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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-Q
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(MARK ONE)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED JUNE 30, 1999
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM ___________ TO ___________
COMMISSION FILE NUMBER: 0-26980
ARV ASSISTED LIVING, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 33-0160968
(STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER
INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)
245 FISCHER AVENUE, D-1
COSTA MESA, CA 92626
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICE) (ZIP CODE)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (714) 751-7400
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes [X] No [ ]
The number of outstanding shares of the Registrant's Common Stock, no par value,
as of August 2, 1999, was 15,873,498.
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PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS.
ARV ASSISTED LIVING, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(UNAUDITED)
(IN THOUSANDS)
ASSETS
JUNE 30, DECEMBER 31,
1999 1998
--------- ---------
Current assets:
Cash and cash equivalents ..................... $ 26,289 $ 11,884
Fees receivable and other amounts due from
affiliates .................................. 615 776
Prepaids and other current assets ............. 5,514 5,925
Properties held for sale, net ................. 17,354 35,212
--------- ---------
Total current assets .................. 49,772 53,797
Property, furniture and equipment, net .......... 112,772 105,637
Goodwill, net ................................... 19,723 23,170
Operating lease security deposits ............... 11,968 5,419
Other non-current assets ........................ 16,978 17,436
--------- ---------
$ 211,213 $ 205,459
========= =========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Accounts payable ............................. $ 13,045 $ 5,222
Accrued liabilities .......................... 14,702 11,644
Notes payable, current portion ............... 7,385 21,669
Accrued interest payable ..................... 1,201 1,677
Net current liabilities from discontinued
operations ................................. 2,945 1,895
--------- ---------
Total current liabilities ............ 39,278 42,107
Notes payable, less current portion ............. 123,238 88,175
Lease liabilities ............................... 1,278 1,346
Other non-current liabilities ................... 1,875 954
--------- ---------
165,669 132,582
--------- ---------
Commitments and contingent liabilities
Minority interest in majority owned entities .... (473) 7,190
--------- ---------
Shareholders' equity:
Preferred stock, $0.01 par value. Authorized
10,000 shares, none issued and outstanding .. -- --
Common stock, $0.01 par value. Authorized
100,000 shares; issued and outstanding
15,873 and 15,873 shares at June 30, 1999
and December 31, 1998, respectively ........ 143,178 143,178
Accumulated deficit ........................... (97,161) (77,491)
--------- ---------
Total shareholders' equity ............ 46,017 65,687
--------- ---------
$ 211,213 $ 205,459
========= =========
See accompanying notes to unaudited condensed consolidated financial statements.
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ARV ASSISTED LIVING, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
THREE MONTHS AND SIX MONTHS ENDED JUNE 30, 1999 AND 1998
(UNAUDITED)
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
------------------------- -------------------------
1999 1998 1999 1998
-------- -------- -------- --------
Revenue:
Assisted living community revenue:
Rental revenue ..................... $ 27,271 $ 24,917 $ 55,894 $ 47,074
Assisted living and other services . 6,759 5,682 13,635 10,661
Management fees from others .......... 101 175 244 286
Management fees from affiliates ...... 213 172 450 251
-------- -------- -------- --------
Total revenue ................. 34,344 30,946 70,223 58,272
-------- -------- -------- --------
Operating expenses:
Assisted living community
operating expense ................... 21,242 18,992 44,434 36,220
Assisted living community
lease expense ....................... 7,917 6,055 15,992 11,690
General and administrative ............ 3,407 6,751 6,256 12,085
Impairment of long lived assets ....... 7,722 -- 7,722 --
Depreciation and amortization ......... 2,097 2,239 4,354 4,054
-------- -------- -------- --------
Total operating expenses ...... 42,385 34,037 78,758 64,049
-------- -------- -------- --------
Loss from operations ................... (8,041) (3,091) (8,535) (5,777)
-------- -------- -------- --------
Other income (expense):
Interest income ...................... 190 486 335 1,783
Other income, net .................... 152 207 207 279
Interest expense ..................... (2,078) (1,600) (4,086) (2,909)
Litigation judgment .................. (5,600) -- (5,600) --
-------- -------- -------- --------
Total other expense ............. (7,336) (907) (9,144) (847)
-------- -------- -------- --------
Loss from continuing
operations before income taxes ......... (15,377) (3,998) (17,679) (6,624)
Income tax expense ..................... -- 36 -- 42
-------- -------- -------- --------
Loss before minority interest
in Income of majority owned
entities And cumulative effect of
change In accounting principle ......... (15,377) (4,034) (17,679) (6,666)
Minority interest in income
of majority owned entities ............. 316 409 731 793
-------- -------- -------- --------
Loss before cumulative effect of change
in accounting principle ................ (15,693) (4,443) (18,410) (7,459)
Cumulative effect of change in
accounting principle, net of tax ...... -- -- (1,259) --
-------- -------- -------- --------
Net loss ............................... $(15,693) $ (4,443) $(19,669) $ (7,459)
======== ======== ======== ========
Basic and diluted loss per common share:
Loss before cumulative
effect of change in accounting principle $ (.99) $ (.28) $ (1.16) $ (.47)
Cumulative effect of change
in accounting principle, net of tax ... -- -- (.08) --
-------- -------- -------- --------
Net loss ........................ $ (.99) $ (.28) $ (1.24) $ (.47)
======== ======== ======== ========
Weighted average common
shares outstanding ..................... 15,873 15,876 15,873 15,866
======== ======== ======== ========
See accompanying notes to unaudited condensed consolidated financial statements.
