<PAGE> 1
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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
---------------
FORM 10-Q
---------------
(MARK ONE)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 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: 0-26980
ARV ASSISTED LIVING, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 33-0160968
(STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER
INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)
245 FISCHER AVENUE, D-1
COSTA MESA, CA 92626
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICE) (ZIP CODE)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (714) 751-7400
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes [X] No [ ]
The number of outstanding shares of the Registrant's Common Stock, no
par value, as of November 13, 1998 was 15,880,998.
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PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS.
ARV ASSISTED LIVING, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(UNAUDITED)
(IN THOUSANDS)
ASSETS
<TABLE>
<CAPTION>
SEPTEMBER 30, DECEMBER 31,
1998 1997
------------- ------------
<S> <C> <C>
Current assets:
Cash and cash equivalents......................... $ 5,224 $102,776
Escrow deposits.................................... 4,459 --
Fees receivable and other amounts due from
affiliates....................................... 963 571
Fees receivable and other amounts due from
others........................................... 374 --
Prepaids and other current assets.................. 8,163 3,920
-------- --------
Total current assets....................... 19,183 107,267
Deferred project costs............................... 345 246
Property, furniture and equipment, net............... 179,862 117,557
Goodwill, net........................................ 23,891 --
Other non-current assets............................. 10,007 6,781
Net non-current assets from discontinued
operations......................................... 859 1,234
-------- --------
$234,147 $233,085
======== ========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Accounts payable.................................. $ 9,129 $ 6,696
Accrued liabilities................................ 3,433 7,864
Notes payable, current portion..................... 10,402 9,388
Accrued interest payable........................... 682 1,482
Net current liabilities from discontinued
operations....................................... 3,030 6,558
-------- --------
Total current liabilities.................. 26,676 31,988
Notes payable, less current portion.................. 99,665 81,560
Other non-current liabilities........................ 1,427 934
-------- --------
127,768 114,482
-------- --------
Commitments and contingent liabilities
Minority interest in majority owned entities......... 7,671 7,168
-------- --------
Series A preferred stock, convertible and redeemable;
2,000 shares authorized, none issued or outstanding
at September 30, 1998 and December 31, 1997........ -- --
Shareholders' equity:
Preferred stock, no par value. Authorized
8,000 shares, none issued and outstanding........ -- --
Common stock, no par value. Authorized
100,000 shares; issued and outstanding
15,881 and 15,848 shares at September 30,
1998 and December 31, 1997, respectively........ 143,285 142,945
Accumulated deficit................................ (44,577) (31,510)
-------- --------
Total shareholders' equity................. 98,708 111,435
-------- --------
$234,147 $233,085
======== ========
</TABLE>
See accompanying notes to unaudited condensed consolidated financial statements.
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ARV ASSISTED LIVING, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
THREE MONTHS AND NINE MONTHS ENDED SEPTEMBER 30, 1998 AND 1997
(UNAUDITED)
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------- --------------------
1998 1997 1998 1997
------ ------ ------ ------
<S> <C> <C> <C> <C>
Revenue:
Assisted living community
revenue:
Rental revenue $28,031 $21,513 $75,105 $62,030
Assisted living and
other services 6,470 4,111 17,291 11,199
Management fees from
others 168 -- 316 --
Management fees from
affiliates 217 111 606 398
------- ------- ------- -------
Total revenue 34,886 25,735 93,318 73,627
------- ------- ------- -------
Operating expenses:
Assisted living community
operating expense 22,348 16,805 58,001 46,266
Assisted living community
lease expense 7,351 5,260 19,042 14,366
General and administrative 6,550 4,753 19,202 10,699
Depreciation and
amortization 2,635 1,686 6,690 4,594
------- ------- -------- -------
Total operating
expenses 38,884 28,504 102,935 75,925
------- ------- -------- -------
Loss from operations (3,998) (2,769) (9,617) (2,298)
------- ------- -------- -------
Other income (expense):
Interest income 141 413 1,841 672
Other income, net 196 125 316 749
Interest expense (1,635) (1,393) (4,462) (4,096)
------- ------- -------- -------
Total other expense (1,298) (855) (2,305) (2,675)
------- ------- -------- -------
Loss from continuing
operations before income taxes (5,296) (3,624) (11,922) (4,973)
Income tax expense (benefit) 11 9 52 (542)
------- ------- -------- --------
Loss from continuing
operations before minority
interest and discontinued
operations (5,307) (3,633) (11,974) (4,431)
Minority interest 301 96 1,094 902
------- ------- -------- -------
Loss from continuing
operations (5,608) (3,729) (13,068) (5,333)
Loss from operations of
discontinued operations,
net of income tax benefit
of $254 for the nine month
period ended September 30,
1997 -- (354) -- (2,194)
------- -------- -------- -------
Net loss $(5,608) $(4,083) $(13,068) $(7,527)
======= ======= ======== =======
Basic and diluted loss
per common share:
Loss from continuing
operations $ (0.35) $ (0.34) $ (0.82) $ (0.52)
Loss from discontinued
operations -- (0.03) -- (0.22)
------- ------- ------ -------
Net loss $ (0.35) $ (0.37) $ (0.82) $ (0.74)
======= ======= ======= =======
Weighted average common
shares outstanding 15,881 11,109 15,871 10,152
======= ======= ======= ======
</TABLE>
See accompanying notes to unaudited condensed consolidated financial statements.
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ARV ASSISTED LIVING, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
NINE MONTHS ENDED SEPTEMBER 30, 1998 AND 1997
(UNAUDITED)
(IN THOUSANDS)
<TABLE>
<CAPTION>
NINE MONTHS ENDED
SEPTEMBER 30,
1998 1997
-------- --------
<S> <C> <C>
Net cash used in operating activities of
continuing operations........................... $ (8,240) $ (6,891)
Net cash used in operating activities of
discontinued operations......................... (3,153) (2,995)
-------- --------
Net cash used in operating activities............. (11,393) (9,886)
-------- --------
Cash flows (used in) provided by investing
activities:
Acquisition of Hillsdale communities.......... (70,738) --
Escrow deposit................................ (4,400) --
Increase in deferred project costs............ (604) (681)
(Increase) decrease in leased property
security deposits........................... (522) 446
Proceeds from sale and leaseback of communities -- 30,903
Additions to property, furniture and equipment (8,404) (30,768)
Purchase of limited partnership interests..... -- (3,008)
Distributions received from limited partnership -- 3,397
Increase in other non-current assets.......... (1,063) (5)
-------- --------
Net cash (used in) provided by investing
activities........................... (85,731) 284
-------- --------
Cash flows (used in) provided by
financing activities:
Issuance of common stock, net of issuance costs 232 25,900
Borrowings under notes payable................. 4,350 4,415
Repayments of notes payable.................... (481) (4,423)
Interest rate lock fees paid in connection with
refinancing................................... (1,330) --
Distributions paid from majority owned
partnerships to the minority unit holders...... (589) --
Issuance costs in connection with conversion of
subordinated notes.......................... (2,610) --
-------- --------
Net cash (used in) provided by financing
activities............................ (428) 25,892
-------- --------
Net (decrease) increase in cash and cash
equivalents..................................... (97,552) 16,290
Cash and cash equivalents at beginning of period.. 102,776 8,355
-------- --------
Cash and cash equivalents at end of period........ $ 5,224 $ 24,645
======== ========
Supplemental schedule of cash flow information:
Cash paid during the period for:
Interest..................................... $ 6,506 $ 6,220
======== =======
Income taxes................................. $ 52 $ 56
======== =======
Supplemental schedule of non-cash investing and
financing activities:
Assumption of debt in connection with the
Hillsdale acquisition...................... $ 15,250 $ --
======== =======
Issuance of common stock..................... $ 108 $ --
======== =======
Conversion of convertible notes to common
stock...................................... $ -- $ (882)
======== =======
</TABLE>
See accompanying notes to unaudited condensed consolidated financial statements.
