)
10.2 Employment Agreement, dated as of August 11, 1994, by and between TRCH
and Victor M.G. Chaltiel (with forms of Promissory Note and Pledge and
Stock Subscription Agreement attached as exhibits thereto).(4)*
</TABLE>
18
<PAGE>
<TABLE>
<C> <S>
10.3 Amendment to Mr. Chaltiel's employment agreement, dated as of August 11,
1994.(4)*
10.4 Second Amendment to Mr. Chaltiel's employment agreement, dated as of
March 2, 1998.*(13)
10.5 Employment Agreement, dated as of March 2, 1998, by and between TRCH and
Barry C. Cosgrove.(6)*
10.6 Employment Agreement, dated as of March 2, 1998, by and between TRCH and
Leonard W. Frie.(6)*
10.7 Employment Agreement, dated as of March 2, 1998, by and between TRCH and
John E. King.(6)*
10.8 Employment Agreement dated as of March 2, 1998, by and between TRCH and
Stan M. Lindenfeld.(6)*
10.9 Amendment to Dr. Lindenfeld's employment agreement, dated September 1,
1998.*(13)
10.10 First Amended and Restated 1994 Equity Compensation Plan of TRCH (with
form of Promissory Note and Pledge attached as an exhibit thereto),
dated August 5, 1994.(4)*
10.11 Form of Stock Subscription Agreement relating to the 1994 Equity
Compensation Plan.(4)*
10.12 Form of Purchased Shares Award Agreement relating to the 1994 Equity
Compensation Plan.(4)*
10.13 Form of Nonqualified Stock Option relating to the 1994 Equity
Compensation Plan.(4)*
10.14 1995 Equity Compensation Plan.(3)*
10.15 Employee Stock Purchase Plan.(3)*
10.16 Option Exercise and Bonus Agreement, dated as of September 18, 1995
between TRCH and Victor M.G. Chaltiel.(3)*
10.17 1997 Equity Compensation Plan.(7)
10.18 Amended and Restated Revolving Credit Agreement, dated as of April 30,
1998, by and among TRCH, the lenders party thereto, DLJ Capital
Funding, Inc., as Syndication Agent, First Union National Bank, as
Documentation Agent, and The Bank of New York, as Administrative
Agent.(8)
10.19 Amendment No. 1 and Consent No. 1, dated as of August 5, 1998, to the
Revolving Credit Agreement.(13)
10.20 Amendment No. 2, dated as of November 12, 1998, to the Revolving Credit
Agreement.(13)
10.21 Amended and Restated Term Loan Agreement, dated as of April 30, 1998, by
and among TRCH, the lenders party thereto, DLJ Capital Funding, Inc.,
as Syndication Agent, First Union National Bank, as Documentation
Agent, and The Bank of New York, as Administrative Agent.(8)
10.22 Subsidiary Guaranty dated as of October 24, 1997 by Total Renal Care,
Inc., TRC West, Inc. and Total Renal Care Acquisition Corp. in favor of
and for the benefit of The Bank of New York, as Collateral Agent, the
lenders to the Revolving Credit Agreement, the lenders to the Term Loan
Agreement, the Term Agent (as defined therein), the Acknowledging
Interest Rate Exchangers (as defined therein) and the Acknowledging
Currency Exchangers (as defined therein).(9)
10.23 Borrower Pledge Agreement dated as of October 24, 1997 and entered into
by and between the Company, and The Bank of New York, as Collateral
Agent, the lenders to the Revolving Credit Agreement, the lenders to
the Term Loan Agreement, the Term Agent (as defined therein), the
Acknowledging Interest Rate Exchangers (as defined therein) and the
Acknowledging Currency Exchangers (as defined therein).(9)
10.24 Amendment to Borrower Pledge Agreement, dated February 27, 1998,
executed by TRCH in favor of The Bank of New York, as Collateral
Agent.(13)
10.25 Form of Subsidiary Pledge Agreement dated as of October 24, 1997 by
Total Renal Care, Inc., TRC West, Inc. and Total Renal Care Acquisition
Corp., and The Bank of New York, as Collateral Agent, the lenders to
the Revolving Credit Agreement, the lenders to the Term Loan Agreement,
the Term Agent (as defined therein), the Acknowledging Interest Rate
Exchangers (as defined therein) and the Acknowledging Currency
Exchangers (as defined therein).(9)
10.26 Subsidiary Pledge Agreement, dated as of February 27, 1998, by RTC and
The Bank of New York, as Collateral Agent, the lenders to the Revolving
Credit Agreement, the lenders to the Term Loan Agreement, the Term
Agent (as defined therein), the Acknowledging Interest Rate Exchangers
(as defined therein) and the Acknowledging Currency Exchangers (as
defined therein).(13)
</TABLE>
19
<PAGE>
<TABLE>
<C> <S>
10.27 Form of First Amendment to Borrower/Subsidiary Pledge Agreement, dated
April 30, 1998, by and among TRCH, RTC, TRC and The Bank of New York,
as Collateral Agent.(8)
10.28 Form of Acknowledgement and Confirmation, dated April 30, 1998, by TRCH,
RTC, TRC West, Inc., Total Renal Care, Inc., Total Renal Care
Acquisition Corp., Renal Treatment Centers--Mid-Atlantic, Inc., Renal
Treatment Centers--Northeast, Inc., Renal Treatment Centers--
California, Inc., Renal Treatment Centers--West, Inc., and Renal
Treatment Centers--Southeast, Inc. for the benefit of The Bank of New
York, as Collateral Agent and the lenders party to the Term Loan
Agreement or the Revolving Credit Agreement.(8)
10.29 Agreement and Plan of Merger dated as of November 18, 1997 by and among
TRCH, Nevada Acquisition Corp., a Delaware corporation and wholly-owned
subsidiary of TRCH, and RTC.(10)
10.30 First Amendment to the Subsidiary Guaranty dated February 17, 1998.(2)
10.31 Special Purpose Option Plan.(11)
10.32 Guaranty, entered into as of March 31, 1998, by TRCH in favor of and for
the benefit of PNC Bank.(2)
10.33 First Amendment, dated as of August 5, 1998, to the Term Loan
Agreement.(14)
12.1 Statement re Computation of Ratios of Earnings to Fixed Charges.X
21.1 List of our subsidiaries.(13)
23.1 Consent of PricewaterhouseCoopers LLP.X
24.1 Powers of Attorney with respect to TRCH (included on page II-1).X
27.1 Financial Data Schedule--year ended December 31, 1998, the year ended
December 31, 1997 and the year ended December 31, 1996.X
27.2 Financial Data Schedule--three months ended March 31, 1997, the three
months ended June 30, 1997, the three months ended September 30, 1997,
the six months ended June 30, 1997 and the nine months ended September
30, 1997.X
</TABLE>
- --------
X Included in this filing.
* Management contract or executive compensation plan or arrangement.
(1) Filed on March 18, 1996 as an exhibit to our Transitional Report on Form
10-K for the transition period from June 1, 1995 to December 31, 1995.
(2) Filed on March 31, 1998 as an exhibit to our Form 10-K for the year ended
December 31, 1997.
(3) Filed on October 24, 1995 as an exhibit to Amendment No. 2 to our
Registration Statement on Form S-1 (Registration Statement No. 33-97618).
(4) Filed on August 29, 1995 as an exhibit to our Form 10-K for the year ended
May 31, 1995.
(5) Filed on December 18, 1998 as an exhibit to our Registration Statement on
Form S-3 (Registration Statement No. 333-69227).
(6) Filed as an exhibit to our Form 10-Q for the quarter ended September 30,
1998.
(7) Filed on August 29, 1997 as an exhibit to our Registration Statement on
Form S-8 (Registration Statement No. 333-34695).
(8) Filed on May 18, 1998 as an exhibit to Amendment No. 1 to our annual
report for the year ended December 31, 1997 on Form 10-K/A.
(9) Filed on December 19, 1997 as an exhibit to our Current Report on Form 8-
K.
(10) Filed on December 19, 1997 as Annex A to our Registration Statement on
Form S-4 (Registration Statement No. 333-42653).
(11) Filed on February 25, 1998 as an exhibit to our Registration Statement on
Form S-8 (Registration Statement No. 333-46887).
(12) Filed as an exhibit to RTC's Form 10-Q for the quarter ended June 30,
1996.
(13) Filed on March 31, 1999 as an exhibit to our Form 10-K for the year ended
December 31, 1998.
(14) Filed on October 8, 1999 as an exhibit to our Form 10-K/A (Amendment No.
1) for the year ended December 31, 1998.
20
<PAGE>
(b) Reports on Form 8-K:
Current Report on Form 8-K, dated November 3, 1998, reporting under Item
5 the issuance of our press releases in connection with the release of our
third quarter earnings and the offering of $345 million of our 7%
convertible subordinated notes pursuant to Rule 144A.
<PAGE>
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and Stockholders of
Total Renal Care Holdings, Inc.
In our opinion, the accompanying consolidated balance sheets and the related
consolidated statements of income, of stockholders' equity, and of cash flows
present fairly, in all material respects, the financial position of Total Renal
Care Holdings, Inc. and its subsidiaries at December 31, 1997 and 1998, and the
results of their operations and their cash flows for each of the three years in
the period ended December 31, 1998 in conformity with generally accepted
accounting principles. These financial statements are the responsibility of the
Company's management; our responsibility is to express an opinion on these
financial statements based on our audits. We conducted our audits of these
statements in accordance with generally accepted auditing standards which
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, assessing the accounting principles
used and significant estimates made by management, and evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for the opinion expressed above.
As discussed in Note 1A, the accompanying consolidated financial statements
as of and for the three years ended December 31, 1998 have been restated.
During the first quarter of 2000 the Company determined it would not be in
compliance with financial covenants in its primary credit facilities when
measured as of December 31, 1999 and the potential effects are discussed in
Note 1A to the consolidated financial statements.
PricewaterhouseCoopers LLP
Seattle, Washington
March 29, 1999, except for Note 1A which is as of January 18, 2000
F-1
<PAGE>
TOTAL RENAL CARE HOLDINGS, INC.
CONSOLIDATED BALANCE SHEETS--AS RESTATED
<TABLE>
<CAPTION>
December 31, December 31,
1997 1998
<S> <C> <C>
Assets
Cash and cash equivalents...................... $ 6,700,000 $ 41,487,000
Patient accounts receivable, less allowance for
doubtful accounts of $30,695,000 and
$61,848,000, respectively..................... 248,408,000 416,472,000
Receivable from Tenet.......................... 534,000 350,000
Inventories.................................... 15,766,000 23,470,000
Deferred income taxes.......................... 15,340,000 39,014,000
Prepaid expenses and other current assets...... 21,500,000 45,721,000
-------------- --------------
Total current assets....................... 308,248,000 566,514,000
Property and equipment, net.................... 172,838,000 233,337,000
Notes receivable............................... 14,104,000 29,257,000
Deferred taxes, noncurrent..................... 385,000
Other long-term assets......................... 14,417,000 9,011,000
Intangible assets, net......................... 769,269,000 1,073,500,000
-------------- --------------
$1,279,261,000 $1,911,619,000
============== ==============
Liabilities and Stockholders' Equity
Accounts payable............................... $ 33,283,000 $ 45,710,000
Employee compensation and benefits............. 25,430,000 34,778,000
Other accrued liabilities...................... 15,927,000 69,432,000
Current portion of long-term obligations....... 27,810,000 21,847,000
Income taxes payable........................... 6,683,000
-------------- --------------
Total current liabilities.................. 102,450,000 178,450,000
-------------- --------------
Long-term debt................................. 731,192,000 1,225,781,000
-------------- --------------
Deferred income taxes.......................... 2,500,000 8,212,000
-------------- --------------
Other long-term liabilities.................... 1,594,000 1,890,000
-------------- --------------
Minority interests............................. 19,079,000 23,422,000
-------------- --------------
Commitments and contingencies (Notes 8, 9 and
13)
Stockholders' equity
Preferred stock ($0.001 par value; 5,000,000
shares authorized; none outstanding)........
Common stock ($0.001 par value, 195,000,000
shares authorized; 77,991,595 and 81,029,560
shares issued and outstanding).............. 78,000 81,000
Additional paid-in capital................... 363,486,000 421,675,000
Notes receivable from stockholders........... (3,030,000) (356,000)
Retained earnings............................ 61,912,000 52,464,000
-------------- --------------
Total stockholders' equity................. 422,446,000 473,864,000
-------------- --------------
$1,279,261,000 $1,911,619,000
============== ==============
</TABLE>
See accompanying notes to consolidated financial statements.
F-2
<PAGE>
TOTAL RENAL CARE HOLDINGS, INC.
CONSOLIDATED STATEMENTS OF INCOME--AS RESTATED
<TABLE>
<CAPTION>
Year ended December 31,
------------------------------------------
1996 1997 1998
<S> <C> <C> <C>
Net operating revenues............. $496,651,000 $758,403,000 $1,203,738,000
Operating expenses
Facilities........................ 345,537,000 514,372,000 779,740,000
General and administrative........ 32,446,000 49,934,000 75,686,000
Provision for doubtful accounts... 15,737,000 28,899,000 44,858,000
Depreciation and amortization..... 32,423,000 54,479,000 91,729,000
Merger and related costs.......... 2,808,000 78,188,000
------------ ------------ --------------
Total operating expenses........ 428,951,000 647,684,000 1,070,201,000
------------ ------------ --------------
Operating income................... 67,700,000 110,719,000 133,537,000
Interest expense, net of
capitalized interest.............. (13,417,000) (28,214,000) (72,804,000)
Interest rate swap-early
termination costs................. (9,823,000)
Interest income.................... 3,858,000 3,175,000 4,894,000
------------ ------------ --------------
Income before income taxes,
minority interests,
extraordinary item and
cumulative effect of change in
accounting principle............. 58,141,000 85,680,000 55,804,000
Income taxes....................... 22,031,000 35,654,000 38,449,000
------------ ------------ --------------
Income before minority interests,
extraordinary item and
cumulative effect of change in
accounting principle............. 36,110,000 50,026,000 17,355,000
Minority interests in income of
consolidated subsidiaries......... 3,578,000 4,502,000 7,163,000
------------ ------------ --------------
Income before extraordinary item
and cumulative effect of change
in accounting principle.......... 32,532,000 45,524,000 10,192,000
Extraordinary loss related to early
extinguishment of debt, net of tax
of $4,923,000 and $7,668,000,
respectively...................... 7,700,000 12,744,000
Cumulative effect of change in
accounting principle, net of tax
of $4,300,000..................... 6,896,000
------------ ------------ --------------
Net income (loss)................. $ 24,832,000 $ 45,524,000 $ (9,448,000)
============ ============ ==============
Earnings (loss) per common share:
Income before extraordinary item
and cumulative effect of change
in accounting principle.......... $ 0.43 $ 0.59 $ 0.12
Extraordinary loss, net of tax.... (0.10) (0.16)
Cumulative effect of change in
accounting principle, net of
tax.............................. (0.08)
------------ ------------ --------------
Net income (loss)................. $ 0.33 $ 0.59 $ (0.12)
============ ============ ==============
Weighted average number of common
shares outstanding................ 74,042,000 77,524,000 80,143,000
============ ============ ==============
Earnings (loss) per common share--
assuming dilution:
Income before extraordinary item
and cumulative effect of change
in accounting principle.......... $ 0.42 $ 0.57 $ 0.12
Extraordinary loss, net of tax.... (0.10) (0.16)
Cumulative effect of change in
accounting principle, net of
tax.............................. (0.08)
------------ ------------ --------------
Net income (loss)................. $ 0.32 $ 0.57 $ (0.12)
============ ============ ==============
Weighted average number of common
shares and equivalents
outstanding--assuming dilution.... 77,225,000 79,975,000 81,701,000
============ ============ ==============
</TABLE>
See accompanying notes to consolidated financial statements.