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ARV ASSISTED LIVING, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
THREE MONTHS ENDED JUNE 30, 1999 AND 1998
(UNAUDITED)
(IN THOUSANDS)
SIX MONTHS ENDED
JUNE 30,
---------------------------
1999 1998
--------- ---------
Net cash used in operating activities of
continuing operations ..................................... $ (1,639) $ (4,953)
Net cash provided by (used in) operating activities
of discontinued operations ................................ 1,050 (2,572)
--------- ---------
Net cash used in operating activities ................ (589) (7,525)
--------- ---------
Cash flows used in investing activities:
Acquisition of Hillsdale Communities ...................... -- (56,540)
Increase in restricted cash ............................... -- (12,497)
Acquisition of rights under management contracts .......... -- (1,325)
Increase in deferred project costs and other assets ....... -- (957)
Proceeds from the sale of communities, net of cost ........ 22,809 --
Purchase of previously leased communities ................. (14,636) --
Additions to property, furniture and equipment ............ (6,056) (3,415)
Increase in leased property security deposits ............. (6,204) (509)
Purchase of limited partnership interest .................. -- (1,200)
Cash contributed to joint venture ......................... (1,248) --
Other ..................................................... 159 --
--------- ---------
Net cash used in investing activities ................ (5,176) (76,443)
--------- ---------
Cash flows provided by (used in) financing activities:
Borrowings under notes payable for purchase of
previously leased communities ............................ 14,678 --
Borrowing under refinancing for owned communities ........ 41,817 --
Repayments of notes payable ............................... (35,716) (312)
Distributions from majority owned entities ................ (533) (359)
Issuance of common stock, net of issuance costs ........... -- 233
Issuance costs in connection with conversion of
subordinated notes ...................................... -- (2,610)
Other ..................................................... (76) --
--------- ---------
Net cash provided by (used in) financing activities .. 20,170 (3,048)
--------- ---------
Net (decrease) increase in cash and cash equivalents . 14,405 (87,016)
Cash and cash equivalents at beginning of period ............ 11,884 102,776
--------- ---------
Cash and cash equivalents at end of period .................. $ 26,289 $ 15,760
========= =========
Supplemental schedule of cash flow information:
Cash paid during the period for:
Interest .................................................. $ 4,657 $ 3,544
========= =========
Income taxes .............................................. $ -- $ 42
========= =========
Supplemental schedule of non-cash investing activities:
Assumption of debt in connection with Hillsdale acquisition $ -- $ 15,250
========= =========
Issuance of common stock .................................. $ -- $ 108
========= =========
See accompanying notes to unaudited condensed consolidated financial statements.
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ARV ASSISTED LIVING, INC. AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 1999
(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BASIS OF PRESENTATION
We prepared the accompanying condensed consolidated financial statements of ARV
Assisted Living, Inc. and subsidiaries ("the Company" or "ARV") following the
requirements of the Securities and Exchange Commission ("SEC") for interim
reporting. As permitted under those rules, certain footnotes or other financial
information that are normally required by generally accepted accounting
principles ("GAAP") can be condensed or omitted. We have reclassified certain
prior year data to conform to the 1999 presentation.
The financial statements include all normal and recurring adjustments that we
consider necessary for the fair presentation of our financial position and
operating results. These are condensed financial statements. To obtain a more
detailed understanding of our results, you should also read the financial
statements and notes in our Form 10-K for 1998, which is on file with the SEC.
The results of operation can vary during each quarter of the year. Therefore,
the results and trends in these interim financial statements may not be the
same.
PRINCIPLES OF CONSOLIDATION
The condensed consolidated financial statements include the accounts of the
Company and our subsidiaries. Subsidiaries, which include limited partnerships
in which we have controlling interests, have been consolidated into the
financial statements. All significant intercompany balances and transactions
have been eliminated in consolidation.
USE OF ESTIMATES
In preparing the financial statements conforming to GAAP, we have made estimates
and assumptions that affect the following;
Reported amounts of assets and liabilities at the date of the financial
statements;
Disclosure of contingent assets and liabilities at the date of the
financial statement; and
Reported amounts of revenues and expenses during the reporting period.
Actual results could differ from those estimates.
NEW PRONOUNCEMENTS
In April 1998, the Accounting Standards Executive Committee issued Statement of
Position ("SOP") No. 98-5, "Reporting on the Costs of Start-up Activities,"
which is effective for fiscal years beginning after December 15, 1998. The SOP
provides guidance on the financial reporting of start-up activities and
organizational costs. It requires costs of start-up activities and
organizational costs to be expensed when incurred and, upon adoption, the write
off as a cumulative effect of a change in accounting principle any previously
capitalized start-up or organizational costs. We adopted the provision of SOP
98-5 on January 1, 1999 and reported a charge of approximately $1.3 million for
the cumulative effect of this change in accounting principle. There was no
effect on income taxes related to the write-off.
The Financial Accounting Standards Board has also issued Statement of Financial
Accounting Standards No. 131, "Disclosure about Segments of an Enterprise and
Related Information" ("SFAS 131"). This standard requires that a public business
enterprise report financial and descriptive information about its reportable
operating segments. Operating segments are components of an enterprise about
which separate financial information is available that is regularly evaluated by
the chief operating decision maker in deciding
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how to allocate resources and in assessing performance. We evaluate performance
and make resource allocation decisions on a community-by-community basis.
Accordingly, each community is considered an "operating segment" under AFAS 131.
However, SFAS No. 131 did not have an impact on the financial statements because
the communities have similar economic characteristics, as defined by SFAS 131,
and meet the criteria for aggregation into one "reportable segment."
LOSS PER SHARE
Basic earning (loss) per share ("EPS") excludes all dilution and is based upon
the weighted average number of common shares outstanding during the period.
Diluted EPS reflects the potential dilution that would occur if securities or
other contracts to issue common stock were exercised, or converted into common
stock. The effect of potentially dilutive securities was not included for any of
the periods presented as the effect was antidilutive. Potentially dilutive
securities include convertible notes and stock options, which convert to
12,778,000 and 100,894 shares of common stock for the three-month periods ended
June 30, 1999 and 1998, respectively.