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ARV ASSISTED LIVING, INC. AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 1998
(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BASIS OF PRESENTATION
We prepared the accompanying condensed consolidated financial statements of ARV
Assisted Living, Inc. and subsidiaries ("the Company" or "ARV") following the
requirements of the Securities and Exchange Commission ("SEC") for interim
reporting. As permitted under those rules, certain footnotes or other financial
information that are normally required by generally accepted accounting
principles ("GAAP") can be condensed or omitted. We have reclassified certain
prior year data to conform to the 1998 presentation.
The financial statements include all normal and recurring adjustments that we
consider necessary for the fair presentation of our financial position and
operating results. These are condensed financial statements. To obtain a more
detailed understanding of our results, you should also read the financial
statements and notes in our Form 10-K for 1997, which is on file with the SEC.
The results of operation can vary during each quarter of the year. Therefore,
the results and trends in these interim financial statements may not be the same
as those for the full year.
PRINCIPLES OF CONSOLIDATION
The condensed consolidated financial statements include the accounts of the
Company and its subsidiaries. Subsidiaries, which include limited partnerships
in which we have controlling interests, have been consolidated into the
financial statements. All significant intercompany balances and transactions
have been eliminated in consolidation.
USE OF ESTIMATES
In preparing the financial statements conforming with GAAP, we have made
estimates and assumptions that affect the following:
* reported amounts of assets and liabilities at the date of the
financial statements;
* disclosure of contingent assets and liabilities at the date of
the financial statements; and
* reported amounts of revenues and expenses during the reporting
period.
Actual results could differ from those estimates.
NEW PRONOUNCEMENTS
In April 1998, the Accounting Standards Executive Committee issued Statement of
Position ("SOP") No. 98-5, "Reporting on the Costs of Start-up Activities,"
which is effective for fiscal years beginning after December 15, 1998. The SOP
provides guidance on the financial reporting of start-up activities and
organizational costs. It requires costs of start-up activities and
organizational costs to be expensed when incurred and, upon adoption, the
write-off as a cumulative effect of a change in accounting principle of any
previously capitalized start-up or organizational costs. We plan to adopt the
provisions of SOP 98-5 in the first quarter of 1999. The carrying amounts of
capitalized start-up costs are approximately $1.0 million as of September 30,
1998.
The Financial Accounting Standards Board has also issued Statement of Financial
Accounting Standards No.131, "Disclosure about Segments of an Enterprise and
Related Information" ("SFAS 131"). This standard requires that a public business
enterprise report financial and descriptive information about its reportable
operating segments. Operating segments are components of an enterprise about
which separate financial information is available that is regularly evaluated by
the chief operating decision maker in deciding how to allocate resources and in
assessing performance. SFAS 131 also requires that all public business
enterprises report information about the revenues derived from the enterprise's
products or services (or groups of similar products or services), the countries
in which the enterprise earns revenues and holds assets and major customers
regardless of whether that information is used in making operating decisions.
However, this Statement does not require an enterprise to report information
that is not prepared for internal use
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if reporting it would be impractical. This Statement is effective for financial
statements for periods beginning after December 15, 1997. In the initial year of
application, comparative information for earlier years is required to be
restated. Comparative information for interim periods is not required until the
second year of application. The adoption of this standard is not expected to
have any impact on the consolidated financial statements.
INCOME (LOSS) PER SHARE
We adopted Statement of Financial Accounting Standards No. 128, "Earnings per
Share" ("SFAS 128") in the fourth quarter of 1997. SFAS 128 simplifies the
computation of earnings per share where:
* "basic earnings per share" generally includes only actual
weighted average shares outstanding; and
* "diluted earnings per share" includes the effect of any items
that are dilutive, such as stock options and warrants.
Potentially dilutive securities are not included due to their antidilutive
effect in periods reporting a net loss. The adoption of SFAS 128 did not have an
impact on our financial statements.
(2) COMMITMENTS AND CONTINGENT LIABILITIES
COMMITMENTS
We guarantee indebtedness of certain affiliated partnerships as follows:
(IN THOUSANDS)
Notes secured by real estate $16,698
Construction loans associated with the
development and construction of
affordable housing apartments $31,465
The maximum aggregate amount of land and construction loans that we guarantee is
$38.5 million at September 30, 1998.
The lenders may make claims under the above loan guarantees based upon the
performance of the underlying assets. We have provided for such claims where
reasonably estimable.
We guarantee tax credits for certain partnerships in the aggregate amount of
$78.4 million, excluding interest, penalties or other charges which might be
assessed against the partners.
In July 1998, we extended our $10 million revolving line of credit with
Imperial Bank ("Imperial") through September 30, 1999. This line of credit has
been used primarily to provide standby letters of credit for security deposits
on Leased ALCs. As of September 30, 1998, we had used approximately $9.2
million of this line for such letters of credit.
At September 30, 1998, we were in violation of certain of the covenants
contained in the line of credit agreement. These covenants included the minimum
current ratio requirements, debt service coverage and minimum net worth. On
November 10, 1998, Imperial amended the line of credit agreement to require
that we provide collateral for outstanding standby letter of credit
obligations. In return for this modification, Imperial removed all debt service
covenants and reduced the required minimum net worth and minimum current ratio
requirements through June 30, 1999, the last quarterly measurement date under
the existing line of credit agreement. While there can be no assurances that we
will be able to comply with these reduced financial covenant requirements, we
believe that we will be able to comply with the modified covenants through
maturity of the agreement.
On September 30, 1998, $8.75 million of outstanding debt became due and payable
however, we are currently working with the lender to extend this debt through
September 30, 1999. The entire outstanding balance is classified as a current
liability in the accompanying condensed consolidated balance sheet.
LITIGATION
On September 27, 1996, American Retirement Villas Partners II, a California
limited partnership ("ARVP II") of which we are the managing general partner and
a majority limited partner, filed lawsuits in the Superior Court for the State
of California, County of Santa Clara, seeking declaratory judgment against the
landlords of the Retirement Inn of Campbell ("Campbell") and the Retirement Inn
of Sunnyvale ("Sunnyvale"). ARVP II leases the Campbell and Sunnyvale assisted
living communities under long-term leases. A dispute has arisen as to the amount
of rent due during the 10-year lease renewal periods, which commenced in August
1995 for Campbell and March 1996 for Sunnyvale. ARVP II seeks a determination
that it is not required to pay any higher rent during the 10-year renewal
periods than during the original 20-year lease terms.