F-3
<PAGE>
TOTAL RENAL CARE HOLDINGS, INC.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY--AS RESTATED
<TABLE>
<CAPTION>
Notes
Common Stock Additional Receivable Retained
------------------ Paid-In from Earnings
Shares Amount Capital Stockholders (Deficit) Total
<S> <C> <C> <C> <C> <C> <C>
Balance at December 31,
1995................... 66,780,615 $67,000 $206,750,000 $(2,773,000) $(10,882,000) $193,162,000
Net proceeds from stock
offerings.............. 6,666,667 7,000 128,311,000 128,318,000
Shares issued in
acquisitions........... 161,095 2,810,000 2,810,000
Shares issued in
connection with
mergers................ 2,422,534 2,000 105,000 3,097,000 3,204,000
Shares issued to
employees and others... 1,883 15,000 15,000
Shares issued to repay
debt................... 190,109 1,474,000 1,474,000
Options exercised....... 463,461 1,000 3,183,000 3,184,000
Interest accrued on
notes receivable, net
of payments............ (54,000) (54,000)
Income tax benefit
related to stock
options exercised...... 938,000 938,000
Dividend distribution... (659,000) (659,000)
Stock option expense.... 1,453,000 1,453,000
Net income.............. 24,832,000 24,832,000
---------- ------- ------------ ----------- ------------ ------------
Balance at December 31,
1996................... 76,686,364 77,000 345,039,000 (2,827,000) 16,388,000 358,677,000
Shares issued in
acquisitions........... 17,613 273,000 273,000
Shares issued to
employees and others... 174,775 1,773,000 1,773,000
Options exercised....... 447,456 2,019,000 2,019,000
Shares issued to repay
debt................... 664,580 1,000 5,147,000 5,148,000
Interest accrued on
notes receivable, net
of payments............ (203,000) (203,000)
Income tax benefit
related to stock
options exercised...... 5,453,000 5,453,000
Grant of stock options.. 235,000 235,000
Issuance of treasury
stock to repay debt.... 807 6,000 6,000
Stock option expense.... 3,541,000 3,541,000
Net income.............. 45,524,000 45,524,000
---------- ------- ------------ ----------- ------------ ------------
Balance at December 31,
1997................... 77,991,595 78,000 363,486,000 (3,030,000) 61,912,000 422,446,000
Shares issued in
acquisitions........... 98,549 2,796,000 2,796,000
Shares issued to
employees and others... 49,060 1,085,000 1,085,000
Options exercised....... 2,890,356 3,000 36,396,000 36,399,000
Repayment of notes
receivable, net of
interest accrued....... 2,674,000 2,674,000
Income tax benefit
related to stock
options exercised...... 14,199,000 14,199,000
Grant of stock options.. 128,000 128,000
Stock option expense.... 3,585,000 3,585,000
Net loss................ (9,448,000) (9,448,000)
---------- ------- ------------ ----------- ------------ ------------
Balance at December 31,
1998................... 81,029,560 $81,000 $421,675,000 $ (356,000) $ 52,464,000 $473,864,000
========== ======= ============ =========== ============ ============
</TABLE>
See accompanying notes to consolidated financial statements.
F-4
<PAGE>
TOTAL RENAL CARE HOLDINGS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS--AS RESTATED
<TABLE>
<CAPTION>
Year ended December 31,
---------------------------------------------
1996 1997 1998
<S> <C> <C> <C>
Cash flows from operating
activities
Net income (loss).............. $ 24,832,000 $ 45,524,000 $ (9,448,000)
Adjustments to reconcile net
income (loss) to net cash
provided by operating
activities:
Depreciation and
amortization................. 32,423,000 54,479,000 91,729,000
Extraordinary loss............ 12,623,000 20,412,000
Cumulative change in
accounting principle......... 11,196,000
Non-cash interest............. 4,396,000
Deferred income taxes......... (2,187,000) (9,689,000) (17,577,000)
Compensation expense from
stock option exercise........ 16,000,000
Income tax benefit related to
stock options exercised...... 938,000 5,453,000 14,199,000
Provision for doubtful
accounts..................... 15,737,000 28,899,000 44,858,000
Loss (gain) on disposition of
property and equipment....... (20,000) 76,000 192,000
Equity in losses (earnings)
from affiliate............... 16,000 (40,000) (157,000)
Minority interests in income
of consolidated
subsidiaries................. 3,578,000 4,502,000 7,163,000
Stock option expense.......... 1,453,000 3,541,000 3,713,000
Changes in operating assets
and liabilities, net of
effect of acquisitions:
Accounts receivable........... (52,909,000) (109,811,000) (200,251,000)
Inventories................... (3,030,000) (1,843,000) (7,152,000)
Prepaid expenses and other
current assets............... (8,784,000) (143,000) (30,104,000)
Other long-term assets........ (9,166,000) 7,652,000
Accounts payable.............. 2,147,000 (992,000) (261,000)
Employee compensation and
benefits..................... 6,043,000 8,539,000 8,933,000
Other accrued liabilities..... (207,000) 2,791,000 36,580,000
Income taxes payable.......... (6,315,000) 2,329,000 11,004,000
Other long-term liabilities... (222,000) 7,423,000 (7,725,000)
------------- ------------- ---------------
Net cash provided by
operating activities........ 30,512,000 31,872,000 956,000
------------- ------------- ---------------
Cash flows from investing
activities
Purchases of property
and equipment................. (41,740,000) (62,033,000) (83,012,000)
Additions to intangible
assets........................ (9,423,000) (39,807,000) (32,186,000)
Cash paid for acquisitions, net
of cash acquired.............. (179,002,000) (455,090,000) (338,164,000)
Purchase of investments........ (55,311,000)
Sale of investments............ 14,109,000 41,202,000
Investment in affiliate, net... (46,000) (2,935,000) (1,187,000)
Issuance of long-term notes
receivable.................... (540,000) (12,502,000) (14,836,000)
Proceeds from disposition of
property and equipment........ 236,000 365,000
------------- ------------- ---------------
Net cash used in investing
activities.................. (271,717,000) (530,800,000) (469,385,000)
------------- ------------- ---------------
Cash flows from financing
activities
Proceeds from long-term
borrowings.................... 107,000 4,511,000 3,395,000
Principal payments on long-term
obligations................... (8,649,000) (26,269,000) (35,675,000)
Proceeds from convertible
notes......................... 121,250,000 345,000,000
Dividend distribution.......... (659,000)
Cash paid to retire bonds...... (68,499,000)
Proceeds from bank credit
facility...................... 239,835,000 505,000,000 1,567,225,000
Payment of bank credit
facility...................... (188,510,000) (1,407,650,000)
Net proceeds from issuance of
common stock.................. 131,517,000 3,792,000 21,483,000
Bank overdrafts................ 10,392,000
Cash received on notes
receivable from stockholders.. 170,000 35,000 2,674,000
Distributions to minority
interests..................... (2,442,000) (2,768,000) (3,628,000)
------------- ------------- ---------------
Net cash provided by
financing activities........ 224,120,000 484,301,000 503,216,000
------------- ------------- ---------------
Net (decrease) increase in
cash........................... (17,085,000) (14,627,000) 34,787,000
Cash and cash equivalents at
beginning of year.............. 38,412,000 21,327,000 6,700,000
------------- ------------- ---------------
Cash and cash equivalents at end
of year........................ $ 21,327,000 $ 6,700,000 $ 41,487,000
============= ============= ===============
</TABLE>
Supplemental cash flow information (Note 15)
See accompanying notes to consolidated financial statements
F-5
<PAGE>
TOTAL RENAL CARE HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1A. Restatement of previously reported financial statements and subsequent
event.
Restatement
Our financial statements have been restated for the three years ended
December 31, 1996, 1997 and 1998 as summarized below. The restated financial
statements supersede our financial statements included in Form 10-K/A
(Amendment No. 1) previously reported.
Decreases to income before taxes
<TABLE>
<CAPTION>
Year ended December 31,
---------------------------------
1996 1997 1998
---------- ----------- ----------
<S> <C> <C> <C>
To reflect goodwill adjustments associated
with acquisition transactions............... $1,351,000 $10,520,000 $ 896,000
To recognize a calculated fair value of stock
options granted to medical directors and
contract labor.............................. 1,453,000 3,541,000 3,585,000
To reflect accounts payable accruals in the
quarters the liabilities were subsequently
determined to have been incurred............ 3,800,000
---------- ----------- ----------
Decrease to income before taxes............ $2,804,000 $14,061,000 $8,281,000
========== =========== ==========
</TABLE>
A reconciliation of the amounts previously reported for the three years ended
December 31, 1996, 1997 and 1998 to the amounts presented in the restated
consolidated financial statements is as follows:
<TABLE>
<CAPTION>
1996 1997 1998
--------------------------------- ---------------------------------- -----------------------------------
As previously As As previously As As previously As
reported Adjustment restated reported Adjustment restated reported Adjustment restated
------------- ---------- -------- ------------- ---------- --------- ------------- ---------- ----------
(in thousands, except per share)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Net operating
revenues.......... $498,024 $(1,373) $496,651 $760,997 $(2,594) $758,403 $1,204,894 $(1,156) $1,203,738
Operating expenses
Facilities........ 344,180 1,357 345,537 510,990 3,382 514,372 772,666 7,074 779,740
General and
administrative... 32,350 96 32,446 50,099 (165) 49,934 75,829 (143) 75,686
Provision for
doubtful
accounts......... 15,737 15,737 20,525 8,374 28,899 44,365 493 44,858
Depreciation and
amortization..... 32,445 (22) 32,423 54,603 (124) 54,479 92,028 (299) 91,729
Merger and
related costs.... 2,808 2,808 78,188 78,188
Total operating
expenses....... 427,520 1,431 428,951 636,217 11,467 647,684 1,063,076 7,125 1,070,201
Operating income... 70,504 (2,804) 67,700 124,780 (14,061) 110,719 141,818 (8,281) 133,537
Income before
extraordinary item
and cumulative
effect of change
in accounting
principle......... 34,407 (1,875) 32,532 55,027 (9,503) 45,524 15,342 (5,150) 10,192
Net income (loss)..
. 26,707 (1,875) 24,832 55,027 (9,503) 45,524 (4,298) (5,150) (9,448)
Income (loss) per
common share:
Income before
extraordinary
item and
cumulative effect
of change in
accounting
principle........ 0.46 (0.03) 0.43 0.71 (0.12) 0.59 0.19 (0.07) 0.12
Extraordinary
loss........... . (0.10) (0.10) (0.16) (0.16)
Cumulative effect
of change in
accounting
principle........ (0.08) (0.08)
Net income (loss)
per share........ 0.36 (0.03) 0.33 0.71 (0.12) 0.59 (0.05) (0.07) (0.12)
Income (loss) per
common share--
assuming dilution:
Income before
extraordinary
item and
cumulative effect
of change in
accounting
principle........ 0.45 (0.03) 0.42 0.69 (0.12) 0.57 0.19 (0.07) 0.12
Extraordinary
loss........... . (0.10) (0.10) (0.16) (0.16)
Cumulative effect
of change in
accounting
principle........ (0.08) (0.08)
Net income (loss)
per share........ 0.35 (0.03) 0.32 0.69 (0.12) 0.57 (0.05) (0.07) (0.12)
</TABLE>
F-6
<PAGE>
TOTAL RENAL CARE HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
<TABLE>
<CAPTION>
1997 1998
------------------------------------ ------------------------------------
As previously As previously
reported Adjustment As restated reported Adjustment As restated
------------- ---------- ----------- ------------- ---------- -----------
(in thousands)
<S> <C> <C> <C> <C> <C> <C>
Current assets.......... $ 302,204 $ 6,044 $ 308,248 $ 559,542 $ 6,972 $ 566,514
Long term assets........ 976,031 (5,018) 971,013 1,356,039 (10,934) 1,345,105
Total assets............ 1,278,235 1,026 1,279,261 1,915,581 (3,962) 1,911,619
Current liabilities..... 102,450 102,450 174,464 3,986 178,450
Long term liabilities,
other.................. 746,955 7,410 754,365 1,259,305 1,259,305
Stockholders' equity.... 428,830 (6,384) 422,446 481,812 (7,948) 473,864
Liabilities and
stockholders' equity... 1,278,235 1,026 1,279,261 1,915,581 (3,962) 1,911,619
</TABLE>
Subsequent event
Our credit facilities contain numerous financial and operating covenants.
Throughout 1999 we either complied with these covenants or obtained waivers and
continued to utilize these credit facilities. Based on our expectations
developed as of the date of this filing regarding our fourth quarter 1999
financial results, we anticipate not being in compliance with the covenants in
our credit facilities when measured as of December 31, 1999. Our anticipated
inability to maintain compliance results from an expected loss for the fourth
quarter of 1999, primarily due to asset impairments and valuation losses. These
fourth quarter asset impairments and valuation losses include: an impairment
loss for non-continental United States operations held for sale as of December
31, 1999, provision for uncollectible accounts receivable based on current
collection experience, and other asset impairments and valuation losses
associated with facility closures and other facility related assessments.
If our lenders do not waive this failure to comply, a majority of the lenders
could declare an event of default, which would allow the lenders to accelerate
payment of all amounts due under our credit facilities. Additionally, this
noncompliance will result in higher interest costs, and the lenders may require
additional concessions from us before giving us a waiver. In the event of
default under the credit facilities, the holders of our convertible
subordinated notes could also declare us to be in default. We are highly
leveraged, and we would be unable to pay the accelerated amounts that would
become immediately payable if a default is declared.
1. Organization and summary of significant accounting policies
Organization
We operate kidney dialysis facilities and provide related medical services in
Medicare certified dialysis facilities in various geographic sectors of the
United States and also in Argentina, Puerto Rico, Europe and Guam.
On February 27, 1998 we acquired Renal Treatment Centers, Inc., or RTC, with
headquarters in Berwyn, Pennsylvania in a merger. In connection with the
merger, we issued 34,565,729 shares of our common stock in exchange for all of
the outstanding shares of RTC common stock. RTC stockholders received 1.335
shares of our common stock for each share of RTC common stock that they owned.
We also issued 2,156,424 options in substitution for previously outstanding RTC
stock options, including 1,662,354 of the vested options that were exercised on
the merger date or shortly thereafter. In addition, we guaranteed $125,000,000
of RTC's 5 5/8% subordinated convertible notes. In conjunction with this
transaction, our board of directors and our stockholders authorized an
additional 140,000,000 shares of common stock.
The RTC merger transaction was accounted for as a pooling of interests and as
such, these consolidated financial statements have been restated to include RTC
for all periods presented. There were no transactions between RTC and us prior
to the combination and no adjustments were necessary to conform RTC's
accounting policies to ours. Certain reclassifications also were made to the
RTC financial statements to conform to our presentations.
F-7
<PAGE>
TOTAL RENAL CARE HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
The results of operations for Total Renal Care Holdings, Inc., or TRCH, and
the combined amounts presented in the consolidated financial statements as
restated are as follow:
<TABLE>
<CAPTION>
Years ended December 31,
-------------------------
1996 1997
<S> <C> <C>
Net operating revenues
TRCH.......................................... $271,574,000 $435,611,000
RTC........................................... 225,077,000 322,792,000
------------ ------------
$496,651,000 $758,403,000
============ ============
Net income before extraordinary item
TRCH.......................................... $ 21,850,000 $ 28,517,000
RTC........................................... 10,682,000 17,007,000
------------ ------------
$ 32,532,000 $ 45,524,000
============ ============
Net income after extraordinary item
TRCH.......................................... $ 14,150,000 $ 28,517,000
RTC........................................... 10,682,000 17,007,000
------------ ------------
$ 24,832,000 $ 45,524,000
============ ============
</TABLE>
As a result of the merger, RTC's revolving credit agreement was terminated
and the outstanding balance of approximately $297,228,000 was paid off through
additional borrowings under our credit facilities. The remaining net
unamortized deferred financing costs in the amount of $4,392,000, less tax of
$1,580,000, related to RTC's revolving credit agreement were recognized as an
extraordinary loss during 1998.
In connection with the merger, we developed a plan which included initiatives
to integrate our operations with those of RTC, eliminate duplicative overhead,
facilities and systems and improve service delivery. These integration
activities were commenced during the first quarter of 1998 and are expected to
be substantially completed by approximately July 1, 1999.
Merger and related costs recorded during the first quarter of 1998 include
costs associated with certain of the integration activities, transaction costs
and costs of employee severance and amounts due under employment agreements and
other compensation programs. These amounts are more fully described below and
are based on our estimates of those costs.