(2) COMMITMENTS AND CONTINGENT LIABILITIES
COMMITMENTS
The Company has guaranteed indebtedness of certain affiliated partnerships as
follows:
(IN THOUSANDS)
Notes secured by real estate $73,586
Construction loans associated with the
development and construction of
affordable housing apartments $20,265
The Company has guaranteed $93.9 million of loans in the event of fraud,
material misrepresentations, environmental impairment and certain loan
covenants. The Company has guaranteed tax credits for certain partnerships in
the aggregate amount of $78.4 million, excluding interest, penalties or other
charges which might be assessed against the partners. We have provided
development and operating deficit guarantees for certain affiliated
partnerships. In our opinion, no claims may be currently asserted under any of
the aforementioned guarantees based on the terms of the respective agreements
other than those accrued nor are any additional accruals anticipated.
In the past we provided standby letters of credit as security deposits with most
of our landlords. In December 1998, we provided cash in exchange for the release
of the standby letters of credit to our largest landlord, Nationwide Health
Properties, Inc. ("NHP"). For a period of time that is extended on a month to
month basis, NHP has granted a temporary reduction in some of the security
deposits. As of June 30, 1999, approximately $1.0 million remains of the
temporarily reduced security deposit payable to NHP. We anticipate funding the
temporary reduction during the last half of 1999.
LITIGATION
On September 27, 1996, American Retirement Villas Partners II, a California
limited partnership ("ARVP II") of which the Company is the managing general
partner and a majority limited partner, filed actions in the Superior Court for
the State of California, County of Santa Clara, seeking declaratory judgments
against the landlords of the Retirement Inn of Campbell ("Campbell") and the
Retirement Inn of Sunnyvale ("Sunnyvale"). ARVP II leased the Campbell and
Sunnyvale assisted living communities under long-term leases. A dispute arose as
to the amount of rent due during the 10-year lease renewal periods, which
commenced in August 1995 for Campbell and March 1996 for Sunnyvale. Two other
communities leased by ARVP II, the Retirement Inn of Fremont and the Retirement
Inn at Burlingame were owned by entities related to the entities that own the
Campbell and Sunnyvale communities. The parties mutually negotiated the terms of
a purchase agreement involving the sale of the landlord's fee interest in the
four communities to ARVP II and settlement of all claims. On March 2, 1999,
through a wholly owned subsidiary, ARVP II, obtained financing and purchased,
through its wholly owned subsidiary, ARVP II, LLC, the landlords' interests in
the four communities for approximately $14.6 million, and the litigation was
dismissed.
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On June 30, 1999, the trial judge rendered a decision against ARV and in favor
of Emeritus Corporation ("Emeritus") in the amount of $5.4 million. This lawsuit
accrual was recorded in other expense. The lawsuit was filed on April 24, 1998
in the Superior Court of California, County of Orange, alleging that share
purchases on January 16, 1998 by Prometheus Assisted Living LLC triggered the
Company's Shareholder Rights Agreement. Emeritus contends that due to the
alleged triggering event the Company was required to distribute one Right per
share of outstanding Company stock and that each right was exercisable for
approximately 9.56 shares at a total purchase price of $70 (or approximately
$7.32 per share). The court awarded damages in lieu of stock because the stock
is below he effective exercise price under the Rights Agreement. The Company
intends to explore all alternatives to payment of the damages award made in the
court's statement of decision. However, an accrual was recorded in the financial
statements for the $5.4 million award and an estimate of appeal costs.
On May 12, 1998, we filed a lawsuit in the Superior Court for the State of
California, County of Orange, seeking to enjoin Kapson Senior Quarters Corp.
("Kapson"), a controlled affiliate of Lazard Freres Real Estate Investors LLC
("LFREI") from acquiring Atria Communities ("Atria"), a then unaffiliated
competitor. Atria was also named as a defendant in the suit, as were three LFREI
representatives on our Board of Directors, Messrs. Kenneth M. Jacobs, Robert P.
Freeman and Murry N. Gunty. We alleged that LFREI was violating both its
contractual and fiduciary duties to us if it allowed Kapson to proceed with the
acquisition without first offering us the right to be the acquiring party and
then, if we declined, obtaining our permission to consummate this acquisition.
On June 9, 1998, LFREI filed a cross-complaint against us, alleging that our
preliminary communications with several potential sources of capital to assist
us in financing the acquisition of Atria in the event that LFREI honored our
right of first offer or was ordered to do so by the court constituted an early
termination event under the Amended and Restated Stockholders Agreement dated as
of October 29, 1997, by and among LFREI, Prometheus and us (the "Amended
Stockholders Agreement"). LFREI also contended that certain standstill
provisions under the Amended Stockholders Agreement had terminated.
On August 14, 1998, the Judge in the trial ruled from the bench against us and
in favor of all defendants on LFREI's motion for judgment on all of our causes
of action.
On October 21, 1998, we announced that a "Termination Event", as defined in the
Amended Stockholders Agreement, occurred on October 12, 1998, when Prometheus no
longer beneficially owned our common stock having a market value of at least $25
million. As a result of the Termination Event, Prometheus' and LFREI's
standstill obligations would have terminated on January 11, 1999. However, on
December 7, 1998, the Superior Court of the State of California, County of
Orange issued an order in favor of LFREI concluding that their standstill
obligations terminated as of April 1998. Final judgement in the action was
entered on May 12, 1999. We filed a notice of appeal in July 1999 with the
Superior Court of the State of California, County of Orange.
On December 18, 1998, Prometheus filed a lawsuit in the Delaware Chancery Court
against the Company and two of our directors, Howard G. Phanstiel and John A.
Booty. The lawsuit seeks a determination that our annual meeting of stockholders
held in June 1998 was invalid because Prometheus alleges we failed to reach a
quorum and, accordingly, the election of the named individual directors was
allegedly invalid.
Since the nature of litigation is that results cannot be predicted with
certainty, there can be no assurance we will prevail in any of the foregoing
litigation actions.
We are from time to time subject to claims and disputes for legal and other
matters in the normal course of business. While the results of such matters
cannot be predicted with certainty, management does not believe that the final
outcome of any pending matters other than the Emeritus decision noted above,
will have a material effect on the Company's consolidated financial position,
results of operations, or liquidity.