If the court finds against ARVP II, rent for the Campbell and Sunnyvale
communities could increase significantly, which will reduce net income and cash
available for distributions in the future. These rent increases would be
retroactive to the beginning of the lease renewal periods.
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Two other communities leased by ARVP II, the Retirement Inn of Fremont
("Fremont") and the Retirement Inn at Burlingame ("Burlingame") are owned by
entities which are related to the entities that own the Campbell and Sunnyvale
communities. It is not known whether the landlords of those communities will
dispute the amount of rent due during the renewal periods which began January
1997 for Fremont and August 1997 for Burlingame. If so, ARVP II may be required
to file a lawsuit to determine the rights under those leases.
The parties have mutually negotiated the terms of a proposed purchase agreement
involving the sale of the landlord's fee interest in the four communities to
ARVP II and settlement of all claims. Further, the parties have agreed to
forebear from prosecuting the litigation during the pendency of the escrow. We
expect that the purchase of the properties will be completed in December 1998,
however, there can be no assurance that this purchase will occur. We are of the
opinion, based in part upon opinions of legal counsel, that an adverse outcome
is unlikely.
On April 24, 1998, we were served with a lawsuit by Emeritus Corporation
("Emeritus'), which was filed in the Superior Court of California, County of
Orange, alleging that share purchases on January 16, 1998 by Prometheus Assisted
Living LLC triggered our Shareholder Rights Agreement. Emeritus contends that
due to the alleged triggering event we are required to distribute one right per
share of outstanding Company stock and that each right is exercisable for
approximately 9.56 shares at a total purchase price of $70 (or approximately
$7.32 per share). We believe that Emeritus' claims are meritless and we are
contesting them vigorously.
On May 12, 1998, we filed a lawsuit in the Superior Court for the State of
California, County of Orange, seeking to enjoin Kapson Senior Quarters Corp.
("Kapson"), a controlled affiliate of Lazard Freres Real Estate Investors LLC
("LFREI"), from acquiring Atria Communities ("Atria"), an unaffiliated
competitor. Atria was also named as a defendant in the suit, as were three LFREI
representatives on our Board of Directors, Messrs. Kenneth M. Jacobs, Robert P.
Freeman and Murry N. Gunty. We alleged that LFREI was violating both its
contractual and fiduciary duties to us if it allowed Kapson to proceed with the
acquisition without first offering us the right to be the acquiring party and
then, if we declined, obtaining our permission to consummate this acquisition.
The lawsuit also sought to enforce rights we obtained as part of a strategic
alliance with LFREI with respect to existing Kapson facilities. When we
previously consented to LFREI's acquisition of Kapson, the two companies signed
a letter agreement that was designed to make available to our shareholders some
of the potential benefits of the Kapson acquisition. Thus, under its agreement,
LFREI was obligated to negotiate in good faith with us to identify commercially
reasonable terms on which we will lease or manage the existing Kapson
facilities. However, since LFREI's acquisition of Kapson, we alleged, LFREI has
failed to negotiate in good faith. On July 30, 1998, our compliant was amended
to add Lazard Freres as a party and to include allegations of fraud against
Lazard, LFREI and Messrs. Kenneth M. Jacobs, Robert P. Freeman and Murry N.
Gunty.
On June 9, 1998, LFREI filed a cross-complaint against us, alleging that our
preliminary communications with several potential sources of capital to assist
us in financing the acquisition of Atria in the event that LFREI honored our
right of first offer or was ordered to do so by the court constituted an early
termination event under the Amended and Restated Stockholders Agreement dated as
of October 29, 1997, by and among LFREI, Prometheus Assisted Living LLC and us
(the "Amended Stockholders Agreement"). LFREI also contended that certain
standstill provisions under the Amended Stockholders Agreement have terminated.
On August 14, 1998, the Judge in the trial ruled from the bench against us and
in favor of all defendants on LFREI's motion for judgment on all of our causes
of action. LFREI's cross-complaint has not yet been ruled upon, however, a court
hearing on the matter is scheduled for November 16, 1998. At or following the
hearing, the Judge is expected to rule on the language proposed by the parties
for its formal ruling on the outcome of the trial. We will then review the
Judge's formal ruling to assess whether to seek an appeal.
Since the nature of litigation is that results cannot be predicted with
certainty, there can be no assurance we will prevail in any of the foregoing
litigation actions.
We are from time to time subject to lawsuits and other matters in the normal
course of business. While we cannot predict the results with certainty, we do
not believe that any liability from any such lawsuits or other matters will have
a material effect on our financial position, results of operations, or
liquidity.
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(3) ACQUISITIONS
On February 12, 1998, we announced that we had entered into three purchase and
sale agreements for $88 million to purchase interests in 13 senior housing
communities, including a skilled nursing component in one community, located in
California. The communities acquired are as follows:
<TABLE>
<CAPTION>
DATE
COMMUNITY LOCATION UNITS ACQUIRED
- --------- -------- ----- --------
<S> <C> <C> <C>
OWNED
Golden Creek Inn............................Irvine, CA 123 April 16, 1998
Hillcrest Inn...............................Thousand 137 April 16, 1998
Oaks, CA
Rossmore House..............................Los Angeles, 157 May 4, 1998
CA
The Berkshire...............................Berkley, CA 81 May 12, 1998
Encino Hills Terrace........................Encino, CA 76 July 7, 1998
------
Total owned.............................. 574
------
LEASED
Willow Glen Villa...........................San Jose, CA 188 May 18, 1998
Hillsdale Manor Retirement Center (a).......San Mateo, CA 159 July 2, 1998
------
Total Owned.............................. 347
------
MANAGED
Sterling Court (b)..........................San Mateo, CA 149 April 16, 1998
Palo Alto Commons...........................Palo Alto, CA 143 April 16, 1998
San Carlos Retirement Center................San Carlos, CA 85 April 16, 1998
The Altenheim...............................Oakland, CA 138 April 16, 1998
------
Total Managed............................ 515
------
Total.................................... 1,436
======
</TABLE>
(a) Includes a skilled nursing center.
(b) In addition, we acquired a twenty percent (20%) general partnership
interest in WHW Associates. WHW Associates is a fifty percent (50%) general
partner of Fifty Peninsula Partners, a California limited partnership,
which owns Sterling Court.
As of September 30, 1998, we had approximately $4.5 million in escrow to be
refunded in connection with, among other items, two management contracts which
we will not purchase. For the above transactions, we paid approximately $68.3
million of the purchase prices from cash on hand and assumed $15.25 million of
existing mortgage financing. The terms of the loans are as follows:
* secured by Golden Creek Inn ($2.25 million) and Hillcrest Inn
($13.0 million);
* interest at LIBOR plus 2.50% (Golden Creek Inn) and LIBOR plus
2.25% (Hillcrest Inn);
* monthly payments of interest only until August 1998 (Golden Creek
Inn) and October 1998 (Hillcrest Inn);
* thereafter, monthly payments of principal and interest based upon
a 25-year amortization schedule; and
* outstanding balance of the loans plus all accrued and unpaid
interest is due and payable in 2002.
The purchase price paid in excess of the fair value of identifiable assets for
the owned and leased communities acquired aggregated approximately $24.1 million
and is being amortized over the life of the related assets of 35 years.