A summary of merger and related costs and accrual activity through December
31, 1998 is as follows:
<TABLE>
<CAPTION>
Severance
Direct and Costs to
Transaction Employment Integrate
Costs Costs Operations Total
<S> <C> <C> <C> <C>
Initial expense......... $21,580,000 $ 41,960,000 $15,895,000 $ 79,435,000
Amounts utilized--1st
quarter 1998........... (7,771,000) (35,304,000) (9,474,000) (52,549,000)
----------- ------------ ----------- ------------
Accrual, March 31, 1998
(unaudited)............ 13,809,000 6,656,000 6,421,000 26,886,000
Amounts utilized--2nd
quarter 1998........... (5,109,000) (1,096,000) (2,427,000) (8,632,000)
----------- ------------ ----------- ------------
Accrual, June 30, 1998
(unaudited)............ 8,700,000 5,560,000 3,994,000 18,254,000
Amounts utilized--3rd
quarter 1998........... (837,000) (458,000) (1,048,000) (2,343,000)
----------- ------------ ----------- ------------
Accrual, September 30,
1998 (unaudited)....... 7,863,000 5,102,000 2,946,000 15,911,000
Adjustment of
estimates.............. 1,305,000 (959,000) (1,593,000) (1,247,000)
Amounts utilized--4th
quarter 1998........... (9,168,000) (543,000) (188,000) (9,899,000)
----------- ------------ ----------- ------------
Accrual, December 31,
1998................... $ -- $ 3,600,000 $ 1,165,000 $ 4,765,000
=========== ============ =========== ============
</TABLE>
F-8
<PAGE>
TOTAL RENAL CARE HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
Direct transaction costs consist primarily of investment banking fees, legal
and accounting costs and other direct transaction costs, including the costs of
consultants, printing and registration, which were incurred by both TRCH and
RTC in connection with the merger. We concluded negotiations as to certain
amounts due in the fourth quarter of 1998 and subsequently we paid these
amounts.
Severance and employment costs were incurred for the following:
. Severance pay--The merger constituted a constructive termination of
employment under various preexisting employment contracts with RTC
officers. Terminated RTC officers were entitled to severance payments and
tax gross-up payments of approximately $6,500,000. In addition,
approximately 80 employees of RTC were informed that their positions
would be eliminated. Most of these employees were formerly located in
RTC's administrative office and a laboratory under development. The
terminations were structured over the integration period, which continued
through the end of 1998. The accrued severance payments to these
employees amounted to approximately $1,600,000. The remaining balance of
such severance costs of $600,000 was paid in the first quarter of 1999
and tax gross up payments of approximately $3,000,000 are expected to be
paid in 1999.
. Option exercises--Pre-existing terms of RTC stock option grants permitted
the exercise of options by tender of RTC shares. Some of the RTC shares
tendered had been held less than six months by the option holders and, as
required by Emerging Issues Task Force Issue 84-18, we recognized a
noncash expense of approximately $16,000,000 equal to the difference
between the exercise price of the options and the market value of the
stock on the date of exercise. We also incurred approximately $600,000 of
payroll tax related to the exercise of nonqualified stock options.
. Bonuses--RTC and TRCH each awarded special bonuses as a result of the
merger, paid in the first quarter of 1998, for which approximately
$16,300,000 was included in merger and related costs.
In connection with the RTC merger, we developed a plan which included
initiatives to integrate the operations of TRCH and RTC, eliminate duplicative
overhead, facilities and systems and improve service delivery. These
integration activities were commenced during the first quarter of 1998 and are
expected to be substantially completed by approximately July 1, 1999.
We eliminated the following RTC departments: human resources, managed care,
laboratory, and all finance functions, with the exception of patient
accounting. The finance functions eliminated included payroll, financial
reporting and analysis, budgeting, general ledger, accounts payable, and tax
functions. The RTC human resources and managed care departments were
discontinued in Berwyn, Pennsylvania and consolidated with our respective
departments in our Torrance, California headquarters as of September 30, 1998.
All finance functions, with the exception of patient accounting, were
consolidated into our Tacoma, Washington business office as of December 31,
1998. RTC's laboratory, located in Las Vegas, Nevada, was closed prior to its
commencement of operation. All laboratory functions were consolidated into our
laboratories in Minnesota and Florida in February 1998.
Costs to integrate operations include the following:
. Laboratory restructuring--As part of our merger integration plan, we
decided to restructure our laboratories. To optimize post-merger
operations, we terminated a long-term management services agreement with
a third party that provided full laboratory management on a contract
basis. The termination fee of approximately $3,800,000 was negotiated in
the first quarter of 1998. We also immediately halted development of
RTC's new laboratory, which was not required for post-merger operations.
The RTC laboratory, which was being developed in leased space, is now
vacant and a new sublessee is being sought. As a result of this decision,
previously capitalized leasehold improvements of $2,600,000 were
expensed. Additionally, merger and related costs include approximately
$1,000,000 of
F-9
<PAGE>
TOTAL RENAL CARE HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
pre-opening start up costs incurred during the first quarter of 1998
relating to the terminated RTC laboratory and $1,500,000 of remaining
lease payments. The accrual for lease payments was not offset by any
anticipated sublease income. No such income has been received to date and
the remaining balance of this accrual at December 31, 1998 was
approximately $1,165,000.
. Initial merger costs--Approximately $5,400,000 was expensed for
integration activities which occurred at the time of the merger. Such
costs include a special training program held in March 1998 and attended
by many of our employees, including former RTC employees, merger related
travel costs, consultant costs and other costs attributed to the merger.
During the fourth quarter of 1998 we reduced the remaining balance of the
accrual by $1,247,000 representing differences between initial estimates and
actual amounts of expenses incurred.
The accrued merger and related costs initially reported by us in the first
quarter of 1998 amounted to $92,835,000. We have previously revised our
financial reporting relating to certain costs initially included in our merger
and related costs and accrual as set forth in the following table. The selected
quarterly financial data in Note 16 has also been restated to include the
following revisions:
<TABLE>
<CAPTION>
Three months ended
--------------------------------------------------- Year ended
March 31, June 30, September 30, December 31, December 31,
1998 1998 1998 1998 1998
<S> <C> <C> <C> <C> <C>
Operating expenses
Facilities............ $ 1,700,000 $ 1,700,000
General and
administrative....... $1,100,000 $1,100,000 $ 1,100,000 3,300,000
Depreciation and
amortization......... 590,000 1,770,000 1,770,000 1,770,000 5,900,000
Merger and related
costs................ (13,400,000) (1,247,000) (14,647,000)
------------ ---------- ---------- ----------- ------------
(Decrease) Increase to
operating expenses..... $(11,110,000) $2,870,000 $2,870,000 $ 1,623,000 $ (3,747,000)
============ ========== ========== =========== ============
</TABLE>
A summary of the primary revisions related to our merger and related costs is
as follows:
.Reclassification of merger charges into operating expenses:
<TABLE>
<S> <C>
Reclassify inventory writeoff as facility expense............. $1,700,000
Amortize merger bonuses with deferred payout schedule in
1998......................................................... 3,300,000
Amortize remaining book value of incompatible and duplicative
software in 1998............................................. 5,900,000
.Reversal of accrued expenses within the merger charges:
Reverse accrual of estimated potential tax liability.......... $2,500,000
Reversal of differences between original estimates and actual
amounts of the merger expenses incurred...................... 1,247,000
----------
Total reduction in operating costs.......................... $3,747,000
==========
</TABLE>
Basis of presentation
Our consolidated financial statements include our accounts and those of our
wholly owned and majority-owned subsidiaries and partnerships. Minority-owned
investments are recorded under the equity method of accounting because TRCH
owns at least a 20% interest in, and has significant influence over, the
investments. For all periods presented the results of operations of our
foreign-based entities are included through November 30 to allow time for the
accumulation of their financial information for inclusion with the results of
operations of our domestic operations.
F-10
<PAGE>
TOTAL RENAL CARE HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
In February 1996, RTC acquired, through two separate transactions,
Intercontinental Medical Services, Inc., or IMS, and Midwest Dialysis Unit and
its affiliates, or MDU. In July 1996, RTC acquired Panama City Artificial
Kidney Center, Inc. and North Florida Artificial Kidney Center, Inc., or the
Kidney Center Group. Accordingly, the consolidated financial statements have
been prepared to give retroactive effect to these mergers. Each of the
transactions was separately accounted for as a pooling-of-interests. The
consolidated financial statements include the results of IMS, MDU and the
Kidney Center Group as of January 1, 1996.
Net operating revenues
Revenues are recognized when services and related products are provided to
patients in need of ongoing life sustaining kidney dialysis treatments.
Operating revenues consist primarily of dialysis and ancillary fees from
patient treatments. We maintain a usual and customary fee schedule for our
dialysis treatment and other patient services. We often do not realize our
usual and customary rates, however, because of limitations on the amounts we
can bill to or collect from the payors for our services. We generally bill the
Medicare and Medicaid programs at net realizable rates determined by applicable
fee schedules for these programs, which are established by statute or
regulation. We bill most non-governmental payors, including managed care payors
with which we have contracted, at our usual and customary rates. Since we bill
most non-governmental payors at our usual and customary rates, but often expect
to receive payments at the lower contracted rates, we also record a contractual
allowance in order to record expected net realizable revenue for services
provided. Appropriate allowances are established based upon credit risk of
specific third-party payors, historical trends and other factors and are
reflected in the provision for doubtful accounts as a component of operating
expenses in the consolidated statements of income. This process involves
estimates and we record revisions to these estimates in subsequent periods as
they are determined to be necessary.
During 1996, 1997 and 1998, we received approximately 64%, 61% and 56%
respectively, of our dialysis revenues from Medicare and Medicaid programs.
Accounts receivable from Medicare and Medicaid amounted to $127,788,000 and
$204,770,000 as of December 31, 1997 and 1998, respectively. Medicare
historically pays approximately 80% of government established rates for
services provided by us. The remaining 20% typically is paid by state Medicaid
programs, private insurance companies or directly by the patients receiving the
services.
Medicare and Medicaid programs funded by the U.S. government generally
reimburse us according to fee schedules at predetermined rates per treatment,
which vary from region to region and are generally below our established
private rates. Revenue under these programs is recognized at these
predetermined rates which are subject to periodic adjustments by federal and
state agencies. We bill non-governmental third-party payors at our established
private rates. We have also contracted for the provision of dialysis services
to members of managed care organizations at rates that are significantly less
than our established private rates.
In August 1993, the Omnibus Budget Reconciliation Act of 1993, or OBRA 93,
became effective. The Healthcare Financing Administration, or HCFA, originally
interpreted certain provisions of OBRA 93 to require employer group health
sponsored insurance plans, or private payors, to be the primary payor for
patients who became dually entitled to Medicare benefits because they developed
ESRD after they had earlier been entitled to Medicare due to age or disability.
In July 1994, HCFA instructed the Medicare fiscal intermediaries to apply the
provisions of OBRA 93 retroactively to August 10, 1993. Accordingly, we billed
the responsible private payors as the primary payors and recognized these
revenues, at the generally higher private rates, as services were rendered for
periods after August 10, 1993.
In April 1995, HCFA issued instructions of clarification to the fiscal
intermediaries which stated that it had misinterpreted the OBRA 93 provisions,
and that Medicare would continue as the primary payor despite a patient
obtaining dual eligibility status under the Medicare ESRD provisions.
Accordingly, we began
F-11
<PAGE>
TOTAL RENAL CARE HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
recognizing revenues at Medicare rates for all such patients going forward from
April 1995. We also adjusted our financial statements to reflect revenues
earned at Medicare rates for such patients during the period from August 1993
through April 1995. This resulted in a reduction in revenues for the period
August 1993 through April 1995 of approximately $3.1 million as these revenues
had been previously recognized at the generally higher private rates.
In June 1995, a federal court issued a preliminary injunction against HCFA
prohibiting HCFA from retroactively applying its reinterpretation of the OBRA
93 provisions to periods prior to its April 1995 instructions of clarification.
After the issuance of this preliminary injunction, we determined that a
permanent injunction would likely be issued, and we adjusted our financial
statements to reflect revenues earned during the period from August 1993
through April 1995 at the generally higher private rates. We made no adjustment
to revenues recognized going forward from April 1995 because the injunction did
not prohibit the prospective effect of HCFA's reinterpretation.
In January 1998, a federal court issued a permanent injunction preventing
HCFA from applying its reinterpretation of the OBRA 93 provisions because that
application would be unlawful retroactive rulemaking. We did not adjust our
revenues in January 1998 in response to the permanent injunction because
revenues had already been recognized at the generally higher private rates
after the issuance of the preliminary injunction in June 1995.
As a Medicare and Medicaid provider, we are subject to extensive regulation
by both the federal government and the states in which we conduct our business.
Due to heightened awareness of federal and state budgets, scrutiny is being
placed on the health care industry, potentially subjecting us to regulatory
investigation and changes in billing procedures (see Note 13).
The provisions of the Kennedy-Kassebaum legislation issued January 1, 1997
may limit our ability to pay for policy premiums for patients even with proven
financial hardship. However, we believe that the bill did not intend to limit
our ability to pay premiums for insurance coverage to third-party or
governmental payors. In the fall of 1997, the Office of Inspector General of
the Department of Health and Human Services, of HHS, issued an advisory opinion
which would allow us to make grants to a foundation that may provide for these
premium payments on behalf of eligible ESRD patients. Furthermore, a recent
Congressional action will allow dialysis providers to pay their patients'
insurance premiums for secondary insurance. These premiums are generally less
than the 20% co-payment that a private insurer would pay. Dialysis providers
would be allowed to capture as incremental profit the difference between the
premiums paid to these secondary insurers and the reimbursement amounts
received from them. We plan to pay for a patient's secondary insurance premium
only if the patient does not qualify for Medicaid and the patient demonstrates
an inability to pay for this insurance. Dialysis providers will be able to pay
directly their patients' premiums for secondary insurance beginning upon the
enactment of regulations implementing the Congressional action, which is
expected in the third quarter of 1999.
We provide management services to dialysis facilities that we do not own. Our
fees typically are determined as a percentage of the facilities' patient
revenues. The net fee due us is included in our net operating revenues as
earned. Any costs incurred in performing these management services are
recognized in facility operating and general and administrative expenses.
Cash and cash equivalents
Cash equivalents are highly liquid investments with original maturities of
three months or less.
As part of our cash management strategy, we utilize a zero-balance
disbursement account that resulted in a cash overdraft of $10,392,000 as of
December 31, 1998. This overdraft has been reclassified and included in
accounts payable in these financial statements.
F-12
<PAGE>
TOTAL RENAL CARE HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
Inventories
Inventories are stated at the lower of cost (first-in, first-out) or market
and consist principally of drugs and dialysis related supplies.
Supplier rebates associated with medical supplies inventory are based on a
percentage of purchases during the contract period and generally are paid to us
on a quarterly or semi-annual basis. The percentage rate of rebate recognized
by us is based upon expected purchase thresholds to be achieved during the
contract period. We recognize supplier rebates in the same period that the
related inventory expense is recognized and they are included in facility
operating expenses in the consolidated statement of income. A corresponding
rebate receivable is included in other current assets in the consolidated
balance sheet.
Property and equipment
Property and equipment are stated at cost. Maintenance and repairs are
charged to expense as incurred. Depreciation and amortization expense are
computed using the straight-line method over the useful lives of the assets
estimated as follows: buildings, 20 to 40 years; leaseholds and improvements,
over the shorter of their estimated useful life or the lease term; and
equipment, 3 to 15 years.
Capitalized interest
We capitalize interest associated with the costs of significant facility
expansion and construction. Interest is capitalized by using an interest rate
which is equal to the weighted average borrowing rate on our long-term debt.
Approximately $685,000 and $804,000 in interest expense was capitalized during
1997 and 1998, respectively.
Intangible assets
Business acquisition costs allocated to patient lists are amortized generally
over five to eight years using the straight-line method. Business acquisition
costs allocated to covenants not to compete are amortized over the terms of the
agreements, typically three to eleven years, using the straight-line method.
Deferred debt issuance costs are amortized over the term of the debt using the
effective interest method. Pre-opening and development costs are expensed as
incurred during 1998.
The excess of aggregate purchase price over the fair value of net assets of
businesses acquired is recorded as goodwill. Goodwill is amortized over 15 to
40 years using the straight-line method. Currently, the blended average life of
our goodwill is 34 years.
Impairment of Property and Equipment and Intangible Assets
The carrying value of property and equipment and intangible assets are
assessed for any permanent impairment by evaluating the operating performance
and future undiscounted cash flows from operations of the underlying
businesses. Adjustments are made if the sum of the expected future undiscounted
net cash flows is less than book value. Statement of Financial Accounting
Standards No. 121, Accounting for the Impairment of Long-Lived Assets and for
Long-Lived Assets to be Disposed of, or SFAS 121, requires that long-lived
assets be reviewed for impairment whenever events or changes in circumstances
indicate that the carrying amount of assets may not be recoverable.
