National Mentor (NMH) 10-Q 2014 Q2 Quarterly report

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended March 31, 2014

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: 333-129179

NATIONAL MENTOR HOLDINGS, INC.

(Exact name of registrant as specified in its charter)

Delaware	31-1757086
(State or other jurisdiction of incorporation or organization)	(I.R.S. Employer Identification No.)
313 Congress Street, 6th Floor Boston, Massachusetts 02210	(617) 790-4800
(Address of principal executive offices, including zip code)	(Registrant’s telephone number, including area code)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  ¨    No  x

The Company is a voluntary filer of reports required of companies with public securities under Sections 13 or 15(d) of the Securities Exchange Act of 1934 and has filed all reports which would have been required of the Company during the past 12 months had it been subject to such provisions.

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  x    No  ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

Large accelerated filer	¨	Accelerated filer	¨
Non-accelerated filer	x  (Do not check if smaller reporting company)	Smaller reporting company	¨

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ¨    No  x

As of May 14, 2014, there were 100 shares outstanding of the registrant’s common stock, $0.01 par value.

Index

National Mentor Holdings, Inc.

		Page
PART I. FINANCIAL INFORMATION			3
Item 1.	Financial Statements		3
	Condensed Consolidated Balance Sheets as of March 31, 2014 and September 30, 2013		3
	Condensed Consolidated Statements of Operations for the three and six months ended March 31, 2014 and 2013		4
	Condensed Consolidated Statements of Comprehensive Loss for the three and six months ended March 31, 2014 and 2013		5
	Condensed Consolidated Statements of Cash Flows for the six months ended March 31, 2014 and 2013		6
	Notes to Condensed Consolidated Financial Statements		7
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations		20
Item 3.	Quantitative and Qualitative Disclosures about Market Risk		32
Item 4.	Controls and Procedures		33
PART II. OTHER INFORMATION			33
Item 1.	Legal Proceedings		33
Item 1A.	Risk Factors		34
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds		45
Item 3.	Defaults Upon Senior Securities		45
Item 4.	Mine Safety Disclosures		45
Item 5.	Other Information		45
Item 6.	Exhibits		45
Signatures			46

2

PART I. FINANCIAL INFORMATION

Item 1. Financial Statements.

National Mentor Holdings, Inc.

Condensed Consolidated Balance Sheets

(In thousands)

(Unaudited)

	March 31, 2014			September 30, 2013
ASSETS
Current assets:
Cash and cash equivalents	$	19,920		$	19,315
Restricted cash		1,947			807
Accounts receivable, net		140,243			144,954
Deferred tax assets, net		17,878			18,424
Prepaid expenses and other current assets		19,448			17,771
Total current assets		199,436			201,271
Property and equipment, net		153,420			153,635
Intangible assets, net		325,862			336,191
Goodwill		238,409			235,623
Restricted cash		50,000			50,000
Other assets		38,924			43,652
Total assets	$	1,006,051		$	1,020,372
LIABILITIES AND SHAREHOLDER’S DEFICIT
Current liabilities:
Accounts payable	$	18,882		$	26,568
Accrued payroll and related costs		66,534			65,340
Other accrued liabilities		41,891			45,066
Obligations under capital lease, current		446			430
Current portion of long-term debt		6,000			5,600
Total current liabilities		133,753			143,004
Other long-term liabilities		62,830			68,936
Deferred tax liabilities, net		80,118			83,235
Obligations under capital lease, less current portion		6,289			6,509
Long-term debt, less current portion		799,312			779,519
Commitments and contingencies
SHAREHOLDER’S DEFICIT
Shareholder’s deficit:
Common stock		—			—
Additional paid-in capital		33,900			33,929
Accumulated other comprehensive loss		(1,061	)		(1,880	)
Accumulated deficit		(109,090	)		(92,880	)
Total shareholder’s deficit		(76,251	)		(60,831	)
Total liabilities and shareholder’s deficit	$	1,006,051		$	1,020,372

See accompanying notes.

3

National Mentor Holdings, Inc.

Condensed Consolidated Statements of Operations

(In thousands)

(Unaudited)

	Three Months Ended March 31,						Six Months Ended March 31,
	2014			2013			2014			2013
Net revenue	$	309,815		$	295,571		$	617,297		$	589,207
Cost of revenue (exclusive of depreciation expense shown below)		242,483			232,053			484,335			465,775
Operating expenses:
General and administrative		35,660			37,209			72,141			73,865
Depreciation and amortization		16,605			15,637			32,670			31,145
Total operating expenses		52,265			52,846			104,811			105,010
Income from operations		15,067			10,672			28,151			18,422
Other income (expense):
Management fee of related party		(354	)		(329	)		(699	)		(665	)
Other income, net		31			397			377			735
Extinguishment of debt		(14,699	)		—			(14,699	)		—
Interest income		108			71			137			76
Interest expense		(17,451	)		(19,342	)		(36,952	)		(38,947	)
Loss from continuing operations before income taxes		(17,298	)		(8,531	)		(23,685	)		(20,379	)
Benefit for income taxes		(5,779	)		(3,285	)		(7,453	)		(6,784	)
Loss from continuing operations		(11,519	)		(5,246	)		(16,232	)		(13,595	)
Gain (loss) from discontinued operations, net of tax		(1	)		(2,589	)		22			(2,614	)
Net loss	$	(11,520	)	$	(7,835	)	$	(16,210	)	$	(16,209	)

See accompanying notes.

4

National Mentor Holdings, Inc.

Condensed Consolidated Statements of Comprehensive Loss

(In thousands)

(Unaudited)

	Three Months Ended March 31,						Six Months Ended March 31,
	2014			2013			2014			2013
Net loss	$	(11,520	)	$	(7,835	)	$	(16,210	)	$	(16,209	)
Other comprehensive loss, net of tax:
Gain on derivative instrument net of tax for the three and six months ended March 31, 2014 of $236 and $546, respectively, and $227 and $448 for the three and six months ended March 31, 2013, respectively		353			343			819			608
Comprehensive loss	$	(11,167	)	$	(7,492	)	$	(15,391	)	$	(15,601	)

See accompanying notes.

5

National Mentor Holdings, Inc.

Condensed Consolidated Statements of Cash Flows

(In thousands)

(Unaudited)

	Six Months Ended March 31,
	2014			2013
Operating activities
Net loss	$	(16,210	)	$	(16,209	)
Adjustments to reconcile net loss to net cash provided by (used in) operating activities:
Accounts receivable allowances		7,919			7,418
Depreciation and amortization of property and equipment		13,639			12,472
Amortization of intangible assets		19,030			18,834
Amortization and write-off of original issue discount and initial purchasers discount		6,218			1,474
Amortization and write-off of financing costs		8,903			1,410
Stock-based compensation		58			233
Deferred income taxes		(2,881	)		(6,104	)
Loss on disposal of assets		(348	)		77
Non-cash impairment charge		—			4,158
Changes in operating assets and liabilities:
Accounts receivable		(3,208	)		(6,893	)
Other assets		5,072			(4,610	)
Accounts payable		(7,259	)		(5,813	)
Accrued payroll and related costs		1,194			(6,618	)
Other accrued liabilities		(1,638	)		(2,537	)
Other long-term liabilities		(6,106	)		9,648
Net cash provided by operating activities		24,383			6,940
Investing activities
Cash paid for acquisitions, net of cash received		(11,828	)		(475	)
Purchases of property and equipment		(14,358	)		(15,375	)
Changes in restricted cash		(1,140	)		331
Proceeds from sale of assets		787			788
Net cash used in investing activities		(26,539	)		(14,731	)
Financing activities
Repayments of long-term debt		(584,525	)		(2,725	)
Proceeds from borrowings under senior revolver		9,300			448,900
Repayments of borrowings under senior revolver		(9,300	)		(462,700	)
Issuance of debt		598,500			30,000
Repayments of capital lease obligations		(204	)		(205	)
Dividend to parent		(87	)		(26	)
Payments of financing costs		(10,923	)		(2,048	)
Net cash provided by financing activities		2,761			11,196
Net increase in cash and cash equivalents		605			3,405
Cash and cash equivalents at beginning of period		19,315			—
Cash and cash equivalents at end of period	$	19,920		$	3,405
Supplemental disclosure of cash flow information
Cash paid for interest	$	34,499		$	35,638
Cash paid for income taxes	$	483		$	471
Supplemental disclosure of non-cash investing activities:
Accrued property, plant and equipment	$	472		$	530

See accompanying notes.

6

National Mentor Holdings, Inc.

Notes to Condensed Consolidated Financial Statements

March 31, 2014

(Unaudited)

1. Basis of Presentation

National Mentor Holdings, Inc., through its wholly owned subsidiaries (collectively, the “Company”), is a leading provider of home and community-based health and human services to adults and children with intellectual and/or developmental disabilities, acquired brain injury and other catastrophic injuries and illnesses; and to youth with emotional, behavioral and/or medically complex challenges. Since the Company’s founding in 1980, the Company’s operations have grown to 36 states. The Company provides residential services to approximately 12,500 clients, some of whom also receive periodic services. Approximately 16,100 clients receive periodic services from the Company in non-residential settings.

The Company designs customized service plans to meet the unique needs of its clients, which it delivers in home- and community-based settings. Most of the Company’s service plans involve residential support, typically in small group homes, host home settings, or specialized community facilities, designed to improve the clients’ quality of life and to promote their independence and participation in community life. Other services offered include supported living, day and transitional programs, vocational services, case management, family-based and outpatient therapeutic services, post-acute treatment and neurorehabilitation, neurobehavioral rehabilitation and physical, occupational and speech therapies, among others. The Company’s customized service plans offer its clients as well as the payors of these services, an attractive, cost-effective alternative to health and human services provided in large, institutional settings.

The accompanying unaudited condensed consolidated financial statements have been prepared by the Company in accordance with generally accepted accounting principles (“GAAP”) for interim financial information and pursuant to the applicable rules and regulations of the Securities and Exchange Commission (“SEC”). Accordingly, they do not include all of the information and footnotes required by GAAP for complete financial statements. The unaudited condensed consolidated financial statements herein should be read in conjunction with the Company’s audited consolidated financial statements and notes thereto included in the Company’s Annual Report on Form 10-K for the fiscal year ended September 30, 2013, which is on file with the SEC. In the opinion of management, the accompanying unaudited condensed consolidated financial statements contain all adjustments, consisting of normal and recurring accruals, necessary to present fairly the financial statements in accordance with GAAP. Intercompany balances and transactions between the Company and its subsidiaries have been eliminated in consolidation. Operating results for the three and six months ended March 31, 2014 may not necessarily be indicative of results to be expected for any other interim period or for the full year.

The preparation of financial statements in conformity with GAAP requires management 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 revenue and expenses during the reporting period. Actual results could differ from those estimates.

2. Recent Accounting Pronouncements

Technical Corrections and Improvements —In October 2012, the FASB issued Accounting Standards Update No. 2012-04,Technical Corrections and Improvements (“ASU2012-04”). The amendments in this update cover a wide range of Topics in the Accounting Standards Codification. These amendments include technical corrections and improvements to the Accounting Standards Codification and conforming amendments related to fair value measurements. The amendments in this update were effective for the Company beginning the first quarter of the fiscal year ending September 30, 2014. This adoption did not have a material impact on the Company’s consolidated financial statements.

Technical Corrections and Improvements Related to Glossary Terms –In March 2014, the FASB issued Accounting Standards Update No. 2014-06,Technical Corrections and Improvements Related to Glossary Terms (“ASU 2014-06”).The amendments in this Update relate to glossary terms and cover a wide range of Topics in the Codification. The amendments in this Update were effective for the Company beginning the second quarter of the fiscal year ending September 30, 2014. This adoption did not have a material impact on the Company’s consolidated financial statements.

7

3. Long-Term Debt

As of March 31, 2014 and September 31, 2013, the Company’s long-term debt consisted of the following:

(in thousands)	March 31, 2014			September 30, 2013
Term loan principal and interest due in quarterly installments through January 31, 2021, subject to acceleration to November 15, 2017	$	600,000		$	—
Prior term loan, principal and interest repaid on January 31, 2014		—			546,525
Original issue discount on term loan, net of accumulated amortization		(1,432	)		(4,403	)
Senior notes, due February 15, 2018; semi-annual cash interest payments due each February 15th and August 15th (interest rate of 12.50%)		212,000			250,000
Original issue discount and initial purchase discount on senior notes, net of accumulated amortization		(5,256	)		(7,003	)
		805,312			785,119
Less current portion		6,000			5,600
Long-term debt	$	799,312		$	779,519

On January 31, 2014, the Company completed a refinancing transaction by entering into the senior secured credit facilities consisting of a term loan facility and a senior revolver. In connection with the refinancing transaction, the prior senior secured credit facilities were repaid and replaced with the senior secured credit facilities. The Company incurred $11.1 million of expenses related to the refinancing transaction including $7.2 million related to the write-off of deferred financing costs and $3.9 million related to the write-off of original issue discount related to the prior indebtedness. These expenses are recorded on the Company’s consolidated statement of operations as Extinguishment of debt.

On February 26, 2014, the Company redeemed $38.0 million aggregate principal amount of the outstanding senior notes, in accordance with the provisions of the indenture governing the senior notes. In connection with the partial redemption of the senior notes, the Company incurred $3.6 million of expenses including $2.4 million related to redemption premium, $1.0 million related to the write-off of original issue discount and initial purchase discount, and $0.2 million related to the write-off of deferred financing costs. These expenses are recorded on the Company’s consolidated statement of operations as Extinguishment of debt.

At September 30, 2013, the Company had $785.1 million of indebtedness, consisting of $546.5 million of indebtedness under the prior term loan and incremental term loan facilities and unamortized original issue discount of $4.4 million, $250.0 million aggregate principal amount of the 12.5% senior notes due 2018 (the “senior notes”) and unamortized original issue discount and initial purchase discount of $7.0 million. As of September 30, 2013, the Company did not have any borrowing under the prior senior revolving credit facility (the “prior senior revolver”).

Senior Secured Credit Facilities

On January 31, 2014, the Company and NMH Holdings, LLC (“Parent”) entered into a new senior credit agreement (the “senior credit agreement”) with Barclays Bank PLC, as administrative agent, and the other agents and lenders named therein, for the new senior secured credit facilities (the “senior secured credit facilities”), consisting of a $600.0 million term loan facility (the “term loan facility”), of which $50.0 million was deposited in a cash collateral account in support of issuance of letters of credit under an institutional letter of credit facility (the “institutional letter of credit facility”), and a $100.0 million senior secured revolving credit facility (the “senior revolver”). The term loan facility has a seven-year maturity and the senior revolver has a five-year maturity; provided, that if the Company’s senior notes due 2018 are not refinanced in full on or prior to the date that is three months prior to February 15, 2018, such maturity dates shall spring forward to November 15, 2017. The senior credit agreement provides that the Company may make one or more offers to the lenders, and consummate transactions with individual lenders that accept the terms contained in such offers, to extend the maturity date of the lender’s term loans and/or revolving commitments, subject to certain conditions, and any extended term loans or revolving commitments will constitute a separate class of term loans or revolving commitments.

8

All of the Company’s obligations under the senior secured credit facilities are guaranteed by Parent and the subsidiary guarantors named therein (the “Subsidiary Guarantors”). Pursuant to the Guarantee and Security Agreement, dated as of January 31, 2014 (the “guarantee and security agreement”), among Parent, as parent guarantor, the Company, certain subsidiaries of the Company, as subsidiary guarantors and Barclays Bank, PLC, as administrative agent, subject to certain exceptions, the obligations under the senior secured credit facilities are secured by a pledge of 100% of the Company’s capital stock and the capital stock of certain domestic subsidiaries and a security interest in substantially all of the Company’s tangible and intangible assets and the tangible and intangible assets of Parent and each Subsidiary Guarantor.

Borrowings under the senior secured credit facilities bear interest, at the Company’s option, at: (i) an ABR rate equal to the greater of (a) the prime rate of Barclays Bank PLC, (b) the federal funds rate plus 1/2 of 1.0%, and (c) the Eurodollar rate for an interest period of one-month beginning on such day plus 100 basis points, plus 2.75% (provided that the ABR rate applicable to the term loan facility will not be less than 2.00% per annum); or (ii) the Eurodollar rate (provided that the Eurodollar rate applicable to the term loan facility will not be less than 1.00% per annum), plus 3.75%. The Company is also required to pay a commitment fee to the lenders under the senior revolver at an initial rate of 0.50% of the average daily unutilized commitments thereunder. The Company must also pay customary letter of credit fees.

Term loan

As of March 31, 2014, the Company had $600 million of borrowings under the term loan. At March 31, 2014, the variable interest rate on the term loan was 4.75%.