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(3) ACQUISITIONS
HILLSDALE COMMUNITIES
In 1998 we purchased interests in 11 ALCs, including a skilled nursing component
in one community, all located in California, for $83.5 million. The communities
acquired are as follows:
DATE
COMMUNITY LOCATION UNITS ACQUIRED
- --------- -------- ----- --------
OWNED
Golden Creek Inn.............................Irvine, CA 123 April 16, 1998
Hillcrest Inn................................Thousand Oaks, CA 137 April 16, 1998
Rossmore House...............................Los Angeles, CA 157 May 4, 1998
The Berkshire................................Berkley, CA 81 May 12, 1998
Encino Hills Terrace.........................Encino, CA 76 July 7, 1998
-----
Total owned.............................. 574
-----
LEASED
Willow Glen Villa............................San Jose, CA 188 May 18, 1998
Hillsdale Manor Retirement Center(a).........San Mateo, CA 159 July 2, 1998
-----
Total leased ........................... 347
-----
MANAGED
Sterling Court(b)............................San Mateo, CA 149 April 16, 1998
Palo Alto Commons............................Palo Alto, CA 143 April 16, 1998
San Carlos Retirement Center.................San Carlos, CA 85 April 16, 1998
The Altenheim................................Oakland, CA 138 April 16, 1998
-----
Total managed............................ 515
-----
Total.................................... 1,436
=====
(a) Includes a skilled nursing center.
(b) In addition, we acquired a twenty percent (20%) general
partnership interest in WHW Associates, the fifty percent (50%)
general partner of Fifty Peninsula Partners, a California
limited partnership, which owns Sterling Court.
We accounted for the above transactions using the purchase method of accounting
and paid approximately $68.3 million of the purchase price from cash on hand and
assumed $15.25 million of existing mortgage financing.
The purchase price paid in excess of the fair value of identifiable assets for
the owned, leased and managed communities acquired aggregated approximately
$23.6 million and is being amortized over the life of the related assets of 35
years. We decided to sell the Rossmore House in June 1999 resulting in an
impairment loss of $5.7 million of which $3.1 million is related to the goodwill
associated with it.
CASA AMIGO PROPERTIES
On March 2, 1999, ARVP II obtained financing and, through a wholly owned
subsidiary, ARVP II, LLC acquired the landlords' interests in four previously
leased ALCs for approximately $14.6 million. As a result of the refinancing of
11 owned properties in June 1999 this loan was paid in full.
(4) SALES OF ASSISTED LIVING COMMUNITIES
On March 18, 1999, we entered into purchase and sale agreements for the sale of
five owned ALCs located outside of California for approximately $32.3 million.
On March 30, 1999, we completed the sale of three of these five ALCs; of the
remaining facilities one was completed on June 3, 1999 with the remaining ALC
anticipated to close during the third quarter of 1999. As of December 31, 1998,
these ALCs were included in assets held for sale at their sales price, the
resulting gain or loss was insignificant during 1999.
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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATION.
FACTORS AFFECTING FUTURE RESULTS AND FORWARD-LOOKING STATEMENTS
Our business, results of operations and financial condition are subject to many
risks, including those set forth below. Certain statements contained in this
report, including without limitation statements containing the words "believes,"
"anticipates," "expects," and words of similar import constitute
"forward-looking" statements within the meaning of the Private Securities
Litigation Reform Act of 1995. Such forward-looking statements involve known and
unknown risks, uncertainties and other factors which may cause our actual
results, performance or achievements, or industry results, to be materially
different from any future results, performance or achievements expressed or
implied by such forward-looking statements. This 10-Q report contains
forward-looking statements, including statements regarding, among other items:
o Our business strategy;
o Our liquidity requirements and ability to obtain financing;
o The impact of future acquisitions and developments;
o The anticipated sale of one ALC during the third quarter of 1999;
o The level of future capital expenditures;
o The impact of inflation and changing interest rates;
o The outcome of certain litigation matters; and
o The impact of Year 2000 issues.
These forward-looking statements are based on our expectations and are subject
to a number of risks and uncertainties, some of which are beyond our control.
These risks and uncertainties include, but are not limited to:
o Access to capital necessary for acquisitions and development;
o Our ability to manage growth and divestitures;
o Governmental regulations
o Competition and other risks associated with the assisted living industry
Although we believe we have the resources required to achieve our objectives,
actual results could differ materially from those anticipated by these
forward-looking statements. There can be no assurances that events anticipated
by these forward-looking statements will in fact transpire as expected.
OVERVIEW
As of June 30, 1999, we operated 59 assisted living communities ("ALCs")
containing 7,253 units, including 35 that are leased by us pursuant to long-term
operating leases ("Leased ALCs"), 16 communities that are owned by us for our
own account ("Owned ALCs") and 8 communities that are managed for unrelated
parties ("Managed ALCs"). As of June 30, 1999, we were in various stages of
construction on six ALCs with an anticipated total of 946 units. During 1998, we
acquired interests in 11 ALCs and one skilled nursing facility from Hillsdale
Group, LP and its affiliates, and opened five newly constructed ALCs. The
Hillsdale transaction substantially increased our presence in Northern and
Southern California.
Since commencing operation of ALCs for our own account in April 1994, we
embarked upon an expansion strategy and achieved significant growth in revenue
resulting primarily from the acquisition of ALCs. We have focused our growth
efforts on the acquisition and development of additional ALCs and expansion of
services to our residents as they "age in place." As of June 30, 1999, a
substantial portion of our business and operations was conducted in California,
where 40 of the 59 ALCs we operate are located. We intend to continue to make
California the primary focus of our clustering strategy. However, we do not
intend to continue our prior growth rate in order to focus greater attention on
enhancing the profitability of our existing core operations and on leasing up
new developments at a faster rate. In addition, we plan to divest ALCs that do
not expand or enhance one of our clusters or do not meet our financial
objectives. In December 1998, our Board of Directors decided to sell five owned
ALCs and five land sites located outside of California. On March 30, 1999 we
completed the sales of three of the five ALCs, on June 3, 1999 we completed the
sale of
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one ALC and the remaining one is due to close in the third quarter of 1999. In
the quarter ended June 30, 1999, we determined that there were additional
properties that would be sold: Rossmore, a non-operating ALC, and a leased ALC
which does not meet our strategy goals.