The pro forma effect of the above acquisitions, assuming that the transactions
occurred on January 1, 1998, is as follows (dollars in thousands, except per
share amounts):
FOR THE
THREE MONTHS FOR THE NINE
ENDED MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
1998 1998
---- ----
Revenues............................ $34,908 $ 98,321
Net loss............................ (5,605) (12,374)
Basic and diluted loss per common
share............................... $ (0.35) $ (0.78)
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(4) SUBSEQUENT EVENTS/LIQUIDITY
Effective October 1, 1998, the owners of Palo Alto Commons elected to terminate
our management contract in order to manage the community themselves. As a
condition to terminating the contract, we will receive a termination payment
equal to six months of base management fees of approximately $133,000. We do not
anticipate any write-off associated with this event.
In October 1998, we entered into a joint venture agreement with Omnicare, Inc.,
under which network pharmacy and related clinical information services will be
provided for the residents of our assisted living communities ("ALCs"). The
agreement is for a three-year term and the joint venture began providing
services during the fourth quarter of 1998.
On November 10, 1998, we closed on two joint ventures with a subsidiary of Alex.
Brown Realty, Inc., and Vintage Senior Housing, an unaffiliated developer, to
finance the renovation of and manage two existing ALCs. We expect to close on
joint ventures with the same parties to finance the renovation of one additional
ALC and the construction of four ALCs. As of November 13, 1998, we have received
a return of Equity of approximately $6.4 million of previously invested funds.
Included in other assets are approximately $1.3 million of fees incurred during
the quarter ended September 30, 1998 as part of a proposed discretionary
refinancing of eight ALCs held by majority owned entities. These fees consist of
$1.0 million of interest rate lock fees and $0.3 million of loan commitment
fees. Subsequent to September 30, 1998, PRN Mortgage Capital LLC ("PRN"), the
lender that was providing the financing, informed us that the commitment to
provide a fixed rate financing was being revoked due to adverse market
conditions.
ContiFinancial Services Corporation ("Conti"), an approximate 30% owner of PRN
who provides credit enhancement to PRN, terminated the underlying contract for
the interest rate lock. Representatives of Conti cited adverse conditions in the
commercial mortgage backed securities markets as its reason for terminating the
contract. In conjunction with the termination, Conti advised us that they would
return $0.4 million of the rate lock fees. It is our belief that our majority
owned entities are entitled to a full and complete return of the rate lock fees
we have paid. We, on behalf of our majority owned entities, intend to vigorously
pursue a return of all fees, and will seek legal recourse if necessary.
Currently, we are working with PRN to obtain an alternative financing on terms
and conditions acceptable to all parties. While there can be no assurances that
such financing will be available on terms and conditions acceptable to our
affiliated partnerships and us it is to our belief that such alternative
financing will be obtained.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATION.
FACTORS AFFECTING FUTURE RESULTS AND FORWARD-LOOKING STATEMENTS
This 10-Q report contains forward-looking statements, including statements
regarding, among other items:
* our business strategy;
* our liquidity requirements and ability to obtain financing;
* the impact of future acquisitions and developments;
* the level of future capital expenditures;
* the impact of inflation and changing prices;
* the outcome of certain litigation matters; and
* the impact of Year 2000 Issues.
These forward-looking statements are based on our expectations and are subject
to a number of risks and uncertainties, some of which are beyond our control.
These risks and uncertainties include, but are not limited to:
* access to capital necessary for acquisitions and development;
* our ability to sustain and manage growth;
* the successful integration of ALCs into our portfolio;
* governmental regulations;
* competition;
* and other risks associated with the assisted living industry.
Although we believe we have the resources required to achieve our objectives,
actual results could differ materially from those anticipated by these
forward-looking statements. There can be no assurances that events anticipated
by these forward-looking statements will in fact transpire as expected.
OVERVIEW
As of September 30, 1998, we operate 63 ALCs containing 7,848 units, including
three owned by a limited partnership for which we serve as the managing general
partner and community manager (an "Affiliated Partnership"). Of the remaining 60
communities, we lease 37 communities pursuant to long-term operating leases
("Leased ALCs"), 19 communities are owned ("Owned ALCs") and four
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communities are managed for unrelated parties ("Managed ALCs"). We also operate
one skilled nursing facility, which is part of a Leased ALC.
As of September 30, 1998, we had the following projects under construction:
ANTICIPATED ANTICIPATED
LOCATION # OF UNITS OPENING
The Lakes Fort Myers, FL 148 4th Quarter 1998
Sutton Terrace Las Vegas, NV 142 4th Quarter 1998
---
Total units under construction 290
===
We anticipate that the schedule set forth above can be met, although there can
be no assurance in this regard. Construction is subject to numerous risks, which
could cause delays or the abandonment of a project or projects.
Since we began operation of ALCs for our own account in April 1994, we have
embarked upon an expansion strategy that achieved significant growth in revenue
primarily from the acquisition of ALCs. We have focused our growth efforts on
the acquisition and development of additional ALCs and expansion of services to
our residents as they "age in place."
We have developed, acquired for our own account or entered into long-term
operating leases for 56 ALCs totaling 6,954 units (88.6% of our portfolio of
7,848 units as of September 30, 1998). Of the owned and leased ALCs operated for
our own account as of September 30, 1998:
* 24 communities (2,453 units) were previously owned or operated
by Affiliated Partnerships;
* 25 communities (3,702 units) were acquired from third party
owners;
* and seven communities (799 units) were developed.
In August 1996, through our wholly owned subsidiary, ARV Health Care, Inc., we
acquired SynCare, Inc., a physical, speech and occupational therapy provider, in
a stock-for-stock merger. SynCare, Inc. was the holding company of three
corporations, which engaged in business under the name GeriCare ("GeriCare").
Partnerships affiliated with us have acquired or developed market rate senior
apartments as well as affordable senior and multifamily apartment communities
(the "Apartment Group"), using the sale of tax credits under a Federal
low-income housing tax credit program (the "Federal Tax Credit Program") to
generate the equity funding for development.
As part of our strategic plan, our management and the Board of Directors
determined that GeriCare and the Apartment Group were not part of our core
business, and, in the fourth quarter of 1997, adopted a plan for disposing of
both lines of business. We discontinued the operations of GeriCare during the
first quarter of 1998. In order to continue to provide rehabilitation therapy
services to our residents, we entered into a strategic alliance with NovaCare,
Inc., a national leader in physical rehabilitation services. Under the terms of
the agreement, NovaCare, Inc. leases space in those of our ALCs in which it
provides therapy services.
In addition to our strategic alliance with NovaCare, Inc., we entered into a
joint venture agreement with Omnicare, Inc., under which network pharmacy and
related clinical information services are provided for the residents of our
ALCs. The agreement is for a three-year term and the joint venture began
providing services during the fourth quarter of 1998.