The senior credit agreement requires us to make mandatory prepayments, subject to certain exceptions, with: (i) beginning in fiscal year 2015, 50% (which percentage will be reduced upon our achievement of certain first lien leverage ratios) of our annual excess cash flow (as defined in the senior credit agreement); (ii) 100% of net cash proceeds of all non-ordinary course assets sales or other dispositions of property, subject to certain exceptions and thresholds; and (iii) 100% of the net cash proceeds of any debt incurrence, other than debt permitted under the senior credit agreement. We are required to repay the term loan facility portion of the senior secured credit facilities in quarterly principal installments of 0.25% of the principal amount commencing on June 30, 2014, with the balance payable at maturity. The senior credit agreement permits us to offer to the lenders newly issued notes in exchange for their term loans in one or more permitted debt exchange offers, subject to the conditions set forth in the senior credit agreement. In addition, if, on or prior to July 31, 2014, we prepay or reprice any portion of the term loan facility, we will be required to pay a prepayment premium of 1% of the loans being prepaid or repriced.

Prior term loan

The prior term loan was issued at a price equal to 98.5% of its face value. The prior senior credit agreement also included an annual provision for the prepayment of a portion of the outstanding term loan amounts beginning in fiscal 2011 equal to an amount ranging from 0 to 50% of a calculated amount, depending on the Company’s leverage ratio, if the Company generated certain levels of cash flow. The Company was not required to make such a prepayment of its prior term loan. The Company was required to repay the prior term loan in quarterly principal installments of 0.25% of the original principal amount, with the balance payable at maturity.

Senior revolver

During the six months ended March 31, 2014, the Company drew $9.3 million under the senior revolver and repaid $9.3 million during the period. At March 31, 2014, the Company had no outstanding borrowings under the senior revolver and $100.0 million of availability under the senior revolver. The Company had $44.7 million of standby letters of credit issued under the institutional letter of credit facility primarily related to the Company’s workers’ compensation insurance coverage. The Company’s institutional letter of credit facility provided for the issuance of letters of credit up to the $50.0 million limit, and letters of credit in excess of that amount reduced availability under the Company’s senior revolver. The interest rate for borrowings under the senior revolver was 6.0% as of March 31, 2014.

The senior revolver includes borrowing capacity available for borrowings on same-day notice, referred to as the “swingline loans.” Any swingline loans or other borrowings under the senior revolver would have maturities less than one year, and would be reflected under Current portion of long-term debt on the Company’s consolidated balance sheets.

9

Prior senior revolver

The prior senior revolver provided for borrowings of up to $75.0 million.

Senior Notes

In February 2011, the Company issued $250.0 million of 12.5% senior notes due 2018 (the “senior notes”) at a price equal to 97.7% of their face value, for net proceeds of $244.3 million. The net proceeds were further reduced by an initial purchasers’ discount of $5.6 million. The senior notes are the Company’s unsecured obligations and are guaranteed by certain of the Company’s existing subsidiaries.

The Company redeemed $38 million aggregate principal amount of the outstanding senior notes on February 26, 2014, in accordance with the provisions of the indenture governing the senior notes. The redemption price of the senior notes was 106.250% of the principal amount redeemed, plus accrued and unpaid interest to, but not including, the redemption date.

Covenants

The senior credit agreement and indenture governing the senior notes contain negative covenants, including, among other things, limitations on the Company’s ability to incur additional debt, transfer or sell assets, pay dividends, redeem stock or make other distributions or investments, and engage in certain transactions with affiliates. The senior credit agreement contains a springing financial covenant that requires the Company to maintain a specified consolidated leverage ratio in the event the Company borrows in excess of 30% of its senior revolver commitment if, at the end of any fiscal quarter our usage of the senior revolver exceeds 30% of the commitments thereunder, we are required to maintain at the end of each such fiscal quarter, commencing with the quarter ending June 30, 2014, a consolidated first lien leverage ratio of not more than 5.50 to 1.00. This consolidated first lien leverage ratio will step down to 5.00 to 1.00 commencing with the fiscal quarter ending March 31, 2017. The springing financial covenant was not in effect as of March 31, 2014 as our usage of the senior revolver did not exceed the threshold for the quarter ended March 31, 2014.

The Company is restricted from paying dividends to Parent in excess of $15.0 million, except for dividends used for the repurchase of equity from former officers and employees and for the payment of management fees, taxes, and certain other exceptions.

Derivatives

The Company entered into an interest rate swap in a notional amount of $400.0 million effective March 31, 2011, maturing on September 30, 2014. The Company entered into this interest rate swap to hedge the risk of changes in the floating rate of interest on borrowings under the term loan.

On October 15, 2012, the Company amended the terms of its interest rate swap agreement in connection with the amendment and restatement of the terms of the old senior secured credit facilities. The notional amount of the interest rate swap of $400.0 million and maturity date of September 30, 2014 remained unchanged. Under the new terms of the interest rate swap, the Company receives from the counterparty a quarterly payment based on a rate equal to the greater of 3-month LIBOR and 1.25% per annum, and the Company makes payments to the counterparty based on a fixed rate of 2.08% per annum, in each case on the notional amount of $400.0 million, settled on a net payment basis. Based on the applicable margin of 5.25% under the Company’s prior term loan, this swap effectively fixed the Company’s cost of borrowing for $400.0 million of the old term loan at 7.3% per annum for the term of the swap. As a result of the modification of the terms of the interest rate swap agreement, the fair value of the interest rate swap was increased by $68 thousand and the increase in fair value is being amortized into Other income (expense) over the remaining term of the interest rate swap agreement.

Prior to the January 31, 2014 refinancing transaction, the Company accounted for the interest rate swap as a cash flow hedge and the effectiveness of the hedge relationship was assessed on a quarterly basis. The fair value of the swap agreement, representing the price that would be paid to transfer the liability in an orderly transaction between market participants, was recorded in current liabilities (under Other accrued liabilities) and was determined based on pricing models and independent formulas using current assumptions. The change in fair market value was recorded in the consolidated statements of comprehensive loss.

10

In conjunction with the January 31, 2014 refinancing transaction, the Company de-designated the interest rate swap agreement as a cash flow hedge. Subsequent to the January 31, 2014 refinancing transaction, prospective mark to market adjustments will be recognized in earnings and accumulated mark to market adjustments are being amortized and recognized in earnings over the term of the interest rate swap agreement which matures on September 30, 2014. For the three months and six months ending March 31, 2014, the Company recognized $0.6 million of interest expense, related to the amortization of the previously mark to market adjustments. As of March 31, 2014, the unamortized historical mark to market adjustments balance was $1.1 million net of tax effect of $0.7 million.

4. Shareholder’s Equity

Common Stock

The holders of the Company’s common stock are entitled to receive dividends when and as declared by the Company’s Board of Directors. In addition, the holders of common stock are entitled to one vote per share. All of the outstanding shares of common stock are held by Parent.

Dividends to Parent

During the second quarter of fiscal 2014 and 2013, our indirect parent NMH Investment, LLC repurchased equity units from employees upon or after their departures from the Company of $87 thousand and $26 thousand, respectively. The Company accounted for these repurchases as dividends of $87 thousand and $26 thousand, respectively, to its indirect parent NMH Investment, LLC to fund these repurchases.

5. Business Combinations

The operating results of the businesses acquired are included in the consolidated statements of operations from the date of acquisition. The Company accounted for the acquisitions under the purchase method of accounting and, as a result, the purchase price was allocated to the assets acquired and liabilities assumed based upon their respective fair values. The excess of the purchase price over the estimated fair value of net tangible assets was allocated to specifically identified intangible assets, with the residual being allocated to goodwill.

During the six months ended March 31, 2014, the Company acquired four companies complementary to its business for a total cash consideration of $11.8 million.

Show-Me Health Care. On November 29, 2013, the Company acquired the assets of Show-Me Health Care for $1.2 million. Show-Me Health Care is located in Missouri and provides community-based supportive living services to individuals with developmental disabilities. As a result of this acquisition, the Company recorded $0.3 million of goodwill in the Human Services segment, which is expected to be deductible for tax purposes. The Company acquired $0.9 million of intangible assets which included $0.7 million of agency contracts with a weighted average useful life of 12 years, $0.2 million of licenses and permits with a weighted average useful life of 10 years, and $14 thousand of non-compete/non-solicit agreement with a useful life of 5 years.

Occazio, Inc. (“Occazio”). On January 2, 2014, the Company acquired the assets of Occazio for $5.5 million. Occazio is located in Indiana and provides residential, home care and home health care services to consumers with intellectual and/or developmental disabilities. As a result of this acquisition, the Company recorded $1.4 million of goodwill in the Human Services segment, which is expected to be deductible for tax purposes. The Company acquired $3.9 million of intangible assets which included $2.9 million of agency contracts with a weighted average useful life of 12 years, $0.7 million of licenses and permits with a weighted average useful life of 10 years, $0.2 million trade name with a useful life of 5 years, and $24 thousand of non-compete/non-solicit agreement with a useful life of 5 years. The remaining purchase price was allocated to tangible assets.

Momentum Rehabilitation Services, Inc., D/B/A Ann Arbor Rehabilitation Centers (“Ann Arbor”). On February 7, 2014, the Company acquired the assets of Ann Arbor for $4.8 million. Ann Arbor is located in Michigan and provides comprehensive on and off-campus residential housing and personalized daily services to adults with traumatic brain injury. As a result of this acquisition, the Company recorded $1.0 million of goodwill in the Post-Acute Specialty Rehabilitation Services segment, which is expected to be deductible for tax purposes. The Company acquired $3.8 million of intangible assets which included $3.7 million of agency contracts with a weighted average useful life of 12 years, $0.1 million trade name with a useful life of 5 years, and $33 thousand of non-compete/non-solicit agreement with a useful life of 5 years.

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Rose View Group Home, LLC (“Rose View”). On December 3, 2013, the Company acquired the assets of Rose View for $0.2 million. Rose View is located in Ohio and provides group home and related services to individuals with developmental disabilities.

The following table summarizes the recognized amounts of identifiable assets acquired assumed at the date of the acquisition:

(in thousands)	Show-Me Health Care		Occazio		Ann Arbor		Rose View		Total
Identifiable intangible assets	$	895	$	3,863	$	3,800	$	143	$	8,701
Property and equipment		9		216		50		—		275
Total identifiable net assets	$	904	$	4,079	$	3,850	$	143	$	8,976
Goodwill	$	336	$	1,421	$	972	$	57	$	2,786

6. Goodwill and Intangible Assets

Goodwill

The changes in goodwill for the six months ended March 31, 2014 are as follows:

	Human Services		Post -Acute Specialty Rehabilitation Services		Total
	(in thousands)
Balance as of September 30, 2013	$	169,622	$	66,001	$	235,623
Goodwill acquired through acquisitions		1,814		972		2,786
Balance as of March 31, 2014	$	171,436	$	66,973	$	238,409

Intangible Assets

Intangible assets consist of the following as of March 31, 2014:

Description	Gross Carrying Value		Accumulated Amortization		Intangible Assets, Net
(in thousands)
Agency contracts	$	471,854	$	211,134	$	260,720
Non-compete/non-solicit		5,006		2,529		2,477
Relationship with contracted caregivers		10,963		8,454		2,509
Trade names		4,067		2,655		1,412
Trade names (indefinite life)		42,400		—		42,400
Licenses and permits		46,730		30,668		16,062
Intellectual property		904		622		282
	$	581,924	$	256,062	$	325,862

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Intangible assets consist of the following as of September 30, 2013:

Description	Gross Carrying Value		Accumulated Amortization		Intangible Assets, Net
(in thousands)
Agency contracts	$	464,480	$	195,737	$	268,743
Non-compete/non-solicit		4,929		2,058		2,871
Relationship with contracted caregivers		10,963		7,905		3,058
Trade names		3,787		2,431		1,356
Trade names (indefinite life)		42,400		—		42,400
Licenses and permits		45,760		28,343		17,417
Intellectual property		904		558		346
	$	573,223	$	237,032	$	336,191

Amortization expense for continuing operations was $9.6 million and $19.0 million for the three and six months ended March 31, 2014, as compared to $9.3 million and $18.7 million for the three and six months ended March 31, 2013, respectively. There was no amortization expense for discontinued operations for the three and six months ended March 31, 2014, as compared to $0.1 million and $0.2 million for the three and six months ended March 31, 2013.

The estimated remaining amortization expense related to intangible assets with finite lives for the six months remaining in fiscal 2014 and each of the four succeeding years and thereafter is as follows:

(in thousands)
2014	$	18,623
2015		36,168
2016		34,266
2017		30,069
2018		29,139
Thereafter		135,197
	$	283,462

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7. Related Party Transactions

Management Agreement

On February 9, 2011, the Company entered into an amended and restated management agreement with Vestar Capital Partners V, L.P. (“Vestar”) relating to certain advisory and consulting services for an annual management fee equal to the greater of (i) $850 thousand or (ii) an amount equal to 1.0% of the Company’s consolidated earnings before interest, taxes, depreciation, amortization and management fee for each fiscal year determined as set forth in the Company’s senior credit agreement.

As part of the management agreement, the Company agreed to indemnify Vestar and its affiliates from and against all losses, claims, damages and liabilities arising out of the performance by Vestar of its services pursuant to the management agreement. The management agreement will terminate upon such time that Vestar and its partners and their respective affiliates hold, directly or indirectly in the aggregate, less than 20% of the voting power of the outstanding voting stock of the Company.

This agreement provides for the payment of reasonable and customary fees to Vestar for services in connection with a sale of the Company, an initial public offering by or involving NMH Investment, LLC (“NMH Investment”) or any of its subsidiaries or any extraordinary acquisition by or involving NMH Investment or any of its subsidiaries; provided, that such fees shall only be paid with the consent of the directors of the Company who are not affiliated with or employed by Vestar. The Company recorded $0.4 million and $0.7 million of management fees and expenses for the three and six months ended March 31, 2014, as compared to $0.3 million and $0.7 million in March 31, 2013, respectively. The accrued liability related to the management agreement was $0.2 million and $0.5 million at March 31, 2014 and September 30, 2013, respectively.

Lease Agreements

The Company leases several offices, homes and other facilities from its employees, or from relatives of employees, primarily in the states of Minnesota, Florida, and California. These leases have various expiration dates extending out as far as January 2019. Related party lease expense was $0.3 million and $0.7 million for the three and six months ended March 31, 2014, as compared to $0.4 million and $0.8 million for the three and six months ended March 31, 2013, respectively.

8. Fair Value Measurements

The Company measures and reports its financial assets and liabilities on the basis of fair value. Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date.

A three-level hierarchy for disclosure has been established to show the extent and level of judgment used to estimate fair value measurements, as follows:

Level 1:Quoted market prices in active markets for identical assets or liabilities.

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Level 2:Significant other observable inputs (quoted prices in active markets for similar assets or liabilities, quoted prices for identical or similar assets or liabilities in markets that are not active, or inputs other than quoted prices that are observable for the asset or liability).

Level 3:Significant unobservable inputs for the asset or liability. These values are generally determined using pricing models which utilize management estimates of market participant assumptions.

Valuation techniques for assets and liabilities measured using Level 3 inputs may include methodologies such as the market approach, the income approach or the cost approach, and may use unobservable inputs such as projections, estimates and management’s interpretation of current market data. These unobservable inputs are only utilized to the extent that observable inputs are not available or cost-effective to obtain.

A description of the valuation methodologies used for instruments measured at fair value as well as the general classification of such instruments pursuant to the valuation hierarchy, is set forth below.

Assets and liabilities recorded at fair value at March 31, 2014 consist of:

(in thousands)	Total			Quoted Market Prices (Level 1)		Significant Other Observable Inputs (Level 2)			Significant Unobservable Inputs (Level 3)
Interest rate swap agreements	$	(1,627	)	$	—	$	(1,627	)	$	—

Assets and liabilities recorded at fair value at September 30, 2013 consist of:

(in thousands)	Total			Quoted Market Prices (Level 1)		Significant Other Observable Inputs (Level 2)			Significant Unobservable Inputs (Level 3)
Interest rate swap agreements	$	(3,165	)	$	—	$	(3,165	)	$	—

Interest rate swap agreements.The fair value of the swap agreements was recorded in current liabilities (under Other accrued liabilities) in the Company’s consolidated balance sheets. The fair value of these agreements was determined based on pricing models and independent formulas using current assumptions that included swap terms, interest rates and forward LIBOR curves and the Company’s credit risk.