F-13
<PAGE>
TOTAL RENAL CARE HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
Income taxes
We account for income taxes using an asset and liability approach, which
requires recognition of deferred income taxes for all temporary differences
between the tax and financial reporting bases of our assets and liabilities
based on enacted tax rates applicable to the periods in which the differences
are expected to be recovered or settled.
Minority interests
Minority interests represent the proportionate equity interest of other
partners and stockholders in our consolidated entities which are not wholly
owned. As of December 31, 1998, these included 24 active partnerships and
corporations.
Stock-based compensation
Statement of Financial Accounting Standards No. 123, Accounting for Stock-
Based Compensation, or SFAS 123, requires us to elect to account for stock-
based compensation for employees on a fair value based model or an intrinsic
value based model. We currently use the intrinsic value based model which is
the accounting principle prescribed by Accounting Principles Board No. 25,
Accounting for Stock Issued to Employees, or APB 25. Under this model,
compensation cost is the excess of the quoted market price of the stock at the
date of grant or other measurement date over the amount an employee must pay to
acquire the stock. The fair value based model prescribed by SFAS 123 requires
us to value stock-based compensation using an accepted valuation model.
Compensation cost is measured at the grant date based on the value of the award
and would be recognized over the service period which is usually the vesting
period. SFAS 123 requires us to either reflect the results of the valuation in
the consolidated financial statements or alternatively continue to apply the
provisions of APB 25 and make appropriate disclosure of the impact of such
valuation in the accompanying notes to consolidated financial statements.
We have elected to continue to apply the provisions of APB 25 to our employee
stock-based compensation plans and have included the required disclosure of the
pro forma impact on net income and earnings per share of the difference between
compensation expense using the intrinsic value method and the fair value method
(see Note 10).
The expense recognized for stock options issued to medical directors,
contract labor and external consultants was based on a fair value measurement
at each period-end using the Black-Scholes model and attributed to the
underlying vesting periods using the FIN 28 expense attribution method, except
that for options granted prior to the second quarter of 1997 (effective date of
EITF 96-18) such expense was a fixed amortization of the grant date fair value.
Each period's expense amount represented the change in the cumulative expense
amortization remeasured throughout the vesting periods based on the then
current calculated option value.
Earnings per share
In February 1997, the Financial Accounting Standards Board issued the
Statement of Financial Accounting Standards No. 128, Earnings Per Share, or
SFAS 128. SFAS 128 establishes standards for computing and presenting earnings
per share. Basic earnings per share is calculated by dividing net income before
extraordinary item and net income by the weighted average number of shares of
common stock outstanding. Earnings per common share assuming dilution includes
the dilutive effects of stock options and warrants, using the treasury stock
method, in determining the weighted average number of shares of common stock
outstanding. Not currently used in the calculation is the effect of our
convertible debt. For 1997 and 1998, the effect of our convertible debt is
antidilutive and as such, is not to be included in the diluted EPS calculation.
Earnings per share for all periods presented have been restated following the
provisions of SFAS 128.
F-14
<PAGE>
TOTAL RENAL CARE HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
Interest rate swap agreements
We have entered into interest rate swap agreements (see Note 8) as a means of
managing our interest rate exposure. We have not entered these agreements for
trading or speculative purposes. These agreements have the effect of converting
our line of credit obligation from a variable rate to a fixed rate. Net amounts
paid or received are reflected as adjustments to interest expense. The
counterparties to these agreements are large international financial
institutions. These interest rate swap agreements subject us to financial risk
that will vary during the life of the agreements in relation to the prevailing
market interest rates. We are also exposed to credit loss in the event of non-
performance by these counterparties. However, we do not anticipate non-
performance by the other parties, and no material loss would be expected from
non-performance by the counterparties.
Financial instruments
Our financial instruments consist primarily of cash, accounts receivable,
notes receivable, accounts payable, employee compensation and benefits, and
other accrued liabilities. These balances, as presented in the financial
statements at December 31, 1997 and 1998, approximate their fair value.
Borrowings under our credit facilities, of which $749,575,000 was outstanding
as of December 31, 1998, reflect fair value as they are subject to fees and
rates competitively determined in the marketplace. The fair value of the
interest rate swap agreements is based on the present value of expected future
cash flows from the agreement and was in a net payable position of $31,300,000
at December 31, 1998. The fair value of our 7% convertible subordinated notes
was equal to the carrying book value because of the proximity in the time
between the issue date of these notes and December 31, 1998; the fair value of
the RTC 5 5/8% convertible subordinated notes was approximately $124,000,000 at
December 31, 1998.
Foreign currency translation
Our principal operations outside of the United States are in Argentina and
are relatively self-contained and integrated within Argentina. The currency in
Argentina, which is considered the functional currency, floats with the U.S.
dollar, therefore, there are no significant foreign currency translation
adjustments. Our operations in Europe were nominal through December 31, 1998.
Comprehensive income
In June 1997, the Financial Accounting Standards Board, or FASB, issued
Statement of Financial Accounting Standards No. 130, Reporting Comprehensive
Income, or SFAS 130, which was adopted by us in the first quarter of 1998. SFAS
130 establishes standards for reporting and displaying comprehensive income and
its components (revenues, expenses, gains and losses) in a full set of general-
purpose financial statements or as additional line items within the current set
of financial statements. Comprehensive income as defined includes certain
changes in stockholders' equity during a period from non-income sources. Such
items may include foreign currency translation adjustments, unrealized
gains/losses from investing and hedging activities, and other transactions.
SFAS 130 requires that all items that are required to be recognized under
accounting standards as components of comprehensive income be reported in a
financial statement that is displayed with the same prominence as other
financial statements. As we have no components of other comprehensive income
through December 1998, there were no disclosure requirements involved in our
adoption of SFAS 130. In the future, we are likely to have other comprehensive
income that SFAS 130 will require us to disclose.
Segment information
In June 1997, the FASB issued Statement of Financial Accounting Standards No.
131, Disclosures about Segments of an Enterprise and Related Information, which
requires that we report financial and descriptive
F-15
<PAGE>
TOTAL RENAL CARE HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
information about our reportable operating segments. We have determined that we
do not have any separately reportable segments.
Derivative instruments and hedging activities
In June 1998, the FASB issued Statement of Financial Accounting Standards No.
133, Accounting for Derivative Instruments and Hedging Activities, or SFAS 133.
SFAS 133 is effective for all fiscal quarters of all fiscal years beginning
after June 15, 1999. Accordingly, for us, SFAS 133 will become effective
January 1, 2000. SFAS 133 requires that all derivative instruments be recorded
on the balance sheet at their fair value. Changes in the fair value of
derivatives are recorded each period in current earnings or other comprehensive
income, depending on whether a derivative is designated as part of a hedge
transaction and, if it is, the type of hedge transaction. For fair-value hedge
transactions in which we are hedging changes in an asset's, liability's, or
firm commitment's fair value, changes in the fair value of the derivative
instrument will generally be offset in the income statement by changes in the
hedged item's fair value. For cash-flow hedge transactions, in which we are
hedging the variability of cash flows related to a variable-rate asset,
liability, or a forecasted transaction, changes in the fair value of the
derivative instrument will be reported in other comprehensive income. The gains
and losses on the derivative instrument that are reported in other
comprehensive income will be reclassified as earnings in the periods in which
earnings are impacted by the variability of the cash flows of the hedged item.
The ineffective portion of all hedges will be recognized in current-period
earnings.
We have not yet determined the impact that the adoption of SFAS 133 will have
on our earnings or statement of financial position.
Use of estimates
The preparation of financial statements in conformity with generally accepted
accounting principles requires us to make estimates and assumptions that affect
the reported amounts of assets and liabilities and disclosure 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.
Reclassifications
Certain prior year balances have been reclassified to conform to the current
year presentation.
2. Property and equipment
Property and equipment comprise the following:
<TABLE>
<CAPTION>
December 31,
---------------------------
1997 1998
<S> <C> <C>
Land.......................................... $ 1,410,000 $ 1,410,000
Buildings..................................... 6,463,000 10,622,000
Leaseholds and improvements................... 78,956,000 113,409,000
Equipment..................................... 147,824,000 204,156,000
Construction in progress...................... 7,352,000 11,849,000
------------ -------------
242,005,000 341,446,000
Less accumulated depreciation and
amortization................................. (69,167,000) (108,109,000)
------------ -------------
Property and equipment, net................... $172,838,000 $ 233,337,000
============ =============
</TABLE>
F-16
<PAGE>
TOTAL RENAL CARE HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
Depreciation and amortization expense on property and equipment was
$13,903,000, $22,160,000 and $40,032,000 for 1996, 1997, and 1998,
respectively.
3. Intangible assets
A summary of intangible assets is as follows:
<TABLE>
<CAPTION>
December 31,
----------------------------
1997 1998
<S> <C> <C>
Goodwill....................................... $619,597,000 $ 939,989,000
Patient lists.................................. 122,463,000 132,048,000
Noncompetition agreements...................... 61,797,000 96,670,000
Deferred debt issuance costs................... 23,415,000 19,329,000
Other.......................................... 18,891,000
------------ --------------
846,163,000 1,188,036,000
Less accumulated amortization.................. (76,894,000) (114,536,000)
------------ --------------
$769,269,000 $1,073,500,000
============ ==============
</TABLE>
Amortization expense applicable to intangible assets was $18,520,000,
$32,319,000 and $51,697,000 for 1996, 1997 and 1998 respectively.
In April 1998, Statement of Position No. 98-5, Reporting on the Costs of
Start-up Activities, or SOP 98-5, was issued. We adopted SOP 98-5 effective
January 1, 1998. SOP 98-5 requires that pre-opening and organization costs,
incurred in conjunction with facility pre-opening activities, which previously
had been treated as deferred costs and amortized over five years, should be
expensed as incurred. As a result of the adoption of SOP 98-5, all remaining
unamortized pre-opening, development and organizational costs existing prior to
January 1, 1998 of $11,196,000 were recognized, net of tax of $4,300,000, as
the cumulative effect of a change in accounting principle in 1998.
4. Prepaid expenses and other current assets
Prepaid expenses and other current assets comprise the following:
<TABLE>
<CAPTION>
December 31,
-----------------------
1997 1998
<S> <C> <C>
Supplier rebates and other current non-trade
receivables...................................... $10,886,000 $37,917,000
Prepaid income taxes.............................. 5,501,000
Prepaid expenses.................................. 4,910,000 7,165,000
Deposits.......................................... 203,000 639,000
----------- -----------
$21,500,000 $45,721,000
=========== ===========
</TABLE>
F-17
<PAGE>
TOTAL RENAL CARE HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
5. Notes receivable
During 1997, we entered into various agreements to provide funding for
expansion to certain companies that provide renal dialysis or renal related
services. These notes receivables are secured by the assets and operations of
these companies. A summary of notes receivable is as follows:
<TABLE>
<CAPTION>
December 31,
-----------------------
1997 1998
<S> <C> <C>
Convertible note due June 2001 with interest at
prime plus 1.5%.................................... $ 7,701,000 $15,919,000
Convertible notes, due in quarterly installments
commencing in 2001, with interest at prime plus
1.5%............................................... 1,506,000 7,449,000
Note receivable due November 30, 2002 with interest
of 8.5%............................................ 3,077,000 3,689,000
Note from Victor M.G. Chaltiel, chief executive
officer, repaid in 1998............................ 1,820,000
Convertible note, from a related party, due May 2000
with interest at prime plus 1.5%................... 2,200,000
----------- -----------
$14,104,000 $29,257,000
=========== ===========
</TABLE>
6. Other accrued liabilities
Other accrued liabilities comprise the following:
<TABLE>
<CAPTION>
December 31,
-----------------------
1997 1998
<S> <C> <C>
Customer refunds.................................... $ 5,278,000 $22,483,000
Purchase price payable (see Note 8)................. 15,223,000
Accrued interest.................................... 5,395,000 10,986,000
Merger accrual...................................... 4,765,000
Other............................................... 5,254,000 15,975,000
----------- -----------
$15,927,000 $69,432,000
=========== ===========
</TABLE>
7. Income taxes
Our provision for income taxes consists of the following:
<TABLE>
<CAPTION>
Years ended December 31,
--------------------------------------
1996 1997 1998
<S> <C> <C> <C>
Current
Federal............................ $20,655,000 $35,128,000 $ 46,061,000
State.............................. 3,562,000 6,430,000 8,913,000
Foreign............................ 1,070,000 1,052,000
Deferred
Federal............................ (1,985,000) (6,054,000) (15,557,000)
State.............................. (201,000) (920,000) (2,020,000)
----------- ----------- ------------
$22,031,000 $35,654,000 $ 38,449,000
=========== =========== ============
</TABLE>
F-18
<PAGE>
TOTAL RENAL CARE HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
Temporary differences which give rise to deferred tax assets and liabilities
are as follows:
<TABLE>
<CAPTION>
December 31,
------------------------
1997 1998
<S> <C> <C>
Receivables, primarily allowance for doubtful
accounts....................................... $12,644,000 $27,143,000
Merger costs.................................... 6,159,000
Accrued benefits payable........................ 2,114,000 2,821,000
Deferred compensation........................... 67,000 --
Stock compensation.............................. 1,600,000 2,800,000
Foreign receivable.............................. 798,000 798,000
Foreign NOL carryforward........................ 944,000 944,000
Foreign tax credit carryforward................. 200,000 200,000
Other........................................... 417,000 324,000
----------- -----------
Gross deferred tax assets....................... 18,784,000 41,189,000
Fixed assets.................................... (2,821,000) (4,115,000)
Intangible assets............................... (778,000) (4,330,000)
Other........................................... (17,000)
----------- -----------
Gross deferred tax liabilities................ (3,616,000) (8,445,000)
Valuation allowance........................... (1,942,000) (1,942,000)
----------- -----------
Net deferred tax assets....................... $13,226,000 $30,802,000
=========== ===========
</TABLE>
The valuation allowance relates to deferred tax assets established under SFAS
No. 109 for foreign net operating loss carryforwards of $2.86 million, foreign
receivables of $798,000 and foreign tax credit carryforwards of $200,000. The
unutilized loss and credit carryforwards which expire in 2002, will be carried
forward to future years for possible utilization. No benefit of these deferred
items has been recognized on the financial statements.
The reconciliation between our effective tax rate and the U.S. federal income
tax rate on income is as follows:
<TABLE>
<CAPTION>
Years ended December 31,
----------------------------
1996 1997 1998
<S> <C> <C> <C>
Federal income tax rate...................... 35.0% 35.0% 35.0%
State taxes, net of federal benefit.......... 4.1 4.1 3.1
Foreign income taxes......................... 0.5
Nondeductible amortization of intangible
assets...................................... 1.2 0.9 2.0
Valuation allowance.......................... 2.3
Other........................................ 0.8
-------- -------- --------
Effective tax rate........................... 40.3 43.6 40.1
Minority interests in partnerships........... (2.4) (2.0) (9.4)
Merger charges............................... 38.3
-------- -------- --------
Effective tax rate before minority interests
and merger charges.......................... 37.9% 41.6% 69.0%
======== ======== ========
</TABLE>
F-19
<PAGE>
TOTAL RENAL CARE HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
8. Long-term debt
Long-term debt comprises:
<TABLE>
<CAPTION>
December 31,
----------------------------
1997 1998
<S> <C> <C>
Credit facilities............................ $590,000,000 $ 749,575,000
Convertible subordinated notes, 7%, due
2009........................................ 345,000,000
Convertible subordinated notes, 5 5/8%, due
2006........................................ 125,000,000 125,000,000
Acquisition obligations and other notes
payable..................................... 38,822,000 24,160,000
Capital lease obligations (see Note 9)....... 5,180,000 3,893,000
------------ --------------
759,002,000 1,247,628,000
Less current portion......................... (27,810,000) (21,847,000)
------------ --------------
$731,192,000 $1,225,781,000
============ ==============
</TABLE>
Maturities of long-term debt are as follows:
<TABLE>
<S> <C>
1999........................................................ $ 21,847,000
2000........................................................ 10,893,000
2001........................................................ 94,579,000
2002........................................................ 153,567,000
2003........................................................ 241,559,000
Thereafter.................................................. 725,183,000
</TABLE>
12% senior subordinated discount notes
In July and September 1996, we retired the remaining 65% of our 12% senior
subordinated discount notes then outstanding for $68,499,000, including consent
payments of $1,100,000. An extraordinary loss on the early extinguishment of
debt of $12,623,000, net of income tax effect of $4,923,000, was recorded in
1996.