On June 28, 1999, the Company refinanced 11 properties with Banc One in various
partnerships that had under-leveraged assets. This afforded us the opportunity
as general partner to distribute most of the contributed capital back to the
limited partners and to enhance our liquidity position. The term of the loans is
two years with a lender optional 10 year extension and a 25 year amortization
schedule for repayment of principal, fixed interest rate at 3.15% over the
10-year Treasury rate and a 2% structuring fee for Banc One that is amortized
over two years. Proceeds from this refinancing were distributed to the limited
partners in early July 1999. Management intends to use their portion of this
additional cash to fund ongoing operations. In addition, if we appeal the
court's decision in the Emeritus lawsuit, we would be required to post an appeal
bond, which may need to be collateralized. For additional information please see
Part II. Item 1. Legal Proceedings.
Newly opened ALCs are expected to incur operating losses until sufficient
occupancy levels and operating efficiencies are achieved. Based upon historical
experience, we believe that a typical community will achieve its targeted
occupancy levels 12-18 months from the commencement of operations. Accordingly,
we will require a substantial amount of liquidity to maintain the operations of
newly opened ALCs. If sufficient occupancy levels are not achieved within
reasonable periods, our results of operations, financial position and liquidity
could be materially and adversely impacted.
RESULTS OF OPERATIONS
THREE MONTHS ENDED JUNE 30, 1999 COMPARED WITH THREE MONTHS ENDED JUNE 30, 1998
The following information concerning the operating results before impairment for
the three month period ended June 30, 1999 and 1998 is presented in order to
provide the reader with additional information concerning the Company's
operations.
Operating Results before Impairment
For the Three Months Ended June 30, 1999 and 1998
(Unaudited)
(In millions)
JUNE 30,
------------------
1999 1998
---- ----
Revenue:
Assisted living community revenue:
Rental revenue $27.3 $24.9
Assisted living and other services 7.0 6.0
----- -----
Total revenue 34.3 30.9
----- -----
Operating expenses:
Assisted living community operating expense 21.3 19.0
Assisted living community lease expense 7.9 6.1
General and administrative expenses 3.4 6.7
Depreciation and amortization 2.1 2.2
----- -----
Total operating expenses 34.7 34.0
----- -----
Income from operations before impairment $ (.4) $(3.1)
===== =====
Total revenue for the three months ended June 30, 1999 increased $3.4 million to
$34.3 million from $30.9 million for the three months ended June 30, 1998. This
increase was primarily due to an increase in assisted living community revenue
as described below.
Assisted living community rental revenue increased $2.4 million to $27.3 million
for the three months ended June 30, 1999 from $24.9 million for the three months
ended June 30, 1998.
The increase in assisted living community revenue is attributable to the
following:
o The acquisition of seven ALCs during the second and third quarters of
1998, and of opening five leased ALCs during 1998;
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o An increase in average rate per occupied unit for ALCs, which we owned and
leased in both periods to $2,044 for the 1999 quarter as compared to $1,723
for the 1998 quarter; offset by
o The sale during 1999 of three ALCs which were determined to be
non-strategic. As of June 30, 1999, we operated 51 ALCs for its own account
consisting of 35 Leased ALCs and 16 Owned ALCs. For the three months ended
June 30, 1998, we operated a total of 54 ALCs for its own account consisting
of 32 leased ALCs and 22 Owned ALCs.
Management fees from affiliates and others for the 1999 quarter remained
approximately the same when compared to the 1998 quarter.
Assisted living community operating expenses increased $4.1 million to $29.2
million for the three months ended June 30, 1999 from $25.1 million for the
three months ended June 30, 1998. Of these increases, $2.3 million of ALC
operating expense and $1.8 million of ALC lease expense related to the
additional number owned and leased ALCs we operated by the Company during the
three months ended June 30, 1999 when compared to June 30, 1998.
General and administrative expenses decreased $3.3 million to $3.4 million for
the three months ended June 30, 1999 from $6.7 million for the three months
ended June 30, 1998, as a result of:
o Decrease in legal fees for the Lazard lawsuit and proxy fight expenses
in 1998; and
o Management's continued efforts to reduce staff at our corporate offices.
Depreciation and amortization expenses decreased $0.1 million to $2.1 million
for the three months ended June 30, 1998 from $2.2 million for the three months
ended June 30, 1998. The decrease represents the sale of three ALCs closing in
March and a small impact for the fourth ALC that closed in June; offset somewhat
by the purchase of four previously leased communities.
Interest income decreased $ 0.3 million due to the lower average cash balances
we carried during the three months ended June 30, 1999.
Interest expense increased $0.5 million to $2.1 million for the three months
ended June 30, 1999 compared with $1.6 million for the three months ended June
30, 1998 due primarily to additional debt incurred in connection with acquiring
four ALCs. Interest expense consisted primarily of interest incurred on our
$57.5 million of 6-3/4%, convertible subordinated notes due 2006 (as well as
mortgage interest on owned ALCs).
The litigation accrual is for the award on the Emeritus lawsuit of $5.4 million
and an accrual of $0.2 million appeal costs. If we appeal the court's decision
in the Emeritus lawsuit, the court would require us to post a collateralized
appeal bond. The bond would be in an amount equal to one and one-half times the
amount of the damages award, within 60 days after entry of a judgment, unless
alternative arrangements are agreed upon by us and Emeritus.
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SIX MONTHS ENDED JUNE 30, 1999 COMPARED WITH SIX MONTHS ENDED JUNE 30, 1998
The following information concerning the operating results before impairment of
the Company for the six-month period ended June 30, 1999 is presented in order
to provide the reader with additional information concerning the Company's
operations.