At March 31, 2014 and September 30, 2013, the carrying values of cash, accounts receivable, accounts payable and variable rate debt approximated fair value. The carrying value and fair value of the Company’s fixed rate debt instruments are set forth below:

	March 31, 2014				September 30, 2013
(in thousands)	Carrying Amount		Fair Value		Carrying Amount		Fair Value
Senior notes (issued February 9, 2011)	$	206,744	$	226,840	$	242,997	$	268,750

The fair values were estimated using calculations based on quoted market prices when available and company –specific credit risk. If the Company’s long-term debt was measured at fair value, it would have been categorized as Level 2 in the fair value hierarchy.

9. Income Taxes

The Company’s effective income tax rate for the interim periods was based on management’s estimate of the Company’s annual effective tax rate for the applicable year. For the three and six months ended March 31, 2014, the Company’s effective income tax rate was 33.4% and 31.5%, as compared to an effective tax rate of 38.5% and 33.3% for the three and six months ended March 31, 2013. These rates differ from the federal statutory income tax rate primarily due to nondeductible permanent differences such as meals and nondeductible compensation, and net operating losses not benefited.

NMH Holdings, Inc. files a federal consolidated return and files various state income tax returns. The Company files various state income tax returns and, generally, is no longer subject to income tax examinations by the taxing authorities for years

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prior to September 30, 2010. The Company did not have a reserve for uncertain income tax positions at March 31, 2014 and September 30, 2013. The Company does not expect any significant changes to unrecognized tax benefits within the next twelve months. The Company’s policy is to recognize interest and penalties related to unrecognized tax benefits as charges to income tax expense.

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10. Segment Information

The Company has two reportable segments, Human Services and Post-Acute Specialty Rehabilitation Services (“SRS”).

The Human Services segment delivers home and community-based human services to adults and children with intellectual and/or developmental disabilities and to youth with emotional, behavioral and/or medically complex challenges. Human Services is organized in a reporting structure composed of two operating segments which are aggregated into one reportable segment based on similarity of the economic characteristics and services provided.

The SRS segment delivers health care and community-based health and human services to individuals who have suffered acquired brain and/or spinal injuries and other catastrophic injuries and illnesses. This segment is organized in a reporting structure composed of two operating segments which are aggregated based on similarity of economic characteristics and services provided.

Activities classified as “Corporate” in the table below relate primarily to unallocated home office items.

The Company generally evaluates the performance of its operating segments based on income (loss) from operations. The following is a financial summary by reportable operating segment for the periods indicated.

For the three months ended March 31,	Human Services			Post-Acute Specialty Rehabilitation Services			Corporate			Consolidated
	(in thousands)
2014
Net revenue	$	254,627		$	55,188		$	—		$	309,815
Income (loss) from operations		24,564			3,602			(13,099	)		15,067
Total assets		656,084			200,503			149,464			1,006,051
Depreciation and amortization		11,346			4,650		��	609			16,605
Purchases of property and equipment		3,335			4,228			772			8,335
Income (loss) from continuing operations before income taxes		(184	)		(1,583	)		(15,531	)		(17,298	)
2013
Net revenue	$	244,086		$	51,485		$	—		$	295,571
Income (loss) from operations		20,258			3,596			(13,182	)		10,672
Depreciation and amortization		11,248			3,840			549			15,637
Purchases of property and equipment		3,111			1,687			2,350			7,148
Income (loss) from continuing operations before income taxes		4,134			327			(12,992	)		(8,531	)

For the six months ended March 31,	Human Services		Post-Acute Specialty Rehabilitation Services			Corporate			Consolidated
	(in thousands)
2014
Net revenue	$	506,617	$	110,680		$	—		$	617,297
Income (loss) from operations		46,654		7,902			(26,405	)		28,151
Total assets		656,084		200,503			149,464			1,006,051
Depreciation and amortization		22,390		9,023			1,257			32,670
Purchases of property and equipment		6,395		6,455			1,508			14,358
Income (loss) from continuing operations before income taxes		5,709		(730	)		(28,664	)		(23,685	)
2013
Net revenue	$	486,512	$	102,695		$	—		$	589,207
Income (loss) from operations		40,114		8,030			(29,722	)		18,422
Depreciation and amortization		22,304		7,689			1,152			31,145
Purchases of property and equipment		8,532		3,957			2,886			15,375
Income (loss) from continuing operations before income taxes		7,417		1,412			(29,208	)		(20,379	)

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Revenue derived from contracts with state and local governmental payors in the state of Minnesota, the Company’s largest state, which is included in the Human Services segment, accounted for approximately 14% of the Company’s revenue for the three and six months ended March 31, 2014, as compared to 14% for the three and six months ended March 31, 2013.

11. Accruals for Self-Insurance

The Company maintains insurance for professional and general liability, workers’ compensation liability, automobile liability and health insurance liabilities that includes self-insured retentions. The Company intends to maintain such coverage in the future and is of the opinion that its insurance coverage is adequate to cover potential losses on asserted claims. Employment practices liability is fully self-insured.

The Company records expenses related to claims on an incurred basis, which includes estimates of fully developed losses for both reported and unreported claims. The accruals for the health, workers’ compensation, automobile, and professional and general liability programs are based on analyses performed by management and take into account reports by independent third parties. Accruals are periodically reevaluated and increased or decreased based on new information.

For professional and general liability, from October 1, 2011 to September 30, 2013, the Company was self-insured for the first $4.0 million of each and every claim with no aggregate limit. Commencing October 1, 2013, the Company is self-insured for $4.0 million per claim and $28.0 million in the aggregate. In connection with the acquisition by Vestar on June 29, 2006 (the “Merger”), the Company purchased additional insurance for certain claims relating to pre-Merger periods subject to $1.0 million per claim and up to $2.0 million in aggregate retentions.

For workers’ compensation, the Company has a $350 thousand per claim retention with statutory limits. Automobile liability has a $100 thousand per claim retention, with additional insurance coverage above the retention. The Company purchases specific stop loss insurance as protection against extraordinary claims liability for health insurance claims. Stop loss insurance covers claims that exceed $300 thousand on a per member basis.

The Company reports its self-insurance liabilities on a gross basis without giving effect to insurance recoveries. Anticipated insurance recoveries are presented in Prepaid expenses and other current assets and Other assets on the Company’s consolidated balance sheets. Self-insured liabilities are presented in Accrued payroll and related costs, Other accrued liabilities and Other long-term liabilities on its consolidated balance sheets.

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12. Other Commitments and Contingencies

The Company is in the health and human services business and, therefore, has been and continues to be subject to substantial claims alleging that the Company, its employees or its independently contracted host-home caregivers (“Mentors”) failed to provide proper care for a client. The Company is also subject to claims by its clients, its employees, its Mentors or community members against the Company for negligence, intentional misconduct or violation of applicable laws. Included in the Company’s recent claims are claims alleging personal injury, assault, abuse, wrongful death and other charges. Regulatory agencies may initiate administrative proceedings alleging that the Company’s programs, employees or agents violate statutes and regulations and seek to impose monetary penalties on the Company. The Company could be required to incur significant costs to respond to regulatory investigations or defend against civil lawsuits and, if the Company does not prevail, the Company could be required to pay substantial amounts of money in damages, settlement amounts or penalties arising from these legal proceedings.

The Company is also subject to potential lawsuits under the False Claims Act and other federal and state whistleblower statutes designed to combat fraud and abuse in the health care industry. These lawsuits can involve significant monetary awards that may incentivize private plaintiffs to bring these suits. If the Company is found to have violated the False Claims Act, it could be excluded from participation in Medicaid and other federal healthcare programs. The Patient Protection and Affordable Care Act provides a mandate for more vigorous and widespread enforcement activity to combat fraud and abuse in the health care industry.

The Company is also subject to employee-related claims under state and federal law, including claims for discrimination, wrongful discharge or retaliation; claims for wage and hour violations under the Fair Labor Standards Act or state wage and hour laws.

Two subsidiaries are named defendants in an action currently pending in the Illinois Circuit Court, Cook County, Law Division. The action was brought September 10, 2009, on behalf of a minor with disabilities by her guardian ad litem and biological parents who seek damages for injuries suffered by the minor during a foster home placement coordinated by the Company. The plaintiffs assert several claims against the Company including negligence and willful and wanton misconduct. In late 2013, the plaintiffs were granted leave to file an amended complaint seeking relief for punitive damages against the Company. Although substantial insurance cover is available, in the event the case is not settled within policy limits and proceeds to trial (currently scheduled for October 2014) an unfavorable outcome could be material to the results of operations, financial condition and cash flows of the Company.

The Company reserves for costs related to contingencies in accordance with aggregate estimates, or when a loss is not included in its estimates and the loss is probable and the amount is reasonably estimable. While the Company believes the provision for legal contingencies is adequate, the outcome of the legal proceedings is difficult to predict and the Company may settle legal claims or be subject to judgments for amounts that differ from the Company’s estimates.

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13. Subsequent Events

Acquisitions

Subsequent to the three months ended March 31, 2014, the Company acquired Tender Loving Care Metro, LLC which is complementary to its Human Service business. Aggregate cash consideration for this acquisition was $3.0 million. The Company is in the process of completing the allocation of the purchase prices to the fair value of net assets acquired.

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations.

The following discussion of our financial condition and results of operations should be read in conjunction with our Annual Report on Form 10-K for the fiscal year ended September 30, 2013, as well as our reports on Form 8-K and other publicly available information. This discussion may contain forward-looking statements about our markets, the demand for our services and our future results. We based these statements on assumptions that we consider reasonable. Actual results may differ materially from those suggested by our forward-looking statements for various reasons, including those discussed in the “Risk Factors” and “Forward-Looking Statements” sections of this report.

Overview

We are a leading provider of home and community-based health and human services to adults and children with intellectual and/or developmental disabilities (“I/DD”), acquired brain injury (“ABI”) and other catastrophic injuries and illnesses, and to youth with emotional, behavioral and/or medically complex challenges, or at-risk youth (“ARY”). Since our founding in 1980, our operations have grown to 36 states. We provide services to approximately 12,500 clients in residential settings, some of whom also receive periodic services. Approximately 16,100 clients receive periodic services from us in non-residential settings.

We design customized service plans to meet the unique needs of our clients, which we deliver in home and community-based settings. Most of our service plans involve residential support, typically in small group homes, host home settings or specialized community facilities, designed to improve our clients’ quality of life and to promote client independence and participation in community life. Other services offered include supported living, day and transitional programs, vocational services, case management, family-based and outpatient therapeutic services, post-acute treatment and neurorehabilitation, neurobehavioral rehabilitation and physical, occupational and speech therapies, among others. Our customized service plans offer our clients, as well as the payors for these services, an attractive, cost-effective alternative to health and human services provided in large, institutional settings.

We offer our services through a variety of models, including (i) small group homes, most of which are residences for six people or fewer, (ii) host homes, or the “Mentor” model, in which a client lives in the home of a trained Mentor, (iii) in-home settings, in which we support clients’ independence with 24-hour services in their own homes, (iv) small, specialized community facilities which provide post-acute, specialized rehabilitation and comprehensive care for individuals who have suffered ABI, spinal injuries and other catastrophic injuries and illnesses and (v) non-residential settings, consisting primarily of day programs and periodic services in various settings.

We have two reportable segments, Human Services and Post-Acute Specialty Rehabilitation Services (“SRS”). The Human Services segment provides home and community-based human services to adults and children with intellectual and/or developmental disabilities and to youth with emotional, behavioral and/or medically complex challenges. The SRS segment provides a mix of health care and community-based health and human services to individuals who have suffered ABI, spinal injuries and other catastrophic injuries and illnesses.

Delivery of services to adults and children with I/DD is the largest portion of our Human Services segment. Our I/DD programs include residential support, day habilitation, vocational services, case management and personal care. Our Human Services segment also includes the delivery of ARY services. Our ARY programs include therapeutic foster care, family reunification, family preservation, and early intervention and adoption services. Our SRS segment delivers healthcare and community-based human services to individuals who have suffered ABI, spinal injuries and other catastrophic injuries and illnesses. Our services range from sub-acute healthcare for individuals with intensive medical needs to day treatment programs, and include skilled nursing, neurorehabilitation, neurobehavioral rehabilitation, physical, occupational, and speech therapy, supported living, outpatient treatment and pre-vocational services.

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Factors Affecting our Operating Results

Demand for Home and Community-Based Health and Human Services

Our growth in revenue has historically been related to increases in the number of individuals served as well as increases in the rates we receive for our services. This growth has depended largely upon development-driven activities, including the maintenance and expansion of existing contracts and the award of new contracts, our new start program and upon acquisitions. We also attribute the long-term growth in our client base to certain trends that are increasing demand in our industry, including demographic, health-care and political developments.

Demographic trends have a particular impact on our I/DD business. Increases in the life expectancy of individuals with I/DD, we believe, have resulted in steady increases in the demand for I/DD services. In addition, caregivers currently caring for their relatives at home are aging and many may soon be unable to continue with these responsibilities. Many states continue to downsize or close large, publicly run facilities for individuals with I/DD and refer those individuals to private providers of community-based services. Each of these factors affects the size of the I/DD population in need of services. And while our residential ARY services were negatively impacted by a substantial decline in the number of children and adolescents in foster care placements during the last decade, this trend has contributed to significant increased demand for periodic, non-residential services to support at-risk youth and their families. It is also noteworthy that in recent years the general foster care population across the country has stabilized. Demand for our SRS services has also grown as faster emergency response and improved medical techniques have resulted in more people surviving a catastrophic injury. SRS services are increasingly sought out as a clinically-appropriate and less-expensive alternative to institutional care and as a “step-down” for individuals who no longer require care in acute settings.

Political and economic trends can also affect our operations. In particular, state budgetary pressures, especially within Medicaid programs, may influence the overall level of payments for our services, the number of clients and the preferred settings for many of the services we provide. For example, during the economic downturn that began in 2008, our government payors in several states responded to deteriorating revenue collections by implementing provider rate reductions. More recently, the rate environment has improved and, as a result, for state fiscal year 2014, which began in most states on July 1, 2013, we have received modest pricing increases in some jurisdictions.

Historically, pressure from client advocacy groups for the populations we serve has generally helped our business, as these groups generally seek to pressure governments to fund residential services that use our small group home or host home models, rather than large, institutional models. In addition, our ARY services have historically been positively affected by the trend toward privatization of these services. Furthermore, we believe that successful lobbying by these groups has preserved I/DD and ARY services and, therefore, our revenue base, from significant cutbacks as compared with certain other human services, although we did suffer rate reductions during and after the recession that began in 2008. In addition, a number of states have developed community-based waiver programs to support long-term care services for survivors of a traumatic brain injury. The majority of our specialty rehabilitation services revenue is derived from non-public payors, such as commercial insurers, managed care and other private payors.

Expansion

We have grown our business through expansion of existing markets and programs, entry into new geographical markets as well as through acquisitions.

Organic Growth

Various economic, fiscal, public policy and legal factors are contributing to an environment with an increased number of organic growth opportunities, particularly within the Human Services segment, and, as a result, we have a renewed emphasis on growing our business organically and making investments to support the effort. Our future growth will depend heavily on our ability to expand our current programs and identify and execute upon new opportunities. Our organic expansion activities consist of both new program starts in existing markets and expansion into new geographical markets. Our new programs in new and existing geographic markets typically require us to incur and fund operating losses for a period of approximately 18 to 24 months (we refer to such new programs as “new starts”). If a new start does not become profitable during such period, we may terminate it. During the twelve months ended March 31, 2014, operating losses on new starts for programs started within the previous 18 months were $6.4 million, as compared to $10.9 during the twelve months ended March 31, 2013. During the three and six months ended March 31, 2014, operating losses on new starts for programs started within the previous 18 months were $1.5 million and $2.9 million, as compared to $3.1 million and $5.7 million during the three and six months ended March 31, 2013, respectively. The losses in both periods reflect a substantial increase in both the number of new starts and the substantial investments we are making in some of these new starts, as compared to our historical norm.

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Acquisitions

As of March 31, 2014, we have completed 33 acquisitions since the beginning of fiscal year 2009 including several acquisitions of rights to government contracts or fixed assets from small providers, which we have integrated with our existing operations. We have pursued larger strategic acquisitions in the past and may opportunistically continue to do so in the future. Acquisitions could have a material impact on our consolidated financial statements.

During the six months ended March 31, 2014, we acquired four companies complementary to our business, for a total cash consideration of $11.8 million.

Divestitures

We regularly review and consider the divestiture of underperforming or non-strategic businesses to improve our operating results and better utilize our capital. We have made divestitures from time to time and expect that we may make additional divestitures in the future. Divestitures could have a material impact on our consolidated financial statements.