Credit facilities
At December 31, 1998 and 1997, we had outstanding borrowings under our
revolving credit facility of $353,575,000 and $353,000,000, respectively, and
at December 31, 1998, $396,000,000 was outstanding under our fixed term loan.
On April 30, 1998, we replaced our existing $1,050,000,000 credit facilities
with an aggregate of $1,350,000,000 in two senior bank facilities. These credit
facilities consist of a seven-year $950,000,000 revolving senior credit
facility and a ten-year $400,000,000 senior term facility. Up to $75,000,000
may be utilized for foreign financing. In general, borrowings under the credit
facilities bear interest at one of two floating rates selected by us: (a) the
Alternate Base Rate (defined as the higher of The Bank of New York's prime rate
or the federal funds rate plus 0.5%); or (b) Adjusted LIBOR (defined as the 30-
, 60-, 90- or 180-day London Interbank Offered Rate, adjusted for statutory
reserves) plus a margin that ranges from 0.45% to 1.75% depending on our
leverage ratio. As a result of this financing, remaining net deferred financing
costs in the amount of approximately $16,019,000, less tax of $6,087,000, were
recognized as an extraordinary loss in 1998.
Maximum borrowings under the $950,000,000 revolving credit facility will be
reduced by $89,100,000 on September 30, 2001, $148,400,000 on September 30,
2002, and another $237,500,000 on September 30, 2003,
F-20
<PAGE>
TOTAL RENAL CARE HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
and the revolving credit facility terminates on March 31, 2005. Under the
$400,000,000 term facility, payments of $4,000,000 shall be made each
consecutive year beginning on September 30, 1998 and continuing through
September 30, 2007. The remaining balance of $360,000,000 is due on March 31,
2008 when the term facility terminates. The credit facilities contain financial
and operating covenants including, among other things, requirements that we
maintain certain financial ratios and satisfy certain financial tests, and
impose limitations on our ability to make capital expenditures, to incur other
indebtedness and to pay dividends. We are in compliance with all such
covenants.
Certain of our subsidiaries, including Total Renal Care, Inc., or TRC, TRC
West, Inc., Total Renal Care Acquisition Corp., RTC, Renal Treatment Centers-
Mid Atlantic, Inc., Renal Treatment Centers-Northeast, Inc., Renal Treatment
Centers-California, Inc., Renal Treatment Centers-West, Inc. and Renal
Treatment Centers-Southeast, Inc., have guaranteed our obligations under the
credit facilities on a senior basis.
RTC also had a credit agreement which provided for a $350,000,000 revolving
credit/term facility available to fund acquisitions and general working capital
requirements, of which $237,000,000 was outstanding as of December 31, 1997.
The RTC credit agreement was terminated and repaid with borrowings under our
credit facilities on February 27, 1998 in connection with the completion of our
merger with RTC. The remaining net amortized deferred financing costs in the
amount of $4,392,000 related to the RTC credit agreement were recognized as an
extraordinary loss, net of tax effect of $1,580,000, in 1998.
5 5/8% convertible subordinated notes
In June 1996, RTC issued $125,000,000 of 5 5/8% convertible subordinated
notes due 2006. These notes are convertible, at the option of the holder, at
any time after August 12, 1996 through maturity, unless previously redeemed or
repurchased, into our common stock at a conversion price of $25.62 principal
amount per share, subject to certain adjustments. At any time on or after July
17, 1999, all or any part of these notes will be redeemable at our option on at
least 15 and not more than 60 days' notice as a whole or, from time to time, in
part at redemption prices ranging from 103.94% to 100% of the principal amount
thereof, depending on the year of redemption, together with accrued interest
to, but excluding, the date fixed for redemption. These notes are guaranteed by
TRCH.
The following is summarized financial information of RTC:
<TABLE>
<CAPTION>
December 31,
-------------------------
1997 1998
<S> <C> <C>
Cash and cash equivalents........................ $ 743,000 $ 5,396,000
Accounts receivable, net......................... 95,927,000 130,129,000
Other current assets............................. 19,484,000 19,106,000
------------ ------------
Total current assets........................... 116,154,000 154,631,000
Property and equipment, net...................... 72,777,000 75,641,000
Intangible assets, net........................... 384,529,000 406,603,000
Other assets..................................... 10,296,000 9,249,000
------------ ------------
Total assets................................... $583,756,000 $646,124,000
============ ============
Current liabilities (includes $306,628,000
intercompany payable to TRC at December 31,
1998)........................................... $ 61,978,000 $354,489,000
Long-term debt................................... 367,219,000 125,199,000
Other long-term liabilities...................... 444,000
Stockholders' equity............................. 154,115,000 166,436,000
------------ ------------
Total liabilities and stockholders' equity..... $583,756,000 $646,124,000
============ ============
</TABLE>
F-21
<PAGE>
TOTAL RENAL CARE HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
<TABLE>
<CAPTION>
Year ended December 31,
--------------------------------------
1996 1997 1998
<S> <C> <C> <C>
Net operating revenues.............. $225,077,000 $322,792,000 $472,355,000
Total operating expenses............ 203,402,000 279,607,000 446,367,000
------------ ------------ ------------
Operating income.................... 21,675,000 43,185,000 25,988,000
Interest expense, net............... 4,384,000 11,802,000 8,993,000
------------ ------------ ------------
Income before income taxes.......... 17,291,000 31,383,000 16,995,000
Income taxes........................ 6,609,000 14,376,000 19,959,000
------------ ------------ ------------
Income before extraordinary item and
cumulative effect of change in
accounting principle............... 10,682,000 17,007,000 (2,964,000)
Extraordinary loss related to early
extinguishment of debt, net of
tax................................ 2,812,000
Cumulative effect of change in
accounting principle, net of tax... 3,993,000
------------ ------------ ------------
Net income (loss)................. $ 10,682,000 $ 17,007,000 $ (9,769,000)
============ ============ ============
</TABLE>
7% convertible subordinated notes
In November 1998, we issued $345,000,000 of 7% convertible subordinated notes
due 2009, or the 7% notes, in a private placement offering. The 7% notes are
convertible, at the option of the holder, at any time into common stock at a
conversion price of $32.81 principal amount per share. We may redeem the
7% notes on or after November 15, 2001. The 7% notes are general, unsecured
obligations junior to all of our existing and future senior debt and,
effectively all existing and future liabilities of ours and our subsidiaries.
We subsequently filed a registration statement covering the resale of the 7%
notes.
Acquisition obligations
In 1994, pursuant to a business acquisition, RTC entered into an agreement to
pay $7,364,100 in annual installments commencing June 1995 through June 1998.
Interest on the unpaid principal amount of the note accrued at an annual rate
of 6.5%, payable in arrears each June 1 from 1995 from 1998. The note allowed
the seller to convert the principal amount of the note into that number of
shares of common stock of RTC based upon the average daily closing sale price
of RTC stock during December 1994. During 1997, the note payable was paid in
full through the issuance of common stock.
In 1996, pursuant to a business acquisition, RTC entered into an agreement to
pay a total of $8,050,000 to the seller in a single installment in January
1997. During 1997, pursuant to several business acquisitions, RTC entered into
several other agreements to pay the various sellers a total of $24,468,000 in
single installments in January 1998.
In conjunction with certain facility acquisitions, we have issued three
letters of credit. Two of these were released on April 1, 1997. The remaining
letter of credit of $3,000,000 is being released to the seller in three annual
principal installments of $1,000,000 commencing January 1997. We have also
agreed to pay the seller interest at 6.50% on the outstanding principal. As of
December 31, 1997 and December 31, 1998 the aggregate amount outstanding,
including accrued interest, was $2,183,000 and $1,106,000 respectively.
In December 1998, we purchased two facilities for a combined total of
$15,223,000 with a short term loan made to the sellers, which subsequently has
been repaid. Because of its short term maturity it has been included in other
accrued liabilities as of December 31, 1998.
F-22
<PAGE>
TOTAL RENAL CARE HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
Interest rate swap agreements
On November 25, 1996, we entered into a seven-year interest rate swap
agreement involving the exchange of fixed and floating interest payment
obligations without the exchange of the underlying principal amounts. At
December 31, 1997, the total notional principal amount of this interest rate
swap agreement was $100,000,000 and the effective interest rate thereon was
7.57%. On July 24, 1997, we entered into a ten-year interest rate swap
agreement. At December 31, 1997, the total notional principal amount of this
interest rate swap agreement was $200,000,000 and the effective interest rate
thereon was 7.77%. In April 1998, in conjunction with the refinancing of our
senior credit facilities, these two forward interest rate swap agreements were
cancelled. The loss associated with the early cancellation of those swaps was
approximately $9,823,000.
In May 1998, we entered into forward interest rate cancelable swap
agreements, with a combined notional amount of $800,000,000. The lengths of the
agreements are between three and ten years with cancellation clauses at the
swap holders' option from one to seven years. The underlying blended rate is
fixed at approximately 5.65% plus an applicable margin based upon our current
leverage ratio. At December 31, 1998, the effective interest rate for
borrowings under the swap agreement is 6.90%.
9. Leases
We lease the majority of our facilities under noncancelable operating leases
expiring in various years through 2021. Most lease agreements cover periods
from five to ten years and contain renewal options of five to ten years at the
fair rental value at the time of renewal or at rates subject to consumer price
index increases since the inception of the lease. In the normal course of
business, operating leases are generally renewed or replaced by other similar
leases.
Future minimum lease payments under noncancelable operating leases are as
follows:
<TABLE>
<S> <C>
1999....................................................... $ 41,794,000
2000....................................................... 32,317,000
2001....................................................... 28,388,000
2002....................................................... 25,784,000
2003....................................................... 23,545,000
Thereafter................................................. 84,908,000
------------
Total minimum lease payments............................... $236,736,000
============
</TABLE>
Rental expense under all operating leases for 1996, 1997 and 1998 amounted to
$15,901,000, $24,589,000 and $38,975,000 respectively.
We also lease certain equipment under capital lease agreements. Future
minimum lease payments under capital leases are as follows:
<TABLE>
<S> <C>
1999....................................................................... $ 2,675,000
2000....................................................................... 1,303,000
2001....................................................................... 712,000
2002....................................................................... 267,000
2003....................................................................... 91,000
Thereafter................................................................. --
Less portion representing.................................................. (1,155,000)
-----------
Total capital lease obligation, including current portion.................. $ 3,893,000
===========
</TABLE>
The net book value of fixed assets under capital lease was $5,649,000 and
$4,314,000 at December 31, 1997 and 1998, respectively. Capital lease
obligations are included in long-term debt (see Note 8).
F-23
<PAGE>
TOTAL RENAL CARE HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
10. Stockholders' equity
Public offerings of common stock
On April 3, 1996, and October 31, 1996 we completed equity offerings of
13,416,667 and 4,166,667 shares of our common stock, respectively; 5,833,333
and 833,334, respectively, of which were sold for our account and 7,583,333 and
3,333,333 respectively, of which were sold by certain of our stockholders. The
net proceeds received by us of $109,968,000 and $18,350,000, respectively, were
used to repay borrowings incurred under our credit facilities in connection
with acquisitions, to repurchase and subsequently retire our 12% senior
subordinated notes, to finance other acquisitions and de novo developments and
for working capital and other corporate purposes.
Change in shares, stock splits and dividends
Dividend distributions paid during 1996 were to the former shareholders of
entities acquired by RTC in transactions accounted for as poolings of interests
as described in Note 1.
On September 30, 1997 we announced a common stock dividend to all
stockholders of record as of October 7, 1997, to be paid on October 20, 1997.
Each stockholder received two additional shares of common stock for each three
shares held. Fractional shares calculated as a result of the stock dividend
were paid out in cash in the amount of approximately $14,000. As such, all
share and per share amounts presented in the financial statements and related
notes thereto have been retroactively restated to reflect this dividend which
was accounted for as a stock split.
Earnings per share
The reconciliation of the numerators and denominators used to calculate
earnings per share is as follows:
<TABLE>
<CAPTION>
Year ended December 31,
-------------------------------------
1996 1997 1998
<S> <C> <C> <C>
Income before extraordinary item and
cumulative effect of change in
accounting principle:
As reported........................... $32,532,000 $45,524,000 $10,192,000
=========== =========== ===========
Income before extraordinary item and
cumulative effect of change in
accounting principle--assuming
dilution:
As reported........................... $32,532,000 $45,524,000 $10,192,000
Add back interest on RTC earnout note,
tax effected......................... 233,000 34,000
----------- ----------- -----------
$32,765,000 $45,558,000 $10,192,000
=========== =========== ===========
Applicable common shares:
Average outstanding during the year... 74,172,000 77,649,000 80,156,000
Reduction in shares in connection with
notes receivable from employees...... (130,000) (125,000) (13,000)
----------- ----------- -----------
Weighted average number of shares
outstanding for use in computing basic
earnings per share..................... 74,042,000 77,524,000 80,143,000
Outstanding stock options (based on
the treasury stock method)........... 2,411,000 2,288,000 1,558,000
Dilutive effect of RTC earnout note... 772,000 163,000
----------- ----------- -----------
Adjusted weighted average number of
common and common share equivalent
shares outstanding--assumming
dilution............................. 77,225,000 79,975,000 81,701,000
=========== =========== ===========
Earnings per common share--basic........ $ 0.43 $ 0.59 $ 0.12
Earnings per common share--assuming
dilution............................... $ 0.42 $ 0.57 $ 0.12
</TABLE>
F-24
<PAGE>
TOTAL RENAL CARE HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
Stock-based compensation plans
At December 31, 1998, we had four stock-based compensation plans, which are
described below.
1994 plan. In August 1994, we established the Total Renal Care Holdings, Inc.
1994 Equity Compensation Plan which provides for awards of nonqualified stock
options to purchase our common stock and other rights to purchase shares of our
common stock to certain of our employees, directors, consultants and facility
medical directors.
Under terms of the 1994 plan, we may grant awards for up to 8,474,078 shares
of our common stock. Original options granted generally vest on the ninth
anniversary of the date of grant, subject to accelerated vesting in the event
that we meet certain performance criteria. In April 1996, we changed the
vesting schedule for new options granted so that options vest over four years
from the date of grant. The exercise price of each option equals the market
price of our stock on the date of grant, and an option's maximum term is ten
years.
Purchase rights to acquire 1,314,450 common shares for $0.90-$3.60 per share
have been awarded to certain employees under the 1994 plan. All of these rights
were exercised and we received notes for the uncollected portion of the
purchase proceeds. These notes bear interest at the lesser of The Bank of
New York's prime rate or 8%, are full recourse to the employees, and are
secured by the employees' stock. The notes are repayable four years from the
date of issuance, subject to certain prepayment requirements. At December 31,
1997 and 1998 the outstanding notes plus accrued interest totaled $212,000 and
$215,000, respectively.
During fiscal 1995, 1,477,778 of the options issued to purchase our common
stock were issued to Victor M.G. Chaltiel. These options originally vested 50%
over four years and 50% in the same manner as other options granted under the
1994 plan. In September 1995, our board of directors and stockholders agreed to
accelerate Mr. Chaltiel's vesting period and all of the options became 100%
vested. Pursuant to this action, Mr. Chaltiel exercised all of the stock
options through the issuance of a full recourse note of $1,330,000 bearing
interest at the lesser of prime or 8%. Additionally, Mr. Chaltiel executed a
full recourse note for $1,349,000 bearing interest at the lesser of prime or 8%
per annum to meet his tax liability in connection with the stock option
exercise. In April 1996, this note was increased by an additional $173,000.
These notes were secured by other shares of company stock and matured in
September 1999 or upon disposition of the common stock by Mr. Chaltiel. During
1998, this note was repaid in full.
1995 plan. In November 1995, we established the Total Renal Care Holdings,
Inc. 1995 Equity Compensation Plan which provides awards of stock options and
the issuance of our common shares, subject to certain restrictions, to certain
employees, directors and other individuals providing services to us. There are
1,666,667 common shares reserved for issuance under the 1995 plan. Options
granted generally vest over four years from the date of grant and an option's
maximum term is ten years, subject to certain restrictions. We generally issue
awards with the exercise prices equal to the market price of our stock on the
date of grant.