10
<PAGE> 11
On August. 16, 1998, we signed an agreement with Dominium Acquisitions LLC for
the sale of our partnership interests in 11 low-income tax credit apartment
communities. More than 1,100 multifamily apartment units, or about half of the
Apartment Group, are involved in the sale. We anticipate the final closing for
several of our apartment interests to occur by the end of the year. The sale is
subject to certain conditions, including but not limited to obtaining consents
of the co-general partners, limited partners and lenders, and the termination
and/or assignment of certain third-party financing arrangements. There can be no
assurance that any or all of the transactions will be completed. These
properties are included in our group of assets classified as discontinued
operations. Our existing reserves related to these properties are expected to be
adequate to cover all costs associated with the sale.
RESULTS OF OPERATIONS
THREE MONTHS ENDED SEPTEMBER 30, 1998 COMPARED WITH THREE MONTHS ENDED SEPTEMBER
30, 1997
The following table sets forth a comparison of the three months ended September
30, 1998 ("the 1998 Quarter") and the three months ended September 30, 1997
("the 1997 Quarter").
<TABLE>
<CAPTION>
FOR THE THREE
(DOLLARS IN MILLIONS) MONTHS ENDED
SEPTEMBER 30, INCREASE/
1998 1997 (DECREASE)
------ ------ ----------
<S> <C> <C> <C>
Revenue:
Assisted living community revenue........ $ 34.5 $ 25.6 34.8%
Management fees from affiliates and
others................................. 0.4 0.1 246.8%
------ ------ ------
Total revenue.................... 34.9 25.7 35.8%
------ ------ ------
Operating expenses:
Assisted living community operating
expense................................ 22.3 16.8 32.7%
Assisted living community lease expense.. 7.4 5.3 39.8%
General and administrative............... 6.6 4.7 37.8%
Depreciation and amortization............ 2.6 1.7 56.3%
------ ------ ------
Total operating expenses......... 38.9 28.5 36.4%
------ ------ ------
Loss from operations....................... (4.0) (2.8) 44.4%
Other income (expense):
Interest income.......................... 0.1 0.4 (65.9%)
Other income, net........................ 0.2 0.1 56.8%
Interest expense......................... (1.6) (1.3) 17.4%
------ ------ ------
Total other expense.............. (1.3) (0.8) 51.8%
------ ------ ------
Loss from continuing operations before
minority interest in income of majority
owned entities and discontinued operations. (5.3) (3.6) 46.1%
Minority interest in income of majority.. 0.3 0.1 213.6%
------ ------ ------
owned entities.............................
Loss from continuing operations............ (5.6) (3.7) 50.4%
Loss from operations of discontinued
operations............................... -- (0.4) (100.0%)
------ -------- ------
Net loss......................... $ (5.6) $ (4.1) 37.4%
====== ======= ======
</TABLE>
The increase in assisted living community revenue is attributable to the
following:
* the acquisition of seven Owned and LeasedALCs;
* the opening of four Leased ALCs;
* the increase in average occupancy for all of our Owned and Leased
ALCs to 86.4% for the 1998 Quarter as compared to 84.5% for the
1997 Quarter; and
* the increase in average occupancy for same communities to 89.5%
for the 1998 Quarter as compared to 87.2% for the 1997 Quarter.
Same community revenue increased 9.9% for the 1998 Quarter as
compared to the 1997 Quarter.
Management fees from affiliates and others increased due to the increased number
of management contracts to seven in 1998 from three in 1997.
Assisted living community operating expense increased due to the following:
* the acquisition of seven Owned and Leased ALCs;
* the opening of four Leased ALCs;
* staffing requirements related to increased assisted living
services provided;
* and increased wages of staff.
11
<PAGE> 12
The increase in assisted living community lease expense is primarily due to the
acquisition of two Leased ALCs and the opening of four Leased ALCs.
General and administrative expenses increased due to the following:
* expenses incurred in connection with the lawsuit with Kapson and
LFREI ($0.9 million);
* severance payments related to our management reorganization ($0.7
million);
* investment banking fees ($0.6 million);
* additional staffing necessary to accommodate the increased
operations in 1998; offset by
* a decrease in compensation expense related to a severance payment
made to the former Chief Executive Officer during 1997.
Depreciation and amortization expenses increased due to the acquisition of seven
Owned and Leased ALCs and the opening of four Leased ALCs during 1998.
Interest income decreased due to lower average cash balances carried by us
during the 1998 Quarter as compared to the 1997 Quarter.
Other income remained constant for the 1998 Quarter as compared to the 1997
Quarter.
Interest expense increased due to additional debt assumed in connection with the
acquisition of two Owned ALCs.
Minority interest increased because in the 1997 Quarter we allocated losses from
a limited liability corporation ("LLC") to the minority owner. We sold our
interest in the LLC in December 1997.
Loss from discontinued operations decreased as all expected future operating
costs for our discontinued operations were recorded in 1997. No additional costs
have been incurred during 1998.
NINE MONTHS ENDED SEPTEMBER 30, 1998 COMPARED WITH NINE MONTHS ENDED SEPTEMBER
30, 1997
The following table sets forth a comparison of the nine months ended September
30, 1998 ("the 1998 Nine Month Period") and the nine months ended September 30,
1997 ("the 1997 Nine Month Period").
<TABLE>
<CAPTION>
FOR THE NINE
(DOLLARS IN MILLIONS) MONTHS ENDED
SEPTEMBER 30, INCREASE/
1998 1997 (DECREASE)
-------- ------- ----------
<S> <C> <C> <C>
Revenue:
Assisted living community revenue........ $ 92.4 $ 73.2 26.2%
Management fees from affiliates and
others................................. 0.9 0.4 131.7%
-------- ------- ------
Total revenue.................... 93.3 73.6 26.7%
-------- ------- ------
Operating expenses:
Assisted living community operating
expense................................ 58.0 46.3 25.4%
Assisted living community lease expense.. 19.0 14.4 32.6%
General and administrative............... 19.2 10.7 79.5%
Depreciation and amortization............ 6.7 4.5 45.6%
-------- ------- ------
Total operating expenses......... 102.9 75.9 35.6%
-------- ------- ------
Loss from operations....................... (9.6) (2.3) 318.5%
Other income (expense):
Interest income.......................... 1.8 0.7 174.0%
Other income, net........................ 0.3 0.7 (57.8%)
Interest expense......................... (4.4) (4.1) 8.9%
-------- -------- ------
Total other expense.............. (2.3) (2.7) (13.8%)
-------- -------- -------
Loss from continuing operations before
income taxes............................ (11.9) (5.0) 139.7%
Income tax expense (benefit)............... 0.1 (0.6) 109.6%
-------- -------- -------
Loss from continuing operations before
minority interest in income of majority
owned entities and
discontinued operations.................. (12.0) (4.4) 170.2%
Minority interest in income of majority
owned entities........................... 1.1 0.9 21.3%
-------- -------- ------
Loss from continuing operations............ (13.1) (5.3) 145.0%
Loss from operations of discontinued
operations............................... -- (2.2) (100.0%)
-------- ------- ------
Net loss......................... $ (13.1) $ (7.5) 73.6%
======== ======= ======
</TABLE>
12
<PAGE> 13
The increase in assisted living community revenue is attributable to following:
* the acquisition of seven Owned and Leased ALCs;
* the opening of four Leased ALCs;
* the increase in average occupancy for all of our Owned and Leased
ALCs to 85.8% for the 1998 Nine Month Period as compared to 85.0%
for the 1997 Nine Month Period; and
* the increase in average occupancy for same communities to 88.7%
for the 1998 Nine Month Period as compared to 86.6% for the 1997
Nine Month Period. Same community revenue increased 10.8% for the
1998 Nine Month Period as compared to the 1997 Nine Month Period.
Management fees from affiliates and others increased due to the increased number
of management contracts to seven in 1998 from three in 1997.