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Net revenue

Revenue is reported net of allowances for unauthorized sales and estimated sales adjustments. Revenue is also reported net of any state provider taxes or gross receipts taxes levied on services we provide. During both the three and six months ended March 31, 2014, we derived approximately 90% of our net revenue from contracts with state, local and other government payors and approximately 10% of our revenue from non-public payors. Substantially all of our non-public revenue is generated by our SRS business through contracts with commercial insurers, workers’ compensation carriers and other private payors. The payment terms and rates of our contracts vary widely by jurisdiction and service type, and may be based on per person per diems, rates established by the jurisdiction, cost-based reimbursement, hourly rates and/or units of service. We bill most of our residential services on a per diem basis, and we bill most of our non-residential services on an hourly basis. Some of our revenue is billed pursuant to cost-based reimbursement contracts, under which the billed rate is tied to the underlying costs. Lower than expected cost levels may require us to return previously received payments after cost reports are filed. In such instances, we estimate and record a liability from such excess payments. In addition, our revenue may be affected by adjustments to our billed rates as well as adjustments to previously billed amounts. Revenue in the future may be affected by changes in rates, rate-setting structures, methodologies or interpretations that may be proposed in states where we operate or by the federal government which provides matching funds. We cannot determine the impact of such changes or the effect of any possible governmental actions.

Occasionally, timing of payment streams may be affected by delays by the state related to bill processing systems, staffing or other factors. While these delays have historically impacted our cash position in particular periods, they have not resulted in long-term collections problems.

Expenses

Expenses directly related to providing services are classified as Cost of revenue. Direct costs and expenses principally include salaries and benefits for service provider employees; per diem payments to our Mentors; residential occupancy expenses, which are primarily comprised of rent and utilities related to facilities providing direct care; certain client expenses such as food, medicine and transportation costs for clients requiring services; and professional and general liability expense. General and administrative expenses primarily include salaries and benefits for administrative employees, or employees that are not directly providing services, administrative occupancy costs as well as professional expenses such as accounting, consulting and legal services. Depreciation and amortization includes depreciation for fixed assets utilized in both facilities providing direct care and administrative offices, and amortization related to intangible assets.

Wages and benefits to our employees and per diem payments to our Mentors constitute the most significant operating cost in each of our operations. Most of our employee caregivers are paid on an hourly basis, with hours of work generally tied to client need. Our Mentors are paid on a per diem basis, but only if the Mentor is currently caring for a client. Our labor costs are generally influenced by levels of service and these costs can vary in material respects across regions.

Occupancy costs represent a significant portion of our operating costs. As of March 31, 2014, we owned 379 facilities and three offices, and we leased approximately 1,296 facilities and approximately 267 offices. We expect occupancy costs to increase during fiscal 2014 as a result of new leases entered into pursuant to acquisitions and new starts. We incur no facility costs for services provided in the home of a Mentor.

Professional and general liability expense totaled 0.9% of our net revenue for both the three and six months ended March 31, 2014, as compared to 1.0% and 1.4% for the three and six months ended March 31, 2013, respectively. We incurred professional and general liability expenses of $2.7 million and $5.3 million for the three and six months ended March 31, 2014, as compared to $2.9 million and $8.1 million for the three and six months ended March 31, 2013, respectively. These expenses are incurred in connection with our claims reserve and insurance premiums. The expense for the six months ended March 31, 2013 included an expense of $2.4 million related to an adjustment to our tail reserve for professional and general liability claims which is required by accounting standards for companies with claims-made insurance (the “PL/GL Tail Reserve”). For claims arising from occurrences between October 1, 2010 and September 30, 2011, we were self-insured for $2.0 million per claim and $8.0 million in the aggregate, and for $500 thousand per claim in excess of the aggregate. From October 1, 2011 to September 30, 2013, we were self-insured for the first $4.0 million of each and every claim without an aggregate limit. Beginning October 1, 2013, we are self-insured for $4.0 million per claim and $28.0 million in the aggregate. Increased costs of insurance and claims have negatively impacted our results of operations and have resulted in a renewed emphasis on reducing our claims exposure. Although insurance premiums did not increase in fiscal 2013 and 2014, they have increased in prior years and may increase in the future.

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Results of Operations

The following table sets forth income (loss) from operations as a percentage of net revenue (operating margin) for the periods indicated:

For the three months ended March 31,	Human Services			Post Acute Specialty Rehabilitation Services			Corporate			Consolidated
(in thousands)
2014
Net revenue	$	254,627		$	55,188		$	—		$	309,815
Income (loss) from operations		24,564			3,602			(13,099	)		15,067
Operating margin		9.6	%		6.5	%					4.9	%
2013
Net revenue	$	244,086		$	51,485		$	—		$	295,571
Income (loss) from operations		20,258			3,596			(13,182	)		10,672
Operating margin		8.3	%		7.0	%					3.6	%

For the six months ended March 31,	Human Services			Post Acute Specialty Rehabilitation Services			Corporate			Consolidated
(in thousands)
2014
Net revenue	$	506,617		$	110,680		$	—		$	617,297
Income (loss) from operations		46,654			7,902			(26,405	)		28,151
Operating margin		9.2	%		7.1	%					4.6	%
2013
Net revenue	$	486,512		$	102,695		$	—		$	589,207
Income (loss) from operations		40,114			8,030			(29,722	)		18,422
Operating margin		8.2	%		7.8	%					3.1	%

Three months ended March 31, 2014 compared to three months ended March 31, 2013

Consolidated revenue for the three months ended March 31, 2014 increased by $14.2 million, or 4.8%, compared to revenue for the three months ended March 31, 2013. Revenue increased $7.0 million from organic growth, including growth related to new programs, and $7.2 million from acquisitions that closed during and after the three months ended March 31, 2013.

Consolidated income from operations increased from $10.7 million, or 3.6% of revenue, for the three months ended March 31, 2013, to $15.1 million, or 4.9% of revenue, for the three months ended March 31, 2014. The increase in our operating margin is primarily due to the increase in revenue noted above partially offset by the increase in other direct costs.

Cost of revenue for the three months ended March 31, 2014 increased by $10.4 million as compared to the three months ended March 31, 2013 due to the increase in direct labor costs of $5.5 million and the increase in other direct costs of $4.9 million.

Direct labor costs increased by $6.5 million primarily due to increased staffing in connection with new programs and acquisitions, as well as a new compensation program for our direct care workers. The increase in direct labor costs is partially offset by favorable experience for estimated health insurance claims of $1.0 million. Other direct costs for the three months ended March 31, 2014 increased as compared to the three months ended March 31, 2013 primarily due to an increase in occupancy expense of $2.6 million, employment practices liability expense of $0.9 million, travel and transportation expense of $0.8 million, and $0.6 million of client related costs. The increase in occupancy expense is attributable primarily to new programs and acquisitions that have closed during and after the three months ended March 31, 2013. The increase in employment practices liability expense is primarily related to a change in reserves reflecting the development of prior period claims.

General and administrative expenses for the three months ended March 31, 2014 decreased by $1.5 million as compared to the three months ended March 31, 2013 primarily due to a decrease in staffing costs.

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Depreciation and amortization for the three months ended March 31, 2014 increased by $1.0 million as compared to the three months ended March 31, 2013 primarily due to the increase in leasehold improvements to our properties and the acquisition of amortizable assets.

For the three months ended March 31, 2014, our effective income tax rate was 33.4% compared to an effective tax rate of 38.5% for the three months ended March 31, 2013. These rates differ from the federal statutory income tax rate primarily due to nondeductible permanent differences such as meals and nondeductible stock-based compensation, and net operating losses not benefited.

Human Services

Human Services revenue for the three months ended March 31, 2014 increased by $10.5 million or 4.3%, compared to the three months ended March 31, 2013. Revenue increased $4.8 million from organic growth, including growth related to new programs, and $5.7 million from acquisitions that closed during and after the three months ended March 31, 2013.

Income from operations increased from $20.3 million, or 8.3% of revenue, during the three months ended March 31, 2013 to $24.5 million, or 9.6% of revenue, during the three months ended March 31, 2014. Operating margin was positively impacted primarily due to the increase in revenue as noted above partially offset by the increase in other direct costs which consisted primarily of $1.6 million of occupancy costs, $0.8 million of employment practices liability expense, and $0.6 million of travel and transportation expense.

Post-Acute Specialty Rehabilitation Services

Post-Acute Specialty Rehabilitation Services revenue for the three months ended March 31, 2014 increased by $3.7 million, or 7.2%, compared to the three months ended March 31, 2013. Revenue increased $2.2 million as a result of organic growth, including growth from new programs, and $1.5 million from acquisitions that closed during and after the three months ended March 31, 2013.

Income from operations for the three months ended March 31, 2014 is $3.6 million or 6.5% of revenue, compared to $3.6 million or 7.0% of revenue for the three months ended March 31, 2013. The decrease in operating margin is primarily due to the increase in direct labor costs of $2.0 million, increase in occupancy costs of $0.9 million, and increase in client related costs as well as travel and transportation costs of $0.9 million partially offset by the decrease of $0.6 million in general and administrative expenses.

Corporate

Total corporate expenses decreased from $13.2 million for the three months ended March 31, 2013 to $13.1 million for the three months ended March 31, 2014.

Six months ended March 31, 2014 compared to six months ended March 31, 2013

Consolidated revenue for the six months ended March 31, 2014 increased by $28.1 million, or 4.8%, compared to revenue for the six months ended March 31, 2013. Revenue increased $18.1 million from organic growth, including growth related to new programs, and $10.0 million from acquisitions that closed during and after the six months ended March 31, 2013.

Consolidated income from operations increased from $18.4 million, or 3.1% of revenue, for the six months ended March 31, 2013 to $28.2 million, or 4.6% of revenue, for the six months ended March 31, 2014. The increase in our operating margin is primarily due to the increase in revenue noted above as well as expense leveraging and cost containment efforts partially offset by the increase in other direct costs.

Cost of revenue for the six months ended March 31, 2014 increased by $18.6 million as compared to the six months ended March 31, 2013 due to an increase in direct labor costs of $14.4 million and an increase in other direct costs of $4.2 million.

The increase in direct labor costs is primarily due to increased staffing in connection with new programs and acquisitions, as well as a new compensation program for our direct care workers.

Other direct costs for the six months ended March 31, 2014 increased as compared to the six months ended March 31, 2013 primarily due to increase in occupancy expense of $4.3 million, client related costs of $1.8 million, and employment practices liability expense of $0.9 million. The increase in occupancy expense is attributable primarily to new programs and acquisitions that

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have closed during and after the three months ended March 31, 2013. The increase in employment practices liability expense is primarily related to a change in reserves reflecting the development of prior period claims.

The increase in other direct costs is partially offset by the decrease in professional and general liability expense of $2.8 million. During the six months ended March 31, 2013, we incurred an additional $2.4 million of expense related to the PL/GL Tail Reserve as compared to the six months ended March 31, 2014. The expense relating to professional and general liability retentions and premium is included in Cost of revenue in the accompanying consolidated statements of operations.

General and administrative expenses for the six months ended March 31, 2014 decreased by $1.7 million as compared to the six month ended March 31, 2013 primarily due to decrease in professional service fees and business and office related costs.

Depreciation and amortization expense increased $1.5 million during the six months ended March 31, 2014 from the prior year period primarily due to the increase in leasehold improvements to our properties and the acquisition of amortizable assets.

For the six months ended March 31, 2014, our effective income tax rate was 31.5% compared to an effective tax rate of 33.3% for the six months ended March 31, 2013. These rates differ from the federal statutory income tax rate primarily due to nondeductible permanent differences such as meals and nondeductible compensation, and net operating losses not benefited.

Human Services

Human Services revenue for the six months ended March 31, 2014 increased by $20.1 million, or 4.1%, compared to the six months ended March 31, 2013. Revenue increased $12.5 million from organic growth, including growth related to new programs, and $7.6 million from acquisitions that closed during and after the six months ended March 31, 2013.

Income from operations increased from $40.1 million, or 8.2% of revenue, during the six months ended March 31, 2013 to $46.6 million, or 9.2% of revenue, during the six months ended March 31, 2014.

Operating margin was positively impacted primarily due to the increase in revenue as noted above partially offset by the increase in other direct costs which consisted primarily of $2.5 million of occupancy costs, and $0.7 million of employment practices liability expense.

Post-Acute Specialty Rehabilitation Services

Post-Acute Specialty Rehabilitation Services revenue for the six months ended March 31, 2014 increased by $8.0 million, or 7.8%, compared to the six months ended March 31, 2013. Revenue increased $5.5 million as a result of organic growth, including growth from new programs, and $2.5 million from acquisitions that closed during and after the six months ended March 31, 2013.

Income from operations decreased from $8.0 million, or 7.8% of revenue, during the six months ended March 31, 2013 to $7.9 million, or 7.1% of revenue, during the six months ended March 31, 2014. The decrease in operating margin is primarily due to the increase in direct labor costs of $3.9 million, increase in occupancy costs of $1.8 million, and an increase in client related costs as well as travel and transportation costs of $1.3 million.

Corporate

Total corporate expenses decreased from $29.7 million for the six months ended March 31, 2013 to $26.4 million for the six months ended March 31, 2014. The decrease in expenses is primarily due to the additional $2.4 million of expense that we incurred during the six months ended March 31, 2013 related to the PL/GL Tail reserve that we did not incur during the six months ended March 31, 2014. In addition, corporate expenses have decreased primarily due to lower professional service fees and other business and office related costs

Liquidity and Capital Resources

Our principal uses of cash are to meet working capital requirements, fund debt obligations and finance capital expenditures and acquisitions. Cash flows from operations have historically been sufficient to meet these cash requirements. Our principal sources of funds are cash flows from operating activities, cash on hand, and available borrowings under our senior revolver (as defined below).

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Operating activities

Cash flows provided by operating activities were $24.4 million for the six months ended March 31, 2014 compared to cash flows provided by operating activities of $6.9 million for the six months ended March 31, 2013. The increase in cash provided by operating activities is primarily attributable to the management of working capital items for the six months ended March 31, 2014 as compared to the six months ended March 31, 2013.

Investing activities

Net cash used in investing activities was $26.5 million and $14.7 million for the six months ended March 31, 2014 and 2013, respectively. Cash paid for property and equipment for the six months ended March 31, 2014 was $14.4 million, or 2.3% of revenue, compared to $15.4 million, or 2.6% of revenue, for the six months ended March 31, 2013. During the six months ended March 31, 2014 we paid $11.8 million for four acquisitions. During the six months ended March 31, 2013 we paid $0.5 million for one acquisition in our Human Services segment.

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Financing activities

On January 31, 2014, we replaced our prior senior secured credit facilities with the senior secured credit facilities consisting of a term loan facility and a senior revolver. The term loan facility has a seven-year maturity and the senior revolver has a five-year maturity: provided that if our 12.50% senior notes due 2018 are not refinanced in full on or prior to the date that is three months prior to February 15, 2018, such maturity will spring forward to November 15, 2017. We redeemed $38 million aggregate principal amount of the 12.50% senior notes due 2018 in February 26, 2014. See note 3 long-term debt for further information about our senior secured credit facilities in the notes to our consolidated financial statements.

Net cash provided by financing activities was $2.8 million for the six months ended March 31, 2014 as compared to $11.2 million of cash provided by financing activities for the six months ended March 31, 2013. The decrease in cash provided by financing activities is primarily due to the $30.0 million additional term loan we obtained in February 2013, which had the effect of minimizing the need to draw on our senior revolver.

Our principal sources of funds are cash flows from operating activities, cash on hand, and available borrowings under our senior revolver. During the six months ended March 31, 2014, we borrowed an aggregate of $9.3 million under our senior revolver and repaid $9.3 million during the same period. At March 31, 2014, we had no outstanding borrowings and $100.0 million of availability under the senior revolver. However, despite the contractual availability, the covenants in our indenture could effectively limit our ability to fully draw on the senior revolver. Letters of credit can be issued under our institutional letter of credit facility up to the $50.0 million limit and letters of credit in excess of that amount reduce availability under our senior revolver. We may draw on the revolver during fiscal 2014 and we believe that available funds will provide sufficient liquidity and capital resources to meet our financial obligations for the next twelve months, including scheduled principal and interest payments, as well as to provide funds for working capital, acquisitions, capital expenditures and other needs. No assurance can be given, however, that this will be the case.

Debt and Financing Arrangements

Prior Senior Secured Credit Facilities

In February 2011, we entered into senior secured credit facilities, consisting of a (i) six-year $530.0 million term loan facility, of which $50.0 million was deposited in a cash collateral account in support of issuance of letters of credit under the institutional letter of credit facility and a (ii) $75.0 million five-year senior secured revolving credit facility. The $530.0 million term loan was issued at a price equal to 98.5% of its face value and amortized one percent per year, paid quarterly, with the remaining balance payable at maturity. We refer to these facilities, as amended on October 15, 2012, as the “prior senior secured credit facilities”.