1997 plan. In July 1997, we established the Total Renal Care Holdings, Inc.
1997 Equity Compensation Plan which provides awards of stock options and the
issuance of our common shares, subject to certain restrictions, to certain
employees, directors and other individuals providing services to us. In
February 1998, we increased the shares reserved for issuance under the 1997
plan to 7,166,667 common shares. Options granted generally vest over four years
from the date of grant and an option's maximum term is ten years. We generally
issue awards with the exercise prices equal to the market price of our stock on
the date of grant.
The fair value of each option grant is estimated on the date of grant using
the Black-Scholes option-pricing model with the following assumptions used for
grants for 1996, 1997, and 1998, respectively: dividend
F-25
<PAGE>
TOTAL RENAL CARE HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
yield of 0% for all periods; weighted average expected volatility of 36.35%,
35.12% and 33.98%; risk-free interest rates of 6.56%, 6.40% and 5.51% and
expected lives of six years for all periods.
A combined summary of the status of the 1994 plan, the 1995 plan, and the
1997 plan as of and for the years ended December 31, 1996, 1997 and 1998 is
presented below:
<TABLE>
<CAPTION>
Year ended Year ended Year ended
December 31, 1996 December 31, 1997 December 31, 1998
-------------------- -------------------- --------------------
Weighted Weighted Weighted
Average Average Average
Exercise Exercise Exercise
Options Price Options Price Options Price
<S> <C> <C> <C> <C> <C> <C>
Outstanding at beginning
of period.............. 1,441,685 $ 1.91 3,118,394 $13.82 5,039,838 $16.01
Granted................. 1,818,913 22.28 3,931,080 19.74 5,570,567 31.10
Exercised............... (111,647) 0.92 (275,620) 3.96 (254,220) 9.48
Forfeited............... (30,557) 2.43 (1,734,016) 22.46 (308,401) 28.25
---------- ------ ---------- ------ ---------- ------
Outstanding at end of
year................... 3,118,394 $13.82 5,039,838 $16.01 10,047,784 24.15
========== ====== ========== ====== ========== ======
Options exercisable at
year end............... 663,007 797,474 1,959,913
========== ========== ==========
Weighted-average fair
value of options
granted during the
year................... $10.52 $ 9.15 $13.67
====== ====== ======
</TABLE>
Forfeitures and grants include the effects of modifications to the terms of
awards as if the original award was repurchased and exchanged for a new award
of greater value. On April 24, 1997, 1,649,735 shares were cancelled and
reissued at the market price as of that date. The new awards vest annually over
three years on the anniversary date of the new award.
The following table summarizes information about fixed stock options
outstanding at December 31, 1998:
<TABLE>
<CAPTION>
Options Outstanding Options Exercisable
------------------------------------------ --------------------------
Range of Weighted Average Weighted Weighted
Exercise Remaining Average Average Exercise
Prices Options Contractual Life Exercise Price Options Price
<S> <C> <C> <C> <C> <C>
$ 0.01-$ 5.00 812,937 5.8 years $ 1.15 770,474 $ 1.10
$ 5.01-$10.00 16,545 5.8 years 5.40 12,204 5.40
$10.01-$15.00 13,890 6.8 years 11.82 10,705 11.82
$15.01-$20.00 3,650,919 7.9 years 18.68 1,023,984 18.56
$20.01-$25.00 260,891 9.1 years 21.84 36,454 21.76
$25.01-$30.00 435,043 8.9 years 26.31 82,836 26.50
$30.01-$35.00 4,854,559 9.5 years 32.15 23,256 30.79
$35.01-$40.00 3,000 9.2 years 35.58
---------- --------- ------ --------- ------
10,047,784 8.6 years $24.15 1,959,913 $12.12
========== ========= ====== ========= ======
</TABLE>
RTC plans. In September 1990, RTC established a stock plan, which provided
for awards of incentive and nonqualified stock options to certain directors,
officers, employees and other individuals. In 1995 and 1996, the stock plan was
amended to increase the number of RTC common shares available for grant to
3,253,395 and 4,321,395 respectively. In addition, in 1996, RTC established an
option plan for outside directors pursuant to which nonqualified stock options
to purchase up to 80,100 shares of RTC common stock were reserved for issuance.
Options granted under RTC's plans generally vest from three to five years and
an option's maximum term is ten years, subject to certain restrictions.
Incentive stock options were granted at an exercise price not less
F-26
<PAGE>
TOTAL RENAL CARE HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
than the fair market value of RTC's common stock on the date of grant.
Nonqualified stock options were permitted to be granted as low as 50% of market
value, subject to certain floor restrictions. Accordingly, compensation expense
for the difference between the fair market value and the exercise price for
nonqualified stock options is recorded over the vesting period of these
options.
In May 1995, RTC granted 559,557 incentive stock options to certain
directors, officers and employees of RTC. These options were granted at an
exercise price equal to the fair market value of RTC's common stock on the date
of the grant. These options vest over three years. Certain options totaling
407,175 vest upon the earlier of attainment of predetermined earnings per share
targets or nine years.
In March 1996, RTC granted 821,495 incentive stock options to certain
directors, officers and employees of RTC. These options were granted at an
exercise price equal to the fair market value of RTC's common stock on the date
of the grant and vest over four years. Certain options aggregating 231,398 vest
upon the earlier of attainment of predetermined earnings per share targets or
nine years.
In December 1996, RTC granted 133,500 incentive stock options to one of its
officers. These options were granted at an exercise price equal to the fair
market value of RTC's common stock on the date of the grant and were fully
vested on the grant date.
Also in December 1996, RTC granted 40,050 non-qualified stock options in
connection with the release of RTC from certain obligations. The options were
granted at an exercise price equal to the fair market value of RTC's common
stock on the date of grant and were fully vested as of December 31, 1997.
During 1997, RTC granted 1,182,543 incentive stock options to certain
directors, officers and employees. These options were granted at an exercise
price equal to the fair market value of RTC's common stock on the dates of the
grants and vest in two to five years.
In 1997 RTC granted 26,700 options to acquisition consultants for covenants
not to compete. These options were granted at a price equal to the fair market
values of RTC's common stock on the date of the grant and were valued at
$235,000.
Upon consummation of our merger with RTC, all outstanding options were
converted to Total Renal Care Holdings Inc. Special Purpose Option Plan
options. This plan provides for awards of incentive and nonqualified stock
options in exchange for outstanding RTC stock plan options. Options under this
plan have the same provisions and terms provided for in the RTC stock plan,
including acceleration provisions upon certain sale of assets, mergers and
consolidations. On the merger date, there was a conversion of 2,156,426 of
RTC's options. Further, options for 1,305,738 shares became fully vested due to
change in control accelerated vesting provisions which were contained in the
original grants. Options for 1,662,356 shares were exercised subsequent to the
merger date. Our Stock Plan Committee has the option of accelerating the
remaining options upon certain sales of assets, mergers and consolidations.
The fair value of each option grant is estimated on the date of grant using
the Black-Scholes option-pricing model with the following assumptions used for
1996 and 1997, respectively: dividend yield of 0% for all periods; weighted
average expected volatility of 29.3% and 43%; risk free interest rates of 6.18%
and 6.55%; and expected lives of 5.63 and 4.29 years.
F-27
<PAGE>
TOTAL RENAL CARE HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
A summary of the status of the RTC plans as of and for the years ended
December 31, 1996, 1997 and 1998, is presented below:
<TABLE>
<CAPTION>
Year ended Year ended Year ended
December 31, 1996 December 31, 1997 December 31, 1998
------------------- ------------------- --------------------
Weighted Weighted Weighted
Average Average Average
Exercise Exercise Exercise
Options Price Options Price Options Price
<S> <C> <C> <C> <C> <C> <C>
Outstanding at beginning
of period ............. 1,658,601 $ 7.33 2,293,483 $11.09 3,285,192 $13.20
Granted................. 997,376 16.50 1,182,543 16.84
Exercised............... (351,814) 8.73 (171,830) 7.60 (2,901,218) 12.88
Forfeited............... (10,680) 9.09 (19,004) 13.09 (16,341) 15.45
--------- ------ --------- ------ ---------- ------
Outstanding at end of
year................... 2,293,483 $11.09 3,285,192 $13.33 367,633 15.66
========= ====== ========= ====== ========== ======
Options exercisable at
year end............... 966,903 1,785,169 248,958
========= ========= ==========
Weighted-average fair
value of options
granted during the
year................... $ 7.35 $ 9.70
====== ======
</TABLE>
The following table summarizes information about RTC fixed stock options
outstanding at December 31, 1998:
<TABLE>
<CAPTION>
Options Outstanding Options Exercisable
--------------------------------------- ----------------------
Range of Weighted Average Weighted Weighted
Exercise Remaining Average Average
Prices Options Contractual Life Exercise Price Options Exercise Price
<S> <C> <C> <C> <C> <C>
5.01-15.00 30,972 6.0 $ 8.58 24,564 $ 8.57
15.01-20.00 336,661 8.0 16.31 224,394 16.45
------- --- ------ ------- ------
367,633 7.9 $15.66 248,958 $15.68
======= === ====== ======= ======
</TABLE>
Stock Purchase Plan. In November 1995, we established the Total Renal Care
Holdings, Inc. Employees Stock Purchase Plan which entitles qualifying
employees to purchase up to $25,000 of common stock during each calendar year.
The amounts used to purchase stock are typically accumulated through payroll
withholdings and through an optional lump sum payment made in advance of the
first day of the plan. The plan allows employees to purchase stock for the
lesser of 100% of the fair market value on the first day of the purchase right
period or 85% of the fair market value on the last day of the purchase right
period. Each purchase right period begins on January 1 or July 1, as selected
by the employee and ends on December 31. Payroll withholdings related to the
plan, included in accrued employee compensation and benefits, were $1,120,000
and $1,892,000 at December 31, 1997, and 1998 respectively. Subsequent to
December 31, 1996, and December 31, 1997, 174,775 and 49,060 shares,
respectively were issued to satisfy our obligations under the plan.
For the November 1995 and July 1996 purchase right periods the fair value of
the employees' purchase rights were estimated on the beginning date of the
purchase right period using the Black-Scholes model with the following
assumptions for grants on November 3, 1995, July 1, 1996, January 1, 1997 and
July 1, 1997, respectively: dividend yield of 0% for all periods; expected
volatility of 36.6% in 1995 and 1996 and 34.23% in 1997; risk-free interest
rate of 5.5%, 6.6%, 6.8% and 6.8% and expected lives of 1.2, 0.5, 1.0, and 0.5
years. Using these assumptions, the weighted-average fair value of purchase
rights granted were $2.86, $7.37, $15.31, and $11.17, respectively.
The fair value of the January 1, 1998 and July 1, 1998 purchase right periods
were not estimated at December 31, 1998 because of the employees' ability to
withdraw from participation through December 31.
F-28
<PAGE>
TOTAL RENAL CARE HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
Pro forma net income and earnings per share. We applied APB Opinion No. 25
and related interpretations in accounting for all of our employee stock
compensation plans. Accordingly, no compensation cost has been recognized for
our fixed stock option plans and our stock purchase plan for employees. Had
compensation cost for our stock-based compensation plans been determined
consistent with SFAS 123, our net income and earnings per share would have been
reduced to the pro forma amounts indicated below:
<TABLE>
<CAPTION>
Year ended Year ended
December December Year ended
31, 31, December 31,
1996 1997 1998
<S> <C> <C> <C>
Income before extraordinary item and
cumulative effect of change in
accounting principle................... $26,955,000 $33,779,000 $ 4,004,000
Extraordinary loss.................... (7,700,000) (12,744,000)
Cumulative effect of change in
accounting principle................. (6,896,000)
----------- ----------- ------------
Net income (loss)..................... $19,255,000 $33,779,000 $(15,636,000)
=========== =========== ============
Earnings per common share
Income before extraordinary item...... $ 0.36 $ 0.44 $ 0.04
Extraordinary loss.................... (0.10) (0.16)
Cumulative effect of change in
accounting principle................. (0.08)
----------- ----------- ------------
Net income (loss)..................... $ 0.26 $ 0.42 $ (0.20)
=========== =========== ============
Weighted average number of common shares
and equivalents outstanding 74,042,000 77,524,000 80,143,000
=========== =========== ============
Earnings per common share--assuming
dilution:
Income before extraordinary item...... $ 0.32 $ 0.43 $ 0.05
Extraordinary loss.................... ( 0.09) (0.16)
Cumulative effect of change in
accounting principle................. (0.08)
----------- ----------- ------------
Net income (loss)..................... $ 0.23 $ 0.41 $ (0.19)
=========== =========== ============
Weighted average number of common shares
and
equivalents outstanding--assuming
dilution............................... 83,477,000 78,982,000 81,076,000
=========== =========== ============
</TABLE>
11. Transactions with related parties
Tenet
Tenet Healthcare Corporation, or Tenet, owns less than 5% of our common stock
and we provide dialysis services to Tenet hospital patients under agreements
with terms of one to three years. The contract terms are comparable to
contracts with unrelated third parties. Included in the receivable from Tenet
are amounts related to these services of $534,000 and $350,000 at December 31,
1997 and 1998, respectively. Net operating revenues received from Tenet for
these services were $2,260,000, $2,640,000 and $2,424,000 for 1996, 1997 and
1998, respectively.
DLJ
A managing director of Donaldson, Lufkin & Jenrette, or DLJ, serves on our
board of directors and, prior to August 1997, an affiliate of DLJ held an
ownership interest in us. During 1996 DLJ was one of several underwriters for
two public stock offerings in which we issued 11,666,667 and 833,334 shares,
respectively. Fees for these transactions to DLJ or its affiliates were
$5,075,000, and $780,000, respectively. Effective with the August 1997 public
offering of common stock, DLJ and its affiliates no longer own an interest in
us. During 1998, DLJ advised us on our acquisition of RTC and assisted us in
the issuance of the 7% notes.
F-29
<PAGE>
TOTAL RENAL CARE HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
12. Employee benefit plan
We have a savings plan for substantially all employees, which has been
established pursuant to the provisions of Section 401(k) of the Internal
Revenue Code, or IRC. The plan provides for employees to contribute from 1% to
15% of their base annual salaries on a tax-deferred basis not to exceed IRC
limitations. We may make a contribution under the plan each fiscal year as
determined by our board of directors. We made matched contributions of $58,000,
in accordance with specific state requirements, in 1998.
RTC had a defined contribution savings plan covering substantially all of its
employees. RTC's contributions under the plan were approximately $548,000, and
$1,069,000 and $641,000 for years ended December 31, 1996, 1997 and 1998,
respectively. Effective July 1, 1998, the plan was terminated and merged into
our plan.
13. Contingencies
Our Florida-based laboratory subsidiary is presently the subject of a
Medicare carrier review. The carrier has requested certain medical and billing
records for certain patients and we have provided the requested records. The
carrier has suspended further payments to the laboratory subsidiary, amounting
to approximately $11 million from the beginning of the suspension through
December 31, 1998, and made a formal overpayment determination. We are
appealing the overpayment determination and have filed a suit to lift the
payment suspension.
Following the announcement on February 18, 1999 of our preliminary results of
the fourth quarter of fiscal 1998 and the full year then ended, several class
action lawsuits were filed against us and certain of our officers in the U.S.
District Court for the Central District of California. The complaints are
similar and allege violations of federal securities laws arising from alleged
false and misleading statements primarily regarding our accounting for the
integration of RTC into TRCH and request unspecified monetary damages. We
believe that all of the claims are without merit and we intend to defend
ourselves vigorously. We anticipate that the attorneys' fees and related costs
of defending these lawsuits should be covered primarily by our directors and
officers insurance policies and we believe that any additional costs will not
have a material impact on our financial condition, results of operations or
cash flows.
In addition, we are subject to claims and suits in the ordinary course of
business for which we believe we will be covered by insurance. We do not
believe that the ultimate resolution of these additional pending proceedings,
whether the underlying claims are covered by insurance or not, will have a
material adverse effect on our financial condition, results of operations or
cash flows.
14. Mergers and acquisitions
Mergers
During the fiscal year 1996, RTC completed the following three mergers:
. The Kidney Center Group
On July 23, 1996, RTC acquired the Kidney Center Group. The two dialysis
facilities acquired are located in Florida and serviced a total of
approximately 185 patients as of the acquisition date. The transaction was
accounted for under the pooling-of-interests method of accounting. In the
transaction, RTC issued 482,377 shares of its common stock in exchange for all
of the outstanding stock of the Kidney Center Group.