Operating Results before Impairment
For the Six Months Ended June 30, 1999 and 1998
(Unaudited)
(In millions)
JUNE 30,
-----------------------
1999 1998
------- -------
Revenue:
Assisted living community revenue:
Rental revenue $ 55.9 $ 47.1
Assisted living and other services 14.3 11.2
------- -------
Total revenue 70.2 58.3
------- -------
Operating expenses:
Assisted living community operating expense 44.4 36.2
Assisted living community lease expense 16.0 11.7
General and administrative expenses 6.3 12.1
Depreciation and amortization 4.4 4.1
------- -------
Total operating expenses 71.1 64.1
------- -------
Income from operations before impairment $ (0.9) $ (5.8)
======= =======
Total revenue for the six months ended June 30, 1999 increased $11.9 million to
$70.2 million from $58.3 million for the six months ended June 30, 1998. This
increase was primarily due to an increase in assisted living community revenue
from:
o The acquisition of seven ALCs during the second and third quarters of
1998 and opening of five leased ALCs during 1998;
o Increases in the average rate per occupied unit went from $1,737 for
1998 to $1,999 for 1999;
o Offset somewhat by slightly lower occupancy rate of 83.6% for 1999
compared to 85.8% for 1998; and
o Management fees from affiliates and others increased slightly ($0.2
million) from 1998 levels due to an increase in number of management
contracts.
Assisted living expenses increased $12.5 million to $60.4 million for the six
months ended June 30, 1999, from $47.9 million for the six months ended June 30,
1998. Of these increases, $8.2 million of ALC operating expense and $4.3 million
lease expense relate to the additional number of owned and leased ALCs we
operated during the six months ended June 30, 1999, and can be explained as
follows:
o The acquisition of seven ALCs during the second and third quarters of
1998, offset somewhat by the sale of three communities in March 1999,
and the sale of one ALC in June 1999;
o Five ALCs are still in a "lease up" stage generating $2.5 million in
additional operating expenses with occupancies in the 50% range;
o Additional staffing was added to support the additional assisted living
services and salaries for the professional assisted living staff was
increased; and
o The increase in assisted living community lease expense is primarily due
to the acquisition of two leased ALCs and the opening of five leased
ALCs.
General and administrative expenses decreased $5.8 million due to:
o Continuing efforts to reduce staff at our corporate office; and
o The proxy fight, legal expenses, recruiting, severance and consulting
costs incurred through June 30, 1998 ($2.5 million).
Depreciation and amortization expenses increased $0.3 million to $4.4 million
for the six months ended June 30, 1999 from $4.1 million for the six months
ended June 30, 1998, due to the acquisition of six owned and leased ALCs.
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Interest income decreased $1.5 million to $0.3 million for the six months ended
June 30, 1999 from $1.8 million for the six months ended June 30, 1998 due to
usage of cash to purchase twelve ALCs from the Hillsdale Group in the latter
part of 1998.
Interest expense increased $1.2 million to $4.1 million for the six months ended
June 30, 1999 compared with $2.9 million for the six months ended June 30, 1998
due to acquisition of two ALC and converting four ALCs from leased to owned.
Interest expense consisted primarily of interest incurred on our $57.5 million
of 6-3/4%, convertible subordinated notes due 2006 as well as mortgage interest
on Owned ALCs.
LIQUIDITY AND CAPITAL RESOURCES
Our unrestricted cash balances were $26.3 million and $11.9 million at June 30,
1999 and December 31, 1998, respectively. The increase was due primarily to cash
provided by the refinancing 11 of the owned properties.
Working capital decreased $1.2 million to $10.5 million as of June 30, 1999
compared to working capital of $11.3 million at December 31, 1998.
Cash used by operating activities was $.6 million for the six months ended June
30, 1999, compared to $7.5 million used for the six month period ended June 30,
1998. The primary components of cash used by operating activities for the
quarter ended June 30, 1999 were:
o Net loss for the six months ended June 30, 1999 of $19.7 million; offset
by
o Discontinued operations completed the sale of six apartment partnership
interests generating $1.1 million in cash;
o Non-cash charges of $4.4 million for depreciation and amortization; $1.3
million for cumulative effect of change in accounting ; $5.6 million in
litigation accrual for the Emeritus lawsuit and $7.7 million for
impairment losses; and
o Net decrease of $1.0 million in liabilities.
Cash used in investing activities was $5.2 million for the six months ended June
30, 1999, compared to net cash used in investing activities of $76.4 million for
the six months ended June 30, 1998. The primary components of cash used in
investing activities for the six months ended June 30, 1999 were:
o $22.8 million of proceeds from the sale of three ALCs in first quarter
1999; offset by
o $14.6 million used for purchase of previously leased communities in
first quarter 1999
o $6.1 million used for purchases of property, furniture and equipment;
o $6.2 million for increases in Leased ALCs security deposits; and
o $1.2 million for cash contributed to a joint venture in first quarter
1999.
Net cash provided by financing activities was $20.2 million for the six months
ended June 30, 1999, compared to net cash used by financing activities of $3.0
million for the six months ended June 30, 1998. The primary components of cash
provided by financing activities for the period ended June 30, 1999 were:
o Debt proceeds of $ 41.8 million for the June 28, 1999 Banc One
refinancing on 11 owned ALCs;
o Debt proceeds of $14.7 million on the bridge financing for the
acquisition of three ALCs in the first quarter of 1999 offset by:
o $35.7 million for repayments of notes payable; and
o Distribution to limited partners for $0.5 million.
The various debt and lease agreements contain restrictive covenants requiring us
to maintain certain financial ratios, including current ratio, working capital,
minimum net worth, debt-to-equity and debt service coverage, among others. At
June 30, 1999, we were not in compliance with the current ratio, tangible net
worth, debt service coverage and facility coverage ratio under certain lease
agreements. We have obtained waivers for those covenants with which we were not
in compliance. Had we not obtained waivers we would have been in default on
certain lease agreements.