The original $530.0 million term loan was issued at a price equal to 98.5% of its face value. The prior senior credit agreement (as defined below) included a provision for the prepayment of a portion of the outstanding term loan amounts equal to an amount ranging from 0 to 50% of a calculated amount, depending on our leverage ratio, if we generated certain levels of cash flow, sold certain assets or incurred other indebtedness, subject to certain exceptions. We were not required to make such a prepayment. We were required to repay the prior term loan in quarterly principal installments of 0.25% of the original principal amount, with the balance payable at maturity.

On October 15, 2012, we entered into an Amendment Agreement (the “Amendment Agreement”) to amend and restate the senior credit agreement governing the prior senior secured credit facilities the “prior senior secured credit agreement”. The Amendment Agreement converted the existing term loan facility into a tranche B-1 term loan facility in aggregate principal amount of $522.1 million (the “prior term loan”), the proceeds of which were used to prepay the then-existing term loan. The Amendment Agreement also replaced our existing $75.0 million revolving credit facility and the borrowings thereunder with a $75.0 million revolving credit facility (the “prior senior revolver”). The Amendment Agreement had the effect of lowering the interest rate we paid on the borrowings under the prior senior secured credit facilities by 0.5%, by reducing the LIBOR floor from 1.75% to 1.25%.

On February 4, 2013, we entered into an Incremental Amendment No. 1 (the “Incremental Amendment No. 1”) to the prior senior credit agreement. The Incremental Amendment No. 1 provided for an additional $30.0 million term loan (the “incremental term loan”) under the prior term loan. The net proceeds were used to repay a majority of the outstanding borrowings under the prior senior revolver. We were required to repay the incremental term loan in quarterly installments of 0.25% of its principal amount, with the balance payable at maturity.

On January 31, 2014, the prior senior secured credit facilities were replaced with the senior secured credit facilities described below.

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Senior Secured Credit Facilities

On January 31, 2014, we and NMH Holdings, LLC (“Parent”) entered into a new senior credit agreement (the “senior credit agreement”) with Barclays Bank PLC, as administrative agent, and the other agents and lenders named therein, for the new senior secured credit facilities (the “senior secured credit facilities”), consisting of a $600.0 million term loan facility (the “term loan facility”), of which $50.0 million was deposited in a cash collateral account in support of issuance of letters of credit under an institutional letter of credit facility (the “institutional letter of credit facility”), and a $100.0 million senior secured revolving credit facility (the “senior revolver”). The term loan facility has a seven-year maturity and the new senior revolver has a five-year maturity; provided, that if our 12.50% Senior Notes due 2018 (the “senior notes”) are not refinanced in full on or prior to the date that is three months prior to February 15, 2018, such maturity dates shall spring forward to November 15, 2017. The senior credit agreement provides that we may make one or more offers to the lenders, and consummate transactions with individual lenders that accept the terms contained in such offers, to extend the maturity date of the lender’s term loans and/or revolving commitments, subject to certain conditions, and any extended term loans or revolving commitments will constitute a separate class of term loans or revolving commitments.

All of our obligations under the senior secured credit facilities are guaranteed by Parent and the subsidiary guarantors named therein (the “Subsidiary Guarantors”). Pursuant to the Guarantee and Security Agreement, dated as of January 31, 2014 (the “guarantee and security agreement”), among Parent, as parent guarantor, us, certain of our subsidiaries, as subsidiary guarantors and Barclays Bank, PLC, as administrative agent, subject to certain exceptions, the obligations under the senior secured credit facilities are secured by a pledge of 100% of our capital stock and the capital stock of domestic subsidiaries owned by NMHI and any other Subsidiary Guarantor and 65% of the capital stock of any first tier foreign subsidiaries and a security interest in substantially all of the Company’s tangible and intangible assets and the tangible and intangible assets of Parent and each Subsidiary Guarantor.

The senior revolver includes borrowing capacity available for letters of credit and for borrowings on same-day notice, referred to as the “swingline loans.” Any issuance of letters of credit or making of a swingline loan will reduce the amount available under the senior revolver. As of March 31, 2014, we had no borrowings under the senior revolver and $44.7 million of letters of credit issued under the institutional letter of credit facility.

At our option, we may add one or more new term loan facilities or increase the commitments under the senior revolver (collectively, the “incremental borrowings”) in an aggregate amount of up to $125.0 million plus any additional amounts so long as certain conditions, including a consolidated first lien leverage ratio (as defined in the senior credit agreement) of not more than 4.50 to 1.00 on a pro forma basis, are satisfied. The covenants in our indenture governing the senior notes effectively limit the amount of incremental borrowings that we may incur.

Borrowings under the senior secured credit facilities bear interest, at our option, at: (i) an ABR rate equal to the greater of (a) the prime rate of Barclays Bank PLC, (b) the federal funds rate plus 1/2 of 1.0%, and (c) the Eurodollar rate for an interest period of one-month beginning on such day plus 100 basis points, plus 2.75% (provided that the ABR rate applicable to the new term loan facility will not be less than 2.00% per annum); or (ii) the Eurodollar rate (provided that the Eurodollar rate applicable to the new term loan facility will not be less than 1.00% per annum), plus 3.75%. We are also required to pay a commitment fee to the lenders under the senior revolver at an initial rate of 0.50% of the average daily unutilized commitments thereunder. We must also pay customary letter of credit fees.

The senior credit agreement requires us to make mandatory prepayments, subject to certain exceptions, with: (i) beginning in fiscal year 2015, 50% (which percentage will be reduced upon our achievement of certain first lien leverage ratios) of our annual excess cash flow; (ii) 100% of net cash proceeds of all non-ordinary course assets sales or other dispositions of property, subject to certain exceptions and thresholds; and (iii) 100% of the net cash proceeds of any debt incurrence, other than debt permitted under the senior credit agreement. We are required to repay the term loan facility portion of the senior secured credit facilities in quarterly principal installments of 0.25% of the principal amount commencing on June 30, 2014, with the balance payable at maturity. The senior credit agreement permits us to offer to the lenders newly issued notes in exchange for their term loans in one or more permitted debt exchange offers, subject to the conditions set forth in the senior credit agreement. In addition, if, on or prior to July 31, 2014, we prepay or reprice any portion of the term loan facility, we will be required to pay a prepayment premium of 1% of the loans being prepaid or repriced.

12.50% Senior Notes due 2018

On February 9, 2011, we issued $250.0 million in aggregate principal amount of the senior notes at a price equal to 97.7% of their face value. The senior notes mature on February 15, 2018 and bear interest at a rate of 12.50% per annum, payable semi-annually on February 15 and August 15 of each year, beginning on August 15, 2011. The senior notes are unsecured obligations and are fully and unconditionally guaranteed, jointly and severally, on a senior unsecured basis by certain of our existing subsidiaries.

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On February 26, 2014 we redeemed $38 million aggregate principal amount of the outstanding principal amount of senior notes, in accordance with the provisions of the indenture governing the senior notes. The redemption price of the senior notes was 106.250% of the principal amount redeemed, plus accrued and unpaid interest to, but not including, the redemption date.

Covenants

The senior credit agreement contains a springing financial covenant. If, at the end of any fiscal quarter, our usage of the senior revolver exceeds 30% of the commitments thereunder, we are required to maintain at the end of each such fiscal quarter, commencing with the quarter ending June 30, 2014, a consolidated first lien leverage ratio of not more than 5.50 to 1.00. This consolidated first lien leverage ratio will step down to 5.00 to 1.00 commencing with the fiscal quarter ending March 31, 2017. The springing financial covenant was not in effect as of March 31, 2014 as our usage of the senior revolver did not exceed the threshold for the quarter ended March 31, 2014.

The senior credit agreement also contains a number of covenants that, among other things, restrict, subject to certain exceptions, our ability and the ability of its subsidiaries to: (i) incur additional indebtedness; (ii) create liens on assets; (iii) engage in mergers or consolidations; (iv) sell assets; (v) pay dividends and distributions or repurchase our capital stock; (vi) enter into swap transactions; (vii) make investments, loans or advances; (viii) repay certain junior indebtedness; (ix) engage in certain transactions with affiliates; (x) enter into sale and leaseback transactions; (xi) amend material agreements governing certain of our junior indebtedness; (xii) change our lines of business; (xiii) make certain acquisitions; and (xiv) limitations on the letter of credit cash collateral account. If we withdraw any of the $50.0 million from the cash collateral account supporting the issuance of letters of credit, it must use the cash to either prepay the term loan facility or to secure any other obligations under the senior secured credit facilities in a manner reasonably satisfactory to the administrative agent. We were in compliance with these covenants as of March 31, 2014. The senior credit agreement contains customary affirmative covenants and events of default.

The indenture governing the senior notes contains covenants, including, among other things, limitations on our ability to incur additional debt, create liens on assets, transfer or sell assets, pay dividends, redeem stock or make other distributions or investments, and engage in certain transactions with affiliates. We were in compliance with these covenants as of March 31, 2014.

Contractual Commitments Summary

The following table summarizes our contractual obligations and commitments as of March 31, 2014:

	Total		Less Than 1 Year		1-3 Years		3-5 Years		More Than 5 Years
	(in thousands)
Long-term debt obligations(1)	$	1,109,243	$	61,288	$	121,786	$	306,053	$	620,116
Operating lease obligations(2)		202,478		49,619		73,182		42,569		37,108
Capital lease obligations		6,719		430		996		1,217		4,076
Purchase obligations(3)		11,886		3,777		6,990		1,119		—
Standby letters of credit		44,736		44,736		—		—		—
Total obligations and commitments	$	1,375,062	$	159,850	$	202,954	$	350,958	$	661,300

(1) Amounts represent the principal amount of our long-term debt and the expected cash payments for interest on our long-term debt based on the interest rates in place and amounts outstanding at March 31, 2014. The term loan principal and interest due in quarterly installments through January 31, 2021 is subject to acceleration to November 15, 2017. See note 3long-term debt for further information about our senior secured credit facilities in the notes to our consolidated financial statements.

(2) Includes the fixed rent payable under the leases and does not include additional amounts, such as taxes, that may be payable under the leases.

(3) Amounts represent the purchase obligations related to information technology services and maintenance contracts.

Inflation

We do not believe that general inflation in the U.S. economy has had a material impact on our financial position or results of operations.

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Off-Balance Sheet Arrangements

We do not have any off-balance sheet transactions or interests.

Critical Accounting Policies

Our discussion and analysis of our financial condition and results of operations are based upon our consolidated financial statements, which have been prepared in accordance with generally accepted accounting principles (“GAAP”). The preparation of financial statements in conformity with GAAP requires management 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 revenue and expenses during the reporting period. Actual results could differ from those estimates.

We believe our application of accounting policies, and the estimates inherently required therein, are reasonable. These accounting policies and estimates are constantly reevaluated, and adjustments are made when facts and circumstances dictate a change.

As of March 31, 2014, there has been no material change in our accounting policies or the underlying assumptions or methodology used to fairly present our financial position, results of operations and cash flows for the periods covered by this report. In addition, no triggering events have come to our attention pursuant to our review of goodwill that would indicate impairment as of March 31, 2014.

For further discussion of our critical accounting policies see management’s discussion and analysis of financial condition and results of operations contained in our Form 10-K for the year ended September 30, 2013.

Forward-Looking Statements

Some of the matters discussed in this report may constitute “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”).

These statements relate to future events or our future financial performance, and include statements about our expectations for future periods with respect to demand for our services, the political climate and budgetary environment, our expansion efforts and the impact of our recent acquisitions, our plans for investments to further grow and develop our business, our margins and our liquidity. In some cases, you can identify forward-looking statements by terminology such as “may,” “will,” “should,” “expect,” “plan,” “anticipate,” “believe,” “estimate,” “predict,” “potential” or “continue,” the negative of such terms or other comparable terminology. These statements are only predictions. Actual events or results may differ materially.

The information in this report is not a complete description of our business or the risks associated with our business. There can be no assurance that other factors will not affect the accuracy of these forward-looking statements or that our actual results will not differ materially from the results anticipated in such forward-looking statements. While it is impossible to identify all such factors, factors that could cause actual results to differ materially from those estimated by us include, but are not limited to, those factors or conditions described under “Part II. Item 1A. Risk Factors” in this report as well as the following:

• changes in Medicaid or other funding or changes in budgetary priorities by federal, state and local governments;

• changes in reimbursement rates, policies or payment practices by our payors;

• our substantial amount of debt, our ability to meet our debt service obligations and our ability to incur additional debt;

• an increase in the number and nature of pending legal proceedings and the outcomes of those proceedings;

• an increase in our self-insured retentions and changes in the insurance market for professional and general liability, workers’ compensation and automobile liability and our claims history that affect our ability to obtain coverage at reasonable rates;

• our ability to control labor costs, including healthcare costs imposed by the Patient Protection and Affordable Care Act;

• our ability to control operating costs and collect accounts receivable;

• failure to take advantage of organic growth opportunities;

• our ability to maintain, expand and renew existing services contracts and to obtain additional contracts;

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• our ability to establish and maintain relationships with government agencies and advocacy groups;

• our ability to acquire new licenses or to maintain our status as a licensed service provider in certain jurisdictions;

• our ability to attract and retain experienced personnel, including members of our senior management team;

• our ability to successfully integrate acquired businesses;

• government regulations, changes in government regulations and our ability to comply with such regulations;

• increased or more effective competition;

• credit and financial market conditions;

• changes in interest rates; and

• the potential for conflict between the interests of our majority equity holder and those of our debt holders.

Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity, performance or achievements. Moreover, we do not assume responsibility for the accuracy and completeness of the forward-looking statements. All written and oral forward-looking statements attributable to us or persons acting on our behalf are expressly qualified in their entirety by the “Risk Factors” and other cautionary statements included herein. We are under no duty to update any of the forward-looking statements after the date of this report to conform such statements to actual results or to changes in our expectations.

Item 3. Quantitative and Qualitative Disclosures about Market Risk.

We are exposed to changes in interest rates as a result of our outstanding variable rate debt. The variable rate debt outstanding relates to the term loan and the senior revolver, which bears interest at (i) a rate equal to the greater of (a) the prime rate (b) the federal funds rate plus 1/2 of 1% and (c) the Eurodollar rate for an interest period of one-month beginning on such day plus 100 basis points plus 2.75%; or (ii) the Eurodollar rate (subject to a LIBOR floor of 1.00%), plus 3.75%, at our option. A 1% increase in the interest rate on our floating rate debt as of March 31, 2014 would have increased cash interest expense on the floating rate debt by approximately $6.1 million per annum.

To reduce the interest rate exposure related to the variable debt, we entered into an interest rate swap in a notional amount of $400.0 million effective March 31, 2011 and ending September 30, 2014. Under the terms of the swap, as amended on October 15, 2012, we receive from the counterparty a quarterly payment based on a rate equal to the greater of 3-month LIBOR and 1.25% per annum, and we make payments to the counterparty based on a fixed rate of 2.08% per annum, in each case on the notional amount of $400.0 million, settled on a net payment basis.

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Item 4. Controls and Procedures.

(a) Evaluation of Disclosure Controls and Procedures

We maintain disclosure controls and procedures to ensure that information required to be disclosed in reports filed or submitted under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the rules and forms of the SEC, and is accumulated and communicated to management, including the Chief Executive Officer and President (principal executive officer) and the Chief Financial Officer (principal financial officer), to allow for timely decisions regarding required disclosure. There are inherent limitations to the effectiveness of any system of disclosure controls and procedures, including the possibility of human error and the circumvention or overriding of the controls and procedures. As of March 31, 2014, the end of the period covered by this Quarterly Report on Form 10-Q, our management, with the participation of our principal executive officer and principal financial officer, has evaluated the effectiveness of our disclosure controls and procedures as defined in Rules 13a-15(e) and 15d-15(e) of the Exchange Act. Based on that evaluation, our principal executive officer and principal financial officer concluded that our disclosure controls and procedures were effective as of March 31, 2014.

(b) Changes in Internal Control over Financial Reporting

During the quarter ended March 31, 2014, we continued to evaluate the transition of certain field billing and accounts receivable functions into a centralized shared services center. This centralization is expected to continue in a phased approach over the next several years. As part of this centralization, we continue to refine and optimize our billing and accounts receivable process and related system in a majority of our operations. This has affected, and will continue to affect, the processes that impact our internal control over financial reporting. We will continue to review the related controls and may take additional steps to ensure that they remain effective.

Except for the continuing centralization and optimization of our billing and accounts receivable process and related system, as well as certain general ledger functions, during the most recent fiscal quarter, there were no significant changes in our internal control over financial reporting that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

PART II. OTHER INFORMATION

Item 1. Legal Proceedings.