F-30
<PAGE>
TOTAL RENAL CARE HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
. MDU
On February 29, 1996, RTC acquired MDU. The 11 dialysis facilities acquired
are located in Oklahoma and serviced a total of approximately 317 patients as
of the acquisition date. The transaction was accounted for under the pooling-
of-interests method of accounting. In the transaction, RTC issued 767,168
shares of its common stock in exchange for all of the outstanding stock of MDU.
. IMS
On February 20, 1996, RTC acquired IMS. The four dialysis facilities acquired
are located in Hawaii and serviced a total of approximately 444 patients as of
the acquisition date. The transaction was accounted for under the pooling-of-
interests method of accounting. In the transaction, RTC issued 1,047,464 shares
of its common stock in exchange for all of the outstanding stock of IMS.
The consolidated financial statements give retroactive effect to the mergers
with the Kidney Center Group, IMS and MDU and include the Kidney Center Group,
IMS and MDU for all periods presented. The following is a summary of the
separate and combined results of operations for 1996:
<TABLE>
<CAPTION>
Pooling
RTC Companies* RTC Combined
<S> <C> <C> <C>
Net patient revenue.................. $217,529,000 $7,548,000 $225,077,000
Income from operations............... 20,495,000 1,180,000 21,675,000
Net income........................... 9,985,000 697,000 10,682,000
</TABLE>
- --------
* Includes pooling transactions only for period prior to acquisition. Activity
subsequent to acquisition dates is included in RTC.
Acquisitions
We have implemented an acquisition strategy which, through December 31, 1998,
has resulted in the acquisition of (a) 396 facilities providing services to
ESRD patients; (b) two laboratories; (c) a pharmacy; (d) a vascular access
management company; and (e) a clinical research company specializing in renal
and renal-related services. The following is a summary of acquisitions that
were accounted for as purchases for 1996, 1997 and 1998.
<TABLE>
<CAPTION>
Year ended December 31,
--------------------------------------
1996 1997 1998
<S> <C> <C> <C>
Number of facilities acquired.......... 67 119 76
Number of common shares issued......... 102,645 17,613 98,549
Estimated fair value of common shares
issued................................ $ 1,830,000 $ 273,000 $ 2,796,000
Acquisition obligations (Note 8)....... 15,886,000 15,233,000
Cash paid, net of cash acquired........ 179,002,000 455,090,000 338,164,000
------------ ------------ ------------
Aggregate purchase price............... $196,718,000 $455,363,000 $356,193,000
============ ============ ============
</TABLE>
In addition, during this period we developed 52 de novo facilities, three of
which we manage, entered into management contracts covering an additional 29
unaffiliated facilities, and purchased the minority interest at nine of our
existing facilities.
The assets and liabilities of the acquired entities in the preceding table
were recorded at their estimated fair market values at the dates of
acquisition. The results of operations of the facilities and laboratories have
been included in our financial statements from their effective acquisition
dates. We prefer to close acquisitions on or near a month-end but in many
instances acquisitions close mid-month. Our policy is to utilize the nearest
F-31
<PAGE>
TOTAL RENAL CARE HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
month-end as the effective date for recording acquisitions that close during
the month because it is a practical convention given the high number, typical
size and recurring nature of our acquisitions and the monthly billing cycle
prevalent in the dialysis industry. Further, many of the acquired businesses do
not have accounting and billing systems that would facilitate preparation of
accurate mid-month financial information. The effect of this practice is not
material to our consolidated financial position or results of operations. We
have acquired all of our foreign operations and several of our domestic
operations through purchases of capital stock. Any settlements with tax
authorities relating to pre-acquisition income tax liabilities will result in
an adjustment to the goodwill attributable to that acquisition.
The initial allocations of fair value are based upon available information
for the acquired businesses and are finalized when we complete our analysis of
acquired tangible assets and liabilities and evaluation of acquired intangible
assets. We do not believe that the final allocation will differ materially from
the initial allocation. These initial allocations were as follows:
<TABLE>
<CAPTION>
Years ended December 31,
----------------------------------------
1996 1997 1998
<S> <C> <C> <C>
Identified intangibles................ $ 34,682,000 $ 87,498,000 $ 39,992,000
Goodwill.............................. 135,456,000 366,121,000 315,655,000
Tangible assets....................... 44,265,000 47,053,000 30,650,000
Liabilities assumed................... (17,685,000) (45,309,000) (30,104,000)
------------ ------------ ------------
Total purchase price................ $196,718,000 $455,363,000 $356,193,000
============ ============ ============
</TABLE>
The following summary, prepared on a pro forma basis, combines the results of
operations as if the acquisitions had been consummated as of the beginning of
each of the periods presented, after including the impact of certain
adjustments such as amortization of intangibles, interest expense on
acquisition financing and income tax effects.
<TABLE>
<CAPTION>
Year ended Year ended Year ended
December 31, December 31, December 31,
1996 1997 1998
(unaudited) (unaudited) (unaudited)
<S> <C> <C> <C>
Net revenues......................... $792,862,000 $996,439,000 $1,344,220,000
Net income before extraordinary item
and cumulative effect of change in
accounting principle................ $ 48,378,000 $ 54,964,000 $ 14,380,000
Net income (loss).................... 40,678,000 54,964,000 (5,260,000)
Pro forma net income per share before
extraordinary item and cumulative
effect of change in accounting
principle........................... $ 0.65 $ 0.71 $ 0.18
Pro forma net income per share before
extraordinary item and cumulative
effect of change in accounting
principle--assuming dilution........ $ 0.63 $ 0.69 $ 0.18
Pro forma net income (loss) per
share............................... 0.55 0.71 (0.07)
Pro forma net income (loss) per
share--assuming dilution............ 0.53 0.69 (0.06)
</TABLE>
The unaudited pro forma results are not necessarily indicative of what
actually would have occurred if the acquisitions had been completed prior to
the beginning of the periods presented. In addition, they are not intended to
be a projection of future results and do not reflect any of the synergies,
additional revenue-generating services or direct facility operating expense
reduction that might be achieved from combined operations.
Since December 31, 1998, we have acquired 17 additional facilities in ten
separate transactions for an aggregate purchase price of approximately $44.6
million all of which will be accounted for as purchases.
F-32
<PAGE>
TOTAL RENAL CARE HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
15. Supplemental cash flow information
The table below provides supplemental cash flow information:
<TABLE>
<CAPTION>
Years ended December 31,
-----------------------------------
1996 1997 1998
<S> <C> <C> <C>
Cash paid for:
Income taxes............................. $30,069,000 $37,402,000 $13,676,000
Interest................................. 5,730,000 25,039,000 66,409,000
Noncash investing and financing activities:
Estimated value of stock and options
issued in acquisitions.................. 2,810,000 273,000 2,796,000
Fixed assets acquired under capital lease
obligations............................. 3,670,000 829,000 583,000
Contribution to partnerships............. 943,000 2,318,000 2,592,852
Issuance of common stock in connection
with earn out note...................... 1,474,000 5,148,000
Issuance of common stock in connection
with Kidney Center Group, IMS and MDU
mergers................................. 3,204,000
Grant of stock options in connection with
covenant not to compete................. 235,000
</TABLE>
F-33
<PAGE>
TOTAL RENAL CARE HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
16. Selected quarterly financial data (unaudited)
Summary unaudited quarterly financial data for 1997 and 1998 is as follows
(in thousands, except per share amounts). The unaudited quarterly financial
data presented below has been restated in accordance with Notes 1A and 1.
<TABLE>
<CAPTION>
March 31, June 30, September 30, December 31, March 31, June 30, September 30, December 31,
1997 1997 1997 1997 1998 1998 1998 1998
(restated) (restated) (restated) (restated) (restated) (restated) (restated) (restated)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Net operating
revenues............. $156,788 $179,408 $197,525 $224,682 $257,833 $288,350 $318,585 $338,970
Operating income...... 22,764 27,599 26,086 34,270 (33,571) 55,409 66,481 45,218
Income (loss) before
extraordinary item
and cumulative effect
of change in
accounting
principle............ 10,705 12,793 9,362 12,664 (47,959) 16,841 28,058 13,252
Net income (loss)..... 10,705 12,793 9,362 12,664 (57,667) 6,909 28,058 13,252
Income (loss) per
common share:
Income before
extraordinary item
and cumulative
effect of change in
accounting
principle........... 0.14 0.17 0.12 0.16 (0.61) 0.21 0.35 0.16
Extraordinary loss... (0.03) (0.12)
Cumulative effect of
change in accounting
principle........... (0.09)
-------- -------- -------- -------- -------- -------- -------- --------
Net income (loss) per
share............... 0.14 0.17 0.12 0.16 (0.73) 0.09 0.35 0.16
======== ======== ======== ======== ======== ======== ======== ========
Income (loss) per
common share--
assuming dilution:
Income (loss) before
extraordinary item
and cumulative
effect of change in
accounting
principle........... 0.14 0.16 0.12 0.16 (0.61) 0.20 0.33 0.16
Extraordinary loss... (0.03) (0.12)
Cumulative effect of
change in accounting
principle........... (0.09)
-------- -------- -------- -------- -------- -------- -------- --------
Net income (loss) per
share............... 0.14 0.16 0.12 0.16 (0.73) 0.08 0.33 0.16
======== ======== ======== ======== ======== ======== ======== ========
</TABLE>
F-34
<PAGE>
SIGNATURES
Pursuant to the requirements Section 13 or 15(d) of the Securities Exchange
Act of 1934, we have duly caused this Report on Form 10-K/A to be signed on
our behalf by the undersigned, thereunto duly authorized, in the City of
Torrance, State of California, on January 18, 2000.
TOTAL RENAL CARE HOLDINGS, INC.
/s/ Kent J. Thiry
By: _________________________________
Kent J. Thiry
Chairman and
Chief Executive Officer
KNOW ALL MEN BY THESE PRESENTS, that each person whose signature appears
below constitutes and appoints Kent J. Thiry, George DeHuff and Barry C.
Cosgrove, and each of them his true and lawful attorneys-in-fact and agents
with full power of substitution and resubstitution, for him and in his name,
place and stead, in any and all capacities, to sign any and all amendments to
this Report on Form 10-K, and to file the same, with all exhibits thereto, and
other documents in connection therewith, with the Securities and Exchange
Commission, granting unto said attorney-in-fact and agents, and each of them,
full power and authority to do and perform each and every act and thing
requisite or necessary to be done in and about the premises, as fully to all
intents and purposes as he might or could do in person, hereby ratify and
confirming all that said attorneys-in-fact and agents or any of them, or their
or his substitute or substitutes, may lawfully do or cause to be done by
virtue hereof.
Pursuant to the requirements of the Securities Exchange Act of 1934, this
Report on Form 10-K/A has been signed by the following persons in the
capacities and on the dates indicated.
<TABLE>
<CAPTION>
Signature Title Date
--------- ----- ----
<C> <S> <C>
/s/ Kent J. Thiry Chairman and Chief January 18, 2000
____________________________________ Executive Officer
Kent J. Thiry (Principal Executive
Officer)
/s/ John J. McDonough Vice President and Chief January 18, 2000
____________________________________ Accounting Officer
John J. McDonough (Principal Accounting
Officer and Principal
Financial Officer)
/s/ Maris Andersons Director January 18, 2000
____________________________________
Maris Andersons
/s/ Richard B. Fontaine Director January 18, 2000
____________________________________
Richard B. Fontaine
/s/ Peter T. Grauer Director January 18, 2000
____________________________________
Peter T. Grauer
/s/ C. Raymond Larkin, Jr. Director January 18, 2000
____________________________________
C. Raymond Larkin, Jr.
/s/ Shaul G. Massry Director January 18, 2000
____________________________________
Shaul G. Massry
</TABLE>
II-1
<PAGE>
REPORT OF INDEPENDENT ACCOUNTANTS ON
FINANCIAL STATEMENT SCHEDULE
To the Board of Directors
of Total Renal Care Holdings, Inc.
Our audit of the consolidated financial statements referred to in our report
dated March 29, 1999, except for Note 1A which is as of January 18, 2000
appearing on page F-1 of this Annual Report on Form 10K/A (Amendment No. 2)
also included audits of the information included in the Financial Statement
Schedule listed in Item 14(a)(2) of this Form 10K/A (Amendment No. 2) for the
years ended December 31, 1996, 1997 and 1998. In our opinion, based upon our
audit, the Financial Statement Schedule presents fairly, in all material
respects, the information for the years ended December 31, 1996, 1997 and 1998
set forth therein when read in conjunction with the related consolidated
financial statements.
As discussed in Note 1A, the accompanying consolidated financial statements
as of and for the three years ended December 31, 1998 have been restated.
During the first quarter of 2000 the Company determined it would not be in
compliance with financial covenants in its primary credit facilities when
measured as of December 31, 1999 and the potential effects are discussed in
Note 1A to the consolidated financial statements.
PricewaterhouseCoopers LLP
Seattle, Washington
March 29, 1999, except for Note 1A which is as of January 18, 2000
S-1
<PAGE>
TOTAL RENAL CARE HOLDINGS, INC.
SCHEDULE II--VALUATION AND QUALIFYING ACCOUNTS
<TABLE>
<CAPTION>
Additions Deductions
---------------------- -----------
Balances
Balance at Amounts of
Beginning Charged to Companies Amounts Balance at
Description of Year Income Acquired Written off End of Year
<S> <C> <C> <C> <C> <C>
Allowance for doubtful accounts:
Year ended December 31, 1996.. $ 9,172,000 $15,737,000 $1,896,000 $11,040,000 $15,765,000
Year ended December 31, 1997.. 15,765,000 28,899,000 2,962,000 16,931,000 30,695,000
Year ended December 31, 1998.. 30,695,000 44,858,000 679,000 14,384,000 61,848,000
</TABLE>
S-2
<PAGE>
EXHIBIT INDEX
<TABLE>
<CAPTION>
Exhibit Page
Number Description Number
<C> <S> <C>
3.1 Amended and Restated Certificate of Incorporation of TRCH,
dated December 4, 1995.(1)
3.2 Certificate of Amendment of Certificate of Incorporation of
TRCH, dated February 26, 1998.(2)
3.3 Bylaws of TRCH, dated October 6, 1995.(3)
4.1 Shareholders Agreement, dated August 11, 1994, between DLJMB,
DLJIP, DLJOP, DLJMBF, NME Properties, Continental Bank, as
voting trustee, and TRCH.(4)
4.2 Agreement and Amendment, dated as of June 30, 1995, between
DLJMBP, DLJIP, DLJOP, DLJMBF, DLJESC, Tenet, TRCH, Victor
M.G. Chaltiel, the Putnam Purchasers, the Crescent
Purchasers and the Harvard Purchasers, relating to the
Shareholders Agreement dated as of August 11, 1994 between
DLJMB, DLJIP, DLJOP, DLJMBF, NME Properties, Continental
Bank, as voting trustee, and TRCH.(4)
4.3 Indenture, dated June 12, 1996 by RTC to PNC Bank including
form of RTC Note.(12)
4.4 First Supplemental Indenture, dated as of February 27, 1998,
among RTC, TRCH and PNC Bank under the 1996 indenture.(2)
4.5 Second Supplemental Indenture, dated as of March 31, 1998,
among RTC, TRCH and PNC Bank under the 1996 indenture.(2)
4.6 Indenture, dated as of November 18, 1998, between TRCH and
United States Trust Company of New York, as trustee, and
Form of Note.(5)
4.7 Registration Rights Agreement, dated as of November 18, 1998,
between TRCH and DLJ, BNY Capital Markets, Inc., Credit
Suisse First Boston Corporation and Warburg Dillon Read LLC,
as the initial purchasers.(5)
4.8 Purchase Agreement, dated as of November 12, 1998, between
TRCH and the initial purchasers.(5)
Noncompetition Agreement, dated August 11, 1994, between TRCH
10.1 and Tenet.(4)
10.2 Employment Agreement, dated as of August 11, 1994, by and
between TRCH and Victor M.G. Chaltiel (with forms of
Promissory Note and Pledge and Stock Subscription Agreement
attached as exhibits thereto).(4)*
10.3 Amendment to Mr. Chaltiel's employment agreement, dated as of
August 11, 1994.(4)*
10.4 Second Amendment to Mr. Chaltiel's employment agreement,
dated as of March 2, 1998.*(13)
10.5 Employment Agreement, dated as of March 2, 1998, by and
between TRCH and Barry C. Cosgrove.(6)*
10.6 Employment Agreement, dated as of March 2, 1998, by and
between TRCH and Leonard W.