We believe that our existing liquidity, our ability to sell ALCs and land sites
which do not meet our financial objectives or geographic clustering strategy and
our ability to refinance certain owned ALCs and investments will provide us with
adequate resources to meet our current operating and investing needs. We do not
currently generate sufficient cash from operations to fund recurring working
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capital requirements. And, we will be required from time to time to incur
additional indebtedness or issue additional debt or equity securities to finance
our strategy, including the development and rehabilitation of ALCs as well as
other capital expenditures. The Company anticipates that it will be able to
obtain the additional financing; however, there can be no assurances that the
Company will be able to obtain financing on favorable terms.
Pursuant to the terms of the Company's development and property management
agreements for certain tax credit partnerships, we have provided certain
guarantees for the benefit of these partnerships. Among these guarantees are
operating deficit, tax credit and financing guarantees. To the extent that the
operations of certain tax credit partnerships do not improve prior to the
maturity of the existing construction financing, we may be required to fund
additional amounts under the terms of its financing guarantees. Management has
established a provision for the estimated funding of obligations under its
financing guarantees. Actual funding could differ from those estimates.
YEAR 2000 ISSUE
We use certain computer programs that were written using two digits rather than
four to define the year. As a result, those programs may recognize a date using
"00" as the year 1900 rather than the year 2000. In the event this was to occur
with any of the Company's computer programs, a system failure or miscalculation
causing disruptions of operations could occur. Such a failure could cause the
temporary inability to process transactions, send invoices or engage in similar
normal business activities. We have developed a comprehensive program to test
and modify our information technology to address the Year 2000 issue. We believe
that our program is on schedule for completion by the end of 1999, and that
there will be no material impact on our business, results of operations,
financial position or liquidity as a result of Year 2000 issues.
Our program is focused on the following three main projects:
o information technology infrastructure-all of our hardware and software
systems
o community maintenance-community specific systems, including alarms
(security, fire and emergency call), elevator, phone, HVAC, and other
systems; and
o third party supplier/vendors.
For each of the above components, we are addressing the Year 2000 issues in the
following six phases:
o taken inventory of systems with potential Year 2000 issues;
o assigning priorities to systems identified with Year 2000 issues;
o assessing items which may have a material effect on our operations;
o testing items assessed as material;
o replacing or repairing material non-compliant items, and;
o designing and implementing business continuation plans.
We have received communications from third-party providers of our administrative
services, as well as our significant suppliers of services and products to
determine the extent to which we are vulnerable to those parties' failures to
remediate their own Year 2000 issues. We do not presently believe that third
party Year 2000 issues will have a material adverse effect on us. However, there
can be no guarantee that the systems of other companies on which our operations
or systems rely will be remedied on a timely basis or that a failure by another
company to remediate its systems in a timely manner would not have a material
adverse effect on us.
We have successfully completed our conversion to an accounting system that is a
Year 2000 compliant system. We expect to successfully implement the other
changes necessary to address our Year 2000 issues, and do not believe that the
cost of such actions will have a material adverse effect on our financial
position, results of operations or liquidity. We anticipate that the costs of
assessing the Year 2000 issue will range from $100,000 to $250,000. We are
currently unable to assess the costs to remediate any Year 2000 issues that may
result from the assessment. We believe that our Year 2000 program will be
substantially completed by September 30, 1999. Our program's schedule is based
on a number of factors and assumptions, such as:
o the accuracy and completeness of responses to our inquiries; and
o the availability of skilled personnel to complete the program.
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Our program's schedule could be adversely impacted if any of the factors and
assumptions are incorrect. The failure to correct a material Year 2000 issue
could result in an interruption in our normal business operations. There can be
no assurance, however, that there will not be delays in, or increased costs
associated with, the implementation of such changes, and our inability to
implement such changes could have a material adverse effect on our business,
operating results, and financial condition.
IMPACT OF INFLATION AND CHANGING PRICES
Operating revenue from ALCs and management fees from apartment communities we
operated are the primary sources of revenue we earned. These properties are
affected by rental rates, which are highly dependent upon market conditions and
the competitive environment where the facilities are located. Employee
compensation is the principal cost element of property operations. Although
there can be no assurance it will be able to continue to do so, we have been
able historically to offset the effects of inflation on salaries and other
operating expenses by increasing rental and assisted living rates. The
implementation of price increases is intended to lead to an increase in revenue;
however, rental rate increases may result in an initial decline in occupancy
and/or a delay in increasing occupancy. If this occurs, revenues may remain
constant or even decline.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We are exposed to market risk related to fluctuations in interest rates on our
notes payable. Currently, we do not utilize interest rate swaps. The purpose of
the following analysis is to provide a framework to understand our sensitivity
to hypothetical changes in interest rates as of June 30, 1999. You should be
aware that many of the statements contained in this section are forward looking
and should be read in conjunction with our disclosures under the heading
"Forward-Looking Statements."
For fixed rate debt, changes in interest rates generally affect the fair market
value of the debt instrument, but not our earnings or cash flows. Conversely,
for variable rate debt, changes in interest rates generally do not impact fair
market value of the debt instrument, but do affect our future earnings and cash
flows. We do not have an obligation to prepay fixed rate debt prior to maturity,
and as a result, interest rate risk and changes in fair market value should not
have a significant impact on the fixed rate debt until we would be required to
refinance such debt. Holding the variable rate debt balance constant, each one
percentage point increase in interest rates would result in an increase in
variable rate interest incurred for the coming year of approximately $247,000.
The table below details the principal amount and the average interest rates of
notes payable in each category based upon the maturity dates. The fair value
estimates for notes payable are based upon future discounted cash flows of
similar type notes or quoted market prices for similar loans. The carrying value
of our variable rate debt approximates fair value due to the frequency of
re-pricing of this debt. Our fixed rate debt consists of convertible
subordinated notes payable and mortgage payables. The fixed rate debt bears
interest at rates that approximate current market rates.