Assisted living community operating expense increased due to the following:
* the acquisition of seven Owned and Leased ALCs;
* the opening of four additional ALCs;
* staffing requirements related to increased assisted living
services provided; and
* increased wages of staff.
The increase in assisted living community lease expense is primarily due to the
acquisition of two Leased ALCs and the opening of four Leased ALCs.
General and administrative expenses increased due to the following:
* expenses incurred in connection with the lawsuit with Kapson and
LFREI ($1.8 million);
* expenses incurred in connection with our successful battle
against the hostile tender offer of Emeritus ($1.6 million);
* severance payments and recruiting fees related to our management
reorganization ($1.7 million);
* investment banking fees ($1.1 million);
* additional staffing necessary to accommodate the increased
operations in 1998; offset by
* a decrease in compensation expense related to a severance payment
made to the former Chief Executive Officer during 1997.
Depreciation and amortization expenses increased due to the acquisition of seven
Owned and Leased ALCs and the opening of four Leased ALCs during 1998.
Interest income increased due to higher average cash balances carried by us
during the 1998 Nine Month Period. The higher average cash balance was the
result of the issuance of $60 million convertible in subordinated notes to
Prometheus Assisted Living on October 30, 1997.
Other income decreased as a result of development and other equity in income
recorded in the 1997 Nine Month Period which did not exist in the 1998 Nine
Month Period.
Interest expense increased due to additional debt assumed in connection with the
acquisition of two Owned ALCs.
Income tax benefit decreased because we did not record any income tax benefit
for losses generated during the 1998 Nine Month Period.
Minority interest increased because in the 1997 Nine Month Period we allocated
losses from an LLC to the minority owner. We sold our interest in the LLC in
December 1997.
Loss from discontinued operations decreased as all expected future operating
costs for our discontinued operations were recorded in 1997. No additional costs
have been incurred during 1998.
13
<PAGE> 14
LIQUIDITY AND CAPITAL RESOURCES
Our unrestricted cash balances were $5.2 million and $102.8 million at September
30, 1998 and December 31, 1997, respectively.
Working capital decreased to $(7.5) million as of September 30, 1998 compared to
working capital of $75.3 million at December 31, 1997. The decrease was due
primarily to cash used in the acquisition of five Owned ALCs, two Leased ALCs
and four Managed ALCs during the 1998 Nine Month Period.
Cash used in operating activities was $11.4 million for the Nine Month Period,
compared to $9.9 million for 1997 Nine Month Period. The primary components of
cash used in operating activities were:
* a net loss of $13.1 million;
* $2.9 million of increases in other assets;
* $3.2 million of cash used in operations of discontinued
operations;
* offset by a non-cash charges of $6.7 million for depreciation
and amortization and $1.1 million in other non-cash charges.
Cash used in investing activities was $85.7 million for the 1998 Nine Month
Period, compared to $0.3 million for 1997 Nine Month Period. The primary
components of cash used in investing activities were:
* $70.7 million related to the acquisition of interests in Owned
ALCs, Leased ALCs, Managed ALCs and partnership interests;
* $4.4 million in escrow deposits;
* $8.4 million of purchases of property, furniture and equipment;
* $1.7 million in costs related to other non-current assets and
deferred project costs; and $0.5 million for increases in Leased
ALCs security deposits.
Net cash used in financing activities was $0.4 million for the 1998 Nine Month
Period, compared to net cash provided by financing activities of $25.9 million
for the 1997 Nine Month Period. The primary components of cash used in financing
activities were:
* $2.6 million of issuance costs associated with the conversion of
subordinated notes;
* $1.3 million of interest rate lock fees paid in connection with a
proposed refinancing;
* $0.5 million for repayments of notes payable;
* $0.6 million for distributions paid from majority owned
partnerships to the minority unit holders; offset by
* $4.4 million of additional borrowings on notes payable;
* $0.2 million of proceeds from the issuance of common stock.
In July 1998, we exercised our option to borrow the remaining unfunded balance
of an existing mortgage totaling approximately $4.4 million.
In July 1998, our Board of Directors approved the refinancing of eleven
communities held by a majority owned entities. The purpose of the refinancing
was to take advantage of lower fixed interest rates available at the time
through the commercial mortgage backed security market and provide a return of
equity to the limited partners and us by borrowing against the increased value
of these properties. Additionally, four of the eleven communities are currently
operated pursuant to long term operating leases. The financing would allow our
majority owned entities to purchase the communities from their owners. Our
consolidated long-term debt on these communities would increase to approximately
$51.6 million (including $14.8 million incurred for the purchase of the four
communities) from $9.1 million as a result of this refinancing.
In conjunction with this financing, our majority owned entities had paid
approximately $1.3 million of fees for an interest rate lock and loan commitment
fees. These fees consist of $1 million of interest rate lock fees and $0.3
million of loan commitment fees. Subsequent to quarter end, PRN Mortgage Capital
LLC ("PRN"), the lender that was providing the financing, informed us that the
commitment to provide a fixed rate financing was being revoked due to adverse
market conditions in the commercial mortgage backed security market.
Currently, we are working with PRN to obtain an alternative financing on terms
and conditions acceptable to all parties. We are also working to obtain a refund
of all fees paid for the rate lock financing commitment. Although there can be
no assurance that such financing will be available on terms and conditions
acceptable to us, and the majority owned entities, it is our belief that such
alternative financing will be obtained. furthermore, while there can be no
assurances that all of the rate lock and commitment fees will be returned, we
will vigorously pursue a return of all fees on behalf of the majority owned
entities, and will seek legal recourse if necessary.
On September 30, 1998, $8.75 million of outstanding debt became due and payable
however, we are currently working with the lender to extend this debt through
September 30, 1999. The entire outstanding balance is classified as a current
liability in the accompanying condensed consolidated balance sheet.
On November 10, 1998, we closed on two joint ventures with a subsidiary of
Alex. Brown Realty, Inc., and Vintage Senior Housing, an unaffiliated
developer, to finance the renovation of and manage two existing ALCs. We expect
to close on joint ventures with the same parties to finance the renovation of
one additional ALC and the construction of four ALCs. As of November 13, 1998,
we have received a return of equity of approximately $6.4 million of
previously invested funds.
In July 1998, we extended our $10 million revolving line of credit with
Imperial Bank ("Imperial") through September 30, 1999. This line of credit has
been used primarily to provide standby letters of credit for security deposits
on Leased ALCs. As of September 30, 1998, we had used approximately $9.2
million of this line for such letters of credit.
At September 30, 1998, we were in violation of certain of the covenants
contained in the line of credit agreement. These covenants included the minimum
current ratio requirements, debt service coverage and minimum net worth. On
November 10, 1998, Imperial amended the line of credit agreement to require
that we provide collateral for outstanding standby letter of credit
obligations. In return for this modification, Imperial removed all debt service
covenants and reduced the required minimum net worth and minimum current ratio
requirements through June 30, 1999, the last quarterly measurement date under
the existing line of credit agreement. While there can be no assurances that we
will be able to comply with these reduced financial covenant requirements, we
believe that it will be able to comply with the modified covenants through
maturity of the agreement.