We are in the health and human services business and, therefore, we have been and continue to be subject to substantial claims alleging that we, our employees or our Mentors failed to provide proper care for a client. We are also subject to claims by our clients, our employees, our Mentors or community members against us for negligence, intentional misconduct or violation of applicable laws. Included in our recent claims are claims alleging personal injury, assault, abuse, wrongful death and other charges. Regulatory agencies may initiate administrative proceedings alleging that our programs, employees or agents violate statutes and regulations and seek to impose monetary penalties on us. We could be required to incur significant costs to respond to regulatory investigations or defend against civil lawsuits and, if we do not prevail, we could be required to pay substantial amounts of money in damages, settlement amounts or penalties arising from these legal proceedings.

We also are subject to potential lawsuits under the False Claims Act and other federal and state whistleblower statutes designed to combat fraud and abuse in the health care industry. These lawsuits can involve significant monetary awards that may incentivize private plaintiffs to bring these suits. If we are found to have violated the False Claims Act, we could be excluded from participation in Medicaid and other federal healthcare programs. The Patient Protection and Affordable Care Act provides a mandate for more vigorous and widespread enforcement activity to combat fraud and abuse in the health care industry.

We are also subject to employee-related claims under state and federal law, including claims for discrimination, wrongful discharge or retaliation; claims for wage and hour violations under the Fair Labor Standards Act or state wage and hour laws.

Lee Hightower v. Illinois Mentor, Inc. Two subsidiaries are named defendants in an action currently pending in the Illinois Circuit Court, Cook County, Law Division, under the captionTarick Loutfi, as guardian ad litem of Matriannia Hightower, et. al., Plaintiffs vs. Illinois Mentor, Inc., an Illinois corporation, Individually and as a subsidiary of National Mentor, LLC, National Mentor, LLC, a Delaware Limited Liability Company, et al., Defendants (the “Hightower Action”). TheHightower Action was brought September 10, 2009, on behalf of a minor with disabilities by her guardian ad litem and biological parents who seek damages for injuries suffered by the minor during a foster home placement coordinated by the Company. The plaintiffs assert several claims against the Company including negligence and willful and wanton misconduct. In late 2013, the plaintiffs were granted leave to file an amended complaint seeking relief for punitive damages against the Company. Since the filing of theHightower Action, the underlying limits of Mentor’s primary and first layer excess insurance have been exhausted and the second layer is nearly exhausted by defense costs and the payment of other claims. There is a final layer of insurance available to cover theHightower Action. Recently, the Company filed, and lost, a motion for temporary restraining order against its remaining insurer to release funds to settle theHightower Actionwithin policy limits, but the underlying claim against the insurer remains pending. In the event the matter is not settled, theHightower Action is currently scheduled to go to trial in October 2014. The Company continues to believe that it has valid defenses and that the conduct of the Company did not cause or contribute to the injuries the minor sustained. However, a jury verdict in theHightower Action may exceed the limits of the third and final layer insurance policy.

We reserve for costs related to contingencies when a loss is probable and the amount is reasonably estimable. While we believe our provision for legal contingencies is adequate, the outcome of the legal proceedings is difficult to predict and we may settle legal claims or be subject to judgments for amounts that differ from our estimates.

See “Part II. Item 1A. Risk Factors” and “Part I. Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations” for additional information.

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Item 1A. Risk Factors.

Reductions or changes in Medicaid funding or changes in budgetary priorities by the federal, state and local governments that pay for our services could have a material adverse effect on our revenue and profitability.

We currently derive approximately 90% of our revenue from contracts with state and local governments. These governmental payors fund a significant portion of their payments to us through Medicaid, a joint federal and state health insurance program through which state expenditures are matched by federal funds typically ranging from 50% to approximately 75% of total costs, a number based largely on a state’s per capita income. Our revenue, therefore, is largely determined by the level of federal, state and local governmental spending for the services we provide.

Efforts at the federal level to reduce the federal budget deficit pose risk for reductions in federal Medicaid matching funds to state governments. Previously, the Joint Select Committee on Deficit Reduction’s failure to meet the deadline imposed by the Budget Control Act of 2011 triggered automatic across-the-board cuts to discretionary funding, including a 2% reduction to Medicare, effective March 1, 2013, but specifically exempted Medicaid payments to states. While this development did not reduce federal Medicaid funding, reductions in other federal payments to states will put additional stress on state budgets, with the potential to negatively impact the ability of states to provide the state Medicaid matching funds necessary to maintain or increase the federal financial contribution to the program. Although earlier this year the Congress and President reached an agreement on a two-year budget framework for federal fiscal years 2014 and 2015, negotiations in recent years regarding deficit reduction efforts have been contentious and, most recently, resulted in a 16-day government shutdown in October 2013. While Medicaid payments were not affected during this period, the potential of longer shutdowns in the future if new negotiations regarding the federal budget and/or the federal debt ceiling fail to produce a resolution could cause disruptions in Medicaid support and payments to states. In addition, the federal government may choose to adopt alternative proposals to reduce the federal budget deficit. These alternative reductions could have a negative impact on state Medicaid budgets, including proposals to provide states with more flexibility to determine Medicaid benefits, eligibility or provider payments through the use of block grants or streamlined waiver approvals, as well as those that would reduce the amount of federal Medicaid matching funding available to states by curtailing the use of provider taxes or by adjusting the Federal Medical Assistance Percentage (FMAP). Furthermore, any new Medicaid-funded benefits and requirements established by the Congress, particularly those included in the Patient Protection and Affordable Care Act of 2010, that mandate certain uses for Medicaid funds could have the effect of diverting those funds from the services we provide.

Budgetary pressures facing state governments, as well as other economic, industry and political factors, could cause state governments to limit spending, which could significantly reduce our revenue, referrals, margins and profitability, and adversely affect our growth strategy. Governmental agencies generally condition their contracts with us upon a sufficient budgetary appropriation. If a government agency does not receive an appropriation sufficient to cover its contractual obligations with us, it may terminate a contract or defer or reduce our reimbursement. In addition, there is risk that previously appropriated funds could be reduced through subsequent legislation. Many states in which we operate experienced unprecedented budgetary deficits during and in the wake of the recession that began in 2008 and, as a result, implemented service reductions, rate freezes and/or rate reductions, including states such as Minnesota, California, Florida, Indiana and Arizona. Similarly, programmatic changes such as conversions to managed care with related contract demands regarding billing and services, unbundling of services, governmental efforts to increase consumer autonomy and reduce provider oversight, coverage and other changes under state Medicaid plans, may cause unanticipated costs and risks to our service delivery. The loss or reduction of or changes to reimbursement under our contracts could have a material adverse effect on our business, financial condition and operating results.

Reductions in reimbursement rates, a failure to obtain increases in reimbursement rates or subsequent negative audit adjustments could adversely affect our revenue, cash flows and profitability.

Our revenue and operating profitability depend on our ability to maintain our existing reimbursement levels and to obtain periodic increases in reimbursement rates to meet higher costs and demand for more services. Approximately 13% percent of our revenue is derived from contracts based on a retrospective cost reimbursement model, whereby we are required to maintain a certain cost structure in order to realize the specified rate. For such programs, if our costs are less than the required amount we are required to return a portion of the revenue to the payor. Some of our programs are also subject to prospective rate adjustment based on current spending levels. For such programs we could experience reduced rates in the future if our current spending is not sufficient where we are reimbursed for our services based on our costs plus an agreed-upon margin. Finally, if we are not entitled to, do not receive or cannot negotiate increases in reimbursement rates, or are forced to accept a reduction in our reimbursement rates at approximately the same time as our costs of providing services increase, including labor costs and rent, our margins and profitability could be adversely affected.

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Changes in how federal and state government agencies operate reimbursement programs can also affect our operating results and financial condition. Some states have, from time to time, revised their rate-setting methodologies in a manner that has resulted in rate decreases. In some instances, changes in rate-setting methodologies have resulted in third-party payors disallowing, in whole or in part, our requests for reimbursement. Any reduction in or the failure to maintain or increase our reimbursement rates could have a material adverse effect on our business, financial condition and results of operations. Changes in the manner in which state agencies interpret program policies and procedures or review and audit billings and costs could also adversely affect our business, financial condition and operating results.

In some states, we operate on a cost reimbursement model in which revenue is recognized at the time costs are incurred. In these states, payors audit our historical costs on a regular basis, and if it is determined that our historical costs are insufficient to justify our rates, our rates may be reduced or we may be required to return fees paid to us in prior periods. In some cases, we have experienced negative audit adjustments which are based on subjective judgments of reasonableness, necessity or allocation of costs in our services provided to clients. These adjustments are generally required to be negotiated as part of the overall audit resolution and may result in paybacks to payors and adjustments of our rates. We cannot assure you that our rates will be maintained, or that we will be able to keep all payments made to us, until an audit of the relevant period is complete.

Our level of indebtedness could adversely affect our liquidity and ability to raise additional capital to fund our operations, and it could limit our ability to invest in our growth initiatives or react to changes in the economy or our industry.

We have a significant amount of indebtedness and substantial leverage. As of March 31, 2014, we had total indebtedness of $818.7 million. We expect to continue to make new investments in our growth that may reduce liquidity, and we may need to draw on our senior revolver in the future.

Our substantial degree of leverage could have important consequences, including the following:

• it may significantly curtail our acquisitions program and may limit our ability to invest in our infrastructure and in growth opportunities;

• it may diminish our ability to obtain additional debt or equity financing for working capital, capital expenditures, debt service requirements and general corporate or other purposes;

• a substantial portion of our cash flows from operations will be dedicated to the payment of principal and interest on our indebtedness and will not be available for other purposes, including our operations, future business opportunities and acquisitions and capital expenditures;

• the debt service requirements of our indebtedness could make it more difficult for us to satisfy our indebtedness and contractual and commercial commitments;

• interest rates on any portion of our variable interest rate borrowings under the senior secured credit facilities that we have not hedged may increase;

• it may limit our ability to adjust to changing market conditions and place us at a competitive disadvantage compared to our competitors that have less debt and a lower degree of leverage; and

• we may be vulnerable if the country falls into another recession, or if there is a downturn in our business, or we may be unable to carry out activities that are important to our growth.

Subject to restrictions in the indenture governing our senior notes and the senior credit agreement, we may be able to incur more debt in the future, which may intensify the risks described in this risk factor. All of the borrowings under our senior secured credit facilities are secured by substantially all of the assets of the Company.

In addition to our high level of indebtedness, we have significant rental obligations under our operating leases for our group homes, other service facilities and administrative offices. For the three and six months ended March 31, 2014, our aggregate rental payments for these leases were $14.4 million and $28.4 million. We expect this number will increase during fiscal 2014 as a result of new leases entered into pursuant to acquisitions and new program starts. Our ongoing rental obligations could exacerbate the risks described above.

As we continue to make new investments in our growth that may reduce liquidity, we may need to draw on the senior revolver in the future. Our ability to generate sufficient cash flow to fund our debt service, rental payments and other obligations depends on many factors beyond our control. See “Risk Factors—Credit and economic conditions could have a material adverse effect on our cash flows, liquidity and financial condition.” In addition, possible acquisitions or investments in organic growth and other strategic initiatives could require additional debt financing. If our future cash flows do not meet our expectations and we are unable to

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service our debt, or if we are unable to obtain additional debt financing, we may be forced to take actions such as revising or delaying our strategic plans, reducing or delaying acquisitions, selling assets, restructuring or refinancing our debt, or seeking additional equity capital. We may be unable to effect any of these transactions on satisfactory terms, or at all. Our inability to generate sufficient cash flow to satisfy our debt service obligations, or to obtain additional financing on satisfactory terms, or at all, could have a material adverse effect on our business, financial condition and operating results.

Covenants in our debt agreements restrict our business in many ways.

The senior credit agreement, similar to the old senior credit agreement, and the indenture governing the senior notes contain various covenants that limit our ability and/or our subsidiaries’ ability to, among other things:

• incur additional debt or issue certain preferred shares;

• pay dividends on or make distributions in respect of capital stock or make other restricted payments;

• make certain investments;

• sell certain assets;

• create liens on certain assets to secure debt;

• enter into agreements that restrict dividends from subsidiaries;

• consolidate, merge, sell or otherwise dispose of all or substantially all of our assets; and

• enter into certain transactions with our affiliates.

The senior credit agreement governing the senior secured credit facilities also requires the Company and its subsidiaries to maintain a specified financial ratio in the event that the Company draws more than $30.0 million under its senior revolver. That financial ratio becomes more restrictive beginning in fiscal quarter ending March 31, 2017. Our ability to meet this financial ratio and test may be affected by events beyond our control, and we cannot assure you that we will satisfy that test. The breach of any of these covenants or financial ratio could result in a default under the senior secured credit facilities and the lenders could elect to declare all amounts borrowed thereunder, together with accrued interest, to be due and payable and could proceed against the collateral securing that indebtedness.

State and local government payors with which we have contracts have complicated billing and collection rules and regulations, and if we fail to meet such requirements, our business could be materially impacted.

We derive approximately 90% of our revenue from state and local government agencies, and a substantial portion of this revenue is state-funded with federal Medicaid matching dollars. In billing for our services to third-party payors, we must follow complex documentation, coding and billing rules and there can be delays before we receive payment. These rules are based on federal and state laws, rules and regulations, various government pronouncements, and on industry practice. If we fail to comply with federal and state documentation, coding and billing rules, we could be subject to criminal and/or civil penalties, loss of licenses and exclusion from the Medicaid programs, which could materially harm us. Specifically, failure to follow these rules could result in potential criminal or civil liability under the False Claims Act, under which extensive financial penalties can be imposed. It could further result in criminal liability under various federal and state criminal statutes. We annually submit a large volume of claims for Medicaid and other payments, and there can be no assurance that there have not been errors. The rules are frequently vague and confusing, and we cannot assure that governmental investigators, private insurers, private whistleblowers or Medicaid auditors will not challenge our practices. Such a challenge could result in a material adverse effect on our business.

We are routinely subject to governmental reviews, audits and investigations to verify our compliance with applicable laws and regulations. As a result of these reviews, audits and investigations, these governmental payors may be entitled to, in their discretion:

• require us to refund amounts we have previously been paid;

• terminate or modify our existing contracts;

• suspend or prevent us from receiving new contracts or extending existing contracts;

• impose referral holds on us;

• impose fines, penalties or other sanctions on us; and

• reduce the amount we are paid under our existing contracts.

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As a result of past reviews and audits of our operations, we have been and are subject to some of these actions from time to time. While we do not currently believe that our existing governmental reviews and audit proceedings will have a material adverse effect on our financial condition or significantly harm our reputation, we cannot assure you that similar actions in the future will not do so. In addition, such proceedings could have a material adverse impact on our results of operations in a future reporting period. Moreover, if we are required to restructure our billing and collection methods, these changes could be disruptive to our operations and costly to implement.

Complicated billing and collection procedures can result in delays in collecting payment for our services, which may adversely affect our liquidity, cash flows and operating results.

The reimbursement process is time consuming and complex, and there can be delays before we receive payment. Government reimbursement, facility credentialing, Medicaid recipient eligibility and service authorization procedures are often complicated and burdensome, and delays can result from, among other things, securing documentation and coordinating necessary eligibility paperwork between agencies. Similar issues arise in seeking payment from some of our private payors. These reimbursement and procedural issues occasionally cause us to have to resubmit claims several times and manage other administrative requests before payment is remitted. Missed filing deadlines can cause rejections of claims. If there is a billing error, the process to resolve the error may be time-consuming and costly. To the extent that complexity associated with billing for our services causes delays in our cash collections, we assume the financial risk of increased carrying costs associated with the aging of our accounts receivable as well as increased potential for write-offs. We can provide no assurance that we will be able to collect payment for claims at our current levels in future periods. The risks associated with third-party payors and the inability to monitor and manage accounts receivable successfully could have a material adverse effect on our liquidity, cash flows and operating results.

Economic conditions could have a material adverse effect on our cash flows, liquidity and financial condition.

Our government payors rely on tax revenue to pay for our services. In the wake of the last economic recession that began in 2008, most states faced unprecedented declines in tax revenues and, as a result, record budget gaps. Furthermore, even after four years of economic improvement, at the end of 2013, inflation-adjusted tax revenues remained below peak levels in many states. If the economy were to contract into recession again, our government payors or other counterparties that owe us money could be delayed in obtaining, or may not be able to obtain, necessary funding and/or financing to meet their cash flow needs. In 2011, Standard & Poor’s downgraded the Federal government’s credit rating and additional downgrades are possible in the future. In October 2013, Fitch Ratings placed the Federal government’s credit rating on negative watch. If the credit rating of the federal government is downgraded again, it is possible there will be related downgrades of state credit ratings as well. If this occurs or unrelated state downgrades occur, this could make it more expensive for states to finance their cash flow needs and put additional pressure on state budgets. Delays in payment could have a material adverse effect on our cash flows, liquidity and financial condition. In the event that our payors or other counterparties are financially unstable or delay payments to us, our financial condition could be further impaired if we are unable to borrow additional funds under our senior credit agreement to finance our operations.