MATURITY DATE - JUNE 30,
FAIR
2000 2001 2002 2003 2004 THEREAFTER TOTAL VALUE
---- ---- ---- ---- ---- ---------- ----- -----
(DOLLARS IN THOUSANDS)
Fixed rate debt $6,803 41,604 $ -- $ -- -- $57,500 $105,907 $105,907
Average interest rate 7.7% 7.4% % % % 6.75%
Variable rate debt $ 603 $ 617 $640 $18,488 $4,368 $ -- $ 24,716 $ 24,716
Average interest rate 7.5% 7.3% 7.1% 6.8% 6.4%
We do not believe that the future market rate risks related to the above
securities will have a material adverse impact on our financial position,
results of operations or liquidity.
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS.
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On June 30, 1999, the Superior Court for the State of California issued a
decision requiring ARV Assisted Living, Inc ("ARV") to pay $5.4 million as a
result of a lawsuit brought by Emeritus Corporation in April 1998. Emeritus
first became an ARV stockholder in early 1997 and soon afterward attempted to
complete a hostile takeover of ARV. Emeritus's interest in ARV occurred,
however, at about the same time that ARV was finalizing an agreement with Lazard
Freres Real Estate Investors LLC ("Lazard") to sell a 49.9% stake, amended in
October 1997 to 38%, in the company. At about the same time, Lazard entered into
a voting agreement with certain members of ARV's management holding about 9% of
ARV's stock. Subsequently, Lazard purchased some additional shares from other
shareholders in January 1998, bringing its direct holding in ARV to about 47.8%.
Emeritus claimed in that lawsuit that Lazard's direct interest combined with the
voting agreement exceeded the 50% trigger level that was applicable to Lazard
under the Rights Agreement. Emeritus contended that due to the alleged
triggering event the Company was required to distribute one Right per share of
outstanding company stock and that each right was exercisable for approximately
9.56 shares at a total purchase price of $70 (or approximately $7.32 per share).
The judge issued his statement of decision finding that the purchase of stock by
Lazard had triggered the Stockholders Rights Agreement and that, Emeritus should
recover damages in the amount of $5.4 million as a result of ARV's failure to
issue share rights upon the triggering event. The Company is exploring all
alternatives in connection with this decision.
On December 7, 1998, the Superior Court of the State of California, County of
Orange, issued an order in favor of Lazard's cross complaint against ARV,
concluding that Lazard's standstill obligations under its stockholders agreement
with ARV terminated as of April 1998. On May 12, 1999, the court entered a
judgment and statement of decision in this action. The effect of the judgment is
that Lazard will no longer be prohibited from acquiring more than 49.9% of ARV's
common Stock, or from soliciting mergers or similar transactions involving ARV
or otherwise seeking control of ARV. ARV has filed a notice of appeal on this
decision.
Since the nature of litigation precludes predicting results with certainty,
there can be no assurance the Company will prevail in any of the foregoing
litigation actions.
The Company is from time to time subject to claims and disputes for legal and
other matters in the normal course of business. While the results of such
matters cannot be predicted with certainty, management does not believe that the
final outcome of any pending matters will have a material effect on the
Company's consolidated financial position, results of operations, or liquidity.
ITEM 2. CHANGES IN SECURITIES
None
ITEM 3. DEFAULTS UPON SERIOR SECURITIES
None
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None
ITEM 5. OTHER INFORMATION
None
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ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
(a) EXHIBITS
10.1 Loan Agreement by and between Banc One Capital Funding
Corporation and Retirement Inns III, LLC
10.2 Loan Agreement by and between Banc One Capital Funding
Corporation and Retirement Inns III, LLC (1)
10.3 Loan Agreement by and between Banc One Capital Funding
Corporation and Retirement Inns II, LLC (1)
10.4 Loan Agreement by and between Banc One Capital Funding
Corporation and Retirement Inns II, LLC (1)
10.5 Loan Agreement by and between Banc One Capital Funding
Corporation and Retirement Inns II, LLC (1)
10.6 Loan Agreement by and between Banc One Capital Funding
Corporation and Retirement Inns II, LLC (1)
10.7 Loan Agreement by and between Banc One Capital Funding
Corporation and Retirement Inns II, LLC (1)
10.8 Loan Agreement by and between Banc One Capital Funding
Corporation and Retirement Inns II, LLC (1)
10.9 Loan Agreement by and between Banc One Capital Funding
Corporation and Retirement Inns II, LLC (1)
10.10 Loan Agreement by and between Banc One Capital Funding
Corporation and Retirement Inns II, LLC (1)
10.11 Loan Agreement by and between Banc One Capital Funding
Corporation and Acacia Villa II, LLC (1)
10.12 Letter Agreement as to the Loans in the aggregate amount of
$39,703,100 from Banc One Capital Funding Corporation to
Retirements Inns II
10.13 Letter Agreement as to the Loans in the aggregate amount of
$2,116,100 from Banc One Capital Funding Corporation to
Acacia Villa
10.14 Letter Agreement as to the Loans in the aggregate amount of
$13,382,200 from Banc One Capital Funding Corporation to
Retirements Inns III
10.15 Note and Agreement as to Retirement Inns II, LLC
10.16 Note and Agreement as to Retirement Inns III, LLC
10.17 Note and Agreement as to Acacia Villa, LLC
27 Financial Data Schedule
- ---------------
(1) Pursuant to instruction number 2 of Item 601 of Regulation S-K, this
exhibit is not being filed. See schedule I to exhibit 10.1 which sets forth
the material details in which this document differs from exhibit 10.1
(b) REPORTS ON FORM 8-K
The Company filed the following reports with the Securities and Exchange
Commission (SEC) on Form 8-K during the quarter ended June 30, 1999:
The Company's current report on Form 8-K filed with the SEC on July 9, 1999
reported under Item 5, on June 30, 1999, the Superior Court of the State of
California awarded actual damages to Emeritus on their lawsuit for $5.4 million.
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Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
ARV ASSISTED LIVING, INC.
By: /s/ Douglas M. Pasquale
-------------------------------------
Douglas M. Pasquale
President and Chief Executive Officer
(Duly authorized officer)
Date: August 12, 1999
By: /s/ Abdo H. Khoury
-------------------------------------
Abdo H. Khoury
Senior Vice President and Chief Financial
Officer (Duly authorized officer)
Date: August 12, 1999
18