14
<PAGE> 15
Our capital requirements include acquisition and rehabilitation costs of ALCs,
security deposits on Leased ALCs, ALC pre-development costs, initial operating
costs of newly developed ALCs, payment of interest, owner's equity contributions
in connection with certain partnerships in the Apartment Group financed under
the Federal Tax Credit Program, and working capital. We have discontinued our
activities with respect to developments under the Federal Tax Credit Program
and, accordingly, expect that our future outlays for existing developments will
diminish. We do not currently generate sufficient cash from operations to fund
our recurring working capital requirements, primarily as a result of initial
operating costs of newly developed ALCs and recent losses from operations. As a
result of our ability to issue common stock and our proposed financing
arrangements, we believe that we have sufficient capital to meet our
requirements in the near term. However, we anticipate that it may be necessary
to obtain additional financing in order to continue our aggressive growth
strategy and there can be no assurances that we will be able to issue common
stock or obtain financing on favorable terms.
Pursuant to the terms of our development and property management agreements for
certain partnerships, we have provided certain guarantees for the benefit of
these partnerships. Among these guarantees are operating deficit, tax credit and
financing guarantees. To the extent that the operations of certain tax credit
partnerships do not improve prior to the maturity of the existing construction
financing, we may be required to fund additional amounts under the terms of our
financing guarantees. We have established a provision for the estimated funding
of obligations under our financing guarantees. Actual funding could differ from
those estimates.
YEAR 2000 ISSUE
Certain computer programs utilized by us were written using two digits rather
than four to define the year. As a result, those programs may recognize a date
using "00" as the year 1900 rather than the year 2000. In the event this were to
occur with any of our computer programs, a system failure or miscalculation
causing disruptions of operations could occur. Such a failure could cause the
temporary inability to process transactions, send invoices or engage in similar
normal business activities.
Unrelated to the Year 2000 Issue, we intend to replace substantially all of our
accounting information systems software during 1999. We believe that with the
conversion to the new accounting software, the Year 2000 Issue will not pose
significant business or operating issues.
We are assessing our remaining software and other equipment to determine whether
any existing programs or equipment will have to be modified or replaced so that
our computer systems will function properly with respect to dates in the year
2000 and thereafter. This assessment will be completed during the second quarter
of 1999.
We have initiated communications with the third-party providers of certain of
our administrative services, as well as our significant suppliers of services
and products to determine the extent to which we are vulnerable to those
parties' failures to remediate their own Year 2000 Issues. We completed our
evaluation of those suppliers during the third quarter of 1998. We do not
presently believe that third party Year 2000 issues will have a material adverse
effect on us. However, there can be no guarantee that the systems of other
companies on which our operations or systems rely will be timely remedied or
that a failure by another company to remediate its systems in a timely manner
would not have a material adverse effect on us.
We expect to successfully implement the changes necessary to address our Year
2000 Issues, and do not believe that the cost of such actions will have a
material adverse effect on our financial position, results of operations or
liquidity. We anticipate that the cost of assessing the Year 2000 Issue will
range from $100,000 to $360,000. We are currently unable to assess the costs to
remediate any Year 2000 Issues that may result from the assessment. There can be
no assurance, however, that there will not be delays in, or increased costs
associated with, the implementation of such changes, and our inability to
implement such changes could have a material adverse effect on our business,
operating results, and financial condition.
We intend to determine if contingency plans are needed for any aspect of our
business with respect to Year 2000 Issues (including most reasonably likely
worst case Year 2000 scenarios), and to create those contingency plans by the
end of the first quarter of 1999.
IMPACT OF INFLATION AND CHANGING PRICES
Operating revenue from ALCs and management fees from apartment communities we
operate are our primary sources of revenue. These properties are affected by
rental rates that are highly dependent upon market conditions and the
competitive environments where the facilities are located. Employee compensation
is the principal cost element of property operations. Although there can be no
15
<PAGE> 16
assurance we will be able to continue to do so, we have been able historically
to offset the effects of inflation on salaries and other operating expenses by
increasing rental and assisted living rates. The implementation of price
increases is intended to lead to an increase in revenue; however, those
increases may result in an initial decline in occupancy and/or a delay in
increasing occupancy. If this occurs, revenues may remain constant or even
decline.
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS.
On September 27, 1996, American Retirement Villas Partners II, a California
limited partnership ("ARVP II") of which we are the managing general partner and
a majority limited partner, filed lawsuits in the Superior Court for the State
of California, County of Santa Clara, seeking declaratory judgment against the
landlords of the Retirement Inn of Campbell ("Campbell") and the Retirement Inn
of Sunnyvale ("Sunnyvale"). ARVP II leases the Campbell and Sunnyvale assisted
living communities under long-term leases. A dispute has arisen as to the amount
of rent due during the 10-year lease renewal periods, which commenced in August
1995 for Campbell and March 1996 for Sunnyvale. ARVP II seeks a determination
that it is not required to pay any higher rent during the 10-year renewal
periods than during the original 20-year lease terms.
If the court finds against ARVP II, rent for the Campbell and Sunnyvale
communities could increase significantly, which will reduce net income and cash
available for distributions in the future. These rent increases would be
retroactive to the beginning of the lease renewal periods.
Two other communities leased by ARVP II, the Retirement Inn of Fremont
("Fremont") and the Retirement Inn at Burlingame ("Burlingame") are owned by
entities which are related to the entities that own the Campbell and Sunnyvale
communities. It is not known whether the landlords of those communities will
dispute the amount of rent due during the renewal periods which began January
1997 for Fremont and August 1997 for Burlingame. If so, ARVP II may be required
to file a lawsuit to determine the rights under those leases.
The parties have mutually negotiated the terms of a proposed purchase agreement
involving the sale of the landlord's fee interest in the four communities to
ARVP II and settlement of all claims. Further, the parties have agreed to
forebear from prosecuting the litigation during the pendency of the escrow. We
expect that the purchase of the properties will be completed in December 1998,
however, there can be no assurance that this purchase will occur. We are of the
opinion, based in part upon opinions of legal counsel, that an adverse outcome
is unlikely.
On April 24, 1998, we were served with a lawsuit by Emeritus Corporation
("Emeritus'), which was filed in the Superior Court of California, County of
Orange, alleging that share purchases on January 16, 1998 by Prometheus Assisted
Living LLC triggered our Shareholder Rights Agreement. Emeritus contends that
due to the alleged triggering event we are required to distribute one right per
share of outstanding Company stock and that each right is exercisable for
approximately 9.56 shares at a total purchase price of $70 (or approximately
$7.32 per share). We believe that Emeritus' claims are meritless and we are
contesting them vigorously.
On May 12, 1998, we filed a lawsuit in the Superior Court for the State of
California, County of Orange, seeking to enjoin Kapson Senior Quarters Corp.