The nature of our operations subjects us to substantial claims, litigation and governmental investigations.

We are in the health and human services business and, therefore, we have been and continue to be subject to substantial claims alleging that we, our employees or our Mentors failed to provide proper care for a client. We are also subject to claims by our clients, our employees, our Mentors or community members against us for negligence and intentional misconduct, or violation of applicable laws. Included in our recent claims are claims alleging personal injury, assault, abuse, wrongful death and other charges. For instance, two subsidiaries are named defendants in an action currently pending in the Illinois Circuit Court, Cook County, Law Division (the “Hightower Action”). The Hightower Action was brought on behalf of a minor with disabilities by her guardian ad litem and biological parents who seek damages for injuries suffered by the minor during a foster home placement coordinated by us. The plaintiffs asserted several claims against us, including negligence and willful and wanton misconduct. In the event the matter is not settled, the Hightower Action is currently scheduled to go to trial in October 2014, and a jury verdict in the Hightower Action may exceed the limits of the third and final layer insurance policy. For more information, see “Business—Legal Proceedings.” Several years ago, we experienced a spike in claims filed against the Company, and we could face an increase in claims in the future. As a result of the prior increase in claims, we received less favorable insurance terms and have expensed greater amounts to fund potential claims.

We are subject to employee-related claims under state and federal law, including claims for discrimination, wrongful discharge or retaliation, and claims for wage and hour violations under the Fair Labor Standards Act or state wage and hour laws.

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Regulatory agencies may initiate administrative proceedings alleging that our programs, employees or agents violate statutes and regulations and seek to impose monetary penalties on us or ask for recoupment of amounts paid. We could be required to incur significant costs to respond to regulatory investigations or defend against lawsuits and, if we do not prevail, we could be required to pay substantial amounts of money in damages, settlement amounts or penalties arising from these legal proceedings.

A litigation award excluded by, or in excess of, our third-party insurance limits and self-insurance reserves could have a material adverse impact on our operations and cash flow and could adversely impact our ability to continue to purchase appropriate liability insurance. Even if we are successful in our defense, lawsuits or regulatory proceedings could also irreparably damage our reputation.

Our financial results could be adversely affected if claims against us are successful, to the extent we must make payments under our self-insured retentions, or if such claims are not covered by our applicable insurance or if the costs of our insurance coverage increase.

We have been and continue to be subject to substantial claims against our professional and general liability and automobile liability insurance. Professional and general liability claims, if successful, could result in substantial damage awards which might require us to make significant payments under our self-insured retentions and increase future insurance costs. For claims arising from occurrences from October 1, 2010 to September 30, 2011, we were self-insured for $2.0 million per claim and $8.0 million in the aggregate, and for $500,000 per claim in excess of the aggregate. From October 1, 2011 to September 30, 2013, we were self-insured for the first $4.0 million of each and every claim with no aggregate limit. Beginning October 1, 2013, we are self-insured for $4.0 million per claim and $28.0 million in the aggregate. We may be subject to increased self-insurance retention limits in the future which could have a negative impact on our results. An award may exceed the limits of any applicable insurance coverage, and awards for punitive damages may be excluded from our insurance policies either contractually or by operation of state law. In addition, our insurance does not cover all potential liabilities including, for example, those arising from employment practice claims, wage and hour violations, and governmental fines and penalties. As a result, we may become responsible for substantial damage awards that are uninsured.

Insurance against professional and general liability and automobile liability can be expensive and our insurance premiums may increase in the future. Insurance rates vary from state to state, by type and by other factors. Rising costs of insurance premiums, as well as successful claims against us, could have a material adverse effect on our financial position and results of operations.

It is also possible that our liability and other insurance coverage will not continue to be available at acceptable costs or on favorable terms.

If payments for claims exceed actuarially determined estimates, if claims are not covered by insurance, or if our insurers fail to meet their obligations, our results of operations and financial position could be adversely affected.

The nature of services that we provide could subject us to significant workers’ compensation related liability, some of which may not be fully reserved for.

We use a combination of insurance and self-insurance plans to provide for potential liability for workers’ compensation claims. Because we have so many employees, and because of the inherent physical risk associated with the interaction of employees with our clients, many of whom have intensive care needs, the potential for incidents giving rise to workers’ compensation liability is high.

We estimate liabilities associated with workers’ compensation risk and establish reserves each quarter based on internal valuations, third-party actuarial advice, historical loss development factors and other assumptions believed to be reasonable under the circumstances. In prior years, our results of operations have been adversely impacted by higher than anticipated claims, and they may be adversely impacted in the future if actual occurrences and claims exceed our assumptions and historical trends.

The Patient Protection and Affordable Care Act may materially increase our costs and/or make it harder for us to compete as an employer.

The Patient Protection and Affordable Care Act imposed new mandates on employers and individuals. The mandate requiring all individuals to enroll in a “credible” health insurance plan became effective on January 1, 2014, but the implementation of the requirement that all employers with 50 or more full-time employees provide “credible” health insurance to employees or pay a penalty has been delayed until January 1, 2015. Despite the delayed implementation of the employer mandate, we have recently

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redesigned our health benefits for calendar year 2014 to offer employees health coverage that meets the requirements of the Patient Protection Affordable Care Act. Depending upon claims experience or enrollment changes in our new plans, our cost for employee health insurance could materially increase. Moreover, if the coverage we are offering isn’t competitive with the health insurance benefits our employees could receive at other employers, we may become less attractive as an employer and it may become more difficult for us to compete for qualified employees.

We face substantial competition in attracting and retaining experienced personnel, and we may be unable to maintain or grow our business if we cannot attract and retain qualified employees.

Our success depends to a significant degree on our ability to attract and retain qualified and experienced human service and other professionals, who possess the skills and experience necessary to deliver quality services to our clients and manage our operations. We face competition for certain categories of our employees, particularly direct service professionals and managers, based on wages, benefits and other working conditions. Contractual requirements and client needs determine the number, education and experience levels of health and human service professionals we hire. We face substantial turnover among our direct service professionals. Also, due to the nature of the services we provide, our working conditions require additional sensitivities and skills relative to traditional medical care environments. Our ability to attract and retain employees with the requisite credentials, experience and skills depends on several factors, including, but not limited to, our ability to offer competitive wages, benefits and professional growth opportunities. The inability to attract and retain experienced personnel could have a material adverse effect on our business.

If we fail to establish and maintain relationships with government agencies, we may not be able to successfully procure or retain government-sponsored contracts, which could negatively impact our revenue.

To facilitate our ability to procure or retain government-sponsored contracts, we rely in part on establishing and maintaining relationships with officials of various government agencies, primarily at the state and local level but also including federal agencies. These relationships enable us to maintain and renew existing contracts and obtain new contracts and referrals. The effectiveness of our relationships may be reduced or eliminated with changes in the personnel holding various government offices or staff positions. We also may lose key personnel who have these relationships, and such personnel may not be subject to non-compete or non-solicitation covenants. Any failure to establish, maintain or manage relationships with government and agency personnel may hinder our ability to procure or retain government-sponsored contracts, and could negatively impact our revenue.

Negative publicity or changes in public perception of our services may adversely affect our ability to obtain new contracts and renew existing ones or obtain third-party referrals.

Our success in obtaining new contracts and renewals of our existing contracts depends upon maintaining our reputation as a quality service provider among governmental authorities, advocacy groups, families of our clients, our clients and the public. Negative publicity, changes in public perception, legal proceedings and government investigations with respect to our operations could damage our reputation and hinder our ability to retain contracts and obtain new contracts, and could reduce referrals, increase government scrutiny and compliance or litigation costs, or generally discourage clients from using our services. Any of these events could have a material adverse effect on our business, financial condition and operating results.

Our reputation and prior experience with agency staff, care workers and others in positions to make referrals to us are important for building and maintaining our operations. Any event that harms our reputation or creates negative experiences with such third parties could impact our ability to receive referrals and grow our client base.

A loss of our status as a licensed service provider in any jurisdiction could result in the termination of existing services and our inability to market our services in that jurisdiction.

We operate in numerous jurisdictions and are required to maintain licenses and certifications in order to conduct our operations in each of them. Each state and local government has its own regulations, which can be complicated. Additionally, each of our service lines can be regulated differently within a particular jurisdiction. As a result, maintaining the necessary licenses and certifications to conduct our operations is cumbersome. Our licenses and certifications could be suspended, revoked or terminated for a number of reasons, including:

• the failure by our direct care staff or Mentors to properly care for clients;

• the failure to submit proper documentation to the applicable government agency, including documentation supporting reimbursements for costs;

• the failure by our programs to abide by the applicable laws and regulations relating to the provision of heath and human services; and

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• the failure of our facilities to comply with the applicable building, health and safety codes and ordinances.

From time to time, some of our licenses or certifications, or those of our employees, are temporarily placed on probationary status or suspended. If we lost our status as a licensed provider of health and human services in any jurisdiction or any other required certification, we would be unable to market our services in that jurisdiction, and the contracts under which we provide services in that jurisdiction would be subject to termination. Moreover, such an event could constitute a violation of provisions of contracts in other jurisdictions, resulting in other contract, license or certification terminations. Any of these events could have a material adverse effect on our operations.

Our variable cost structure is directly related to our labor costs, which may be adversely affected by labor shortages, a deterioration in labor relations or increased unionization activities.

Our variable cost structure and operating profitability are directly related to our labor costs. Labor costs may be adversely affected by a variety of factors, including a limited supply of qualified personnel in any geographic area, local competitive forces, ineffective utilization of our labor force, increases in minimum wages or the need to increase wages to remain competitive, health care costs and other personnel costs, and adverse changes in client service models. We typically cannot recover our increased labor costs from payors and must absorb them ourselves. We have incurred higher labor costs in certain markets from time to time because of difficulty in hiring qualified direct care staff. These higher labor costs have resulted from increased wages and overtime and the costs associated with recruitment and retention, training programs and use of temporary staffing personnel. In part to help with the challenge of recruiting and retaining direct care staff, we offer these employees a benefits package that includes paid time off, health insurance, dental insurance, vision coverage, life insurance and a 401(k) plan, and these costs can be significant.

Although our employees are generally not unionized, we have one business in New Jersey with approximately 38 employees who are represented by a labor union and approximately 276 Connecticut direct care workers who are also represented by a labor union. We began negotiating a labor agreement with the Connecticut union in September 2012 and such negotiations are continuing. We may not be able to negotiate this or future labor agreements on satisfactory terms. Future unionization activities could result in an increase of our labor and other costs. If employees covered by a collective bargaining agreement were to engage in a strike, work stoppage or other slowdown, we could experience a disruption of our operations and/or higher ongoing labor costs, which could adversely affect our business, financial condition and results of operations.

Matters involving employees may expose us to potential liability.

We are subject to United States federal, state and local employment laws that expose us to potential liability if we are determined to have violated such employment laws. Failure to comply with federal and state labor laws pertaining to minimum wage, overtime pay, meal and rest breaks, unemployment tax rates, workers’ compensation rates, citizenship or residency requirements, and other employment-related matters may have a material adverse effect on our business or operations. In addition, employee claims based on, among other things, discrimination, harassment or wrongful termination may divert financial and management resources and adversely affect operations. We are further subject to the Fair Labor Standards Act (which governs such matters as minimum wages, overtime and other working conditions) as well as state and local wage and hour laws.

We expect increases in payroll expenses as a result of recent state and federal policy initiatives to increase the minimum wage as well as potential new federal regulations increasing the scope of overtime eligibility. Although such increases are not expected to be material, we cannot assure you that there will not be material increases in the future.

The potential losses that may be incurred as a result of any violation of employment laws are difficult to quantify.

We have increased and will continue to make substantial expenditures to expand existing services, win new business and grow revenue, and we may not realize the anticipated benefits of such increased expenditures.

In order to grow our business, we must capitalize on opportunities to expand existing services and win new business, some of which require spending in advance of revenue. For example, states such as California and New Jersey are in the process of closing state institutions and transitioning individuals with intellectual and developmental disabilities into community-based settings such as ours. Responding to opportunities such as these typically requires significant investment of our resources in advance of revenue. In North Carolina, where we have made significant investments in an effort to expand periodic services for at-risk youth, the system continues to experience significant change that has required us to reorganize and restructure our operations. In fiscal 2012, fiscal 2013 and the beginning of fiscal 2014, we increased significantly the amount spent on growth initiatives, especially new starts. This elevated level of growth investments has had a negative effect on our operating margin, and we may not realize the anticipated benefits of the spending as soon as we expect to or at any point in the future. If we target the wrong areas, or fail to identify the evolving needs of our payors by responding with service offerings that meet their fiscal and programmatic requirements, we may not realize the anticipated benefits of our investments and the results of our operations may suffer.

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We may not realize the anticipated benefits of any future acquisitions, and we may experience difficulties in integrating these acquisitions.

As part of our growth strategy, we intend to make acquisitions. Growing our business through acquisitions involves risks because with any acquisition there is the possibility that:

• the business we acquire may not continue to generate income at the same historical levels on which we based our acquisition decision;

• we may be unable to maintain and renew the contracts of the acquired business;

• unforeseen difficulties may arise in integrating the acquired operations, including employment practices, information systems and accounting controls;

• we may not achieve operating efficiencies, synergies, economies of scale and cost reductions as expected;

• we may be required to pay higher purchase prices for acquisitions than we have paid historically;

• management may be distracted from overseeing existing operations by the need to integrate the acquired business;

• we may acquire or assume unexpected liabilities or there may be other unanticipated costs;

• we may encounter unanticipated regulatory risk;

• we may experience problems entering new markets or service lines in which we have limited or no experience;

• we may fail to retain and assimilate key employees of the acquired business;

• we may finance the acquisition by incurring additional debt and further increase our leverage ratios; and

• the culture of the acquired business may not match well with our culture.

As a result of these risks, there can be no assurance that any future acquisition will be successful or that it will not have a material adverse effect on our financial condition and results of operations.

We are subject to extensive governmental regulations, which require significant compliance expenditures, and a failure to comply with these regulations could adversely affect our business.

We comply with comprehensive government regulation of our business, including statutes, regulations and policies governing the licensing of our facilities, the maintenance and management of our work place for our employees, the quality of our service, the revenue we receive for our services and reimbursement for the cost of our services. Compliance with these laws, regulations and policies is expensive, and if we fail to comply with these laws, regulations and policies, we could lose contracts and the related revenue, thereby harming our financial results. State and federal regulatory agencies have broad discretionary powers over the administration and enforcement of laws and regulations that govern our operations. A material violation of a law or regulation could subject us to fines and penalties and in some circumstances could disqualify some or all of the facilities and programs under our control from future participation in Medicaid or other government programs. The Health Insurance Portability and Accountability Act of 1996 (as amended, “HIPAA”) and other federal and state data privacy and security laws, which require the establishment of privacy standards for health care information storage, retrieval and dissemination as well as electronic transmission and security standards, could result in potential penalties in certain of our businesses if we fail to comply with these privacy and security standards.

Expenses incurred under governmental agency contracts for any of our services, as well as management contracts with providers of record for such agencies, are subject to review by agencies administering the contracts and services. Representatives of those agencies visit our group homes to verify compliance with state and local regulations governing our home operations. A negative outcome from any of these examinations could increase government scrutiny, increase compliance costs or hinder our ability to obtain or retain contracts. Any of these events could have a material adverse effect on our business, financial condition and operating results.

The federal anti-kickback law and non-self referral statute, and similar state statutes, prohibit kickbacks, rebates and any other form of remuneration in return for referrals. Any remuneration, direct or indirect, offered, paid, solicited or received, in return for referrals of patients or business for which payment may be made in whole or in part under Medicaid could be considered a violation of law. The anti-kickback law also prohibits payments made to anyone to induce them to recommend purchasing, leasing or ordering any goods, facility, service or item for which payment may be made in whole or in part by Medicaid. Criminal penalties under the anti-kickback law include fines up to $25,000, imprisonment for up to five years, or both. In addition, acts constituting a violation of the anti-kickback law may also lead to civil penalties, such as fines, assessments and exclusion from participation in the Medicaid programs.