Frie.(6)*
10.7 Employment Agreement, dated as of March 2, 1998, by and
between TRCH and John E. King.(6)*
10.8 Employment Agreement dated as of March 2, 1998 by and between
TRCH and Stan M. Lindenfeld.(6)*
10.9 Amendment to Dr. Lindenfeld's employment agreement, dated
September 1, 1998.*(13)
10.10 First Amended and Restated 1994 Equity Compensation Plan of
TRCH (with form of Promissory Note and Pledge attached as an
exhibit thereto), dated August 5, 1994.(4)*
10.11 Form of Stock Subscription Agreement relating to the 1994
Equity Compensation Plan.(4)*
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
Exhibit Page
Number Description Number
<C> <S> <C>
10.12 Form of Purchased Shares Award Agreement relating to the 1994
Equity Compensation Plan.(4)*
10.13 Form of Nonqualified Stock Option relating to the 1994 Equity
Compensation Plan.(4)*
10.14 1995 Equity Compensation Plan.(3)*
10.15 Employee Stock Purchase Plan.(3)*
10.16 Option Exercise and Bonus Agreement, dated as of September
18, 1995 between TRCH and Victor M.G. Chaltiel.(3)*
10.17 1997 Equity Compensation Plan.(7)
10.18 Amended and Restated Revolving Credit Agreement, dated as of
April 30, 1998, by and among TRCH, the lenders party
thereto, DLJ Capital Funding, Inc., as Syndication Agent,
First Union National Bank, as Documentation Agent, and The
Bank of New York, as Administrative Agent.(8)
10.19 Amendment No. 1 and Consent No. 1, dated as of August 5,
1998, to the Revolving Credit Agreement.(13)
10.20 Amendment No. 2, dated as of November 12, 1998, to the
Revolving Credit Agreement.(13)
10.21 Amended and Restated Term Loan Agreement, dated as of April
30, 1998, by and among TRCH, the lenders party thereto, DLJ
Capital Funding, Inc., as Syndication Agent, First Union
National Bank, as Documentation Agent, and The Bank of New
York, as Administrative Agent.(8)
10.22 Subsidiary Guaranty dated as of October 24, 1997 by Total
Renal Care, Inc., TRC West, Inc. and Total Renal Care
Acquisition Corp. in favor of and for the benefit of The
Bank of New York, as Collateral Agent, the lenders to the
Revolving Credit Agreement, the lenders to the Term Loan
Agreement, the Term Agent (as defined therein), the
Acknowledging Interest Rate Exchangers (as defined therein)
and the Acknowledging Currency Exchangers (as defined
therein).(9)
10.23 Borrower Pledge Agreement dated as of October 24, 1997 and
entered into by and between the Company, and The Bank of New
York, as Collateral Agent, the lenders to the Revolving
Credit Agreement, the lenders to the Term Loan Agreement,
the Term Agent (as defined therein), the Acknowledging
Interest Rate Exchangers (as defined therein) and the
Acknowledging Currency Exchangers (as defined therein).(9)
10.24 Amendment to Borrower Pledge Agreement, dated February 27,
1998, executed by TRCH in favor of The Bank of New York, as
Collateral Agent.(13)
10.25 Form of Subsidiary Pledge Agreement dated as of October 24,
1997 by Total Renal Care, Inc., TRC West, Inc. and Total
Renal Care Acquisition Corp., and The Bank of New York, as
Collateral Agent, the lenders to the Revolving Credit
Agreement, the lenders to the Term Loan Agreement, the Term
Agent (as defined therein), the Acknowledging Interest Rate
Exchangers (as defined therein) and the Acknowledging
Currency Exchangers (as defined therein).(9)
10.26 Subsidiary Pledge Agreement, dated as of February 27, 1998,
by RTC and The Bank of New York, as Collateral Agent, the
lenders to the Revolving Credit Agreement, the lenders to
the Term Loan Agreement, the Term Agent (as defined
therein), the Acknowledging Interest Rate Exchangers (as
defined therein) and the Acknowledging Currency Exchangers
(as defined therein).(13)
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
Exhibit Page
Number Description Number
<C> <S> <C>
10.27 Form of First Amendment to Borrower/Subsidiary Pledge
Agreement, dated April 30, 1998, by and among TRCH, RTC, TRC
and The Bank of New York, as Collateral Agent.(8)
10.28 Form of Acknowledgement and Confirmation, dated April 30,
1998, by TRCH, RTC, TRC West, Inc., Total Renal Care, Inc.,
Total Renal Care Acquisition Corp., Renal Treatment
Centers--Mid-Atlantic, Inc., Renal Treatment Centers--
Northeast, Inc., Renal Treatment Centers--California, Inc.,
Renal Treatment Centers--West, Inc., and Renal Treatment
Centers--Southeast, Inc. for the benefit of The Bank of New
York, as Collateral Agent and the lenders party to the Term
Loan Agreement or the Revolving Credit Agreement.(8)
10.29 Agreement and Plan of Merger dated as of November 18, 1997 by
and among TRCH, Nevada Acquisition Corp., a Delaware
corporation and wholly-owned subsidiary of TRCH, and
RTC.(10)
10.30 First Amendment to the Subsidiary Guaranty dated February 17,
1998.(2)
10.31 Special Purpose Option Plan.(11)
10.32 Guaranty, entered into as of March 31, 1998, by TRCH in favor
of and for the benefit of PNC Bank.(2)
10.33 First Amendment, dated as of August 5, 1998, to the Term Loan
Agreement.(14)
12.1 Statement re Computation of Ratios of Earnings to Fixed
Charges.X
21.1 List of our subsidiaries.(13)
23.1 Consent of PricewaterhouseCoopers LLP.X
24.1 Powers of Attorney with respect to TRCH (included on page II-
1).X
27.1 Financial Data Schedule--year ended December 31, 1998, the
year ended December 31, 1997 and the year ended December 31,
1996.X
27.2 Financial Data Schedule--three months ended March 31, 1997,
the three months ended June 30, 1997, the three months ended
September 30, 1997, the six months ended June 30, 1997 and
the nine months ended September 30, 1997.X
</TABLE>
- --------
X Included in this filing.
* Management contract or executive compensation plan or arrangement.
(1) Filed on March 18, 1996 as an exhibit to our Transitional Report on Form
10-K for the transition period from June 1, 1995 to December 31, 1995.
(2) Filed on March 31, 1998 as an exhibit to our Form 10-K for the year ended
December 31, 1997.
(3) Filed on October 24, 1995 as an exhibit to Amendment No. 2 to our
Registration Statement on Form S-1 (Registration Statement No. 33-97618).
(4) Filed on August 29, 1995 as an exhibit to our Form 10-K for the year ended
May 31, 1995.
(5) Filed on December 18, 1998 as an exhibit to our Registration Statement on
Form S-3 (Registration Statement No. 333-69227).
(6) Filed as an exhibit to our Form 10-Q for the quarter ended September 30,
1998.
(7) Filed on August 29, 1997 as an exhibit to our Registration Statement on
Form S-8 (Registration Statement No. 333-34695).
(8) Filed on May 18, 1998 as an exhibit to Amendment No. 1 to our annual
report for the year ended December 31, 1997 on Form 10-K/A.
(9) Filed on December 19, 1997 as an exhibit to our Current Report on Form 8-
K.
(10) Filed on December 19, 1997 as Annex A to our Registration Statement on
Form S-4 (Registration Statement No. 333-42653).
(11) Filed on February 25, 1998 as an exhibit to our Registration Statement on
Form S-8 (Registration Statement No. 333-46887).
<PAGE>
(12) Filed as an exhibit to RTC's Form 10-Q for the quarter ended June 30,
1996.
(13) Filed on March 31, 1999 as an exhibit to our Form 10-K for the year ended
December 31, 1998.
(14) Filed on October 8, 1999 as an exhibit to our Form 10-K/A (Amendment No.
1) for the year ended December 31, 1998.
<PAGE>
EXHIBIT 12.1
TOTAL RENAL CARE HOLDINGS, INC.
RATIO OF EARNINGS TO FIXED CHARGES
The ratio of earnings to fixed charges is computed by dividing fixed charges
into earnings. Earnings is defined as pretax income from continuing operations
adjusted by adding fixed charges and excluding interest capitalized during the
period. Fixed charges means the total of interest expense and amortization of
financing costs, and the estimated interest component of rental expense on
operating leases. In 1995, we changed our fiscal year end to December 31 from
May 31.
<TABLE>
<CAPTION>
Seven months
Years ended ended
May 31, December 31, Years ended December 31,
--------------- --------------- ----------------------------------------
1994 1995 1994 1995 1995 1996 1997 1998
------- ------- ------- ------- ------- ---------- ---------- ----------
(restated) (restated) (restated)
(in thousands, except for ratio data)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Income before income
taxes, minority
interest, extraordinary
items and cumulative
effect of a change in
accounting principle .. $18,753 $24,323 $14,174 $26,436 $39,685 $58,141 $85,680 $55,804
Minority interest....... 1,046 1,593 878 1,784 2,544 3,578 4,502 7,163
------- ------- ------- ------- ------- ------- -------- --------
17,707 22,730 13,296 24,652 37,141 54,563 81,178 48,641
------- ------- ------- ------- ------- ------- -------- --------
Fixed charges:
Interest expense and
amortization of debt
issuance costs and
discounts on all
indebtedness........... 1,575 9,087 4,676 8,007 13,375 14,075 30,289 82,627
Interest portion of
rental expense......... 1,926 2,475 1,438 1,950 3,347 5,301 8,196 12,992
------- ------- ------- ------- ------- ------- -------- --------
Total fixed charges..... 3,501 11,562 6,114 9,957 16,722 19,376 38,485 95,619
------- ------- ------- ------- ------- ------- -------- --------
Earnings before income
taxes, extraordinary
items, cumulative
effect of a change in
accounting principle
and fixed charges...... $21,208 $34,292 $19,410 $34,609 $53,863 $73,939 $119,663 $144,260
======= ======= ======= ======= ======= ======= ======== ========
Ratio of earnings to
fixed charges.......... 6.06 2.97 3.17 3.48 3.22 3.82 3.11 1.51
======= ======= ======= ======= ======= ======= ======== ========
</TABLE>
<PAGE>
EXHIBIT 23.1
CONSENT OF INDEPENDENT ACCOUNTANTS
We hereby consent to the incorporation by reference in the Registration
Statements on Form S-8 (No. 33-84610, No. 33-83018, No. 33-99862, No. 33-99864,
No. 333-1620, No. 333-34693, No. 333-34695, No. 333-46887 and No. 333-75361) of
Total Renal Care Holdings, Inc. of our report dated March 29, 1999, except for
Note 1A which is as of January 18, 2000 relating to the financial statements,
which appears in this Annual Report on Form 10-K/A (Amendment No. 2). We also
consent to the incorporation by reference of our report dated March 29, 1999
except for Note 1A which is as of January 18, 2000 relating to the Financial
Statement Schedule, which appears in this Form 10-K/A (Amendment No. 2).
PricewaterhouseCoopers LLP
Seattle, Washington
January 18, 2000
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<RESTATED>
<S> <C> <C> <C>
<PERIOD-TYPE> YEAR YEAR YEAR
<FISCAL-YEAR-END> DEC-31-1998 DEC-31-1997 DEC-31-1996
<PERIOD-START> JAN-01-1998 JAN-01-1997 JAN-01-1996
<PERIOD-END> DEC-31-1998 DEC-31-1997 DEC-31-1996
<CASH> 41,487,000 6,700,000 0
<SECURITIES> 0 0 0
<RECEIVABLES> 478,320,000 279,103,000 0
<ALLOWANCES> 61,848,000 30,695,000 0
<INVENTORY> 23,470,000 15,766,000 0
<CURRENT-ASSETS> 566,514,000 308,248,000 0
<PP&E> 341,446,000 242,005,000 0
<DEPRECIATION> 108,109,000 69,167,000 0
<TOTAL-ASSETS> 1,911,619,000 1,279,261,000 0
<CURRENT-LIABILITIES> 178,450,000 102,450,000 0
<BONDS> 470,000,000 125,000,000 0
0 0 0
0 0 0
<COMMON> 81,000 78,000 0
<OTHER-SE> 473,783,000 422,368,000 0
<TOTAL-LIABILITY-AND-EQUITY> 1,911,619,000 1,279,261,000 0
<SALES> 0 0 0
<TOTAL-REVENUES> 1,203,738,000 758,403,000 496,651,000
<CGS> 0 0 0
<TOTAL-COSTS> 1,070,201,000 647,684,000 428,951,000
<OTHER-EXPENSES> 0 0 0
<LOSS-PROVISION> 44,858,000 28,899,000 15,737,000
<INTEREST-EXPENSE> 72,804,000 28,214,000 13,417,000
<INCOME-PRETAX> 48,641,000 81,178,000 54,563,000
<INCOME-TAX> 38,449,000 35,654,000 22,031,000
<INCOME-CONTINUING> 10,192,000 45,524,000 32,532,000
<DISCONTINUED> 0 0 0
<EXTRAORDINARY> 12,744,000 0 7,700,000
<CHANGES> 6,896,000 0 0
<NET-INCOME> (9,448,000) 45,524,000 24,832,000
<EPS-BASIC> (0.12) 0.59 0.33
<EPS-DILUTED> (0.12) 0.57 0.32
</TABLE>
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<RESTATED>
<S> <C> <C> <C> <C> <C>
<PERIOD-TYPE> 3-MOS 3-MOS 3-MOS 6-MOS 9-MOS
<FISCAL-YEAR-END> DEC-31-1997 DEC-31-1997 DEC-31-1997 DEC-31-1997 DEC-31-1997
<PERIOD-START> JAN-01-1997 APR-01-1997 JUL-01-1997 JAN-01-1997 JAN-01-1997
<PERIOD-END> MAR-31-1997 JUN-30-1997 SEP-30-1997 JUN-30-1997 SEP-30-1997
<CASH> 0 0 0 0 0
<SECURITIES> 0 0 0 0 0
<RECEIVABLES> 0 0 0 0 0
<ALLOWANCES> 0 0 0 0 0
<INVENTORY> 0 0 0 0 0
<CURRENT-ASSETS> 0 0 0 0 0
<PP&E> 0 0 0 0 0
<DEPRECIATION> 0 0 0 0 0
<TOTAL-ASSETS> 0 0 0 0 0
<CURRENT-LIABILITIES> 0 0 0 0 0
<BONDS> 0 0 0 0 0
0 0 0 0 0
0 0 0 0 0
<COMMON> 0 0 0 0 0
<OTHER-SE> 0 0 0 0 0
<TOTAL-LIABILITY-AND-EQUITY> 0 0 0 0 0
<SALES> 156,788,000 179,408,000 197,525,000 336,196,000 533,721,000
<TOTAL-REVENUES> 156,788,000 179,408,000 197,525,000 336,196,000 533,721,000
<CGS> 0 0 0 0 0
<TOTAL-COSTS> 134,024,000 151,809,000 171,439,000 285,833,000 457,272,000
<OTHER-EXPENSES> 0 0 0 0 0
<LOSS-PROVISION> 4,803,000 4,788,000 11,414,000 9,591,000 21,005,000
<INTEREST-EXPENSE> 3,937,000 5,717,000 7,525,000 9,654,000 17,179,000
<INCOME-PRETAX> 18,116,000 21,713,000 18,594,000 39,829,000 58,423,000
<INCOME-TAX> 7,411,000 8,920,000 9,232,000 16,331,000 25,563,000
<INCOME-CONTINUING> 10,705,000 12,793,000 9,362,000 23,498,000 32,860,000
<DISCONTINUED> 0 0 0 0 0
<EXTRAORDINARY> 0 0 0 0 0
<CHANGES> 0 0 0 0 0
<NET-INCOME> 10,705,000 12,793,000 9,362,000 23,498,000 32,860,000
<EPS-BASIC> 0.14 0.17 0.12 0.30 0.42
<EPS-DILUTED> 0.14 0.16 0.12 0.29 0.43
</TABLE>