("Kapson"), a controlled affiliate of Lazard Freres Real Estate Investors LLC
("LFREI") from acquiring Atria Communities ("Atria"), an unaffiliated
competitor. Atria was also named as a defendant in the suit, as were three LFREI
representatives on our Board of Directors, Messrs. Kenneth M. Jacobs, Robert P.
Freeman and Murry N. Gunty. We alleged that LFREI was violating both its
contractual and fiduciary duties to us if it allowed Kapson to proceed with the
acquisition without first offering us the right to be the acquiring party and
then, if we declined, obtaining our permission to consummate this acquisition.
The lawsuit also sought to enforce rights we obtained as part of a strategic
alliance with LFREI with respect to existing Kapson facilities. When we
previously consented to LFREI's acquisition of Kapson, the two companies signed
a letter agreement that was designed to make available to our shareholders some
of the potential benefits of the Kapson acquisition. Thus, under its agreement,
LFREI was obligated to negotiate in good faith with us to identify commercially
reasonable terms on which we will lease or manage the existing Kapson
facilities. However, since LFREI's acquisition of Kapson, we alleged, LFREI has
failed to negotiate in good faith. On July 30, 1998, our compliant was amended
to add Lazard Freres as a party to include allegations of fraud against Lazard,
LFREI and Messrs. Kenneth M. Jacobs, Robert P. Freeman and Murry N. Gunty.
16
<PAGE> 17
On June 9, 1998, LFREI filed a cross-complaint against us, alleging that our
preliminary communications with several potential sources of capital to assist
us in financing the acquisition of Atria in the event that LFREI honored our
right of first offer or was ordered to do so by the court constituted an early
termination event under the Amended and Restated Stockholders Agreement dated as
of October 29, 1997, by and among LFREI, Prometheus Assisted Living LLC and us
(the "Amended Stockholders Agreement"). LFREI also contended that certain
standstill provisions under the Amended Stockholders Agreement have terminated.
On August 14, 1998, the Judge in the trial ruled from the bench against us and
in favor of all defendants on LFREI's motion for judgment on all of our causes
of action. LFREI's cross-complaint has not yet been ruled upon, however, a court
hearing on the matter is scheduled for November 16, 1998. At or following the
hearing, the Judge is expected to rule on the language proposed by the parties
for its formal ruling on the outcome of the trial. We will then review the
Judge's formal ruling to assess whether to seek an appeal.
Since the nature of litigation is that results cannot be predicted with
certainty, there can be no assurance we will prevail in any of the foregoing
litigation actions.
We are from time to time subject to lawsuits and other matters in the normal
course of business. While we cannot predict the results with certainty, we do
not believe that any liability from any such lawsuits or other matters will have
a material effect on our financial position, results of operations, or
liquidity.
ITEM 2. CHANGES IN SECURITIES
None.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None.
ITEM 4. SUBMISSION OF MATTER TO A VOTE OF SECURITY-HOLDERS
None.
ITEM 5. OTHER INFORMATION
None.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
(a) EXHIBITS
15 Independent Accountants' Review Report dated November 13, 1998
27 Financial Data Schedule
(b) REPORTS ON FORM 8-K
We filed the following reports with the SEC on Form 8-K during the quarter ended
September 30, 1998:
Our current report on Form 8-K filed with the SEC on July 17, 1998, which
reported under Item 2, the purchase of an assisted living community, rights
under a lease agreement and related documentation for an assisted living
community and convalescent home from The Hillsdale Group L.P., an unrelated
third party.
Our current report on Form 8-K/A filed with the SEC on July 20, 1998 (amending
our Form 8-K dated May 4, 1998), including, under Item 7, the audited financial
statements of Golden Creek Inn, Hillcrest Inn, Berkshire, Encino Hills Terrace,
Willow Glen Villa and Hillsdale Manor Retirement and Convalescent Home
(collectively the "Assisted Living Group"), as of March 31, 1998, as required by
this item for businesses acquired.
17
<PAGE> 18
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
ARV ASSISTED LIVING, INC.,
A Delaware Corporation
By: /s/ Howard G. Phanstiel
----------------------------------
Howard G. Phanstiel
Chief Executive Officer and
Chairman of the Board
(Duly authorized officer)
Date: November 13, 1998
By: /s/ Paul Kuliev
----------------------------------
Paul Kuliev
Vice President, Controller
(Duly authorized officer)
Date: November 13, 1998
18
<PAGE> 19
EXHIBIT INDEX
EXHIBIT
NUMBER DESCRIPTION
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15 Independent Accountants' Review Report dated November 13, 1998
27 Financial Data Schedule
<PAGE> 1
EXHIBIT 15
INDEPENDENT ACCOUNTANTS' REVIEW REPORT
The Stockholders and Board of Directors
ARV Assisted Living, Inc.:
We have reviewed the condensed consolidated balance sheet of ARV Assisted Living
and subsidiaries as of September 30, 1998, and the related condensed
consolidated statements of operations and cash flows for the three-month and
nine-month periods ended September 30, 1998 and 1997. These condensed
consolidated financial statements are the responsibility of the Company's
management.
We conducted our review in accordance with standards established by the American
Institute of Certified Public Accountants. A review of interim financial
information consists principally of applying analytical procedures to financial
data and making inquiries of persons responsible for financial and accounting
matters. It is substantially less in scope than an audit conducted in accordance
with generally accepted auditing standards, the objective of which is the
expression of an opinion regarding the financial statements taken as a whole.
Accordingly, we do not express such an opinion.
Based on our review, we are not aware of any material modifications that should
be made to the condensed consolidated financial statements referred to above for
them to be in conformity with generally accepted accounting principles.
We have previously audited, in accordance with generally accepted auditing
standards, the consolidated balance sheet of ARV Assisted Living, Inc. and
subsidiaries as of December 31, 1997, and the related consolidated statements of
operations, shareholders' equity and cash flows for the year then ended (not
presented herein); and in our report dated March 24, 1998, we expressed an
unqualified opinion on those consolidated financial statements. In our opinion,
the information set forth in the accompanying condensed consolidated balance
sheet as of December 31, 1997, is fairly stated, in all material respects, in
relation to the consolidated balance sheet from which it has been derived.
KPMG Peat Marwick LLP
Orange County, California
November 13, 1998
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<CURRENCY> U.S. DOLLARS
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JUL-01-1998
<PERIOD-END> SEP-30-1998
<EXCHANGE-RATE> 1
<CASH> 5,224
<SECURITIES> 0
<RECEIVABLES> 0
<ALLOWANCES> 0
<INVENTORY> 0
<CURRENT-ASSETS> 19,183
<PP&E> 193,765
<DEPRECIATION> 13,903
<TOTAL-ASSETS> 234,147
<CURRENT-LIABILITIES> 26,676
<BONDS> 0
0
0
<COMMON> 143,285
<OTHER-SE> (44,577)
<TOTAL-LIABILITY-AND-EQUITY> 234,147
<SALES> 0
<TOTAL-REVENUES> 34,886
<CGS> 0
<TOTAL-COSTS> 38,848
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<INTEREST-EXPENSE> 1,635
<INCOME-PRETAX> (5,597)
<INCOME-TAX> 11
<INCOME-CONTINUING> (5,608)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (5,608)
<EPS-PRIMARY> (0.35)
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