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We are subject to many different and varied audit mechanisms for post-payment review of claims submitted under the Medicaid program. These include Recovery Audit Contractor (“RAC”) auditors, State Medicaid auditors, surveillance integrity review audits and Payment Error Rate Measurement (“PERM”) audits, among others. Any one of these audit activities may identify claims that the auditors deem problematic and, following such determination, may be made recoupment of claims by Medicaid to us.

On March 17, 2014, a newly promulgated federal regulation governing home- and community-based services became effective. The rule establishes eligibility requirements for Medicaid home and community based services provided under the “waiver” program. The waiver program allows the states to furnish an array of home- and community-based services and avoid institutional care. Under the new rule, home- and community-based settings must be integrated in and support full access to the greater community, be selected by the individual from different setting options, ensure individual rights of privacy, and optimize autonomy and independence in making life choices. The rule includes additional requirements for provider-owned or controlled home and community based residential settings, including that the individual has a lease or other legally enforceable agreement, and standards related to the individual’s privacy, control over schedule and visitors, and physical accessibility of the setting. At this juncture it is unclear how individual states will seek to implement this newly adopted regulation. The rule presents some implementation challenges, as certain of the broad requirements may conflict with the needs and/or precautions that we must take for certain of the individuals that we serve. It is unclear how each state will seek to address this potential conflict, and the impact and costs of implementation and compliance with this regulation are currently unknown. States have the option to vary or delay compliance with the federal standards for as long as six years. Moreover, each state Medicaid agency may interpret and submit different requests and extension timelines.

Any change in interpretations or enforcement of existing or new laws and regulations could subject our current business practices to allegations of impropriety or illegality, or could require us to make changes in our homes, equipment, personnel, services, pricing or capital expenditure programs, which could increase our operating expenses and have a material adverse effect on our operations or reduce the demand for or profitability of our services.

Should we be found out of compliance with these statutes, regulations and policies, depending on the nature of the findings, our business, our financial position and our results of operations could be materially adversely impacted.

If we identify deficiencies in our internal control over financial reporting, our business may be adversely affected.

We are required to assess the effectiveness of our internal control over financial reporting and report on the effectiveness of our internal control over financial reporting under Section 404 of the Sarbanes-Oxley Act. No evaluation can provide complete assurance that our internal controls will operate as intended.

The generally decentralized nature of our operations and manual nature of many of our controls increases our risk of control deficiencies. In connection with the transition of our billing, accounts receivable and general ledger functions to a shared services center, we have gradually been centralizing and automating certain of those controls, and we may in the future identify material weaknesses in connection with this implementation. In addition, future acquisitions may present challenges in implementing appropriate internal controls. Any future material weaknesses in internal control over financial reporting could result in material misstatements in our financial statements. Moreover, any future disclosures of additional material weaknesses, or errors as a result of those weaknesses, could result in a negative reaction in the financial markets if there is a loss of confidence in the reliability of our financial reporting.

The high level of competition in our industry could adversely affect our contract and revenue base.

We compete in a highly fragmented industry with a wide variety of competitors, ranging from small, local agencies to a few large, national organizations. Competitive factors may favor other providers and reduce our ability to obtain contracts, which would hinder our growth. Not-for-profit organizations are active in all states and range from small agencies, serving a limited area with specific programs to multi-state organizations. Smaller local organizations may have a better understanding of the local conditions and may be better able to gain political and public acceptance. Not-for-profit providers may be affiliated with advocacy groups, health organizations or religious organizations that have substantial influence with legislators and government agencies. Increased competition may result in pricing pressures, loss of or failure to gain market share or loss of clients or payors, any of which could harm our business.

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Because a portion of our indebtedness bears interest at rates that fluctuate with changes in certain prevailing short-term interest rates, we are vulnerable to interest rate increases.

A portion of our indebtedness, including borrowings under the new senior secured credit facilities bears interest at rates that fluctuate with changes in certain short-term prevailing interest rates. If interest rates increase, our debt service obligations on the variable rate indebtedness would increase even though the amount borrowed remained the same. The Company entered into an interest rate swap, as amended on October 2012, in a notional amount of $400.0 million effective March 31, 2011 that matures September 30, 2014 in order to hedge the risk of changes in the floating rate of interest on borrowings of secured debt. As a result of the interest rate swap agreement, the floating rate debt has been effectively reduced to $200.0 million. Accordingly, a 1% increase in the interest rate on our floating rate debt would increase cash interest expense of the floating rate debt by approximately $2.0 million per annum. If interest rates increase dramatically, we could be unable to service our debt.

Home and community-based human services may become less popular among our targeted client populations and/or state and local governments, which would adversely affect our results of operations.

Our growth depends on the continuation of trends in our industry toward providing services to individuals in smaller, community-based settings and increasing the percentage of individuals served by non-governmental providers. For example, during the course of much of the last decade, state governments increasingly adopted policies that emphasized greater family preservation and family reunification for at-risk youth, which reduced the demand for foster care services and required that we adapt our service offerings. Shifts in public policy and, therefore, our future success, are subject to a variety of political, economic, social and legal pressures, all of which are beyond our control. A reversal in the downsizing and privatization trends could reduce the demand for our services, which could adversely affect our revenue and profitability.

We conduct a significant percentage of our operations in Minnesota and, as a result, we are particularly susceptible to any reduction in budget appropriations for our services or any other adverse developments in that state.

For each of the fiscal year ended September 30, 2013 and the six months ended March 31, 2014, 14% of our net revenue was derived from contracts with government agencies in the State of Minnesota. Accordingly, any reduction in Minnesota’s budgetary appropriations for our services, whether as a result of fiscal constraints due to recession, changes in policy or otherwise, could result in a reduction in our fees and possibly the loss of contracts. For example, our I/DD services in Minnesota were negatively impacted in 2009 and 2011 by rate cuts of 2.6% and 1.5%, respectively. We cannot assure you that we will not receive additional rate reductions this year or in the future. The concentration of our operations in Minnesota also makes us particularly susceptible to many of the other risks described above occurring in this state, including:

• the failure to maintain and renew our licenses;

• the failure to maintain important relationships with officials of government agencies; and

• any negative publicity regarding our operations.

Any of these adverse developments occurring in Minnesota could result in a reduction in revenue or a loss of contracts, which could have a material adverse effect on our results of operations, financial position and cash flows.

We depend upon the continued services of certain members of our senior management team, without whom our business operations could be significantly disrupted.

Our success depends, in part, on the continued contributions of our senior officers and other key employees. Our management team has significant industry experience and a long history with us, and would be difficult to replace. If we lose or suffer an extended interruption in the service of one or more of our key employees, our financial condition and operating results could be adversely affected. The market for qualified individuals is highly competitive and we may not be able to attract and retain qualified personnel to replace or succeed members of our senior management or other key employees, should the need arise.

Our success depends on our ability to manage and integrate key administrative functions.

Our operations and administrative functions are largely decentralized and subject to disparate accounting and billing requirements established and often modified by our local payors and referral sources. Although in recent years we have undertaken an effort to consolidate accounting, billing, cash collections and other financial and administrative functions which may have mitigated this risk to some degree, there remains a substantial portion of the business that has not yet been centralized and some risk in the centralization process itself. If we encounter difficulties in integrating our operations further or fail to effectively manage these functions to ensure compliance with disparate and evolving requirements imposed by our payors and referral sources, it could have a material adverse effect on our results of operations, financial position and cash flows.

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Our information systems are critical to our business and a failure of those systems, or a failure to upgrade them when required, could materially harm us.

We depend on our ability to store, retrieve, process and manage a significant amount of information, and to provide our operations with efficient and effective accounting, census, incident reporting and other quality assurance and other scheduling systems. Our information systems require maintenance and upgrading to meet our needs, which could significantly increase our administrative expenses.

Any system failure that causes an interruption in service or availability of our critical systems could adversely affect operations or delay the collection of revenues. Even though we have implemented network security measures, our servers are vulnerable to computer viruses, hacking and similar disruptions from unauthorized tampering. The occurrence of any of these events could result in interruptions, delays, the loss or corruption of data, or cessations in the availability of systems, all of which could have a material adverse effect on our financial position and results of operations and harm our business reputation. Furthermore, a loss of health care information could result in potential penalties in certain of our businesses if we fail to comply with privacy and security standards in violation of HIPAA.

The performance of our information technology and systems is critical to our business operations. Our information systems are essential to a number of critical areas of our operations, including:

• accounting and financial reporting;

• billing and collecting accounts;

• coding and compliance;

• clinical systems, including census and incident reporting;

• records and document storage; and

• monitoring quality of care and collecting data on quality and compliance measures.

In addition, as we continue to upgrade our systems, we run the risk of ongoing disruptions while we transition from legacy, and sometimes paper-based, systems. Disruptions in our systems could result in delays and difficulties in billing, which could negatively affect our results from operations and cash flows. We may choose systems that ultimately fail to meet our needs, or that cost more to implement and maintain than we had anticipated. Such systems may become obsolete sooner than expected, our payors may require us to invest in other systems, and state and/or federal regulations may impose electronic records standards that we cannot easily address from our existing platform. If we fail to upgrade successfully and cost-effectively, or if we are forced to invest in new or incompatible technology, our financial condition, cash flows and results of operations may suffer.

Our financial results may suffer if we have to write off goodwill or other intangible assets.

A large portion of our total assets consists of goodwill and other intangible assets. Goodwill and other intangible assets, net of accumulated amortization, accounted for 56.1% and 56.0% of the total assets on our consolidated balance sheets as of March 31, 2014 and September 30, 2013, respectively. We may not realize the value of our goodwill or other intangible assets and we expect to engage in additional transactions that will result in our recognition of additional goodwill or other intangible assets.

We evaluate on a regular basis whether events and circumstances have occurred that indicate that all or a portion of the carrying amount of goodwill or other intangible assets may no longer be recoverable, and is therefore impaired. Under current accounting rules, any determination that impairment has occurred would require us to write-off the impaired portion of our goodwill or the unamortized portion of our intangible assets, resulting in a charge to our earnings.

We may be more susceptible to the effects of a natural disaster or public health catastrophe, compared with other businesses due to the vulnerable nature of our client population.

Our primary clients are individuals with developmental disabilities, brain injuries, or emotionally, behaviorally and/or medically complex challenges, many of whom would be more vulnerable than the general public in a natural disaster or public health catastrophe. In a natural disaster, we could be forced to relocate some of our clients on short notice under dangerous conditions and our new program starts could experience delays. Accordingly, natural disasters and certain public health catastrophes could have a material adverse effect on our financial condition and results of operations.

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We are controlled by our principal equityholder, which has the power to take unilateral action.

Vestar controls our business affairs and material policies. Circumstances may occur in which the interests of Vestar could be in conflict with the interests of our debt holders. In addition, Vestar may have an interest in pursuing organic growth opportunities, acquisitions, divestitures or other transactions that, in their judgment, could enhance their equity investment, even though such transactions might involve risks to our debt holders. Vestar is in the business of making investments in companies and may from time to time acquire and hold interests in businesses that compete directly or indirectly with us. Vestar may also pursue acquisition opportunities that may be complementary to our business and, as a result, those acquisition opportunities may not be available to us. So long as investment funds associated with or designated by Vestar continue to own a significant amount of our equity interests, even if such amount is less than 50%, Vestar will continue to be able to significantly influence or effectively control our decisions.

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds.

Unregistered Sales of Equity Securities

No equity securities of the Company or of its indirect parent, NMH Investment, LLC (“NMH Investment”), were sold during the three months ended March 31, 2014.

The following table sets forth the number of units of common equity of NMH Investment issued during the quarter ended March 31, 2014 pursuant to the NMH Investment, LLC Amended and Restated 2006 Unit Plan, as amended. The units were issued under Rule 701 promulgated under the Securities Act of 1933.

Date	Title of Securities		Amount		Purchasers		Consideration
January 27, 2014		Class F Common Units		103,710.33		Certain employees	$	—
January 27, 2014		Class F Common Units		100,000.00		Chief Executive Officer	$	—
January 27, 2014		Class H Common Units		100,000.00		Chief Executive Officer	$	—

Repurchases of Equity Securities

No equity securities of the Company were repurchased during the three months ended March 31, 2014.

The following table sets forth information in connection with repurchases made by NMH Investment of its common equity units during the three months ended March 31, 2014:

	(a) Class and Total Number of Units Purchased		(b) Average Price Paid per Unit		(c) Total Number of Units Purchased as Part of Publicly Announced Plans or Programs		(d) Maximum Number (or Approximate Dollar Value) of Shares (or Units) that May Yet be Purchased Under the Plans or Programs
Month #1 (January 1, 2014 through January 31, 2014)		2,000.00 A Units 8,855.00 B Units 9,292.00 C Units 9,844.00 D Units 90,014.81 F Units 5,000.00 G Units	$ $ $ $ $ $	10.00 0.05 0.03 0.01 —   —		—   —   —   —   —		N/A N/A N/A N/A N/A
Month #2 (February 1, 2014 through February 28, 2014)		— A Units — B Units — C Units — D Units — F Units — G Units		—   —   —   —   —		—   —   —   —   —		N/A N/A N/A N/A N/A
Month #3 (March 1, 2014 through March 31, 2014)		— A Units — B Units — C Units — D Units — F Units — G Units		—   —   —   —   —		—   —   —   —   —		N/A N/A N/A N/A N/A

The Company did not repurchase any of its common stock as part of an equity repurchase program during the three months ended March 31, 2014. NMH Investment purchased all of the units listed in the table from six of its employees after their departures.

Item 3. Defaults Upon Senior Securities.

None.

Item 4. Mine Safety Disclosures.

None.

Item 5. Other Information.

On May 9, 2014, the Audit Committee adopted resolutions that waived the Company’s Related Party Transaction & Conflicts of Interest policy under the Company’s Code of Conduct for the limited purpose of permitting the Company to pay the legal fees and expenses of Goodwin Procter LLP, which was engaged to represent members of management of the Company in connection with the consideration, negotiation and implementation of certain contractual arrangements. The brother-in-law of Bruce F. Nardella, the Company’s Chief Executive Officer, is a litigation partner of Goodwin Procter LLP and will not be working on the matter.

Item 6. Exhibits.

The Exhibit Index is incorporated herein by reference.

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SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

	NATIONAL MENTOR HOLDINGS, INC.
May 14, 2014	By:	/s/ Denis M. Holler
		Denis M. Holler
		Its:	Chief Financial Officer, Treasurer and duly authorized officer

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EXHIBIT INDEX

Exhibit No.	Description
3.1	Amended and Restated Certificate of Incorporation of National Mentor Holdings, Inc.	Incorporated by reference to Exhibit 3.1 of National Mentor Holdings, Inc. Form 10-Q for the quarterly period ended March 31, 2007 (the “March 2007 10-Q”)
3.2	By-Laws of National Mentor Holdings, Inc.	Incorporated by reference to Exhibit 3.2 and 3.3 of the Form 10-K for the fiscal year ended September 30, 2013 of the March 2007 10-Q
10.1	Termination of Amended and Restated Employment Agreement, effective as of January 1, 2014, by and between Gregory Torres and National Mentor Holdings, Inc.	Incorporated by reference to Exhibit 10.28 of theForm 10-K for the fiscal year ended September 30, 2013
10.2	Second Amended and Restated Employment Agreement, effective as of January 1, 2014, by and between Edward M. Murphy and National Mentor Holdings, Inc.	Incorporated by reference to Exhibit 10.29 of theForm 10-K for the fiscal year ended September 30, 2013
10.3	Employment Agreement, effective as of January 1, 2014, by and between Bruce F. Nardellas and National Mentor Holdings, Inc.	Incorporated by reference to Exhibit 10.30 of theForm 10-K for the fiscal year ended September 30, 2013
10.4#	Credit Agreement dated as of January 31, 2014, among NMH Holdings, LLC, as parent guarantor, National Mentor Holdings, Inc. as borrower, the several lenders from time to time party thereto, Barclays Bank PLC, as administrative agent, Jeffries Finance LLC and UBS Securities LLC, as co-documentation agents, and Barclays Bank PLC, Goldman Sachs Bank USA, Jeffries Finance LLC and UBS Securities LLC, as joint lead arrangers and joint bookrunners.	Filed herewith
10.5	Guarantee and Security Agreement, dated as of January 31, 2014, among NMH Holdings, LLC as parent guarantor, National Mentor Holdings, Inc., as borrower, certain subsidiaries of National Mentor Holdings Inc., as subsidiary guarantors, and Barclays Bank, PLC as administrative agent.	Filed herewith
31.1	Certification of principal executive officer.	Filed herewith
31.2	Certification of principal financial officer.	Filed herewith
32	Certifications furnished pursuant to 18 U.S.C. Section 1350.	Filed herewith
101	Interactive Data Files

# Indicates confidential portions have been omitted pursuant to a request for confidential treatment filed separately with the SEC.

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